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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-KSB
(MARK ONE)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _____________
COMMISSION FILE NUMBER 0-28104
JAKKS PACIFIC, INC.
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
DELAWARE 95-4527222
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
22761 PACIFIC COAST HIGHWAY
MALIBU, CALIFORNIA 90265
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
ISSUER'S TELEPHONE NUMBER: (310) 456-7799
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:
NONE
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
TITLE OF CLASS
COMMON STOCK, $.001 PAR VALUE
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the issuer was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Check if there is no disclosure of delinquent filers pursuant to Item 405
of Regulation S-B contained in this form, and no disclosure will be contained,
to the best of issuer's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [X]
Issuer's revenues for its most recent fiscal year: $85,252,563.
The aggregate market value of the voting and non-voting common equity (the
only such common equity being Common Stock, $.001 par value) held by
non-affiliates (computed by reference to the closing sale price of the Common
Stock on March 26, 1999): $89,514,583.
The number of shares outstanding of the issuer's Common Stock (being the
only class of common equity) is 6,196,729 (as of 3/26/1999).
DOCUMENTS INCORPORATED BY REFERENCE
None.
Transitional Small Business Disclosure Format: Yes [ ] No [X]
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JAKKS PACIFIC, INC.
INDEX TO ANNUAL REPORT ON FORM 10-KSB
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
ITEMS IN FORM 10-KSB
PAGE
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Facing page
PART I
Item 1. Description of Business..................................... 2
Item 2. Description of Property..................................... 10
Item 3. Legal Proceedings........................................... 10
Item 4. Submission of Matters to a Vote of Security Holders......... 10
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.... 11
Item 6. Management's Discussion and Analysis or Plan of Operation... 12
Item 7. Financial Statements........................................ 18
Item 8. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................. 38
PART III
Item 9. Directors, Executive Officers, Promoters and Control
Persons; Compliance with Section 16(a) of the Exchange
Act....................................................... 38
Item 10. Executive Compensation...................................... 39
Item 11. Security Ownership of Certain Beneficial Owners and
Management................................................ 42
Item 12. Certain Relationships and Related Transactions.............. 43
Item 13. Exhibits and Reports on Form 8-K............................ 43
Signatures............................................................ 47
DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS
This report includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. For example, statements included in this report regarding
our financial position, business strategy and other plans and objectives for
future operations, and assumptions and predictions about future product demand,
supply, manufacturing, costs, marketing and pricing factors are all
forward-looking statements. When we use words like "intend," "anticipate,"
"believe," "estimate," "plan" or "expect," we are making forward-looking
statements. We believe that the assumptions and expectations reflected in such
forward-looking statements are reasonable, based on information available to us
on the date hereof, but we cannot assure you that these assumptions and
expectations will prove to have been correct or that we will take any action
that we may presently be planning. We have disclosed certain important factors
that could cause our actual results to differ materially from our current
expectations elsewhere in this report. You should understand that
forward-looking statements made in this report are necessarily qualified by
these factors. We are not undertaking to publicly update or revise any
forward-looking statement if we obtain new information or upon the occurrence of
future events or otherwise.
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ITEM 1. DESCRIPTION OF BUSINESS
In this report, "JAKKS," the "Company," "we," "us" and "our" refer to JAKKS
Pacific, Inc. and its subsidiaries.
COMPANY OVERVIEW
We design, develop, produce and market toys and related products. Our
principal products are (1) action figures and accessories featuring licensed
characters, principally from the World Wrestling Federation, (2) Road Champs
die-cast collectible and toy vehicles and Remco toy vehicles and role-play toys
and accessories, (3) Child Guidance infant and pre-school electronic toys, and
(4) fashion and mini dolls and related accessories. We focus on "evergreen"
branded products that are less subject to market fads or trends and feature
well-known brand names and simpler, lower-priced toys and accessories.
We have been successful at acquiring and capitalizing on "evergreen"
brands, which are well-recognized trademarks or corporate, trade or brand names
with long product histories. We continually review the marketplace to identify
and evaluate evergreen brands that, for various reasons, we believe are
underperforming. We seek to acquire or license these brands and revitalize them
by intensifying the marketing effort to restore and enhance consumer recognition
and retailer interest. We reinforce brands by linking them with other evergreen
brands on our products, adding to the branded product lines new items that we
expect to enjoy greater popularity, eliminating products with fading popularity,
adding new features and improving the functionality of products in the line. We
also try to improve point-of-sale brand visibility through better shelf
positioning and more eye-catching product packaging.
We license much of the intellectual property we use in our business. We
license the World Wrestling Federation trademark, as well as numerous other
trademarks, corporate, trade and brand names and logos from third parties,
including Car and Driver, Caterpillar, Peterson Publishing Co. and B.A.S.S.
Masters. This enables us to use high-profile marks at a lower cost than that
which we would incur if we purchased these marks or developed comparable marks
on our own. By licensing marks, we have access to a far greater range of marks
than those that would be available for purchase, and we maintain the flexibility
to acquire newly-popular marks and to discontinue our use of marks whose
popularity or value has faded. We also license technology produced by
unaffiliated inventors and product developers to improve the design and
functionality of our products. We believe that our experience in the toy
industry, our flexibility and our recent success in developing and marketing
products make us more attractive to toy inventors and developers.
Most of our current products are relatively simple and inexpensive toys. We
believe that these products have proven to have enduring appeal and are less
subject to general economic conditions, toy product fads and trends, changes in
retail distribution channels and other factors. In addition, the simplicity of
these products enables us to choose among a wider range of manufacturers and
affords us greater flexibility in product design, pricing and marketing.
We formed a joint venture with THQ Inc. ("THQ"), a developer, publisher and
distributor of interactive entertainment software, in June 1998 to develop,
manufacture and market, under an exclusive license with Titan Sports, Inc.
("Titan Sports"), video games based on World Wrestling Federation characters and
themes. The joint venture's first product is expected to be released at the end
of 1999.
We sell our products through our in-house sales staff and independent sales
representatives. Purchasers of our products include toy and discount retail
chain stores, department stores, toy specialty stores and wholesalers. The Road
Champs products are also sold to smaller hobby shops, specialty retailers and
corporate accounts, among others. Our five largest customers are Toys 'R Us,
Wal-Mart, Kay-Bee Toys, Kmart and Target.
Over the past few years, the toy industry has experienced substantial
consolidation among both toy companies and toy retailers. We believe that the
ongoing consolidation of toy companies provides us with increased growth
opportunities due to retailers' desire not to be entirely dependent on a few
dominant toy companies. Retailer concentration also enables us to ship products,
manage account relationships and track retail sales more effectively with a
smaller staff.
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INDUSTRY OVERVIEW
According to Toy Manufacturers of America, Inc. ("TMA"), the leading
industry trade group, total manufacturers' shipments of toys, excluding video
games, in the U.S., were approximately $15.2 billion in 1998. According to the
TMA, the United States is the world's largest toy market, followed by Japan and
Western Europe. Sales by U.S. toy manufacturers to non-U.S. customers totaled
approximately $5.5 billion in 1997 (the last year for which TMA published this
data). We believe the two largest U.S. toy companies, Mattel and Hasbro,
collectively hold a dominant share of the domestic non-video toy market. In
addition, hundreds of smaller companies compete in the design and development of
new toys, the procurement of character and product licenses, and the improvement
and expansion of previously-introduced products and product lines. In the video
game segment, manufacturers' shipments of video game software were approximately
$3.0 billion in 1998.
BUSINESS STRATEGY
Our business strategy consists of the following elements:
- Expand core products. In 1999, we plan to introduce hundreds of new items
within our core product lines, including World Wrestling Federation
action figures and accessories, Road Champs and Remco vehicles, Child
Guidance toys and our fashion dolls, and to continue to add technological
and functional innovations to our product lines.
- Enter new product categories. Through our participation in the joint
venture, we expect to enter the video game market with its line of World
Wrestling Federation licensed video games. Also, we will continue to use
our extensive experience in the toy industry to evaluate toys and
licenses in new product categories which we believe will enable us to
develop additional product lines in 1999 and beyond.
- Pursue strategic acquisitions. Since our inception, we have acquired and
developed evergreen brands through the acquisition of other toy companies
or their assets. These include our Road Champs, Remco and Child Guidance
product lines. We intend to continue our efforts to acquire and develop
evergreen brands through the opportunistic acquisition of other toy
businesses with valuable trademarks or brands and compatible product
lines.
- Acquire character and product licenses. We have acquired the rights to
use many familiar corporate, trade and brand names and logos from third
parties that we use in conjunction with our primary trademarks and
brands. Currently, we have license agreements with Titan Sports, Car and
Driver, Caterpillar, Petersen Publishing Co. and B.A.S.S. Masters, among
others. We intend to continue to pursue new licenses from these companies
and from other entertainment and media companies. We also intend to
continue to purchase additional inventions and product concepts through
our existing network of product developers.
- Expand international sales. We believe that foreign markets, especially
in Europe and Canada, offer us the opportunity for growth. We intend to
expand our international sales by capitalizing on our experience and our
relationships with foreign distributors and retailers.
- Exploit our operating efficiencies. We believe that our current
infrastructure and low-overhead operating methods can accommodate
significant growth without a proportionate increase in our operating and
administrative expenses, thereby increasing our operating margins.
- Leverage core product cash flows. Allowing for the natural seasonal
fluctuations in the toy industry, sales of our core products have
historically generated a reliable revenue stream. We expect this trend to
continue and plan to use a portion of these cash flows to fund our entry
into new product lines and consumer markets.
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PRODUCTS
- - World Wrestling Federation Action Figures and Accessories
We have a master toy license with Titan Sports pursuant to which we have the
exclusive right, until December 31, 2009, to develop and market a full line of
toy products based on the popular World Wrestling Federation professional
wrestlers in the United States, Canada, Europe (excluding Great Britain),
Australia and Africa. These wrestlers perform throughout the year at live
events that attract large crowds, many of which are broadcast on free and
cable television, including pay-per-view specials. We launched this product
line in 1996 with various series of six-inch articulated action figures that
have movable body parts and feature real-life action sounds from our patented
bone-crunching mechanism that allows the figures' "bones" to crack when they
are bent. The six-inch figures currently make up a substantial portion of the
overall World Wrestling Federation line, which has since grown to include many
other new products. Our strategy has been to release new figures and
accessories frequently to keep the line fresh and to retain the interest of
the consumers.
Following the launch of the action figures, we marketed wrestling ring play
sets and microphones with action background sounds to enhance the play value
of the action figures. Since then, we have continually added new products,
including action figures of varying sizes, such as three-inch sets with
wrestling rings, amplifying microphones, seven-inch collector's editions,
large soft body figures and small bean-bag figures with electronic sound chips
of the popular wrestlers' catch phrases and in-ring banter. Building on the
popularity of World Wrestling Federation and its wrestlers, we have continued
to develop the line with exciting and innovative technological and functional
concepts to enhance the value of the line.
In 1999, we will be introducing a line of 12-inch interactive figures that has
created a new category of toys in the industry. The line will be launched with
a figure based on the World Wrestling Federation World Champion, "Stone Cold
Steve Austin." The figures will be capable of accepting daily downloads of
sound bites from a World Wrestling Federation web site, to which we expect to
contribute content compatible with our toy products. We expect this product to
create awareness of our pending presence on the internet in support of our
current e-commerce efforts. Another technological innovation that will be
added in 1999 is the "Titan Tron," featuring proximity-based technology that
enables this play set to recognize the character of specially-equipped
wrestling figures in order to play the wrestler's unique video and theme music
with flashing lights. Other enhancements to the World Wrestling Federation
product line include a sweating functionality in the "Maximum Sweat" line of
action figures where the figures, when filled with water, "sweat" from the
brow and chest, adding more realism and play value to the line. The various
World Wrestling Federation products retail from $5.99 to $49.99.
