UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10-Q X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE - --- ACT OF 1934 For the quarterly period ended May 31, 2002 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 001-14669 HELEN OF TROY LIMITED --------------------- (Exact name of the registrant as specified in its charter) Bermuda 74-2692550 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Clarendon House Church Street Hamilton, Bermuda (Address of Principal Executive Offices) 1 Helen of Troy Plaza El Paso, Texas 79912 (Registrant's United States Mailing Address) (Zip Code) Registrant's telephone number, including area code: (915) 225-8000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- As of July 8, 2002 there were 28,161,117 shares of Common Stock, $.10 Par Value, outstanding. 1
HELEN OF TROY LIMITED AND SUBSIDIARIES INDEX <Table> <Caption> Page No. <S> <C> <C> <C> <C> PART I. FINANCIAL INFORMATION Item 1 Consolidated Condensed Balance Sheets as of May 31, 2002 (unaudited) and February 28, 2002.........................................................3 Consolidated Condensed Statements of Income (unaudited) for the Three Months Ended May 31, 2002 and May 31, 2001.......................................5 Consolidated Condensed Statements of Cash Flows (unaudited) for the Three Months Ended May 31, 2002 and May 31, 2001.......................................6 Notes to Consolidated Condensed Financial Statements......................................................8 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations................................................................13 SIGNATURES....................................................................................................21 </Table> 2
PART I. FINANCIAL INFORMATION HELEN OF TROY LIMITED AND SUBSIDIARIES CONSOLIDATED CONDENSED BALANCE SHEETS (in thousands, except shares) <Table> <Caption> May 31, February 28, 2002 2002 -------- ------------ (unaudited) <S> <C> <C> Assets Current assets: Cash and cash equivalents $ 88,410 $ 64,293 Marketable securities, at market value 145 145 Receivables - principally trade, less allowance of $5,689 at May 31, 2002 and $5,794 at February 28, 2002 66,069 69,943 Inventories 85,237 100,306 Prepaid expenses 3,910 3,256 Deferred income tax benefits 5,251 5,727 -------- -------- Total current assets 249,022 243,670 Property and equipment, at cost less accumulated depreciation of $12,940 at May 31, 2002 and $11,998 at February 28, 2002 44,818 45,716 Goodwill, net of accumulated amortization of $8,629 at May 31, 2002 and February 28, 2002 40,767 40,767 License agreements, at cost less accumulated amortization of $12,183 at May 31, 2002 and $11,842 at February 28, 2002 7,337 6,678 Other assets, net 20,666 20,727 -------- -------- $362,610 $357,558 ======== ======== </Table> (Continued) 3
HELEN OF TROY LIMITED AND SUBSIDIARIES CONSOLIDATED CONDENSED BALANCE SHEETS (in thousands, except shares) <Table> <Caption> May 31, February 28, 2002 2002 -------- ------------ (unaudited) <S> <C> <C> Liabilities and Stockholders' Equity Current liabilities: Accounts payable, principally trade $ 11,927 $ 11,549 Accrued expenses: Advertising and promotional 5,485 5,183 Other 14,445 15,369 Income taxes payable 18,705 20,131 --------- ------------ Total current liabilities 50,562 52,232 Long-term debt 55,000 55,000 --------- ------------ Total liabilities 105,562 107,232 Stockholders' equity: Cumulative preferred stock, non-voting, $1.00 par value Authorized 2,000,000 shares; none issued -- -- Common stock, $.10 par value. Authorized 50,000,000 shares; 28,211,017 and 28,196,517 shares issued and outstanding at May 31, 2002 and February 28, 2002, respectively 2,821 2,820 Additional paid-in capital 53,554 53,424 Retained earnings 201,260 195,474 Minority interest in deficit of acquired subsidiary (587) (1,392) --------- ------------ Total stockholders' equity 257,048 250,326 --------- ------------ Commitments and contingencies $ 362,610 $ 357,558 ========= ============ </Table> See accompanying notes to consolidated condensed financial statements. 4
HELEN OF TROY LIMITED AND SUBSIDIARIES CONSOLIDATED CONDENSED STATEMENTS OF INCOME (unaudited) (in thousands, except shares and earnings per share) <Table> <Caption> Three months ended May 31, 2002 2001 ------------ ------------ <S> <C> <C> Net sales $ 102,483 $ 91,383 Cost of sales 52,968 49,404 ------------ ------------ Gross profit 49,515 41,979 Selling, general and administrative expenses 39,504 34,686 ------------ ------------ Operating income 10,011 7,293 Other income (expense): Interest expense (1,067) (1,059) Other income, net 313 162 ------------ ------------ Total other income (expense) (754) (897) ------------ ------------ Earnings before income taxes 9,257 6,396 Income tax expense: Current 2,190 1,737 Deferred 476 68 ------------ ------------ Net earnings $ 6,591 $ 4,591 ============ ============ Earnings per share: Basic $ .23 $ .16 Diluted .22 .16 Weighted average number of common shares used in computing earnings per share: Basic 28,203,281 28,065,726 Diluted 29,746,413 28,542,965 </Table> See accompanying notes to consolidated condensed financial statements. 5
