UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2001
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 1-9917
CATALINA LIGHTING, INC
(Exact name of registrant as specified in its chapter)
FLORIDA
(State or other jurisdiction of incorporation or organization)
59-1548266
(I.R.S. Employer Identification Number)
18191 NW 68th Avenue, Miami, Florida 33015
(Address of principal executive offices) (Zip Code)
(305) 558-4777
Registrant's telephone number, including area code
----------------------------------------------------------------------
Former name, former address and former fiscal year,
if changed since last report.
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding
of each of the issuer's classes of common stock, as of the latest practicable
date. Outstanding on May 4, 2001: 7,357,880 shares.
CATALINA LIGHTING, INC. AND SUBSIDIARIES
INDEX
PART I FINANCIAL INFORMATION PAGE NO.
-------
Condensed consolidated balance sheets -
March 31, 2001 and September 30, 2000.........................3
Condensed consolidated statements of operations -
Three and six months ended March 31, 2001 and 2000............5
Condensed consolidated statements of cash flows -
Three and six months ended March 31, 2001 and 2000............6
Notes to condensed consolidated financial statements............8
Management's discussion and analysis of financial
condition and results of operations..........................19
PART II OTHER INFORMATION
ITEM 1 Legal Proceedings......................................33
ITEM 4 Submission of Matters to a Vote of Security Holders....33
ITEM 6 Exhibits and Reports on Form 8-K.......................33
2
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands)
March 31, September 30,
Assets 2001 2000
------ ----------- -------------
(Unaudited) *
Current assets
Cash and cash equivalents $ 1,725 $ 2,309
Restricted cash equivalents and short-term investments 1,378 727
Accounts receivable, net of allowances for doubtful accounts
of $962 and $772, respectively 26,522 36,632
Inventories 41,769 52,780
Other current assets 5,588 7,343
-------- --------
Total current assets 76,982 99,791
Property and equipment, net 31,717 29,932
Goodwill, net 29,544 30,663
Other assets 8,033 7,585
-------- --------
$146,276 $167,971
======== ========
(continued on page 4)
3
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets (continued)
(In thousands)
March 31, September 30,
Liabilities and Stockholders' Equity 2001 2000
------------------------------------ ----------- -------------
(Unaudited) *
Current liabilities
Accounts and letters of credit payable $ 24,504 $ 36,310
Credit lines 25,144 22,786
Term loans 25,433 28,415
Current maturities of bonds payable-real estate related 900 900
Current maturities of other long-term debt 1,170 1,339
Other current liabilities 12,267 15,647
--------- ---------
Total current liabilities 89,418 105,397
Bonds payable - real estate related 5,100 5,100
Other long-term debt 1,436 1,788
Other liabilities 4,515 3,782
--------- ---------
Total liabilities 100,469 116,067
Minority interest 1,032 1,075
Commitments and contingencies
Stockholders' equity
Common stock, issued 8,000 shares 80 80
Additional paid-in capital 28,560 28,560
Retained earnings 19,844 25,111
Accumulated other comprehensive loss (1,248) (461)
Treasury stock, 642 shares (2,461) (2,461)
--------- ---------
Total stockholders' equity 44,775 50,829
--------- ---------
$ 146,276 $ 167,971
========= =========
*Condensed from audited financial statements
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share data)
Three Months Ended Six Months Ended
March 31, March 31,
--------------------------- ---------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
Net sales $ 55,789 $ 42,033 $ 120,397 $ 85,241
Cost of sales 47,803 34,032 102,227 68,345
--------- --------- --------- ---------
Gross profit 7,986 8,001 18,170 16,896
Selling, general and administrative
expenses 10,433 6,696 21,249 13,477
Executive management reorganization -- -- -- 788
--------- --------- --------- ---------
Operating income (loss) (2,447) 1,305 (3,079) 2,631
--------- --------- --------- ---------
Other income (expenses):
Interest expense (1,558) (564) (2,925) (1,108)
Other income (expenses) (133) 365 (315) 372
--------- --------- --------- ---------
Total other income (expenses) (1,691) (199) (3,240) (736)
--------- --------- --------- ---------
Income (loss) before income taxes (4,138) 1,106 (6,319) 1,895
Income tax provision (benefit) (770) 354 (1,052) 606
--------- --------- --------- ---------
Net income (loss) $ (3,368) $ 752 $ (5,267) $ 1,289
========= ========= ========= =========
Weighted average number of
shares outstanding
Basic 7,358 6,931 7,358 6,962
Diluted 7,358 8,761 7,358 8,830
Earnings (loss) per share
Basic $ (0.46) $ 0.11 $ (0.72) $ 0.19
Diluted $ (0.46) $ 0.10 $ (0.72) $ 0.17
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
Six Months Ended
March 31,
-------------------------
2001 2000
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ (5,267) $ 1,289
Adjustments for non-cash items 2,051 2,752
Change in assets and liabilities 8,646 385
-------- --------
Net cash provided by (used in) operating activities 5,430 4,426
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (3,842) (1,529)
Proceeds from sale of property and equipment 90 --
Purchase of minority interest (1,029) --
Decrease (increase) in restricted cash equivalents and
short-term investments (201) (156)
-------- --------
Net cash provided by (used in) investing activities (4,982) (1,685)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of common stock -- 805
Payments to repurchase common stock -- (1,002)
Proceeds from other long-term debt 323 --
Payments on other long-term debt (800) (365)
Payments on bonds payable -- (1,310)
Proceeds from credit lines 25,776 23,800
Payments on credit lines (23,412) (21,818)
Proceeds from note payable - other -- 1,404
Payments on term loans (2,459) --
Payment on subordinated notes -- (2,534)
Sinking fund payments on bonds payable (450) (450)
-------- --------
Net cash provided by (used in) financing activities (1,022) (1,470)
-------- --------
Effect of exchange rate changes on cash (10) 85
Net increase (decrease) in cash and cash equivalents (584) 1,356
Cash and cash equivalents at beginning of period 2,309 7,253
-------- --------
Cash and cash equivalents at end of period $ 1,725 $ 8,609
======== ========
(continued on page 7)
6
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (continued)
(Unaudited)
Supplemental Cash Flow Information
Six Months Ended
March 31,
-------------------------
2001 2000
-------- --------
(In thousands)
Cash paid (received) for:
Interest $ 2,807 $ 1,146
Income taxes $ 1,498 $ (473)
The accompanying notes are an integral part of these condensed consolidated
financial statements.
7
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with the accounting policies described in the
Company's Annual Report on Form 10-K for the fiscal year ended September 30,
2000 and should be read in conjunction with the consolidated financial
statements and notes which appear in that report. These statements do not
include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements.
In the opinion of management, the condensed consolidated financial
statements include all adjustments (which consist mostly of normal, recurring
accruals) considered necessary for a fair presentation. The results of
operations for the three months and six months ended March 31, 2001 may not
necessarily be indicative of operating results to be expected for the full
fiscal year due to seasonal fluctuations in the Company's business, changes in
economic conditions and other factors.
Certain amounts previously presented in the financial statements of
prior periods have been reclassified to conform to the current period's
presentation.
Going Concern
The accompanying condensed consolidated financial statements as of and
for the three and six months ended March 31, 2001 have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. As a result of its net loss for
the three months ended March 31, 2001, the Company was not in compliance with a
financial covenant of its $75 million credit facility for the quarter ended
March 31, 2001 and would not have been able to meet the May 31, 2001 deadline
for fulfilling another requirement under the credit facility. While on May 15,
2001 the Company obtained a forbearance agreement deferring possible action from
its lenders under the facility until June 15, 2001, the Company may be unable to
comply with the terms and covenants of its $75 million credit facility
subsequent to June 15, 2001. This uncertainty may indicate that the Company may
not be able to continue as a going concern.
The Company's continuation as a going concern is dependent upon its
ability to comply with the terms and covenants of its $75 million credit
facility and to obtain additional financing or refinancing as may be required.
The Company is attempting to renegotiate the terms of its $75 million credit
facility and is also pursuing a capital infusion. See Note 7 of Notes to
Condensed Consolidated Financial Statements.
Accounts Receivable
The Company provides allowances against accounts receivable for sales
deductions, returns and doubtful accounts. The Company's agreements with its
major customers provide for various sales allowances (i.e., deductions given the
customer from purchases made from the Company), the most common of which are for
volume discounts, consumer product returns, and cooperative advertising. These
allowances are usually defined as a percentage of the gross sales price, and are
recognized as a reduction of gross sales revenue at the time the related sales
are recorded. If the customer agreement does not provide for the deduction of
the allowance amount directly from the amount invoiced the customer at time of
billing, the Company records an accrual for the amounts due. These accrued sales
allowances are settled periodically either by subsequent deduction from the
accounts receivable from the customer or by cash payment. For financial
statement presentation purposes, these sales allowances are netted against
accounts receivable, and amounted to $10,198,000 and $11,703,000 at March 31,
2001 and September 30, 2000, respectively.
8
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
Derivative Instruments and Hedging Activities
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133") was issued in June
1998. SFAS 133 establishes standards for the accounting and reporting of
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and of hedging activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the balance sheet and measure
those instruments at fair value. Derivatives that are not hedges must be
adjusted to fair value through income. If the derivative is a hedge, depending
on the nature of the hedge, changes in the fair value of derivatives are either
offset against the change in fair value of assets, liabilities, or firm
commitments through earnings or recognized in other comprehensive income (loss)
until the hedged item is recognized in earnings. The ineffective portion of a
derivative's change in fair value will be immediately recognized in earnings.
The Company adopted SFAS 133 on October 1, 2000 and the cumulative
effect on the accumulated comprehensive loss on such date was income of $153,000
(net of $86,000 in income taxes). The fair value of the derivative instrument on
March 31, 2001 was $52,000 (net of $30,000 in income taxes).
All derivatives are recognized on the balance sheet at their fair
value. On the date the derivative contract is entered into, the Company
designates the derivative as (1) a hedge of the fair value of a recognized asset
or liability or of an unrecognized firm commitment ("fair value" hedge), (2) a
hedge of a forecasted transaction or of the variability of cash flows to be
received or paid related to a recognized asset or liability ("cash flow" hedge),
(3) a foreign-currency fair-value or cash-flow hedge ("foreign currency" hedge),
or (4) a hedge of a net investment in a foreign operation. Changes in the fair
value of a derivative that is highly effective as - and that is designated and
qualifies as - a fair-value hedge, along with the loss or gain on the hedged
asset or liability that is attributable to the hedged risk (including losses or
gains on firm commitments), are recorded in current-period earnings. Changes in
the fair value of a derivative that is highly effective as - and that is
designated and qualifies as - a cash-flow hedge are recorded in other
comprehensive income, until earnings are affected by the variability of cash
flows (e.g., when periodic settlements on a variable-rate asset or liability are
recorded in earnings).
Changes in fair value of derivatives that are highly effective as - and
that are designated and qualify as - foreign-currency hedges are recorded in
either current-period earnings or other comprehensive income, depending on
whether the hedge transaction is a fair-value hedge (e.g., a hedge of a firm
commitment that is to be settled in a foreign currency) or a cash-flow hedge
(e.g., a foreign-currency-denominated forecasted transaction). If, however, a
derivative is used as a hedge of a net investment in a foreign operation, its
changes in fair value, to the extent effective as a hedge, are recorded in the
cumulative translation adjustments account within equity.
The Company formally documents all relationships between hedging
instruments and hedged items, as well as its risk-management objective and
strategy for undertaking various hedge transactions. This process includes
linking all derivatives that are designated as fair-value, cash-flow, or
foreign-currency hedges to specific assets and liabilities on the balance sheet
or to specific firm commitments or forecasted transactions. The Company also
formally assesses, both at the hedge's inception and on an ongoing basis,
whether the derivatives that are used in hedging transactions are highly
effective in offsetting changes in fair values or cash flows of hedged items. If
it is determined that a derivative is not highly effective as a hedge or that it
has ceased to be a highly effective hedge, the Company will discontinue hedge
accounting prospectively. See also Note 8 of Notes to Condensed Consolidated
Financial Statements.
Revenue Recognition
The Company manufactures and sells its products pursuant to purchase
orders received from customers and recognizes revenue at the time its products
are delivered to the customer or the customer's carrier. The Company's products
are sold without the right of return. Any shipping, handling or other costs
incurred by the Company associated with the sale are expensed as cost of sales
at the time of sale recognition.