- - World Wrestling Federation Video Games
In June 1998, we formed a joint venture with THQ, a developer, publisher and
distributor of interactive entertainment software for the leading hardware
game platforms in the home video game market. The joint venture entered into a
license agreement with Titan Sports under which it acquired the exclusive
worldwide right to publish World Wrestling Federation video games on all
hardware platforms. The games will be designed, developed, manufactured and
marketed by the joint venture. JAKKS and THQ will share equally any profits
generated by the joint venture.
The license agreement with Titan Sports permits the joint venture to release
its first World Wrestling Federation game after November 16, 1999, and we
expect that the first game produced under this license will be released in
late 1999. The term of the license agreement expires on December 31, 2009,
subject to a right of the joint venture to renew the license for an additional
five years under various conditions.
The joint venture will publish titles for the Sony PlayStation and Nintendo 64
consoles, hand-held Game Boy and personal computers ("PCs"). We expect the
joint venture will launch its first product, a video game for the Nintendo 64
platform, and, if possible, a product for Game Boy, in late November or
December 1999. It will also publish titles for new hardware platforms when and
as they are introduced to the market and have established a sufficiently
installed base to support new software. These titles will be marketed to our
existing customers as well as to game, electronics and other specialty stores,
such as
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Electronics Boutique and Best Buy. The home video game software market
consists both of (1) cartridge-based and CD-ROM-based software for use solely
on dedicated hardware systems, such as Sony PlayStation and Nintendo 64, and
(2) software distributed on CD-ROMs for use on PCs. According to NPD Group, a
leading independent toy industry research firm, Nintendo 64 and Sony
PlayStation accounted for a substantial portion of the installed base of all
hardware platforms and software sales in 1998.
Under non-exclusive licenses with Sony, Nintendo and Sega, the joint venture
will arrange for the manufacture of the CD-ROMs and cartridges. No other
licenses are required for the manufacture of the PC titles. Profit margins for
cartridge products can vary based on the cost of the memory chip used for a
particular title. As software has grown more complex, the trend in the
software industry has been to utilize chips with greater capacity and thus
greater cost. CD-ROMs have significantly lower per unit manufacturing costs
than cartridge-based products. However, these savings may be offset by
typically higher development costs for titles published on CD-ROMs; these
higher costs result from increasing and enhancing content to take advantage of
the greater storage capacity of CD-ROMs.
Wrestling video games have demonstrated consistent popularity, with two
wrestling-theme video games among the top 10, in terms of unit sales volumes
in 1998. Approximately 2.3 million units of these two games were sold in 1998,
at retail prices ranging from approximately $42 to $60. We believe that the
success of the World Wrestling Federation titles is dependent on the graphic
look and feel of the software, the depth and variation of game play and the
popularity of the World Wrestling Federation. We believe that as a franchise
property, the World Wrestling Federation titles will have brand recognition
and sustainable consumer appeal which may allow the joint venture to exploit
titles over an extended period of time through the release of sequels and
extensions and to re-release such products at different price points in the
future. Also, as new hardware platforms are introduced, software for these
platforms requires new standards of design and technology to fully exploit
these platforms' capabilities and requires that software developers devote
substantial resources to product design and development.
The joint venture will use external software developers to conceptualize and
develop titles. Typically, these developers receive advances based on specific
development milestones. Royalties in excess of the advances are based on a
fixed amount per unit sold and range from $0.30 to $10.00 per unit. Upon
completion of development, each title is extensively "play-tested" by us and
THQ and sent to the manufacturer for its review and approval.
- - Road Champs Die-Cast Collectible and Toy Vehicles
The Road Champs product line consists of highly-detailed, die-cast replicas of
new and classic cars, trucks, motorcycles, emergency vehicles and service
vehicles, primarily in 1/43 scale (including police cars, fire trucks and
ambulances), buses and aircraft (including propeller planes, jets and
helicopters). As a part of the Road Champs acquisition in February 1997, we
acquired the right to produce the Road Champs line of die-cast and collectible
vehicle replicas, including various well-known vehicles from Ford, Chevrolet,
Jeep, Kawasaki and Yamaha, as well as the right to use familiar corporate
names on the die-cast vehicles, such as Pepsi, Goodyear and Hershey. Recently,
we licensed the right to reproduce vehicles featured on the covers of
automotive magazines, such as Rod & Custom and Car and Driver, and to market
vehicles with the B.A.S.S. Masters logo and replicas of the World Wrestling
Federation Attitude Racing NHRA Team. We believe that these licenses increase
the perceived value of the products and enhance their marketability. Under the
terms of these licenses, which expire on various dates through May 10, 2001
(many of which include automatic annual extensions without affirmative action
taken by either party), we pay the licensor a royalty based on our sales of
each product bearing such licensed name. While we are not required to pay any
royalty on some of the products, the royalties on a majority of the products
range from 1% to 9% of sales. The Road Champs products are produced by
unaffiliated foreign manufacturers. These products are sold individually,
retailing from $2.99 to $7.99 each, and in play sets which retail from $9.99
to $24.99 each.
We have divided the markets of this product line into adult collectible and
children's toy segments, recognizing the specific needs of these different
consumers. Each collector product features a collector case in which to store
and display the vehicle and a certificate of authenticity. We produce a
limited number, generally not more than 10,000, of each distinctive product to
enhance its collectibility. This line presently
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has numerous themes, including Anniversary Collection, Police, Then & Now,
World War II Fighter Planes and Classics Scenes with die-cast scenic
accessories, such as 1950's soda machines or gas pumps. The toy segment is
marketed by focusing on size and value with its slogan "Bigger is Better." Our
die-cast vehicles are 1/43 scale, which are larger than most other competing
die-cast vehicles. The size appeals to collectors, since it enables us to show
greater detail on the vehicles, and to children and their parents, who
perceive a greater value in the larger size. The toys are packaged on two-pack
blister cards, further highlighting the value. In addition, series were
created to encourage children to collect our vehicles.
- - Remco Toy Vehicles and Role Play
Our Remco toy line includes toy vehicles, role play and other toys. Our toy
vehicle line is comprised of a large assortment of rugged die-cast and plastic
vehicles. Marketed under a sub-brand called "Tuff Ones," our toy vehicles
range in size from 4 3/4" to big-wheeled 17" vehicles. We have revitalized
them considerably by creating new packaging, redecorating the vehicles and
adding highly-recognized licensed names, such as NASA, Pennzoil, U-Haul and
Castrol, among others. The breadth of the line is extensive, with themes
ranging from emergency, fire, farm and construction, to racing and jungle
adventure. In 1999, we expanded our Remco vehicle line by adding an innovative
line of trucks, called "Real Ones," which enhances the traditional play
pattern by allowing children to drain an oil tanker, dump a dump truck full of
dirt, or dispose of an entire load of garbage without making a mess. We
accomplished this by enclosing real materials inside the trucks in a way that
makes vehicle play more fun without the mess.
We offer a variety of branded and non-branded role play sets in this new
category under the Remco name. Themes include Caterpillar construction,
B.A.S.S. Masters fishing, police, fire and NASA. Additionally, capitalizing on
the popularity of World Wrestling Federation, we will be introducing a World
Wrestling Federation role play product which will give children the
opportunity to dress like and imagine being their favorite wrestling
superstars.
We market Remco "Fight Back Action Fishing Poles" under the B.A.S.S. Masters
license for fun with simulated fishing action.
- - Child Guidance Infant and Pre-school Toys
We acquired the Child Guidance trade name in 1997 to accelerate our entry into
the infant/pre-school toy category. This category has been recently dominated
by higher-priced licensed products, which creates an opportunity for us to
sell our lower price, high value line of pre-school toys. Our line of
pre-school electronic toys features products that enhance sensory stimulation
and learning through play, while offering value to the trade as well as to the
consumer. Our products are designed for children ages two and under. We have
combined the fun of music, lights, motion and sound with the early
introduction of numbers, letters, shape and color recognition, all at a value
price. The line consists of more than 50 products that are marketed in
continually updated "try me" interactive packaging that allows the consumers
to sample the product prior to purchase. We support the products with
extensive advertising in popular magazines and other publications, focusing on
parenting, women's and family publications, including Good Housekeeping. These
products carry the Good Housekeeping Seal of Approval(R). Our current products
include the Wiggle Waggle Caterpillar and Musical Pony pull-along toys, which
were introduced in 1998. Other 1998 noteworthy products include Musical
Magnets, which were recognized as one of the top toys of the year by Sesame
Street Parent Magazine. In 1999, we have extended the Wiggle Waggle line to
include the Wiggle Waggle Duck which features spinning action. We have added
approximately 30 other new products to the line in 1999. We have recently
expanded the distribution of the Child Guidance products to include more
upscale and specialty retailers. Child Guidance products are priced at retail
from $2.99 to $14.99.
In addition to creating products internally, we often acquire products and
concepts from numerous toy inventors with whom we have ongoing relationships.
License agreements for products and concepts call for royalties ranging from
1% to 6% of net sales, and some may require minimum guarantees and advances.
Both development of internally-created items and acquiring items are ongoing
efforts. In either case, it may take as long as nine months for an item to
reach the market. As part of an effort to keep the product line
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fresh and to extend the life of the item, we create new packaging, change
sound chips and change product colors from time to time.
- - Fashion/Mini Dolls
We produce various propriety fashion dolls and accessories for children
between the ages of three and 10. The product lines include: (1) 11 1/2"
fashion dolls customized with high-fashion designs that correspond with
particular holidays, events or themes such as Christmas, birthdays, Fairytale,
Victorian Romance and Gibson Girl Romance; and (2) 6 1/2" fashion dolls based
on children's classic fairy tales and holidays. In 1999, we intend to add to
our doll line by producing additional dolls based on other theme-based play
sets.
We have introduced two new line extensions for sale in 1999: (1) a 15 1/2"
fashion doll that has movable body parts and intricate hairstyles and that has
themes such as Era of Elegance, Renaissance and Ballet; and (2) our American
Sisters baby dolls in paired 12" and 8" sizes with themes like Off to School,
Ballet Recital, Birthday Surprise and Tea Party Fun. These dolls will be
priced at retail from $9.99 to $24.99.
Our in-house product developers originate the design and functionality of most
of our fashion dolls. In many cases, they work with retailers and incorporate
their input on doll characteristics, packaging and other design elements to
create exclusive product lines for them.
SALES, MARKETING AND DISTRIBUTION
We sell all of our products through our own in-house sales staff and
independent sales representatives. Purchasers of our products include toy and
discount retail chain stores, department stores, toy specialty stores and
wholesalers. The Road Champs product line is also sold to smaller hobby shops,
specialty retailers and corporate accounts, among others. Our five largest
customers are Toys 'R Us, Wal-Mart, Kay-Bee Toys, Kmart and Target, which
accounted for approximately 61.7% of our net sales in 1997 and 69.6% in 1998.
Except for purchase orders relating to products on order, we do not have written
agreements with our customers. Instead, we generally sell products to our
customers pursuant to letters of credit or, in some cases, on open account with
payment terms typically varying from 30 to 90 days. From time to time, we allow
our customers credits against future purchases from us in order to facilitate
their retail markdown and sales of slow-moving inventory.
We obtain, directly, or through our sales representatives, orders for our
products from our customers and arrange for the manufacture of these products as
discussed below. Cancellations are generally made in writing, and we take
appropriate steps to notify our manufacturers of such cancellations. Based upon
the sales of the Road Champs products in the past, we expect approximately half
of the Road Champs products to be sold domestically through a third-party
warehouse and fulfillment center in Seattle, Washington, where we store
inventory for sale.
We maintain a full-time sales and marketing staff, many of whom make
on-site visits to customers for the purpose of soliciting orders for products.
We also retain a number of independent sales representatives to sell and promote
our products, both domestically and internationally. Together with retailers, we
sometimes test the consumer acceptance of new products in selected markets
before committing resources to large-scale production.
