Item 1. Business
As used in this report, the terms “Boss” and “Company” refer to Boss Holdings, Inc. (the Registrant), a Delaware corporation, and its operating subsidiaries. The Company’s primary operating subsidiary is Boss Manufacturing Company, a Delaware corporation (“BMC”), originally established in 1893.
The Company operates primarily in the work gloves and protective wear business segment. In addition, the Company conducts operations in the pet supplies business segment and completed the acquisition of Galaxy Balloons, Inc. (“Galaxy”) during 2004, expanding the Company’s operations into the promotional and specialty products segment.
Work Gloves and Protective Wear
Through BMC, the Company imports, markets and distributes gloves, boots and rainwear products serving two primary markets - consumer and industrial. The consumer market represents approximately 57% of BMC domestic sales and consists of retailers ranging from convenience stores to mass merchandisers as well as hardware, and grocery stores. The industrial market, which accounts for the balance of sales in this segment, includes various commercial users of gloves and protective wear. These end-users include companies in the agricultural, automotive, energy, lumber and construction industries.
BMC primarily markets its products through distributors and manufacturer representatives. In addition, the Company sells directly through its own sales force to certain major retail customers. BMC products are sold predominantly to customers in the United States, with the Company’s Boss Canada subsidiary generating approximately 5% of the sales in this segment.
The markets served by the work gloves and protective wear segment are intensely competitive with a high degree of price competition. In addition, many retailers have begun to import products directly in recent years. BMC competes on the basis of distribution service capabilities, selection, quality and price. Having participated in this segment for over 100 years, BMC and the Boss trade name are well known in the industry. The market for work gloves and protective wear is highly fragmented and served by a large number of domestic and foreign competitors ranging in size from small sole proprietorships to several companies substantially larger than BMC.
Sales in the work gloves and protective wear segment have historically exhibited seasonal fluctuations. Cold weather months generally provide increased sales while warm weather historically results in reduced sales activity. Because of this seasonality, glove and protective wear sales tend to be higher in the Company’s first and fourth quarters and lower during the second and third quarters.
BMC sells to a broad customer base approximating two thousand active accounts. Accordingly, BMC has relatively little dependence on any one customer. At the end of 2004, BMC had an open order backlog of approximately $1,250,000, down about $225,000 from the previous year.
The Company ceased domestic manufacturing operations during 2000 and is now primarily an importer and marketer. Finished goods in this segment are generally widely available from a number of suppliers in various countries. After declining in previous years, the cost of imported goods began to increase during 2004 for certain goods, particularly split-leather products and goods produced from oil-based materials. The Company has occasionally experienced limitations in the supply of certain imported products, generally due to raw material shortages. Availability of imported goods is further subject to interruptions in shipping as well as import/export documentation and clearing. The Company does not anticipate shortages of purchased goods for resale in 2005.
During the fourth quarter of 2002, the Company entered into a trademark license agreement with Caterpillar, Inc. under which the Company markets work gloves and rainwear under the CAT® trademark. Management developed a complete new line of CAT® products during 2003. Sales of CAT® products were in line with management expectations for 2004 and totaled over 5% of sales in the work gloves and protective wear segment for the year. The Company believes that the CAT® trademark will provide additional sales growth opportunities while allowing the Company to introduce new products which are less sensitive to market pricing pressures.
The Boss logo is an important trademark of the Company which it vigorously defends in the market. In addition, BMC has various registered names and trademarks for specific products which the Company believes add substantial value in the sales and marketing efforts associated with this segment. Additional financial information on the work gloves and protective wear segment is included in the “Notes to Consolidated Financial Statements” and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.
Pet Supplies
The Company operates in the pet supplies segment through two subsidiaries. The Warren Pet (“Warren”) division of the Company’s Boss Manufacturing Holdings, Inc. subsidiary imports, markets and distributes a comprehensive line of non-food pet supplies to various retail outlets. Products in this line include dog and cat toys, collars and leads, chains and rawhide products. Warren markets its product line primarily to discount and hardware retailers utilizing a network of regional distributors.
Boss Pet Products, Inc. (“Boss Pet”), a wholly owned subsidiary of BMC, imports, markets and distributes pet cable restraints, shampoos and other pet chemical products. The Company acquired this business through the purchase of certain assets from RocCorp, Inc. during the fourth quarter of 2002. Boss Pet markets its products primarily to pet supply specialty retailers under the Prestige brand name. In addition, Boss Pet sells products to discount retailers under various privately labeled brand names. Essentially all sales in this segment are within the United States.
The pet supplies industry is extremely competitive. A small group of companies including Hartz Mountain Corporation and Sergeant’s Pet Care Products, Inc. dominate the industry. The Company competes primarily in selected market niches by focusing on customer service, specialized marketing, unique products and competitive pricing.
Sales in the pet supplies segment have historically exhibited seasonal fluctuations. Spring and summer months tend to generate higher sales at retail as consumers spend time outdoors with their pets during warm weather months. Cold weather months generally produce lower sales at retail. Because of this seasonality, pet supply sales tend to be higher in the Company’s first and second quarters, with sales declining through the third and fourth quarters.
The Company generally has multiple sources of supply for substantially all of its product requirements in this segment. Finished goods purchased have generally been readily available in sufficient quantities. However, the pet supplies segment is subject to the same potential for product interruptions noted in the work gloves and protective wear segment. Because of the seasonality in this segment, the open order backlog was not material at the end of 2004 or 2003.
Due to the market niches served by Boss Pet and Warren, these operations serve a smaller customer base with less diversification than the Company’s operations in other segments. Boss Pet’s largest customer accounted for 41% of sales in this segment during 2004 while Warren’s largest customer accounted for 16%.
Additional financial information on the pet supplies segment is included in the “Notes to Consolidated Financial Statements” and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.
Promotional and Specialty Products
During the third quarter of 2004, the Company acquired Galaxy, a Cleveland, Ohio based company operating in the promotional and specialty products segment. Galaxy provides custom imprinted balloons, balls and other inflatable products that are sold primarily into the advertising specialties industry through approximately 4,000 distributors. In addition, Galaxy has broadened its product line to include various non-inflatable imprinted items including candles, yo-yos and Christmas ornaments.
A broad based group of end-users, from banks to hotels to schools, purchase Galaxy’s custom imprinted products for advertising and promotional purposes. Examples include miniature footballs and basketballs thrown into the crowds at sporting events and helium filled balloons given to children at restaurants. These items are imprinted with the school or company name for maximum effect.
The advertising specialties industry includes over 20,000 distributors serving a $16 billion market which has experienced substantial growth over the past decade. This market is very competitive and Galaxy competes against companies offering similar products as well as companies offering other custom imprinted goods such as pens, t-shirts and caps. Galaxy competes on the basis of quality, both in terms of the products offered and the printing process, service, with Galaxy offering quick turn-around times as well as small minimums, and price. The products offered by Galaxy provide end-users with the opportunity to get their name in front of many potential customers for a relatively small advertising cost.
Based on its review of results from prior years, management expects seasonal sales fluctuations in the promotional and specialty products segment. Historically, sales in this segment reach a low point during the holiday season through January, then build to a peak in late summer. To reduce this seasonality, Galaxy has increased its product line to include Christmas ornaments and candles.
Due to its broad customer base, Galaxy has little dependence on any one customer. Galaxy’s open order backlog was not material at year-end due to the seasonal nature of sales in this segment. Galaxy purchases the finished goods on which it custom imprints products from a number of sources, both domestic and international. Though suppliers are limited in certain product areas, Galaxy has experienced no product shortages in recent years and anticipates an adequate supply of goods in the coming year.
Additional financial information on the promotional and specialty products segment is included in the “Notes to Consolidated Financial Statements” and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.
Environmental Matters
The Company is subject to various federal, state and local regulations concerning the environment. Efforts to maintain compliance with such regulations have not required expenditures material to the Company’s overall operating performance or financial condition.
