UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2004
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ____________________ to ____________________.
Commission File number 001-16105
STONEPATH GROUP, INC.
---------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 65-0867684
------------------------------------- -------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1600 Market Street, Suite 1515
Philadelphia, PA 19103
------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (215) 979-8370
--------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes |X| No |__|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes |X| No |__|
There were 41,769,472 issued and outstanding shares of the registrant's common
stock, par value $.001 per share, at July 31, 2004.
STONEPATH GROUP, INC.
INDEX
Page
----
Part I. FINANCIAL INFORMATION.................................................................................1
Item 1. Financial Statements (Unaudited)......................................................................1
Condensed Consolidated Balance Sheets
June 30, 2004 and December 31, 2003...................................................................1
Consolidated Statements of Operations
Three and Six months ended June 30, 2004 and 2003.....................................................2
Consolidated Statements of Cash Flows
Six months ended June 30, 2004 and 2003...............................................................3
Notes to Unaudited Consolidated Financial Statements..................................................4
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations...........................................................................................13
Item 3. Quantitative and Qualitative Disclosures About Market Risk...........................................33
Item 4. Controls and Procedures..............................................................................33
Part II. OTHER INFORMATION....................................................................................34
Item 1. Legal Proceedings....................................................................................34
Item 2. Changes in Securities, Use of Proceeds and Issuer
Purchases of Equity Securities.......................................................................34
Item 3. Defaults Upon Senior Securities......................................................................35
Item 4. Submission of Matters to a Vote of Security Holders..................................................35
Item 5. Other Information....................................................................................35
Item 6. Exhibits and Reports on Form 8-K.....................................................................36
SIGNATURES...................................................................................................38
i
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
STONEPATH GROUP, INC.
Condensed Consolidated Balance Sheets
(UNAUDITED)
June 30, 2004 December 31, 2003
------------- -----------------
Assets
Current assets:
Cash $ 1,304,354 $ 3,074,151
Accounts receivable, net 58,889,451 38,470,386
Other current assets 3,319,212 2,231,297
------------- ------------
Total current assets 63,513,017 43,775,834
Goodwill and acquired intangibles, net 47,049,767 42,540,104
Furniture and equipment, net 9,827,316 7,062,956
Other assets 1,500,993 1,364,917
Deferred taxes 1,453,000 1,695,000
------------- ------------
Total assets $ 123,344,093 $ 96,438,811
============= ============
Liabilities and Stockholders' Equity
Current liabilities:
Line of credit - bank $ 12,225,100 $ -
Accounts payable 31,731,433 16,119,014
Accrued expenses 6,080,835 4,030,192
Earn-out payable 117,249 6,623,724
Capital lease obligations 813,686 671,197
------------ ------------
Total current liabilities 50,968,303 27,444,127
Capital lease obligations, net of current portion 1,031,497 1,134,815
------------- ------------
Total liabilities 51,999,800 28,578,942
------------- ------------
Minority interest 3,416,448 1,345,790
------------- ------------
Commitments and contingencies (Note 5)
Stockholders' equity:
Preferred stock, $.001 par value, 10,000,000 shares authorized;
Series D Convertible, issued and outstanding: 161,184 and
310,480 shares at 2004 and 2003, respectively 161 310
Common stock, $.001 par value, 100,000,000 shares authorized;
issued and outstanding: 41,032,974 and 37,449,944 shares
at 2004 and 2003, respectively 41,033 37,450
Additional paid-in capital 222,041,271 220,067,956
Accumulated deficit (154,138,412) (153,572,460)
Accumulated other comprehensive income 49,892 1,997
Deferred compensation (66,100) (21,174)
------------- ------------
Total stockholders' equity 67,927,845 66,514,079
------------- ------------
Total liabilities and stockholders' equity $ 123,344,093 $ 96,438,811
============= ============
See accompanying notes to unaudited consolidated financial statements.
1
STONEPATH GROUP, INC.
Consolidated Statements of Operations
(UNAUDITED)
Three Months Ended June 30, Six Months Ended June 30,
------------------------------- ----------------------------------
2004 2003 2004 2003
------------ ------------ ------------- ------------
Total revenue $ 87,226,679 $ 46,333,898 $ 147,760,386 $ 84,906,339
Cost of transportation 66,884,570 32,228,800 109,694,144 58,617,601
------------ ------------ ------------- ------------
Net revenue 20,342,109 14,105,098 38,066,242 26,288,738
Personnel costs 10,871,557 7,003,018 20,769,299 13,566,098
Other selling, general and
administrative costs 7,423,296 6,058,820 15,480,697 10,361,193
Depreciation and amortization 1,092,592 570,451 1,943,428 1,160,229
Litigation settlement - - - 750,000
------------ ------------ ------------- ------------
Income (loss) from operations 954,664 472,809 (127,182) 451,218
Other income (expense)
Interest expense (59,304) (4,561) (95,043) (2,134)
Other income (expense), net (19,776) 59,181 (35,284) 86,261
------------ ------------ ------------- ------------
Income (loss) from continuing operations
before income tax expense (benefit)
and minority interest 875,584 527,429 (257,509) 535,345
Income tax expense (benefit) 174,207 42,995 (243,593) 58,216
------------ ------------ ------------- ------------
Income (loss) from continuing operations
before minority interest 701,377 484,434 (13,916) 477,129
Minority interest 482,428 - 552,036 -
------------ ------------ ------------- ------------
Income (loss) from continuing operations 218,949 484,434 (565,952) 477,129
Loss from discontinued operations, net of tax - (354,991) - (354,991)
------------ ------------ ------------- ------------
Net income (loss) $ 218,949 $ 129,443 $ (565,952) $ 122,138
============ ============ ============= ============
Basic earnings (loss) per common share -
Continuing operations $ 0.01 $ 0.02 $ (0.01) $ 0.02
Discontinued operations - (0.02) - (0.02)
------------ ------------ ------------- ------------
Basic earnings (loss) per common share $ 0.01 $ - $ (0.01) $ -
============ ============ ============= ============
Diluted earnings (loss) per common share -
Continuing operations $ - $ 0.01 $ (0.01) $ 0.01
Discontinued operations - (0.01) - (0.01)
------------ ------------ ------------- ------------
Diluted earnings (loss) per common share $ - $ - $ (0.01) $ -
============ ============ ============= ============
Basic weighted average shares outstanding 40,476,681 28,410,129 39,072,856 26,597,540
============ ============ ============= ============
Diluted weighted average shares and share
equivalents outstanding 47,237,647 38,082,567 39,072,856 35,305,458
============ ============ ============= ============
See accompanying notes to unaudited consolidated financial statements.
2
STONEPATH GROUP, INC.
Consolidated Statements of Cash Flows
(UNAUDITED)
Six months ended June 30,
2004 2003
------------ ------------
Cash flows from operating activities:
Net income (loss) $ (565,952) $ 122,138
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operating activities:
Deferred income taxes 242,000 -
Depreciation and amortization 1,943,428 1,160,229
Minority interest in income of subsidiaries 552,036 -
Stock-based compensation 25,074 47,616
Issuance of common stock in litigation settlement - 350,000
Discontinued operations - issuance of common stock to consultant - 128,000
Other 10,450 -
Changes in assets and liabilities, net of effect of acquisitions:
Accounts receivable (8,434,570) (4,311,691)
Other assets (735,010) (1,069,842)
Accounts payable and accrued expenses 7,383,284 (213,966)
------------ ------------
Net cash provided by (used in) operating activities 420,740 (3,787,516)
------------ ------------
Cash flows from investing activities:
Purchases of furniture and equipment (2,796,233) (3,905,048)
Acquisitions of businesses, net of cash acquired (6,741,230) (3,770,000)
Payment of earn-out (6,506,475) (3,476,856)
Loans made (75,000) (320,909)
------------ ------------
Net cash used in investing activities (16,118,938) (11,472,813)
------------ ------------
Cash flows from financing activities:
Proceeds from line of credit, net 12,225,100 5,618,000
Issuance of common stock, net of costs - 5,670,539
Issuance of common stock upon exercise of options and warrants 2,006,989 104,861
Proceeds from financing of equipment - 1,960,952
Principal payments on capital lease (351,583) -
------------ ------------
Net cash provided by financing activities 13,880,506 13,354,352
Effect of foreign currency translation 47,895 -
------------ ------------
Net decrease in cash and cash equivalents (1,769,797) (1,905,977)
Cash and cash equivalents at beginning of period 3,074,151 2,266,108
------------ ------------
Cash and cash equivalents at end of period $ 1,304,354 $ 360,131
============ ============
Cash paid for interest $ 123,380 $ -
============ ============
Cash paid for income taxes $ 87,261 $ -
============ ============
Supplemental disclosure of non-cash investing and financing activities:
Increase in furniture and equipment and capital lease obligation $ 390,754 $ -
Increase in common stock from conversion of Series D preferred stock $ 149 $ -
Issuance of warrants for consulting services $ 70,000 $ -
Issuance of common stock in connection with exercise of options $ 200,240 $ -
Issuance of common stock in connection with acquisitions $ 100,000 $ 1,000,000
Issuance of common stock in connection with payment of earn-out $ - $ 443,300
See accompanying notes to unaudited consolidated financial statements.
3
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
(1) Nature of Operations and Basis of Presentation
Stonepath Group, Inc. and subsidiaries (the "Company") is a non-asset based
third-party logistics services company providing supply chain solutions on a
global basis. A full range of time-definite transportation and distribution
solutions is offered through the Company's Domestic Services platform, where the
Company manages and arranges the movement of raw materials, supplies, components
and finished goods for its customers. A full range of international logistics
services including international air and ocean transportation as well as customs
house brokerage services is offered through the Company's International Services
platform. In addition to these core service offerings, the Company also provides
a broad range of value added supply chain management services, including
warehousing, order fulfillment and inventory management. The Company services a
customer base of manufacturers, distributors and national retail chains.
The accompanying unaudited consolidated financial statements were prepared in
accordance with generally accepted accounting principles for interim financial
information. Certain information and footnote disclosures normally included in
financial statements have been condensed or omitted pursuant to the rules and
regulations of the U.S. Securities and Exchange Commission (the "SEC") relating
to interim financial statements. These statements reflect all adjustments,
consisting only of normal recurring accruals, necessary to present fairly the
Company's financial position, operations and cash flows for the periods
indicated. While the Company believes that the disclosures presented are
adequate to make the information not misleading, these unaudited consolidated
financial statements should be read in conjunction with the Company's Annual
Report on Form 10-K for the year ended December 31, 2003. Interim operating
results are not necessarily indicative of the results for a full year because
our operating results are subject to seasonal trends when measured on a
quarterly basis. Our first and second quarters are likely to be weaker in both
revenues and earnings as compared with our other fiscal quarters, which we
believe is consistent with the operating results of other supply chain service
providers.
(2) Stock-Based Compensation
The Company accounts for its employee stock option grants by applying the
intrinsic value method. The table below illustrates the effect on net income
(loss) and earnings (loss) per common share as if the fair value of options
granted had been recognized as compensation expense in accordance with the fair
value method.
