NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1)SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
CSS Industries, Inc. (collectively with its subsidiaries, “CSS” or the “Company”) has prepared the consolidated financial statements included herein pursuant to the rules and regulations of the Securities and Exchange Commission. The Company has condensed or omitted certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States pursuant to such rules and regulations. In the opinion of management, the statements include all adjustments (which include normal recurring adjustments) required for a fair presentation of financial position, results of operations and cash flows for the interim periods presented. These consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended March 31, 2019. The results of operations for the interim periods are not necessarily indicative of the results for the full year.
The Company’s fiscal year ends on March 31. References to a particular fiscal year refer to the fiscal year ending in March of that year. For example, “fiscal 2020” refers to the fiscal year ending March 31, 2020.
Liquidity and Going Concern
The Company is currently in compliance with its debt covenants under its ABL Credit Facility discussed in Note 7; however, it is probable, based on our forecasts, that the Company will not be in compliance with these covenants at certain future measurement dates in the following twelve-month period. In connection with the transactions contemplated by the Merger Agreement discussed in Note 13, the Company expects that its obligations to the lenders under the ABL Credit Facility described in Note 7 will be discharged at the time the merger contemplated by the Merger Agreement is consummated. However, there can be no assurance that the transactions contemplated by the Merger Agreement will be consummated on the contemplated timeline or at all. If a debt covenant violation under the ABL Credit Facility were to occur prior to the consummation of the transactions contemplated by the Merger Agreement and if the Company was unable to agree to amended financial covenant measures with its lenders before such time or obtain a waiver in the event of subsequent non-compliance, the Company would not be able to repay the entirety of the outstanding debt in the event the lenders were to call the debt, thus leading to substantial doubt about the Company’s ability to continue as a going concern until such amendments or waivers are in place.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern and do not include any adjustments that might result from the outcome of this uncertainty.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and all of its subsidiaries. All intercompany transactions and accounts have been eliminated in consolidation.
Nature of Business
CSS is a creative consumer products company, focused on the craft, gift and seasonal categories. For these design-driven categories, the Company engages in the creative development, manufacture, procurement, distribution and sale of our products with an omni-channel approach focused primarily on mass market retailers.
Craft The craft category includes sewing patterns, ribbons and trims, buttons, knitting needles, needle arts and kids' crafts. These products are sold to mass market, specialty, and online retailers, and are generally ordered on a replenishment basis throughout the year.
Gift The gift category includes products designed to celebrate certain life events or special occasions, such as weddings, birthdays, anniversaries, graduations, or the birth of a child. Products include ribbons and bows, floral accessories, infant products, journals, gift card holders, all occasion boxed greeting cards, memory books, scrapbooks, stationery, and other items that commemorate life's celebrations. Products in this category are primarily sold into mass, specialty, and online retailers, floral and packaging wholesalers and distributors, and are generally ordered on a replenishment basis throughout the year.
Seasonal The seasonal category includes holiday gift packaging items such as ribbon, bows, greeting cards, bags, tags and gift card holders, in addition to specific holiday-themed decorations, accessories, and activities, such as Easter egg
dyes and novelties and Valentine's Day classroom exchange cards. These products are sold to mass market retailers, and production forecasts for these products are generally known well in advance of shipment.
CSS’ product breadth provides its retail customers the opportunity to use a single vendor for much of their craft, gift and seasonal product requirements. A substantial portion of CSS’ products are manufactured and packaged in the United States and warehoused and distributed from facilities in the United States, the United Kingdom and Australia, with the remainder sourced from foreign suppliers, primarily in Asia. The Company also has a manufacturing facility in India that produces certain craft products, including trims, braids and tassels, and also has a distribution facility in India. The Company’s products are sold to its customers by national and regional account sales managers, sales representatives, product specialists and by a network of independent manufacturers’ representatives. CSS maintains purchasing offices in Hong Kong and China to administer Asian sourcing opportunities.
Foreign Currency Translation and Transactions
The Company's foreign subsidiaries generally use the local currency as the functional currency. The Company translates all assets and liabilities at period end exchange rates and all income and expense accounts at average rates during the period. Translation adjustments are recorded in accumulated other comprehensive income (loss) in stockholders’ equity. Gains and losses on foreign currency transactions (denominated in currencies other than the local currency) are not material and are included in other expense (income), net in the consolidated statements of operations and comprehensive income (loss).
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Judgments and assessments of uncertainties are required in applying the Company’s accounting policies in many areas. Such estimates pertain to revenue recognition, the valuation of inventory and accounts receivable, the assessment of the recoverability of other intangible and long-lived assets and resolution of litigation and other proceedings. Actual results could differ from these estimates.
Inventories
The Company records inventory when title is transferred, which occurs upon receipt or prior to receipt dependent on supplier shipping terms. The Company adjusts unsaleable and slow-moving inventory to its estimated net realizable value. Substantially all of the Company’s inventories are stated at the lower of first-in, first-out (FIFO) cost or net realizable value. The remaining portion of the inventory is valued at the lower of last-in, first-out (LIFO) cost or net realizable value. Inventories consisted of the following (in thousands):
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|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Raw material
|
$
|
12,868
|
|
|
$
|
14,246
|
|
|
$
|
14,837
|
|
|
Work-in-process
|
15,628
|
|
|
16,816
|
|
|
10,581
|
|
|
Finished goods
|
58,494
|
|
|
65,169
|
|
|
69,484
|
|
|
|
$
|
86,990
|
|
|
$
|
96,231
|
|
|
$
|
94,902
|
|
In connection with the acquisitions of substantially all of the net assets and business of The McCall Pattern Company on December 13, 2016, Simplicity Creative Group ("Simplicity") on November 3, 2017 and Fitlosophy, Inc. ("Fitlosophy") on June 1, 2018, the Company recorded a step-up to fair value of the inventory acquired of $21,773,000, $10,214,000, and $312,000, respectively, at the date of each such acquisition. This was a result of the acquired inventory being marked up to an estimated net selling price in purchase accounting and is recognized through cost of sales as the inventory is sold. The amount of step-up to fair value of the acquired inventory remaining as of December 31, 2019, March 31, 2019 and December 31, 2018 was $0, $284,000 and $1,135,000, respectively.
Asset Held for Sale
The Company has no asset held for sale as of December 31, 2019. Asset held for sale of $131,000 as of March 31, 2019 represented a distribution facility in Danville, Pennsylvania, which the Company sold on October 29, 2019 for $750,000. On the closing date, the Company received cash proceeds of $708,000 after closing costs. The Company also incurred additional legal costs of approximately $24,000 to sell the facility. Asset held for sale of $2,514,000 as of December 31, 2018, which represented a distribution facility in Havant, England, was sold in the fourth quarter of fiscal 2019.
Property, Plant and Equipment
Property, plant and equipment are stated at cost and include the following (in thousands):
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|
|
|
|
|
|
|
December 31, 2019
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Land
|
$
|
5,738
|
|
|
$
|
5,738
|
|
|
$
|
5,888
|
|
|
Buildings, leasehold interests and improvements
|
40,214
|
|
|
40,893
|
|
|
42,854
|
|
|
Machinery, equipment and other
|
119,946
|
|
|
113,946
|
|
|
110,524
|
|
|
|
165,898
|
|
|
160,577
|
|
|
159,266
|
|
|
Less - Accumulated depreciation and amortization
|
(117,127)
|
|
|
(109,657)
|
|
|
(109,859)
|
|
|
Net property, plant and equipment
|
$
|
48,771
|
|
|
$
|
50,920
|
|
|
$
|
49,407
|
|
Depreciation expense was $2,586,000 and $2,249,000 for the quarters ended December 31, 2019 and 2018, respectively, and was $7,469,000 and $6,403,000 for the nine months ended December 31, 2019 and 2018, respectively.
Leases
Effective April 1, 2019, the Company adopted Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") Topic 842 - Leases ("ASC 842") using the modified retrospective transition approach. See Note 5 for more information.
The Company determines if an arrangement is a lease at the inception of a contract. Operating lease right-of-use (“ROU”) assets are included in operating lease right-of-use assets on the consolidated balance sheets. The current and long-term components of operating lease liabilities are included in the current portion of operating lease liabilities and operating lease liabilities, respectively, on the consolidated balance sheets. Finance leases are not material to the Company’s consolidated balance sheets.
