UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to _____________
COMMISSION FILE NUMBER 1-13792
Systemax Inc.(Exact name of registrant as specified in its charter)
11 Harbor Park DrivePort Washington, New York 11050(Address of registrant's principal executive offices)(516) 608-7000(Registrant's telephone number, including area code)
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.
[X] Yes [ ] No
Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes [ ] No [X]
The number of shares outstanding of the registrant's Common Stock as of November 5, 2004 was 34,405,080.
PART I - FINANCIAL INFORMATIONItem 1. Financial Statements
Systemax Inc.Condensed Consolidated Balance Sheets(In Thousands, except share data)
September 30, December 31, 2004 2003 ---- ---- (Unaudited) ASSETS: CURRENT ASSETS: Cash and cash equivalents $57,291 $38,702 Accounts receivable, net 153,811 152,435 Inventories 137,907 133,905 Prepaid expenses and other current assets 33,267 26,849 Deferred income tax assets 11,442 10,132 ------ ------ Total current assets 393,718 362,023 PROPERTY, PLANT AND EQUIPMENT, net 64,173 68,647 DEFERRED INCOME TAXES AND OTHER ASSETS 12,617 14,982 ------ ------ TOTAL ASSETS $470,508 $445,652 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY: CURRENT LIABILITIES: Short-term borrowings, including current portions of long-term debt $14,812 $20,814 Accounts payable 157,137 141,106 Accrued expenses and other current liabilities 60,119 51,037 ------ ------ Total current liabilities 232,068 212,957 ------- ------- LONG-TERM DEBT 17,116 18,353 ------ ------ OTHER LIABILITIES 1,648 1,768 ----- ----- SHAREHOLDERS' EQUITY: Preferred stock, par value $.01 per share, authorized 25 million shares, issued none Common stock, par value $.01 per share, authorized 150 million shares, issued 38,231,990 shares; outstanding 34,405,080 (2004) and 34,288,068 shares (2003) 382 382 Additional paid-in capital 175,180 175,343 Accumulated other comprehensive income, net 2,273 2,157 Retained earnings 86,797 81,022 ------ ------ 264,632 258,904 Less: common stock in treasury at cost - 3,826,910 (2004) and 3,943,922 (2003) shares 44,956 46,330 ------ ------ Total shareholders' equity 219,676 212,574 ------- ------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $470,508 $445,652 ======== ========
See notes to condensed consolidated financial statements.
Systemax Inc.Condensed Consolidated Statements of Income (Unaudited)(In Thousands, except per share amounts)
Nine Months Ended Three Months Ended September 30, September 30, -------------------------------- ------------------------------------ 2004 2003 2004 2003 --------------- --------------- ----------------- ----------------- Net sales $1,376,997 $1,220,270 $460,271 $405,011 Cost of sales 1,161,135 1,017,156 387,047 337,900 --------------- --------------- ----------------- ----------------- Gross profit 215,862 203,114 73,224 67,111 Selling, general and administrative expenses 196,092 190,305 66,416 64,822 Restructuring and other charges (reversals) 6,041 (1,160) 1,026 (1,272) Goodwill impairment 2,560 --------------- --------------- ----------------- ----------------- Income from operations 13,729 11,409 5,782 3,561 Interest and other expense, net 1,788 1,075 715 542 --------------- --------------- ----------------- ----------------- Income before income taxes 11,941 10,334 5,067 3,019 Provision for income taxes 6,166 5,256 2,375 1,112 --------------- --------------- ----------------- ----------------- Net income $5,775 $5,078 $2,692 $1,907 =============== =============== ================= ================= Net income per common share: Basic $.17 $.15 $.08 $.06 =============== =============== ================= ================= Diluted $.16 $.15 $.08 $.05 =============== =============== ================= ================= Weighted average common and common equivalent shares: Basic 34,358 34,124 34,399 34,159 =============== =============== ================= ================= Diluted 35,243 34,672 35,272 35,128 =============== =============== ================= =================
Systemax Inc.Condensed Consolidated Statement of Shareholders' Equity (Unaudited)(In Thousands)
Common Stock Accumulated -------------------- Other Additional Comprehensive Treasury Comprehensive Number of Paid-in Retained Income, Stock, Income, Shares Amount Capital Earnings Net of Tax At Cost Net of Tax ---------- --------- ------------- ----------- ------------- ---------- --------------- Balances, January 1, 2004 34,288 $382 $175,343 $81,022 $2,157 $(46,330) Exercise of stock options 117 (963) 1,374 Change in cumulative translation adjustment, net 116 $116 Compensation expense related to stock option plans 800 Net income 5,775 5,775 ------ ----- -------- ------- ------ -------- ------ Total comprehensive income $5,891 ====== Balances, September 30, 2004 34,405 $382 $175,180 $86,797 $2,273 $(44,956) ====== ==== ======== ======= ====== =========
Systemax Inc.