Three months ended June 30, Six months ended June 30,
-------------------------------- ----------------------------------
2004 2003 2004 2003
-------------------------------- ----------------------------------
Net income (loss) as reported $ 218,949 $ 129,443 $ (565,952) $ 122,138
Add: stock-based employee compensation expense
included in reported net income (loss), net
of tax - 22,617 13,202 45,235
Deduct: total stock-based compensation expense
determined under the fair value method for all
awards, net of tax (458,785) (490,328) (1,930,411) (1,275,707)
------------ ----------- ----------- -----------
Pro forma net loss $ (239,836) $ (338,268) $(2,483,161) $(1,108,334)
============ =========== =========== ===========
Basic earnings (loss) per common share:
As reported $ 0.01 $ - $ (0.01) $ -
Pro forma (0.01) (0.01) (0.06) (0.04)
Diluted earnings (loss) per common share:
As reported $ - $ - $ (0.01) $ -
Pro forma (0.01) (0.01) (0.06) (0.04)
4
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
(3) Recent Acquisitions
On February 9, 2004, the Company acquired, through its indirect wholly owned
subsidiary, Stonepath Holdings (Hong Kong) Limited, a 55% interest in Shaanxi
Sunshine Cargo Services International Co., Ltd. ("Shaanxi"). Shaanxi is a Class
A licensed freight forwarder headquartered in Shanghai, PRC and provides a wide
range of customized transportation and logistics services and supply chain
solutions, including global freight forwarding, warehousing and distribution,
shipping services and special freight handling. As consideration for the
purchase, which was effective as of March 1, 2004, the Company paid $5,500,000
consisting of $3,500,000 in cash and $2,000,000 of the Company's common stock;
additionally, in late August 2004 the Company will pay the seller $1,913,000
which represents 55% of Shaanxi's working capital as of March 1, 2004. The
seller may receive additional consideration of up to an additional $5,500,000
under an earn-out arrangement payable at the rate of $1,100,000 per year over a
period of five years based on the future financial performance of Shaanxi. The
Company used funds from its credit facility with LaSalle Business Credit, LLC.
for the cash payment at the closing. The common shares issued in the transaction
are subject to a one year restriction on sale and are subject to a pro rata
forfeiture based upon a formula that compares the actual pre-tax income of
Shaanxi through December 31, 2004 with the targeted level of income of
$4,000,000 (on an annualized basis). Also, if the trading price of the Company's
common stock is less than $3.17 per share at the end of the one-year
restriction, the Company will issue additional shares to the seller. Because the
common shares issued in connection with this transaction are subject to
forfeiture, they are accounted for as additional contingent consideration. When
the number of common shares to be retained by the seller is ultimately
determined, such shares will be valued at their then fair value and will result
in additional goodwill being recorded.
The acquisition, which significantly enhances the Company's presence in the
region, was accounted for as a purchase and accordingly, the results of
operations and cash flows of Shaanxi have been included in the Company's
consolidated financial statements prospectively from the date of acquisition.
Because the Company consolidates its foreign subsidiaries on a one-month lag,
such information has been reflected in the consolidated statement of operations
effective for periods subsequent to April 1, 2004. The total purchase price,
including acquisition expenses of $269,000, but excluding the contingent
consideration, was $5,682,000. The following table summarizes the allocation of
the purchase price based on fair value of the assets acquired and liabilities
assumed at March 1, 2004 (in thousands):
Current assets $ 13,330
Furniture and equipment 157
Goodwill and other intangible assets 3,614
-------------
Total assets acquired 17,101
Current liabilities assumed (9,727)
Minority interest (1,692)
-------------
Net assets acquired $ 5,682
=============
5
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
The following unaudited pro forma information is presented as if the acquisition
of Shaanxi had occurred on December 1, 2002, using the one-month lag
consolidation policy (in thousands, except earnings per share):
Three Months Ending June 30, Six Months Ending June 30,
------------------------------------ ------------------------------------
2004 2003 2004 2003
------------------- ---------------- ----------------- ------------------
Revenue $ 87,227 $ 63,219 $ 172,316 $ 118,217
Income from continuing operations 237 756 172 1,214
Net income 237 401 172 859
Earnings per share:
Basic $ 0.01 $ 0.01 $ - $ 0.03
Diluted - 0.01 - 0.02
(4) Revolving Credit Facility
The Company maintains a $20,000,000 (subsequently increased to $25,000,000 - see
Note 10) revolving credit facility (the "Facility") collateralized by the
accounts receivable and the other assets of the Company and its subsidiaries.
The Facility requires the Company and its subsidiaries to meet certain financial
objectives and maintain certain financial covenants. Advances under the Facility
may be used to finance future acquisitions, capital expenditures or for other
corporate purposes. The Company expects that the cash flow from operations of
its subsidiaries will be sufficient to support the corporate overhead of the
Company and some portion, if not all, of the contingent earn-out payments and
other cash requirements associated with its acquisitions. Therefore, the Company
anticipates that its primary use of the Facility will be to finance the cost of
new acquisitions and to pay any portion of existing earn-out arrangements that
cash flow from operations is otherwise unable to fund. At June 30, 2004 the
Company had advances of $12,225,000. Based upon available collateral and net of
advances under the Facility and outstanding letter of credit commitments, there
was approximately $6,060,000 available for borrowing under the Facility.
6
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
(5) Commitments and Contingencies
On May 6, 2003, we elected to settle litigation instituted on August 20, 2000 by
Austost Anstalt Schaan, Balmore Funds, S.A. and Amro International, S.A.
Although we believed that the plaintiffs' claims were without merit, we chose to
settle the matter in order to avoid future litigation costs and to mitigate the
diversion of management's attention from operations. The total settlement costs
of $750,000, paid $400,000 in cash and $350,000 in shares of the Company's
common stock, are included in the accompanying unaudited consolidated statement
of operations for the six month period ended June 30, 2003.
On October 12, 2000, Emergent Capital Investment Management, LLC ("Emergent")
filed suit against the Company and two of its officers contending that it was
misled by statements made by the defendants in connection with the offering of
the Company's Series C Preferred Stock which closed in March 2000. Specifically,
Emergent alleges that it is entitled to rescind the transaction because it was
allegedly represented that the size of the offering would be $20,000,000 and the
Company actually raised $50,000,000. Emergent seeks a return of its $2,000,000
purchase price of Series C shares. In June of 2001, the Company moved for
summary judgment in this case.
After the summary judgment motion was filed, Emergent filed a second action
against the Company and two of its officers alleging different allegations of
fraud in connection with the Series C offering. In the new complaint, Emergent
alleged that oral statements and written promotional materials distributed by
the Company at a meeting in connection with the Series C offering were
materially inaccurate with respect to the Company's investment in Net Value,
Inc., a wholly owned subsidiary of the Company. Emergent also contended that the
defendants failed to disclose certain allegedly material transactions in which
an officer was involved prior to his affiliation with the Company. The Company
filed a motion to dismiss this new action for failure to state a claim upon
which relief can be granted.
On October 2, 2001, the Court entered an order granting summary judgment to the
defendants in the first case filed by Emergent and dismissing Emergent's second
complaint for failure to state a claim upon which relief can be granted. The
Court allowed Emergent 20 days to file a second amended complaint as to the
second action only. On October 21, 2001, Emergent did file a second amended
complaint in the second action. The second amended complaint did not raise any
new factual allegations regarding Emergent's participation in the offering.
The Company filed a motion to dismiss Emergent's second amended complaint. On
April 15, 2002, the United States District Court for the Southern District of
New York entered an order granting the motion to dismiss Emergent's second
amended complaint against the Company and its former officers. The Court refused
to grant Emergent an additional opportunity to re-plead its claims against the
defendants and a final order dismissing the matter was entered. Emergent
thereafter filed a notice of appeal to the United States Court of Appeals for
the Second Circuit. On September 4, 2003, the Second Circuit Court of Appeals
entered an order affirming in part, vacating in part and remanding in part the
matter to the District Court. The Court of Appeals affirmed the dismissal of
some of the counts in the Second Amended Complaint and determined that Emergent
had stated a claim on the other counts. The Company has filed an answer denying
liability to Emergent and discovery on causation issues is proceeding. The
Company believes that it has meritorious defenses to the plaintiff's claims and
continues to vigorously defend this action.
7
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
The Company may become involved in various other claims and legal actions
arising in the ordinary course of business. In the opinion of management, the
ultimate disposition of these matters will not have a material adverse effect on
the Company's consolidated financial position, results of operations or
liquidity.
(6) Stockholders' Equity
Common Stock
On March 6, 2003, the Company completed a private placement of 4,470,000 shares
of its common stock. The transaction consisted of the sale of 4,270,000 shares
at $1.35 per share and 200,000 shares at $1.54 per share. In connection with
this transaction, the Company realized gross proceeds of $6,072,500, paid a
brokerage fee consisting of cash commissions of $364,350, issued placement agent
warrants to purchase 297,000 shares of common stock at an exercise price of
$1.49 per share, and incurred other cash expenses of $33,677. In addition, the
Company had previously paid the placement agent $25,000 in cash and had issued
it warrants to purchase 150,000 shares of common stock at an exercise price of
$1.23 per share.
In connection with the Shaanxi acquisition, the Company issued 630,915 shares of
its common stock. Because these shares are subject to a pro rata forfeiture
based on the financial performance of Shaanxi through December 31, 2004, such
shares have not been reflected as outstanding securities in the accompanying
consolidated financial statements.
Series D Convertible Preferred Stock
There are 161,184 shares of Series D Preferred Stock outstanding as of June 30,
2004.
Each share of the Series D Convertible Preferred Stock is convertible into ten
shares of common stock of the Company. The holders of the Series D Convertible
Preferred Stock are entitled to participate in all liquidation distributions
made to the holders of the Company's common stock on an as-if converted basis.
The Series D Convertible Preferred Stock carries no dividend, and, except under
limited circumstances, has no voting rights except as required by law. The
Series D Convertible Preferred Stock automatically converts into shares of the
Company's common stock as of December 31, 2004.
8
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
During the six months ended June 30, 2004, 149,293 shares of the Company's
Series D preferred stock were converted into 1,492,930 shares of the Company's
common stock.
Stock Options and Warrants
The following summarizes the Company's stock option activity and related
information:
Weighted
Range of average
Shares exercise prices exercise price
------------- --------------------- -------------------
Outstanding at January 1, 2004 10,604,134 $ 0.50 - 17.50 $ 1.36
Granted 2,624,700 1.97 - 3.75 2.86
Exercised (1,569,094) 0.60 - 1.81 0.94
Cancelled (253,723) 1.30 - 2.38 1.94
-----------
Outstanding at June 30, 2004 11,406,017 $ 0.50 - 17.50 $ 1.75
==========
The Company received and cancelled 170,579 shares of its common stock in
connection with a cashless exercise on June 22, 2004.
The following summarizes the Company's stock warrant activity and related
information:
Weighted
Range of average
Shares Exercise prices exercise price
---------- --------------------- -------------------
Outstanding at January 1, 2004 1,883,396 $ 1.00 - 1.49 $ 1.03
Granted 600,000 5.00 5.00
Exercised (525,612) 1.00 1.00
---------
Outstanding at June 30, 2004 1,957,784 $ 1.00 - 5.00 $ 2.26
=========
(7) Earnings (Loss) per Share
Basic earnings (loss) per common share has been computed using the
weighted-average number of shares of common stock outstanding during the period.
Diluted earnings (loss) per common share incorporates the incremental shares
issuable upon the assumed exercise of stock options and warrants and upon the
assumed conversion of the Company's preferred stock, if dilutive. Certain stock
options, stock warrants, and convertible securities were excluded from the
calculation of diluted earnings (loss) per share because their effect was
antidilutive. The total numbers of such shares excluded from the diluted
earnings (loss) per common share calculations are 1,565,400 and 288,600 for the
three months ended June 30, 2004 and 2003, respectively, and 9,798,859 and
766,777 for the six months ended June 30, 2004 and 2003, respectively. Also, the
630,915 shares of common stock issued in connection with the Shaanxi acquisition
are subject to pro rata forfeiture based upon the financial performance of
Shaanxi through December 31, 2004. Accordingly, such shares have been excluded
from the calculation of basic and diluted earnings (loss) per common share for
the three- and six-month periods ended June 30, 2004.
9
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
(8) Income Taxes
For the three- and six-month periods ended June 30, 2004, the Company calculated
income tax expense (benefit) using estimated effective rates of 34.0% for U.S.
federal income taxes, 4.9% for state income taxes and 30.0% for foreign income
taxes. For the three- and six-month periods ended June 30, 2003, the Company
calculated income tax expense only for state and foreign components; the Company
did not reflect any expense for federal income taxes in those periods due to the
full valuation allowance that had been established for its deferred tax assets.
