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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
[x] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934.
For the fiscal year ended January 31, 2004 or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from ___ to ___.
Commission file number 1-13437
SOURCE INTERLINK COMPANIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
MISSOURI 43-1710906
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
27500 RIVERVIEW CENTER BLVD., SUITE 400
BONITA SPRINGS, FLORIDA 34134
(Address of Principal Executive Offices) (Zip Code)
(239) 949-4450
(Registrant's Telephone Number, Including Area Code)
Securities to be registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
Title of Each Class on Which Registered
------------------- -------------------
Securities to be registered pursuant to Section 12(g) of the Act: COMMON STOCK
$0.01 PAR VALUE
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes [X] No [ ]
The aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant as of April 12, 2004 was approximately $181.7
million computed by reference to the price at which the common equity was sold
on July 31, 2003, the last day of the registrant's most recently completed
second fiscal quarter, as reported by The Nasdaq National Market
At April 12, 2004, the Company had 23,071,067 shares of common stock
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the Source Interlink Companies, Inc. Annual
Meeting of Shareholders to be held on July 14, 2004 are incorporated by
reference into Part III of this Annual Report to the extent described in Part
III hereof.
TABLE OF CONTENTS
Page
----
PART I
ITEM 1. Business 1
ITEM 2. Properties 8
ITEM 3. Legal Proceedings 8
ITEM 4. Submission of Matters to a Vote of Security Holders 8
PART II
ITEM 5. Market for Registrant's Common Equity, Related Stockholder Matters
and Issuer Purchases of Equity Securities 9
ITEM 6. Selected Financial Data 10
ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 11
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk 28
ITEM 8. Financial Statements and Supplementary Data 29
ITEM 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure 29
ITEM 9A. Controls and Procedures 29
PART III
ITEM 10. Directors and Executive Officers of the Registrant 30
ITEM 11. Executive Compensation 30
ITEM 12. Security Ownership of Certain Beneficial Owners and Management
And Related Stockholder Matters 30
ITEM 13. Certain Relationships and Related Transactions 31
ITEM 14. Principal Accountant Fees and Services 31
PART IV
ITEM 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K 32
Some of the information in this report contains forward-looking
statements that involve risks and uncertainties. The words "believe," "expect,"
"anticipate,' "estimate," "project," and similar expressions often characterize
forward-looking statements. These statements may include, but are not limited
to, projections of collections, revenues, income or loss, estimates of capital
expenditures, plans for future operations, products or services, and financing
needs or plans, as well as assumptions relating to these matters. These
statements are only predictions and you should not unduly rely on them. Our
actual results will differ, perhaps materially, from those anticipated in these
forward-looking statements as a result of a number of factors, including the
risks and uncertainties faced by us described below and elsewhere in this
report:
- market acceptance of and continuing demand for our services;
- the impact of competitive services;
- the pricing and reimbursement policies of magazine publishers;
- our ability to obtain additional financing to support our
operations;
- changing market conditions and other risks detailed below;
- demand for magazines at the retailers we service; and
- our ability to access retailers' point-of-sales information
needed to efficiently allocate distribution.
We believe it is important to communicate our expectations to our
investors. However, there may be events in the future that we are not able to
predict accurately or over which we have no control. The factors listed above
provide examples of risks, uncertainties and events that may cause our actual
results to differ materially from the expectations we describe in our
forward-looking statements. Before you make an investment decision relating to
our common stock, you should be aware that the occurrence of the events
described in these risk factors could have a material adverse effect on our
business, operating results and financial condition. You should read and
interpret any forward-looking statement in conjunction with our consolidated
financial statements, the notes to our consolidated financial statements and
"Management's Discussion and Analysis of financial Condition and Results of
Operations." Any forward-looking statement speaks only as of the date on which
that statement is made. Unless required by U.S. federal securities laws, we will
not update any forward-looking statement to reflect events or circumstances that
occur after the date on which the statement is made.
PART I
ITEM 1. BUSINESS.
We provide fulfillment and marketing services to more than 2,500 retail
companies, who operate collectively approximately 80,000 stores, most major
magazine publishers and consumer product manufacturers of confections and
general merchandise. We are the largest direct-to-retail magazine distributor in
the United States to more than 5,200 retail outlets including book stores, music
stores and other specialty retailers, such as Barnes & Noble, Inc., Borders
Group, Inc., Musicland Stores Corporation and Virgin Records. Additionally our
company is a leading provider in the United States of design, manufacture and
management services to the front-end of supermarkets, discount stores, drug
stores, convenience stores, terminals and newsstands, such as Food Lion, Kroger
Company, Target Corporation, Walgreens and Winn-Dixie Stores, Inc.
Our business model is designed to provide a complete array of products
and value-added services to retailers in both the specialty and mainstream
retail markets. These services include product fulfillment
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to retailers for publishers, publisher rebate and other incentive payment
collection, fixture design and manufacturing, information technology and other
management services. Our extensive relationships with retailers, as well as
publishers and other vendors, throughout the United States and Canada, have
enabled us to build a reputation for reliable and timely service and an
efficient fulfillment infrastructure to service these markets. We believe that
by acting as an outsourced coordinator of all these services we are well
positioned to continue adding customers, both in the United States and
internationally, and to continue providing additional products and services to
our extensive customer base. To further this goal, we opened an office in
London, U.K. to serve as our base for expansion into the European market.
INDUSTRY OVERVIEW
MAGAZINE FULFILLMENT
According to Harrington Associates, LLC, the total market for sales of
single-copy magazines at retail in the United States of America has been
estimated to total approximately $4.55 billion in 2003. The structure of the
distribution channel for single-copy magazines has changed little over the past
several decades. Publishers generally engage a single national distributor, who
acts as their representative to regional and local wholesalers and furnishes
billing, collecting and marketing services throughout the United States or other
territory. These national distributors then secure distribution to retailers
directly, or more typically, through a number of regional and local wholesalers.
The wholesalers maintain direct vendor relationships with the retailers.
Retailers in the mainstream retail market require these wholesalers to provide
extensive in-store services including receiving, verifying, stocking new issues
and removing out-of-date issues. However, this traditional structure is not
economically viable in the specialty retail market. Thus in contrast,
wholesalers servicing the specialty retail market typically do not provide these
in-store services.
FRONT-END MANAGEMENT
The retail sale of single-copy magazines is largely an impulse purchase
decision by the consumer. As a result, publishers and manufacturers of other
impulse merchandise such as confections and general merchandise (i.e., razor
blades, film, batteries, etc.) consider it important for their products to be on
prominent display in those areas of a store where they will be seen by the
largest number of shoppers in order to increase the likelihood that their
products will be sold. Retailers typically display magazines, confections and
general merchandise in specific aisles, or the "mainline," and the checkout
area, or the "front-end." Product visibility is highest in the front-end because
every shopper making a purchase must pass through this area.
Due to the higher visibility and resulting perception of increased
sales potential, publishers and other vendors compete for favorable display
space in the front-end. To secure the desired display space, publishers and
other vendors offer rebate and other incentive payments to retailers, such as:
- initial fees to rearrange front-end display fixtures to ensure
the desired placement of their products;
- periodic placement fees based on the location and size of
their products' display; and
- cash rebates based on the total sales volume of their
products.
Due to the high volume of sales transactions and great variety of
incentive programs offered, there is a significant administrative burden
associated with front-end management. As a result, most retailers have
historically outsourced the information gathering and administration of magazine
claims collection to third parties such as our company. This relieves retailers
of the administrative burdens, such as monitoring thousands of titles each with
a distinct incentive arrangement.
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INFORMATION SERVICES
Prompt delivery of information regarding sales activity, including
timing of the redesign of front-end space, changes in display positions or the
discontinuance of a vendor's product, is important to publishers and other
vendors of front-end products. This information allows publishers and other
vendors to make important strategic decisions in advance of re-configurations
and other changes implemented by retailers to the front-end. Conversely, timely
delivery of information about publisher or other vendor price changes, special
promotions, new product introductions and other plans is important to retailers
because it enables them to enhance the revenue potential of the front-end.
Historically, information available to publishers and other vendors regarding
retail activity at the front-end and information available to retailers about
publisher or other vendors has been fragmented and out-of-date. This has been
the result of a number of factors, including:
- the sale of front-end products, including magazines, through
national distributors, which minimized direct contact between
retailers and publishers or other vendors;
- the lack of an efficient information collection system to
gather information specifically regarding front-end product
sales;
- the difficulty of gathering and organizing data from a large
number of retailers selling magazines and other front-end
products over a large geographic area; and
- the lack of an efficient, cost-effective means to disseminate
information.
We believe that there is an increasing demand on the part of publishers
and other vendors of front-end products for more frequent and detailed
information regarding front-end retail activity. Through our three operating
groups we have access to a significant amount of information regarding retail
front-end and mainline sales activity.
OUR BUSINESS
Our business consists of three synergistic operating groups: Magazine
Fulfillment, In-Store Services and Wood Manufacturing.
- The Magazine Fulfillment group uses our information technology
to manage the distribution of magazines to over 5,300 retail
outlets in the specialty retail market operated by 18 retail
chains and 1,700 independent retailers. We assist these
retailers with the selection, logistical procurement and
fulfillment of approximately 4,000 monthly and 50 weekly
titles from over 560 publishers.
- The In-Store Services group assists retailers in the
mainstream retail market with the design and implementation of
their front-end merchandising programs. This group provides
other value-added services to retailers, publishers and other
vendors, including assistance with publisher rebate and other
fee collection and access to real-time sales information on
more than 10,000 magazine titles, thereby enabling them to
make more informed decisions regarding their product placement
and distributing efforts.
- The Wood Manufacturing group designs and manufactures wood
displays and store fixtures for leading specialty retailers.
MAGAZINE FULFILLMENT
In the spring of 2001, we established our Magazine Fulfillment group
with the acquisition of The Interlink Companies, Inc., a group of affiliated
specialty magazine distributors. This strategic acquisition provided a platform
from which we intend to offer an expanding list of merchandise and services to
3
retailers, including those currently served by our In-Store Services and Wood
Manufacturing groups, who are underserved by existing distribution channels and
to merchandise vendors who find it difficult to adequately service certain
classes of retailers. In May 2002, we entered into an agreement giving us the
right to distribute domestically a group of foreign magazine titles.
At present, our Magazine Fulfillment group primarily supplies magazines
to the specialty retail market. We are the principal magazine supplier for
Barnes & Noble, Inc., Borders Group, Inc. and other major specialty retailers.
We purchase more than 4,000 magazine titles and receive them at ten
strategically located distribution centers. The distribution centers are located
in San Diego, California; San Francisco, California; Los Angeles, California;
Atlanta, Georgia; Honolulu, Hawaii; Rockford, Illinois; Carteret, New Jersey;
Harrisburg, Pennsylvania; Dallas, Texas; and Kent, Washington. From each of
these distribution points, we process orders and ship the magazines to the
retailers by commercial freight carriers, primarily Federal Express ground
service. Given our broad distribution infrastructure, we are capable of
delivering magazines overnight to virtually any location within the continental
United States.
To meet the needs of our clients, our Magazine Fulfillment group
presently offers three levels of service:
Direct-to-Retail Fulfillment. We purchase magazines, from publishers
typically on a fully returnable basis. Merchandise is received in bulk at our
strategically located distribution centers. Using just-in-time replenishment and
order regulation systems, our employees fulfill the merchandise orders and ship
the required merchandise by third party carrier directly to individual retail
outlets.
Wholesale Fulfillment. Our wholesale fulfillment service facilitates
the magazine procurement needs of lower volume or geographically isolated
retailers by arranging for bulk shipment of magazines from publishers' printers
directly to wholesalers located in lower volume markets.
Back Room Management. We developed our back room management services to
enable publishers and traditional distributors access to just-in-time
replenishment and order regulation. We are engaged by publishers and traditional
distributors to act as their order fulfillment and shipping agent. Rather than
purchasing merchandise, our back room management clients furnish merchandise to
us that we then package into individual orders and ship directly to individual
retail outlets. We also serve as a processor of returns for many of our retailer
customers. This service consists of counting covers of unsold magazines and
preparing return forms required by wholesalers to obtain credit.
Our Magazine Fulfillment group's logistical functions are linked by
just-in-time replenishment and order regulation systems. By utilizing our
systems, publishers and retailers are able to more effectively manage their
inventory levels. We leverage third-party freight carriers, maximize the
efficiency of our fixed asset base and permit retailers to reorder and return
titles efficiently.
The total market for sales of single-copy magazines at retail in the
United States was approximately $4.55 billion in calendar year 2003. In fiscal
2004, we estimate we distributed magazines having a retail value of
approximately $387.0 million, or approximately 8.5% of this retail market.
In March 2003, we expanded our international operations when we entered
into an agreement giving us the right to distribute internationally a group of
domestic magazine titles. In September 2003, we established a London, U.K.
office from which we are seeking to expand our international magazine
distribution business and offer front-end management services to retailers that
presently lack the expertise to fully realize the sales potential of their
front-ends.
Our Magazine Fulfillment group's revenues accounted for $255.8 million,
$211.7 million and $155.8 million of our total revenues for fiscal 2004, 2003
and 2002, respectively. Operating income (loss) from this group accounted for
$15.0 million, $7.4 million and $ (67.7) million of our total operating income
(loss) for fiscal 2004, 2003 and 2002, respectively. Total assets for the group
were $47.7 million, $32.9 million and $37.0 million at January 31, 2004, 2003
and 2002, respectively.
4
IN-STORE SERVICES
The In-Store Services group provides publisher rebate and other
incentive payment collection, information technology and front-end services,
including fixture design and manufacture.
Claim Submission Services. Claim submission services have been the
historical core of our business. U.S. and Canadian retailers engage our In-Store
Services group to accurately monitor, document, claim and collect publisher
rebate and other incentive payments. Our services are designed to relieve our
clients of the substantial administrative burden associated with documenting,
verifying and collecting their payment claims, and to collect a larger
percentage of the potential incentive payments available to the retailers.
We established our Advance Pay Program as an enhancement to our claim
submission services. Typically, retailers are required to wait a significant
period of time to receive payments on their claims for incentive rebates. We
improve the retailer's cash flow by advancing the claims for rebates and other
incentive payments filed by us on their behalf less our commission within a
contractually agreed upon period after the end of each quarter.
Information Services. In connection with our claim submission services,
we gather extensive information on magazine sales, pricing, new titles,
discontinued titles and display configurations on a chain-by-chain and
store-by-store basis. As a result, we are able to furnish our clients with
reports of total sales, sales by class of trade and sales by retailer, as well
as reports of unsold magazines and total sales ranking. Our newest product, the
Cover Analyzer, permits subscribers to determine the effectiveness of particular
magazine covers on sales for 300 top selling titles in the United States. Our
website gives subscribers the capability to react more quickly to market
changes, including the ability to reorder copies of specific issues, track
pricing information, to introduce new titles, and act on promotions offered by
publishers. Publishers also use the website to promote special incentives and
advertise and display special editions, new publications and upcoming covers. We
have supplemented our own data with data obtained under agreements with Barnes &
Noble, Inc., Walgreen Company and The Kroger Company.
Front-End Management. Our extensive information resources and
experience in claim submission processing enable us to assist retailers by
managing the design and configuration of the front-end to increase sales and
incentive payment revenues. Our services in this regard frequently include
designing front-end display fixtures, supervising fixture installation,
selecting products and negotiating, billing and collecting incentive payments
from vendors. We frequently assist our retailer clients in the development of
specialized marketing and promotional programs, which include special mainline
or front-end displays and cross-promotions of magazines and products of interest
to the readers of these magazines.
Front-End and Point-of-Purchase Display Fixtures. To enhance retailers'
efficiency during implementation of a front-end merchandising program, we
acquired the capacity to design, manufacture, deliver and dispose of custom
front-end and point-of-purchase displays for both retail store chains and
product manufacturers. Retailers perceive our experience in managing front-end
programs supported by our information services as helpful in improving the
revenue generated at the front-end. In addition, we believe that our influence
on the design and manufacture of display fixtures enhances our ability to
incorporate features that facilitate the gathering of information. Raw materials
used in manufacturing our fixtures include wire, powder coating, metal tubing
and paneling, all of which are readily available from multiple sources.
Revenue from the In-Store Services group accounted for $58.6 million,
$61.8 million and $65.1 million of our total revenues for fiscal 2004, 2003 and
2002, respectively. Operating income from this group accounted for $1.7 million,
$4.6 million and $9.6 million of our total operating income for fiscal 2004,
2003 and 2002, respectively. Total assets for the group were $101.0 million,
$109.0 million and $110.0 million at January 31, 2004, 2003 and 2002,
respectively. Total assets include assets now identified under the Shared
Services group because comparable information is not available for January 31,
2002 and
5
2001 under the current presentation. Excluding those assets, total assets for
the group were $79.0 million at January 31, 2004.
WOOD MANUFACTURING
The Wood Manufacturing group manufactures custom wood store fixtures
and displays to customer specifications using wood veneers and laminates.
Delivery of fixtures is highly concentrated in our third fiscal quarter as a
result of the demands of retailers to be ready for the critical holiday selling
season. To assure that their seasonal demands for the delivery are met,
retailers typically provide commitments well in advance of anticipated product
delivery. Accordingly, our inventory levels increase during seasonal periods
when retailers are not opening or remodeling stores, typically November through
April.
Revenues from the Wood Manufacturing group accounted for $18.7 million,
$17.5 million and $18.0 million of our total revenues for fiscal 2004, 2003 and
2002. Operating income (loss) from this group accounted for $1.0 million, $
(0.7) million and $ (9.8) million of our operating income (loss) for fiscal
2004, 2003 and 2002, respectively. Total assets for the group were $15.1
million, 15.4 million and $17.4 million at January 31, 2004, 2003 and 2002,
respectively.
CUSTOMERS
Our customers in the specialty retail market consist of bookstore
chains, music stores and other specialty retailers. Our customers in the
mainstream retail market consist primarily of grocery stores, drug stores and
mass merchandise retailers. Two customers account for a large percentage of our
total revenues. Barnes & Noble, Inc. accounted for 26.8%, 27.7% and 23.2% of
total revenues in fiscal 2004, 2003 and 2002 respectively. Borders Group, Inc.
accounted for 23.8%, 25.8%, and 23.1% of total revenues in fiscal 2004, 2003,
and 2002.
