FORM 10-Q
Securities and Exchange Commission
Washington, D.C. 20549
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal quarter ended: August 31, 2002
Commission file number: 0-21161
Q.E.P. CO., INC.
(Exact name of registrant as specified in its charter)
Delaware 13-2983807
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1081 Holland Drive
Boca Raton, Florida 33487
(Address of principal executive offices)
(Zip code)
(561) 994-5550
(Registrant's telephone number, including area code)
Indicate by check mark whether 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 the number of shares outstanding of each of the registrant's classes of
common stock: as of October 14, 2002, 3,381,190 shares of common stock, par
value $.001 per share.
Q.E.P. CO., INC. AND SUBSIDIARIES
INDEX
Page
----
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Consolidated Balance Sheets
August 31, 2002 (Unaudited) and February 28, 2002 (Audited) ............................ 3
Consolidated Statements of Income (Unaudited)
For the Six and Three Months Ended August 31, 2002 and 2001 ............................ 4
Consolidated Statements of Cash Flows (Unaudited)
For the Six Months Ended August 31, 2002 and 2001 ...................................... 5
Notes to Consolidated Financial Statements ......................................................... 6
Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations ..... 10
Item 3 - Qualitative and Quantitative Disclosures about Market Risk ................................ 16
Item 4 - Controls and Procedures ................................................................... 16
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings ......................................................................... 17
Item 4 - Submission of Matters to a Vote of Security Holders ....................................... 17
Item 6 - Exhibits and Reports on Form 8-K .......................................................... 18
Signatures ......................................................................................... 19
Exhibits ........................................................................................... 20
2
PART I. FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AUGUST 31, 2002 AND FEBRUARY 28, 2002
August 31, 2002 February 28, 2002
--------------- -----------------
(UNAUDITED) (AUDITED)
ASSETS
CURRENT ASSETS
Cash and cash equivalents ....................................................... $ 794,454 $ 435,320
Accounts receivable, less allowance for doubtful accounts of $320,000 and
$422,000 at August 31, 2002 and February 28, 2002, respectively ............... 20,367,167 17,267,501
Notes receivable ................................................................ 21,845 21,845
Inventories ..................................................................... 23,543,350 19,878,478
Prepaid expenses ................................................................ 1,159,864 1,798,773
Deferred Income Taxes ........................................................... 485,770 485,770
-------------- --------------
Total current assets .......................................................... 46,372,450 39,887,687
Property and equipment, net ........................................................ 6,333,432 6,300,022
Deferred income taxes .............................................................. 989,146 1,232,031
Intangible assets, net ............................................................. 12,124,362 14,467,852
Notes receivable ................................................................... 25,936 28,586
Other assets ....................................................................... 534,812 454,341
-------------- --------------
TOTAL ASSETS ....................................................................... $ 66,380,138 $ 62,370,519
============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Lines of credit ................................................................. $ 19,214,779 $ 16,763,214
Acquisition notes payable ....................................................... 844,271 767,500
Current maturities of long term debt ............................................ 1,929,714 2,053,179
Accounts payable ................................................................ 10,080,977 8,208,136
Accrued liabilities ............................................................. 3,223,272 2,385,755
-------------- --------------
Total current liabilities ..................................................... 35,293,013 30,177,784
Notes payable ...................................................................... 3,000,425 3,118,629
Acquisition notes payable .......................................................... 1,458,699 1,000,000
Subordinated long term debt ........................................................ 3,998,960 3,944,792
Deferred income taxes .............................................................. 504,740 504,740
Warrant put liability .............................................................. 831,000 575,000
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
Preferred stock, 2,500,000 shares authorized, $1.00 par value; 336,660 shares
issued and outstanding at August 31, 2002 and February 28, 2002 ............... 336,660 336,660
Common stock, 20,000,000 shares authorized, $.001 par value; 3,381,190 shares
issued and outstanding at August 31, 2002 and February 28, 2002 ............... 3,381 3,381
Additional paid-in capital ...................................................... 9,068,703 9,068,703
Retained earnings ............................................................... 14,298,883 15,842,783
Cost of stock held in treasury .................................................. (436,170) (390,642)
Accumulated other comprehensive income .......................................... (1,978,156) (1,811,311)
-------------- --------------
$ 21,293,301 $ 23,049,574
-------------- --------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY ......................................... $ 66,380,138 $ 62,370,519
============== ==============
The accompanying notes are an integral part of these statements
3
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
FOR THE SIX MONTHS AND THREE MONTHS ENDED AUGUST 31, 2002 AND 2001
(UNAUDITED)
Six Months Ended Three Months Ended
---------------- ------------------
August 31, 2002 August 31, 2001 August 31, 2002 August 31, 2001
--------------- --------------- --------------- ---------------
Net Sales ........................................ $ 64,599,153 $ 56,153,464 $ 33,408,699 $ 27,267,023
Cost of goods sold ............................... 42,486,574 37,244,340 21,694,221 18,112,995
------------ ------------ ------------ ------------
Gross profit .................................. 22,112,579 18,909,124 11,714,478 9,154,028
------------ ------------ ------------ ------------
Costs and expenses
Shipping ...................................... 5,943,218 4,842,295 3,279,956 2,333,607