The components of income tax expense (benefit) consist of the following:
Three months ended June 30, Six months ended June 30,
---------------------------------- ------------------------------
2004 2003 2004 2003
------------- --------------- --------------- ------------
U.S. federal $ (59,814) $ - $ (508,514) $ -
State (51,350) 28,534 (87,550) 35,934
Foreign 285,371 14,461 352,471 22,282
----------- ---------- ----------- -----------
$ 174,207 $ 42,995 $ (243,593) $ 58,216
=========== ========== =========== ===========
(9) Segment Information
Operating segments are defined as components of an enterprise engaging in
business activities about which separate financial information is available that
is evaluated regularly by the chief operating decision maker or group in
deciding how to allocate resources and in assessing performance. The Company
identifies operating segments based on the principal service provided by the
business unit. Each segment has a separate management structure. The accounting
policies of the reportable segments are the same as described in our Annual
Report on Form 10-K for the year ended December 31, 2003. Segment information,
in which corporate expenses (other than the litigation settlement in 2003) have
been fully allocated to the operating segments, is as follows (in thousands):
10
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
Three months ended June 30, 2004
-----------------------------------------------------------
Domestic International
Services Services Corporate Total
---------- --------- ----------- ----------
Revenue from external customers $ 33,924 53,303 $ - $ 87,227
Intersegment revenue 8 83 - 91
Income (loss) from operations (902) 1,857 - 955
Three months ended June 30, 2003
-----------------------------------------------------------
Domestic International
Services Services Corporate Total
---------- --------- ----------- ----------
Revenue from external customers $ 24,061 $ 22,273 $ - $ 46,334
Intersegment revenue 6 29 - 35
Income (loss) from operations (166) 639 - 473
Six months ended June 30, 2004
-----------------------------------------------------------
Domestic International
Services Services Corporate Total
---------- --------- ----------- ----------
Revenue from external customers $ 68,929 $ 78,831 $ - $ 147,760
Intersegment revenue 9 95 - 104
Income (loss) from operations (2,242) 2,115 - (127)
Segment assets 48,793 65,959 8,592 123,344
Segment goodwill and intangibles, net 28,012 19,038 - 47,050
11
Stonepath Group, Inc.
Notes to Unaudited Consolidated Financial Statements
June 30, 2004
Six months ended June 30, 2003
--------------------------------------------------------------
Domestic International
Services Services Corporate Total
--------------- ------------- ------------- ------------
Revenue from external customers $ 47,835 $ 37,071 $ - $ 84,906
Intersegment revenue 40 57 - 97
Income (loss) from operations 95 1,106 (750) 451
Segment assets 47,238 15,778 3,653 66,669
Segment goodwill and intangibles, net 24,309 5,463 - 29,772
The revenue in the table below is allocated to geographic areas based upon the
location of the customer (in thousands):
Three months ended June 30, Six months ended June 30,
------------------------------- -------------------------------
2004 2003 2004 2003
-------------- ---------------- --------------- ---------------
Total revenue:
United States $ 55,817 $ 45,780 $ 109,062 $ 83,903
Asia 23,875 554 29,946 1,003
North America
(excluding the United States) 814 - 938 -
South America 1,890 - 1,890 -
Europe 3,181 - 3,849 -
Other 1,650 - 2,075 -
---------- --------- --------- ----------
$ 87,227 $ 46,334 $ 147,760 $ 84,906
========== ========= ========= ==========
The following table presents long-lived assets by geographic area:
June 30,
------------------------------------
2004 2003
------------- ------------
United States $ 9,131,953 $ 6,739,013
Asia 573,715 15,050
South America 121,648 -
------------- ------------
Total long-lived assets $ 9,827,316 $ 6,754,063
============= ============
(10) Subsequent Event
Effective July 28, 2004, we amended our revolving credit facility with LaSalle
Business Credit, LLC from $20,000,000 to $25,000,000 (the "Amended Facility").
Additionally, under the Amended Facility there are two funded debt to
consolidated EBITDA covenants (previously there was one covenant - see below).
The first covenant limits our domestic funded debt to a multiple of 3.75 of our
domestic EBITDA measured on a rolling four-quarter basis (previously limited to
a multiple of 2.75). The second funded debt covenant is based on consolidated
worldwide EBITDA and limits our overall consolidated leverage ratio (including
any debt carried on the books of an offshore subsidiary) to a multiple of 4.00
of our worldwide EBITDA.
12
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Cautionary Statement For Forward-Looking Statements
This Quarterly Report on Form 10-Q includes forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 as amended, and Section
21E of the Securities Exchange Act of 1934, as amended, regarding future
results, levels of activity, events, trends or plans. We have based these
forward-looking statements on our current expectations and projections about
such future results, levels of activity, events, trends or plans. These
forward-looking statements are not guarantees and are subject to known and
unknown risks, uncertainties and assumptions about us that may cause our actual
results, levels of activity, events, trends or plans to be materially different
from any future results, levels of activity, events, trends or plans expressed
or implied by such forward-looking statements. In some cases, you can identify
forward-looking statements by terminology such as "may," "will," "should,"
"could," "would," "expect," "plan," "anticipate," "believe," "estimate,"
"continue," or the negative of such terms or other similar expressions. While it
is impossible to identify all of the factors that may cause our actual results,
levels of activity, events, trends or plans to differ materially from those set
forth in such forward-looking statements, such factors include the inherent
risks associated with: (i) our ability to sustain an annual growth rate in
revenues consistent with recent results, (ii) our ability to achieve our
targeted operating margins, (iii) our ability to identify, acquire, integrate
and manage additional businesses in a manner which does not dilute our earnings
per share, (iv) our ability to obtain the capital necessary to make additional
acquisitions, (v) the uncertainty of future trading prices of our common stock
and the impact such trading prices may have upon our ability to utilize our
common stock to facilitate our capital raising efforts and associated
acquisition strategy, (vi) the uncertain effect on the future trading price of
our common stock associated with the possible additional issuance of securities
upon the conversion or exercise of outstanding convertible securities and to
satisfy existing contractual commitments, (vii) our dependence on certain large
customers, (viii) our dependence upon certain key personnel, (ix) an unexpected
adverse result in any legal proceeding, (x) the scarcity and competition for the
operating companies we need to acquire to implement our business strategy, (xi)
competition in the freight forwarding, logistics and supply chain management
industry, (xii) the impact of current and future laws affecting the Company's
operations, (xiii) adverse changes in general economic conditions as well as
economic conditions affecting the specific industries and customers we serve,
(xiv) regional disruptions in transportation, (xv) the risk that the actual
results of recently acquired businesses are not consistent with their historical
results and forward-looking guidance provided to us at the time of acquisition,
and (xvi) other factors which are or may be identified from time to time in our
Securities and Exchange Commission filings and other public announcements,
including our most recent Annual Report on Form 10-K for the year ended December
31, 2003. Readers are cautioned not to place undue reliance on forward-looking
statements, which speak only as of the date made. We undertake no obligation to
publicly release the result of any revision of these forward-looking statements
to reflect events or circumstances after the date they are made or to reflect
the occurrence of unanticipated events.
13
OVERVIEW
We are a non-asset based third-party logistics services company
providing supply chain solutions on a global basis. We offer a full range of
time-definite transportation and distribution solutions through the Domestic
Services platform, where we manage and arrange the movement of raw materials,
supplies, components and finished goods for our customers. We offer a full range
of international logistics services, including international air and ocean
transportation as well as customs house brokerage services, through the
International Services platform. In addition to these core service offerings, we
also provide a broad range of value added supply chain management services,
including warehousing, order fulfillment and inventory management solutions. We
service a customer base of manufacturers, distributors and national retail
chains through a network of offices in 21 major metropolitan areas in North
America, Puerto Rico, ten locations in Asia and five locations in South America,
using an extensive network of independent carriers and service partners
strategically located around the world.
As a non-asset based provider of third-party logistics services, we
seek to limit our investment in equipment, facilities and working capital
through contracts and preferred provider arrangements with various
transportation providers who generally provide us with favorable rates, minimum
service levels, capacity assurances and priority handling status. The volume of
our flow of freight enables us to negotiate attractive pricing with our
transportation providers.
Our strategic objective is to build a leading global logistics services
organization that integrates established operating businesses and innovative
technologies. We plan to achieve this objective by broadening our network
through a combination of synergistic acquisitions and the organic expansion of
our existing base of operations. We are currently pursuing an aggressive
acquisition strategy to enhance our position in our current markets and to
acquire operations in new markets. The focus of this strategy is on acquiring
businesses that have demonstrated historic levels of profitability, have a
proven record of delivering high quality services, have a customer base of large
and mid-sized companies and which otherwise may benefit from our long term
growth strategy and status as a public company.
Our strategy has been designed to take advantage of shifting market
dynamics. The third-party logistics industry continues to grow as an increasing
number of businesses outsource their logistics functions to more cost
effectively manage and extract value from their supply chains. Also, we believe
the industry is positioned for further consolidation as it remains highly
fragmented, and as customers are demanding the types of sophisticated and
broad-reaching service offerings that can more effectively be handled by larger,
more diverse organizations. As a non-asset based provider of third-party
logistics services, we can focus on optimizing the transportation solution for
our customers, rather than on our own asset utilization. Our non-asset based
approach allows us to maintain a high level of operating flexibility and
leverage a cost structure that is highly variable in nature.
Our acquisition strategy relies upon two primary factors: first, our
ability to identify and acquire target businesses that fit within our general
acquisition criteria and, second, the continued availability of capital and
financing resources sufficient to complete these acquisitions. Our growth
strategy relies upon a number of factors, including our ability to efficiently
integrate the businesses of the companies we acquire, generate the anticipated
economies of scale from the integration, and maintain the historic sales growth
of the acquired businesses so as to generate continued organic growth. There are
a variety of risks associated with our ability to achieve our strategic
objectives, including our ability to acquire and profitably manage additional
businesses, our current reliance on a small number of key customers, the risks
inherent in international operations, and the intense competition in our
industry for customers and for the acquisition of additional businesses. The
business risks associated with these factors are identified or referred to above
under our "Cautionary Statement for Forward-Looking Statements."
14
Our principal source of income is derived from freight forwarding
services. As a freight forwarder, we arrange for the shipment of our customers'
freight from point of origin to point of destination. Generally, we quote our
customers a turn key cost for the movement of their freight. Our price quote
will often depend upon the customer's time-definite needs (first day through
fifth day delivery), special handling needs (heavy equipment, delicate items,
environmentally sensitive goods, electronic components, etc.) and the means of
transport (truck, air, ocean or rail). In turn, we assume the responsibility for
arranging and paying for the underlying means of transportation.
We also provide a range of other services including customs brokerage,
warehousing and other services, which include customized distribution,
fulfillment, and other value added supply chain services.
Total revenue represents the total dollar value of services we sell to
our customers. Our cost of transportation includes direct costs of
transportation, including motor carrier, air, ocean and rail services. We act
principally as the service provider to add value in the execution and
procurement of these services to our customers. Our net transportation revenue
(gross transportation revenue less the direct cost of transportation) is the
primary indicator of our ability to source, add value and resell services
provided by third parties, and is considered by management to be a key
performance measure. We believe that net revenue is also an important measure of
economic performance. Net revenue includes transportation revenue and our
fee-based activities, after giving effect to the cost of transportation. In
addition, management believes measuring its operating costs as a function of net
revenue provides a useful metric, as our ability to control costs as a function
of net revenue directly impacts operating earnings. With respect to our services
other than freight transportation, net revenue is identical to gross revenue.
A significant portion of our revenue is derived from our international
operations, and the growth of those operations is an important part of our
business strategy. Our current international operations are focused on the
shipment of goods into and out of the United States and are dependent on the
volume of international trade with the United States. Our strategic plan
contemplates the growth of those operations, as well as the expansion into the
transportation of goods wholly outside of the United States. The following
factors could adversely affect our current international operations, as well as
the growth of those operations:
- the political and economic systems in certain international
markets are less stable than in the United States;
- wars, civil unrest, acts of terrorism and other conflicts
exist in certain international markets;
- export restrictions, tariffs, licenses and other trade
barriers can adversely affect the international trade serviced by
our international operations;
- managing distant operations with different local market
conditions and practices is more difficult than managing domestic
operations;
- differing technology standards in other countries present
difficulties and expense in integrating our services across
international markets;
- complex foreign laws and treaties can adversely affect our ability
to compete; and
- our ability to repatriate funds may be limited by foreign
exchange controls.