We generally budget approximately 5% of our net sales for advertising and
promotion of our products. We produce and broadcast television commercials for
our World Wrestling Federation action figure line. We may also advertise some of
our other products on television, if we expect that the resulting increase in
our net sales will justify the relatively high cost of television advertising.
We advertise our products in trade and consumer magazines and other
publications, market our products at major and regional toy trade shows,
conventions and exhibitions and carry on cooperative advertising with toy
retailers and other customers.
Outside of the United States, we currently sell our products primarily in
Canada, Great Britain, Latin America, Australia and Japan. Sales of our products
abroad accounted for approximately 8.9% of our net sales in 1997 and 7.4% in
1998. We believe that foreign markets present an attractive opportunity, and we
plan to intensify our marketing efforts and expand our distribution channels
abroad.
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PRODUCT DEVELOPMENT
Each of our product lines has an in-house manager responsible for product
development, including identifying and evaluating inventor products and concepts
and other opportunities to enhance or expand existing product lines or to enter
new product categories. In addition, we create proprietary products, the
principal source of products for our fashion doll line, and products to more
fully exploit our concept and character licenses. While we do have the
capability to create and develop products from inception to production, we use
third parties to provide a substantial portion of the sculpting, sample making,
illustration and package design required for our products in order to
accommodate our increasing product innovations and introductions. Typically, the
development process takes from three to nine months to culminate in production
of the products for shipment to our customers.
We generally acquire our product concepts from unaffiliated third parties.
If we accept and develop a third-party's concept for new toys, we generally pay
a royalty on the toys developed from this concept that are sold, and may, on an
individual basis, guarantee a minimum royalty. Royalties payable to developers
generally range from 1% to 6% of the wholesale sales price for each unit of a
product sold by us. We believe that utilizing experienced third-party inventors
gives us access to a wide range of development talent. We currently work with
numerous toy inventors and designers for the development of new products and the
enhancement of existing products. We believe that toy inventors and designers
have come to appreciate our practice of acting quickly and decisively to acquire
and market licensed products. In addition, we believe that our experience in the
toy industry, our flexibility and our recent success in developing and marketing
products make us more attractive to toy inventors and developers than some of
our competitors.
Safety testing of our products is done at the manufacturers' facilities by
an engineer employed by us or independent third-party contractors engaged by us,
and is designed to meet safety regulations imposed by federal and state
governmental authorities. We also monitor quality assurance procedures for our
products for safety purposes.
MANUFACTURING AND SUPPLIES
Our products are currently produced by manufacturers which we choose on the
basis of quality, reliability and price. Consistent with industry practice, the
use of third-party manufacturers enables us to avoid incurring fixed
manufacturing costs. All of the manufacturing services performed overseas for us
are paid for either by letter of credit or on open account with the
manufacturers. To date, we have not experienced any material delays in the
delivery of our products; however, delivery schedules are subject to various
factors beyond our control, and any delays in the future could adversely affect
our sales. Currently, we have ongoing relationships with approximately 15
manufacturers. We believe that alternative sources of supply are available,
although we cannot assure you that adequate supplies of manufactured products
can be obtained.
Although we do not conduct the day-to-day manufacturing of our products, we
participate in the design of the product prototype and production tooling and
molds for the products we develop or acquire, and we seek to ensure quality
control by actively reviewing the production process and testing the products
produced by our manufacturers. We employ quality control inspectors who rotate
among our manufacturers' factories to monitor production.
The principal raw materials used in the production and sale of our toy
products are zinc alloy, plastics, plush, printed fabrics, paper products and
electronic components, all of which are currently available at reasonable prices
from a variety of sources. Although we do not manufacture our products, we own
the molds and tooling used in the manufacturing process, and these are
transferable among manufacturers if we choose to employ alternative
manufacturers.
TRADEMARKS AND COPYRIGHTS
Most of our products are produced and sold under trademarks owned by or
licensed to us. We typically register our properties, and seek protection under
the trademark, copyright and patent laws of the United States and other
countries where our products are produced or sold. These intellectual property
rights can be
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significant assets. Accordingly, while we believe we are sufficiently protected,
the loss of some of these rights could have an adverse effect on our business
and results of operations.
COMPETITION
Competition in the toy industry is intense. Many of our competitors have
greater financial resources, stronger name recognition and larger sales,
marketing and product development departments and benefit from greater economies
of scale. These factors, among others, may enable our competitors to market
their products at lower prices or on terms more advantageous to customers than
those we could offer for our competitive products. Competition often extends to
the procurement of entertainment and product licenses, as well as to the
marketing and distribution of products and the obtaining of adequate shelf
space. Competition may result in price reductions, reduced gross margins and
loss of market share, any of which could have a material adverse effect on our
business, financial condition and results of operations. In each of our product
lines we compete against one or both of the toy industry's two dominant
companies, Mattel, Inc. and Hasbro, Inc. In addition, we compete, in our action
figures line, with the Toy-Biz division of Marvel Enterprises, Inc. and, in our
toy vehicle lines, with Racing Champions, Inc. We also compete with numerous
smaller domestic and foreign toy manufacturers, importers and marketers in each
of our product categories. We expect that the joint venture's principal
competition in the video game market will be Electronic Arts, which will produce
video games based on World Championship Wrestling characters, and Acclaim
Entertainment, Inc.
SEASONALITY AND BACKLOG
Sales of toy products are seasonal. In 1998, approximately 68.1% our sales
were made in the third and fourth quarters. Generally, the first quarter is the
period of lowest shipments and sales in our business and the toy industry
generally and therefore the least profitable due to various fixed costs.
Seasonality factors may cause our operating results to fluctuate significantly
from quarter to quarter. Due to these fluctuations, our results of operations
for any quarter may vary significantly. Our results of operations may also
fluctuate as a result of factors such as the timing of new products (and
expenses incurred in connection therewith) introduced by us or our competitors,
the advertising activities of our competitors, delivery schedules set by our
customers and the emergence of new market entrants. We believe, however, that
the low retail price product lines that we sell may be less subject to seasonal
fluctuations than higher priced toy products.
We ship products in accordance with delivery schedules specified by our
customers, which usually request delivery of their products within three to six
months of the date of their orders. Because customer orders may be canceled at
any time without penalty, our backlog may not accurately indicate sales for any
future period.
GOVERNMENT AND INDUSTRY REGULATION
Our products are subject to the provisions of the Consumer Product Safety
Act ("CPSA"), the Federal Hazardous Substances Act ("FHSA"), the Flammable
Fabrics Act ("FFA") and the regulations promulgated thereunder. The CPSA and the
FHSA enable the Consumer Product Safety Commission to exclude from the market
consumer products that fail to comply with applicable product safety regulations
or otherwise create a substantial risk of injury, and articles that contain
excessive amounts of a banned hazardous substance. The FFA enables the Consumer
Products Safety Commission to regulate and enforce flammability standards for
fabrics used in consumer products. The Consumer Products Safety Commission may
also require the repurchase by the manufacturer of articles which are banned.
Similar laws exist in some states and cities and in various international
markets. We maintain a quality control program designed to ensure compliance
with all applicable laws. In addition, many of our Child Guidance products are
sold under the Good Housekeeping Seal of Approval(R). To qualify for this
designation, our products are tested by Good Housekeeping to ensure compliance
with its product safety and quality standards.
EMPLOYEES
As of March 26, 1999, we employed 66 persons, all of whom are full-time
employees, including three executive officers. Thirty-six of our employees were
located in the United States, while the remaining 30 were
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located in Hong Kong. We believe that we have good relationships with our
employees. None of our employees is represented by a union.
ENVIRONMENTAL ISSUES
We are subject to legal and financial obligations under environmental,
health and safety laws in the United States and in other jurisdictions where we
operate. We are not currently aware of any material environmental liabilities
associated with any of our operations.
ITEM 2. DESCRIPTION OF PROPERTY
PROPERTIES
Our principal executive offices occupy approximately 9,000 square feet of
space in Malibu, California under a lease expiring on August 31, 2002. We lease
showroom and office space of approximately 4,100 square feet at the
International Toy Center in New York City. We also lease showroom and office
space of approximately 5,000 square feet in Hong Kong from which we oversee our
China-based third-party manufacturing operations, and we have smaller leased
sites in Dallas, Texas and Union, New Jersey.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to, nor is our property the subject of, any pending
legal proceeding, nor are we aware of any proceeding contemplated by any
governmental authority.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of 1998 to a vote of our
security holders.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
Our common stock is traded on the Nasdaq National Market under the symbol
"JAKK." The following table sets forth, for the periods indicated, the range of
high and low closing sale prices for our common stock on the Nasdaq National
Market.
PRICE RANGE OF
COMMON STOCK
---------------
HIGH LOW
---- ---
1997:
First quarter............................................. 8 3/4 7 1/8
Second quarter............................................ 8 1/4 4 1/2
Third quarter............................................. 10 13/16 5 3/4
Fourth quarter............................................ 11 1/8 7 5/8
1998:
First quarter............................................. 9 3/8 7 3/16
Second quarter............................................ 12 1/4 7 15/16
Third quarter............................................. 10 15/16 7
Fourth quarter............................................ 17 5/8 10 11/16
On March 26, 1999, the last sale price of our common stock reported on the
Nasdaq National Market was $17.50 per share.
SECURITY HOLDERS
As of March 26, 1999, there were approximately 62 holders of record of our
common stock.
DIVIDENDS
We have never paid, and, because we intend to retain our future earnings,
if any, to finance the growth and development of our business, we do not plan to
pay in the foreseeable future, any cash dividends on any of our common stock.
The payment of dividends on our common stock (other than dividends payable in
shares of our common stock) is prohibited (1) under the loan agreement relating
to our convertible debentures and (2) until all accumulated dividends on our
preferred stock are paid in full and sufficient funds to pay the current
dividends thereon are set aside. Moreover, the loan agreements relating to our
revolving credit lines prohibit some of our subsidiaries from distributing funds
to us without the lender's consent.
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ITEM 6.MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations contains forward-looking statements that involve risks
and uncertainties. Our actual results could differ materially from those
anticipated in these forward-looking statements as a result of various factors.
You should read this section in conjunction with our consolidated financial
statements and the related notes, which are included in Item 7.
OVERVIEW
JAKKS was founded to develop, produce and market children's toys and
related products. We commenced business operations when we assumed operating
control over the toy business of Justin Products Limited ("Justin"), and have
included the results of Justin's operations in our consolidated financial
statements from July 1, 1995, the effective date of that acquisition. The Justin
product lines, which consisted primarily of fashion dolls and accessories and
electronic products for children, accounted for substantially all of our net
sales for the period from April 1, 1995 (inception) to December 31, 1995.
One of our key strategies has been to grow through the acquisition or
licensing of product lines, concepts and characters. In 1996, we expanded our
product lines to include products based on licensed characters and properties,
such as World Wrestling Federation action figures.
We acquired Road Champs in February 1997, and have included the results of
operations of Road Champs from February 1, 1997, the effective date of the
acquisition. We acquired the Child Guidance and Remco trademarks in October
1997, both of which contributed to operations nominally in 1997, but contributed
more significantly to operations commencing in 1998.
Our products currently include (1) toys and action figures featuring
licensed characters, including popular wrestling characters under our World
Wrestling Federation license, (2) die-cast collectible and toy vehicles marketed
under our Road Champs and Remco brand names, (3) pre-school electronic toys
marketed under our Child Guidance brand name, and (4) fashion dolls and related
accessories.
In general, we acquire products or product concepts from others or we
engage unaffiliated third parties to develop our own products, thus minimizing
operating costs. Royalties payable to our developers generally range from 1% to
6% of the wholesale sale price for each unit of a product sold by us. We expect
that outside inventors will continue to be a source of new products in the
future. We also generate internally new product concepts, for which we pay no
royalties.