Condensed Consolidated Statements of Cash Flows (Unaudited) (In Thousands) Nine Months Ended September 30, -------------------------------- 2004 2003 --------------- --------------- CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES: Net income $5,775 $5,078 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Provision for deferred income taxes 358 (1,941) Depreciation and amortization 8,623 9,995 Provision for returns and doubtful accounts 2,069 3,627 Loss on dispositions and abandonment 525 132 Compensation expense related to stock option plans 800 Goodwill impairment 2,560 Changes in operating assets and liabilities: Accounts receivable (3,764) 764 Inventories (4,160) (10,509) Prepaid expenses and other current assets (5,803) 6,378 Accounts payable, accrued expenses and other current liabilities 25,027 (15,695) --------------- --------------- Net cash provided by operating activities 29,450 389 --------------- --------------- CASH FLOWS PROVIDED BY (USED IN) INVESTING ACTIVITIES: Investments in property, plant and equipment (5,528) (6,597) Proceeds from disposals of property, plant and equipment 978 90 Purchase of minority interest (2,560) --------------- --------------- Net cash used in investing activities (4,550) (9,067) --------------- --------------- CASH FLOWS PROVIDED BY (USED IN) FINANCING ACTIVITIES: Repayments of borrowings from banks (6,079) (6,263) Issuance of long-term borrowings and capital lease obligations 1,330 Repayments of long-term debt and capital lease obligations (1,322) (938) Exercise of stock options 412 1,318 --------------- --------------- Net cash used in financing activities (6,989) (4,553) --------------- --------------- EFFECTS OF EXCHANGE RATES ON CASH 678 (4,283) --------------- --------------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 18,589 (17,514) CASH AND CASH EQUIVALENTS - BEGINNING OF PERIOD 38,702 62,995 --------------- --------------- CASH AND CASH EQUIVALENTS - END OF PERIOD $57,291 $45,481 =============== ===============
Systemax Inc.Notes to Condensed Consolidated Financial Statements (Unaudited)
Nine Months Ended Three Months Ended Sept. 30, Sept. 30, ----------------- ------------------ 2004 2003 2004 2003 ---- ---- ---- ---- Net income - as reported $5,775 $5,078 $2,692 $1,907 Stock-based employee compensation expense determined under fair value based method, net of related tax effects 308 387 94 129 --- --- -- --- Pro forma net income $5,467 $4,691 $2,598 $1,778 ====== ====== ====== ====== Net income per common share: Basic: Net income - as reported $.17 $.15 $.08 $.06 ==== ==== ==== ==== Net income - pro forma $.16 $.14 $.08 $.05 ==== ==== ==== ==== Diluted: Net income - as reported $.16 $.15 $.08 $.05 ==== ==== ==== ==== Net income - pro forma $.16 $.14 $.07 $.05 ==== ==== ==== ====
2004 2003 ---- ---- Expected dividend yield 0% 0% Risk-free interest rate 5.0% 5.0% Expected volatility 50.0% 68.0% Expected life in years 2.29 2.42
Nine Months Ended Sept. 30, Three Months Ended Sept. 30, --------------------------- ---------------------------- 2004 2003 2004 2003 ---- ---- ---- ---- 601,000 702,000 553,000 683,000
Severance and Asset Other Personnel Costs Write-downs Exit Costs Total --------------- ----------- ---------- ----- Charged to expense in 2004 $3,153 $483 $263 $3,899 Amounts utilized (2,292) (483) (42) (2,817) ------- ----- ---- ------- Accrued at September 30, 2004 $861 - $221 $1,082 ==== ===== ==== ======
Severance and Asset Other Personnel Costs Write-downs Exit Costs Total --------------- ----------- ---------- ----- Accrued at December 31, 2003 $ 63 $233 $417 $713 Charged to expense in 2004 97 302 399 Amounts utilized (63) (122) (392) (577) ---- ----- ----- ----- Accrued at September 30, 2004 - $208 $327 $535 ==== ===== ==== ====
Asset Other Write-downs Exit Costs Total ----------- ---------- ----- Accrued at December 31, 2003 $630 $1,682 $2,312 Charged to expense in 2004 181 181 Amounts utilized (630) (1,189) (1,819) ----- ------- ------- Accrued at September 30, 2004 - $674 $674 ===== ======= =======