HELEN OF TROY LIMITED AND SUBSIDIARIES CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (unaudited, in thousands) <Table> <Caption> Three months ended May 31, 2002 2001 -------- -------- <S> <C> <C> Cash flows from operating activities: Net earnings $ 6,591 $ 4,591 Adjustments to reconcile net income to cash used by operating activities: Depreciation and amortization 1,868 2,163 Provision for doubtful receivables 935 365 Deferred taxes, net 476 (18) Proceeds from sales of marketable securities -- 1,614 Realized gain - trading securities -- (745) Unrealized loss - trading securities -- 636 Changes in operating assets and liabilities: Accounts receivable 2,939 767 Inventory 15,069 (23,096) Prepaid expenses (654) (1,689) Accounts payable 378 (7,842) Accrued expenses (622) 3,967 Income taxes payable (1,426) 1,219 -------- -------- Net cash provided (used) by operating activities 25,554 (18,068) Cash flows from investing activities: Capital and license expenditures (1,064) (205) Proceeds from the sale of fixed assets 20 -- Other assets (524) (324) -------- -------- Net cash used by investing activities (1,568) (529) </Table> (Continued) 6
HELEN OF TROY LIMITED AND SUBSIDIARIES CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (unaudited, in thousands) <Table> <Caption> Three months ended May 31, 2001 2002 ---------- ---------- <S> <C> <C> Cash flows from financing activities: Exercise of stock options $ 131 $ -- ---------- ---------- Net cash provided by financing activities 131 -- ---------- ---------- Net increase (decrease) in cash and cash equivalents 24,117 (18,597) Cash and cash equivalents, beginning of period 64,293 25,937 ---------- ---------- Cash and cash equivalents, end of period $ 88,410 $ 7,340 ========== ========== Supplemental cash flow disclosures: Interest paid $ 972 $ 988 Income taxes paid, net of refunds 3,616 489 </Table> See accompanying notes to consolidated condensed financial statements. 7
HELEN OF TROY LIMITED AND SUBSIDIARIES NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS May 31, 2002 Note 1- In the opinion of the Company, the accompanying consolidated condensed financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly its financial position as of May 31, 2002 and February 28, 2002 and the results of its operations for the three-month periods ended May 31, 2002 and 2001. While the Company believes that the disclosures presented are adequate to make the information not misleading, these statements should be read in conjunction with the financial statements and the notes included in the Company's latest annual report on Form 10-K. Certain reclassifications were made to information for the three months ended May 31, 2001 in order to conform to the presentation for the three months ended May 31, 2002. Note 2 - The Company is involved in various claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of such claims and legal actions will not have a material adverse effect on the financial position, results of operations, or cash flows of the Company. Note 3 - Basic earnings per share is computed based upon the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed based upon the weighted average number of common shares plus the effects of dilutive securities. The number of dilutive securities was 1,543,132 and 477,239 for the three months ended May 31, 2002 and 2001, respectively. All dilutive securities for the three months ended May 31, 2002 and May 31, 2001 consisted of stock options issued under the Company's stock option plans. Options to purchase common stock that were outstanding but not included in the computation of earnings per share because the exercise prices of such options were greater than the average market prices of the Company's common stock totaled 2,271,650 at May 31, 2002 and 3,577,962 at May 31, 2001. Note 4 - On September 29, 1999, the Company's Board of Directors approved a resolution authorizing the Company to purchase, in open market or private transactions, up to 3,000,000 shares of its common stock over a period extending to September 29, 2002. As of May 31, 2002, the Company had repurchased 1,342,341 of its shares under this resolution at a total cost of $8,699,000. The Company did not purchase any of its shares during the three months ended May 31, 2002. 8
Note 5 - The following table contains segment information for first quarters of fiscal 2003 and 2002. <Table> <Caption> (in thousands) North Corporate 2003 American International Tactica / Other Total - ----------------------- -------- ------------- -------- --------- -------- <S> <C> <C> <C> <C> <C> Net sales $ 71,929 $ 4,204 $ 26,350 $ -- $102,483 Operating income (loss) 7,653 (551) 3,385 (476) 10,011 Capital / license expenditures 1,005 34 25 -- 1,064 Depreciation and amortization 1,500 347 21 -- 1,868 2002 - ----------------------- -------- ------------- -------- --------- -------- Net sales $ 68,544 $ 4,049 $ 18,790 $ -- $ 91,383 Operating income (loss) 6,395 (1,333) 2,612 (381) 7,293 Capital / license expenditures 174 -- 31 -- 205 Depreciation and amortization 2,049 102 12 -- 2,163 </Table> Identifiable assets at May 31, 2002 and February 28, 2002 were as follows: <Table> <Caption> (in thousands) North Corporate American International Tactica / Other Total - ----------------------- -------- ------------- -------- --------- -------- <S> <C> <C> <C> <C> <C> May 31, 2002 $292,763 $ 22,515 $ 30,732 $ 16,600 $362,610 February 28, 2002 287,897 21,248 17,184 31,229 357,558 </Table> The North American segment sells hair care appliances, other personal care appliances, including massagers and spa products, hairbrushes, combs, and utility and decorative hair accessories in the United States and Canada. The International segment sells the same types of products in countries outside the U.S. and Canada. Tactica sells a variety of personal care and other consumer products directly to consumers and to retailers. 9
