10-Q 1 y99734e10vq.txt FORM 10-Q MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES SEC Form 10-Q June 30, 2004 and 2003 2925MABAL UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarter ended June 30, 2004 or [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ------- to -------------------------------------- Commission File Number: 0-24176 Marisa Christina, Incorporated -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 11-3216809 -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 8101 Tonnelle Avenue, North Bergen,New Jersey 07047-4601 -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (201)-758-9800 -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes [ ] No [X] The number of shares outstanding of the Company's Common Stock on August 2, 2004 were 7,295,065. MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES INDEX

PART I: FINANCIAL INFORMATION ITEM I: CONSOLIDATED FINANCIAL STATEMENTS MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS

(1) Amounts were derived from the audited consolidated balance sheet as of December 31, 2003. See accompanying notes to consolidated financial statements. 2 MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES Consolidated Statements of Operations (Unaudited)

See accompanying notes to consolidated financial statements 3 MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES Consolidated Statements of Cash Flows Six Months Ended June 30, 2004 and 2003 (Unaudited)

See accompanying notes to consolidated financial statements 4 MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES Notes to Consolidated Financial Statements Six months ended June 30, 2004 and 2003 (Unaudited) (1) BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements include the accounts of Marisa Christina, Incorporated and its wholly owned subsidiaries (the "Company"). Significant intercompany accounts and transactions are eliminated in consolidation. The unaudited consolidated financial statements do not include all information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America. For further information, such as the significant accounting policies followed by the Company, refer to the notes to the Company's audited consolidated financial statements, included in its annual report on Form 10-K for the year ended December 31, 2003. In the opinion of management, the unaudited consolidated financial statements include all necessary adjustments (consisting of normal, recurring accruals), for a fair presentation of the financial position, results of operations and cash flows for the interim periods presented. The results of operations for the three and six month periods ended June 30, 2004 and 2003 are not necessarily indicative of the operating results to be expected for a full year. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) REVENUE AND RECEIVABLES Revenue is recognized when title and risk of ownership transfers to the customer, which is when the product is shipped to the customer. Allowances are provided for estimated uncollectible receivables based on review of specific accounts and historical experience. Allowances and credits, which are given to customers in connection with sales incentives and promotional activities, are recognized as reductions of sales when the related sales revenue is earned and recognized. As of June 30, 2004 and December 31, 2003, the Company's reserves for sales allowances were $353,000 and $1,328,000, respectively. Such amounts are recorded as reductions to trade accounts receivable. (b) STOCK OPTION PLAN The Company applies the intrinsic-value-based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations including FASB Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB Opinion No. 25, issued in March 2000, to account for its fixed-plan stock options. Under this method, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. SFAS No. 123, Accounting for Stock-Based Compensation, established accounting and disclosure requirements using a fair-value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123, the Company has elected to continue to apply the intrinsic-value-based method of accounting described above, and has adopted only the disclosure requirements of SFAS No. 123. 5 MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES Notes to Consolidated Financial Statements Six months ended June 30, 2004 and 2003 (Unaudited) The following table illustrates the effect on net loss if the fair-value-based method had been applied to all outstanding and unvested awards for the three and six months ended June 30, 2004 and 2003:

(C) COMPREHENSIVE LOSS Comprehensive loss for the three and six months ended June 30, 2004 was $747,767 and $1,021,487, respectively. Comprehensive loss was equal to net loss for the three and six months ended June 30, 2003. Comprehensive loss includes the Company's net loss and the change in the foreign currency translation adjustment. (3) INVENTORIES Inventories at June 30,2004 and December 31, 2003 consist of the following:

(4) BORROWINGS UNDER CREDIT FACILITY The Company has a $17.5 million line of credit facility with a finance company, which may be utilized for commercial letters of credit, banker's acceptances, commercial loans and letters of indemnity. Borrowings under the facility are secured by certain of the Company's assets, primarily inventory and trade accounts receivable, and bear interest at the prime rate plus 0.75%. The Company is required to pay an annual commitment fee of approximately $50,000. The credit facility contains various covenants that require minimum levels of working capital and net tangible worth. 6 MARISA CHRISTINA, INCORPORATED AND SUBSIDIARIES Notes to Consolidated Financial Statements Six months ended June 30, 2004 and 2003 (Unaudited) As of June 30, 2004, there were no borrowings outstanding and approximately $79,200 of commercial letters of credit outstanding under the credit facility. Available borrowings at June 30, 2004 were $2.5 million. The arrangement expires on June 14, 2006 and is cancelable by either party with 90 days' written notice. The Company expects to have sufficient financing to meet its working capital needs throughout the next twelve months. As of December 31, 2003, there were no borrowings outstanding and approximately $79,200 of commercial letters of credit outstanding under the credit facility. (5) NET LOSS PER COMMON SHARE Basic and diluted net loss per common share are based on the weighted average number of common shares outstanding, which was 7,295,065 for the three and six months ended June 30, 2004 and 2003. The effect of stock options outstanding during the three and six months ended June 30, 2004 and 2003 was not included in the computation of diluted loss per common share because the effect would have been antidilutive. (6) LEGAL PROCEEDINGS The Company is involved, from time to time, in litigation and proceedings arising out of the ordinary course of business. There are no pending material legal proceedings or environmental investigations to which the Company is a party or to which the property of the Company is subject. 7 ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with Marisa Christina's consolidated financial statements. FORWARD-LOOKING STATEMENTS This report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. The statements regarding Marisa Christina in this document that are not historical in nature, particularly those that utilize terminology such as "may," will," "should," "likely," "expects," "anticipates," "estimates," "believes" or "plans," or comparable terminology are forward-looking statements based on current expectations about future events, which Marisa Christina has derived from information currently available. These forward-looking statements involve known and unknown risks and uncertainties that may cause our results to be materially different from results implied in such forward-looking statements. Those risks include, among others, risks associated with the apparel industry, the dependence on senior management maintaining sufficient working capital financing, price pressures and other competitive factors, and a softening of retailer or consumer acceptance of the Company's products leading to a decrease in anticipated revenues and gross profit margins. CRITICAL ACCOUNTING POLICIES Critical accounting policies are those that are both important to the presentation of our financial condition and results of operations and require management's most difficult, complex or subjective judgments. The Company's most critical accounting policies relate to estimates related to allowances for uncollectible receivables, customer sales allowances, valuation of inventories and valuation of deferred tax assets. Receivables Allowances are provided for estimated uncollectible receivables based on review of specific accounts and historical experience. Allowances and credits, which are given to customers in connection with sales incentives and promotional activities, are recognized as reductions of sales when the related sales revenue is earned and recognized. Events or changes in market conditions that adversely impact our customers or the Company's ability to generate sales, could impact management's estimates of uncollectible receivables or require the Company to offer greater sales incentives, which could negatively impact sales or profits in the future. As of June 30, 2004, the Company has allowances for bad debts of approximately $291,000 and reserves for sales allowances of approximately $353,000. Inventories Inventories are stated at the lower of cost, by the first-in, first-out method or market. In assessing the market value of its inventories, particularly those with slower turnover, the Company considers the estimated sales value less costs to dispose and a reasonable profit margin and assesses the likelihood of realizing the recorded amounts of inventory. Changes in market conditions could impact the Company's ability to achieve sales at the estimated selling prices and could negatively impact the carrying value of the Company's inventory. 8 Valuations of Deferred Tax Assets Deferred income taxes arise from temporary differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. Management makes an assessment of the realizability of the Company's deferred tax assets. In making this assessment, management considers whether it is more likely than not that some or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities and projected future taxable income of the Company in making this assessment. A valuation allowance is recorded to reduce the total deferred income tax assets to its net realizable value. The Company's deferred tax assets related primarily to a U.S. net operating loss carryforward of $29.8 million which can be utilized over the next twenty years. Based on the Company's recent operating results and projections of future profitability, management believes it is more likely than not that the Company will generate sufficient taxable income to recover the carrying amount of its deferred tax assets. The recovery of the remaining net deferred tax assets is significantly less certain and, accordingly, the Company has established a valuation allowance for the balance of its deferred tax assets. If future taxable income is less than management's estimates, the amount of the net deferred tax assets on the Company's consolidated balance sheet will require an additional valuation allowance. Additionally, if the Company is able to realize higher taxable income the valuation allowance could be reduced. OVERVIEW In order to reverse the trend of continuing losses, the Company undertook a number of initiatives over the past few years to reduce overhead, replace certain sales and marketing personnel and exit unprofitable product lines. The Company returned to profitability in 2001 and 2002 primarily as a result of these initiatives and focusing on its core business. The Company operations are seasonal and year to date results are in line with historical trends and management expectations. While there can be no assurance, management believes that the Company will be profitable during the second half of 2004 and the full year. The following table sets forth information with respect to the percentage relationship to net sales of certain items of the consolidated statements of operations of the Company for the three and six months ended June 30, 2004 and 2003.

9 THREE MONTHS ENDED JUNE 30, 2004 (2004) COMPARED WITH THREE MONTHS ENDED JUNE 30, 2003 (2003) Net sales. Net sales decreased 9.2% from $2.8 million in 2003 to $2.5 million in 2004, primarily as a result of timing differences whereby some sales were shipped in the first quarter this year. This decrease was somewhat mitigated by a higher level of sales to liquidate inventory from older seasons. Gross profit. Gross profit decreased 41.2% from $405,347 in 2003 to $238,315 in 2004, primarily due to the sale of a higher percentage of products from older seasons, which were sold at lower margins. The impact of such sales in this low volume quarter tend to be magnified. As a percentage of net sales, gross profit decreased from 14.7% in 2003 to 9.5% in 2004, primarily for the same reason. In addition, margins for the second quarter are lower than amounts achieved on an annual basis due to the impact of fixed, design and procurement costs during the Company's lowest sales volume quarter. Selling, general and administrative expenses. Selling, general and administrative expenses (SG&A) decreased 11% from $1.7 million in 2003 to $1.5 million in 2004 as a result of continuous cost reduction initiatives including reduced rent and salaries and the impact of the lower sales volume on variable selling and shipping expenses. As a percentage of net sales of the Company, SG&A decreased from 60.1% in 2003 to 58.9% in 2004. Other income, net. Other income, net, which consists of royalty and licensing income, was $62,538 and $59,998 in 2003 and 2004, respectively. Interest income, net. Interest income, net decreased from $10,229 in 2003 to $8,514 in 2004, as a result of lower invested balances and lower interest rates. Income tax benefit. Income tax changed from a benefit of $469,876 in 2003 to a benefit of $416,991 in 2004. The Company expects the tax benefit to be recovered in the third and fourth quarters as a result of profitable operations. As of December 31, 2003, the Company had net operating loss carryforwards of approximately $29.8 million, which can be used to offset future taxable income through 2023. Over the past several years, the Company has implemented a number of initiatives which have returned the Company to profitability. Based on the Company's recent operating results and projections of future profitability, management believes it is more likely than not that the Company will be able to recover the carrying amount of its net deferred tax assets. Net loss. Net loss increased from $706,329 in 2003 to $748,381 in 2004 as a result of the matters discussed above. SIX MONTHS ENDED JUNE 30, 2004 (2004) COMPARED WITH SIX MONTHS ENDED JUNE 30, 2003 (2003) Net sales. Net sales were level at $8.1 million in 2003 and 2004. Gross profit. Gross profit decreased 23.9% from $2.2 million in 2003 to $1.7 million in 2004. As a percentage of net sales, gross profit decreased from 27.1% in 2003 to 20.5% in 2004. Gross profit as a percentage of net sales was adversely impacted by price compression including deeper discounts to the major department stores without a corresponding decrease in the cost of goods sold and the sale of a higher percentage of products from older seasons, which were sold at lower margins in 2004. Management expects gross margins to return to their historic levels in the third and fourth quarters of 2004. Selling, general and administrative expenses. Selling, general and administrative expenses (SG&A) decreased 12% from $3.8 million in 2003 to $3.3 million in 2004 as a result of continuous cost reduction initiatives including reduced rent and salaries. As a percentage of net sales of the Company, SG&A decreased from 46.8% in 2003 to 40.9% in 2004. 10 Other income, net. Other income, net, which consists of royalty and licensing income, was $75,764 in 2003 and $93,597 in 2004. Interest income, net. Interest income, net decreased from $22,145 in 2003 to $16,796 in 2004, principally as the result of lower invested balances and lower interest rates. Income tax benefit. Income tax benefit changed from $501,918 in 2003 to $524,725 in 2004. The tax benefit recorded in the first six months of 2004 is expected to be recovered throughout the balance of 2004. Net loss. Net loss was $1.0 million in 2003 and 2004. SEASONALITY The Company's business is seasonal, with a substantial portion of its revenues and earnings occurring during the second half of the year as a result of the Fall and Holiday selling seasons. This is due to both a larger volume of unit sales in these seasons and traditionally higher prices for Fall and Holiday season garments, which generally require more costly materials than the Spring/Summer and Resort season. Merchandise from the Fall collection, the Company's largest selling season, and Holiday, the Company's next largest season, are shipped in the last two fiscal quarters. Merchandise for Resort, Spring/Summer and Early Fall, the Company's lower volume seasons, is shipped primarily in the first two quarters. In addition, prices of products in Resort, Spring/Summer and Early Fall collections average 5% to 10% lower than in other selling seasons. LIQUIDITY AND CAPITAL RESOURCES The Company has a $17.5 million line of credit facility with a finance company, which may be utilized for commercial letters of credit, banker's acceptances, commercial loans and letters of indemnity. Borrowings under the facility are secured