e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
for the quarterly period ended June 30, 2008
or
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o |
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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 0-22982
NAVARRE CORPORATION
(Exact name of registrant as specified in its charter)
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Minnesota
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41-1704319 |
(State or other jurisdiction of
incorporation or organization)
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(IRS Employer
Identification No.) |
7400 49th Avenue North, New Hope, MN 55428
(Address of principal executive offices)
Registrants telephone number, including area code (763) 535-8333
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. þ
Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated
filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
(Check one):
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Large accelerated filer o
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Accelerated filer þ
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Non-accelerated filer o
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Smaller reporting company o |
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(Do not check if a smaller reporting company) |
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act).
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þ No
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of
the latest practical date.
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Class
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Outstanding at August 4, 2008 |
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Common Stock, No Par Value
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36,237,486 shares |
NAVARRE CORPORATION
Index
2
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements.
NAVARRE CORPORATION
Consolidated Balance Sheets
(In thousands, except share amounts)
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June 30, |
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March 31, |
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2008 |
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2008 |
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(Unaudited) |
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(Note) |
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Assets: |
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Current assets: |
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Cash and cash equivalents |
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$ |
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$ |
4,445 |
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Marketable securities |
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1,199 |
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1,506 |
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Accounts receivable, less allowance for doubtful accounts and sales reserves of $14,981
at June 30, 3008 and $15,417 at March 31, 2008 |
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88,528 |
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76,806 |
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Inventories |
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42,046 |
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32,654 |
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Prepaid expenses and other current assets |
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13,871 |
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12,118 |
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Income tax receivable |
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2,143 |
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937 |
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Deferred tax assets current |
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8,916 |
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9,100 |
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Total current assets |
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156,703 |
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137,566 |
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Property and equipment, net of accumulated depreciation of $15,584 and $14,484, respectively |
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18,525 |
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17,181 |
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Assets held for sale, net of accumulated depreciation of $194 |
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1,428 |
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1,428 |
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Other assets: |
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Marketable securities |
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1,333 |
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2,667 |
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Goodwill |
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81,697 |
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81,697 |
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Intangible assets, net of amortization of $22,401 and $21,180, respectively |
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9,002 |
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9,984 |
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License fees, net of amortization of $20,647 and $19,595, respectively |
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21,852 |
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20,515 |
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Production costs, net of amortization of $8,220 and $7,439, respectively |
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8,114 |
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7,316 |
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Other assets |
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4,535 |
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5,108 |
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Total assets |
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$ |
303,189 |
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$ |
283,462 |
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Liabilities and shareholders equity: |
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Current liabilities: |
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Note payable line of credit |
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$ |
48,731 |
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$ |
31,314 |
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Note payable short term |
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150 |
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Capital lease obligation short term |
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47 |
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59 |
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Accounts payable |
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106,390 |
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92,199 |
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Checks written in excess of cash balance |
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524 |
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Deferred compensation |
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2,090 |
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2,080 |
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Accrued expenses |
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12,951 |
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16,118 |
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Total current liabilities |
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170,733 |
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141,920 |
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Long-term liabilities: |
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Note payable long-term |
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9,594 |
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Capital lease obligation long-term |
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48 |
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60 |
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Deferred compensation |
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2,035 |
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3,491 |
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Deferred tax liabilities non-current |
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4,087 |
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3,106 |
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Income taxes payable |
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947 |
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880 |
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Total liabilities |
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177,850 |
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159,051 |
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Commitments and contingencies (Note 20) |
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Shareholders equity: |
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Common stock, no par value: |
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Authorized shares 100,000,000; issued and outstanding shares 36,237,486 at June
30, 2008 and 36,227,886 at March 31, 2008 |
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160,404 |
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160,103 |
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Accumulated deficit |
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(35,065 |
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(35,692 |
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Total shareholders equity |
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125,339 |
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124,411 |
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Total liabilities and shareholders equity |
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$ |
303,189 |
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$ |
283,462 |
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Note: The balance sheet at March 31, 2008 has been derived from the audited consolidated financial
statements at that date but does not include all of the information and footnotes required by
accounting principles generally accepted in the United States of America for complete consolidated
financial statements.
See accompanying notes to consolidated financial statements.
3
NAVARRE CORPORATION
Consolidated Statements of Operations
(In thousands, except per share amounts)
(Unaudited)
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Three Months Ended |
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June 30, |
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2008 |
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2007 |
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Net sales |
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$ |
142,025 |
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$ |
137,022 |
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Cost of sales (exclusive of depreciation and amortization) |
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119,899 |
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113,039 |
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Gross profit |
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22,126 |
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23,983 |
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Operating expenses: |
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Selling and marketing |
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5,715 |
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6,915 |
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Distribution and warehousing |
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2,884 |
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2,712 |
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General and administrative |
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8,453 |
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7,480 |
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Bad debt expense |
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55 |
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Depreciation and amortization |
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2,321 |
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2,218 |
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Total operating expenses |
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19,373 |
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19,380 |
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Income from operations |
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2,753 |
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4,603 |
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Other income (expense): |
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Interest expense |
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(1,615 |
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(1,674 |
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Interest income |
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15 |
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68 |
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Other income (expense), net |
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(98 |
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223 |
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Income from continuing operations before income tax |
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1,055 |
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3,220 |
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Income tax expense |
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(428 |
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(1,314 |
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Net income from continuing operations |
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627 |
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1,906 |
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Discontinued operations, net of tax |
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Gain on sale of discontinued operations |
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4,647 |
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Loss from discontinued operations |
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(1,109 |
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Net income |
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$ |
627 |
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$ |
5,444 |
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Basic earnings per common share: |
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Continuing operations |
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$ |
.02 |
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$ |
.05 |
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Discontinued operations |
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.10 |
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Net income |
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$ |
.02 |
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$ |
.15 |
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Diluted earnings per common share: |
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Continuing operations |
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$ |
.02 |
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$ |
.05 |
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Discontinued operations |
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.10 |
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Net income |
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$ |
.02 |
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$ |
.15 |
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Weighted average shares outstanding: |
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Basic |
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36,186 |
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35,985 |
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Diluted |
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36,250 |
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36,276 |
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See accompanying notes to consolidated financial statements.
4
NAVARRE CORPORATION
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
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Three Months Ended |
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June 30, |
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2008 |
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2007 |
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Operating activities: |
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Net income |
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$ |
627 |
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$ |
5,444 |
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Adjustments to reconcile net income to net cash (used in) provided by operating activities: |
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Loss from discontinued operations |
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1,109 |
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Gain on sale of discontinued operations |
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(4,647 |
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Depreciation and amortization |
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2,321 |
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2,218 |
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Amortization of debt acquisition costs |
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72 |
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70 |
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Write-off of debt acquisition costs |
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490 |
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Amortization of license fees |
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1,052 |
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1,665 |
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Amortization of production costs |
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781 |
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581 |
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Change in deferred revenue |
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525 |
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777 |
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Share-based compensation expense |
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288 |
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288 |
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Deferred income taxes |
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1,165 |
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669 |
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Deferred compensation expense |
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208 |
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(52 |
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Other |
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(2 |
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29 |
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Changes in operating assets and liabilities: |
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Accounts receivable |
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(11,722 |
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338 |
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Inventories |
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(9,392 |
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(5,282 |
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Prepaid expenses |
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(1,753 |
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(2,126 |
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Income taxes receivable |
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(1,206 |
) |
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827 |
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Other assets |
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201 |
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311 |
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Production costs |
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(1,579 |
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(1,107 |
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License fees |
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(2,389 |
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(2,026 |
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Accounts payable |
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13,991 |
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2,118 |
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Income taxes payable |
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67 |
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593 |
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Accrued expenses |
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(3,692 |
) |
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(1,297 |
) |
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Net cash (used in) provided by operating activities |
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(9,947 |
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500 |
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Investing activities: |
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Purchases of property and equipment |
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(2,444 |
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(2,805 |
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Purchases of intangible assets |
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(239 |
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(335 |
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Sale of marketable equity securities |
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1,654 |
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Purchases of marketable equity securities |
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(4,000 |
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Net cash used in investing activities |
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(1,029 |
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(7,140 |
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Financing activities: |
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Proceeds from note payable, line of credit |
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59,545 |
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47,755 |
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Payments on note payable, line of credit |
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(42,128 |
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(43,708 |
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Repayments of note payable |
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(9,744 |
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(2,143 |
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Payment of deferred compensation |
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(1,654 |
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Checks written in excess of cash |
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524 |
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Other |
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(12 |
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80 |
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Net cash provided by financing activities |
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6,531 |
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1,984 |
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Net decrease in cash from continuing operations |
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(4,445 |
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(4,656 |
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Discontinued operations: |
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Net cash used in operating activities |
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(784 |
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Net cash provided by investing activities, proceeds from sale of discontinued operations |
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6,500 |
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Net (decrease) increase in cash |
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(4,445 |
) |
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1,060 |
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Cash at beginning of period |
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4,445 |
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966 |
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Cash at end of period |
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$ |
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$ |
2,026 |
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Supplemental cash flow information: |
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Cash paid for: |
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Interest |
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$ |
1,372 |
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$ |
1,372 |
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Income taxes, net of refunds |
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412 |
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3 |
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Supplemental schedule of non-cash investing and financing activities: |
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Debt acquisition costs included in accounts payable |
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200 |
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See accompanying notes to consolidated financial statements.
5
NAVARRE CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)
Note 1 Organization and Basis of Presentation
Navarre Corporation (the Company or Navarre), publishes and distributes physical and
digital home entertainment and multimedia products, including PC software, DVD video, video games
and accessories. The business is divided into two business segments -Publishing and Distribution.
Through these segments, the Company maintains and leverages strong relationships throughout the
publishing and distribution chain. The publishing business consists of Encore Software, Inc.
(Encore), BCI Eclipse Company, LLC (BCI), and FUNimation Productions, Ltd. and animeOnline,
Ltd. (together, FUNimation).
The accompanying unaudited consolidated financial statements of Navarre Corporation have been
prepared in accordance with accounting principles generally accepted in the United States of
America for interim financial information and with the instructions to Form 10-Q and Regulation
S-X. Accordingly, they do not include all of the information and footnotes required by accounting
principles generally accepted in the United States of America for complete consolidated financial
statements.
All intercompany accounts and transactions have been eliminated in consolidation. In the
opinion of the Company, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included.
Because of the seasonal nature of the Companys business, the operating results and cash flows
for the three month periods ended June 30, 2008 are not necessarily indicative of the results that
may be expected for the fiscal year ending March 31, 2009. For further information, refer to the
consolidated financial statements and footnotes thereto included in Navarre Corporations Annual
Report on Form 10-K for the year ended March 31, 2008.
Certain prior year amounts have been reclassified to conform to the fiscal year 2009
presentation.
Basis of Consolidation
The consolidated financial statements include the accounts of Navarre Corporation and its
wholly-owned subsidiaries (collectively referred to herein as the Company).
