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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
[X] Annual Report Pursuant to Section 13 or 15(d) of The Securities Exchange
Act of 1934 For the fiscal year ended December 31, 2000
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission file number 1-13669
TAG-IT PACIFIC, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 95-4654481
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
3820 SOUTH HILL STREET
LOS ANGELES, CALIFORNIA 90037
(Address of Principal Executive Offices) (Zip Code)
(323) 234-9606
(Registrant's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Name of Each Exchange
TITLE OF EACH CLASS ON WHICH REGISTERED
COMMON STOCK, $.001 PAR VALUE AMERICAN STOCK EXCHANGE
Securities registered pursuant to Section 12(g) of the Act:
NONE
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 past 90 days.
Yes X No ____
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [X]
The issuer's revenues for the fiscal year ended December 31, 2000 were
$49,361,666.
At March 30, 2001 the aggregate market value of the voting and non-voting
common stock held by non-affiliates of the issuer was $9,426,972.
At March 30, 2001 the issuer had 8,003,244 shares of Common Stock, $.001
par value, issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the issuer's Proxy Statement with respect to its 2001 Annual
Meeting of Stockholders are incorporated by reference into Part III of this
Report.
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TAG-IT PACIFIC, INC.
INDEX TO FORM 10-K
PAGE
PART I
Item 1. Description of Business........................................... 1
Item 2. Description of Property........................................... 5
Item 3. Legal Proceedings................................................. 6
Item 4. Submission of Matters to a Vote of Security Holders............... 6
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.......... 7
Item 6. Selected Financial Data........................................... 8
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations................. 9
Item 7A. Quantitative and Qualitative Disclosures about Market Risk .......20
Item 8. Financial Statements and Supplementary Data:
Report of Independent Certified Public Accountants................21
Consolidated Balance Sheets.......................................22
Consolidated Statements of Income.................................23
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 2000, 1999 and 1998..................24
Consolidated Statements of Cash Flows.............................25
Notes to Consolidated Financial Statements........................26
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure......................................43
PART III
Item 10. Directors and Executive Officers..................................43
Item 11. Executive Compensation............................................43
Item 12. Security Ownership of Certain Beneficial Owners
and Management................................................43
Item 13. Certain Relationships and Related Transactions....................43
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K...................................................43
Page i
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
We specialize in the distribution of a full range of trim items to
manufacturers of fashion apparel, licensed consumer products, specialty
retailers and mass merchandisers. We act as an outsourced trim management
department for manufacturers of fashion apparel such as Tarrant Apparel Group
and Azteca Production International. We also serve as a specified supplier of
trim items to specific brands, brand licensees and retailers, including Tommy
Hilfiger, A/X Armani Exchange, Express, The Limited, Lerner and Swank, among
others.
We were incorporated in Delaware in September 1997. We were formed to
serve as the parent holding company of Tag-It, Inc., a California corporation,
Tag-It Printing & Packaging Ltd., which changed its name in 1999 to Tag-It
Pacific (HK) LTD, a BVI corporation, Tagit de Mexico, S.A. de C.V., A.G.S.
Stationery, Inc., a California corporation, and Pacific Trim & Belt, Inc., a
California corporation. All of these companies were consolidated under a parent
limited liability company in October 1997. These companies became our wholly
owned subsidiaries immediately prior to the effective date of our initial public
offering in January 1998. In January 2000, we formed Tag-It Pacific Limited, a
Hong Kong corporation, and in April 2000, we also formed Talon International, a
Delaware corporation. Both newly formed companies are wholly owned subsidiaries
of Tag-It Pacific, Inc.
BUSINESS STRATEGY
We have positioned ourselves as a fully integrated single-source
supplier of a full range of trim items for manufacturers of fashion apparel. Our
business focuses on servicing all of the trim requirements of our customers at
the manufacturing and retail brand level of the fashion apparel industry. Trim
items include thread, zippers, labels, buttons, rivets, printed marketing
material, polybags, packing cartons, and hangers. Trim items comprise only a
small part of the cost of most apparel products but comprise the vast majority
of components necessary to fabricate a typical apparel product. We offer
customers what we call our MANAGED TRIM SOLUTION, which is an Internet-based
system covering the complete management of ordering, production, inventory
management and just-in-time distribution of their trim and packaging
requirements. Traditionally, manufacturers of apparel products have been
required to operate their own apparel trim departments, requiring the
manufacturer to maintain a significant amount of infrastructure to coordinate
the buying of trim products from a large number of vendors. By acting as a
single source provider of a full range of trim items, we allow manufacturers
using our MANAGED TRIM SOLUTION to eliminate the added infrastructure, trim
inventory positions, overhead costs and inefficiencies created by in-house trim
departments that deal with a large number of vendors for the procurement of trim
items. We also seek to leverage our position as a single source supplier of trim
items as well as our extensive expertise in the field of trim distribution and
procurement to more efficiently manage the trim assembly process resulting in
faster delivery times and fewer production delays for our manufacturing
customers. Our MANAGED TRIM SOLUTION also helps to eliminate a manufacturer's
need to maintain a trim department. Our MANAGED TRIM SOLUTION represents an
evolution of our signature TAG-IT TURNKEY SYSTEM, and incorporates our expertise
in the field of trim item distribution and procurement with the successful
elements of the prior generation TAG-IT TURNKEY SYSTEM.
We also serve as authorized vendors for a variety of major retail brand
and private label oriented companies. Generally, we seek to expand our services
as a vendor of select lines of trim items for such customers to being a
preferred or single source provider of all of such brand customer's authorized
trim requirements. Our ability to offer brand name and private label oriented
customers a full range of trim products is attractive because it enables our
customers to address their quality and supply needs for all of their trim
requirements from a single source, avoiding the time and expense necessary to
monitor quality and supply from multiple vendors and manufacturer sources. In
addition, by becoming a specified supplier to
Page 1
brand customers, we have an opportunity to become the preferred or sole vendor
of trim items for all manufacturers of apparel under that brand name.
We have assembled a team of sales representatives, assembly workers,
program managers, creative design personnel and global production and
distribution coordinators at our facilities located throughout the United States
and Mexico, Hong Kong, Central America and the Caribbean. We plan to continue to
expand operations in Mexico, Central America and the Caribbean to take advantage
of the large apparel manufacturing markets in these regions. We believe our
marketing strategy, global manufacturing and distribution operations will enable
us to take advantage of and address the increasingly complicated requirements of
the large and expanding demand for complete trim packages.
On April 3, 2000, we entered into a ten-year exclusive license and
distribution agreement with Talon, Inc. and Grupo Industrial Cierres Ideal, S.A.
de C.V., or GICISA. TALON is a leading brand of zippers with an eighty-year
history. These exclusive license and distribution rights give us the right to
distribute zippers and trim products under the TALON brand name in the United
States, Mexico, Canada and the Pacific Rim. We began shipping products under the
TALON brand name in July 2000. Our strategy is to expand the use of zippers
produced under this brand to create an attractive high quality alternative to
zippers produced by YKK, the market leading zipper brand.
On January 1, 2001, we acquired certain assets of Arzee Holdings, Inc.,
including Arzee's customer lists. As an element in our strategy to expand in the
Caribbean basin and Central America, we intend to develop Arzee Holdings' former
customer base in this region, including converting selected customers to
complete trim packages via our MANAGED TRIM SOLUTION program.
PRODUCTS
COMPLETE TRIM PACKAGES: We market and supply our customers with complete
trim packages on a per-garment basis which we assemble on behalf of our
customers and include all items of trim that a customer will need in the
manufacture of a particular item of apparel. Our complete trim packages include
a variety of trim items including thread, zippers, labels, buttons, rivets,
printed marketing material, polybags, packing cartons, and hangers. We also
provide in our complete trim packages printed marketing materials including hang
tags, bar-coded hang tags, pocket flashers, waistband tickets and size stickers
that are attached to products to identify and promote the products, permit
automated data collection, provide brand identification and communicate consumer
information such as a product's retail price, size, fabric content and care
instructions.
SEPARATE TRIM COMPONENTS: Separate from our marketing of complete trim
packages, we also provide individual items of trim to certain of our customers
who only need to source a portion of their trim requirements from us. Further,
for selected customers we also produce customized woven, leather, synthetic,
embroidered and novelty labels and tapes, which can be printed on or woven into
a wide range of fabrics and other materials using various types of high-speed
equipment. As an additional service, we will lease to our customers the
machinery used to attach the buttons, rivets and snaps we distribute.
TALON BRAND METAL AND SYNTHETIC ZIPPERS. We offer a full line of metal
and synthetic zippers bearing the TALON brand name. We have a ten-year exclusive
license agreement to distribute zippers and other related trim products under
the TALON brand name. TALON zippers are used primarily by manufacturers in the
apparel industry. Under our agreement with GICISA, the licensor of the TALON
trademark, we also have the right to extend the use of the TALON brand name to
trim items other than zippers such as buttons and rivets. We also have the right
to outsource TALON branded zippers to the extent GICISA determines not to
manufacture and supply zippers on an ongoing and competitively priced basis. We
are obligated to pay GICISA a royalty on our net sales of all TALON branded
products not purchased from GICISA.
RETAIL PACKAGING. Our retail packaging products include high-quality
paper boxes, metal tins, injection-molded packaging items and high-quality
shopping bags. We design and produce these products individually
Page 2
or as part of a program involving an entire coordinated packaging line for a
customer. Our retail packaging is used for a wide variety of products, including
wallets, watches, sunglasses, belts, undergarments and gift sets.
DESIGN AND DEVELOPMENT
We estimate that we design approximately 20% of the products we sell. We
have assembled an in-house creative team to produce products with innovative
designs that we believe distinguish our products from those of our competitors.
We support our skills and expertise in material procurement and
product-manufacturing coordination with product designs intended to meet fashion
demands, as well as functional and cost parameters. Many specialty design
companies with which we compete have limited sourcing or manufacturing
experience. These companies create designs that often cannot be implemented
because of difficulties in the manufacturing process, the expenses of required
materials, or because the resulting product is not functional. We attempt to
design products to function within the limitations imposed by the applicable
manufacturing framework. Using our manufacturing and sourcing experience, we
attempt to minimize the time-consuming delays that often arise in coordinating
the efforts of independent design houses and manufacturing facilities. By
supporting our material procurement and product manufacturing services with
design services, we believe that we reduce development and production costs and
deliver products to our customers sooner than many of our competitors. Our
development costs are low, most of which are borne by our customers.
CUSTOMERS
We have more than 700 customers. Our customers include well-known
apparel manufacturers, such as Tommy Hilfiger, A\X Armani Exchange, The Limited
Group, Tarrant Apparel Group, Azteca Production International and Swank, which
is a licensee of Yves Saint Laurent, Kenneth Cole, Geoffrey Beene and Pierre
Cardin, among others. Our clients also include specialty retailers such as
Miller's Outpost and mass merchant retailers such as J.C. Penny.