9
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
Comprehensive Income (loss)
Comprehensive income (loss) consisted of the following:
Three Months Ended March 31, Six Months Ended March 31,
---------------------------- --------------------------
2001 2000 2001 2000
------- ------- ------- -------
(In thousands) (In thousands)
Net income (loss) $(3,368) $ 752 $(5,267) $ 1,289
Foreign currency translation gain (loss) (972) -- (735) --
Change in unrealized loss on derivative
instrument, net of taxes (192) -- (52) --
------- ------- ------- -------
Total comprehensive income (loss) $(4,532) $ 752 $(6,054) $ 1,289
======= ======= ======= =======
New Accounting Pronouncement
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101 ("SAB 101") which summarizes certain of the staff's
view in applying generally accepted accounting principles to revenue recognition
in financial statements. The effective date of SAB 101 for the Company is the
quarter ending September 30, 2001. The Company has evaluated the impact that SAB
101 will have on the timing of revenue recognition in future periods and
believes SAB 101 will not have a material impact on its financial position or
results of operations.
2. Inventories
Inventories consisted of the following:
March 31, September 30,
-----------------------
2001 2000
------- -------
(In thousands)
Raw materials $ 3,100 $ 6,700
Work-in-progress 740 1,159
Finished goods 37,929 44,921
------- -------
Total inventories $41,769 $52,780
======= =======
Costs capitalized in finished goods associated with acquiring, storing and
preparing inventory for distribution amounted to approximately $1.6 million at
March 31, 2001 and September 30, 2000.
3. Property and Equipment, net
In September 2000, the Company's wholly-owned Hong Kong subsidiary,
Go-Gro Industries ("Go-Gro") made a deposit of approximately $1 million to
purchase its joint venture partner's interest in Go-Gro's Chinese cooperative
joint venture manufacturing subsidiary, Shenzhen Jiadianbao Electrical Products
Co., Ltd. ("SJE"). This purchase was finalized in December 2000. During the
quarter ended March 31, 2001, SJE was converted under Chinese law from a
cooperative joint venture to a wholly-owned foreign entity and its name changed
to Jiadianbao Electrical Products (Shenzhen) Co., Ltd. ("JES").
JES obtained non-transferable land use rights for the land on which its
primary manufacturing facilities were constructed under a Land Use Agreement
dated April 11, 1995 between SJE and the Bureau of National Land Planning Bao-An
Branch of Shenzhen City. This agreement provides JES with the right to use this
land until January 18, 2042 and required SJE to construct approximately 500,000
square feet of factory buildings and 211,000 square feet of dormitories and
offices. This construction was substantially complete as of May 2001 and total
costs for this construction aggregated $16.1 million at March 31, 2001.
10
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
In connection with the settlement with Go-Gro's former joint venture
partner in SJE, JES acquired the land use rights for a parcel of land adjoining
its primary manufacturing facilities. Under the separate land use agreement for
this parcel, JES has the right to use the land through March 19, 2051 and is
obligated to complete new construction on the land (estimated to cost
approximately $1.3 million) by March 20, 2002. If this construction is not
completed by that date JES is subject to fines, and if the construction is not
completed by March 20, 2004, the local municipal planning and state land bureau
may take back the land use rights for the parcel without compensation and
confiscate the structures and attachments.
4. Credit Lines
The Company has a five-year credit facility for approximately $75
million which funded the Company's acquisition of Ring Plc and which provides
funds through revolving facilities for the Company's U.S. and U.K. operations.
The credit facility agreement contains covenants requiring that the Company
maintain a minimum level of equity and meet certain financial covenants (i.e.
leverage and fixed charge ratios). The Company obtained an amendment of this
credit facility on December 22, 2000, and without this amendment the Company
would not have been in compliance with one of the financial covenants of the
credit facility agreement for the quarter ended September 30, 2000.
As a result of the Company's operating results for the first quarter of
fiscal 2001, the Company initially was not in compliance with the financial
covenants under its $75 million credit facility for the quarter ended December
31, 2000. The Company obtained a second amendment of the credit facility on
February 9, 2001 and was in compliance with the financial covenants under the
amended facility for the quarter ended December 31, 2000. The February 9, 2001
amendment (i) raised the maximum leverage ratio allowable (debt divided by
adjusted earnings) for the quarter ended December 31, 2000 and the following
three quarters and lowered the minimum required fixed charge coverage ratio for
the quarter ended December 31, 2000 and the following seven quarters, (ii)
reduced the level of permitted annual capital expenditures beginning with the
fiscal year ending September 30, 2001 to $2.25 million, (iii) increased the
interest rate under the facility (the rate for LIBOR borrowings increased by 2 %
and the rate for borrowings based on the prime rate increased by .25 %) until
the Company achieves certain leverage and fixed charge coverage ratios defined
under the amendment and (iv) requires the Company to use its best efforts to
obtain new capital through the sale of assets, the issuance of subordinated
notes or capital stock of $5 million by July 31, 2001 and another $5 million by
October 31, 2001. If the Company is unable to obtain this new capital, the
interest rate on the credit facility is increased 1% on July 31, 2001 and
another 1% on October 31, 2001. In addition, the February 9, 2001 amendment
required the Company to obtain by March 31, 2001 certain statutory declarations
and a related auditors' report prescribed under English law. On March 30, 2001,
the Company obtained an amendment extending the deadline for obtaining the
statutory declarations and related auditors' report to May 31, 2001.
As a result of the net loss for the period, the Company was not in
compliance with a financial covenant under its $75 million credit facility for
the quarter ended March 31, 2001, and would not have been able to obtain the
statutory declarations and related auditors' report by May 31, 2001 as required
by the credit facility. On May 15, 2001 the Company obtained a forbearance
agreement, which in the absence of any further breach or default waives and
defers until June 15, 2001, the lenders' ability to exercise their rights and
remedies for the event of default under the credit facility resulting from the
failure to meet the financial covenant. This waiver also extended for the same
period the deadline for obtaining the statutory declarations and related
auditors' report. See also Note 7 of Notes to Condensed Consolidated Financial
Statements.
11
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
5. Segment Information
Information on operating segments and a reconciliation to income (loss)
before income taxes for the three and six months ended March 31, 2001 and 2000
are as follows (in thousands):
Three Months Ended March 31,
Net Sales ------------------------------------------------------------------------------------------------
by Operating Segment: 2001 2000
-------------------------------------------- --------------------------------------------
External External
customers Intersegment Total customers Intersegment Total
-------------------------------------------- --------------------------------------------
United States $ 15,924 $ 276 $ 16,200 $ 27,256 $ 276 $ 27,532
China 5,403 17,089 22,492 6,735 23,150 29,885
United Kingdom 27,764 -- 27,764 -- -- --
Other segments 6,698 185 6,883 8,042 -- 8,042
Eliminations -- (17,550) (17,550) -- (23,426) (23,426)
-------------------------------------------- --------------------------------------------
$ 55,789 $ -- $ 55,789 $ 42,033 $ -- $ 42,033
============================================ ============================================
Six Months Ended March 31,
------------------------------------------------------------------------------------------------
2001 2000
-------------------------------------------- --------------------------------------------
External External
customers Intersegment Total customers Intersegment Total
-------------------------------------------- --------------------------------------------
United States $ 35,180 $ 410 $ 35,590 $ 56,633 $ 550 $ 57,183
China 13,274 40,236 53,510 12,402 52,016 64,418
United Kingdom 56,038 -- 56,038 -- -- --
Other segments 15,905 275 16,180 16,206 121 16,327
Eliminations -- (40,921) (40,921) -- (52,687) (52,687)
-------------------------------------------- --------------------------------------------
$ 120,397 $ -- $ 120,397 $ 85,241 $ -- $ 85,241
============================================ ============================================
12
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
Three Months Ended Six Months Ended
Net Sales by Location March 31, March 31,
of External Customers: --------------------------- ---------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
United States $ 16,130 $ 27,319 $ 35,393 $ 56,739
United Kingdom 26,374 -- 53,778 --
Canada 5,944 6,732 13,994 13,692
Other countries 7,341 7,982 17,232 14,810
--------- --------- --------- ---------
$ 55,789 $ 42,033 $ 120,397 $ 85,241
========= ========= ========= =========
Three Months Ended Six Months Ended
Segment Contribution (Loss): March 31, March 31,
--------------------------- ---------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
United States $ (882) $ 1,099 $ (1,394) $ 2,231
China 987 1,953 3,034 4,219
United Kingdom (1,418) -- (2,500) --
Other segments (269) 305 (400) 774
--------- --------- --------- ---------
Subtotal for segments (1,582) 3,357 (1,260) 7,224
Executive management reorganization -- -- -- (788)
Parent/administrative expenses (2,556) (2,251) (5,059) (4,541)
--------- --------- --------- ---------
Income (loss) before income taxes $ (4,138) $ 1,106 $ (6,319) $ 1,895
========= ========= ========= =========
Three Months Ended Six Months Ended
Interest Expense (Income)(1): March 31, March 31,
--------------------------- ---------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
United States $ (111) $ 115 $ (213) $ 272
China (33) 92 (113) 193
United Kingdom 1,104 -- 2,133 --
Other segments 103 123 243 269
--------- --------- --------- ---------
Subtotal for segments 1,063 330 2,050 734
Parent interest expense 495 234 875 374
--------- --------- --------- ---------
Total interest expense $ 1,558 $ 564 $ 2,925 $ 1,108
========= ========= ========= =========
March 31, September 30,
Total Assets(2): 2001 2000
---------- -------------
United States $ 52,221 $ 64,263
China 43,177 53,170
United Kingdom 68,431 75,505
Other segments 10,705 14,252
Eliminations (28,258) (39,219)
--------- ---------
Total assets $ 146,276 $ 167,971
========= =========
13
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
March 31, September 30,
Long-Lived Assets(3): 2001 2000
--------- -------------
United States $11,450 $12,156
China 15,759 12,516
United Kingdom 4,384 5,125
Other segments 124 135
------- -------
Total long-lived assets $31,717 $29,932
======= =======
Expenditures for Additions to Long-Lived Assets:
Six Months Ended March 31,
--------------------------
2001 2000
------ ------
United States $ 65 $ 293
China 3,499 1,223
United Kingdom 265 --
Other segments 13 13
------ ------
Total expenditures $3,842 $1,529
====== ======
----------
(1) The interest expense shown for each segment includes interest paid or
earned on inter-segment advances.
(2) Total assets for United States include parent/administrative assets.
(3) Represents property and equipment, net.
Major Customers
During the three months ended March 31, 2001 and 2000 one U.S. and
Canadian customer accounted for 12.7% and 33.3%, respectively, of the Company's
net sales and during the six months ended March 31, 2001 and 2000, accounted for
12.2 % and 28.9%, respectively, of the Company's net sales. During the three and
six months ended March 31, 2001 one other customer (included in United Kingdom -
based operations) accounted for 17.8% and 17.1%, respectively, of the Company's
net sales.
14
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
6. Commitments and Contingencies
Westinghouse License
On April 26, 1996, the Company entered into a license agreement with
Westinghouse Electric Corporation to market and distribute a full range of
lighting fixtures, lamps and other lighting products under the Westinghouse
brand name in exchange for royalty payments. Subject to the minimum sales
conditions discussed below, the agreement terminates on September 30, 2002 with
the Company having options to extend the agreement for two additional five-year
terms. The royalty payments are due quarterly and are based on a percent of the
value of the Company's net shipments of Westinghouse branded products, subject
to annual minimum net shipments. Either party has the right to terminate the
agreement if the Company does not meet the minimum net shipments of $30 million
for fiscal 2001 and $60 million for fiscal 2002. Net sales of Westinghouse
branded products amounted to $8.3 million and $12.8 million for the six months
ended March 31, 2001 and 2000, respectively.
Litigation
During the last three years the Company received a number of claims
relating to halogen torchieres sold by the Company to various retailers.
After January 1, 1999, the Company is self-insuring up to $10,000 per incident.
Based upon its experience, the Company is presently accruing for this
self-insurance provision and has accrued $211,000 for this contingency as of
March 31, 2001. Management does not believe that this self-insurance provision
will have a material adverse impact on the Company's financial position or
annual results of operations. However, no assurance can be given that the number
of claims will not exceed historical experience or that claims will not exceed
available insurance coverage or that the Company will be able to maintain the
same level of insurance.