Employees
As of December 25, 2004, Boss employed approximately 213 full-time associates, up about 89 from the previous year due to the purchase of Galaxy. The Company employed no union employees at the end of 2004. Approximately 206 associates were located in the United States with 7 located in Canada at year-end.
The Company believes its employee relations are excellent with relatively low turnover rates in key positions. However, the Company’s past success in attracting and retaining employees cannot assure attainment of future employment objectives.
Available Information
Information concerning the Company and its products can be obtained from its primary internet website at www.bossgloves.com. The Company’s public financial reports and insider trading reports can be accessed under the “Boss Holdings, Inc.” subsection of the website area titled “Company Information”. In addition, information
about products available from subsidiary operations is available at the following websites, www.galaxyballoon.com and www.roccorp.com.
The following table shows the location, general character, square footage, approximate annual rent and lease expiration date of the principal operating facilities owned or leased by the Company as of December 25, 2004. The principal executive offices are located in Kewanee, Illinois.
The Company sold its Springfield, Illinois building in the fourth quarter of 2004 and leased back 25,000 square feet for one year to provide temporary storage. In connection with the Galaxy acquisition, the Company assumed the lease of a portion of a building in Lakewood, Ohio. The above properties not designated as used in the pet supplies segment or printing (promotional and specialty products segment) are predominantly used in the work gloves and protective wear segment.
Due to the addition of the CAT® product line, various new industrial products, increased volume of industrial shipments and planned product expansion into certain outdoor products, the Company’s facilities in the work gloves and protective wear segment are currently at capacity. Management may obtain additional temporary storage to meet anticipated space requirements during the coming year.
The Company is a party to various legal actions incident to the normal operations of its business. These lawsuits primarily involve claims for damages arising out of commercial disputes. The Company has been named as a defendant in several lawsuits alleging past exposure to asbestos contained in gloves sold by one of the Company’s predecessors-in-interest, all of which actions are being defended by one or more of the Company’s general liability or products liability insurers. Management believes the ultimate disposition of these matters should not materially impair the Company’s consolidated financial position or liquidity.
Item 4.
Item 4.
Submission of Matters to a Vote of Security Holders
The Company submitted no matters for security holder voting during the fourth quarter of 2004.
PART II
Item 5.
Item 5.
Market for Registrant’s Common Equity and Related Stockholder Matters
The Company’s common stock (symbol: BSHI) currently is listed on the Over-the-Counter (OTC) Bulletin Board. The Company’s common stock is not listed on any national stock exchange or on NASDAQ. The OTC Bulletin Board is a regulated quotation service that displays real-time quotes, last-sale prices and volume information for non-listed (over-the-counter) equity securities. The OTC Bulletin Board is a reporting system for participating market makers, not an issuer listing service, and should not be confused with the NASDAQ Stock Market. Participating market makers in the bulletin board system enter quotes and trade reports on a closed computer network and the information is made publicly available through numerous websites and other locations. The OTC Bulletin Board is distinct from the “pink sheets” published by the National Quotation Bureau which also report on transactions in non-listed equity securities. OTC Bulletin Board quotations reflect interdealer prices, without retail mark-up, mark-down or commission and may not represent actual transactions.
Stockholders of record at February 28, 2005 numbered approximately 1,479. The Company has not paid cash dividends on its Common Stock in the past and currently plans to retain earnings, if any, for business development and expansion.
There were no repurchases of common stock during the three months ended December 25, 2004.
Item 6.
Item 6.
Selected Financial Data
The following table contains selected consolidated financial data for the five year period ended December 25, 2004 as derived from the consolidated financial statements of the Company. This table should be read in conjunction with “Management’s Discussion and Analysis of Results of Operations and Financial Condition” and the Company’s audited Consolidated Financial Statements and Notes thereto appearing elsewhere herein.
Consolidated Balance Sheet Data
Consolidated Statement of Operations Data
In the third quarter of 2004, the Company reduced its valuation allowance on the deferred tax asset related to net operating loss carryforwards, resulting in a $2,688,000 net tax non-cash benefit for the year. This change materially affects the comparability of 2004 net earnings with prior periods. Please refer to Management’s Discussion and Analysis of Results of Operations and Financial Condition - Income Tax Expense below.
Item 7.
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Contents
This item of the annual report on Form 10K is divided into the following sections:
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Executive Summary - Provides a brief overview of the year’s results and known uncertainties expected to have an effect on future results.
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Critical Accounting Policies - Discusses the accounting policies which management believes are the most essential to aid in understanding the Company’s financial results.
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Results of Operations - Analyzes the Company’s financial results comparing sales, operating margins and expenses to prior periods including management’s expectation of trends and uncertainties on future results.
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Liquidity and Capital Resources - Analyzes the Company’s cash flow from operating, investing and financing activities and further discusses the Company’s current and projected liquidity.
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Inflation - Reviews the impact of inflation on the Company’s reported results.
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Market Risk - Discusses the Company’s exposure to market risk sensitive instruments commonly referred to as derivatives.
Executive Summary
Boss expanded its family of companies with the acquisition of Galaxy Balloons, Inc. during the third quarter of 2004. The Company generated sales of over $43 million, up about 20% from 2003, on the strength of sales from this acquisition and revenue growth in the Company’s traditional operating segments. Boss also improved its profitability producing operating income for the year of $1,227,000, up $870,000 from 2003.
Due to the recent trend of improved earnings in the Company’s traditional operating segments and projected earnings from the Galaxy acquisition, management concluded during the third quarter of 2004 that the Company should recognize a portion of the tax benefit associated with its net operating loss (“NOL”) carryforwards. Accordingly, the Company recorded a non-cash tax benefit of $3,127,000. With improved operating income and the recognition of a significant tax benefit, the Company recorded net earnings of $3,723,000 for 2004. Excluding the tax benefit of $3,127,000, net income after tax at a normal rate of 39% would total approximately $600,000, or basic earnings per share of $0.31.
While the Galaxy acquisition accounted for one half of sales growth in 2004, the Company continued its favorable sales trend from 2003 in other segments. During 2004, Boss revenues in the work gloves and protective wear segment increased on the strength of positive initial year sales of the recently developed CAT® product line of gloves and rainwear as well as expansion of its domestic industrial customer base. In an effort to enhance sales growth for 2005, the Company developed an expanded line of sports and outdoor products for the work gloves and protective wear segment during 2004. In the pet supplies segment, the Company continued to expand its customer base, resulting in favorable revenue growth for this segment.
Due to product cost increases on certain items, particularly in the work gloves and protective wear segment, the Company increased selling prices on a selected basis during 2004. These selling price increases favorably impacted sales. However, margins trended slightly lower in 2004 because of higher product costs. Management believes import costs on many items in this segment will increase further during the coming year.
Operating expenses increased 9% during 2004 compared to the prior year due primarily to the Galaxy acquisition. In addition, operating expenses increased in the Company’s other segments due in large part to commissions and other expenses which fluctuate with sales.
Several factors significantly influenced the Company’s liquidity during 2004. First, the net cash price paid for Galaxy totaled $3,418,000, with the Company financing $1,750,000 from its primary lender under a new term loan. A second significant factor occurred in the fourth quarter when the Company sold its Springfield, Illinois building for $1,850,000. The selling price net of expenses essentially equaled the carrying cost of this facility. The Springfield sale enabled the Company to retire a $1,120,000 mortgage and reduce its revolving line of credit by approximately $600,000. Third, the Company significantly increased inventory during the year, particularly in its work gloves and protective wear segment, in large part to support CAT® product sales. Primarily as a result of these factors, the Company’s cash position declined by $3,423,000 and long-term debt, including the current portion, increased by $837,000. Management believes the sales and profitability growth from its activities in 2004 will improve the Company’s future liquidity and financial position.