Commencing in December 1998, we began to provide trim products to
Tarrant Apparel Group for its operations in Tlaxcala, Mexico. We opened a
warehouse, distribution and partial assembly facility in Tlaxcala, Mexico to
service Tarrant Apparel Group and the increasing number of other garment and
apparel manufacturers doing business in the region. The Chief Executive Officer
and President of Tarrant Apparel Group are significant stockholders of Tag-It
Pacific, Inc. Tarrant Apparel Group accounted for approximately 48.1% of our net
sales for the year ended December 31, 2000.
On December 22, 2000, we entered into an exclusive supply agreement with
Hubert Guez, Paul Guez, Azteca Production International, Inc., AZT International
SA D RL, and Commerce Investment Group, LLC. Pursuant to this supply agreement
we will provide all trim-related products for certain programs manufactured by
Azteca Production International. The agreement provides for a minimum aggregate
total of $10,000,000 in annual purchases by Azteca Production International and
its affiliates during each year of the three-year term of the agreement, if and
to the extent, we are able to provide trim products on a basis that is
competitive in terms of price and quality. For purposes of the supply agreement,
the first year of the term is a 15-month year ending March 31, 2002 and each
year thereafter will be a 12-month year. In addition, we purchased on-hand trim
inventory (less obsolete inventory) held by Azteca Production and its affiliates
on December 22, 2000. Under the terms of the supply agreement, we issued
1,000,000 shares of restricted common stock to Commerce Investment Group, LLC.
The shares of restricted stock were issued at $4.00 per share, the market price
of our stock at the time of issuance. Azteca Production International has been a
significant customer of the Company for many years. This agreement is structured
in a manner that is well suited to allow us to utilize our MANAGED TRIM SOLUTION
system to supply Azteca Production International with its future trim program
requirements. We currently plan to expand our facilities in Tlaxcala, Mexico, to
service Azteca Production International's trim requirements.
Page 3
SALES AND MARKETING
We sell our principal products through our own sales force based in Los
Angeles, New York City, Florida and various other cities and states. We also
employ customer service representatives who are assigned to key customers and
provide in-house customer service support. Our senior executives have developed
relationships with our major customers at senior levels. These executives
actively participate in marketing and sales functions and the development of our
overall marketing and sales strategies. When we become the outsourcing vendor
for a customer's packaging or trim requirements, we position ourselves as if we
are an in-house department of the customer's trim procurement operation.
We consider a high level of customer service essential to our success.
We couple this with our MANAGED TRIM SOLUTION to offer our customers a complete
trim service. We believe this gives us a competitive edge over companies that
only offer selected trim components because it saves our customers time and
employee work hours in ordering and managing trim orders from several different
suppliers. Our MANAGED TRIM SOLUTION is our proprietary and evolving
business-to-business e-commerce system that allows us to provide our customers
with a customized, comprehensive system for the management of various aspects of
their trim programs. Our MANAGED TRIM SOLUTION is an Internet-based system which
provides customers with assistance in their ordering, production, inventory
management and just-in-time distribution of their trim and packaging
requirements. We are continuing to enhance and upgrade our MANAGED TRIM SOLUTION
software.
A significant portion of our sales are to customers based in the United
States. For the year ended December 31, 2000, sales to United States based
customers for shipments to production facilities in Mexico and Asia accounted
for 52.2% and 10.8%, of our revenues, respectively. We also market our products
to customers in Mexico, Asia, the Caribbean basin and Central America.
SOURCING AND ASSEMBLY
We have developed expertise in identifying the best materials, prices
and vendors for particular products and raw materials. This expertise enables us
to produce a broad range of packaging and trim products at various price points.
The majority of products that we procure and distribute are purchased on a
finished good basis. Raw materials used in the assembly of our trim kits are
available from numerous sources and are in adequate supply. We purchase products
from several qualified material suppliers including: Coats North America and
GICISA who together accounted, in the aggregate, for 26.6% of our purchases in
2000.
We are able to create most product artwork and any necessary films, dies
and molds used to design and manufacture our products. All bar-coded printing,
assembly and finishing of high-quality paper boxes, custom shopping bags and
point-of-sale packaging signage are performed internally by us. We also assemble
multi-part jean buttons. All other products that we design and sell are produced
by third party vendors. In connection with any TALON branded products, which are
produced by manufacturers other than GICISA, we are paying to GICISA a trademark
license fee. We are confident in our ability to secure high quality alternative
manufacturing sources. We intend to continue to outsource some production to
qualified vendors, particularly with respect to manufacturing activities that
require substantial investment in capital equipment.
Through our Hong Kong facility, we produce and distribute bar-coded hang
tags, distribute apparel packaging and coordinate the manufacture and
distribution of the full range of our products. The Hong Kong facility supplies
several significant packaging programs, services customers located in Asia and
the Pacific Rim and sources products for our Los Angeles based operations.
Through our assembly and finishing facility in Tijuana, Mexico, we complete the
assembly and finishing of many of our packaging products and distribute products
to Mexico-based manufacturers.
Our Florida facility, which opened in January 2001, distributes zipper
and trim-related products to the East Coast of the United States, the Caribbean
Basin, Mexico and Central America.
Page 4
INTELLECTUAL PROPERTY RIGHTS AND LICENSES
Several of our trademarks are the subject of applications for federal
trademark protection through registration with the U.S. Patent and Trademark
Office, including: "Tag-It" and "Managed Trim Solution". We have additional
trademarks as well as copyrights and software copyrights for which we rely on
common law protection. Under our license agreement with GICISA, we distribute
zippers branded with the TALON trademark.
COMPETITION
We compete in highly competitive and fragmented industries that include
numerous local and regional companies that provide some or all of the products
we offer. We also compete with United States and international design companies,
distributors and manufacturers of tag, trim, packaging products and zippers.
Some of our competitors, including Paxar Corporation, YKK, Universal Button,
Inc., Avery Denison Corporation and Scovill Fasteners, Inc. have greater name
recognition, longer operating histories and, in many cases, substantially
greater financial and other resources.
Because of our integrated material procurement and assembly capabilities
and our full service MANAGED TRIM SOLUTION, we believe that we are able to
effectively compete for our customers' business, particularly where our
customers require coordination of separately sourced production functions. We
believe that to successfully compete in our industry we must offer superior
product pricing, quality, customer service, design capabilities, and delivery
lead times. We also believe the TALON brand name will allow us to gain market
share in the zipper industry.
EMPLOYEES
As of December 31, 2000, we had approximately 370 full-time employees,
with approximately 80 employees in Los Angeles, 5 employees in New York, 11
employees in various other states, 35 employees in Hong Kong, 163 employees in
Tijuana, Mexico and 76 employees in Tlaxcala, Mexico. Our labor force in the
United States and Hong Kong are non-union. The employees at our Mexico
facilities are represented by two collective bargaining units, the Sindicato
"Mexico Moderno" De Trabajadores De La Baja California, C.R.O.M., and Sindicato
de Trabajadores y Empleados en General de la Confeccion de Ropa, Fabricacion,
Venta y Distribucion, Maquilas, Conexos y Similares del Estado de Pueblo. In
addition to our salaried and hourly workforce, we employ additional workers at
our Mexico facilities on a temporary basis when necessary to meet production and
assembly requirements. Our temporary work force ranges from zero to
approximately 100 workers at any one time throughout the year. We believe that
we have satisfactory employee and labor relations.
In January 2001, we opened an office, warehouse and distribution
facility in Medley, Florida. The majority of our TALON products were
consolidated into this facility to better supply the East Coast of the United
States and the Caribbean, Mexican and Central American markets. The facility
employs approximately 24 people.
ITEM 2. DESCRIPTION OF PROPERTY
Our headquarters are located in Los Angeles, California, where we lease
approximately 24,000 square feet of administrative, production, and warehouse
space. In addition to our Los Angeles facilities, we lease 2,600 square feet of
office space in New York, 20,000 square feet of warehouse space in Commerce
California, 31,300 square feet of warehouse space in Poway, California, 21,500
square feet of office and warehouse space in Medley, Florida, 20,000 square feet
of office and warehouse space in Kwun Tong, Hong Kong, two production and
warehouse facilities in Tijuana, Mexico, for a total of approximately 55,000
square feet, 15,000 square feet of warehouse space in Torreon, Mexico, and
22,000 square feet of warehouse, distribution and administration space in
Tlaxcala, Mexico.
Page 5
We have finalized the terms of a lease agreement to lease 8,844 square
feet of new office space for our corporate headquarters in Woodland Hills,
California, and anticipate executing the lease on April 3, 2001.
ITEM 3. LEGAL PROCEEDINGS
We currently have pending a number of claims, suits and complaints that
arise in the ordinary course of our business. We believe that we have
meritorious defenses to these claims and the claims are covered by insurance or,
after taking into account the insurance in place, would not have a material
effect on our consolidated financial condition if adversely determined against
us.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
Page 6
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
COMMON STOCK
Tag-It Pacific's Common Stock began trading on the American Stock
Exchange on January 23, 1998 under the symbol "TAG". The following table sets
forth, for the periods indicated, the high and low sales prices for the Common
Stock as reported by the American Stock Exchange.
HIGH LOW
YEAR ENDED DECEMBER 31, 1999
First Quarter............................. $ 9.88 $ 4.00
Second Quarter............................ 7.94 4.88
Third Quarter............................. 6.00 4.88
Fourth Quarter............................ 5.63 4.31
YEAR ENDED DECEMBER 31, 2000
First Quarter............................. $ 6.25 $ 4.63
Second Quarter............................ 5.12 4.25
Third Quarter............................. 4.67 3.75
Fourth Quarter............................ 4.50 3.34
On March 30, 2001, the closing sales price of the Common Stock as
reported on the American Stock Exchange was $4.00 per share. As of March 30,
2001, there were 33 record holders of our Common Stock.
RECENT SALES OF UNREGISTERED SECURITIES
On January 2, 2001, we issued 125,000 shares of our common stock to
Jeffery Robinson and Steven Zambito in consideration for the purchase of certain
assets of Arzee Holdings, Inc., a distributor of trim for apparel products.
DIVIDENDS
We have never paid dividends on our Common Stock. We intend to retain
any future earnings for use in our business and do not intend to pay any cash
dividends on our Common Stock in the foreseeable future.
Page 7
ITEM 6. SELECTED FINANCIAL DATA.
Fiscal Year Ended December 31,
--------------------------------
1998(1) 1999 2000
--------- --------- ---------
(IN THOUSANDS EXCEPT PER SHARE
INFORMATION)
OPERATIONS:
Total revenue $ 18,808 $ 32,385 $ 49,362
Income from operations $ 824 $ 2,406 $ 2,547
Net income $ 527 $ 1,731 $ 1,539
Net income per share - basic $ 0.12 $ 0.26 $ 0.23
Net income per share - diluted $ 0.11 $ 0.23 $ 0.21
Weighted average shares outstanding - basic 4,419 6,734 6,838
Weighted average shares outstanding - diluted 4,960 7,399 7,283
FINANCIAL POSITION (AT PERIOD END):
Cash, cash equivalents and short-term investments $ 2,065 $ 101 $ 128
Total assets $ 14,643 $ 19,855 $ 39,099
Capital lease obligations and notes payable $ 508 $ 1,031 $ 3,873
Stockholders' equity $ 7,090 $ 8,861 $ 14,791
Total liabilities and stockholders equity $ 14,643 $ 19,855 $ 39,099
PER SHARE DATA (AT END OF PERIOD):
Net book value per common share $ 1.05 $ 1.31 $ 1.88
Common shares outstanding 6,727 6,778 7,863
(1) We completed our initial public offering in January of 1998.
Page 8
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion and analysis should be read together with the
Consolidated Financial Statements of Tag-It Pacific and the notes to the
Consolidated Financial Statements included elsewhere in this Form 10-K.
This discussion summarizes the significant factors affecting the
consolidated operating results, financial condition and liquidity and cash flows
of Tag-It Pacific for the fiscal years ended December 31, 2000, 1999 and 1998.
Except for historical information, the matters discussed in this Management's
Discussion and Analysis of Financial Condition and Results of Operations are
forward looking statements that involve risks and uncertainties and are based
upon judgments concerning various factors that are beyond our control.
OVERVIEW
We specialize in the distribution of a full range of trim items to
manufacturers of fashion apparel, licensed consumer products, specialty
retailers and mass merchandisers. We act as an outsourced trim management
department for manufacturers of fashion apparel such as Tarrant Apparel Group
and Azteca Production International. We also serve as a supplier of trim items
to specific brands, brand licensees and retailers, including Tommy Hilfiger, A/X
Armani Exchange, Express, The Limited, Lerner and Swank, among others.
We have positioned ourselves as a fully integrated single-source
supplier of a full range of trim items for manufacturers of fashion apparel. Our
business focus is on servicing all of the trim requirements of our customers at
the manufacturing and retail brand name level of the fashion apparel industry.
We offer customers complete management of ordering, production, inventory
management and just-in-time distribution of their trim and packaging
requirements. We provide our customers with a full range of trim items including
thread, zippers, labels, buttons, rivets, printed marketing material, polybags,
packing cartons, and hangers. We also provide customers with printed marketing
materials including hang tags, bar-coded hang tags, pocket flashers, waistband
tickets and size stickers that are attached to products to identify and promote
the products, permit automated data collection, provide brand identification and
communicate consumer information such as a product's retail price, size, fabric
content and care instructions.
We also serve as a specified supplier for a variety of major brand and
private label oriented companies. In each case we seek to expand our services as
a supplier of select lines of trim items for such customers to being a preferred
or single source provider of all of such brand customer's authorized trim
requirements.
Revenues for all of our product lines are recognized at the time of
product shipment. Cost of goods sold consists primarily of raw material and
finished goods purchases, direct labor, certain overhead, art and design costs
associated with the product development process, die and printing plate charges,
finishing costs and freight-in costs.
During 2000, we worked to further refine our TAG-IT TURNKEY SYSTEM with
the goal of developing a next generation trim procurement management system,
which we have marketed as our MANAGED TRIM Solution. Our updated MANAGED TRIM
SOLUTION represents an evolution of our signature TAG-IT TURNKEY SYSTEM, and
will incorporate and synthesize our expertise in the field of trim item
distribution and procurement with the successful elements of the prior
generation TAG-IT TURNKEY SYSTEM. Our MANAGED TRIM SOLUTION is our proprietary
business-to-business e-commerce system that allows us to provide our customers
with a customized, comprehensive system for the management of various aspects of
their trim programs. Our MANAGED TRIM SOLUTION provides customers with
assistance in their ordering, production, inventory management and just-in-time
distribution of their trim and packaging requirements.
Page 9
On April 3, 2000, we entered into a ten-year exclusive license and
distribution agreement with Talon, Inc. TALON is a leading brand of zippers with
an eighty-year history. These exclusive license and distribution rights give us
the right to distribute zippers and trim products under the TALON brand name in
the United States, Mexico, Canada and the Pacific Rim. In exchange for these
exclusive distribution rights, we issued 850,000 shares of Series B Convertible
Preferred Stock to GICISA. After a period of 30 months from the issuance, the
shares will be convertible into our common stock once the average price per
share of the our common stock reaches or exceeds $8.00 for a 30-day consecutive
period. The preferred stock is automatically convertible into shares of our
common stock based on a rate of one minus the fraction of $2.50 over the average
per share closing price of our common stock for the 30-day period preceding the
conversion. We began shipping products under the Talon brand name in July 2000.
On January 2, 2001 we purchased certain assets including customer lists
of Arzee Holdings, Inc., a Florida-based distributor of trim products in the
apparel industry. As an element in our strategy to expand in the Caribbean basin
and Central America, we intend to develop Arzee Holdings' former customer base
in this region, including converting selected customers to complete trim
packages via our MANAGED TRIM SOLUTION program.
In February of 2001, we decided to terminate our license and
distribution agreement with the Virkler Company. The termination of this
relationship should not have a material effect on operations or revenues.
In accordance with our plans to restructure certain operations of our
business in 2001, we anticipate that we will incur expenses related to the
closing of our Tijuana, Mexico, facilities, and relocation of our operations
related to the TALON brand from Los Angeles, California, and Tijuana, Mexico, to
Medley, Florida. In addition, we also anticipate incurring charges in connection
with our planned reduction of our Hong Kong operations, and the relocation of
our corporate headquarters from Los Angeles, California, to Woodland Hills,
California. We also plan to eliminate certain corporate expenses related to
sales, customer service and general and administrative functions. Costs related
to restructuring of our business are anticipated to be approximately $950,000 in
the first quarter of 2001, as a result of which we expect to incur a loss in our
operating results for the first quarter of 2001. We estimate that our
restructuring of the Tijuana, Mexico operations, the Hong Kong operations and
our move into the new corporate headquarters will be completed by April 2001.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated selected statements
of operations data shown as a percentage of net sales.
YEAR ENDED
DECEMBER 31,
--------------------------
2000 1999 1998
------ ------ ------
Net sales.................................... 100.0 % 100.0 % 100.0 %
Cost of goods sold........................... 72.6 67.3 64.6
------ ------ ------
Gross profit................................. 27.4 32.7 35.4
Selling expenses............................. 4.2 5.0 9.2
General and administrative expenses.......... 18.0 20.2 21.8
------ ------ ------
Operating Income............................. 5.2 % 7.5 % 4.4 %
====== ====== ======
Page 10
YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 1999
NET SALES. Net sales increased approximately $17,000,000 (or 52.4%) to
$49,400,000 for the year ended December 31, 2000 from $32,400,000 for the year
ended December 31, 1999. The increase in net sales was the result of an increase
in trim-related sales under our exclusive license and distribution agreement of
TALON products, which began in July 2000, as well as to an increase in
trim-related sales from our Tlaxcala, Mexico operations to our largest customer,
Tarrant Apparel Group.
GROSS PROFIT. Gross profit increased approximately $2,900,000 to
$13,500,000 (or 28.0%) for the year ended December 31, 2000 from $10,600,000 for
the year ended December 31, 1999. Gross margin as a percentage of net sales
decreased to approximately 27.4% for the year ended December 31, 2000 as
compared to 32.7% for the year ended December 31, 1999. The reduction for the
year ended December 31, 2000 was primarily due to an increase in the proportion
of sales of trim products with lower gross margins that were included within the
complete trim package we offered to our customers through our MANAGED TRIM
SOLUTION, which accounted for in excess of 75% of net sales for the year ended
December 31, 2000, compared to 50% of net sales in the year ended December 31,
1999. In addition, sales of Talon products, with lower gross margins, accounted
for a significant percentage of net sales for the year ended December 31, 2000.
SELLING EXPENSES. Selling expense increased approximately $500,000 to
$2,100,000 for the year ended December 31, 2000 from $1,600,000 for the year
ended December 31, 1999. As a percentage of net sales, these expenses decreased
to 4.2% for the year ended December 31, 2000 compared to 5.0% for the year ended
December 31, 1999. This decrease was primarily due to a reduction of selling
expenses associated with the increased sales volume under MANAGED TRIM SOLUTION,
offset by a slight increase in non-recurring selling expenses due to the
introduction of the TALON product line.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
were $8,900,000 for the year ended December 31, 2000 and $6,600,000 for the year
ended December 31, 1999. The increase of $2,300,000 in these expenses was due to
additional staffing (including the addition of TALON customer service and
marketing personnel) and other expenses related to our exclusive license and
distribution agreement of TALON products and the expansion of operations at our
Tlaxcala, Mexico, and Hong Kong facilities. As a percentage of net sales, these
expenses decreased to 18.0% for the year ended December 31, 2000 compared to
20.2% for the year ended December 31, 1999, due to an increase in net sales that
exceeded the rate of increase in general and administrative expenses.
INTEREST EXPENSE. Interest expense increased approximately $496,000 (or
192.8%) to $753,000 for the year ended December 31, 2000 from $257,000 for the
year ended December 31, 1999. The proceeds of our January 1998 initial public
offering and our October 1998 private stock sale to KG Investment, LLC allowed
us to substantially reduce our use of factors during 1998 and 1999, which
reduced our cost of funds and bank borrowings during 1999. Due to expanded
operations, we have had to increase our borrowing under our credit facility with
Sanwa Bank, which greatly contributed to the increased interest expense for the
year ended December 31, 2000. We intend to continue to rely upon our credit
facilities for our working capital needs. We anticipate that we will incur
additional interest expense of $72,000 during the first quarter of 2001 as a
result of a three-month extension of our Sanwa Bank credit facility. Sanwa Bank
has renewed our credit facility until April 30, 2001 in order for us to complete
our negotiations with Sanwa Bank to extend the facility through July 31, 2001.
As part of the arrangement in renewing the Sanwa Bank credit facility, we
entered into a factoring agreement with Capstone Business Credit, LLC. Capstone
also agreed, to the extent that we are not able to secure more permanent
financing, to replace or refinance the Sanwa Bank credit facility when it
expires on July 31, 2001. We will also be amortizing over the 12 months
following March 31, 2001, certain other expenses and fees related to the
refinancing of our credit facility and the planned replacement of such credit
facility. To date, we have incurred, or have obligations to incur, refinancing
and replacement related expenses based on the financing arrangements described
above of approximately $507,000.
