The Loan Agreement also contains a provision for our use of the Bank’s letters of credit. The Bank agrees to issue, or obtain issuance of commercial or stand-by letters of credit provided that no letters of credit will have an expiry date later than June 15, 2017 (see Note 12), and that the sum of the line of credit plus the letters of credit would not exceed the borrowing base in effect at the time. For the quarter ended May 31, 2017, we had no letters of credit outstanding.
Basic earnings per share (“EPS”) is computed by dividing net earnings by the weighted average number of common shares outstanding during the period. Diluted EPS is based on the combined weighted average number of common shares outstanding and dilutive potential common shares issuable which include, where appropriate, the assumed exercise of options. In computing diluted EPS we have utilized the treasury stock method. The computation of weighted average common and common equivalent shares used in the calculation of basic and diluted EPS is shown below.
Our Board of Directors has adopted a stock repurchase plan in which we may purchase up to a total of 3,000,000 shares as market conditions warrant. This plan has no expiration date. During the ninethree months ended November 30, 2016,May 31, 2017, we repurchased 23did not repurchase any shares of common stock. The maximum number of shares that can be repurchased in the future is 303,129.
We account for stock-based compensation whereby share-based payment transactions with employees, such as stock options and restricted stock, are measured at estimated fair value at date of grant and recognized as compensation expense over the vesting period. No such transactions occurred duringin the ninethree months ended November 30, 2016May 31, 2017 and 2015.2016.
Outbound freight and handling costs incurred are included in operating and selling expenses and were $4,569,900$3,185,600 and $3,267,800$3,465,700 for the three months ended November 30,May 31, 2017 and 2016, and 2015, respectively. These costs were $12,134,700 and $5,872,900 for the nine months ended November 30, 2016 and 2015, respectively.
The valuation hierarchy included in U.S. GAAP considers the transparency of inputs used to value assets and liabilities as of the measurement date. A financial instrument'sinstrument’s classification within the valuation hierarchy is based on the lowest level of input that is significant to its fair value measurement. The three levels of the valuation hierarchy and the classification of our financial assets and liabilities within the hierarchy are as follows:
Level 1 - Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
Level 2 - Observable inputs other than quoted prices included within Level 1 for the asset or liability, either directly or indirectly. If an asset or liability has a specified term, a Level 2 input must be observable for substantially the full term of the asset or liability.
Level 3 - Unobservable inputs for the asset or liability.
11
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Factors Affecting Forward LookingForward-Looking Statements
MD&AThe following discussion contains forward-looking statements that reflect our future plans, estimates, beliefs and expected performance. The forward-looking statements are forward-looking and include numerous risks which you should carefully consider. Additionaldependent upon events, risks and uncertainties can alsothat may be outside our control. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, number of our success in recruiting and adversely affectretaining new consultants, our business. You should readability to locate and procure desired books, our ability to ship the following discussionvolume of orders that are received without creating backlogs, our ability to obtain adequate financing for working capital and capital expenditures, economic and competitive conditions, regulatory changes and other uncertainties, as well as those factors discussed below and elsewhere in connection with our condensed financial statements, includingAnnual Report on Form 10-K for the notesyear ended February 28, 2017 and this Quarterly Report on Form 10-Q, all of which are difficult to those statements, includedpredict. In light of these risks, uncertainties and assumptions, the forward-looking events discussed may or may not occur. See “Cautionary Remarks Regarding Forward-Looking Statements” in the front of this document. Our fiscal years endQuarterly Report on February 28(29).Form 10-Q.
Overview
We operate two separate divisions, EDC Publishing andsegments: Usborne Books & More (“UBAM”), and Publishing, to sell theour Usborne and Kane Miller lines of children’s books. These two divisionssegments each have their own customer base. EDCThe Publishing segment markets its products on a wholesale basis to various retail accounts. The UBAM segment markets its products to individual consumersthrough a network of independent sales consultants using a combination of direct sales, home shows, book fairs and internet sales. All other supporting administrative activities are recognized as other expenses outside of our two segments. Other expenses are primarily compensation of our office, warehouse and sales support staff as well as schoolthe cost of operating and public libraries.maintaining our corporate office and distribution facility.
The following table shows our condensed statements of earnings data asdata:
| | Three Months Ended May 31, | | | Nine Months Ended November 30, | |
| | 2017 | | | 2016 | | | 2017 | | | 2016 | |
Net revenues | | $ | 26,930,800 | | | $ | 22,784,200 | | | | 100.0 | % | | | 100.0 | % |
Cost of goods sold | | | 7,424,800 | | | | 6,673,800 | | | | 33.3 | % | | | 40.0 | % |
Gross margin | | | 19,506,000 | | | | 16,110,400 | | | | 66.7 | % | | | 60.0 | % |
Operating expenses: | | | | | | | | | | | | | | | | |
Operating and selling | | | 5,392,400 | | | | 4,728,900 | | | | 27.9 | % | | | 28.1 | % |
Sales commissions | | | 8,509,200 | | | | 6,974,100 | | | | 27.7 | % | | | 20.8 | % |
General and administrative | | | 3,713,900 | | | | 3,558,100 | | | | 3.3 | % | | | 5.9 | % |
Total operating expenses | | | 17,615,500 | | | | 15,261,100 | | | | 58.9 | % | | | 54.8 | % |
Other income (expense) | | | | | | | | | | | 7.8 | % | | | 5.2 | % |
Interest expense | | | (281,500 | ) | | | (216,500 | ) | | | -0.1 | % | | | -0.1 | % |
Other income | | | 373,200 | | | | 371,800 | | | | -0.1 | % | | | -0.1 | % |
Earnings before income taxes | | | 1,982,200 | | | | 1,004,600 | | | | 7.7 | % | | | 5.1 | % |
Income taxes | | | 756,900 | | | | 384,400 | | | | 2.9 | % | | | 2.0 | % |
Net earnings | | $ | 1,225,300 | | | $ | 620,200 | | | | 4.8 | % | | | 3.1 | % |
See the detailed discussion of revenues, costs of services, gross margin, general and administrative expenses by reportable segment below. The following is a percentagediscussion of net revenues.significant changes in the non-segment related general and administrative expenses, other income and expenses and income taxes during the respective periods.
