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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2005
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ______ to ______
Commission File Number: 001-14498
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BLUEFLY, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3612110
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
42 West 39th Street, New York, NY 10018
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (212) 944-8000
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Indicate by check mark whether the registrant (1) filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months
(or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X ]
As of November 3, 2005, the issuer had outstanding 17,373,288 shares of Common
Stock, $.01 par value.
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BLUEFLY, INC.
TABLE OF CONTENTS
PAGE
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Part I . Financial Information
Item 1. Financial Statements
Consolidated Condensed Balance Sheets as of September 30, 2005
and December 31, 2004 (unaudited) 3
Consolidated Condensed Statements of Operations for the nine
months ended September 30, 2005 and 2004 (unaudited) 4
Consolidated Condensed Statements of Operations for the three
months ended September 30, 2005 and 2004 (unaudited) 5
Consolidated Condensed Statements of Cash Flows for the nine
months ended September 30, 2005 and 2004 (unaudited) 6
Notes to Consolidated Condensed Financial Statements (unaudited) 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 19
Item 4. Controls and Procedures 19
Part II. Other Information 20
Item 6. Exhibits 20
Signatures 21
Part I - FINANCIAL INFORMATION
ITEM 1. - FINANCIAL STATEMENTS
BLUEFLY, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS (Unaudited)
SEPTEMBER 30, DECEMBER 31,
2005 2004
-------------- --------------
ASSETS
Current assets
Cash and cash equivalents $ 5,120,000 $ 6,685,000
Restricted cash -- 1,253,000
Inventories, net 17,216,000 12,958,000
Accounts receivable, net of allowance for doubtful accounts 1,943,000 1,206,000
Prepaid inventory 436,000 84,000
Prepaid expenses 1,292,000 296,000
Other current assets 539,000 973,000
-------------- --------------
Total current assets 26,546,000 23,455,000
Property and equipment, net 3,024,000 1,933,000
Other assets 329,000 153,000
-------------- --------------
Total assets $ 29,899,000 $ 25,541,000
============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 4,464,000 $ 4,190,000
Accrued expenses and other current liabilities 3,453,000 3,526,000
Notes payable to related party shareholders, includes interest payable
of $1,067,000 at September 30, 2005 5,067,000 --
Deferred revenue 1,963,000 1,697,000
-------------- --------------
Total current liabilities 14,947,000 9,413,000
Notes payable to related party shareholders, includes interest payable
of $658,000 at December 31, 2004 -- 4,658,000
Long-term obligations under capital lease 40,000 81,000
-------------- --------------
Total liabilities 14,987,000 14,152,000
-------------- --------------
Commitments and contingencies
Shareholders' equity
Series A Preferred stock - $.01 par value; 500,000 shares authorized, 460,000
issued and outstanding as of September 30, 2005 and December 31, 2004,
respectively (liquidation preference: $9.2 million plus accrued dividends
of $5.6 million and $5.0 million as of September 30, 2005 and December 31,
2004, respectively) 5,000 5,000
Series B Preferred stock - $.01 par value; 9,000,000 shares authorized,
8,889,414 shares issued and outstanding as of September 30, 2005 and
December 31, 2004, respectively (liquidation preference: $30 million plus
accrued dividends of $9.0 million and $7.3 million as of September 30, 2005
and December 31, 2004, respectively) 89,000 89,000
Series C Preferred stock - $.01 par value; 3,500 shares authorized and 1,000
shares issued and outstanding as of September 30, 2005 and December 31, 2004,
respectively (liquidation preference: $1 million plus accrued dividends of
$261,000 and $191,000 as of September 30, 2005 and December 31, 2004,
respectively) -- --
Series D Preferred stock - $.01 par value; 7,150 shares authorized, 6,897.989
and 7,136.548 issued and outstanding as of September 30, 2005 and
December 31, 2004, respectively (liquidation preference: $7.1 million plus
accrued dividends of $2.3 million and $1.6 million as of September 30, 2005
and December 31, 2004, respectively) -- --
Series E Preferred stock - $.01 par value; 1,000 shares authorized, issued and
outstanding as of September 30, 2005 and December 31, 2004, respectively
(liquidation preference: $1.0 million plus accrued dividends of $309,000 and
$202,000 as of September 30, 2005 and December 31, 2004, respectively) -- --
Series F Preferred stock - $.01 par value; 7,000 shares authorized, 6,438.571
issued and outstanding as of September 30, 2005 (liquidation preference:
$7.0 million plus accrued dividends of $129,000 as of September 30, 2005) -- --
Common stock - $.01 par value; 92,000,000 shares authorized and 16,424,524 and
15,241,756 shares issued and outstanding as of September 30, 2005 and
December 31, 2004, respectively 164,000 152,000
Additional paid-in capital 114,546,000 107,270,000
Accumulated deficit (99,892,000) (96,127,000)
-------------- --------------
Total shareholders' equity 14,912,000 11,389,000
-------------- --------------
Total liabilities and shareholders' equity $ 29,899,000 $ 25,541,000
============== ==============
The accompanying notes are an integral part of these consolidated condensed
financial statements.
3
BLUEFLY, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------------
2005 2004
-------------- --------------
Net sales $ 37,576,000 $ 29,284,000
Cost of sales 23,465,000 18,729,000
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Gross profit 14,111,000 10,555,000
Selling, marketing and fulfillment expenses 12,671,000 9,718,000
General and administrative expenses 4,716,000 4,882,000
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Total operating expenses 17,387,000 14,600,000
Operating loss (3,276,000) (4,045,000)
Interest and other income 134,000 815,000
Interest and other expense (623,000) (568,000)
-------------- --------------
Net loss $ (3,765,000) $ (3,798,000)
Preferred stock dividends (3,671,000) (3,176,000)
-------------- --------------
Net loss available to common shareholders $ (7,436,000) $ (6,974,000)
============== ==============
Basic and diluted loss per common share $ (0.48) $ (0.48)
============== ==============
Weighted average common shares outstanding
(basic and diluted) 15,516,454 14,508,692
============== ==============
The accompanying notes are an integral part of these consolidated condensed
financial statements.
4
BLUEFLY, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------------------
2005 2004
-------------- --------------
Net sales $ 12,045,000 $ 8,675,000
Cost of sales 7,470,000 5,709,000
-------------- --------------
Gross profit 4,575,000 2,966,000
Selling, marketing and fulfillment expenses 4,568,000 3,059,000
General and administrative expenses 1,528,000 1,736,000
-------------- --------------
Total operating expenses 6,096,000 4,795,000
Operating loss (1,521,000) (1,829,000)
Interest and other income 65,000 30,000
Interest and other expense (247,000) (161,000)
-------------- --------------
Net loss $ (1,703,000) $ (1,960,000)
Preferred stock dividends (1,387,000) (1,090,000)
-------------- --------------
Net loss available to common shareholders $ (3,090,000) $ (3,050,000)
============== ==============
Basic and diluted loss per common share $ (0.20) $ (0.21)
============== ==============
Weighted average common shares outstanding
(basic and diluted) 15,823,602 14,634,625
============== ==============
The accompanying notes are an integral part of these consolidated condensed
financial statements.
