10-Q 1 v67137e10-q.txt FORM 10-Q 1 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 quarterly period ended September 30, 2000 [ ] TRANSITION REPORT PURSUANT OR TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period _____________ to _____________ Commission File Number: 1-10916 INTERVISUAL BOOKS, INC. (Exact name of registrant as specified in its charter) California 95-2929217 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.)

Registrant's telephone number, including area code: (310) 396-8708 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[ ] APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS: Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No[ ] APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date. As of September 30, 2000, there were 5,950,383 shares of common stock outstanding. 2 INTERVISUAL BOOKS, INC. TABLE OF CONTENTS

ii 3 INTERVISUAL BOOKS, INC. CONSOLIDATED BALANCE SHEETS (In thousands)

See notes to consolidated financial statements. 1 4 INTERVISUAL BOOKS, INC. STATEMENTS OF OPERATIONS (In thousands except per share data) (Unaudited)

See accompanying notes to financial statements. 2 5 INTERVISUAL BOOKS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS Increase (Decrease) in Cash and Cash Equivalents (In Thousands and Unaudited)

See notes to consolidated financial statements. 3 6 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS September 30, 2000 (unaudited) Note 1 - Statement of Information Furnished In the opinion of management the accompanying unaudited financial statements contain all adjustments (consisting only of normal and recurring accruals) necessary to present fairly the financial position as of September 30, 2000, and the results of operations for the three and nine month periods ended September 30, 2000, and cash flows for the nine month periods ended September 30, 2000 and 1999. These results have been determined on the basis of generally accepted accounting principles and practices applied consistently with those used in the preparation of the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1999. The results of operations for the three and nine month periods ended September 30, 2000, are not necessarily indicative of the results to be expected for any other period or for the entire year. Certain information and footnote disclosures normally included in financial statements presented in accordance with generally accepted accounting principles have been condensed or omitted. The accompanying financial statements should be read in conjunction with the Company's audited financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 1999. Note 2 - Loss Per Common Share The Company computes loss per common share under SFAS No. 128, "Earnings Per Share," which requires presentation of basic and diluted earnings (loss) per share. Basic earnings (loss) per common share is computed by dividing income or loss available to common shareholders by the weighted average number of common shares outstanding for the reporting period. Diluted earnings (loss) per common share reflects the potential dilution that could occur if securities or other contracts, such as stock options, to issue common stock were exercised or converted into common stock. Common stock options and warrants for the three and nine months ended September 30, 2000 and 1999 were not included in the computation of diluted loss per common share because the effect would be antidilutive. Note 3 - Lines of Credit The Company has a revolving line of credit facility with a bank that provides an asset based credit line of up to $2,500,000, subject to certain covenants. The Company may borrow against this line, as well as issue letters of credit. Advances under the facility bear interest at prime plus 2.5% and are secured by the Company's assets. This facility expires May 1, 2001. At September 30, 2000, the Company had an outstanding indebtedness of $2,475,000 and was out of compliance with certain financial statement covenants contained in the credit agreement. The Company was subsequently able to amend this agreement with the bank and was in compliance with all financial statement covenants, as amended. 4 7 In May 1999, the Company entered into a subordinated revolving line of credit agreement with a private party that provides for a line of credit of up to $2,300,000, originally scheduled to expire May 13, 2000. This line is subordinated to the bank line of credit. Advances under this line bear interest at 5% above LIBOR and are secured by the Company's assets. On March 23, 2000, the Company exercised its option to extend the line of credit for an additional 12 months to May 13, 2001, under the same terms and conditions. To extend this line of credit, the agreement required that warrants for 150,000 shares of the Company's common stock be issued. The Company valued the warrants at $.84 per share and will recognize the expense over the remaining term of the subordinated revolving line of credit. The warrants were issued on May 13, 2000 and are exercisable for up to two years after the issue date at a price of $1.7325. At