Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations
This Quarterly Report on Form
10-Q
of Lifetime Brands, Inc. (the Company
and, unless the context otherwise requires, references to the Company shall include its consolidated subsidiaries), contains
forward-looking
statements as defined by the Private
Securities Litigation Reform Act of 1995. These
forward-looking
statements include information concerning the Companys plans, objectives, goals, strategies, future events, future revenues, performance,
capital expenditures, financing needs and other information that is not historical information. Many of these statements appear, in particular, in
Managements Discussion and Analysis of Financial Condition and Results of Operations.
When used in this Quarterly Report on Form
10-Q,
the words estimates, expects, anticipates, projects, plans, intends,
believes, may, should, seeks, and variations of such words or similar expressions are intended to identify
forward-looking
statements. All
forward-looking
statements, including, without limitation, the Companys examination of historical operating trends, are based upon the Companys current expectations and various assumptions. The Company
believes there is a reasonable basis for its expectations and assumptions, but there can be no assurance that the Company will realize its expectations or that the Companys assumptions will prove correct.
There are a number of risks and uncertainties that could cause the Companys actual results to differ materially from the
forward-looking
statements contained in this Quarterly Report. Important factors that could cause the Companys actual results to differ materially from those expressed as
forward-looking
statements are set forth in the Companys 2016 Annual Report on Form
10-K
in Part I, Item 1A under the heading
Risk Factors
. Such risks,
uncertainties and other important factors include, among others, risks related to:
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General economic factors and political conditions;
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Intellectual property, brands and licenses;
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International operations;
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Foreign exchange rates;
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International trade and transportation;
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Business interruptions;
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Acquisitions and investments;
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- 24 -
There may be other factors that may cause the Companys actual results to differ materially from the
forward-looking
statements. Except as may be required by law, the Company undertakes no obligation to publicly update or revise
forward-looking
statements which may be made to
reflect events or circumstances after the date made or to reflect the occurrence of unanticipated events.
ABOUT THE COMPANY
The Company designs, sources and sells branded kitchenware, tableware and other products used in the home. The Companys product categories include two
categories of products used to prepare, serve and consume foods: Kitchenware (kitchen tools and gadgets, cutlery, cutting boards, shears, cookware, pantryware, spice racks, and bakeware); and Tableware (dinnerware, stemware, flatware and giftware);
and one category, Home Solutions, which comprises other products used in the home (thermal beverageware, food storage, neoprene travel products and home décor). In 2016, Kitchenware products and Tableware products accounted for approximately
90% of the Companys U.S. Wholesale net sales and 88% of the Companys consolidated net sales.
At the heart of the Company is a culture of
innovation. The Company employs over 120 artists, engineers, industrial designers and graphics specialists, who create new products, packaging and merchandising concepts. The Company expects to introduce approximately 4,000 new or redesigned
products globally in 2017. Newly introduced products typically reach their peak sales in 12 to 18 months.
The Company markets several product lines
within each of its product categories and under most of the Companys brands, primarily targeting moderate price points through virtually every major level of trade. The Company believes it possesses certain competitive advantages based on its
brands, its emphasis on innovation and new product development and its sourcing capabilities. The Company owns or licenses a number of leading brands in its industry, including Farberware
®
,
Mikasa
®
, KitchenAid
®
, Pfaltzgraff
®
, KitchenCraft
®
, Fitz and Floyd
®
, Sabatier
®
, Mossy Oak
®
, Kamenstein
®
, Copco
®
,
masterclass
®
, Fred
®
and
La Cafetière
®
. Historically, the Companys sales growth has come from expanding product offerings within its product categories, by developing existing brands, acquiring new brands, including
complementary brands in markets outside the United States, and establishing new product categories. Key factors in the Companys growth strategy have been the selective use and management of the Companys brands and the Companys
ability to provide a stream of new products and designs. A significant element of this strategy is the Companys
in-house
design and development teams that create new products, packaging and merchandising
concepts.
In the third quarter of 2017 the Company acquired the Fitz and Floyd business. Fitz and Floyd designs, sources, markets and distributes Fitz
and Floyd
®
and other branded tabletop products and decorative ceramic collections.
Manufacturing
of sterling silver products at the Companys leased manufacturing facility in San Germán, Puerto Rico was temporarily halted due to Hurricane Maria. The hurricane did not cause significant asset damage at the facility, however the
interruption in manufacturing resulted in an increase in certain fixed overhead costs during the three months ended September 30, 2017. Manufacturing at the facility resumed during the fourth quarter and the Company in the process of
assessing the impact of the interruption and the recovery efforts on its results of operations for the year ended December 31, 2017.
BUSINESS
SEGMENTS
The Company operates in three reportable segments: U.S. Wholesale, International and Retail Direct. The U.S. Wholesale segment, is the
Companys primary domestic business that designs, markets and distributes its products to retailers and distributors. The International segment consists of certain business operations conducted outside the U.S. The Retail Direct segment is that
in which the Company markets and sells a limited selection of its products directly to consumers through its Pfaltzgraff, Mikasa, Fred and Friends, Built NY, Fitz and Floyd, Housewares Deals and Lifetime Sterling internet websites. The Company has
segmented its operations to reflect the manner in which management reviews and evaluates its results of operations.