General and administrative .................... 5,534,322 5,118,264 2,917,247 2,425,841
Selling and marketing ......................... 6,806,521 5,978,451 3,517,680 2,988,290
Other expense (income) ........................ 241,559 (221,875) 126,154 (169,397)
------------ ------------ ------------ ------------
18,525,620 15,717,135 9,841,037 7,578,341
------------ ------------ ------------ ------------
Operating income ................................. 3,586,959 3,191,989 1,873,441 1,575,687
Interest income .................................. 627 423 -- 232
Interest expense ................................. (956,499) (1,233,241) (499,143) (592,424)
------------ ------------ ------------- -------------
Income before provision for income taxes and
cumulative effect of change in accounting
principle ..................................... 2,631,087 1,959,171 1,374,298 983,495
Provision for income taxes ....................... (1,121,014) (745,874) (577,993) (374,492)
------------ ------------ ------------ ------------
Net income before cumulative effect of change
in accounting principle ....................... 1,510,073 1,213,297 796,305 609,003
Cumulative effect of change in accounting
principle ..................................... (3,047,788) --- --- ---
------------ ------------ ------------ ------------
Net (loss) income ................................ $ (1,537,715) $ 1,213,297 $ 796,305 $ 609,003
============ ============ ============ ============
Basic and diluted (loss) earnings per
common share
Income before cumulative effect of change in
accounting principle .......................... $ 0.44 $ 0.36 $ 0.23 $ 0.18
Cumulative effect of change in accounting
principle ..................................... (0.89) --- --- ---
------------ ------------ ------------ ------------
Net (loss) income ................................ $ (0.45) $ 0.36 $ 0.23 $ 0.18
============ ============ ============ ============
The accompanying notes are an integral part of these statements.
4
Q.E.P. CO., INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED AUGUST 31, 2002 AND 2001
(UNAUDITED)
Six Months Ended
August 31, 2002 August 31, 2001
--------------- ---------------
Cash flows from operating activities:
Net (loss) income .................................................................. $(1,537,715) $1,213,297
Adjustments to reconcile net (loss) income to net cash (used in) provided by
operating activities:
Cumulative effect of change in accounting principle ................................ 3,047,788 ---
Change in fair value of warrant put liability ...................................... 256,000 ---
Depreciation and amortization ...................................................... 881,040 1,068,270
Bad debt expense ................................................................... 267,665 38,021
Deferred income taxes .............................................................. 242,886 291,054
Changes in assets and liabilities, net of acquisitions:
Accounts receivable ............................................................. (2,576,921) 873,318
Inventories ..................................................................... (2,969,383) (2,365,029)
Prepaid expenses ................................................................ 647,479 192,730
Other assets .................................................................... (244,541) (409,993)
Accounts payable and accrued liabilities ........................................ 1,755,994 (358,088)
----------- ----------
Net cash (used in) provided by operating activities ........................... (229,708) 543,580
----------- ----------
Cash flows from investing activities:
Capital expenditures ............................................................ (607,659) (166,242)
Acquisitions, net of cash acquired .............................................. (495,630) ---
----------- ----------
Net cash used in investing activities ........................................... (1,103,289) (166,242)
----------- ----------
Cash flow from financing activities:
Net borrowings under lines of credit ............................................ 2,451,565 964,856
Borrowings of long term debt .................................................... 715,643 6,000,000
Repayments of long-term debt .................................................... (1,014,166) (7,096,999)
Repayment of acquisition notes payable .......................................... (260,000) (160,000)
Payments received on notes receivable ........................................... 2,651 3,092
Purchase of treasury stock ...................................................... (30,532) ---
Purchase of common stock warrants ............................................... --- (13,173)
Dividends ....................................................................... (6,185) (11,372)
----------- ----------
Net cash provided by (used in) financing activities ............................. 1,858,976 (313,596)
----------- ----------
Cumulative currency translation adjustment ......................................... (166,845) (249,437)
Net increase (decrease) in cash .................................................... 359,134 (185,695)
Cash and cash equivalents at beginning of period ................................... 435,320 397,817
----------- ----------
Cash and cash equivalents at end of period ......................................... $ 794,454 $ 212,122
=========== ==========
Supplemental disclosure of cash flow information:
Interest paid ................................................................... $ 865,194 $1,186,423
Income taxes paid ............................................................... $ 883,921 $ 184,915
The accompanying notes are an integral part of these statements.
5
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note 1. Basis of Presentation
The accompanying financial statements for the interim periods are
unaudited and reflect all adjustments (consisting only of normal recurring
adjustments) which are, in the opinion of management, necessary for a fair
presentation of the financial position and operating results for the periods
presented. These financial statements should be read in conjunction with the
financial statements and notes thereto, together with Management's Discussion
and Analysis of Financial Condition and Results of Operations, contained in the
Annual Report on Form 10-K for the fiscal year ended February 28, 2002, of
Q.E.P. Co., Inc. (the "Company") as filed with the Securities and Exchange
Commission. The February 28, 2002 balance sheet was derived from audited
financial statements, but does not include all disclosures required by
accounting principles generally accepted in the United States of America. The
results of operations for the six and three months ended August 31, 2002 are not
necessarily indicative of the results for the full fiscal year ending February
28, 2003.