September 30, 2000, the Company had an outstanding indebtedness of $2,300,000 under this line of credit. Note 4 - Liquidity The Company has experienced net losses and negative cash flows for the first nine months of the current fiscal year. Based on the Company's current projections and sales to date, the Company expects to incur a loss for the fourth quarter and fiscal year ending December 31, 2000. The Company has on its balance sheet a deferred tax item in the amount of $442,000 which may have to be expensed by year end 2000. In response to the losses and negative cash flow, the Company has implemented additional executive salary cuts and eliminated certain positions and is closely managing its cash and inventory levels. In addition, the Company is considering other possible strategic alternatives, including raising additional equity and/or debt financing. To assist in this process the Company has combined its efforts with Gerard Klauer Mattison & Company (GKM), a leading national investment banking firm. Under a signed agreement, GKM will advise the Company and search for and explore strategic alternatives including the possible sale of the Company. As of the date of this filing, the Company has not raised additional funds and no assurance can be given that any additional debt or equity financing will be available. If the Company is not successful in raising additional financing, its business and current operations will be materially adversely affected. Note 5 - Accounts Receivable and Payable Fast Forward has an agreement with its customers and suppliers that allows for returns of merchandise. Accordingly, a reserve for accounts receivable and payable has been provided. The reserve accounts require the use of significant estimates. Fast Forward believes the techniques and assumptions used in establishing the reserve accounts are appropriate. At September 30, 2000, Fast Forward recorded a reserve for returns against accounts receivable of $220,000 and a reserve for returns against accounts payable for $187,000. 5 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations GENERAL Intervisual Books, Inc. (the "Company") creates and produces interactive and three-dimensional books designed for children and adults. These products include picture books, playsets, board books and gift books. The Company's books incorporate dimensional and moveable features which require hand-assembly in the manufacturing process. Some titles require the incorporation of such materials as plush, plastic novelty elements and electronic audio chips into the finished books. The majority of the Company's concepts and ideas for projects are generated internally by the in house creative and editorial departments. Additional ideas and concepts are conceived by the illustrators and designers with whom the Company has been associated for many years. After the Company conceives an idea and makes a dummy book, key US and foreign publishers are consulted to determine if they are interested in publishing and marketing the book. If an agreement is reached, the Company and the publisher sign a co-publishing contract which stipulates that the publisher will purchase the title with exclusive rights to sell books in the English language to the book trade for generally a two to four year period. The Company also self-publishes titles and offers the books directly to retailers. The 1999 acquisition of Fast Forward Marketing, Inc. brought to the Company a trained sales force which enhances the Company's ability to sell and service retailers. As a result of the Fast Forward acquisition, the Company also distributes video and audio products. The Fast Forward Marketing sales force started selling the Company's self-published titles effective June 1, 1999. Prior to this, the Company marketed its products to retailers using the services of Andrews McMeel, a leading US publisher/distributor located in Kansas City. Andrews McMeel handled sales, collection, billing, warehousing and order fulfillment functions. Effective January 1, 2000, this arrangement ended and all sales, collections, and billing was brought in house, while warehousing and order fulfillment is being handled by an independent company located in University Park, Illinois. The market for packaged books has gone through recent changes which has made it more difficult for the Company to generate co-editions. In the past five years, there has been a consolidation trend in the US publishing industry that has reduced the number of the Company's customers. Many of the surviving children's imprints are still consolidating, which is continuing to have a negative impact on the size and frequency of their orders. The need to offset this decline is the main reason behind the Company's decision to self-publish certain of its titles. The Company's self-publishing program is in its third year and the results continue to improve. The Company does not engage in any of its own printing, binding, hand assembly, or manufacturing. These services are contracted for with independent printers in Colombia, Singapore, Hong Kong and Thailand. The Company supplies its printers with artwork, color-separated materials and complete sample materials to serve as guides for hand-assembly. 