Annual Report (SEC form 10-K)
June 27, 1997
PARLUX FRAGRANCES INC (PARL)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and notes thereto appearing elsewhere in this annual report. Except for the historical matters contained herein, statements made in this annual report are forward looking and are made pursuant to the safe harbor provisions of the Securities Litigation Reform Act of 1995. Investors are cautioned that forward looking statements involve risks and uncertainties which may affect the Company's business and prospects, including economic, competitive, governmental, technological and other factors discussed in this annual report and in the Company's filings with the Securities and Exchange Commission. COMPARISON OF THE TWELVE-MONTH PERIOD ENDED MARCH 31, 1997 WITH THE TWELVE-MONTH PERIOD ENDED MARCH 31, 1996 For the fiscal year ended March 31, 1997 net sales increased 29% to $87,640,006 as compared to $67,726,926 in the prior fiscal year. This increase was primarily due to continued growth of Perry Ellis brand products, the full year effect of Alexandra de Markoff (AdM) brand cosmetics, and Bal a Versailles (BAV) brand products in fiscal 1997, compared to a partial year of operations in the prior year, and licensed sales of Baryshnikov brand products acquired in connection with the RBF acquisition in June 1996. Gross sales of Perry Ellis increased 64% to $43,807,624 as compared to $26,663,302 in the prior year. Gross sales of Parlux house brands (brands which the Company owns) increased 34% to $41,209,043, as compared to $30,759,544 in the prior year, due to significant increases in AdM and BAV which are included in this category. AdM and BAV increased to $12,951,646 and $2,137,682, respectively, as compared to $2,095,035 and $1,542,138, respectively, in the prior year. Baryshnikov brand product sales totaled $2,147,781 in its initial period of operations by the Company. These increases were partially offset by a decrease in gross sales of $3,933,695 of Francesco Smalto brand fragrances, which license was terminated on September 30, 1996. Net Sales to unrelated customers increased by 44% to $59,799,669, while net sales to related parties increased by 6% to $27,840,337. The percentage of net sales to related parties in relation to total net sales decreased from 39% in the prior year to 32% in fiscal 1997. Approximately 85% of total net sales in the fiscal year ended March 31, 1997 came from operations in, or supplied by, the United States, and 15% from the Company's French subsidiary. Cost of goods sold increased as a percentage of net sales from 42% for the fiscal year ended March 31, 1996 to 45% for the fiscal year ended March 31, 1997, which was mainly attributable to the costs involved in discontinuing certain brands and closing distribution centers in the last quarter of the fiscal year. These costs totaled approximately $5,243,000. Without the effects of the restructuring costs, cost of goods sold in the fiscal year ended March 31, 1997 would have been 39%. Cost of goods sold on sales to unrelated customers and related parties approximated 42% and 51%, 13 respectively. All of the Company's products are manufactured by third parties. For fiscal 1997, approximately 2% of the Company's products were manufactured in France, and the Company has consolidated its manufacturing, warehousing and shipping in the United States, as it expects to continue to achieve cost reductions through consolidation. Operating expenses increased 80% to $45,138,306 for the year ended March 31, 1997 compared to $25,099,294 in the prior year, and as a percentage of sales were 51% in fiscal 1997 compared to 37% in the prior year. The major portion of the increase was due to advertising and promotional expenses which increased by 87% to $24,245,502 compared to $12,942,647 in fiscal 1996, reflecting the investments required to launch new brands, particularly Perry Ellis "America", the full year support costs for AdM and increased promotional expenses in connection with the U.S. department and specialty store business. Selling and distribution costs increased by 86%, and as a percentage of sales increased from 8% in the prior fiscal year to 11% currently. This was partially due to costs of approximately $522,000 in connection with terminating warehousing and distribution operations in Connecticut and France and certain duplicate costs from maintaining two domestic facilities until March 1997. General and administrative