Revenue Recognition
Revenue on products shipped, including consigned products, is recognized when title and risk
of loss transfers, delivery has occurred, the price to the buyer is determinable and collectibility
is reasonably assured. Service revenues are recognized upon delivery of the services. Service
revenues represented less than 10% of total net sales for the three months ended June 30, 2008 and
2007. The Company, under specific conditions, permits its customers to return products. The Company
records a reserve for sales returns and allowances against amounts due in order to reduce the net
recognized receivables to the amounts the Company reasonably believes will be collected. These
reserves are based on the application of the Companys historical or anticipated gross profit
percent against average sales returns, sales discounts percent against average gross sales and
specific reserves for marketing programs.
The Companys publishing business at times provides certain price protection, promotional
monies, volume rebates and other incentives to customers. The Company records these amounts as
reductions in revenue.
The Companys distribution customers at times qualify for certain price protection benefits
from the Companys vendors. The Company serves as an intermediary to settle these amounts between
vendors and customers. The Company accounts for these amounts as reductions of revenue with
corresponding reductions in cost of sales.
FUNimations revenue is recognized upon meeting the recognition requirements of American
Institute of Certified Public Accountants Statement of Position 00-2 (SOP 00-2), Accounting by
Producers or Distributors of Films. Revenues from home video distribution are recognized, net of an
allowance for estimated returns, in the period in which the product is available for sale by the
Companys customers (generally upon shipment to the customer and in the case of new releases, after
street date restrictions lapse). Revenues from broadcast licensing and home video sublicensing
are recognized when the programming is available to the licensee and other recognition requirements
of SOP 00-2 are met. Revenues received in advance of availability are deferred until revenue
recognition
6
requirements have been satisfied. Royalties on sales of licensed products are recognized in
the period earned. In all instances, provisions for uncollectible amounts are provided for at the
time of sale.
Recently
Issued Accounting Pronouncements
In May 2008, the Financial Accounting Standards Board (FASB) issued FASB Staff Position
(FSP) APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon
Conversion (Including Partial Cash Settlement). FSP APB 14-1 clarifies that convertible debt
instruments that may be settled in cash upon either mandatory or optional conversion (including
partial cash settlement) are not addressed by paragraph 12 of APB Opinion No. 14, Accounting for
Convertible Debt and Debt issued with Stock Purchase Warrants. Additionally, FSP APB 14-1 specifies
that issuers of such instruments should separately account for the liability and equity components
in a manner that will reflect the entitys nonconvertible debt borrowing rate when interest cost is
recognized in subsequent periods. FSP APB 14-1 is effective for financial statements issued for
fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. We
will adopt FSP APB 14-1 beginning in the first quarter of fiscal 2010, and this standard must be
applied on a retrospective basis. We are evaluating the impact the adoption of FSP APB 14-1 will
have on our consolidated financial position and results of operations.
Note 2 Discontinued Operations
On May 31, 2007, the Company sold, to an unrelated third party, its wholly-owned subsidiary,
Navarre Entertainment Media, Inc. (NEM), which operated the Companys independent music
distribution activities. The Company has presented the independent music distribution business as
discontinued operations. As part of this transaction, the Company recorded a gain in the first
quarter of fiscal 2008 of $6.1 million ($4.6 million net of tax), which included severance and
legal costs of $339,000 and other direct costs to sell of $842,000. The gain is included in Gain
on sale of discontinued operations in the Consolidated Statements of Operations. This transaction
divested the Company of all its independent music distribution activities.
The Companys consolidated financial statements have been reclassified to segregate the
assets, liabilities and operating results of the discontinued operations for all periods presented.
Prior to reclassification, the discontinued operations were reported in the distribution operating
segment. The summary of operating results from discontinued operations for the three months ended
June 30, 2007 is as follows:
|
|
|
|
|
Net sales |
|
$ |
5,070 |
|
Loss from discontinued operations, before income tax |
|
|
(1,865 |
) |
Income tax benefit |
|
|
756 |
|
|
|
|
|
Net loss from discontinued operations |
|
$ |
(1,109 |
) |
|
|
|
|
No interest expense was allocated to the operating results of discontinued operations.
There were no assets or liabilities of discontinued operations as of June 30, 2008 and March
31, 2008.
Note 3 Marketable Securities
Marketable securities at June 30, 2008 consist of government agency bonds and a money market
fund. The Company classifies these securities as available-for-sale and records these at fair
value. Unrealized holding gains and losses on available-for-sale securities are excluded from
income and are reported as a separate component of shareholders equity until realized. A decline
in the market value of any available-for-sale security below cost, that is deemed other than
temporary, is charged to income, resulting in the establishment of a new cost basis for the
security.
The fair value of securities is determined by quoted market prices. Dividend and interest
income are recognized when earned. Realized gains and losses for securities classified as
available-for-sale are included in income and are derived using the specific identification method
for determining the cost of the securities sold.
7
Available-for-sale securities consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of June 30, 2008 |
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
|
Estimated fair |
|
|
unrealized |
|
|
unrealized |
|
|
|
value |
|
|
holding gains |
|
|
holding losses |
|
Available-for-sale: |
|
|
|
|
|
|
|
|
|
|
|
|
Government agency bonds |
|
$ |
707 |
|
|
$ |
|
|
|
$ |
|
|
Money market fund |
|
|
1,825 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
2,532 |
|
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
There were no unrealized holding gains or losses or realized gains or losses for the period
ended June 30, 2008.
The marketable securities are held in a Rabbi trust which was established for the future
payment of deferred compensation (see further discussion in Note 21) for a former Chief Executive
Officer. The marketable securities are classified in the Consolidated Balance Sheets as current and
non-current in accordance with the scheduled payout of the deferred compensation and are restricted
to use only for the settlement of the deferred compensation liability. As of June 30, 2008, $1.2
million and $1.3 million were classified as current and non-current marketable securities,
respectively. Contractual maturities of available-for-sale debt securities at June 30, 2008 ranged
between February 2009 and December 2009.
Effective April 1, 2008, the Company adopted SFAS No. 157, Fair Value Measurements (SFAS
157). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally
accepted accounting principles (GAAP) and expands disclosures about fair value measurements. The
adoption of SFAS 157 did not have a material impact on the Companys financial condition or results
of operations.
SFAS 157 defines fair value as the price that would be received for an asset or paid to
transfer a liability (an exit price) in the principal or most advantageous market for the asset or
liability in an orderly transaction between market participants on the measurement date. SFAS 157
also describes three levels of inputs that may be used to measure fair value:
|
|
|
Level 1 quoted prices in active markets for identical assets and liabilities. |
|
|
|
|
Level 2 observable inputs other than quoted prices in active markets for identical assets and liabilities. |
|
|
|
|
Level 3 unobservable inputs in which there is little or no market
data available, which require the reporting entity to develop its own
assumptions. |
The Company classifies the investments in marketable securities as available-for sale. The
marketable equity securities are measured at fair value using quoted market prices. They are
classified using Level 1 inputs as they are traded in an active market for which closing prices are
readily available.
In February 2008, the Financial Accounting Standards Board (FASB) issued FSP FAS 157-2,
Effective Date of FASB Statement No. 157 (FSP 157-2). FSP 157-2 delays the effective date of SFAS
157 for non-financial assets and non-financial liabilities, except those that are recognized or
disclosed at fair value in the financial statements on a recurring basis (at least annually). The
Company will adopt SFAS 157 for non-financial assets and non-financial liabilities on April 1,
2009, and does not anticipate this adoption will have a material impact on the financial
statements.
Effective April 1, 2008, the Company adopted SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities Including an amendment of FASB Statement No. 115
(SFAS 159). This statement permits entities to choose to measure many financial instruments and
certain other items at fair value. This statement also establishes presentation and disclosure
requirements designed to facilitate comparisons between entities that choose different measurement
attributes for similar types of assets and liabilities. Unrealized gains and losses on items for
which the fair value option is elected would be reported in earnings. We have adopted SFAS 159 and
have elected not to measure any additional financial instruments and other items at fair value.
8
Note 4 Share-Based Compensation
The Company has two equity compensation plans: the Navarre Corporation 1992 Stock Option Plan
and the Navarre Corporation 2004 Stock Plan (collectively, the Plans). The 1992 Plan expired on
July 1, 2006, and no further grants are allowed under this Plan. The 2004 Plan provides for equity
awards, including stock options, restricted stock and restricted stock units. These Plans are
described in detail in the Companys Annual Report filed on Form 10-K for the fiscal year ended
March 31, 2008.
Stock Options
Option activity for the Plans for the three months ended June 30, 2008 is summarized as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
average |
|
|
|
|
|
|
|
|
|
|
average |
|
|
remaining |
|
|
Aggregate |
|
|
|
Number of |
|
|
exercise |
|
|
contractual |
|
|
intrinsic |
|
|
|
options |
|
|
price |
|
|
term |
|
|
value |
|
Options outstanding, beginning of period: |
|
|
3,132,499 |
|
|
$ |
6.78 |
|
|
|
|
|
|
|
|
|
Granted |
|
|
83,000 |
|
|
|
1.80 |
|
|
|
|
|
|
|
|
|
Exercised |
|
|
(9,600 |
) |
|
|
1.26 |
|
|
|
|
|
|
|
|
|
Canceled |
|
|
(138,499 |
) |
|
|
8.71 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options outstanding, end of period |
|
|
3,067,400 |
|
|
$ |
6.58 |
|
|
|
5.8 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable, end of period |
|
|
2,209,602 |
|
|
$ |
7.75 |
|
|
|
4.7 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares available for future grant, end of period |
|
|
1,787,500 |
|
|
|
|
|
|
|
|
|
|
|
|
|
The total intrinsic value of stock options exercised during the three months ended June 30,
2008 and 2007 were $5,000 and $379,000, respectively. The aggregate intrinsic value in the
preceding table represents the total pretax intrinsic value, based on the Companys closing stock
price of $1.64 as of June 30, 2008, which theoretically could have been received by the option
holders had all option holders exercised their options as of that date. The total number of
in-the-money options exercisable as of June 30, 2008 and 2007 was 700 and 355,000 options,
respectively.
As of June 30, 2008, total compensation cost related to non-vested stock options not yet
recognized was $1.3 million, which is expected to be recognized over the next 1.29 years on a
weighted-average basis.
During the three months ended June 30, 2008 and 2007, the Company received cash from the
exercise of stock options totaling $12,000 and $106,000, respectively. There was no excess tax
benefit recorded for the tax deductions related to stock options during the three months ended June
30, 2008 and 2007.
Restricted Stock
Restricted stock granted to employees typically has a vesting period of three years and
expense is recognized on a straight-line basis over the vesting period, or when the performance
criteria have been met. The value of the restricted stock is established by the market price on the
date of grant or if based on performance criteria, on the date it is determined the performance
criteria will be met. Restricted stock awards vesting is based on service criteria or achievement
of performance targets. All restricted stock awards are settled in shares of common stock.
