PARTY CITY CORP - 10-Q Quarterly Report

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED		COMMISSION FILE NUMBER
SEPTEMBER 28, 2002		0-27826

PARTY CITY CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)


DELAWARE		22—3033692
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

400 COMMONS WAY		07866
ROCKAWAY, NEW JERSEY		(Zip Code)
(Address of Principal Executive Offices)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date:

As of November 2, 2002, there were outstanding 17,040,940 shares of
Common Stock, $.01 par value.

INDEX

		Page No.
Part I.	Financial Information
Item 1.	Condensed Consolidated Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets – September 28, 2002 September 29, 2001 and June 29, 2002	3
	Condensed Consolidated Statements of Operations For the quarters ended September 28, 2002 and September 29, 2001	4
	Condensed Consolidated Statements of Cash Flows For the quarters ended September 28, 2002 and September 29, 2001	5
	Notes to Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	10
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	15
Part II.	Other Information	15
Item 1.	Legal Proceedings	15
Item 2.	Changes in Securities and Use of Proceeds	16
Item 3.	Defaults Under Senior Securities	16
Item 4.	Submission of Matters to a Vote of Security Holders	16
Item 5.	Other Information	16
Item 6.	Exhibits and Reports on Form 8-K	16
Exhibit Index		16

	September 28, 2002			September 29, 2001			June 29, 2002

	(Unaudited)			(Unaudited)			(1)
ASSETS
Current assets:
Cash and cash equivalents	$	5,241		$	5,095		$	3,467
Merchandise inventory		94,760			77,584			55,867
Deferred income taxes		6,410			6,278			5,827
Other current assets		14,992			15,578			11,789

Total current assets		121,403			104,535			76,950
Property and equipment, net		54,941			47,226			49,356
Goodwill		19,062			14,150			18,016
Other assets		4,392			6,149			4,732

Total assets	$	199,798		$	172,060		$	149,054

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	73,255		$	54,702		$	35,499
Accrued expenses and other current liabilities		23,893			27,082			26,744
Advances under Loan Agreement		16,136			5,424			—
Senior Notes, current portion		—			10,484			—

Total current liabilities		113,284			97,692			62,243
Long-term liabilities:
Deferred rent and other long-term liabilities		10,310			9,422			10,297
Senior Notes		9,083			16,133			8,915
Commitments and contingencies
Stockholders’ equity:
Common stock $.01 par value, authorized 25,000,000 shares; issued 17,010,465, 13,255,017 and 16,239,081 shares, respectively		170			132			162
Additional paid-in capital		40,597			38,386			39,347
Retained earnings		28,183			10,941			29,919
Treasury stock, at cost (284,000, 100,000 and 284,000 shares, respectively)		(1,829	)		(646	)		(1,829	)

Total stockholders’ equity		67,121			48,813			67,599

Total liabilities and stockholders’ equity	$	199,798		$	172,060		$	149,054

(1) The June 29, 2002 consolidated balance sheet was derived from the Company’s audited consolidated financial statements.

	Quarter ended

	September 28,			September 29,
		2002			2001

Revenues:
Net sales	$	91,124		$	80,795
Royalty fees		3,647			3,246
Franchise fees		235			343

Total revenues		95,006			84,384
Expenses:
Cost of goods sold and occupancy costs		64,425			57,667
Company-owned stores operating and selling expense		23,698			20,228
Franchise expense		1,562			1,547
General and administrative expense		7,302			6,164

Total expenses		96,987			85,606

Loss before interest and income taxes		(1,981	)		(1,222	)
Interest expense, net		885			1,755

Loss before income taxes		(2,866	)		(2,977	)
Provision for income tax benefit		(1,130	)		(1,191	)

Net loss	$	(1,736	)	$	(1,786	)

Basic and diluted loss per share	$	(0.11	)	$	(0.14	)
Weighted average shares outstanding – basic and diluted		16,396			12,753

	Quarter ended

	September 28,			September 29,
		2002			2001

Cash flow from operating activities:
Net loss	$	(1,736	)	$	(1,786	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		3,372			2,825
Deferred taxes		(312	)		(1,301	)
Non-cash interest		250			428
Deferred rent and other long-term liabilities		296			721
Equity based compensation		138			79
Provision for doubtful accounts		(301	)		30
Changes in assets and liabilities:
Merchandise inventory		(38,487	)		(29,253	)
Other current assets and other assets		(2,939	)		(3,450	)
Accounts payable and other current liabilities		34,905			27,606