In June 1998, we formed our joint venture with THQ, a developer, publisher
and distributor of interactive entertainment software, and the joint venture
licensed the rights from Titan Sports to publish World Wrestling Federation
electronic video games on all platforms. The license agreement permits the joint
venture to release these games after November 16, 1999. We expect that the first
game produced under this license will be released in late 1999. JAKKS and THQ
will share equally any profits generated by the joint venture.
We contract the manufacture of most of our products to unaffiliated
manufacturers located in China. We sell the finished products on a letter of
credit basis or on open account to our customers, who take title to the goods in
Hong Kong. These methods allow us to reduce certain operating costs and working
capital requirements. A portion of our sales, primarily sales of our Road Champs
products, originate in the United States, so we hold certain inventory in a
warehouse and fulfillment facility operated by an unaffiliated third party. In
addition, we hold inventory of other products from time to time in support of
promotions or other domestic programs with retailers. To date, substantially all
of our sales have been to domestic customers. We intend to expand distribution
of our products into foreign territories and, accordingly, we have (1) engaged a
representative to oversee sales in certain territories, (2) engaged distributors
in certain territories, and (3) established direct relations with retailers in
certain territories.
We establish reserves for sales allowances, including promotional
allowances and allowances for anticipated defective product returns, at the time
of shipment. The reserves are determined as a percentage of net sales based upon
either historical experience or on estimates or programs agreed upon by our
customers.
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Our cost of sales consists primarily of the cost of goods produced for us
by unaffiliated third-party manufacturers, royalties earned by licensors on the
sale of these goods and amortization of the tools, dies and molds owned by us
that are used in the manufacturing process. Other costs include inbound freight
and provisions for obsolescence. Significant factors affecting our cost of sales
as a percentage of net sales include (1) the proportion of net sales generated
by various products with disparate gross margins, (2) the proportion of net
sales made domestically, which typically carry higher gross margins than sales
made in Hong Kong, and (3) the effect of amortizing the fixed cost components of
cost of sales, primarily amortization of tools, dies and molds, over varying
levels of net sales.
Selling, general and administrative expenses include costs directly
associated with the selling process, such as sales commissions, advertising and
travel expenses, as well as general corporate expenses, goodwill and trademark
amortization and product development. We have recorded goodwill of approximately
$11 million and trademarks of approximately $14.4 million in connection with
acquisitions made to date. Goodwill is being amortized over a 30-year period,
while trademark acquisition costs are being amortized over periods ranging from
10 to 30 years.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain
statement of operations data as a percentage of net sales.
APRIL 1, 1995
(INCEPTION) TO YEARS ENDED DECEMBER 31,
DECEMBER 31, --------------------------
1995 1996 1997 1998
-------------- ------ ------ ------
Net sales............................................. 100.0% 100.0% 100.0% 100.0%
Cost of sales......................................... 68.0 60.0 61.7 61.0
----- ----- ----- -----
Gross profit.......................................... 32.0 40.0 38.3 39.0
Selling, general and administrative expenses.......... 23.0 30.0 28.4 28.2
----- ----- ----- -----
Income from operations................................ 9.0 10.0 9.9 10.8
Interest, net......................................... 0.1 (1.1) 1.0 0.4
Other (income) expense................................ (0.2) -- 0.7 0.7
----- ----- ----- -----
Income before income taxes............................ 9.1 11.1 8.2 9.7
Provision for income taxes............................ 1.9 1.3 1.6 2.2
----- ----- ----- -----
Net income............................................ 7.2% 9.8% 6.6% 7.5%
===== ===== ===== =====
YEARS ENDED DECEMBER 31, 1998 AND 1997
Net Sales. Net sales increased $43.4 million, or 103%, to $85.3 million in
1998 from $41.9 million in 1997. The significant growth in net sales was due
primarily to the continuing growth of the World Wrestling Federation action
figure product line with its expanded product offerings and frequent character
releases, as well as to the full year impact on sales of the Remco toy vehicles
and Child Guidance pre-school toys which contributed only nominally in 1997 from
their acquisition date in late October 1997. Contributions made by sales of Road
Champs die-cast toy and collectible vehicles and our holiday doll line were
comparable with the prior year, while our line of radio-controlled vehicles made
only nominal contributions to net sales in 1998.
Gross Profit. Gross profit increased $17.2 million, or 107%, to $33.3
million in 1998, or 39.0% of net sales, from $16.1 million, or 38.3% of net
sales, in 1997. The overall increase in gross profit was attributable to the
significant increase in net sales. The increase in the gross profit margin of
0.7% of net sales was due in part to the changing product mix, which included
products, such as World Wrestling Federation action figures, with higher margins
than some of our other products. The higher margin resulting from lower product
costs was offset in part by higher royalties, and the amortization expense of
molds and tools used in the manufacture of our products was comparable on a
percentage basis.
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Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $12.1 million, or 102%, to $24.0 million, or
28.2% of net sales, in 1998, from $11.9 million, or 28.4% of net sales, in 1997.
The overall significant increase of $12.1 million in these costs was due in
large part to the full year impact of costs associated with our addition of
infrastructure in the United States and Hong Kong in connection with the Road
Champs acquisition, as well as to development and marketing costs of products
under our recently-acquired Child Guidance and Remco trademarks and under
existing products lines, such as the World Wrestling Federation action figures.
Selling, general and administrative expenses decreased modestly as a percentage
of net sales due in part to the fixed nature of certain of these expenses, which
were offset in part by increases in advertising expenses and product development
costs in 1998. The overall dollar increase was also due to the significant
increase in net sales with their proportionate impact on variable selling costs,
such as freight and shipping related expenses, sales commissions, cooperative
advertising and travel expenses. We produced television commercials in support
of several of our products, including World Wrestling Federation action figures,
in 1998 and 1997, as well as radio-controlled vehicles, in 1997. From time to
time, we may increase our advertising efforts, including the use of more
expensive advertising media, such as television, if we deem it appropriate for
particular products.
Interest, Net. We had comparable interest-bearing obligations in 1998 and
in 1997 with our convertible debentures and seller notes issued in connection
with the Child Guidance/Remco and Road Champs acquisitions. In addition, we had
comparable average cash balances during 1998 and 1997.
Provision for Income Taxes. Provision for income taxes included Federal,
state and foreign income taxes in 1998 and also included a tax benefit generated
by operating losses for Federal and state purposes in 1997. Our earnings were
subject to effective tax rates of 22.6% and 18.8% in 1998 and 1997,
respectively, benefiting from a flat 16.5% Hong Kong Corporation Tax on our
income arising in, or derived from, Hong Kong. As of December 31, 1997, we had
federal and state net operating loss carry-forwards of $727,000 and $306,000,
respectively, available to offset future taxable income. The carry-forwards were
fully utilized in 1998. As of December 31, 1998, we had deferred tax assets of
approximately $493,000 for which no allowance has been provided for since, in
the opinion of management, realization of the future benefit is probable. In
making this determination, management considered all available evidence, both
positive and negative, as well as the weight and importance given to such
evidence.
YEARS ENDED DECEMBER 31, 1997 AND 1996
Net Sales. Net sales increased $29.8 million, or 248%, to $41.9 million in
1997 from $12.1 million in 1996. The significant growth in net sales was due
primarily to the continuing growth of the World Wrestling Federation action
figure product line with its expanded product offerings and frequent character
releases, as well as to the contribution made by sales of Road Champs die-cast
toy and collectible vehicles, which have been included from the effective date
of the acquisition, February 1, 1997. Our holiday doll line performed comparably
with the prior year and our new line of radio-controlled vehicles made modest
contributions to net sales in 1997.
Gross Profit. Gross profit increased $11.3 million, or 233%, to $16.1
million, or 38.3% of net sales, in 1997 from $4.8 million, or 40.0% of net
sales, in 1996. The overall increase in gross profit was attributable to the
significant increase in net sales. The decline in the gross profit margin of
1.7% of net sales was due in part to the changing product mix, which included
products, such as Road Champs and radio-controlled vehicles, with lower margins
than some of our other products.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $8.3 million, or 229%, to $11.9 million, or
28.4% of net sales, in 1997 from $3.6 million, or 30.0% of net sales, in 1996.
The significant overall increase of $8.3 million in such costs was due in large
part to the costs associated with our addition of infrastructure in the United
States and Hong Kong in connection with the Road Champs acquisition. We have
since combined the acquired operations in Hong Kong with those of our existing
operations and may achieve other efficiencies in our operations. As expected,
selling, general and administrative expenses decreased as a percentage of net
sales due in part to the fixed nature of certain of these expenses. The overall
dollar increase was also due to the significant increase in net sales with their
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proportionate impact on variable selling costs, such as freight and shipping
related expenses, sales commissions and travel expenses. Additionally, we
produced television commercials in support of several of our products, including
World Wrestling Federation action figures and radio-controlled vehicles.
Interest, Net. We had significantly higher interest-bearing obligations in
1997 than in 1996 resulting from the issuance of our convertible debentures and
seller notes in connection with the Road Champs acquisition. In addition, we had
lower average cash balances during 1997 than in 1996 due to significant cash
payments made and working capital employed in connection with the Road Champs
acquisition.
Provision for Income Taxes. Provision for income taxes included state and
foreign income taxes in 1997 and also included a tax benefit generated by
operating losses for Federal and state purposes in 1996. Our earnings were
subject to effective tax rates of 18.8% and 12.2% in 1997 and 1996,
respectively, benefiting from a flat 16.5% Hong Kong Corporation Tax on our
income arising in, or derived from, Hong Kong. As of December 31, 1997, we had
federal and state net operating loss carry-forwards of $727,000 and $306,000,
respectively, available to offset future taxable income.
QUARTERLY FLUCTUATIONS AND SEASONALITY
We have experienced significant quarterly fluctuations in operating results
and anticipate these fluctuations in the future. The operating results for any
quarter are not necessarily indicative of results for any future period. Our
first quarter is typically expected to be the least profitable as a result of
lower net sales but substantially similar fixed operating expenses. This is
consistent with the performance of many companies in the toy industry.
The following tables present our unaudited quarterly results for the years
indicated. The seasonality of our business is reflected in this quarterly
presentation.
1997 1998
----------------------------------- -------------------------------------
1ST 2ND 3RD 4TH 1ST 2ND 3RD 4TH
------ ------ ------- ------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net sales................. $5,235 $8,059 $15,919 $12,732 $11,030 $16,131 $34,218 $23,873
Gross profit.............. 1,911 3,203 6,620 4,336 4,350 6,118 13,242 9,542
Income from operations.... 173 721 2,021 1,260 768 1,427 5,069 1,983
Income before income
taxes................... 124 604 1,908 793 610 1,316 4,648 1,658
Net income................ 203 457 1,455 671 462 958 3,434 1,521
Diluted earnings per
share................... $ 0.05 $ 0.10 $ 0.29 $ 0.11 $ 0.08 $ 0.14 $ 0.45 $ 0.21
Weighted average shares
and equivalents
outstanding............. 4,332 4,752 5,092 6,953 7,160 7,786 7,872 7,837
1997 1998
-------------------------------- --------------------------------
1ST 2ND 3RD 4TH 1ST 2ND 3RD 4TH
----- ----- ----- ----- ----- ----- ----- -----
(IN PERCENTAGES OF NET SALES)
Net sales................. 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Gross profit.............. 36.5 39.7 41.6 34.1 39.4 37.9 38.7 40.0
Income from operations.... 3.3 8.9 12.7 9.9 7.0 8.8 14.8 8.3
Income before income
taxes................... 2.4 7.5 12.0 6.2 5.5 8.2 13.6 6.9
Net income................ 3.9 5.7 9.1 5.3 4.2 5.9 10.0 6.4
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1998, we had working capital of $13.7 million, as
compared to $3.4 million as of December 31, 1997. This increase was primarily
attributable to operating activities and the placement of our preferred stock in
April 1998.
Operating activities provided net cash of $12.0 million in 1998 as compared
to $3.2 million in 1997. Net cash was provided primarily by net income, non-cash
charges, such as depreciation, amortization and recognition of compensation
expense for options, and increases in operating liabilities, which were offset
in
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part by increases in accounts receivable and inventory. As of December 31, 1998,
we had cash and cash equivalents of $12.5 million.