In the year ahead, several key factors are likely to affect the Company’s results. These factors include the impact of Galaxy operations on a full year basis, the cost of imported finished goods, market acceptance of new CAT® products, customer retention and expansion efforts, particularly in the consumer market of the work gloves and protective wear segment, and the upward trend in operating expenses. Each of these will be further discussed in the following sections. To summarize, management anticipates sales growth for 2005 on full year sales from Galaxy, customer growth in the pet supplies segment and industrial market for work gloves and protective wear and sales of outdoor and sporting gloves. However, margins are likely to be negatively impacted by higher import costs. Further, management expects operating costs to increase due to the higher governance costs associated with public companies in the current environment as well as sales related expenses such as commissions which should increase
with higher sales. Increased costs and lower margins may offset a significant portion of the benefit from higher sales during 2005.
Critical Accounting Policies
The discussion and analysis of financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. Preparation of these financial statements requires management to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of the financial statements. Actual results may differ from these estimates under different assumptions or conditions.
Significant accounting policies which management believes are the most critical to aid in fully understanding and evaluating the Company’s reported financial results include the following:
Revenue Recognition
The Company recognizes revenue from product sales at the time of shipment and passage of title. Management records estimated reductions to revenue for customer programs and incentive offerings including special pricing agreements, promotions and other volume-based incentives. Management periodically reviews the balance in the associated accrued promotional liability in relation to amounts charged and the current accrual rate. In addition, the Company maintains a schedule of allowances earned for all major customers to ensure accrued allowances are materially accurate.
Accounts Receivable
Management performs ongoing customer credit evaluations and adjusts credit limits based upon payment history and the customer’s current credit worthiness, as determined by review of available credit information. The Company’s estimate for its allowance for doubtful accounts related to trade receivables is based on two methods. The amounts calculated from each of these methods are evaluated to determine the total amount reserved. First, the Company evaluates specific accounts on which available information indicates that the customer may have an inability to meet its financial obligations. In these cases, based on the best available facts and circumstances, the Company records a specific reserve for that customer against amounts due to reduce the receivable to the amount that is expected to be collected. Second, a general reserve is established for all customers based on a range of percentages applied to aging categories. The Company has consistently applied these percentages for a number of years and management believes the results adequately provide for expected unrecoverable accounts. However, should circumstances change, for example an unexpected material adverse change in a major customer’s ability to meet its financial obligation to the Company, management’s estimate of the recoverability of amounts due the Company could be reduced by a material amount.
Inventories
Inventories are stated at the lower of cost or market value. Cost is principally determined by the first-in, first-out method using a standard cost system. To facilitate up-to-date costing in the current rapidly changing environment, standards are updated upon receipt of goods when the cost of the goods received represents a material change from the current standard. Inventory gains and losses associated with these standard cost changes are amortized in an effort to match the impact of such gains and losses with the associated impact on margin recorded in the statement of income. Management periodically reviews inventory quantities on hand and records a provision for excess, slow-moving and obsolete inventory based primarily on forecasted product demand. As of December 25, 2004, the inventory valuation allowance totaled approximately $799,000. Should forecasted product demand prove inaccurate, the Company may be unable to realize the recorded value of certain products included in inventory.
Deferred Taxes
The Company recognizes deferred tax assets and liabilities based on the differences between the financial statement carrying amounts and the tax bases of assets and liabilities. Because of substantial losses in prior years, primarily during the years 1995 through 1997, the Company has available NOL carryforwards of approximately $31,325,000 as of December 25, 2004.
Accounting principles generally accepted in the United States require the recording of a valuation allowance against the net deferred tax asset associated with this NOL and other timing differences if it is “more likely than not” that the Company will not be able to utilize the NOL to offset future taxes. Due to the size of the NOL carryforward in relation to the Company’s taxable income and to potential uncertainties surrounding expected future earnings, management did not recognize any of its net deferred tax asset prior to the third quarter of 2004.
Because of the Company’s recent profitability trend from traditional operating segments and projected profitability from the Galaxy acquisition, management concluded during the third quarter of 2004 that the Company would likely utilize approximately 25% of its available NOL carryforwards. Accordingly, the Company reduced its valuation allowance by $3,127,000 and recognized a commensurate tax benefit. In all subsequent periods, for book purposes the Company will record income tax expense on earnings at normal rates, approximately 39% currently, and reduce the related deferred tax asset. The tax benefit and tax expenses recorded for book purposes have no effect on the Company’s actual tax liability.
Subsequent revisions to the estimated net realizable value of the deferred tax asset could cause the provision for income taxes to vary significantly from period to period, although the Company’s cash tax payments would remain unaffected until complete utilization of the NOL benefit.
Goodwill
In connection with its purchase of Galaxy during 2004, the Company recorded goodwill of $2,453,000. Goodwill represents the excess of purchase price and related costs over the value assigned to the net tangible and identifiable intangible assets of the business acquired. In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”, the Company does not amortize the goodwill associated with the Galaxy purchase since it has an indefinite life. Instead, management will test goodwill for impairment in the fourth quarter of each year, or if certain circumstances indicate the existence of a possible impairment. Management’s impairment test will consider the carrying value of Galaxy, including goodwill, in relation to its fair value based upon earnings generated.
Results of Operations
Sales
2004 Compared to 2003
The Company generated increased sales in each operating segment during 2004, with total sales of $43,474,000 up $7,203,000, or 19.9%. The largest increase occurred in the promotional and specialty products segment with the third quarter 2004 acquisition of Galaxy accounting for the sales growth in this segment. In addition, both the pet supplies and work gloves and protective wear segments provided significant sales growth for the year.
The Company acquired Galaxy on July 30, 2004. The Galaxy acquisition enabled the Company to expand into a new product line and new channel of distribution. Galaxy markets custom imprinted inflatable products such as balloons and beach balls as well as certain other products including ornaments and candles sold primarily in the advertising specialties industry. The Company believes this industry affords excellent revenue potential through expected industry growth as well as prospective product line expansion opportunities.
Galaxy revenues totaled approximately $3,700,000 for the five-month period subsequent to the acquisition. Sales in this segment typically reach a seasonal peak at the end of the third quarter, then decline reaching a low during the holiday season through January. Due to this seasonality, sales and profitability for the five-month period in 2004 may not be indicative of full-year results to be expected for 2005. Management anticipates 2005 Galaxy sales to be in the range of $7,500,000 to $8,000,000.
In the work gloves and protective wear segment sales increased $2,736,000, or 9%, during 2004, the Company’s largest growth in this segment in recent years. This sales growth was attributable to increased revenue in the domestic industrial market and sales of CAT® branded products.
Sales in the domestic industrial market of the work gloves and protective wear segment increased 13% in 2004 compared to the prior year on a 16% increase in unit volume. Despite selling price increases on a number of items during 2004, a shift in sales mix to lower cost goods, particularly in rainwear products, more than offset the selling price increases. After a long-term trend of decreasing import costs from 1998 through 2003, the cost of many imported goods constructed from split leather and petroleum based products, such as polyester and PVC, began to rise in 2004. In response, the Company increased certain selling prices in an effort to maintain margins. The Company’s 2004 revenue growth in this market resulted from higher selling prices as well as expanded sales efforts in recent years including increased utilization of manufacturer’s representative groups, greater participation in trade shows, utilization of a west coast warehouse and product line extensions. While increasing sales, these efforts have also increased commission and warehousing expenses.
During 2004, the Company’s efforts in developing CAT® branded gloves and rainwear yielded positive results. The process of obtaining the CAT® license and developing appropriate products took longer than anticipated. However, initial customer reaction during 2004 was very favorable with sales totaling approximately $1,800,000. The bulk of these sales occurred in the domestic market. Management believes there is a significant international demand for CAT® goods, particularly in Europe, and plans to explore distribution network opportunities to capitalize on this demand in the future.