- 25 -
EQUITY INVESTMENTS
The Company owns approximately 30% of the outstanding capital stock of Grupo Vasconia, S.A.B. (Vasconia), an integrated manufacturer of aluminum
products and one of Mexicos largest housewares companies. Shares of Vasconias capital stock are traded on the Bolsa Mexicana de Valores, the Mexican Stock Exchange. The Quotation Key is VASCONI.
The Company accounts for its investment in Vasconia using the equity method of accounting and has recorded its proportionate share of Vasconias net
income, net of taxes, as equity in earnings (losses) in the Companys condensed consolidated statements of operations. Pursuant to a Shares Subscription Agreement (the Agreement), the Company may designate four persons to be
nominated as members of Vasconias Board of Directors. As of September 30, 2017, Vasconias Board of Directors is comprised of eleven members of whom the Company has designated three members.
SEASONALITY
The Companys business and working
capital needs are highly seasonal, with a majority of sales occurring in the third and fourth quarters. In 2016 and 2015, net sales for the third and fourth quarters accounted for 61% and 59% of total annual net sales, respectively. In anticipation
of the
pre-holiday
shipping season, inventory levels increase primarily in the June through October time period. Consistent with the seasonality of the Companys net sales and inventory levels, the
Company also experiences seasonality in its inventory turnover and turnover days from one quarter to the next.
RESTRUCTURING
In 2016, to reduce costs and achieve synergies, the Company began the process of integrating its legal entities operating in Europe. During the three and nine
months ended September 30, 2017, the Company recorded $272,000 and $526,000, respectively, of restructuring expense related to the execution of this plan, primarily related to severance. The Company expects to incur approximately
$0.6 million of additional restructuring charges in 2017 related to this integration.
In 2015 the Company commenced an
in-depth
review of its U.S. Wholesale business segment, which included the evaluation of the segments efficiency and effectiveness, with the objective of developing a plan to restructure its operations
as appropriate. During 2016 the Company expanded this restructuring plan to focus on specific actions required to achieve the plans objectives. The restructuring plan included the realignment of product categories to best achieve the
Companys strategic plan and implementation of cost reduction initiatives. During the nine months ended September 30, 2016, the Company recorded $1.7 million of restructuring expense related to the U.S. Wholesale restructuring.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The following
is an update to the corresponding accounting policy set forth in the Companys 2016 Annual Report on Form
10-K.
Except as modified below, there have been no material changes to the Companys critical
accounting policies and estimates discussed in Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies and Estimates included in the Companys Annual Report on Form
10-K
for the year ended December 31, 2016.
Inventory
Inventory consists principally of finished goods sourced from third-party suppliers. Inventory also includes finished goods, work in process and raw materials
related to the Companys manufacture of sterling silver products. Inventory is priced using the lower of cost
(first-in,
first-out
basis) or net realizable value.
The Company estimates the selling price of its inventory on a product by product basis based on the current selling environment. If the estimated selling price is lower than the inventorys cost, the Company reduces the value of the inventory
to its net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predicable cost of completion, disposal and transportation.
- 26 -
Share-based compensation
The Company accounts for its share-based compensation arrangements in accordance with ASC Topic 718, Stock Compensation, which requires the
measurement of compensation expense for all share-based compensation granted to employees and
non-employee
directors at fair value on the date of grant and recognition of compensation expense over the related
service period for awards expected to vest.
The Company uses the Black-Scholes option valuation model to estimate the fair value of its stock options.
The Black-Scholes option valuation model requires the input of highly subjective assumptions including the expected stock price volatility of the Companys common stock and the risk-free interest rate. Changes in these subjective input
assumptions can materially affect the fair value estimate of the Companys stock options on the date of the option grant.
Performance share awards
are initially valued at the Companys closing stock price on the date of grant. Each performance award represents the right to receive up to 150% of the target number of shares of common stock. The number of shares of common stock earned will
be determined based on the attainment of specified performance goals by the end of the performance period, as determined by the Compensation Committee. Compensation expense for performance awards is recognized over the vesting period, and will vary
based on remeasurement during the performance period. If the performance metrics are not probable of achievement during the performance period, compensation expense would be reversed. The awards are forfeited if the performance metrics are not
achieved as of the end of the performance period. The performance share awards vest in full at the end of a three year period.
The Company bases the
estimated fair value of restricted stock awards on the fair value of its common stock on the date of grant. The estimated fair value of an award is determined based on the closing price of the Companys common stock on the date of grant
multiplied by the number of shares awarded. Compensation expense is recognized on a straight-line basis over the vesting period. Forfeitures are accounted for as they occur.