15
Our operating results will be affected as acquisitions occur. Since all
acquisitions are made using the purchase method of accounting for business
combinations, our financial statements will only include the results of
operations and cash flows of acquired companies for periods subsequent to the
date of acquisition. To help facilitate the consolidation, analysis and public
reporting process, our offshore operations are included within our consolidated
results on a one-month lag, or more specifically, our calendar year results will
include results from offshore operations for the period December 1 through
November 30. As a result of the one-month lag, the earnings impact of the
Shaanxi transaction was first reflected in our consolidated results beginning in
April 2004.
Our GAAP based net income will also be affected by non-cash charges
relating to the amortization of customer related intangible assets and other
intangible assets arising from our completed acquisitions. Under applicable
accounting standards, purchasers are required to allocate the total
consideration in a business combination to the identified assets acquired and
liabilities assumed based on their fair values at the time of acquisition. The
excess of the consideration paid over the fair value of the identifiable net
assets acquired is to be allocated to goodwill, which is tested at least
annually for impairment. Applicable accounting standards require the Company to
separately account for and value certain identifiable intangible assets based on
the unique facts and circumstances of each acquisition. As a result of the
Company's acquisition strategy, our net income will include material non-cash
charges relating to the amortization of customer related intangible assets and
other intangible assets acquired in our acquisitions. Although these charges may
increase as the Company completes more acquisitions, we believe we are actually
growing the value of our intangible assets (e.g., customer relationships). Thus,
we believe that earnings before interest, taxes, depreciation and amortization,
or EBITDA, is a useful financial measure for investors because it eliminates the
effect of these non-cash costs and provides an important metric for our
business. Accordingly, we employ EBITDA as a measure of our historical financial
performance and as a benchmark for future guidance.
Our operating results are also subject to seasonal trends when measured
on a quarterly basis. Our first and second quarters are likely to be weaker as
compared with our other fiscal quarters, which we believe is consistent with the
operating results of other supply chain service providers. This trend is
dependent on numerous factors, including the markets in which we operate,
holiday seasons, consumer demand and economic conditions. Since our revenue is
largely derived from customers whose shipments are dependent upon consumer
demand and just-in-time production schedules, the timing of our revenue is often
beyond our control. Factors such as shifting demand for retail goods and/or
manufacturing production delays could unexpectedly affect the timing of our
revenue. As we increase the scale of our operations, seasonal trends in one area
may be offset to an extent by opposite trends in another area. We cannot
accurately predict the timing of these factors, nor can we accurately estimate
the impact of any particular factor, and thus we can give no assurance that
historical seasonal patterns will continue in future periods.
CRITICAL ACCOUNTING POLICIES
Our accounting policies, which are in compliance with accounting
principles generally accepted in the United States, require us to apply
methodologies, estimates and judgments that have a significant impact on the
results we report in our financial statements. In our Annual Report on Form 10-K
for the year ended December 31, 2003 we have discussed those policies that we
believe are critical and require the use of complex judgment in their
application. Since the date of that Form 10-K, there have been no material
changes to our critical accounting policies or the methodologies or assumptions
applied under them.
16
RESULTS OF OPERATIONS
Quarter ended June 30, 2004 compared to quarter ended June 30, 2003
The following table summarizes our total revenue, net transportation
and other revenue (in thousands):
Quarter ended June 30, Change
--------------------------- --------------------------
2004 2003 Amount Percent
---------- ------------ ----------- -----------
Total revenue $87,227 $ 46,334 $ 40,893 88.3%
======== ======== ========
Transportation revenue 81,345 42,582 38,763 91.0%
Cost of transportation 66,885 32,229 34,656 107.5%
-------- -------- --------
Net transportation revenue 14,460 10,353 4,107 39.7%
Net transportation margin 17.8% 24.3%
Customs brokerage 2,423 2,178 245 11.2%
Warehousing and other
value added services 3,459 1,574 1,885 119.8%
-------- -------- --------
Total net revenue $20,342 $ 14,105 $ 6,237 44.2%
======== ======== ========
Net revenue margin 23.3% 30.4%
======== ========
Total revenue was $87.2 million in the second quarter of 2004, an
increase of 88.3% over total revenue of $46.3 million in the second quarter of
2003. $8.0 million or 19.6% of the increase in total revenue was attributable to
same store growth with $32.9 million or 80.4% of the increase in total revenue
attributable to acquisitions. The Domestic Services platform delivered $33.9
million in total revenue for the second quarter of 2004, an improvement of $5.6
million and 19.9% over the same prior year period with $3.2 million of the
increase coming from same store growth and the remaining $2.4 million in revenue
growth coming from acquisitions. The International Services platform delivered
$53.4 million in total revenue for the second quarter of 2004, a period over
period improvement of $35.3 million or 195.0%, with $4.8 million of the increase
coming from same store growth and the remaining $30.5 million improvement
attributed to acquisitions.
Net transportation revenue was $14.5 million in the second quarter of
2004, an increase of 39.7% over net transportation revenue of $10.4 million in
the second quarter of 2003. $0.1 million, or 2.9% of the increase in net
transportation revenue, was attributable to same store growth with $4.0 million,
or 97.1% of the increase, attributable to acquisitions. The Domestic Services
platform delivered $7.8 million in net transportation revenue for the second
quarter of 2004, a decrease of $0.3 million from the same prior year period
driven by a decrease of $0.6 million in same store activity attributed primarily
to one low-margin contract which the Company had identified earlier in the year
(and phased out over the second quarter of 2004 as planned) offset by a $0.3
million increase from acquisitions. The International Services platform
delivered $6.6 million in net transportation revenue for the second quarter of
2004, a period over period improvement of $4.4 million or 201.6%, with $0.8
million of the increase coming from same store growth and the remaining $3.6
million improvement attributed to acquisitions.
17
Net transportation margin decreased to 17.8% for the second quarter of
2004 from 24.3% for the second quarter of 2003 primarily driven by the change in
revenue mix resulting from the recent acquisitions within the International
Services platform which generally operate at lower margins than those in the
Domestic Services platform. For the second quarter of 2004, net transportation
margin for the Domestic Services platform declined to 25.5% from 30.1% tied
primarily to the low-margin contract that the Company exited late in the second
quarter of 2004 and, to a lesser extent, the impact of new business within the
automotive sector which carries a lower margin. For the International Services
platform, net transportation margin has declined in line with previous
expectations to 13.1% from 14.2% as a result of the general rate increases
imposed by the underlying asset-based carriers as well as the impact of the
recently completed Shaanxi transaction. Shaanxi operates principally as a
wholesaler of airfreight which carries lower margins but provides the
International Services platform with the opportunity for growth in the
higher-margin retail component of the airfreight business.
Customs brokerage and other value added services revenue was $5.9
million in the second quarter of 2004, an increase of 56.7% over $3.8 million in
the second quarter of 2003. $2.0 million or 97.5% of the increase was
attributable to same store growth, with $0.1 million, or 2.5% of the increase
attributable to acquisitions. The Domestic Services platform delivered $3.2
million in other value added services revenue, an improvement of $1.9 million or
156.2% over the same prior year period with $1.8 million of the increase coming
from same store growth driven by the start-up of a significant new key account
and the remaining $0.1 million in growth coming from acquisitions. The
International Services platform delivered $2.7 million in customs brokerage and
other value added services revenue, an increase of $0.2 million or 7.9% over the
same prior year period, all attributable to same store growth.
Net revenue was $20.3 million in the second quarter of 2004, an
increase of 44.2% over net revenue of $14.1 million in the second quarter of
2003. $2.2 million, or 35.2% of the increase in net revenue, was attributable to
same store growth, with $4.0 million, or 64.8% of the increase, attributable to
acquisitions. The Domestic Services platform delivered $11.0 million in net
revenue for the second quarter of 2004, an improvement of $1.6 million or 17.1%
over the same prior year period with $1.1 million of the increase coming from
same store growth with the remaining $0.5 million in growth coming from
acquisitions. The International Services platform delivered $9.3 million in net
revenue for the second quarter of 2004, a period over period improvement of $4.6
million or 98.3%, with $1.0 million of the increase coming from same store
growth and the remaining $3.6 million improvement attributed to acquisitions.
Net revenue margin decreased to 23.3% for the second quarter of 2004
compared to 30.4% for the same prior year period primarily as a result of the
change in revenue mix resulting from the recent acquisitions within the
International Services platform, which generally operate at lower margins than
those in the Domestic Services platform. Net revenue margin at Domestic Services
declined slightly to 32.5% from 33.2% driven by a decrease in net transportation
margins which was offset by growth in other value added services provided in
connection with the start-up of a significant new key account. For the
International Services platform, net revenue margin declined in line with
previous expectations to 17.5% from 26.1% as a result of the general rate
increases imposed by the underlying asset-based carriers as well as the impact
of the recently completed Shaanxi transaction. Shaanxi operates principally as a
wholesaler of airfreight which carries lower margins but provides the
International Services platform with the opportunity for growth in the
higher-margin retail component of its airfreight business. Partially offsetting
the decline in net revenue margin is the significant period over period growth
in our customs brokerage services revenue.
18
The following table compares certain consolidated statement of operations
data as a percentage of our net revenue (in thousands):
Quarter ended June 30,
-------------------------------------------------------
2004 2003 Change
------------------------- -------------------------- -------------------------
Amount Percent Amount Percent Amount Percent
---------- ----------- ----------- ----------- ----------- ----------
Net revenue $20,342 100.0% $14,105 100.0% $ 6,237 44.2%
------- ------- ------- ------ -------
Personnel costs 10,872 53.4% 7,003 49.7% 3,869 55.2%
Other selling, general and
administrative costs 7,423 36.5% 6,059 43.0% 1,364 22.5%
Depreciation and amortization 1,093 5.4% 570 4.0% 523 91.8%
------- ------- ------- ------ -------
Total operating costs 19,388 95.3% 13,632 96.7% 5,756 42.2%
------- ------- ------- ------ -------
Income from operations 954 4.7% 473 3.3% 481 101.7%
Other income (expense) (79) (0.4)% 54 0.4% (133) (246.3)%
------- ------- ------- ------ -------
Income from continuing operations
before income tax expense and
minority interest 875 4.3% 527 3.7% 348 66.0%
Income tax expense 174 0.8% 43 0.3% 131 304.7%
------- ------- ------- ------ -------
Income from continuing operations
before minority interest 701 3.5% 484 3.4% 217 44.8%
Minority interest 482 2.4% - - 482 NM
------- ------- ------- ------ -------
Income from continuing operations 219 1.1% 484 3.4% (265) (54.8)%
Loss from discontinued operations - 0.0% (355) (2.5)% 355 (100.0)%
------- ------- ------- ------ -------
Net income $ 219 1.1% $ 129 0.9% $ 90 69.8%
======= ======= ======= ====== =======
19
Personnel costs were $10.9 million for the second quarter of 2004, an
increase of 55.2% over $7.0 million for the second quarter of 2003. $1.8 million
or 46.9% of the increase in personnel costs is attributable to incremental costs
assumed as part of our acquisition program with $2.1 million or 53.1% of the
increase attributable to increased costs in the base business. Personnel costs
as a percentage of net revenue increased to 53.4% in the second quarter of 2004
from 49.7% in the second quarter of 2003. This increase was driven by the hiring
of operations, sales and management personnel, particularly in the International
Services platform as well as additional resources deployed in support of a key
new account in the Domestic Services platform. For the comparable prior year
period, headcount increased by 585 to a total of 1,176 with 430 added in
operations, 44 added in sales and marketing and 111 added in financial and
administrative services.
Other selling, general and administrative costs were $7.4 million for
the second quarter of 2004, an increase of 22.5% over $6.1 million for the
second quarter of 2003. $1.2 million or 88.0% of the increase is attributable to
incremental costs assumed as part of our acquisition program with $0.1 million
or 12.0% of the increase attributable to increased costs of the base business.