Sales in the domestic consumer market of the work gloves and protective wear segment increased approximately 5.5% on the strength of CAT® product sales. The Company’s sales to its traditional customer base in the consumer market excluding CAT® goods declined approximately 4.4% due to customer attrition in prior years. However, unit volume was essentially unchanged due to a higher mix of shipments to bulk oriented, net price customers on which the Company provides minimal sales allowances. In addition, due to the growing number of retailers importing products direct from foreign suppliers, the Company has developed strategic alliances with certain accounts to provide container quantities of goods direct from foreign sources.
Management believes costs in the work gloves and protective wear segment will continue to increase in the year ahead due to the weakening dollar, raw material cost increases and the elimination of certain Asian export subsidies. The Company’s efforts to pass on these cost increases through higher selling prices should have a favorable impact on revenue growth, though margins would be negatively impacted if the full cost increases can not be passed on in the form of increased selling prices. In addition, management anticipates the favorable sales trend in the domestic industrial market to continue with further expansion of the Company’s customer base in this market. CAT® product sales should continue to provide future growth opportunities, though sales growth in 2005 will likely be well below that experienced in 2004 due in part to the end of a trial by a major retailer who chose not to continue with this line of goods. Opportunities in the traditional consumer market are more limited and may minimize the overall sales growth potential in this segment during 2005. The Company made an investment in 2004 to develop a new line of sports and outdoor products in an effort to bolster future sales growth potential, but this line was not completed until late in the year and generated no sales in 2004.
Sales in the pet supplies segment increased $919,000, or 17.8%, in 2004 compared to 2003 on sales growth from the Company’s Boss Pet operation. Boss Pet sales increased approximately $1,150,000 from 2003 on increased volume attributable primarily to the addition of new customers. In addition, sales to the largest customer in this segment increased approximately 10%. Boss Pet sales during 2004 consisted primarily of pet restraints, though the Company has developed certain shampoo and chemical products to broaden its product offering. The sales trend at Boss Pet has been positive since the Company’s fourth quarter 2002 acquisition of this operation. However, the largest customer in this segment has indicated it will begin a direct import strategy on certain items beginning in
2005. While Boss Pet expects to retain this customer and provide these products direct from the foreign source, this change may negatively impact future revenues and margins when implemented.
Warren Pet sales declined about $230,000 during 2004 due to lower volumes from existing customers as several of the retailers served by Warren experienced sales declines attributable in part to extreme weather conditions in the southeast. Warren Pet experienced no significant customer attrition during the year, and has customer commitments for 2005 which should result in increased sales for the upcoming year.
2003 Compared to 2002
Consolidated sales for the year ended December 27, 2003 totaled $36,271,000, up $2,463,000, or 7.3%, from 2002 following two years of declining sales. This sales growth was attributable to the pet supplies segment, while sales in the Company’s other segments declined slightly.
Sales in the pet supplies segment increased $2,526,000 in 2003 compared to the prior year and represented 14.2% of consolidated sales. This sales growth was attributable to the Boss Pet acquisition completed in the fourth quarter of 2002. Boss Pet sales totaled approximately $2,825,000 in its first complete year of operation for the Company, in line with management’s objective. The Company completed the assimilation of this operation with minimal customer loss in 2003. Warren sales were essentially unchanged during 2003 as better than expected fourth quarter sales offset reduced volume earlier in the year.
Sales in the Company’s primary work gloves and protective wear segment declined 0.1% in 2003 compared to the prior year. Though down in total for this segment, sales in the domestic industrial market increased 6.7% despite further reductions in selling prices during the year. Unit volume increased in line with the revenue increase as higher sales of more expensive goods, particularly rainwear, offset the impact of lower selling prices.
Boss engaged additional manufacturer’s representative groups to increase coverage in certain geographical areas and also utilized a west-coast warehouse facility available from one such group to increase its presence in the western region. These actions helped to facilitate industrial sales growth, but also increased commission and warehousing expense. Boss increased industrial market penetration during the year adding a number of new customers with minimal attrition of its existing customer base.
Domestic consumer market sales in the work gloves and protective wear segment declined 5.9% in 2003 compared to 2002. The Company experienced certain customer losses during the year which negatively impacted sales in various channels of distribution including private label, automotive parts, drug and discount retailers. In total, these customers represented approximately 11% and 13% of 2003 and 2002 sales, respectively.
A number of larger retailers have begun to import products direct from foreign suppliers in recent years. The Company is pursuing strategic alliances with certain customers to provide container quantities of goods directly to accounts which buy in bulk quantities and can provide their own warehousing. In addition, the Company has focused its sales efforts on channels most likely to benefit from the distribution services it provides such as convenience stores and hardware distributors.
Gross Margin
2004 Compared to 2003
On a consolidated basis, the Company’s sales growth in all operating segments resulted in a gross margin increase of $1,863,000 in 2004 compared to the prior year. However, overall gross margin declined as a percentage of sales by 1.1% due to lower margins in the work gloves and protective wear segment.
Margin erosion in the work gloves and protective wear segment was predominantly attributable to the consumer market. The Company increased sales to several bulk oriented, lower margin customers in this market during the year which reduced gross margins. In addition, costs increased on many imported goods in the work gloves and protective wear segment. Management anticipates further margin erosion in this segment as more large customers import products on a direct basis and import costs continue to rise.
In the Pet Supplies segment, 2004 margins improved slightly due to the Company’s transition to imported goods at Boss Pet during the year. Product cost was more stable in this segment than in the work gloves and protective wear segment. However, the Company anticipates somewhat lower margins in the pet supplies segment during 2005 due to the addition of certain lower margin, bulk oriented customers and the expected transition of the Company’s largest customer in this segment to a direct import program.
Margins declined in the promotional and specialty products segment in 2004 because of the Galaxy acquisition. Though margins at this operation are lower than the Company’s Boss Balloon operation, margins in this segment are the most favorable in the Company and provide excellent overall returns. Cost increases in this segment are not expected to have a material impact on margins during 2004.
2003 Compared to 2002
Gross margin increased both in total dollars and as a percentage of sales in each of the Company’s operating segments during 2003, with the total gross margin percentage of 33.0% the highest achieved during the years presented. Despite lower sales in the work gloves and protective wear segment, the Company increased gross margin by $139,000 on a 0.5% increase in margin as a percentage of sales. The improved margin was attributable to the consumer market where the Company benefited from lower cost on certain imported goods. Margins in the industrial market were essentially unchanged from 2002 as a percentage of sales.
In the pet supplies segment, gross margin increased by $917,000 due to increased sales from Boss Pet as discussed above. As a percentage of sales, gross margin increased 3.2% in this segment because the Company negotiated lower prices from existing suppliers and began importing certain products.
Gross margin increased 5.1% of sales in the promotional and specialty products segment due primarily to the elimination of certain promotional allowances at Boss Balloon.
Operating Expenses
2004 Compared to 2003
Consolidated operating expenses increased $993,000 in 2004 compared to 2003 due primarily to the Galaxy acquisition, with operating expenses also up in the pet supplies segment. In the promotional and specialty products segment, operating expenses increased $671,000 because of Galaxy expenses, which were in line with management projections prior to the acquisition. This operation has a lower overhead structure than the Company’s other segments due in part to the customer base served and sales channel structure.
In the pet supplies segment, operating expenses increased due to higher warehousing costs and increased selling expenses. Warehousing costs increased as a result of the reclassification of certain Boss Pet occupancy costs during 2003. Such expenses were previously treated as manufacturing costs and included in cost of goods sold before the transition from manufacturing to importing. Margins and overall profitability at this operation have improved as a result of this transition. In addition to warehouse cost increases, various selling costs including commissions and sales payroll increased in connection with higher sales.
Operating expenses in the work gloves and protective wear segment increased $55,000 during 2004 as higher sales related expenses more than offset lower warehousing costs resulting from warehouse consolidation in 2003. Selling expenses increased due to higher sales as well as the Company’s development of new sports and outdoor related products. In the corporate and other segment, operating expenses declined by $48,000 due in part to lower legal expenditures during the year. Overall operating expenses declined as a percentage of sales to 29%.