Page 11
PROVISION FOR INCOME TAXES. The provision for income taxes decreased
approximately $163,000 to $255,000 for the year ended December 31, 2000 as
compared to $418,000 for the year ended December 31, 1999. Income taxes
decreased for the year ended December 31, 2000 primarily due to decreased
taxable income. The Company was able to utilize net operating loss carry
forwards from its subsidiary, AGS Stationery, Inc. of approximately $430,000 to
offset taxable income during 2000 and 1999.
NET INCOME. Net income was $1,500,000 for the year ended December 31,
2000 as compared to net income of $1,700,000 for the year ended December 31,
1999, due to the factors set forth above.
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
NET SALES. Net sales increased approximately $13,600,000 (or 72.2%) to
$32,400,000 for the year ended December 31, 1999 from $18,800,000 for the year
ended December 31, 1998. The increase in net sales was primarily the result of a
broader product line and an increase in trim related sales from our Tehuacan,
Mexico operations to our largest customer, Tarrant Apparel Group, offset by a
decrease in trim related sales to other customers. Tarrant Apparel Group
accounted for $15,500,000 of net sales (or 47.9%) during the year ended December
31, 1999, as compared to net sales of $569,000 (or 3.0%) for the year ended
December 31, 1998.
GROSS PROFIT. Gross profit increased approximately $3,900,000 to
$10,600,000 (or 58.2%) for the year ended December 31, 1999 from $6,700,000 for
the year ended December 31, 1998. Gross margin as a percentage of net sales
decreased to approximately 32.7% as compared to 35.4% for the year ended
December 31, 1998. The reduction was primarily due to the shifting of some
personnel and associated costs into cost of goods sold and out of selling
expense. The remaining reduction was due to an increase in sales of trim
products with a lower gross margin that were included within the complete trim
package we offered to our customers through the TAG-IT TURNKEY system, which
accounted for approximately 50% of net sales for the year ended December 31,
1999.
SELLING EXPENSES. Selling expense decreased approximately $100,000 to
$1,600,000 for the year ended December 31, 1999 from $1,700,000 for the year
ended December 31,1998. As a percentage of net sales, these expenses decreased
to 5.0% for the year ended December 31, 1999 compared to 9.2% for the year ended
December 31, 1998. This decrease was due to the shifting of personnel and
associated costs into cost of goods sold and out of selling expense, and to our
use of the TAG-IT TURNKEY system with respect to approximately 50% of our sales,
which can be made at substantially lower cost.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased approximately $2,400,000 to $6,500,000 for the year ended December 31,
1999 from $4,100,000 for the year ended December 31, 1998. The increase in these
expenses was due to the combination of additional staffing and expenses related
to growth in our Mexico and Hong Kong facilities. We hired additional customer
service and marketing personnel. The increase in expenses was offset by a
decrease in expenses related to our discontinued line of specialty licensed
stationery products. As a percentage of net sales, these expenses decreased to
20.2% for the year ended December 31, 1999 compared to 21.8% for the year ended
December 31, 1998, due to an increase in net sales that exceeded the rate of
increase in general and administrative expenses.
INTEREST EXPENSE. Interest expense decreased approximately $42,000 (or
14.0%) to $257,000 for the year ended December 31, 1999 from $299,000 for the
year ended December 31, 1998. We used the proceeds of our January 1998 initial
public offering and our October 1998 private stock sale to KG Investment, LLC to
substantially reduce our use of factors, which reduced our cost of funds.
PROVISION FOR INCOME TAXES (BENEFIT). The provision for income taxes
(benefit) increased approximately $420,000 to $418,000 for the year ended
December 31, 1999 as compared to ($2,000) for the year ended December 31, 1998.
Income taxes increased primarily due to increased operating income, offset by
the use
Page 12
of net operating loss carry forwards from AGS Stationery, Inc. of approximately
$430,000 that were available to offset our taxable income during 1999.
NET INCOME. Net income was $1,700,000 for the year ended December 31,
1999 as compared to net income of $527,000 for the year ended December 31, 1998,
due to the factors set forth above.
LIQUIDITY AND CAPITAL RESOURCES
We currently satisfy our working capital requirements primarily through
cash flows generated from operations and borrowings under our secured credit
facility with Sanwa Bank. On September 30, 2000, the amount available under the
Sanwa Bank credit facility was $9,400,000 under a working capital line and
$556,000 under an equipment finance line. On September 30, 2000, the Sanwa Bank
credit facility was renewed through December 31, 2000. Since January 1, 2001,
Sanwa Bank has extended the Sanwa Bank credit facility on a daily basis for an
additional three months. In connection with this extension, interest rates were
increased from the bank's reference rate plus 2% to the bank's reference rate
plus 5%. The Sanwa Bank credit facility requires that we maintain certain
financial covenants related to net worth, tangible net worth, current ratio and
profitability. At December 31, 2000 and 1999, we were in compliance with these
covenants.
We are in the process of renegotiating our Sanwa Bank credit facility.
Sanwa Bank has advised us that it has renewed the credit facility through April
30, 2001, at the reduced interest rate of the bank's reference rate plus 3.5%,
in order for us to complete these negotiations to renew the credit facility
through July 31, 2001. As renewed through July 31, 2001, the credit facility
will provide for availability of up to $13,000,000, based on a borrowing base
formula related to our inventory and eligible accounts receivable, at an
interest rate to be determined at the time of the renewal. In connection with,
and subject to such renewal, we entered into a factoring agreement with
Capstone. As part of our financing relationship with Capstone, Capstone and
Sanwa Bank are negotiating an intercreditor agreement and a commitment
agreement. Under the terms of the commitment agreement, it is anticipated that
when the renewed Sanwa Bank credit facility expires on July 31, 2001, Capstone,
to the extent that we have not secured other permanent financing, will replace
or refinance the Sanwa Bank credit facility. The cost of Capstone issuing the
commitment letter to Sanwa Bank will be 1% of the total commitment covered. In
the event that Capstone replaces the obligations of Sanwa Bank on July 31, 2001,
it is anticipated that the rate of interest will be materially higher than that
paid currently or that paid under the renewed credit facility when supported by
the factoring agreement. The terms of this replacement facility have not been
finalized but will be finalized as part of the renewal of the Sanwa Bank credit
facility through July 31, 2001. The Company finds these rates unfavorable and
will seek an additional source of financing to replace the agreements with
Capstone and Sanwa Bank.
We cannot be certain that we will successfully complete our negotiations
to extend the Sanwa Bank credit facility beyond April 30, 2001. We cannot be
certain that additional financing will be available or that, if available, we
can obtain it on terms favorable to our stockholders and us.
In the event that we renew the Sanwa Bank facility through July 31,
2001, we cannot be certain that permanent financing will be available or that,
if available, we can obtain it on terms favorable to our stockholders beyond
July 31, 2001, in which case we will be obliged to continue under the terms of
the agreements with Capstone, which will expire in March 2002. We are currently
pursuing other long-term financing alternatives in order to replace the Sanwa
Bank credit facility and Capstone factoring agreement prior to July 31, 2001. We
currently have a proposal letter from a major financial institution that has
proposed to finance our working capital needs on a long-term basis on terms more
acceptable to us. We will continue to pursue this proposal and other financing
alternatives.
The factoring agreement with Capstone provides for the purchase of
eligible accounts receivable with or without recourse to the Company through
March 2002. Factor commissions are charged to us as a percentage of the accounts
factored under the terms of the agreement.
Page 13
At December 31, 2000, outstanding borrowings under the working capital
line and the equipment loan amounted to $9,400,000 and $556,436. At December 31,
1999, outstanding borrowings under the working capital line and the equipment
line amounted to $4,892,000 and $175,259. There were no open letters of credit
at December 31, 2000 or 1999.
In October 2000, in connection with the amendment of the line of credit
agreement with Sanwa Bank, we borrowed $500,000 from Mark Dyne, its Chairman, in
the form of a convertible secured subordinated promissory note. The note bears
interest at 11% per annum, is due on demand and convertible at any time into our
common stock at the market price of the stock on the date of the agreement. The
note is secured by substantially all of our assets and is subordinate to all of
our other obligations, including our pledge of substantially all of our assets
under the credit facility with Sanwa Bank.
Inventories at December 31, 2000 and 1999 include goods that are subject
to buyback agreements with the Company's customers. The buyback agreements
contain provisions related to the inventory purchased on behalf of the Company's
customers. In the event that inventories remain with the Company in excess of
six months from the Company's receipt of the goods from its vendors, the
customer is required to purchase the inventories from the Company under normal
invoice and selling terms. The majority of the inventories at December 31, 2000
are subject to these buyback agreements.
Pursuant to the terms of a factoring agreement for our Hong Kong
subsidiary, Tag-It Pacific Limited, the factor purchases our eligible accounts
receivable and assumes the credit risk with respect to those accounts for which
the factor has given its prior approval. As of December 31, 2000, the amount
factored without recourse was approximately $25,000 and the amount due from the
factor and recorded as a current asset was approximately $25,000. If the factor
does not assume the credit risk for a receivable, the collection risk associated
with the receivable remains with us. If the factor determines, at its
discretion, to advance against the receivable, the customer's payment obligation
is recorded as our receivable and the advance from the factor is recorded as a
current liability. There were no outstanding advances from the factor as of
December 31, 2000 and December 31, 1999.
As of December 31, 2000, we had outstanding related-party debt,
excluding the $500,000 convertible note mentioned above, of approximately
$383,000 and $2,600,000 at a weighted average interest rate of 10.5% and 10%,
and additional non-related-party debt of $25,200 at an interest rate of 10%. The
majority of related-party debt is due and payable on April 1, 2002, with the
remainder due on the fifteenth day following the date of delivery of written
demand for payment. As of December 31, 1999, we had outstanding related party
debt of $405,000 at a weighted average interest rate of 8.2% and additional
non-related party debt of $25,200 at a weighted average interest rate of 10%.
Our receivables increased from $5,200,000 at December 31, 1999 to
$13,000,000 at December 31, 2000. This increase was due primarily to increased
sales, increased related-party trade receivables and receivables from TALON
product sales.
Net cash used in operating activities was approximately $3,631,000 and
$3,877,000 for the years ended December 31, 2000 and 1999, respectively. The
decrease in cash used in operations for the year ended December 31, 2000
resulted primarily from increases in accounts receivable and inventories, which
was offset by increases in accounts payable and accrued expenses. Cash used in
operations for the year ended December 31, 1999 resulted primarily from
increased accounts receivables and inventories, offset by decreased accounts
payable from related parties.
Net cash used in investing activities was $2,060,000 and $1,545,000 for
the years ended December 31, 2000 and 1999, respectively. Net cash used in
investing activities for the years ended December 31, 2000 and 1999 consisted
primarily of capital expenditures for computer equipment upgrades and for the
procurement of production equipment.