Operating profit for each operating segment is computed based on net sales, less cost of goods sold, less any selling, general and administrative expenses associated with the segment. The selling, general, and administrative expense totals used to compute each segment's operating profit are comprised of SG&A expense directly associated with those segments, plus corporate overhead expenses that are allocable to operating segments. Other items of income and expense, including income taxes, are not allocated to operating segments. Note 6 - The Hong Kong Inland Revenue Department ("the IRD") has assessed $11,033,000 in tax on certain profits of the Company's foreign subsidiaries for the fiscal years 1990 through 1997. Hong Kong taxes income earned from certain activities conducted in Hong Kong. The Company is vigorously defending its position that it conducted the activities that produced the profits in question outside of Hong Kong. The Company also asserts that it has complied with all applicable reporting and tax payment obligations. If the IRD's position were to prevail and if it were to assert the same position for years after fiscal 1997, the resulting assessment, could total $30,520,000 (U.S.) for the period from fiscal 1990 through fiscal 2002. In connection with the IRD's tax assessment for the fiscal years 1990 through 1997, the Company was required to purchase $5,750,000 (U.S.) in tax reserve certificates in Hong Kong, which represented approximately 52 percent of the liability assessed by the IRD. Tax reserve certificates represent the prepayment by a taxpayer of potential tax liabilities. The amounts paid for tax reserve certificates are refundable in the event that the value of the tax reserve certificates exceeds the related tax liability. These certificates are denominated in Hong Kong dollars and are subject to the risks associated with foreign currency fluctuations. The Company is engaged in dialogue with the IRD authorities to resolve the issues associated with the IRD's assessment. As a result, the IRD has proposed to settle a portion of the audit period. The years covered by the proposed settlement are fiscal years 1990 through 1994. The assessment for that period is $4,468,000 and the IRD has offered to settle the amount for $2,505,000 (56 percent of the assessed amount), plus interest of approximately $100,000. The Company has conditionally accepted the settlement, subject to minor modifications to the interest due. The Company is awaiting the IRD's response to its conditional acceptance of the proposed settlement. The settlement would not have a material effect on the Company's financial position or results of operations. Because, it could apply certain of the tax reserve certificates discussed above to amounts due under the proposed settlement, the Company estimates that it will be required to pay the IRD approximately $37,000 of additional cash, plus interest. The proposed settlement would not affect the current status of the IRD's assessments for fiscal years 1995 through 1997. Although the ultimate resolution of the IRD's claims cannot be predicted with certainty, management believes that adequate provision has been made in the financial statements for the resolution of 10
the IRD's assessments for the fiscal years 1990 through 1997 and potential future assessments relating to activity since fiscal 1997. Note 7 - Helen of Troy's consolidated results of operations for the three-month periods ended May 31, 2002 and 2001 include 100 percent of the net earnings and losses of Tactica International, Inc. ("Tactica"), a subsidiary in which Helen of Troy owns a 55 percent interest. At the time of Helen of Troy's acquisition of this interest, Tactica reported an accumulated net deficit. Because the minority interest portion of that deficit was recorded as a reduction in Helen of Troy's stockholders' equity, rather than as an asset, Helen of Troy will include 100 percent of Tactica's net earnings and losses in its consolidated income statement until Tactica's accumulated deficit is eliminated. At May 31, 2002, Tactica's accumulated deficit remaining to be eliminated was approximately $1,305,000. Helen of Troy's 55 percent share of this deficit totals $718,000 with the minority interest totaling $587,000. Management believes that the deficit will be eliminated during the three-month period ending August 31, 2002. Thereafter, the consolidated net earnings of the Company will include 55 percent, rather than 100 percent, of Tactica's net earnings. Note 8 - In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (SFAS 142). The Company adopted SFAS 142 on March 1, 2002. SFAS 142 eliminates the amortization of goodwill and other intangible assets that have indefinite useful lives. Amortization will continue to be recorded for intangible assets with definite useful lives. SFAS 142 also requires at least an annual impairment review of goodwill and other intangible assets. Any asset deemed to be impaired is to be written down to its fair value. The Company is currently performing the first phase of its goodwill review to determine whether any of that goodwill is impaired. As prescribed by SFAS 142, the Company will finish