As a percentage of net revenue, other selling, general and administrative costs
decreased to 36.5% in the second quarter of 2004 from 43.0% in the second
quarter of 2003. This decrease is primarily due to our Asian expansion where
operational costs as a percentage of net revenue are much less than in our U.S.
operations.
Depreciation and amortization was $1.1 million in the second quarter of
2004, an increase of 91.8% over $0.6 million in the second quarter of 2003. This
increase is primarily due to the amortization of acquired intangible assets.
Depreciation and amortization as a percentage of net revenue increased to 5.4%
compared to 4.0% in the second quarter of 2003 due to increased amortization of
acquired intangible assets.
Income from operations was $0.9 million in the second quarter of 2004,
as compared to $0.5 million for the second quarter of 2003, an increase of
101.7%. Income from operations as a percentage of net revenue was 4.7% for the
second quarter of 2004 compared to 3.3% for the second quarter of 2003.
As a result of historical losses related to investments in early-stage
technology businesses, the Company has accumulated federal net operating losses
(NOLs). In the fourth quarter of 2003, we reversed $3.0 million of the valuation
allowance based on the Company's history of profitable operations for the past
year and projected profitability in the near future. In addition we also
recorded a $1.3 million deferred tax liability generated principally by the tax
amortization of goodwill, which is deductible for tax purposes over a life of 15
years but is not amortized for book purposes. As a result, we recognized a
non-cash net tax benefit of $1.7 million in 2003. The Company has approximately
$17.8 million of NOLs as of December 31, 2003 to offset future federal taxable
income. Due to the NOLs, the Company was only subject to certain state and
foreign taxes which resulted in a tax provision of approximately $15,000 in
2003.
Net income was $0.2 million in the second quarter of 2004, compared to
$0.1 million in the second quarter of 2003. Basic and diluted earnings per
common share were $0.01 and $0.00, respectively, for the second quarter of 2004
compared to $0.00 per basic and diluted common share for the second quarter of
2003.
20
Six months ended June 30, 2004 compared to six months ended June 30,
2003
The following table summarizes our total revenue, net transportation
and other revenue (in thousands):
Six months ended June 30, Change
--------------------------- --------------------------
2004 2003 Amount Percent
------------ ------------ ------------ ----------
Total revenue $147,760 $ 84,906 $ 62,854 74.0%
======== ========= ========
Transportation revenue 136,700 78,362 58,338 74.4%
Cost of transportation 109,694 58,617 51,077 87.1%
-------- --------- --------
Net transportation revenue 27,006 19,745 7,261 36.8%
Net transportation margin 19.8% 25.2%
Customs brokerage 5,101 4,042 1,059 26.2%
Warehousing and other
value added services 5,959 2,502 3,457 138.2%
-------- --------- --------
Total net revenue $ 38,066 $ 26,289 $ 11,777 44.8%
======== ========= ========
Net revenue margin 25.8% 31.0%
======== =========
Total revenue was $147.7 million in the first six months of 2004, an
increase of 74.0% over total revenue of $84.9 million in the first six months of
2003. $21.6 million or 34.4% of the increase in total revenue was attributable
to same store growth with $41.2 million or 65.6% of the increase in total
revenue attributable to acquisitions. The Domestic Services platform delivered
$68.9 million in total revenue for the first six months of 2004, an improvement
of $16.8 million and 32.4% over the same prior year period with $11.9 million of
the increase coming from same store growth and the remaining $4.9 million in
revenue growth coming from acquisitions. The International Services platform
delivered $78.9 million in total revenue for the first six months of 2004, a
period over period improvement of $46.0 million or 139.9%, with $9.7 million of
the increase coming from same store growth and the remaining $36.3 million
improvement attributed to acquisitions.
Net transportation revenue was $27.0 million in the first six months of
2004, an increase of 36.8% over net transportation revenue of $19.7 million in
the first six months of 2003. $1.7 million, or 23.1% of the increase in net
transportation revenue, was attributable to same store growth with $5.6 million,
or 76.9% of the increase, attributable to acquisitions. The Domestic Services
platform delivered $17.2 million in net transportation revenue for the first six
months of 2004, an improvement of $1.6 million or 10.2% over the prior year
period with $0.6 million of the increase coming from same store growth and the
remaining $1.0 million in revenue growth coming from acquisitions. The
International Services platform delivered $9.8 million in net transportation
revenue for the first six months of 2004, a period over period improvement of
$5.7 million or 135.8%, with $1.0 million of the increase coming from same store
growth and the remaining $4.7 million improvement attributed to acquisitions.
21
Net transportation margin decreased to 19.8% for the first six months
of 2004 from 25.2% for the first six months of 2003 primarily driven by the
change in revenue mix resulting from the recent acquisitions within the
International Services platform which generally operate at lower margins than
those found in the Domestic Services platform. For the first six months of 2004,
net transportation margin for the Domestic Services platform declined to 27.0%
from 31.1% tied primarily to the low-margin contract that the Company exited
late in the second quarter of 2004 and, to a lesser extent, the impact of new
business within the automotive sector which carries a lower margin. For the
International Services platform, net transportation margin has declined in line
with previous expectations to 13.4% as a result of the general rate increases
imposed by the underlying asset-based carriers as well as the impact of the
recently completed Shaanxi transaction. Shaanxi operates principally as a
wholesaler of airfreight which carries lower margins but provides the platform
with the opportunity for growth in the higher-margin retail component of its
airfreight business.
Customs brokerage and other value added services revenue was $11.0
million in the first six months of 2004, an increase of 69.0% over $6.5 million
in the first six months of 2003. $4.2 million or 92.4% of the increase was
attributable to same store growth, with $0.3 million, or 7.6% of the increase
attributable to acquisitions. The Domestic Services platform delivered $5.3
million in other value added services revenue, an improvement of $3.4 million or
170.9% over the same prior year period with $3.1 million of the increase coming
from same store growth driven by the start-up of a significant new key account
and the remaining $0.3 million in growth coming from acquisitions. The
International Services platform delivered $5.7 million in customs brokerage and
other value added revenue, an increase of $1.1 million or 25.2% over the same
prior year period, primarily attributable to same store growth.
Net revenue was $38.1 million in the first six months of 2004, an
increase of 44.8% over net revenue of $26.3 million in the first six months of
2003. $5.8 million or 49.6% of the increase in net revenue was attributable to
same store growth, with $5.9 million, or 50.4% of the increase attributable to
acquisitions. The Domestic Services platform delivered $22.5 million in net
revenue for the first six months of 2004, an improvement of $4.9 million or
28.3% over the same prior year period with $3.7 million of the increase coming
from same store growth with the remaining $1.2 million in growth coming from
acquisitions. The International Services platform delivered $15.6 million in net
revenue for the first six months of 2004, a period over period improvement of
$6.8 million or 78.0%, with $2.1 million of the increase coming from same store
growth and the remaining $4.7 million improvement attributed to acquisitions.
Net revenue margin decreased to 25.8% for the first six months of 2004
compared to 31.0% for the same prior year period primarily driven by the change
in revenue mix resulting from the recent acquisitions within the International
Services platform which generally operate at lower margins than those found in
the Domestic Services platform. Net revenue margin at Domestic Services declined
to 32.7% from 33.7% with a decrease in net transportation margin offset by
growth in other value added services provided in connection with the start-up of
a significant new key account. For the International Services platform, net
revenue margin declined in line with previous expectations to 19.7% from 26.6%
as a result of the underlying asset-based carriers as well as the impact of the
recently completed Shaanxi transaction. Shaanxi operates principally as a
wholesaler of airfreight which carries lower margins but provides the platform
with the opportunity for growth in the higher-margin retail component of the
airfreight business. Partially offsetting the decline in net revenue margin is
the significant period over period growth in our customs brokerage services
revenue.
22
The following table compares certain consolidated statement of
operations data as a percentage of our net revenue (in thousands):
Six months ended June 30,
-------------------------------------------------------
2004 2003 Change
-------------------------- ------------------------- -------------------------
Amount Percent Amount Percent Amount Percent
------------ ----------- ----------- ---------- ---------- -----------
Net revenue $ 38,066 100.0% $26,289 100.0% $11,777 44.8%
-------- -------- ------- ----- --------
Personnel costs 20,769 54.5% 13,566 51.6% 7,203 53.1
Other selling, general and administrative
costs 15,481 40.7% 10,361 39.4% 5,120 49.4
Depreciation and amortization 1,943 5.1% 1,161 4.4% 782 67.4
Litigation settlement - - 750 2.9% (750) (100.0)
-------- -------- ------- ----- --------
Total operating costs 38,193 100.3% 25,838 98.3% 12,355 47.8
-------- -------- ------- ----- --------
Income (loss) from operations (127) (0.3%) 451 1.7% (578) (128.2)
Other income (expense) (131) (0.3%) 84 0.3% (215) (256.0)
-------- -------- ------- ----- --------
Income (loss) from continuing operations
before income tax expense (benefit)
and minority interest (258) (0.6%) 535 2.0% (793) (148.2)
Income tax expense (benefit) (244) (0.6%) 58 0.2% (302) NM
-------- -------- ------- ----- --------
Income from continuing operations
before minority interest (14) - 477 1.8% (491) (102.9)
Minority interest 552 1.5% - - 552 NM
-------- -------- ------- ----- --------
Income (loss) from continuing operations (566) (1.5%) 477 1.8% (1,043) (218.7)
Loss from discontinued operations - - (355) (1.3%) 355 (100.0)
-------- -------- ------- ----- --------
Net income (loss) $ (566) (1.5%) $ 122 0.5% $ (688) NM
======== ======== ======= ===== ========
Personnel costs were $20.8 million for the first six months of 2004, an
increase of 53.1% over $13.6 million for the first six months of 2003. $2.7
million or 38.1% of the increase in personnel costs is attributable to
incremental costs assumed as part of our acquisition program with $4.5 million
or 61.9% of the increase attributable to increased costs in the base business.
Personnel costs as a percentage of net revenue increased to 54.6% in the first
six months of 2004 from 51.6% in the first six months of 2003. This increase was
driven by the hiring of operations, sales and management personnel, particularly
in the International Services platform as well as additional resources deployed
in support of a significant new key account in the Domestic Services platform.
For the comparable prior year period, headcount increased by 585 to a total of
1,176 with 430 added in operations, 44 added in sales and marketing and 111
added in financial and administrative services.
23
Other selling, general and administrative costs were $15.5 million for
the first six months of 2004, an increase of 49.4% over $10.4 million for the
first six months of 2003. $1.8 million or 35.5% of the increase is attributable
to incremental costs assumed as part of our acquisition program with $3.3
million or 64.5% of the increase attributable to increased costs of the base
business. As a percentage of net revenue, other selling, general and
administrative costs increased to 40.7% in the first six months of 2004 from
39.4% in the first six months of 2003. This increase is primarily due to
non-recurring charges incurred in the first quarter of 2004 related to bad
debts, communication and technology costs and higher than expected costs related
to our Sarbanes-Oxley compliance initiatives.
Depreciation and amortization was $1.9 million in the first six months
of 2004, an increase of 67.4% over $1.2 million in the first six months of 2003.
This increase is primarily due to the amortization of acquired intangible
assets. Depreciation and amortization as a percentage of net revenue increased
to 5.1% compared to 4.4% in the first six months of 2003 due to increased
amortization of acquired intangible assets.
Loss from operations was $0.1 million in the first six months of 2004,
as compared to income from operations of $0.5 million for the first six months
of 2003. Loss from operations as a percentage of net revenue was 0.3% for the
first six months of 2004 compared to income from operations of 1.7% for the
first six months of 2003.
As a result of historical losses related to investments in early-stage
technology businesses, the Company has accumulated federal net operating losses
(NOLs). In the fourth quarter of 2003, we reversed $3.0 million of the valuation
allowance based on the Company's history of profitable operations for the past
year and projected profitability in the near future. In addition we also
recorded a $1.3 million deferred tax liability generated principally by the tax
amortization of goodwill, which is deductible for tax purposes over a life of 15
years but is not amortized for book purposes. As a result, we recognized a
non-cash net tax benefit of $1.7 million in 2003. The Company has approximately
$17.8 million of NOLs as of December 31, 2003 to offset future federal taxable
income. Due to the NOLs, the Company was only subject to certain state and
foreign taxes which resulted in a tax provision of approximately $15,000 in
2003.