On September 15, 1999, the Company filed a complaint entitled Catalina
Lighting, Inc. v. Lamps Plus, Civil Action 99-7200, in the U.S. District Court
for the Southern District of Florida. The lawsuit requested declaratory relief
regarding claims of trade dress and patent infringement made by Lamps Plus
against a major customer of the Company. Lamps Plus filed an Answer and
Counterclaim against Catalina and its customer on October 6, 1999 alleging
patent infringement and trade dress. The trade dress claim was dismissed with
prejudice before trial in March 2001. In April 2001, a jury returned a verdict
finding liability against the Company and assessing approximately $2,000,000 of
potential damages. The Court has not entered judgment on either liability or
damages, pending post trial briefing by the parties on both the issue of
liability and the measure of damages. Pursuant to a joint stipulation between
the parties, if the Court enters a verdict of liability against the Company, the
Court could determine the actual application of damages, which could range
between $275,000 and $2,000,000. Under U.S. patent law, certain types of damages
are subject to trebling if an infringing party's conduct is determined to be
"exceptional." If the Court were to make such a finding, enhanced damages of
between $800,000 to $4,637,000 could be awarded. The Company filed motions to
set aside the verdict as a matter of law on April 11, 2001. Lamps Plus filed
motions in opposition on April 23, 2001 and the Company replied on April 27,
2001. The Company intends to appeal any adverse judgment entered by the Court.
Based upon advice of counsel, the Company believes that it ultimately will not
be found liable for patent infringement in this case and that the chances are
remote that any enhanced damages will result from the outcome of this case.
Accordingly, no amounts have been accrued in the accompanying March 31, 2001
Condensed Consolidated Financial Statements for this matter.
NYSE Listing
On August 9, 1999 the New York Stock Exchange ("NYSE") notified the
Company that it had changed its rules regarding continued listing for companies
which have shares traded on the NYSE. The new rules changed and increased the
requirements to maintain a NYSE listing. Through March 31, 2001, the Company did
not meet the new rules, which require a total market capitalization of $50
million and the maintenance of minimum total stockholders' equity of $50
million. On April 5, 2001 the NYSE announced that it had determined that the
common stock of the Company should be removed from the list of companies trading
on the NYSE. The Company has determined not to appeal the NYSE's decision. The
Company is working with Nasdaq and Nasdaq market makers in order to allow the
Company's stock to be quoted through the Nasdaq Bulletin Board. The Company
believes that its stock will be quoted through the Bulletin Board under a new
trading symbol shortly after the stock ceases to trade on the NYSE, although no
assurances can be given as to the timing or certainty of this transition.
15
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
7. Going Concern
The accompanying financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. As discussed in Note 4, the
Company has significant borrowings obtained through a $75 million credit
facility which requires, among other things, compliance with financial
covenants, including a leverage ratio and a fixed charge coverage ratio, on a
quarterly basis. The Company obtained an amendment of this credit facility on
December 22, 2000, and without this amendment, the Company would not have been
in compliance with one of the financial covenants under the credit facility
agreement for the quarter ended September 30, 2000. As a result of the Company's
operating results for the quarter ended December 31, 2000, the Company initially
was not in compliance with the financial covenants under its $75 million credit
facility for the quarter ended December 31, 2000. The Company obtained a second
amendment of the credit facility on February 9, 2001 which modified the
financial covenants for the December 31, 2000 and subsequent quarters, and the
Company was in compliance with the amended financial covenants for the quarter
ended December 31, 2000. The February 9, 2001 amendment raised the maximum
leverage ratios allowable and reduced the minimum fixed charge ratios required
under the facility. However, due to the sales and profitability declines the
Company experienced for the quarter ended March 31, 2001 the Company was not in
compliance with one of the amended financial covenants of the credit facility
for the quarter ended March 31, 2001. On May 15, 2001 the Company obtained a
forbearance agreement, which in the absence of any further breach or default
waives and defers through June 15 ,2001 the lenders' ability to exercise their
rights and remedies for the event of default under the credit facility resulting
from the failure to meet the financial covenant for the quarter ended March 31,
2001.
In addition to requiring the Company to meet financial covenants, the
$75 million credit facility requires the Company to obtain certain statutory
declarations and a related auditors' report prescribed under English law, as
explained below.
Proceeds from the $75 million credit facility were used in part to fund
the Company's acquisition of Ring Plc ("Ring"), a British company, on July 5,
2000. Under English law a British company cannot lawfully provide financial
assistance for the purpose of the acquisition of its own shares (which would
include using its cash flows and other sources of funds to make payments due on
debt used to fund its acquisition) unless certain conditions are met. In
addition, lenders providing the financing for the acquisition cannot perfect
their collateral interest in the assets of the acquired British company unless
such conditions are met. In order to lawfully provide financial assistance, the
acquired British company must complete a "whitewash procedure" under English
law. In essence, the whitewash procedure requires the following: (1) every
director of the acquired British company must make a statutory declaration as to
the solvency of the acquired company and its ability to pay its debts for the
next twelve months; and (2) the statutory declarations must be accompanied by an
independent auditors' report stating that the auditors are not aware of anything
to indicate that the statutory declarations of the directors are not reasonable.
In addition, English law requires that the net assets of the acquired British
company are not reduced by the financial assistance or, to the extent that the
net assets are reduced, the reduction is funded out of distributable profits.
"Net assets" and "distributable profits" have prescribed meanings under the
statute governing the whitewash procedure. Ring's failure to comply with the
whitewash procedure will mean the financial assistance is unlawful, which could
result in the acquired British company facing a fine and its directors and
managers facing a fine or imprisonment or both. In addition, the transaction
constituting the financial assistance together with any security given in
contravention of the financial assistance rules, may be held by English courts
to be void and unenforceable. The financial assistance rules apply to any
subsidiaries of the acquired company which are also involved in providing
financial assistance. The February 9, 2001 amendment of the $75 million credit
facility included a requirement that the Company procure the directors'
statutory declarations regarding Ring's solvency and independent auditors'
report thereon by March 31, 2001. On March 30, 2001, the Company obtained an
amendment to the credit facility extending this deadline to May 31, 2001 and on
May 15, 2001 the Company obtained a forbearance agreement from its lenders which
in the absence of any further breach or default extends this deadline to June
15, 2001. Based upon (i) the net loss reported for the six months ended March
31, 2001; (ii) the dependence of Ring on the Company's $75 million credit
facility to fund its operations and (iii) the uncertainties associated with
current economic conditions and the Company's business, financial projections,
and ability to comply with the terms of its $75 million credit facility, the
Company does not expect to be able to demonstrate its ability to meet its
obligations for the next year in the manner and to the degree required to obtain
the statutory declarations and related independent auditors' report by June 15,
2001. Consequently, unless this deadline is extended or modified via another
amendment or waived, the Company does not expect to be in compliance with the
terms of its $75 million credit facility as of June 16, 2001.
16
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
The Company utilizes the revolving portions of its $75 million credit
facility to support its operations in the U.S. and U.K. Due to current business
conditions, U.S. and U.K. combined receivable and inventory levels - which are
the basis for the computation of amounts available under the borrowing base for
the revolving loans - declined in the quarter ended March 31, 2001. As of May
11, 2001, the Company had $4.5 million available under its revolving facilities.
Should its operating losses continue, or should its cash needs in the future
exceed its available borrowings under the revolving facilities, the Company may
be required to obtain either a modification of the $75 million credit facility
or funding from other sources to continue to support its operations.
The Company is exploring strategic alternatives including potential
divestitures, a merger, a capital infusion, a recapitalization or other actions.
The investment banking firm of SunTrust Equitable Securities has been hired to
assist with this strategic review and to formulate proposed plans and actions
for the consideration of the Board of Directors.
On April 5, 2001 the Company entered into definitive agreements with
Sun Catalina Holdings LLC ("SCH"), an affiliate of Sun Capital Partners, Inc. (a
merchant banking firm based in Boca Raton, Florida), which contemplate a junior
capital infusion for the Company of $20.5 million. Under these agreements, the
Company will receive a cash investment of $13 million from SCH in return for (i)
6 million shares of common stock; (ii) a secured subordinated promissory note in
the principal amount of $10 million, bearing interest at an annual rate of 14%;
and, (iii) a warrant to purchase additional shares of common stock at a price of
$.01 per share. Assuming exercise of the warrant immediately after closing, SCH
would own (including the 6 million shares) 52.5% of the Company's common stock.
SCH will also have the right under the agreements to appoint two-thirds of the
Company's directors at closing. The closing of this transaction is contingent
upon satisfaction of a number of conditions, including (i) the completion of due
diligence by SCH; (ii) the restructuring of the Company's $75 million credit
facility in a manner acceptable to the lenders, SCH and the Company; (iii) the
obtaining of an additional $7.5 million by the Company through issuance of
subordinated debt to another lender (which is currently being negotiated) and;
(iv) the resolution of the Company's obligations under employment agreements
with its Chief Executive Officer, Executive Vice Presidents and Chief Financial
Officer, which agreements contain "change in control" provisions. The Company
has also agreed to reimburse SCH for certain of its due diligence costs. The
transaction with SCH may result in a change of ownership for purposes of
Internal Revenue Code Section 382. Such a change may limit the Company's ability
to further utilize components of the Company's existing deferred tax assets,
requiring a valuation allowance against a portion of these assets.
The completion of the transaction with SCH contemplates the
restructuring of the terms of the $75 million credit facility, including the
whitewash procedure deadline and the financial covenants. If the transaction
with SCH is not consummated, a waiver or an additional amendment of the $75
million credit facility extending or modifying the June 15, 2001 completion date
of the U.K. whitewash procedure, and modifying the financial covenants for the
March 31, 2001 quarter and subsequent quarters will be required. Without such
waiver or amendment, based upon the Company's current expectations there would
be an event of default under that credit facility on June 16, 2001, which could
result in acceleration of the Company's indebtedness, in which case the debt
would become immediately due and payable. Although no assurances can be given,
the Company intends to pursue negotiations with its present $75 million credit
bank syndicate group for a waiver or amendment so as to preclude acceleration of
its indebtedness on June 16, 2001 should the Company be unable to complete the
transaction with SCH. If the transaction with SCH is not completed and there is
no subsequent amendment or waiver, the Company may not be able to generate,
raise or borrow sufficient funds to repay its debt and/or to refinance its debt.
Even if new funding is available, it may not be on terms that are acceptable to
the Company. The Company's ability to satisfy the terms of the credit facility
in future quarters depends on business conditions for the Company's products and
the results of the pending transaction with SCH described above, and there can
be no assurances that the Company will be able to comply with the credit
facility terms subsequent to June 15, 2001. The Company's continuation as a
going concern is dependent upon its ability to successfully establish the
necessary financing arrangements and to comply with the terms thereof.
8. Derivative Instruments and Hedging Activities
The Company sells its products in Europe and the United Kingdom and
maintains major capital investments in manufacturing facilities in China,
administrative offices in Hong Kong, and sales and distribution operations in
the United Kingdom. The Company also has subsidiaries in Canada and Mexico and
sells its products in these foreign countries. Forty percent of the Company's
revenues for the year ended September 30, 2000 were generated from international
customers. The Company's activities expose it to a variety of market risks,
including the effects of changes in foreign-currency exchange rates. These
foreign currency exposures are monitored and managed by the Company. The
Company's foreign-
17
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (continued)
(Unaudited)
currency risk-management program focuses on the unpredictability of foreign
currency exchange rate movements and seeks to reduce the potentially adverse
effects that the volatility of these movements may have on its operating
results.
The Company maintains a foreign-currency risk-management strategy that
uses derivative instruments to protect its interests from unanticipated
fluctuations in earnings and cash flows caused by volatility in currency
exchange rates. Movements in foreign-currency exchange rates pose a risk to the
Company's operations and competitive position, since exchange-rate changes may
affect profitability, cash flows, and business and/or pricing strategies. The
Company uses foreign-currency forward-exchange contracts to partially hedge
these risks.
By using derivative financial instruments to hedge exposures to changes
in exchange rates, the Company exposes itself to credit risk and market risk.