this phase no later than August 31, 2002. Because it eliminates the amortization of goodwill, SFAS 142 decreased the Company's SG&A expense by approximately $515,000 in the first quarter of fiscal 2003. The following table presents the impact of SFAS 142 on net earnings and earnings per share had the standard been in effect for the quarter ended May 31, 2001 (in thousands, except per-share amounts): <Table> <Caption> Three Months Ended May 31, 2002 2001 ----------- ----------- <S> <C> <C> Reported net earnings $ 6,591 4,591 Adjustments: Amortization of Goodwill -- 515 Income tax effect -- (103) ----------- ----------- Net adjustments -- 412 ----------- ----------- Adjusted net earnings $ 6,591 5,003 =========== =========== Reported earnings per share - basic $ .23 .16 Adjusted earnings per share - basic $ .23 .18 Reported earnings per share - diluted $ .22 .16 Adjusted earnings per share - diluted $ .22 .18 </Table> 11
Note 9 - In April 2001, the EITF reached a consensus on Issue No. 00-25, "Vendor Income Statement Characterization of Consideration Paid to a Reseller of the Vendor's Products." In November 2001, the issues discussed in EITF 00-25 were codified with related issues into EITF 01-9, "Accounting for Consideration Given By a Vendor To a Customer (Including a Reseller of the Vendor's Products)," which addresses the income statement classification of slotting fees, cooperative advertising arrangements with trade customers and buydowns. The consensus reached by the EITF requires that certain customer promotional payments that were previously classified as marketing expenses be classified as a reduction of revenue. The Company adopted the consensus on March 1, 2002. Prior to the adoption of this consensus, the Company classified these payments as selling, general and administrative expenses in its Consolidated Statement of Operations. The adoption of EITF 01-9 reduced net sales, gross profit and selling, general and administrative expenses by $719,000 and $692,000 for the quarters ending May 31, 2002 and May 31, 2001, respectively. Because adoption of EITF 01-9 resulted solely in reclassification within the Consolidated Statement of Operations, there was no impact on the Company's financial condition, operating income or net earnings for any of the periods presented. Note 10 - Subsequent to May 31, 2002, 50,000 shares of the Company's common stock that had been in escrow were returned to the Company. The Company retired these shares immediately upon receiving them, thereby reducing the number of outstanding shares of its common stock by 50,000. The escrow account in which these shares were held related to a previous acquisition by the Company. No further shares or other assets remain in the escrow account. 12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This discussion contains a number of forward-looking statements, all of which are based on current expectations. Actual results may differ materially due to a number of factors, including those discussed in the section entitled "Information Relating to Forward Looking Statements" and in the Company's most recent report on Form 10-K. RESULTS OF OPERATIONS Consolidated Sales and Gross Profit Margins Our net sales for the three months ended May 31, 2002 improved 12 percent or $11,100,000, versus the three months ended May 31, 2001. All three of our operating segments exceeded their sales totals for the comparable period the previous year. The Tactica operating segment produced $7,560,000, or 68 percent of the first quarter sales increase. Most of Tactica's sales increase occurred in the retail distribution channel. The North American operating segment was responsible for $3,385,000, or 30 percent of our first quarter sales growth. Sales of hair dryers incorporating Ionic Technology contributed significantly to the North American segment's sales growth. Sales growth in the United Kingdom and France offset declines in other parts of the world, resulting in slight sales improvement in the International Segment. Gross profit, as a percentage of sales, improved from 45.9 percent for the quarter ended May 31, 2001 to 48.3 percent for the quarter ended May 31, 2002. Most of this increase was attributable to an increase in Tactica's sales as a percentage of total consolidated sales. Tactica's net revenues made up 25.7 percent of our consolidated first quarter 2003 net sales, versus 20.5 percent in the same quarter of fiscal 2002, thus increasing the effect of its relatively high gross margins on consolidated gross margins. Tactica achieves higher gross profit percentages than our other segments but also experiences higher selling, general and administrative expenses, as a percentage of sales, primarily because of advertising expenses. Gross margins in the North American and International segments also improved one-half percentage point due primarily to a favorable change in the mix of products sold and lower product costs. Selling, general and administrative expense From the first quarter of fiscal 2002 to the first quarter of fiscal 2003, selling, general, and administrative expenses ("SG&A"), expressed as a percentage of net sales, increased from 38.0 to 38.5 percent. As discussed above, Tactica incurs substantially higher SG&A, as a percentage of its sales, than do the North American and International segments. Because Tactica grew significantly during the first quarter, both in its sales volume and as a percentage of our consolidated business, all of its operating statistics, including SG&A as a percentage of sales, became more significant to our overall results. Tactica's SG&A expense grew as a percentage of its sales due to higher advertising costs. Excluding Tactica, our first quarter fiscal 2003 SG&A as a percentage of sales was slightly lower than it was during the first quarter of fiscal 2002 due primarily to lower inventory storage expenses and to the fact that, 13