Page 14
Net cash provided by financing activities was approximately $5,719,000
and $3,457,000 for the years ended December 31, 2000 and 1999, respectively. Net
cash provided by financing activities for the year ended December 31, 2000
primarily reflects increased borrowings under our credit facility and also
results from borrowings from related parties. Net cash provided by financing
activities for the year ended December 31, 1999 primarily reflects proceeds from
our credit facility, offset by the repayment of loans to related parties.
Net cash used in operating activities was approximately $3,877,000 and
$3,134,000 for the years ended December 31, 1999 and 1998, respectively. Cash
used in operations for the year ended December 31, 1999 resulted primarily from
increases in inventory and decreases in accounts payable related party,
partially offset by increases in accounts payable. Cash used in operations for
the year ended December 31, 1998 resulted primarily from decreased accounts
payable and increased accounts receivables, accounts receivable from related
parties and inventory.
Net cash used in investing activities was $1,545,000 and $839,000 for
the years ended December 31, 1999 and 1998, respectively. Net cash used in
investing activities consisted primarily of capital expenditures for computer
equipment upgrades, procurement of production equipment, purchase of equipment
in connection with the opening of our new facilities in Mexico and Hong Kong
and, in 1998, expenditures for office and assembly equipment in connection with
our Tijuana, Mexico facility.
Net cash provided by financing activities was approximately $3,457,000
and $5,994,000 for the years ended December 31, 1999 and 1998, respectively. Net
cash provided by financing activities for the year ended December 31, 1999
primarily reflects proceeds from our bank line of credit, offset by repayments
of notes payable to related parties. Net cash provided by financing activities
for the year ended December 31, 1998 results from our initial public offering
and proceeds from bank financing, offset by reductions in advances and/or loans
from factors, related parties and non-related parties.
As of December 31, 2000, we had cash of approximately $128,000, and a
cash overdraft of $585,000 and no availability remaining on our credit facility
with Sanwa Bank. In October 2000, in connection with the amendment of our Sanwa
Bank credit facility, we borrowed $500,000 from our Chairman as described above.
When the renewed Sanwa Bank credit facility expires on July 31, 2001, we will be
obliged to continue under the unfavorable terms of the agreements with Capstone,
unless we find an additional source of financing to replace the agreements with
Capstone. Our need for additional financing includes the integration and
expansion of our operations to exploit our rights under our new exclusive
license and distribution agreement with GICISA for TALON products that continue
to require additional cash resources for the increased operating expenses
associated with the new TALON product line. We believe that we will need to
obtain additional financing in order to provide adequate liquidity to fund our
business growth plans and operations during the next 12 months. We are
continually evaluating various financing strategies to be used to expand our
business and fund future growth or acquisitions. The extent of our future
capital requirements will depend, however, on many factors, including our
results of operations and the size and timing of future acquisitions. We cannot
be certain that additional financing will be available or that, if available, we
can obtain it on terms favorable to our stockholders and us.
NEW ACCOUNTING PRONOUNCEMENTS
In October 2000, we adopted Financial Accounting Standards Board SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities." This
statement establishes accounting and reporting standards requiring every
derivative instrument, including certain derivative instruments embedded in
other contracts, to be recorded in the balance sheet as either an asset or
liability measured at its fair value. The statement also requires changes in the
derivative's fair value be recognized in earnings unless specific hedge
accounting criteria are met. The adoption of SFAS 133 did not have a material
impact on the consolidated financial statements.
Page 15
In December 1999, the Securities and Exchange Commission ("SEC")
released Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in
Financial Statements," which provides guidance on the recognition, presentation
and disclosure of revenue in the financial statements filed with the SEC.
Subsequently, the SEC released SAB 101B, which delayed the implementation date
of SAB 101 for registrants with fiscal years that begin between December 16,
1999 and March 15, 2000. We were required to be in conformity with the
provisions of SAB 101, as amended by SAB 101B, no later than October 1, 2000. We
believe the adoption of SAB 101, as amended by SAB 101B, has not had a material
effect on our financial position, results of operations or cash flows for the
year ended December 31, 2000.
In March 2000, the FASB issued Interpretation No. 44, "Accounting for
Certain Transactions Involving Stock Compensation, the Interpretation of APB
Opinion No. 25" (FIN 44). The Interpretation is intended to clarify certain
problems that have arisen in practice since the issuance of APB No. 25,
"Accounting for Stock Issued to Employees." The effective date of the
Interpretation was July 1, 2000. The provisions of the Interpretation apply
prospectively, but they will also cover certain events occurring after December
15, 1998 and after January 12, 2000. The adoption of FIN 44 did not have a
material adverse affect on the current and historical consolidated financial
statements.
CAUTIONARY STATEMENTS AND RISK FACTORS
Several of the matters discussed in this document contain
forward-looking statements that involve risks and uncertainties. Factors
associated with the forward-looking statements that could cause actual results
to differ from those projected or forecast are included in the statements below.
In addition to other information contained in this report, readers should
carefully consider the following cautionary statements and risk factors.
IF WE DO NOT RESTRUCTURE OUR EXISTING CREDIT FACILITIES TO LOWER OUR
EFFECTIVE INTEREST RATES AND INCREASE OUR AVAILABLE DEBT FUNDING, OUR NET INCOME
WILL BE ADVERSELY AFFECTED. Sanwa Bank has advised us that it has renewed the
Sanwa Bank credit facility through April 30, 2001 in order for us to complete
our negotiations to renew our credit facility through July 31, 2001. Under such
renewed facility, our interest rates have decreased from the bank's reference
rate plus 5% to the bank's reference rate plus 3.5% for the 30-day renewal
period. We have also entered into a factoring agreement with Capstone, in
anticipation of renewing our Sanwa Bank credit facility through July 31, 2001.
Under a renewed credit facility, supported by Capstone, the interest rate
subsequent to the 30-day renewal period would be determined at the time of the
renewal and our financing cost under the Capstone factoring agreement would be
an additional 1% per month of the accounts factored under the terms of the
agreement. Further, we believe that although the new Capstone facility would
increase our borrowing availability, greater availability under our credit
facilities may be required to support our growth strategies. Therefore, we will
need to restructure our existing financing facilities in the near term. While we
believe we will be able to restructure our existing financing facilities in the
near term, if we are unable to restructure our existing facilities to obtain
interest rates that are closer to market lending rates and if we are unable to
obtain a line of credit with greater availability, our results of operations
will be adversely affected and we may be required to limit the implementation of
our current business plans and growth strategy. In connection with obtaining a
refinancing of our current credit facilities, we anticipate that we may need to
raise additional funds through equity financings during the next 12 months. Such
additional funds are expected to assist us in expanding our borrowing base under
our credit facilities and are expected to help us to borrow at lower interest
rates than we currently pay. We cannot guarantee that we will be able to
refinance our existing credit facilities, or that any refinancing will be on
terms that we deem favorable. We cannot guarantee that additional equity
financing will be available, or that if available, we can obtain it on terms
that we deem favorable. Our stockholders may be diluted if we raise additional
funds through the sale of our stock.
IF WE LOSE OUR LARGEST CUSTOMER, OUR SALES AND OPERATING RESULTS WILL BE
ADVERSELY AFFECTED. Our largest customer, Tarrant Apparel Group accounted for
approximately 48.1% of our net sales, on a consolidated basis, for the year
ended December 31, 2000, and approximately 47.9% of our net sales, on a
consolidated basis, for the year ended December 31, 1999. We may not be able to
derive the same level of sales from this customer in
Page 16
the future. The termination of our business relationship with this customer or a
material reduction in sales could significantly reduce our revenue.
IF WE ARE NOT ABLE TO MANAGE OUR RAPID EXPANSION AND GROWTH, OUR
REVENUES WILL BE ADVERSELY AFFECTED. We have recently experienced a significant
expansion of our operations. The growth of our operations and activities has
placed and will continue to place a significant strain on our management,
operational, financial and accounting resources. If we cannot implement and
improve our financial and management information and reporting systems, we will
not be able to implement our growth strategies and our revenues will be
adversely affected. In addition, we will not manage future growth, if any, and
increase production levels and continue to market and distribute our products,
if we cannot hire, train, motivate and manage new employees, including
management and operating personnel, and integrate them into our overall
operations and culture.
FLUCTUATIONS IN OPERATING RESULTS MAY RESULT IN UNEXPECTED REDUCTIONS IN
REVENUE AND STOCK PRICE VOLATILITY. We operate in an industry that is subject to
significant fluctuations in operating results from quarter to quarter, which may
lead to unexpected reductions in revenues and stock price volatility. Factors
that may influence our quarterly operating results include:
o the volume and timing of customer orders received during the
quarter;
o the timing and magnitude of customers' marketing campaigns;
o the loss or addition of a major customer;
o the availability and pricing of materials for our products;
o the increased expenses incurred in connection with the
introduction of new products;
o currency fluctuations; and
o changes in our product mix or in the relative contribution to
sales of our subsidiaries.
Due to these factors, it is possible that in some quarters our operating
results may be below the expectations of public market analysts and investors.
If this occurs, the price of our common stock would likely be adversely
affected.
CYCLICAL BUYING PATTERNS MAY RESULT IN PERIODS OF LOW SALES VOLUME. Most
of our customers are in the apparel industry. The apparel industry historically
has been subject to substantial cyclical variations. Our business has
experienced, and we expect our business to continue to experience, significant
cyclical fluctuations due, in part, to customer buying patterns, which may
result in periods of low sales. A recession in the general economy or
uncertainties regarding future economic prospects that affect consumer-spending
habits could also reduce our sales.
OUR BUSINESS MODEL IS DEPENDENT ON INTEGRATION OF INFORMATION SYSTEMS ON
A GLOBAL BASIS, AND, TO THE EXTENT THAT WE FAIL TO SUPPORT IT, CAN RESULT IN
LOST REVENUES. We must consolidate and centralize the management of our
subsidiaries and significantly expand and improve our financial and operating
controls. Additionally, we must effectively integrate the information systems of
Mexico and Central America with the information systems of our principal offices
in Los Angeles and Florida. To the extent we fail to integrate our information
systems on a global basis such failure can result in lost revenues, delay
financial reporting or adversely affect availability of funds under our credit
facilities.
BECAUSE WE GENERALLY DO NOT ENTER INTO LONG-TERM SALES CONTRACTS WITH
ALL OF OUR CUSTOMERS, OUR SALES MAY DECLINE IF OUR EXISTING CUSTOMERS CHOOSE NOT
TO BUY OUR PRODUCTS OR SERVICES. Very few of our customers are required to
purchase our products on a long-term basis. Our sales are generally evidenced by
a purchase order and similar documentation limited to a specific sale. As a
result, a customer from whom we generate substantial revenue in one period may
not be a substantial source of revenue in a future period. In addition, our
customers generally have the right to terminate their relationships with us
without penalty and on little or no notice. Without long-term contracts with the
majority of our customers, we cannot be certain that our existing
Page 17
customers will continue to purchase our products. Accordingly, we cannot
guarantee that we will be able to maintain a consistent level of sales.