Our investing activities used net cash of $5.1 million in 1998, as compared
to $24.4 million in 1997, consisting primarily of the purchase of molds and
tooling used in the manufacture of our products, the initial funding of the
World Wrestling Federation joint venture in 1998, trademarks purchased in
connection with the acquisitions of Road Champs and the Child Guidance and Remco
brands, and goodwill acquired in connection with the acquisition of Road Champs
in 1997. As part of our strategy to develop and market new products, we have
entered into various character and product licenses with royalties ranging from
1% to 10% payable on net sales of such products. As of January 1, 1999, these
agreements required future aggregate minimum guarantees of $17.2 million,
exclusive of $1.3 million in advances already paid.
Our financing activities provided net cash of $3.0 million in 1998,
consisting primarily of the issuance of 1,000 shares of our preferred stock at a
price of $5,000 per share in a private placement to two investors, partially
offset by the repayment of various debt issued in connection with the Road
Champs and Child Guidance/Remco trademark acquisitions. In 1997, financing
activities provided net cash of $17.4 million, consisting of the issuance of our
4% Redeemable Convertible Preferred Stock in October 1997, which provided $6.8
million, net of offering costs, the placement of our convertible debentures in
January 1997, which provided $5.5 million, net of offering costs, and various
notes and other debt issued in connection with our acquisitions in 1997, less
approximately $5.2 million in debt repaid.
In January 1997, we received proceeds, net of issuance costs, of
approximately $5.5 million from the issuance of $6.0 million in convertible
debentures which are currently convertible into 1,043,480 shares of our common
stock at a conversion price of $5.75 per share, subject to various anti-dilution
adjustments. These debentures bear interest at 9% per annum, payable monthly,
and are due in December 2003. Pursuant to the debenture agreements, the
debenture holders notified us of their intention to convert an aggregate
principal amount of $3.0 million of the convertible debentures into 521,740
shares of our common stock on May 25, 1999. The unpaid principal balance is
subject to mandatory repayment at the rate of 1% per month of the then
outstanding balance beginning on December 31, 1999.
In February 1997, we acquired Road Champs for approximately $12.5 million.
Consideration paid at closing was approximately $4.7 million in cash plus the
issuance of 198,020 shares of our common stock (valued at approximately $1.5
million) and the assumption of approximately $766,000 of liabilities. The
balance of the cash consideration ($5.5 million) was paid during the
twelve-month period ended in February 1998. Assets included in the purchase were
molds and tooling, office and warehouse equipment and other operating assets, as
well as license agreements, trade name and goodwill.
In October 1997, we acquired the Child Guidance and Remco trademarks for
approximately $13.4 million. Consideration paid at closing was $10.6 million in
cash plus the issuance of a 10% note payable in the amount of $1.2 million,
which was paid in five quarterly installments ended December 31, 1998. In
addition, we incurred legal and accounting fees of approximately $203,000 and
assumed liabilities of $1.4 million. The acquisition was funded in part by the
issuance of shares of our 4% Redeemable Convertible Preferred Stock, which were
converted into 939,998 shares of our common stock on March 30, 1998. Also in
connection with this acquisition, we entered into a manufacturing and supply
agreement whereby the seller of the trademarks will provide the tools and other
manufacturing resources for the production of products under the trademarks.
That agreement provides for four quarterly payments to the seller of $110,000,
followed by six quarterly payments of $160,000, which commenced on December 31,
1997.
In October 1997, we entered into a credit facility agreement with Norwest
Bank Minnesota, N.A. which provides our Hong Kong subsidiaries with a working
capital line of credit and letters of credit for the purchase of products and
the operation of those subsidiaries. The facility has an overall limit of $5.0
million, but is subject to other limitations based on advance rates on letters
of credit and open accounts receivable. As of December 31, 1998, there were no
advances outstanding under the facility.
In April 1998, we received $4.7 million in net proceeds from the issuance
of shares of our Series A Cumulative Convertible Preferred Stock to two
investors in a private placement, which are currently
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convertible into 558,658 shares of our common stock at a conversion price of
$8.95 per share. The use of proceeds was for working capital and general
corporate purposes.
We believe that our cash flow from operations and cash and cash equivalents
on hand, together with the availability under the Norwest facility, will be
sufficient to meet our working capital and capital expenditure requirements and
provide to us with adequate liquidity to meet our anticipated operating needs
for at least the next 12 months. Although operating activities are expected to
provide cash, to the extent we grow significantly in the future, our operating
and investing activities may use cash and, consequently, this growth may require
us to obtain additional sources of financing. There can be no assurance that any
necessary additional financing will be available to us on commercially
reasonable terms, if at all.
EXCHANGE RATES
We sell all of our products in U.S. dollars and pay for all of our
manufacturing costs in either U.S. or Hong Kong dollars. Operating expenses of
the Hong Kong office are paid in Hong Kong dollars. The exchange rate of the
Hong Kong dollar to the U.S. dollar has been fixed by the Hong Kong government
since 1983 at HK$7.80 to US$1.00 and, accordingly, has not represented a
currency exchange risk to the U.S. dollar. We cannot assure you that the
exchange rate between the United States and Hong Kong currencies will continue
to be fixed or that exchange rate fluctuations will not have a material adverse
effect on our business, financial condition or results of operations.
RECENT ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board ("FASB") recently issued Statement
of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income," which is effective for financial statements issued for fiscal years
beginning after December 15, 1997. This statement establishes standards for
reporting and displaying comprehensive income and its components in financial
statements. Comprehensive income, as defined, includes all changes to equity
(net assets) during a period from non-owner sources. To date, we have not had
any transactions that are required to be reported in other comprehensive income.
The FASB recently issued SFAS No. 131, "Disclosure about Segments of an
Enterprise and Related Information," which is effective for financial statements
issued for fiscal years beginning after December 15, 1997. This statement
establishes standards for the way public business enterprises are to report
information about operating segments in annual financial statements and requires
those enterprises to report selected information about operating segments in
interim financial reports. We operate in one reportable segment: the
development, production and marketing of toys and related products.
IMPACT OF THE YEAR 2000
Many currently installed computer systems and software products are
dependent upon internal calendars coded to accept only two digit entries in the
date code field. These date code fields will need to accept four digit entries
to distinguish 21st century dates from 20th century dates. As a result, our
computer systems and software may need to be upgraded to comply with Year 2000
requirements. Otherwise, system failures or miscalculations leading to
disruptions in our operations could occur. JAKKS has taken actions to address
this potential problem, including the identification of any non-compliant
processes or systems and the implementation of corrective measures. We expect to
replace internal software with non-compliant codes with software that is
compliant by July 1999.
We believe the financial reporting systems of our Hong Kong subsidiaries
are Year 2000 compliant. Their systems were upgraded in 1998 in the normal
course of business with software and hardware which the manufacturer has
represented as being Year 2000 compliant. We are currently in the process of
selecting a new software package in our corporate office which the manufacturer
has represented as being Year 2000 compliant, and we believe it will be
implemented by July 1999. We estimate the cost of the new software, including
implementation and data conversion costs, to be approximately $60,000. Our other
software is generally certified as Year 2000 compliant or is not considered
critical to our operations.
17
19
Other than the cost of the new software to be implemented in our corporate
office, we have spent only nominal amounts on the Year 2000 issue, and we do not
expect any significant future expenditures. Although we believe our cost
estimates to be accurate, we cannot assure you that these costs will not
increase or that the proposed solutions will be installed on schedule by the
date estimated.
We have addressed the Year 2000 preparedness of our critical suppliers and
major customers and related electronic data interfaces with these third parties.
We began in 1998, and are continuing our efforts, to contact critical suppliers
and larger customers to determine whether they are, or will be, compliant by the
Year 2000. Based on our evaluation and testing, these third parties are, or are
expected to be, compliant by the Year 2000. However, we will continue to monitor
the situation and we will formulate contingency plans to resolve
customer-related issues that may arise. At this time we cannot estimate the
impact that noncompliant suppliers and customers may have on us or our level of
operations in the Year 2000. At present, we have not developed contingency
plans, but we will determine whether to develop such plans when our assessment
is completed.
ITEM 7. FINANCIAL STATEMENTS
The financial statements begin on the following page.
18
20
INDEPENDENT AUDITORS' REPORT
The Stockholders
JAKKS Pacific, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of JAKKS
Pacific, Inc. and Subsidiaries as of December 31, 1997 and 1998, and the related
consolidated statements of operations, stockholders' equity and cash flows and
financial statement schedule for each of the three years in the period ended
December 31, 1998. These financial statements and the financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and the financial
statement schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements and schedule referred
to above present fairly, in all material respects, the financial position of
JAKKS Pacific, Inc. and Subsidiaries as of December 31, 1997 and 1998, and the
results of their operations and cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted accounting
principles.
PANNELL KERR FORSTER
Certified Public Accountants
A Professional Corporation
February 22, 1999
except for note 18, for which
the date is March 1, 1999
19
21
JAKKS PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
DECEMBER 31,
--------------------------
1997 1998
----------- -----------
Current assets
Cash and cash equivalents................................. $ 2,535,925 $12,452,201
Accounts receivable, net of allowance for uncollectible
accounts of $51,153 and $133,986 for 1997 and 1998,
respectively........................................... 8,735,528 11,926,725
Inventory, net of reserves of $129,695 and $464,133 for
1997 and 1998, respectively............................ 1,948,250 2,918,941
Deferred product development costs........................ 807,603 237,914
Prepaid expenses and other................................ 632,315 789,691
Advanced royalty payments................................. 252,603 307,542
Due from officers......................................... 15,112 --
----------- -----------
Total current assets.............................. 14,927,336 28,633,014
Property and equipment
Office furniture and equipment............................ 217,786 440,162
Molds and tooling......................................... 3,647,638 5,826,643
Leasehold improvements.................................... 90,432 195,909
----------- -----------
Total............................................. 3,955,856 6,462,714
Less accumulated depreciation and amortization............ 1,099,207 2,173,708
----------- -----------
Property and equipment, net....................... 2,856,649 4,289,006
Deferred offering and acquisition costs..................... 626,713 408,151
Intangibles and deposits, net............................... 318,511 489,936
Investment in joint venture................................. -- 1,044,708
Goodwill, net............................................... 10,695,488 10,322,896
Trademarks, net............................................. 14,180,118 13,548,054
----------- -----------
Total assets...................................... $43,604,815 $58,735,765
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable.......................................... $ 4,266,456 $ 3,705,116
Accrued expenses.......................................... 2,467,246 4,371,711
Reserve for sales returns and allowances.................. 1,860,821 5,341,517
Current portion of long-term debt......................... 2,361,076 60,000
Income taxes payable...................................... 603,614 1,418,763
----------- -----------
Total current liabilities......................... 11,559,213 14,897,107
Long-term debt, net of current portion...................... 6,000,000 5,940,000
Deferred income taxes....................................... 86,896 144,705
----------- -----------
Total liabilities................................. 17,646,109 20,981,812
----------- -----------
Commitments and contingencies
Stockholders' equity
Common stock, $.001 par value; 25,000,000 shares
authorized; issued and outstanding 4,942,094 and
6,026,042 shares, respectively......................... 4,942 6,026
Convertible preferred stock, $.001 par value; 5,000 shares
authorized; issued and outstanding 3,525 and 1,000,
respectively........................................... 4 1
Additional paid-in capital................................ 21,693,061 27,044,536
Retained earnings......................................... 4,402,636 10,777,662
----------- -----------
26,100,643 37,828,225
Unearned compensation from grant of options............... 141,937 74,272
----------- -----------
Total stockholders' equity........................ 25,958,706 37,753,953
----------- -----------
Total liabilities and stockholders' equity........ $43,604,815 $58,735,765
=========== ===========
See notes to consolidated financial statements.