Operating lease ROU assets and operating lease liabilities are recognized based on the present value of the future minimum lease payments over the lease term. As most of the Company’s leases do not provide an implicit rate, the Company uses an incremental borrowing rate based on the information available on the adoption date for existing leases and as of the commencement date for new leases in determining the present value of future payments. The operating lease ROU assets are subsequently measured throughout the lease term at the carrying amount of the lease liability, adjusted for any prepaid or accrued rent payments, lease incentives and initial direct costs incurred. Certain leases may include options to extend or terminate the lease. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term.
The Company elected the package of transition practical expedients related to lease identification, lease classification, and initial direct costs. In addition, the Company made the following accounting policy elections for all asset classes: (1) the Company will not separate lease and non-lease components by class of underlying asset, (2) the Company will apply the short-term lease exemption by class of underlying asset, and, (3) the Company will apply the portfolio approach to the development of its discount rates for the leases to be recorded in accordance with ASC 842. The Company has chosen not to elect the hindsight practical expedient for its transition to ASC 842. A modified retrospective transition approach is required, applying the new standard to all leases existing at the date of initial application.
Long-Lived Assets including Other Intangible Assets and Property, Plant and Equipment
The Company performs an annual impairment test of the carrying amount of indefinite-lived intangible assets in the fourth quarter of its fiscal year. Additionally, the Company would perform its impairment testing at an interim date if events or circumstances indicate that intangibles might be impaired.
Other indefinite lived intangible assets consist of tradenames which are required to be tested annually for impairment. An entity has the option to first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired. To perform a qualitative assessment, an entity must identify and evaluate changes in economic, industry and entity-specific events and circumstances that could affect the significant inputs used to determine the fair value of an indefinite-lived intangible asset. If the result of the qualitative analysis indicates it is more likely than not that an indefinite-lived intangible asset is impaired, a more detailed fair value calculation will need to be performed which is used to identify potential impairments and to measure the amount of impairment losses to be recognized, if any. The fair value of the Company’s tradenames is calculated using a “relief from royalty payments” methodology. This approach involves first estimating reasonable royalty rates for each trademark and then applying these royalty rates to a net sales stream and discounting the resulting cash flows to determine the fair value. The royalty rate is estimated using both a market and income approach. The market approach relies on the existence of identifiable
transactions in the marketplace involving the licensing of tradenames similar to those owned by the Company. The income approach uses a projected pretax profitability rate relevant to the licensed income stream. The Company believes the use of multiple valuation techniques results in a more accurate indicator of the fair value of each tradename. This fair value is then compared with the carrying value of each tradename to determine if impairment exists.
Long-lived assets (including property, plant and equipment), except for indefinite lived intangible assets, are reviewed for impairment when events or circumstances indicate the carrying value of an asset group may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset group to future net cash flows estimated by the Company to be generated by such assets. If such asset group is considered to be impaired, the impairment to be recognized is the amount by which the carrying amount of the asset group exceeds the fair value of the asset group. Assets to be disposed of are recorded at the lower of their carrying value or estimated net realizable value.
There were no triggering events identified during the nine months ended December 31, 2019 that required interim impairment testing for long-lived assets. The Company recorded an impairment of property, plant and equipment of $1,398,000 in the nine months ended December 31, 2018 related to a restructuring plan to combine its operations in the United Kingdom. See Note 3 for further discussion of this restructuring and Note 6 for further information on other intangible assets.
Revenue Recognition
Revenue from the sale of the Company's products is recognized when control of the promised goods is transferred to customers, in the amount that reflects the consideration the Company expects to be entitled to receive from its customers in exchange for those goods. The Company's revenue is recognized using the five-step model identified in ASC 606, "Revenue from Contracts with Customers." These steps are: (i) identify the contract with the customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue as the performance obligations are satisfied.
The Company's contracts with customers generally include one performance obligation under the revenue recognition standard. For most product sales, the performance obligation is the delivery of a specified product, and is satisfied at the point in time when control of the product has transferred to the customer, which takes place when title and risk of loss transfer in accordance with the applicable shipping terms, typically either at shipping point or at delivery to a specified destination. The Company has certain limited products, primarily sewing patterns, that are sold on consignment at mass market retailers. The Company recognizes revenue on these products as they are sold to end consumers as recorded at point-of-sale terminals, which is the point in time when control of the product is transferred to the customer.
Revenue is recognized based on the consideration specified in a contract with the customer, and is measured as the amount of consideration to which the Company expects to be entitled to receive in exchange for transferring the goods. When applicable, the transaction price includes estimates of variable consideration to the extent it is probable that a significant reversal of revenue recognized will not occur. Variable consideration consists of revenues that are subject to reductions to the transaction price for customer programs, which may include special pricing arrangements for specific customers, volume incentives and other promotions. The Company has significant historical experience with customer programs and estimates the expected consideration considering historical trends. The related reserves are included in accrued customer programs in the consolidated balance sheets. The Company adjusts its estimate of variable consideration at least quarterly or when facts and circumstances used in the estimation process may change. In limited cases, the Company may provide the right to return product to certain customers. The Company also records estimated reductions to revenue, based primarily on known claims, for customer returns and chargebacks that may arise as a result of shipping errors, product damaged in transit or for other reasons that become known subsequent to recognizing the revenue. These provisions are recorded in the period that the related sale is recognized and are reflected as a reduction from gross sales. The related reserves are included in accrued customer programs in the December 31, 2019 consolidated balance sheet and in accounts receivable, net of allowances in the March 31, 2019 and December31, 2018 consolidated balance sheets. If the amount of actual customer returns and chargebacks were to increase or decrease from the estimated amount, revisions to the estimated reserve would be recorded.
The Company treats shipping and handling activities that occur until the customer has obtained control of a good as an activity to fulfill the promise to transfer the product. Costs related to shipping of product are recorded as incurred and classified in cost of sales in the consolidated statements of operations and comprehensive income (loss).
Payment terms with customers vary by customer, but generally range from 30 to 90 days. Certain seasonal revenues have extended payment terms in accordance with general industry practice. Since the term between invoicing and expected payment is less than one year, the Company does not adjust the transaction price for the effects of a financing component.
Sales commissions are earned and recognized as expense as the related revenue is recognized at a point in time. These costs are recorded in selling, general and administrative expenses in the consolidated statements of operations and comprehensive income (loss). Taxes collected from customers are excluded from revenue and credited directly to obligations to the appropriate governmental agencies.
The Company operates as a single reporting segment, engaged in the creative development, manufacture, procurement, distribution, and sale of craft, gift and seasonal products, primarily to mass market retailers in the United States.
The following represents our net sales disaggregated by product category (in thousands):
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|
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|
|
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|
|
|
|
|
|
|
|
|
|
|
Three Months Ended December 31,
|
|
|
|
Nine Months Ended December 31,
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|
|
|
|
2019
|
|
2018
|
|
2019
|
|
2018
|
|
Craft
|
$
|
38,692
|
|
|
$
|
39,764
|
|
|
109,352
|
|
|
117,524
|
|
|
Gift
|
25,170
|
|
|
29,543
|
|
|
68,629
|
|
|
84,197
|
|
|
Seasonal
|
49,070
|
|
|
63,924
|
|
|
88,462
|
|
|
108,538
|
|
|
Total
|
$
|
112,932
|
|
|
$
|
133,231
|
|
|
$
|
266,443
|
|
|
$
|
310,259
|
|
Net Income (Loss) Per Common Share
Due to the Company's net losses for the nine months ended December 31, 2019 and the three- and nine months ended December 31, 2018, potentially dilutive securities of 576,000 shares, 513,000 shares and 503,000 shares, respectively, consisting of outstanding stock options and unearned time-based restricted stock units, were excluded from the diluted net loss per common share calculation due to their antidilutive effect. The Company excluded 259,000 shares, consisting of outstanding stock options, from the diluted net income per common share calculation for the three months ended December 31, 2019 due to their antidilutive effect. Market-based and performance-based restricted stock units are considered contingently issuable shares for diluted income per common share purposes and the dilutive impact, if any, is not included in the weighted-average shares until the market or performance conditions are met even when the Company is profitable for the respective period.