5
BLUEFLY, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------------------
2005 2004
-------------- --------------
Cash flows from operating activities
Net loss $ (3,765,000) $ (3,798,000)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 930,000 1,119,000
Provisions for returns 309,000 (968,000)
Allowance for doubtful accounts 199,000 162,000
Reserve for inventory obsolescence 623,000 100,000
Change in value of warrants -- (564,000)
Non-cash expense related to warrant issued to supplier 215,000 194,000
Stock option expense 35,000 123,000
Changes in operating assets and liabilities:
(Increase) decrease in
Inventories (5,096,000) 380,000
Accounts receivable (933,000) (179,000)
Prepaid inventory (352,000) (86,000)
Prepaid expenses (996,000) 47,000
Other current assets 434,000 (120,000)
Other assets (187,000) --
Increase (decrease) in
Accounts payable 274,000 53,000
Accrued expenses and other current liabilities (284,000) 17,000
Interest payable to related party shareholders 409,000 381,000
Deferred revenue 266,000 425,000
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Net cash used in operating activities (7,919,000) (2,714,000)
-------------- --------------
Cash flows from investing activities
Cash collateral in connection with Rosenthal Pledge Agreement 1,250,000 (1,256,000)
Purchase of property and equipment (2,011,000) (891,000)
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Net cash used in investing activities (761,000) (2,147,000)
-------------- --------------
Cash flows from financing activities
Net proceeds from June 2005 Financing 6,752,000 --
Net proceeds from January 2004 Financing -- 4,577,000
Net proceeds from exercise of stock options 502,000 192,000
Payments of capital lease obligation (139,000) (259,000)
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Net cash (used in) provided by financing activities 7,115,000 4,510,000
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Net (decrease) increase in cash and cash equivalents (1,565,000) (351,000)
Cash and cash equivalents - beginning of period 6,685,000 7,721,000
-------------- --------------
Cash and cash equivalents - end of period $ 5,120,000 $ 7,370,000
============== ==============
Supplemental schedule of non-cash financing activities:
Cash paid for interest $ 120,000 $ 121,000
============== ==============
Equipment acquired under capital lease -- $ 153,000
============== ==============
The accompanying notes are an integral part of these consolidated condensed
financial statements.
6
BLUEFLY, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - Unaudited
SEPTEMBER 30, 2005
NOTE 1 - BASIS OF PRESENTATION
The accompanying consolidated condensed financial statements include the
accounts of Bluefly, Inc. and its wholly owned subsidiary (collectively the
"Company"). All significant intercompany balances and transactions have been
eliminated in consolidation. The consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnote disclosures required by generally accepted accounting principles for
complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
statement have been included. The results of operations of any interim period
are not necessarily indicative of the results of operations to be expected for
the fiscal year. For further information, refer to the consolidated financial
statements and accompanying footnotes included in the Company's Form 10-K for
the year ended December 31, 2004.
The Company has sustained net losses and negative cash flows from operations
since its formation. The Company's ability to meet its obligations in the
ordinary course of business is dependent on its ability to establish profitable
operations and/or raise additional financing through public or private debt or
equity financing, or other sources to fund operations. The Company believes that
its current funds, together with working capital, will be sufficient to enable
it to meet its planned expenditures through at least March 31, 2006. If the
Company does not achieve its sales plan, future operations may need to be
modified, scaled back or discontinued.
NOTE 2 - THE COMPANY
The Company is a leading Internet retailer that sells over 350 brands of
designer apparel, accessories and home products at discounts of up to 75% off of
retail value. The Company's e-commerce Web site ("Bluefly.com" or "Web Site")
was launched in September 1998.
NOTE 3 - JUNE 2005 FINANCING
The Company raised over $7,000,000 in equity financing in June 2005. The
financing was effected through a private placement (the "New Financing") that
closed on June 24, 2005. The Company raised $7,075,431 through the sale of 7,000
shares of newly designated Series F Preferred Stock for an aggregate purchase
price of $7,000,000 and warrants to purchase an additional 603,448 shares of its
common stock at an exercise price of $2.87 per share. The warrants have an
expiration date of June 24, 2008. The aggregate purchase price for the warrants
was $75,431, or $0.125 per warrant, and all of the warrants were purchased by
the New Investors described below. The investors participating in the New
Financing included eight private equity funds that had not previously
participated in the Company's financing transactions (the "New Investors"), and
two private equity funds affiliated with Soros Fund Management LLC ("Soros")
that collectively own a majority of the Company's capital stock. In connection
with the New Financing, the New Investors also purchased from Soros previously
issued shares of the Company's Series D Preferred Stock with an aggregate
liquidation preference and accrued dividends of $3,000,000. Both the Series D
Preferred Stock and the Series F Preferred Stock are convertible into common
stock. The number of shares to be issued upon a conversion is determined by
dividing the liquidation preference of the shares of preferred stock to be
converted by the conversion price. The conversion price of the Series D
Preferred Stock is $0.76 and the conversion price of the Series F Preferred
Stock is $2.32. As of September 30, 2005, 238.559 shares of Series D Preferred
Stock (plus all accrued and unpaid dividends payable on such shares) were
converted into 414,815 shares of common stock and 561.429 shares of Series F
Preferred Stock (plus all accrued and unpaid dividends payable on such shares)
were converted into 247,180 shares of common stock, leaving 6,897.989 and
6,438.571 shares of Series D Preferred Stock and Series F Preferred Stock,
respectively, issued and outstanding.
The majority of the proceeds of the New Financing are being used for marketing,
with the remainder to be used for general corporate purposes.
NOTE 4 - NOTES PAYABLE TO RELATED PARTY SHAREHOLDERS
In February 2005, the Company extended the maturity dates on the Convertible
Promissory Notes issued in July and October 2003 (the "Notes") to affiliates of
Soros that collectively own a majority of the Company's capital stock. The
maturity dates of the Notes were each extended for one year, from May 1, 2005 to
May 1, 2006.
7
BLUEFLY, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - Unaudited
SEPTEMBER 30, 2005
NOTE 5 - CREDIT FACILITY
In July 2005, the Company entered into a new three year revolving credit
facility (the "Credit Facility") with Wells Fargo Retail Finance, LLC ("Wells
Fargo"). The Credit Facility refinanced the Company's previous credit facility
(the "Rosenthal Facility") with Rosenthal & Rosenthal, Inc. ("Rosenthal"). Under
the terms of the Credit Facility, Wells Fargo provides the Company with a
revolving credit facility and issues letters of credit in favor of suppliers or
factors. The Credit Facility is secured by a lien on substantially all of the
Company's assets, as well as a $2,000,000 letter of credit issued by Soros in
favor of Wells Fargo (the "Soros LC"). Availability under the Credit Facility is
determined by a formula that takes into account the amount of the Company's
inventory and accounts receivable, as well as the Soros LC. The maximum
availability is currently $7,500,000 ($6,650,000 after giving effect to a
required $850,000 availability reserve), but can be increased to $12,500,000 at
the Company's request, subject to certain conditions. As of September 30, 2005,
total availability under the Credit Facility, after giving effect to the
required $850,000 availability reserve, was approximately $6,400,000, of which
$2,700,000 was committed, leaving approximately $3,700,000 available for further
borrowings. As a result of the refinancing of the Rosenthal Facility, the
Company also regained access to approximately $1,250,000 of cash that had
previously been restricted because it was being held as cash collateral by
Rosenthal under the terms of the Rosenthal Facility.