Net cash used in operating activities		(4,814	)		(4,101	)
Cash flow from investment activities:
Purchases of property and equipment		(8,737	)		(3,602	)
Stores acquired from franchisees		(1,648	)		(897	)

Net cash used in investment activities		(10,385	)		(4,499	)
Cash flow from financing activities:
Net proceeds from Loan Agreement		16,136			5,424
Proceeds from exercise of stock options and warrants		837			75
Payments of Senior Notes		—			(1,000	)
Purchases of treasury stock		—			(646	)

Net cash provided from financing activities		16,973			3,853

Net increase (decrease) in cash and cash equivalents		1,774			(4,747	)
Cash and cash equivalents, beginning of period		3,467			9,842

Cash and cash equivalents, end of period	$	5,241		$	5,095

Supplemental disclosure of cash flow information:
Income taxes paid	$	2,167		$	301
Interest paid		642			1,400
Supplemental disclosure of non-cash financing activity:
Issuance of shares under management stock plan		282			—
Issuance of warrants		245			—

The condensed consolidated financial statements, except for the June 29, 2002 consolidated balance sheet, are unaudited. In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments (consisting only of normal recurring accruals) necessary to present fairly the financial position of the Company as of September 28, 2002 and September 29, 2001 and the results of operations and cash flows for the quarters ended September 28, 2002 and September 29, 2001. Because of the seasonality of the party goods industry, operating results of the Company on a quarterly basis may not be indicative of operating results for the full fiscal year.

These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements for the year ended June 29, 2002, which are included in the Company’s Annual Report on Form 10-K with respect to such period filed with the Securities and Exchange Commission on September 27, 2002. All significant intercompany accounts and transactions have been eliminated. The June 29, 2002 consolidated balance sheet amounts are derived from the Company’s audited consolidated financial statements.

In June 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (“SFAS”) No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” SFAS No. 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (“EITF”) Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. This statement also established that fair value is the objective for initial measurement of the liability. The provisions of SFAS No. 146 are effective for exit or disposal activities that are initiated after December 31, 2002. The Company is currently evaluating the impact of SFAS No. 146 on its consolidated financial statements.

EITF Issue No. 02-16, “Accounting by a Reseller for Cash Consideration Received from a Vendor,” addresses how a reseller of a vendor’s products should account for cash consideration received from a vendor and how to measure that consideration in its income statement. The EITF has not yet reached a final consensus on this issue. The Company will continue to monitor, until consensus is reached, the impact EITF No. 02-16 will have on its consolidated financial statements.

	Quarter Ended

	September 28,			September 29,
		2002			2001

	(Unaudited)
Net loss	$	(1,736	)	$	(1,786	)
Loss per share — basic		(0.11	)		(0.14	)
Loss per share — diluted		(0.11	)		(0.14	)
Average common shares outstanding		16,396			12,753
Dilutive effect of warrants		(a)			(b)
Dilutive effect of stock options		(a)			(b)
Restricted stock units		(c)			(c)

Average common and common equivalent shares outstanding		16,396			12,753

		(a) Options to purchase 2,320,586 shares of common stock at prices ranging from $1.71 to $32.50 per share were outstanding at September 28, 2002 and warrants to purchase 2,496,000 shares of common stock at $1.07 per share were outstanding at September 28, 2002 but were not included in the computation of earnings per share because to do so would have been antidilutive.

		(b) Options to purchase 1,795,078 shares of common stock at prices ranging from $1.95 to $31.13 per share were outstanding at September 29, 2001 and warrants to purchase 6,280,000 shares of common stock at $1.07 per share were outstanding at September 29, 2001 but were not included in the computation of earnings per share because to do so would have been antidilutive.

		(c) Restricted shares of 97,398 shares of common stock were outstanding at September 28, 2002 related to the Management Stock Purchase Plan. No restricted shares of common stock were outstanding at September 29, 2001.