Earnings as a Percent of Net Revenues | |
| |
| | Three Months Ended November 30, | | | Nine Months Ended November 30, | |
| | 2016 | | | 2015 | | | 2016 | | | 2015 | |
Net revenues | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % | | | 100.0 | % |
Cost of sales | | | 27.1 | % | | | 30.2 | % | | | 28.4 | % | | | 33.3 | % |
Gross margin | | | 72.9 | % | | | 69.8 | % | | | 71.6 | % | | | 66.7 | % |
Operating expenses: | | | | | | | | | | | | | | | | |
Operating and selling | | | 32.5 | % | | | 28.2 | % | | | 33.0 | % | | | 27.9 | % |
Sales commissions | | | 31.0 | % | | | 30.9 | % | | | 31.2 | % | | | 27.7 | % |
General and administrative | | | 3.5 | % | | | 2.3 | % | | | 3.6 | % | | | 3.3 | % |
Total operating expenses | | | 67.0 | % | | | 61.4 | % | | | 67.8 | % | | | 58.9 | % |
Other income (expense) | | | | | | | | | | | | | | | | |
Interest expense | | | -0.9 | % | | | 0.0 | % | | | -0.9 | % | | | 0.0 | % |
Other income | | | 1.7 | % | | | 0.0 | % | | | 1.6 | % | | | -0.1 | % |
Earnings before income taxes | | | 6.7 | % | | | 8.4 | % | | | 4.5 | % | | | 7.7 | % |
Income taxes | | | 2.5 | % | | | 3.2 | % | | | 1.7 | % | | | 2.9 | % |
Net earnings | | | 4.2 | % | | | 5.2 | % | | | 2.8 | % | | | 4.8 | % |
Operating ResultsGeneral and administrative expenses not associated with a reporting segment remained consistent totaling $3,056,800 for the Three Months Ended November 30, 2016three-month period ending May 31, 2017, compared to $3,007,200 for the same quarterly period a year ago.
We earned income before income taxes of $2,040,100Interest expense increased $65,000 to $281,500 for the three months ended November 30, 2016, compared with $2,033,100May 31, 2017, from $216,500 for the three months ended November 30, 2015.
Revenues
| | For the Three Months Ended November 30, | | | | | | | |
| | 2016 | | | 2015 | | | $ Change | | | % Change | |
Gross sales | | $ | 34,397,300 | | | $ | 28,931,400 | | | $ | 5,465,900 | | | | 18.9 | |
Less discounts and allowances | | | (6,948,000 | ) | | | (6,751,600 | ) | | | (196,400 | ) | | | 2.9 | |
Transportation revenue | | | 3,248,300 | | | | 2,244,400 | | | | 1,003,900 | | | | 44.7 | |
Net revenues | | $ | 30,697,600 | | | $ | 24,424,200 | | | $ | 6,273,400 | | | | 25.7 | |
UBAM’s gross sales increased $4,506,900 during the three-month period ending November 30, 2016, when compared with the same quarterly period a year ago. TheInterest expense increased primarily as a result of increased line of credit borrowings and additional interest associated with the Term Loan #2 totaling $4,000,000 which was borrowed during the second quarter of fiscal 2017. Our additional borrowings associated with the increased line of credit borrowing and Term Loan #2 were used to fund working capital needs associated with our growth in sales increase resulted from increases of:
· | 26% in internet and home party sales, and |
and inventory.
Offset by a decrease of:
· | 42% in school and library sales |
OverIncome taxes increased $372,500 to $756,900 for the past year, the number of active sales consultants increased 63% to approximately 28,100 as of November 30, 2016, compared with 17,200 active consultants as of November 30, 2015.
The increase in internet and home party sales is attributed to a 31% increase in the total number of orders, offset by a 4% decrease in average order size. This increase in the total number of orders is a result of the increase in the number of sales consultants and their use of social media to conduct online events such as virtual home parties.
The increase in fundraiser sales is attributed to a 90% increase in the total number of orders, offset by a 35% decrease in the average order size.
The decrease in school and library sales is attributed to a 49% decrease in the average order size, offset by a 13% increase in the total number of orders.
EDC Publishing’s gross sales increased $959,000 during the three-month period ending November 30, 2016, when compared withthree months ended May 31, 2017, from $384,400 for the same quarterly period a year ago. Much of this increase is due to timing because the significant increase in UBAM sales had affected our ability to ship EDC Publishing sales in the same timeframe we had historically shipped orders. During the third quarter we were able to ship a significant amount of our backlog of EDC Publishing orders from the first two quarters of fiscal 2017. The increase in shipments during the third quarter affected our sales with an 83% increase in sales to major national accounts and a 2% increase in sales to smaller retail stores. We expect EDC Publishing sales for the year to continue to improve as our shipping timeframes return to historical levels as a result of significant capital improvements implemented during fiscal year 2017.
UBAM’s discounts and allowances were $3,528,100 and $3,855,300 for the quarterly periods ended November 30, 2016 and 2015, respectively. UBAM is a multi-level selling organization that markets its products through independent sales consultants. Sales are made to individual purchasers, and to school and public libraries. Gross sales in UBAM are based on the retail sales prices of the products. As a part of UBAM’s varied marketing programs, discounts relevant to the particular program are offered. The discounts and allowances in UBAM will vary from year-to-year depending on the marketing programs in place during any given period. The UBAM’s discounts and allowances were 12.6% and 16.5% of UBAM’s gross sales for the quarterly periods ended November 30, 2016 and 2015, respectively.
EDC Publishing’s discounts and allowances are a much larger percentage of gross sales than discounts and allowances in UBAM due to the different customer markets that each division targets. EDC Publishing’s discounts and allowances were $3,419,900 and $2,896,300 for the quarterly periods ended November 30, 2016 and 2015, respectively. EDC Publishing sells to retail book chains, regional and local bookstores, toy and gift stores, school supply stores and museums. To be competitive with other wholesale book distributors, EDC Publishing sells at discounts between 48% and 55% of the retail sales prices of the products, based upon the quantity of books ordered and the dollar amount of the order. EDC Publishing’s discounts and allowances were 52.7% and 52.4% of EDC Publishing’s gross sales for the quarterly periods ended November 30, 2016 and 2015, respectively.