due to our adoption of SFAS 142, no goodwill amortization expense was recorded. During the quarter ended May 31, 2001, we recorded $515,000 in goodwill amortization expense. Interest expense and Other income / expense Interest expense for the quarter ended May 31, 2002 was consistent with the quarter ended May 31, 2001, increasing to $1,067,000 from $1,059,000. Income tax expense In the first quarter of fiscal 2003, our income tax expense was 28.8 percent of net income before income taxes, as opposed to 28.2 percent in the first quarter of fiscal 2002. The reason for this increase was Tactica. Tactica incurs a total income tax rate of approximately 45 percent, versus 20 percent for our other two segments combined. LIQUIDITY AND CAPITAL RESOURCES During the first quarter of fiscal 2003, we continued to strengthen our financial condition. Our cash balance increased 37.5 percent to $88,410,000 at May 31, 2002 from $64,293,000 at February 28, 2002. Operating activities provided $25,554,000 of cash during the first quarter of fiscal 2003, compared to using $18,068,000 during the previous fiscal year's first quarter. In addition to net income, our successful efforts to reduce inventory balances were instrumental in the production of cash from operating activities. Investing activities used $1,568,000 of cash during the quarter ended May 31, 2002, due primarily to a fee paid to acquire additional territories under a license agreement. Financing activities provided $131,000 due to the exercise of stock options. Net accounts receivable decreased 5.5 percent from February 28, 2002 to May 31, 2002. Our May 31, 2002 inventory balance totaled $85,237,000, versus $100,306,000 at February 28, 2002, a 15.0 percent decrease. This decrease is a result of the successful continuation of our efforts to reduce inventory levels. Our working capital balance increased to $198,460,000 at May 31, 2002 from $191,438,000 at February 28, 2001. Our current ratio was 4.93 at May 31, 2002, compared to 4.67 at February 28, 2002. The increases in our working capital and current ratio were largely due to the production of cash by our operating activities. In connection with the acquisition of a 55 percent interest in Tactica, we loaned $3,500,000 to the minority shareholders of Tactica. The interest rate on these loans is 8.75 percent. All principal and unpaid interest on these loans is due March 14, 2005. The total amounts of principal and accrued interest due to the Company under these loans were $4,180,000 and $4,103,000 at May 31, 2002 and February 28, 2002, respectively. These amounts are included in "Other assets" on the consolidated balance sheets. 14
We maintain a revolving credit loan with a bank to facilitate short-term borrowings and the issuance of letters of credit. This line of credit allows borrowings totaling $25,000,000, charges interest at the three-month LIBOR rate plus a percentage that varies based on the ratio of the Company's debt to its earnings before interest, taxes, depreciation, and amortization (EBITDA), and expires August 31, 2003. At May 31, 2002 the interest rate charged under the line of credit was 2.85 percent. This line of credit allows for the issuance of letters of credit up to $7,000,000. Any outstanding letters of credit reduce the $25,000,000 maximum borrowing limit on a dollar-for-dollar basis. At May 31, 2002, there were no borrowings under this line of credit and outstanding letters of credit totaled $1,069,426. The revolving credit agreement provides that the Company must satisfy requirements concerning its minimum net worth, total debt to consolidated total capitalization ratio, debt to EBITDA ratio and its fixed charge coverage ratio. The Company is in compliance with all of these requirements. Our contractual obligations and commercial commitments as of May 31, 2002 were: <Table> <Caption> Payments Due by Period (in 000s) ----------------------------------------------------- Less than 1 After 5 Contractual Obligations Total year 1-3 years 4-5 years years - ----------------------- -------- ----------- --------- --------- ------- <S> <C> <C> <C> <C> <C> Long-term debt $ 55,000 -- 20,000 10,000 25,000 Open purchase orders - inventory 16,141 16,141 -- -- -- Operating leases 2,921 779 2,142 -- -- Minimum royalty payments 49,220 8,655 13,621 13,730 13,214 -------- ----------- -------- --------- ------- Total contractual obligations $123,282 25,575 35,763 23,730 38,214 ======== =========== ======== ========= ======= </Table> We do not engage in any activities involving special purpose entities or off-balance sheet financing. Under a September 1999 Board of Directors resolution, the Company may repurchase up to a total of 3,000,000 shares of its common stock over a period extending to September 29, 2002. Since the inception of this common stock repurchase program, the Company repurchased a total of 1,342,431 shares of its common stock for $8,699,196, including commissions. No common