MARKETING AND SALES
Our Magazine Fulfillment group's target market includes magazine
publishers, distributors and retailers. We specialize in providing nationwide
magazine distribution to specialty retailers with a national or regional scope.
We believe that our distribution centers differentiate us from our national
competitors and are a key element in our marketing program. Our distribution
centers focus on our just-in-time replenishment and our ability to deliver
magazines, particularly those published on a weekly basis, overnight to
virtually any location within the continental United States.
We focus our marketing efforts for our In-Store Services and Wood
Manufacturing groups on developing and maintaining primary relationships with
customers. While we frequently attend trade shows and advertise in trade
publications, we emphasize personal interaction between our sales force and
customers so that our customers are encouraged to rely on our dependability and
responsiveness. Sales of our services are not particularly seasonal; however,
delivery of new display fixtures is highly concentrated in our third fiscal
quarter as a result of the demands of retailers in advance of the holiday
season. As a result, inventories of fixtures tend to be lowest during our fourth
fiscal quarter and increase throughout the first and second fiscal quarters in
anticipation of the delivery demands of retailers in the third quarter.
To enhance the frequency of contact between our sales force and our
customers, we have reorganized our direct sales force into a unified marketing
group responsible for soliciting sales of all products and services available
from each of our operating groups. We believe this combined marketing approach
will enhance cross-selling opportunities and lower the cost of customer
acquisition.
COMPETITION
Our Magazine Fulfillment group's principal competitors consist of
national distributors, regional wholesalers, secondary or local wholesalers, and
specialty distributors.
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Competition is generally met on matters such as reliability, value
added services and price.
In our In-Store Services group, competitors for our claim filing
services are primarily privately held companies, while our principal competitors
for our fixture manufacturing services are both private and public manufacturing
companies of varying sizes. Some of these companies could compete effectively
with us, particularly in the manufacture and installation of display fixtures.
In addition, we may face competition for our information services from dedicated
information providers. The principal competitive factors in this market include
access to information, technological support, accuracy, system flexibility,
financial stability, customer service, and reputation.
Our Wood Manufacturing group competes in a highly fragmented industry
generally consisting of individual craftsmen, furniture manufacturers and other
woodworking enterprises. The principal competitive factors in the wood
manufacturing market include price, reliability and quality of services.
MANAGEMENT INFORMATION SYSTEMS
The efficiency of our Magazine Fulfillment group is supported by our
information systems that combine traditional outbound product counts with
real-time register activity. Our ability to access real-time register data
enables us to quickly adjust individual store merchandise allocations in
response to variation in consumer demand. This increases the probability that
any particular merchandise allotment will be sold rather than returned for
credit. In addition, we have developed sophisticated database management systems
designed to track various on-sale and off-sale dates for the numerous issues and
regional versions of the more than 4,000 magazine titles that we distribute.
Software used in connection with our claims submission program and in
connection with our subscriber information website was developed specifically
for our use by a combination of in-house software engineers and outside
consultants. We believe that certain elements of these software systems are
proprietary to us. Other portions of these systems are licensed from a third
party, who assisted in the design of the system. We also receive systems service
and upgrades under the license. We believe that we have obtained all necessary
licenses to support our information systems.
EMPLOYEES
As of March 31, 2004, we had 1,082 employees, of whom 960 were
full-time employees. Approximately 101 of our employees in Brooklyn, New York
are covered by a collective bargaining agreement with the Local 810, Steel,
Metals, Alloys and Hardware Fabricators and Warehousemen, which expires in
September 2004. Approximately 49 of our employees in Philadelphia, Pennsylvania
are covered by a collective bargaining agreement with Teamsters Local Union No.
837, which expires in December 2005. Approximately 75 of our employees in
Quincy, Illinois are covered by a collective bargaining agreement with Local 822
and District 55, International Association of Machinists & Aerospace Workers,
which expires in January 2008. We believe our relationships with our employees
are good.
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ITEM 2. PROPERTIES.
Our principal corporate offices are located at 27500 Riverview Center
Blvd., Bonita Springs, Florida. As of March 31, 2004, we owned or leased
approximately 1,000,000 square feet of manufacturing facilities, 200,000 square
feet of distribution centers and 70,000 square feet of office space. The
following table presents information concerning our principal properties:
OWNED/
LOCATION DESCRIPTION SEGMENT SIZE SQ. FT. LEASED
-------- ----------- ------- ------------ ------
Bonita Springs, FL Office Worldwide Headquarters 62,000 Leased
New York, NY Office In-Store Services/ 3,500 Leased
Magazine Fulfillment
Rockford, IL Manufacturing/ In-Store Services/ 300,000/ Owned
Distribution Center Magazine Fulfillment 10,500
Brooklyn, NY Manufacturing In-Store Services 90,000 Leased
Philadelphia, PA Manufacturing In-Store Services 110,000 Owned
Vancouver, B.C. Manufacturing In-Store Services 51,000 Leased
Quincy, IL Manufacturing Wood Manufacturing 258,000 Owned
Albermarle, NC Manufacturing Wood Manufacturing 190,000 Leased
Dallas, TX Distribution Center Magazine Fulfillment 48,000 Leased
Harrisburg, PA Distribution Center Magazine Fulfillment 83,000 Leased
Each of our owned real properties is encumbered by a mortgage in favor of our
senior lenders, Wells Fargo Foothill and Hilco Capital. We believe our
facilities are adequate for our current level of operations and that all of our
facilities are adequately insured.
ITEM 3. LEGAL PROCEEDINGS.
We are party to routine legal proceedings arising out of the normal
course of business. Although it is not possible to predict with certainty the
outcome of these unresolved legal actions or the range of possible loss, we
believe that none of these actions, individually or in the aggregate, will have
a material adverse effect on our financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of shareholders during the fourth
quarter of fiscal 2004.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES.
PRICE RANGE OF COMMON STOCK
Our common stock is quoted on the Nasdaq National Market under the symbol SORC.
The following table sets forth, for the periods indicated, the range of high and
low bid prices for our common stock as reported by the Nasdaq National Market
during the fiscal year shown. All such quotations reflect inter-dealer prices,
without retail mark-up, mark-down or commission and may not necessarily
represent actual transactions.
HIGH LOW
Year ended January 31, 2003
First Quarter $ 5.79 $ 4.07
Second Quarter 5.75 3.82
Third Quarter 6.41 4.26
Fourth Quarter 5.93 3.76
Year ended January 31, 2004
First Quarter $ 5.51 $ 4.33
Second Quarter 8.59 5.50
Third Quarter 9.82 7.70
Fourth Quarter 14.30 8.10
Year ending January 31, 2005
First Quarter (through April 12, 2004) $ 13.55 $ 10.43
The last reported sale price of our common stock on the Nasdaq National Market
on April 12, 2004 was $12.26. As of April 12, 2004, there were approximately 99
holders of record of the common stock.
DIVIDEND POLICY
We have never declared or paid dividends on our common stock. Our board of
directors presently intends to retain all of our earnings, if any, for the
development of our business for the foreseeable future. The declaration and
payment of cash dividends in the future will be at the discretion of our board
of directors and will depend upon a number of factors, including, among others,
any restrictions contained in our credit facilities and our future earnings,
operations, capital requirements and general financial condition and such other
factors that our board of directors may deem relevant. Currently, our credit
facilities prohibit the payment of cash dividends or other distributions on our
capital stock or payments in connection with the purchase, redemption,
retirement or acquisition of our capital stock.
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ITEM 6. SELECTED FINANCIAL DATA.
The following selected consolidated financial data at January 31, 2000, 2001 and
2002 and for the fiscal years ended January 31, 2000 and 2001 are derived from
our audited consolidated financial statements, which are not included in this
report. The selected consolidated financial data at January 31, 2003 and 2004
and for the fiscal years ended January 31, 2002, 2003 and 2004 are derived from
our audited consolidated financial statements, which are included elsewhere in
this report. Our consolidated financial statements at January 31, 2000, 2001,
2002, 2003 and 2004 and for the fiscal years ended January 31, 2000, 2001, 2002,
2003 and 2004 have been audited by BDO Seidman LLP, independent certified public
accountants. Our historical results are not necessarily indicative of the
results that may be expected for any future period. You should read the summary
financial data presented below in conjunction with our consolidated financial
statements, the notes to our consolidated financial statements and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this report.
YEAR ENDED JANUARY 31,
----------------------------------------------------------------------
2000 2001 2002 2003 2004
----------------------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues $ 82,279 $ 92,423 $ 238,923 $ 290,894 $ 333,134
Cost of revenues 48,806 53,792 176,357 216,483 244,755
--------- --------- --------- --------- ---------
Gross profit 33,473 38,631 62,566 74,411 88,379
Selling, general and
administrative expenses 12,162 23,279 38,978 46,564 52,642
Fulfillment freight - - 7,931 14,721 16,381
Relocation expenses (1) - - - 1,926 1,730
Amortization of goodwill 2,718 2,994 5,424 - -
Goodwill impairment charge (2) - - 78,126 - -
--------- --------- --------- --------- ---------
Operating income (loss) 18,593 12,358 (67,893) 11,200 17,626
Other income (expense):
Interest expense, net (919) (2,312) (3,338) (3,765) (3,647)
Other (152) 36 (2,339) 514 (316)
--------- --------- --------- --------- ---------
Total other income (expense) (1,071) (2,276) (5,677) (3,251) (3,963)
--------- --------- --------- --------- ---------
Income before income taxes 17,522 10,082 (73,570) 7,949 13,662
Income tax expense 7,499 3,965 (705) 611 3,615
--------- --------- --------- --------- ---------
Net income (loss) $ 10,023 $ 6,117 $ (72,865) $ 7,338 $ 10,048
========= ========= ========= ========= =========
Earnings (loss) per share - basic $ 0.65 $ 0.35 $ (4.07) $ 0.40 $ 0.54
Earnings (loss) per share - diluted 0.60 0.33 (4.07) 0.40 0.51
Weighted average of shares outstanding in computing:
Basic net income per share 15,332 17,591 17,915 18,229 18,476
Diluted net income per share 16,815 18,348 17,915 18,478 19,866
========= ========= ========= ========= =========
AT JANUARY 31,
----------------------------------------------------------------------
2000 2001 2002 2003 2004
----------------------------------------------------------------------
(IN THOUSANDS)
CONSOLIDATED BALANCE SHEET DATA:
Cash $ 1,738 $ 1,085 $ 2,943 $ 5,570 $ 4,963
Working capital (3) 59,162 60,277 (9,424) (3,519) 19,418
Total assets 158,289 158,448 164,430 157,239 164,101
Current maturities of debt 174 116 42,097 29,215 4,059
Debt, less current maturities 32,215 31,780 15,578 17,026 31,541
Total liabilities 53,169 48,658 120,887 106,320 97,027
Total equity 105,120 109,790 43,543 50,919 67,074
(1) Relocation costs relate to the consolidation of our prior offices from
St. Louis, Missouri, High Point, North Carolina and San Diego,
California to our new offices in Bonita Springs, Florida.
(2) Charge related to the impairment of the goodwill attributed to our
Magazine Distribution and Wood Manufacturing businesses.
(3) Includes current maturities of debt.
10
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Our business consists of four business segments: Magazine Fulfillment, In-Store
Services, Wood Manufacturing and Shared Services. Our segment reporting is
structured based on the reporting of senior management to the Chief Executive
Officer.
- Our Magazine Fulfillment group uses our proprietary order
regulation technology to manage the distribution of magazines
to over 5,200 retail outlets. We assist retailers with the
selection, logistical procurement and fulfillment of
approximately 4,000 monthly and 50 weekly magazine titles from
over 560 publishers. The group was established in May 2001
with the acquisition of The Interlink Companies, Inc. or
Interlink, and its two operating subsidiaries: International
Periodical Distributors, Inc. and David E. Young, Inc. The
scope of the group's operations was expanded via agreements
giving us the right to export domestic titles for sale
internationally and import foreign titles for sale
domestically.
- Our In-Store Services group assists retailers with the design
and implementation of their front-end area merchandise
programs, which generally have a three-year life cycle. We
provide other value-added services to retailers, publishers
and other vendors. These services include assisting retailers
with the filing of claims for publisher incentive payments,
which are based on display location or total retail sales, and
providing publishers with access to real-time sales
information on more than 10,000 magazine titles, thereby
enabling them to make more informed decisions regarding their
product placement, cover treatments and distribution efforts.
- Our Wood Manufacturing group designs and manufactures wood
display and store fixtures for leading specialty retailers.
- Our Shared Services group consists of overhead functions not
allocated to the other groups. These functions include
corporate finance, human resource, management information
systems and executive management that are not allocated to the
three operating groups. Upon completion of our consolidation
of our administrative operations, we restructured our accounts
to separately identify corporate expenses that are not
attributable to any of our three main operating groups. Prior
to fiscal year 2004, these expenses were included within our
In-Store Services group. Comparable information is not
available and is not presented for prior fiscal years.
REVENUES
The Magazine Fulfillment group derives revenues from:
- selling and distributing magazines, including domestic and
foreign titles, to major specialty retailers and wholesalers
throughout the United States and Canada,
- exporting domestic titles internationally to foreign
wholesalers or through domestic brokers,
- serving as a secondary national distributor,
- providing return processing services for major specialty
retail book chains, and
- serving as an outsourced fulfillment agent and backroom
operator for publishers.
The In-Store Services group derives revenues from:
- designing, manufacturing and invoicing participants in
front-end merchandising programs,
- providing claim filing services related to rebates owed
retailers from publishers or their designated agents,
- shipping, installing and removing front-end fixtures, and
- providing information and management services relating to
magazine sales to retailers and publishers throughout the
United States and Canada.
The Wood Manufacturing group derives revenues from designing, manufacturing and
installing custom wood fixtures primarily for retailers.
11
Over the last three fiscal years, a majority of the growth of our revenues has
come from our Magazine Fulfillment group. We anticipate this trend to continue
in the future. The growth has been driven by the inception of our import and
export businesses as well as the growth in our core domestic wholesale
distribution business. We see opportunities for growth in our In-Store Services
group being driven primarily by the expansion of our claim filing services
business and expansion of our international operations, primarily in the United
Kingdom. We see opportunities for growth in our Wood Manufacturing group from
leveraging our relationships with the retailers we service in our other two
operating groups.
COST OF REVENUES
Our cost of revenues for the Magazine Fulfillment group consists of the costs of
magazines purchased for resale less all applicable publisher discounts and
rebates.
Our cost of revenues for the In-Store Services and the Wood Manufacturing groups
includes:
- raw materials consumed in the production of display fixtures,
primarily steel, wood and plastic components;
- production labor; and
- manufacturing overhead.
Cost of revenues has increased since the inception of our Magazine Fulfillment
group. As primarily a wholesale operation, the Magazine Fulfillment group
traditionally has a lower gross profit margin than our In-Store Services group,
which provided the bulk of our revenues before the Interlink acquisition.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses for each of the operating groups
include:
- non-production labor;
- rent and office overhead;
- insurance;
- professional fees; and
- management information systems.
Expenses associated with corporate finance, human resources, management
information systems and executive offices are included within the Shared
Services group and are not allocated to the other groups.
Selling, general and administrative expenses have increased since the inception
of our Magazine Fulfillment group. We believe we now have the infrastructure in
place to support our existing operations as well as support a significant amount
of domestic growth. We continue to actively search for cost savings from
consolidation to offset growth in other areas such as insurance, professional
fees, and normal cost of living increases.
FULFILLMENT FREIGHT
Fulfillment freight consists of our direct costs of distributing magazines by
third-party freight carriers, primarily Federal Express ground service. Freight
rates are driven by the weight of the copies being shipped and the distance
between origination and destination.
Fulfillment freight is not disclosed as a component of cost of revenues, and, as
a result, gross profit and gross profit margins are not comparable to other
companies that include shipping and handling costs in cost of revenues.
Fulfillment freight has increased proportionately as the amount of product we
distribute has increased. We anticipate the continued growth in our Magazine
Fulfillment group will result in an increase in fulfillment freight. Generally,
as pounds shipped increase, the cost per pound charged by third party carriers
12
decreases. As a result, fulfillment freight as a percent of Magazine Fulfillment
group revenue should decline slightly in the future.
RELOCATION EXPENSES
Relocation expenses consist primarily of the cost of transferring existing
employees and offices from their former locations in High Point, North Carolina,
St. Louis, Missouri, and San Diego, California, to our new offices in Bonita
Springs, Florida. This relocation program began in fiscal 2003 and was completed
2004.
13
RESULTS OF OPERATIONS
The following table sets forth, for the periods presented, information relating
to our operations (in thousands):
2002 2003 2004
Fiscal year ended Margin Margin Margin
January 31, Amount % Amount % Amount %
- ----------------------- ---------- ------ ---------- ------ ---------- ------
Magazine Fulfillment
Revenue $ 155,805 $ 211,663 $ 255,814
Cost of revenue 126,217 164,702 194,467
Gross profit 29,588 19.0% 46,961 22.2% 61,347 24.0%
Operating expense (1) 97,297 39,600 46,389
Operating income (loss) (67,709) (43.5)% 7,361 3.5% 14,958 5.8%
In-Store Services
Revenue $ 65,148 $ 61,754 $ 58,601
Cost of revenue 33,978 35,391 33,931
Gross profit 31,170 47.8% 26,363 42.7% 24,670 42.1%
Operating expense (1) 21,571 21,812 8,245
Operating income (loss) 9,599 14.7% 4,551 7.4% 16,425 28.0%
Wood Manufacturing
Revenue $ 17,970 $ 17,477 $ 18,719
Cost of revenue 16,162 16,390 16,357
Gross profit 1,808 10.1% 1,087 6.2% 2,362 12.6%
Operating expense (1) 11,591 1,799 1,373
Operating income (loss) (9,783) (54.4)% (712) (4.1)% 989 5.3%
Shared Services (2)
Revenue $ - $ - $ -
Cost of revenue - - -
Gross profit - - - - - -
Operating expense(1) - - 14,746
Operating income (loss) - - - - (14,746) n/a
Total
Revenue $ 238,923 $ 290,894 $ 333,134
Cost of revenue 176,357 216,483 244,755
Gross profit 62,566 26.2% 74,411 25.6% 88,379 26.5%
Operating expense(1) 130,459 63,211 70,753
Operating income (loss) (67,893) (28.4)% 11,200 3.9% 17,626 5.3%
(1) Operating expenses include selling, general and administrative
expenses, fulfillment freight, relocation expenses, amortization of
goodwill and asset impairment charges.