RESULTS OF OPERATIONS
The following table sets forth
statement of operations data of the Company as a percentage of net sales for the periods indicated:
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Three Months Ended
September 30,
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Nine Months Ended
September 30,
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2017
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2016
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2017
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2016
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|
Net sales
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100.0
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%
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|
100.0
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%
|
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100.0
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%
|
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|
100.0
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%
|
Cost of sales
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65.5
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65.7
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63.7
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64.5
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Gross margin
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34.5
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34.3
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36.3
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35.5
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Distribution expenses
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8.1
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8.5
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10.0
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10.1
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Selling, general and administrative expenses
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20.5
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19.4
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25.1
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23.7
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Restructuring expenses
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0.2
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0.1
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0.4
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Income from operations
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5.7
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6.4
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1.1
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1.3
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Interest expense
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|
(0.7
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)
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|
(0.7
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)
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(0.8
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)
|
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|
(0.9
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)
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Loss on early retirement of debt
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(0.1
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)
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Income before income taxes and equity in earnings
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5.0
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|
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5.7
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0.3
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|
0.3
|
|
Income tax provision
|
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|
(2.1
|
)
|
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|
(1.7
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)
|
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|
(0.2
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)
|
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|
(0.1
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)
|
Equity in earnings (losses), net of taxes
|
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|
(0.2
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)
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|
(0.1
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)
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0.2
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|
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|
(0.1
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)
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Net income
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2.7
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%
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3.9
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%
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0.3
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%
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0.1
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%
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- 27 -
MANAGEMENTS DISCUSSION AND ANALYSIS
THREE MONTHS ENDED SEPTEMBER 30, 2017 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 2016
Net Sales
Net sales for the three months ended September 30, 2017 were $166.0 million, a decrease of $4.1 million, or 2.4%, as compared to net
sales of $170.1 million for the corresponding period in 2016.
Net sales for the U.S. Wholesale segment for the three months ended September 30,
2017 were $137.1 million, a decrease of $2.5 million, or 1.8%, as compared to net sales of $139.6 million for the corresponding period in 2016.
Net sales for the U.S. Wholesale segments Kitchenware product category were $74.9 million for the three months ended September 30, 2017, a
decrease of $0.1 million, or 0.1%, as compared to $75.0 million for the corresponding period in 2016. The decrease in the U.S. Wholesale segments Kitchenware product category was attributable to decreases in the pantryware and
cutlery product lines, partially offset by tools and gadget and bakeware product lines club program sales.
Net sales for the U.S. Wholesale
segments Tableware product category were $46.5 million for the three months ended September 30, 2017, a decrease of $2.1 million, or 4.3%, as compared to $48.6 million for the corresponding period in 2016. The decrease was
attributable to club programs not repeated, partially offset by an increase in sales to online retailers and sales of the recently acquired Fitz and Floyd product line.
Net sales for the U.S. Wholesale segments Home Solutions product category were $15.7 million for the three months ended September 30, 2017, a
decrease of $0.3 million, or 1.9%, as compared to $16.0 million for the corresponding period in 2016. The decrease reflects a change in timing of home decor drug store programs, partially offset by an increase in the Built NY product line
sales.
Net sales for the International segment were $25.3 million for the three months ended September 30, 2017, a decrease of
$1.4 million, or 5.2%, as compared to net sales of $26.7 million for the corresponding period in 2016. In constant currency, net sales decreased approximately 5.0%. The decrease was due to a decline in the independent U.K. trade channel
and tableware sales to national accounts.
Net sales for the Retail Direct segment were $3.5 million for the three months ended September 30,
2017, a decrease of $0.3 million, or 7.9%, as compared to net sales of $3.8 million for the corresponding period in 2016. The decrease was attributable to more emphasis on the wholesale online sales channel and a decrease in promotions.
Gross margin
Gross margin for the three months
ended September 30, 2017 was $57.2 million, or 34.5%, as compared to $58.3 million, or 34.3%, for the corresponding period in 2016.
Gross
margin for the U.S. Wholesale segment was $47.0 million, or 34.2%, for the three months ended September 30, 2017, as compared to $47.1 million, or 33.8%, for the corresponding period in 2016.
Gross margin fluctuates from period
to period based on a number of factors, including product and customer mix. The increase reflects a change in customer and product mix, partially offset by an increase in fixed overhead costs due to a decrease in inventory purchases.
Gross margin for the International segment was $7.9 million, or 31.2%, for the three months ended September 30, 2017, as compared to
$8.7 million, or 32.4% for the corresponding period in 2016. The decrease in margin is the result of tableware product sales mix and de-emphasized product lines partially offset by improved margin for kitchenware products.
Gross margin for the Retail Direct segment was $2.3 million, or 65.9%, for the three months ended September 30, 2017, as compared to
$2.5 million, or 66.9%, for the corresponding period in 2016. The decrease in gross margin percentage in the Retail Direct segment reflects an increase in promotions.
- 28 -
Distribution expenses
Distribution expenses for the three months ended September 30, 2017 were $13.5 million as compared to $14.5 million for the corresponding period
in 2016. In September 2016, the Company identified and corrected an error in the accumulated depreciation balance relating to certain leasehold improvements at one of its U.S. warehouses. Accordingly, distribution expense for the three months ended
September 30, 2016 includes $1.3 million of additional depreciation expense to properly reflect the accumulated depreciation balance of these assets as of September 30, 2016. Distribution expenses as a percentage of net sales were
8.1% for the three months ended September 30, 2017, as compared to 7.8%, excluding the additional depreciation expense, for the three months ended September 30, 2016.
Distribution expenses as a percentage of net sales for the U.S. Wholesale segment were approximately 7.3% and 7.7% for the three months ended
September 30, 2017 and 2016, respectively. Excluding the additional distribution expense described above, distribution expenses as a percentage of net sales for the U.S. Wholesale segment were approximately 6.7% for the three months ended
September 30, 2016. As a percentage of sales shipped from the Companys warehouses, distribution expenses for the U.S. Wholesale segment were 8.4% for the three months ended September 30, 2017 and 8.0% for the three months ended
September 30, 2016. The increases reflects an increase in freight expense on higher sales to prepaid freight customers.