stock was repurchased during the first quarter of fiscal 2003. Based on our current financial condition and current operations, we believe that cash flows from operations and available financing sources will continue to provide sufficient capital resources to fund the Company's ongoing liquidity needs for the foreseeable future. We expect that our capital needs will stem primarily from the needs to purchase sufficient levels of inventory and to carry normal levels of accounts receivable on our balance sheet. In addition, we evaluate acquisition opportunities on a regular basis and might augment our internal growth with acquisitions of complimentary businesses and product lines. We might finance acquisition activity with available cash, the issuance of stock, or with additional debt, depending upon the size and nature of any such transaction and the status of the capital markets. 15
HONG KONG INCOME TAXES The Hong Kong Inland Revenue Department (the "IRD") has assessed $11,033,000 in tax on certain profits of the Company's foreign subsidiaries for the fiscal years 1990 through 1997. Hong Kong taxes income earned from certain activities conducted in Hong Kong. The Company is vigorously defending its position that it conducted the activities that produced the profits in question outside of Hong Kong. The Company also asserts that it has complied with all applicable reporting and tax payment obligations. If the IRD's position were to prevail and if it were to assert the same position for years after fiscal 1997, the resulting assessment could total $30,520,000 (U.S.) for the period from fiscal 1990 through fiscal 2002. In connection with the IRD's tax assessment for the fiscal years 1990 through 1997, the Company was required to purchase $5,750,000 (U.S.) in tax reserve certificates in Hong Kong, which represented approximately 52 percent of the liability assessed by the IRD. Tax reserve certificates represent the prepayment by a taxpayer of potential tax liabilities. The amounts paid for tax reserve certificates are refundable in the event that the value of the tax reserve certificates exceeds the related tax liability. These certificates are denominated in Hong Kong dollars and are subject to the risks associated with foreign currency fluctuations. The Company is engaged in dialogue with the IRD authorities to resolve the issues associated with the IRD's assessment. As a result, the IRD has proposed to settle a portion of the audit period. The years covered by the proposed settlement are fiscal years 1990 through 1994. The assessment for that period totaled $4,468,000 and the IRD has offered to settle the amount for $2,505,000 (56 percent of the assessed amount), plus interest of approximately $100,000. The Company has conditionally accepted the settlement, subject to minor modifications to the interest due. The Company is awaiting the IRD's response to its conditional acceptance of the proposed settlement. The settlement would not have a material effect on the Company's financial position or results of operations. Because, it could apply certain of the tax reserve certificates discussed above to amounts due under the proposed settlement, the Company estimates that it will be required to pay the IRD approximately $37,000 of additional cash, plus interest. The proposed settlement would not affect the current status of the IRD's assessments for fiscal years 1995 through 1997. Although the ultimate resolution of the IRD's claims cannot be predicted with certainty, management believes that adequate provision has been made in the financial statements for the resolution of the IRD's claims and potential future assessments relating to activity since fiscal 1997. PROPOSED UNITED STATES FEDERAL INCOME TAX LEGISLATION Currently, we benefit from an international corporate structure that results in relatively low tax rates on a consolidated basis. If we were to encounter significant changes in the rates or rules imposed by certain key taxing jurisdictions, such changes could have a material adverse effect on the Company's financial position and profitability. In 1994, we engaged in a corporate restructuring that, among other things, resulted in a portion of our income not being subject to taxation in the United States. If such income were subject to United States federal income taxes, our effective income tax rate would increase materially. Several bills have been introduced recently in the United States Congress that, if enacted into law, could adversely affect our United States federal income tax status. At least one of the bills introduced would apply to companies 16
such as ours that restructured several years ago. That bill could, if enacted into law, subject all of our income to United States income taxes, thereby reducing our net income. Other bills introduced recently would exempt restructuring transactions, such as ours, that were completed before certain dates in 2001 and 2002, but would limit the deductibility of certain intercompany transactions for U.S. income tax purposes and would subject gains on certain asset transfers to U.S. income tax. In addition to the legislation introduced in Congress, the United States Treasury Department has issued a study of restructurings such as ours, which concluded in part that additional limitations should be imposed on the deductibility of certain intercompany transactions. It is not currently possible to predict whether the