Credit risk is the failure of the counterparty to perform under the terms of the
derivative contract. When the fair value of a derivative contract is positive,
the counterparty owes the Company, which creates repayment risk for the Company.
When the fair value of a derivative contract is negative, the Company owes the
counterparty and, therefore, it does not possess repayment risk. The Company
minimizes the credit (or repayment) risk in derivative instruments by entering
into transactions with high-quality counterparties.
The Company's derivatives activities are subject to the management,
direction and control of the Foreign Currency Risk Management Committee (FCRMC).
The FCRMC is composed of the chief executive officer, the chief financial
officer, and other officers of the Company. The FCRMC reports to the board of
directors on the scope of its derivatives activities. The FCRMC (1) sets forth
risk-management philosophy and objectives through a corporate policy, (2)
provides guidelines for derivative-instrument usage, and (3) establishes
procedures for control and valuation, counterparty credit approval, and the
monitoring and reporting of derivative activity.
Fair-Value Hedges
As of March 31, 2001 and for the six months then ended, the Company's
U.K. subsidiary, Ring, entered into forward-exchange contracts to hedge the
foreign-currency exposure of its firm commitments to purchase certain
inventories from China and Europe in currencies other than the British pound.
The forward contracts used in this program mature in three months or less,
consistent with the related purchase commitments.
Cash Flow Hedge
The Company uses an interest-rate swap to convert the variable rate
bonds payable related to its U.S. warehouse facility into a fixed rate of 5.52%.
The fair value of this cash-flow hedge of $52,000 (loss, net of tax benefit) at
March 31, 2001 is included in stockholders' equity as part of the accumulated
comprehensive loss.
9. Restructuring Charge
In September 2000, the Company's United States (Catalina Industries)
business segment finalized plans to consolidate the functions of its Boston
office into the Miami headquarters. A $500,000 charge comprised of employee
severance costs ($422,000), property write-downs ($56,000) and lease termination
costs ($22,000) was recorded in September 2000 for the Boston office closure.
The closing of the Boston office resulted in the termination of two
vice-presidents and eight customer support and administrative personnel. The
non-cash property write-down consisted of the net book value of leasehold
improvements and the office furniture and other equipment not suitable for use
by the Miami headquarters or the Company's Canadian operations. The charge for
lease termination costs represented the remaining aggregate contractual lease
obligation for the Boston office subsequent to the date of its closure, net of
projected sublease income. Catalina Industries continued to incur and expense
normal payroll, depreciation, lease and other operating costs for its Boston
office during the six months ended March 31 2001, amounting to approximately
$400,000, until the office was closed in December 2000 and certain remaining
employees ceased working for the Company in March 2001. Operating costs for the
Boston office were approximately $540,000 for the six months ended March 31,
2000.
18
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Certain statements in this Management's Discussion and Analysis of
Financial Condition and Results of Operations, including without limitation
expectations as to future sales and operating results as discussed under
"Outlook" and the discussion under "Liquidity and Capital Resources" constitute
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995 (the "Reform Act"). Words such as "expects,"
"anticipates," "believes," "plans," "intends," "estimates," variations of such
words and similar expressions are intended to identify such forward-looking
statements. These statements involve known and unknown risks, uncertainties and
other factors which may cause the actual results, performance or achievements of
Catalina Lighting, Inc. and its subsidiaries (collectively, the "Company") to be
materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. Factors that would
cause or contribute to the inability to obtain the results or to fulfill the
other forward-looking statements include, but are not limited to, the following:
the highly competitive nature of the lighting industry; the Company's reliance
on key customers who may delay, cancel or fail to place orders; consumer demand
for lighting products; dependence on third party vendors and imports from China
which may limit the Company's margins or affect the timing of revenue and sales
recognition; general domestic and international economic conditions which may
affect consumer spending; brand awareness, the existence or absence of adverse
publicity, continued acceptance of the Company's products in the marketplace,
new products and technological changes, and changing trends in customer tastes,
each of which can effect demand and pricing for the Company's products;
pressures on product pricing and pricing inventories; cost of labor and raw
materials; the availability of capital; the ability to satisfy the terms of, and
covenants under, credit and loan agreements and the impact of increases in
borrowing costs, each of which affect the Company's short-term and long-term
liquidity and ability to operate as a going concern; the Company's dependence
upon agreements or consents from various third parties in order to satisfy
conditions under various agreements; the costs and other effects of legal and
administrative proceedings; foreign currency exchange rates; changes in the
Company's effective tax rate (which is dependent on the Company's U.S. and
foreign source income); and other factors referenced in this Form 10-Q and the
Company's annual report on Form 10-K for the year ended September 30, 2000. The
Company will not undertake and specifically declines any obligation to update or
correct any forward-looking statements to reflect events or circumstances after
the date of such statements or to reflect the occurrence of anticipated or
unanticipated events.
In the following comparison of the results of operations, the three and
six months ended March 31, 2001 and 2000 are referred to as 2001 and 2000,
respectively. Unless otherwise noted, U.S. dollar equivalents of foreign
currency amounts are based upon the exchange rates prevailing at March 31, 2001.
RESULTS OF OPERATIONS
Comparison of Three Months Ended March 31, 2001 and 2000
Consolidated Results
The Company had a net loss of $3.4 million, or $.46 per diluted share,
in 2001. Net income for 2000 was $752,000, or $0.10 per diluted share.
The Company's July 5, 2000 acquisition of Ring PLC ("Ring"), a
supplier of lighting, automotive and consumable products located in the United
Kingdom, significantly affected 2001 operating results and the comparability of
current year results to those for 2000. The Company's 2001 results include net
sales of $27.8 million and a pretax loss of $1.4 million attributable to Ring.
Ring's pretax loss of $1.4 million includes interest and financing costs and
goodwill amortization related to the acquisition aggregating $1.2 million.
Ring's results for the period were negatively affected by a highly competitive
retail sector, consolidation and direct importation trends in Ring's markets and
product lines, and a continued weakness of the British pound relative to the
U.S. dollar. See "Results By Segment - Ring Limited" for a comparative analysis
of Ring's results.
Net sales for 2001 were $55.8 million, a $13.8 million increase from
the prior year as a result of the Ring acquisition. Excluding Ring, net sales
for 2001 were $28.0 million, as compared to $42.0 million in 2000 reflecting
sales declines to U.S. and other international customers. Management believes
the U.S. sales decline is attributable to the general slow down in the U.S.
retail economy that has affected the purchasing pattern of the Company's major
U.S. customers. In 2001, sales to U.S. and international customers (excluding
Ring) were $15.9 million and $12.1 million, respectively, and in 2000 such sales
(excluding Ring) amounted to $27.3 million and $12.7 million, respectively.
19
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Lamps, lighting fixtures, automotive after-market products and
industrial consumables accounted for 37%, 44%, 14% and 5% of net sales in 2001.
Lamps and lighting fixtures accounted for 58% and 42% of net sales in 2000. In
2001, Ring's largest customer, B & Q, a subsidiary of Kingfisher PLC, accounted
for $9.9 million (17.8%) of the Company's net sales. In 2001 and 2000, Home
Depot accounted for $7.1 million (12.7%) and $14.0 million (33.3%),
respectively, of the Company's net sales. Sales made from warehouses constituted
63% of the Company's net sales in 2001, up from 28% in 2000 as a result of the
Ring acquisition, as substantially all Ring sales are made from warehouses.
Gross profit in total dollars from 2000 to 2001 remained at $8 million,
but decreased as a percentage of sales from 19.0% in 2000 to 14.3% in 2001. The
decrease in the gross profit percent is due to the inclusion of $27.8 million in
sales from Ring at a gross profit percentage of 11.9% and lost contributions
from the decrease in sales.
Selling, general and administrative expenses ("SG&A") for 2001 were
$10.4 million, an increase of $3.7 million from the prior year. The increase
reflects $3.6 million in Ring-related SG&A.
Greater interest expense for 2001 reflects the interest on the loans to
fund the Ring acquisition, Ring's interest of $239,000 and a greater weighted
average interest rate.
Other expenses of $133,000 for 2001 consisted of a net foreign currency
loss ($148,000), dividends on Ring convertible preference stock ($42,000),
partially reduced by interest income ($48,000) and other miscellaneous income
($9,000). Other income of $365,000 in 2000 consisted of interest income
($97,000), income from joint ventures ($44,000), a net foreign currency gain
($230,000) and miscellaneous expenses ($6,000).
The effective income tax rates for 2001 and 2000 were 18.6% and 32.0%,
respectively. The lower effective tax rate for the Company's income tax benefit
in 2001 is attributable to $1.5 million in losses (primarily in the U.K.) for
which no tax benefit has been provided. The Company's effective income tax rate
is dependent both on the total amount of pretax income generated and the source
of such income (i.e. domestic or foreign). Consequently, the Company's effective
tax rate may vary in future periods. The Company's effective income tax rate
reflects the anticipated tax benefits associated with the Company's 1999
restructuring of its international operations. Should these tax benefits not
materialize, the Company may experience an increase in its effective
consolidated income tax rate.
Outlook
The highly competitive U.K. retail environment impacting Ring's
business has continued after March 31, 2001. In addition, sales to U.S.
customers during the third quarter of fiscal 2001 may continue to be affected by
weakness in the U.S. retail economy. The $75 million credit facility has
increased the Company's effective costs of borrowings.
The Company did not initially satisfy one of the financial covenants
under its existing $75 million credit facility for the quarter ended March 31,
2001 and would not have been able to obtain certain statutory declarations and
related auditors' report by March 31, 2001 (subsequently extended until May 31,
2001), as required under the credit facility. On May 15, 2001 the Company
obtained a forbearance agreement, which in the absence of any further breach or
default (i) waives and defers through June 15, 2001 the lenders' ability to
exercise their rights and remedies for the event of default under the credit
facility resulting from the failure to meet the financial covenant for the
quarter ended March 31, 2001, and (ii) extends until such date the deadline for
obtaining the statutory declarations and related auditors' report. However,
based upon current expectations the Company believes it will not be able to
comply with the covenants and requirements of the amended $75 million credit
facility subsequent to June 15, 2001 unless a subsequent waiver or another
amendment to the facility is obtained modifying the provisions of the facility
or the facility is restructured in conjunction with a possible capital infusion.
See "Liquidity and Capital Resources" and Notes 1, 4 and 7 of Notes to Condensed
Consolidated Financial Statements.
Results By Segment
See Note 5 of Notes to Consolidated Condensed Financial Statements for
the financial tables for each business segment.
20
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Catalina Industries (United States)
Catalina Industries had a segment loss in 2001 of $882,000 as compared
to a contribution of $1.1 million in 2000. The decrease in segment contribution
in 2001 primarily reflects lost contributions from lower sales.
Sales by Catalina Industries to external customers were $15.9 million
in 2001, a decrease of $11.3 million from 2000. Sales to Home Depot were $5.6
million or $6.4 million less than in 2000 and sales to the office superstores
group of customers decreased by $2.8 million. Management believes the sales
decline is attributable to a general slow down in the U.S. retail economy that
has affected the purchasing patterns of the Company's major customers.
Gross profit decreased by $2.1 million in 2001 due to the lower sales
volume.
Presently, most major U.S. customers (including Home Depot and
Wal-Mart) purchase from Catalina Industries primarily on a direct basis, whereby
the merchandise is shipped directly from the factory to the customer, rather
than from the warehouse. Approximately 72% of Catalina Industries' sales in the
second quarter of 2001 were made on a direct basis as compared to 71% in 2000,
representing a $3.3 million decrease in warehouse sales from 2000 to 2001.
Warehouse sales to U.S. customers declined each fiscal year in the six-year
period commencing fiscal 1995, when the present warehouse was constructed in
Tupelo, Mississippi, and warehouse sales were 61% of annual U.S. sales compared
to 28% for the current quarter. This percentage decline represents a significant
decrease in sales dollars. Catalina Industries lowered its warehousing costs by
terminating its other U.S. warehouse operation located in Los Angeles effective
March 31, 1998 and is attempting to compensate further for the decline in U.S.
warehouse sales by pursuing new customers for the U.S. warehouse. Management
also continues to consider other strategic alternatives to reduce overall
warehousing costs. Catalina Industries may experience further declines in sales
made from its U.S. warehouse and, at least in the short term, may be unable to
further reduce its overall warehousing costs. The need to generate cash to meet
liquidity needs and the requirements of the Company's $75 million credit
facility (see "Liquidity and Capital Resources") may necessitate a lowering of
U.S. warehouse inventories at lower relative gross margins. Further declines in
warehouse sales or the need to lower inventories to generate cash could
adversely impact the Company's gross profit in the future.