Nine Months Ended Three Months Ended Sept. 30, Sept. 30, ------------------------ ---------------------- 2004 2003 2004 2003 ---- ---- ---- ---- Net Sales: North America $871,990 $761,092 $301,007 $260,092 Europe 505,007 459,178 159,264 144,919 ------- ------- ------- ------- Consolidated $1,376,997 $1,220,270 $460,271 $405,011 ========== ========== ======== ======== Revenues are attributed to countries based on location of selling subsidiary.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Forward Looking Statements
This report contains forward looking statements within the meaning of that term in the Private Securities Litigation Reform Act of 1995 (Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934). Additional written or oral forward looking statements may be made by the Company from time to time, in filings with the Securities Exchange Commission or otherwise. Statements contained in this report that are not historical facts are forward looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward looking statements may include, but are not limited to, projections of revenue, income or loss and capital expenditures, statements regarding future operations, financing needs, compliance with financial covenants in loan agreements, plans for acquisition or sale of assets or businesses and consolidation of operations of newly acquired businesses, and plans relating to products or services of the Company, assessments of materiality, predictions of future events and the effects of pending and possible litigation, as well as assumptions relating to the foregoing. In addition, when used in this discussion, the words “anticipates”, “believes”, “estimates”, “expects”, “intends”, “plans” and variations thereof and similar expressions are intended to identify forward looking statements.
Forward-looking statements in this report are based on the Company’s beliefs and expectations as of the date of this report and are subject to risks and uncertainties which may have a significant impact on the Company’s business, operating results or financial condition. Investors are cautioned that these forward-looking statements are inherently uncertain. Should one or more of the risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those described herein. Many of these risk factors are discussed below in “Factors That May Affect Future Results and Financial Condition”.
Readers are cautioned not to place undue reliance on any forward looking statements contained in this report, which speak only as of the date of this report. We undertake no obligation to publicly release the result of any revisions to these forward looking statements that may be made to reflect events or circumstances after the date hereof or to reflect the occurrence of unexpected events.
Overview
Systemax is a direct marketer of brand name and private label products, including personal desktop computers (PCs), notebook computers, computer related products and industrial products, in North America and Europe. We market these products through an integrated system of distinctively branded, full-color direct mail catalogs, proprietary e-commerce internet sites and personalized relationship marketing. We assemble our own PCs and sell them under our own trademarks, which we believe gives us a competitive advantage. We also sell computers manufactured by other leading companies, such as IBM and Hewlett Packard. We offer more than 100,000 products and continuously update our product offerings to address the needs of our customers, which include large, mid-sized and small businesses, educational and government entities as well as individual consumers. Computers and computer related products account for more than 90% of our net sales, and, as a result, we are dependent on the general demand for information technology products.
The market for computer products is subject to intense price competition and is characterized by narrow gross profit margins. Distribution of information technology products is working capital intensive, requiring us to incur significant costs associated with the warehousing of many products, including the costs of leasing warehouse space, maintaining inventory and tracking systems, and employing personnel to perform the associated tasks. We supplement our product availability by maintaining relationships with major distributors, utilizing a combination of stocking and drop-shipment.