2003 Compared to 2002
During 2003, consolidated operating expenses increased $1,566,000 compared to 2002 due primarily to higher expenses in the work gloves and protective wear segment. Operating expenses in this segment increased due to the following items:
•
Selling expense - sales related expenses increased approximately $475,000 with a number of factors contributing to this increase. The Company incurred various product development and start-up expenses associated with the new line of CAT® products. Such costs included guaranteed royalty expense, travel, consulting, and sales brochure development and printing costs.
Commission expense increased on sales in the industrial market of the work gloves and protective wear segment due in part to increased utilization of certain manufacturer’s representatives. Use of these groups helped to increase sales in this market during the year.
The Company increased its presence at various trade and customer shows during 2003 to bolster sales growth. While successful in promoting sales growth, participation in these shows increased selling expenses both for show fees as well as associated travel to attend and display products.
In addition to the above items, Boss incurred certain additional advertising and catalogue development costs in its continuing efforts to promote sales growth in the work glove and protective wear segment.
•
General & Administrative expense - expenses in this area increased approximately $300,000 due primarily to the consolidation of warehouses in 2003. During the year, Boss acquired certain facilities in Kewanee, IL, renovated these facilities, closed its Springfield, IL distribution center and consolidated its Boss Manufacturing regional warehouse operations in Kewanee. Management expects this consolidation to promote efficiency, improve the Company’s level of customer service and provide future cost savings. However, the cost to close Springfield and relocate goods to Kewanee totaled approximately $110,000 in 2003. Also, the Company incurred duplicate payroll expense as well as other start-up expenses to complete the consolidation in Kewanee.
In addition to the warehouse consolidation costs experienced in 2003, Boss incurred additional warehouse expense from the public facility used at the port of entry due to higher inventory levels for most of the year. General and administrative expense also included higher payroll cost associated with strengthening the Company’s purchasing function and other administrative support.
In addition, operating expenses increased by $649,000 in the pet supplies segment due primarily to expenses associated with the new Boss Pet subsidiary. These expenses included selling expenses as well as administrative and warehousing expenses associated with this subsidiary’s Brunswick, Ohio office. As a percentage of sales, operating expenses have declined by 10.7% in the pet supplies segment over the past two years due to increased sales and decreases in certain administrative costs.
Operating Income
2004 Compared to 2003
The Company generated an increase in consolidated operating income of $870,000 because of earnings growth in the promotional and safety products segment and the work gloves and protective wear segment. The Galaxy acquisition provided the bulk of the earnings growth in the promotional and safety products segment, while sales growth in the CAT® line and the domestic industrial market generated improved earnings in the work gloves and protective wear segment. Earnings were also favorably impacted by increased earnings in the pet supplies segment attributable to higher sales from the Company’s Boss Pet operation as well as reduced corporate expenses.
2003 Compared to 2002
Lower sales and increased operating expenses during 2003 led to lower profitability in the Company’s work gloves and protective wear segment with operating income down $802,000 compared to 2002. In the pet supplies segment, earnings from the Company’s Boss Pet subsidiary along with improved profitability at Warren led to a significant improvement for this segment with operating income up $267,000. Consolidated operating income totaled $357,000 in 2003, down $488,000 from 2002 because of lower earnings in the Company’s primary work gloves and protective wear segment.
Other Income (Expense)
Interest expense increased by $118,000 during 2004 because of higher borrowings and increased interest rates. Borrowings increased due to funds borrowed in connection with the Galaxy acquisition as well as revolving fund borrowings to support working capital requirements. Interest income declined by $34,000 as the Company used a substantial portion of its cash holdings to complete the Galaxy acquisition during the third quarter.
Interest income during 2003 totaled $62,000, down from $97,000 in 2002 due to lower interest rates. Interest expense increased to $149,000 in 2003, an increase of $36,000 from 2002, because of interest on new mortgages associated with the purchase of warehouse facilities in Kewanee.
Other income in 2003 of $209,000 consisted primarily of foreign exchange gains on certain obligations of the Company’s Canadian subsidiary. In addition, Boss recorded a gain of $96,000 on the sale of certain marketable securities sold in 2003.
Income Tax Expense
Because of losses in prior years, the Company has available for U.S. income tax purposes NOL carryforwards of approximately $31,325,000. Prior to 2004, management recorded a 100% valuation allowance offsetting this tax benefit due to uncertainty regarding the Company’s likelihood of realizing a material portion of the NOL available. In view of the Company’s profitability during the past several years and projected earnings from the recently acquired Galaxy operation, management concluded during the third quarter of 2004 that the Company is more likely than not to utilize approximately 25% of its available NOL. Based on this conclusion, the Company reduced the valuation allowance offsetting its deferred tax asset and recognized a tax benefit of $3,127,000. On subsequent earnings, the Company recorded income tax expense at normal rates and reduced the deferred tax asset accordingly, resulting in a net tax benefit of $2,688,000 for 2004.
Shareholders and other users of the Company’s financial statements should carefully consider the effect of non-cash tax entries when comparing current results with past or future financial statements of the Company.
Liquidity and Capital Resources
2004 Compared to 2003
During 2004, cash flows from operating activities used cash of $1,401,000, compared to using cash of $388,000 in the prior year. The Company’s increased inventories were the primary factor in the use of cash for 2004. The increase in inventory resulted from the following factors: 1) Purchases of CAT® products to support sales in this new product line, CAT® inventory totaled approximately $1,500,000 at the end of 2004; 2) New styles and higher minimum carrying levels to support increased industrial market sales; 3) Higher carrying cost due to purchase price increases; and 4) Higher pet supplies inventory to support the substantial increase in sales and transition to imported product at Boss Pet.
Cash flows from investing activities used cash of $1,853,000 in 2004, due in large part to the $3,418,000 purchase of Galaxy. The Company sold its Springfield, Illinois building with net proceeds totaling $1,712,000 during the fourth quarter of 2004. Purchases of property and equipment were below prior year levels and consisted primarily of a new warehouse management system.
Cash used in financing activities totaled $223,000 in 2004. In connection with the Galaxy acquisition, the Company borrowed $1,750,000 under a new term loan with its primary lender. The Company used proceeds from the Springfield building sale to retire the mortgage on this facility and reduce borrowings on its revolving line of credit. During the first quarter of 2004, the Company used $135,000 to purchase and retire a portion of its common stock under a restricted tender offer pursuant to SEC Rule 13e-4(h)(5) for shares held by persons or entities with total holdings of less than 100 shares.
The Company ended 2004 with $1,056,000 in cash and cash equivalents and borrowings of $98,000 under its $6,000,000 revolving credit facility. Management believes these sources should provide sufficient liquidity for anticipated obligations during 2005. The Company does not have material commitments for future capital expenditures. As of December 25, 2004, the Company held in trust approximately $222,000 in marketable securities representing deferred compensation benefits for certain Company executives, directors and counsel. Such benefits are payable upon termination of employment or services.
On a longer term basis, the Company expects to generate sufficient cash from operations to meet the needs of its existing business operations. However, certain potential growth and expansion plans, if implemented, could require the Company to obtain additional funding sources such as increased bank lines of credit, the issuance of additional capital stock, or the issuance of public or private debt. There can be no assurance that any of these funding sources will be available to the Company when and if required.
2003 Compared to 2002
Cash flows from operating activities used cash of $388,000 in 2003, compared to providing cash flows of $3,689,000 in 2002. Increased inventories during 2003 accounted for the bulk of this reduction in cash flow. Several factors led to the increased inventory level including the following: 1) Increased purchases to secure current lower prices in anticipation of cost increases; 2) Increased Boss Pet inventory to support projected 2004 sales (by converting to an importer, this operation carries higher inventory levels than it did as a domestic manufacturer); and 3) New CAT® products that the Company began receiving in the fourth quarter in preparation for 2004 sales.