WE DEPEND ON KEY MANAGEMENT, DESIGN AND SALES PERSONNEL TO OBTAIN AND
SECURE ACCOUNTS AND GENERATE SALES. Our success has and will continue to depend
to a significant extent upon certain key management and design and sales
personnel, many of whom would be difficult to replace, particularly Colin Dyne,
our Chief Executive Officer. Colin Dyne is not bound by an employment agreement
nor is he the subject of key man insurance. The loss of the services of Colin
Dyne or the services of other key employees could have a material adverse effect
on our business, including our ability to establish and maintain client
relationships. Our future success will depend in large part upon our ability to
identify, attract, assimilate, retain and motivate personnel with a variety of
design, sales, operating and managerial skills. We may not be able to do so.
BECAUSE OUR OFFICERS AND DIRECTORS OWN A SIGNIFICANT PORTION OF OUR
COMMON STOCK, THEY MAY BE ABLE TO INFLUENCE STOCKHOLDER VOTES AND DISCOURAGE
OTHERS FROM ATTEMPTING TO ACQUIRE US. As of December 31, 2000, our officers and
directors and their affiliates owned approximately 44.7% of the outstanding
shares of our common stock. The Dyne family, which includes Mark Dyne, Colin
Dyne, Larry Dyne, Jonathan Burstein and the estate of Harold Dyne, beneficially
owned approximately 41.7% of the outstanding shares of our common stock. The
number of shares beneficially owned by the Dyne family include the shares of
common stock held by Azteca Production International which are voted by Colin
Dyne pursuant to a voting agreement. The Azteca Production International shares
constitute approximately 12.4% of the outstanding shares of common stock. KG
Investments, LLC, a significant stockholder, owned approximately 30.4% of the
outstanding shares of our common stock with certain transfer and voting
restrictions. As a result, our officers and directors, the Dyne family and KG
Investments, LLC are able to exert influence over the outcome of all matters
submitted to a vote of the holders of our common stock, including the election
of our board of directors. The voting power of these stockholders could also
discourage others from seeking to acquire control of us through the purchase of
our common stock, which might depress the price of our common stock.
IF WE EXPERIENCE DISRUPTIONS AT ANY OF OUR FOREIGN PRODUCTION
FACILITIES, WE WILL NOT BE ABLE TO MEET OUR PRODUCTION OBLIGATIONS AND MAY LOSE
SALES AND CUSTOMERS. Some of our products are assembled or finished at our
foreign assembly facilities. Currently, we do not operate duplicate facilities
in different geographic areas. Therefore, in the event of a disruption in the
region in which we maintain our facilities, we cannot shift manufacturing
operations to a different geographic region and we may be required to cease or
limit our assembly or finishing operations. This may cause us to lose sales and
customers. The types of disruptions that may occur include:
o foreign trade disruptions;
o import restrictions;
o labor disruptions;
o embargoes;
o government intervention; and
o natural disaster.
BECAUSE WE DEPEND ON A LIMITED NUMBER OF SUPPLIERS, WE MAY NOT BE ABLE
TO ALWAYS OBTAIN MATERIALS WHEN WE NEED THEM AND WE MAY LOSE SALES AND
CUSTOMERS. Generally, we do not have long-term agreements with our key sources
of supply. Lead times for materials we order can vary significantly and depend
on many factors, including the specific supplier, the contract terms and the
demand for particular materials at a given time. From time to time, we
experience fluctuations in the prices, and disruptions in the supply, of
materials. Shortages or disruptions in the supply of materials, or our inability
to procure materials from alternate sources at acceptable prices in a timely
manner, could lead us to miss deadlines for orders and lose sales and customers.
OUR INTERNET-BASED SYSTEMS HOSTING MANAGED TRIM SOLUTION MAY EXPERIENCE
DISRUPTIONS AND AS A RESULT WE MAY LOSE REVENUES OR CUSTOMERS. Our MANAGED TRIM
SOLUTION is an Internet-based business-to-business e-commerce system.
Page 18
To the extent that we fail to adequately continue to update and maintain the
hardware and software implementing the MANAGED TRIM SOLUTION our customers may
experience interruptions in service due to defects in our hardware, or our
source code. In addition, since our MANAGED TRIM SOLUTION is Internet-based,
interruptions in Internet service generally can negatively impact our customers'
ability to use MANAGED TRIM SOLUTION to monitor and manage various aspects of
their trim needs. Such defects or interruptions could result in lost revenues or
lost customers.
THERE ARE MANY COMPANIES THAT OFFER SOME OR ALL OF THE PRODUCTS AND
SERVICES WE SELL. We compete in highly competitive and fragmented industries
with numerous local and regional companies that provide some or all of the
products and services we offer. We compete with United States and international
design companies, distributors and manufacturers of tags, packaging products and
trims. Some of our competitors, including Paxar Corporation, RVL, Inc, Universal
Button, Inc. and Scovill Fasteners, Inc., have greater name recognition, longer
operating histories and, in many cases, substantially greater financial and
other resources than us.
PRODUCT RETURNS THAT EXCEED OUR ANTICIPATED RESERVES COULD RESULT IN
WORSE THAN EXPECTED OPERATING RESULTS. We incur expenses when customers return
our products. Product returns or price protection concessions that exceed our
reserves could result in worse than expected operating results. Generally,
returned items have limited or no value and we are forced to bear the cost of
their return. Product returns also could result in lost revenue, delays in
market acceptance, diversion of development resources, increased service and
warranty costs and damage to our reputation. Products are returned for a number
of reasons, including as a result of:
o sale or return arrangements;
o defective goods;
o inadequate performance relative to customer expectations;
o shipping errors; and
o other causes which are outside of our control.
BECAUSE WE CONDUCT A SUBSTANTIAL PORTION OF OUR BUSINESS OUTSIDE OF THE
UNITED STATES, WE ARE SUBJECT TO MANY RISKS RELATING TO INTERNATIONAL BUSINESS
THAT MAY ADVERSELY AFFECT OUR OPERATING RESULTS. For the year ended December 31,
2000 and 1999, approximately 40% and 50%, respectively, of our products were
purchased, assembled or finished outside of the United States, principally in
Hong Kong and Mexico. We currently intend to continue to purchase, assemble
and/or finish a similar or greater percentage of our products outside of the
United States in the future. Our international business is subject to numerous
risks that could result in lost sales, increased costs and worse than expected
operating results, including:
o the need to comply with a wide variety of foreign and United
States export and import laws;
o changes in export or import controls, tariffs and other
regulatory requirements;
o the imposition of governmental controls;
o political and economic instability;
o trade restrictions;
o the difficulty of administering business overseas; and
o the general economic conditions of the countries in which we do
business.
If any of the above risks were to render the conduct of business in a
particular country undesirable or impractical, we may not be able to deliver
products to our customers and our sales will be lower.
IF OUR OVERSEAS SUPPLIERS DO NOT SHIP ORDERS TO US IN A TIMELY MANNER,
WE MAY LOSE SALES OR BE FORCED TO REDUCE SALES PRICES OF OUR PRODUCTS. We could
miss our customers' delivery requirements if our overseas contractors or
suppliers do not ship orders to us in a timely manner. If we fail to deliver
products on time, our customers
Page 19
could cancel orders, refuse to accept deliveries or require us to reduce the
sales price of the delivered products.
OUR PROPRIETARY TECHNOLOGY MAY NOT BE ADEQUATELY PROTECTED FROM
UNAUTHORIZED USE BY OTHERS, WHICH COULD INCREASE OUR LITIGATION COSTS AND
ADVERSELY AFFECT OUR SALES. We rely on trademark, trade secret and copyright
laws to protect our designs and other proprietary property. We cannot be certain
that these laws will be sufficient to protect our property. If litigation is
necessary in the future to enforce our intellectual property rights, to protect
our trade secrets or to determine the validity and scope of the proprietary
rights of others, such litigation could result in substantial costs and
diversion of resources. This could have a material adverse effect on our
operating results and financial condition. Ultimately, we may be unable, for
financial or other reasons, to enforce our rights under intellectual property
laws, which could result in lost sales. The laws of certain countries in which
our products are distributed or may be distributed in the future may not protect
our products and intellectual rights to the same extent as the laws of the
United States.
IF OUR PRODUCTS INFRINGE ANY PROPRIETARY RIGHTS OF OTHERS, A LAWSUIT MAY
BE BROUGHT AGAINST US THAT COULD REQUIRE US TO PAY LARGE LEGAL EXPENSES AND
JUDGMENTS AND REDESIGN OR DISCONTINUE SELLING OUR PRODUCTS. We believe that our
products do not infringe any valid existing proprietary rights of third parties.
Although we have received no communications from third parties alleging
infringement of any of their proprietary rights, we cannot be certain that any
infringement claims will not be made in the future. Any infringement claims,
whether or not meritorious, could result in costly litigation or require us to
enter into royalty or licensing agreements. If we are found to have infringed
the proprietary rights of others, we could be required to pay damages, cease
sales of the infringing products and redesign the products or discontinue their
sale. Any of these outcomes, individually or collectively, could have a material
adverse effect on our operating results and financial condition.
WE HAVE ADOPTED A NUMBER OF ANTI-TAKEOVER MEASURES THAT MAY DEPRESS THE
PRICE OF OUR COMMON STOCK. Our adoption of a stockholder's rights plan, our
ability to issue up to 2,750,000 shares of preferred stock and some provisions
of our certificate of incorporation and bylaws and of Delaware law could make it
more difficult for a third party to make an unsolicited takeover attempt of us.
These anti-takeover measures may depress the price of our common stock by making
third parties less able to acquire us by offering to purchase shares of our
stock at a premium to its market price. Our board of directors can issue up to
2,750,000 shares of preferred stock and determine the price, rights,
preferences, privileges and restrictions, including voting rights, of those
shares without any further vote or action by our stockholders. Our board of
directors could issue the preferred stock with voting, liquidation, dividend and
other rights superior to the rights of our common stock. The rights of holders
of our common stock will be subject to, and may be adversely affected by, the
rights of holders of the share purchase rights and of any preferred stock that
may be issued in the future. The issuance of preferred stock, while providing
desirable flexibility in connection with possible acquisitions and other
corporate purposes, could make it more difficult for a third party to acquire a
majority of our outstanding voting stock.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
All sales by the Company are denominated in U.S. dollars or the currency
of the country of origin and, accordingly, the Company does not enter into
hedging transactions with regard to any foreign currencies. Currency
fluctuations can, however, increase the price of the Company's products to its
foreign customers which can adversely impact the level of the Company's export
sales from time to time. The majority of the Company's cash equivalents are bank
accounts, and the Company does not believe it has significant market risk
exposure with regard to its investments.