(2) Prior to fiscal year 2004 amounts currently reported as Shared Services
were reported as a component of In-Store Services.
14
RESULTS FOR THE FISCAL YEAR ENDED JANUARY 31, 2004 COMPARED TO THE FISCAL YEAR
ENDED JANUARY 31, 2003
Revenues
Revenues for the fiscal year increased $42.2 million or 14.5%, over the prior
fiscal year due primarily to an increase in revenue in our Magazine Fulfillment
group.
Our Magazine Fulfillment group's revenues were $255.8 million, an increase of
$44.1 million or 20.9%. The group's revenues are comprised of the following
components (in millions):
2004 2003 CHANGE
--------- --------- --------
Domestic distribution $ 204.6 $ 188.6 $ 16.0
Export distribution 32.0 - 32.0
Secondary wholesale distribution 17.3 21.7 (4.4)
Other 3.4 2.5 0.9
Intra-segment sales (1.5) (1.1) (0.4)
-------- -------- -------
Total $ 255.8 $ 211.7 $ 44.1
======== ======== =======
Domestic distribution consists of the gross amount of magazines (both domestic
and imported titles) distributed to domestic retailers and wholesalers, less
actual returns received (collectively, "actual net distribution"), less an
estimate of future returns and customer discounts. The $16.0 million increase in
domestic distribution consisted of a $26.3 million increase in actual net
distribution, less a $10.1 million decrease from the impact of the change in the
sales return reserve as compared to the prior year's change, and a $0.2 million
increase in customer discounts. Actual net domestic distribution increased from
$189.8 million to $216.1 million; an increase of $26.3 million or 13.9%. This
increase was driven primarily by the growth of distribution to our two main
customers, which increased from $155.5 million to $173.7 million or $18.2
million. The sales return reserve related to our domestic distribution increased
from $33.1 million to $41.4 million or $8.3 million. Customer discounts
increased from $3.0 million to $3.2 million.
Our export distribution began operation in fiscal 2004. Actual net export
distribution was $52.4 million. At January 31, 2004, the sales return reserve
related to our export distribution, which began operations in fiscal 2004, was
$20.4 million.
Revenues from our secondary wholesale operations decreased due to a decrease in
the number wholesale operations we serviced either because they were able to
obtain distribution directly from a primary distributor or were no longer deemed
credit worthy.
Our In-Store Services group revenues were $58.6 million, a decrease of $3.2
million or 5.1%.
The group's revenues are comprised of the following components (in millions):
2004 2003 CHANGE
------- ------- -------
Claim filing and information $ 14.0 $ 14.0 $ -
Wire manufacturing 44.6 47.8 (3.2)
------- ------- ------
Total $ 58.6 $ 61.8 $ (3.2)
======= ======= ======
Our wire manufacturing revenues declined due to the cyclical nature of the
industry (major chains purchase new front-end fixtures every three years) and
pricing pressure in our industry.
Our Wood Manufacturing group's revenues were $18.7 million, an increase $1.2
million or 7.1%.
15
Gross Profit
Gross profit for the fiscal year increased $14.0 million or 18.8%, over the
prior fiscal year due primarily to an increase in gross profit in our Magazine
Fulfillment group.
Gross profit margins increased 0.9 percentage points in the current period over
the comparable period of the prior fiscal year. Margins improved or (declined)
in our Magazine Fulfillment, In-Store Services, and Wood Manufacturing groups by
1.8, (0.6), and 6.4 percentage points, respectively.
Gross Profit in our Magazine Fulfillment group increased $14.4 million or 30.6%.
The increase related to both the increase in revenue described above as well as
improving margins. The gross profit margins in our domestic distribution
businesses are generally higher then our secondary wholesale business and, as a
result, gross profit margins improve as the portion of total revenues is
weighted more toward our domestic operations. The margins in our distribution
business also improved as a result of a shift in product mix from lower margin
domestic titles to higher margin import titles.
Gross profit in our In-Store Services group decreased $1.7 million or 6.4%. The
decrease related to both the decrease in revenues described above as well as
declining margins. The decrease in margins is both due to a decrease in pricing
as well as the recent increase in commodity prices particularly steel, which is
a major component of our front-end fixtures.
Gross profit in our Wood Manufacturing group increased $1.3 million or 117.3%.
The increase related to both the increase in revenue described above as well as
improving margins. The prior fiscal year results included a significant
inventory write-off related to a lost customer.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased $6.0 million or 13.0%,
compared to the prior fiscal year. Selling, general, and administrative expenses
as a percent of revenues declined from 16.0% to 15.8%.
The Magazine Fulfillment group's selling, general, and administrative expenses
increased $3.5 million, or 14.1%. The inception of our magazine export business
resulted in $2.5 million of the increase.
The combined selling, general, and administrative expenses of the In-Store
Services and Shared Services group's selling, general, and administrative
expenses increased $3.0 million or 14.9%. The increase is attributable to an
expanded corporate infrastructure to support our enlarged scope of operations.
The Wood Manufacturing group's selling, general, and administrative expenses
decreased $0.4 million or 23.7%. The decrease was attributable to both the
unusually high level of expenses in the fourth quarter of fiscal 2003 as well as
the cost savings attributable to the consolidation of our manufacturing capacity
in Carson City, Nevada into the facility in Albermarle, North Carolina.
Fulfillment Freight
Fulfillment freight expenses increased $1.7 million or 11.5%, compared to the
prior fiscal year. Freight as a percentage of the Magazine Fulfillment group's
revenues decreased from 6.9% to 6.4% due to improvement in the efficiency of our
distribution model and an increase in the number of pounds distributed. Under
our existing contract, our freight rates per pound decrease as the number of
pounds shipped increases.
Relocation Expenses
During fiscal 2004, we relocated our magazine distribution back office from San
Diego, California to Bonita Springs, Florida. The total expense recorded in the
period related to this relocation was $1.7 million.
16
During fiscal 2003, we relocated our claim submission and fixture billing center
from High Point, North Carolina to Bonita Spring, Florida. The total expense
recorded in the period related to this relocation was $1.9 million.
Operating Income
Operating income for the fiscal year increased $6.4 million or 57.4%, compared
to the prior fiscal year due to the factors described above.
Operating profit margins improved from 3.9% to 5.3% in the current fiscal year
compared to the prior fiscal year. The increase was due to the improvement in
our gross profit margins and the decrease in our selling, general, and
administrative expenses as a percent of revenues.
Interest Expense
Interest expense includes the interest and fees on our significant debt
instruments and outstanding letters of credit.
Other Income (Expense)
Other income (expense) consists of items outside of the normal course of
operations. Due to its nature, comparability between periods is not generally
meaningful.
Other expense in fiscal 2004 includes a charge of $0.9 million related to the
refinancing of our senior credit facilities.
Other income in fiscal 2003 related primarily to the favorable settlement of an
outstanding liability.
Income Tax Expense
The effective income tax rates were 26.5% and 7.7% for fiscal 2004 and 2003,
respectively.
The difference between the statutory rate and effective tax rates relates
primarily to the realization of a portion of the net operating loss
carry-forward acquired with our acquisition of Interlink and tax credits
received from the state of Florida related to our relocation.
17
RESULTS FOR THE FISCAL YEAR ENDED JANUARY 31, 2003 COMPARED TO THE FISCAL YEAR
ENDED JANUARY 31, 2002
Revenues
Revenues for the fiscal year increased $52.0 million or 21.8%, over the prior
fiscal year due primarily to an increase in revenue in our Magazine Fulfillment
group. Fiscal 2002 includes eight months of operations of this group.
Our Magazine Fulfillment group's revenues were $211.7 million, an increase of
$55.9 million or 35.9%. The group's revenues are comprised of the following
components (in millions):
2003 2002 CHANGE
--------- --------- --------
Domestic distribution $ 188.6 $ 135.8 $ 52.8
Secondary wholesale distribution 21.7 20.2 1.5
Other 2.5 0.6 1.9
Intra-segment sales (1.1) (0.8) (0.3)
-------- -------- -------
Total $ 211.7 $ 155.8 $ 55.9
======== ======== =======
Domestic distribution consists of the gross amount of magazines (both domestic
and imported titles) distributed to domestic retailers and wholesalers, less
actual returns received (collectively, "actual net distribution"), less an
estimate of future returns and customer discounts. The $52.8 million increase in
domestic distribution consisted of a $49.5 million increase in actual net
distribution, plus a $4.5 million increase from the impact of the change in the
sales return reserve as compared to the prior year's change, and less a $1.2
million increase in customer discounts. Actual net domestic distribution
increased from $140.3 million to $189.8 million; an increase of $49.5 million or
35.3%. This increase was driven primarily by the growth of distribution to our
two main customers, which increased from $101.1 million to $155.5 million or
$54.4 million. The sales return reserve related to our domestic distribution
decreased from $34.9 million to $33.1 million or $1.8 million. Customer
discounts increased from $1.8 million to $3.0 million.
Our In-Store Services group revenues were $61.8 million, a decrease of $3.3
million or 5.1%.
The group's revenues are comprised of the following components (in millions):
2003 2002 CHANGE
------- ------- -------
Claim filing and information $ 14.0 $ 12.6 $ 1.4
Wire manufacturing 47.8 52.5 (4.7)
------- ------- ------
Total $ 61.8 $ 65.1 $ (3.3)
======= ======= ======
Our wire manufacturing revenues declined due to pricing pressure in the
industry.
Our Wood Manufacturing group's revenues were $17.5 million, a decrease of $0.5
million or 2.7%.
Gross Profit
Gross profit for the fiscal year increased $11.8 million or 18.9%, over the
prior fiscal year due primarily to an increase in gross profit in our Magazine
Fulfillment group.
Gross profit margins decreased 0.6 percentage points in the current period over
the comparable period of the prior fiscal year. Margins improved or (declined)
in our Magazine Fulfillment, In-Store Services, and Wood Manufacturing groups by
3.2, (4.9), and (3.9) percentage points, respectively.
Gross Profit in our Magazine Fulfillment group increased $17.4 million or 58.7%.
The increase related to both the increase in revenue described above as well as
improving margins. The gross profit margins in our domestic distribution
businesses are generally higher then our secondary wholesale business and, as a
18
result, gross profit margins improve as the portion of total revenues is
weighted more toward our domestic operations. In addition, gross profit margins
from imported titles are generally higher than domestic titles, which began
operations in May 2002.
Gross profit in our In-Store Services group decreased $4.8 million or 15.4%. The
decrease related to both the decrease in revenues described above as well as
declining margins.
Gross profit in our Wood Manufacturing group decreased $0.7 million or 39.9%.
The decrease in the current fiscal year resulted from a significant inventory
write-off related to a lost customer.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased $7.6 million or 19.5%,
compared to the prior fiscal year. Selling, general, and administrative expenses
as a percent of revenues declined from 16.3% to 16.0%.
The Magazine Fulfillment group's selling, general, and administrative expenses
increased $6.4 million or 34.9%.
The combined selling, general, and administrative expenses of the In-Store
Services and Shared Services group's selling, general, and administrative
expenses increased $1.1 million or 5.8%.
The Wood Manufacturing group's selling, general, and administrative expenses
increased $0.1 million or 5.3%.
Fulfillment Freight
Fulfillment freight expenses increased $6.7 million or 85.2%, compared to the
comparable period of the prior fiscal year due to growth in our Magazine
Fulfillment group. Freight as a percentage of the Magazine Fulfillment group's
revenues increased from 5.1% to 6.9%. The increase is attributable to the growth
of our fulfillment business whereby we ship other company's product for a fee.
Relocation Expenses
During fiscal 2003, we relocated our claim submission and fixture billing center
in High Point, North Carolina to Bonita Spring, Florida. The total expense
recorded in the period related to this relocation was $1.9 million.
Amortization of Goodwill
Prior to fiscal 2003, we amortized goodwill consistent with accounting
literature in effect at that time. Effective February 1, 2002, we adopted
Statement of Financial Accounting Standards "FAS" No. 142 and ceased amortizing
goodwill.
Asset Impairment Charges
In fiscal 2002, pursuant to an independent valuation of our intangible assets
(goodwill) in accordance with FAS No. 121, it was determined that an impairment
charge was required. The impairment charge reduced the carrying value of
goodwill on our balance sheet related to the Magazine Fulfillment and Wood
Manufacturing groups to zero.
Interest Expense
Interest and related expenses are primarily due to our significant debt
instruments, which consisted of our former revolving line of credit with Bank of
America, our former credit facilities with Congress Financial, our Industrial
Revenue Bonds related to our Rockford, Illinois manufacturing facility and debt
to prior owners of Interlink.
19
Interest expense increased from fiscal 2002 to fiscal 2003 due to the
acquisition of Interlink and the assumption of its related bank debt.
Other Income (Expense)
Other income (expense) consists of items outside of the normal course of
operations. Due to its nature, comparability between periods is not generally
meaningful.
Other income in fiscal 2003 related primarily to the favorable settlement of an
outstanding liability.
Income Tax Expense (Benefit)
The effective income tax rate for fiscal 2003 and 2002 was 6.3% and 0.7%,
respectively.
The difference in fiscal 2003 between the effective tax rate and the statutory
rate related to the realization of a portion of the net operating loss
carry-forwards acquired with our acquisition of Interlink that was fully
reserved at the end of fiscal 2002.
The difference in fiscal 2002 between the effective tax rate and the statutory
rate related to the asset impairment charge of goodwill that was not tax
deductible.
20
LIQUIDITY AND CAPITAL RESOURCES
OVERVIEW
Our primary sources of cash include receipts from our customers and borrowings
under our credit facilities.
Our primary cash requirements for the Magazine Fulfillment group consist of the
cost of magazines and the cost of freight, labor and facility expense associated
with our distribution centers.
Our primary cash requirements for the In-Store Services group consist of the
cost of raw materials, labor, and factory overhead incurred in the production of
front-end displays, the cost of labor incurred in providing our claiming, design
and information services and cash advances funding our Advance Pay program. Our
Advance Pay program allows retailers to accelerate collections of their rebate
claims through payments from us in exchange for the transfer to us of the right
to collect the claim. We then collect the claims when paid by publishers for our
own account.
Our primary cash requirements for the Wood Manufacturing group consist of the
cost of raw materials, the cost of labor, and factory overhead incurred in the
manufacturing process.
Our primary cash requirements for the Shared Services group consist of salaries,
professional fees and insurance not allocated to the operating groups.
The following table presents a summary of our significant obligations and
commitments to make future payments under debt obligations and lease agreements
due by period as of January 31, 2004 (in thousands).
Payments Due by Period
-----------------------------------------------
Less
Than 1-3 4-5 After 5
Total 1 year Years Years Years
------- ------- ------- ------- -------
Debt obligations $35,600 $ 4,059 $31,494 $ 47 $ -
Operating leases 38,707 5,816 8,298 6,421 18,172
------- ------- ------- ------- -------
Total contractual cash obligations $74,307 $ 9,875 $39,792 $ 6,468 $18,172
======= ======= ======= ======= =======
The following table presents a summary of our commercial commitments and the
notional amount expiration by period (in thousands):
Notional amount expiration by period
-----------------------------------------------
Less
Than 1-3 4-5 After 5
Total 1 year Years Years Years
------- ------- ------- ------- -------
Financial standby letters of credit $ 4,024 $ 4,024 $ - $ - $ -
------- ------- ----- ----- -----
Total commercial commitments 4,024 4,024 - - -
======= ======= ===== ===== =====
OPERATING CASH FLOW
Net cash provided by (used by) operating activities was $12.3, $20.6, and $(1.6)
million for the fiscal years 2004, 2003 and 2002, respectively.
Operating cash flows in fiscal 2004 were primarily from net income ($10.0
million), plus non-cash charges including depreciation and amortization ($4.1
million) and provisions for losses on accounts receivable ($1.8 million), a
decrease in accounts receivable ($0.5 million) and a decrease in other current
and non-current assets ($2.0 million). These cash providing activities were
offset by an increase in inventory ($1.3
21
million), and a decrease in accounts payable and accrued expenses other current
and non-current liabilities ($5.7 million).
Accounts receivable and accounts payable balances were impacted by the inception
of the magazine export business, which had trade receivable of $14.2 million and
trade payables of $10.0 million at January 31, 2004. The magazine export
agreement allowed us to become a leading exporter of domestic titles to foreign
wholesalers and domestic brokers who transport the product overseas. The fiscal
year includes eleven months of operations from this business and only eight
months of cash collections due to standard payment terms of at least 90 days,
which is typical in the industry.
Accounts receivable related to our domestic magazine distribution businesses
decreased $2.6 million primarily due to the increase in the sales return reserve
partially offset by the growth in trade receivables as a result of higher
distribution levels. Inventories for this business increased $1.7 million
primarily to support higher distribution levels.
Accounts receivable in our front-end fixture manufacturing and claim filing
services decreased $6.7 million due to both better collection procedures as well
as the lower revenue base.
Operating cash flow in fiscal 2003 was primarily from net income ($7.3 million),
adding back non-cash charges such as depreciation and amortization ($3.3
million) and provisions for losses on accounts receivable ($2.0 million) and a
significant decrease in accounts receivable ($17.6 million). These cash
providing activities were offset by a significant reduction in accounts payable
($9.7 million).
The decrease in accounts receivable relates primarily to a significant decrease
in receivables related to front-end fixture programs, which were at unusually
high levels at January 31, 2002 and subsequently collected in the first quarter
of fiscal 2003.
The decrease in receivables related to front-end fixture programs relates
primarily to the timing of payments by significant participants of cost-shared
front-end fixture programs. Our year-end balance at January 31, 2002 was
inflated by the significantly higher revenue in the third quarter of fiscal 2002
that was, for the most part, collected in the first quarter of fiscal 2003.