Net loss was $0.6 million in the first six months of 2004, compared to
net income of $0.1 million in the first six months of 2003. Basic and diluted
loss per common share was $0.01 for the first six months of 2004 compared to
earnings per share of $0.00 per basic and diluted common share for the first six
months of 2003.
FINANCIAL OUTLOOK
Based on our first six months results and outlook for the balance of
the year, we expect our current platform to comfortably deliver the $325.0
million in targeted gross revenue for 2004 while we continue to invest in
technology and other strategically important integration initiatives. Technology
remains at the center of our overall integration plan. We expect to complete the
rollout of Tech-Logis for the Domestic Services platform in the second half of
2004. We believe Tech-Logis will provide the foundation and tools to drive
operating leverage across the platform and result in streamlined business
processes that will increase our productivity. In addition to this technology,
we are focused on the underlying business processes that drive our financial
results with the goal of building a company culture around continuous process
improvement. As part of this effort, we have recently formed the Strategic
Executive Committee to help drive improvement in the areas of operations,
technology, sales, integration and expansion. These efforts in combination with
continued growth in new accounts are laying a solid foundation for 2005 and
beyond. With the benefit of Tech-Logis, one of the areas that will get immediate
focus is our carrier management and transportation purchasing. Through this
initiative we believe we can better manage our cost of purchased transportation
and leverage our collective purchasing power across our network of carriers. In
addition we are also evaluating opportunities to centralize other key business
processes using Tech-Logis.
24
Although the costs of these initiatives could have a near-term negative
impact on our previously announced $11.0 million EBITDA target (earnings before
interest, taxes, depreciation and amortization), there is also potential upside
to our second half results depending on the rate of growth in one of our key new
accounts which could offset our increased investment. Accordingly, we are
updating our 2004 EBITDA guidance to express it as a range of $9.0-$11.0 million
to better reflect our recent investment decision. In addition, we are also
setting preliminary 2005 targets of $14.0-$16.0 million of EBITDA on expected
total revenue of $375.0 million and net earnings of $4.5-$6.5 million.
This guidance is based on our current platform. While it includes
acquisitions we have completed to date in 2004, it does not include any
incremental acquisitions that we might complete during the remainder of 2004 or
during 2005. In general, we expect to deploy $10.0 to $20.0 million per year in
support of our acquisition strategy funded through a combination of existing
cash, draws upon our credit facility, and the proceeds of new equity and other
financings. Based on our acquisition model, this could ordinarily be expected to
generate incremental annualized EBITDA in the range of $4.0 to $8.0 million over
the course of an entire year. Based on our current focus on Tech-Logis,
integration and process improvement, however, our acquisition activity over the
course of 2004 is likely to be at the lower end of this range.
We believe that EBITDA is a useful financial measure for investors
because it eliminates the effect of non-cash costs associated with the
amortization of customer intangibles arising from the Company's acquisition
strategy. A reconciliation of EBITDA to the most directly comparable GAAP
measure in accordance with SEC Regulation S-K follows:
(amounts in millions)
2004E 2005E
----- -----
Net income $ 3.5-$5.5 $ 4.5-$6.5
Interest expense/(income) 0.5 1.0
Income tax expense/(benefit)* - 3.0
Depreciation and amortization 5.0 5.5
---------- -----------
EBITDA (Earnings before interest, taxes, depreciation
and amortization) $9.0-$11.0 $14.0-$16.0
========== ===========
* Prior to the fourth quarter of 2003, the Company maintained a
valuation allowance to offset 100% of the net deferred tax assets
associated with the tax losses generated prior to the Company's move
into the logistics business. In the fourth quarter of 2003, a portion
of the valuation allowance was reversed, resulting in the recognition
of a deferred tax asset and related nonrecurring non-cash tax benefit
of $1.7 million, resulting in an overall income tax benefit of $1.3
million. For purposes of developing its 2004 net earnings guidance, the
Company has assumed that an additional portion of the valuation
allowance will be reversed in the fourth quarter of 2004 that will
result in additional tax benefits to offset any tax expense for the
year. For purposes of developing the 2005 net earnings guidance, the
Company has assumed its effective tax rate to be in the range of 35%.
25
Our revenue and net income estimates have been developed based on a
number of principal assumptions including, among others: (i) our ability to
sustain revenue growth rates consistent with recent results, (ii) our ability to
achieve our targeted operating margins, (iii) that no material economic or
customer disruptions will occur, (iv) that we will not be required to repay some
portion or all of the $1.3 million received by us as a payment of pre-petition
indebtedness during the bankruptcy of a material customer, (v) that we will not
be caused to incur additional charges as a result of the bankruptcy of FAO,
Inc., a significant customer of Regroup, (vi) that we continue to maintain
existing relationships with key employees, (vii) that there is no unexpected
adverse result in any legal proceeding, and (viii) that other factors which are
or may be identified from time to time in our SEC filings and other public
announcements, including our most recent Annual Report on Form 10-K for the year
ended December 31, 2003, will not have an adverse effect on our operations.
Furthermore, our estimates as to the expected financial results that may be
realized from our recent acquisitions have been developed based on the
historical results and forward looking guidance provided to us at the time of
such each transaction. We may need to adjust our 2004 and 2005 guidance if the
results of operations of the acquired businesses in 2004 are inconsistent with
the historical and forward-looking guidance provided to us by the sellers of
those businesses. These adjustments could materially affect both our 2004 and
2005 estimates.
Assuming we can continue to execute on our business plan and
acquisition model without any material disruptions, and identify and close
transactions similar to transactions accomplished to date, it is our goal to
generate $500.0 million in annualized revenue by the end of 2006.
Notwithstanding our expectations regarding our ability to deliver these
results, we can never be certain that future revenue or earnings will be
achieved at any particular level. Estimates of future financial performance are
forward-looking statements and are subject to uncertainty created by the risk
elements otherwise identified in our Annual Report on Form 10-K for the year
ended December 31, 2003 under "Risks Particular to our Business." Furthermore,
even though we believe our current operations will achieve a certain level of
earnings on an annual basis, our results are subject to seasonal trends.
SOURCES OF GROWTH
Management believes that a comparison of "same store" revenue growth is
critical in the evaluation of the quality and extent of the Company's internally
generated growth. This "same store" analysis isolates the financial
contributions from operations that have been included in the Company's operating
results for the full comparable prior year period. The table below presents
"same store" revenue growth comparisons for the six-month period ended June 30,
2004 (which is the measure of any increase from the same period of 2003).
For the six months ended
June 30, 2004
Domestic 23.5%
International 29.8%
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents totaled $1.3 million and $3.1 million as of
June 30, 2004 and December 31, 2003, respectively. Working capital totaled $12.5
million and $16.3 million at June 30, 2004 and December 31, 2003, respectively.
26
Cash provided by operating activities was $0.4 million for the first
six months of 2004 compared to $3.8 million used in the first six months of
2003. This improvement over the comparable prior year period was driven
principally by proactive working capital management and increased amortization
charges related to our acquired intangible assets.
Net cash used in investing activities during the first six months of
2004 was $16.1 million compared to $11.5 million in the first six months of
2003. Investing activities were driven principally by approximately $6.5 million
in earn-out payments made in relation to 2003 performance targets, $6.7 million
paid for acquisitions (net of cash acquired) and $2.8 million spent primarily in
connection with the development of Tech-Logis(TM), the Company's new web-based
technology platform.
Net cash provided by financing activities during the first six months
of 2004 was $13.9 million compared to $13.3 million in the first six months of
2003. Financing activities consisted of $12.2 million in proceeds from the
Company's line of credit and $2.0 million from the issuance of common stock upon
the exercises of options and warrants, offset by principal payments of $0.3
million for capital lease obligations. We may receive proceeds in the future
from the exercise of options and warrants that were outstanding as of the end of
the first six months. As of June 30, 2004, approximately 13,364,000 options and
warrants were outstanding.
Proceeds
Number of shares if exercised
Options outstanding under our Stock Option Plan 10,766,817 $ 17,887,274
Non-Plan Options 639,200 2,086,750
Warrants 1,957,784 4,417,794
---------- -------------
Total 13,363,801 $ 24,391,818
========== =============
Effective July 28, 2004, we amended our revolving credit facility with
LaSalle Business Credit, LLC from $20.0 million to $25.0 million (the
"Facility"). The Facility is collateralized by accounts receivable and other
assets of the Company and its subsidiaries. The Facility requires the Company
and its subsidiaries to comply with certain financial covenants. Advances under
the Facility are available to fund future acquisitions, capital expenditures or
for other corporate purposes. This Facility also includes a $5.0 million bridge
loan facility available to the Company through November 25, 2004 at the rate of
prime plus 2.00%. There have been no draws under this portion of the Facility.
As of July 28, 2004, we had advances of $14.6 million and we had
eligible accounts receivable sufficient to support $19.7 million in borrowings.
The terms of our Facility are subject to certain financial covenants which may
limit the amount otherwise available under the Facility. Principal among these
are financial covenants that limit availability based upon measures of our cash
flow, as well as a multiple of funded debt to consolidated EBITDA of our
domestic operations. Under our amended Facility we have two funded debt to
consolidated EBITDA covenants. The first covenant limits our domestic funded
debt to a multiple of 3.75 of our domestic EBITDA measured on a rolling four
quarter basis (previously limited to a multiple of 2.75). The second funded debt
covenant is based on consolidated worldwide EBITDA and limits our overall
consolidated leverage ratio (including any debt carried on the books of an
offshore subsidiary) to a multiple of 4.00 of our worldwide EBITDA. Based on our
rolling four quarter forecast, the domestic component of our current 2004 EBITDA
guidance would provide capacity in the range of $19.0-26.0 million and to the
extent our off-shore subsidiaries enter into borrowing arrangements, our overall
funded debt capacity would be in the range of $36.0 million to $44.0 million. If
our rolling four quarter domestic EBITDA decreases, the availability under our
Facility could be negatively impacted. Similarly, if our worldwide rolling four
quarter EBITDA decreases, the borrowing capabilities would be reduced.
27
Under the terms of the Facility, we are permitted to make additional
acquisitions without the lender's consent only if certain conditions are
satisfied. The conditions imposed by the Facility include the following: (i) the
absence of an event of default under the Facility, (ii) the company to be
acquired must be in the transportation and logistics industry, (iii) the
purchase price to be paid must be consistent with our historical business and
acquisition model, (iv) commencing November 15, 2005 the average undrawn
availability will increase from $5.0 million to $7.5 million for the 60 days
preceding the acquisition and the minimum undrawn availability after giving
effect for the acquisition will increase to at least $7.5 million from $5.0
million, (v) the lender must be reasonably satisfied with projected financial
statements we provide covering a 12 month period following the acquisition, (vi)
the acquisition documents must be provided to the lender and must be consistent
with the description of the transaction provided to the lender, (vii) the
aggregate cash disbursed to support the purchase and operation of our foreign
operations must not exceed $11.3 million, and (viii) the number of permitted
acquisitions is limited to four per year (excluding any acquisitions for which
the purchase price is payable solely in stock). In the event that we were not
able to satisfy the conditions of the Facility in connection with a proposed
acquisition, we would have to forego the acquisition unless we either obtained
the lender's consent or retired the Facility. This may limit or slow our ability
to achieve the critical mass we may need to achieve our strategic objectives.
We believe that our current Facility, working capital and anticipated
cash flow from operations are adequate to fund existing operations. However, our
ability to finance further acquisitions is limited by the availability of
additional capital. We may finance acquisitions, however, using our common stock
as all or some portion of the consideration. In the event that our common stock
does not attain or maintain a sufficient market value or potential acquisition
candidates are otherwise unwilling to accept our securities as part of the
purchase price for the sale of their businesses, we may be required to utilize
more of our cash resources, if available, in order to continue our acquisition
program. If we do not have sufficient cash resources through either operations
or from debt facilities, our growth could be limited unless we are able to
obtain such additional capital.