6 9 RESULTS OF OPERATIONS Net sales for the three and nine month periods ended September 30, 2000 were $6,119,000 and $14,372,000 as compared to $6,598,000 and $11,875,000 last year. This was a decrease of $479,000 for the quarter and an increase of $2,497,000 for the nine months over the prior year. The decrease for the three months ended September 30, 2000 was a result of higher self-publishing sales of approximately $1,150,000 offset by lower packaging sales of approximately $1,570,000. Video sales for the three months were about the same as the comparable prior year period. The increase in self-publishing was due mainly to the Company's efforts to expand this segment of its market and to the inclusion of certain accounts this year that were sold last year as part of packaging. Packaging sales were down for the three months mainly due to higher proprietary sales to major US retailers offset by the unexpected lost of a major UK customer and the reclassification of certain packaging customers to self-publishing as discussed above. The Company was successful in replacing this UK customer with another UK direct seller, but it will take additional time to build the amount of business conducted with this new account. Also having a material effect in lowering packaging sales was the continuing strength of the US dollar which reduced foreign sales and the loss of business with a major US publisher because of the timing effect of the release of certain key titles in a continuing series sold in 1999 that were not duplicated in 2000. The increase for the first nine months of this year resulted from $3,459,000 in video sales and higher self-publishing sales of $1,876,000 offset by a $2,836,000 decrease in packaging sales. Higher self-publishing sales and lower packaging sales for the nine months are due mainly to the same factors as discussed above which effected the three month period. The increase in video sales for the nine months ended September 30, 2000 compared to the prior period primarily relates to the acquisition of Fast Forward completed in mid-May 1999. Rights income for the three and nine month periods ended September 30, 2000 were $15,000 and $83,000, respectively, as compared to $28,000 and $221,000 for the prior year. This income is primarily derived from the Company's sale of worldwide direct marketing rights on some of its products. These revenues are derived from a limited number of accounts so the timing of the signing of future projects is a material factor in the income received. Lower income for the three and nine month periods ended September 30, 2000 was the result of fewer projects being accepted by these customers. These sales do not require that the Company manufacture, and therefore, have no related cost. Gross profit margin for the three and nine month periods ended September 30, 2000 was 19.7% and 20.7%, respectively, as compared to 23.6% for both periods of the prior year. The drop in margins for the three month period is due mainly to lower gross margins on both self-publishing and packaging sales. Self-publishing margins dropped mainly because of a change in the mix of customers sold. Self-publishing sales for the three months ended September 30, 2000 included more mass market and book club accounts than did last year. These accounts traditionally require higher discounts. The gross margin on the Company's packaged book products were lower in the three month period due mainly to a change in the mix of products sold and to lower margins on foreign sales because of the continued strength of the US dollar. The drop in margins for the nine month period is due mainly to the same reasons affecting the three months. One additional factor affecting the nine months was a change in the overall mix of products sold. A larger portion of this year's sales were from the distribution of video titles which have lower margins. Cost of sales for book product consists primarily of manufacturing costs, book development amortization and royalties. 7 10 Selling, general and administrative expenses for the three and nine month periods ended September 30, 2000 were $1,352,000 and $3,916,000 as compared to $1,402,000 and $3,481,000 for the comparable periods of the prior year and represented a decrease of $50,000 for the quarter and an increase of $435,000 for the nine months. The majority of the increase for the nine month period comes from Fast Forward expenses in 2000 for the entire nine months, while in 1999 only 5-1/2 months were included as a result of the acquisition in mid-May. Personnel expenses were $588,000 and $1,910,000 for the three month and nine months ended September 30, 2000 as compared to $772,000 and $1,880,000 for the comparable periods of 1999. This represents a decrease of $184,000 for the quarter and an increase of $30,000 for the nine months. The decrease for the quarter can be attributed primarily to salary and staff reductions. Selling expenses were $372,000 