Note 2. Inventories
The major classes of inventories are as follows:
August 31, 2002 February 28, 2002
--------------- -----------------
Raw materials and work-in-process $ 4,313,280 $ 3,837,402
Finished goods 19,230,070 16,041,076
------------ ------------
$ 23,543,350 $ 19,878,478
============ ============
Note 3. Earnings per Share
Basic earnings per share is computed by dividing net income, after
deducting preferred stock dividends accumulated during the period, by the
weighted average number of shares of common stock outstanding during each
period. Diluted earnings per share is computed by dividing net income, after
deducting preferred stock dividends, by the weighted average number of shares of
common and dilutive common stock equivalent shares outstanding during each
period. Diluted common stock equivalent shares consist of stock options and
warrant common stock equivalent shares, which are not used when the effect is
antidilutive except that, for the six and three months ended August 31, 2002,
due to the cumulative effect of the change in accounting principle (see Note 8),
the diluted common stock equivalent shares were used in the earnings per share
calculation even though the effect was antidilutive.
For the six months and the three months ended August 31, 2002 and 2001,
the weighted average number of basic shares of common stock outstanding amounted
to 3,381,190. For the six months ended August 31, 2002 and August 31, 2001, the
weighted average number of diluted shares of common stock outstanding amounted
to 3,443,353 and 3,383,259, respectively. For the three months ended August 31,
2002 and August 31, 2001, the weighted average number of diluted shares of
common stock outstanding amounted to 3,442,478 and 3,384,900, respectively.
6
Q.E.P. CO., INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note 4. Comprehensive Income
The Company records comprehensive income in accordance with Financial
Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income." SFAS 130
requires foreign currency translation adjustments to be included in other
comprehensive income.
For the six months ended August 31, 2002 and 2001, the Company's
comprehensive (loss) income totaled ($1,704,560) and $963,860, respectively.
Excluding the effect of the change in accounting principle, the Company's
comprehensive income for the six months ended August 31, 2002 was $1,343,228.
For the three months ended August 31, 2002 and 2001, the Company's comprehensive
income totaled $458,996 and $435,863, respectively. The change in accounting
principle did not effect comprehensive income for the three months ended August
31, 2002.
Note 5. Debt Refinancing
On April 5, 2001, the Company entered into a new $4,500,000
subordinated credit facility with HillStreet Fund LP. This facility bears an
interest rate of 15% per annum and matures on April 5, 2007. Beginning July 1,
2005, the Company is required to make equal quarterly principal payments of
$562,500 through April 5, 2007. The agreement also provides for an additional 3%
interest if the Company does not meet certain financial covenants. In connection
with the consummation of this loan transaction, the Company issued warrants to
HillStreet Fund LP to purchase up to 325,000 shares of the Company's common
stock at an exercise price of $3.63 per share (the "Put Warrants"). The Put
Warrants are exercisable until April 5, 2011. These Put Warrants can be put to
the Company on and after April 5, 2006 based on criteria set forth in the
warrant agreement. In addition, the Company may call these Put Warrants on and
after April 5, 2007 based on the same criteria. The Company has recorded a
liability for these Put Warrants based on an independent appraisal. Any change
to the future fair value of the Put Warrants is being recognized in earnings of
the Company in accordance with SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". The resulting discount of the subordinated
credit facility is being amortized over the life of the debt. For the six and
three months ended August 31, 2002, the Company recognized an after tax expense
of $256,000 and $125,000, respectively, as a result of a change in the future
value of the Put Warrants. There was no effect on earnings as a result of the
Put Warrants for the six and three months ended August 31, 2001.
Further, in April, 2001, the Company obtained an additional term loan from
its primary lending institution. This loan, in the amount of $1,500,000, is
payable in equal quarterly installments of $187,500, which commenced on July 1,
2001 and will end on April 1, 2003. The interest rate for this loan is LIBOR
(1.81% at August 31, 2002) plus 2.75%.
7
Note 6. Non-cash Investing and Financing Activities
In July 2002, the Company made a strategic acquisition of an Australian
distributor. In connection with this acquisition, liabilities were assumed as
follows:
Cash paid $ 495,630
Liabilities assumed $ 718,222
Issuance of note to related seller $ 795,470
----------
Purchase price $2,009,322
Fair value of assets acquired 1,596,296
----------
Excess of purchase price over fair value
of net assets acquired $ 413,026
Note 7. Recent Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143
provides accounting and reporting guidance for legal obligations associated with
the retirement of long-lived assets that result from the acquisition,
construction or normal operations of long-lived assets. This standard is
effective for fiscal years beginning after June 30, 2002. The Company is
currently reviewing the provisions of this standard and expects that adoption of
the standard will not have a material effect on its financial statements.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This standard is effective for
fiscal years beginning after December 15, 2001 and supersedes SFAS No. 121,
while retaining many of the requirements of such statement. SFAS No. 144 further
defines conditions necessary for assets to be considered held for sale. The
adoption of this standard did not have a material effect on the financial
statements of the Company.
In April 2002, the FASB issued SFAS No. 145 "Rescission of FASB
Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections". FASB No. 145 rescinds FASB Statement No. 4, "Reporting Gains and
Losses from Extinguishment of Debt", and an amendment of that Statement, FASB
Statement No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements". This Statement also rescinds FASB Statement No. 44, "Accounting
for Intangible Assets of Motor Carriers". This Statement amends FASB Statement
No. 13, "Accounting for Leases", to eliminate an inconsistency between the
required accounting for sale-leaseback transactions and the required accounting
for certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. This Statement also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings, or describe their applicability under changed conditions. This
Statement is effective for financial statements issued on or after May 15, 2002.
