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, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission File No. 000-24134
INTEGRITY INCORPORATED
----------------------
(Exact name of registrant as specified in its charter)
Delaware 63-0952549
------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
1000 Cody Road
Mobile, Alabama 36695
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(Address of principal executive offices, zip code)
(251) 633-9000
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(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 the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at November 9, 2001
----- -------------------------------
Class A Common Stock, $0.01 par value 2,229,200
Class B Common Stock, $0.01 par value 3,435,000
PART I.
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
INTEGRITY INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
Sep 30, 2001 Dec 31, 2000
------------ -------------
(Unaudited)
ASSETS
Current Assets
Cash $ 4,995 $ 801
Trade receivables, less allowance for returns and
doubtful accounts of $1,782 in 2001 and $1,241 in 2000 6,949 5,929
Other receivables 1,909 561
Inventories 4,362 5,033
Other current assets 1,169 2,140
-------- --------
Total current assets 19,384 14,464
Property and equipment, net of accumulated depreciation
of $5,049 in 2001 and $4,519 in 2000 4,000 3,950
Product masters, net of accumulated amortization
of $15,276 in 2001 and $16,604 in 2000 3,662 5,626
Other assets 3,089 3,192
-------- --------
Total assets $ 30,135 $ 27,232
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current portion of long-term debt $ 2,000 $ 2,188
Accounts payable and accrued expenses 3,931 3,090
Royalties payable 4,745 2,920
Other current liabilities 188 479
-------- --------
Total current liabilities 10,984 8,677
Long-term debt 3,378 1,846
Other long-term liabilities 129 7
-------- --------
Total liabilities 14,371 10,530
Commitments and contingencies 0 0
-------- --------
Minority interest 577 746
-------- --------
Stockholders' Equity
Preferred stock, $.01 par value; 500,000 shares authorized;
none issued and outstanding 0 0
Class A common stock, $.01 par value; 7,500,000 shares authorized;
2,228,000 and 2,184,000 shares issued and outstanding 22 22
Class B common stock, $.01 par value, 10,500,000 shares
authorized; 3,435,000 shares issued and outstanding 34 34
Additional paid-in capital 12,500 13,857
Unearned stock option compensation (232) (272)
Retained earnings 2,917 2,450
Equity adjustments from foreign currency translation (54) (135)
-------- --------
Total stockholders' equity 15,187 15,956
-------- --------
Total liabilities and stockholders' equity $ 30,135 $ 27,232
======== ========
The accompanying notes are an integral part of these condensed
consolidated financial statements.
1
INTEGRITY INCORPORATED
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ --------------------------
2001 2000 2001 2000
-------- -------- -------- --------
Net sales $ 17,926 $ 12,224 $ 55,703 $ 38,325
Cost of sales 9,366 5,961 31,051 20,008
-------- -------- -------- --------
Gross profit 8,560 6,263 24,652 18,317
Marketing and fulfillment expenses 3,202 2,186 9,792 7,816
General and administrative expenses 4,215 2,614 10,797 7,847
-------- -------- -------- --------
Income from operations 1,143 1,463 4,063 2,654
Other expenses
Interest expense, net 14 241 230 755
Other expenses 61 24 165 82
-------- -------- -------- --------
Income before extraordinary item, minority
interest and taxes 1,068 1,198 3,668 1,817
Provision for income taxes 378 463 823 694
Minority interest, less applicable taxes 22 30 51 95
-------- -------- -------- --------
Net income before extraordinary item 668 705 2,794 1,028
-------- -------- -------- --------
Extraordinary item from early extinguishment
of debt less taxes of $154 0 0 (312) 0
-------- -------- -------- --------
Net income $ 668 $ 705 2,482 $ 1,028
======== ======== ======== ========
Adjustments to determine comprehensive income
Foreign currency translation adjustments 128 10 81 (116)
-------- -------- -------- --------
Comprehensive income $ 796 $ 715 $ 2,563 $ 912
======== ======== ======== ========
BASIC EPS
Income before extraordinary item $ 0.12 $ 0.13 $ 0.50 $ 0.18
Extraordinary item 0 0 (0.06) 0
-------- -------- -------- --------
Net Income $ 0.12 $ 0.13 $ 0.44 $ 0.18
======== ======== ======== ========
DILUTED EPS
Income before extraordinary item $ 0.10 $ 0.12 $ 0.44 $ 0.17
Extraordinary item 0 0 (0.05) 0
-------- -------- -------- --------
Net income $ 0.10 $ 0.12 $ 0.39 $ 0.17
======== ======== ======== ========
Weighted average number of shares outstanding
Basic 5,640 5,614 5,626 5,614
Diluted 6,445 6,116 6,305 6,058
The accompanying notes are an integral part of these condensed
consolidated financial statements.