In September 2000, this business segment finalized plans to consolidate
the functions of its Boston office into the Miami headquarters. Management
believes this consolidation will allow Catalina Industries to serve its
customers more effectively and to generate future cost savings. A $500,000
charge comprised of employee severance costs ($422,000), property write-downs
($56,000) and lease termination costs ($22,000) was recorded in September 2000
for the Boston office closure.
The closing of the Boston office resulted in the termination of two
vice-presidents and eight customer support and administrative personnel. The
non-cash property write-down consisted of the net book value of leasehold
improvements and the office furniture and other equipment not suitable for use
by the Miami headquarters or the Company's Canadian operations. The charge for
lease termination costs represented the remaining aggregate contractual lease
obligation for the Boston office subsequent to the date of its closure, net of
projected sublease income. Catalina Industries continued to incur and expense
normal payroll, depreciation, lease and other operating costs for its Boston
office during the 2001 fiscal year, until the office was closed in December 2000
and certain remaining employees ceased working for the Company in March 2001.
Costs incurred for the Boston office for the three months ended March 31, 2001
and 2000 were approximately $200,000 and $275,000, respectively.
Go-Gro (China)
Go-Gro's segment contribution decreased in 2001 to $987,000, down
$966,000 from $2.0 million in 2000.
Go-Gro's sales for 2001 were $22.5 million, a decrease of $7.4 million
from the $29.9 million generated in 2000. Sales of products manufactured by
Go-Gro in 2001 (as opposed to sales of products purchased for resale by Go-Gro
from other manufacturers) decreased by $2.8 million, to $12.0 million. Third
party and intercompany sales by Go-Gro in 2001 were $5.4 million and $17.1
million, respectively, while the comparable sales amounts for 2000 were $6.8
million and $23.1 million, respectively. Third party sales in 2000 included $2
million in sales to Ring Limited. The decline in the intercompany sales in 2001
reflects the lower overall sales to Catalina Industries attributable to a
decline in Catalina Industries' U.S. business. Sales to one third party customer
were $2.0 million in 2001 and 2000.
21
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Gross profit decreased by $981,000 due to the $7.4 million decrease in
sales.
Ring Limited (United Kingdom)
Ring was acquired by the Company on July 5, 2000, and the 2000 Ring
results provided below for comparative purposes were not part of the Company's
consolidated 2000 results.
The Ring segment recorded a pretax loss of $1.4 million for 2001, which
includes $259,000 in goodwill amortization arising from the acquisition and
$988,000 in interest and financing costs for the acquisition-related debt.
Excluding these acquisition costs, Ring's pretax loss for the quarter ended
March 31, 2001 was approximately $171,000, as compared to pretax income of
approximately $700,000 for the quarter ended March 31, 2000. Net sales to B&Q, a
subsidiary of Kingfisher PLC, accounted for $9.9 million or 35.8% of Ring's
sales for 2001. Net sales and gross profit for the three months ended March 31,
2001 were $27.8 million and $3.3 million, respectively, as compared to $27.2
million and $4.4 million, respectively for the same period of 2000. Ring's sales
volume and gross profit reflect a highly competitive retail business sector
stemming from consolidation in both the lighting and automotive markets, a
general decline in the automotive aftermarket (including bankruptcies of certain
customers and the entry of new competitors), and greater direct importation of
products by Ring's customers. In addition, a weakening of the Great British
pound relative to the U.S. dollar has increased Ring's cost of goods and lowered
its margins. The average exchange rate of the dollar to the pound for the
quarter ended March 31, 2001 was approximately 1.45 to 1, a significant decline
from the average exchange rate for the quarter ended March 31, 2000 of 1.61 to
1. Ring's profitability erosion is directly related to the factors mentioned
above.
Comparison of Six Months Ended March 31, 2001 and 2000
Consolidated Results
The Company had a net loss of $5.3 million, or $.72 per diluted share,
in 2001. Net income for 2000, which included a non-recurring charge to settle
the employment contract of an Executive Vice President pursuant to a
reorganization of the Company's executive management structure that decreased
pretax income by $788,000, was $1.3 million, or $0.17 per diluted share. Net
income and diluted earnings per share for 2000, as adjusted to exclude the
impact of the non-recurring charge, were $1.8 million and $0.23, respectively.
The Company's July 5, 2000 acquisition of Ring PLC ("Ring"), a
supplier of lighting, automotive and consumable products located in the United
Kingdom, significantly affected 2001 operating results and the comparability of
current year results to those for 2000. The Company's 2001 results include net
sales of $56.0 million and a pretax loss of $2.5 million attributable to Ring.
Ring's pretax loss of $2.5 million includes interest and financing costs and
goodwill amortization related to the acquisition aggregating $2.4 million.
Ring's results for the period were negatively affected by a highly competitive
retail sector, consolidation and direct importation trends in Ring's markets and
product lines and a continued weakness of the British pound relative to the U.S.
dollar. See "Results By Segment - Ring Limited" for a comparative analysis of
Ring's results.
Net sales for 2001 were $120.4 million, a $35.2 million increase from
the prior year as a result of the Ring acquisition. Excluding Ring, net sales
for 2001 were $64.4 million, as compared to $85.2 million in 2000 reflecting
lower unit sales and an overall sales decline to U.S. customers. Management
believes this U.S. sales decline is attributable to the general slow down in the
U.S. retail economy that has affected the purchasing pattern of the Company's
major U.S. customers. In 2001 sales to U.S. and international customers
(excluding Ring) were $35.2 million and $29.2 million, respectively, and in 2000
such sales (excluding Ring) amounted to $56.7 million and $24.9 million,
respectively.
Lamps, lighting fixtures, automotive after-market products and
industrial consumables accounted for 38%, 45%, 12% and 5% of net sales in 2001.
Lamps and lighting fixtures accounted for 63% and 37% of net sales in 2000. In
2001, Ring's largest customer, B & Q, a subsidiary of Kingfisher PLC, accounted
for $20.6 million (17.1%) of the Company's net sales. In 2001 and 2000, Home
Depot accounted for $14.7 million (12.2%) and $24.6 million (28.9%),
respectively, of the Company's net sales. Sales made from warehouses constituted
59% of the Company's net sales in 2001, up from 25% in 2000 as a result of the
Ring acquisition, as substantially all Ring sales are made from warehouses.
22
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Gross profit increased in total dollars by $1.3 million, but decreased
as a percentage of sales from 19.8% in 2000 to 15.1% in 2001. The $1.3 million
increase reflects contributions from higher sales resulting from the addition of
Ring. The decrease in the gross profit percent is due to the inclusion of $56.0
million in sales from Ring at a gross profit percentage of 12.1%, and lost
contributions from the decrease in sales in the U.S.
Selling, general and administrative expenses ("SG&A") for 2001 were
$21.2 million, an increase of $7.8 million from the prior year. The increase
reflects $7.1 million in Ring-related SG&A and the remainder of the increase is
attributable to an increase in the provision for uncollectible accounts in the
U.S. ($335,000), an increase in SG&A incurred in the Orient ($214,000) and a
provision for value-added tax ($200,000) which will not be recovered in Chile
and Argentina as a result of the Company's current intention to cease
warehousing operations in these countries.
Greater interest expense for 2001 reflects the interest on the loans to
fund the Ring acquisition, Ring's interest of $456,000 and a greater weighted
average interest rate.
Other expenses of $315,000 for 2001 consisted of a net foreign currency
loss of $298,000 and other miscellaneous expenses partially reduced by interest
income of $128,000. Other income of $372,000 in 2000 consisted of interest
income ($223,000), income from joint ventures ($106,000), a net foreign currency
gain ($60,000) and miscellaneous expenses.
The effective income tax rates for 2001 and 2000 were 16.6% and 32.0%,
respectively. The lower effective tax rate for the Company's income tax benefit
in 2001 is attributable to $2.7 million in losses (primarily in the U.K.) for
which no tax benefit has been provided. The Company's effective income tax rate
is dependent both on the total amount of pretax income generated and the source
of such income (i.e. domestic or foreign). Consequently, the Company's effective
tax rate may vary in future periods. The Company's effective income tax rate
reflects the anticipated tax benefits associated with the Company's 1999
restructuring of its international operations. Should these tax benefits not
materialize, the Company may experience an increase in its effective
consolidated income tax rate.
Results By Segment
See Note 5 of Notes to Consolidated Condensed Financial Statements for
the financial tables for each business segment.
Catalina Industries (United States)
Catalina Industries had a segment loss in 2001 of $1.4 million as
compared to a contribution of $2.2 million in 2000. The decrease in segment
contribution in 2001 primarily reflects lost contributions from lower sales.
Sales by Catalina Industries to external customers were $35.2 million
in 2001, a decrease of $21.5 million from 2000. Sales to Home Depot were $10.3
million or $10.2 million less than in 2000 and sales to the office superstores
group of customers decreased by $8.2 million. Management believes the sales
decline is attributable to a general slow down in the U.S. retail economy that
has affected the purchasing patterns of the Company's major customers.
Gross profit decreased by $4.1 million in 2001 due to the lower sales
volume and to a decrease in the overall gross profit percentage.
Presently, most major U.S. customers (including Home Depot and
Wal-Mart) purchase from Catalina Industries primarily on a direct basis, whereby
the merchandise is shipped directly from the factory to the customer, rather
than from the warehouse. Approximately 74% of Catalina Industries' sales in 2001
were made on a direct basis as compared to 75% in 2000, representing a $5.4
million decrease in warehouse sales from 2000 to 2001. Warehouse sales to U.S.
customers declined each fiscal year in the six-year period commencing fiscal
1995, when the present warehouse was constructed in Tupelo, Mississippi, and
annual warehouse sales were 61% of U.S. sales compared to the 26% for the most
current six months. This percentage decline represents a significant decrease in
sales dollars. Catalina Industries lowered its warehousing costs by terminating
its other U.S. warehouse operation located in Los Angeles effective March 31,
1998 and is attempting to compensate further for the decline in U.S. warehouse
sales by pursuing new customers for the U.S. warehouse. Management also
continues to consider other strategic alternatives to reduce overall warehousing
costs. Catalina Industries
23
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
may experience further declines in sales made from its U.S. warehouse and, at
least in the short term, may be unable to further reduce its overall warehousing
costs.
The need to generate cash to meet liquidity needs and the requirements
of the Company's $75 million credit facility (see "Liquidity and Capital
Resources") may necessitate a lowering of U.S. warehouse inventories at lower
relative gross margins. Further declines in warehouse sales or the need to lower
inventories to generate cash could adversely impact the Company's gross profit
in the future.
Catalina Industries lowered its SG&A by approximately $22,000 in 2001.
Decreases in sales-related expenses and certain other expenses offset a $335,000
provision for uncollectible accounts receivable of customers which filed for
bankruptcy in 2001.
In September 2000, this business segment finalized plans to consolidate
the functions of its Boston office into the Miami headquarters. Management
believes this consolidation will allow Catalina Industries to serve its
customers more effectively and to generate future cost savings. A $500,000
charge comprised of employee severance costs ($422,000), property write-downs
($56,000) and lease termination costs ($22,000) was recorded in September 2000
for the Boston office closure.
The closing of the Boston office resulted in the termination of two
vice-presidents and eight customer support and administrative personnel. The
non-cash property write-down consisted of the net book value of leasehold
improvements and the office furniture and other equipment not suitable for use
by the Miami headquarters or the Company's Canadian operations. The charge for
lease termination costs represented the remaining aggregate contractual lease
obligation for the Boston office subsequent to the date of its closure, net of
projected sublease income. Catalina Industries continued to incur and expense
normal payroll, depreciation, lease and other operating costs for its Boston
office during the 2001 fiscal year, until the office was closed in December 2000
and certain remaining employees ceased working for the Company in March 2001.
Costs incurred for the Boston office during the six months ended March 31, 2001
and 2000 were approximately $400,000 and $540,000, respectively.