Transportation revenue increased to $3,248,300 from $2,244,400 when comparing the quarterly period ended November 30, 2016, to the same period in 2015. Transportation revenues primarily relate to UBAM and are based on a percentage of the total order, with a per-order minimum charge.
Expenses
| | For the Three Months Ended November 30, | | | | | | | |
| | 2016 | | | 2015 | | | $ Change | | | % Change | |
Cost of sales | | $ | 8,328,100 | | | $ | 7,386,200 | | | $ | 941,900 | | | | 12.8 | |
Operating and selling | | | 9,965,900 | | | | 6,888,000 | | | | 3,077,900 | | | | 44.7 | |
Sales commissions | | | 9,521,000 | | | | 7,549,400 | | | | 1,971,600 | | | | 26.1 | |
General and administrative | | | 1,080,300 | | | | 564,800 | | | | 515,500 | | | | 91.3 | |
Total | | $ | 28,895,300 | | | $ | 22,388,400 | | | $ | 6,506,900 | | | | 29.1 | |
Cost of sales increased 12.8% for the three months ended November 30, 2016, when compared with the three months ended November 30, 2015. Cost of sales as a percentage of gross sales were 24.2% and 25.9%, for each of the three-month periods ended November 30, 2016 and 2015, respectively. Cost of sales is the inventory cost of the product sold, which includes the cost of the product itself and inbound freight charges. Purchasing and receiving costs, inspection costs, warehousing costs, and other costs of our distribution network are included in operating and selling expenses, not in cost of sales. These costs totaled $1,675,300 in the quarter ended November 30, 2016, and $950,500 in the quarter ended November 30, 2015.
In addition to costs associated with our distribution network (noted above), operating and selling costs include expenses of EDC Publishing, UBAM and the order entry and customer service functions. Operating and selling expenses as a percentage of gross sales were 29.0% for the quarter ended November 30, 2016, and 23.8% for the quarter ended November 30, 2015. This increase is primarily due to a 76% increase in purchasing and receiving costs, inspection costs, warehousing costs, and other costs of our distribution network, along with a 40% increase in shipping and handling costs.
Sales commissions in EDC Publishing decreased 10.5% to $95,700 for the three months ended November 30, 2016, when compared with the same quarterly period a year ago. EDC Publishing sales commissions are paid on net sales and were 3.1% of net sales for the quarter ended November 30, 2016, and 4.0% for the quarter ended November 30, 2015. Sales commissions in EDC Publishing fluctuate depending upon the amount of sales made to our house accounts, which are EDC Publishing’s largest customers and do not have any commission expense associated with them, and sales made by our outside sales representatives.
Sales commissions in UBAM increased 26.6% to $9,425,300 for the three months ended November 30, 2016, when compared with the same quarterly period a year ago, primarily due to the increase in net sales for the same period. UBAM sales commissions were 28.9% of gross sales for the three months ended November 30, 2016, and 31.8% of gross sales for the three months ended November 30, 2015. The fluctuation in the percentages of commission expense to gross sales is the result of the type of sale. Internet and home parties, book fairs, and school and library sales have different commission rates. Also contributing to the fluctuations in the percentages is the payment of overrides and bonuses, both dependent on consultants’ monthly sales and downline sales.
Our effective tax rate was 37.5%38.2% for the quarter ended November 30, 2016,May 31, 2017, and 38.1%38.3% for the quarter ended November 30, 2015.May 31, 2016. These rates are higher than the federal statutory rate due to the inclusion of state income and franchise taxes.
UBAM Operating Results for the NineThree Months Ended November 30, 2016May 31, 2017
We earned income before income taxesThe following table summarizes the operating results of $3,565,400the UBAM segment for the ninethree months ended November 30, 2016, compared with $3,603,800 for the nine months ended November 30, 2015.May 31, 2017 and 2016:
| | For the Three Months Ended May 31, | | | | | | | |
| | 2017 | | | 2016 | | | $ Change | | | % Change | |
Gross sales | | $ | 26,648,400 | | | $ | 22,147,800 | | | $ | 4,500,600 | | | | 20.3 | |
Less discounts and allowances | | | (4,533,200 | ) | | | (3,764,300 | ) | | | (768,900 | ) | | | 20.4 | |
Transportation revenue | | | 2,693,500 | | | | 2,266,700 | | | | 426,800 | | | | 18.8 | |
Net revenues | | | 24,808,700 | | | | 20,650,200 | | | | 4,158,500 | | | | 20.1 | |
| | | | | | | | | | | | | | | | |
Cost of sales | | | 6,299,700 | | | | 5,572,800 | | | | 726,900 | | | | 13.0 | |
Gross margin | | | 18,509,000 | | | | 15,077,400 | | | | 3,431,600 | | | | 22.8 | |
Gross margin percentage | | | 75 | % | | | 73 | % | | | | | | | | |
OPERATING EXPENSES | | | | | | | | | | | | | | | | |
Operating and selling | | | 4,330,100 | | | | 4,028,900 | | | | 301,200 | | | | 7.5 | |
Sales commissions | | | 8,423,700 | | | | 6,895,800 | | | | 1,527,900 | | | | 22.2 | |
General and administrative | | | 1,377,000 | | | | 955,200 | | | | 421,800 | | | | 44.2 | |
Total Operating Expenses | | | 14,130,800 | | | | 11,879,900 | | | | 2,250,900 | | | | 18.9 | |
| | | | | | | | | | | | | | | | |
Operating Income | | $ | 4,378,200 | | | $ | 3,197,500 | | | $ | 1,180,700 | | | | 36.9 | |
| | | | | | | | | | | | | | | | |
Average number of active consultants | | | 25,600 | | | | 20,600 | | | | 5,000 | | | | 24.3 | |
Revenues
| | For the Nine Months Ended November 30, | | | | | | | |
| | 2016 | | | 2015 | | | $ Change | | | % Change | |
Gross sales | | $ | 91,657,200 | | | $ | 59,920,100 | | | $ | 31,737,100 | | | | 53.0 | |
Less discounts and allowances | | | (20,581,900 | ) | | | (16,953,700 | ) | | | (3,628,200 | ) | | | 21.4 | |
Transportation revenue | | | 8,299,500 | | | | 3,702,400 | | | | 4,597,100 | | | | 124.2 | |
Net revenues | | $ | 79,374,800 | | | $ | 46,668,800 | | | $ | 32,706,000 | | | | 70.1 | |
UBAM’s grossThe UBAM segment’s sales consist of fundraiser sales, home party sales and school and library sales that are primarily processed through internet orders. Gross sales increased $35,146,600$4,500,600, or 20.3%, during the nine-monththree-month period ending November 30, 2016,May 31, 2017, when compared with the same nine-month periodquarter a year ago. The sales increase primarily resulted from increases of:
· | 206% in fundraiser sales, |
· | 132% in internet and home party sales, and |
· | 17% in school and library sales |
Over the past year, theactive consultants. The average number of active sales consultants increased 63% to approximately 28,100 as of November 30, 2016, compared with 17,200 active consultants as of November 30, 2015.