2
INTEGRITY INCORPORATED
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Nine Months Ended September 30,
-----------------------------------
2001 2000
-------- --------
Cash flows from operating activities
Net income $ 2,482 $ 1,028
Adjustments to reconcile net income to net cash provided by
operating activities
Depreciation and amortization 601 787
Amortization of product masters 4,694 4,110
Minority interest 51 95
Stock compensation 40 41
Extraordinary loss on debt extinguishment 466 0
Changes in operating assets and liabilities
Trade receivables (1,020) 1,093
Other receivables (1,348) 54
Inventories 672 778
Other assets 181 622
Accounts payable, royalties payable and accrued
Expenses 1,277 (790)
Other current and non current liabilities 1,981 (305)
Other 0 (115)
-------- --------
Net cash provided by operating activities 10,077 7,398
-------- --------
Cash flows from investing activities
Payments received on notes receivable 0 500
Purchases of property and equipment (471) (702)
Payments for product masters (2,730) (2,868)
-------- --------
Net cash used in investing activities (3,201) (3,070)
-------- --------
Cash flows from financing activities
Net borrowings (repayments) under line of credit (874) (1,746)
Distributions to joint venture partner (250) 0
Proceeds from issuance of stock 51 0
Payment to repurchase common stock warrants (3,423) 0
Principal payments of long-term debt 1,814 (1,938)
-------- --------
Net cash used in financing activities (2,682) (3,684)
-------- --------
Net increase in cash 4,194 644
Cash, beginning of period 801 1,067
-------- --------
Cash, end of period $ 4,995 $ 1,711
======== ========
The accompanying notes are an integral part of these condensed
consolidated financial statements.
3
INTEGRITY INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2001 AND SEPTEMBER 30, 2000
(UNAUDITED)
NOTE 1 -- BASIS OF PRESENTATION AND SUMMARY OF ACCOUNTING POLICIES
Integrity Incorporated (the "Company") is a media-communications
company that chiefly produces, publishes and distributes Christian music. It is
a producer and publisher of Christian lifestyle products developed to facilitate
worship, entertainment and education. Integrity's music product formats include
cassettes, compact discs, videos, DVD's and printed music. The Company produces
praise and worship music in different musical styles for specific audiences such
as children's music, urban music, youth music and live worship for adult
audiences. Integrity's products are sold primarily through retail stores and
direct to consumers throughout the United States and internationally in 162
other countries worldwide.
Integrity Music Europe Ltd. was formed in 1988; Integrity Music Pty.
Ltd. was formed in 1991; and Integrity Media Asia Pte. Ltd. was formed in 1995.
These wholly-owned subsidiaries of the Company serve to expand the Company's
presence in Western Europe, Australia and New Zealand, and Singapore,
respectively. Celebration Hymnal LLC was formed in 1997 with Word Entertainment,
for the purpose of producing and promoting The Celebration Hymnal. Word
Entertainment's interest in the joint venture is presented as a minority
interest in these financial statements, as the joint venture is controlled by
the Company. Integrity Publishers, Inc. was formed in 2001. This wholly-owned
subsidiary was created for the purpose of developing and publishing Christian
book titles.
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements and should be read in conjunction with the
financial statements for the year ended December 31, 2000 contained in the
Company's Annual Report on Form 10-K. The unaudited condensed financial
information has been prepared in accordance with the Company's customary
accounting policies and practices. In the opinion of management, all
adjustments, consisting of normal recurring adjustments considered necessary for
a fair presentation of results for the interim period, have been included.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses. Actual results could differ from those estimates.
Operating results for the quarter and nine months ended September 30,
2001 are not necessarily indicative of the results that may be expected for the
year ending December 31, 2001.
PRINCIPLES OF CONSOLIDATION
The accompanying financial statements include the accounts of the
Company, its wholly-owned subsidiaries, which include Integrity Music Pty. Ltd.,
Integrity Music Europe, Ltd., Integrity Media Asia Pte. Ltd., Integrity
Publishers, Inc. and of the Celebration Hymnal LLC. All significant intercompany
accounts and transactions have been eliminated in consolidation.
REVENUE RECOGNITION
Revenue is recognized at the time persuasive evidence of an arrangement
exists, delivery has occurred, the price is fixed or determinable and
collectibility is reasonably assured which, for the Company, is usually at the
time of shipment. Provisions are made based on estimates derived from historical
data for sales returns and allowances in the period in which the related
products are shipped. The full amount of the returns allowance is shown, along
with the allowance for doubtful accounts, as a
4
reduction of accounts receivable in the accompanying financial statements.