The adoption of this standard did not have an effect on the financial statements
of the Company.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities". The standard requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
Examples of costs covered by the standard include lease termination costs and
certain employee severance costs that are associated with a restructuring,
discontinued operation, plant closing, or other exit or disposal activity. The
standard is to be applied prospectively to exit or disposal activities initiated
after December 31, 2002. The Company anticipates that the adoption of this
standard will not have a material effect on its financial statements.
8
Note 8. Adoption of SFAS No. 142, "Goodwill and Other Intangible Assets"
On July 20, 2001, the FASB issued SFAS No. 141, "Business Combinations,"
and SFAS No. 142, "Goodwill and Intangible Assets." SFAS No. 141 is effective
for all business combinations completed after June 30, 2001. SFAS No. 142 is
effective for fiscal years beginning after December 15, 2001; however, certain
provisions of this statement apply to goodwill and other intangible assets
acquired between July 1, 2001 and the effective date of SFAS No. 142. Major
provisions of these statements and their effective dates for the Company are as
follows: (i) all business combinations initiated after June 30, 2001 must use
the purchase method of accounting, and the pooling of interest method of
accounting is prohibited except for transactions initiated before July 1, 2001;
(ii) intangible assets acquired in a business combination must be recorded
separately from goodwill if they arise from contractual or other legal rights or
are separable from the acquired entity and can be sold, transferred, licensed,
rented or exchanged, either individually or as part of a related contract, asset
or liability; (iii) goodwill, as well as intangible assets with indefinite
lives, acquired after June 30, 2001, will not be amortized, and effective March
1, 2002, all previously recognized goodwill and intangible assets with
indefinite lives were not subject to amortization; (iv) effective March 1, 2002,
goodwill and intangible assets with indefinite lives will be tested for
impairment annually and whenever there is an impairment indicator; and (v) all
acquired goodwill must be assigned to reporting units for purposes of impairment
testing and segment reporting. As of March 1, 2002, the Company stopped
amortizing goodwill in accordance with SFAS No. 142.
In August 2002, the Company completed the valuation of its goodwill for
impairment under the provisions of SFAS No. 142. As a result of this evaluation,
the Company determined that the goodwill associated with its Latin American and
European subsidiaries was impaired and, as a result, the Company recorded a
charge to earnings of approximately $3,048,000 effective March 1, 2002 and this
charge was recognized as a cumulative effect of a change in accounting
principle.
As a result of the adoption of SFAS No. 142, the Company did not
recognize goodwill amortization for the three nor six months ended August 31,
2002. If SFAS No. 142 was in effect during the comparable three and six months
ended August 31, 2001, the Company would not have recognized approximately
$120,000 and $235,000, respectively in goodwill amortization; therefore, net
income applicable to common shareholders would have increased to approximately
$729,000 and $1,448,000, respectively and earnings per share applicable to
common shareholders would have increased by $0.04 and $0.07, respectively.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Q.E.P. Co., Inc. (the "Company") manufactures, markets and distributes a
broad line of specialty tools and flooring related products for the home
improvement market. The Company markets over 3,000 specialty tools and flooring
related products used primarily for surface preparation and installation of
ceramic tile, carpet and marble. The Company's products are sold to home
improvement retailers, specialty distributors to the hardware, construction,
flooring and home improvement trades, chain or independent hardware, tile and
carpet retailers for use by the do-it-yourself consumer as well as the
construction or remodeling professional and original equipment manufacturers.
Dollar figures set forth below are rounded to the nearest thousand.
A summary of significant accounting policies followed by the Company is
set forth in Note B to the Company's consolidated financial statements in the
Company's Annual Report on Form 10K for the year ended February 28, 2002, which
is incorporated herein by reference.
Forward-Looking Statements
This report contains certain forward-looking statements that are made
pursuant to the safe harbor provisions of the Securities Litigation Reform Act
of 1995. Statements as to what the Company "believes," "intends," "expects," or
"anticipates" and other similar anticipatory expressions, are generally
forward-looking and are made only as of the date of this report and are not
related to historical results. Such statements include statements relating to
the adequacy of the Company's liquidity sources to meet the Company's working
capital needs and anticipated expenditures. Additionally, the report is subject
to risks and uncertainties which could cause actual results to differ materially
from those discussed in the forward-looking statements and from historical
results of operations. Among the risks and uncertainties which could cause such
a difference are the Company's anticipation of performance by distributors of
its tackless carpet strip, the assumptions upon which the Company bases its
assessments of its future working capital and capital expenditure requirements
and those relating to the Company's ability to satisfy its working capital needs
and to finance its anticipated capital expenditures which could prove to be
different than expected, the Company's dependence upon a limited number of
customers for a substantial portion of its sales, the Company's reliance upon
suppliers and sales agents for the purchase of finished products which are then
resold by it, the level of demand for the Company's products among existing and
potential new customers, the Company's dependence upon certain key personnel and
its ability to successfully integrate new management personnel into the Company,
the Company's ability to accurately predict the number and type of employees
required to conduct its European and South American operations and the
compensation required to be paid to such personnel, its ability to manage its
growth, the risk of economic and market factors affecting the Company or its
customers, the Company's belief that there will be no future adverse effect on
the fair value of the Company's assets in accordance with the provisions of SFAS
No. 142 and other risks and uncertainties described elsewhere herein.