Lower earnings also negatively impacted cash flows from operations in 2003. These unfavorable items were partially offset by lower accounts receivable. Accounts receivable declined due to improved collection efforts with past due items down substantially from 2002, as well as lower December sales.
Cash flows from investing activities used cash of $1,398,000 in 2003, compared to providing cash of $22,000 in the previous year. Purchases of property and equipment represented the Company’s only investing activity in 2003 and consisted primarily of warehouse acquisition and renovation in conjunction with the Company’s warehouse consolidation initiative completed during the year.
Financing activities provided cash of $1,391,000 in 2003 as the Company borrowed $1,640,000 in connection with the purchase and renovation of warehouse facilities during 2003. Payments on existing debt of $249,000 partially offset the new loan activity during the year.
During the first half of 2003, the Company from time to time invested a portion of its available cash in marketable securities in an effort to improve its return on funds. Such investments varied between zero and $100,000, with none held by the Company as of December 27, 2003. In the future, the Company may invest in marketable securities, including stocks, bonds and other securities traded on a major U.S. exchange or NASDAQ. Such investments involve risk and may result in losses which could be significant to the Company in the event of unfavorable market conditions or unanticipated results.
Contractual Obligations
Following is a table summarizing the Company’s contractual obligations and commercial commitments:
Inflation
The Company does not believe that the moderate rates of inflation experienced in the United States over the last three years have had a material effect on its net sales or profitability. The Company obtains finished goods from various foreign countries which have experienced deflationary conditions during recent years, though costs of certain goods began to increase during 2004 and are expected to rise further in the coming year. Such cost increases may have a negative impact on future profitability.
Item 7A.
Item 7A.
Quantitative and Qualitative Disclosures about Market Risk
The Company’s primary market risk exposure consists of changes in short-term prime and LIBOR interest rates on certain borrowings that bear interest at floating rates. During 2004, the Company borrowed $1,750,000 under a term loan from its primary lender in connection with the Galaxy acquisition. The Company entered into an interest rate swap agreement that effectively fixed the interest rate on approximately $1 million of the initial term loan at 6.32%. The face value of the swap agreement declines ratably with the term loan principal. An increase of one percent per annum in the effective interest rate would increase the Company’s annual interest approximately $10,000 on the floating portion of the term loan. The Company’s revolving credit facility also bears interest at a floating rate of interest.
During 2003, the Company entered into an interest rate swap agreement related to its mortgage note in the original amount of $1,040,000 on Kewanee warehouse facilities. The swap is utilized to effectively fix the interest rate on this debt at 5.83%.
Item 8.
Item 8.
Financial Statements and Supplementary Data
The following consolidated financial statements and schedules of the Company and its Accountants’ Opinion are set forth in Part IV, Item 15, of this Report:
(i)
Reports of Independent Registered Public Accounting Firms.
(iv)
Notes to the Consolidated Financial Statements.
(v)
Schedule II - Valuation and Qualifying Accounts.
Item 9.
Item 9.
Changes in And Disagreements With Auditors on Accounting And Financial Disclosures
Not applicable.
Item 9A.
Item 9A.
Controls and Procedures
As of the end of the period covered by this report, an evaluation was performed under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer of the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act Rule 240.13a-15(e)). Based on that evaluation, the Chief Executive Officer and the Chief Financial Officer have concluded that the Company’s current disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms.
There were no changes in the Company’s internal control over financial reporting that occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART III
Item 10.
Item 10.
Directors and Executive Officers of the Registrant
The information appearing in the Company’s Definitive Proxy Statement prepared in connection with its 2005 Annual Meeting of Stockholders (the “Proxy Statement”) under the captions “Election of Directors”, “Executive Officers”, “Compliance with Section 16(a) of the Exchange Act” and “Code of Ethics” is incorporated herein by reference. The Proxy Statement is to be filed no later than 120 days after the end of the fiscal year covered by this Annual Report on Form 10-K.
The information appearing in the Proxy Statement under the caption “Executive Compensation” is incorporated herein by reference.
Item 12.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information appearing in the Proxy Statement under the captions “Security Ownership of Certain Beneficial Owners and Management” and “Securities Authorized for Issuance under Equity Compensation Plans” is incorporated herein by reference.
Item 13.
Item 13.
Certain Relationships and Related Transactions
The information appearing in the Proxy Statement under the caption “Certain Relationships and Related Transactions” is incorporated herein by reference.
Item 14.
Item 14.
Principal Accountant Fees and Services
The information appearing in the Proxy Statement under the caption “Principal Accountant Fees and Services” is incorporated herein by reference.
PART IV
Item 15.
Item 15.
Exhibits and Financial Statements Schedules
(a)
List the following documents filed as a part of the report:
(1)
All financial statements, as follows:
Reports of Independent Registered Public Accounting Firms attached as page and to this report.
Financial Statements attached as pages through to this report:
Consolidated Balance Sheets - as of December 25, 2004 and December 27, 2003;
Consolidated Statements of Income, Cash Flows and Stockholders’ Equity for the years ended December 25, 2004, December 27, 2003 and December 28, 2002;
Notes to the Consolidated Financial Statements.
(2)
Schedule II - Valuation and Qualifying Accounts attached as page to this report.
The exhibits filed with or incorporated into this report are listed in the Index to Exhibits which follows.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
BOSS HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
December 25, 2004
McGladrey & Pullen
Certified Public Accountants
Report of Independent Registered Public Accounting Firm
To the Board of Directors
Boss Holdings, Inc.
Kewanee, Illinois
We have audited the accompanying consolidated balance sheets of Boss Holdings, Inc. and subsidiaries as of December 25, 2004 and December 27, 2003, and the related consolidated statements of income, stockholders’ equity, and cash flows for the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provided a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Boss Holdings, Inc. and subsidiaries as of December 25, 2004 and December 27, 2003, and the results of their operations and their cash flows for the years then ended in conformity with U.S. generally accepted accounting principles.
We have also audited Schedule II of Boss Holdings, Inc. and subsidiaries for the years ended December 25, 2004 and December 27, 2003. In our opinion, this schedule presents fairly, in all material respects, the information required to be set forth therein.
/s/ McGladrey & Pullen, LLP
Davenport, Iowa
February 18, 2005
McGladrey & Pullen, LLP is a member firm of RSM International -
an affiliation of separate and independent legal entities.
Report of Independent Registered Public Accounting Firm
Board of Directors
Boss Holdings, Inc.
We have audited the accompanying consolidated statements of income, stockholders’ equity, and cash flows of Boss Holdings, Inc. and subsidiaries for the year ended December 28, 2002. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
As described in Note 1 to the consolidated financial statements, the Company retroactively adopted Statement of Financial Accounting Standards No. 123 (revised 2004) “Share-Based Payment.”
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and consolidated cash flows of Boss Holdings, Inc. and subsidiaries for the year ended December 28, 2002 in conformity with accounting principles generally accepted in the United States of America.
We have also audited Schedule II of Boss Holdings, Inc. and subsidiaries for the year ended December 28, 2002. In our opinion, this schedule presents fairly, in all material respects, the information required to be set forth therein.
/s/ GRANT THORNTON LLP
Atlanta, Georgia
February 14, 2003
(except for the last table of Note 1, as to which the date is March 22, 2005)
Boss Holdings, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands, Except Per Share Data)
See Notes to Consolidated Financial Statements.
Boss Holdings, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 25, 2004, December 27, 2003, and December 28, 2002
(Dollars in Thousands, Except Per Share Data)
See Notes to Consolidated Financial Statements.
Boss Holdings, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
Years Ended December 25, 2004, December 27, 2003, and December 28, 2002
(In Thousands)
See Notes to Consolidated Financial Statements.
Boss Holdings, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 25, 2004, December 27, 2003, and December 28, 2002
(Dollars in Thousands)
See Notes to Consolidated Financial Statements.