Improved cash flow and profits in our Magazine Distribution group allowed for a
significant reduction in accounts payable ($13.0 million of the total decrease).
We believe that this decrease was necessary to bring us within payment terms
with all our publishers, which has significantly improved our relationship with
the publishing community and allowed us to expand our business with those
publishers.
Negative operating cash flow in fiscal 2002 was $1.6 million despite a net loss
of $72.9 million. The difference related to significant non-cash charges
including depreciation and amortization ($7.8 million), provisions for losses on
accounts receivable ($2.8 million) and an asset impairment charge ($78.1
million). In addition to the non-cash charges we also experienced a significant
increase in accounts payable ($23.1 million), which increased cash flow from
operations. This increase related to our recently purchased Interlink
subsidiaries and an increase in the average days outstanding to our vendors.
These increases were offset by a significant increase in accounts receivable
($36.9 million) and inventories ($3.2 million). The increase in accounts
receivable was attributable to both the purchase of the Interlink companies and
a significant amount of third quarter wire manufacturing revenues not collected
until the first quarter of fiscal 2003.
INVESTING CASH FLOW
Net cash (used in) investing activities was $(9.5), $(12.8) and $2.3 million in
fiscal 2004, 2003 and 2002, respectively.
In fiscal 2004, cash used in investing activities related to capital
expenditures of $2.1 million, which primarily related to our relocation to
Florida and expansion of our distribution facility in Harrisburg,
22
Pennsylvania, and $2.4 million of payments related to acquisition of the
customer lists under the import and export agreement. Our advance pay program
generated net cash flow of $1.8 million in fiscal 2004. The Company also
advanced to the prior operator of our export distribution business $6.8 million.
The advances were made as part of the agreement to collect the prior operator's
receivables and pay outstanding payables so as to create a seamless transition
for both the customers and suppliers. This balance had decreased to
approximately $3.0 million at March 31, 2004.
In fiscal 2003, cash used in investing activities related to capital
expenditures of $4.4 million, which related primarily to our relocation to
Florida, the acquisition of Innovative Metal Fixtures ($2.0 million of a total
purchase price of approximately $2.6 million; the remaining portion consisting
of a note payable to the former owner) and a payment under a magazine import
agreement ($2.0) million) related to the domestic distribution of foreign
titles. Our advance pay program used net cash flow of $4.4 million.
In fiscal 2002, cash used in investing activities related to the acquisition of
Interlink totaling $13.7 million and capital expenditures of $3.7 million. Cash
from investing activities included $3.5 million from the sale of software. Our
advance pay program provided net cash flow of $16.0 million. The unusually high
cash flow from the advance pay program was due to improvement in the collection
process.
The faster collection cycle for our claim receivables resulted from providing
publishers with the claim information in an electronic format allowing for
quicker processing. As a result of this new process, claims outstanding related
to our Advance Pay program decreased compared to the prior fiscal year-end,
without a significant decrease in either the number or amount of claims filed.
Our borrowing agreements limit the amount of our capital expenditures in any
fiscal year.
FINANCING CASH FLOW
Outstanding balances on our credit facility fluctuate partially due to the
timing of the retailer rebate claiming process and our Advance Pay program, the
seasonality of our wire manufacturing business, and the payment cycle of the
magazine distribution business. Because the magazine distribution business and
Advance Pay program cash requirement peak at our fiscal quarter ends, the
reported bank debt levels usually are the maximum level outstanding during the
quarter.
Payments under our Advance Pay program generally occur just prior to our fiscal
quarter end. The related claims are not generally collected by us until 90 days
after the advance is made. As a result, our funding requirements peak at the
time of the initial advances and decrease over the next 90 days as the cash is
collected on the related claims.
The wire manufacturing business is seasonal because most retailers prefer
initiating new programs before the holiday shopping season begins, which
concentrates revenues in the second and third quarter. Receivables from these
fixture programs are generally collected from all participants within 120 days.
We are usually required to tender payment on the costs of these programs (raw
material and labor) within a shorter period. As a result, our funding
requirements peak in the second and third fiscal quarters when we manufacture
the wire fixtures and decrease significantly in the fourth and first fiscal
quarters as the related receivable are collected and significantly less
manufacturing activity is occurring.
Within our magazine distribution business, our significant customers pay weekly,
and we pay our suppliers monthly. As a result, funding requirements peak at the
end of the month when supplier payments are made and decrease over the course of
the next month as our receivables are collected.
Net cash (used in) provided by financing activities was $(3.4), (5.2), and $1.2
million in fiscal 2004, 2003 and 2002, respectively.
In fiscal 2004, cash used in financing activities related to our various credit
facilities included net repayments under revolving credit facilities of $27.7
million, payments of notes payable of $6.0 million and proceeds from the
issuance of notes payable of $20.0 million. The exercise of employee stock
options
23
generated $2.8 million in proceeds. Outstanding checks increased $7.5 million as
our new consolidated financing facility allowed for more efficient cash
management.
In fiscal 2003, cash used in financing activities related to our various credit
facilities included net repayment under revolving credit facilities of $7.7
million and repayments of notes payable of $2.8 million. In addition, we repaid
approximately $1.0 million of various notes outstanding to the prior owners of
acquired companies. Outstanding checks increased $6.6 million relating to the
timing of our payments to retailers under the Advance Pay program. At January
31, 2003, we had completed the filing of the quarterly rebate claims and had
just processed a large number of payments, which was not the case at the end of
2002.
In fiscal 2002, cash provided by financing activities related to borrowing under
our revolving credit facility totaling $5.7 million. These borrowing were
partially offset by a $4.6 million reduction of checks issued and outstanding at
January 31, 2002 compared to 2001. This amount is driven primarily by the timing
of our Advance Pay program, which requires significant cash outflows near our
fiscal year-end.
DEBT
At January 31, 2004, our total debt obligations were $35.6 million, excluding
outstanding letters of credit, a decrease of $10.6 million from the prior year.
During fiscal 2004, we replaced our two existing credit facilities with Bank of
America and Congress Financial with a new credit facility with Wells Fargo
Foothill and a subordinated note payable to Hilco Capital.
Debt consists of our revolving credit facility with Wells Fargo Foothill that we
use to fund our short-term financing needs, long-term notes to Wells Fargo
Foothill and Hilco Capital, amounts owed related to the magazine import
agreement, and a note payable to the former owners of an acquired company.
On October 30, 2003, we entered into a credit agreement with Wells Fargo
Foothill. The credit agreement enables us to borrow up to $45.0 million under a
revolving credit facility and provides a $5.0 million term note payable. The
credit agreement expires on October 30, 2006.
Borrowings under the revolving credit facility bear interest at a rate equal to
the primate rate (4.0% at January 31, 2003) plus up to 0.5% based on an
availability calculation and carries a facility fee of -1/4% per annum on the
difference between $45 million and the average principal amount outstanding
under the facility including advances under the revolving credit facility and
letters of credit.
Availability under the revolving facility is limited by a borrowing base
calculation, as defined in the agreement. The calculation resulted in excess
availability of $17.5 million at January 31, 2004.
The term note payable bears interest at a rate equal to the prime rate (4.0% at
January 31, 2004) plus 2.5%. The note is payable in equal principal installments
of $83 thousand per month plus current interest. The terms of the note require
accelerated prepayment if certain events occur which generate cash outside of
the normal course of business including such things as the sale of a significant
asset or proceeds from stock sales.
On October 30, 2003, we entered into a credit agreement with Hilco Capital. The
note payable has a face value of $15 million and has been recorded net of the
original issuance discount related to the fair value of warrants issued
concurrently with the note. The note payable bears current interest at a rate
equal to the greater of the prime rate (4.0% at January 31, 2004) plus 7.75% or
12% and deferred interest of 2% due at the termination of the agreement on
October 30, 2006.
Under the credit agreements, we are required to maintain a specified minimum
level of EBITDA and compliance with specified fixed charge coverage and debt to
EBITDA ratios. In addition, we are prohibited, without consent from our lenders,
from:
- incurring or suffering to exist additional indebtedness or
liens on our assets,
- engaging in any merger, consolidation, acquisition or
disposition of assets or other fundamental corporate change,
- permitting a change of control of our company,
24
- paying any dividends or making any other distribution on
capital stock or other payments in connection with the
purchase, redemption, retirement or acquisition of capital
stock,
- changing our fiscal year or methods of accounting, and
- making capital expenditures in excess of $2.8 million during
fiscal year 2005 and $3.4 million during fiscal year 2006 and
each subsequent fiscal year.
We were in compliance with each of these financial and operating covenants at
January 31, 2004.
Amounts owed related to the magazine export agreement consist of 12 quarterly
payments of $350 thousand beginning in January 2004.
A note payable in the principal amount of $1.6 million to the previous owner of
an acquired company is past due and is being disputed under the conditions of
the acquisition agreement. We received a favorable arbitration ruling during the
fourth quarter, which lowered the amount owed from the prior fiscal year.
Subsequent to year-end, we settled the remaining note payable and interest
accrued thereon for $1.6 million.
Subsequent to year-end, we completed a sale of 3.8 million shares of our common
stock. The proceeds ($41.1 million after the underwriting discount but before
related expenses) from the sale were utilized to repay the term loan portion of
the Wells Fargo Foothill credit facility as well as pay-off all but a nominal
amount of the Hilco Capital note payable. The remaining balance was utilized to
pay down the outstanding balances under the revolving credit facility and
increase our cash reserves by approximately $15 million.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's Discussion and Analysis of Financial Condition and Results of
Operations is based on our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements requires management
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingent
liabilities. Management bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Management has discussed the development, selection and
disclosure of these estimates with the Audit Committee of the Board of
Directors. Actual results may differ from these estimates under different
assumptions and conditions.
Management believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements.
Revenue Recognition
We record a reduction in revenue for estimated magazine sales returns and a
reduction in cost of sales for estimated magazine purchase returns. Estimated
sales returns are based on historical sales returns and daily point-of-sale data
from significant customers. The purchase return estimate is calculated from the
sales return reserve based on historical gross profit. If the historical data we
use to calculate these estimates does not properly reflect future results,
revenue and/or cost of sales may be misstated.
Allowance for Doubtful Accounts
We provide for potential uncollectible accounts receivable based on
customer-specific information and historical collection experience. If market
conditions decline, actual collection experience may not meet expectations and
may result in increased bad debt expenses.
25
Taxes on Earnings
The carrying value of our net deferred tax assets assumes that we will be able
to generate sufficient future taxable income in certain tax jurisdictions, based
on estimates and assumptions. If these estimates and assumptions change in the
future, we may be required to increase or decrease valuation allowances against
our deferred tax assets resulting in additional income tax expenses or benefits.
Goodwill
We evaluate our goodwill annually for impairment, or earlier if indicators of
potential impairment exist. The determination of whether or not goodwill or
other intangible assets have become impaired involves a significant level of
judgment in the assumptions underlying the approach used to determine the value
of the reporting units. Changes in our strategy and/or market conditions could
significantly impact these judgments and require adjustments to recorded amounts
of intangible assets.
We have adopted a policy to review each reporting unit for impairment using a
discounted cash flow approach that uses forward-looking information regarding
market share, revenues and costs for each reporting unit as well as appropriate
discount rates. As a result, changes in these assumptions and current working
capital could materially change the outcome of each reporting unit's fair value
determinations in future periods, which could require a permanent write-down of
goodwill.
We will continue to evaluate our goodwill for impairment on an annual basis or
sooner if indicators of potential impairment exist. The estimates that we have
used are consistent with the plans and estimates that we are using to manage the
underlying business. If we fail to achieve our estimates, we may incur a future
charge for impairment of goodwill.
Long-lived Assets
With the exception of goodwill, long-lived assets such as intangibles and
property and equipment, are evaluated for impairment when events or changes in
business circumstances indicate that the carrying amount of the assets may not
be recoverable. An impairment loss would be recognized when estimated
undiscounted future cash flows expected to result from the use of these assets
and their eventual dispositions is less than their carry a mount. Impairment, if
any, if assessed using discounted cash flows. The determination of whether or
not long-lived assets have become impaired involves a significant level of
judgment in developing the assumptions underlying the approach used to determine
the estimated future cash flows expected to result from the use of those assets.
Changes in our strategy, assumptions and/or market conditions could
significantly impact these judgments and require adjustments to recorded amounts
of long-lived assets.
26
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities", which amends and clarifies
financial accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 149 is effective for
all contracts entered into or modified after June 30, 2003. The adoption of this
standard did not have a material impact on our consolidated financial
statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150
requires that certain financial instruments, which under previous guidance were
accounted for as equity, must now be accounted for as liabilities. The financial
instruments affected include mandatory redeemable stock, certain financial
instruments that require or may require the issuer to buy back some of its
shares in exchange for cash or other assets and certain obligations that can be
settled with shares of stock. SFAS No. 150 is effective for all financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June 15,
2003. The adoption of this standard did not have a material impact on our
consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46 (FIN 46), "Consolidation
of Variable Interest Entities." FIN 46 requires the consolidation of variable
interest entities in which an enterprise absorbs a majority of the entity's
expected losses, receives a majority of the entity's expected residual returns,
or both, as a result of ownership, contractual or other financial interests in
an entity. The provisions of FIN 46 were effectively immediately for those
variable interest entities created after January 31, 2003. The provision, as
amended December 2003, are effective immediately for those variable interest
entities held prior to February 1, 2003 that are considered to be special
purpose entities. The provisions, as amended, are to be applied no later than
the end of the first reporting period that ends after March 15, 2004 for all
other variable interest rate entities held prior to February 1, 2003. The
adoption of this standard did not have a material impact on our consolidated
financial statements.
27
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our primary market risks include fluctuations in interest rates and exchange
rate variability.
Our debt relates to credit facilities with Wells Fargo Foothill and a note
payable to Hilco Capital. See "--- Liquidity and Capital Resources --- Debt"
The revolving credit facility with Wells Fargo Foothill has an outstanding
principal balance of approximately $11.7 million at January 31, 2004. Interest
on the outstanding balance is charged based on a variable interest rate related
to the prime rate (4.0% at January 31, 2004) plus a margin specified in the
credit agreement (0.25% at January 31, 2004, 0.0% at February 1, 2004).
The term note payable with Wells Fargo Foothill has an outstanding principal
balance of $4.1 million as of January 31, 2004. Interest on the outstanding
balance is charged based on a variable interest rate related to prime rate (4.0%
at January 31, 2004) plus 2.5%.
The note payable with Hilco Capital has a principal amount payable at maturity
of $15.0 million as of January 31, 2004. Interest on the outstanding balance is
charged based on a variable interest rate related to the prime rate (4.0% at
January 31, 2004) plus 7.75% as specified in the credit agreement.
Interest expense from these credit facilities is subject to market risk in the
form of fluctuations in interest rates.
In March 2004, we utilized the proceeds from a sale of our common stock to
pay-down all but a nominal amount of the Hilco Capital Note Payable, repay the
term note portion of the Wells Fargo Foothill credit facility, and repaid all
outstanding balances owed under the revolving credit partition of the Wells
Fargo Foothill credit facility.
We do not perform any interest rate hedging activities related to these two
facilities.
We have exposure to foreign currency fluctuations through our operations in
Canada. These operations accounted for approximately $5.5 million, which
represented 1.7% of our revenues for the fiscal 2004. We generally pay the
operating expenses related to these revenues in the corresponding local
currency. We will be subject to any risk for exchange rate fluctuations between
such local currency and the dollar.
Additionally, we have exposure to foreign currency fluctuation through our
exporting of foreign magazines and the purchased of foreign magazine for
domestic distribution.
Revenues derived from the export of foreign titles (or sale to domestic brokers
who facilitate the export) totaled $32.0 million for fiscal year 2004 or 9.6% of
total revenues. For the most part, our export revenues are denominated in
dollars and the foreign wholesaler is subject to foreign currency risks.
Distribution net of actual returns, excluding estimates for future returns,
totaled $5.9 million (of a total $52.5 million) and was concentrated primarily
in Australian dollars. We have the availability to control foreign currency risk
via increasing or decreasing the local cover price paid in the foreign markets.
There is a risk that a substantial increase in local cover price due to a
decline in the local currency relative to the dollar could decrease demand for
these magazines at retail and negatively impact our results of operations.
Domestic distribution related to imported titles, net of actual returns,
excluding estimates for future returns, totaled approximately $39.9 million (of
a total $216.1 million or 18.5%). Foreign publications are purchased in both
dollars and the local currency of the foreign publisher, primarily Euros and
pound sterling. In the instances where we buy in the foreign currency, we have
the ability to set the domestic cover price, which allows us to control the
foreign currency risk. These titles are generally priced significantly higher
then their domestic counterparts, are considered somewhat of a luxury item, and
demand is not highly impacted by cover price increases. However, a significant
negative change in the relative strength of the dollar to these foreign
28
currencies could result in higher cover prices and have a significant impact on
the sales of these magazines at retail and on our results of operations.
We do not conduct any significant hedging activities related to foreign
currency.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our consolidated financial statements are included herein as a separate section
of this report which begins on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
ITEM 9A. CONTROLS AND PROCEDURES.
Under the supervision and with the participation of our management, including
our principal executive officer and principal financial officer, we conducted an
evaluation of the effectiveness of the design and operation of our disclosure
controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) of the
Securities Exchange Act of 1934) as of the end of the period covered by this
report (the "Evaluation Date"). Based on this evaluation, our management,
including our principal executive officer and principal financial officer,
concluded that as of the Evaluation Date our disclosure controls and procedures
were effective to provide assurance that the information concerning us and our
consolidated subsidiaries, which is required to be included in our reports and
statements filed or submitted under the Securities Exchange Act of 1934, as
amended, (i) is accumulated and communicated to our management, including our
principal executive officer and principal financial officer, as appropriate to
allow timely decisions required disclosure and (ii) is recorded, processed,
summarized and reported within the time periods specified in rules and forms of
the Securities and Exchange Commission
In addition, there were no changes in our internal controls over financial
reporting identified in connection with the above-mentioned evaluation that
occurred during our most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, our internal control over financial
reporting. In addition, we have not identified any significant deficiencies or
material weaknesses in the design or operation of internal controls over
financial reporting which are reasonably likely to adversely affect our ability
to record, process, summarize and report financial information.