The increase in fundraiser sales is attributed to a 161% increase in the total number of orders and a 17% increase in the average order size.
The increase in internet and home party sales is attributed to a 136% increase in the total number of orders, offset by a 2% decrease in average order size. This increase in the total number of orders is a result of the increase in the number of sales consultants and their use of social media to conduct online events such as virtual home parties.
The increase in school and library sales is attributed to a 50% increase in the total number of orders, offset by a 22% decrease in average order size.
EDC Publishing’s gross sales decreased $3,409,500 during the nine-month period ending November 30, 2016, when compared with the same nine-month period a year ago. The significant increase in UBAM sales has affected our ability to ship all EDC Publishing sales in the same timeframe we have historically shipped orders. The decrease in shipments affected our sales with a 40% decrease in sales to major national accounts and a 13% decrease in sales to smaller retail stores. EDC Publishing’s sales began to improve during the third quarter and we expect this improvement to continue for the rest of the fiscal year as our shipping timeframes continue to return to historical levels as a result of significant capital improvements implemented late5,000, or 24.3% from 20,600 in the first quarter of fiscal year 2017 to 25,600 in the first quarter of fiscal 2018. Our consultant growth is driven by existing active consultants recruiting and improvements in operational flow.retaining new consultants.
UBAM’s discounts and allowances were $12,414,500 and $7,061,700Gross margin increased $3,431,600, or 22.8%, during the three-month period ending May 31, 2017, when compared to the same quarter a year ago, due primarily to increase in sales. Gross margins, as a percentage of net revenues, grew to 75% for the nine-month periods ended November 30, 2016 and 2015, respectively. UBAM is a multi-level selling organization that markets its products through independent sales consultants. Sales are made to individual purchasers, and to school and public libraries. Gross sales in UBAM are based on the retail sales prices of the products. As a part of UBAM’s varied marketing programs, discounts relevant to the particular program are offered. The discounts and allowances in UBAM will varythree-month period ending May 31, 2017 from year-to-year depending on the marketing programs in place during any given period. The UBAM’s discounts and allowances were 16.3% and 17.2% of UBAM’s gross sales for the nine-month periods ended November 30, 2016 and 2015, respectively.
EDC Publishing’s discounts and allowances are a much larger percentage of gross sales than discounts and allowances in UBAM due to the different customer markets that each division targets. EDC Publishing’s discounts and allowances were $8,167,400 and $9,892,000 for the nine-month periods ended November 30, 2016 and 2015, respectively. EDC Publishing sells to retail book chains, regional and local bookstores, toy and gift stores, school supply stores and museums. To be competitive with other wholesale book distributors, EDC Publishing sells at discounts between 48% and 55% of the retail sales prices of the products, based upon the quantity of books ordered and the dollar amount of the order. EDC Publishing’s discounts and allowances were 53.1% and 52.6% of EDC Publishing’s gross sales for the nine-month periods ended November 30, 2016 and 2015, respectively.
Transportation revenue increased to $8,299,500 from $3,702,40073% when comparing the nine-month period ended November 30, 2016,compared to the same period a year ago. Gross margins increased due to reduced inventory costs associated with volume discounts received on inventory purchases.
Operating and selling expenses primarily consists of freight expenses and hostess awards associated with sales orders. Sales commissions include amounts paid to consultants for new sales and promotions. These operating expenses are directly tied to the sales volumes of the UBAM segment. General and administrative expenses include payroll, travel and entertainment expenses, outside services, inventory reserves and other expenses directly associated with the UBAM segment. Operating expenses increased 2,250,900, or 18.9%, during the three-month period ending May 31,2017, when compared with the same quarter a year ago, due primarily to the similar percentage growth in 2015. Transportation revenuessales.
Operating income of the UBAM segment increased $1,180,700, or 36.9%, during the three-month period ending May 31, 2017, when compared to the same quarter a year ago, due to primarily relate to UBAMsales growth and are based onlower cost of goods as a percentage of the total order, with a per-order minimum charge.
Expenses
| | For the Nine Months Ended November 30, | | | | | | | |
| | 2016 | | | 2015 | | | $ Change | | | % Change | |
Cost of sales | | $ | 22,500,300 | | | $ | 15,537,400 | | | $ | 6,962,900 | | | | 44.8 | |
Operating and selling | | | 26,186,500 | | | | 13,006,700 | | | | 13,006,700 | | | | 101.3 | |
Sales commissions | | | 24,802,200 | | | | 12,924,800 | | | | 11,877,400 | | | | 91.9 | |
General and administrative | | | 2,842,000 | | | | 1,561,700 | | | | 1,280,300 | | | | 82.0 | |
Total | | $ | 76,331,000 | | | $ | 43,030,600 | | | $ | 33,300,400 | | | | 77.4 | |
net revenue.