During fiscal 2002 and 2003, our performance and that of the industry as a whole was impacted negatively by a global economic downturn and cautious information technology spending. As it became evident that the industry was experiencing a prolonged economic downturn, we took measures to align our cost structure with lower revenues and decreasing gross margins. The primary component of our operating expenses historically has been employee related costs, which includes items such as wages, commissions, bonuses, and benefits. We have made substantial reductions in our workforce and closed or consolidated several facilities. In the first quarter of 2004 we announced and began the implementation of a plan to streamline our United States computer business, consolidating duplicative back office and warehouse operations. We have substantially completed this plan, with the benefits evidenced by a continued decline in selling, general and administrative expense as a percentage of net sales.
Economic conditions in North America have improved in 2004, with increased demand for both our computer products, particularly from our consumer customers, and industrial products. We will continue to focus on growth in our internet sales, which allows us to leverage our advertising spending and lower our order processing costs. We see unsettled economic conditions continuing to adversely affect several of the European markets we serve.
Results of Operations
Three Months Ended September 30, 2004 Compared to Three Months Ended September 30, 2003
Net sales for the three months ended September 30, 2004 increased 13.6% to $460.3 million compared to $405.0 million in the year-ago quarter. North American sales were $301.0 million, an increase of 15.7% from $260.1 million in the prior year. Sales increased in North America in both our computer and industrial products, led by increased e-commerce sales, which were up 17.5% from last year’s third quarter, reflecting strength in our consumer business. European sales increased 9.9% to $159.3 million (representing 34.6% of worldwide sales) compared to $144.9 million (35.8% of worldwide sales) in the year-ago quarter, principally as a result of the impact of a weakening U.S. Dollar on the translation of our European financial statements. Excluding the movements in foreign exchange rates, European sales would have been unchanged from the prior year, reflecting the continuing difficult economic environment in certain of our European markets and its affect on demand from corporate customers.
Gross profit was $73.2 million compared to $67.1 million in the year-ago quarter, an increase of $6.1 million. The gross profit margin was 15.9% in the current quarter, compared to 16.6% in the year-ago quarter. The decline in the gross profit margin was due to competitive pricing pressures and lower unit selling prices, both in Europe and in North American computer products, and changes in the mix of products sold from a year ago.
Selling, general and administrative expenses for the quarter increased $1.6 million, or 2.5%, to $66.4 million compared to $64.8 million in the third quarter of 2003. This increase resulted from increased dollar-denominated costs in Europe due to the impact of the weakening U.S. Dollar on the translation of our European financial statements. Savings resulting from previously completed workforce reductions in North America were offset by an unanticipated increase in professional fees and increased other operating expenses, including credit card fees related to increased sales volume. Selling, general and administrative expenses as a percentage of net sales decreased to 14.4% compared to 16.0% in the year-ago quarter.
During the third quarter of 2004, we incurred $1.0 million of additional restructuring charges in the United States and Europe in connection with facility exit costs and workforce reductions.
As a result of the above factors, we had income from operations for the current quarter of $5.8 million compared to $3.6 million in the year-ago quarter. In North America, we had income from operations of $8.4 million in the current quarter compared to income from operations of $4.8 million last year. Europe had a loss from operations of $2.6 million in the third quarter of 2004 compared to a loss from operations of $1.2 million in the year-ago quarter.
Interest and other expense - net consists principally of interest expense. Interest expense was $887,000 in the third quarter of 2004 and $638,000 in 2003 as a result of higher average borrowings in Europe. Interest income on invested funds increased in 2004 because more funds were available for investment.
Income tax expense was $2.4 million in the third quarter of 2004, an effective tax rate of 46.9%, and $1.1 million in the year-ago quarter, an effective tax rate of 36.8%. The effective tax rate for the third quarter of 2004 was higher than the comparable period in the prior year due to losses in tax jurisdictions for which no benefit is currently recognized, but was lower than the effective rate for the first nine months of 2004 as it reflects a year-to-date adjustment to the rate used in the first half of the year.
As a result of the above, net income for the third quarter was $2.7 million, or $.08 per basic and diluted share, compared to $1.9 million, or $.06 per basic and $.05 per diluted share, in the third quarter of 2003.