We have used a significant amount of our available capital to finance
acquisitions. Our acquisitions are normally structured with certain amounts paid
at closing, and the balance paid over a number of years in the form of earn-out
installments which are payable based upon the future earnings of the acquired
businesses. We will be required to make significant payments in the future if
the earn-out installments under our various acquisitions become due. While we
believe that a portion of the required payments will be generated by the
acquired businesses, we may have to secure additional sources of capital to fund
the remainder of the earn-out payments as they become due. This presents us with
certain business risks relative to the availability of capacity under our
Facility, the availability and pricing of future fund raising, as well as the
potential dilution to our stockholders if the fund raising involves the sale of
equity.
28
Below are descriptions of material acquisitions made since 2001
including a breakdown of consideration paid at closing and future potential
earn-out payments. We define "material acquisitions" as those with aggregate
potential consideration of $5.0 million or more.
On October 5, 2001, we acquired Air Plus, a group of Minneapolis-based
privately held companies that provide a full range of logistics and
transportation services. The transaction was valued at up to $34.5 million,
consisting of cash of $17.5 million paid at closing and a four-year earn-out
arrangement of up to $17.0 million. In the earn-out, we agreed to pay the former
Air Plus shareholders installments of $3.0 million in 2003, $5.0 million in
2004, $5.0 million in 2005 and $4.0 million in 2006, with each installment
payable in full if Air Plus achieves pre-tax income of $6.0 million in each of
the years preceding the year of payment. In the event there is a shortfall in
pre-tax income, the earn-out payment will be reduced on a dollar-for-dollar
basis to the extent of the shortfall. Shortfalls may be carried over or carried
back to the extent that pre-tax income in any other payout year exceeds the $6.0
million level. Based upon 2003 performance, the former Air Plus shareholders
received $5.0 million on March 31, 2004. On a cumulative basis, Air Plus has
generated $12.8 million in adjusted earnings, providing its former shareholders
with a total of $8.0 million in earn-out payments and excess earnings of $0.8
million to carryforward and apply to future earnings targets. In total, the
former Air Plus shareholders have elected to receive $7.6 million in cash with
the balance paid in Company common stock.
On April 4, 2002, we acquired Stonepath Logistics International
Services, Inc. ("SLIS") (f/k/a Global Transportation Services, Inc.), a
Seattle-based privately held company that provides a full range of international
air and ocean logistics services. The transaction was valued at up to $12.0
million, consisting of cash of $5.0 million paid at the closing and up to an
additional $7.0 million payable over a five year earn-out period based upon the
future financial performance of SLIS. We agreed to pay the former Global
shareholders a total of $5.0 million in base earn-out payments payable in
installments of $0.8 million in 2003, $1.0 million in 2004 through 2007 and $0.2
million in 2008, with each installment payable in full if SLIS achieves pre-tax
income of $2.0 million in each of the years preceding the year of payment (or
the pro rata portion thereof in 2002 and 2007). In the event there is a
shortfall in pre-tax income, the earn-out payment will be reduced on a pro-rata
basis. Shortfalls may be carried over or carried back to the extent that pre-tax
income in any other payout year exceeds the $2.0 million level. We also provided
the former Global shareholders with an additional incentive to generate earnings
in excess of the base $2.0 million annual earnings target ("SLIS' tier-two
earn-out"). Under SLIS' tier-two earn-out, the former Global shareholders are
also entitled to receive 40% of the cumulative pre-tax earnings in excess of
$10.0 million generated during the five-year earn-out period subject to a
maximum additional earn-out opportunity of $2.0 million. SLIS would need to
generate cumulative earnings of $15.0 million over the five-year earn-out period
to receive the full $7.0 million in contingent earn-out payments. Based upon
2003 performance, the former Global shareholders received $1.0 million on April
1, 2004. On a cumulative basis, SLIS has generated $9.3 million in adjusted
earnings, providing its former shareholders with a total of $1.8 million in cash
earn-out payments and excess earnings of $5.8 million to carryforward and apply
to future earnings targets.
On May 30, 2002, we acquired United American, a Detroit-based privately
held provider of expedited transportation services. The United American
transaction provided us with a new time-definite service offering focused on the
automotive industry. The transaction was valued at up to $16.1 million,
consisting of cash of $5.1 million paid at closing and a four-year earn-out
arrangement based upon the future financial performance of United American. We
agreed to pay the former United American shareholder a total of $5.0 million in
base earn-out payments payable in installments of $1.25 million in 2003 through
2006, with each installment payable in full if United American achieves pre-tax
income of $2.2 million in each of the years preceding the year of payment. In
the event there is a shortfall in pre-tax income, the earn-out payment will be
reduced on a dollar-for-dollar basis to the extent of the shortfall. Shortfalls
may be carried over or carried back to the extent that pre-tax income in any
other payout year exceeds the $2.2 million level. The Company has also provided
29
the former United American shareholder with an additional incentive to generate
earnings in excess of the base $2.2 million annual earnings target ("United
American's tier-two earn-out"). Under United American's tier-two earn-out, the
former United American shareholder is entitled to receive 50% of the cumulative
pre-tax earnings generated by a certain pre-acquisition customer in excess of
$8.8 million during the four-year earn-out period subject to a maximum
additional earn-out opportunity of $6.0 million. United American would need to
generate cumulative earnings of $20.8 million over the four-year earn-out period
to receive the full $11.0 million in contingent earn-out payments. Based upon
2003 performance, the former United American shareholder received $0.2 million
on April 1, 2004. On a cumulative basis, United American has generated $2.4
million in adjusted earnings, providing its former shareholder with a total of
$0.5 million in cash earn-out payments and a cumulative earnings shortfall of
$2.0 million. In future years, earnings in excess of the $2.2 million target
would first be applied against the $2.0 million shortfall.
On June 20, 2003, through our indirect wholly owned subsidiary,
Stonepath Logistics Government Services, we acquired the business of Regroup, a
Virginia limited liability company. The Regroup transaction enhanced our
presence in the Washington, D.C. market and provided a platform to focus on the
logistics needs of U.S. government agencies and contractors. The transaction was
valued at up to $27.2 million, consisting of cash of $3.7 million and $1.0
million of Company stock paid at closing, and a five-year earn-out arrangement.
The Company agreed to pay the members of Regroup a total of $10.0 million in
base earn-out payments payable in equal installments of $2.5 million in 2005
through 2008, if Regroup achieves pre-tax income of $3.5 million in each of the
years preceding the year of payment. In the event there is a shortfall in
pre-tax income, the earn-out payment will be reduced on a dollar-for-dollar
basis. Shortfalls may be carried over or carried back to the extent that pre-tax
income in any other payout year exceeds the $3.5 million level. The Company has
also agreed to pay the former members of Regroup an additional $2.5 million if
Regroup earns $3.5 million in pre-tax income during the 12-month period
commencing July 1, 2003. In addition, the Company has also provided the former
members of Regroup with an additional incentive to generate earnings in excess
of the base $3.5 million annual earnings target ("Regroup's tier-two earn-out").
Under Regroup's tier-two earn-out, the former members of Regroup are also
entitled to receive 50% of the cumulative pre-tax earnings in excess of $17.5
million generated during the five-year earn-out period subject to a maximum
additional earn-out opportunity of $10.0 million. Regroup would need to generate
cumulative earnings of $37.5 million over the five-year earn-out period in order
for the former members to receive the full $22.5 million in contingent earn-out
payments.
On August 8, 2003, through two indirect international subsidiaries, we
acquired a seventy (70%) percent interest in the assets and operations of the
Singapore and Cambodia based operations of the G-Link Group, which provide a
full range of international logistics services, including international air and
ocean transportation, to a worldwide customer base of manufacturers and
distributors. This transaction substantially increased our presence in Southeast
Asia and expanded our network of owned offices through which to deliver global
supply chain solutions. The transaction was valued at up to $6.2 million,
consisting of cash of $2.8 million, $0.9 million of the Company's common stock
paid at the closing and an additional $2.5 million payable over a four-year
earn-out period based upon the future financial performance of the acquired
operations. We agreed to pay $2.5 million in base earn-out payments payable in
installments of $0.3 million in 2004, $0.6 million in 2005 through 2006 and $1.0
million in 2007, with each installment payable in full if the acquired
operations achieve pre-tax income of $1.8 million in each of the years preceding
the year of payment (or the pro rata portion thereof in 2003 and 2007). In the
event there is a shortfall in pre-tax income, the earn-out payment will be
reduced on a dollar-for-dollar basis. Shortfalls may be carried over or carried
back to the extent that pre-tax income in any other payout year exceeds the $1.8
million level. As additional purchase price, the Company also agreed to pay
G-Link for excess net assets amounting to $1.5 million through the issuance of
Company common stock, on a post-closing basis. Based upon 2003 performance,
G-Link received an earn-out payment of $0.2 million on April 1, 2004.
30
On February 9, 2004, through a wholly-owned subsidiary, we acquired a
55% interest in Shanghai-based Shaanxi Sunshine Cargo Services International
Co., Ltd. ("Shaanxi"). Shaanxi provides a wide range of customized
transportation and logistics services and supply chain solutions. The
transaction is valued at up to $11.0 million, consisting of cash of $3.5 million
and $2.0 million of the Company's common stock paid at the closing, plus up to
an additional $5.5 million payable over a five-year period based upon the future
financial performance of Shaanxi. The earn-out payments are due in five
installments of $1.1 million beginning in 2005, with each installment payable in
full if Shaanxi achieves pre-tax income of at least $4.0 million in each of the
earn-out years. In the event there is a shortfall in pre-tax income, the
earn-out payment for that year will be reduced on a dollar-for-dollar basis by
the amount of the shortfall. Shortfalls may be carried over or back to the
extent that pre-tax income in any other payout year exceeds the $4.0 million
level. As additional purchase price, on a post-closing basis the Company has
agreed to pay Shaanxi for 55% of its closing date working capital. The common
shares issued in the transaction are subject to a one year restriction on sale
and are subject to a pro rata forfeiture based upon a formula that compares the
actual pre-tax income of Shaanxi through December 31, 2004 with the targeted
level of income of $4.0 million (on an annualized basis). Also, if the trading
price of the Company's common stock is less than $3.17 per share at the end of
the one-year restriction, the Company will issue additional shares to the
seller.
We will be required to make significant payments in the future if the
earn-out installments under our various acquisitions become due. While we
believe that a significant portion of the required payments will be generated by
the acquired subsidiaries, we may have to secure additional sources of capital
to fund some portion of the earn-out payments as they become due. This presents
us with certain business risks relative to the availability and pricing of
future fund raising, as well as the potential dilution to our stockholders if
the fund raising involves the sale of equity.
31
The following table summarizes our contingent base earn-out payments for the
years indicated based on results of the prior year (in thousands)(1)(2):
2005 2006 2007 2008 2009 TOTAL
----------------------------------------------------------------------------------------
Earn-out payments:
Domestic $ 9,040 $ 8,050 $ 2,500 $ 2,500 $ -- $ 22,090
International 4,064 4,224 4,596 2,862 2,330 18,076
---------------------------------------------------------------------------------------
Total earn-out
payments $ 13,104 $ 12,274 $ 7,096 $ 5,362 $ 2,330 $ 40,166
=========== ============ ============ ============ ============ ============
Prior year pre-tax earnings targets (3)
Domestic $ 12,306 $ 12,306 $ 3,500 $ 3,500 $ -- $ 31,612
International 10,746 10,946 12,002 7,340 6,223 47,257
----------------------------------------------------------------------------------------
Total pre-tax
earnings targets $ 23,052 $ 23,252 $ 15,502 $ 10,840 $ 6,223 $ 78,869
============ ============ ============ ============ ============ ============
Earn-outs as a percentage of prior year pre-tax earnings targets:
Domestic 73.5% 65.4% 71.4% 71.4% -- 69.9%
International 37.8% 38.6% 38.3% 39.0% 37.4% 38.3%
Combined 56.8% 52.8% 45.8% 49.5% 37.4% 50.9%
-------------
(1) Excludes the impact of prior year's pre-tax earnings carryforwards (excess
or shortfalls versus earnings targets).