1513
Cost of sales increased 44.8%Publishing Operating Results for the nineThree Months Ended May 31, 2017
The following table summarizes the operating results of the Publishing segment for the three months ended November 30, 2016, when comparedMay 31, 2017 and 2016:
| | For the Three Months Ended May 31, | | | | | | | |
| | 2017 | | | 2016 | | | $ Change | | | % Change | |
Gross sales | | $ | 4,525,500 | | | $ | 4,553,500 | | | $ | (28,000 | ) | | | (0.6 | ) |
Less discounts and allowances | | | (2,410,500 | ) | | | (2,424,700 | ) | | | 14,200 | | | | (0.6 | ) |
Transportation revenue | | | 7,100 | | | | 5,200 | | | | 1,900 | | | | 36.5 | |
Net revenues | | | 2,122,100 | | | | 2,134,000 | | | | (11,900 | ) | | | (0.6 | ) |
| | | | | | | | | | | | | | | | |
Cost of goods sold | | | 1,125,100 | | | | 1,101,000 | | | | 24,100 | | | | 2.2 | |
Gross margin | | | 997,000 | | | | 1,033,000 | | | | (36,000 | ) | | | (3.5 | ) |
Gross margin percentage | | | 47 | % | | | 48 | % | | | | | | | | |
OPERATING EXPENSES | | | | | | | | | | | | | | | | |
Operating and selling | | | 244,900 | | | | 230,200 | | | | 14,700 | | | | 6.4 | |
Sales commissions | | | 83,500 | | | | 78,300 | | | | 5,200 | | | | 6.6 | |
General and Administrative | | | 99,500 | | | | 65,500 | | | | 34,000 | | | | 51.9 | |
Total Operating Expenses | | | 427,900 | | | | 374,000 | | | | 53,900 | | | | 14.4 | |
| | | | | | | | | | | | | | | | |
Operating Income | | $ | 569,100 | | | $ | 659,000 | | | $ | (89,900 | ) | | | (13.6 | ) |
Our Publishing segment’s net revenues, gross margins and operating income results for the three months ended May 31, 2017, were consistent with the nine months ended November 30, 2015. Cost of sales as a percentage of gross sales were 24.6% and 25.9%, for each of the nine-month periods ended November 30, 2016 and 2015, respectively. Cost of sales is the inventory cost of the product sold, which includes the cost of the product itself and inbound freight charges. Purchasing and receiving costs, inspection costs, warehousing costs, and other costs of our distribution network are included in operating and selling expenses, not in cost of sales. These costs totaled $4,490,700 in the nine months ended November 30, 2016, and $1,697,500 in the nine months ended November 30, 2015.
In addition to costs associated with our distribution network (noted above), operating and selling costs include expenses of EDC Publishing, UBAM and the order entry and customer service functions. Operating and selling expenses as a percentage of gross sales were 28.6% for the nine months ended November 30, 2016, and 21.7% for the nine months ended November 30, 2015. This increase is primarily due to a 165% increase in purchasing and receiving costs, inspection costs, warehousing costs, and other costs of our distribution network, along with a 107% increase in shipping and handling costs.
Sales commissions in EDC Publishing decreased 19.2% to $241,100 for the nine months ended November 30, 2016, when compared with the same nine-month period a year ago. Publishing Division sales commissions are paid on net sales and were 3.3% of net sales for the nine months ended November 30, 2016, and 3.3% for the nine months ended November 30, 2015. Sales commissions in EDC Publishing fluctuate depending upon the amount of sales made to our house accounts, which are EDC Publishing’s largest customers and do not have any commission expense associated with them, and sales made by our outside sales representatives.
Sales commissions in UBAM increased 94.5% to $24,561,100 for the nine months ended November 30, 2016, when compared with the same nine-month period a year ago, primarily due to the increase in net salesamounts reported for the same period. UBAM sales commissions were 30.3% of gross sales for the nine months ended November 30, 2016,quarter last year. Sales in our Publishing segment are seasonal and 30.7% of gross sales for the nine months ended November 30, 2015. The fluctuation in the percentages of commission expense to gross sales is the result of the type of sale. Internetour fiscal fourth and home parties, book fairs, and school and library sales have different commission rates. Also contributing to the fluctuations in the percentages is the payment of overrides and bonuses, both dependent on consultants’ monthly sales and downline sales.
Our effective tax rate was 37.9% for the nine months ended November 30, 2016, and 38.2% for the nine months ended November 30, 2015. These ratesfirst quarters are highertraditionally lower than the federal statutory rate due to the inclusion of state incomesecond and franchise taxes.third fiscal quarters sales.
Liquidity and Capital Resources
Our primary source of cash is typically operating cash flow. However, during this periodwe have recently begun to use more cash than we generate due to our rapid growth. The majority of increased sales, our primary uses of cash are to buildoutflow has been associated with increasing our inventory to meet thekeep up with our increased demand to pay dividends and for capital expenditures.our products. We utilizehave utilized a bank credit facilitiesfacility and other term loan borrowings to meet our short-term cash needs when necessary.
ForDuring the nine-month period ended November 30, 2016first quarter of fiscal year 2017,2018, we experienced cash outflow from our operations of $169,400. Cash outflow resulted from$342,000. Net earnings of $1,225,300 were reduced by the following:following items:
an increase in inventories of $16,775,100,
an increase in accounts receivable of $1,994,200,
an increase in prepaid expenses and other assets of $1,661,300,$109,400,
an increase in accounts receivable of $614,100,
a decrease in accounts payable of $7,133,900, and
a decrease in deferred revenue of $86,100,
Offset by:
depreciation expense of $293,300
an increase in the provision for inventory valuation allowance of $37,300, and$15,000,
an increase in the provision for doubtful accounts and sales returns of $282,900,
a decrease in inventories of $4,516,200
a decrease in deferred income taxes of $35,400.
Offset by:
an increase in accounts payable, accrued salaries and commissions, and other current liabilities of $9,572,400,$54,500,
an increase in deferred revenueaccrued salaries and commissions of $6,632,500,$359,900,
net earningsan increase in other liabilities of $2,212,900,
depreciation expense of $780,400,$191,300, and
an increase in net income tax payable of $576,800,$663,100.
the provision for doubtful accounts and sales returns of $558,900
The significant increasedecrease in accounts payable accrued salaries and commissions, and other current liabilities isfrom the end of the fiscal year 2017 was primarily a result of the currentcontinued payments owed to our suppliers for our increased inventory stock required to sustain our sales increase.purchases made over the last six months of the fiscal year.