costs increased by 62% in fiscal 1997 compared to the prior year, and increased as a percentage of net sales from 8% to 10%. The increases were mainly attributable to the full year's effect of staff additions during the last quarter of fiscal 1996 and increased support required for the AdM cosmetic line. Royalty expense increased by 61% in fiscal 1997 compared to the prior year, principally due to the royalties required on the sale of Perry Ellis brand products, and increased to 3% of net sales as compared to 2% in the prior year. As a result of the above, operating income decreased by 77% to $3,318,535 or 4% of net sales for the year ended March 31, 1997, compared to $14,187,843 or 21% of net sales in the prior year. Interest expense increased by 15% for fiscal 1997 compared to fiscal 1996 due to increased borrowing levels, but decreased from 3% of net sales in the prior year to 2% in the current year. Exchange gains were $595,045 for fiscal 1997 compared to exchange gains of $234,074 in the prior year, due to the weakening of the French franc against the U.S. dollar and the Company's net French franc liability position. As a result of the above, income before extraordinary item and taxes decreased to $1,737,952 in fiscal 1997 compared to $12,536,505 in fiscal 1996. Due to the redemption of $5,232,440 in convertible debentures in October 1996, the Company incurred an extraordinary charge of $901,648, which is not deductible for income tax purposes. Accordingly, the effective tax rate increased to 79% in the current fiscal year as compared to 38% in the prior year. As a result, net income decreased 98% to $176,223 in the fiscal year ended March 31, 1997, compared to $7,772,691 for the fiscal year ended March 31, 1996. 14 COMPARISON OF THE TWELVE-MONTH PERIOD ENDED MARCH 31, 1996 WITH THE TWELVE-MONTH PERIOD ENDED MARCH 31, 1995 For the fiscal year ended March 31, 1996 net sales increased 77% to $67,726,926 as compared to $38,209,099 in the prior fiscal year. This increase was primarily due to strong international growth of Perry Ellis and to the full year effect of Perry Ellis brands in fiscal 1996, compared to a partial year of operations in the prior year. Sales of Perry Ellis increased 337% to $26,663,302 as compared to $6,101,700 in the prior year. Sales of Parlux continued brands (brands which the Company owned or held licenses at March 31, 1994) increased 60% to $24,890,474, as compared to $15,551,408 in the prior year, due to significant increases in Vicky Tiel and Todd Oldham fragrances, and to the resolution of out-of-stock situations existing in the prior year. Sales of the FHBH brands declined 18% from $18,024,268 in the prior year to $14,848,225 in the current fiscal year. Sales of AdM and Bal a Versailles were $2,095,305 and $1,542,138, respectively, compared to no sales in the prior year period. Sales of $41,539,466 to unrelated customers increased by 81%, while sales to related parties of $26,187,460 increased by 72%. The percentage of sales to related parties in relation to total sales decreased from 40% in the prior year to 39% in fiscal 1996. Approximately 82% of total net sales in the fiscal year ended March 31, 1996 came from operations in, or supplied by, the United States, and 17% from the Company's French subsidiary. In June 1991, the Company entered into the Barter Agreement for which the Company would receive advertising credits in exchange for its inventory of JOAN COLLINS products. The Company expects to fully utilize these bartered advertising credits as part of its ongoing advertising expenditures. Advertising credits, less unearned income, are accounted for as prepaid expenses on the Company's balance sheet at the time such inventory is bartered. Unearned income equals the amount of advertising credits minus the cost of goods bartered. As advertising credits are used by the Company, unearned income is debited and the cost of goods sold is credited. As a result, as the advertising credits are used, the aggregate cost of goods sold as a percentage of net sales decreases and gross margin as a percentage of net sales increases. Cost of goods sold increased as a percentage of net sales from 39% for the fiscal year ended March 31, 1995 to 42% for the fiscal year ended March 31, 1996, which was mainly attributable to the effect of the Barter Agreement. The Company utilized advertising credits amounting to $684,000 in the current year ($1,592,000 in 1995) generating $355,000 ($866,000 