Interest accrues monthly on the average daily amount outstanding under the
Credit Facility during the preceding month at a per annum rate equal to the
prime rate plus 0.75% or LIBOR plus 2.75%. The Company also pays a monthly
commitment fee on the unused portion of the facility (i.e., $7,500,000 less the
amount of loans outstanding) equal to 0.35%. The Company also pays Wells Fargo
certain fees to open letters of credit and guarantees in an amount equal to a
certain percentage of the face amount of the letter of credit for each thirty
(30) days such letter of credit, or a portion thereof, remains open. For the
three months ended September 30, 2005, the Company incurred approximately
$20,000 in connection with these fees.
Subject to certain conditions, if the Company defaults on any of its obligations
under the Credit Facility, Wells Fargo has the right to draw upon the Soros LC
to satisfy any such obligations. If Wells draws on the Soros LC, pursuant to the
terms of a reimbursement agreement between the Company and Soros, the Company
would have the obligation to, among other things, reimburse Soros for any
amounts drawn under the Soros LC, plus interest accrued thereon. In addition,
the Company is required to pay Soros Fund Management LLC an annual fee in
connection with the issuance and maintenance of the Soros LC in an amount equal
to the fee that the Company would be required to pay in order to have a similar
letter of credit issued under the Credit Facility. For the year beginning on the
date of the closing of the Credit Facility, this formula requires an annual fee
of $55,000. The Company is also required to reimburse Soros for any costs and
expenses associated with the issuance and maintenance of the Soros LC.
Under the terms of the Credit Facility, Soros has the right to purchase all of
the Company's obligations from Wells at any time if the Company is then in
default under the Credit Facility.
NOTE 6 - LOSS PER SHARE
The Company has determined Loss Per Share in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." Basic
loss per share excludes dilution and is computed by dividing loss available to
common shareholders by the weighted average number of common shares outstanding
for the period.
Diluted loss per share is computed by dividing loss available to common
shareholders by the weighted average number of common shares outstanding for the
period, adjusted to reflect potentially dilutive securities. Due to the loss
from continuing operations, the following options and warrants to purchase
shares of Common Stock and Preferred Stock convertible into shares of Common
Stock were not included in the computation of diluted loss per share because the
result of the exercise of such inclusion would be antidilutive:
8
BLUEFLY, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - Unaudited
SEPTEMBER 30, 2005
SEPTEMBER 30, SEPTEMBER 30,
SECURITY 2005 EXERCISE PRICES 2004 EXERCISE PRICES
--------------------- ---------------- ---------------- ---------------- ----------------
Options 9,054,230 $ 0.69 - $ 16.47 10,071,023 $ 0.69 - $ 16.60
Warrants 1,933,393 $ 0.78 - $ 3.96 1,704,945 $ 0.78 - $ 9.08
Preferred Stock 45,678,675(1) 43,323,430(1)
Convertible Notes(2) -- --
(1) Excludes dividends on preferred stock, which are payable in cash or
common stock, at the Company's option, upon conversion, redemption or
liquidation.
(2) Excludes debt issued in connection with the July 2003 financing and
October 2003 financing, which is convertible into equity securities of
the Company sold in any subsequent round of financing, at the holders
option, at a price that is equal to the lowest price per share accepted
by any investor in such subsequent round of financing. Until such
financing occurs, such debt is not convertible into Common Stock.
NOTE 7 - STOCK BASED COMPENSATION
At September 30, 2005, the Company has three stock-based employee compensation
plans. The Company applies Statement of Financial Accounting Standards ("SFAS")
No. 148 "Accounting for Stock Based Compensation - Transition and Disclosure, an
amendment of FASB Statement No. 123," SFAS No. 123 "Accounting for Stock Based
Compensation," and FASB Interpretation No. 44, "Accounting for Certain
Transactions Involving Stock Compensation" in accounting for its stock based
compensation plan. In accordance with SFAS No. 123, the Company applies
Accounting Principles Board Opinion No. 25 and related Interpretations for
expense recognition. For the quarter ended September 30, 2005, compensation
expense of $8,000 was recorded in connection with certain options issued below
market value to the Company's Chief Executive Officer in accordance with the
terms of her employment agreement. In addition, during the quarter ended
September 30, 2004, $121,000 in compensation expense was recorded: $113,000 in
connection with certain options issued to the Company's former Chief Executive
Officer pursuant to his separation agreement; and $8,000 was recorded in
connection with certain options issued below market value to the Company's Chief
Executive Officer in accordance with the terms of her employment agreement.
Except for these options, no additional compensation expense has been recorded
for the three months ended September 30, 2005 and September 30, 2004 in
connection with stock option grants to employees, because the exercise price of
employee stock options equals or exceeds the market price of the underlying
stock on the date of grant. Had compensation expense for the Plan been
determined consistent with the provisions of SFAS No. 123, the effect on the
Company's basic and diluted net loss per share would have been as follows:
FOR THE NINE MONTHS ENDED FOR THE THREE MONTHS ENDED
------------------------------- -------------------------------
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
2005 2004 2005 2004
-------------- -------------- -------------- --------------
Net loss, as reported $ (3,765,000) $ (3,798,000) $ (1,703,000) $ (1,960,000)
Deduct: total stock based compensation
expense determined under fair value
based methods for all awards (2,148,000) (2,328,000) (734,000) (1,094,000)
Add: Stock-based employee compensation
expense included in net loss 35,000 123,000 8,000 121,000
Adjusted for Preferred stock dividends (3,671,000) (3,176,000) (1,387,000) (1,090,000)
Pro forma net loss available to common
shareholders (9,549,000) (9,179,000) (3,816,000) (4,023,000)
Loss per share
Basic and diluted, as reported $ (0.48) $ (0.48) $ (0.20) $ (0.21)
Basic and diluted, pro forma $ (0.62) $ (0.63) $ (0.24) $ (0.27)
9
BLUEFLY, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - Unaudited
SEPTEMBER 30, 2005
In December 2004, the FASB issued Statement No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"), which replaces SFAS 123 and supersedes APB No. 25. Under
the new standard, companies will no longer be able to account for stock-based
compensation transactions using the intrinsic value method in accordance with
APB No. 25. Instead, companies will be required to account for such transactions
using a fair-value method and to recognize the expense in the statements of
income. The adoption of SFAS 123R will also require additional accounting
related to the income tax effects and additional disclosure regarding the cash
flow effects resulting from share-based payment arrangements. SFAS 123R will be
effective for annual periods beginning after June 15, 2005 and allows, but does
not require, companies to restate prior periods. The Company is evaluating the
impact of adopting SFAS 123R and expects that it will record substantial
non-cash stock compensation expenses. The adoption of SFAS 123R is not expected
to have a significant effect on the Company's cash flows; however, the non-cash
charges associated therewith are expected to have a significant, adverse effect
on its results of operations.