Distribution expenses as a
percentage of net sales for the International segment were approximately 9.5% and 9.7% for the three months ended September 30, 2017 and 2016, respectively. Distribution expenses as a percentage of sales shipped from the Companys U.K.
warehouses were 10.8% and 12.2% for the three months ended September 30, 2017 and 2016, respectively. The improvement reflects a decrease in temporary labor costs and lower freight rates.
Distribution expenses as a percentage of net sales for the Retail Direct segment were approximately 34.3% and 31.6% for the three months ended
September 30, 2017 and 2016, respectively. The increase was from an increase in freight rates.
Selling, general and administrative expenses
Selling, general and administrative expenses for the three months ended September 30, 2017 were $34.1 million, an increase of
$1.1 million, or 3.3%, as compared to $33.0 million for the corresponding period in 2016.
Selling, general and administrative expenses for the
three months ended September 30, 2017, for the U.S. Wholesale segment were $22.2 million, an increase of $0.2 million, or 0.9%, from $22.0 million for the corresponding period in 2016. The 2017 period reflects employee severance,
intangible amortization related to the Companys 2016 acquisitions, the inclusion of Fitz and Floyd and expenses associated with retailer credit concerns. The increase was partially offset by a decrease attributable to the timing of short term
incentive compensation expense. As a percentage of net sales, selling, general and administrative expenses were 16.2% and 15.8% for the three months ended September 30, 2017 and 2016, respectively.
Selling, general and administrative expenses for the three months ended September 30, 2017 for the International segment were $6.9 million, an
increase of $1.9 million, from $5.0 million for the corresponding period in 2016. The increase in expenses was primarily due to unrealized losses on foreign currency contracts in the current period resulting from the Companys hedging
activity, currency contract settlement payments and expenses attributable to the implementation of SAP.
Selling, general and administrative expenses for
the Retail Direct segment were $1.4 million for the three months ended September 30, 2017, as compared to $1.5 million for the three months ended September 30, 2016.
Unallocated corporate expenses for the three months ended September 30, 2017 were $3.6 million as compared to $4.5 million for the
corresponding period in 2016. The decrease was primarily attributable to the timing of short term incentive compensation expense.
- 29 -
Restructuring expenses
During the three months ended September 30, 2017, the Company recorded $0.3 million of restructuring expense, primarily for severance related to the
integration of legal entities operating in Europe.
Interest expense
Interest expense for the three months ended September 30, 2017 was $1.2 million, as compared to $1.2 million for the three months ended
September 30, 2016. An increase in average borrowing rate offset a decrease in interest expense due to the term loan repayment.
Income tax
provision
The income tax provision for the three months ended September 30, 2017 was $3.5 million as compared to $3.0 million for the
corresponding period in 2016. The Companys effective tax rate for the three months ended September 30, 2017 was 42.9% as compared to 31.0% for the corresponding 2016 period. The effective tax rate for the three months ended
September 30, 2017 increased due to a change in the jurisdictional mix in forecasted earnings for the year, foreign losses for which no benefit was recorded and expense generated on share based compensation pursuant to the requirements of ASU
2014-09,
which was adopted by the Company on January 1, 2017. The Companys effective tax rate for the three months ended September 30, 2016 reflects the enactment of lower corporate income tax rates
in the United Kingdom, from 18% to 17%, effective April 1, 2020, as well as lower blended state income tax rate.
Equity in losses
Equity in losses of Vasconia was $326,000, net of taxes, for the three months ended September 30, 2017, as compared to equity in losses of $138,000, net
of tax, for the corresponding 2016 period. Equity in losses for the three months ended September 30, 2017 and 2016 includes a deferred tax expense of $0.1 million in both periods, respectively, due to the requirement to record tax benefits
for foreign currency translation losses through other comprehensive income (loss), with a corresponding adjustment to deferred tax liabilities. Vasconia reported a net loss of $0.6 million and $0.2 million for the three months ended
September 30, 2017 and 2016, respectively.
- 30 -
MANAGEMENTS DISCUSSION AND ANALYSIS
NINE MONTHS ENDED SEPTEMBER 30, 2017 AS COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2016
Net Sales
Net sales for the nine months ended September 30, 2017 were $396.7 million, a decrease of $2.4 million, or 0.6%, as compared to net
sales of $399.1 million for the corresponding period in 2016.
Net sales for the U.S. Wholesale segment for the nine months ended September 30,
2017 were $319.3 million, an increase of $4.7 million, or 1.5%, as compared to net sales of $314.6 million for the corresponding period in 2016.
Net sales for the U.S. Wholesales Kitchenware product category were $192.8 million for the nine months ended September 30, 2017, an increase
of $3.6 million, or 1.9%, as compared to $189.2 million for the corresponding period in 2016. The increase in the U.S. Wholesale segments Kitchenware product category was primarily attributable to tools and gadget club programs and
an increase cookware and bakeware product line sales. The increase was partially offset by cutlery and pantryware club sales not repeated.
Net sales for
the U.S. Wholesales Tableware product category were $88.7 million for the nine months ended September 30, 2017, a decrease of $6.3 million, or 6.6%, as compared to $95.0 million for the corresponding period in 2016. The
decrease was attributable to tableware club program not repeated, partially offset by an increase in sales to online retailers.