in 1995) of earned income which partially offset cost of goods during this period. Without the effects of the Barter Agreement, cost of goods sold in the fiscal year ended March 31, 1996 would have remained at 42% compared to 41% in the prior fiscal year. All of the Company's products are manufactured by third parties. For fiscal 1996, approximately 10% of the Company's products were manufactured in France. The Company will continue transitioning the consolidation of 15 manufacturing, warehousing and shipping to the United States, as it believes that it can continue to achieve cost reductions through consolidation. Operating expenses increased 54% to $25,099,294 for the year ended March 31, 1996 compared to $16,251,094 in the prior year, but as a percentage of sales were 37% in fiscal 1996 compared to 43% in the prior year. Advertising and promotional expenses of $12,942,647 increased by 79% compared to fiscal 1995, reflecting the similar increase in sales. Selling and distribution costs increased by 45%, but as a percentage of sales decreased from 9% in the prior fiscal year to 8% currently. General and administrative costs increased by 19% in fiscal 1996 compared to the prior year, however, as a percentage of net sales, general and administrative costs declined to 8% compared to 12% in the prior fiscal year. These percentage decreases reflect the economies of scale realized from the acquisition of FHBH, Perry Ellis and Alexandra de Markoff brand products. Royalty expense increased by 83% in fiscal 1996 compared to the prior year, principally due to the royalties required on the sale of Perry Ellis and Todd Oldham brand products, but remained relatively constant at 2% of net sales. As a result of the above, operating income increased by 103% to $14,187,843 or 21% of net sales for the year ended March 31, 1996, compared to $7,000,530 or 18% of net sales in the prior year. Interest expense increased by 58% for fiscal 1996 compared to fiscal 1995 due to increased borrowing levels, but remained relatively constant at 3% of net sales. Exchange gains were $234,074 for fiscal 1996 compared to exchange losses of $300,661 in the prior year, due to the weakening of the French franc against the U.S. dollar and the Company's net French franc liability position. As a result of the above, income before taxes increased to $12,536,505 in fiscal 1996 compared to $5,510,211 in fiscal 1995. Taxes increased to $4,763,814 in fiscal 1996 compared to $1,279,000 in fiscal 1995, as the Company utilized all tax loss carry forwards and reversed its valuation allowance on deferred tax assets in fiscal 1995. As a result, net income increased 84% to $7,772,691, or 11% of net sales in the fiscal year ended March 31, 1996, compared to $4,231,211, or 11% of net sales for the fiscal year ended March 31, 1995. LIQUIDITY AND CAPITAL RESOURCES Working capital increased to $49,320,272 at March 31, 1997 from $30,800,351 at March 31, 1996. The increase was mainly attributable to: (i) During May 1996, the Company issued $10,000,000 of 5% convertible debentures, due May 1, 1998 (the "May Debentures"), in private placements pursuant to Regulation D. The net proceeds were used to repay current liabilities. During September and October 1996, $6,355,324 of the May Debentures, plus accrued interest of $110,505, were converted into 1,559,545 shares of common stock; (ii) During April 1996, the Company issued $3,000,000 of 5% convertible debentures in private placements pursuant to Regulation S. In June 1996, the debentures, plus accrued interest of $20,411, were converted into 308,727 shares of common stock, increasing working capital and stockholders' equity by approximately $2,950,000, net of 16 placement costs; (iii) During July 1996, the Company issued an additional $10,000,000 of 5% convertible debentures, due June 1, 1997 (the "July Debentures"), in private placements pursuant to Regulation D. During October 1996, $8,412,236 of the July Debentures, plus accrued interest of $72,466, were converted into 2,154,222 shares of common stock. During October 1996, the Company entered into agreements to redeem $5,232,440 of the May and July Debentures which had not been converted, plus $105,638 of accrued interest thereon, by issuing $6,239,726 of 10% bonds which were repaid in accordance with their terms in December 1996. The redemption resulted in a one-time charge to net income of $901,648 during the quarter ended December 31, 1996, which is not deductible