Results of Operations
Six months ended August 31, 2002 compared to six months ended August 31,
2001
Net sales for the six months ended August 31, 2002 were approximately
$64,599,000 compared to approximately $56,153,000 for the six months ended
August 31, 2001, an increase of $8,446 or 15.0%. This increase is primarily the
result of increased sales to the home center customer base in North America and
Australia, principally as a result of new store openings and new product
introduction to existing stores, the sales attributable to the acquisition of
the Australian distributor (approximating
10
$1.3 million) offset by declines in the Company's domestic, European and Latin
American distributor business. Selling prices remained relatively stable during
the period.
Gross profit for the fiscal 2003 period was approximately $22,113,000
compared to $18,909,000 for the fiscal 2002 period, an increase of $3,204,000 or
16.9%. As a percentage of net sales, gross profit increased to 34.2% in the
fiscal 2003 period from 33.7% in the fiscal 2002 period. This increase was
primarily the result of a change in the Company's domestic product mix towards
higher margin products, a reduction in certain raw material costs and an
increase in gross margin at the Company's foreign subsidiaries.
Shipping expenses for the fiscal 2003 period were approximately
$5,943,000 compared to $4,842,000 for the fiscal 2002 period, an increase of
$1,101,000 or 22.7%. As a percentage of net sales, these expenses increased to
9.2% in the fiscal 2003 period from 8.6% in the fiscal 2002 period primarily as
a result of a decrease in the Company's average order size and an increase in
freight rates charged by common carriers. The actual increase is primarily the
result of the increase in sales volume to the home center customer base and
increased freight rates charged.
General and administrative expenses for the fiscal 2003 period were
approximately $5,534,000 compared with approximately $5,118,000 for the fiscal
2002 period, an increase of $416,000 or 8.1%. As a percentage of net sales,
these expenses decreased to 8.6% in the fiscal 2003 period from 9.1% for the
fiscal 2002 period, principally due to the absorption of certain fixed costs
over a higher sales volume and the elimination of goodwill amortization in
accordance with SFAS No. 142. The actual increase was primarily the result of an
increase in personnel and e-commerce costs at the Company's domestic
subsidiaries and an increase in personnel costs at the Company's newly acquired
Australian subsidiary.
Selling and marketing costs for the fiscal 2003 period were
approximately $6,807,000 compared to $5,978,000 for the fiscal 2002 period, an
increase of $829,000 or 13.9%. As a percentage of net sales, these expenses
decreased slightly to 10.5% in the fiscal 2003 period from 10.6% in the fiscal
2002 period, principally due to the absorption of fixed costs over a higher
sales volume. The actual increase was primarily the result of an increase in
commissions and marketing allowances associated with the increase in the home
center customer base volume and an increase in the Company's marketing and
product management costs to facilitate future growth.
Other expenses for the six months ended August 31, 2002 include a
charge of $256,000 resulting from a change in the future value of the Put
Warrants. For the comparable fiscal 2002 period, there was no effect on earnings
resulting from the Put Warrants.
Interest income for the fiscal 2003 period was approximately $627
compared to $423 in the fiscal 2002 period. Interest expense for the fiscal 2003
period was approximately $956,000 compared to approximately $1,233,000 in the
fiscal 2002 period. Interest expense decreased as a result of a reduction in the
long term obligations of the Company and a reduction in the borrowing rate
applied to the Company's outstanding indebtedness. Additionally, the fiscal 2002
period was negatively impacted by the interest rate swap agreements in existence
during fiscal 2002.
Provision for income taxes was approximately $1,121,000 in the fiscal
2003 period compared to approximately $746,000 in the fiscal 2002 period, an
increase of $375,000 or 50.3%. The effective tax rate was approximately 42.6%
for the fiscal 2003 period and 38.1% for the fiscal 2002 period. The estimated
effective tax rate is based upon the most recent effective tax rates available
and is higher in fiscal 2003 primarily due to the Company's European subsidiary
and the aforementioned adjustment to the warrant put liability.
11
In August 2002, the Company completed the valuation of its goodwill
in accordance with the provisions of SFAS No. 142. The result of this valuation
was an impairment loss to goodwill at the Company's European and Latin American
subsidiaries. This impairment loss, amounting to approximately $3,048,000, was
recorded as a cumulative effect of a change in accounting principle and was
effected as of March 1, 2002.
As a result of the above, net income, exclusive of the cumulative
effect of a change in accounting principle, for the fiscal 2003 period increased
to $1,510,000 from $1,213,000 in the fiscal 2002 period, an increase of $297,000
or 24.5% and net income as a percentage of net sales increased to 2.3% in the
fiscal 2003 period compared to 2.2% in the fiscal 2002 period. Inclusive of the
approximate $3,048,000 change in accounting principle, the Company's net loss
for the fiscal 2003 period was approximately $1,538,000.
Three months ended August 31, 2002 compared to three months ended August 31,
2001.