Nine Months Ended September 30, 2004 Compared to Nine Months Ended September 30, 2003
Net sales for the nine months ended September 30, 2004 increased 12.8% to $1.38 billion compared to $1.22 billion in the year-ago period. North American sales were $872.0 million, a 14.6% increase from last year’s $761.1 million. European sales increased 10.0% to $505 million for the first nine months of 2004 (representing 36.7% of worldwide sales) compared to $459.2 million (representing 37.6% of worldwide sales) in the year-ago nine-month period. The impact of the weakening U.S. Dollar on the translation of our European financial statements accounted for $53.3 million of the increase. Excluding the movements in foreign exchange rates, European sales would have decreased 1.6% from the prior year. The increase in North American sales resulted from increased sales of computer products to consumer customers, driven by increased internet purchases and increased sales in our industrial products division. These were partially offset by weakness in demand for information technology products by corporate customers. European sales were lower in local currencies as a result of continued weak market conditions in many of the local markets.
Gross profit was $215.9 million, or 15.7% of net sales, compared to $203.1 million, or 16.6% of net sales, in the year-ago period, an increase of $12.7 million. The decline in gross profit margin was due to continued pricing pressure, increased customer discounting and a change in the mix of products sold.
Selling, general and administrative expenses for the nine months increased $5.8 million, or 3.0%, to $196.1 million compared to $190.3 million in the first nine months of 2003. This increase resulted from the impact of the weakening U.S. Dollar on the translation of our European costs. Decreases in selling, general and administrative expenses resulting from workforce reductions in the U. S. associated with the first quarter 2004 computer business streamlining plan described below were offset by an unanticipated increase in professional fees and increased other operating expenses, including credit card fees related to increased sales volume. As a percentage of sales, these expenses were 14.2% compared to 15.6% in the year-ago period.
In the first quarter of 2004 we implemented a plan to streamline the activities of our United States computer businesses’ back office and warehouse operations, resulting in the elimination of approximately 200 jobs. We incurred $3.7 million of restructuring costs associated with this plan, including $3.2 million for staff severance and benefits for terminated employees and $0.5 million of non-cash costs for impairment of the carrying value of fixed assets. During the third quarter of 2004 we recorded $600,000 of additional costs related to facility exit costs for previously implemented plans to consolidate warehouse locations. We incurred $1.7 million of restructuring charges in Europe in connection with facility exit costs and workforce reductions during the first nine months of 2004, including a consolidation of United Kingdom sales offices in the first quarter of 2004, resulting in the elimination of 50 jobs.
During the second quarter of 2003, we purchased the minority ownership of our Netherlands subsidiary pursuant to the terms of the original purchase agreement for $2.6 million. All of the purchase price was attributable to goodwill and, as a result of an impairment analysis, was written off in accordance with SFAS 142.
The Company had income from operations for the current nine month period of $13.7 million compared to $11.4 million in the year-ago nine month period. The Company had income from operations of $15.4 million in its North American operations in the current nine month period compared to $11.9 million last year. We had a loss from operations in Europe of $1.7 million compared to a loss from operations of $0.5 million in the year-ago period.
Interest and other expense - net consists principally of interest expense. Interest expense was $2.3 million in the first nine months of 2004 and $1.7 million in 2003 as a result of higher average borrowings in Europe. Interest income on invested funds was $0.5 million in both years.
The income tax provision was $6.2 million for the first nine months of 2004, an effective tax rate of 51.6%, compared to a $5.3 million tax provision, an effective tax rate of 50.9%, for the comparable period in 2003. The high effective tax rate in 2004 was due to losses in tax jurisdictions for which no benefit is currently recognized. The effective tax rate in 2003 was affected by non-deductible costs incurred and losses in tax jurisdictions for which no benefit is recognized.
As a result of the above, net income for the first nine months of 2004 was $5.8 million, or $.17 per basic and $.16 per diluted share, compared to $5.1 million, or $.15 per basic and diluted share, in the year ago period.
Liquidity and Capital Resources
Our primary liquidity needs are to support working capital requirements in our business and to fund capital expenditures. We rely principally upon operating cash flow and borrowings under our credit facilities to meet these needs. We believe that cash flow available from these sources will be sufficient to meet our working capital requirements, projected capital expenditures and interest and debt repayments in the foreseeable future.