The effects of applying SFAS No. 123R in this pro forma disclosure are not
indicative of future amounts, as additional stock option awards are anticipated
in future years.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Bluefly, Inc. is a leading Internet retailer that sells over 350 brands of
designer apparel, accessories and home furnishings at discounts of up to 75% off
of retail value. We launched our Web site in September 1998. Over the past four
years our sales have grown at a compounded annual growth rate of more than 25%,
while our gross margin percentage has increased from 20% in 2000 to 37% in 2004.
The recent increase in our margin and sales is the direct result of a new
merchandise strategy that we began to implement in spring 2004. As part of that
strategy we are bringing current season merchandise and the latest fashion
trends to our customer for great value. While there will be some fluctuation in
our gross margin percentage from quarter to quarter as we further develop our
merchandising and marketing strategy, we believe that we will be able to
maintain margins well above our levels from 2003 and earlier.
Based on our improved merchandise strategy and recent customer research, we
believe that there is an opportunity to accelerate the growth of our business
while continuing to provide our customers with the great values that they have
become accustomed to. In an effort to take advantage of this opportunity, we
raised $7 million of equity financing in June and approximately $3.0 million of
the proceeds is being used to launch a national advertising campaign. This
campaign launched in September 2005. In addition, we secured a new $7.5 million
credit facility with Wells Fargo Retail Finance, LLC ("Wells Fargo") in July of
this year. This facility is primarily being used to help us obtain the proper
merchandising mix to support the anticipated growth in demand from our national
advertising campaign.
Our net sales increased approximately 39% to $12,045,000 for the third quarter
ended September 30, 2005 from $8,675,000 for the third quarter ended September
30, 2004. Our gross margin increased to approximately 38% in the third quarter
of 2005 from over 34% in the third quarter of 2004. Our gross profit increased
by approximately 54% to $4,575,000 in third quarter of 2005, from $2,966,000 in
the third quarter of 2004. This growth in gross profit was driven by the
increase in net sales, and by the increase in gross margins. Our operating loss
decreased by approximately 17%, to $1,521,000 in the third quarter of 2005, from
$1,829,000 in the third quarter of 2004.
10
We increased our spending in marketing (excluding staff related costs) by 565%
to $1,442,000 in the third quarter of 2005, from $217,000 in the third quarter
of 2004. While some of the growth in sales was a result of our marketing
initiatives, a large portion of the increased marketing expense was a result of
the costs associated with our national advertising campaign, which was not
launched in September 2005. Because the advertising campaign did not launch
until the end of the quarter, we believe that its impact on our sales cannot yet
fully be gauged. In general, we intend to market our business more aggressively
than we have in previous years. This more aggressive growth strategy will cause
our marketing expense as a percentage of revenue to increase in the short-term,
however, we believe that it is a prudent investment in our business given that
our margin structure and average order size have historically resulted in a
relatively high positive contribution to overhead on a customer's first order.
Our reserve for returns and credit card chargebacks increased to 39.4% of gross
sales in the third quarter of 2005 compared to 37.2% in 2004. The increase was
primarily caused by a shift in our merchandise mix towards certain product
categories that historically have generated higher return rates. However, we
believe that this increase in return rates has been more than offset by the
higher gross margins and average order sizes that have been generated by this
shift in merchandise mix.
A portion of our inventory includes merchandise that we either purchased with
the intention of holding for the appropriate season or were unable to sell in a
prior season and have determined to hold for the next selling season, subject
(in some cases) to appropriate mark-downs. We have recently increased the amount
of inventory purchased on a pack and hold basis in order to take advantage of
opportunities in the market.
At September 30, 2005, we had an accumulated deficit of $99,892,000. The net
losses and accumulated deficit resulted primarily from the costs associated with
developing and marketing our Web site and building our infrastructure, as well
as non cash beneficial conversion charges resulting from decreases in the
conversion price of our Preferred Stock. In order to expand our business, we
intend to invest in sales, marketing, merchandising, operations, information
systems, site development and additional personnel to support these activities.
Therefore, we may continue to incur substantial operating losses. Although we
have experienced revenue growth in recent years, this growth may not be
sustainable and therefore should not be considered indicative of future
performance.
CRITICAL ACCOUNTING POLICIES
Management Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the dates of the financial statements and
the reported amounts of revenues and expenses during the reporting periods. The
most significant estimates and assumptions relate to the adequacy of the
allowances for sales returns, the recoverability of inventories and deferred tax
valuation allowances. Actual amounts could differ significantly from these
estimates.
Revenue Recognition
We recognize revenue in accordance with Staff Accounting Bulletin ("SAB") No.
101 "Revenue Recognition in the Financial Statements" as amended. Gross sales
consists primarily of revenue from product sales and shipping and handling
charges and is net of promotional discounts. Net sales represent gross sales,
less provisions for returns, credit card chargebacks, and adjustments for
uncollected sales taxes. Revenue is recognized when all the following criteria
are met:
o A customer executes an order.
o The product price and the shipping and handling fee have been
determined.
o Credit card authorization has occurred and collection is reasonably
assured.
o The product has been shipped and received by the customer.
11
Shipping and handling billed to customers are classified as revenue in
accordance with Financial Accounting Standards Board ("FASB") Task Force's
Emerging Issues Task Force ("EITF") No. 00-10, "Accounting for Shipping and
Handling Fees and Costs" ("EITF No. 00-10").
Provision for Returns and Doubtful Accounts
We generally permit returns for any reason within 90 days of the sale.
Accordingly, we establish a reserve for estimated future returns and bad debt at
the time of shipment based primarily on historical data. We perform credit card
authorizations and check the verification of our customers prior to shipment of
merchandise. However, our future return and bad debt rates could differ from
historical patterns, and, to the extent that these rates increase significantly,
it could have a material adverse effect on our business, prospects, cash flows,
financial condition and results of operations.
Inventory Valuation
Inventories, which consist of finished goods, are stated at the lower of cost or
market value. Cost is determined by the first-in, first-out ("FIFO") method. We
review our inventory levels in order to identify slow-moving merchandise and
establish a reserve for such merchandise.
Deferred Tax Valuation Allowance
We recognize deferred income tax assets and liabilities on the differences
between the financial statement and tax bases of assets and liabilities using
enacted statutory rates in effect for the years in which the differences are
expected to reverse. The effect on deferred taxes of a change in tax rates is
realized in income in the period that included the enactment date. We have
assessed the future taxable income and determined that a 100% deferred tax
valuation allowance is necessary. In the event that we were to determine that we
would be able to realize our deferred tax assets, or a portion thereof, an
adjustment to the deferred tax valuation allowance would increase income in the
period such determination is made.