Components of Accumulated Other Comprehensive Income (Loss), Net
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|
|
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended December 31,
|
|
|
|
|
|
Nine Months Ended December 31,
|
|
|
|
|
2019
|
|
2018
|
|
|
|
2019
|
|
2018
|
|
Accumulated effect of currency translation adjustment:
|
|
|
|
|
|
|
|
|
|
|
Balance at beginning of period
|
$
|
(507)
|
|
|
$
|
22
|
|
|
|
|
$
|
12
|
|
|
$
|
988
|
|
|
Currency translation adjustment during period
|
449
|
|
|
(183)
|
|
|
|
|
(70)
|
|
|
(1,149)
|
|
|
Balance at end of period
|
$
|
(58)
|
|
|
$
|
(161)
|
|
|
|
|
$
|
(58)
|
|
|
$
|
(161)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated effect of pension and postretirement benefits:
|
|
|
|
|
|
|
|
|
|
|
Balance at beginning of period
|
$
|
453
|
|
|
$
|
259
|
|
|
|
|
$
|
453
|
|
|
$
|
259
|
|
|
Pension and postretirement benefits during period
|
28
|
|
|
—
|
|
|
|
|
28
|
|
|
—
|
|
|
Balance at end of period
|
$
|
481
|
|
|
$
|
259
|
|
|
|
|
$
|
481
|
|
|
$
|
259
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated effect of interest rate swap agreement:
|
|
|
|
|
|
|
|
|
|
|
Balance at beginning of period
|
$
|
—
|
|
|
$
|
392
|
|
|
|
|
$
|
—
|
|
|
$
|
(84)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value adjustment
|
—
|
|
|
(585)
|
|
|
|
|
—
|
|
|
(109)
|
|
|
Balance at end of period
|
$
|
—
|
|
|
$
|
(193)
|
|
|
|
|
$
|
—
|
|
|
$
|
(193)
|
|
(2) ACQUISITIONS
On June 1, 2018, a subsidiary of the Company completed the acquisition of substantially all of the business and net assets of Fitlosophy for $2,500,000 in cash. In addition to the $2,500,000 paid at closing, the Company may pay up to an additional $10,500,000 of contingent earn-out consideration, in cash, if net sales of certain products meet or exceed five different thresholds during the period from the acquisition date through March 31, 2023. If earned, the contingent consideration payments will be paid, generally within 20 days after the end of each rolling twelve-month measurement period (quarterly through March 31, 2023). No such payments of contingent consideration have been earned or paid as
of December 31, 2019. At the date of acquisition, the estimated fair value of the contingent earn-out consideration was $1,600,000. The estimated fair value of the contingent earn-out consideration was determined using a Monte Carlo simulation discounted to a present value. See further discussion of subsequent adjustments to the fair value of the contingent earn-out consideration in Note 9.
The following table summarizes the purchase price at the date of acquisition (in thousands):
|
|
|
|
|
|
|
|
Cash
|
$
|
2,500
|
|
|
Contingent earn-out consideration
|
1,600
|
|
|
Purchase price
|
$
|
4,100
|
|
Fitlosophy is devoted to creating, marketing, and distributing innovative products that inspire people to develop healthy habits by focusing on effective goal-setting through journaling. Products include a complete line of fitness and wellness planning products all sold under the fitlosophyTM, live life fitTM and fitbookTM brands. The acquisition was accounted for using the acquisition method and the excess of cost over the fair market value of the net tangible and identifiable intangible assets acquired of $1,390,000 was recorded as goodwill. See further discussion of subsequent impairment to the goodwill in Note 6.
The following table summarizes the fair values of the assets acquired and liabilities assumed at the date of acquisition (in thousands):
|
|
|
|
|
|
|
|
Accounts receivable
|
$
|
389
|
|
|
Inventory
|
452
|
|
|
Other assets
|
5
|
|
|
Total current assets
|
846
|
|
|
Intangible assets
|
2,032
|
|
|
Goodwill
|
1,390
|
|
|
Total assets acquired
|
4,268
|
|
|
Current liabilities
|
(168)
|
|
|
Net assets acquired
|
$
|
4,100
|
|
Pro forma results of operations for this acquisition have not been presented as the financial impact to our consolidated results of operations is not material.
(3) RESTRUCTURING PLANS
Business Restructuring
In the first quarter of fiscal 2019, the Company announced a restructuring plan to combine its operations in the United Kingdom and Australia, respectively. This restructuring was undertaken in order to improve profitability and efficiency through the elimination of (i) redundant back office functions; (ii) certain staffing positions and (iii) excess distribution and warehouse capacity, and was substantially completed in the second quarter of fiscal 2019. Commencing in the second quarter of fiscal 2019, the Company recorded an initial restructuring reserve, subsequent adjustments, and has made cash payments as part of this restructuring plan. Also, in connection with this restructuring plan, the Company recorded an impairment of property, plant and equipment at one of the affected facilities in the United Kingdom of $1,398,000 which is included in restructuring expenses. As of December 31, 2019 and 2018, the remaining liability of $7,000 and $279,000, respectively, was classified in accrued other expenses in the accompanying consolidated balance sheets.
Selected information relating to the aforementioned restructuring follows (in thousands):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Facility Exit Costs
|
|
|
Other Costs
|
|
|
Total
|
|
|
Restructuring reserve as of March 31, 2019
|
$
|
1
|
|
|
$
|
24
|
|
|
$
|
14
|
|
|
$
|
39
|
|
|
Charges (reversals) to expense
|
(1)
|
|
|
(24)
|
|
|
3
|
|
|
(22)
|
|
|
Cash paid
|
—
|
|
|
—
|
|
|
(6)
|
|
|
(6)
|
|
|
Restructuring reserve as of June 30, 2019
|
—
|
|
|
—
|
|
|
11
|
|
|
11
|
|
|
Cash paid
|
—
|
|
|
—
|
|
|
(2)
|
|
|
(2)
|
|
|
Restructuring reserve as of September 30, 2019
|
—
|
|
|
—
|
|
|
9
|
|
|
9
|
|
|
Cash paid
|
—
|
|
|
—
|
|
|
(2)
|
|
|
(2)
|
|
|
Restructuring reserve as of December 31, 2019
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
7
|
|
|
$
|
7
|
|
Selected information relating to the aforementioned restructuring follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Facility Exit Costs
|
|
|
Other Costs
|
|
|
Total
|
|
|
Initial reserve
|
$
|
297
|
|
|
$
|
127
|
|
|
$
|
133
|
|
|
$
|
557
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid
|
—
|
|
|
(13)
|
|
|
(41)
|
|
|
(54)
|
|
|
Restructuring reserve as of September 30, 2018
|
297
|
|
|
114
|
|
|
92
|
|
|
503
|
|
|
Charges to expense
|
132
|
|
|
152
|
|
|
141
|
|
|
425
|
|
|
Cash paid
|
(400)
|
|
|
(74)
|
|
|
(175)
|
|
|
(649)
|
|
|
Restructuring reserve as of December 31, 2018
|
$
|
29
|
|
|
$
|
192
|
|
|
$
|
58
|
|
|
$
|
279
|
|
Strategic Business Initiative
In the third quarter of fiscal 2019, the Company announced that it engaged an international consulting firm to perform a comprehensive review of its operating structure with the goal of improving the alignment of processes across the business, as the Company continues to integrate recent acquisitions and evaluate its portfolio. Commencing in the third quarter of fiscal 2019, the Company recorded an initial restructuring reserve, subsequent adjustments, and has made cash payments in connection with this initiative. As of December 31, 2019 and 2018, the remaining liability of $123,000 and $797,000, respectively, was classified in accrued other expenses in the accompanying consolidated balance sheets.
Selected information relating to the aforementioned restructuring follows (in thousands):
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Restructuring reserve as of March 31, 2019
|
$
|
634
|
|
|
|
|
|
Cash paid
|
(212)
|
|
|
Restructuring reserve as of June 30, 2019
|
422
|
|
|
Cash paid
|
(196)
|
|
|
Charges (reversals) to expense
|
(3)
|
|
|
Restructuring reserve as of September 30, 2019
|
223
|
|
|
Cash paid
|
(100)
|
|
|
Restructuring reserve as of December 31, 2019
|
$
|
123
|
|
Selected information relating to the aforementioned restructuring follows (in thousands):
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Initial reserve
|
$
|
797
|
|
|
Restructuring reserve as of December 31, 2018
|
$
|
797
|
|
Performance Improvement Initiative
In the first quarter of fiscal 2020, the Company announced a restructuring plan with the goal of reducing the Company’s cost base to improve business performance, profitability, and cash flow generation. Commencing in the first quarter of fiscal 2020, the Company recorded an initial restructuring reserve, subsequent adjustments, and has made cash payments in connection with this initiative. As of December 31, 2019, the remaining liability of $553,000 was classified in accrued other expenses in the accompanying consolidated balance sheet.