Generally, revenue derived from licensing the use of songs in the Company's song
catalogs is recognized when earned and collection is reasonable assured, which
is usually at the time of receipt of payment.
MARKETING COSTS
The Company incurs marketing costs utilizing various media to generate
direct, retail and e-commerce sales to customers. Marketing expenditures that
benefit future periods are capitalized and charged to operations over a period
of three to six months, which approximates the period during which the related
sales are expected to be realized. Other marketing costs are expensed the first
time advertising takes place. Prepaid marketing costs, including artwork,
printing and direct mail packages, are included in assets in the accompanying
financial statements. Marketing costs of approximately $4.7 million and $3.6
million were expensed for the nine months ended September 30, 2001 and 2000,
respectively.
FULFILLMENT COSTS
Fulfillment expenses are primarily comprised of distribution fees paid
to third party distributors of the Company's products that are based on a
percentage of sales. The services provided by the third party distributor
include sales, fulfillment and storage of the Company's product for its Retail
segment. Distribution fees represented approximately 72.1% of total fulfillment
expense for the nine months ended September 30, 2001. Also included in
fulfillment expenses are fees paid to a third party service provider on a
transaction basis for data entry, generation of invoices, and cash processing.
Additionally, in the Direct to Consumer segment, the Company completes
the distribution and shipping function internally and includes a separate
surcharge to customers related to this service. These costs, which approximated
$986,000 and $770,000 for the nine months ended September 30, 2001 and 2000,
respectively, are recorded as a component of Cost of Sales and the related
customer fee is recorded as a component of Net Sales.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company evaluates impairment of long-lived assets whenever events
or changes in circumstances indicate that the carrying amount of such assets may
not be recoverable. If the sum of the expected future undiscounted cash flows is
less than the carrying amount of the asset, an impairment loss would be
recognized. Measurement of an impairment loss for long-lived assets would be
based on the fair value of the asset.
PRODUCT MASTERS
Product masters, which include sound and video recordings and print
masters, are amortized over their future estimated useful lives using a method
that reasonably relates to the amount of net revenue expected to be realized.
Management periodically reviews the product masters amortization rates and
adjusts the amortization rate based on management's estimates for future sales.
In conjunction with such analysis, any amounts that do not appear to be fully
recoverable are charged to expense during the period the loss becomes estimable.
The costs of producing a product master include the cost of the musical talent,
the cost of the technical talent for engineering, directing and mixing, costs
for the use of the equipment to record and produce the master and studio
facility charges.
EARNINGS PER SHARE OF COMMON STOCK
Basic earnings per share is computed by dividing income available to
common stockholders by the weighted average of common shares outstanding for the
period. Diluted earnings per share is calculated by dividing income available to
common stockholders by the weighted average of common shares outstanding
assuming issuance of potential dilutive common shares related to options and
warrants.
5
FOREIGN CURRENCIES
Assets and liabilities at foreign subsidiaries are recorded based on
their functional currencies. Amounts in foreign currencies are translated at the
applicable exchange rate at the balance sheet date using the exchange rate in
effect at the period end. Revenues and expenses of foreign subsidiaries are
translated using the average rates applicable during the reporting period. The
effects of foreign currency translation adjustments are included as a component
of stockholders' equity and comprehensive income.
RECENT ACCOUNTING PRONOUNCEMENTS:
In June 2001, the FASB issued Statement No. 141 (SFAS 141), Business
Combinations, and Statement No. 142 (SFAS 142), Goodwill and Other Intangible
Assets. SFAS 141 supercedes APB 16, Business Combinations, and requires the
purchase method of accounting for all business combinations initiated after June
30, 2001. SFAS 142 supercedes APB 17, Intangible Assets and primarily requires
that goodwill and indefinite lived intangible assets no longer be amortized and
will be tested for impairment at least annually at a reporting unit level. SFAS
142 is effective for fiscal years beginning after December 15, 2001. The
adoption of SFAS 141 had no effect and the adoption of SFAS 142 is not expected
to have a material impact on the Company's reported results of operations,
financial position or cash flows.
In June 2001, the FASB issued Statement No. 143, Accounting for Asset
Retirement Obligations. SFAS 143 requires that obligations associated with the
retirement of a tangible long-lived asset be recorded as a liability when those
obligations are incurred, with the amount of the liability initially measured at
fair value. SFAS 143 will be effective for financial statements for fiscal years
beginning after June 15, 2002. Adoption of this statement is not expected to
have a material impact on the Company's reported results of operations,
financial position or cash flows.