RESULTS OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2004
The following table sets forth our statement of operations data, for the nine
months ended September 30th. All data is in thousands except as indicated below:
2005 2004 2003
----------------------- ----------------------- -----------------------
As a % of As a % of As a % of
Net Sales Net Sales Net Sales
Net sales 37,576 100.0% $ 29,284 100.0% $ 23,935 100.0%
Cost of sales 23,465 62.4% 18,729 64.0% 18,015 75.3%
---------- ---------- ----------
Gross profit 14,111 37.6% 10,555 36.0% 5,920 24.7%
Selling, marketing and fulfillment expenses 12,671 33.7% 9,718 33.2% 8,277 34.6%
General and administrative expenses 4,716 12.6% 4,882 16.7% 3,861 16.1%
---------- ---------- ----------
Total operating expenses 17,387 46.3% 14,600 49.9% 12,138 50.7%
Operating loss (3,276) (8.7)% (4,045) (13.9)% (6,218) (26.0)%
Interest (expense) and other income (489) (1.3)% 247 0.9% (262) (1.1)%
---------- ---------- ----------
Net loss (3,765) (10.0)% (3,798) (13.0)% (6,480) (27.1)%
We also measure and evaluate ourselves against certain other key operational
metrics. The following table sets forth our actual results based on these other
metrics for the nine months ended September 30th, as indicated below:
12
2005 2004 2003
---------- ---------- ----------
Average Order Size (including shipping & handling) $ 214.07 $ 185.83 $ 168.03
New Customers Added during the Period* 95,088 84,605 79,134
* -- Based on unique email addresses.
Net sales: Gross sales (which includes sales of product and shipping revenue)
for the nine months ended September 30, 2005 increased by over 29% to
$61,092,000, from $47,188,000 for the nine months ended September 30, 2004. For
the nine months ended September 30, 2005, we recorded a provision for returns
and credit card chargebacks and other discounts of $23,516,000, or approximately
38.5% of gross sales. For the nine months ended September 30, 2004, the
provision for returns and credit card chargebacks and other discounts was
$17,904,000, or approximately 38.0% of gross sales.
After the necessary provisions for returns, credit card chargebacks and
adjustments for uncollected sales taxes, our net sales for the nine months ended
September 30, 2005 were $37,576,000. This represents an increase of
approximately 28% compared to the nine months ended September 30, 2004, in which
net sales totaled $29,284,000. The growth in net sales resulted from both an
increase in the number of new customers acquired (approximately 12% compared to
the first nine months of 2004) and an increase in average order size
(approximately 15% higher compared to the first nine months of 2004). For the
nine months ended September 30, 2005, revenue from shipping and handling (which
is included in net sales) increased by approximately 14% to $2,645,000 from
$2,320,000 for the nine months ended September 30, 2004. Revenue from shipping
and handling increased at a lower rate than overall revenue, due to the increase
in our average order size.
Cost of sales: Cost of sales consists of the cost of product sold to customers,
in-bound and out-bound shipping costs, inventory reserves, commissions and
packing materials. Cost of sales for the nine months ended September 30, 2005
totaled $23,465,000, resulting in gross margin of approximately 37.6%. Cost of
sales for the nine months ended September 30, 2004 totaled $18,729,000,
resulting in gross margin of 36.0%. The increase in gross margin percentage was
primarily the result of our merchandise strategy and the timing of our
promotions. Gross profit increased by nearly 34%, to $14,111,000 for the nine
months ended September 30, 2005 compared to $10,555,000 for the nine months
ended September 30, 2004.
Selling, marketing and fulfillment expenses: Selling, marketing and fulfillment
expenses increased by approximately 30% for the first nine months of 2005
compared to the first nine months of 2004. Selling, marketing and fulfillment
expenses were comprised of the following:
As a % As a % Percentage
Nine Months Ended of Net Nine Months Ended of Net Difference
September 30, 2005 Sales September 30, 2004 Sales increase (decrease)
------------------ ------ ------------------ ------ ------------------
Marketing $ 3,538,000 9.4% $ 1,389,000 4.7% 154.7%
Operating 4,683,000 12.5% 3,891,000 13.3% 20.4%
Technology 2,680,000 7.1% 3,134,000 10.7% (14.5)%
E-Commerce 1,770,000 4.7% 1,304,000 4.5% 35.7%
------------------ ------ ------------------ ------
$ 12,671,000 33.7% $ 9,718,000 33.2% 30.4%
As a percentage of net sales, our selling, marketing and fulfillment expenses
increased to 33.7% for the nine months ended September 30, 2005 from 33.2% for
the nine months ended September 30, 2004. The increase in selling, marketing and
fulfillment expenses as a percentage of net sales resulted primarily from costs
associated with our national ad campaign (which was launched in September 2005).
The increase was offset partially from economies of scale in our operations and
technology expenses, as some of the fixed costs involved in maintaining our Web
site and processing orders are allocated over a larger number of orders. One of
our goals is to achieve greater economies of scale as our business grows,
although there can be no assurance that we will be successful in doing so. We
plan to continue to invest in all of these areas in the near term in order to
grow our business.
13
Marketing expenses include expenses related to our national ad campaign, online
and print advertising, "sweepstakes" promotions as well as staff related costs.
Marketing expenses increased by a higher percentage than revenue as a result of
the costs associated with our national marketing campaign. Costs in connection
with this campaign are being recorded as the magazines and commercials are being
released. For the nine months ended September 30, 2005, approximately $900,000
was expensed in connection with this campaign. As a result we expect marketing
expense as a percentage of revenue to increase in the short-term. We believe
that this is a prudent investment in our business given that our margin
structure and average order size have historically resulted in a relatively high
positive contribution to overhead on a customer's first order.
Operating expenses include all costs related to inventory management,
fulfillment, customer service, and credit card processing. Operating expenses
increased in the first nine months of 2005 by approximately 20% compared to the
first nine months of 2004 as a result of variable costs associated with the
increased sales volume (e.g., picking and packing orders, processing returns and
credit card fees), as well as costs associated with our temporary clearance
store, which closed in April.
Technology expenses consist primarily of staff related costs, amortization of
capitalized costs and Web site hosting. For the nine months ended September 30,
2005 technology expenses decreased by approximately 15% compared to the nine
months ended September 30, 2004. This decrease resulted from a decrease in
headcount and salary related expenses, a decrease in depreciation expense, a
decrease in web hosting expense and was offset by an increase in the costs
associated with software support. Depreciation expense for the nine months ended
September 30, 2005 was lower than depreciation for the nine months ended
September 30, 2004 due to the fact that some equipment was fully depreciated.
E-Commerce expenses include expenses related to our photo studio, image
processing, and Web site design. For the nine months ended September 30, 2005,
this amount increased by approximately 36% as compared to the nine months ended
September 30, 2004, primarily due to an increase in salary related expenses as
well as an increase in expenses associated with third party software and
analytics and photo shoots.
General and administrative expenses: General and administrative expenses include
merchandising, finance and administrative salaries and related expenses,
insurance costs, accounting and legal fees, depreciation and other office
related expenses. General and administrative expenses for the nine months ended
September 30, 2005 decreased slightly by approximately 3% to $4,716,000 as
compared to $4,882,000 for the nine months ended September 30, 2004. The
decrease in general and administrative expenses was the result of decreased
salary and benefit expenses, offset by an increase in public company expenses,
and increases in consulting and accounting fees.