Net sales for the U.S.
Wholesales Home Solutions product category were $37.8 million for the nine months ended September 30, 2017, an increase of $7.4 million, or 24.3%, as compared to $30.4 million for the corresponding period in 2016. The
increase reflects the continued growth in hydration programs, including products under the Built brand.
Net sales for the International segment for the
nine months ended September 30, 2017 were $65.9 million, a decrease of $6.1 million, as compared to net sales of $72.0 million for the corresponding period in 2016. In constant currency, net sales decreased approximately 0.9%.
The decrease, in constant currency, was due to a decrease in tableware sales.
Net sales for the Retail Direct segment for the nine months ended
September 30, 2017 were $11.5 million, a decrease of $1.0 million, or 8.0%, as compared to $12.5 million for the corresponding period in 2016. The decrease was attributable to more emphasis on the wholesale online sales channel
and a decrease in promotions.
Gross margin
Gross
margin for the nine months ended September 30, 2017 was $143.9 million, or 36.3%, as compared to $141.9 million, or 35.5%, for the corresponding period in 2016.
Gross margin for the U.S. Wholesale segment was $115.1 million, or 36.0% for the nine months ended September 30, 2017, as compared to
$108.9 million, or 34.6%, for the corresponding period in 2016. Gross margin fluctuates from period to period based on a number of factors, including product and customer mix. The increase reflects a change in customer and product mix and a
decrease in ocean freight rates, partially offset by an increase in fixed overhead costs.
Gross margin for the International segment was
$21.2 million, or 32.1% for the nine months ended September 30, 2017, as compared to $24.6 million, or 34.2%, for the corresponding period in 2016. The decrease in margin is the result of a change in customer mix, tableware product
lines
de-emphasized,
higher customer allowances and the weakened British Pound.
Gross margin for the Retail
Direct segment was $7.6 million, or 66.6% for the nine months ended September 30, 2017, as compared to $8.4 million, or 66.8%, for the corresponding period in 2016.
The decrease in gross margin percentage in Retail Direct
reflects an increase in promotional expenses in the 2017 period.
- 31 -
Distribution expenses
Distribution expenses for the nine months ended September 30, 2017 were $39.5 million as compared to $40.2 million for the corresponding period
in 2016. In September 2016, the Company identified and corrected an error in the accumulated depreciation balance relating to certain leasehold improvements at one of its U.S. warehouses. Accordingly distribution expense for the nine months ended
September 30, 2016 includes $1.3 million of additional depreciation expense to properly reflect the accumulated depreciation balance of these assets as of September 30, 2016. Distribution expenses as a percentage of net sales were
10.0% and 9.7% for the nine months ended September 30, 2017 and 2016, respectively.
Distribution expenses as a percentage of net sales for the U.S.
Wholesale segment were approximately 9.1% for both the nine months ended September 30, 2017 and 2016, respectively. Excluding the additional distribution expense described above, distribution expenses as a percentage of net sales for the U.S.
Wholesale segment were approximately 8.6% for the nine months ended September 30, 2016. Distribution expenses as a percentage of sales shipped from the Companys warehouses for the U.S. Wholesale segment were 9.9% and 9.6% for the nine
months ended September 30, 2017 and 2016, respectively. The increase reflects a decrease in sales shipped and an increase in freight expense on higher sales to prepaid freight customers.
Distribution expenses as a percentage of net sales for the International segment were approximately 10.3% for the nine months ended September 30, 2017,
as compared to 11.0% for the corresponding period in 2016. As a percentage of sales shipped from the Companys U.K. warehouses, distribution expenses for the International segment were 11.8% and 12.7% for the nine months ended
September 30, 2017 and 2016, respectively. The improvement reflects a reduction in facility expenses due to a reduction in third party warehousing and improvement in freight rates.
Distribution expenses as a percentage of net sales for the Retail Direct segment were approximately 31.3% and 30.4% for the nine months ended
September 30, 2017 and 2016, respectively. The increase was from an increase in freight rates.
Selling, general and administrative expenses
Selling, general and administrative expenses for the nine months ended September 30, 2017 were $99.6 million, an increase of
$4.9 million, or 5.2%, as compared to $94.7 million for the corresponding period in 2016.
Selling, general and administrative expenses for the
nine months ended September 30, 2017 for the U.S. Wholesale segment were $65.3 million, an increase of $2.4 million, or 3.8%, as compared to $62.9 million for the corresponding period in 2016. The 2017 period reflects an increase
in employee severance, IT software to improve efficiencies, intangible amortization related to the Companys 2016 acquisitions and customer credit insurance. The increase was partially offset by a decrease attributable to the timing of short
term incentive compensation expense. As a percentage of net sales, selling, general and administrative expenses increased to 20.5% for the nine months ended September 30, 2017 compared to 20.0% for the corresponding period in 2016.
Selling, general and administrative expenses for the nine months ended September 30, 2017 for the International segment were $20.3 million, an
increase of $4.6 million, or 29.3%, as compared to $15.7 million for the corresponding period in 2016. The increase in expenses in the 2017 period was primarily due to unrealized loss on foreign currency contracts in the current period, as
compared to realized and unrealized gains on foreign currency contracts in the corresponding 2016 period, resulting from the Companys hedging activity. In addition, the increase in expenses is attributable to SAP implementation costs.