by certain of the Company's assets, primarily inventory and trade accounts receivable, and bear interest at the prime rate plus 0.75%. The arrangement expires on June 14, 2006. The Company is required to pay an annual commitment fee of approximately $50,000. The credit facility contains various covenants that require minimum levels of working capital and net tangible worth. As of June 30, 2004, there were no borrowings outstanding and approximately $79,200 of commercial letters of credit outstanding under the credit facility. Available borrowings at June 30, 2004 were $2.5 million. During the six months ended June 30, 2004, the Company had capital expenditures of approximately $97,000 primarily for upgrading computer systems. Capital expenditures for the remainder of 2004 are expected to be approximately $33,000. These capital expenditures will be funded by internally generated funds and, if necessary, borrowings under the Company's credit facility. The Company's contractual cash obligations related to operating leases as of June 30, 2004 include approximately $260,000 for the remainder of 2004; $529,061 in 2005; $546,344 in 2006; $547,912 in 2007, $526,491 in 2008; and $2,737,930 thereafter. EXCHANGE RATES Although it is Company policy to contract for the purchase of imported merchandise in United States dollars, reductions in the value of the dollar could result in the Company paying higher prices for its products. During the last three fiscal years, however, currency fluctuations have not had a significant impact on the Company's cost of merchandise. The Company does not engage in hedging activities with respect to such exchange rate risk. IMPACT OF INFLATION The Company has historically been able to adjust prices, and therefore, inflation has not had, nor is it expected to have, a significant effect on the operations of the Company. 11 ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company's major market risk exposure is to changing interest rates. However, interest expense has not been and is not expected to be a material expense of the Company throughout 2004. The Company has implemented management monitoring processes designed to minimize the impact of sudden and sustained changes in interest rates. The Company's floating rate debt is based on the prime rate; however, there were no borrowings outstanding at June 30, 2004. Currently, the Company does not use foreign currency forward contracts or commodity contracts and does not have any material foreign currency exposure. All purchases from foreign contractors are made in United States dollars and the Company's investment in its foreign subsidiary was $140,000 at June 30, 2004. ITEM 4: CONTROLS AND PROCEDURES As of June 30, 2004, the Company carried out, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and the Company's Chief Financial Officer, an evaluation of the effectiveness of the design and operation of the Company's disclosure controls and procedures pursuant to Rule 13a-14 of the Securities Exchange Act of 1934. Based on that evaluation, the Company's Chief Executive Offer and Chief Financial Officer concluded that the Company's disclosure controls and procedures are effective in timely alerting them to material information which is required to be included in the periodic reports that the Company must file with the Securities and Exchange Commission. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect the internal controls subsequent to the date the Company completed its evaluation. 12 PART II. OTHER INFORMATION ITEM 1: LEGAL PROCEEDINGS The Company is involved, from time to time, in litigation and proceedings arising out of the ordinary course of business. There are no pending material legal proceedings or environmental investigations to which the Company is party or to which the property of the Company is subject. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The following are the results of the balloting at the Registrant's Annual Meeting of Stockholders held on May 11, 2004:

2. Ratification of the appointment of KPMG LLP as the independent public accountants of the Company for the year ending December 31, 2004.

3. In their discretion, the proxies are authorized to vote such other matters as may properly come before this annual meeting of shareholders.

ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 31.1 Section 302(a) certification of Michael H. Lerner, Chairman of the Board of Directors, Chief Executive Officer and President of the Company, dated August 9, 2004. 31.2 Section 302(a) certification of S. E. Melvin Hecht, Vice Chairman of the Board of Directors, Chief Financial Officer and Treasurer of the Company, dated August 9, 2004. 32.1 Section 906 certification of Michael H. Lerner, Chairman of the Board of Directors, Chief Executive Officer and President of the Company. 13 32.2 Section 906 certification of S. E. Melvin Hecht, Vice Chairman of the Board of Directors, Chief Financial Officer and Treasurer of the Company. (b) Reports on Form 8-K -- The following reports on Form 8-K were furnished during the quarter ended June 30, 2004: Marisa Christina Incorporated News Release dated May 17, 2004. 14 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: August 9, 2004 /s/ S. E. Melvin Hecht --------------------------------- S. E. Melvin Hecht Vice Chairman, Chief Financial Officer and Treasurer 15

MARISA CHRISTINA INC 10-Q