As a percentage of net sales, general and administrative expenses for the first
nine months of 2005 decreased to approximately 12.6% from 16.7%.
Loss from operations: Operating loss decreased by 19% for the nine months ended
September 30, 2005 to $3,276,000 from $4,045,000 in the nine months ended
September 30, 2004 as a result of the increase in gross margin and revenue.
Interest and other income: Other income for the nine months ended September 30,
2005 decreased to $134,000 from $815,000 for the nine months ended September 30,
2004. Other income for the nine months ended September 30, 2005 consisted of
interest income earned on our cash balance. Other income for the nine month
period ended September 30, 2004 consisted of: (i) $564,000, which was recognized
to adjust a liability associated with warrants issued by us to their fair value
as of June 17, 2004 (at which time the warrants were re-classified as equity),
(ii) $169,000 was realized in connection with the judgment we received in the
Breider Moore litigation; and (iii) $82,000 of interest income on our cash
balance.
Interest and other expense: Interest expense for the nine months ended September
30, 2005 increased to $623,000 from $568,000, and related primarily to fees paid
in connection with the Credit Facility and interest expense on the Convertible
Notes.
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 2004
The following table sets forth our statement of operations data, for the three
months ended September 30th. All data is in thousands, except as indicated
below:
14
2005 2004 2003
----------------------- ----------------------- -----------------------
As a % of As a % of As a % of
Net Sales Net Sales Net Sales
Net sales $ 12,045 100.0% $ 8,675 100.0% $ 8,210 100.0%
Cost of sales 7,470 62.0% 5,709 65.8% 6,462 78.7%
---------- ---------- ----------
Gross profit 4,575 38.0% 2,966 34.2% 1,748 21.3%
Selling, marketing and fulfillment expenses 4,568 37.9% 3,059 35.2% 2,883 35.1%
General and administrative expenses 1,528 12.7% 1,736 20.1% 1,252 15.3%
---------- ---------- ----------
Total operating expenses 6,096 50.6% 4,795 55.3% 4,135 50.4%
Operating loss (1,521) (12.6)% (1,829) (21.1)% (2,387) (29.1)%
Interest (expense) and other income, net (182) (1.5)% (131) (1.4)% (130) (1.5)%
---------- ---------- ----------
Net loss (1,703) (14.1)% (1,960) (22.5)% (2,517) (30.6)%
We also measure and evaluate ourselves against certain other key operational
metrics. The following table sets forth our actual results based on these other
metrics for the three months ended September 30th, as indicated below:
2005 2004 2003
---------- ---------- ----------
Average Order Size (including shipping & handling) $ 228.72 $ 179.48 $ 161.87
New Customers Added during the Period* 28,762 25,792 29,522
* -- Based on unique email addresses.
Net sales: Gross sales for the three months ended September 30, 2005 increased
by nearly 44% to $19,878,000, from $13,819,000 for the three months ended
September 30, 2004. For the three months ended September 30, 2005, we recorded a
provision for returns and credit card chargebacks and other discounts of
$7,832,000, or approximately 39.4% of gross sales. For the three months ended
September 30, 2004, the provision for returns and credit card chargebacks and
other discounts was $5,144,000, or approximately 37.2% of gross sales. The
increase in this provision as a percentage of gross sales resulted from an
increase in the return rate. The increase was primarily caused by a shift in our
merchandise mix towards certain product categories that historically have
generated higher return rates. However, we believe that this increase in return
rates has been more than offset by the higher gross margins and average order
sizes that have been generated by this shift in merchandise mix.
After the necessary provisions for returns, credit card chargebacks and
adjustments for uncollected sales taxes, our net sales for the three months
ended September 30, 2005 were $12,045,000. This represents an increase of
approximately 39% compared to the three months ended September 30, 2004, in
which net sales totaled $8,675,000. The growth in net sales resulted from both
an increase in the number of new customers acquired (approximately 12% higher
compared to second quarter 2004) and an increase in average order size
(approximately 27% higher compared to the second quarter 2004). For the three
months ended September 30, 2005, revenue from shipping and handling (which is
included in net sales) increased by approximately 16% to $821,000 from $709,000
for the quarter ended September 30, 2004. Revenue from shipping and handling
increased at a lower rate than overall revenue, due to the increase in our
average order size.
Cost of sales: Cost of sales consists of the cost of product sold to customers,
in-bound and out-bound shipping costs, inventory reserves, commissions and
packing materials. Cost of sales for the three months ended September 30, 2005
totaled $7,470,000, resulting in gross margin of approximately 38.0%. Cost of
sales for the three months ended September 30, 2004 totaled $5,709,000,
resulting in gross margin of 34.2%. The increase in gross margin percentage was
the result of the timing of our promotions as well as a shift in our
merchandising mix towards more current in season merchandise. While there will
be some fluctuation in our gross margin percentage from quarter to quarter as we
further develop our merchandising and marketing strategy, we believe that we
will be able to maintain margins well above our levels from 2003 and earlier.
Gross profit increased by over 54%, to $4,575,000 for the three months ended
September 30, 2005 compared to $2,966,000 for the three months ended September
30, 2004.
15
Selling, marketing and fulfillment expenses: Selling, marketing and fulfillment
expenses increased by over 49% in the second quarter of 2005 compared to the
second quarter of 2004. Selling, marketing and fulfillment expenses were
comprised of the following:
As a % As a % Percentage
Three Months Ended of Net Three Months Ended of Net Difference
September 30, 2005 Sales September 30, 2004 Sales increase (decrease)
------------------ ------ ------------------ ------ ------------------
Marketing $ 1,603,000 13.3% $ 365,000 4.2% 339.0%
Operating 1,475,000 12.2% 1,069,000 12.3% 38.0%
Technology 840,000 7.0% 1,114,000 12.8% (24.6)%
E-Commerce 650,000 5.4% 511,000 5.9% 27.2%
------------------ ------ ------------------ ------
$ 4,568,000 37.9% $ 3,059,000 35.2% 49.3%
As a percentage of net sales, our selling, marketing and fulfillment expenses
increased to 37.9%.
Marketing expenses include expenses related to our national ad campaign, paid
search, online and print advertising, fees to marketing affiliates, direct mail
campaigns as well as staff related costs. Marketing expenses increased by a
higher percentage than revenue as a result of the costs associated with our
national marketing campaign. Costs in connection with this campaign are being
recorded as the magazines and commercials are being released. For the three
months ended September 2005, approximately $900,000 was expensed in connection
with this campaign. As a result of our more aggressive growth strategy, we
expect our marketing expense as a percentage of revenue to increase in the
short-term. We believe that this is a prudent investment in our business given
that our improved margin structure and average order size have historically
resulted in a relatively high positive contribution to overhead on a customer's
first order.