Boss Holdings, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Years Ended December 25, 2004, December 27, 2003, and December 28, 2002
(Dollars in Thousands)
See Notes to Consolidated Financial Statements.
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in Thousands, Except Per Share Data)
Note 1. Nature of Business and Summary of Significant Accounting Policies
Nature of business:
Boss Holdings, Inc. and its subsidiaries are engaged in the import, marketing, and distribution of gloves, boots, rainwear, and pet supplies as well as custom imprinting of inflatable and other products for the advertising specialties industry. Customers, located throughout North America, include retailers ranging from convenience stores to mass merchandisers and various commercial users. The Company sells its products primarily through distributors and manufacturer’s representatives.
Significant accounting policies:
Principles of consolidation: The accompanying consolidated financial statements include the accounts of Boss Holdings, Inc. (“BHI”), and its wholly-owned subsidiary, Boss Manufacturing Holdings, Inc. and subsidiaries (“BMHI”) (collectively, the “Company”). All significant intercompany balances and transactions have been eliminated in the consolidated financial statements.
Fiscal year: The Company maintains a 52/53-week year ending on the last Saturday of the calendar year. All years presented contained 52 weeks.
Use of estimates in the preparation of financial statements: The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America, requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from these estimates.
Cash and cash equivalents: Cash and cash equivalents consist of cash on hand, time deposits, and liquid debt instruments such as commercial paper with maturities of three months or less from the date of purchase.
Accounts receivable: Accounts receivable are carried at original invoice amount less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis. Management determines the allowance for doubtful accounts by identifying troubled accounts and by using historical experience applied to an aging of accounts. Accounts receivable are written off when deemed uncollectible. Recoveries of trade receivables previously written off are recorded when received.
An account is considered to be past due if any portion of the receivable balance is past due more than 60 days. The provision for bad debts charged to expense was $(31), $(43), and $269 for the years ended 2004, 2003, and 2002, respectively.
Marketable securities: The Company classifies marketable equity securities as trading or available for sale securities, as defined by the Statement of Financial Accounting Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities (“SFAS 115”). In accordance with the provisions of SFAS 115, marketable securities are stated at fair value with net unrealized gains and losses included in operations for trading securities and in accumulated other comprehensive loss for available for sale securities.
As of December 25, 2004 and December 27, 2003, the Company’s marketable equity securities are held in trust under a deferred compensation arrangement, and are included in other assets on the consolidated balance sheets.
Revenue recognition: The Company recognizes revenue and provides for the estimated cost of returns and allowances in the period goods are shipped to the customer. Sales in any single foreign geographic area or to any single customer did not exceed 10% of net sales for 2004, 2003, or 2002.
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 1. Nature of Business and Summary of Significant Accounting Policies (Continued)
Shipping and handling fees and costs: The Company has adopted Emerging Issues Task Force (“EITF”) 00-10, Accounting for Shipping and Handling Fees and Costs. EITF 00-10 requires significant shipping and handling costs not classified as cost of sales to be disclosed in both the amount of such costs and the line item that includes them in the consolidated statements of income. Shipping and handling charges to customers are included in revenue. Shipping and handling costs are included in cost of sales.
Warranty costs and returns: The Company provides for estimated warranty costs and returns at the time of sale. Accrued costs of warranty obligations and returns are classified as accrued liabilities and are immaterial to the financial statements as a whole.
Inventories: The Company states inventory at the lower of cost or market using primarily the first-in, first-out (“FIFO”) method.
Property and equipment and depreciation: Property and equipment is recorded at historical cost. The Company provides for depreciation using the straight-line method over the following estimated useful lives:
Depreciation expense was $384, $322, and $347 for 2004, 2003, and 2002, respectively.
Goodwill and other intangibles: Goodwill represents the excess of purchase price over the fair value of the identifiable net assets acquired. In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”, goodwill is not amortized and, instead, is evaluated for impairment at least annually. The Company believes that no impairment exists at December 25, 2004. Other intangible assets are recorded at cost and amortized over their estimated useful life.
Assets held for sale: Assets held for sale were carried at the lower of cost or estimated fair value.
Fair value of financial instruments: The Company’s financial instruments consist of cash equivalents, marketable securities, accounts receivable, accounts payable, interest rate swap agreements, and long-term debt. The carrying values of cash equivalents, accounts receivable, and accounts payable approximate fair value due to their relatively short-term nature. The carrying value of marketable securities equals fair value based on the quoted market prices of shares held by the Company. The carrying value of the interest rate swap agreements and long-term obligations approximates fair value based upon borrowing rates currently available to the Company for borrowings with comparable maturities.
Concentrations of credit risk: The Company’s financial instruments that are exposed to concentrations of credit risk consist primarily of cash, cash equivalents, and accounts receivable.
The Company places its cash and temporary cash investments with high credit quality financial institutions. The Federal Deposit Insurance Corporation (“F.D.I.C.”) insures total cash balances up to $100 per bank. The combined account balances at each institution periodically exceed the F.D.I.C. coverage resulting in a concentration of credit risk for the amounts on deposit in excess of $100. The Company’s management does not believe this credit risk is significant, as they do not anticipate non-performance of the financial institutions.
Concentrations of credit risk with respect to accounts receivable are limited due to the diversity of the Company’s customer base. The Company’s management has established certain credit requirements that its customers must meet before sales credit is extended. The Company generally does not require collateral, but
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 1. Nature of Business and Summary of Significant Accounting Policies (Continued)
monitors the financial condition of its customers to help ensure collections and to minimize losses. Historically, the Company has not experienced significant losses related to accounts receivable from individual customers or from groups of customers in any geographic area.
Foreign currency translation: Financial statements of the Company’s Canadian subsidiary are translated into U.S. dollars using fiscal year-end exchange rates for assets and liabilities, and average exchange rates during the year for the results of operations. Translation adjustments of the Canadian accounts are reported as a separate component of other comprehensive earnings within stockholders’ equity. Exchange rate adjustments related to foreign currency transactions are recognized in earnings as incurred. For the years ended December 2004, 2003, and 2002 other income includes recognized foreign currency transactions gains (loss) of approximately $0, $173, and $10, respectively.
Income taxes: The Company accounts for income taxes using the asset and liability method. Under this method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates applied to taxable income. The effect on deferred income tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided for deferred income tax assets when it is more likely than not that the asset will not be realized.
Advertising costs: The Company generally expenses the cost of advertising the first time advertising takes place. Costs of trade shows and developing advertising materials are expensed at the time of the trade shows or as the advertising materials are produced and distributed to customers. Advertising expense for 2004, 2003, and 2002 was $1,241, $1,107, and $1,109, respectively.
Earnings per share: Basic net earnings per common share is based upon the weighted average number of common shares outstanding during the period. Diluted net earnings per common share is based upon the weighted average number of common shares outstanding plus dilutive potential common shares, including options outstanding during the period.
Stock based compensation and recent accounting pronouncements: On December 16, 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123(R), “Share-Based Payment”, which is a revision of SFAS No. 123 and supersedes APB Opinion No. 25 and SFAS 148. SFAS No. 123(R) requires all share-based payments to employees, including grants of employee stock options, to be valued at fair value on the date of grant and to be expensed over the applicable vesting period. Pro forma disclosure of the income statement effects of share-based payments is no longer an alternative. SFAS 123 (R) would have been effective at beginning of the third quarter of 2005; however, the Company has elected to early adopt using the modified retrospective method. Under this approach all prior years presented have been restated to reflect the compensation cost that would have been recognized had the recognition provisions of SFAS 123 been applied to all awards granted to employees after January 1, 1995.
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 1. Nature of Business and Summary of Significant Accounting Policies (Continued)
The impact of the adoption of SFAS 123(R) on net income and basic and diluted earnings per shares is shown in the following table. There was no impact to income tax expense due to the 100% valuation allowance.