A summary of the Companys restricted stock activity as of June 30, 2008 and of changes during
the three months ended June 30, 2008 is summarized as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
Weighted |
|
|
average |
|
|
|
|
|
|
|
average |
|
|
remaining |
|
|
|
|
|
|
|
grant date |
|
|
contractual |
|
|
|
Shares |
|
|
fair value |
|
|
term |
|
Unvested, beginning of period: |
|
|
171,917 |
|
|
$ |
3.02 |
|
|
|
9.34 |
|
Granted |
|
|
|
|
|
|
|
|
|
|
|
|
Vested |
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited |
|
|
(1,000 |
) |
|
|
2.41 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unvested, end of period |
|
|
170,917 |
|
|
$ |
3.02 |
|
|
|
9.09 |
|
|
|
|
|
|
|
|
|
|
|
9
The total fair value of shares vested during the three months ended June 30, 2008 and 2007 was
zero and $215,000, respectively.
As of June 30, 2008 total compensation cost related to non-vested restricted stock awards not
yet recognized was $386,000 which is expected to be recognized over the next 1.41 years on a
weighted-average basis. There was no excess tax benefit recorded for the tax deductions related to
restricted stock during the three month periods ended June 30, 2008 and 2007.
Restricted Stock Units
On April 1, 2006, the Company awarded restricted stock units to certain key employees. Receipt
of the stock units is contingent upon the Company meeting a Total Shareholder Return (TSR) target
relative to an external market condition and meeting the service condition. Each participant was
granted a base number of units. The units, as determined at the end of the performance year (fiscal
2007), will be issued at the end of the third year (fiscal 2009) if the Companys average TSR
target is achieved for the fiscal period 2007 through 2009. The total number of base units granted
for fiscal 2007 was 66,000. The amount expensed for each of the three months ended June 30, 2008
and 2007 was $28,000 based upon the number of units granted.
The restricted stock units calculated estimated fair value is based upon the closing market
price on the last trading day preceding the date of award and is charged to earnings on a
straight-line basis over the three year period. After vesting, the restricted stock units will be
settled by the issuance of Company common stock certificates in exchange for the restricted stock
units.
Share-Based Compensation Valuation and Expense Information
The Company uses the Black-Scholes option pricing model to calculate the grant-date fair value
of an award. The fair value of options granted during the three months ended June 30, 2008 and 2007
were calculated using the following assumptions:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
June 30, |
|
|
2008 |
|
|
2007 |
|
Expected life (in years) |
|
|
5.0 |
|
|
|
5.0 |
|
Expected volatility |
|
|
65 |
% |
|
|
67 |
% |
Risk-free interest rate |
|
|
2.65 |
% |
|
|
4.54-5.02 |
% |
Expected dividend yield |
|
|
0.0 |
% |
|
|
0.0 |
% |
Expected life uses historical employee exercise and option expiration data to estimate the
expected life assumption for the Black-Scholes grant-date valuation. The Company believes this
historical data is currently the best estimate of the expected term of a new option. The Company
uses a weighted-average expected life for all awards and has identified one employee population.
Expected volatility uses the Company stocks historical volatility for the same period of time as
the expected life. The Company has no reason to believe its future volatility will differ from the
past. The risk-free interest rate is based on the U.S. Treasury rate in effect at the time of the
grant for the same period of time as the expected life. Expected dividend yield is zero, as the
Company historically has not paid dividends.
Share-based compensation expense related to employee stock options, restricted stock and
restricted stock units, net of estimated forfeitures, for both the three months ended June 30, 2008
and 2007 was $288,000. These amounts are included in general and administrative expenses in the
Consolidated Statements of Operations. No amount of share-based compensation was capitalized.
10
Note 5 Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share:
(In thousands, except per share data)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
June 30, |
|
|
|
2008 |
|
|
2007 |
|
Numerator: |
|
|
|
|
|
|
|
|
Net income from continuing operations |
|
$ |
627 |
|
|
$ |
1,906 |
|
|
|
|
|
|
|
|
Denominator: |
|
|
|
|
|
|
|
|
Denominator for basic earnings per shareweighted-average shares |
|
|
36,186 |
|
|
|
35,985 |
|
Dilutive securities: Employee stock options and warrants |
|
|
64 |
|
|
|
291 |
|
|
|
|
|
|
|
|
Denominator for diluted earnings per shareadjusted
weighted-average shares |
|
|
36,250 |
|
|
|
36,276 |
|
|
|
|
|
|
|
|
Net earnings per share from continuing operations: |
|
|
|
|
|
|
|
|
Basic earnings per share |
|
$ |
.02 |
|
|
$ |
.05 |
|
|
|
|
|
|
|
|
Diluted earnings per share |
|
$ |
.02 |
|
|
$ |
.05 |
|
|
|
|
|
|
|
|
Approximately 3.2 million and 3.0 million of the Companys stock options and restricted stock
awards were excluded from the calculation of diluted earnings per share for the three months ended
June 30, 2008 and 2007, respectively, because the exercise prices of the stock options and
restricted stock awards were greater than the average market price of the Companys common stock
and therefore their inclusion would have been anti-dilutive.
The effect of the inclusion of warrants for the both the three months ended June 30, 2008 and
2007 would have been anti-dilutive. Approximately 1.6 million warrants were excluded for the three
month periods ended June 30, 2008 and 2007, respectively because the exercise prices of the
warrants was greater than the average price of the Companys common stock and therefore their
inclusion would have been anti-dilutive.
Note 6 Shareholders Equity
The Company has 10,000,000 shares of preferred stock, no par value, which is authorized. No
preferred shares are issued or outstanding.
The Company did not repurchase any shares during the three months ended June 30, 2008 and
2007.
Note 7 Accounts Receivable
Accounts receivable consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Trade receivables |
|
$ |
97,112 |
|
|
$ |
87,801 |
|
Vendor receivables |
|
|
4,917 |
|
|
|
2,575 |
|
Other receivables |
|
|
1,480 |
|
|
|
1,847 |
|
|
|
|
|
|
|
|
|
|
$ |
103,509 |
|
|
$ |
92,223 |
|
Less: allowance for doubtful accounts and sales discounts |
|
|
4,965 |
|
|
|
6,067 |
|
Less: allowance for sales returns, net margin impact |
|
|
10,016 |
|
|
|
9,350 |
|
|
|
|
|
|
|
|
Total |
|
$ |
88,528 |
|
|
$ |
76,806 |
|
|
|
|
|
|
|
|
11
Note 8 Prepaid Expenses and Other Assets
Prepaid expenses and other assets consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Prepaid royalties |
|
$ |
11,986 |
|
|
$ |
11,297 |
|
Other |
|
|
1,885 |
|
|
|
821 |
|
|
|
|
|
|
|
|
Total |
|
$ |
13,871 |
|
|
$ |
12,118 |
|
|
|
|
|
|
|
|
Note 9 Inventories
Inventories, net of reserves, consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Finished products |
|
$ |
33,819 |
|
|
$ |
23,545 |
|
Consigned inventory |
|
|
2,264 |
|
|
|
2,569 |
|
Raw materials |
|
|
5,963 |
|
|
|
6,540 |
|
|
|
|
|
|
|
|
Total |
|
$ |
42,046 |
|
|
$ |
32,654 |
|
|
|
|
|
|
|
|
Consigned inventory represents the Companys inventory at customers where revenue recognition
criteria have not been met.
Note 10 License Fees
License fees consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
License fees |
|
$ |
42,499 |
|
|
$ |
40,110 |
|
Less: accumulated amortization |
|
|
20,647 |
|
|
|
19,595 |
|
|
|
|
|
|
|
|
Total |
|
$ |
21,852 |
|
|
$ |
20,515 |
|
|
|
|
|
|
|
|
Amortization of license fees for the three months ended June 30, 2008 and 2007 were $1.1
million and $1.7 million, respectively. These amounts have been included in royalty expense in
cost of sales in the accompanying Consolidated Statements of Operations.
License fees represent advance license/royalty payments made to program suppliers for
exclusive distribution rights. A program suppliers share of distribution revenues
(participation/royalty cost) is retained by the Company until the share equals the license fees
paid to the program supplier plus recoupable production costs. Thereafter, any excess is paid to
the program supplier.
License fees are amortized as recouped by the Company which equals participation/royalty costs
earned by the program suppliers. Participation/royalty costs are accrued/expensed in the same ratio
that current period revenue for a title or group of titles bear to the estimated remaining
unrecognized ultimate revenue for that title, as defined by SOP 00-2. When estimates of total
revenues and costs indicate that an individual title will result in an ultimate loss, an impairment
charge is recognized to the extent that license fees and production costs exceed estimated fair
value, based on cash flows, in the period when estimated.
12
Note 11 Production Costs
Production costs consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Production costs |
|
$ |
16,334 |
|
|
$ |
14,755 |
|
Less: accumulated amortization |
|
|
8,220 |
|
|
|
7,439 |
|
|
|
|
|
|
|
|
Total |
|
$ |
8,114 |
|
|
$ |
7,316 |
|
|
|
|
|
|
|
|
Amortization of production costs for the three months ended June 30, 2008 and 2007 was
$781,000, and $581,000, respectively. These amounts have been included in cost of sales in the
accompanying Consolidated Statements of Operations.
Production costs represent unamortized costs of films and television programs, which have been
produced by the Company or for which the Company has acquired distribution rights. Costs of
produced films and television programs include all production costs, which are expected to be
recovered from future revenues. Amortization of production costs is determined based on the ratio
that current revenue earned from the films and television programs bear to the ultimate future
revenue, as defined by American Institute of Certified Public Accountants Statement of Position
00-2 (SOP 00-2), Accounting by Producers or Distributors of Films.
When estimates of total revenues and costs indicate that an individual title will result in an
ultimate loss, an impairment charge is recognized to the extent that license fees and production
costs exceed estimated fair value, based on discounted cash flows, in the period when estimated.
Note 12 Property and Equipment
Property and equipment consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Furniture and fixtures |
|
$ |
1,336 |
|
|
$ |
1,332 |
|
Computer and office equipment |
|
|
15,989 |
|
|
|
14,944 |
|
Warehouse equipment |
|
|
9,599 |
|
|
|
9,564 |
|
Production equipment |
|
|
1,071 |
|
|
|
917 |
|
Leasehold improvements |
|
|
2,060 |
|
|
|
2,060 |
|
Construction in progress |
|
|
4,054 |
|
|
|
2,848 |
|
|
|
|
|
|
|
|
Total |
|
|
34,109 |
|
|
|
31,665 |
|
Less: accumulated depreciation and amortization |
|
|
15,584 |
|
|
|
14,484 |
|
|
|
|
|
|
|
|
Net property and equipment |
|
$ |
18,525 |
|
|
$ |
17,181 |
|
|
|
|
|
|
|
|
Note 13 Assets Held for Sale
At June 30, 2008 and March 31, 2008, the Company was in the market to sell real estate and
related assets located in Decatur, Texas, due to the move of FUNimations inventory to the
Minnesota distribution center. The assets remaining at June 30, 2008 and March 31, 2008 are no
longer being depreciated and are carried at their net book value as of the date of discontinued use
as assets held for sale on the Consolidated Balance Sheets.