and $992,000 for the three and nine month periods ended September 30, 2000 versus $391,000 and $899,000 in 1999 resulting in a decrease for the quarter of $19,000 and a $93,000 increase for the nine months. The increase for the nine months is primarily a result of the Fast Forward acquisition. Administrative expenses were $392,000 and $1,014,000 for the three and nine months ended September 30, 2000 as compared to $239,000 and $702,000 for the same periods of 1999. This represented increases of $153,000 and $312,000 for the quarter and nine months as compared to the prior year. The increases for both periods can be primarily attributed to increases in rent, amortization of acquisition costs and goodwill, accounting expenses, and insurance. Interest expense for the three and nine month periods ended September 30, 2000 was $175,000 and $413,000, respectively, as compared to $84,000 and $185,000 for the comparable periods of 1999. The increases of $91,000 and $228,000 for the quarter and nine months were a result of higher average borrowings. Also attributing to the increases were $16,000 and $32,000 for the three and nine months of 2000 in expense related to the amortization of the warrants. The Company's net loss for the three and nine month periods ended September 30, 2000 was $320,000 and $1,340,000, respectively, as compared to net income of $76,000 for the third quarter of 1999 and net loss of $746,000 for the nine months of 1999. LIQUIDITY AND CAPITAL RESOURCES The Company's cash and cash equivalents decreased by $330,000 to $314,000 at September 30, 2000 from $644,000 at December 31, 1999. At September 30, 2000, working capital was ($2,989,000) compared to $958,000 at December 31, 1999. The primary use of cash during the nine months ended September 30, 2000 was from the addition to production costs and decreases in acquisition costs. Net cash used in operations was $343,000 for the nine months ended September 30, 2000 as compared to $2,005,000 for the corresponding period of the previous year. The $1,662,000 change in cash from operations compared to the corresponding period was primarily attributable to a decrease in additions to accounts receivable offset by an increase in net losses. Net cash used in investing activities amounted to $1,139,000 as compared to $1,209,000 during the same period in 1999. This decrease in cash used is primarily from a decrease in acquisition costs offset by an increase in production costs in the first nine months of 2000 versus the same period of 1999. Net cash provided by financing activities was $1,152,000 in 2000 as compared to $2,025,000 for the same period in 1999. This decrease in cash provided is primarily from reduced borrowings on the Company's lines of credit. 8 11 The Company has a revolving line of credit facility with a bank that provides an asset based credit line of up to $2,500,000, subject to certain covenants. The Company may borrow against this line, as well as issue letters of credit. Advances under the facility bear interest at prime plus 2.5% and are secured by the Company's assets. This facility expires May 1, 2001. At September 30, 2000, the Company had an outstanding indebtedness of $2,475,000 and was out of compliance with certain financial statement covenants contained in the credit agreement. The Company was subsequently able to amend this agreement with the bank and was in compliance with all financial statement covenants, as amended. In May 1999, the Company entered into a subordinated revolving line of credit agreement with a private party that provides for a line of credit of up to $2,300,000, originally scheduled to expire May 13, 2000. This line is subordinated to the bank line of credit. Advances under this line bear interest at 5% above LIBOR and are secured by the Company's assets. On March 23, 2000, the Company exercised its option to extend the line of credit for an additional 12 months to May 13, 2001 under the same terms and conditions. To extend this line of credit, the agreement required that warrants for 150,000 shares of the Company's common stock be issued. The Company valued the warrants at $.84 per share and will recognize the expense over the remaining term of the subordinated revolving line of credit. The warrants were issued on May 13, 2000 and are exercisable for up to two years after the issue date at a price of $1.7325. At September 30, 2000, the Company had an outstanding indebtedness of $2,300,000 under this line of credit. The Company has experienced net losses and negative cash flows for the first nine months of the current fiscal year. Based on the Company's current projections and sales to date, the Company expects to incur a loss for the fourth quarter and fiscal year ending December 31, 2000. The Company has on its balance sheet a deferred tax item in the amount of $442,000 which may have to be expensed by year end 2000. In response to the losses and negative cash flow, the Company has implemented additional executive salary cuts and eliminated certain positions and is closely managing its cash and inventory levels. In addition, the