Selected information relating to the aforementioned restructuring follows (in thousands):
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Initial reserve
|
$
|
2,076
|
|
|
|
|
|
Cash paid
|
(490)
|
|
|
Restructuring reserve as of June 30, 2019
|
1,586
|
|
|
Cash paid
|
(461)
|
|
|
Charges (reversals) to expense
|
(305)
|
|
|
Restructuring reserve as of September 30, 2019
|
820
|
|
|
Cash paid
|
(267)
|
|
|
Restructuring reserve as of December 31, 2019
|
$
|
553
|
|
Resource Alignment Initiative
In the second quarter of fiscal 2020, the Company announced a restructuring plan with the goal of reducing the Company's cost base by improving the alignment of resources with the current operating structure. Commencing in the second quarter of fiscal 2020, the Company recorded an initial restructuring reserve, subsequent adjustments, and has made cash payments in connection with this initiative. As of December 31, 2019, the remaining liability of $502,000 was classified in accrued other expenses in the accompanying consolidated balance sheet.
Selected information relating to the aforementioned restructuring follows (in thousands):
|
|
|
|
|
|
|
|
|
Employee Termination Costs
|
|
|
Initial reserve
|
$
|
1,049
|
|
|
|
|
|
Cash paid
|
(20)
|
|
|
Restructuring reserve as of September 30, 2019
|
1,029
|
|
|
Cash paid
|
(308)
|
|
|
Charges (reversals) to expense
|
(219)
|
|
|
Restructuring reserve as of December 31, 2019
|
$
|
502
|
|
Location Consolidation Initiatives
In the second quarter of fiscal 2020, the Company executed location consolidation initiatives and as a result, in the third quarter of fiscal 2020 the Company decided to abandon two ROU assets by March 31, 2020. As a result, the Company revised the estimated life for the ROU assets to amortize them from the decision date over the remaining expected useful life which resulted in accelerated amortization of $823,000 classified in restructuring expense in the accompanying consolidated statement of operations and comprehensive income (loss) for the three- and nine months ended December 31, 2019.
(4) SHARE-BASED COMPENSATION
Under the terms of the Company’s 2013 Equity Compensation Plan (“2013 Plan”), the Company may grant incentive stock options, non-qualified stock options, stock units, restricted stock grants, stock appreciation rights, stock bonus awards and dividend equivalents to officers and other employees and non-employee directors. Under the 2013 Plan, a committee of the Company's Board of Directors (the "Board") approves grants to officers and other employees, and the Board approves grants to non-employee directors. Grants under the 2013 Plan may be made through July 29, 2023. The term of each grant is at the discretion of the Company, but in no event greater than ten years from the date of grant, and
at the date of grant the Company has discretion to determine the date or dates on which granted options become exercisable. Service-based stock options outstanding as of December 31, 2019 become exercisable at the rate of 25% per year commencing one year after the date of grant. Outstanding service-based restricted stock units ("RSUs") granted to employees vest at either: (i) the rate of 50% of the shares underlying the grant on each of the third and fourth anniversaries of the grant date or (ii) the rate of 25% of the shares underlying the grant on each of the first four anniversaries of the grant date. Service-based RSUs granted to directors and outstanding as of December 31, 2019 will vest on July 31, 2020. Market-based and performance-based RSUs outstanding as of December 31, 2019 will vest only if certain market or performance conditions and service requirements have been met, and the dates on which they vest will depend on the period in which such market or performance conditions and service requirements are met, if at all, except that vesting and redemption are accelerated upon a change of control. The Company recognizes grants, cancellations, and forfeitures as they occur. As of December 31, 2019, there were 529,574 shares available for grant under the 2013 Plan.
The fair value of each stock option granted under the above plan is estimated on the date of grant using a Black-Scholes option pricing model. There were no stock options granted during the first nine months of fiscal 2020. As of December 31, 2019, there were 259,000 outstanding stock options.
The fair value of each performance-based and service-based RSU granted to employees is estimated on the grant date based on the closing price of the Company's common stock reduced by the present value of the expected dividend stream during the vesting period using the risk-free interest rate when applicable. The fair value of each service-based RSU granted to directors, for which dividend equivalents are paid upon vesting of the underlying awards when applicable, is estimated on the day of grant based on the closing price of the Company's common stock. During the nine months ended December 31, 2019 and 2018, the Company granted 352,666 and 201,013 RSUs, respectively, with a weighted average fair value per share of $5.63 and $14.46, respectively. As of December 31, 2019, there were 455,682 outstanding performance-based and service-based RSUs.
As of December 31, 2019, there was $276,000 of total unrecognized compensation cost related to non-vested stock option awards granted under the Company’s equity incentive plans which is expected to be recognized over a weighted average period of 1.2 years. As of December 31, 2019, there was $1,847,000 of total unrecognized compensation cost related to non-vested service-based, market-based and performance-based RSUs granted under the Company’s equity incentive plans which is expected to be recognized over a weighted average period of 1.7 years.
Compensation cost related to stock options and RSUs recognized in operating results (included in selling, general and administrative expenses in the consolidated statements of operations and comprehensive income (loss)) was $405,000 and $637,000 in the three months ended December 31, 2019 and 2018, respectively, and $669,000 and $1,694,000 in the nine months ended December 31, 2019 and 2018, respectively.
(5) LEASES
The Company adopted ASC 842 as of April 1, 2019, using the modified retrospective transition approach wherein the Company applied the new lease standard at the adoption date. Accordingly, all periods prior to April 1, 2019 were presented in accordance with the previous ASC Topic 840 - Leases ("ASC 840"), and no retrospective adjustments were made to the comparative periods presented. Adoption of ASC 842 resulted in the recording of operating lease ROU assets of $51,486,000, operating lease liabilities of $50,180,000, a reduction of favorable lease assets of $2,866,000 and a reduction of net deferred rent liabilities of $1,560,000 as of April 1, 2019. Finance leases are not material to the Company and are not impacted by the adoption of ASC 842 as finance lease liabilities and the corresponding assets were already recorded in the consolidated balance sheet under the previous guidance, ASC 840. The adoption did not materially impact the Company’s consolidated statement of operations and comprehensive income (loss) or consolidated statement of cash flows.
The Company has operating leases for corporate offices, distribution facilities, manufacturing plants, and certain equipment and vehicles. Leases with an initial term of 12 months or less, which are immaterial to the Company, are not recorded in the consolidated balance sheet. For all asset classes, the Company has elected the practical expedient to account for each separate lease component of a contract and its associated non-lease components as a single lease component, thus causing all fixed payments to be capitalized. The Company also elected the package of practical expedients permitted within the new standard, which among other things, allows the Company to carry forward historical lease classification. Variable lease payment amounts that cannot be determined at the commencement of the lease, such as increases in lease payments based on changes in index rates or usage, are not recorded in the consolidated balance sheet.
ROU assets represent the Company’s right to use an underlying asset during the lease term, and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. ROU assets and lease liabilities are recognized
on the adoption date for existing leases and on the commencement date for new leases based on the net present value of fixed lease payments over the lease term. The Company’s lease term includes options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. ROU assets also include any advance lease payments. As most of the Company’s operating leases do not provide an implicit rate, the Company uses its incremental borrowing rate based on the information available on the adoption date for existing leases and as of the commencement date for new leases in determining the present value of lease payments. The Company applies the portfolio approach based on the rate of interest that it would have to pay to borrow an amount equal to the lease payments on a collateralized basis over a similar term to the development of its discount rates.