Net sales for the three months ended August 31, 2002 were
approximately $33,409,000 compared to approximately $27,267,000 for the three
months ended August 31, 2001, an increase of $6,142,000 or 22.5%. This increase
was primarily the result of an increase in sales to the home center customer
base in North America due to new store openings and new product introduction
into existing stores. Additionally, the Company's acquisition of an Australian
distributor accounted for approximately $1,300,000 of the increase in sales
volume. Selling prices remained relatively stable during the period.
Gross profit for the fiscal 2003 period was approximately $11,714,000
compared to approximately $9,154,000 in the fiscal 2002 period, an increase of
$2,560,000 or 28.0%. As a percentage of net sales, gross profit increased from
33.6% in the fiscal 2002 period to 35.1% in the fiscal 2003 period due to a
change in the Company's domestic product mix towards higher margin products and
a reduction in certain raw material costs domestically and at the Company's
European subsidiary.
Shipping expenses for the fiscal 2003 period were approximately
$3,280,000 compared to approximately $2,334,000 for the fiscal 2002 period, an
increase of $946,000 or 40.5%. As a percentage of net sales, these expenses
increased to 9.8% in the fiscal 2003 period from 8.6% in the fiscal 2002 period
primarily due to an increase in the freight rates charged by common carriers
together with a decrease in the Company's average order size offset by a
reduction resulting from certain fixed costs being spread over a higher sales
volume. The actual increase is primarily the result of the domestic increase in
sales volume and an increase in freight rates charged by common carriers.
General and administrative expenses for the fiscal 2003 period were
approximately $2,917,000 compared to approximately $2,426,000 for the fiscal
2002 period, an increase of $491,000 or 20.2%. As a percentage of net sales,
general and administrative expenses decreased from 8.9% in the fiscal 2002
period to 8.7% in the fiscal 2003 period, reflecting the absorption of fixed
costs over a higher sales volume. The actual increase was primarily the result
of an increase in personnel and e-commerce costs at the Company's domestic
subsidiaries and an increase in personnel costs at the Company's Australian
subsidiary.
Selling and marketing costs for the fiscal 2003 period were
approximately $3,518,000 compared to approximately $2,988,000 for the fiscal
2002 period, an increase of $530,000 or 17.7%. As a percentage of net sales,
these expenses decreased to 10.5% in the fiscal 2003 period from 10.9% in the
fiscal 2002 period. The percentage decrease is primarily the result of the
increase in sales volume. The
12
actual increase is primarily due to an increase in commissions and marketing
allowances to home center customers resulting from the increased volume and an
increase in product marketing costs.
Other expenses for the fiscal 2003 period include a charge of
$131,000 resulting from a change in the future value of the Put Warrants. For
the comparable fiscal 2002 period, there was no effect on earnings resulting
from the Put Warrants.
Interest income for the fiscal 2002 and 2003 periods was
insignificant. Interest expense for the fiscal 2003 period was approximately
$499,000 compared to approximately $592,000 in the fiscal 2002 period. Interest
expense decreased as a result of a reduction in the amount of the Company's
outstanding long-term indebtedness and a reduction in the borrowing rate applied
to such indebtedness. Additionally, the prior period was negatively impacted by
interest rate swap agreements in existence in the prior year.
Provision for income taxes was approximately $578,000 in the fiscal
2003 period compared to approximately $374,000 for the fiscal 2002 period, an
increase of $204,000 or 54.5%. The estimated tax rate was approximately 42.1%
for the fiscal 2003 period and 38.0% for the fiscal 2002 period. The estimated
effective tax rate is based upon the most recent effective tax rates available
and is higher in the fiscal 2003 period principally as a result of the Company's
European subsidiary and the aforementioned adjustment to the warrant put
liability.
As a result of the above, net income for the fiscal 2003 period was
approximately $796,000 compared to approximately $609,000 for the fiscal 2002
period, an increase of $187,000 or 30.7%. Net income as a percentage of net
sales increased to 2.4% in the fiscal 2003 period compared to 2.2% in the fiscal
2002 period as a result of the reasons outlined above.
Liquidity and Capital Resources
Working capital as of August 31, 2002 increased from approximately
$9,710,000 at February 28, 2002 to $11,079,000, an increase of $1,369,000,
primarily as a result of an increase in accounts receivable and inventory
domestically and an increase of approximately $173,000 as a result of the
acquired Australian distributor. These increases were offset by an increase in
accounts payable. Any cash in excess of anticipated requirements is invested in
commercial paper or overnight repurchase agreements with a financial
institution. The Company states the value of such investments at market price
and classifies them as cash equivalents on its balance sheet.
Net cash used in operating activities during the six month period
ended August 31, 2002 was approximately $230,000 compared to cash provided of
$544,000 for the comparable period in fiscal 2002. The decrease in cash provided
by operating activities was primarily the result of an increase in income from
operations, accounts receivable and inventory offset by an increase in accounts
payable and accrued liabilities. Net cash used in investing activities was
$1,103,000 compared to $166,000 for the comparable period in fiscal 2002. The
increase is primarily due to the cash used to purchase the Australian
distributor in July 2002 and cash used for capital expenditures.
Net cash provided by financing activities was $1,859,000 in fiscal
2003 compared to cash used of $314,000 in the comparable period in fiscal 2002.
The change is due primarily to an increase in short term borrowings to fund
working capital needs offset by repayments of the Company's revolving credit and
term loan facilities and acquisition debt.