20
22
JAKKS PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31,
-----------------------------------------
1996 1997 1998
----------- ----------- -----------
Net sales........................................... $12,052,016 $41,944,921 $85,252,563
Cost of sales....................................... 7,231,296 25,874,784 52,000,135
----------- ----------- -----------
Gross profit........................................ 4,820,720 16,070,137 33,252,428
Selling, general and administrative expenses........ 3,611,471 11,895,260 24,006,497
----------- ----------- -----------
Income from operations.............................. 1,209,249 4,174,877 9,245,931
Interest, net....................................... (133,795) 417,293 422,553
Other (income) expense.............................. -- 328,139 590,948
----------- ----------- -----------
Income before provision for income taxes............ 1,343,044 3,429,445 8,232,430
Provision for income taxes.......................... 163,275 642,949 1,857,404
----------- ----------- -----------
Net income.......................................... $ 1,179,769 $ 2,786,496 $ 6,375,026
=========== =========== ===========
Basic earnings per share............................ $ 0.36 $ 0.60 $ 1.12
=========== =========== ===========
Diluted earnings per share.......................... $ 0.34 $ 0.52 $ 0.89
=========== =========== ===========
See notes to consolidated financial statements.
21
23
JAKKS PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
DECEMBER 31, 1996, 1997 AND 1998
CONVERTIBLE PAR UNEARNED
COMMON PREFERRED VALUE ADDITIONAL COMPENSATION TOTAL
SHARES SHARES PER STOCK PAID-IN RETAINED FROM GRANT STOCKHOLDERS'
OUTSTANDING OUTSTANDING SHARE AMOUNT CAPITAL EARNINGS OF OPTIONS EQUITY
----------- ----------- ----- ------ ----------- ----------- ------------ -------------
Balance, December 31,
1995.................... 2,000,000 -- $.001 $2,000 $ 1,624,238 $ 436,371 $(212,905) $ 1,849,704
Issuance of common stock
for cash................ 1,502,000 -- .001 1,502 7,652,761 -- -- 7,654,263
Issuance of common stock
from bridge financing
conversion.............. 469,300 -- .001 469 1,044,310 -- -- 1,044,779
Issuance of common stock
in partial consideration
for purchase of toy
business assets......... 13,649 -- .001 14 (14) -- -- --
Earned compensation from
grant of options........ -- -- -- -- -- -- 17,742 17,742
Net income................ -- -- -- -- -- 1,179,769 -- 1,179,769
--------- ------ ----- ------ ----------- ----------- --------- -----------
Balance, December 31,
1996.................... 3,984,949 -- .001 3,985 10,321,295 1,616,140 (195,163) 11,746,257
Issuance of common stock
for cash................ 690,000 -- .001 690 2,921,063 -- -- 2,921,753
Exercise of options....... 69,125 -- .001 69 132,555 -- -- 132,624
Issuance of common stock
in partial consideration
for purchase of toy
business................ 198,020 -- .001 198 1,499,802 -- -- 1,500,000
Issuance of convertible
preferred stock for
cash.................... -- 3,525 .001 4 6,818,346 -- -- 6,818,350
Earned compensation from
grant of options........ -- -- -- -- -- -- 53,226 53,226
Net income................ -- -- -- -- -- 2,786,496 -- 2,786,496
--------- ------ ----- ------ ----------- ----------- --------- -----------
Balance, December 31,
1997.................... 4,942,094 3,525 .001 4,946 21,693,061 4,402,636 (141,937) 25,958,706
Conversion of preferred
stock................... -- (3,525) .001 (4) 4 -- -- --
Issuance of common stock
from conversion of
preferred stock......... 939,998 -- .001 940 (940) -- -- --
Issuance of 7% convertible
preferred stock for
cash.................... -- 1,000 .001 1 4,731,151 -- -- 4,731,152
Exercise of options....... 143,950 -- .001 144 647,248 -- -- 647,392
Earned compensation from
grant of options........ -- -- -- -- -- -- 41,677 41,677
Cancellation of options,
unearned compensation... -- -- -- -- (25,988) -- 25,988 --
Net income................ -- -- -- -- -- 6,375,026 -- 6,375,026
--------- ------ ----- ------ ----------- ----------- --------- -----------
Balance, December 31,
1998.................... 6,026,042 1,000 $.001 $6,027 $27,044,536 $10,777,662 $ (74,272) $37,753,953
========= ====== ===== ====== =========== =========== ========= ===========
See notes to consolidated financial statements.
22
24
JAKKS PACIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31,
------------------------------------------
1996 1997 1998
----------- ------------ -----------
Cash flows from operating activities
Net income........................................... $ 1,179,769 $ 2,786,496 $ 6,375,026
----------- ------------ -----------
Adjustments to reconcile net income to net cash
provided (used) by operating activities
Depreciation and amortization..................... 338,032 1,605,226 2,986,137
Earned compensation from stock option grants...... 17,742 53,226 41,677
Loss on disposal of property and equipment........ -- 328,139 719,331
Changes in operating assets and liabilities
Accounts receivable............................. (1,844,981) (6,315,058) (3,191,197)
Inventory....................................... (53,977) (1,808,145) (970,691)
Prepaid expenses and other...................... (973,076) (450,545) 357,374
Accounts payable................................ 899,929 2,655,469 (561,340)
Accrued expenses................................ 27,049 2,262,159 1,904,465
Income taxes payable............................ 191,622 331,009 815,149
Reserve for sales returns and allowances........ (285,513) 1,685,621 3,480,696
Deferred income taxes........................... (40,186) 94,427 57,809
----------- ------------ -----------
Total adjustments............................ (1,723,359) 441,528 5,639,410
----------- ------------ -----------
Net cash provided (used) by operating
activities................................. (543,590) 3,228,024 12,014,436
----------- ------------ -----------
Cash flows from investing activities
Deferred offering and acquisition costs.............. (85,300) -- --
Property and equipment............................... (1,058,654) (2,934,935) (3,875,852)
Due from officers.................................... (120,030) 104,918 15,112
Other assets......................................... (49,129) (241,572) (197,928)
Trademarks........................................... -- (14,352,556) (12,252)
Investment in joint venture.......................... -- -- (1,044,708)
Cash paid in excess of cost over toy business assets
acquired (goodwill)............................... -- (7,006,753) --
----------- ------------ -----------
Net cash used by investing activities........ (1,313,113) (24,430,898) (5,115,628)
----------- ------------ -----------
Cash flows from financing activities
Proceeds from sale of common stock................... 7,669,263 2,946,603 --
Proceeds from convertible preferred stock............ -- 6,818,350 4,731,152
Proceeds from debt................................... 1,104,694 13,413,659 --
Repayments of note payable to officer................ (382,816) -- --
Proceeds from stock options exercised................ -- 132,624 647,392
Repayments of debt................................... (260,930) (5,245,665) (2,361,076)
Deferred financing costs............................. -- (682,032) --
----------- ------------ -----------
Net cash provided by financing activities.... 8,130,211 17,383,539 3,017,468
----------- ------------ -----------
Net increase (decrease) in cash and cash equivalents... 6,273,508 (3,819,335) 9,916,276
Cash and cash equivalents, beginning of year........... 81,752 6,355,260 2,535,925
----------- ------------ -----------
Cash and cash equivalents, end of year................. $ 6,355,260 $ 2,535,925 12,452,201
----------- ------------ -----------
Cash paid during the period for:
Interest............................................. $ 49,638 $ 648,187 $ 647,404
----------- ------------ -----------
Income taxes......................................... $ 11,839 $ 217,213 $ 1,042,255
----------- ------------ -----------
See note 16 for additional supplemental information to consolidated
statements of cash flows.
See notes to consolidated financial statements.
23
25
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998
NOTE 1 -- PRINCIPAL INDUSTRY
JAKKS Pacific, Inc. (the "Company"), a Delaware corporation, is engaged in
the development, production and marketing of toys and children's electronics
products, some of which are based on highly-recognized entertainment properties
and character licenses. The Company commenced operations in July 1995 through
the purchase of substantially all of the assets of a Hong Kong toy company. The
Company is marketing its product lines domestically and internationally.
The Company was incorporated under the laws of the State of Delaware in
January 1995.
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation
The consolidated financial statements include accounts of the Company and
its wholly-owned subsidiaries. In consolidation, all significant inter-company
balances and transactions are eliminated.
Cash and cash equivalents
The Company considers all highly liquid assets, having an original maturity
of less than three months, to be cash equivalents. The Company maintains its
cash in bank deposits which, at times, may exceed federally insured limits. The
Company has not experienced any losses in such accounts. The Company believes it
is not exposed to any significant credit risk on cash and cash equivalents.
Use of estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities at the dates of the financial
statements, and the reported amounts of revenue and expenses during the
reporting periods. Actual future results could differ from those estimates.
Revenue recognition
Revenue is recognized upon the shipment of goods to customers. Provisions
for estimated defective products and markdowns are made at the time of sale.
Deferred product development costs
The Company defers certain costs related to the preliminary activities
associated with the manufacture of its products, which the Company has
determined have future economic benefit. These costs are then expensed in the
period in which the initial shipment of the related product is made. Management
periodically reviews and revises, when necessary, its estimate of the future
benefit of these costs, and expenses them if it is deemed there no longer is a
future benefit.
Deferred offering, financing and acquisition costs
During 1997, financing costs were incurred in obtaining a line of credit
facility. The deferred financing costs are being amortized over the term of the
credit facility.
During 1996, costs incurred for a follow-on offering, debenture offering
and certain acquisition costs were deferred. The deferred acquisition costs were
reclassified to investment costs upon completion of the
24
26
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
acquisition of Road Champs, Inc. The deferred offering costs related to the
debentures are being amortized over the term of the debentures, or will be
written-off upon conversion (note 8).
Inventory
Inventory is valued at the lower of cost (first-in, first-out) or market.
Fair value of financial instruments
The Company's cash and cash equivalents, accounts receivable and notes
payable represent financial instruments. The carrying value of these financial
instruments is a reasonable approximation of fair value.
Property and equipment
Property and equipment are stated at cost and are being depreciated using
the straight-line method over their estimated useful lives as follows:
Personal computers................................ 5 years
Office equipment.................................. 5 years
Furniture and fixtures............................ 5 years
Molds and tooling................................. 2 - 4 years
Leasehold improvements............................ Shorter of length of lease or 10 years
Advertising
Production costs of commercials and programming are charged to operations
in the year during which the production is first aired. The costs of other
advertising, promotion and marketing programs are charged to operations in the
year incurred. Advertising expense for the years ended December 31, 1996, 1997
and 1998 was approximately $22,000, $1,304,000 and $3,903,000, respectively.
Income taxes
The Company does not file a consolidated return with its foreign
subsidiaries. The Company files Federal and state returns and its foreign
subsidiaries file Hong Kong returns. Deferred taxes are provided on a liability
method whereby deferred tax assets are recognized as deductible temporary
differences and operating loss and tax credit carry-forwards and deferred tax
liabilities are recognized for taxable temporary differences. Temporary
differences are the differences between the reported amounts of assets and
liabilities and their tax basis. Deferred tax assets are reduced by a valuation
allowance when, in the opinion of management, it is more likely than not that
some portion or all of the deferred tax assets will not be realized. Deferred
tax assets and liabilities are adjusted for the effects of changes in tax laws
and rates on the date of enactment.
Translation of foreign currencies
Monetary assets and liabilities denominated in Hong Kong dollars are
translated into United States dollars at the rates of exchange ruling at the
balance sheet date. Transactions during the period are translated at the rates
ruling at the dates of the transactions.
Profits and losses resulting from the above translation policy are
recognized in the consolidated statement of operations.
25
27
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Goodwill and other intangible assets
Goodwill represents the excess purchase price paid over the fair market
value of the assets of acquired toy companies. Goodwill is being amortized over
30 years on a straight-line basis. Accumulated amortization at December 31, 1997
and 1998 totaled $482,263 and $632,519, respectively.