We restated our financial statements during 2004 to reflect adjustments
resulting from the revision of our accounting treatment of revenues derived from
our rebate claim filing services and cash flows from our Advance Pay Program.
In light of this restatement, our management, with the participation of our
principal executive officer and principal financial officer, we conducted a new
evaluation of the effectiveness of our disclosure controls and procedures as of
the date of March 3, 2004. Based on this evaluation, our management, including
our principal executive officer and financial officer, concluded that the prior
conclusion was correct, and that our disclosure controls and procedures were
effective. We have not designed or implemented any changes to our disclosure
controls and procedures as a result of the restatement or the March 3, 2004
evaluation.
29
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by Item 10 with respect to our directors and executive
officers is incorporated by reference from the information under the captions
"Election of Directors", "Executive Officers", "Committees of the Board of
Directors," "Section 16(a) Beneficial Ownership Reporting Compliance," and "Code
of Ethics", contained in the Company's definitive proxy statement in connection
with the solicitation of proxies for the Company's 2004 Annual Meeting of
Shareholders to be held on July 14, 2004 (the "Proxy Statement").
ITEM 11. EXECUTIVE COMPENSATION.
The information required by Item 11 with respect to the compensation of our
chief executive officer and the four other most highly compensated executive
officers is incorporated by reference from the information under the caption
"Compensation of Executive Officers" contained in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The information required by Item 12 with respect to the security ownership of
our management and significant shareholders is incorporated by reference from
the information under the caption "Security Ownership of Directors, Executive
Officers and Principal Shareholders" contained in the Proxy Statement.
30
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table sets forth, at January 31, 2004, certain information
concerning our compensation plans (including individual compensation
arrangements) under which our equity securities are authorized for issuance.
(c)
Number of securities
remaining available for
(a) (b) future issuance under
Number of securities to Weighted-average equity compensation
be issued upon exercise exercise price of plans (excluding
of outstanding options, outstanding options, securities reflected in
Plan Category warrants and rights warrants and rights column (a))
- --------------------- ----------------------- -------------------- -----------------------
Equity compensation
plans approved by
security holders 4,060,284 $7.28 22,561
Equity compensation
plans not approved by
security holders (1) 840,750 $6.07 -0-
--------- ----- ------
Total 4,901,034 $7.07 22,561
========= ===== ======
(1) Represents options and warrants issued to executive and non-executive
employees as an inducement to accept employment with the registrant.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by Item 13 with respect to certain relationships and
transactions is incorporated by reference from the information under the caption
"Certain Business Relationships and Transactions" contained in the Proxy
Statement.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information required by Item 14 with respect to fees billed for services
rendered by our principal accountant is incorporated by reference from the
information under the caption "Fees Paid to Independent Auditors" contained in
the Proxy Statement.
31
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) 1. Financial Statements:
Report of Independent Certified Public Accountants
Consolidated balance sheets - January 31, 2004 and 2003
Consolidated statements of operations - years ended January 31, 2004,
2003 and 2002
Consolidated statements of stockholders' equity - years ended January
31, 2004, 2003 and 2002
Consolidated statements of cash flows - years ended January 31, 2004,
2003 and 2002
Notes to consolidated financial statements
2. Financial statement schedules. The following consolidated financial
statement schedule of Source Interlink Companies, Inc. and subsidiaries is
included herein:
Report of Independent Certified Public Accountants S-1
Schedule II Valuation and qualifying accounts S-2
All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are
not required under the related instructions or are inapplicable, and
therefore have been omitted.
3. Exhibits.
See Exhibit Index.
(b) Reports on Form 8-K.
On March 3, 2004, we filed a Current Report on Form 8-K disclosing the
restatement of our financial statements for each of the three fiscal
years ended January 31, 2003, 2002 and 2001, and the three- and
nine-month periods ended October 31, 2003 and 2002 and attaching a copy
of the press release announcing such restatement.
On December 11, 2003, we filed a Current Report on Form 8-K disclosing
our results of operations for our third fiscal quarter ended October
31, 2003 and attaching a copy of the press release announcing such
results.
On November 5, 2003, we filed a Current Report on Form 8-K disclosing
our execution and funding of secured credit facilities with Wells Fargo
Foothill and Hilco Capital and attaching a copy of the press release
announcing such transaction.
32
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized, on April
15, 2004.
SOURCE INTERLINK COMPANIES, INC.
(registrant)
/s/ Marc Fierman
--------------------------------
Marc Fierman
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons on behalf of
the registrant and in the capacities indicated on April 15, 2004.
SIGNATURE TITLE
/s/ S. Leslie Flegel Chairman, Chief Executive Officer
- ------------------------------------- and Director (principal executive officer)
S. Leslie Flegel
/s/ James R. Gillis President, Chief Operating Officer
- ------------------------------------- and Director
James R. Gillis
/s/ Marc Fierman Chief Financial Officer
- ------------------------------------- (principal financial and accounting officer)
Marc Fierman
/s/ Robert O. Aders Director
- -------------------------------------
Robert O. Aders
/s/ Harry L. Franc III Director
- -------------------------------------
Harry L. Franc III
/s/ Aron S. Katzman Director
- -------------------------------------
Aron S. Katzman
/s/ Allan R. Lyons Director
- -------------------------------------
Allan R. Lyons
/s/Randall S. Minix Director
- -------------------------------------
Randall S. Minix
/s/Kenneth F. Teasdale Director
- -------------------------------------
Kenneth F. Teasdale
33
SOURCE INTERLINK COMPANIES, INC.
INDEX TO FINANCIAL STATEMENTS
PAGE
Audited Consolidated Financial Statement of Source Interlink Companies, Inc.
The Report of the Independent Certified Public Accountants F-2
Consolidated Balance Sheets at January 31, 2004 and 2003 F-3
Consolidated Statements of Operations for the three years in the period ended January 31, 2004 F-5
Consolidated Statements of Stockholders' Equity for the three years in the period ended January 31, 2004 F-6
Consolidated Statements of Cash Flows for the three years in the period ended January 31, 2004 F-7
Notes to Consolidated Financial Statements F-8
The Report of the Independent Certified Public Accountants
Board of Directors
Source Interlink Companies, Inc.
Bonita Springs, Florida
We have audited the consolidated balance sheets of Source Interlink Companies,
Inc. as of January 31, 2004 and 2003 and the related consolidated statements of
operations, stockholders' equity and cash flows for each of the three years in
the period ended January 31, 2004. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Source Interlink
Companies, Inc. at January 31, 2004 and 2003 and the results of its operations
and its cash flows for each of the three years in the period ended January 31,
2004 in conformity with accounting principles generally accepted in the United
States of America.
As discussed in Note 1 to the consolidated financial statements, the Company
adopted Statement of Financial Accounting Standards No. 142, effective February
1, 2002.
/s/ BDO Seidman, LLP
Chicago, Illinois
April 12, 2004
F-2
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)
January 31, 2004 2003
---- ----
ASSETS
CURRENT ASSETS
Cash $ 4,963 $ 5,570
Trade receivables (Note 3) 41,834 44,108
Purchased claims receivable 5,958 7,761
Inventories (Note 4) 17,241 15,912
Income tax receivable 2,067 6,883
Deferred tax asset (Note 10) 2,915 2,342
Advances under magazine export agreement (Note 2) 6,830 -
Other 2,536 2,051
--------- ---------
TOTAL CURRENT ASSETS 84,344 84,627
--------- ---------
Property, plants and equipment (Note 5) 29,145 27,671
Less accumulated depreciation and amortization (10,582) (7,532)
--------- ---------
NET PROPERTY, PLANTS AND EQUIPMENT 18,563 20,139
--------- ---------
OTHER ASSETS
Goodwill, net (Note 7) 45,307 44,750
Intangibles, net (Note 6) 7,931 2,047
Deferred tax asset (Note 10) 908 947
Other 7,048 4,729
--------- ---------
TOTAL OTHER ASSETS 61,194 52,473
--------- ---------
$ 164,101 $ 157,239
--------- ---------
See accompanying notes to
Consolidated Financial Statements
F-3
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except par value)
January 31, 2004 2003
---- ----
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Checks issued against future advances on revolving credit facility $ 14,129 $ 6,611
Accounts payable and accrued expenses, net of allowance for returns of $57,842
and $32,065 at January 31, 2004 and 2003, respectively 44,741 50,119
Deferred revenue 1,680 2,177
Other 317 24
Current maturities of debt (Note 8) 4,059 29,215
--------- ---------
TOTAL CURRENT LIABILITIES 64,926 88,146
Debt, less current maturities (Note 8) 31,541 17,026
Other 560 1,148
--------- ---------
TOTAL LIABILITIES 97,027 106,320
--------- ---------
COMMITMENTS AND CONTINGENCIES (Notes 12 and 13)
STOCKHOLDERS' EQUITY
Contributed Capital:
Preferred Stock, $.01 par (2,000 shares authorized; none issued) - -
Common Stock, $.01 par (40,000 shares authorized; 18,991 and 18,363 shares
issued) 190 184
Additional paid-in-capital 102,297 97,338
--------- ---------
Total contributed capital 102,487 97,522
Accumulated deficit (35,778) (45,826)
Accumulated other comprehensive (loss):
Foreign currency translation 932 (210)
--------- ---------
67,641 51,486
Less: Treasury Stock (100 shares at cost) (567) (567)
--------- ---------
TOTAL STOCKHOLDERS' EQUITY 67,074 50,919
--------- ---------
$ 164,101 $ 157,239
========= =========
See accompanying notes to
Consolidated Financial Statements
F-4
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Fiscal year ended January 31, 2004 2003 2002
--------- --------- ---------
Revenues $ 333,134 $ 290,894 $ 238,923
Costs of revenues 244,755 216,483 176,357
--------- --------- ---------
Gross profit 88,379 74,411 62,566
Selling, general and administrative expense 52,642 46,564 38,978
Fulfillment freight 16,381 14,721 7,931
Relocation expenses 1,730 1,926 -
Amortization of goodwill (Note 7) - - 5,424
Goodwill impairment charge (Note 7) - - 78,126
--------- --------- ---------
Operating income (loss) 17,626 11,200 (67,893)
--------- --------- ---------
Other income (expense)
Interest expense (3,647) (3,765) (3,338)
Other (316) 514 (2,339)
--------- --------- ---------
Total other income (expense) (3,963) (3,251) (5,677)
--------- --------- ---------
Income (loss) before income taxes 13,663 7,949 (73,570)
Income tax expense (benefit) (Note 10) 3,615 611 (705)
--------- --------- ---------
Net income (loss) $ 10,048 $ 7,338 $ (72,865)
--------- --------- ---------
Earnings per share - basic $ 0.54 $ 0.40 $ (4.07)
Earnings per share - diluted 0.51 0.40 (4.07)
Weighted average of shares outstanding - basic (Note 9) 18,476 18,229 17,915
Weighted average of shares outstanding - diluted (Note 9) 19,866 18,478 17,915
--------- --------- ---------
See accompanying notes to
Consolidated Financial Statements
F-5
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)
Retained Other
Additional Earnings Comprehensive Total
Common Stock Paid - in (Accumulated Income Treasury Stock Stockholders'
Shares Amount Capital Deficit) (Loss) Shares Amount Equity
------ -------- ---------- ------------ ------------- ------ -------- --------------
Balance, January 31, 2001 18,372 $ 183 $ 97,773 $ 19,701 $ (1,420) 1,117 $ (6,447) $ 109,790
Net loss (72,865) (72,865)
Foreign currency
translation (306) (306)
Loss on marketable
security included in net
income 1,339 1,339
--------------
Comprehensive loss (71,832)
--------------
Issuance of common stock 980 10 5,439 5,449
Exercise of stock options 57 1 147 148
Purchase of treasury stock 9 (39) (39)
Other 6 - 27 27
------ -------- ---------- ---------- --------- ----- -------- --------------
Balance, January 31, 2002 19,415 194 103,386 (53,164) (387) 1,126 (6,486) 43,543
Net income 7,338 7,338
Foreign currency
translation 177 177
--------------
Comprehensive income 7,515
--------------
Issuance of common stock
in exchange for services 46 1 216 217
Exercise of stock options 17 - 76 76
Exercise of warrants 11 - 32 32
Purchase of treasury stock 100 (464) (464)
Retirement of treasury
stock (1,126) (11) (6,372) (1,126) 6,383 -
------ -------- ---------- ---------- --------- ----- -------- --------------
Balance, January 31, 2003 18,363 184 97,338 (45,826) (210) 100 (567) 50,919
Net income 10,048 10,048
Foreign currency
translation 1,142 1,142
--------------
Comprehensive income 11,190
--------------
Exercise of stock options 624 6 2,820 2,826
Tax benefit from stock
options exercised 924 924
Original issuance discount
of note payable from
warrants 936 936
Other 4 - 279 279
------ -------- ---------- ---------- --------- ----- -------- --------------
Balance, January 31, 2004 18,991 $ 190 $ 102,297 $ (35,778) $ 932 100 $ (567) $ 67,074
====== ======== ========== ========== =========== ===== ======== ==============
See accompanying notes to
Consolidated Financial Statements
F-6
SOURCE INTERLINK COMPANIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Years ended January 31, 2004 2003 2002
--------- --------- ---------
OPERATING ACTIVITIES
Net income (loss) $ 10,048 $ 7,338 $ (72,865)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 4,084 3,301 7,815
Provision for losses on accounts receivable 1,819 2,023 2,824
Deferred income taxes (534) (1,178) (2,321)
Deferred revenue (497) (320) (855)
Loss on sale of security - - 3,500
Asset impairment charge - - 78,126
Tax benefit from stock options exercised 924 - -
Other 1,047 (288) 581
Changes in assets and liabilities (excluding business
acquisitions):
Decrease (increase) in accounts receivable 455 17,619 (36,851)
(Increase) decrease in inventories (1,329) 1,200 (3,227)
Decrease (increase) in other current and non-current
assets 1,952 614 (1,476)
(Decrease) increase in accounts payable and other
liabilities (5,673) (9,675) 23,147
--------- --------- ---------
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 12,296 20,634 (1,602)
--------- --------- ---------
INVESTMENT ACTIVITIES
Capital expenditures (2,113) (4,429) (3,711)
Purchase of claims (81,341) (79,789) (85,888)
Payments received on purchased claims 83,144 75,396 101,886
Advances under magazine export agreement (6,830) - -
Payments under magazine import agreement (1,000) (2,000) -
Payments under magazine export agreement (1,400) - -
Acquisition of The Interlink Companies, Inc., net of cash
acquired - - (13,677)
Acquisition of Innovative Metal Fixtures, Inc. - (2,014) -
Proceeds from the sale of fixed assets - - 3,495
Other - - 165
--------- --------- ---------
CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES (9,540) (12,836) 2,270
--------- --------- ---------
FINANCING ACTIVITIES
Increase (decrease) in checks issued against revolving credit
facilities 7,518 6,611 (4,575)
(Repayments) Borrowings under credit facilities (27,733) (7,667) 5,656
Payments of notes payable (5,974) (3,758) -
Borrowing under notes payable 20,000 - -
Proceeds from the issuance of common stock 2,826 108 148
Purchase of treasury stock - (465) (39)
--------- --------- ---------
CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES (3,363) (5,171) 1,190
--------- --------- ---------
INCREASE (DECREASE) IN CASH (607) 2,627 1,858
CASH, beginning of period 5,570 2,943 1,085
CASH, end of period $ 4,963 $ 5,570 $ 2,943
--------- --------- ---------
See accompanying notes to
Consolidated Financial Statements
F-7
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Source Interlink Companies, Inc. (the Company) and its subsidiaries distribute
magazines direct to specialty retailers, design, manufacture, install and remove
retail fixtures located at the check-out lane, manage retailers' claims for
rebates with magazine publishers, provide access to a comprehensive database of
point-of-sale data to retailers and product managers, and manufacture high-end
wood retail display fixtures.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Source Interlink
Companies, Inc. and its wholly-owned subsidiaries (collectively, the Company) as
of the date they were acquired. All significant intercompany accounts and
transactions have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
REVENUE RECOGNITION
Magazine Fulfillment
Revenues from the sale of magazines the Company distributes are recognized at
the time of delivery less allowances for estimated returns. Revenues from the
sale of magazines to wholesalers that are not shipped through our distribution
centers are recognized at the later of notification from the shipping agent that
the product has been delivered or the on-sale date of the magazine. The Company
records a reduction in revenue for estimated magazine sales returns and a
reduction in cost of sales for estimated magazine purchase returns. Estimated
returns are based on historical sell-through rates.
Fulfillment & Return Processing Services
Revenues from performing fulfillment and return processing services are
recognized at the time the service is performed. The Company is generally
compensated on either a per-copy or per-pound basis based on a negotiated price
or a cost plus model.
Rebate Claim Filing
Revenues from the filing of rebate claims with publishers on behalf of retailers
are recognized at the time the claim is paid. The revenue recognized is based on
the amount paid multiplied by our commission rate. The Company has developed a
program (the "advance pay" program) whereby the Company will advance the claimed
amount less applicable commissions to the retailers and collect the entire
amount claimed from publishers for our own accounts. The Company accounts for
the advance as a purchase of a financial asset and records a receivable at the
time of purchase.
Information Products
Revenues from information product contracts are recognized ratably over the
subscription term, generally one year.
Custom Display Manufacturing
F-8
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Revenues from the design and manufacture of custom display fixtures are
recognized when the retailer accepts title to the display. Transfer of title
usually occurs upon shipment. However, upon request from a customer, the product
can be stored for future delivery for the convenience of the customer. If this
occurs, we recognize revenue when the manufacturing and earnings processes are
complete, the customer accepts title in writing, the product is invoiced with
payment due in the normal course of business, the delivery schedule is fixed and
the product is segregated from other goods. Services related to the
manufacturing of displays such as freight, installation, warehousing and salvage
are recognized when the services are performed.