The components of lease costs are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
December 31, 2019
|
|
Nine Months Ended
December 31, 2019
|
|
Lease costs:
|
|
|
|
|
Operating lease costs
|
$
|
2,848
|
|
|
$
|
8,601
|
|
|
Variable operating lease costs
|
79
|
|
|
233
|
|
|
Total
|
$
|
2,927
|
|
|
$
|
8,834
|
|
Supplemental cash flow information is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
December 31, 2019
|
|
Nine Months Ended
December 31, 2019
|
|
Cash paid for amounts included in the measurement of lease liabilities:
|
|
|
|
|
Operating cash flows for operating leases
|
$
|
1,949
|
|
|
$
|
6,013
|
|
|
Total
|
$
|
1,949
|
|
|
$
|
6,013
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
December 31, 2019
|
|
Nine Months Ended
December 31, 2019
|
|
Right-of-use assets obtained in exchange for lease obligations:
|
|
|
|
|
Operating leases
|
$
|
629
|
|
|
$
|
52,226
|
|
|
Total
|
$
|
629
|
|
|
$
|
52,226
|
|
The aggregate future lease payments for operating leases as of December 31, 2019 is projected to be as follows (in thousands):
|
|
|
|
|
|
|
|
Remainder of fiscal 2020
|
$
|
9,414
|
|
|
Fiscal 2021
|
8,410
|
|
|
Fiscal 2022
|
7,609
|
|
|
Fiscal 2023
|
6,368
|
|
|
Fiscal 2024
|
5,981
|
|
|
Thereafter
|
17,124
|
|
|
Total lease payments
|
54,906
|
|
|
Less: Interest
|
(10,007)
|
|
|
Present value of lease liabilities
|
$
|
44,899
|
|
The future minimum lease payments associated with all non-cancelable lease obligations under ASC 840 as of March 31, 2019 were as follows (in thousands):
|
|
|
|
|
|
|
|
Fiscal 2020
|
$
|
10,520
|
|
|
Fiscal 2021
|
9,360
|
|
|
Fiscal 2022
|
8,446
|
|
|
Fiscal 2023
|
7,364
|
|
|
Fiscal 2024
|
6,200
|
|
|
Thereafter
|
21,818
|
|
|
Total lease payments
|
$
|
63,708
|
|
Weighted-average lease terms and discount rates are as follows:
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
Weighted-average remaining lease term (years) of operating leases
|
6.8
|
|
Weighted-average discount rate of operating leases
|
5.8
|
%
|
(6) GOODWILL AND OTHER INTANGIBLE ASSETS
During the first quarter of fiscal 2019, the Fitlosophy acquisition was accounted for using the acquisition method and the excess of cost over the fair market value of the net tangible and identifiable intangible assets acquired of $1,390,000 was recorded as goodwill. During the first quarter of fiscal 2019, the Company determined that a triggering event occurred due to the fact that the Company’s total stockholders’ equity was in excess of the Company's market capitalization. Given this circumstance, the Company bypassed the option to assess qualitative factors to determine the existence of impairment and proceeded directly to the quantitative goodwill impairment test. Based on the results of its impairment test, the Company recorded an impairment charge of $1,390,000. As of December 31, 2019, March 31, 2019 and December 31, 2018, the Company had no goodwill.
The change in the carrying amount of goodwill during the nine months ended December 31, 2018 is as follows (in thousands):
|
|
|
|
|
|
|
|
Balance as of March 31, 2018
|
$
|
—
|
|
|
Acquisition of Fitlosophy
|
1,390
|
|
|
Impairment charge
|
(1,390)
|
|
|
Balance as of December 31, 2018
|
$
|
—
|
|
The gross carrying amount and accumulated amortization of other intangible assets is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
|
|
March 31, 2019
|
|
|
|
December 31, 2018
|
|
|
|
|
Gross
Carrying
Amount
|
|
Accumulated
Amortization
|
|
Gross
Carrying
Amount
|
|
Accumulated
Amortization
|
|
Gross
Carrying
Amount
|
|
Accumulated
Amortization
|
|
Tradenames and trademarks
|
$
|
15,054
|
|
|
$
|
—
|
|
|
$
|
15,054
|
|
|
$
|
—
|
|
|
$
|
24,353
|
|
|
$
|
—
|
|
|
Customer relationships
|
44,037
|
|
|
25,960
|
|
|
44,037
|
|
|
23,942
|
|
|
48,657
|
|
|
22,955
|
|
|
Favorable lease contracts
|
—
|
|
|
—
|
|
|
3,882
|
|
|
1,016
|
|
|
3,882
|
|
|
837
|
|
|
Trademarks
|
2,435
|
|
|
862
|
|
|
2,435
|
|
|
645
|
|
|
2,435
|
|
|
572
|
|
|
Patents
|
1,466
|
|
|
1,157
|
|
|
1,466
|
|
|
1,059
|
|
|
1,164
|
|
|
1,027
|
|
|
Covenants not to compete
|
530
|
|
|
518
|
|
|
530
|
|
|
457
|
|
|
530
|
|
|
430
|
|
|
|
$
|
63,522
|
|
|
$
|
28,497
|
|
|
$
|
67,404
|
|
|
$
|
27,119
|
|
|
$
|
81,021
|
|
|
$
|
25,821
|
|
Amortization expense related to intangible assets was $796,000 and $1,294,000 for the quarters ended December 31, 2019 and 2018, respectively, and was $2,394,000 and $3,861,000 for the nine months ended December 31, 2019 and 2018. Based on the current composition of other intangibles, amortization expense for the remainder of fiscal 2020 and each of the succeeding four years is projected to be as follows (in thousands):
|
|
|
|
|
|
|
|
Remainder of fiscal 2020
|
$
|
790
|
|
|
Fiscal 2021
|
2,997
|
|
|
Fiscal 2022
|
2,900
|
|
|
Fiscal 2023
|
2,604
|
|
|
Fiscal 2024
|
2,518
|
|
(7) SHORT-TERM BORROWINGS AND CREDIT ARRANGEMENTS
On March 7, 2019, the Company entered into a $125,000,000 asset based senior secured credit facility with three banks (the “ABL Credit Facility”). The Company used the proceeds from borrowings under the ABL Credit Facility to repay in full the Company’s prior credit facility with two banks (the “Prior Credit Facility”), under which the maximum credit available to the Company at any one time (the “Committed Amount”) was $50,000,000 at the time the Prior Credit Facility was repaid and terminated on March 7, 2019. The ABL Credit Facility has a maturity date of March 7, 2024, unless earlier terminated.
On May 23, 2019, the Company entered into a Second Amendment (the “Amendment”) to the ABL Credit Facility. The Amendment reduced the maximum amount available under the revolving credit facility from $125,000,000 to $100,000,000. Availability under the Amendment is equal to the lesser of $100,000,000 or a Borrowing Base (as defined in the Amendment), in each case minus (i) revolving loans outstanding and (ii) $15,000,000 until the administrative agent's ("Agent") receipt of a compliance certificate demonstrating compliance with the amended financial covenants. The Amendment requires the Company to not permit the Fixed Charge Coverage Ratio (as defined in the Amendment), as of the end of any calendar month (commencing with the twelve-month period ending March 31, 2020), to be less than 1.00 to 1.00. In addition, commencing with the month ending April 30, 2019 and continuing until the month ending March 31, 2020, the Company is required to have, at the end of each calendar month during such period, EBITDA for the corresponding period (which such period shall be based on a cumulative monthly build-up commencing with the month ending April 30, 2019) then ending of not less than the corresponding amount set forth in the Amendment. The Amendment also limits Capital Expenditures (as defined in the Amendment) for fiscal 2020 to $8,000,000 or less. The $15,000,000 availability block mentioned above was reduced to $10,000,000 for the period beginning August 20, 2019 to September 10, 2019, $11,000,000 for the period beginning September 10, 2019 to September 24, 2019, and $12,500,000 for the period beginning September 24, 2019 to October 4, 2019.
On November 13, 2019, the Company and the lenders under the ABL Credit Facility entered into a Limited Consent and Waiver (the “Limited Consent”) which reduced the minimum cumulative EBITDA (as defined in the ABL Credit Facility) levels required to be attained by the Company as of the end of each calendar month for the months of October 2019 through March 2020. The Limited Consent also increased the availability block from $15,000,000 to $20,000,000 from November 13, 2019 until November 30, 2019, and it provides for further increases thereof in increments of $1,000,000 beginning on December 1, 2019 and every two weeks thereafter until the availability block reaches $25,000,000 on February 1, 2020 and remains at that level thereafter unless and until the Company demonstrates compliance as of March 31, 2020 with each of the financial covenants contained in the ABL Credit Facility. Under the Limited Consent, the lenders waived any events of default that may have resulted from the Company’s adoption of the Rights Plan (see Note 11) on November 11, 2019. In connection with the Limited Consent, the Company paid a consent fee of $500,000. See Note 13 for more information on the Additional Limited Consent signed by the Company on February 4, 2020.
Permitted Acquisitions (as defined in the ABL Credit Facility) are no longer permitted under the Amendment, and certain Restricted Payments (as defined in the ABL Credit Facility), including dividends previously allowed based upon meeting certain leverage ratio and average Availability (as defined in the ABL Credit Facility) criteria, are no longer allowed.
At the Company’s election, loans made under the ABL Credit Facility will bear interest at either: (i) a base rate (“Base Rate”) plus an applicable rate or (ii) an “Adjusted LIBO Rate” (as defined in the ABL Credit Facility) plus an applicable rate, subject to adjustment if an event of default under the ABL Credit Facility has occurred and is continuing. The Base Rate means the highest of (a) the Agent’s “prime rate,” (b) the federal funds effective rate plus 0.50% and (c) the Adjusted LIBO Rate for an interest period of one month plus 1%. During the period prior to March 31, 2020, Adjusted
LIBO Rate loans made under the ABL Credit Facility will bear interest at the Adjusted LIBO Rate plus an applicable rate of 2.50%, and Base Rate loans made under the ABL Credit Facility will bear interest at the Base Rate plus an applicable rate of 1.50%. After March 31, 2020, the applicable rate will be adjusted based on the Company’s Fixed Charge Coverage Ratio (as defined in the ABL Credit Facility) as further set forth in the ABL Credit Facility. Additionally, the Company is subject to a commitment fee equal to 0.25% per annum on the average daily unused portion of the revolving commitment, payable monthly to the Agent for the ratable benefit of the lenders.