13
Note 14 Intangible Assets
Identifiable intangible assets, with zero residual value, net of amortization, of $9.0 million
and $10.0 million as of June 30, 2008 and March 31, 2008, respectively, are being amortized (except
for the trademark) over useful lives ranging from between three and seven and one half years and
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of June 30, 2008 |
|
|
|
Gross carrying |
|
|
Accumulated |
|
|
|
|
|
|
amount |
|
|
amortization |
|
|
Net |
|
Masters |
|
$ |
9,687 |
|
|
$ |
7,084 |
|
|
$ |
2,603 |
|
License relationships |
|
|
20,078 |
|
|
|
15,296 |
|
|
|
4,782 |
|
Domain name |
|
|
70 |
|
|
|
21 |
|
|
|
49 |
|
Other (not amortized) |
|
|
1,568 |
|
|
|
|
|
|
|
1,568 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
31,403 |
|
|
$ |
22,401 |
|
|
$ |
9,002 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of March 31, 2008 |
|
|
|
Gross carrying |
|
|
Accumulated |
|
|
|
|
|
|
amount |
|
|
amortization |
|
|
Net |
|
Masters |
|
$ |
9,448 |
|
|
$ |
6,550 |
|
|
$ |
2,898 |
|
License relationships |
|
|
20,078 |
|
|
|
14,612 |
|
|
|
5,466 |
|
Domain name |
|
|
70 |
|
|
|
18 |
|
|
|
52 |
|
Other (not amortized) |
|
|
1,568 |
|
|
|
|
|
|
|
1,568 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
31,164 |
|
|
$ |
21,180 |
|
|
$ |
9,984 |
|
|
|
|
|
|
|
|
|
|
|
Aggregate amortization expense for the three months ended June 30, 2008 and 2007 were $1.2
million and $1.4 million, respectively.
Based on the intangibles in service as of June 30, 2008, estimated future amortization expense
is as follows (in thousands):
|
|
|
|
|
Remainder of fiscal 2009 |
|
$ |
3,609 |
|
2010 |
|
|
2,572 |
|
2011 |
|
|
686 |
|
2012 |
|
|
242 |
|
2013 |
|
|
301 |
|
Thereafter |
|
|
2 |
|
Debt issuance costs
Debt issuance costs are amortized over the life of the related debt and are included in Other
assets. Debt issuance costs totaled $739,000 and $1.2 million at June 30, 2008 and March 31, 2008,
respectively. Accumulated amortization amounted to approximately $209,000 and $338,000 at June 30,
2008 and March 31, 2008, respectively. Amortization expense is included in interest expense in the
accompanying Consolidated Statements of Operations. During fiscal year 2009, the Company wrote-off
$490,000 in debt acquisition costs, which is included in interest expense, related to previous debt
agreements.
Note 15 Accrued Expenses
Accrued expenses consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
March 31, |
|
|
|
2008 |
|
|
2008 |
|
Compensation and benefits |
|
$ |
2,841 |
|
|
$ |
3,818 |
|
Royalties |
|
|
5,752 |
|
|
|
7,830 |
|
Rebates |
|
|
1,886 |
|
|
|
1,955 |
|
Deferred revenue |
|
|
646 |
|
|
|
121 |
|
Interest |
|
|
174 |
|
|
|
495 |
|
Other |
|
|
1,652 |
|
|
|
1,899 |
|
|
|
|
|
|
|
|
Total |
|
$ |
12,951 |
|
|
$ |
16,118 |
|
|
|
|
|
|
|
|
14
Note 16 Bank Financing and Debt
At March 31, 2008, the Company was a party to a credit agreement which provided for a senior
secured three-year $95.0 million revolving credit facility. The revolving facility was available
for working capital and general corporate needs and was subject to a borrowing base requirement.
The revolving facility was secured by a first priority security interest in all of the Companys
assets, as well as the capital stock of its subsidiary companies. At March 31, 2008 the Company had
$31.3 million outstanding.
At March 31, 2008, the Company was also a party to a credit agreement which provided for a
four-year $15.0 million Term Loan facility which expired on March 22, 2011. The Term Loan facility
called for monthly installments of $12,500, annual excess cash flow payments and final payment of
$9.4 million on March 22, 2011. The facility was secured by a second priority security interest in
all of the assets of the Company. At March 31, 2008 the Company had $9.7 million outstanding on the
Term Loan facility which was paid in full on June 12, 2008.
On June 12, 2008, the Company entered into a Third Amendment and Waiver to Fourth Amended and
Restated Credit Agreement (the Amendment) with General Electric Capital Corporation. The
Amendment, among other things, revised the terms of the Fourth Amended and Restated Credit
Agreement (the GE Facility) as follows: (i) permitted the Company to pay off the remaining $9.7
million balance of the term loan facility with Monroe Capital Advisors, LLC; (ii) created a $6.0
million tranche of borrowings subject to interest at the index rate plus 6.25%, or LIBOR plus 7.5%;
(iii) modified the interest rate payable in connection with borrowings to range from an index rate
of 0.75% to 1.75%, or LIBOR plus 2.0% to 3.0%, depending upon borrowing availability during the
prior fiscal quarter; (iv) extended the term of the GE Facility to March 22, 2012; (v) modified the
prepayment penalty to 1.5% during the first year following the date of the Amendment, 1% during the
second year following the date of the Amendment, and 0.5% during the third year following the date
of the Amendment; and (vi) modified certain financial covenants as of March 31, 2008.
At June 30, 2008 the Company had $48.7 million outstanding related to the amended revolving
credit facility and, based on the facilitys borrowing base and other requirements, excess
availability of $8.8 million. In association with the revolving credit facility, the Company also
pays certain facility and agent fees. Additionally, the credit agreement requires the Company to
pay a prepayment penalty of 1.5% of the outstanding balance on each credit agreement at June 30,
2008. Interest under the revolving facility was at the index rate plus 1% and LIBOR plus 2.25% at
June 30, 2008 (6.0% and 4.7%, respectively) and at the index rate plus .75% and LIBOR plus 2.00% at
March 31, 2008 (6.0% and 4.6%, respectively) and is payable monthly. Interest under the Term Loan
facility was at LIBOR plus 7.5% (10.6% at March 31, 2008).
Under the revolving credit facility the Company was required to meet certain financial and
non-financial covenants. The financial covenants included a variety of financial metrics that were
used to determine the Companys overall financial stability and included limitations on the
Companys capital expenditures, a minimum ratio of EBITDA to fixed charges, minimum EBITDA, and a
maximum of indebtedness to EBITDA and a borrowing base availability requirement. The Company was in
compliance with all the covenants related to the revolving credit facility as of June 30, 2008.
Letters of Credit
The Company is party to letters of credit totaling $250,000 related to a vendor at both June
30, 2008 and March 31, 2008. In the Companys past experience, no claims have been made against
these financial instruments.
Note 17 Private Placement
As of June 30, 2008 and March 31, 2008, the Company had 1,596,001 warrants outstanding related
to a private placement completed March 21, 2006, which includes a warrant to purchase 171,000
shares issued by the Company to its agent in the private placement, Craig-Hallum Capital Group,
LLC. The warrants, which were issued together with the common stock, have a term of five years, are
exercisable at $4.50 per share, and provide the investors the option to require the Company to
repurchase the warrants for a purchase price, payable in cash within five (5) business days after
such request, equal to the Black-Scholes value of any unexercised warrant shares, but only if,
while the warrants are outstanding, the Company initiates the following change in control
transactions: (i) the Company effects any merger or consolidation, (ii) the Company effects any
sale of all or substantially all of its assets, (iii) any tender offer or exchange offer is
completed whereby holders of the Companys common stock are permitted to tender or exchange their
shares for other securities, cash or property, or (iv) the Company effects any reclassification of
the Companys common stock whereby it is effectively converted into or exchanged for other
securities, cash or property. In addition, the Company has the right to require exercise of the
warrants if, among other things, the volume weighted average price of the Companys common stock
exceeds $8.50 per share for each of 30 consecutive trading days.
15
Note 18 Income Taxes
The Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an
interpretation of FASB Statement No. 109 (FIN 48). FIN 48 on April 1, 2007. FIN 48 defines the
threshold for recognizing the benefits of tax positions in the financial statements as
more-likely-than-not to be sustained upon examination. The interpretation also provides guidance
on the de-recognition, measurement and classification of income tax uncertainties, along with any
related interest and penalties. FIN 48 also requires expanded disclosure at the end of each annual
reporting period including a tabular reconciliation of unrecognized tax benefits.
The adoption of FIN 48 resulted in no impact to retained earnings for the Company. At
adoption, the Company had approximately $417,000 of gross unrecognized income tax benefits
(UTBs) as a result of the implementation of FIN 48 and approximately $327,000 of UTBs, net of
federal and state income tax benefits, related to various federal and state matters, that would
impact the effective tax rate if recognized. The Company recognizes interest accrued related to
UTBs in the provision for income taxes. As of April 1, 2007, interest accrued was approximately
$26,000, which is net of federal and state tax benefits. During the three months ended June 30,
2008 an additional $57,000 of UTBs were accrued, which is net of $11,000 of deferred federal and
state income tax benefits. As of June 30, 2008, interest accrued was $66,000 and total UTBs, net
of deferred federal and state income tax benefits were $791,000.
The Companys federal income tax returns for tax years ending in 2004 through 2007 remain
subject to examination by tax authorities. The Company files in numerous state jurisdictions with
varying statues of limitations. The Companys unrecognized state tax benefits are related to state
returns that remain subject to examination by tax authorities from tax years ending in 2003 through
2007. The Company does not anticipate that the total unrecognized tax benefits will significantly
change prior to March 31, 2009.
For the three months ended June 30, 2008 and 2007, the Company recorded income tax expense
from continuing operations of $428,000 and $1.3 million, respectively. The effective income tax
rate for the three months ended June 30, 2008 was 40.6%, compared to 40.8% for the three months
ended June 30, 2007. The effective tax rate for the three months ended June 30, 2008 remained
consistent with the effective rate of the first quarter of fiscal 2008.
For the three months ended June 30, 2008 and 2007, the Company recorded income tax expense
from discontinued operations of zero and $731,000, respectively. The effective income tax rate for
the three months ended June 30, 2008 was 0.0%, compared to 17.1% for the three months ended June
30, 2007. The Company reversed its $1.0 million valuation allowance related to its capital loss
carryforward in the first quarter of fiscal 2008. The sale of the Companys discontinued operations
resulted in a net capital gain, which allowed for the utilization of prior capital losses. The
reversal of the valuation allowance is reflected in discontinued operations in the Consolidated
Statements of Operations.
The Companys overall effective tax rate, including both continuing and discontinued
operations, was 40.6% for the three months ended June 30, 2008 compared to 27.3% for the same
period last year.
It has been determined, based on expectations of future taxable income, that a valuation
reserve for deferred tax assets is not required. Management has determined that it is more likely
than not that the results of the Companys future operations will generate sufficient taxable
income to realize the deferred tax assets.