Page 20
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors
Tag-It Pacific, Inc.
Los Angeles, California
We have audited the accompanying consolidated balance sheets of Tag-It
Pacific, Inc. as of December 31, 2000 and 1999, and the related consolidated
statements of income, stockholders' equity and cash flows for each of the three
years in the period ended December 31, 2000. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Tag-It
Pacific, Inc. at December 31, 2000 and 1999, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2000, in conformity with accounting principles generally accepted in the
United States of America.
/s/ BDO Seidman, LLP
Los Angeles, California
March 12, 2001 (except for Note 7,
which is dated April 2, 2001)
Page 21
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
TAG-IT PACIFIC, INC.
CONSOLIDATED BALANCE SHEETS
December December
31, 2000 31, 1999
------------- -------------
Assets
Current assets:
Cash and cash equivalents..................................... $ 128,093 $ 100,798
Due from factor............................................... 25,140 180,767
Trade accounts receivable, net................................ 3,466,314 2,846,122
Trade accounts receivable, related parties.................... 9,041,752 2,128,457
Due from related parties...................................... 513,614 269,049
Inventories................................................... 19,868,160 10,102,115
Prepaid expenses and other current assets..................... 738,735 1,193,073
------------- -------------
Total current assets............................................ 33,781,808 16,820,381
Property and equipment, net of accumulated depreciation
and amortization.............................................. 3,755,127 2,815,308
Other assets.................................................... 1,562,539 219,332
------------- -------------
Total assets.................................................... $ 39,099,474 $ 19,855,021
============= =============
Liabilities and Stockholders' Equity
Current liabilities:
Bank overdraft................................................ $ 584,831 $ -
Line of credit................................................ 9,956,436 5,067,259
Accounts payable.............................................. 8,228,677 4,225,661
Accrued expenses.............................................. 1,484,765 401,789
Income taxes payable.......................................... 66,942 219,310
Note payable.................................................. 25,200 25,200
Notes payable to related parties.............................. 882,970 405,149
Current portion of capital lease obligations.................. 250,403 254,023
------------- -------------
Total current liabilities....................................... 21,480,224 10,598,391
Capital lease obligations, less current portion................. 113,046 346,337
Deferred income tax liability................................... 113,335 48,818
Subordinated note payable to related party (Note 11)............ 2,601,470 -
------------- -------------
Total liabilities............................................... 24,308,075 10,993,546
------------- -------------
Commitments and contingencies (Note 14)
Stockholders' equity:
Preferred stock Series A, $0.001 par value; 250,000 shares
authorized; no shares issued or outstanding................... - -
Convertible preferred stock Series B, $0.001 par value;
3,000,000 shares authorized; 850,000 shares issued and
outstanding at December 31, 2000............................ 1,400,000 -
Common stock, $0.001 par value, 30,000,000 shares authorized;
7,863,244 shares issued and outstanding at December 31,
2000; 6,777,566 at December 31, 1999........................ 7,864 6,778
Additional paid-in capital.................................... 11,737,810 8,748,157
Retained earnings ............................................ 1,645,725 106,540
------------- -------------
Total stockholders' equity...................................... 14,791,399 8,861,475
------------- -------------
Total liabilities and stockholders' equity...................... $ 39,099,474 $ 19,855,021
============= =============
See accompanying notes to consolidated financial statements.
Page 22
TAG-IT PACIFIC, INC.
CONSOLIDATED STATEMENTS OF INCOME
Year Ended Year Ended Year Ended
December 31, December 31, December
2000 1999 31, 1998
-------------- ---------------- -------------
Net sales to unrelated parties............... $ 23,723,666 $ 16,740,836 $ 18,095,167
Net sales to related parties................. 25,638,000 15,644,000 712,900
-------------- ---------------- -------------
Total net sales.............................. 49,361,666 32,384,836 18,808,067
Cost of goods sold........................... 35,821,097 21,807,054 12,143,143
-------------- ---------------- -------------
Gross profit................................. 13,540,569 10,577,782 6,664,924
Selling expenses............................. 2,104,614 1,626,500 1,730,035
General and administrative expenses.......... 8,889,272 6,545,252 4,110,800
-------------- ---------------- -------------
Total operating expenses..................... 10,993,886 8,171,752 5,840,835
Income from operations....................... 2,546,683 2,406,030 824,089
Interest expense............................. 752,902 257,112 298,889
-------------- ---------------- -------------
Income before income taxes................... 1,793,781 2,148,918 525,200
Provision (benefit) for income taxes......... 254,596 418,253 (1,687 )
-------------- ---------------- -------------
Net income................................... $ 1,539,185 $ 1,730,665 $ 526,887
============== ================ =============
Basic earnings per share..................... $ 0.23 $ 0.26 $ 0.12
============== ================ =============
Diluted earnings per share................... $ 0.21 $ 0.23 $ 0.11
============== ================ =============
Basic weighted average shares outstanding.... 6,838,345 6,733,500 4,418,618
============== ================ =============
Diluted weighted average shares outstanding.. 7,283,261 7,398,838 4,959,880
============== ================ =============
See accompanying notes to consolidated financial statements.
Page 23
TAG-IT PACIFIC, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 2000, 1999 AND 1998
Preferred Stock Preferred Stock
Common Stock Series A Series B Additional Retained
------------------- --------------- ------------------ Paid-In Earnings
Shares Amount Shares Amount Shares Amount Capital (Deficit) Total
--------- -------- ------ ------- ------- ---------- ----------- ------------ ------------
BALANCE, JANUARY 1, 1998 2,470,011 $ 2,470 - $ - - $ - $ 957,530 $(2,151,012) $(1,191,012)
Initial public offering... 1,600,000 1,600 - - - - 4,663,635 - 4,665,235
Stock sales................ 2,390,000 2,390 - - - - 2,686,360 - 2,688,750
Debt conversion............ 266,666 267 - - - - 399,733 - 400,000
Net income................. - - - - - - - 526,887 526,887
--------- -------- ------ ------- ------- ---------- ----------- ----------- ------------
BALANCE, DECEMBER 31, 1998 6,726,677 6,727 - - - - 8,707,258 (1,624,125) 7,089,860
Common stock issued
upon exercise of
options and warrants....... 50,879 51 - - - - 40,899 - 40,950
Net income................. - - - - - - - 1,730,665 1,730,665
--------- -------- ------ ------- ------- ---------- ----------- ----------- ------------
BALANCE, DECEMBER 31, 1999 6,777,556 6,778 - - - - 8,748,157 106,540 8,861,475
Preferred stock issue
for distribution
rights..................... - - - - 850,000 1,400,000 - - 1,400,000
Common stock issued for
supply agreement and
inventory.................. 1,000,000 1,000 - - - - 2,799,000 - 2,800,000
Common stock issued for
settlement agreement....... 12,999 13 - - - - 57,546 - 57,559
Common stock issued
upon exercise of
options and warrants....... 72,689 73 - - - - 3,827 - 3,900
Tax benefit from issuance
of stock options........... - - - - - - 129,280 - 129,280
Net income................. - - - - - - - 1,539,185 1,539,185
--------- -------- ------ ------- ------- ---------- ------------ ----------- ------------
BALANCE, DECEMBER 31, 2000 7,863,244 $ 7,864 - $ - 850,000 $1,400,000 $11,737,810 $1,645,725 $14,791,399
========= ======== ====== ======= ======= ========== ============ =========== ============
See accompanying notes to consolidated financial statements.
Page 24
TAG-IT PACIFIC, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended Year Ended Year Ended
December December December
31, 2000 31, 1999 31, 1998
------------- ------------- -------------
Increase (decrease) in cash and cash equivalents
Cash flows from operating activities:
Net income.......................................... $ 1,539,185 $ 1,730,665 $ 526,887
Adjustments to reconcile net income to net cash
used in
operating activities:
Depreciation and amortization..................... 1,039,027 641,953 443,128
Increase (decrease) in deferred income tax
liability......................................... 64,517 (109,441) (48,513)
Gain on sale of assets............................ (14,584) - -
Stock issued for services......................... 57,559 - -
Increase (decrease) in allowance for doubtful 244,226
accounts.......................................... (216,115) 104,843
Changes in operating assets and liabilities:
Receivables, including related parties............ (7,622,086) (556,238) (1,517,773)
Inventories....................................... (4,408,021) (4,401,919) (3,369,065)
Prepaid expenses and other current assets......... 454,338 (240,471) (619,385)
Other assets...................................... (48,207) (172,648) 345,554
Accounts payable.................................. 4,003,016 1,587,213 (1,339,120)
Accounts payable, related party................... - (2,250,626) 2,250,626
Accrued expenses.................................. 1,082,976 (69,191) 49,666
Income taxes payable.............................. (23,088) 180,309 39,001
------------- ------------- -------------
Net cash used in operating activities................. (3,631,142) (3,876,509) (3,134,151)
------------- ------------- -------------
Cash flows from investing activities:
Additional loans to related parties................. (244,565) (108,081) (34,971)
Acquisition of property and equipment............... (1,832,816) (1,436,826) (803,885)
Proceeds from sale of equipment..................... 17,000 - -
------------- ------------- -------------
Net cash used in investing activities................. (2,060,381) (1,544,907) (838,856)
------------- ------------- -------------
Cash flows from financing activities:
Bank overdraft...................................... 584,831 - (306,565)
Net advances from factor............................ - - (1,404,133)
Proceeds from IPO, net.............................. - - 4,665,235
Proceeds from stock sale............................ - - 2,688,750
Proceeds from exercise of stock options and warrants 3,900 40,950 -
Proceeds from bank line of credit, net.............. 4,889,178 3,578,259 1,489,000
Payment of capital lease obligations................ (236,912) (85,009) -
Repayment of notes payable.......................... - (30,840) (462,983)
Proceeds from notes payable to related parties...... 685,000 160,000 -
Repayment of notes payable to related parties....... (207,179) (206,477) (675,075)
------------- ------------- -------------
Net cash provided by financing activities............. 5,718,818 3,456,883 5,994,229
------------- ------------- -------------
Net increase (decrease) in cash and cash equivalents.. 27,295 (1,964,533) 2,021,222
Cash and cash equivalents, beginning of year.......... 100,798 2,065,331 44,109
------------- ------------- -------------
Cash and cash equivalents, end of year................ $ 128,093 $ 100,798 $ 2,065,331
============= ============= =============
Supplemental disclosures of cash flow information:
Cash paid (received) during the year for:
Interest.......................................... $ 746,433 $ 269,116 $ 298,889
Income taxes paid................................. $ 237,415 $ 174,334 $ 83,951
Income taxes received............................. $ (21,400) $ - $ -
Non-cash financing activity:
Note payable converted to equity.................. $ - $ - $ 400,000
Capital lease obligations......................... $ - $ 685,369 $ -
Preferred stock issued in exchange for
distribution rights............................... $ 1,400,000 $ - $ -
Note to related party issued in exchange for
inventory of $2,830,024, less imputed interest
of $272,000....................................... $ 2,558,024 $ - $ -
Common stock issued in exchange for inventory..... $ 2,800,000 $ - $ -
See accompanying notes to consolidated financial statements.