Selling, general and administrative expenses for the nine months ended September 30, 2017 and 2016 for the Retail Direct segment were $4.4 million
and $4.5 million, respectively. The decrease in expenses was primarily due to a reduction in headcount and selling expenses.
Unallocated corporate
expenses for the nine months ended September 30, 2017 and 2016 were $9.5 million and $11.6 million, respectively. The decrease was primarily attributable to decrease in acquisition related expenses and the timing of short term
incentive compensation expense. The decrease was partially offset by an increase in share based compensation expense.
- 32 -
Restructuring expenses
During the nine months ended September 30, 2017, the Company recorded $0.5 million of restructuring expense, primarily for severance. These charges
are related to the integration of legal entities operating in Europe.
During the nine months ended September 30, 2016, the Company recorded
$1.7 million of restructuring expense. The expense for the period includes severance of approximately $0.6 million and consulting expenses of approximately $1.1 million. These charges are related to the execution of the U.S. Wholesale
restructuring plan.
Interest expense
Interest
expense for the nine months ended September 30, 2017 was $3.1 million as compared to $3.5 million for the corresponding period in 2016. The decrease in expense was attributable to a decrease in average borrowings and a decrease in
average borrowing rate due to Term Loan repayments.
Loss on early retirement of debt
In April 2017, the Company repaid the outstanding balance under its Term Loan. In connection therewith, the Company
wrote-off
debt issuance costs of $0.1 million.
In April 2016, the Company made a prepayment of
$15.2 million in accordance with the amended terms of the Companys Term Loan. In connection therewith, the Company
wrote-off
debt issuance costs of $0.3 million.
Income tax provision
The income tax provision for the
nine months ended September 30, 2017 was $0.9 million as compared to $0.2 million for the corresponding period in 2016. The Companys effective tax rate for the nine months ended September 30, 2017 was 78.9% as compared
to 14.9% for the corresponding 2016 period. The effective tax rate for the nine months ended September 30, 2017 increased due to a change in the jurisdictional mix in forecasted earnings for the year, foreign losses for which no benefit was
recorded and expense generated on share based compensation pursuant to the requirements of ASU
2014-09,
which was adopted by the Company on January 1, 2017. The Companys effective tax rate for the
nine months ended September 30, 2016 reflects the enactment of lower corporate income tax rates in the United Kingdom, from 18% to 17%, effective April 1, 2020, as well as lower blended state income tax rate.
Equity in earnings (losses)
Equity in earnings of
Vasconia was $0.7 million, net of taxes, for the nine months ended September 30, 2017, as compared to equity in losses of $0.5 million, net of taxes, for the corresponding 2016 period. Equity in earnings (losses) for the nine months
ended September 30, 2017 and 2016 includes a deferred tax benefit (expense) of $0.2 million and ($0.5) million, respectively, due to the requirement to record tax benefits for foreign currency translation losses through other comprehensive
income (loss), with a corresponding adjustment to deferred tax liabilities. Vasconia reported income from operations of $5.9 million and $3.6 million for the nine months ended September 30, 2017 and 2016, respectively, and net income
of $1.8 million and $0.5 million for the nine months ended September 30, 2017 and 2016, respectively.
During the nine months ended
September 30, 2016, the Company sold its 40% equity interest in GSI. Upon the sale of its equity interest in GSI the Company recognized a net gain of $189,000. This gain represents the net consideration received of R$2.3 million
(approximately $567,000) reduced by currency translation losses of $378,000 that were recognized when the equity interest was sold.
- 33 -
LIQUIDITY AND CAPITAL RESOURCES
The Companys principal sources of cash to fund liquidity needs are: (i) cash provided by operating activities and (ii) borrowings available
under its Second Amended and Restated Credit Agreement with JPMorgan Chase Bank, N.A, as Administrative Agent and
Co-Collateral
Agent, and HSBC Bank USA, National Association, as Syndication Agent and
Co-Collateral
Agent, and the other Lenders and Loan Parties party thereto, as amended, (the Credit Agreement), which provides for, among other things, a revolving credit facility commitment totaling
$175.0 million (the Revolving Credit Facility) and a term loan facility (the Term Loan). The Companys primary uses of funds consist of working capital requirements, capital expenditures and payments of principal
and interest on its debt.
At September 30, 2017, the Company had cash and cash equivalents of $5.5 million, compared to $7.9 million at
December 31, 2016. Working capital was $215.4 million at September 30, 2017 compared to $165.2 million at December 31, 2016. Liquidity, which includes cash and cash equivalents and availability under its credit facilities
(subject to the financial covenants of the Credit Agreement), was $48.9 million.
Inventory, a large component of the Companys working capital,
is expected to fluctuate from period to period, with inventory levels higher primarily in the June through October time period. The Company also expects inventory turnover to fluctuate from period to period based on product and customer mix. Certain
product categories have lower inventory turnover rates as a result of minimum order quantities from the Companys vendors or customer replenishment needs. Certain other product categories experience higher inventory turnover due to lower
minimum order quantities or trending sale demands. For the three months ended September 30, 2017, inventory turnover was 2.5 times, or 144 days, as compared to 2.8 times, or 132 days, for the three months ended September 30, 2016. The
decrease in turnover and increase in turnover days is, in part, the result of an increase in average inventory in the U.S. Wholesale segment due to an increase in inventory as the result of the Companys recent acquisitions.