The increasesignificant decrease in deferred revenue isinventory was primarily athe result of orders received for UBAM, but not shipped by the end of third quarter fiscal year 2017. The increasemanagement efforts to reduce excess inventory volumes that were purchased in prepaid expenses and other assets resulted primarily from the prepaid commissions related to these orders.recent quarters. These inventory purchases were made based on sales forecast assumptions that were greater than our actual sales results.
Cash used in investing activities was $2,123,600$236,800 for capital expenditures, which included:
Warehousewas primarily comprised of improvements to our warehouse picking and inventory management systems of $762,000,
Additional investment in accounting$158,700 and UBAM software systems of $514,400,
Warehouse equipment of $438,600,
Additional warehouse rack system of $303,900,
Othervarious other improvements to new facilitythe warehouse and old warehouse, including furniture, of $55,300, and
Office equipment of $49,400.
facility.
Cash provided by financing activities was $2,089,000 for capital expenditures and operating activities,$467,400, which included:
proceeds from long-term debtwas primarily comprised of $4,000,000, and
the sale of treasury stock of $170,700.
Offset by:
dividend payments of $1,099,500,
long-term debt payments of $530,200, and
net paymentsborrowings under our line of credit of $451,800, and
the acquisition$677,400 offset by payments on long-term debt of treasury stock of $200.
$219,000.
During fiscal year 2017,2018, we expect our cash from operations and our expanded line of credit with our bank will continue to work closely with the bank to ensure overall positive cash flow andprovide us the ability to meet our liquidity requirements for the foreseeable future. Cashrequirements. We have a history of profitability and positive cash flow. Consequently, cash generated from operations iswill be used to increase inventory in anticipation of continued sales growth and to liquidate any existing debt, pay capital distributions through dividends or repurchase shares outstanding.
Our Board of Directors has adopted a stock repurchase plan in which we may purchase up to a total of 3,000,000 shares as market conditions warrant. When stock becomes available at an attractive price, we will utilize free cash flow to repurchase shares. Management believes this enhances the value to the remaining stockholders and that these repurchases will have no adverse effect on our short-term and long-term liquidity. We repurchased 23 shares during the nine-month period ended November 30, 2016. The maximum number of shares that can be repurchased in the future is 303,129.debt.
We have a Loan Agreement with MidFirstthe Bank (“the Bank”) including Term Loan #1 comprised of Tranche A of $13.4 million and Tranche B of $5.0 million both with the maturity date of December 1, 2025. The Loan Agreement also provided a $7.0$4.0 million revolving loan (“line of credit’credit”) through June 15,December 1, 2016. Effective March 10, 2016, we signed a First Amendment Loan Agreement with the Bank which provided an increase to $6.0 million from our original $4.0 million line of credit through June15, 2017. Tranche A has a fixed interest rate of 4.23% and interest is payable monthly. For Tranche B and the line of credit, interest is payable monthly at the bank adjusted LIBOR Index plus 2.75% (3.783%3.25% (4.25% at November 30, 2016)May 31, 2017). Term Loan #1 is secured by the primary office, warehouse and land.
We also have TermEffective June 15, 2016, we signed a Second Amendment Loan #2Agreement with the Bank in the amount of $4.0which provides a further increase to $7.0 million with the maturity date of June 28, 2021, and interest payable monthly at the bank adjusted LIBOR Index plus 2.75%. Term Loan #2 is secured by a warehouse, land, and inventory.
Thefrom our previous $6.0 million line of credit and extends it through June 15, 2017. Under the amendment, interest is payable monthly at a tiered rate based on our funded debt to EBITDA ratio (“ratio”), whereby pricing tier one is effective for a ratio greater than 4.00 and has a bank adjusted LIBOR Index plus 3.25% and pricing tier two applies for a ratio less than or equal to 4.00, with a bank adjusted LIBOR Index plus 2.75%. EBITDA is defined as earnings before interest expense, income tax expense (benefit) and depreciation and amortization expenses.
We had $2,880,000$5,560,300 in borrowings outstanding on our revolving credit agreement at November 30, 2016May 31, 2017 and $3,331,800$4,882,900 in borrowings at February 29, 2016.28, 2017. Available credit under the revolving credit agreement was $4,120,000$1,439,700 at November 30, 2016. May 31, 2017.
Effective June 28, 2016, we signed a Third Amendment Loan Agreement with the Bank which includes Term Loan #2 in the amount of $4.0 million with the maturity date of June 28, 2021, and interest payable monthly at the bank adjusted LIBOR Index plus 3.25%. Term Loan #2 is secured by a warehouse and land. Effective February 7, 2017, we signed a Fourth Amendment Loan Agreement with the Bank which modified certain debt covenant calculations and waived an existing default that occurred in the fourth quarter of fiscal year 2017.
Subsequent to November 30, 2016, we utilized the remaining availabilityquarter end, June 15, 2017, the Company executed the Fifth Amendment Loan Agreement with the Bank which modifies the Loan Agreement to increase the maximum revolving principal amount from $7.0 million to $10.0 million and extends the termination date of the Loan Agreement to June 15, 2018. Under the terms of the Amendment, the maximum revolving principal amount can be further extended to $15.0 million based on our revolving credit agreement.the Company completing certain requirements and based on the approval of the Bank.
The Amendment also modifies the Loan Agreement to include an Advancing Term Loan of $3.0 million which the Company will use to cover the cost of the planned fiscal 2018 capital improvements to increase its daily shipping capacity. The Company expects the amount of the planned fiscal 2018 capital improvements will be less than the Advancing Term Loan facility. The Advancing Term Loan accrues interest only monthly, at the bank adjusted LIBOR Index plus a tiered pricing rate based on the Company’s Adjusted Funded Debt to EBITDA Ratio, between June 9 and December 9, 2017, at which time the amount advanced will be converted to a term loan and will amortize over a thirty-six-month period.
The Loan Agreement also contains a provision for our use of the Bank’s letters of credit. The Bank agrees to issue, or obtain issuance of commercial or stand-by letters of credit provided that
no letters of credit will have an expiry date later than June 15, 2017, and that the sum of the line of credit plus the letters of credit
issued would not exceed the borrowing base in effect at the time. The agreement contains provisions that require us to maintain specified financial ratios, restrict transactions with related parties, prohibit mergers or consolidation, disallow additional debt, and limit the amount of compensation, salaries, investments, capital expenditures and leasing transactions. For the
nine monthsquarter ended
November 30, 2016,May 31, 2017, we had no letters of credit outstanding.