Note 19 License and Distribution Agreement
The Company has a license and distribution agreement (Agreement) with a vendor that includes
provisions creating minimum royalty fee obligations. The Company will incur royalty expense for the
license fee payable, which is based on product sales for the year. License fee royalties were $1.1
million and $1.5 million for the three months ended June 30, 2008 and 2007, respectively, and are
reflected in cost of sales in the Consolidated Statements of Operations. As of June 30, 2008 and
March 31, 2008, $2.8 million and $2.4 million, respectively, unrecouped license fees paid are
reflected in prepaid assets in the Consolidated Balance Sheets. These minimum royalty fees are
non-refundable, but are calculated based on prior year product sales and are offset by royalties
incurred in order to recoup the payments. The Company monitors these prepaid assets for potential
impairment based on sales activity of products provided to it under this Agreement.
16
Note 20 Commitments and Contingencies
Litigation and Proceedings
In the normal course of business, the Company is involved in a number of
litigation/arbitration and administrative/regulatory matters that, other than the matter described
immediately below, are incidental to the operation of the Companys business. Those proceedings
generally include, among other things, various matters with regard to products distributed by the
Company and the collection of accounts receivable owed to the Company. The Company does not
currently believe that the resolution of any of those pending matters will have a material adverse
effect on the Companys financial position or liquidity, but an adverse decision in more than one
of these matters could be material to the Companys consolidated results of operations. Because of
the preliminary status of the Companys various legal proceedings, as well as the contingencies and
uncertainties associated with these types of matters, it is difficult, if not impossible, to
predict the exposure to the Company, if any.
SEC Investigation
On February 17, 2006, the Company received an inquiry from the Division of Enforcement of the
Securities and Exchange Commission (the SEC) requesting certain documents and information
relating to the Companys restatements of previously-issued financial statements, certain
write-offs, reserve methodologies, and revenue recognition practices. In connection with this
formal non-public investigation, the Company has cooperated fully with the SECs requests.
Note 21 Related Party Transactions
Employment/Severance Agreements
The Company entered into an employment agreement with its former Chief Executive Officer
(CEO) in 2001, which expired on March 31, 2007. Under this agreement, the Company agreed to pay
beginning April 1, 2008, over three years, approximately $2.4 million plus interest at
approximately 8% per annum pursuant to the deferred compensation portion of the arrangement. The
Company expensed $81,000 and $72,000 for this obligation during the three months ended June 30,
2008 and 2007, respectively. At June 30, 2008 and March 31, 2008, $1.4 million and $1.6 million,
respectively, had been accrued in the consolidated financial statements. The employment agreement
also contains a deferred compensation component that was earned by the former CEO upon the stock
price achieving certain targets, which may be forfeited in the event that he does not comply with
certain non-compete obligations. In April 2007, the Company deposited $4.0 million into a Rabbi
trust, under the required terms of the agreement. Beginning April 1, 2008, the Company began to pay
this amount, plus interest at 8%, over three years. At June 30, 2008 and March 31, 2008, $2.7
million and $4.0 million, respectively, had been accrued in the consolidated financial statements.
The Company entered into a separation agreement with a former Chief Financial Officer (CFO)
in fiscal 2004. The Company was required to pay approximately $597,000 over a period of four years
beginning May 2004. The continued payout was contingent upon the individual complying with a
non-compete agreement. This amount was accrued and expensed in fiscal year 2005. The Company paid
$22,000 and $33,000 during the three months ended June 30, 2008 and 2007, respectively, and has no
further obligation as of June 30, 2008.
Employment
Agreement FUNimation
In connection with the FUNimation acquisition, the Company entered into an employment
agreement with a key FUNimation employee providing for his employment as President and Chief
Executive Officer of FUNimation Productions, Ltd. (the FUNimation CEO). Among other items, the
agreement provides the FUNimation CEO with the ability to earn two performance-based bonuses in the
event that certain financial targets are met by the FUNimation business during the fiscal years
ending March 31, 2006-2010. If the total earnings before
interest and tax (EBIT) of the FUNimation business is in excess of $60.0
million during the period consisting of the fiscal years ending March 31, 2009 and 2010, the
FUNimation CEO is entitled to receive a bonus payment in an amount equal to 5% of the EBIT that
exceeds $60.0 million; however, this bonus payment shall not exceed $4.0 million. No amounts have
been expensed or paid under this agreement as the targets have not been achieved.
17
Note 22 Business Segments
The presentation of segment information reflects the manner in which management organizes
segments for making operating decisions and assessing performance. On this basis, the Company has
determined it has two reportable business segments: publishing and distribution.
Financial information by reportable business segment is included in the following summary (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Publishing |
|
Distribution |
|
|
Eliminations |
|
|
Consolidated |
|
Three months ended June 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
27,418 |
|
|
$ |
133,095 |
|
|
$ |
(18,488 |
) |
|
$ |
142,025 |
|
Income (loss) from operations |
|
|
3,444 |
|
|
|
(691 |
) |
|
|
|
|
|
|
2,753 |
|
Income (loss) from continuing operations, before income tax |
|
|
2,431 |
|
|
|
(1,376 |
) |
|
|
|
|
|
|
1,055 |
|
Depreciation and amortization expense |
|
|
1,386 |
|
|
|
935 |
|
|
|
|
|
|
|
2,321 |
|
Capital expenditures |
|
|
242 |
|
|
|
2,202 |
|
|
|
|
|
|
|
2,444 |
|
Total assets |
|
$ |
161,021 |
|
|
$ |
143,189 |
|
|
$ |
(1,021 |
) |
|
$ |
303,189 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Publishing |
|
Distribution |
|
|
Eliminations |
|
|
Consolidated |
|
Three months ended June 30, 2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
29,624 |
|
|
$ |
123,889 |
|
|
$ |
(16,491 |
) |
|
$ |
137,022 |
|
Income (loss) from operations |
|
|
3,030 |
|
|
|
1,573 |
|
|
|
|
|
|
|
4,603 |
|
Income from continuing operations, before income tax |
|
|
1,977 |
|
|
|
1,243 |
|
|
|
|
|
|
|
3,220 |
|
Depreciation and amortization expense |
|
|
1,534 |
|
|
|
684 |
|
|
|
|
|
|
|
2,218 |
|
Capital expenditures |
|
|
108 |
|
|
|
2,697 |
|
|
|
|
|
|
|
2,805 |
|
Total assets |
|
$ |
155,069 |
|
|
$ |
235,398 |
|
|
$ |
(100,459 |
) |
|
$ |
290,008 |
|
18
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
Executive Summary
Consolidated net sales for the first quarter of fiscal 2009 increased 3.7% to $142.0 million
compared to $137.0 million for the first quarter of fiscal 2008. The increase in net sales is due
to growth in our distribution business. Areas of strength in the distribution business were video
game new releases and DVD video sales. Our gross profit was $22.1 million or 15.6% of net sales in
the first quarter fiscal 2009 compared with $24.0 million or 17.5% of net sales for the same period
in fiscal 2008. The decline in gross profit is primarily due to reduced sales in the publishing
segment and product mix within both the publishing and distribution segments.
Total operating expenses for the first quarter of fiscal 2009 were $19.4 million or 13.6% of
net sales, compared with $19.4 million or 14.1% of net sales in the same period for fiscal 2008. We
experienced a decrease in selling and marketing expenses due to a reduction of discretionary
spending and reduced personnel costs, which were offset by an increase in general and
administrative expenses primarily due to costs associated with the implementation of a new ERP
system. Net income from continuing operations for the first quarter fiscal 2009 was $627,000 or
$0.02 per diluted share compared to $1.9 million or $0.05 per diluted share from continuing
operations for the same period last year.
Discontinued Operations
On May 31, 2007, we sold all of the outstanding capital stock of our wholly-owned subsidiary,
Navarre Entertainment Media, Inc. (NEM) to an outside party and we have presented the independent
music distribution business as discontinued operations. The Company received $6.5 million in cash
proceeds from the sale, plus the assignment to the Company of the trade receivables related to this
business. The consolidated financial statements were reclassified to segregate the assets,
liabilities and operating results of the discontinued operations for all periods presented. Prior
to reclassification, discontinued operations were reported in the distribution segment.
As part of this transaction, we recorded a gain in the first quarter of fiscal 2008 of $6.1
million ($4.6 million net of tax), which included severance and legal costs of $339,000 and other
direct costs to sell of $842,000. The gain is included in Gain on sale of discontinued operations
in the Consolidated Statements of Operations.
Net sales from discontinued operations for the three months ended June 30, 2008 and 2007 were
zero and $5.1 million, respectively. Net income from discontinued operations for the first quarter
of fiscal 2009 was zero compared to net income from discontinued operations of $3.5 million or
$0.10 per diluted share for the same period last year.
Working Capital and Debt
Our business requires significant levels of working capital primarily to finance accounts
receivable and inventories. We have relied on trade credit from vendors, amounts received on
accounts receivable and our revolving credit facility for our working capital needs. In March 2007,
we amended and restated our credit agreement with General Electric Capital Corporation (GE) and
entered into a four year Term Loan facility with Monroe Capital Advisors, LLC (Monroe). The GE
agreement provided for a $95.0 million revolving credit facility and the Monroe agreement provided
for a $15.0 million Term Loan facility.
On June 12, 2008, we entered into a Third Amendment and Waiver to Fourth Amended and Restated
Credit Agreement (the Amendment) with GE. The Amendment, among other things, revised the terms of
the Fourth Amended and Restated Credit Agreement (the GE Facility) as follows: (i) permitted us
to pay off the remaining $9.7 million balance of the term loan facility with Monroe; (ii) created a
$6.0 million tranche of borrowings subject to interest at the index rate plus 6.25%, or LIBOR plus
7.5%; (iii) modified the interest rate payable in connection with borrowings to range from an index
rate of 0.75% to 1.75%, or LIBOR plus 2.0% to 3%, depending upon borrowing availability during the
prior fiscal quarter; (iv) extended the term of the GE Facility to March 22, 2012; (v) modified the
prepayment penalty to 1.5% during the first year following the date of the Amendment, 1% during the
second year following the date of the Amendment, and 0.5% during the third year following the date
of the Amendment; and (vi) modified certain financial covenants as of March 31, 2008.
At June 30, 2008 and March 31, 2008 we had $48.7 million and $31.3 million, respectively,
outstanding on the revolving facility and, based on the facilitys borrowing base and other
requirements, approximately $8.8 million and $11.9 million, respectively, was available. At March
31, 2008 we had $9.7 million outstanding related to our Term Loan facility, which was paid in full
on June 12, 2008 in connection with the amendment to the GE revolving facility.
19
Interest under the revolving facility was at the index rate plus 1% and LIBOR plus 2.25% at
June 30, 2008 (6.0% and 4.7%, respectively) and at the index rate plus .75% and LIBOR plus 2.00% at
March 31, 2008 (6.0% and 4.6%, respectively) and is payable monthly. Interest under the Term Loan
facility was at LIBOR plus 7.5% (10.6% at March 31, 2008).