(2) During the 2003-2008 earn-out period, there is an additional contingent
obligation related to tier-two earn-outs that could be as much as $18.0
million if certain of the acquired companies generate an incremental $37.0
million in pre-tax earnings.
(3) Aggregate pre-tax earnings targets as presented here identify the uniquely
defined earnings targets of each acquisition and should not be interpreted
to be the consolidated pre-tax earnings of the Company which would give
effect for, among other things, amortization or impairment of intangible
assets created in connection with each acquisition or various other expenses
which may not be charged to the operating groups for purposes of calculating
earn-outs.
The Company is a defendant in a number of legal proceedings, including
one remaining material legal proceeding that arose prior to our transition to a
logistics business. That proceeding has been identified in our Annual Report on
Form 10-K for the year ended December 31, 2003. Although we believe that the
claims asserted in these proceedings are without merit, and we intend to
vigorously defend these matters, there is the possibility that the Company could
incur material expenses in the defense and resolution of these matters.
Furthermore, since the Company has not established any reserves in connection
with such claims, any such liability, if at all, would be recorded as an expense
in the period incurred or estimated. This amount, even if not material to the
Company's overall financial condition, could adversely affect the Company's
results of operations in the period recorded.
One of the Company's customers which is the subject of a Chapter 11
proceeding under the Bankruptcy Code, paid to the Company approximately $1.3
million of pre-petition indebtedness for shipping and delivery charges pursuant
to an order of a United States Bankruptcy Court authorizing the payment of such
charges. One of the creditors in the Chapter 11 proceeding appealed other orders
of the Bankruptcy Court authorizing the payment of pre-petition indebtedness to
other creditors for other charges and those orders have been reversed by a court
proceeding. While no action has been taken in the Bankruptcy Court to challenge
the payment made to the Company, if such action were taken in the future and
that action were successful, the Company could be required to return all or a
substantial portion of the payments made by the customer.
32
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company's exposure to market risk for changes in interest rates
relates primarily to the Company's investment portfolio and its line of credit.
The Company does not have any derivative financial instruments in its investment
portfolio. The Company is averse to principal loss and ensures the safety and
preservation of its invested funds by limiting default risk, market risk and
reinvestment risk. The Company invests its excess cash in institutional money
market accounts. The Company does not use interest rate derivative instruments
to manage its exposure to interest rate changes. If market interest rates were
to change by 10% from the levels at June 30, 2004, the change in interest
expense would have had an immaterial impact on the Company's results of
operations and cash flows.
The Company also has exposure to foreign currency fluctuations with
respect to its offshore subsidiaries. The Company does not utilize derivative
instruments to manage such exposure. A hypothetical change of 10% in the value
of the U.S. dollar would have had an immaterial impact on the Company's results
of operations.
Item 4. Controls and Procedures
As required by Rule 13a-15 under the Securities Exchange Act of 1934,
as of the end of the period covered by this report, the Company carried out an
evaluation of the effectiveness of the Company's disclosure controls and
procedures. This evaluation was carried out under the supervision and with the
participation of the Company's management, including the Company's Chief
Executive Officer and Chief Financial Officer. Based upon that evaluation, the
Company's Chief Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures required the improvement described
in the fifth paragraph of this Item 4, but are otherwise effective. Other than
as discussed in the fourth and fifth paragraphs of this Item 4, there have been
no significant changes in the Company's internal cortrols or in other factors,
which could significantly affect internal controls subsequent to the date the
Company carried out its evaluation.
Disclosure controls and procedures are designed to ensure that
information required to be disclosed in Company reports filed or submitted under
the Exchange Act is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission's rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed in
Company reports filed under the Exchange Act is accumulated and communicated to
management, including the Company's Chief Executive Officer and Chief Financial
Officer as appropriate, to allow timely decisions regarding required disclosure.
In January 2004, the Company restated its consolidated statements of
operations for the last three quarters of fiscal 2002, the first three quarters
of fiscal 2003, and for the year ended December 31, 2002, as a result of an
error discovered in the legacy accounting processes of Stonepath Logistics
International Services, Inc. (f/k/a "Global Transportation Systems, Inc.") and
Global Container Line, Inc., its wholly owned subsidiary. The Company determined
that a process error existed which resulted in the failure to eliminate certain
intercompany transactions in consolidation. This process error had been embedded
within the legacy accounting processes of Global Transportation Systems, Inc.
for a period which began substantially before its acquisition by the Company in
April 2002. The Company believes that the presence of this error, in and of
itself, constitutes a reportable condition as defined under standards
established by the American institute of Certified Public Accountants.
33
In connection with its review and consolidation of the Company's June
30, 2004 financial results, the Company's management determined that Stonepath
Logistics Domestic Services, Inc. ("Domestic Services") did not follow the
Company's designed disclosure controls and procedures to report a potential
weakness in the methodology used by Domestic Services to estimate its accrued
cost of purchased transportation. Based upon further analysis, the Company
recorded an immaterial increase to Domestic Services' cost of transportation.
Although the resulting adjustment was not material to the results of operations
or cash flows for the three- and six-month periods ended June 30, 2004, the
Company's management believes that the failure of Domestic Services to follow
the designed disclosure and control procedures in and of itself constitutes a
reportable condition as defined under standards established by the American
Institute of Certified Public Accountants. In addition, the Company anticipates
that its roll-out of the Tech-Logis system, which the Company expects to
complete over the second half of 2004, will enhance Domestic Services' ability
to estimate its accrued cost of purchased transportation going forward.
A reportable condition is a significant deficiency in the design or
operation of internal controls, which could adversely affect an organization's
ability to initiate, record, process and report financial data consistent with
the assertions of management in the financial statements. To specifically
respond to this matter, and in general to meet our obligations under Section 404
of the Sarbanes-Oxley Act of 2002, the Company commenced an overall review of
its internal controls over financial reporting. As part of the assessment of its
internal controls over financial reporting, the Company is focusing on its
recent growth in terms of both size and complexity, coupled with the fact that
its finance and accounting functions are largely decentralized. Although this
review is not yet completed, the Company has initiated an immediate change in
process at International Services to correct the error that occurred and to
reduce the likelihood that a similar error could occur in the future. In
addition, the Company has changed its organizational structure to require the
senior financial representatives within the Domestic Services and International
Services platforms to report directly to the Company's Chief Financial Officer.
As of the date of this Report, the Company believes it has a plan that, when
completed, will eliminate the reportable conditions described above. There were
no other changes during the quarter ended June 30, 2004 that have materially
affected, or are reasonably likely to materially affect, the Company's internal
control over financial reporting.
Part II. OTHER INFORMATION
Item 1. Legal Proceedings
Other than as described in the Company's Annual Report on Form 10-K for
the year ended December 31, 2003, there have been no material developments in
any of the reported legal proceedings.
The Company is involved in various other claims and legal actions
arising in the ordinary course of business. In the opinion of management, the
ultimate disposition of these matters will not have a material adverse effect on
the Company's overall consolidated financial position, results of operations or
liquidity.
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity
Securities
Effective as of June 15, 2004, we issued 42,735 shares of our common
stock to Quantum Logistics, Inc. in partial consideration of certain of its
assets. The shares were valued, for purposes of the acquisition, at $100,000
($2.34 per share), and were issued in a private placement transaction exempt
from the registration requirements of the Securities Act of 1933 pursuant to
Section 4(2) and Rule 506 thereunder as an issuer transaction not involving a
public offering.
34
Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
We held our Annual Meeting of Stockholders on May 26, 2004. At the
Annual Meeting our stockholders voted on the following proposals identified in
our Proxy Statement dated April 8, 2004:
(1) Vote for the Election of Directors:
The following directors were elected to serve as members of our Board
of Directors:
For Withheld
Dennis Pelino 28,840,544 0
J. Douglass Coates 28,842,194 0
John Springer 28,765,594 0
David R. Jones 28,838,044 0
Aloysius T. Lawn, IV 28,835,414 0
Robert McCord 28,842,094 0
(2) Proposal to approve amendments to the Stonepath Group, Inc. Amended
and Restated 2000 Stock Incentive Plan to increase the number of shares of the
Company's Common Stock which may be issued thereunder:
For Against Uninstructed Abstain
7,358,473 5,791,314 16,035,771 163,236
(3) Proposal to ratify appointment of KPMG LLP as independent auditors
for the Company:
For Against Abstain
29,015,987 287,119 45,688
Item 5. Other Information
None.
35
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are included herein:
10.16 Fifth Amendment to Loan and Security Agreement dated April 6, 2004 by
and among LaSalle Business Credit, LLC, Stonepath Group, Inc., Contract
Air, Inc., Distribution Services, Inc., Global Container Line, Inc.,
M.G.R., Inc., Net Value, Inc., Stonepath Logistics Domestic Services,
Inc., Stonepath Logistics Governmental Services, Inc., Stonepath
Logistics International Services, Inc., Stonepath Logistics
International Services, Inc., Stonepath Offshore Holdings, Inc.,
Stonepath Operations, Inc., and United American Acquisitions and
Management, Inc.
10.17 Sixth Amendment to Loan and Security Agreement dated July 28, 2004 by
and among LaSalle Business Credit, LLC, Stonepath Group, Inc., Contract
Air, Inc., Distribution Services, Inc., Global Container Line, Inc.,
M.G.R., Inc., Net Value, Inc., Stonepath Logistics Domestic Services,
Inc., Stonepath Logistics Governmental Services, Inc., Stonepath
Logistics International Services, Inc., Stonepath Logistics
International Services, Inc., Stonepath Offshore Holdings, Inc.,
Stonepath Operations, Inc., and United American Acquisitions and
Management, Inc.
12 Calculation of Ratio of Earnings to Combined Fixed Charges and
Preferred Stock Dividends.
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002. (This exhibit shall not be deemed "filed"
for purposes of Section 18 of the Securities Exchange Act of 1934, as
amended, or otherwise subject to the liability of that section.
Further, this exhibit shall not be deemed to be incorporated by
reference into any filing under the Securities Act of 1933, as amended,
or the Securities Exchange Act of 1934, as amended.)
32.2 Certification of Chief Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002. (This exhibit shall not be deemed "filed"
for purposes of Section 18 of the Securities Exchange Act of 1934, as
amended, or otherwise subject to the liability of that section.
Further, this exhibit shall not be deemed to be incorporated by
reference into any filing under the Securities Act of 1933, as amended,
or the Securities Exchange Act of 1934, as amended.)
36
(b) Reports on Form 8-K:
On April 23, 2004, the Company filed an amendment to its Form 8-K
dated February 9, 2004, to provide the information required under
Item 7(b) of Form 8-K.
On May 7, 2004, the Company filed a Current Report on Form 8-K
dated May 6, 2004, furnishing under Items 9 and 12 a copy of its
press release announcing the Company's financial results for the
three months ended March 31, 2004.
On June 24, 2004, the Company filed a Current Report on Form 8-K
dated June 17, 2004, reporting under Item 4 on the dismissal of
KPMG LLP as the Company's independent accountants and the
engagement of Grant Thornton LLP as its new independent
accountants.
On June 30, 2004, the Company filed an amendment to its Form 8-K
dated June 17, 2004, to include a letter from KPMG LLP regarding
its dismissal as the Company's independent accountants.
37
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
STONEPATH GROUP, INC.
Date: August 9, 2004 /s/Dennis L. Pelino
--------------------------------------
Dennis L. Pelino
Chief Executive Officer and
Chairman of the Board of Directors
Date: August 9, 2004 /s/Bohn H. Crain
--------------------------------------
Bohn H. Crain
Chief Financial Officer and Treasurer
Date: August 9, 2004 /s/Thomas L. Scully
--------------------------------------
Thomas L. Scully
Vice President and Controller and
Principal Accounting Officer
38