Operating expenses include all costs related to inventory management,
fulfillment, customer service, and credit card processing. Operating expenses
increased in the third quarter of 2005 by approximately 38% compared to the
third quarter of 2004 as a result of variable costs associated with the
increased sales volume (e.g., picking and packing orders, processing returns and
credit card fees). Operating expenses as a percentage of net sales remained
relatively unchanged at 12%.
Technology expenses consist primarily of staff related costs, amortization of
capitalized costs and Web site hosting. For the three months ended September 30,
2005 technology expenses decreased by approximately 25% compared to the three
months ended September 30, 2004. This decrease resulted from a decrease in
salary related expenses, as well as a decrease in depreciation expense.
Depreciation expense for the three months ended September 30, 2005 was lower
than depreciation expense for the three months ended September 30, 2005 due to
the fact that some equipment was fully depreciated and some software fully
amortized.
E-Commerce expenses include expenses related to our photo studio, image
processing, and Web site design. For the three months ended September 30, 2005,
these expenses increased by approximately 27% as compared to the three months
ended September 30, 2004, primarily due to an increase in salary related
expenses, temporary help and photo shoots and consultants, as well as an
increase in expenses associated with third party software and analytics.
General and administrative expenses: General and administrative expenses include
merchandising, finance and administrative salaries and related expenses,
insurance costs, accounting and legal fees, depreciation and other office
related expenses. General and administrative expenses for the three months ended
September 30, 2005 decreased by approximately 12% to $1,528,000 as compared to
$1,736,000 for the three months ended September 30, 2004. General and
administrative expenses for the third quarter 2004, included approximately
$325,000 of expenses (including $113,000 of non-cash charges resulting from a
stock option grant) incurred in connection with the separation agreement with
our former CEO. The decrease in general and administrative expenses for the
third quarter ended September 2005 compared to September 2004, was primarily the
result of that charge as well as a decrease in public company expenses,
recruiting expenses and legal fees, which was offset slightly by an increase in
salary related expenses, depreciation and accounting fees.
As a percentage of net sales, general and administrative expenses for the third
quarter of 2005 decreased to approximately 12.7% from 20.1%.
16
Loss from operations: Operating loss decreased by approximately 17% in the
second quarter of 2005 to $1,521,000 from $1,829,000 in the third quarter of
2004 as a result of the increase in marketing spend.
Interest and other income: Other income for the three months ended September 30,
2005 increased to $65,000 from $30,000 for the three months ended September 30,
2004. In both periods this amount was related primarily to interest income.
Interest and other expense: Interest expense for the three months ended
September 30, 2005 increased to $247,000 from $161,000, and related primarily to
fees paid in connection with the Rosenthal Facility and interest expense on the
Convertible Notes.
LIQUIDITY AND CAPITAL RESOURCES
General
At September 30, 2005, we had approximately $5.1 million entirely in the form of
cash and cash equivalents, and working capital of approximately $11.6 million.
Working capital at December 31, 2004 and September 30, 2004 were $12.8 and $7.6,
respectively (both amounts exclude the approximately $1.25 million of restricted
cash that we regained access to upon refinancing the Rosenthal Facility). In
addition, as of September 30, 2005, we had approximately $2.7 million of
borrowings committed under the Credit Facility, leaving approximately $3.7
million of availability. In June 2005 we completed a private placement (the "New
Financing") pursuant to which we raised $7,075,431 through the sale of 7,000
shares of newly designated Series F Preferred Stock for an aggregate purchase
price of $7,000,000 and warrants to purchase an additional 603,448 shares of our
common stock at an exercise price of $2.87 per share. The purchase price for the
warrants was $75,431, or $0.125 per warrant. Approximately $3,000,000 of the
proceeds from the New Financing is being used to fund our national advertising
campaign which launched this fall.
We fund our operations through cash on hand, operating cash flow, as well as the
proceeds of any equity or debt financing. Operating cash flow is affected by
revenue and gross margin levels, as well as return rates, and any deterioration
in our performance on these financial measures would have a negative impact on
our liquidity. Total availability under the Credit Facility is based primarily
upon our inventory levels. In addition, both availability under the Credit
Facility and our operating cash flows are affected by the payment terms that we
receive from suppliers and service providers, and the extent to which suppliers
require us to request Wells Fargo to provide credit support under the Credit
Facility. We believe that our suppliers' decision-making with respect to payment
terms and/or the type of credit support requested is largely driven by their
perception of our credit rating, which is affected by information reported in
the industry and financial press and elsewhere as to our financial strength.
Accordingly, negative perceptions as to our financial strength could have a
negative impact on our liquidity. In addition, newer vendors generally do not
provide us with payment terms that are as favorable as those we get from
existing relationships and, in some instances, new vendors may require
prepayments. During 2005, we have increased our prepayments in order to open up
new relationships and gain access to inventory that was not previously available
to us. As of September 30, 2005, we had approximately $436,000 of prepaid
inventory on our balance sheet.
In addition, our inventory levels as of September 30, 2005 are approximately
$6.5 million higher than at the same time last year. The increase in inventory
generally reflects opportunistic buying of fresh inventory that has not
previously been available to us as well as our ramp up in anticipation of fourth
quarter sales in connection with the holiday season. However, the increased
inventory level, could adversely affect our flexibility in taking advantage of
other buying opportunities that may become available in the near term
We believe that our current funds, together with working capital, will be
sufficient to enable us to meet our planned expenditures through at least
March 31, 2006. If the Company does not achieve its sales plan, future
operations may need to be modified, scaled back or discontinued.
Credit Facility
In July 2005, we entered into a new three year revolving credit facility with
Wells Fargo. Pursuant to the Credit Facility, Wells Fargo provides the Company
with a revolving credit facility and issues letters of credit in favor of
suppliers or factors. The Credit Facility is secured by a lien on all of the
Company's assets, as well as a $2,000,000 letter of credit issued by Soros in
17
favor of Wells Fargo (the "Soros LC"). Availability under the Credit Facility is
determined by a formula that takes into account the amount of the Company's
inventory and accounts receivable, as well as the Soros LC. The maximum
availability is currently $7,500,000, but can be increased to $12,500,000 at the
Company's request, subject to certain conditions. As of September 30, 2005,
total availability under the Credit Facility, after giving effect to the
required $850,000 availability reserve, was approximately $6,400,000 of which
$2,700,000 was committed, leaving approximately $3,700,000 available for further
borrowings.
Interest accrues monthly on the average daily amount outstanding under the
Credit Facility during the preceding month at a per annum rate equal to the
prime rate plus 0.75% or LIBOR plus 2.75%. We also pay a monthly commitment fee
on the unused portion of the facility (i.e., $7,500,000 less the amount of loans
outstanding) equal to 0.35%. We also pay Wells Fargo certain fees to open
letters of credit and guarantees in an amount equal to a certain percentage of
the face amount of the letter of credit for each thirty (30) days such letter of
credit, or a portion thereof, remains open.