At November 30, 2016, we were in violation of the debt to worth ratio covenant for which we have not yet received a waiver from the Bank. Accordingly, the related long-term debt has been classified as current. The debt to worth ratio requires the following: (1) For quarters ending August 31, 2016 and November 30, 2016: 3.50:1.00. (2) For quarters ending February 28, 2017, May 31, 2017, August 31, 2017, and November 30, 2017: 3.25:1:00. (3) Quarters thereafter: 3.00:1.00.
We expect to receive a debt waiver from the Bank to waive the debt covenant violation. As such, the15
The following table reflects aggregate future maturities of long-term debt during the next five fiscal years and thereafter subsequent to November 30, 2016, as follows:
Quarter ending November 30, | | | | |
2017 | | $ | 898,500 | | |
Year ending February 28(29), | | | | |
2018 | | | 942,900 | | | $ | 679,500 | |
2019 | | | 980,000 | | | | 952,200 | |
2020 | | | 1,016,500 | | | | 989,600 | |
2021 | | | 1,058,600 | | | | 1,026,500 | |
2022 | | | | 1,069,000 | |
Thereafter | | | 16,876,100 | | | | 16,628,500 | |
| | $ | 21,772,600 | | | $ | 21,345,300 | |
Critical Accounting Policies
Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to our valuation of inventory, allowance for uncollectible accounts receivable, allowance for sales returns, long-lived assets and deferred income taxes. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.
Actual results may materially differ from these estimates under different assumptions or conditions. Historically, however, actual results have not differed materially from those determined using required estimates. Our significant accounting policies are described in the notes accompanying the financial statements included elsewhere in this report. However, we consider the following accounting policies to be more significantly dependent on the use of estimates and assumptions.
Revenue Recognition
Sales are generally recognized and recorded when products are shipped. Products are shipped FOB shipping point. UBAM’sThe UBAM segment’s sales are paid at the time the product is ordered. These sales accounted for 90.9%92.1% of net revenues for the nine-monththree-month period ended November 30, 2016,May 31, 2017, and 80.9%90.6% for the nine-monththree-month period ended November 30, 2015.May 31, 2016. Sales whichthat have been paid for but not shipped are classified as deferred revenue on the balance sheet. Sales associated with consignment inventory are recognized when reported and payment associated with the sale has been remitted. Transportation revenue represents the amount billed to the customer for shipping the product and is recorded when the product is shipped.
Estimated allowances for sales returns are recorded as sales are recognized and recorded. Management uses a moving average calculation to estimate the allowance for sales returns. We are not responsible for product damaged in transit. Damaged returns are primarily from retail stores. These returns relate toprimarily result from damage that occurs in the stores, not in shipping to the stores. It is industry practice to accept returns from wholesaleretail customers. Transportation revenue, the amount billed to the customer for shipping the product, is recorded when products are shipped. Management has estimated and included a reserve for sales returns of $100,000 as of November 30, 2016,May 31, 2017, and $190,000 February 29, 2016.28, 2017.
Allowance for Doubtful Accounts
We maintain an allowance for estimated losses resulting from the inability of our customers to make required payments. An estimate of uncollectable amounts is made by management based upon historical bad debts, current customer receivable balances, age of customer receivable balances, the customer’s financial condition and current economic trends. Consignment inventory related to inactive consultants is reclassified to accounts receivable and the associated reserve is included within our allowance. If the actual uncollected amounts significantly exceed the estimated allowance, then our operating results would be significantly adversely affected. Management has estimated and included an allowance for doubtful accounts of $279,900$866,000 at November 30, 2016,May 31, 2017, and $401,900$675,000 at February 29, 2016.28, 2017. Included within this allowance is $409,100 and $217,000 as of May 31, 2017 and February 28, 2017, respectively, of reserve related to consignment inventory held by inactive consultants.
Inventory
Our inventory contains approximately 2,200 titles, each with different rates of sale, depending upon the nature and popularity of the title. Almost all of our product line is saleable as the books are not topical in nature and remain current in content today as well as in the future. Most of our products are printed in Europe, China, Singapore, India, Malaysia and Dubai resulting in a three to four-month lead-time to have a title printed and delivered to us.
Certain inventory is maintained in a noncurrent classification. Management continually estimates and calculates the amount of non-currentnoncurrent inventory. Non-currentNoncurrent inventory arises due to the purchaseoccasional purchases of book inventorytitles in quantities in excess of what will be sold within the normal operating cycle. Non-currentcycle, due to minimum order requirements of our suppliers. Noncurrent inventory was estimated by management using the current year turnover ratio by title. Then allAll inventory in excess of 2 ½ years of anticipated sales is classified as non-currentnoncurrent inventory. Non-currentNoncurrent inventory balances beforeprior to valuation allowance,allowances were $517,400$475,400 and $467,100 at November 30, 2016,May 31, 2017 and $469,000February 28, 2017, respectively.
Consultants that meet certain eligibility requirements are allowed to receive inventory on consignment. We believe allowing our consultants to have consignment inventory greatly increases their ability to be successful in making effective presentations at home shows, book fairs and other events; and having consignment inventory leads to additional sales opportunities. Approximately 11% of our active consultants maintained consignment inventory at May 31, 2017 and February 29, 2016.28, 2017. Consignment inventory is stated at cost, less an estimated reserve for consignment inventory that is not expected to be sold or returned to the Company. The total value of inventory on consignment with active consultants was $950,100 and $1,140,700 at May 31, 2017 and February 28, 2017, respectively. Inventory related to inactive consultants is reclassified to accounts receivables and amounted to $438,100 and $309,000 as of May 31, 2017 and February 28, 2017, respectively.
Inventories are presented net of a valuation allowance.allowance, which includes reserves for inventory obsolescence and active consultant consignment inventory that is not expected to be sold or returned. Management has estimated and included a valuationestimates the allowance for both current and non-currentnoncurrent inventory. ThisThe allowance is based on management’s identification of slow moving inventory on hand.and estimated consignment inventory that will not be sold or returned. Management has estimated a valuation allowance for both current and non-currentnoncurrent inventory of $285,000$313,000 and $325,000$300,000 as of November 30, 2016,May 31, 2017 and February 29, 2016,28, 2017, respectively.