legislation that has been introduced will become law, whether any additional bills will be introduced, or the consequences of the Treasury Department's study. However, there is a risk that new laws in the United States could eliminate or substantially reduce the current income tax benefits of our corporate structure. If this were to occur, such changes could have a material adverse effect on our financial position and profitability. CRITICAL ACCOUNTING POLICIES The U.S. Securities and Exchange Commission defines critical accounting policies as "those that are both most important to the portrayal of a company's financial condition and results, and require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain." Preparation of our financial statements involves the application of several such policies. These policies include: consolidation of Tactica International, Inc. (Tactica) under the purchase method, estimates of our exposure to liability for income taxes in Hong Kong, estimates of credits to be issued to customers for sales that have already been recorded, the calculation of our allowance for doubtful accounts, and the valuation of inventory on a lower-of-cost-or-market basis. Consolidation of Tactica - In March 2000 (fiscal 2001), we acquired a 55 percent interest in Tactica. At that time, we determined that use of the purchase method of accounting and consolidation was appropriate and we continue to use that method of consolidation. Because Tactica had accumulated a net deficit at the time that we acquired our interest in it and because the minority shareholders of Tactica have not adequately guaranteed their portion of the accumulated deficit, our Consolidated Statements of Income for the first quarters of fiscal 2003 and fiscal 2002 include 100 percent of Tactica's net income or loss. We will continue to recognize all of Tactica's net income or loss until such time as Tactica's accumulated deficit is extinguished. After that time, our consolidated net earnings will include 55 percent of Tactica's net income or loss. Hong Kong Income Taxes - The Inland Revenue Department (the "IRD") in Hong Kong assessed tax on certain profits of the Company's foreign subsidiaries for the fiscal years 1990 through 1997. The ultimate resolution of the IRD's claims cannot be predicted with certainty. However, we have recorded a liability for the IRD's claims, based on consultations with outside Hong Kong tax experts as to the probability that some or all of the IRD's claims prevail. Such liability is included in "Income taxes payable" on the Consolidated Balance Sheets. If the IRD's position were to prevail and it were to assert the same position with respect to fiscal years after 1997, the resulting tax liability could 17
total $30,520,000 (U.S.) for the period from fiscal 1990 through fiscal 2002. Estimates of credits to be issued to customers - We regularly receive requests for credits from retailers for returned product or in connection with sales incentives, such as co-operative advertising and volume rebate agreements. We reduce sales or increase selling, general, and administrative expenses, depending on the nature of the credits, for estimated future credits to customers. Our estimates of these amounts are based either on historical information about credits issued, relative to total sales, or on specific knowledge of incentives offered to retailers. Allowance for doubtful accounts - From time to time, amounts due from our customers become uncollectible due to the customers' inability to pay. We record allowances specifically for customers' balances based on the probability that we will not receive payment. When major customers declare bankruptcy, we record an allowance equal to the amount due from that customer, less the portion of the receivable that we expect to collect either by selling the receivable in a secondary market or through settlement with the bankruptcy estate. Valuation of inventory - We account for our inventory using a first-in-first-out system in which we record inventory on our balance sheet at the lower of its cost or its net realizable value. Determination of net realizable value requires management to estimate the point in time at which an item's net realizable value drops below its cost. We regularly review our inventory for slow-moving items and for items that we are unable to sell at prices above their original cost. When we identify such an item, we reduce its book value to the net amount that we expect to realize upon its sale. This process entails a significant amount of inherent subjectivity and uncertainty. In addition to the above policies, several other policies, including policies governing the timing of revenue recognition, are important to the preparation of our financial statements, but do not meet the definition of critical accounting policies because they do not involve subjective or complex judgements. INFORMATION RELATING TO FORWARD-LOOKING STATEMENTS Certain written and oral statements made by our Company and subsidiaries or with the approval of an authorized executive officer of our Company may constitute "forward-looking statements" as defined under the Private Securities Litigation Reform Act of 1995. This includes statements made in this report, in other filings with the Securities and Exchange Commission, in press releases, and in certain other oral and written presentations. Generally, the words "anticipates," "believes," "expects" and other similar words identify forward-looking statements. All statements that address operating results, events or developments that we expect or anticipate will occur in the future, including statements related to sales, earnings per share results and statements expressing general expectations about future operating results, are forward-looking statements. The Company cautions readers not to place undue reliance on forward-looking statements. Forward-looking statements are subject to risks that could cause such statements to differ materially from actual results. The Company undertakes no obligation to publicly update 18