Reclassifications: Certain items in the financial statements and footnotes have been reclassified, with no effect on equity, net income, or earnings per common share, to be consistent with the classifications adopted for the year ended December 25, 2004.
Note 2.
Property and Equipment
Property and equipment as of December 25, 2004 and December 27, 2003 is as follows:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 3. Long-Term Obligations
Long-term debt as of December 25, 2004 and December 27, 2003 is as follows:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 3. Long-Term Obligations (Continued)
Scheduled principal payments of long-term debt are as follows:
On July 30, 2004, the Company modified its loan and security agreement (the “Credit Agreement”) with a commercial bank. The revised Credit Agreement expires in May 2006 and provides a revolving credit facility up to $6,000 based on a formula that includes eligible accounts receivable and inventories. Interest is payable monthly at the bank’s prime rate or, at the Company’s option, LIBOR plus 2.1%. The Company incurs an unused line fee of 1/8% per annum on the unused portion of the credit facility. As of December 25, 2004, the Company had borrowings of $98 on the revolving credit facility. Availability under this credit agreement was $5,902 as of December 25, 2004.
The Credit Agreement includes certain restrictive covenants and requires maintenance of certain financial ratios including current ratio, minimum tangible net worth, debt service coverage, and debt to tangible net worth. The Company’s accounts receivable and inventories secure the credit facility.
Deferred compensation plan:
Effective September 1, 2002, the Company adopted a nonqualified deferred compensation plan that allows executives to defer between 5% and 100% of their compensation, and non-employee directors, consultants and counsel to defer between 5% and 100% of their fees. The Company provides no matching contributions to the plan. Each plan participant is fully vested in all deferred compensation and earnings credited to his or her account, which the plan holds in an investment trust. The liability under the plan totaled $222 and $114 as of December 25, 2004 and December 27, 2003, respectively.
Note 4.
Commitments and Contingencies
Leases:
The Company leases certain office and operating facilities and certain equipment under operating lease agreements that expire on various dates through 2009 and require the Company to pay all maintenance costs. Rent expense under these leases was $200, $250, and $226 for 2004, 2003, and 2002, respectively.
The following is a schedule by year of future minimum payments under the operating lease agreements:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 4. Commitments and Contingencies (Continued)
Licensing:
During 2002, the Company entered into a license agreement for the use of certain trademarks in its products. The agreement contains provisions for the payment of guaranteed or minimum royalties through 2005. The Company incurred royalties of $182, $50 and none in 2004, 2003 and 2002, respectively. The Company will incur $150 of minimum royalty payments in the year ending December 31, 2005 and expects to renew this agreement prior to expiration.
Litigation:
The Company is a party to various legal actions incident to the normal operation of its business. These lawsuits primarily involve claims for damages arising out of commercial disputes. The Company has been named as a defendant in several lawsuits alleging past exposure to asbestos contained in gloves manufactured or sold by one of the Company’s predecessors-in-interest, all of which actions are being defended by one or more of the Company’s products liability insurers. Management believes the ultimate disposition of these matters should not materially impact the Company’s consolidated financial position or liquidity.
The Company received a payment of $800 during the second quarter of 2002 in settlement of its claims and security interests concerning a former officer and director of the Company and recorded a net gain after legal expenses of $500 on this transaction.
The Company has adopted two stock option plans providing for the issuance of options covering up to 425,000 shares of common stock to be issued to officers, directors, or consultants to the Company. Various vesting conditions apply to these options, based on either tenure or certain performance criteria. Stock option transactions are summarized as follows:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 5. Stock Options (Continued)
The following table summarizes information about stock options outstanding as of December 25, 2004:
The Company’s management estimated fair values of the stock options using the Black-Scholes options-pricing model using the following weighted-average assumptions for 2004, 2003, and 2002, respectively; expected volatility of 51%, 53% and 53%; expected dividend yield of 0.0%; weighted average risk-free rate of return of 2.7%, 2.6% and 4.6%; and expected lives of 5 years. Compensation expense related to stock options was $74, $68, and $71 for 2004, 2003 and 2002 respectively.
The following table sets forth the computation of basic and diluted earnings per share:
Note 7.
Related Party Transactions
During 2004, 2003, and 2002, compensation, fees, and expense reimbursements paid to directors or their affiliates totaled $358, $357, and $420, respectively.
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 8. Acquisition
On July 30, 2004, the Company purchased all outstanding shares of common stock of privately-held Galaxy Balloons, Incorporated, an Ohio corporation (“Galaxy”). Galaxy is a Cleveland, Ohio based manufacturer and distributor of imprinted and personalized balloons, balls, toys, inflatable goods and other products sold primarily in the advertising specialties industry. The base purchase price for the Galaxy shares was $3,300, with certain additional earn-out payments if Galaxy’s future financial performance exceeds specified benchmarks. The Company utilized a combination of cash reserves, additional borrowings under its primary line of credit and a term loan of approximately $1,750 provided by the Company’s primary lender to fund the acquisition of Galaxy.
This transaction was accounted for using purchase accounting and has been included in the Company’s operations since the date of acquisition. The allocation of purchase price is as follows:
The following unaudited pro forma financial information reflects the consolidated results of the Company as if the acquisition of Galaxy had occurred at the beginning of the fiscal years ended December 25, 2004 and December 27, 2003:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 9. Income Taxes
The Company records income taxes based on its consolidated tax return. Current and deferred federal and state tax (expense) benefit is as follows:
Income taxes recorded by the Company differ from the amounts computed by applying the statutory U.S. federal income tax rate to net earnings before income taxes. The following schedule reconciles income tax (expense) benefit at the statutory rate and the actual income tax expense as reflected in the consolidated statements of income for the respective periods:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 9. Income Taxes (Continued)
The temporary differences result in a net deferred income tax asset that is reduced by a related valuation allowance, summarized as follows:
Included in the tax credit carryforward is approximately $331 of alternative minimum tax credits and general business credits available to reduce future income taxes payable.
Income tax benefit for 2004 consisted primarily of the Company’s recognition of the portion of the benefit associated with its net operating loss carryforwards for federal income tax purposes which is more likely than not to be realized prior to expiration. Income tax expense and benefit for 2003 and 2002 consist primarily of current state taxes attributable to BMHI and its subsidiaries. Accrued liabilities include federal and state income taxes payable of $73 and $201 as of December 25, 2004 and December 27, 2003, respectively.
As of December 25, 2004, the Company had operating loss carryforwards for U.S. income tax purposes of $31,325 available to reduce future taxable income through the following years:
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 10. Operating Segments and Related Information
The Company operates in three business segments. In the work gloves and protective wear segment, through its Boss Manufacturing Company subsidiary, the Company imports, markets and distributes gloves, boots and rainwear products. The Company conducts operations in the pet supplies segment through Boss Pet and the Warren Pet Products division of BMHI. In this segment, the Company imports and markets a line of pet supplies including dog and cat toys, collars, leads, chains and rawhide products. Through its Galaxy Balloons subsidiary, the Company provides specialty imprinted balloon, inflatable products and other goods included in the promotional items and specialty products segment.
The following table provides summarized information concerning the Company’s reportable segments. In this table, the Company’s corporate and certain smaller operations are grouped into a miscellaneous column entitled, “Corporate and Other.”
Boss Holdings, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(Dollars in Thousands, Except Per Share Data)
Note 11. Quarterly Consolidated Financial Information (Unaudited)
The following is a summary of the unaudited quarterly results for fiscal 2004 and 2003:
Boss Holdings, Inc. and Subsidiaries
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
(Dollars in Thousands)
Notes:
(a)
Write off of uncollectible accounts.
(b)
Write off of obsolete inventory.
(c)
Maintenance of a valuation allowance discussed in Note 1 and Note 9 to the consolidated financial statements.
(d)
Write off of a 100% valuation allowance for a contingent asset, the settlement of which is discussed in Note 4 to the consolidated financial statements.
(e)
Balance related to Galaxy acquisition.
INDEX TO EXHIBITS