Go-Gro (China)
Go-Gro's segment contribution decreased in 2001 to $3.0 million, down
$1.2 million from $4.2 million in 2000, reflecting the impact of a $10.9 million
decrease in sales and a $214,000 increase in SG&A expenses.
Go-Gro's sales for 2001 were $53.5 million, a decrease of $10.9 million
from the $64.4 million generated in 2000. Sales of products manufactured by
Go-Gro in 2001 (as opposed to sales of products purchased for resale by Go-Gro
from other manufacturers) decreased by $1.2 million, to $30.7 million. Third
party and intercompany sales by Go-Gro in 2001 were $13.3 million and $40.2
million, respectively, while the comparable sales amounts for 2000 were $12.4
million and $52.0 million, respectively. The decline in intercompany sales for
2001 is attributable to the overall sales decline to Catalina Industries
reflecting a decrease in Catalina Industries' U.S. business. Third party sales
in 2000 included $3.6 million in sales to Ring Limited. Sales to one third party
customer were $5.8 million in 2001 and $3.3 million in 2000, respectively.
While Go-Gro's sales decreased by $10.9 million, gross profit only
decreased by $1.0 million due to a percentage increase in sales of products
manufactured by Go-Gro, as the margins Go-Gro earns on products it manufactures
typically exceed the margins Go-Gro earns on products it purchases from other
manufacturers.
Ring Limited (United Kingdom)
Ring was acquired by the Company on July 5, 2000, and the 2000 Ring
results provided below for comparative purposes were not part of the Company's
consolidated 2000 results.
24
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
The Ring segment recorded a pretax loss of $2.5 million for 2001, which
includes $514,000 in goodwill amortization arising from the acquisition and $1.9
million in interest and financing costs for the acquisition-related debt.
Excluding these acquisition costs, Ring's pretax loss for the six months ended
March 31, 2001 was approximately $125,000, as compared to pretax income of
approximately $3.4 million for the six months ended March 31, 2000. Net sales to
B&Q, a subsidiary of Kingfisher PLC, accounted for $20.6 million or 36.7% of
Ring's sales for 2001. Net sales and gross profit for the six months ended March
31, 2001 were $56.0 million and $6.8 million, respectively, as compared to $64.1
million and $11.1 million, respectively for the same period of 2000. Ring's
sales volume and gross profit reflect a highly competitive retail business
sector stemming from consolidation in both the lighting and automotive markets,
a general decline in the automotive aftermarket (including bankruptcies of
certain customers and the entry of new competitors), and greater direct
importation of products by Ring's customers. In addition, a weakening of the
Great British pound relative to the U.S. dollar has increased Ring's cost of
goods and lowered its margins. The average exchange rate of the dollar to the
pound for the six months ended March 31, 2001 was approximately 1.45 to 1, a
significant decline from the average exchange rate for the six months ended
March 31, 2000 of 1.62 to 1. Ring's profitability erosion is directly related to
the economic factors mentioned above.
LIQUIDITY AND CAPITAL RESOURCES
The Company meets its short-term liquidity needs through cash provided
by operations, borrowings under various credit facilities with banks, accounts
payable and the use of letters of credit from customers to fund certain of its
direct import sales activities. Term loans, lease obligations, mortgage notes,
bonds, subordinated debt and capital stock are sources for the longer-term
liquidity and financing needs of the Company.
Cash Flows and Financial Condition
The Company's operating, investing and financing activities resulted in
a net decrease in cash and cash equivalents of $584,000 from September 30, 2000
to March 31, 2001.
The Company used funds generated from operations and proceeds from its
credit lines to pay for capital expenditures and make scheduled payments of $2.5
million on its term loans. Capital expenditures for the period totaled $3.8
million, of which $2.8 million related to the planned expansion of the Go-Gro
manufacturing facility and Go-Gro equipment purchases and the remainder
primarily related to the purchase of computer software.
Accounts receivable balances decreased to $26.5 million at March 31,
2001 from $36.6 million at September 30, 2000 due to the significant decline in
sales to U.S. customers, which resulted in a $9.1 million decrease in Catalina
Industries' accounts receivable since the fiscal year end. Inventory levels at
March 31, 2001 were approximately $41.8 million, as compared to $52.8 million at
September 30, 2000, as the Company has focused on lowering its inventories in
each of its principal business segments in response to current business
conditions.
The Company's agreements with its major customers provide for various
sales allowances (i.e., deductions given the customer from purchases made from
the Company), the most common of which are for volume discounts, consumer
product returns, and cooperative advertising. These allowances are usually
defined as a percentage of the gross sales price, and are recognized as a
reduction of gross sales revenue at the time the related sales are recorded. If
the customer agreement does not provide for the deduction of the allowance
amount directly from the amount invoiced the customer at time of billing, the
Company records an accrual for the amounts due. These accrued sales allowances
are settled periodically either by subsequent deduction from the accounts
receivable from the customer or by cash payment. For financial statement
presentation purposes, these sales allowances are netted against accounts
receivable, and amounted to $10,198,000 and $11,703,000 at March 31, 2001 and
September 30, 2000, respectively. The amounts of the Company's accrued sales
allowances, by customer and in the aggregate, are dependent upon various
factors, including sales volumes, the specific terms negotiated with each
customer (including whether the allowance amounts are deducted immediately from
the invoice or accrued) and the manner and timing of settlement.
25
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Acquisition and Credit Facilities
On July 5, 2000 the Company acquired Ring Plc ("Ring"), a leading
supplier of lighting, automotive after-market products and industrial
consumables in the United Kingdom. The total consideration for the acquisition
was approximately 22.4 million Great British Pounds ("GBP") or approximately
U.S. $33.8 million.
The Company entered into a five-year credit facility for approximately
$75 million with a bank syndication group to finance the acquisition of Ring and
repay and terminate its existing U.S. credit facility and Ring's U.K. facility.
The facility consists of two term loans amounting to $15 million and the GBP
equivalent of U.S. $15 million (GBP 10.5 million), respectively, and two
revolving facilities for loans, acceptances, and trade and stand-by letters of
credit for the Company's ongoing operations in the U.S. and the U.K., of $20
million and the GBP equivalent of U.S. $25 million (approximately GBP 17.7
million), respectively. Amounts outstanding under the revolving facilities are
limited under a borrowing base defined as percentages of the combined accounts
receivable and inventory balances for the U.S. and U.K. Borrowings under the
facility bear interest, payable monthly, at the Company's option of either the
prime rate plus 2.0% (10.00% at March 31, 2001) or the LIBOR rate plus a
variable spread based upon earnings, debt and interest expense levels defined
under the credit agreement (9.66% at March 31, 2001). Obligations under the
facility are secured by substantially all of the Company's U.S. and U.K. assets,
including 100% of the common stock of the Company's U.S. subsidiaries and 65% of
the stock of the Company's Canadian and first tier United Kingdom and Hong Kong
subsidiaries. The agreement contains covenants (i) requiring that the Company
maintain a minimum level of equity, meet certain debt to adjusted earnings and
fixed charge coverage ratios and (ii) limiting capital expenditures. The
agreement prohibits the payment of cash dividends or other distribution on any
shares of the Company's common stock, other than dividends payable solely in
shares of common stock, unless approval is obtained from the lenders. The
Company pays a quarterly commitment fee of .50% per annum based on the unused
portion of the revolving facilities. At March 31, 2001, $5.7 million was
available under the borrowing base for the revolving portions of the credit
facility. The $75 million credit facility contains financial covenants requiring
the Company to maintain a minimum level of equity and meet certain debt to
adjusted earnings (i.e. leverage) and fixed charge coverage ratios on a
quarterly basis. The Company obtained an amendment of this credit facility on
December 22, 2000, and without this amendment the Company would not have been in
compliance with one of the financial covenants for the quarter ended September
30, 2000.
The acquisition of Ring and the related $75 million credit facility
greatly increased the Company's outstanding borrowings and debt service
requirements and also raised the Company's overall costs of borrowings. The
Company reported net losses for the quarters ended December 31, 2000 and March
31, 2001 (See "Management's Discussion and Analysis of Financial Condition and
Results of Operations") and as a result has reduced capital expenditures,
eliminated various discretionary expenses, and is pursuing possible sales of
assets and other sources of long-term financing such as subordinated debt and
the issuance of capital stock to improve its cash position. Any material need
for cash above current expectations or a significant decline in the Company's
profitability from current expectations could require the Company to take
further actions with respect to capital expenditures, cost-cutting, incurring
additional indebtedness, selling assets, or seeking other long-term financing on
any or all of which actions could reduce the Company's liquidity and earnings
and the scope of its competitive options. There can be no assurances that any of
these actions can be effected, that they would enable the Company to continue to
satisfy its capital requirements or that they would be permitted under the terms
of the Company's various debt instruments then in effect. Should the Company
fail to meet the requirements of its amended $75 million credit facility, the
lenders would have the right to take actions that could further adversely impact
the Company's liquidity and earnings, including accelerating the maturity of the
debt, in which case the Company may not have sufficient liquidity to meet its
obligations. As a result of the Company's operating results for the first
quarter of fiscal 2001, the Company initially was not in compliance with
financial covenants under its $75 million credit facility for the quarter ended
December 31, 2000. The Company obtained an amendment of the credit facility on
February 9, 2001 and was in compliance with the amended financial covenants
under the amended facility for the quarter ended December 31, 2000. Due to the
net loss for the period, the Company was not in compliance with one of the
financial covenants under the $75 million credit facility for the quarter ended
March 31, 2001. On May 15, 2001, the Company obtained a forbearance agreement,
which in the absence of any further breach or default waives and defers through
June 15, 2001 the lenders' ability to exercise their rights and remedies for the
event of default under the credit facility resulting from the failure to meet
the financial covenant for the quarter ended March 31, 2001.
26
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
The February 9, 2001 amendment of the $ 75 million credit facility (i)
raised the permitted leverage ratio (debt divided by adjusted earnings) for the
quarter ended December 31, 2000 and the following three quarters, and lowered
the required fixed charge coverage ratio for the quarter ended December 31, 2000
and the following seven quarters, (ii) reduced the level of permitted annual
capital expenditures beginning with the fiscal year ending September 30, 2001 to
$2.25 million, (iii) increased the interest rate under the facility (the rate
for LIBOR borrowings increased by 2% and the rate for borrowings based on the
prime rate increased by .25 %) until the Company meets certain levels of debt to
adjusted earnings and fixed charge coverage defined under the amendment and (iv)
requires the Company to obtain new capital through the sale of assets, the
issuance of subordinated notes or capital stock of $5 million by July 31, 2001
and another $5 million by October 31, 2001. If the Company is unable to raise
this new capital, the interest rate on the credit facility will increase by 1%
on July 31, 2001 and another 1 % on October 31, 2001.
In addition to requiring compliance with financial covenants, the
credit facility requires the Company to obtain certain statutory declarations
and a related auditors' report prescribed under English law as explained in the
following paragraph.
Proceeds from the $75 million credit facility were used in part to fund
the Company's acquisition of Ring, a British company, on July 5, 2000. Under
English law a British company cannot lawfully provide financial assistance for
the purpose of the acquisition of its own shares (which would include using its
cash flows and other sources of funds to make payments due on debt used to fund
its acquisition) unless certain conditions are met. In addition, lenders
providing the financing for the acquisition cannot perfect their collateral
interest in the assets of the acquired British company unless such conditions
are met. In order to lawfully provide financial assistance, the acquired British
company must complete a "whitewash procedure" under English law. In essence, the
whitewash procedure requires the following: (1) every director of the acquired
British company must make a statutory declaration as to the solvency of the
acquired company and its ability to pay its debts for the next twelve months;
and (2) the statutory declarations must be accompanied by an independent
auditors' report stating that the auditors' are not aware of anything to
indicate that the statutory declarations of the directors are not reasonable. In
addition, English law requires that the net assets of the acquired British
company are not reduced by the financial assistance or, to the extent that the
net assets are reduced, the reduction is funded out of distributable profits.