The ABL Credit Facility is secured by a first priority perfected security interest in substantially all of the assets of the Company, including certain real estate, subject to certain exceptions and exclusions as set forth in the ABL Credit Facility and other loan documents, including the Pledge and Security Agreement (the “Pledge Agreement”) entered into by the Company and the Agent contemporaneously with their execution of the ABL Credit Facility.
The ABL Credit Facility contains certain affirmative and negative covenants that are binding on the Company, including, but not limited to, restrictions (subject to specified exceptions and qualifications) on the ability of the Company to incur indebtedness, to create liens, to merge or consolidate, to make dispositions, to make restricted payments such as dividends, distributions or equity repurchases, to make investments or undertake acquisitions, to prepay other indebtedness, to enter into certain transactions with affiliates, to enter into sale and leaseback transactions, or to enter into any restrictive agreements. In addition, the ABL Credit Facility requires the Company to abide by certain financial covenants calculated for the Company and its subsidiaries as noted above.
The ABL Credit Facility contains customary events of default (which are in some cases subject to certain exceptions, thresholds, notice requirements and grace periods), including, but not limited to, non-payment of principal or interest or other amounts, misrepresentations, failure to perform or observe covenants, cross-defaults with certain other material indebtedness, certain change in control events, voluntary or involuntary bankruptcy proceedings, certain judgments or decrees, failure of the ABL Credit Facility or other loan documents to be in full force and effect, certain ERISA events and judgments. The ABL Credit Facility also contains certain prepayment provisions, representations, warranties and conditions. As of December 31, 2019, the Company was in compliance with all debt covenants under the ABL Credit Facility.
Under the ABL Credit Facility, all collections on account of collateralized accounts receivable are required to be deposited into lock boxes that are subject to the control of the Agent for the ABL Credit Facility (“Agent-Controlled Lock Boxes”). All funds deposited into Agent-Controlled Lock Boxes are swept daily and are required to be applied by the Agent as repayments of amounts owed by the Company under the ABL Credit Facility. Accordingly, the Company has classified its outstanding loan balance under the ABL Credit Facility as a current liability. The outstanding balance under the ABL Credit Facility as of December 31, 2019 and March 31, 2019 was $38,805,000 and $26,139,000, respectively. As of December 31, 2018, there was $58,695,000 outstanding under the Company's Prior Credit Facility classified as a current liability.
The Company leases certain equipment under finance leases which are classified in the accompanying consolidated balance sheets as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Current portion of long-term debt
|
$
|
11
|
|
|
$
|
143
|
|
|
$
|
132
|
|
|
Long-term debt, net of current portion
|
4
|
|
|
13
|
|
|
16
|
|
|
|
$
|
15
|
|
|
$
|
156
|
|
|
$
|
148
|
|
The Company also finances certain equipment which is classified in the accompanying consolidated balance sheets as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Current portion of long-term debt
|
$
|
—
|
|
|
$
|
173
|
|
|
$
|
173
|
|
|
Long-term debt, net of current portion
|
—
|
|
|
—
|
|
|
—
|
|
|
|
$
|
—
|
|
|
$
|
173
|
|
|
$
|
173
|
|
(8) COMMITMENTS AND CONTINGENCIES
CSS and its subsidiaries are involved in ordinary, routine legal proceedings that are not considered by management to be material. In the opinion of Company counsel and management, the ultimate liabilities resulting from such legal
proceedings will not materially affect the consolidated financial position of the Company or its results of operations or cash flows.
(9) FAIR VALUE MEASUREMENTS
Recurring Fair Value Measurements
The Company historically used certain derivative financial instruments as part of its risk management strategy to reduce interest rate and foreign currency risk. The Company recognized all derivatives on the consolidated balance sheets at fair value based on quotes obtained from financial institutions. As of March 31, 2019, the interest rate swap agreement was discontinued and the fair value of the interest rate swap agreement as of March 31, 2019 of $580,000 was reclassified into earnings with a realized loss included in other expense (income), net in the consolidated statement of operations and comprehensive income (loss). There was no interest rate swap agreement as of December 31, 2019. There were no foreign currency contracts outstanding as of December 31, 2019 and March 31, 2019.
The Company maintains a nonqualified Deferred Compensation Plan (the "Deferred Comp Plan") for qualified employees. The Deferred Comp Plan provides eligible key employees with the opportunity to elect to defer up to 50% of their eligible compensation under the Deferred Comp Plan. The Company may make matching or discretionary contributions, at the discretion of the Board. All compensation deferred under the Deferred Comp Plan is held by the Company. The Company maintains separate accounts for each participant to reflect deferred contribution amounts and the related gains or losses on such deferred amounts. A participant’s account is notionally invested in one or more investment funds and the value of the account is determined with respect to such investment allocations. The related liability is recorded as deferred compensation and included in other long-term obligations in the consolidated balance sheets as of December 31, 2019 and March 31, 2019.
The Company maintains life insurance policies in connection with the Deferred Comp Plan discussed above. The Company also maintains two life insurance policies in connection with separate deferred compensation arrangements with two former executives. The cash surrender value of the policies is recorded in other long-term assets in the consolidated balance sheets and is based on quotes obtained from insurance companies as of December 31, 2019 and March 31, 2019.
In connection with the acquisition of Fitlosophy in fiscal 2019, the Company may pay up to an additional $10,500,000 of contingent earn-out consideration, in cash, if net sales of certain products meet or exceed five different thresholds during the period from the acquisition date through March 31, 2023. The estimated fair value of the contingent earn-out consideration is determined using a Monte Carlo simulation discounted to a present value which is accreted over the earn-out period. The contingent consideration liability is included in accrued other expenses in the consolidated balance sheets as of March 31, 2019. As of September 30, 2019, the estimated fair value of the contingent earn-out consideration was reduced to zero, and it remains unchanged as of December 31, 2019, as the projected sales for the certain products that qualify for the earn-out are less than the required thresholds.
Selected information relating to the aforementioned contingent consideration follows (in thousands):
|
|
|
|
|
|
|
|
|
Contingent Earn-out Consideration
|
|
|
Estimated fair value as of June 1, 2018
|
$
|
1,600
|
|
|
Accretion
|
64
|
|
|
Remeasurement adjustment
|
(298)
|
|
|
Contingent Earn-out Consideration as of March 31, 2019
|
1,366
|
|
|
Accretion
|
16
|
|
|
Contingent Earn-out Consideration as of June 30, 2019
|
1,382
|
|
|
Accretion
|
10
|
|
|
Remeasurement adjustment
|
(1,392)
|
|
|
Contingent Earn-out Consideration as of September 30 and December 31, 2019
|
$
|
—
|
|
To increase consistency and comparability in fair value measurements, the FASB established a fair value hierarchy that prioritizes the inputs to valuation techniques into a three-level fair value hierarchy. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). If the inputs used to measure the financial assets and liabilities fall within different levels
of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument.
The Company’s recurring assets and liabilities recorded on the consolidated balance sheets are categorized based on the inputs to the valuation techniques as follows:
Level 1 – Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market that the Company has the ability to access.
Level 2 – Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are observable either directly or indirectly for substantially the full term of the asset or liability. Examples of Level 2 inputs include quoted prices for identical or similar assets or liabilities in non-active markets and pricing models whose inputs are observable for substantially the full term of the asset or liability.
Level 3 – Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement.