In August 2001, the FASB issued Statement No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS 144 supercedes SFAS 121 and
applies to all long-lived assets (including discontinued operations) and
consequently amends Accounting Principles Board Opinion No. 30 (APB 30),
Reporting Results of Operations Reporting the Effects of Disposal of a Segment
of a Business. SFAS 144 requires that long-lived assets that are to be disposed
of by sale be measured at the lower of book value or fair value less cost to
sell. SFAS 144 is effective for financial statements issued for fiscal years
beginning after December 15, 2001 and, generally, its provisions are to be
applied prospectively. Adoption of this statement is not expected to have a
material impact on the Company's reported results of operations, financial
position or cash flows.
NOTE 2 -- LONG TERM DEBT
The Company's financing agreement in effect through April 25, 2001
included a revolving credit facility and a term loan that were payable through
August 2002. On April 25, 2001, the Company entered into a new $20 million,
five-year secured credit facility with LaSalle Bank N. A. The credit agreement
includes a $6 million line of credit and a $14 million term loan. Through the
LaSalle credit facility, the Company has refinanced its previous credit facility
with Bank Austria Creditanstalt. In connection with the early extinguishment of
the Bank Austria Creditanstalt facility, the Company has recorded a $312,000
charge related to the write-off of unamortized financing costs. At September 30,
2001, there was $0 outstanding under the line of credit and $5.4 million
outstanding under the term loan with LaSalle Bank. At September 30, 2000, there
was $1.4 million outstanding under the revolving credit facility and $4.3
million outstanding under the term loan with Bank Austria Creditanstalt. The
loan with LaSalle carries an interest rate of 6.0%.
On September 26, 2001, the Company repurchased 818,897 common stock
purchase warrants from Bank Austria for approximately $3.4 million in cash.
6
NOTE 3 -- SEGMENT INFORMATION
Summarized financial information concerning the Company's reportable
segments is shown in the following table, in thousands:
Nine Months Ended September 30,
-----------------------------------
2001 2000
-------- --------
NET SALES
Retail $ 25,647 $ 19,888
Direct to Consumer 24,542 10,277
International 5,454 5,486
Book publishing 0 0
Other 6,691 6,221
Eliminations (6,631) (3,547)
-------- --------
Consolidated $ 55,703 $ 38,325
======== ========
OPERATING PROFIT (BEFORE MINORITY INTEREST)
Retail $ 5,589 $ 3,964
Direct to Consumer 5,044 1,736
International 949 1,037
Book publishing (234) 0
Other (894) 216
Eliminations 43 0
-------- --------
Consolidated 10,497 6,953
General corporate expense (6,555) (4,381)
Interest expense, net (274) (755)
-------- --------
Income before income taxes and minority interest $ 3,668 $ 1,817
======== ========
Three Months Ended September 30,
-----------------------------------
2001 2000
-------- --------
NET SALES
Retail $ 8,906 $ 5,812
Direct to Consumer 5,955 3,233
International 1,977 1,594
Book publishing 0 0
Other 2,909 2,817
Eliminations (1,821) (1,232)
-------- --------
Consolidated $ 17,926 $ 12,224
======== ========
OPERATING PROFIT (BEFORE MINORITY INTEREST)
Retail $ 2,478 $ 1,406
Direct to Consumer 953 694
International 382 248
Book publishing (234) 0
Other 208 542
Eliminations 51 0
-------- --------
Consolidated 3,838 2,890
General corporate expense (2,704) (1,451)
Interest expense, net (66) (241)
-------- --------
Income before income taxes and minority interest $ 1,068 $ 1,198
======== ========
7
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Net sales increased $17.4 million or 45.3% to $55.7 million for the
nine months ended September 30, 2001, as compared to $38.3 million for the nine
months ended September 30, 2000. For the quarter ended September 30, 2001, net
sales increased $5.7 million or 46.6% to $17.9 million, from $12.2 million in
the same period in 2000. The increase in revenue is primarily attributable to
increased volume in the Direct to Consumer segment.
Sales in the Retail segment increased $5.8 million or 29.0% to $25.6
million for the nine months ended September 30, 2001, compared to $19.9 million
in the same period in 2000. For the quarter ended September 30, 2001, sales in
the Retail segment increased $3.1 million or 53.2% to $8.9 million, from $5.8
million in the same period in 2000. The increase in the nine-month period was
due primarily to sales of "Songs 4 Worship" products. Also contributing to the
sales increase was the release of the third WoW Worship album, WoW Worship
Green, a collection of the best selling praise and worship songs, created in
partnership with Maranatha! and Vineyard. Sales of WoW Worship Green totaled
$2.9 million for the nine months ended September 30, 2001. The first WoW Worship
album, WoW Worship Blue, was released in the second quarter of 1999, and the
second, WoW Worship Orange, was released in the first quarter of 2000. Total WoW
Worship sales for the nine months ended September 30, 2001 were $5.9 million
compared to $6.0 million for the same period in 2000.
Sales in the Direct to Consumer segment increased $14.2 million or
138.8% to $24.5 million for the nine months ended September 30, 2001, compared
to $10.3 million in the same period in 2000. For the quarter ended September 30,
2001, sales in the Direct to Consumer segment increased $2.7 million or 84.2% to
$6.0 million, from $3.2 million in the same period in 2000. This increase was
due primarily to sales of the "Songs 4 Worship" products both on television
direct marketing and in the new "Songs 4 Worship" continuity program. Though
difficult to predict, management anticipates that sales to Time Life for the
"Songs 4 Worship" series will decline from year-to-date levels over the
remainder of 2001.
International sales remained constant for the nine months ended
September 30, 2001 at $5.5 million, compared to $5.5 million in the same period
in 2000. For the quarter ended September 30, 2001, sales in the International
segment increased slightly to $2.0 million compared to $1.6 million in 2000.
During the nine-month period, the International segment had unfavorable changes
in foreign exchange rates and increased competitive pressures in key foreign
markets, especially Asia. Management expects these competitive pressures to
continue for the remainder of 2001.
Sales in the Other segment increased by 7.6% to $6.7 million for the
nine months ended September 30, 2001, compared to $6.2 million in the same
period in 2000 due primarily to additional song copyright royalties generated
from the increase in product sales and third party use. For the quarter ended
September 30, 2001, sales in the Other segment increased to $2.9 million
compared to $2.8 million in 2000.
New product sales in all segments totaled 2.8 million units or 38.6% of
total units sold for the nine months ended September 30, 2001, as compared to
1.7 million units or 31.8% of total units sold for the same period in 2000. The
increase in new product sales as a percentage of total sales is due primarily to
the "Songs 4 Worship" releases. New product sales are defined as new product
releases in the current year.
Gross profit increased to $24.7 million or 44.3% of sales for the nine
months ended September 30, 2001, compared to $18.3 million or 47.8% in the same
period in 2000. Gross profit as a percentage of sales decreased for the nine
months ended September 30, 2001 compared to the same period in 2000 mainly from
the lower gross margin percentages for the WoW Worship albums and the combined
"Songs 4 Worship" sales. The gross profit percentage in the Retail segment
declined to 45.5% in 2001 from 46.2% in 2000 due primarily to increased sales of
the WoW Worship albums and the retail sales of the
8
"Songs 4 Worship" albums released into the general market in the first quarter
of 2001. Because the WoW Worship albums were created in partnership with two
other record companies, the Company's gross margin is lower due to higher
royalties. The gross margin on the "Songs 4 Worship" sales is lower because the
Company sells the product at a wholesale price to Time Life Music for their
sales on TV and in the general retail market. The gross margin percentage in the
Direct to Consumer segment declined to 42.7% for the nine months ended September
30, 2001, from 52.4% in the same period of 2000, due to the wholesale pricing of
the "Songs 4 Worship" sales to Time Life. The gross profit percentage in the
International segment increased slightly to 57.5% for the nine months ended
September 30, 2001, compared to 57.1% for the same period in 2000.
The following table shows the gross margin by operating segment:
Nine Months Ended September 30,
--------------------------------------
2001 2000
----- -----
Gross margin
Retail 45.5% 46.2%
Direct to Consumer 42.7% 52.4%
International 57.5% 57.1%
Other (7.0)% 14.0%
Eliminations 2.6% 7.4%
----- ----
Consolidated 44.3% 47.8%
Three Months Ended September 30,
--------------------------------------
2001 2000
----- -----
Gross margin
Retail 49.2% 50.8%
Direct to Consumer 45.0% 49.7%
International 57.2% 60.6%
Other 13.6% 28.3%
Eliminations 1.2% 4.9%
----- ----
Consolidated 47.8% 51.2%
The Other segment includes revenues from licensing of the Company's
copyrights as well as certain expenses that are not charged to specific
segments. These expenses include reductions in the carrying value of product
masters as well as additions to the Company's reserves for product returns and
inventory obsolescence.
Marketing and fulfillment expenses increased 25.3% to $9.8 million or
17.6% of net sales for the nine months ended September 30, 2001, as compared to
$7.8 million or 20.4% of net sales for the same period in 2000. For the quarter
ended September 30, 2001, marketing and fulfillment expenses were $3.2 million
or 17.9% of net sales, compared to $2.2 million or 17.9% of net sales for the
same period in 2000. The increase in marketing and fulfillment expenses is
primarily attributable to increased fulfillment costs in the Retail segment that
now comprises 46.0% of consolidated net sales. Additionally, fulfillment costs
related to the WoW Worship albums are at a higher rate than other products due
to the joint marketing agreement discussed above.
The distribution and fulfillment for the Direct to Consumer segment is
handled with in-house personnel and the Company's own warehouse and shipping
facility. The Company contracts with a third party for some data management,
however, the customer service and actual fulfillment functions are performed
in-house. The primary reason for the decline of marketing and fulfillment
expenses as a percent of sales is that "Songs 4 Worship" sales to Time Life in
the Direct to Consumer segment and "Songs 4 Worship" sales in the Retail segment
bear no marketing or fulfillment expenses.
General and administrative expenses increased to $10.8 million or 19.4%
of net sales for the nine months ended September 30, 2001, as compared to $7.8
million or 20.5% of net sales for same period in 2000. For the quarter ended
September 30, 2001, general and administrative expenses were $4.2 million
9
or 23.5% of net sales, compared to $2.6 million or 21.4% of net sales for the
same period in 2000. The increase in general and administrative expenses is
primarily attributable to the adoption of new annual and long-term incentive
plans, additional personnel expenses, increased professional fees and expenses
related to Integrity Publishers, Inc.
Operating profit in the Retail segment was $5.6 million, or 21.8% of
sales, for the nine months ended September 30, 2001, from $4.0 million or 19.9%
of net sales in the same period in 2000. The increase is due primarily to
increases in sales due to various product releases in the first half of 2001 as
discussed above. Operating profit in the Direct to Consumer segment increased
190.6% to $5.0 million or 20.6% of net sales for the nine months ended September
30, 2001, from $1.7 million or 16.9% of sales in the same period in 2000 due to
the "Songs 4 Worship" sales mentioned previously and due to lower marketing and
fulfillment costs related to these sales. Operating profit in the International
segment decreased by 8.5% to $949,000 for the nine months ended September 30,
2001, from $1.0 million for the same period in 2000 due to lower gross margins
generated from the sales decline explained previously. The Other segment
includes copyright revenues as well as certain expenses that are not charged to
specific segments. These expenses include reductions in the carrying value of
product masters as well as additions to the Company's reserves for product
returns, inventory obsolescence and bad debt.
Interest expense decreased $525,000 to $230,000 or 0.4% of net sales
for the nine month period ended September 30, 2001, as compared to $755,000 or
2.0% of net sales for the same period in 2000. The decrease for the nine months
ended September 30, 2001 was the result of lower average debt levels in 2001.
The average interest rate for the nine months ended September 30, 2001 and 2000
was 7.3% and 10.8%, respectively.
The Company recorded an income tax provision of $823,000 and $694,000
for the nine months ended September 30, 2001 and 2000, respectively. The Company
recorded a one-time tax benefit of $390,000 related to foreign tax credits for
the nine months ended September 30, 2001. The Company's effective tax rate for
the first nine months of 2001 was 21%. The Company's forecasted effective tax
rate for the year 2001 is 35%, exclusive of the impact of the one-time benefit.
For the nine months ended September 30, 2001, the Company recorded an
extraordinary item from early extinguishment of debt, less applicable taxes, of
$312,000.
Net income for the nine months ended September 30, 2001 increased by
$1.5 million to $2.5 million, as compared to $1.0 million for the same period in
2000.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically and will continue to finance its
operations primarily through cash generated from operations and from borrowings
under a line of credit and term notes as needed. The Company's principal uses of
cash historically have been the production and recording of product masters to
build the Company's product master library and debt service. For the nine-month
period ended September 30, 2000, the Company had average daily borrowings under
the Bank Austria Creditanstalt credit agreement of $7.0 million at an average
rate of 10.6%, and had $4.6 million available to borrow under this agreement.
On April 25, 2001, the Company entered into a new $20 million,
five-year secured credit facility with LaSalle Bank N. A. The credit agreement
includes a $6 million line of credit and a $14 million term loan. Through this
new credit facility, the Company has refinanced its previous credit facility
with Bank Austria Creditanstalt. At September 30, 2001, the Company had average
daily borrowings under the LaSalle credit facility of $2.9 million at an average
rate of 6.8%, and had $6.0 million available to borrow under the line of credit
and $7.6 million under the term loan.
On September 26, 2001, the Company repurchased warrants to purchase
818,897 shares of the Company's common stock from Bank Austria for approximately
$3.4 million in cash.
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Cash generated from operations totaled $10.1 million and $7.4 million
for the nine months ended September 30, 2001 and 2000, respectively. The
increase from 2000 to 2001 resulted primarily from increased earnings before
depreciation and amortization and the timing of payments for liabilities,
principally royalties.
Investing activities used $3.2 million and $3.1 million during the nine
months ended September 30, 2001 and 2000, respectively. This consisted,
partially, of capital expenditures for computer equipment and capital
improvements to existing buildings totaling $471,000 and $702,000 for the nine
months ended September 30, 2001 and 2000, respectively. The investments in
product masters for the nine months ended September 30, 2001 and 2000 totaled
$2.7 million and $2.9 million, respectively. The investment in product masters
related to releases in the nine months ended September 30, 2001 and the
continued development of other products by the Company.
The Company announced on June 29, 2001 the formation of a new
subsidiary, Integrity Publishers, that will develop and publish Christian book
titles. The Company expects that start-up costs associated with the new
subsidiary will reduce earnings by approximately $0.07 per share for the year
ending December 31, 2001.
The Company made principal payments on its term loans of $1.8 million
and $1.9 million in the nine months ended September 30, 2001 and 2000,
respectively.
During the nine-month periods ended September 30, 2001 and 2000, the
Company made contributions to its 50% partner in the Celebration Hymnal LLC
joint venture, Word Entertainment of $250,000 and $0, respectively.
RECENT ACCOUNTING PRONOUNCEMENTS:
In June 2001, the FASB issued Statement No. 141 (SFAS 141), Business
Combinations, and Statement No. 142 (SFAS 142), Goodwill and Other Intangible
Assets. SFAS 141 supercedes APB 16, Business Combinations, and requires the
purchase method of accounting for all business combinations initiated after June
30, 2001. SFAS 142 supercedes APB 17, Intangible Assets and primarily requires
that goodwill and indefinite lived intangible assets no longer be amortized and
will be tested for impairment at least annually at a reporting unit level. SFAS
142 is effective for fiscal years beginning after December 15, 2001. The
adoption of SFAS 141 had no effect and the adoption of SFAS 142 is not expected
to have a material impact on the Company's reported results of operations,
financial position or cash flows.
In June 2001, the FASB issued Statement No. 143, Accounting for Asset
Retirement Obligations. SFAS 143 requires that obligations associated with the
retirement of a tangible long-lived asset be recorded as a liability when those
obligations are incurred, with the amount of the liability initially measured at
fair value. SFAS 143 will be effective for financial statements for fiscal years
beginning after June 15, 2002. Adoption of this statement is not expected to
have a material impact on the Company's reported results of operations,
financial position or cash flows.
In August 2001, the FASB issued Statement No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS 144 supercedes SFAS 121 and
applies to all long-lived assets (including discontinued operations) and
consequently amends Accounting Principles Board Opinion No. 30 (APB 30),
Reporting Results of Operations Reporting the Effects of Disposal of a Segment
of a Business. SFAS 144 requires that long-lived assets that are to be disposed
of by sale be measured at the lower of book value or fair value less cost to
sell. SFAS 144 is effective for financial statements issued for fiscal years
beginning after December 15, 2001 and, generally, its provisions are to be
applied prospectively. Adoption of this statement is not expected to have a
material impact on the Company's reported results of operations, financial
position or cash flows.
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SPECIAL CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS
Certain of the matters discussed in this document including matters
discussed under the caption "Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations," may constitute forward-looking
statements for purposes of the Securities Act of 1933, as amended, and the
Securities Exchange Act of 1934, as amended, and as such may involve known and
unknown risks, uncertainties and other factors that may cause the actual
results, performance or achievements of Integrity Incorporated to be materially
different from future results, performance or achievements expressed or implied
by such forward-looking statements. The words "expect," "anticipate," "intend,"
"plan," "believe," "seek," "estimate," and similar expressions are intended to
identify such forward-looking statements. The Company's actual results may
differ materially from the results anticipated in these forward-looking
statements due to a variety of factors, including without limitation those
discussed in "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Risk Factors" in the Company's Report on Form 10-K for
the fiscal year ended December 31, 2000. All written or oral forward-looking
statements attributable to the Company are expressly qualified in their entirety
by these cautionary statements. Any forward-looking statements represent
management's estimates only as of the date of this report and should not be
relied upon as representing estimates as of any subsequent date. While Integrity
may elect to update forward-looking statements at some point in the future,
Integrity specifically disclaims any obligation to do so, even if its estimates
change.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's market risk is limited to fluctuations in interest rates
as it pertains to the Company's borrowings under its credit facility. As of
April 25, 2001, the Company pays interest on borrowings at either the lender's
base rate or an Adjusted LIBOR, plus an Interest Rate Margin. The Interest Rate
Margin is based upon the Leverage Ratio as of the last day of a fiscal quarter.