Overview
We are a publisher and distributor of physical and digital home entertainment and multimedia
products, including PC software, DVD video, video games and accessories. Our business is divided
into two business segments publishing and distribution. We believe our established relationships
throughout the supply chain, our broad product offering and our distribution facility permit us to
offer industry-leading home entertainment and multimedia products to our retail customers and to
provide access to attractive retail channels for the publishers of such products.
Our broad base of customers includes: (i) wholesale clubs, (ii) mass merchandisers, (iii)
other third-party distributors, (iv) computer specialty stores, (v) discount retailers, (vi) book
stores, (vii) office superstores, and (viii) electronic superstores. We currently distribute to
over 19,000 retail and distribution center locations throughout the United States and Canada.
Through our publishing business, which generally has higher gross margins than our
distribution business, we own or license various PC software, DVD video titles and other related
merchandising and broadcasting rights. Our publishing segment packages, brands, markets and sells
directly to retailers, third-party distributors and our distribution business. Our publishing
segment currently consists of Encore, BCI and FUNimation. Encore licenses and publishes personal
productivity, genealogy, utility, education and interactive gaming PC products. BCI is a provider
of niche DVD video products. FUNimation is the leading provider of anime home video products in the
United States.
Through our distribution business, we distribute and provide fulfillment services in
connection with a variety of finished goods that are provided by our vendors, which include PC
software, DVD video, video games, accessories and independent music labels (through May 2007).
These vendors provide us with products which we, in turn, distribute to our retail customers. Our
distribution business focuses on providing vendors and retailers with a range of value-added
services including: vendor-managed inventory, Internet-based ordering, electronic data interchange
services, fulfillment services and retailer-oriented marketing services.
Forward-Looking Statements / Important Risk Factors
We make written and oral statements from time to time regarding our business and prospects,
such as projections of future performance, statements of managements plans and objectives,
forecasts of market trends, and other matters that are forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934. Statements containing the words or phrases will likely result, are expected to, will
continue, is anticipated, estimates, projects, believes, expects, anticipates,
intends, target, goal, plans, objective, should or similar expressions identify
forward-looking statements, which may appear in documents, reports, filings with the SEC, including
this Report on Form 10-Q, news releases, written or oral presentations made by officers or other
representatives made by us to analysts, shareholders, investors, news organizations and others and
discussions with management and other representatives of us. For such statements, we claim the
protection of the safe harbor for forward-looking statements contained in the Private Securities
Litigation Reform Act of 1995.
Our future results, including results related to forward-looking statements, involve a number
of risks and uncertainties. No assurance can be given that the results reflected in any
forward-looking statements will be achieved. Any forward-looking statement made by or on behalf of
us speaks only as of the date on which such statement is made. Our forward-looking statements are
based on assumptions that are sometimes based upon estimates, data, communications and other
information from suppliers, government agencies and other sources that may be subject to revision.
Except as required by law, we do not undertake any obligation to update or keep current either (i)
any forward-looking statement to reflect events or circumstances arising after the date of such
statement, or (ii) the important factors that could cause our future results to differ materially
from historical results or trends, results anticipated or planned by us, or which are reflected
from time to time in any forward-looking statement which may be made by or on behalf of us.
In addition to other matters identified or described by us from time to time in filings with
the SEC, there are several important factors that could cause our future results to differ
materially from historical results or trends, results anticipated or planned by us, or results that
are reflected from time to time in any forward-looking statement that may be made by or on behalf
of us. Some of these important factors, but not necessarily all important factors, include the
following: the Companys revenues being derived from a small group of customers; the Companys
dependence on significant vendors and manufacturers and the popularity of their products; pending
litigation or regulatory investigation may subject the Company to significant costs; pending SEC
investigation or litigation could subject the Company to significant costs, judgments or penalties
and could divert managements attention; some revenues are dependent on
20
consumer preferences and demand; the seasonality and variability in the Companys business and
that decreased sales during peak season could adversely affect its results of operations; the
Companys dependence on a small number of licensed property and licensors in the anime genre; some
revenues are substantially dependent on television exposure; technological developments,
particularly in the electronic downloading arena which could adversely impact sales, margins and
results of operations; increased counterfeiting or piracy which could negatively affect demand for
the Companys products; the Company may not be able to protect its intellectual property; the loss
of key personnel could effect the depth, quality and effectiveness of the management team; the
Companys ability to meet its significant working capital requirements or if working capital
requirements change significantly; product returns or inventory obsolescence could reduce sales and
profitability or negatively impact the Companys liquidity; the potential for inventory values to
decline; the Companys credit exposure due to reseller arrangements or negative trends which could
cause credit loss; the Companys ability to adequately and timely adjust cost structure for
decreased demand; the Companys ability to compete effectively in distribution and publishing,
which are highly competitive industries; the Companys dependence on third-party shipping of its
product; the Companys dependence on information systems; failure to implement our new enterprise
resource planning system in an effective and timely manner could impact operations and reporting of
financial results; the acquisition strategy of the Company could disrupt other business segments
and/or management; interruption of the Companys business or catastrophic loss at a facility which
could curtail or shutdown its business; the potential for future terrorist activities to disrupt
operations or harm assets; increased costs related to legislative actions, insurance costs and new
accounting pronouncements could impact results of operations; the level of indebtedness could
adversely affect the Company s financial condition; a change in interest rates on our variable
rate debt could adversely impact the Companys operations; the Company may be unable to generate
sufficient cash flow to service debt obligations; the Company may incur additional debt, which
could exacerbate the risks associated with current debt levels; the Companys debt agreements limit
our operating and financial flexibility; fluctuations in stock price could adversely affect the
Companys ability to raise capital or make our securities undesirable; the exercise of outstanding
warrants and options adversely affecting stock price; the Companys anti-takeover provisions, its
ability to issue preferred stock and its staggered board may discourage take-over attempts
beneficial to shareholders; the Company does not plan to pay dividends on common stock, thus
shareholders should not expect a return on investment through dividend payments; and the Companys
directors may not be personally liable for certain actions which may discourage shareholder suits
against them.
A detailed statement of risks and uncertainties is contained in our reports to the SEC,
including, in particular, our Annual Report on Form 10-K for the year ended March 31, 2008 and
other public filings and disclosures. Investors and shareholders are urged to read these documents
carefully.
Critical Accounting Policies
We consider our critical accounting policies to be those related to revenue recognition,
production costs and license fees, allowance for doubtful accounts, goodwill and intangible assets,
impairment of long-lived assets, inventory valuation, share-based compensation, income taxes, and
contingencies and litigation. There have been no material changes to these critical accounting
policies as discussed in greater detail under this heading in Item 7 Managements Discussion and
Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for
the year ended March 31, 2008.
Reconciliation of GAAP Net Sales to Net Sales Before Inter-Company Eliminations
In evaluating our financial performance and operating trends, management considers information
concerning net sales before inter-company eliminations of sales. Management believes these non-GAAP
measures are useful because they provide supplemental information that facilitates comparisons to
prior periods and for the evaluation of financial results. Management uses these non-GAAP measures
to evaluate financial results, develop budgets and manage expenditures. The method we use to
produce non-GAAP results is likely to differ from the methods used by other companies and should
not be regarded as a replacement for corresponding GAAP measures. Net sales before inter-company
eliminations has limitations as a supplemental measure, and you should not consider it in isolation
or as a substitute for analysis of our results as reported under GAAP.
21
The following table represents a reconciliation of GAAP net sales to net sales before
inter-company eliminations:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
June 30, |
|
|
|
(Unaudited) |
|
(In thousands) |
|
2008 |
|
|
2007 |
|
Net sales: |
|
|
|
|
|
|
|
|
Publishing |
|
$ |
27,418 |
|
|
$ |
29,624 |
|
Distribution |
|
|
133,095 |
|
|
|
123,889 |
|
|
|
|
|
|
|
|
Net sales before inter-company eliminations |
|
|
160,513 |
|
|
|
153,513 |
|
Inter-company sales |
|
|
(18,488 |
) |
|
|
(16,491 |
) |
|
|
|
|
|
|
|
Net sales as reported |
|
$ |
142,025 |
|
|
$ |
137,022 |
|
|
|
|
|
|
|
|
Results of Operations
The following table sets forth for the periods indicated the percentage of net sales
represented by certain items included in our Consolidated Statements of Operations.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
June 30, |
|
|
(Unaudited) |
|
|
2008 |
|
|
2007 |
|
Net sales: |
|
|
|
|
|
|
|
|
Publishing |
|
|
19.4 |
% |
|
|
21.6 |
% |
Distribution |
|
|
93.6 |
|
|
|
90.4 |
|
Inter-company sales |
|
|
(13.0 |
) |
|
|
(12.0 |
) |
|
|
|
|
|
|
|
|
|
Total net sales |
|
|
100.0 |
|
|
|
100.0 |
|
Cost of sales, exclusive of amortization and depreciation |
|
|
84.4 |
|
|
|
82.5 |
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
15.6 |
|
|
|
17.5 |
|
|
|
|
|
|
|
|
|
|
Operating expenses |
|
|
|
|
|
|
|
|
Selling and marketing |
|
|
4.0 |
|
|
|
5.0 |
|
Distribution and warehousing |
|
|
2.0 |
|
|
|
2.0 |
|
General and administrative |
|
|
6.0 |
|
|
|
5.5 |
|
Depreciation and amortization |
|
|
1.6 |
|
|
|
1.6 |
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
13.6 |
|
|
|
14.1 |
|
|
|
|
|
|
|
|
|
|
Income from operations |
|
|
2.0 |
|
|
|
3.4 |
|
Interest expense |
|
|
(1.1 |
) |
|
|
(1.2 |
) |
Other income (expense), net |
|
|
(0.1 |
) |
|
|
0.2 |
|
|
|
|
|
|
|
|
|
|
Income from continuing operations before taxes |
|
|
0.8 |
|
|
|
2.4 |
|
Income tax expense |
|
|
(0.3 |
) |
|
|
(1.0 |
) |
|
|
|
|
|
|
|
|
|
Net income from continuing operations |
|
|
0.5 |
|
|
|
1.4 |
|
Discontinued operations, net of tax |
|
|
|
|
|
|
|
|
Gain on sale of discontinued operations |
|
|
|
|
|
|
3.4 |
|
Income (loss) from discontinued operations |
|
|
|
|
|
|
(0.8 |
) |
|
|
|
|
|
|
|
|
|
Net income |
|
|
0.5 |
% |
|
|
4.0 |
% |
|
|
|
|
|
|
|
|
|
22
Publishing Segment
The publishing segment includes Encore, BCI and FUNimation.
Fiscal 2009 First Quarter Results Compared With Fiscal 2008 First Quarter
Net Sales
Net sales for the publishing segment were $27.4 million (before inter-company eliminations)
for the first quarter fiscal 2009 compared to $29.6 million (before inter-company eliminations) for
the first quarter fiscal 2008. The 7.4% decrease in net sales over the prior year quarter was
primarily due to a lack of new releases in the software category and stronger anime releases in the
prior year. The Company believes sales results in the future will be dependent upon its ability to
continue to add new, appealing content and upon the strength of the retail environment.