The Company has a revolving credit and term loan facility agreement
with a United States financial institution. This agreement, which was amended on
April 5, 2001, provides for borrowings of
13
up to $20,000,000 based upon a fixed percentage of eligible accounts receivable
and inventory. Interest is payable based on a sliding scale depending on the
Company's senior debt to EBITDA ranging from LIBOR plus 1.75% to LIBOR plus
2.5%. This facility terminates in July 2003 and is collateralized by
substantially all of the Company's assets. Under the terms of the credit
agreement, the Company is required to maintain certain financial ratios and
conditions. The credit agreement also prohibits the Company from incurring
certain additional indebtedness, limits certain investments, advances or loans
and restricts substantial asset sales and capital expenditures. The terms of the
Company's credit facility also prohibits the payment of dividends, except with
the lender's consent. As of August 31, 2002, interest was at LIBOR (1.81% at
August 31, 2002) plus 2.00%. At August 31, 2002, the Company had approximately
$951,000 available for future borrowings under the credit facility, net of
approximately $406,000 in outstanding letters of credit. Further, in April 2001,
the Company obtained an additional term loan from its primary lending
institution. This loan, in the amount of $1,500,000, is payable in equal
quarterly installments of $187,500 which began on July 1, 2001 and will end on
April 1, 2003. The interest rate for this loan is LIBOR (1.81% at August 31,
2002) plus 2.75%.
The Company's Chilean subsidiary has a revolving credit facility with
a financial institution which permits borrowings of up to $50,000 with interest
at 18% per year. The facility is secured by a standby letter of credit given by
the Company. This facility expires on November 30, 2002. At August 31, 2002 the
Chilean subsidiary had all of this credit facility available for future
borrowings.
In connection with an acquisition in July 2002, the Company's
Australian subsidiary entered into a new term loan facility with an Australian
financial institution to provide financing of up to AUD$ 2,500,000
(approximately US$ 1,300,000). This facility includes a term facility and a
short-term foreign and domestic facility that will be used to provide the
capital necessary for acquisitions and general working capital purposes. The
term facility expires in June 2005 and requires quarterly payments of AUD
$25,000 (approximately US $13,000) and a final balloon payment. Further, in July
2002 approximately AUD $1,298,000 (approximately US $715,000) of this facility
was used to provide financing for the acquisition of an Australian distributor
and, in addition, the Company issued a note to the related seller in the
approximate amount of AUD $1,445,000 (approximately US $795,500). This note
requires monthly payments in the amount of approximately $14,700 through
December 2006 with interest at 6.5%.
On April 5, 2001 the Company entered into a new $4,500,000
subordinated credit facility with HillStreet Fund LP. This facility bears an
interest rate of 15% per annum and matures on April 5, 2007. Equal quarterly
payments of $562,500 are required beginning on July 1, 2005. The agreement also
provides for an additional 3% interest if the Company does not meet certain
financial covenants. In addition, the Company issued 325,000 10-year warrants
which have an exercise price of $3.63 per share. These warrants can be put to
the Company on and after April 5, 2006 based on criteria set forth in the
warrant agreement. In addition, the Company may call these warrants on and after
April 5, 2007 based on the same criteria. The Company has recorded a liability
for the Put Warrants based on an independent appraisal. Any change to the fair
value of the Put Warrants is being recognized in the earnings of the Company in
accordance with SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities." The original discount of the subordinated credit facility is being
amortized over the life of the debt.
In connection with certain acquisitions during fiscal years 1999
through 2000, the Company issued three notes to the respective sellers. The
first note, having an original principal balance of $900,000 was originally
payable in equal installments over a three year period with interest at the
Company's prevailing borrowing rate. The amount outstanding on this note as of
August 31, 2002 was $300,000. In October 2002, the Company paid $50,000 and
amended the agreement to provide for
14
payments of $125,000 on October 10, 2003 and 2004. Interest on the extended
payments is payable quarterly at 7%. The second note, in the principal amount of
$825,000, is payable in installments: $312,500 plus interest of $12,500 was paid
in December, 2000, $312,500 plus interest of $12,500 was partially paid in
December, 2001 and the balance is being paid over a ten month period beginning
January, 2002; the final installment of $200,000 plus interest of $25,000 is due
in December, 2003. The amount outstanding on this note as of August 31, 2002 was
$247,500. The third note, in the original principal amount of $1,600,000, is
payable quarterly at $80,000 plus interest at 8% from October 1, 2000 through
October 1, 2005 and the amount outstanding as of August 31, 2002 was $960,000.
In October 2000, the Company entered into an agreement to purchase
its Bramalea, Ontario facility for approximately $988,000. In connection with
this purchase, the Company paid approximately $318,000 in cash and obtained a
loan for the balance from a Canadian lending institution of approximately
$670,000 payable over ten years at an interest rate to be set annually (6.1% as
of August 31, 2002). At August 31, 2002, the outstanding balance of this loan
was approximately $541,000 and required payments are approximately $5,700 per
month.