Prior to April 25, 2001, under the Bank Austria Creditanstalt credit facility,
the Company paid interest on borrowings at either the lender's base rate plus
0.75%, or LIBOR plus 2%. Prior to September 2000, the interest rate was the
bank's base rate plus 1 1/2% or LIBOR plus 3%.
The Company is also exposed to market risk from changes in foreign
exchange rates and commodity prices. The Company does not use any hedging
transactions in order to modify the risk from these foreign currency exchange
rate and commodity price fluctuations. The Company also does not use financial
instruments for trading purposes and is not a party to any leveraged
derivatives.
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PART II.
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(A) EXHIBITS
EXHIBIT
NUMBER EXHIBIT DESCRIPTION
3(i) Certificate of Incorporation of the Registrant, as amended (incorporated by reference from
Exhibit 4(a) to the Registrant's Registration Statement on Form S-8 (File No. 33-84584) filed on
September 29, 1994).
3(i).1 Certificate of Amendment to the Certificate of Incorporation of the Registrant, dated July 21,
1995, (incorporated by reference from Exhibit 3(i).1 to the Registrant's Quarterly Report on
Form 10-Q for the quarter ended September 30, 1995).
3(ii) Bylaws of the Registrant, as amended (incorporated by reference from Exhibit 3(ii) to the
Registrant's Registration Statement on Form S-1 (File No. 33-78582), and amendments thereto,
originally filed on May 6, 1994).
4 Form of Class A Common Stock certificate of the Registrant (incorporated by reference from
Exhibit 4 to the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 2001)
10.1 Employment Agreement dated June 1, 2001 by and between Integrity Incorporated and Byron
Williamson (incorporated by reference from Exhibit 10.4 to the Registrant's Quarterly Report on
Form 10-Q for the quarter ended June 30, 2001).
10.2 Key Employee Change In Control Agreement dated June 1, 2001 by and between Integrity
Incorporated and Byron Williamson (incorporated by reference from Exhibit 10.5 to the
Registrant's Quarterly Report on Form 10-Q for the quarter ended June 30, 2001).
10.3 Employment Agreement dated October 29, 2001 by and between Integrity Incorporated and Danny
McGuffey.
10.4 Key Employee Change in Control Agreement dated October 29, 2001 by and between Integrity
Incorporated and Danny McGuffey.
10.5 Credit Agreement dated April 25, 2001 by and between Integrity Incorporated and
LaSalle Bank National Association (The foregoing is the subject of a request for confidential
treatment.) (incorporated by reference from Exhibit 10.1 to the Registrant's Quarterly Report
on Form 10-Q for the quarter ended March 31, 2001).
10.6 Intellectual Property Security Agreement dated April 25, 2001 by Integrity Incorporated in favor
of LaSalle Bank National Association (incorporated by reference from Exhibit 10.2 to the
Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 2001).
10.7 Security and Pledge Agreement dated April 25, 2001 by Integrity Incorporated in favor of LaSalle
Bank National Association (incorporated by reference from Exhibit 10.3 to the Registrant's Quarterly
Report on Form 10-Q for the quarter ended March 31, 2001).
10.8 First Amendment to Credit Agreement dated June 15, 2001 by and between Integrity Incorporated and
LaSalle Bank National Association (incorporated by reference from Exhibit 10.6 to the
Registrant's Quarterly Report on Form 10-Q Amendment 1 for the quarter ended June 30, 2001).
10.9 Warrant Repurchase Agreement dated September 26, 2001, by and between Integrity Incorporated and
Bank Austria AG, Grand Cayman Branch.
10.10 Lease dated August 24, 2001 by and between Park Center Partnership II and Integrity Incorporated.
10.11 Integrity Incorporated 2001 Long-Term Incentive Plan, adopted by the Board of Directors of
Integrity Incorporated on November 2, 2001.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(B) REPORTS ON FORM 8-K
During the three months ended September 30, 2001, Integrity
filed the following report on Form 8-K:
Form 8-K dated September 26, 2001 relating to Integrity's
repurchase of warrants to purchase 818,897 shares of
Integrity's common stock from Bank Austria AG,
Grand Cayman Branch.
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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.
INTEGRITY INCORPORATED
Date: November 12, 2001 /s/ P. Michael Coleman
----------------------- -----------------------------------------------
P. Michael Coleman
Chairman, President and Chief Executive Officer
Date: November 12, 2001 /s/ Donald S. Ellington
----------------------- ------------------------------------------------
Donald S. Ellington
Senior Vice President of Finance and Administration
(Principal Financial and Accounting Officer)
15