Gross Profit
Gross profit for the publishing segment was $10.3 million or 37.5% of net sales for the first
quarter of fiscal 2009 compared to $11.4 million or 38.3% of net sales for the first quarter of
fiscal 2008. The decrease in gross profit is a result of decreased sales and product sales mix. We
expect gross profit rates to fluctuate depending principally upon the make-up of product sales each
quarter.
Operating Expenses
Total operating expenses decreased $1.5 million for the publishing segment to $6.8 million or
24.9% of net sales, for the first quarter of fiscal 2009, from $8.3 million or 28.1% of net sales,
for the first quarter of fiscal 2008.
Selling and marketing expenses for the publishing segment were $2.8 million or 10.4% of net
sales for the first quarter of fiscal 2009 compared to $3.8 million or 13.0% of net sales for the
first quarter of fiscal 2008. The decrease is principally due to a reduction of marketing and
advertising program expense and personnel cost savings.
General and administrative expenses for the publishing segment consist principally of
executive, accounting and administrative personnel and related expenses, including professional
fees. General and administrative expenses for the publishing segment were $2.6 million or 9.5% of
net sales for the first quarter of fiscal 2009 compared to $2.9 million or 9.9% of net sales for
the first quarter of fiscal 2008. The decrease is primarily due to reduced personnel costs.
Bad debt expense for the publishing segment was zero for the first quarter of fiscal 2009
compared to $15,000 for the same period last year.
Depreciation and amortization for the publishing segment was $1.4 million for the first
quarter of fiscal 2009 compared to $1.5 million for the first quarter of fiscal 2008. The decrease
is primarily due to a reduction in amortization expense related to acquisition related intangibles.
Operating Income
The publishing segment had net operating income from continuing operations of $3.4 million for
the first quarter of fiscal 2009 compared to $3.0 million for the first quarter of fiscal 2008.
Distribution Segment
The distribution segment distributes PC software, DVD video, video games, accessories, and
independent music (through May 2007).
Fiscal 2009 First Quarter Results Compared With Fiscal 2008 First Quarter
Net Sales
Net sales for the distribution segment increased 7.4% to $133.1 million (before inter-company
eliminations) for the first quarter of fiscal 2009 compared to $123.9 million (before inter-company
eliminations) for the first quarter of fiscal 2008. Net sales remained
23
relatively flat in the software product group at $105.5 million during the first quarter of
fiscal 2009 from $106.5 million for the same period last year. DVD video net sales increased to
$13.7 million in the first quarter of fiscal 2009 from $11.4 million in first quarter of fiscal
2008, due primarily to an increase in sales resulting from a vendor managed inventory program with
a major electronics retailer. Video games net sales increased to $13.9 million in the first quarter
of fiscal 2009 from $6.0 million for the same period last year, due to several new product releases
in the quarter. The Company believes future sales results will be dependent on the Companys
ability to continue to add new, appealing content and upon the strength of the retail environment.
Gross Profit
Gross profit for the distribution segment was $11.9 million or 8.9% of net sales for the first
quarter fiscal 2009 compared to $12.6 million or 10.2% of net sales for first quarter fiscal 2008.
The decrease in gross profit is a result of a decrease in the gross profit rate as a percentage of
sales, due to product mix. We expect gross profit rates to fluctuate depending principally upon the
make-up of product sales each quarter.
Operating Expenses
Total operating expenses for the distribution segment were $12.5 million or 9.4% of net sales
for the first quarter of fiscal 2009 compared to $11.1 million or 8.9% as a percent of net sales
for the first quarter of fiscal 2008. Overall expenses for selling and marketing and bad debt
expense decreased, which partially offset the increases in general and administrative expenses,
distribution and warehouse and depreciation and amortization.
Selling and marketing expenses for the distribution segment decreased to $2.9 million or 2.2%
of net sales for the first quarter of fiscal 2009 compared to $3.1 million or 2.5% of net sales for
the first quarter of fiscal 2008.
Distribution and warehousing expenses for the distribution segment were $2.9 million or 2.2%
of net sales for the first quarter of fiscal 2009 compared to $2.7 million or 2.2% as a percent of
net sales for the first quarter of fiscal 2008.
General and administrative expenses for the distribution segment consist principally of
executive, accounting and administrative personnel and related expenses, including professional
fees. General and administrative expenses for the distribution segment were $5.9 million or 4.4% of
net sales for the first quarter of fiscal 2009 compared to $4.5 million or 3.7% of net sales for
the first quarter of fiscal 2008. The increase in the first quarter of fiscal 2009 is primarily a
result of re-integration of personnel previously assigned to our ERP project and ERP expenses
related to the implementation of the warehouse management phase.
Bad debt expense for the distribution segment was zero for the first quarter of fiscal 2009
compared to $40,000 in the same period last year.
Depreciation and amortization for the distribution segment was $935,000 for the first quarter
of fiscal 2009 compared to $684,000 for the first quarter of fiscal 2008. This increase is
primarily due to the depreciation of the new ERP system.
Operating Income (Loss)
Net operating loss from continuing operations for the distribution segment was $691,000 for
the first quarter of fiscal 2009 compared to net operating income of $1.6 million for the first
quarter of fiscal 2008.
Consolidated Other Income and Expense
Interest expense was $1.6 million for first quarter of fiscal 2009 compared to $1.7 million
for first quarter of fiscal 2008. The decrease in interest expense for first quarter of fiscal 2009
is a result of a reduction in debt and effective interest rates offset by the write-off of debt
acquisition fees and prepayment penalty fees. Interest income, which primarily relates to interest
on available cash balances, was $15,000 for the first quarter of fiscal 2009 compared to $68,000
for the same period last year. Other income (expense), net, for the three months ended June 30,
2008 was net expense of $98,000 and related to foreign exchange loss. Other income (expense), net,
for the three months ended June 30, 2007 was net income of $223,000 and consisted primarily of
foreign currency gains.
Consolidated Income Tax Expense from Continuing Operations
We recorded consolidated income tax expense for the first quarter of fiscal 2009 of $428,000
or an effective tax rate of 40.6% compared to $1.3 million or an effective tax rate of 40.8% for
first quarter of fiscal 2008.
24
The Company adopted the provisions of FIN 48 on April 1, 2007 which had no impact to retained
earnings. At adoption, the Company had approximately $417,000 of gross unrecognized income tax
benefits (UTBs) and approximately $327,000 of UTBs, net of deferred federal and state income
tax benefits related to various federal and state matters, that would impact the effective tax rate
if recognized. The Company recognizes interest accrued related to UTBs in the provision for income
taxes. As of April 1, 2007, interest accrued was approximately $26,000. During the three months
ended June 30, 2008, an additional $57,000 of UTBs was accrued, which is net of $11,000 of
deferred federal and state income tax benefits. As of June 30, 2008, interest accrued was $66,000
and total UTBs, net of deferred federal and state income tax benefits were $791,000.
Consolidated Net Income from Continuing Operations
For the first quarter of fiscal 2009, we recorded net income of $627,000, compared to net
income of $1.9 million for the same period last year.
Discontinued Operations
For the period ended June 30, 2007, the Company recorded net loss from operations of $1.1
million, net of tax, and a gain on sale of discontinued operations of $4.6 million, net of tax.
Consolidated Net Income
For the first quarter of fiscal 2008, we recorded net income of $627,000, compared to net
income of $5.4 million for the same period last year.
Market Risk
As of June 30, 2008 we had $48.7 million of indebtedness, which was subject to interest rate
fluctuations. Based on these borrowings, which are subject to interest rate fluctuations, a
100-basis point change in LIBOR or index rate would cause the Companys annual interest expense to
change by $487,000.
The Company has a limited number of customers in Canada, where the sales and purchasing
activity results in receivables and accounts payables denominated in Canadian dollars. When these
transactions are translated into U.S. dollars at the effective exchange rate in effect at the time
of each transaction, gain or loss is recognized. These gains and/or losses are reported as a
separate component within other income and expense.
During the three months ended June 30, 2008 the Company had foreign exchange loss of $98,000
compared to foreign exchange gain of $166,000 during the three months ended June 30, 2007. Gain or
loss on these activities is a function of the change in the foreign exchange rate between the sale
or purchase date and the collection or payment of cash. Though the change in the exchange rate is
out of the Companys control, the Company periodically monitors its Canadian activities and can
reduce exposure from the exchange rate fluctuations by limiting these activities or taking other
actions, such as exchange rate hedging.
Seasonality and Inflation
Quarterly operating results are affected by the seasonality of our business. Specifically, our
third quarter (October 1December 31) typically accounts for our largest quarterly revenue figures
and a substantial portion of our earnings. As a distributor of products ultimately sold to
retailers, our business is affected by the pattern of seasonality common to other suppliers of
retailers, particularly during the holiday selling season. Inflation is not expected to have a
significant impact on our business, financial condition or results of operations since we can
generally offset the impact of inflation through a combination of productivity gains and price
increases.
Liquidity and Capital Resources
Operating Activities
Cash used in operating activities for the three months of fiscal 2009 was $9.9 million and
cash provided by operating activities was $500,000 for the same period last year. The net cash used
in operating activities for the three months of fiscal 2009 mainly reflected our net income,
combined with various non-cash charges, including depreciation and amortization of $4.2 million,
write-off of debt acquisition costs of $490,000, share-based compensation of $288,000, deferred
taxes of $1.2 million, a change in deferred compensation of $208,000 and a change in deferred
revenue of $525,000, offset by our working capital demands. The following are changes in the
25
operating assets and liabilities: accounts receivable increased by $11.7 million, reflecting
the timing of sales and cash receipts; inventories increased by $9.4 million, primarily reflecting
higher inventories in anticipation of our second quarter operating needs; prepaid expenses
increased by $1.8 million, primarily reflecting royalty advances in the publishing segment and
timing of payment of insurance premiums; production costs and license fees increased $1.6 million
and $2.4 million, respectively, due to content acquisitions; income taxes receivable increased $1.2
million primarily due to timing of required tax payments and tax refunds, other assets decreased
$201,000 due to amortization and recoupments; accounts payable increased $14.0 million, primarily
as a result of timing of disbursements and increased inventories; and accrued expenses decreased
$3.7 million primarily as a result of timing of disbursements for royalties due vendors, accrued
interest and accrued wages.
The net cash provided by operating activities in the three months of fiscal 2008 of $500,000
was primarily the result of net income, combined with various non-cash charges, including
depreciation and amortization of $4.5 million, share-based compensation of $288,000, deferred taxes
of $669,000 and a change in deferred revenue of $777,000, offset by our working capital demands.