The Companys Credit Agreement, which expires in January 2019, provides for, among other things, a Revolving Credit Facility commitment totaling
$175.0 million ($40.0 million of which is available for multi-currency borrowings) and a Term Loan facility.
At September 30, 2017,
borrowings outstanding under the Revolving Credit Facility were $128.5 million and open letters of credit were $3.2 million. At September 30, 2017, availability under the Revolving Credit Facility was approximately $43.4 million.
The borrowing capacity under the Revolving Credit Facility depends, in part, on eligible levels of accounts receivable and inventory that fluctuate regularly, and certain trademark values based upon periodic appraisals, and may be lower in the first
and second quarters when the Companys inventory level is lower due to seasonality.
In April 2017, the Company repaid its $7.0 million
outstanding balance under the Term Loan. As of December 31, 2016, $9.5 million was outstanding under the Term Loan. At December 31, 2016, unamortized debt issuance costs were $157,000. In connection with the repayment of the Term
Loan, the Company wrote off the unamortized debt issuance costs of $110,000 during the nine months ended September 30, 2017.
The Companys
payment obligations under the Revolving Credit Facility are unconditionally guaranteed by each of its existing U.S. subsidiaries and will be unconditionally guaranteed by each of its future U.S. subsidiaries. Certain payment obligations under the
Revolving Credit Facility are also direct obligations of its foreign subsidiary borrowers designated as such under the Credit Agreement and, subject to limitations on such guaranties, are guaranteed by the foreign subsidiary borrowers, as well as by
the Company. The obligations of the Company under the Revolving Credit Facility and any hedging arrangements and cash management services and the guarantees by its domestic subsidiaries in respect of those obligations are secured by substantially
all of the assets and stock (but in the case of foreign subsidiaries, limited to 65% of the capital stock in first-tier foreign subsidiaries and not including the stock of subsidiaries of such first-tier foreign subsidiaries) owned by the Company
and the U.S. subsidiary guarantors, subject to certain exceptions. Such security interests consist of a first-priority lien, subject to certain permitted liens, with respect to the assets of the Company and its domestic subsidiaries pledged as
collateral in favor of lenders under the Revolving Credit Facility.
Interest rates on outstanding borrowings at September 30, 2017 ranged from 2.25%
to 5.25%. In addition, the Company pays a commitment fee of 0.375% on the unused portion of the Revolving Credit Facility.
- 34 -
The Credit Agreement provides for customary restrictions and events of default. Restrictions include limitations
on additional indebtedness, acquisitions, investments and payment of dividends, among other things. Further, the Credit Agreement provides that at any time any Term Loan is outstanding or at any time no Term Loan is outstanding and availability
under the Revolving Credit Facility is less than $17.5 million and continuing until availability of at least $20.0 million is maintained for three consecutive months, the Company is required to maintain a minimum fixed charge coverage
ratio of 1.20 to 1.00 for each of four consecutive fiscal quarter periods. The Company was in compliance with the financial covenants of the Credit Agreement as of September 30, 2017.
Covenant Calculations
Consolidated adjusted EBITDA, as
provided below, is used in the calculation of covenants provided for in the Companys Credit Agreement. The following is the Companys consolidated adjusted EBITDA for the last four fiscal quarters:
|
|
|
|
|
|
|
Consolidated adjusted
EBITDA for the Four
Quarters Ended
September 30, 2017
|
|
|
|
(in thousands)
|
|
Three months ended September 30, 2017
|
|
$
|
15,683
|
|
Three months ended June 30, 2017
(1)
|
|
|
2,817
|
|
Three months ended March 31,
2017
(1)
|
|
|
2,546
|
|
Three months ended December 31,
2016
(1)
|
|
|
24,741
|
|
|
|
|
|
|
Total for the four quarters
|
|
$
|
45,787
|
|
|
|
|
|
|
(1)
|
Consolidated adjusted EBITDA for the three months ended June 30, 2017, March 31, 2017 and December 31, 2016 presented above have been
re-cast
to exclude the
non-cash
gains and losses related to the Companys derivative financial instruments not designated as hedging instruments, recognized in earnings. These non-cash gains and losses are permitted to be excluded
from the EBITDA covenant in the Companys Credit Agreement.
Non-cash
gains and losses related to the Companys derivative financial instruments, not designated as hedging instruments, recognized in
earnings, were a loss of $1.5 million, a loss of $0.3 million and a gain $0.4 million for the three months ended June 30, 2017, March 31, 2017 and December 31, 2016, respectively.
|
Capital expenditures for the nine months ended September 30, 2017 were $4.3 million.