As of September 28, 2002, the Company had $16.1 million outstanding under the Loan and Security Agreement dated January 14, 2000 (the “Loan Agreement”), with Congress Financial Corporation. Pursuant to the Loan Agreement, the Company has a standby letter of credit of $1.4 million at September 28, 2002. Under the terms of the Loan Agreement, the Company may from time to time borrow, based on a percentage of eligible inventory, up to a maximum of $40 million at any time outstanding. Advances bear interest, at the Company’s option, (i) at the adjusted Eurodollar rate plus the applicable margin, which was 2.25% per annum at September 28, 2002, or (ii) at the rate of 3/4% per annum above the prime rate, totaling 5.50% at September 28, 2002. The term of the Loan Agreement is three years with renewals at the Company’s discretion thereafter and is secured by a lien on substantially all assets. The Company feels that financing through the renewal of this Loan Agreement or through other sources is available. At November 2, 2002 the Company had no borrowings outstanding.

On September 19, 2001, the Board of Directors authorized the Company to repurchase up to $15 million of the Company’s outstanding common stock. The stock repurchases are made at the discretion of management. As of September 28, 2002, the Company had repurchased 284,000 shares for $1,829,000 or 12.2% of the total amount authorized to be repurchased. As of September 29, 2001, the Company had repurchased 100,000 shares for $646,000 or 4.3% of the total amount authorized to be repurchased. No stock repurchases were made during the quarter ended September 28, 2002 or subsequent thereto.

In the quarter ended September 28, 2002, there were 688,000 warrants exercised. This included an exercise of 458,667 warrants for which proceeds of $490,774 was received. In addition, there was a cashless exercise, in which the warrant holders received 213,792 shares of common stock. The remaining 15,541 shares with a market value of $245,386 were surrendered in connection with this exercise.

The Company was named as a defendant in twelve class action complaints in the United States District Court for the District of New Jersey. The former Chief Executive Officer and the former Chief Financial Officer and Executive Vice President of Operations were also named as defendants in these complaints. The complaints were filed as class actions on behalf of persons who purchased or acquired Party City common stock during various time periods between February 26, 1998 and March 18, 1999 (the “Class Period”). In October 1999, plaintiffs filed an amended class action complaint and, in February 2000, plaintiffs filed a second amended complaint, which alleged, among other things, violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder, and sought unspecified damages. The plaintiffs alleged that defendants issued a series of false and misleading statements and failed to disclose material facts concerning, among other things, Party City’s financial condition, adequacy of internal controls and compliance with certain loan covenants during the Class Period. The plaintiffs further alleged that because of the issuance of a series of false and misleading statements and/or the failure to disclose material facts, the price

In early 2000, defendants moved to dismiss the second amended complaint on the ground that it failed to state a course of action. On May 29, 2001, the District Court issued an Opinion and Order dismissing the Complaint against all defendants with prejudice. On June 27, 2001, plaintiffs filed a Notice of Appeal to the United States Court of Appeals for the Third Circuit. In April 2002, the parties reached an agreement in principle to settle the action, and the Court of Appeals has remanded the case to the District Court to supervise the implementation of the settlement. The terms of the settlement are contained in the agreement in principle, and include the settlement amount, which is not material to the results of operations or financial condition. The settlement provided for in the agreement in principle is subject to certain conditions, including the negotiation of a definitive settlement agreement and the approval of the terms of the settlement agreement by the District Court after notice to the members of the class who have the right to object. There can be no assurance that all these conditions will be satisfied.

A lawsuit was filed on September 25, 2001 against Party City in Los Angeles Superior Court by an assistant manager in one of the Company’s California stores for himself and on behalf of other members of an alleged class of Party City store managers (the “Class”) who claim the Company misclassified the Class members as exempt from California overtime wage and hour laws. The Class members seek the disgorgement of overtime wages allegedly owed by the Company to them but not paid and they also seek punitive damages and statutory penalties. If a class is certified, liability is found and a judgment is entered, such a judgment may adversely affect the Company.

	Quarter Ended

	September 28,		September 29,
		2002		2001

	(Unaudited)
RETAIL
Net revenue	$	91,124	$	80,795
Operating earnings		3,001		2,900
Identifiable assets		180,219		150,969
Depreciation/amortization		2,034		1,801
Capital expenditures		9,830


PART 1. FINANCIAL INFORMATION
	ITEM 1. FINANCIAL STATEMENTS
		CONDENSED CONSOLIDATED BALANCE SHEETS
		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
		NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
	ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
	ITEM 4. CONTROLS AND PROCEDURES
PART II OTHER INFORMATION
	ITEM 1. LEGAL PROCEEDINGS
	ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
	ITEM 3. DEFAULTS UPON SENIOR SECURITIES
	ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
	ITEM 5. OTHER INFORMATION
	ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBIT INDEX
SIGNATURES

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents