BikeBiz Bicycle and cycling retail news
Overview
The Company is a world-leading designer, manufacturer and marketer of bicycles.
The Company holds the leading market share in the United Kingdom, The
Netherlands, Canada and Ireland, holds the leading market share in the adult
bicycle market in Germany and is also a leading bicycle supplier in the United
States. Competing primarily in the medium-to premium-priced market, the Company
owns or licenses many of the most recognized brand names in the bicycle
industry, including leading global brands such as Raleigh, Diamond Back, Nishiki
and Univega, and leading regional brands such as Gazelle in The Netherlands and
Kalkhoff, Musing, Winora and Staiger in Germany. The Company designs,
manufactures and markets a wide range of bicycles in all major product
categories: (i) all-terrain or mountain bicycles ("M.T.B.s"), (ii) city
bicycles, also called touring or upright bicycles, (iii) hybrid bicycles, also
called comfort or cross bicycles, (iv) juvenile bicycles, including bicycle
motocross ("B.M.X.") bicycles, and (v) race/road bicycles. The Company
distributes branded bicycles through extensive local market networks of
independent bicycle dealers ("I.B.D.s") as well as through national retailers,
and distributes private label bicycles through mass merchandisers and specialty
stores.
Through a series of acquisitions and plant expansions, the Group has created a
global bicycle business distinguished by its leading market positions, low cost
production, extensive distribution network and reputation for high quality.
Organized in 1986 for the purpose of acquiring the Raleigh, Gazelle and Sturmey
Archer bicycle and bicycle component businesses from TI Group plc, the Group
expanded into the United States and Germany in 1988. From 1992 to 1993, taking
advantage of substantial incentives from the German government the Group built a
factory in Rostock, in the former German Democratic Republic. Since then, the
Group has acquired additional well-known brands and leveraged its existing
manufacturing plants and component sourcing operations to lower unit costs for
its acquired businesses.
On February 4, 1999, the Company acquired the assets (and assumed certain
liabilities) of the Diamond Back Group for approximately $44.3 million in cash.
The Diamond Back Group consisted of Diamond Back International Company Limited,
a private British Virgin Islands company ("Diamond Back"), Western States Import
Company Inc., a Delaware corporation ("Western States") and Bejka Trading A.B.,
a private Swedish company ("Bejka"), each of which was engaged in the bicycle,
bicycle parts and accessories and fitness equipment distribution business.
Western States and Bejka had worldwide revenues of approximately $62.9 million
and $3.1 million, respectively, in 1998. Diamond Back was essentially a holding
company for the company’s intellectual property and did not generate material
revenues. The Company financed the acquisition of the Diamond Back Group by
issuing $20 million principal amount in a Subordinated Note to Vencap Holding
(1992) PTE Ltd. and $22.75 million in Class C common stock to DC Cycle, L.L.C.
and Perseus Cycle L.L.C. The Subordinated Note matures in 2010 and bears
interest at an annual rate of 19% compounded daily.
The Company’s operations are concentrated in the United Kingdom, The
Netherlands, Germany, the United States and Canada, with manufacturing
operations in these countries, each led by experienced local management.
On June 30, 2000 the Company sold the business and assets of Sturmey Archer
which was engaged in the manufacture of bicycle components and other engineering
components. The purchaser assumed $4.0 million of liabilities in consideration
of the sale. Sturmey Archer had revenues of $20.6 million and EBITDA of $0.6
million in 1999.
The Company maintains marketing or purchasing operations in six additional
countries. Each local operation manages national distribution channels, dealer
service and working capital and benefits from shared product design and
manufacturing technologies as well as from economies of scale generated by the
Company’s aggregate purchasing power. Consequently, each local operation has the
flexibility to respond to shifts in local market demand and product preference.
In 1999, 54% of the Company’s net revenues, excluding Sturmey Archer, were
denominated in currencies, linked to the Euro, 22% were denominated in U.S.
dollars, 14% were denominated in pounds sterling and
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10% were denominated in other currencies. The Company reduces its currency
exposure by maintaining operations in the major markets in which it sells its
products.
Results of Operations
The Company manages its business in six major operating units as shown in the
following table. Consolidation adjustments, certain small operating companies,
non-operating companies and the headquarters are included in "Other companies".
All comparisons in the following discussion and analysis are against the
corresponding quarter and nine months ended September 26, 1999, unless otherwise
stated. Operating unit figures for 1999 have been re-translated using 2000
foreign exchange rates to facilitate comparison. The results of Sturmey Archer
for 1999 and 2000 have been excluded from the calculation of operating income,
but included in the balance sheets and statements of cash flows.
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Units sold:
Thousands of bicycles
Raleigh U.K………………………………………… 128 103 323 264
Gazelle……………………………………………. 57 58 257 290
Derby Germany………………………………………. 102 89 480 551
Derby U.S.A………………………………………… 121 113 367 339
Raleigh Canada……………………………………… 15 22 220 259
Probike……………………………………………. 34 51 93 136
Other companies and group transactions………………… 5 8 10 14
— — —– —–
Total units sold………………………………….. 462 444 1,750 1,853
=== === ===== =====
Units sold. Units sold decreased by 18 thousand units and increased by 103
thousand units for the quarter and nine months ended October 1, 2000. Organic
growth achieved was 55 thousand units in the nine month period compared with
year ago, representing an annual volume growth rate of approximately 3%. 16
thousand units of the increase represented Diamond Back sales in January 1999
not included in the 1999 results as that business was acquired on February 4,
1999 and 32 thousand units of the increase related to the 5 days through October
1, 1999 included in the fourth quarter’s results in 1999. Particularly strong
growth was seen at Gazelle and Derby Germany following successful product range
launches, advertising and lower retail inventories. In Canada, sales grew in the
private label channel as orders were won from offshore competitors, while
Probike in South Africa increased inventory levels to avoid sales lost in
previous years when this was cut-back too far. The change in sales volume at
Raleigh U.K. arose because a major customer ended 1999 with excess inventory and
cut back its purchase from 12 thousand units in the first quarter of 1999 to
less than 1 thousand units in the first quarter of 2000 while sales have since
suffered from the introduction of competing brands, leading to a reduction of 29
thousand units in sales for the nine months ended October 1, 2000. Sales also
suffered from less availability from stock due to the longer lead-time on out-
sourced frames compared with in-house manufacture which ceased in December 1999:
this is estimated to have caused the loss of sales of 15 thousand units as
demand was concentrated more towards the lower price-points than had been
anticipated.
For the quarter ended October 1, 2000, UK sales were adversely affected by wet
weather and low availability of those models in demand, while both manufacturing
plants in Germany were shut down for an extended period to reduce finished
inventories. The sales force in U.S.A. was reorganized in August 2000 to
eliminate overlapping territories and reduce expenses through increased tele-
marketing, although this has had an adverse impact on sales in the transition
period. Probike increased its marketing activity and its distribution through
national retailers in 2000, which, together with better inventory availability,
is growing sales at close to 50%.
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Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Net revenues:
$ millions
Raleigh U.K………………………………………… $ 19.6 $17.4 $ 52.9 $ 46.2
Gazelle……………………………………………. 17.3 19.6 82.8 99.4
Derby Germany………………………………………. 21.9 23.8 105.6 132.9
Derby U.S.A………………………………………… 25.9 25.7 84.9 81.4
Raleigh Canada……………………………………… 1.5 2.1 20.1 22.7
Probike……………………………………………. 3.0 4.1 9.5 11.7
Other companies and group transactions………………… 4.1 6.5 10.2 13.9
—– —– —– ——
Total at comparable foreign exchange rates…………… 93.3 99.2 366.0 408.2
Re-translation to actual foreign exchange rates………. 8.0 – 30.5 –
—– —- —– —–
Total net revenues as reported……………………… $101.3 $99.2 $396.5 $408.2
===== ==== ===== =====
Net revenues. Net revenues at comparable foreign exchange rates for the quarter
and nine months ended October 1, 2000 grew by $5.9 million (6.4%) and $42.2
million (11.5%). This was driven by the change in bicycle units sold of 3.9%
decrease and 5.9% increase for those periods and an increase in average unit
selling price of 10.6% and 5.5% for the same periods. The increase in price was
driven by an increase in models sold with suspension, offset by a weaker mix
from increasing sales through mass merchants. The weakness of the Euro in 2000
reduced the reported growth in consolidated net revenues by more than 8
percentage points upon translation of net revenues into U.S. Dollars at the
actual rates applicable to each year. Sales of parts and accessories saw double
digit percentage growth in all markets apart from the U.K. and the U.S.A.. Parts
and accessories revenues fell in the third quarter in the U.K. as the disruption
of relocating the distribution center continued in July, but were still ahead of
year ago for the first nine months. Parts and accessories revenues fell at Derby
U.S.A. as the sales force was reorganized and due to the disruption while the
Diamond Back and Raleigh parts and accessories warehousing was consolidated. The
recovery seen in the Diamond Back fitness business in the last quarter of 1999
with the launch of the new range of products continued, with revenues in the
quarter 60% up on year ago.
Gross profit. Gross profit of $4.3 million for the quarter ended October 1, 2000
compares with $22.7 million for the same period in 1999. The drop was the result
of inventory adjustments in Germany as failures in the implementation of the new
ERP system were corrected, totalling $6.8 million, plus a $3.7 million increase
in the provision for slow moving inventory in Germany. Although it is clear that
such failures existed in both the first and second quarters, it is not possible,
retrospectively, to quantify their effects on the results for those quarters.
Therefore, there has been no restatement of the first and second quarters’
results. Additionally, because this quarter’s results include the total
correction resulting from the failures in the implementation of the ERP system,
it is difficult to draw meaningful comparisons with the results for the quarter
ended September 26, 1999. However, meaningful comparisons with the results for
the nine months ended September 26, 1999 are possible as the cumulative effect
of the failures referred to above has been appropriately reflected in the
results for the nine months ended October 1, 2000 and no such failures occurred
in the nine months ended September 26, 1999. The slow moving inventory arose
from the ordering of excess components, also due to failures in the
implementation of the ERP system. Inventory reserves in U.K. and U.S.A. were
also increased by $2.3 million in aggregate to cover inventory issues following
changes in manufacturing methods at those companies. Surplus inventory arose in
U.K. as the manufacture of frames stopped at the beginning of the year and an
inflexible manufacturing procedure was introduced. The U.S.A. geared up to
double shift working in the first half of 2000, but this was found to be
uneconomic and has reverted to single-shift working. Excess component inventory
built-up in that period as production did not achieve anticipated levels. In
addition, margins fell by 5.4% across all companies. This was mainly due to the
weakening of the Euro and sterling against the U.S. dollar, which increased the
imported component costs, in local currency, at the European operations.
Furthermore, discounting necessary to both close out 2000 model year products
before the September introduction of 2001 models in U.S.A. and to use up surplus
components in Germany reduced gross margins. Additional factors included a
weaker distribution mix, with a higher proportion of mass merchant sales in
U.K., Germany and Canada, plus lower recovery of production expenses on the
lower production volumes.
The gross profit of $79.8 million for the nine months ended October 1, 2000 was
$15.7 million below the gross profit for the same period in 1999. For the first
half year the gross margin was only 0.2 percentage points below year ago, with
additional volume increasing the gross profit to $2.7 million higher than year
ago: the third quarter adverse variance of $18.4 reduced the gross profit for
the nine months ended to $15.7 million lower than year ago.
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Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Selling, general and administrative expenses:
$ millions
Translated at comparable foreign exchange rates………… $22.3 $29.1 $73.2 $88.4
Re-translation to actual foreign exchange rates………… 1.8 – 5.3 –
—– —- —- —–
Total selling general and administrative expenses as
reported………………………………………… $24.1 $29.1 $78.5 $88.4
==== ==== ==== ====
Selling, general and administrative expenses. Selling, general and
administrative expenses at comparable foreign exchange rates increased by $6.8
million and $15.2 million for the quarter and nine months ended October 1, 2000.
This included $1.6 million of expenses at Diamond Back in January 1999 not
included in the 1999 results as that business was acquired on February 4, 1999
and the costs of corporate marketing initiatives, sourcing project fees, the
corporate headquarters and Bikeshop.com of $1.8 million and $5.3 million for the
quarter and nine months ended October 1, 2000: neither of these had been
established in the first half of 1999. Distribution expenses increased by $1.0
million and $3.9 million for the quarter and nine months ended October 1, 2000
due to lower recharges to customers as an incentive to place increased orders
plus higher freight rates. In addition, the allowance for doubtful trade
accounts at Raleigh USA was increased by $1.5 million to cover the increase in
accounts receivable over 60-days overdue. The remaining increases in expenses
arose in Holland, Germany and USA, where administration expenses increased from
lower discounts received, legal and recruiting costs, plus higher bonuses at
Gazelle. The above increases were reduced upon translation into U.S. Dollars at
the actual rates applicable for each year, due to the weakness of the Euro in
2000.
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Operating income:
$ millions
Raleigh U.K………………………………………… $ 1.9 $ (1.0) $ 0.2 $(1.2)
Gazelle……………………………………………. 1.6 0.9 11.8 13.7
Derby Germany………………………………………. (2.7) (16.0) 3.4 (8.0)
Derby U.S.A………………………………………… – (5.4) 0.9 (7.9)
Raleigh Canada……………………………………… (0.1) (0.3) 2.0 1.9
Probike……………………………………………. 0.2 0.2 0.4 0.7
Other companies and group transactions………………… (1.6) (3.2) (3.2) (7.8)
—- —- — —–
Underlying operating income at comparable foreign (0.7) (24.8) 15.5 (8.6)
exchange rates……………………………………
Re-translation to actual foreign exchange rates……. (0.6) – 1.5 –
Restructuring charge……………………………. (0.1) (0.7) (6.5) (0.8)
Non-recurring items…………………………….. (0.1) (0.1) (1.5) (0.2)
Gain on dispositions of property, plant and equipment. – 2.2 – 1.6
—- —- — —–
Total operating income as reported………………….. $(1.5) $(23.4) $ 9.0 $(8.0)
==== ==== === =====
Operating income. The underlying operating loss at comparable foreign exchange
rates, of $24.8 million and $8.6 million for the quarter and nine months ended
October 1, 2000, compares with a loss of $0.7 million for the same quarter in
the previous year and operating income of $15.5 million for the nine months
ended September 26, 1999. The reversal in operating results of $24.1 million for
the quarter and nine months ended October 1, 2000 compared with year ago, was
the result of the reduction in gross margin at comparable foreign exchange rates
of $17.4 million and $9.0 million respectively for the same periods and
20
increases of $6.8 million and $15.2 million in selling, general and
administrative expenses. The 2000 figures were reduced, relative to 1999, upon
translation into U.S. Dollars at the actual foreign exchange rates applicable
for each year, due to the weakness of the Euro.
Restructuring charge and non-recurring items. The Company reorganized parts of
its business in 1999, as described in Notes 2 and 3 of the attached financial
statements, at a total cost of $8.7 million, of which $8.0 million arose in the
first nine months of 1999. In 2000 the U.S. sales forces for Raleigh and Diamond
Back have been combined, resulting in employee termination expenses of $0.6
million, while $0.2 million of expenses were incurred in the relocation of the
U.K. parts and accessories business. $0.2 million of expenses incurred in the
investigation of the German ERP system issues have been expensed as a non-
recurring item.
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Interest expense:
$ millions
Senior Notes……………………………………….. $3.8 $ 3.7 $11.6 $11.3
Subordinated Note…………………………………… 1.1 1.3 2.8 3.8
Revolving credit facility……………………………. 0.9 0.7 3.3 3.8
Bridge loan………………………………………… – – – 2.9
Other interest……………………………………… 0.1 0.5 0.6 1.1
Amortization of deferred financing costs………………. 0.5 0.5 1.4 1.4
— —- —- —-
Total interest expense…………………………….. $6.4 $ 6.7 $19.7 $24.3
=== ==== ==== ====
Interest expense. Interest expense increased by $0.3 million and $4.6 million
for the quarter and nine months ended October 1, 2000, of which $2.9 million
represents the fair value of Class C common stock warrants issued in the first
quarter in consideration for the use of the bridge loan. The remaining increase
was caused by four factors: a longer accounting period, higher revolver
borrowings, interest paid to vendors on overdue accounts payable plus interest
on the Subordinated Note for January 2000 and the effect of compounding the PIK
interest thereon: the Subordinated Note was issued on February 4, 1999 and
therefore the 1999 nine month figures only include 8 months interest on the
Subordinated Note. Interest on the Subordinated Note is paid-in-kind by way of
the issue of further subordinated notes.
Interest income. Interest income was earned on the cash proceeds of a property
disposition in December 1999, which were placed temporarily on deposit during
the first quarter of 2000.
Gain on dispositions of property, plant and equipment. The final part of the
UK manufacturing site was sold in the third quarter for $3.2 million cash,
realizing a gain of $2.2 million over book value. Additional costs of $0.6
million associated with the property disposition in December 1999 were
identified in the first quarter of 2000 and therefore expensed.
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
Provision for income taxes:
$ millions
Current taxes………………………………………. $(0.6) $ 0.2 $ 2.2 $ 3.7
Deferred taxes……………………………………… 0.1 0.5 (2.8) 1.5
—- — —- —-
Total provision for income taxes……………………. $(0.5) $ 0.7 $(0.6) $ 5.2
==== === ==== ====
Provision for income taxes. Deferred tax has been calculated in 2000 using the
same more prudent assumptions first adopted in the 1999 year end financials,
resulting in a reduction in the deferred tax recovery. Taxable losses continue
to be made in certain jurisdictions, including Germany, which cannot be offset
against the taxable income in other jurisdictions, including The Netherlands
where income has increased, leading to an increase in the provision for current
income taxes in 2000.
Net income. The net loss increased by $23.7 million and $34.5 million in the
quarter and nine months ended October 1, 2000. The increase in loss was the
21
result of the lower gross profit, higher selling, general and administrative,
higher interest expense, a book loss of $9.6 million on the sale of Sturmey
Archer in the second quarter and a higher provision for income taxes, offset by
a restructuring charge in 1999.
Dividends accrued on preferred stock. Dividends were not accrued on the
preferred stock in the first quarter of 1999 to correct an over-accrual in 1998.
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
EBITDA:
$ millions
Raleigh U.K………………………………………… $ 1.8 $ (1.0) $ 0.7 $(1.2)
Gazelle……………………………………………. 1.5 1.4 12.0 14.6
Derby Germany………………………………………. (2.2) (15.2) 5.5 (5.3)
Derby U.S.A………………………………………… 0.2 (5.3) 1.4 (7.4)
Raleigh Canada……………………………………… (0.1) (0.2) 2.3 2.3
Probike……………………………………………. 0.2 0.3 0.5 0.8
Other companies and group transactions………………… (1.2) (2.8) (2.4) (6.9)
—- —- — —
Total EBITDA at comparable exchange rates……………. 0.2 (22.8) 20.0 (3.1)
Retranslation to actual foreign exchange rates……….. – – 2.2 –
—- —- — —
Total EBITDA as reported…………………………… $ 0.2 $(22.8) $22.2 $(3.1)
==== ==== ==== =====
EBITDA. EBITDA at comparable exchange rates decreased by $23.0 million in the
quarter compared with year ago, in line with the decrease in underlying
operating income explained above. This produced an EBITDA loss for the first
nine months of $3.1 million, $23.1 million below year ago at comparable exchange
rates.
EBITDA is calculated as follows (excluding Sturmey Archer):
Quarter ended Nine months ended
————- —————–
Sept 26, Oct 1, Sept 26, Oct 1,
1999 2000 1999 2000
—- —- —- —-
EBITDA:
$ millions
Underlying operating income at actual foreign exchange $(1.3) $(24.8) $17.0 $(8.6)
rates……………………………………………..
Foreign currency contracts allocated to other income……. – 0.7 – 1.2
Depreciation……………………………………….. 2.0 1.7 6.7 5.6
Amortization
Intangibles………………………………………. 0.1 0.2 0.4 0.4
Investment grants…………………………………. (0.1) (0.1) (0.4) (0.3)
Positive goodwill…………………………………. 0.1 0.1 0.3 0.4
Negative goodwill…………………………………. (0.1) (0.1) (0.3) (0.3)
Pension transition asset…………………………… (0.5) (0.5) (1.5) (1.5)
—- —– —- —–
$ 0.2 $(22.8) $22.2 $(3.1)
==== ===== ==== =====
From September 27, 1999 the Company did not designate its forward foreign
currency exchange contracts as hedges, recording any realized gain or loss
through other income in the income statement in accordance with SFAS 133. As all
of these contracts were initiated to mitigate the Company’s foreign currency
trading transaction exposure: the realized gain of $0.7 million and $1.2 million
in the quarter and nine months ended October 1, 2000 arising from them has been
included in EBITDA to match these contracts with the transactions they relate
to, albeit that they do not meet all the hedge designation requirements of SFAS
133. The resulting EBITDA is consistent with the calculation used for the
quarter ended September 26, 1999, when the realized gain or loss resulting from
all such hedge contracts was included in operating income.
22
Depreciation reduced in 2000 following the disposal of the U.K. frame
manufacturing equipment in December 1999.
Liquidity and Capital Resources
Demand for bicycles in the Company’s principal markets is seasonal,
characterized in most cases by a majority of consumer sales in the spring and
summer months. The exceptions to this are in the United Kingdom, South Africa
and Ireland, where consumer sales of bicycles increase in the months preceding
Christmas: accordingly, dealers’ peak purchasing months in those countries are
October and November when they build inventory in anticipation of Christmas
sales of juvenile bicycles. Excluding this holiday seasonality, the Company’s
working capital requirements are greatest during February, March and April (the
Company’s "Peak Season") as receivable levels increase. The Company offers
extended credit terms on sales during the months prior to the Peak Season,
although the Company encourages early payments through trade discounts.
Finished goods inventory remains relatively constant throughout the fiscal year
and the level of raw materials increases and decreases normally only to
accommodate production needs. Work in process represents, on average, nine days’
production. Inventory levels should reach a minimum at the end of the season.
Net cash flows provided by operating activities decreased by $13.5 million to a
$5.7 million inflow for the first nine months from an inflow of $19.2 million in
1999. Five of the constituent elements of cash flow changed significantly year-
on-year. Firstly, operating income fell by $17.0 million as discussed in the
previous section. Secondly, although receivables were above year ago due to
higher revenues, the increase was actually $5.1 million lower due to an $11.0
million higher starting position in 2000 (including the Diamond Back acquisition
balance sheet in the 1999 starting position) caused by strong sales in the final
quarter of 1999. Third, higher planned production, together with unforeseen
production arrears in Germany and a fall in UK demand combined with an inventory
mix mis-aligned with market requirements, lead to an accumulation of inventories
in those countries and a $9.2 million lower overall decrease in inventories.
Fourth, the credit period taken from vendors has increased by 18 days,
generating $8.6 million of cash, while other liabilities dropped by $1.6
million, compared with a $5.0 million increase in 1999, as restructuring
expenses were accrued in the second quarter of 1999 and largely disbursed in the
last quarter of 1999 and the first quarter of 2000. Finally, income taxes paid
were $2.7 million net this period, compared with $7.3 million in the first nine
months of the previous year when tax postponed from 1997 and 1998 was paid.
Cash on hand at the beginning of the year was applied to the repayment of short-
term bank borrowings. Drawings of $30.8 million under the revolving credit
facility were repaid during the period, mainly from the proceeds of the $7.0
million bridge loan, which was converted into Junior Subordinated notes on July
31, 2000, the application of the $12.7 million cash proceeds of the property
disposal made in December 1999 and $9.1 million of cash on hand at the end of
1999. At the end of the period $26.7 million of the revolving credit facility
was unutilized and cash of $7.2 million was held.
The Company adopted SFAS 87, "Employers’ Accounting for Pensions and other Post
Retirement Benefits" on January 1, 1993. The impact of adopting SFAS 87 was the
recognition of a transition asset of $37.8 million. The transition asset is
being amortized into income over 15 years from January 1, 1989, the effective
date of SFAS 87. Net periodic pension income was $3.9 million in the first nine
months of 1999 and 2000. Net periodic pension income includes amortization of
the transition asset into income of $1.8 million and $1.7 million in the first
nine months of 1999 and 2000.
The Company’s capital expenditures were $4.5 million and $6.5 million in the
first nine months of 1999 and 2000. Apart from $0.8 million invested in the UK
relocating the parts and accessories distribution center and reorganizing the
manufacturing following the cessation of frame manufacture and $0.7 million
invested in Bikeshop.com systems, this comprised (i) on-going cost reduction
projects, (ii) replacements and (iii) items required to satisfy statutory
environmental and health and safety legislation.
The Company is primarily financed by equity purchased by Thayer, Perseus, DICSA
and management as part of a recapitalization in May 1998 and subsequently, plus
retained equity that was not recapitalized of, in aggregate, $135.2 million and
23
debt in the form of Senior Notes, the revolving credit facility and subordinated
notes. The Company incurred significant indebtedness in connection with the
Recapitalization. As of October 1, 2000, the Company had $233.4 million of
combined indebtedness, comprising $149.3 million of Senior Notes, a $20.0
million Subordinated Note, $7.0 million of Junior Subordinated Notes from Thayer
and Perseus, as well as $37.1 million of draw downs, $0.3 million of overdraft
and $4.9 million of guarantees under the revolving credit facility and $1.0
million of borrowings under the South African Credit Facility. The Senior Notes
are issued under Indentures which contain certain covenants that, among other
things, restrict the ability of the Company and its Restricted Subsidiaries to
incur additional indebtedness, pay dividends, redeem capital stock, redeem
subordinated obligations, make investments, undertake sales of assets and
subsidiary stock, engage in transactions with affiliates, issue capital stock,
permit liens to exist, operate in other lines of business, engage in certain
sale and leaseback transactions and engage in mergers, consolidations or sales
of all or substantially all the assets of the Company. Accordingly, certain
activities or transactions that the Company may want to pursue or enter into may
be restricted or prohibited, and such restrictions and prohibitions could, from
time to time, impact available cash on hand and the liquidity of the Company.
The Company uses derivative financial instruments including interest rate caps,
forward foreign exchange contracts, and currency options. The Company enters
into forward foreign exchange contracts and options to reduce the impact of
currency movements, principally on purchases of inventory and sales of goods
denominated in currencies other than the subsidiaries’ functional currencies.
Interest rate caps were purchased to limit the blended interest rate paid on the
revolving credit facility to under 8.4% until July 2001. Currency options were
purchased to substantially maintain the value of part of the foreign operating
income upon conversion into U.S. Dollars, in order to protect the ability to
service the U.S. Dollar Senior Notes from the effect of changes in foreign
exchange rates until May 2001.
The Revolving Credit Agreement provided for a seven-year DM214 million secured
senior revolving credit facility to be made available to the Company’s operating
companies. Borrowings under this revolving credit facility are available subject
to a borrowing base determined as a percentage of eligible assets. The Company’s
borrowings peak in February, March and April each year. The facility was reduced
to DM183 million on June 30, 2000, the DM31 million reduction being equivalent
to the proceeds of a property sale completed in December 1999 and the working
capital of the Sturmey Archer business that was sold.
On July 31, 2000 Thayer and Perseus converted their interest free bridge loans
of $7.0 million into Junior Subordinated Notes due May 15, 2008. The Company
issued 2,500 Class C Warrants to Thayer and Perseus in consideration for the use
of the bridge loan. Interest accrues on the Junior Subordinated Notes at 18% pa
and is paid-in-kind by way of issue of further Junior Subordinated Notes.
The Company expects that the existing revolving credit facility will not be
sufficient to cover its liquidity requirements. The Company is currently
negotiating with the lenders under its Credit Agreement to increase its line of
credit and to amend certain financial covenants in the Credit Agreement. In
addition, the Company is exploring other financing options including raising new
equity and/or debt capital. No assurance can be given that the Company will be
successful in meeting these objectives. The Company’s non-compliance with
certain borrowing covenants is discussed under "Restrictive loan covenants".
Quantitative and Qualitative Disclosures about Market Risk
The Company is exposed to market risk from changes in foreign currency exchange
rates and interest rates. In order to manage the risk arising from these
exposures, the Company enters into a variety of foreign currency and interest
rate contracts and options. The Company’s accounting policies for derivative
instruments are included in Note 2 to the consolidated financial statements
included in the Company’s form 10-K for the year ended December 31, 1999.
Foreign currency exchange rate risk
The Company has foreign currency exposures related to buying and selling in
currencies other than the functional currencies in which it operates. The
Company’s net trading position is long in the Euro, Pounds Sterling, Canadian
Dollar and South African Rand, arising from its revenues in those currencies,
and short of the New Taiwan Dollar, Japanese Yen and U.S. Dollar as a result of
components purchased in those currencies. The Company had a natural currency
hedge against fluctuations in Pounds Sterling arising from its position as both
an importer and exporter in U.K. until it sold Sturmey Archer.
24
The Company generally introduces its new bicycle model ranges annually in the
fall of each year, at a similar time to most of its competitors. Product
specifications, component costs and selling prices are kept as stable as
possible during the model year to satisfy the requirements of mass-merchandisers
and facilitate orderly marketing of branded products amongst I.B.D.s. The
Company initiates foreign currency forward exchange contracts or options in the
fall to hedge some of its foreign currency trading transaction exposure for the
upcoming season. The fair value of such contracts at December 31, 1999 was $0.9
million. The potential loss in fair value for such financial instruments from a
hypothetical 10% adverse change in quoted foreign currency exchange rates would
be approximately $2.0 million for 1999. Each year the Company changes the
specification of its products to endeavor to optimize its competitive position
and margins. Since most of the Company’s competitors purchase comparable
components from similar sources to the Company and are believed not to hedge
beyond the current season, the Company does not generally hedge its transaction
exposure beyond the end of the season, to stay competitive. Management believes
the likelihood of obtaining a competitive advantage would not justify the cost
of hedging beyond the end of the season. Sales and purchases in currencies other
than the functional currencies in which the Company operates were $30.4 million
and $127.4 million respectively in 1999, treating the currencies within the Euro
currency area as one.
The foreign currency element of the Company’s debt under the Senior Notes and
revolving credit facility is generally arranged to align with the denomination
of the book value of net assets. By doing this, the Company reduces the
translation exposure of net worth to changes in foreign currency exchange rates.
The three principal exceptions are: (1) $38 million of net assets denominated in
Pounds Sterling arising from the Company’s former large presence in U.K., (2)
$40 million of foreign pension assets in U.K. and The Netherlands, and, (3) $6
million denominated in South African Rand due to limits placed by the South
African Reserve Bank on the maximum indebtedness allowed by foreign owned
corporations, based on the balance sheet as at December 31, 1999.
The Company generates most of its trading income in foreign currencies. In order
to ensure that such trading income can be converted to yield sufficient U.S.
Dollars to service 67% of the interest on the $100 million 10% Senior Notes
through May 2001, currency options were purchased in 1998. These currency
options are for $6.7 million per year, selling NLG6 million, GBP2 million and
C$1.2 million. At December 31, 1999 the fair value of these currency options was
$0.1 million. As the purchaser of options has no obligations to exercise them,
any weakening of the value of the U.S. Dollar can do no more than reduce the
fair value of these currency options to zero.
Interest rate risk
Interest expense relating to the Senior Notes was $15.6 million in 1999, which
was at fixed interest rates. Interest expense on the Subordinated Note of $3.8
million in 1999 is paid-in-kind through the issue of additional Subordinated
Notes. The other major element of the Company’s interest expense was $4.3
million on the revolving credit facilities in 1999. These were at floating rates
of 2.0% above the London Interbank Offer Rate through August 31, 1999 and 2.5%
thereafter. A hypothetical one percentage point shift in floating interest rates
would have a $0.7 million approximate impact on annual interest expense. As
interest rates on the revolving credit facilities have been capped at 8.4%
effective August 1998 through July 2001, increases in floating interest rates
above that level would only have limited impact on expense.
Commodity price risk
The business of the Company does not carry a significant direct exposure to the
prices of commodities.
Unsecured status of senior notes and asset encumbrance
The Senior Note Indentures permit the Company to incur certain secured
indebtedness, including indebtedness under the Revolving Credit Agreement, which
is secured and guaranteed by the obligors thereunder through a first priority
fully protected security interest in all the assets, properties and undertakings
of the Company and each other obligor thereunder where available and cost
effective to do so, and to the extent permissible by local laws. The Company has
facilities available under the Revolving Credit Agreement of DM182.9 million
($82.0 million). As of October 1, 2000, the Company had indebtedness outstanding
under the Revolving Credit Agreement of $41.4 million. Borrowings of $1.0
million under the South African Credit Facility are secured by a security
interest in certain of the assets of the Company’s South African subsidiaries.
The Senior Notes are unsecured and therefore do not have the benefit of any such
collateral. Accordingly, if an event of default were to occur under the
Revolving Credit Agreement or the South African Credit Facility, the lenders
25
thereunder would have the right to foreclose upon the collateral securing such
indebtedness to the exclusion of the holders of the Senior Notes,
notwithstanding the existence of an event of default with respect to the Senior
Notes. In such event, the assets constituting such collateral would first be
used to repay in full all amounts outstanding under the Revolving Credit
Agreement or the South African Credit Facility, as applicable, resulting in all
or a portion of the assets of the Issuers being unavailable to satisfy the
claims of holders of the Senior Notes and other unsecured indebtedness of the
Issuers. The Company may also incur other types of secured indebtedness under
the Senior Note Indentures, including up to $20 million in indebtedness of any
type, indebtedness of an acquired company where the Company would have been able
to incur $1.00 of additional indebtedness under its Consolidated Coverage Ratio,
indebtedness in respect of performance bonds, bankers’ acceptances, letters of
credit, and the like, purchase money indebtedness and capitalized lease
obligations in an aggregate amount not exceeding $10 million, indebtedness
incurred by foreign subsidiaries not exceeding $5 million, and indebtedness
incurred by a securitization entity.
Restrictive loan covenants
The Revolving Credit Agreement contains a number of covenants that, among other
things, restrict the ability of the Company and its subsidiaries to dispose of
shares in any subsidiary, dispose of assets, incur additional indebtedness,
engage in mergers and acquisitions, exercise certain options, make investments,
incur guaranty obligations, make loans, make capital distributions, enter into
joint ventures, repay the Notes, make loans or pay any dividend or distribution
to the Issuers for any reason other than (among other things) to pay interest
(but not principal) owing in respect of the Notes, incur liens and encumbrances
and permit the amount of receivables and inventory to exceed specified
thresholds.
The ability of the Company to comply with the covenants and other provisions of
the Revolving Credit Agreement may be affected by changes in general economic
and competitive conditions and by financial, business and other factors that are
beyond the Company’s control. The failure to comply with the provisions of the
Revolving Credit Agreement could result in an event of default thereunder, and,
depending upon the actions of the lenders thereunder, all amounts borrowed under
the Revolving Credit Agreement, together with accrued interest, could be
declared due and payable. If the Company were not able to repay all amounts
borrowed under the Revolving Credit Agreement, together with accrued interest,
the lenders thereunder would have the right to proceed against the collateral
granted to them to secure such indebtedness. If the indebtedness outstanding
under the Revolving Credit Agreement were to be accelerated, there can be no
assurance that the assets of the Company would be sufficient to repay in full
such indebtedness, and there can be no assurance that there would be sufficient
assets remaining after such repayments to pay amounts due in respect of any or
all of the Notes.
In addition, the Senior Note Indentures contain certain covenants that, among
other things, restrict the ability of the Company and its Restricted
Subsidiaries to incur additional indebtedness, pay dividends on and redeem
capital stock, redeem certain subordinated obligations, make investments,
undertake sales of assets and subsidiary stock, engage in certain transactions
with affiliates, sell or issue capital stock, permit liens to exist, operate in
other lines of business, engage in certain sale and leaseback transactions and
engage in mergers, consolidations or sales of all or substantially all the
assets of the Company. A failure to comply with the restrictions contained in
either of the Senior Note Indentures could result in an event of default under
such indenture.
All of the Company’s freehold property and intellectual property located in
Canada, Germany, Ireland, The Netherlands, Sweden, U.K. and U.S.A. is pledged as
security for the Company’s seven year revolving credit facility of
DM182,885,854.
The Company covenanted to reduce its Aggregate Financial Indebtedness, as
defined in the Revolving Credit Agreement, to $55 million on July 4, 2000.
Aggregate Financial Indebtedness, which includes undrawn letters of credit, at
that date was $59.3 million. The banks waived the default, which was corrected
by the conversion, on July 30, 2000, of the $7.0 million bridge loan to Junior
Subordinated Notes which are excluded from the definition of Aggregate Financial
Indebtedness under the Revolving Credit Agreement as amended.
At August 6, 2000 the Company breached the Inventory Days covenant, as defined
in the Revolving Credit Agreements. Additionally at October 1, 2000 the Company
breached the Consolidated Adjusted EBITDA to Consolidated Net Interest Payable,
26
Consolidated Adjusted EBITDA and Financial Indebtedness covenants, as defined in
the Revolving Credit Agreement. The banks granted waivers of these breaches
through October 30, 2000. The Company has currently drawn down DM118.1 million
and has ancillary facilities available to it of DM24.0 million, out of the total
facility of DM182.9 million ($82 million), but cannot make further draw downs
under the Revolving Credit Agreement until and unless the current negotiations
with the lenders are complete. No assurance can be given that the Company will
be successful in its negotiations with its lenders.
Risk of foreign exchange rate fluctuations; introduction of the Euro
The Company’s business is conducted by operating subsidiaries in many countries,
and, accordingly, the Company’s results of operations are subject to currency
translation risk and currency transaction risk. With respect to currency
translation risk, the results of operations of each of these operating
subsidiaries are reported in the relevant local currency and then translated
into U.S. Dollars at the applicable currency exchange rate for inclusion in the
Company’s financial statements. The appreciation of the U.S. Dollar against the
local currencies of the operating subsidiaries will have a negative impact on
the Company’s sales and operating margin. Conversely, the depreciation of the
U.S. Dollar against such currencies will have a positive impact. Fluctuations in
the exchange rate between the U.S. Dollar and the other currencies in which the
Company conducts its operations may also affect the book value of the Company’s
assets and the amount of the Company’s shareholders’ equity. In addition, to the
extent indebtedness of the Company is denominated in different currencies,
changes in the values of such currencies relative to other currencies in which
the Company conducts its operations may have a negative impact on the Company’s
ability to meet principal and interest obligations in respect of such
indebtedness.
In addition to currency translation risk, the Company incurs currency
transaction risk to the extent that the Company’s operations involve
transactions in differing currencies. Fluctuations in currency exchange rates
will impact the Company’s results of operations to the extent that the costs
incurred by the operating subsidiaries are denominated in currencies that differ
from the currencies in which the related sale proceeds are denominated. To
mitigate such risk, the Company may enter into foreign currency forward exchange
contracts primarily relating to the Pound Sterling, the U.S. Dollar, the Dutch
Guilder, the Deutsche Mark, the New Taiwan Dollar and the Yen. Given the
volatility of currency exchange rates, there can be no assurance that the
Company will be able effectively to manage its currency transaction risks or
that any volatility in currency exchange rates will not have a material adverse
effect on the Company’s business, financial condition or results of operations.
Under the treaty on the European Economic and Monetary Union (the "Treaty"), to
which the Federal Republic of Germany and the Netherlands are signatories, on
January 1, 1999, a European single currency (the "Euro") replaced some of the
currencies of the member states of the European Union (the "E.U."), including
the Deutsche Mark and Dutch Guilder.
Following introduction of the Euro, the existing sovereign currencies (the
"legacy currencies") of the eleven participating member countries of the E.U.
(the "participating countries") who adopted the Euro as their common legal
currency are scheduled to remain legal tender in the participating countries as
denominations of the Euro until January 1, 2002 (the "transition period"). The
Euro conversion may impact the Company’s competitive position as the Company may
incur increased costs to conduct business in an additional currency during the
transition period. Additionally, the participating countries’ pursuit of a
single monetary policy through the European Central Bank may affect the exchange
rate of the Euro, and therefore of the legacy currencies, as well as the
economies of significant markets of the Company. The Company will also need to
maintain and in certain circumstances develop information systems software to
(1) convert legacy currency amounts to Euro; (2) convert one legacy currency to
another; (3) perform prescribed rounding calculations to effect currency
conversions; and (4) permit transactions to take place in both legacy currencies
and the Euro during the transition period. Since the Company conducts extensive
business operations in, and exports its products to, several of the
participating countries, there can be no assurance that the conversion to the
Euro will not have a material adverse effect on the Company’s business,
financial condition or results of operations. Similarly, in the event that the
Company materially underestimates the costs, timeliness and adequacy of
modifications to its information systems software, there could be a material
adverse effect on the Company’s business, financial condition and result