The following table presents the Company’s fair value hierarchy for those financial assets and liabilities measured at fair value on a recurring basis in its consolidated balance sheets as of December 31, 2019 and March 31, 2019 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2019
|
|
Quoted Prices In
Active Markets
for Identical
Assets (Level 1)
|
|
Significant Other
Observable
Inputs (Level 2)
|
|
Significant
Unobservable
Inputs (Level 3)
|
|
Assets:
|
|
|
|
|
|
|
|
|
Cash surrender value of life insurance policies
|
$
|
3,117
|
|
|
$
|
—
|
|
|
$
|
3,117
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
$
|
3,117
|
|
|
$
|
—
|
|
|
$
|
3,117
|
|
|
$
|
—
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred compensation plan
|
$
|
1,315
|
|
|
$
|
1,315
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
$
|
1,315
|
|
|
$
|
1,315
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
Quoted Prices In
Active Markets
for Identical
Assets (Level 1)
|
|
Significant Other
Observable
Inputs (Level 2)
|
|
Significant
Unobservable
Inputs (Level 3)
|
|
Assets:
|
|
|
|
|
|
|
|
|
Cash surrender value of life insurance policies
|
$
|
2,765
|
|
|
$
|
—
|
|
|
$
|
2,765
|
|
|
$
|
—
|
|
|
Total assets
|
$
|
2,765
|
|
|
$
|
—
|
|
|
$
|
2,765
|
|
|
$
|
—
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Contingent earn-out consideration
|
$
|
1,366
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,366
|
|
|
Interest rate swap agreement
|
580
|
|
|
—
|
|
|
580
|
|
|
—
|
|
|
Deferred compensation plan
|
1,156
|
|
|
1,156
|
|
|
—
|
|
|
—
|
|
|
Total liabilities
|
$
|
3,102
|
|
|
$
|
1,156
|
|
|
$
|
580
|
|
|
$
|
1,366
|
|
Cash and cash equivalents, accounts receivable, accounts payable and accrued expenses are reflected at carrying value in the consolidated balance sheets and such amounts are a reasonable estimate of their fair values due to the short-term nature of these instruments. The outstanding balance of the Company’s short-term borrowings and long-term debt approximated its fair value based on the current rates available to the Company for debt of the same maturity and represents Level 2 financial instruments.
Nonrecurring Fair Value Measurements
The Company’s nonfinancial assets which are measured at fair value on a nonrecurring basis include property, plant and equipment, intangible assets and certain other assets. These assets are not measured at fair value on a recurring basis; however, they are subject to fair value adjustments in certain circumstances, such as when there is evidence that an impairment may exist. In making the assessment of impairment, recoverability of assets to be held and used is measured by a comparison of the carrying amount of the asset group to future net cash flows estimated by the Company to be generated by such assets. If such asset group is considered to be impaired, the impairment to be recognized is the
amount by which the carrying amount of the asset group exceeds the fair value of the asset group. Assets to be disposed of are recorded at the lower of their carrying value or estimated net realizable value.
As discussed in Note 2, a subsidiary of the Company acquired substantially all of the business and net assets of Fitlosophy on June 1, 2018 and determined that the aggregate fair value of acquired intangible assets, consisting of tradenames, was $2,032,000. The Company estimated the fair value of the aforementioned acquired intangible assets using discounted cash flow techniques which included an estimate of future cash flows discounted to present value with an appropriate risk-adjusted discount rate (Level 3). The Company determined that the aggregate fair value of the acquired inventory in the Fitlosophy acquisition was $452,000, which was estimated as the selling price less costs of disposal (Level 2). The Company estimated the fair value of the Fitlosophy contingent earn-out consideration of $1,600,000 using a Monte Carlo simulation discounted to a present value (Level 3). See above for further discussion on subsequent remeasurement of the contingent earn-out consideration.
Indefinite-lived intangibles are subject to impairment testing on an annual basis, or sooner if events or circumstances indicate a condition of impairment may exist. Impairment testing is conducted through valuation methods that are based on assumptions for matters such as interest and discount rates, growth projections and other future business conditions (Level 3). These valuation methods require a significant degree of management judgment concerning the use of internal and external data. In the event these methods indicate that fair value is less than the carrying value, the asset is recorded at fair value as determined by the valuation models. In the first quarter of fiscal 2019, the Company recorded an impairment charge of $1,390,000 due to impairment of goodwill associated with the acquisition of Fitlosophy. See Note 6 for further discussion.
(10) INCOME TAXES
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences and carryforwards are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
The Company records a valuation allowance to reduce deferred tax assets to the amount that is more likely than not to be realized. Management assesses all available positive and negative evidence to estimate whether sufficient future taxable income will be generated to realize existing deferred tax assets. A significant piece of objective negative evidence evaluated in fiscal 2019 was the cumulative U.S. pretax loss incurred over the then most recent three-year period. Such objective evidence limits the ability to consider other subjective evidence, such as projections for future taxable income. On the basis of that evaluation, as of December 31, 2018, a full valuation allowance was recorded to fully offset the U.S. net deferred tax assets, as they more likely than not will not be realized. Management updated this assessment as of December 31, 2019, and concluded that the full valuation allowance for U.S. net deferred tax assets is still required.
The Company recognizes the impact of an uncertain tax position if it is more likely than not that such position will be sustained on audit, based solely on the technical merits of the position.
The income tax provision for interim periods is comprised of tax on ordinary income (loss) provided at the most recent estimated annual effective tax rate, adjusted for the tax effect of discrete items. Management estimates the annual effective tax rate quarterly based on the forecasted pretax income (loss) results of its U.S. and non-U.S. jurisdictions. Items unrelated to current fiscal year ordinary income (loss) are recognized entirely in the period identified as a discrete item of tax. These discrete items generally relate to changes in tax laws, adjustments to the actual liability determined upon filing tax returns, and adjustments to previously recorded reserves for uncertain tax positions.
(11) STOCKHOLDERS' EQUITY
Stockholder Rights Plan
On November 11, 2019, the Company’s Board adopted a short-term stockholder rights plan (the “Rights Plan”) and declared a dividend distribution of one right (a “Right”) for each outstanding share of common stock, with a record date of November 22, 2019. The Rights Plan will expire, without any further action by the Board, on the earlier of November 11, 2020 or the business day immediately following the Company’s next annual meeting of stockholders, absent an extension being approved by the Company’s stockholders.
Each Right initially entitles the holder to purchase from the Company one one-thousandth of a share of a newly-designated series of preferred stock, Series D Junior Participating Class 2 Preferred Stock, par value $0.01 per share, of the Company (each, a “Series D Preferred Share”), at an exercise price of $22.00 per one one-thousandth of a Series D Preferred Share, subject to adjustment. Under the Rights Plan, the Rights generally would become exercisable only if a
person or group acquires beneficial ownership of 10% or more (or, solely in the case of certain current, ordinary course institutional investors as described in the Rights Plan, 20% or more) of CSS’ common stock in a transaction not approved by the Board. In that situation, each holder of a Right (other than the acquiring person or group, whose Rights will become void and will not be exercisable) will have the right to purchase, upon payment of the exercise price of $22.00 per share, subject to adjustment, and in accordance with the terms of the Rights Plan, a number of shares of CSS common stock having a market value of twice such price. In addition, if CSS is acquired in a merger or other business combination after an acquiring person acquires 10% or more (or, solely in the case of certain current, ordinary course institutional investors as described in the Rights Plan, 20% or more) of CSS’ common stock, each holder of the Right would thereafter have the right to purchase, upon payment of the exercise price and in accordance with the terms of the Rights Plan, a number of shares of common stock of the acquiring person having a market value of twice such price. The acquiring person or group would not be entitled to exercise these Rights. In the Rights Plan, the definition of “beneficial ownership” includes derivative securities.
Stockholders who beneficially owned 10% or more of CSS’ outstanding common stock prior to CSS’ first public announcement of the adoption of the Rights Plan on November 11, 2019, will not trigger any penalties under the Rights Plan so long as they do not acquire beneficial ownership of any additional shares of common stock at a time when they still beneficially own 10% or more (or, solely in the case of certain current, ordinary course institutional investors as described in the Rights Plan, 20% or more) of such common stock, subject to certain exceptions as described in the Rights Plan.
In connection with the transactions contemplated by the Merger Agreement as described in Note 13, the Board exempted Parent, Merger Sub and TopCo Parent, as well as the Merger Agreement and the transactions contemplated thereby, from the Rights Plan.
Treasury Stock Transactions
Under a stock repurchase program that had been previously authorized by the Company's Board, the Company repurchased 303,166 shares of the Company's common stock for $4,372,000 during the nine months ended December 31, 2018. There were no repurchases of the Company's common stock by the Company during the nine months ended December 31, 2019. As of December 31, 2019, the Company had no shares remaining available for repurchase under the Board's authorized repurchase program.
(12) RECENT ACCOUNTING PRONOUNCEMENTS
In August 2018, the FASB issued Accounting Standards Update ("ASU") 2018-13, "Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement," which is designed to improve the effectiveness of disclosures by removing, modifying and adding disclosures related to fair value measurements. The new guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company is currently evaluating the impact of the adoption of this standard, but it does not expect that it will have a material impact on the Company's consolidated financial statements.