Company is considering other possible strategic alternatives, including raising additional equity and/or debt financing. To assist in this process the Company has combined its efforts with Gerard Klauer Mattison & Company ("GKM"), a leading national investment banking firm. Under a signed agreement, GKM will advise the Company and search for and explore strategic alternatives including the possible sale of the Company. As of the date of this filing, the Company has not raised additional funds and no assurance can be given that any additional debt or equity financing will be available. If the Company is not successful in raising additional financing, its business and current operations will be materially adversely affected. The Company is having ongoing talks with its bank and the holder of its subordinated revolving line of credit about possibly extending the term of the indebtedness beyond May 13, 2001. No assurance can be given that extensions will be received. The Company is also considering other possible strategic alternatives, raising additional equity and/or debt financing. As of the date of this filing, the Company has not raised additional funds and no assurance can be given that any additional debt or equity financing will be available to the Company on acceptable terms, or at all. If the Company is not successful in raising additional financing, its business and current operations will be materially adversely affected. 9 12 As of November 1, 2000, the Company did not have any commitments for any material capital expenditures for the remainder of 2000 or beyond. The Company's business tends to be seasonal, as is the publishing business as a whole, with the major volume of sales occurring in the last six months of the year. As a result, the Company's cash position is at its lowest during the months of May through October. Management of the Company believes that the Company's ability to generate cash and secure additional funding will be adequate to finance current and expected levels of activity as well as anticipated capital expenditures of the Company for at least the next twelve months. No assurances can be given that such additional financing will be obtained. This Report on Form 10-Q contains forward-looking statements and includes assumptions concerning the Company's operations, future results and prospects. These forward-looking statements are based on current expectations and are subject to a number of risks, uncertainties and other factors. In connection with the Private Securities Litigation Reform Act of 1995, the Company provides the following cautionary statements identifying important factors which, among other things, could cause the actual results and events to differ materially from those set forth in or implied by the forward-looking statements and related assumptions contained in this Section and in this entire Report. Such factors include, but are not limited to: product demand and market acceptance risks; the effect of economic conditions; the impact of competitive products and pricing; changes in foreign exchange rates; product development and commercialization difficulties; capacity and supply constraints or difficulties; availability of capital resources; general business and economic conditions; and changes in government laws and regulations, including taxes. Item 3. Quantitative and Qualitative Disclosures About Market Risk All sales by the Company are denominated in US dollars 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 money markets, and the Company does not believe it has significant market risk exposure with regard to its investments. 10 13 PART II - OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders The Annual Meeting of Shareholders of Intervisual books, Inc. was held on September 6, 2000 and several matters were put to a vote. The issues and the results are as follows:

Item 5. Other Events In connection with the Company's efforts to explore strategic alternatives, the Company has engaged Gerard Klauer Mattison & Company ("GKM") a national investment banking firm. GKM will advise the Company and assist in searching for and exploring strategic alternatives, including the possible sale of the Company. Under this exclusive agreement, GKM will act as a financial advisor in connection with any transaction. The initial term of this agreement is six months and GKM was be paid a retainer and will be entitled to success fee upon the closing of a transaction. 11 14 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits required by Item 601 of Regulation S-K 10.1 Amendment Agreement Number Four to Loan and Security Agreement 27. Financial Data Schedule (b) Reports on Form 8-K None SIGNATURES 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. INTERVISUAL BOOKS, INC. BY: /s/ Nathan N. Sheinman --------------------------------------- Nathan N. Sheinman, President Chief Operating Officer BY: /s/ Dan P. Reavis --------------------------------------- Dan P. Reavis, Executive Vice President Chief Financial Officer Date: November 14, 2000 ------------------ 12

INTERVISUAL BOOKS INC /CA 10-Q