Our cash balance increased to $57.3 million during the nine months ended September 30, 2004 from $38.7 million at the end of 2003. Net cash provided by operating activities was $29.5 million in 2004, compared with $0.4 million in 2003. The increase in cash provided by operations in 2004 resulted from changes in our working capital accounts, which provided $11.3 million in cash compared to using $19.1 million of cash in 2003. The improvement resulted primarily from a $25.0 million increase in accounts payable, accrued expenses and other current liabilities in the first nine months of 2004, compared to a $15.7 million decrease for the same period of the prior year. Cash generated from net income adjusted by other non-cash items provided $18.2 million in 2004, compared to $19.5 million provided by these items in 2003.
Our working capital was $162 million at September 30, 2004, an increase of $13 million from $149 million at the end of 2003. This was due principally to a $19 million increase in cash, a $1 million increase in accounts receivable, a $4 million increase in inventories, an $8 million increase in prepaid expenses and other current assets and a $6 million decrease in short-term debt, offset by a $16 million increase in accounts payable and a $9 million increase in accrued expenses and other current liabilities. Our inventories increased in anticipation of traditionally strong fourth quarter sales, which are heavily influenced by individual consumer purchases. Future accounts receivable and inventory balances will continue to fluctuate with changes in sales volume and the mix of our net sales between consumer and business customers.
We maintain our cash and cash equivalents primarily in money market funds or their equivalent. As of September 30, 2004, all of our investments mature in less than three months. Accordingly, we do not believe that our investments have significant exposure to interest rate risk.
In 2004 $4.6 million of cash was used in investing activities, principally for the purchase of property, plant and equipment. Capital expenditures in 2004 consisted primarily of upgrades and enhancements to our information and communications systems hardware and facilities costs for the opening of several new retail stores. Cash of $9.1 million was used in investing activities in 2003, including $6.5 million for capital expenditures and $2.6 million for the acquisition of the minority interest in our Netherlands subsidiary.
Net cash of $7.0 million was used in financing activities in 2004. Cash of $6.1 million was used to repay short-term borrowings under our European credit facilities. We used cash of $1.3 million for payments under long-term borrowing agreements. Exercises of stock options provided $412,000 of cash in 2004. Cash of $4.6 million was used by financing activities in 2003, including $7.2 million used to repay short and long-term obligations, $1.3 million provided by the issuance of a capital lease and $1.3 million provided by the exercise of stock options.
Under our $70 million United States secured revolving credit agreement, which expires on March 31, 2005, availability as of September 30, 2004 was $60.4 million. There were outstanding letters of credit of $10.1 million and there were no outstanding advances as of September 30, 2004. Under our £15 million ($27.1 million at the September 30, 2004 exchange rate) multi-currency United Kingdom credit facility, which is available to our United Kingdom subsidiaries, at September 30, 2004 there were £4.4 million ($8.0 million) of borrowings outstanding with interest payable at a rate of 5.87%. The facility does not have a termination date, but may be canceled by either party on six months notice. Borrowings under the facility are secured by certain assets of our United Kingdom subsidiaries. Under our Netherlands €5 million ($6.2 million at the September 30, 2004 exchange rate) credit facility, at September 30, 2004 there were €4.1 million ($5.1 million) of borrowings outstanding under this line with interest payable at a rate of 5.0%. This facility expires in November 2005.
We have begun discussions with our lenders to replace the current United States and United Kingdom credit facilities with a single multi-currency borrowing facility. We expect that a new agreement will be completed in the next three months.
We also have certain obligations with various parties that include commitments to make future payments. Our principal commitments at September 30, 2004 consisted of repayments of borrowings under our credit agreements and long-term borrowings and payments under operating leases for certain of our real property and equipment.
Off-balance Sheet Arrangements
The Company has not created, and is not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating the Company’s business. The Company does not have any arrangements or relationships with entities that are not consolidated into the financial statements that are reasonably likely to materially affect the Company’s liquidity or the availability of capital resources.
Factors That May Affect Future Results and Financial Condition
There are a number of factors and variables that affect our results of operations and financial condition. Following is a description of some of the important factors that may affect future results.