In August 2018, the FASB issued ASU 2018-14, "Compensation - Retirement Benefits - Defined Benefit Plans - General (Subtopic 715-20): Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefits Plans" ("ASU 2018-14"), which is designed to improve the effectiveness of disclosures by removing and adding disclosures related to defined benefit pension or other postretirement plans. ASU 2018-14 is required to be applied on a retrospective basis to all periods presented and is effective for the Company in its fiscal year ending March 31, 2021. Early adoption is permitted. The Company is currently evaluating the impact of the adoption of this standard, but it does not expect that it will have a material impact on the Company's consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, "Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract," ("ASU 2018-15"). ASU 2018-15 aligns the accounting for implementation costs incurred in a cloud computing arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). Accordingly, the updated guidance requires an entity to determine the stage of a project that the implementation activity relates to and the nature of the associated costs in order to determine whether those costs should be expensed as incurred or capitalized. Capitalized implementation costs related to a hosting arrangement that is a service contract will be amortized over the term of the hosting arrangement, beginning when the module or component of the hosting arrangement is ready for its intended use. ASU 2018-15 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company is currently evaluating the impact of the adoption of this standard, but it does not expect that it will have a material impact on the Company's consolidated financial statements.
In December 2019, the FASB issued ASU 2019-12, "Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes," which removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. ASU 2019-12 also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill and allocating taxes to members of a consolidated group. The new guidance is effective for fiscal years beginning after December 15, 2020, including interim periods within those fiscal years. The Company is currently evaluating the impact of the adoption of this standard.
In June 2016, the FASB issued ASU 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments" ("ASU 2016-13"), which amends the impairment model by requiring entities to use a forward-looking approach based on expected losses rather than incurred losses to estimate credit losses on certain types of financial instruments, including trade receivables. ASU 2016-13 is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. The Company is currently evaluating the impact of the adoption of this standard, but it does not expect that it will have a material impact on the Company's consolidated financial statements.
(13) SUBSEQUENT EVENTS
Merger Agreement
On January 20, 2020, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with IG Design Group Americas, Inc., a Georgia corporation (“Parent”), TOM MERGER SUB INC., a Delaware corporation and direct, wholly owned subsidiary of Parent (“Merger Sub”), and IG Design Group Plc, a public limited company incorporated and registered in England and Wales (“TopCo Parent”). Pursuant to the Merger Agreement, and upon the terms and subject to the conditions thereof, on January 30, 2020, Merger Sub commenced a tender offer (the “Offer”) to purchase all of the outstanding shares of the Company’s common stock, par value $0.10 per share (“Company Common Stock”), at a price per share equal to $9.40 (the “Offer Price”), net to the seller in cash, without interest and subject to any applicable tax deduction or withholding.
The obligation of Merger Sub to purchase shares of Company Common Stock tendered in the Offer is subject to the satisfaction or waiver of certain conditions set forth in the Merger Agreement, including (i) a minimum of 51% of the shares of Company Common Stock then outstanding being tendered in the Offer, (ii) the accuracy of the Company’s representations and warranties contained in the Merger Agreement, subject to certain specified materiality qualifiers, (iii) the Company’s performance in all material respects of its obligations under the Merger Agreement, (iv) TopCo Parent’s receipt (either directly or indirectly through any of its subsidiaries) of the proceeds of the debt and equity financing or confirmation by the financing sources that the debt and equity financing will be available at the consummation of the Offer (the “Funding Condition”), and (v) each of the other conditions set forth in Exhibit B to the Merger Agreement.
The Offer will expire at one minute after 11:59 p.m Eastern Standard Time, on February 28, 2020, which is the date that is 20 business days following the commencement of the Offer, unless extended in accordance with the terms of the Offer and the Merger Agreement and the applicable rules and regulations of the United States Securities and Exchange Commission (the “SEC”).
Subject to the provisions of the Merger Agreement and in accordance with Section 251(h) of the Delaware General Corporation Law, immediately following Merger Sub’s acceptance for payment (the “Acceptance Time”) of all shares of Company Common Stock validly tendered pursuant to the Offer (the “Offer Closing”), Merger Sub will merge with and into the Company, with the Company surviving the merger as the surviving corporation (the “Merger”), without a meeting of the stockholders of the Company.
The Merger Agreement also contains certain termination provisions for the Company and Parent, including the right of the Company, in certain circumstances, to terminate the Merger Agreement and accept a superior proposal. The Company will be required to pay Parent a cash termination fee equal to $3,000,000 if the Merger Agreement is terminated (i) by Parent because the Board changes its recommendation to stockholders to accept the Offer and tender their shares of Company Common Stock in the Offer, (ii) by the Company to enter into a definitive agreement with respect to a superior proposal, or (iii) (1) (A) by either the Company or Parent because the Acceptance Time has not occurred by 11:59 p.m. New York City time on June 4, 2020 or (B) by Parent because the Company breaches any representation or warranty or fails to perform any covenant or agreement such that the Company’s offer conditions could not be satisfied, (2) an alternative competing transaction was publicly announced or publicly known prior to such termination, and (3) within 12 months after such termination, the Company consummates an alternative competing transaction or enters into an agreement with respect to an alternative competing transaction. TopCo Parent will be required to pay the Company a cash termination fee equal to (i) $4,500,000 if the Merger Agreement is terminated by the Company or Parent due to Merger Sub’s failure to effect the Offer Closing when all of the offer conditions (other than the Funding Condition) have been satisfied, and (ii) $2,250,000 if the Merger Agreement is terminated by the Company
because, by the date that is the earlier of (x) 60 business days from the date of the Merger Agreement and (y) 35 business days following the failure to obtain the resolution of its shareholders to disapply all applicable pre-emptive rights in connection with the equity financing at a shareholder meeting held for such purpose, TopCo Parent has failed to confirm in writing that it has available cash in an amount which, together with the debt financing and any available cash of the Company and its subsidiaries as of the closing, is required to pay the Merger Amounts (as defined in the Merger Agreement).
On January 31, 2020, the Company filed its Solicitation/Recommendation Statement on Schedule 14D-9 (as amended or supplemented from time to time, the “Schedule 14D-9”) with the United States Securities and Exchange Commission (the “SEC”) in connection with the Merger Agreement. Subsequent to the Company filing the Schedule 14D-9, various complaints have been filed by purported stockholders of the Company. As of February 13, 2020, the Company had received the following complaints: Shiva Stein v. CSS Industries, Inc., et al., Case No. 1:20-cv-00171-RGA, filed February 3, 2020 in the United States District Court for the District of Delaware; Adrienne Halberstam v. CSS Industries, Inc., et al., Case No. 1:20-cv-01075-RA, filed February 7, 2020 in the United States District Court for the Southern District of New York; and Joseph Post v. CSS Industries, Inc., et al., Case No. 1:20-cv-00192-UNA, filed February 10, 2020 in the United States District Court for the District of Delaware. The complaints name as defendants the Company and its current directors. In addition, the Post complaint is a putative class action, and in addition names Parent, TopCo Parent and Merger Sub as defendants. The complaints generally allege that the Schedule 14D-9 omits purportedly material information. Each of the complaints seeks, among other things, to enjoin the consummation of the Offer unless and until the requested information is disclosed or, alternatively, to recover damages if the Offer is consummated without the disclosure of such information. While it is not possible to predict the outcome of litigation matters with certainty, the Company believes that the claims raised in the foregoing complaints are without merit.
Additional Limited Consent under ABL Credit Facility
On February 4, 2020, the Company and the lenders under the ABL Credit Facility (see Note 7) entered into a Limited Consent (the “Additional Limited Consent”) which temporarily reduces the availability block imposed under the ABL Credit Facility from $25,000,000 to $23,000,000. The Additional Limited Consent permits the Company, in accordance with the terms of the Additional Limited Consent, to exercise two additional reductions of the availability block, each in $1,000,000 increments. In the event that the Company exercises both of the foregoing additional availability block reductions in accordance with the terms of the Additional Limited Consent, the availability block would be temporarily reduced to $21,000,000. The Additional Limited Consent further provides that the availability block will be reinstated to $25,000,000 on the earliest of: (i) the Merger Effective Time (as defined in the Merger Agreement), (ii) the Termination Date (as defined in the Merger Agreement) or (iii) February 28, 2020. In connection with the Additional Limited Consent, there is a consent fee of $100,000 for the first $2,000,000 reduction, and an additional fee of $100,000 will be payable for each of the optional $1,000,000 reductions, but only if and to the extent the Company exercises its option to effectuate those reductions.
CSS INDUSTRIES, INC. AND SUBSIDIARIES