Page 25
TAG-IT PACIFIC, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND BASIS OF PRESENTATION
The Company is the parent holding company of Tag-It, Inc., a California
corporation, Tag-It Pacific (HK) Ltd., a BVI corporation (formerly Tag-it
Printing & Packaging Ltd.), Tag-it de Mexico, S.A. de C.V., A.G.S. Stationery,
Inc., a California corporation ("AGS Stationery") and Pacific Trim & Belt, Inc.,
a California corporation (collectively, the "Subsidiaries"), all of which were
consolidated under a parent limited liability company on October 17, 1997 (the
"Consolidation") and became wholly-owned subsidiaries of the Company immediately
prior to the effective date of the Company's initial public offering in January
1998 (the "Offering"). Immediately prior to the Offering, the outstanding
membership units of Tag-It Pacific LLC were converted to 2,470,001 shares of
Common Stock of the Company (the Exchange and such conversions are referred to
as the "Conversion"). In November 1998, the Company formed a wholly-owned
subsidiary, Pacific Trim, SA de CV located in Tlaxcala, Mexico (now included in
"Subsidiaries"). All the activities of this company were merged into Tag-It de
Mexico, SA de CV, in 1999. In January 2000, the Company formed Tag-it Pacific
Limited, a Hong Kong corporation, and in April 2000, the Company formed Talon
International, Inc., a Delaware corporation. Both newly formed corporations are
100% wholly-owned Subsidiaries of Tag-it Pacific, Inc. Pacific Trim & Belt, Inc.
was dissolved during 2000.
The accompanying consolidated financial statements consist of the
Subsidiaries presented on a consolidated basis to give effect to the Conversion
as of the earliest period presented. The Conversion is treated as a
reorganization of entities under common control and was accounted for in a
manner similar to a pooling of interest. Accordingly, all references to shares
of Common Stock and related share prices have assumed the effects of the
Conversion. Effective in 1997, the Company changed its fiscal year-end from
August 31 to December 31.
On July 8, 1999, the Company changed the number of authorized common
shares from 15,000,000 to 30,000,000.
All significant intercompany accounts and transactions have been
eliminated in consolidation. Assets and liabilities of foreign subsidiaries are
translated at rates of exchange in effect at the close of the period. Revenues
and expenses are translated at the weighted average of exchange rates in effect
during the year. The resulting translation gains and losses are deferred and are
shown as a separate component of stockholders' equity and transaction gains and
losses are recorded in the consolidated statement of income in the period
incurred. During 2000, 1999 and 1998, foreign currency translation and
transaction gains and losses were not material.
NATURE OF BUSINESS
Tag-It Pacific, Inc. (the "Company") specializes in the distribution of
a full range of trim items to manufacturers of fashion apparel, licensed
consumer products, specialty retailers and mass merchandisers. The Company acts
as an outsourced trim management department for manufacturers of fashion apparel
such as Tarrant Apparel Group and Azteca Production International. The Company
also serves as a specified supplier of trim items to specific brands, brand
licensees and retailers, including Tommy Hilfiger, A\X Armani Exchange, Express,
Lerner and Swank, among others.
Page 26
TAG-IT PACIFIC, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
REVENUE RECOGNITION
Sales are recorded at the time of shipment and when collection is
reasonably assured.
COMPREHENSIVE INCOME
The Company has adopted Statement of Financial Standard No. 130,
"Reporting Comprehensive Income" ("SFAS 130"), issued by the FASB and effective
for financial statements with fiscal years beginning after December 15, 1997.
SFAS 130 establishes standards for reporting and display of comprehensive income
and its components in a full set of general-purpose financial statements.
Adoption of SFAS 130 did not have an impact on the Company's consolidated
financial position or results of operations for the years ended December 31,
2000, 1999 and 1998.
SEGMENTS OF AN ENTERPRISE
The Company has adopted Statement of Financial Standard No. 131,
"Disclosures about Segments of an Enterprise and Related Information" ("SFAS
131"), issued by the FASB and effective for financial statements with fiscal
years beginning after December 15, 1997. SFAS 131 requires that public companies
report certain information about operating segments, products, services and
geographical areas in which they operate and their major customers. The Company
believes that it operates within one segment as there is not enough difference
between the types of products manufactured and distributed by the Company to
justify segmented reporting by product type. Adoption of SFAS 131 resulted in
expanded disclosures regarding geographical regions (Note 15).
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an
initial maturity of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or
market (net realizable value).
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Maintenance and repairs are
charged to expense as incurred. Upon retirement or other disposition of property
and equipment, applicable cost and accumulated depreciation and amortization are
removed from the accounts and any gains or losses are included in results of
operations. The Company capitalizes the cost of films, dies, molds and art
designs. The costs capitalized include direct material and direct labor costs.
Depreciation of property and equipment is computed using the
straight-line method based on estimated useful lives ranging from five to seven
years. Leasehold improvements are amortized using the straight-line method over
the term of the lease or the estimated life of the related improvements,
whichever is shorter.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company periodically assesses the recoverability of the carrying
amounts of long-lived assets, including intangible assets. A loss is recognized
when expected undiscounted future cash flows are less than the carrying amount
of the asset. The impairment loss is the difference by which the carrying amount
of the
Page 27
TAG-IT PACIFIC, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
asset exceeds its fair value. The Company did not record any losses due to
impairment of long-lived assets during the years ended December 31, 2000, 1999
and 1998.
RECLASSIFICATION
Certain reclassifications have been made to the prior year financial
statements to conform with the 2000 presentation.
INCOME TAXES
The Company uses the asset and liability method of accounting for income
taxes. Deferred income taxes are recognized based on the differences between
financial statement and income tax bases of assets and liabilities using enacted
tax rates in effect for the year in which the differences are expected to
reverse. Valuation allowances are established, when necessary, to reduce
deferred tax assets to the amount expected to be realized. The provision for
income taxes represents the tax payable or benefit for the period and the change
during the year in deferred tax assets and liabilities.
STOCK-BASED COMPENSATION
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), establishes a fair value method of
accounting for stock-based compensation plans and for transactions in which a
company acquires goods or services from non-employees in exchange for equity
instruments. SFAS 123 also gives the option to account for stock-based
compensation in accordance with Accounting Principles Board Opinion No. 25 ("APB
25"), "Accounting for Stock issued to Employees," or SFAS 123. The Company has
chosen to account for stock-based compensation for employees utilizing the
intrinsic value method prescribed in APB 25 and not the fair value method
established by SFAS 123. Accordingly, compensation cost for stock options is
measured as the excess, if any, of the fair market price of the Company's stock
at the measurement date over the amount an employee must pay to acquire stock.
Under SFAS 123, the Company presents in a footnote the effect of
measuring the cost of stock-based employee compensation at the grant date based
on the fair value of the award and recognizes this cost over the service period.
The value of the stock-based award is determined using a pricing model whereby
compensation cost is the excess of the fair value of the option as determined by
the model at grant date or other measurement date.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles 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 year.
Actual results could differ from those estimates.
FAIR VALUE OF FINANCIAL INFORMATION
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments for which it is practicable to
estimate that value. ACCOUNTS RECEIVABLE AND DUE FROM FACTOR: Due to the
short-term nature of the receivables, the fair value approximates the carrying
value. DUE FROM RELATED PARTIES AND NOTES PAYABLE TO RELATED PARTIES: Due to the
short-term nature and current market borrowing rates of the loans and notes, the
fair value approximates the carrying value. LINE OF CREDIT, CAPITAL LEASE
OBLIGATIONS AND NOTES PAYABLE: Estimated to approximate fair value based upon
current market borrowing rates for loans with similar terms and maturities.
Page 28
TAG-IT PACIFIC, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NEW ACCOUNTING PRONOUNCEMENTS
In October 2000, the Company adopted Financial Accounting Standards
Board SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities." This statement establishes accounting and reporting standards
requiring derivative instrument, including certain derivative instruments
embedded in other contracts, be recorded in the balance sheet as either an asset
or liability measured at its fair value. The statement also requires changes in
the derivative's fair value be recognized in earnings unless specific hedge
accounting criteria are met. The adoption of SFAS 133 did not have a material
impact on the consolidated financial statements.
In December 1999, the Securities and Exchange Commission ("SEC")
released Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in
Financial Statements," which provides guidance on the recognition, presentation
and disclosure of revenue in the financial statements filed with the SEC.
Subsequently, the SEC released SAB 101B, which delayed the implementation date
of SAB 101 for registrants with fiscal years that begin between December 16,
1999 and March 15, 2000. The Company was required to be in conformity with the
provisions of SAB 101, as amended by SAB 101B, no later than October 1, 2000.
The Company believes the adoption of SAB 101, as amended by SAB 101B, has not
had a material effect on the financial position, results of operations or cash
flows of the Company for the year ended December 31, 2000.
In March 2000, the FASB issued Interpretation No. 44, "Accounting for
Certain Transactions Involving Stock Compensation, the Interpretation of APB
Opinion No. 25" (FIN 44). The Interpretation is intended to clarify certain
problems that have arisen in practice since the issuance of APB No. 25,
"Accounting for Stock Issued to Employees." The effective date of the
Interpretation was July 1, 2000. The provisions of the Interpretation apply
prospectively, but they will also cover certain events occurring after December
15, 1998 and after January 12, 2000. The adoption of FIN 44 did not have a
material affect on the current and historical consolidated financial statements.
NOTE 2--EARNINGS PER SHARE
The Company has adopted Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128, "Earnings Per Share."
The following is a reconciliation of the numerators and denominators of
the basic and diluted earnings per share computations:
December 31, 2000 December 31, 1999 December 31, 1998
--------------------------------- --------------------------------- -----------------------------------
Per Per Per
Income Shares Share Income Shares Share Income Shares Share
Years ended: (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
- ----------------------- ----------- ------------- ------ ----------- ------------- ------ ----------- ------------- ------
Basic earnings per
share:
Income available
to common
stockholders... $1,539,185 6,838,345 $ 0.23 $ 1,730,665 6,733,500 $ 0.26 $ 526,887 4,418,618 $ 0.12
Effect of dilutive
securities:
Options........... 386,903 427,904 498,677
Warran