Non-GAAP
financial measure
Consolidated adjusted EBITDA is a
non-GAAP
financial measure within the meaning of Regulation G promulgated by the
Securities and Exchange Commission. The following is a reconciliation of the net loss, as reported, to consolidated adjusted EBITDA, for the three and nine months ended September 30, 2017 and 2016:
- 35 -
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
|
Nine Months Ended
September 30,
|
|
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
|
|
(in thousands)
|
|
Net income as reported
|
|
$
|
4,330
|
|
|
$
|
6,452
|
|
|
$
|
903
|
|
|
$
|
973
|
|
Subtract out:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed equity in (earnings) losses, net
|
|
|
326
|
|
|
|
138
|
|
|
|
(644
|
)
|
|
|
270
|
|
Add back:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax provision
|
|
|
3,505
|
|
|
|
2,961
|
|
|
|
863
|
|
|
|
218
|
|
Interest expense
|
|
|
1,172
|
|
|
|
1,231
|
|
|
|
3,114
|
|
|
|
3,546
|
|
Loss on early retirement of debt
|
|
|
|
|
|
|
|
|
|
|
110
|
|
|
|
272
|
|
Depreciation and amortization
|
|
|
4,063
|
|
|
|
4,682
|
|
|
|
10,697
|
|
|
|
11,744
|
|
Stock compensation expense
|
|
|
952
|
|
|
|
825
|
|
|
|
2,482
|
|
|
|
2,115
|
|
Permitted acquisition related expenses
|
|
|
166
|
|
|
|
363
|
|
|
|
192
|
|
|
|
1,287
|
|
Restructuring expenses
(1)
|
|
|
272
|
|
|
|
|
|
|
|
526
|
|
|
|
1,701
|
|
Severance expenses
(1)
|
|
|
|
|
|
|
|
|
|
|
155
|
|
|
|
|
|
Unrealized loss (gain) on foreign currency
contracts
(2)
|
|
|
897
|
|
|
|
25
|
|
|
|
2,648
|
|
|
|
(386
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated adjusted EBITDA
|
|
$
|
15,683
|
|
|
$
|
16,677
|
|
|
$
|
21,046
|
|
|
$
|
21,740
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Restructuring expenses and severance expenses represent
non-recurring
charges incurred during such periods and are permitted
exclusions from the Companys consolidated adjusted EBITDA, pursuant to the Companys Credit Agreement.
|
(2)
|
Consolidated adjusted EBITDA for the three and nine months ended September 30, 2016 presented above have been
re-cast
to exclude the
non-cash
gains and losses related to the Companys derivative financial instruments not designated as hedging instruments, recognized in earnings. These non-cash gains and losses are permitted to be
excluded from the EBITDA covenant in the Companys Credit Agreement.
|
Accounts Receivable Purchase Agreement
In order to improve its liquidity during seasonally high working capital periods, in 2016 the Company entered into an uncommitted Receivables Purchase
Agreement with HSBC Bank USA, National Association (HSBC), as Purchaser (the Receivables Purchase Agreement). Under the Receivables Purchase Agreement, the Company may offer to sell certain eligible accounts receivable (the
Receivables) to HSBC, which may accept such offer, and purchase the offered Receivables. Under the Receivables Purchase Agreement, following each purchase of Receivables, the outstanding aggregate purchased Receivables shall not exceed
$25.0 million. HSBC will assume the credit risk of the Receivables purchased; and the Company will continue to be responsible for all
non-credit
risk matters. The Company will service the Receivables, and
as such servicer, collect and otherwise enforce the Receivables on behalf of HSBC. The term of the agreement is for 364 days and shall automatically be extended for annual successive terms unless terminated. Either party may terminate the agreement
at any time upon sixty days prior written notice to the other party. Pursuant to this agreement, the Company sold to HSBC $23.6 million and $62.8 million of Receivables during the three and nine months ended September 30, 2017,
respectively. A charge of $88,000 and $218,000 related to the sale of the Receivables is included in selling, general and administrative expenses in the condensed consolidated statement of operations for the three and nine months ended
September 30, 2017, respectively.
Derivatives
The Company is a party to interest rate swap agreements with an aggregate notional amount of $7.9 million to manage interest rate exposure in connection
with its variable interest rate borrowings. The hedge periods in these agreements commenced in March 2013 and will expire in September 2018, and the notional amounts amortize over this period. The hedge provides for a fixed payment of interest at an
annual rate of 1.05% in exchange for the Adjusted LIBO Rate.
The Company has also entered into certain foreign exchange contracts, to primarily offset
the earnings impact related to fluctuations in foreign currency exchange rates associated with sales and inventory purchases denominated in foreign currencies. These foreign exchange contracts have not been designated as hedges as required in order
to apply hedge accounting. The changes in the fair value of these contracts are recorded in the condensed consolidated statement of operations.
- 36 -
Operating activities
Net cash used in operating activities was $20.9 million for the nine months ended September 30, 2017 as compared to $30.4 million for the
corresponding 2016 period. The change in operating cash flow was primarily due to the timing of the collection of receivables in the current period, as compared to the 2016 period, partially offset by an increase in the payment of accounts payable
and accrued expenses in current period, as compared to the 2016 period.
Investing activities
Net cash used in investing activities was $13.3 million for the nine months ended September 30, 2017, as compared to $10.8 million for the
corresponding 2016 period. The 2017 investing activity includes the Companys acquisition of Fitz and Floyd and the 2016 investing activity includes the Companys acquisition of inventory and intangibles from Focus Products Group, LLC. The
2017 investing activity also includes software capital expenditures related to SAP.
Financing activities
Net cash provided by financing activities was $31.6 million for the nine months ended September 30, 2017, as compared to $40.1 million for the
corresponding 2016 period. The change in financing activities was attributable to the change in borrowings under the Companys Revolving Credit Facility and the prepayment of borrowings under the Companys Term Loan.
- 37 -