INVENTORIES
Inventories for In-store Services and Wood Manufacturing segments are valued at
the lower of cost or market. Cost is determined by the first-in, first-out
("FIFO") method.
Inventories for the Magazine Fulfillment segment are valued at the lower of cost
or market. Magazine inventory cost is determined by the last-in, first-out
("LIFO") method. The effect of the LIFO reserve at January 31, 2004 on the
balance sheet and the income statement is insignificant.
PROPERTY, PLANTS & EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed using the
straight-line method for financial reporting over the estimated useful lives as
follows:
Asset Class Life
----------- ----
Buildings 40 years
Machinery and equipment 5-7 years
Vehicles 5-7 years
Furniture and fixtures 5-7 years
Computers 3-5 years
Leasehold improvements are amortized over the shorter of the useful life of the
asset or the life of the lease.
GOODWILL
Prior to the adoption of SFAS 142, "Goodwill and Other Intangible Assets", the
excess of the purchase price over the estimated fair value of net assets
acquired was accounted for as goodwill and was amortized on a straight-line
basis based on a 15 to 20 year life. The amortization period was based on the
nature of the business acquired, its industry, and the long-standing
relationships with core customers. In accordance with SFAS 142, goodwill is no
longer amortized and is now tested for impairment at the reporting unit level,
which is defined as an operating segment or a component of an operating segment
that constitutes a business for which financial information is available and is
regularly reviewed by management. Management has determined that the Company's
reporting units are the same as its operating segments for the purpose of
allocating goodwill and the subsequent testing of goodwill for impairment.
Goodwill relates entirely to the In-Store Services segment, which consists of
acquired rebate claim filing and wire manufacturing operations. The Company
assesses goodwill for impairment at least annually in the absence of an
indicator of possible impairment and immediately upon an indicator of possible
impairment. Fair value of the operating unit is determined based on a
combination of discounted cash flows and publicly traded company multiples and
acquisition multiples of comparable businesses. For goodwill valuation purposes
only, the fair value of the operating segment is allocated to the assets and
liabilities of the operating segment to arrive at an implied fair value of
goodwill, based upon known facts and circumstances as if the acquisition
occurred currently. The difference between the carrying value and the estimated
fair value of the goodwill would be recognized as an impairment loss.
F-9
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INTANGIBLE ASSETS
The Company currently amortizes intangible assets, other than goodwill, over the
estimated useful life of the asset ranging from 10 to 15 years. When
appropriate, the Company commissions an independent expert to advise the Company
on the useful life.
DEFERRED FINANCING FEES
Deferred financing fees are capitalized and amortized over the life of the
credit facility and are included in other long-term assets.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company records impairment losses on long-lived assets used in operations
when events and circumstances indicate that the assets might be impaired and the
undiscounted cash flows estimated to be generated by those assets are less than
the carrying amount of those items. Our cash flow estimates are based on
historical results adjusted to reflect our best estimate of future market and
operating conditions. The net carrying value of assets not recoverable is
reduced to fair value. Our estimates of fair value represent our best estimate
based on industry trends and reference to market rates and transactions. The
Company had made acquisitions in the past that included a significant amount of
goodwill and other intangible assets. Under generally accepted accounting
principles in effect through December 31, 2001, these assets were amortized over
their estimated useful lives, and were tested periodically to determine if they
were recoverable from operating earnings on an undiscounted basis over their
useful lives. Effective in 2002, goodwill is no longer amortized but is subject
to an annual (or under certain circumstances more frequent) impairment test
based on its estimated fair value. Other intangible assets that meet certain
criteria will continue to be amortized over their useful lives and will also be
subject to an impairment test based on estimated fair value. Estimated fair
value is less than values based on undiscounted operating earnings because fair
value estimates include a discount factor in valuing future cash flows. There
are many assumptions and estimates underlying the determination of an impairment
loss. Another estimate using different, but still reasonable, assumptions could
produce a significantly different result
DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses a derivative to hedge variable interest rate exposure related
to its Bank of America credit facility. To achieve hedge accounting, the
criteria specified in FAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities" must be met. FAS 133 requires all derivatives, whether
designated for hedging relationships or not, to be recorded on the balance sheet
at fair value. The accounting for changes in the value of a derivative depends
on whether the contract has been designated and qualifies for hedge accounting.
The Company's derivative did not qualify for hedge accounting and any changes in
fair value are recorded on the statement of operations.
CONCENTRATIONS OF CREDIT RISK
The Company has significant concentrations of credit risk in its Magazine
Fulfillment, In-Store Services and Wood Manufacturing segments. If the Company
experiences a significant reduction in business from its clients, the Company's
results of operations and financial condition may be materially and adversely
affected. The Company aggregates customers with a common parent when calculating
the applicable percentages. For magazine distribution the Company calculates
contribution to revenue based on the actual distribution and estimated
sell-through based on the Company's calculated sales return reserve.
During fiscal 2004, two customers (Barnes and Noble, Inc. and Borders Group,
Inc.) accounted for 50.6% (26.8% and 23.8%) of total revenues.
During fiscal 2003, these two customers accounted for 53.5% (27.7% and 25.8%) of
total revenues.
F-10
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During fiscal 2002, these two customers accounted for 46.3% (23.2% and 23.1%) of
total revenues.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company provides for potential uncollectible accounts receivable based on
customer specific information and historical collection experience.
SHIPPING AND HANDLING CHARGES
Shipping and handling charges related to the distribution of magazines are not
included in Cost of Revenues. Shipping and handling costs totaled approximately
$16.4, $14.7 and $7.9 million in 2004, 2003 and 2002, respectively.
RELOCATION EXPENSES
During fiscal 2003 and 2004, the Company relocated its claims submission and
fixture billing center, its Corporate Headquarters, and its Magazine Fulfillment
administrative offices to its new facility in Bonita Springs, FL. The Company
elected early adoption of FAS 146, "Accounting for Costs Associated with Exit of
Disposal Activities" and accounted for the relocation in accordance with the
guidance provided by FAS 146. FAS 146 requires recording costs associated with
an exit or disposal activity at their fair values when a liability has been
incurred.
During fiscal 2004, the Company incurred $1.7 million of expenses related to the
relocations. These costs consist of reimbursement of $0.3 million for moving
expenses, $1.2 million for severance payments and other costs.
During fiscal 2003, the Company incurred $1.9 million of expenses related to the
relocations. These costs consist of reimbursement of $1.2 million for moving
expenses, $0.2 million for severance payments and other costs.
INCOME TAXES
The Company accounts for income taxes under an asset and liability approach that
requires the recognition of deferred tax assets and liabilities for the expected
future tax consequences of events that have been recognized in the Company's
financial statements or tax returns. In estimating future tax consequences, the
Company generally considers all expected future events other than enactments of
changes in the tax laws or rates.
FOREIGN CURRENCY TRANSLATION AND TRANSACTIONS
The financial position and results of operations of the Company's foreign
subsidiaries are determined using local currency as the functional currency.
Assets and liabilities of these subsidiaries are translated at the exchange rate
in effect at each year-end. Income statement accounts are translated at the
average rate of exchange prevailing during the year. Translation adjustments
arising from the use of differing exchange rates from period to period are
included in the other comprehensive income account in stockholders' equity.
Gains and losses resulting from foreign currency transactions are included in
the Consolidated Statements of Operations.
COMPREHENSIVE INCOME
Comprehensive income is defined to include all changes in equity except those
resulting from investments by owners and distributions to owners. The Company's
two items of comprehensive income are foreign currency translation adjustments
and in fiscal 2002 only a net unrealized holding loss on available-for-sale
securities.
F-11
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
EARNINGS PER SHARE
In February 1997, the Financial Accounting Standards Board issued FAS No. 128,
"Earnings per Share," which requires the presentation of "basic" earnings per
share, computed by dividing net income available to common shareholders by the
weighted average number of common shares outstanding for the period, and
"diluted" earnings per share, which reflects the potential dilution that could
occur if securities or other contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the entity.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of accounts receivable and accounts payable approximates
fair value due to their short-term nature. The carrying amount of debt including
credit facilities approximates fair value due to their stated interest rate
approximating a market rate. These estimated fair value amounts have been
determined using available market information or other appropriate valuation
methodologies.
ACCOUNTING FOR STOCK-BASED COMPENSATION
FAS No. 123, "Accounting for Stock-Based Compensation" defined a fair value
method of accounting for stock options and other equity instruments. Under the
fair value method, compensation cost is measured at the grant date based on the
fair value of the award and is recognized over the service period, which is
usually the vesting period. As provided in FAS No. 123, the Company elected to
apply Accounting Principles Board ("APB") Opinion No. 25 and related
interpretations in accounting for its stock-based compensation plans. No stock
based compensation was reflected in the fiscal 2004, 2003 or 2002 net income
(loss) related to our stock option plans as all options granted in those years
had an exercise price equal to or greater than the market value of the
underlying stock on the date of grant.
The following is a reconciliation of net income (loss) per weighted average
share had the Company adopted FAS No. 123 (in thousands except per share
amounts):
2004 2003 2002
-------- -------- --------
Net income (loss) $ 10,048 $ 7,338 $(72,865)
Stock compensation costs, net of tax (1,330) (2,191) (1,788)
-------- -------- --------
Adjusted net income (loss) $ 8,718 $ 5,147 $(74,653)
-------- -------- --------
Weighted average shares, basic 18,476 18,229 17,915
Weighted average shares, diluted 19,866 18,478 17,915
Basic earnings per share - as reported $ 0.54 $ 0.40 $ (4.07)
Diluted earnings per share - as reported 0.51 0.40 (4.07)
Basic earnings per share - pro-forma $ 0.47 $ 0.28 $ (4.17)
Diluted earnings per share - pro-forma 0.44 0.28 (4.17)
======== ======== ========
The fair value of each option grant is estimated on the grant date using the
Black-Scholes option pricing model with the following assumptions:
Year Ended January 31, 2004 2003 2002
------------- ------------- -------------
Dividend yield 0% 0% 0%
Expected volatility 0.50 0.50 0.60
Risk-free interest rate 2.16% - 2.58% 2.21% - 4.32% 3.27% - 4.78%
F-12
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities", which amends and clarifies
financial accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities under SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 149 is effective for
all contracts entered into or modified after June 30, 2003. The adoption of this
standard did not have a material impact on our consolidated financial
statements.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." SFAS No. 150
requires that certain financial instruments, which under previous guidance were
accounted for as equity, must now be accounted for as liabilities. The financial
instruments affected include mandatory redeemable stock, certain financial
instruments that require or may require the issuer to buy back some of its
shares in exchange for cash or other assets and certain obligations that can be
settled with shares of stock. SFAS No. 150 is effective for all financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June 15,
2003. The adoption of this standard did not have a material impact on our
consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46 (FIN 46), "Consolidation
of Variable Interest Entities." FIN 46 requires the consolidation of variable
interest entities in which an enterprise absorbs a majority of the entity's
expected losses, receives a majority of the entity's expected residual returns,
or both, as a result of ownership, contractual or other financial interests in
an entity. The provisions of FIN 46 were effectively immediately for those
variable interest entities created after January 31, 2003. The provision, as
amended December 2003, are effective immediately for those variable interest
entities held prior to February 1, 2003 that are considered to be special
purpose entities. The provisions, as amended, are to be applied no later than
the end of the first reporting period that ends after March 15, 2004 for all
other variable interest rate entities held prior to February 1, 2003. The
adoption of this standard did not have a material impact on our consolidated
financial statements.
2. BUSINESS COMBINATIONS AND ASSET ACQUISITIONS
The Interlink Companies, Inc.
In a series of transactions occurring between February 21, 2001 and June 1,
2001, the Company acquired all of the stock of The Interlink Companies, Inc.
("Interlink") for cash totaling $13.7 million (including professional fees and
net of cash acquired) and 980,025 shares of the Company's common stock, valued
at the time of acquisition at $5.4 million. Interlink has various operating
companies, including International Periodical Distributors, Inc. ("IPD"), a
direct distributor of magazines, and Deyco, a specialty national magazine
distributor.
This transaction has been accounted for as a purchase, and accordingly, the
assets and liabilities have been recorded at fair market value. Results of
operations have been included as of the effective date of the transaction. The
purchase price exceeded the fair value of the assets acquired by approximately
$70.9 million.
Unaudited pro forma results of operations for 2002 for the Company and
Interlink, assuming the acquisition took place on February 1, 2001, follows (in
thousands):
2002
----
Revenues As reported $ 238,923
Pro forma 299,543
Net Income (loss) As reported (72,865)
F-13
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2002
----
Pro forma (84,522)
Earnings (loss) per share
Basic As reported $ (4.07)
Basic Pro forma (4.72)
Diluted As reported (4.07)
Diluted Pro forma (4.72)
Innovative Metal Fixtures, Inc.
In May, 2002, the Company (through its Aaron Wire subsidiary) acquired all of
the assets of Innovative Metal Fixtures, Inc. for $2.6 million ($2.0 million in
cash and $0.6 million in a note payable to the former owner). Innovative Metal
Fixtures, Inc. manufactures wire and metal fixture displays from manufacturing
facilities in Vancouver, British Columbia.
This transaction has been accounted for as a purchase, and accordingly, the
assets and liabilities have been recorded at fair market value. Results of
operations have been included as of the effective date of the transaction. The
purchase price exceeded the fair value of the assets acquired by approximately
$2.0 million. The fair value of the assets acquired was allocated primarily to
goodwill.
Magazine Import Agreement
In May, 2002, the Company entered into an agreement giving the Company the right
to distribute domestically a group of foreign magazine titles. The agreement
calls for an initial payment of $2.0 million, $1.0 million in fiscal 2004 and
additional contingent payments up to $2.5 million spread over the two years
ended May 2005 based on the overall gross profit generated from the sale of
these titles. Payments under this agreement are included in intangible assets
and are being amortized over ten years, the term of the agreement.
Magazine Export Agreement
In March, 2003, the Company entered into an agreement giving the Company the
right to distribute internationally a group of domestic magazine titles. The
agreement calls for an initial payment of $1.4 million, guaranteed payments
totaling $4.2 million spread over the next four fiscal years, and additional
contingent payments up to $5.6 million based on the overall gross profit
generated from the Company's international sales of these titles. Guaranteed
payments under this agreement were capitalized at inception and are included in
intangible assets and are being amortized over fifteen years, the term of the
agreement. The remaining guaranteed balances due under the agreement are
included in Debt. Under the agreement, the Company agreed to pay the prior
owner's outstanding trade payables out of the collections of the prior owner's
outstanding receivables. Amounts collected in excess of payments made or
payments in excess of collection are to be settled at a future date. At January
31, 2004 payments in excess of collections amounted to $6.8 million. At March
31, 2004 this balance had decreased to $3.0 million.
3. TRADE RECEIVABLES
Trade receivables consist of the following (in thousands):
2004 2003
-------- --------
Trade receivables $112,504 $ 88,322
F-14
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2004 2003
-------- --------
Allowances:
Sales returns and other 66,102 38,289
Doubtful accounts 4,568 5,925
-------- --------
70,670 44,214
-------- --------
$ 41,834 $ 44,108
======== ========
4. INVENTORIES
Inventories consist of the following (in thousands):
2004 2003
------- -------
Raw materials $ 2,278 $ 2,413
Work-in-process 1,973 1,752
Finished goods:
Fixtures 761 1,174
Magazine inventory 12,229 10,573
------- -------
$17,241 $15,912
======= =======
In the event of non-sale, magazine inventories are generally returnable to the
publishers for full credit.
5. PROPERTY, PLANTS AND EQUIPMENT
Property, plants and equipment consist of the following (in thousands):
2004 2003
------- -------
Land $ 870 $ 911
Buildings 7,081 7,222
Leasehold improvements 1,419 1,190
Machinery and equipment 8,780 8,746
Vehicles 332 344
Furniture and fixtures 3,722 3,247
Computers 6,941 6,011
------- -------
Property, plants and equipment $29,145 $27,671
======= =======
6. INTANGIBLE ASSETS
A summary of the Company's intangible assets is as follows (in thousands):
2004 2003
------- -------
Amortizable intangible assets:
Customer lists $ 9,110 $ 2,483
Accumulated amortization (1,179) (436)
------- -------
Intangibles, net $ 7,931 $ 2,047
======= =======
Amortization expense from intangible assets was $0.7, $0.2, and $0.1 million for
the fiscal years ended January 31, 2004, 2003 and 2002, respectively.
F-15
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Amortization expense for each of the five succeeding years is estimated to be
(in thousands):
Fiscal year Amount
- ----------- ------
2005 $750
2006 716
2007 691
2008 687
2009 684
7. GOODWILL AMORTIZATION AND IMPAIRMENT CHARGE
For comparative purposes, the following schedule is a reconciliation of reported
net income to adjusted net income for the three years ended January 31, 2004,
adjusted to exclude goodwill amortization (in thousands, except per share data).
2004 2003 2002
---------- --------- ---------
Reported net income $ 10,048 $ 7,338 $ 72,865)
Add back: Goodwill amortization, net of tax - - 4,842
---------- --------- --------
Adjusted net income $ 10,048 $ 7,338 $ 68,023)
---------- --------- --------
Reported earnings per share - basic $ 0.54 $ 0.40 $ (4.07)
Reported earnings per share - diluted 0.51 0.40 (4.07)
Adjusted earnings per share - basic $ 0.54 $ 0.40 $ (3.80)
Adjusted earnings per share - diluted 0.51 0.40 (3.80)
========== ========= ========
In 2002, we recorded an asset impairment charge related to the carrying value of
goodwill. The impairment charge resulted from a valuation commissioned by the
Company under FAS 121. Management's reasonable and supportable estimates of
expected future cash flows from our Magazine Fulfillment and Wood Manufacturing
segments were less than the carrying amount of the goodwill. Accordingly, we
reduced the carrying value of the goodwill for Interlink and Huck to fair value.
Our estimate of fair value was determined by independent appraisal using
customary valuation methodologies (including discounted cash flow and
fundamental analysis). The valuation concluded that the fair values of these
segments were less than the carrying amount of the assets associated with these
segments by approximately $78.1 million.