Our principal supplier, based in England, generally requires a minimum reorder of 6,500 or more of a title in order to get a solo print run. Smaller orders would require a shared print run with the supplier’s other customers, which can result in lengthy delays to receive the ordered title. Anticipating customer preferences and purchasing habits requires historical analysis of similar titles in the same series. We then place the initial order or re-order based upon this analysis.
These factors and historical analysis have led our management to determine that 2 ½ years represents a reasonable estimate of the normal operating cycle for our products.
Stock-Based Compensation
We account for stock-based compensation whereby share-based payment transactions with employees, such as stock options and restricted stock, are measured at estimated fair value at date of grant and recognized as compensation expense over the vesting period.period, net of estimated forfeitures.
Item 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
Item 4.CONTROLS AND PROCEDURES
An evaluation was performed of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(e) and 15d-15(e) as of November 30, 2016.May 31, 2017. This evaluation was conducted under the supervision and with the participation of our management, including our Chief Executive Officer (Principal Executive Officer) and our Controller/Chief Financial Officer and Corporate Secretary (Principal Financial and Accounting Officer).
Based on that evaluation, with the exception of a material weakness noted below, these officers concluded that our disclosure controls and procedures were effective pursuant to Exchange Act Rule 13a-15(e) and 15d-15(e).
During the third quarter of fiscal 2017, we identified a material weakness in our controls over deferred revenue and cash. Based upon that discovery, our Chief Executive Officer and Controller/Corporate Secretary have concluded that our controls and procedures related to deferred revenue and cash are not effective as of the last day of the period covered by this report.
The material weakness in internal control over financial reporting resulted due to our inability to accurately quantify deferred revenue and reconcile cash at the end of the quarter in a timely manner. Specifically, we did not have adequate controls in place to properly identify and account for deferred revenue and the related reconciliation of cash which delayed our ability to file our quarterly report timely.
We have identified and are currently implementing compensating controls to remediate the material weakness described above. We are also enhancing and revising the design of existing controls and procedures to properly identify deferred revenue and reconcile cash. We expect that the remediation of this material weakness will be completed prior to the end of fiscal year 2017.
Except as noted above, there has beenIn addition, no change in our internal control over financial reporting as of November 30, 2016,(as defined in Rule 13a-15(f) under the Exchange Act) occurred during the quarter ended May 31, 2017 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
1917
PART II. OTHER INFORMATION
Not Applicable.
Not required by smaller reporting company.
Item 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table shows repurchases of our Common Stock during the quarter ended November 30, 2016:
Period | | Total # of Shares Purchased | | | Average Price Paid per Share | | | Total # of Shares Purchased as Part of Publicly Announced Plan | | | Maximum # of Shares that May be Repurchased under the Plan | |
| | | | | | | | | | | | | |
March 1 - 31, 2017 | | | 0 | | | | N/A | | | | 0 | | | | 303,129 | |
April 1 - 30, 2017 | | | 0 | | | | N/A | | | | 0 | | | | 303,129 | |
May 1 - 31, 2017 | | | 0 | | | | N/A | | | | 0 | | | | 303,129 | |
Total | | | 0 | | | | N/A | | | | 0 | | | | | |
ISSUER PURCHASES OF EQUITY SECURITIES
Period | | Total # of Shares Purchased | | Average Price Paid per Share | | Total # of Shares Purchased as Part of Publicly Announced Plan (1) | | | Maximum # of Shares that May be Repurchased under the Plan (2) (3) | |
| | | | | | | | | | 303152 | |
September 1 - 30, 2016 | | | | 0 | | | | N/A | | | | 0 | | | | 303,152 | |
October 1 - 31, 2016 | | | | 23 | | | $ | 11.09 | | | | 23 | | | | 303,129 | |
November 1 - 30, 2016 | | | | 0 | | | | N/A | | | | 0 | | | | 303,129 | |
Total | | | | 23 | | | $ | 11.09 | | | | 23 | | | | | |
(1) | All of the shares of common stock set forth in this column were purchased pursuant to a publicly announced plan as described in footnote 2 below. |
(2) | In April 2008 the Board of Directors authorized us to purchase up to an additional 500,000 shares of our common stock under a repurchase plan. Pursuant to the plan, we may purchase a total of 303,129 additional shares of our common stock until 3,000,000 shares have been repurchased. |
(3) | There is no expiration date for the repurchase plan. |
Item 3.DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
Item 4.MINE SAFETY DISCLOSURES
None.
Item 5. 5. OTHER INFORMATION
None.
Exhibit No. | No. | Description |
| |
10.1 | Fifth Amendment Loan Agreement (incorporated by reference to Exhibit 10.01 to Educational Development Corporation’s Current Report on Form 8-K filed on June 15, 2017). |
| |
31.1 | | |
| | |
31.2 | | |
| | |
32.1 | | |
| | |
101.INS | | XBRL Instance Document |
| | |
101.SCH | | XBRL Taxonomy Extension Schema Document |
| | |
101.CAL | | XBRL Taxonomy Extension Calculation Linkbase Document |
| | |
101.DEF | | XBRL Taxonomy Extension Definition Linkbase Document |
| | |
101.LAB | | XBRL Taxonomy Extension Label Linkbase Document |
| | |
101.PRE | | XBRL Taxonomy Extension Presentation Linkbase Document |
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.
| EDUCATIONAL DEVELOPMENT CORPORATION (Registrant) | |
| | | |
Date: January 23,July 17, 2017 | By: | /s/ Randall W. White | |
| | Randall W. White | |
| | Chairman of the Board, President and Chief Executive Officer (Principal Executive Officer) | |
| | | |
20
EXHIBIT INDEX
Exhibit No. | Description |
| |
10.1 | Fifth Amendment Loan Agreement (incorporated by reference to Exhibit 10.01 to Educational Development Corporation’s Current Report on Form 8-K filed on June 15, 2017). |
| |
31.1 | |
| |
31.2 | |
| |
32.1 | |