The carrying value of goodwill is based on management's current assessment
of recoverability. Management evaluates recoverability using both objective and
subjective factors. Objective factors include management's best estimates of
projected future earnings and cash flows and analysis of recent sales and
earnings trends. Subjective factors include competitive analysis and the
Company's strategic focus.
Intangible assets other than goodwill consist of product technology rights
and trademarks. Intangible assets are amortized on a straight-line basis, over
five to thirty years, the estimated economic lives of the related assets.
Accumulated amortization as of December 31, 1997 and 1998 was $192,606 and
$1,177,306, respectively.
Earnings per share (EPS)
In February 1997, the Financial Accounting Standards Board issued SFAS No.
128, "Earnings per Share." This statement establishes simplified standards for
computing and presenting earnings per share (EPS). It requires dual presentation
of basic and diluted EPS on the face of the income statement for entities with
complex capital structures and disclosures of the calculation of each EPS
amount.
1996
------------------------------------
WEIGHTED
AVERAGE
INCOME SHARES PER SHARE
---------- --------- ---------
Basic EPS
Income available to common stockholders................... $1,179,769 3,284,432 $ 0.36
=========
Effect of dilutive securities
Options and warrants...................................... -- 219,335
---------- ---------
Diluted EPS
Income available to common stockholders plus assumed
exercises............................................... $1,179,769 3,503,767 $ 0.34
========== ========= =========
1997
------------------------------------
WEIGHTED
AVERAGE
INCOME SHARES PER SHARE
---------- --------- ---------
Basic EPS
Income available to common stockholders................... $2,786,496 4,621,369 $ 0.60
=========
Effect of dilutive securities
Options and warrants...................................... -- 187,761
9% convertible debentures................................. 363,286 1,023,411
4% convertible preferred stock............................ -- 175,904
---------- ---------
Diluted EPS
Income available to common stockholders plus assumed
exercises and conversions............................... $3,149,782 6,008,445 $ 0.52
========== ========= =========
26
28
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
1998
------------------------------------
WEIGHTED
AVERAGE
INCOME SHARES PER-SHARE
---------- --------- ---------
Basic EPS
Income available to common stockholders................... $6,375,026 5,692,601 $ 1.12
=========
Effect of dilutive securities
Options and warrants...................................... -- 217,898
9% convertible debentures................................. 372,732 1,043,480
4% convertible preferred stock............................ -- 227,252
7% convertible preferred stock............................ -- 420,528
---------- ---------
Diluted EPS
Income available to common stockholders plus assumed
exercises and conversions............................... $6,747,758 7,601,759 $ 0.89
========== ========= =========
NOTE 3 -- ACQUISITIONS AND JOINT VENTURE
In February 1997, the Company acquired all of the stock of Road Champs,
Inc. (RCI) and all of the operating assets of an affiliated company for
$11,723,924. Consideration paid at closing was $4,719,413 in cash plus the
issuance of $1,500,000 (198,020 shares) of the Company's common stock. The
balance of the adjusted purchase price of $3,079,026 was paid in three equal
installments bearing interest at a rate of 7.0% per annum. As of December 31,
1998, all such payments were made in full. In addition, the payment for
inventory of $2,188,778, without interest, was made in 1997. Professional fees
totaling $236,707 were incurred as part of the acquisition costs. Outstanding
balances were secured by all acquired shares and assets, however, they were
subordinated to the convertible debentures due December 31, 2003 (note 8).
The assets acquired and liabilities assumed from RCI were as follows:
Inventory, net of reserve of $200,000....................... $ 1,956,358
Prepaid expenses............................................ 226,881
Property and equipment...................................... 694,788
Deposits.................................................... 105,461
Trademarks.................................................. 1,000,000
Goodwill.................................................... 8,506,753
Liabilities assumed......................................... (766,317)
-----------
Net assets acquired $11,723,924
===========
In October 1997, the Company acquired the right, title and interest in and
to the Remco and Child Guidance (R&CG) trademarks, and all registrations and
applications for registration thereof, throughout the world. Total costs of the
trademarks included:
Cash........................................................ $10,600,000
Promissory note............................................. 1,200,000
Liabilities assumed......................................... 1,350,000
Professional service fees................................... 202,556
-----------
Total acquisition costs $13,352,556
===========
27
29
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 3 -- ACQUISITIONS AND JOINT VENTURE (CONTINUED)
The total purchase price paid to the seller consisted of cash and a
promissory note totaling $11,800,000. The liabilities assumed included a reserve
for returns and allowances of $750,000 and a reserve of $600,000 that represents
the Company's contributions to the seller's settlement with its Hong Kong
representative agent for early termination of its service contract due to sale
of the trademarks. Costs incurred in professional service fees of $202,556 are
attributed to executing the acquisition of the trademarks. The Company also
entered into a firm commitment, manufacturing and supply agreement with seller
(note 12).
In June 1998, the Company formed a joint venture with a company that
develops, publishes and distributes interactive entertainment software for the
leading hardware game platforms in the home video game market. The joint venture
has entered into a license agreement under which it acquired the exclusive
worldwide right to publish video games on all hardware platforms. As of December
31, 1998, the Company has made initial contributions to the joint venture of
$1,044,708 (note 12).
NOTE 4 -- CONCENTRATION OF CREDIT RISK
Financial instruments that subject the Company to concentration of credit
risk are cash equivalents and trade receivables. Cash equivalents consist
principally of short-term money market funds. These instruments are short-term
in nature and bear minimal risk. To date, the Company has not experienced losses
on these instruments.
The Company performs ongoing credit evaluations of its customers' financial
condition, but does not require collateral to support customer receivables. Most
goods are sold on irrevocable letter of credit basis.
Included in the Company's consolidated balance sheets at December 31, 1997
and 1998 are its operating net assets, most of which are located in facilities
in Hong Kong and China and which totaled $8,948,131 and $8,627,240 for 1997 and
1998, respectively.
NOTE 5 -- DUE FROM OFFICERS
Due from officers represented a balance of $15,112 at December 31, 1997 due
from a Company officer. The $15,112, due on demand, was non-interest bearing and
was repaid in 1998.
NOTE 6 -- ACCRUED EXPENSES
Accrued expenses consist of the following:
1997 1998
---------- ----------
Bonuses............................................. $ 254,737 $ 841,000
Trademarks acquisition reserve...................... 600,000 177,245
Interest expense.................................... 37,607 --
Royalties and sales commissions..................... 1,130,512 2,681,973
Hong Kong subsidiaries accruals..................... 384,747 529,722
Other............................................... 59,643 141,771
---------- ----------
$2,467,246 $4,371,711
========== ==========
NOTE 7 -- RELATED PARTY TRANSACTIONS
A director of the Company is a partner in the law firm that acts as counsel
to the Company. The Company paid legal fees and expenses to the law firm in the
amount of approximately $270,000 in 1996, $151,000 in 1997 and $510,000 in 1998.
Also see note 5 for other related party transactions.
28
30
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 8 -- LONG-TERM DEBT
Long-term debt consists of the following:
1997 1998
---------- ----------
Convertible debentures, bearing interest on the principal
amounts outstanding at 9% per annum with the first monthly
installment payable on February 1, 1997. If not sooner
redeemed or converted into common stock, the debenture
shall mature on December 31, 2003. Commencing on December
31, 1999, mandatory monthly principal redemption
installments are to be made in the amount of $10 per
$1,000 of the then remaining principal amount of the
debenture. Such debentures are convertible into 1,043,480
shares of the Company's common stock at $5.75 per share.
The debentures are secured by all outstanding shares of
the Company's wholly-owned subsidiaries and substantially
all operating assets of the Company (note 2).............. $6,000,000 $6,000,000
Note payable, due in five quarterly principal installments
of $240,000 starting December 31, 1997, with interest at
10% per annum. The note is secured by the Remco and Child
Guidance trademarks....................................... 1,200,000 --
Note payable, due in three principal payments with the final
installment due February 6, 1998, with interest at 7% per
annum. The note is secured by the RCI assets.............. 1,046,376 --
Line of credit facility (note 12)........................... 114,700 --
---------- ----------
8,361,076 6,000,000
Less current portion of long-term debt...................... 2,361,076 60,000
---------- ----------
Long-term debt, net of current portion...................... $6,000,000 $5,940,000
========== ==========
NOTE 9 -- INCOME TAXES
The provision differs from the expense that would result from applying
Federal statutory rates to income before taxes because of the inclusion of a
provision for state income taxes and the income of the Company's foreign
subsidiaries is taxed at a rate of 16.5% applicable in Hong Kong. In addition,
the provision includes deferred income taxes resulting from adjustments in the
amount of temporary differences. Temporary differences arise primarily from
differences in timing in the deduction of state income taxes and the use of the
straight-line method of depreciation for financial reporting purposes and
accelerated methods of depreciation for tax purposes.
The Company does not file a consolidated return with its foreign
subsidiaries. The Company files Federal and state returns and its foreign
subsidiaries file Hong Kong returns. Income taxes reflected in the accompanying
consolidated statements of operations are comprised of the following:
1996 1997 1998
--------- -------- ----------
Federal.......................................... $ -- $ -- $ 715,000
State and local.................................. 1,350 26,000 210,000
Hong Kong........................................ 277,994 522,522 874,595
--------- -------- ----------
279,344 548,522 1,799,595
Deferred......................................... (116,069) 94,427 57,809
--------- -------- ----------
$ 163,275 $642,949 $1,857,404
========= ======== ==========
29
31
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 9 -- INCOME TAXES (CONTINUED)
As of December 31, 1998, the Company has utilized all net operating loss
carry-forwards.
1997 1998
--------- ---------
Deferred tax assets resulting from deductible temporary
differences from loss carry-forwards, noncurrent.......... $ 258,239 $ 493,134
Deferred tax liabilities resulting from taxable temporary
differences, noncurrent................................... (345,135) (637,839)
--------- ---------
$ (86,896) $(144,705)
========= =========
The Company's management concluded that a deferred tax asset valuation
allowance as of December 31, 1997 and 1998 was not necessary.
A reconciliation of the statutory United States Federal income tax rate to
the Company's effective income tax rate is as follows:
1996 1997 1998
---- ---- ----
Statutory income tax rate................................... 35% 35% 35%
State and local income taxes, net of Federal income tax
effect.................................................... 1 1 1
Effect of temporary differences and Hong Kong's lower tax
rate...................................................... -- -- (22)
Effect of net operating loss carry-forwards................. (40) (35) (11)
Income taxes on foreign earnings at rates other than the
United States Statutory rate not subject to United States
income taxes.............................................. 16 18 19
--- --- ---
12% 19% 22%
=== === ===
The components of income before provision for income taxes are as follows:
1996 1997 1998
---------- ---------- ----------
Domestic....................................... $ (360,040) $ 16,216 $3,681,456
Foreign........................................ 1,703,084 3,413,229 4,550,974
---------- ---------- ----------
$1,343,044 $3,429,445 $8,232,430
========== ========== ==========
NOTE 10 -- LEASES
The Company leases office and showroom facilities and certain equipment
under operating leases. The following is a schedule of minimum annual lease
payments. Rent expense for the years ended December 31, 1996, 1997 and 1998
totaled $182,690, $582,766 and $550,360, respectively.
1999............................................. $ 549,360
2000............................................. 423,940
2001............................................. 324,852
2002............................................. 223,632
2003............................................. 23,032
----------
$1,544,816
==========
30
32
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 11 -- COMMON STOCK AND PREFERRED STOCK
The Company has 25,005,000 authorized shares of stock consisting of
25,000,000 shares of $.001 par value common stock and 5,000 shares of $.001 par
value preferred stock.