"Net assets" and "distributable profits" have prescribed meanings under the
statute governing the whitewash procedure. Failure to comply with the whitewash
procedure will mean the financial assistance is unlawful, which could result in
the acquired British company facing a fine and its directors and managers facing
a fine or imprisonment or both. In addition, the transaction constituting the
financial assistance together with any security given in contravention of the
financial assistance rules, may be held by English courts to be void and
unenforceable. The financial assistance rules apply to any subsidiaries of the
acquired company which are also involved in providing financial assistance. The
February 9, 2001 amendment to the $75 million credit facility included a
requirement that the Company procure the directors' statutory declarations
regarding Ring's solvency and independent auditors' report thereon by March 31,
2001. On March 30, 2001, the Company obtained an amendment to the credit
facility extending this deadline to May 31, 2001 and on May 15, 2001 the Company
obtained a forbearance agreement which in the absence of any further breach or
default extends this deadline to June 15, 2001. Based upon (i) the net loss
reported for the six months ended March 31, 2001; (ii) the dependence of Ring on
the Company's $75 million credit facility to fund its operations and (iii) the
uncertainties associated with current economic conditions and the Company's
business, financial projections, and ability to comply with the terms of its $75
million credit facility, the Company does not expect to be able to demonstrate
its ability to meet its obligations for the next year in the manner and to the
degree required to obtain the statutory declarations and related independent
auditors' report by June 15, 2001. Consequently, unless this deadline is
extended or modified via another amendment or waived, the Company does not
expect to be in compliance with the terms of its $75 million credit facility as
of June 16, 2001.
The Company utilizes the revolving portions of its $75 million credit
facility to support its operations in the U.S. and U.K. Due to current business
conditions, U.S. and U.K. combined receivable and inventory levels - which are
the basis for the computation of amounts available under the borrowing base for
the revolving loans - declined in the quarter ended March 31, 2001. As of May
11, 2001, the Company had $4.5 million available under its revolving facilities.
Should its operating losses continue, or should its cash needs in the future
exceed its available borrowings under the revolving facilities, the Company may
be required to obtain either a modification of the $75 million credit facility
or funding from other sources to continue to support its operations.
27
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
The Company is exploring strategic alternatives including potential
divestitures, a merger, a capital infusion, a recapitalization or other actions.
The investment banking firm of SunTrust Equitable Securities has been hired to
assist with this strategic review and to formulate proposed plans and actions
for the consideration of the Board of Directors.
On April 5, 2001 the Company entered into definitive agreements with
Sun Catalina Holdings LLC ("SCH"), an affiliate of Sun Capital Partners, Inc. (a
merchant banking firm based in Boca Raton, Florida), which contemplate a junior
capital infusion for the Company of $20.5 million. Under these agreements, the
Company will receive a cash investment of $13 million from SCH in return for (i)
6 million shares of common stock; (ii) a secured subordinated promissory note in
the principal amount of $10 million, bearing interest at an annual rate of 14%;
and, (iii) a warrant to purchase additional shares of common stock at a price of
$.01 per share. Assuming exercise of the warrant immediately after closing, SCH
would own (including the 6 million shares) 52.5% of the Company's common stock.
SCH will also have the right under the agreements to appoint two-thirds of the
Company's directors at closing. The closing of this transaction is contingent
upon satisfaction of a number of conditions, including (i) the completion of due
diligence by SCH; (ii) the restructuring of the Company's $75 million credit
facility in a manner acceptable to the lenders, SCH and the Company; (iii) the
obtaining of an additional $7.5 million by the Company through issuance of
subordinated debt to another lender (which is currently being negotiated) and;
(iv) the resolution of the Company's obligations under employment agreements
with its Chief Executive Officer, Executive Vice Presidents and Chief Financial
Officer, which agreements contain "change in control" provisions. The Company
anticipates closing this transaction by late May or early June 2001. The Company
has also agreed to reimburse SCH for certain of its due diligence costs. The
transaction with SCH may result in a change of ownership for purposes of
Internal Revenue Code Section 382. Such a change may limit the Company's ability
to further utilize components of the Company's existing deferred tax assets,
requiring a valuation allowance against a portion of these assets.
The completion of the transaction with SCH contemplates the
restructuring of the terms of the $75 million credit facility, including the
whitewash procedure deadline and the financial covenants. While the Company
believes that it will complete the transaction with SCH, certain conditions are
beyond the Company's control and no assurances can be given that this
transaction will be completed. If the transaction with SCH is not consummated,
the Company believes that a waiver or an additional amendment of the $75 million
credit facility extending or modifying the June 15, 2001 completion date of the
U.K. whitewash procedure, and modifying the financial covenants for the March
31, 2001 quarter and subsequent quarters will be required. Without such waiver
or amendment, based upon the Company's current expectations there would be an
event of default under that credit facility on June 16, 2001, which could result
in acceleration of the Company's indebtedness, in which case the debt would
become immediately due and payable. Although no assurances can be given, the
Company intends to pursue negotiations with its present $75 million credit bank
syndicate group for a waiver or amendment so as to preclude acceleration of its
indebtedness on June 16, 2001 should the Company be unable to complete the
transaction with SCH. If the transaction with SCH is not completed and there is
no subsequent amendment or waiver, the Company may not be able to generate,
raise or borrow sufficient funds to repay its debt and/or to refinance its debt.
Even if new funding is available, it may not be on terms that are acceptable to
the Company. The Company's ability to satisfy the terms of the credit facility
in future quarters depends on business conditions for the Company's products and
the results of the pending transaction with SCH described above, and there can
be no assurances that the Company will be able to comply with the credit
facility terms subsequent to June 15, 2001. The Company's continuation as a
going concern is dependent upon its ability to successfully establish the
necessary financing arrangements and to comply with the terms thereof. Although
no assurances can be given, the Company believes that it will be able to
continue operating as a going concern.
The Company's credit facilities, English law, and U.S. income tax
considerations, impact the flow of the Company's funds between its major
subsidiaries. The Hong Kong credit facility prohibits the payment of dividends
without the consent of the bank and limits the amount of loans or advances from
Go-Gro to other Company subsidiaries. Any loan made or dividends paid either
directly or indirectly by Go-Gro to the Company or its U.S. subsidiaries could
be considered by U.S. taxing authorities as a repatriation of foreign source
income subject to taxation in the U.S. at a higher rate than that assessed in
Hong Kong. The net impact of such a funds transfer from Go-Gro could be an
increase in the Company's U.S. income taxes payable and its effective tax rate.
The U.S./U.K. credit facility prohibits loans to Go-Gro from either Ring or the
Company other than normal intercompany payables arising from trade. This
facility permits loans from the Company to Ring, but restricts the flow of funds
from Ring to the Company to payments constituting dividends or a return of
capital. English laws also restrict the amount of funds that may be transferred
from Ring to the parent Company and other subsidiaries.
Ring has an arrangement with a U.K. bank which is secured by standby
letters of credit issued under the GBP five-year revolving credit facility. The
arrangement provides for borrowings, trade letters of credit and foreign
currency forward
28
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
contracts and transactions. Borrowings and foreign currency forward contracts
outstanding under this arrangement amounted to approximately $7.9 million and
$2.9 million, respectively, at March 31, 2001.
The Company's Canadian subsidiary has a credit facility with a Canadian
bank which provides 5.5 million Canadian dollars or U.S. equivalent
(approximately U.S. $3.5 million) in revolving demand credit. Canadian dollar
advances bear interest at the Canadian prime rate plus .5% (7.25% at March 31,
2001) and U.S. dollar advances bear interest at the U.S. base rate of the bank
(8.50% at March 31, 2001). The credit facility is secured by substantially all
of the assets of the Company's Canadian subsidiary. The agreement contains
certain minimum covenants to be met by the Canadian subsidiary, prohibits the
payment of dividends, and limits advances by the bank to a borrowing base
calculated based upon receivables and inventory. At September 30, 2000, $2.5
million in net assets of the Company's Canadian subsidiary were restricted under
the credit facility and could not be transferred to the parent Company. This
facility is payable upon demand and is subject to an annual review by the bank.
The Company pays a monthly commitment fee of .25% based on the unused portion of
the facility. At March 31, 2001, U.S. $147,000 was available under the borrowing
base calculation.
Go-Gro, the Company's Hong Kong subsidiary, has a 60 million Hong Kong
dollars (approximately U.S. $7.7 million) credit facility with a Hong Kong bank.
The facility provides credit in the form of acceptances, trade and stand-by
letters of credit, overdraft protection, and negotiation of discrepant documents
presented under export letters of credit issued by banks. Advances bear interest
at the Hong Kong prime rate plus .25% (8.25% at March 31, 2001). The facility is
secured by a guarantee issued by the Company and requires Go-Gro to maintain a
minimum level of equity. This agreement prohibits the payment of dividends
without the consent of the bank and limits the total amount of trade
receivables, loans or advances from Go-Gro to its parent and affiliates. At
September 30, 2000, $17.2 million in net assets of Go-Gro were restricted under
the agreement and could not be transferred to the parent Company. This facility
is repayable upon demand and is subject to an annual review by the bank (usually
in May or June). At March 31, 2001, the Company had used $1.5 million of this
line for letters of credit (there were no borrowings) and U.S. $6.2 million was
available. As a result of the Company's present financial situation, the Hong
Kong bank is currently requiring Go-Gro to maintain additional collateral in the
form of cash deposits as security on this facility. Such deposits amounted to
$536,000 at March 31, 2001.
The Company arranged for the issuance in 1995 of $10.5 million in State
of Mississippi Variable Rate Industrial Revenue Development Bonds to finance
(along with internally generated cash flow and the Company's $1 million leasing
facility) its warehouse located near Tupelo, Mississippi. The bonds have a
stated maturity of May 1, 2010 and require mandatory sinking fund redemption
payments, payable monthly, of $900,000 per year through 2002, $600,000 per year
in 2003 and 2004, and $500,000 per year from 2005 to 2010. The bonds bear
interest at a variable rate (5.1% at March 31, 2001) that is adjustable weekly
to the rate the remarketing agent for the bonds deems to be the market rate for
such bonds. The bonds are secured by a lien on the land, building, and all other
property financed by the bonds. Additional security is provided by a $6.1
million direct pay letter of credit which is not part of the Company's credit
lines. This direct pay letter of credit provides that any default under any
other agreement involving a material borrowing or guarantee constitutes a
default under the direct pay letter of credit. The unpaid balance of these bonds
was $6.0 million at March 31, 2001. In January 1999, the Company entered into an
interest rate swap agreement maturing May 1, 2004, to manage its exposure to
interest rate movements by effectively converting its debt from a variable
interest rate to a fixed interest rate of 5.52%. Interest rate differentials
paid or received under the agreement are recognized as adjustments to interest
expense.
The Company has a $1 million facility with a U.S. financial institution
to finance the purchase of equipment in the United States, of which $812,000 was
available at March 31, 2001. Ring has a GBP 1.5 million (approximately U.S. $2.1
million) facility with a U.K. financial institution to finance the purchase of
vehicles and equipment of which $1.1 million was available at March 31, 2001.
This facility is renewed annually.
The Company financed its corporate headquarters in Miami, Florida with
a loan payable monthly through 2004, based on a 15-year amortization schedule,
with a balloon payment in 2004. The loan bears interest at 8% and is secured by
a mortgage on the land and building. The unpaid balance of this loan was
$862,000 at March 31, 2001.
29
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Capital Expenditures
In September 2000 the Company's wholly owned Hong Kong subsidiary,
Go-Gro Industries ("Go-Gro") made a deposit of approximately $1 million to
purchase its joint venture partner's interest in Go-Gro's Chinese cooperative
joint venture manufacturing subsidiary, Shenzhen Jiadianbao Electrical Products
Co., Ltd. ("SJE"). This purchase was finalized in December 2000. During the
quarter ended March 31, 2001, SJE was converted under Chinese law from a
cooperative joint venture to a wholly-owned foreign entity and its name changed
to Jiadianbao Electrical Products (Shenzhen) Co., Ltd. ("JES").
JES obtained non-transferable land use rights for the land on which its
primary manufacturing facilities were constructed under a Land Use Agreement
dated April 11, 1995 between SJE and the Bureau of National Land Planning Bao-An
Branch of Shenzhen City. This agreement provides JES with the right to use this
land until January 18, 2042 and required SJE to construct approximately 500,000
square feet of factory buildings and 211,000 square feet of dormitories and
offices. This construction was substantially complete as of May 2001 and total
costs for this construction aggregated $16.1 million at March 31, 2001.