or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Factors that could cause actual results to differ from those anticipated include: o general industry conditions and competition, o credit risks, o the Company's, or its operating segments' material reliance on individual customers or small numbers of customers, o the Company's material reliance on certain trademarks, o the impact of tax legislation, regulations, or treaties, including proposed legislation in the United States that would affect companies or subsidiaries of companies that have headquarters outside the United States and file U.S. income tax returns, o the impact of other current and future laws, and regulations, o the results of our disagreement with the Hong Kong Inland Revenue Department concerning the portion of our profits that are subject to Hong Kong income tax, o any future disagreements with the United States Internal Revenue Service or other taxing authority regarding our assessment of the effects or interpretation of existing tax laws, regulations, or treaties, o risks associated with inventory, including potential obsolescence, o risks associated with new products and new product lines, o risks associated with operating in foreign jurisdictions, o foreign currency exchange losses, o worldwide and domestic economic conditions, o uninsured losses, o reliance on computer systems, o management's reliance on the representations of third parties, o risks associated with new business ventures and acquisitions, o risks associated with investments in equity securities, and o the risks described from time to time in the Company's reports to the Securities and Exchange Commission, including this report. NEW ACCOUNTING GUIDANCE As explained in the Note 8 to the consolidated condensed financial statements, on March 1, 2002, we adopted EITF 01-9 "Vendor Income Statement Characterization of Consideration Paid to a Reseller of a Vendor's Products." The adoption of EITF 01-9 resulted in the following reclassification in the first quarter of fiscal 2002 income statements. Net sales, gross profit and selling, general and administrative expense were reduced by $692,000. The adoption of EITF 01-9 had no impact on profit from operations, net earnings or earnings per share. 19
In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (SFAS 142). The Company adopted SFAS 142 on March 1, 2002. SFAS 142 eliminates the amortization of goodwill and other intangible assets that have indefinite useful lives. Amortization will continue to be recorded for intangible assets with definite useful lives. SFAS 142 also requires at least an annual impairment review of goodwill and other intangible assets. Any asset deemed to be impaired is to be written down to its fair value. In our fiscal 2002 Form 10-K, we estimated that the cumulative effect of adopting SFAS 142 would be a non-cash after tax charge of approximately $15 to $20 million. We are currently performing the first phase of our goodwill review to determine whether any of that goodwill is impaired. As prescribed by SFAS 142, we will finish this phase no later than August 31, 2002. As we have further analyzed the facts and circumstances surrounding our goodwill, we have revised this estimate. We now estimate that the impairment testing under SFAS 142 could produce consequences ranging from no impairment to an after-tax charge of $20 million. Because it eliminates the amortization of goodwill, SFAS 142 decreased our SG&A expense by approximately $515,000 in the first quarter of fiscal 2003. The following table presents the impact of SFAS 142 on net earnings and earnings per share had the standard been in effect for the first quarter of fiscal 2002 (in thousands, except per-share amounts): <Table> <Caption> Three Months Ended May 31, 2002 2001 ------------ ------------ <S> <C> <C> Reported net earnings $ 6,591 4,591 Adjustments: Amortization of Goodwill -- 515 Income tax effect -- (103) ------------ ------------ Net adjustments -- 412 ------------ ------------ Adjusted net earnings $ 6,591 5,003 ============ ============ Reported earnings per share - basic $ .23 .16 Adjusted earnings per share - basic $ .23 .18 Reported earnings per share - diluted $ .22 .16 Adjusted earnings per share - diluted $ .22 .18 </Table> 20
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. HELEN OF TROY LIMITED --------------------- (Registrant) Date July 11, 2002 /s/ GERALD J. RUBIN ------------------- ---------------------------------- Gerald J. Rubin Chairman of the Board, Chief Executive Officer and President (Principal Executive Officer) Date July 11, 2002 /s/ RUSSELL G. GIBSON ------------------- ---------------------------------- Russell G. Gibson Senior Vice-President, Finance, and Chief Financial Officer (Principal Financial Officer) 21