for income tax purposes. On July 24, 1996, the Board of Directors authorized the repurchase of up to 350,000 shares of the Company's common stock. This phase of the repurchase was completed during January 1997, at which time the Board of Directors authorized the repurchase of an additional 500,000 shares. As of June 25, 1997, the Company has repurchased a total of 589,355 shares at a cost of $2,244,915 (381,055 shares at a cost of $1,749,173 as of March 31, 1997). In August 1995, the Company entered into an agreement to borrow, on an unsecured basis, $500,000 from Distribudora de Perfumes Senderos, Ltda., with an additional $500,000 available at the option of the Company, to be drawn upon prior to October 31, 1995. The note bore interest at 12% per annum and was originally due on February 23, 1996, but was subsequently extended through August 1996. In connection with the note, the Company issued warrants to purchase 53,978 shares of Parlux common stock at a price of $8.11 per share, which expire on August 21, 1997. The Company borrowed a total of $674,722 under the agreement, which was repaid in installments of $500,000 and $174,722 in May and August 1996, respectively. In June 1995, the Company borrowed, on an unsecured basis, $300,000 from an individual related to the Company's Chairman of the Board. The note bore interest at 11% per annum and was due on June 27, 1997. In connection with the note, the Company issued warrants to purchase 60,000 shares of Parlux common stock at a price of $6.94 per share, which were to expire on June 27, 1997. On July 15, 1996, these warrants were exercised, and a portion of the proceeds was utilized to repay the $300,000 note and accrued interest thereon. The Company has overdraft and trade financing facilities aggregating 18,150,000 French francs (approximately $3,220,000 as of March 31, 1997). These credit facilities are reviewed annually. In May 1997, the Company entered into a three year Loan and Security Agreement (the Credit Agreement) with General Electric Capital Corporation (GECC). Under the Credit Agreement, the Company is able to borrow, depending on the availability of a borrowing base, on a revolving basis, up to $25,000,000 at an interest rate of LIBOR plus 2.50% or .75% in excess of the Wall Street Journal prime rate, at the Company's option. 17 GECC has taken a security interest in substantially all of the domestic assets of the Company. The Credit Agreement contains customary events of default and covenants which prohibit, among other things, incurring additional indebtedness in excess of a specified amount, paying dividends, creating liens, and engaging in mergers and acquisitions without the prior consent of GECC. The Credit Agreement also contains certain financial covenants relating to net worth, interest coverage and other financial ratios. Proceeds from the Credit Agreement were used, in part, to repay the Company's previous $10,000,000 credit facility with Finova Capital Corporation and Merrill Lynch Financial Services, Inc. Management believes that, based on current circumstances, the new Credit Agreement will be sufficient to fund the Company's operating needs. IMPACT OF CURRENCY EXCHANGE AND INFLATION The Company's business operations were positively affected in the current year in the amount of $595,045, positively affected in the amount of $234,074 in the fiscal year ended March 31, 1996, and negatively affected in the amount of $300,661 in the fiscal year ended March 31, 1995, due to the movement of the French franc vs. the U.S. dollar. The Company's sales and purchases are virtually all in U.S. dollars or French francs. A strengthening of the French franc vis-a-vis the U.S. dollar results in exchange rate losses for the Company. Conversely, a weakening of the French franc vis-a-vis the U.S. dollar results in exchange rate gains for the Company. The Company monitors exchange rates on a daily basis and regularly seeks to evaluate long-term expectations for the French franc in order to minimize its exchange rate risk. The Company has completed the centralization of manufacturing in the United States which will minimize the currency exchange impact on intercompany transactions for the future. ITEM 8. FINANCIAL STATEMENTS The financial statements are included herein commencing on page F-1. The financial statement schedules are listed in the Index to Financial Statements on page F-1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None 18 |