In connection with the settlement with Go-Gro's former joint venture
partner in SJE, JES acquired the land use rights for a parcel of land adjoining
its primary manufacturing facilities. Under the separate land use agreement for
this parcel, JES has the right to use the land through March 19, 2051 and is
obligated to complete new construction on the land (estimated to cost
approximately $1.3 million) by March 20, 2002. If this construction is not
completed by that date JES is subject to fines, and if the construction is not
completed by March 20, 2004, the local municipal planning and state land bureau
may take back the land use rights for the parcel without compensation and
confiscate the structures and attachments.
Westinghouse License
On April 26, 1996, the Company entered into a license agreement with
Westinghouse Electric Corporation to market and distribute a full range of
lighting fixtures, lamps and other lighting products under the Westinghouse
brand name in exchange for royalty payments. Subject to the minimum sales
conditions discussed below, the agreement terminates on September 30, 2002 with
the Company having options to extend the agreement for two additional five-year
terms. The royalty payments are due quarterly and are based on a percent of the
value of the Company's net shipments of Westinghouse branded products, subject
to annual minimum net shipments. Either party has the right to terminate the
agreement if the Company does not meet the minimum net shipments of $30 million
for fiscal 2001 and $60 million for fiscal 2002. Net sales of Westinghouse
branded products amounted to $8.3 million and $12.8 million for the six months
ended March 31, 2001 and 2000, respectively.
NYSE Listing
On August 9, 1999 the New York Stock Exchange ("NYSE") notified the
Company that it had changed its rules regarding continued listing for companies
which have shares traded on the NYSE. The new rules changed and increased the
requirements to maintain a NYSE listing. Through March 31, 2001, the Company did
not meet the new rules, which require a total market capitalization of $50
million and the maintenance of minimum total stockholders' equity of $50
million. On April 5, 2001 the NYSE announced that it had determined that the
common stock of the Company should be removed from the list of companies trading
on the NYSE. The Company has determined not to appeal the NYSE's decision. The
Company is working with Nasdaq and Nasdaq market makers in order to allow the
Company's stock to be quoted through the Nasdaq Bulletin Board. The Company
believes that its stock will be quoted through the Bulletin Board under a new
trading symbol shortly after the stock ceases to trade on the NYSE, although no
assurances can be given as to the timing or certainty of this transition.
30
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
Litigation
During the last three years the Company received a number of claims
relating to halogen torchieres sold by the Company to various retailers.
After January 1, 1999, the Company is self-insuring up to $10,000 per incident.
Based upon its experience, the Company is presently accruing for this
self-insurance provision and has accrued $211,000 for this contingency as of
March 31, 2001. Management does not believe that this self-insurance provision
will have a material adverse impact on the Company's financial position or
annual results of operations. However, no assurance can be given that the number
of claims will not exceed historical experience or that claims will not exceed
available insurance coverage or that the Company will be able to maintain the
same level of insurance.
On September 15, 1999, the Company filed a complaint entitled Catalina
Lighting, Inc. v. Lamps Plus, Civil Action 99-7200, in the U.S. District Court
for the Southern District of Florida. The lawsuit requested declaratory relief
regarding claims of trade dress and patent infringement made by Lamps Plus
against a major customer of the Company. Lamps Plus filed an Answer and
Counterclaim against Catalina and its customer on October 6, 1999 alleging
patent infringement and trade dress. The trade dress claim was dismissed with
prejudice before trial in March 2001. In April 2001, a jury returned a verdict
finding liability against the Company and assessing approximately $2,000,000 of
potential damages. The Court has not entered judgment on either liability or
damages, pending post trial briefing by the parties on both the issue of
liability and the measure of damages. Pursuant to a joint stipulation between
the parties, if the Court enters a verdict of liability against the Company, the
Court could determine the actual application of damages, which could range
between $275,000 and $2,000,000. Under U.S. patent law, certain types of damages
are subject to trebling if an infringing party's conduct is determined to be
"exceptional." If the Court were to make such a finding, enhanced damages of
between $800,000 to $4,637,000 could be awarded. The Company filed motions to
set aside the verdict as a matter of law on April 11, 2001. Lamps Plus filed
motions in opposition on April 23, 2001 and the Company replied on April 27,
2001. The Company intends to appeal any adverse judgment entered by the Court.
Based upon advice of counsel, the Company believes that it ultimately will not
be found liable for patent infringement in this case and that the chances are
remote that any enhanced damages will result from the outcome of this case.
Accordingly, no amounts have been accrued in the March 31, 2001 Condensed
Consolidated Financial Statements for this matter.
Other Matters
The People's Republic of China currently enjoys normal trading
relations ("NTR"). In the context of United States tariff legislation, such
treatment means that products are subject to favorable duty rates upon entry
into the United States. The United States annually reconsiders the renewal of
NTR trading status for the PRC. Members of Congress and the "human rights
community" also monitor the human rights issues in China and adverse
developments in human rights and other trade issues in China could affect U.S. -
China relations. As a result of various political and trade disagreements
between the U.S. Government and China, it is possible restrictions could be
placed on trade with China in the future which could adversely impact the
Company's operations and financial position.
Ring has a defined benefit pension plan which covers 29 current
employees and over 1,000 other members formerly associated with Ring. The plan
is administered externally and the assets are held separately by professional
investment managers. The plan is funded by contributions at rates recommended by
an actuary. The Company is reviewing the future of the plan and believes that in
the future it may begin the process of terminating the Company's liability under
the plan. It is anticipated that a termination will require payment of a lump
sum equal to the "Minimum Funding Requirement ("MFR") shortfall. The most recent
estimate as of January 2001 placed the MFR shortfall at $2.0 million. The U.K.
Government announced in its March 2001 budget that it intends to abolish the MFR
and to replace it with funding standards individually tailored to the
circumstances of plans and employers. Based on current information, it appears
that this change is not likely to occur before April 2003, and should the
Company not terminate its U.K. pension plan prior to
31
CATALINA LIGHTING, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
that date, the cost to terminate the Company's U.K. plan under the new rules is
likely to be much greater than the current $2 million deficit under the MFR
method.
As of March 31, 2001, Ring had outstanding 9.5 million convertible
preference shares of which 2.5 million shares were held by third parties and the
remaining 7 million shares were owned by the Company. The holders of the
convertible preference shares are entitled to receive in priority to the equity
shareholders a fixed cumulative dividend of 19.2 % per annum until January 1,
2004. The shares are convertible into fully paid ordinary shares on the basis of
two ordinary shares for every five preference shares. Any outstanding preference
shares on January 1, 2004 automatically will convert into fully paid ordinary
shares on the same basis.
Pursuant to a reorganization of the Company's executive management
structure, William D. Stewart, an Executive Vice-President of the Company left
the employ of the Company in December 1999 to pursue other interests. Under the
terms of the settlement agreement, Mr. Stewart will continue to provide
consulting services under a three-year non-compete and consulting agreement. The
Company has recorded a non-recurring pretax charge of $788,000 during the
quarter ended December 31, 1999 related to the settlement of its contractual
employment obligation to Mr. Stewart and is obligated to pay $250,000 annually
through December 2002 under the non-compete and consulting agreement.
Impact of New Accounting Pronouncement
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101 ("SAB 101") which summarizes certain of the staff's
view in applying generally accepted accounting principles to revenue recognition
in financial statements. The effective date of SAB 101 for the Company is the
quarter ending September 30, 2001. The Company has evaluated the impact that SAB
101 will have on the timing of revenue recognition in future periods and
believes SAB 101 will not have a material impact on its financial position or
results of operations.
Impact of Inflation and Economic Conditions
Go-Gro has periodically experienced price increases in the costs of raw
materials, which reduced Go-Gro's profitability due to an inability to
immediately pass on such price increases to its customers. Significant increases
in raw materials prices could have an adverse impact on the Company's net sales
and income from continuing operations.
Foreign Currency Risk
The Company maintains investments in subsidiaries in Canada, Mexico and
Chile and sells its products into these foreign countries. The Company sells
into Europe and maintains major capital investments in manufacturing facilities
in China and supporting administrative offices in Hong Kong. With the
acquisition of Ring in July 2000, the Company has a major capital investment and
significant operations in the United Kingdom. Due to the significance of its
international sales and operations, the Company's business and operating results
are impacted by fluctuations in foreign currency exchange rates. If any of the
currencies of the foreign countries in which it conducts business depreciated
against the U.S. dollar the Company could experience significant changes in its
translations of assets, liabilities and transactions denominated in foreign
currencies, which could adversely impact the Company's future earnings. Large
fluctuations in currency exchange rates could have a material adverse effect on
the Company's cost of goods purchased (or manufactured) or on the Company's
selling prices thereby harming the Company's competitive position and
profitability. The Company borrows in British pounds, Canadian dollars and Hong
Kong dollars and will increase or decrease these foreign borrowings for various
business reasons (including anticipated movements in foreign exchange rates).
Ring also enters into forward contracts to exchange Great British pounds for
various foreign currencies. These contracts are fair value hedges of liabilities
related to commitments to purchase inventory in currencies other than the GBP,
and are entered into at the time the goods are shipped to Ring. Presently, the
Company has not entered into any other derivative instruments to hedge its
foreign currency exposure. During the six months ended March 31, 2001 the
Company's pretax loss reflected foreign currency losses for its China, Canadian,
Mexican and Chilean operations of $125,000, $93,000, $40,000 and $40,000,
respectively. In addition, the Company's stockholders' equity at March 31, 2001
has been reduced by a $1.2 million foreign currency translation loss related to
U.K. operations.
32
CATALINA LIGHTING, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On September 15, 1999, the Company filed a complaint entitled Catalina
Lighting, Inc. v. Lamps Plus, Civil Action 99-7200, in the U.S. District Court
for the Southern District of Florida. The lawsuit requested declaratory relief
regarding claims of trade dress and patent infringement made by Lamps Plus
against a major customer of the Company. Lamps Plus filed an Answer and
Counterclaim against Catalina and its customer on October 6, 1999 alleging
patent infringement and trade dress. The trade dress claim was dismissed with
prejudice before trial in March 2001. In April 2001, a jury returned a verdict
finding liability against the Company and assessing approximately $2,000,000 of
potential damages. The Court has not entered judgment on either liability or
damages, pending post trial briefing by the parties on both the issue of
liability and the measure of damages. Pursuant to a joint stipulation between
the parties, if the Court enters a verdict of liability against the Company, the
Court could determine the actual application of damages, which could range
between $275,000 and $2,000,000. Under U.S. patent law, certain types of damages
are subject to trebling if an infringing party's conduct is determined to be
"exceptional." If the Court were to make such a finding, enhanced damages of
between $800,000 to $4,637,000 could be awarded. The Company filed motions to
set aside the verdict as a matter of law on April 11, 2001. Lamps Plus filed
motions in opposition on April 23, 2001 and the Company replied on April 27,
2001. The Company intends to appeal any adverse judgment entered by the Court.
Based upon advice of counsel, the Company believes that it ultimately will not
be found liable for patent infringement in this case and that the chances are
remote that any enhanced damages will result from the outcome of this case.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.206 Fourth Amendment to Amended and Restated Revolving Credit and
Term Loan Agreement between Catalina Lighting, Inc., Catalina
International PLC, Ring Limited and SunTrust Bank dated March
30, 2001.
10.207 Forbearance and Amendatory Agreement between Catalina
Lighting, Inc., Catalina International PLC, Ring Limited and
SunTrust Bank dated May 15, 2001.
11 Schedule of Computation of Diluted Earnings (loss) per Share.
(b) Reports on Form 8-K
None.
33
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.
/s/ Robert Hersh
------------------------------------------------------
Robert Hersh, Chairman, President,
Chief Executive Officer and Director
/s/ David W. Sasnett
------------------------------------------------------
David W. Sasnett
Chief Financial Officer, Senior Vice President,
Chief Accounting Officer
Date: May 15, 2001
34
EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
-------------- -----------
10.206 Fourth Amendment to Amended and Restated Revolving Credit and
Term Loan Agreement between Catalina Lighting, Inc., Catalina
International PLC, Ring Limited and SunTrust Bank dated March
30, 2001.
10.207 Forbearance and Amendatory Agreement between Catalina
Lighting, Inc., Catalina International PLC, Ring Limited and
SunTrust Bank dated May 15, 2001.
11 Schedule of Computation of Diluted Earnings (loss) per Share.