Other factors that could contribute to or cause such differences include, but are not limited to, unanticipated developments in any one or more of the following areas: (i) the effect on us of volatility in the price of paper and periodic increases in postage rates, (ii) the operation of our management information systems, (iii) significant changes in the computer products retail industry, especially relating to the distribution and sale of such products, (iv) timely availability of existing and new products, (v) risks involved with e-commerce, including possible loss of business and customer dissatisfaction if outages or other computer-related problems should preclude customer access to us, (vi) risks associated with delivery of merchandise to customers by utilizing common delivery services such as the United States Postal Service and United Parcel Service, including possible strikes and contamination, (vii) borrowing costs or availability, (viii) pending or threatened litigation and investigations and (ix) the availability of key personnel, as well as other risk factors which may be detailed from time to time in our Securities and Exchange Commission filings.
Critical Accounting Policies and Estimates
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 at the date of the financial statements, and revenues and expenses during the period. Significant accounting policies employed by the Company, including the use of estimates, were presented in the Notes to Consolidated Financial Statements of the Company's 2003 Annual Report on Form 10-K.
Critical accounting policies are those that are most important to the presentation of our financial condition and results of operations, require management's most difficult, subjective and complex judgments, and involve uncertainties. The accounting policies that have been identified as critical to our business operations and understanding the results of operations pertain to revenue recognition, net accounts receivable, inventories, long-lived assets, income taxes and restructuring charges and accruals. The application of each of these critical accounting policies and estimates was discussed in the Company's Annual Report on Form 10-K for the year ended December 31, 2003. There have been no significant changes in the application of critical accounting policies or estimates during 2004. Management believes that full consideration has been given to all relevant circumstances that we may be subject to, and the condensed consolidated financial statements of the Company accurately reflect management’s best estimate of the consolidated results of operations, financial position and cash flows of the Company for the periods presented. Because of the uncertainty in these estimates, actual results could differ from estimates used in applying the critical accounting policies. We are not aware of any reasonably likely events or circumstances which would result in different amounts being reported that would materially affect its financial condition or results of operations.
Item 3. Quantitative and Qualitative Disclosure About Market Risk.
We are exposed to market risks, which include changes in U.S. and international interest rates as well as changes in currency exchange rates as measured against the U.S. dollar and each other.
We have limited involvement with derivative financial instruments and do not use them for trading purposes. Changes in currency exchange rates as measured against the U.S. dollar may positively or negatively affect sales, gross margins, operating expenses and retained earnings as expressed in U.S. dollars. We may enter into foreign currency options or forward exchange contracts aimed at limiting in part the impact of certain currency fluctuations, but as of September 30, 2004 we had no outstanding forward exchange contracts.
Our exposure to market risk for changes in interest rates relates primarily to our variable rate debt. In connection with our United Kingdom term loan agreement, effective April 30, 2002 we entered into an interest rate collar agreement to reduce our exposure to market rate fluctuations. At September 30, 2004 the notional amount of the interest rate collar was £5.3million ($9.5 million at the September 30, 2004 exchange rate) with an interest rate cap of 6.0% and a floor of 4.5%. The interest rate collar expires on April 30, 2005.
Item 4. Controls and Procedures
The Company has carried out an evaluation under the supervision of management, including the Chairman and Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. Based on that evaluation, the Company’s Chairman and Chief Executive Officer and Chief Financial Officer have concluded that, as of September 30, 2004, the Company’s disclosure controls and procedures were effective to ensure that information required to be disclosed by the Company in the reports filed or submitted by it under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports is assembled and reported to the Company’s management, including the Chairman and Chief Executive Officer and the Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
The Company previously disclosed in its Form 10-Q for the quarter ended June 30, 2004 that management identified and reported to the Audit Committee of the Company’s Board of Directors certain matters involving internal control deficiencies. These included internal control deficiencies arising from the consolidation of its U.S. computer businesses with separate accounting systems to a single accounting system. These internal control deficiencies affected the timeliness and accuracy of recording certain transactions and included the lack of formal procedures to reconcile intercompany accounts and transactions. We have addressed these deficiencies with the hiring and training of additional accounting staff.
We also identified deficiencies related to policies and procedures and systems interfaces and are undertaking measures to remediate them. Management and the Audit Committee believe that those internal control deficiencies, as mitigated by substantial manual procedures and account reconciliations, individually or in the aggregate, did not have a material effect on the financial statements of the Company for the period ended September 30, 2004.
Other than arising from the review described above, there have been no changes in internal control over financial reporting 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 II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
(b) Reports on Form 8-K.
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.