Subject to certain conditions, if we default on any of our obligations under the
Credit Facility, Wells Fargo has the right to draw upon the Soros LC to satisfy
any such obligations. If Wells draws on the Soros LC, pursuant to the terms of a
reimbursement agreement between us and Soros, we would have the obligation to,
among other things, reimburse Soros for any amounts drawn under the Soros LC
plus interest accrued thereon. In addition, we are required to pay Soros Fund
Management LLC an annual fee in connection with the issuance and maintenance of
the Soros LC in an amount equal to the fee that we would be required to pay in
order to have a similar letter of credit issued under the Credit Facility. For
the year beginning on the date of the closing of the Credit Facility this
formula requires an annual fee of $55,000. We are also required to reimburse
Soros for any costs and expenses associated with the issuance and maintenance of
the Soros LC.
Under the terms of the Credit Facility, Soros has the right to purchase all of
our obligations from Wells Fargo at any time if we are then in default under the
Credit Facility.
Commitments and Long Term Obligations
As of September 30, 2005, we had the following commitments and long term
obligations:
More
Less than 1-3 3-5 than 5
Total 1 year years years years
------------ ------------ ------------ ------------ ------------
Marketing and Advertising $ 1,522,000 1,522,000 -- -- --
Purchase Orders $ 7,012,000 7,012,000 -- -- --
Operating Leases $ 2,041,000 524,000 1,305,000 212,000 --
Capital Leases $ 81,000 41,000 40,000 -- --
Employment Contracts $ 3,663,000 1,793,000 1,870,000 -- --
Notes payable to shareholders, including
interest payable $ 5,067,000 5,067,000 -- -- --
------------ ------------ ------------ ------------ ------------
Grand total $ 19,386,000 15,959,000 3,215,000 212,000 --
We believe that in order to grow the business, we will need to make additional
marketing and advertising commitments in the future. In addition, we expect to
hire and train additional employees for the operations and development of
Bluefly.com. However, our marketing budget and our ability to hire such
employees is subject to a number of factors, including our results of operations
as well as the amount of additional capital that we raise.
RECENT ACCOUNTING PRONOUNCEMENTS
In May 2005 the FASB issued SFAS No. 154 "Accounting Changes and Error
Corrections." SFAS No. 154 replaces APB Opinion No. 20 and SFAS No. 3. SFAS No.
154 provides guidance on the accounting for and reporting of accounting changes
and error corrections. SFAS No. 154 is effective for accounting changes and
corrections of errors made in fiscal years beginning after December 15, 2005.
The Company will adopt this Statement beginning January 1, 2006.
In December 2004, the FASB issued Statement No. 123 (revised 2004), "Share-Based
Payment" ("SFAS 123R"), which replaces SFAS 123 and supersedes APB No. 25. Under
the new standard, companies will no longer be able to account for stock-based
compensation transactions using the intrinsic value method in accordance with
APB No. 25. Instead, companies will be required to account for such transactions
using a fair-value method and to recognize the expense in the statements of
18
income. The adoption of SFAS 123R will also require additional accounting
related to the income tax effects and additional disclosure regarding the cash
flow effects resulting from share-based payment arrangements. SFAS 123R will be
effective for annual periods beginning after June 15, 2005 and allows, but does
not require, companies to restate prior periods. We are evaluating the impact of
adopting SFAS 123R and expect that we will record substantial non-cash stock
compensation expenses. The adoption of SFAS 123R is not expected to have a
significant effect on our cash flows however the non-cash charges associated
therewith are expected to have a significant, adverse effect on our results of
operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have assessed our vulnerability to certain market risks, including interest
rate risk associated with financial instruments included in cash and cash
equivalents and our notes payable. Due to the short-term nature of these
investments we have determined that the risks associated with interest rate
fluctuations related to these financial instruments do not pose a material risk
to us. Item
ITEM 4. CONTROLS AND PROCEDURES.
As of the end of the period covered by this Form 10-Q, we carried out an
evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer along with our Chief Financial Officer, of
the effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). Based
upon that evaluation, our Chief Executive Officer along with our Chief Financial
Officer concluded that our disclosure controls and procedures are effective in
ensuring that information required to be disclosed by us in the reports that we
file or submit under the Exchange Act are recorded, processed, summarized and
reported, within the time periods specified in the Commission's rules and forms.
There have been no changes in our internal control over financial reporting that
occurred during the Company's most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
This report may include statements that constitute "forward-looking" statements,
usually containing the words "believe", "project", "expect", or similar
expressions. These statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Forward-looking statements
inherently involve risks and uncertainties that could cause actual results to
differ materially from the forward-looking statements. The risks and
uncertainties are detailed from time to time in reports filed by us with the
Securities and Exchange Commission, including Forms 8-A, 8-K, 10-Q, and 10-K.
These risks and uncertainties include, but are not limited to, the following:
our ability to execute on and gain additional revenue from, our consumer public
relations and other marketing initiatives, our history of losses and anticipated
future losses; need for additional capital and potential inability to raise such
capital; the success of our new merchandising strategy; the risk of default by
us under the Credit Facility and the consequences that might arise from us
having granted liens on substantially all of our assets under that agreement and
the related Reimbursement Agreement with Soros; potential dilution arising from
future equity financings, including potential dilution as a result of the
anti-dilution provisions contained in our Preferred Stock and Convertible Notes;
risks associated with Soros owning a majority of our stock; the potential
failure to forecast revenues and/or to make adjustments to our operating plans
necessary as a result of any failure to forecast accurately; unexpected changes
in fashion trends; cyclical variations in the apparel and e-commerce markets;
risks of litigation for sale of unauthentic or damaged goods and litigation
risks related to sales in foreign countries; the dependence on third parties and
certain relationships for certain services, including our dependence on U.P.S.
(and the risks of a mail slowdown due to terrorist activity) and our dependence
on our third-party web hosting, fulfillment and customer service centers; online
commerce security risks; risks related to brand owners' efforts to limit our
ability to purchase products indirectly; management of potential growth; the
competitive nature of our business and the potential for competitors with
greater resources to enter the business; the availability of merchandise; the
need to further establish brand name recognition; risks associated with our
ability to handle increased traffic and/or continued improvements to our Web
site; rising return rates; dependence upon executive personnel; the successful
hiring and retaining of new personnel; risks associated with expanding our
operations; risks associated with potential infringement of other's intellectual
property; the potential inability to protect our intellectual property;
government regulation and legal uncertainties; uncertainties relating to the
imposition of sales tax on Internet sales; and risks associated with the
agreements with Soros with respect to a change of control and the liquidation
preference of the Preferred Stock owned by Soros.
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Part II - OTHER INFORMATION
ITEM 6. EXHIBITS
The following is a list of exhibits filed as part of this Report:
EXHIBIT NUMBER DESCRIPTION
-------------- ---------------------------------------------------
31.1 Certification Pursuant to Rule 13a-14(a)/15d-14(a)
31.2 Certification Pursuant to Rule 13a-14(a)/15d-14(a)
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
20
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
BLUEFLY, INC.
By: /s/ Melissa Payner-Gregor
--------------------------
Melissa Payner-Gregor
Chief Executive Officer
By: /s/ Patrick C. Barry
--------------------------
Patrick C. Barry
Chief Financial Officer
November 7, 2005
21