The following table shows, by segment, the original goodwill net of accumulated
amortization, the impairment charge and the resulting goodwill at January 31,
2002 (in thousands):
Original Impairment Resulting
Segment Goodwill Charge Goodwill
------- -------- ---------- ---------
In-Store 42,769 - 42,769
Wood manufacturing 9,539 9,539 -
Magazine Fulfillment 68,587 68,587 -
------ ------ ------
The change in goodwill from January 31, 2003 to January 31, 2004 related to the
goodwill of foreign subsidiaries and the resulting changes in foreign currency
rates.
8. DEBT
Debt consists of (in thousands):
F-16
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2004 2003
------- -------
Revolving Credit facility - Wells Fargo Foothill $11,735 $ -
Note payable - Wells Fargo Foothill 4,083 -
Note payable - Hilco Capital, net of $858
original issuance discount 14,142 -
Guaranteed payments under magazine import
agreements (Note 2) 3,850 -
Revolving credit facility - Bank of America - 26,611
Revolving credit facilities - Congress Financial Corporation - 12,857
Industrial Revenue Bonds - 4,000
Notes payable to former owners of acquired company,
currently being disputed by Company 1,613 1,886
Other 177 887
------- -------
Debt 35,600 46,241
Less current maturities 4,059 29,215
------- -------
Debt, less current maturities $31,541 $17,026
======= =======
Wells Fargo Foothill Credit Facility
On October 30, 2003, the Company entered into a credit agreement with Wells
Fargo Foothill, which expires October 30, 2006. The credit agreement enables the
Company to borrow up to $45.0 million under a revolving credit facility and
provides a $5.0 million note payable. The credit agreement is secured by all of
the assets of the Company.
Borrowings under the revolving credit facility bear interest at a rate equal to
the prime rate (4.0% at January 31, 2004) plus a margin up to 0.5% (the
applicable margin was 0.25% at January 31, 2004) based on an availability
calculation and carries a facility fee of 1/4% per annum on the difference
between $45 million and the average principal amount outstanding under the
facility including advances under the revolving credit facility and letter of
credits.
The term note payable bears interest at a rate equal to the prime rate (4.0% at
January 31, 2004) plus 2.5%. The note is payable in equal principal installments
of $0.1 million per month plus current interest. Subsequent to year-end, the
note payable was paid in full.
Under the credit agreement, the Company is limited in its ability to declare
dividends or other distributions on capital stock or make payments in connection
with the purchase, redemption, retirement or acquisition of capital stock. There
are also limitations on capital expenditures and the Company is required to
maintain certain financial ratios. The Company was in compliance with these
ratios at January 31, 2004.
Availability under the facility is limited by the Company's borrowing base
calculation, as defined in the agreement. The calculation resulted in excess
availability, after consideration of outstanding letters of credit, of $17.5
million at January 31, 2004.
Hilco Capital Note Payable
On October 30, 2003, the Company entered into a credit agreement with Hilco
Capital. The note bears a value at maturity of $15.0 million and has been
recorded net of the original issuance discount. Upon the closing of the
agreement, Hilco received a five year warrant to purchase up to 400,000 shares
of the Company's common stock at $8.04 per share. The warrants were valued at
$.9 million using a Black Scholes option pricing model. The value of
F-17
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
these warrants was recorded as an original issuance discount to the term loan
and will be amortized over the term of the loan using the effective interest
method. The credit agreement is secured by a subordinated interest in the assets
of the Company. The note is payable October 30, 2006 and can be prepaid without
penalty at any earlier date.
The note payable bears current interest at a rate equal to the greater of the
prime rate (4.0% at January 31, 2004) plus 7.75% or 12% and deferred interest of
2% due at the termination of the agreement.
Under the note payable, the Company is limited in its ability to declare
dividends or other distributions on capital stock or make payments in connection
with the purchase, redemption, retirement or acquisition of capital stock. There
are also limitations on capital expenditures and the Company is required to
maintain certain financial ratios. The Company was in compliance with these
ratios at January 31, 2004.
Bank of America and Congress Financial Credit Facilities
The Company utilized the proceeds from the Wells Fargo Foothill credit
facilities and Hilco Capital note payable to repay the Bank of America and
Congress Financial credit facilities. The early termination of these credit
facilities resulted in a $0.9 million write-off of the unamortized balance of
the related deferred financing fees.
Note Payable to Former Owner of Acquired Company
In connection with the acquisition of Interlink, the Company assumed debt to the
former owners of IPD. The Company disputed the remaining amounts owed and
commenced legal action requesting the court release the Company of any further
obligation under these arrangements. The notes were due in fiscal 2003 and bear
interest of 12%, which the Company continued to accrue pending the outcome of
the litigation. The balance due under the notes payable decreased during the
year due to a positive arbitration award regarding the disputed items.
Subsequent to year-end, the Company and the former owner settled the notes
payable, interest accrued thereon, and the indemnification claim by agreeing to
pay a total of $1.6 million.
The aggregate amount of long-term debt maturing in each of the next five years
is as follows (in thousands):
Fiscal year Amount
- ----------- ------
2005 $ 4,059
2006 2,440
2007 29,054
2008 47
At January 31, 2004 and 2003, unamortized deferred financing fees were $2.6 and
$0.3 million, respectively. Of the $2.6 million in deferred financing fees, $0.5
million related to the remaining unamortized closing fees on the Hilco Capital
Note Payable, which the Company repaid all but a nominal amount subsequent to
year-end.
9. EARNINGS PER SHARE
A reconciliation of the denominators of the basic and diluted earnings per share
computations are as follows (in thousands):
2004 2003 2002
------ ------ ------
Weighted average number of common shares outstanding 18,476 18,229 17,915
Effect of dilutive securities:
F-18
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2004 2003 2002
------ ------ ------
Stock options and warrants 1,390 249 -
------ ------ ------
Weighted average number of common shares outstanding - as
adjusted 19,866 18,478 17,915
====== ====== ======
Certain items were excluded from the dilution calculation for the following
reasons (shares in thousands):
At January 31, 2004, options and warrants to purchase 817 and 26 shares of
common stock, respectively, were not included in the computation of diluted
earnings per share because the option's and warrant's exercise price was greater
than the average market price of the Company's common stock for 2004.
At January 31, 2003, options and warrants to purchase 3,484 and 234 shares of
common stock, respectively, were not included in the computation of diluted
earnings per share because the option's and warrant's exercise prices was
greater than the average market price of the Company's common stock for 2003.
At January 31, 2002, options and warrants to purchase 4,326 and 262 shares of
common stock, respectively, were not included in the computation of diluted
earnings per share because they were anti-dilutive due to the Company's net
loss.
10. INCOME TAXES
Provision (benefit) for federal and state income taxes in the consolidated
statements of operations consists of the following components (in thousands):
2004 2003 2002
------- ------- -------
Current
Federal $ 3,232 $ 1,108 $ 969
State 435 195 216
Foreign 482 485 431
------- ------- -------
Total current 4,149 1,788 1,616
------- ------- -------
Deferred
Federal (708) (1,028) (1,853)
State 135 (181) (422)
Foreign 39 32 (46)
------- ------- -------
Total deferred (534) (1,177) (2,321)
------- ------- -------
Total income tax expense (benefit) $ 3,615 $ 611 $ (705)
======= ======= =======
The following summary reconciles income taxes at the maximum federal statutory
rate with the effective rates for 2004, 2003 and 2002 (in thousands):
2004 2003 2002
------- ------- --------
Income tax expense (benefit) at statutory rate $ 4,782 $ 2,703 $(25,014)
Change in valuation allowance (3,208) (2,109) -
Non-deductible goodwill amortization - - 1,266
Non-deductible goodwill impairment - - 23,325
Non-taxable life insurance proceeds - - (714)
State income tax expense (benefit), net of
federal income tax benefit 371 403 (207)
Difference in foreign tax rates (104) (142) 134
F-19
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2004 2003 2002
------- ------- --------
Other, net 1,774 (244) 505
------- ------- --------
Income tax expense (benefit) $ 3,615 $ 611 $ (705)
------- ------- --------
Components of earnings (loss) before income taxes are as follows (in thousands):
2004 2003 2002
------- -------- --------
United States $11,875 $ 6,009 $(74,305)
Foreign 1,787 1,940 735
------- -------- --------
$13,662 $ 7,949 $(73,570)
------- -------- --------
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amount of the assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. The sources of
the temporary differences and their effect on deferred taxes are as follows (in
thousands):
2004 2003
-------- --------
Deferred tax assets
Net operating loss carryforwards $ 5,030 $ 6,037
Allowance for doubtful accounts 1,777 1,870
Goodwill 1,510 2,409
Other 968 1,898
-------- --------
9,285 12,214
Less: Valuation allowance (4,104) (7,312)
-------- --------
Deferred tax asset, net 5,181 4,902
-------- --------
Deferred tax liabilities
Book/tax difference in capital assets 1,358 1,613
-------- --------
Total deferred tax liabilities 1,358 1,613
-------- --------
Net deferred tax asset (Liability) 3,823 3,289
-------- --------
Classified as:
Current asset (liability) 2,915 2,342
Long-term asset (liability) 908 947
-------- --------
Net deferred tax asset (liability) $ 3,823 $ 3,289
-------- --------
At January 31, 2004, the Company had net operating loss ("NOL") carryforwards of
approximately $14,371 expiring as follows (in thousands):
Fiscal year Amount
- ----------- ------
2018 190
2019 2,940
2020 11,241
Internal Revenue Service regulations limit the utilization of these net
operating losses to approximately $1.2 million per year.
Valuation allowances exist on assets where there is uncertainty as to their
eventual utilization. Valuation allowances relate to any NOL whose usage is
limited by law.
F-20
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. RELATED PARTY TRANSACTIONS
The Company purchased legal services from Armstrong Teasdale LLP totaling
approximately $0.7, $0.5, and $0.8 million for the years ended January 31, 2004,
2003 and 2002, respectively. Mr. Kenneth Teasdale is Chairman of Armstrong
Teasdale LLP and has served as a director on the Company's Board of Directors
since March 2000.
12. COMMITMENTS
Leases
The Company leases office and manufacturing space, an apartment, computer
equipment, and vehicles under leases that expire over the next five years.
Management expects that in the normal course of business, leases will be renewed
or replaced with other leases.
Rent expense was approximately $5.9, $4.9, and $3.6 million for the years ended
January 31, 2004, 2003 and 2002, respectively.
Future minimum payments, by year and in the aggregate, under non-cancelable
operating leases with initial or remaining terms of one year or more consisted
of the following at January 31, 2004 (in thousands):
Year Ending January 31, Amount
- ---------------------------------------
2005 $ 5,816
2006 4,629
2007 3,669
2008 3,328
2009 3,093
Thereafter 18,172
$ 38,707
13. LITIGATION AND CONTINGENCIES
Litigation
The Company has pending certain legal actions and claims, which were incurred in
the normal course of business, and is actively pursuing the defense thereof. In
the opinion of management, these actions and claims are either without merit or
are covered by insurance and will not have a material adverse effect on the
Company's financial condition, results of operations or liquidity.
14. EMPLOYEE BENEFIT PLANS
Stock Option Plans
Under the Company's stock option plans, options to acquire shares of Common
Stock have been made available for grant to certain employees and non-employee
directors. Each option granted has an exercise price of not less than 100% of
the market value of the Common Stock on the date of grant. The contractual life
of each option is generally 10 years. The vesting of the grants varies according
to the individual options granted.
F-21
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Range of Weighted
Number of Exercise Average
Options Prices Exercise Price
--------- ---------------- --------------
Options outstanding at January 31, 2001 3,066,048 $ 1.66 - $ 21.60 $ 10.29
Options granted 2,349,416 3.92 - 6.31 5.11
Options forfeited or expired (1,032,701) 4.00 - 16.63 10.77
Options exercised (56,364) 2.42 - 2.66 2.63
--------- ---------------- ---------
Options outstanding at January 31, 2002 4,326,399 1.66 - 21.60 7.46
Options granted 926,750 4.27 - 6.00 4.83
Options forfeited or expired (395,633) 1.66 - 16.63 5.89
Options exercised (16,599) 2.42 - 5.00 4.63
--------- ---------------- ---------
Options outstanding at January 31, 2003 4,840,917 2.42 - 21.60 7.09
Options granted 826,750 4.56 - 9.66 5.09
Options forfeited or expired (141,972) 4.21 - 16.63 7.29
Options exercised (624,661) 2.42 - 5.94 4.52
--------- ---------------- ---------
Options outstanding at January 31, 2004 4,901,034 $ 2.42 - $ 21.60 $ 7.07
========= ================ =========
The following table summarizes information about the stock options outstanding
at January 31, 2004:
Options Outstanding Options Exercisable
-------------------------------------------- -----------------------
Weighted Remaining Weighted
Number Average Contractual Numbers Average
Exercise Price Outstanding Price Life (Months) Exercisable Price
- --------------- ----------- -------- ------------ ----------- ---------
$ 2.42 - $ 5.00 2,334,361 $ 4.62 24 - 108 1,835,995 $ 4.64
5.01 - 7.50 995,389 5.57 48 - 106 968,472 5.57
7.51 - 10.00 741,917 7.95 58 - 118 649,084 7.89
10.01 - 15.00 417,667 12.79 59 - 76 416,667 12.78
15.01 - 21.60 411,700 18.66 78 - 86 411,700 18.66
--------- ------ --------- ---------
4,901,034 $ 7.07 4,281,918 $ 7.35
========= ====== ========= =========
Options exercisable at January 31, 2003 totaled 3,816,021 with a weighted
average exercise price of $7.58.
Options exercisable at January 31, 2002 totaled 2,548,042 with a weighted
average exercise price of $8.56.
The weighted average fair value of each option granted during the year was
$1.82, $1.80, and $2.23 (at grant date) in 2004, 2003, and 2002, respectively.
The options were issued at exercise prices which were equal to or exceeded
quoted market price at the date of grant.
At January 31, 2004, 22,561 shares were available for grant under the plans.
Profit Sharing and 401(k) Plan
The Company has a combined profit sharing and 401(k) Plan. Annual contributions
to the profit sharing portion of the Plan are determined by the Board of
Directors and may not exceed the amount that may be deducted for federal income
tax purposes. There were no profit sharing contributions charged against
operations for the years ended January 31, 2004, 2003, and 2002.
Under the 401(k) portion of the Plan, all eligible employees may elect to
contribute 2% to 20% of their compensation up to the maximum allowed under the
Internal Revenue Code. The Company matches one half of an employee's
F-22
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
contribution, not to exceed 5% of the employee's salary. The amounts matched by
the Company during the years ended January 31, 2004, 2003, and 2002 pursuant to
this Plan were approximately $0.4, $0.3, and $0.4 million, respectively.
Deferred Compensation Plan
During fiscal year 1997, the Company established an unfunded deferred
compensation plan for certain officers, who elect to defer a percentage of their
current compensation. The Company does not make contributions to the plan and is
responsible only for the administrative costs associated with the plan. Benefits
are payable to the participating officers upon their death or termination of
employment. From the deferred funds, the Company has purchased certain life
insurance policies. However, the proceeds and surrender value of these policies
are not restricted to pay deferred compensation benefits when they are due.
Union Plan
At January 31, 2004, 178 of the Company's 1,169 employees were members of a
collective bargaining unit. The Company is party to two collective bargaining
agreements, which expire on December 31, 2005 and September 30, 2004.
Contributions to the union funds were approximately $0.4 million for the years
ended January 31, 2004, 2003, and 2002.
Stock Award Plan
In September 1996, the Company adopted its Stock Award Plan for all employees
and reserved 41,322 shares of Common Stock for such plan. Under the plan, the
Stock Award Committee, appointed by the Board of Directors of the Company, shall
determine the employees to whom awards shall be granted. No awards were granted
during the years ended January 31, 2004, 2003, or 2002.
15. WARRANTS
The following table summarizes information about the warrants for common stock
outstanding at January 31, 2004:
Exercise Number Number Date of Date of
Price Outstanding Exercisable Grant Expiration
- -------- ----------- ----------- ------- ----------
$ 5.39 8,000 8,000 May 23, 2002 April 30, 2007
6.82 150,000 - October 23, 2003 October 23, 2013
8.01 75,000 25,000 August 29, 2003 August 29, 2013
8.04 400,000 400,000 October 30, 2003 October 30, 2008
14.00 25,644 25,644 May 23, 2002 August 31, 2005
16. SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental information on the approximate amount of interest and income taxes
paid (refunded) is as follows (in thousands):
Year Ended January 31, 2004 2003 2002
--------- -------- --------
Interest $ 3,945 $ 3,545 $ 3,590
Income Taxes $ (2,962) $ 2,609 $ 2,565
Significant non-cash activities were as follows:
F-23
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 2004, in connection with the magazine export agreement discussed in Note
2, a liability of $4.2 million was recognized for the guaranteed payments owed
under the agreement.
In connection with the closing of the Wells Fargo Foothill credit facility, the
outstanding balances (including any accrued but unpaid interest and fees) with
Bank of America and Congress Financial were paid in full. Termination of our
existing facilities resulted in a write-off of the related unamortized deferred
loan charges of $0.9 million.
The Hilco Capital note payable is recorded net of an original issuance discount
related to the 400,000 warrants (total value at $0.9 million) issued upon close.
During 2003, the Company retired 1,126,120 shares of common stock held in
treasury which was recorded at a cost of $6.4 million.
As part of the relocation of our North Carolina claim submission and fixture
billing center to Bonita Springs, Florida, the assets related to the land and
building located in North Carolina totaling $1.8 million was placed on the
market for sale. As a result, the related assets were removed from our capital
asset accounts and are recorded in other long-term assets.
During 2002, the Company issued 980,025 shares of Common Stock as part of the
Interlink acquisition.
In conjunction with business acquisitions, the Company used cash as follows (in
thousands):
Year ended January 31,
----------------------
2003 2002
--------- -----------
Fair value of assets acquired, excluding cash $ 3,015 $ 77,435
Less: Liabilities assumed and created upon acquisition 397 58,309
Less: Note payable issued 604 -
Less: Stock issued - 5,449
--------- -----------
Net Cash Paid $ 2,014 $ 13,677
========= ===========
17. SEGMENT FINANCIAL REPORTING
The Company's segment reporting is based on the reporting of senior management
to the Chief Executive Officer. This reporting combines the Company's business
units in a logical way that identifies business concentrations and synergies.