The Company believes its existing cash balances, internally generated
funds from operations and its available bank lines of credit will provide the
liquidity necessary to satisfy the Company's working capital needs, including
the growth in inventory and accounts receivable balances, and will be adequate
to finance anticipated capital expenditures and debt obligations for the next
twelve months. There can be no assurance, however, that the assumptions upon
which the Company bases its future working capital and capital expenditure
requirements and the assumptions upon which it bases that funds will be
available to satisfy such requirements will prove to be correct. If these
assumptions are not correct, the Company's assessment of its liquidity position
could prove to be incorrect.
15
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
The Company averaged approximately 21,900,000 and 21,800,000 of
variable rate debt during the six and three months ended August 31, 2002,
respectively. If interest rates would have increased by 10%, the effect on the
Company would have been an increase to interest expense of approximately 55,000
and 27,000, respectively.
On April 5, 2001, in connection with the consummation of a loan
transaction, the Company issued warrants to HillStreet Fund LP to purchase up to
325,000 shares of the Company's common stock at an exercise price of $3.63 per
share (the "Put Warrants"). The Put Warrants are exercisable until April 5, 2011
and contain put and call provisions. If the price of a Put Warrant changes by
$0.10, the effect on the Company would be an adjustment to earnings of $32,500.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, the Company
carried out an evaluation, under the supervision and with the participation of
the Company's management, including the Company's Chief Executive Officer and
the Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures pursuant to Exchange Act Rule
13a-14. Based upon the evaluation, the Chief Executive Officer and the Chief
Financial Officer concluded that the Company's disclosure controls and
procedures were effective in timely alerting them to material information
relating to the Company and its consolidated subsidiaries required to be
included in the Company's periodic filings. There were no significant changes in
the Company's internal controls or in other factors that could significantly
affect those controls subsequent to the date of the evaluation.
16
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
There have been no other material developments in any litigation
proceedings to which the Company is a party since the Company's report on Form
10-K was filed with the Securities and Exchange Commission on May 28, 2002.
Item 4. Submission of Matters to Vote of Security Holders
The Annual Meeting of Shareholders of the Company was held on July 12,
2002. The following matters were voted upon at the Annual Meeting:
(i) The election of the following seven members to the Company's Board of
Directors:
Leonard Gould votes for: 2,742,524 votes withheld: 74,626
Lewis Gould votes for: 2,743,149 votes withheld: 74,001
Christian Nast votes for: 2,787,474 votes withheld: 29,676
Emil Vogel votes for: 2,787,474 votes withheld: 29,676
Robert Feuerzeig votes for: 2,787,474 votes withheld: 29,676
Ernst Ohnell votes for: 2,787,474 votes withheld: 29,676
Mervyn Fogel votes for: 2,787,474 votes withheld: 29,676
There were no broker non-votes cast with respect to this proposal.
(ii) The ratification of the appointment of Grant Thornton LLP as the
Company's independent certified public accountants for the fiscal year
ending February 28, 2003.
For: 2,803,988
Against: 2,150
Abstain: 11,012
There were no broker non-votes cast with respect to this proposal.
17
Item 6. Exhibits and Reports on Form 8-K
(a) List of Exhibits
Exhibit
Number Description
3.1 Certificate of Incorporation of the Company/(2)/
3.2 By-Laws of the Company/(3)/
4.1 Specimen Common Stock Certificate/(2)/
4.1.1 Form of Warrant issued by the Company to the representative of the
underwriters of the Company's initial public offering/(2)/
99.1 Certification by Lewis Gould, Chief Executive Officer and Chairman of
the Board of Directors, pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Serbanes-Oxley Act of 2002.
99.2 Certification by Marc Applebaum, Chief Financial Officer, pursuant to
18 U.S.C. section 1350, as adopted pursuant to Section 906 of the
Serbanes-Oxley Act of 2002.
(2) Incorporated by reference to Exhibit of the same number filed with the
Company's Registration Statement on Form S-1 (Reg. No. 333-07477).
(3) Incorporated by reference to Exhibit of the same number filed with the
Company's Annual Report on Form 10-K filed on May 28, 1997.
-------
(b) Reports on Form 8-K
There were no Current Reports on Form 8-K filed by the Company during
its fiscal quarter ended August 31, 2002.
18
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Q.E.P. CO., INC.
Dated: October 14, 2002 By: /s/ Lewis Gould
--------------------------------
Lewis Gould, Chairman,
Chief Executive Officer
and Director (Principal
Executive Officer)
Dated: October 14, 2002 By: /s/ Marc P. Applebaum
--------------------------------
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
CERTIFICATIONS
I, Lewis Gould, Chairman of the Board of Directors and Chief Executive Officer
of Q.E.P. Co., Inc., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Q.E.P. Co., Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a. Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b. Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c. Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
19
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a. All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
DATE: October 14, 2002
/s/ Lewis Gould
-------------------------
Chairman of the Board and
Chief Executive Officer
I, Marc Applebaum, Chief Financial Officer of Q.E.P. Co., Inc., certify that:
1. I have reviewed this quarterly report on Form 10-Q of Q.E.P. Co., Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
we have:
a. Designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b. Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c. Presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
20
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function):
a. All significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b. Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
DATE: October 14, 2002
/s/ Marc Applebaum
-----------------------
Chief Financial Officer
21
Exhibit Index
Exhibit
Number
-------
99.1 Certification by Lewis Gould, Chief Executive Officer & Chairman of
the Board of Directors
99.2 Certification by Marc Applebaum, Chief Financial Officer