Investing Activities
Cash flows used in investing activities totaled $1.0 million for the three months of fiscal
2009 and $7.1 million for the same period last year. Acquisition of property and equipment and
acquisition of intangible assets totaled $2.4 million and $239,000, respectively, for the three
months of fiscal 2009 and the sale of marketable securities was $1.7 million for the three months
of fiscal 2009. Purchases of property and equipment and acquisition of intangible assets for the
three months of fiscal 2008 were $2.8 million and $335,000, respectively. Purchases of marketable
equity securities totaled $4.0 million for the three months of fiscal 2008, related to the funding
of a Rabbi trust formed for purposes of funding future deferred compensation payments to our former
CEO.
Financing Activities
Cash flows provided by financing activities totaled $6.5 million for the three months of
fiscal 2009 and cash flows provided by financing activities totaled $2.0 million for the three
months of fiscal 2008. The Company had repayments of notes payable-line of credit of $42.1 million,
proceeds from notes payable-line of credit of $59.5 million, repayments on notes payable $9.7
million, payment of deferred compensation of $1.7 million and checks written in excess of cash of
$524,000 for the three months of fiscal 2009. The Company had repayments of notes payable of $2.1
million, proceeds from notes payable-line of credit of $47.7 million and repayments of notes
payable-line of credit of $43.7 million for the three months of fiscal 2008. The Company recorded
proceeds from the exercise of common stock options and warrants of $12,000 and $106,000 for the
three months of fiscal 2009 and 2008, respectively.
Discontinued Operations
Cash flows used in operating activities of discontinued operations were $784,000 and proceeds
from the sale of discontinued operations were $6.5 million for the three months of fiscal 2008.
Capital Resources
In October 2001, we entered into a credit agreement with General Electric Capital Corporation.
The credit agreement was amended and restated on May 11, 2005 in order to provide the Company with
funding to complete the FUNimation acquisition and was amended and restated on June 1, 2005 and
again on March 22, 2007. The credit agreement provided for a senior secured three-year $95.0
million revolving credit facility. The revolving facility was available for working capital and
general corporate needs and was subject to a borrowing base requirement. The revolving facility was
secured by a first priority security interest in all of our assets, as well as the capital stock of
our subsidiary companies. At March 31, 2008 we had $31.3 million outstanding and $11.9 million
available on the revolving facility.
The Company entered into a term loan facility with Monroe Capital Advisors, LLC as
administrative agent, agent and lender on March 22, 2007. The credit agreement provided for a
four-year $15.0 million Term Loan facility which would have expired on March 22, 2011. The Term
Loan facility called for monthly installments of $12,500, annual excess cash flow payments and
final payment on March 22, 2011. The facility was secured by a second priority security interest in
all of the assets of the Company. At March 31, 2008, we had $9.7 million outstanding on the Term
Loan facility, which was paid in full on June 12, 2008 in connection with the amendment to the GE
revolving facility.
On June 12, 2008, the Company entered into a Third Amendment and Waiver to Fourth Amended and
Restated Credit Agreement (the Amendment) with General Electric Capital Corporation. The
Amendment, among other things, revised the terms of the Fourth Amended and Restated Credit
Agreement (the GE Facility) as follows: (i) permitted the Company to pay off the remaining $9.7
26
million balance of the term loan facility with Monroe Capital Advisors, LLC; (ii) created a
$6.0 million tranche of borrowings subject to interest at the index rate plus 6.25%, or LIBOR plus
7.5%; (iii) modified the interest rate payable in connection with borrowings to range from an index
rate of 0.75% to 1.75%, or LIBOR plus 2.0% to 3.0%, depending upon borrowing availability during
the prior fiscal quarter; (iv) extended the term of the GE Facility to March 22, 2012; (v) modified
the prepayment penalty to 1.5% during the first year following the date of the Amendment, 1% during
the second year following the date of the Amendment, and 0.5% during the third year following the
date of the Amendment; and (vi) modified certain financial covenants as of March 31, 2008.
In association with the credit agreement, the Company also pays certain facility and agent
fees. Interest under the revolving facility was at the index rate plus 1.0% and LIBOR plus 2.25%
(6.0% and 4.7%, respectively, at June 30, 2008) and is payable monthly.
Under the revolving credit facility the Company is required to meet certain financial and
non-financial covenants. The financial covenants include a variety of financial metrics regarding
our overall financial stability and include limitations on our capital expenditures, a minimum
ratio of EBITDA to fixed charges, minimum EBITDA, a maximum of indebtedness to EBITDA and a
borrowing base availability requirement. We were in compliance with all the covenants related to
the revolving credit facility as of June 30, 2008.
Liquidity
We continually monitor our actual and forecasted cash flows, our liquidity and our capital
resources. We plan for potential fluctuations in accounts receivable, inventory and payment of
obligations to creditors and unbudgeted business activities that may arise during the year as a
result of changing business conditions or new opportunities. In addition to working capital needs
for the general and administrative costs of our ongoing operations, we have cash requirements for
among other things: (1) investments in our publishing segment in order to license content; (2)
investments in our distribution segment in order to sign exclusive distribution agreements; (3)
equipment needs for our operations; (4) amounts payable to our former Chief Executive Officer for
post-retirement benefits; and (5) amounts payable in connection with the licensing and
implementation of an enterprise resource planning system (ERP) that we have undertaken. During
the first three months of fiscal 2009, we invested approximately $5.0 million, before recoveries,
in connection with the acquisition of licensed and exclusively distributed product in our
publishing and distribution segments. Additionally, we had cash outlays of $2.5 million in
connection with the licensing and implementation of our ERP system during the three months of
fiscal 2009. We anticipate cash outlays in connection with the ERP system for the remaining fiscal
2009 will be approximately $1.6 million, which we expect to be funded by working capital.
At June 30, 2008 and March 31, 2008 we had $48.7 million and $31.3 million, respectively,
outstanding on the revolving facility and, based on the facilitys borrowing base and other
requirements, approximately $8.8 million and $11.9 million, respectively, was available. At March
31, 2008 we had $9.7 million outstanding related to our Term Loan facility, which was paid in full
during June 2008 in connection with the Amendment.
We currently believe cash and cash equivalents, funds generated from the expected results of
operations and funds available under our existing credit facility will be sufficient to satisfy our
working capital requirements, other cash needs and to finance expansion plans and strategic
initiatives in the foreseeable future, absent significant acquisitions. We have stated our plans to
grow through acquisitions; however such opportunities will likely require the use of additional
equity or debt capital, some combination thereof, or other financing.
Contractual Obligations
The following table presents information regarding contractual obligations as of June 30, 2008
by fiscal year (in thousands).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less |
|
|
|
|
|
|
|
|
|
|
More |
|
|
|
|
|
|
|
than 1 |
|
|
2 3 |
|
|
4 5 |
|
|
than 5 |
|
|
|
Total |
|
|
Year |
|
|
Years |
|
|
Years |
|
|
Years |
|
Operating leases |
|
$ |
26,275 |
|
|
$ |
2,030 |
|
|
$ |
5,354 |
|
|
$ |
5,102 |
|
|
$ |
13,789 |
|
Capital leases |
|
|
125 |
|
|
|
57 |
|
|
|
68 |
|
|
|
|
|
|
|
|
|
License and distribution agreement |
|
|
25,256 |
|
|
|
14,005 |
|
|
|
8,501 |
|
|
|
2,750 |
|
|
|
|
|
Deferred compensation |
|
|
4,124 |
|
|
|
1,975 |
|
|
|
2,149 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
55,780 |
|
|
$ |
18,067 |
|
|
$ |
16,072 |
|
|
$ |
7,852 |
|
|
$ |
13,789 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We have excluded our FIN 48 liabilities from the table above because we are unable to make a
reasonably reliable estimate of the period of cash settlement with the respective taxing
authorities.
27
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Information with respect to disclosures about market risk is contained in the section entitled
Managements Discussion and Analysis of Financial Condition and Results of Operations Market
Risk in this Form 10-Q.
Item 4. Controls and Procedures
(a) Controls and Procedures
We maintain disclosure controls and procedures (Disclosure Controls), as such term is
defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, that are designed to ensure that
information required to be disclosed in our Exchange Act reports, is recorded, processed,
summarized and reported within the time periods specified in the SECs rules and forms, and that
such information is accumulated and communicated to our management, including our Chief Executive
Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure.
As required by Rule 13a-15(b) and 15d-15(b) under the Exchange Act, we carried out an
evaluation, under the supervision and with the participation of our management, including our Chief
Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation
of our disclosure controls and procedures as of the end of the period covered by this report. Based
on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures were effective as of the date of such evaluation.
(b) Change in Internal Controls over Financial Reporting
There were no changes, except as noted below, in the Companys internal control over financial
reporting during its most recently completed quarter that have materially affected or are
reasonably likely to materially affect its internal control over financial reporting, as defined in
Rule 13a-15(f) under the Exchange Act.
During fiscal year 2008, the Company implemented Phase I SAP, an enterprise resource planning
system. The second phase of this implementation involves the installation of a warehouse and
transportation management system that has been licensed from HighJump Software, and the integration
of that system with the Companys financial reporting systems which operate on an SAP platform. The
second, and final, phase of this ERP implementation is anticipated to be installed in the summer of
fiscal year 2009. As appropriate, the Company is modifying the design and documentation of its
internal control processes and procedures to reflect these changes and to supplement and complement
existing internal control over financial reporting. Based on managements evaluation, the necessary
steps have been taken to monitor and maintain appropriate internal control over financial reporting
during this period.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
See Litigation and Proceedings discussion in Note 20 to the Companys consolidated financial
statements included herein.
Item 1A. Risk Factors
Information regarding risk factors appears in Managements Discussion and Analysis of
Financial Condition and Results of Operations Forward-Looking Statements / Important Risk
Factors in Part 1 Item 2 of this Form 10-Q and in Part 1 Item 1A of our Annual Report on Form
10-K for the fiscal year ended March 31, 2008. There have been no material changes from the risk
factors previously disclosed in our Annual Report of Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities
None.
28
Item 4. Submission of Matters to a Vote of Securities Holders
None.
Item 5. Other Information
None
Item 6. Exhibits
(a) The following exhibits are included herein:
|
|
|
31.1
|
|
Certification of the Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002 (Rules 13a-14 and 15d-14 of the
Exchange Act) |
|
|
|
31.2
|
|
Certification of the Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002 (Rules 13a-14 and 15d-14 of the
Exchange Act) |
|
|
|
32.1
|
|
Certification of the Chief Executive Officer pursuant Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350) |
|
|
|
32.2
|
|
Certification of the Chief Financial Officer pursuant Section 906 of
the Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350) |
29
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.
|
|
|
|
|
|
|
Navarre Corporation
(Registrant) |
|
|
|
|
|
|
|
Date: August 5, 2008
|
|
/s/ Cary L. Deacon
Cary L. Deacon
|
|
|
|
|
President and Chief Executive Officer |
|
|
|
|
(Principal Executive Officer) |
|
|
|
|
|
|
|
Date: August 5, 2008
|
|
/s/ J. Reid Porter |
|
|
|
|
|
|
|
|
|
J. Reid Porter |
|
|
|
|
Executive Vice President and Chief Financial
Officer (Principal Financial and Accounting
Officer) |
|
|
30