The reportable segments of the Company are Magazine Fulfillment, In-Store
Services, Wood Manufacturing and Shared Services. The accounting policies of the
segments are materially the same as those described in the Summary of Accounting
Policies.
The Magazine Fulfillment segment derives revenues from (1) selling and
distributing magazines, including domestic and foreign titles, to major
specialty retailers and wholesalers throughout the United States and Canada, (2)
exporting domestic titles internationally to foreign wholesalers or through
domestic brokers, (3) serving as a secondary national distributor, (4) providing
return processing services for major specialty retail book chains and (5)
servicing as an outsourced fulfillment agent.
The In-Store Services segment derives revenues from (1) designing,
manufacturing, and invoicing participants in front-end fixture programs, (2)
providing claim filing services related to rebates owed retailers from
publishers or their designated agent, (3) shipping, installation and removal of
front-end fixtures, and (4) providing information and management services
relating to retail magazine sales to U.S. and Canadian retailers and magazine
publishers.
F-24
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Wood Manufacturing segment derives revenues from designing, manufacturing
and installing high-end wood store fixtures.
Shared Services consists of overhead functions not allocated to individual
operating segments. Previously, the majority of these expenses were included in
the In-Store Services segment. Comparable information is not available and not
presented for the prior fiscal year.
Segment results follow (in thousands):
Magazine In-Store Wood Shared
Year ended January 31, 2004 Fulfillment Services Manufacturing Services Consolidated
- -------------------------------------------------------------------------------------------------------
Revenues $ 255,814 $ 58,601 $ 18,719 $ - $ 333,134
Cost of revenues 194,467 33,931 16,357 - 244,755
------------ ----------- ---------- ---------- ----------
Gross profit 61,347 24,670 2,362 - 88,379
Selling, general &
administrative 28,354 8,245 1,373 14,670 52,642
Fulfillment freight 16,381 - - - 16,381
Relocation expense 1,654 - - 76 1,730
------------ ----------- ---------- ---------- ----------
Operating Income $ 14,958 $ 16,425 $ 989 $ (14,746) $ 17,626
------------ ----------- ---------- ---------- ----------
Total Assets $ 47,718 $ 78,953 $ 15,114 $ 22,316 $ 164,101
============ =========== ========== ========== ==========
The following segment results are reported under the segment reporting effective
for the prior year (in thousands).
Magazine In-Store Wood
Year ended January 31, 2004 Fulfillment Services Manufacturing Consolidated
- ------------------------------------------------------------------------------------------
Revenues $ 255,814 $ 58,601 $ 18,719 $ 333,134
Cost of revenues 194,467 33,931 16,357 244,755
------------ ----------- ----------- -----------
Gross profit 61,347 24,670 2,362 88,379
Selling, general &
administrative 28,354 22,915 1,373 52,642
Fulfillment freight 16,381 - - 16,381
Relocation expense 1,654 76 - 1,730
------------ ----------- ----------- -----------
Operating Income $ 14,958 $ 1,679 $ 989 $ 17,626
------------ ----------- ----------- -----------
Total Assets $ 47,718 $ 101,269 $ 15,114 $ 164,101
============ =========== =========== ===========
Magazine In-Store Wood
Year ended January 31, 2003 Fulfillment Services Manufacturing Consolidated
- ------------------------------------------------------------------------------------------
Revenues $ 211,663 $ 61,754 $ 17,477 $ 290,894
Cost of revenues 164,702 35,391 16,390 216,483
------------ ----------- ----------- -----------
Gross profit 46,961 26,363 1,087 74,411
Selling, general &
administrative 24,794 19,971 1,799 46,564
Fulfillment freight 14,721 - - 14,721
Relocation expense 85 1,841 - 1,926
------------ ----------- ----------- -----------
Operating Income $ 7,361 $ 4,551 $ (712) $ 11,200
------------ ----------- ----------- -----------
Total Assets $ 32,862 $ 108,982 $ 15,395 $ 157,239
============ =========== =========== ===========
F-25
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Magazine In-Store Wood
Year ended January 31, 2002 Fulfillment Services Manufacturing Consolidated
- ------------------------------------------------------------------------------------------
Revenues $ 155,805 $ 65,148 $ 17,970 $ 238,923
Cost of revenues 126,217 33,978 16,162 176,357
------------ ----------- ----------- -----------
Gross profit 29,588 31,170 1,808 62,566
Selling, general &
administrative 18,421 18,848 1,709 38,978
Fulfillment freight 7,931 - - 7,931
Amortization of goodwill 2,358 2,723 343 5,424
Asset impairment charge 68,587 - 9,539 78,126
------------ ----------- ----------- -----------
Operating Income $ (67,709) $ 9,599 $ (9,783) $ (67,893)
------------ ----------- ----------- -----------
Total Assets $ 36,961 $ 110,043 $ 17,426 $ 164,430
============ =========== =========== ===========
18. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Quarterly financial data for 2004 and 2003 is as follows (in thousands, except
per share amounts):
Q1 Q2 Q3 Q4
April 30 July 31 October 31 January 31
--------------------------------------------------------
2004
Revenues $ 80,983 $ 85,475 $ 92,229 $ 74,447
Gross profit 20,760 23,004 24,938 19,677
Net income 629 2,992 4,096 2,332
Earnings per share - basic $ 0.04 $ 0.16 $ 0.22 $ 0.12
Earnings per share - diluted 0.04 0.15 0.20 0.11
2003
Revenues $ 67,066 $ 73,955 $ 81,214 $ 68,659
Gross profit 18,901 17,809 20,384 17,317
Net income 1,727 1,108 2,903 1,600
Earnings per share - basic $ 0.09 $ 0.06 $ 0.16 $ 0.09
Earnings per share - diluted 0.09 0.06 0.16 0.09
During 2004, the Company restated its historical financial statements to revise
the accounting treatment for revenue recognition related to its rebate claim
filing business.
Reconciliation of selected quarterly financial data to previously reported
amounts (in thousands):
As
previously
Quarter ended April 30, 2003 reported As restated
- ---------------------------------------------------------------------------
Revenues $ 81,015 $ 80,983
Gross profit 20,781 20,759
Net income 641 629
Earnings per share - basic 0.04 0.04
Earnings per share - diluted $ 0.04 $ 0.04
F-26
SOURCE INTERLINK COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As
previously
Quarter ended July 31, 2003 reported As restated
- ------------------------------------------------------------
Revenues $ 85,155 $ 85,475
Gross profit 22,780 23,004
Net income 2,857 2,992
Earnings per share - basic 0.16 0.16
Earnings per share - diluted $ 0.15 $ 0.15
19. SUBSEQUENT EVENT
In March 2004, the Company completed the sale of 3,800,000 shares of common
stock at $11.50 per share excluding underwriting discounts and expenses.
Proceeds to the Company of approximately $41.1 million before expenses were
utilized to repay the Wells Fargo Foothill note payable and revolving credit
facility, and all but a nominal amount on the Hilco Capital note payable.
F-27
Report of Independent Certified Public Accountants
Board of Directors
Source Interlink Companies, Inc.
Bonita Springs, Florida
The audits referred to in our report dated April 12, 2004, relating to the
consolidated financial statements of Source Interlink Companies, Inc., which are
referred to in Item 8 of this Form 10-K, included the audit of the accompanying
financial statement schedule. This financial statement schedule is the
responsibility of the Company's management. Our responsibility is to express an
opinion on this financial statement schedule based upon our audits. In our
opinion, such financial statement schedule presents fairly, in all material
respects, the information set forth therein.
/s/BDO Seidman, LLP
Chicago, Illinois
April 12, 2004
S-1
SCHEDULE II
SOURCE INTERLINK COMPANIES, INC.
Valuation and Qualifying Accounts Schedule
January 31, 2004
(in thousands)
Column A Column B Column C Column D Column E
- -------------------------------------------------------------------------------------------------------
Charged to
Balance at Charged to other Balance at
beginning of costs and accounts - end of
Description period expenses describe (1) Deductions period
- -------------------------------------------------------------------------------------------------------
Year ended January 31, 2004:
Allowance for doubtful accounts $5,925 $1,819 $ - $3,176 $4,568
Year ended January 31, 2003:
Allowance for doubtful accounts 6,142 2,023 - 2,240 5,925
Year ended January 31, 2002:
Allowance for doubtful accounts $1,398 $2,824 $7,206 $5,286 $6,142
(1) Additions due to acquisitions
S-2
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- --------- ------------------------------------------------------------------
3.1 Articles of Incorporation, incorporated by reference to
Registration Statement on Form S-B, as filed with the SEC on June
12, 1995 (File No. 0-26238)
3.2 Bylaws, incorporated by reference to Registration Statement on
Form S-B, as filed with the SEC on June 12, 1995 (File No.
0-26238)
3.3 Amendment to Articles of Incorporation, incorporated by reference
to Registration Statement on Form SB-2, as filed with the SEC on
August 4, 1997 (File No. 333-32733)
3.4 Amendment to Bylaws, incorporated by reference to Pre-Effective
Amendment No. 3 to Registration Statement on Form SB-2, as filed
with the SEC on October 7, 1997 (File No. 333-32733)
3.5 Amendment to Articles of Incorporation, incorporated by reference
to Pre-Effective Amendment No. 3 to Registration Statement on Form
SB-2, as filed with the SEC on October 7, 1997 (File No.
333-32733)
3.6 Amendment to Articles of Incorporation, incorporated by reference
to Annual Report on Form 10-KSB, as filed with the SEC on May 5,
1999 (File No. 001-13437)
3.7 Amendment to Articles of Incorporation, incorporated by reference
to Annual Report on Form 10-K, as filed with the SEC on May 16,
2002 (File No. 001-13437)
4.1 Form of Common Stock Certificate, incorporated by reference to
Registration Statement on Form SB-2, as filed with the SEC on
August 4, 1997 (File No. 333-32733)
4.2 Form of Warrant issued pursuant to a Loan Agreement dated as of
October 30, 2003, by and between Source Interlink Companies, Inc.,
its subsidiaries and Hilco Capital, LP, as agent, incorporated by
reference to Current Report on Form 8-K, as filed with the SEC on
November 5, 2003.
4.3 Warrantholders Rights Agreement dated as of October 30, 2003 by
and between Source Interlink Companies, Inc. and Hilco Capital LP,
incorporated by reference to Current Report on Form 8-K, as filed
with the SEC on November 5, 2003 (File No. 001-13437)
10.1 Form of indemnity Agreement with Officers and Directors,
incorporated by reference to Registration Statement on Form S-B,
as filed with the SEC on June 12, 1995 (File No. 0-26238)
10.3(a) The Source Information Management company Amended and Restated
1995 Incentive Stock Option Plan, incorporated by reference to
Annual Report on Form 10-K, as filed with the SEC on May 1, 2001
(File No. 001-13437)
10.6(a) Employment and Non-Competition Agreement with James R. Gillis
dated as of December 14, 1998, incorporated by reference to Annual
Report on Form 10-K, as filed with the SEC on May 1, 2000 (File
No. 001-13437)
10.6.1(a) Amendment to Employment and Non-Competition Agreement with James
R. Gillis dated as of August 3, 2000, incorporated by reference to
Annual Report on Form 10-K, as filed with the SEC on May 1, 2001
(File No. 001-13437)
10.20(a) The Source Information Management Company Amended and Restated
1998 Omnibus Plan, incorporated by reference to Annual Report on
Form 10-K, as filed with the SEC on May 1, 2001 (File No.
001-13437)
10.21(a) Employment and Non-Competition Agreement dated as of May 21, 2003
between Source Interlink Companies, Inc. and S. Leslie Flegel,
incorporated by reference to Quarterly Report on Form 10-Q, as
filed with the SEC on June 16, 2003 (File No. 001-13437)
10.22(a) Employment Agreement between The Source Information Management
Company and Jason S. Flegel dated as of January 3, 2001, as filed
with the SEC on May 1, 2001 (File No. 001-13437)
10.28 Standard Lease Agreement between SINV II, LLC as Landlord and
Source-Huck Store Fixture Company as Tenant dated October 31,
2001, incorporated by reference to Annual Report on Form 10-K, as
filed with the SEC on May 16, 2002 (File No. 001-13437)
10.29 Standard Lease Agreement between SINV, LLC as Landlord and
Source-Huck Store Fixture Company as Tenant dated October 31,
2001, incorporated by reference to Annual Report on Form 10-K, as
filed with the SEC on May 16, 2002 (File No. 001-13437)
10.31 Lease Agreement by and between Riverview Associates Limited
Partnership and Source Interlink Companies, Inc. dated August 9,
2001, incorporated by reference to Annual Report on Form 10-K, as
filed with the SEC on May 16, 2002 (File No. 001-13437)
10.31.1 Lease Amendment by and between Riverview Associates Limited
Partnership and Source Interlink Companies, Inc. dated August 27,
2003, incorporated by reference to Quarterly Report on Form 10-Q,
as filed with the SEC on September 15, 2003 (File No. 001-13437)
10.32 Industrial Lease between Broadway Properties LTD and Innovative
Metal Fixtures, Inc. dated for reference June 1, 2001 and
Assignment and Assumption Agreement between Innovative Metal
Fixtures, Inc., Aaron Wire & Metal Products LTD and Broadway
Properties LTD dated May 3, 2002, incorporated by reference to
Annual Report on Form 10-K, as filed with the SEC on May 1, 2003
(File No. 001-13437)
10.33 Net Lease between Conewago Contractors, Inc. and Pennsylvania
International Distribution Services, Inc. dated as of May 1, 2000,
incorporated by reference to Annual Report on Form 10-K, as filed
with the SEC on May 1, 2003 (File No. 001-13437)
10.33.1 First Amendment to Net Lease between Conewago Contractors, Inc.
and Pennsylvania International Distribution Services, Inc.
effective September 1, 2003, incorporated by reference to
Quarterly Report on Form 10-Q, as filed with the SEC on December
15, 2003 (File No. 001-13437)
10.34 Lease Agreement between Regal Business Center, Inc and Publisher
Distribution Services, Inc. dated as of September 1, 1998, as
amended by Modification and Ratification of Lease Agreement dated
as of October __, 1998 and Second Modification and Ratification of
Lease Agreement dated as of October __, 2001 (dates omitted in
original), incorporated by reference to Annual Report on Form
10-K, as filed with the SEC on May 1, 2003 (File No. 001-13437)
10.35 Lease Agreement between Milan Industrial Park and Eastern News
Distributors, Inc. dated as of September __, 1995 (date omitted in
original), as assigned by Assignment and Assumption of Lease
between COMAG Marketing Group, Inc. and International Periodical
Distributors, Inc. dated as of April 27, 2001, incorporated by
reference to Annual Report on Form 10-K, as filed with the SEC on
May 1, 2003 (File No. 001-13437)
10.36 Commercial Lease Agreement between NCSC Properties LLC and Huck
Store Fixture Company of North Carolina dated July 1, 2002,
incorporated by reference to Annual Report on Form 10-K, as filed
with the SEC on May 1, 2003 (File No. 001-13437)
10.37 Agreement between Louis Nathan Wank, Irving Wank, Murray Wank,
Sylvia Goshen, Anna Godel, Sylvia Thorne and/or Wank Brothers and
Brand Manufacturing Corp. dated June 1, 1989, as amended by
Extension of Lease dated October 22, 1999, incorporated by
reference to Annual Report on Form 10-K, as filed with the SEC on
May 1, 2003 (File No. 001-13437)
10.38 Agreement between Louis Nathan Wank, Irving Wank, Murray Wank,
Sylvia Goshen, Steven Godel, Sylvia Thorne and/or Wank Brothers
and Brand Manufacturing Corporation dated November 1, 1995, as
amended by Extension of Lease dated October 22, 1999, incorporated
by reference to Annual Report on Form 10-K, as filed with the SEC
on May 1, 2003 (File No. 001-13437)
10.39 Agreement between Louis Nathan Wank, Irving Wank, Murray Wank,
Sylvia Goshen, Anna Godel, Sylvia Thorne and/or Wank Brothers and
Brand Manufacturing Corp. dated September 1, 1984, as amended by
Extension of Lease dated October 22, 1999, incorporated by
reference to Annual Report on Form 10-K, as filed with the SEC on
May 1, 2003 (File No. 001-13437)
10.40 Agreement of Lease dated as of October 24, 2000 by and between
Joseph P. Day Realty Corp., as agent for owner Ron Bet 40th Street
LLC, and Brand Manufacturing Corp, incorporated by reference to
Quarterly Report on Form 10-Q, as filed with the SEC on June 16,
2003 (File No. 001-13437)
10.41(a) Employment Agreement by and between Source Interlink Companies,
Inc. and Marc Fierman dated as of July 24, 2003, incorporated by
reference to Quarterly Report on Form 10-Q, as filed with the SEC
on September 15, 2003 (File No. 001-13437)
10.43 Loan Agreement by and among Source Interlink Companies, Inc., its
subsidiaries and Hilco Capital LP, as agent, dated as of October
30, 2003, incorporated by reference to Current Report on Form 8-K,
as filed with the SEC on November 5, 2003 (File No. 001-13437)
10.44 Loan Agreement by and among Source Interlink Companies, Inc., its
subsidiaries and Wells Fargo Foothill, Inc., as arranger and
administrative agent, dated as of October 30, 2003, incorporated
by reference to Current Report on Form 8-K, as filed with the SEC
on November 5, 2003 (File No. 001-13437)
10.45(a)(b) Employment and Non-Competition Agreement dated as of March 1, 2004
between Source Interlink Companies, Inc. and John R. Amann
21.1(b) Subsidiaries of the Registrant
23.1(b) Consent of BDO Seidman, LLP
31.1(b) Rule 13a-14(a)/15d-14(a) Certification of Principal Executive
Officer
31.2(b) Rule 13a-14(a)/15d-14(a) Certification of Principal Financial
Officer
32.1(b) Section 1350 Certification of Principal Executive Officer and
Principal Financial Officer
(a)--indicates management contract or compensatory plan or arrangement
(b)--filed herewith