On April 1, 1998, the Company sold 1,000 shares of its Series A 7%
cumulative convertible preferred stock to two investors for $4,731,152, net of
issuance costs. The holders of the shares have the right, at their option, to
convert such shares into common stock of the Company at any time. The price at
which shares of common stock shall be delivered upon conversion shall initially
be $8.95 per share of common stock. The conversion price may be adjusted in
certain instances. Preferred stockholders are entitled to receive cumulative
cash dividends at an annual rate of $350 per share payable as and when declared
by the Company's Board of Directors.
During 1998, 143,950 shares of the Company's common stock were issued on
exercise of options for a total of $647,392.
During 1997, the Company issued 690,000 shares of its common stock in a
public offering and 198,020 shares as partial consideration for the RCI
acquisition (note 3).
During 1997, in a private placement, the Company issued 3,525 shares of its
4% redeemable convertible preferred stock at a purchase price of $2,000 per
share. On March 12, 1998, all of the 3,525 shares of such issue were converted
into an aggregate of 939,998 shares of the Company's common stock based on a
conversion price of $7.50 per share.
NOTE 12 -- COMMITMENTS
The Company has entered into various license agreements whereby the Company
may use certain characters and properties in conjunction with its products. Such
license agreements call for royalties to be paid at 5 to 10% of net sales with
minimum guarantees and advance payments. Additionally, under one such license,
the Company has committed to spend 12.5% of related net sales, not to exceed
$1,000,000, on advertising per year.
Future annual minimum royalty guarantees as of December 31, 1998 are as
follows:
1999............................................ $ 1,752,833
2000............................................ 1,653,583
2001............................................ 1,551,750
2002............................................ 1,475,000
2003............................................ 1,380,000
Thereafter...................................... 9,387,500
-----------
$17,200,666
===========
The Company entered into a joint venture agreement (note 3) creating a new
limited liability company (LLC) in which the Company holds a 50% ownership
interest. On June 10, 1998, the LLC entered into a license agreement expiring
December 31, 2009, with an option for a five year automatic extension if the LLC
pays the licensor $27,000,000 in royalties during the initial ten year period of
the agreement. The license agreement includes guaranteed minimum royalty
payments of $18,000,000 payable over the ten year initial term and $7,500,000
payable over the five year renewal period, if applicable. The Company is
responsible for funding $7,500,000 of the $18,000,000 guaranteed royalty
payments. The guarantee payments include a $3,000,000 advance, paid within 15
days after the agreements were executed, and ten minimum guaranteed installments
of $1,500,000, due each January 30, starting in 2000 and ending 2009. The
Company was responsible for funding $1,000,000 of the initial advance and is
responsible for funding $500,000 of the first
31
33
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 12 -- COMMITMENTS (CONTINUED)
four and $750,000 of the next six of ten yearly installments. All unpaid
guaranteed amounts for which the Company is responsible as of December 31, 1998
are included in the totals of the "future annual minimum royalty guarantees"
table noted above. The $7,500,000 renewal guaranteed will be payable in five
yearly installments, of which the Company will be responsible for funding 50% of
each yearly payment.
The Company entered into a firm price commitment manufacturing and supply
agreement in connection with the acquisition of the R&CG trademarks purchased in
1997 (note 3). The agreement was entered into with the seller of the trademarks
to obtain from the seller tools and other manufacturing resources of the seller
for the manufacture of products, upon request by the Company. The manufacturing
and supply agreement has created a firm commitment by the Company for a minimum
of $1,400,000. A minimum payment of $110,000 on the agreement was due on
December 31, 1997, with three additional payments of $110,000 and six payments
of $160,000 to follow thereafter, through March 31, 2000, which is also the date
on which the agreement terminates.
The Company and its subsidiaries are acting as joint and several guarantors
of a $5,000,000 conditional, secured, revolving, short-term trade facility
available to the Company's Hong Kong wholly-owned subsidiaries. Proceeds on the
credit facility are to finance working capital needs and operations in the
normal course of business. At December 31, 1997 and 1998, there were unused
amounts available on the line of credit of $4,885,300 and $5,000,000 and
outstanding balances of $114,700 and $0, respectively. Outstanding balances
accrue interest at rates equal to the bank's base rate of interest plus 1% per
annum for advances of open accounts receivable, and the bank's base rate of
interest plus 1/2% for advances received under negotiation of export letters of
credit. At December 31, 1998, the credit facility carried interest at rates of
9.5% and 9%, respectively. Outstanding balances are collateralized by all assets
of the borrower and accounts receivable and inventory of the guarantors. The
credit facility expires May 31, 1999, unless terminated sooner (note 8).
NOTE 13 -- STOCK OPTION PLAN
Under its Third Amended and Restated 1995 Stock Option Plan (the Plan), the
Company has reserved 1,250,000 shares of its common stock for issuance upon
exercise of options granted under the Plan. In 1998, stockholders approved an
increase of 500,000 shares in the number of shares available for grant. Under
the Plan, employees (including officers), non-employee directors and independent
consultants may be granted options to purchase shares of common stock. Prior to
the adoption of the Plan in 1995, options for 276,500 shares were granted at an
exercise price of $2.00 per share. The Company recorded deferred compensation
costs and a related increase in paid-in capital of $212,905 for the difference
between the grant price and the deemed fair market value of the common stock of
$2.77 per share at the date of grant. Such compensation costs are recognized on
a straight-line basis over the vesting period of the options, which is 25% per
year commencing twelve months after the grant date of such options. In 1996,
1997 and 1998, the fair value of each employee option grant was estimated on the
date of grant using the Black-Scholes option-pricing model with the following
assumptions used: risk-free rate of interest of 6%; dividend yield of 0%; and
expected lives of five years.
As of December 31, 1998, 308,000 shares were available for future grant.
Additional shares may become available to the extent that options presently
outstanding under the Plan terminate or expire unexercised.
32
34
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 13 -- STOCK OPTION PLAN (CONTINUED)
Stock option activity pursuant to the Plan is summarized as follows:
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
--------- --------
Outstanding, December 31, 1995........................... 10,850 $ 4.50
Granted................................................ 114,625 6.70
Exercised.............................................. -- --
Canceled............................................... -- --
------- --------
Outstanding, December 31, 1996........................... 125,475 6.51
Granted................................................ 405,025 9.92
Exercised.............................................. -- --
Canceled............................................... -- --
------- --------
Outstanding, December 31, 1997........................... 530,500 9.12
Granted................................................ 484,500 8.38
Exercised.............................................. (31,800) 8.18
Canceled............................................... (73,000) 8.77
------- --------
Outstanding, December 31, 1998........................... 910,200 $ 8.79
======= ========
Stock option activity outside of the Plan is summarized as follows:
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
--------- --------
Outstanding, December 31, 1995.......................... 276,500 $ 2.00
Granted............................................... 75,000 7.54
Exercised............................................. -- --
Canceled.............................................. -- --
-------- --------
Outstanding, December 31, 1996.......................... 351,500 3.18
Granted............................................... 60,000 6.88
Exercised............................................. (69,125) 2.00
Canceled.............................................. -- --
-------- --------
Outstanding, December 31, 1997.......................... 342,375 4.07
Granted............................................... -- --
Exercised............................................. (100,900) 3.93
Canceled.............................................. (33,750) 2.00
-------- --------
Outstanding, December 31, 1998.......................... 207,725 $ 4.47
======== ========
The weighted average fair value of options granted to employees in 1996,
1997 and 1998 was $2.30, $5.01 and $6.15 per share, respectively.
33
35
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 13 -- STOCK OPTION PLAN (CONTINUED)
The following table summarizes information about stock options outstanding
and exercisable at December 31, 1998:
OUTSTANDING EXERCISABLE
-------------------------------- --------------------
WEIGHTED WEIGHTED
WEIGHTED AVERAGE AVERAGE
NUMBER AVERAGE EXERCISE NUMBER EXERCISE
OPTION PRICE RANGE OF SHARES LIFE PRICE OF SHARES PRICE
------------------ --------- --------- -------- --------- --------
$2.00 - $10.725................................ 1,117,925 5.7 years $7.99 434,400 $7.53
In addition, as of December 31, 1998, 635,000 shares were reserved for
issuance upon exercise of warrants granted in connection with the Company's
initial public offering, follow-on public offering, private placement of
convertible debentures and certain license agreements, at exercise prices
ranging from $6.75 to $10.00 per share.
Had the compensation cost for the Company's Plan been determined on a basis
consistent with SFAS No. 123, the Company's net income and earnings per share
(EPS) for 1996, 1997 and 1998 would approximate the pro forma amounts below,
which are not indicative of future amounts:
YEARS ENDED DECEMBER 31,
--------------------------------------------------------------------------
1996 1997 1998
----------------------- ----------------------- ----------------------
AS AS AS
REPORTED PRO FORMA REPORTED PRO FORMA REPORTED PRO FORMA
---------- ---------- ---------- ---------- --------- ----------
SFAS No. 123 charge, net of
tax....................... $ -- $ 18,172 $ -- $ 132,895 -- $ 551,541
Net income.................. 1,179,769 1,161,597 2,786,496 2,653,601 6,375,026 5,823,485
Basic EPS................... 0.36 0.35 0.60 0.57 1.12 1.02
Diluted EPS................. 0.34 0.33 0.52 0.50 0.89 0.82
NOTE 14 -- PROFIT SHARING PLAN
Effective January 1, 1997, the Company adopted a 401(k) profit sharing plan
and trust (Plan). The Plan is for the exclusive benefit of eligible employees
and beneficiaries. Under the Plan, employees may choose to reduce their
compensation and have those amounts contributed to the Plan on their behalf.
Contributions made to the Plan will be held and invested by the Plan's trustee.
The Company will act as the Plan's administrator. The Plan year begins on
January 1st and ends on December 31st. Employees then employed were eligible to
participate in the Plan as of the effective date. Otherwise, employees may be
eligible to participate in the Plan after they have completed one year of
service. The Company will make matching contributions equal to 50% of the amount
of salary reduction deferred. However, in applying the matching percent, only
salary reductions up to 10% of compensation will be considered. The Company may
also make discretionary contributions to the Plan each year. Participants may
elect to defer up to 15% of their compensation each year. However, deferrals in
any taxable year may not exceed a dollar limit which is set by law. The limit
for 1998 was $10,000. Vesting in the Plan is based on years of service, as
follows:
YEARS OF SERVICE CUMULATIVE PERCENT VESTED
---------------- -------------------------
1 20%
2 40
3 60
4 80
5 100
34
36
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 14 -- PROFIT SHARING PLAN (CONTINUED)
Participants are immediately 100% vested in their salary reduction amounts
contributed to the Plan.
The Company has the right to amend and, terminate the Plan at any time.
Upon termination, all amounts credited to participants accounts will become 100%
vested.
As of December 31, 1998, the Plan has not been "qualified" under the
provisions of the Internal Revenue Code, and for the year then ended, the
Company contributed $65,217 in matching contributions to the Plan.
NOTE 15 -- MAJOR CUSTOMERS AND INTERNATIONAL SALES
Net sales to major customers were as follows:
1996 1997 1998
------------------------ ------------------------- -------------------------
AMOUNT PERCENTAGE AMOUNT PERCENTAGE AMOUNT PERCENTAGE
---------- ---------- ----------- ---------- ----------- ----------
$3,398,000 28.2% $14,689,000 35.0% $23,604,000 27.7%
1,679,000 13.9 3,422,000 8.2 11,103,000 13.0
1,008,000 8.4 3,199,000 7.6 10,944,000 12.8
847,000 7.0 2,658,000 6.3 9,951,000 11.7
509,000 4.2 1,925,000 4.6 3,717,000 4.4
---------- ---- ----------- ---- ----------- ----
$7,441,000 61.7% $25,893,000 61.7% $59,319,000 69.6%
========== ==== =========== ==== =========== ====
Net sales to international customers totaled approximately $1,043,000,
$3,733,000 and $6,309,000 in 1996, 1997 and 1998, respectively.
NOTE 16 -- SUPPLEMENTAL INFORMATION TO CONSOLIDATED STATEMENTS OF CASH FLOWS
On March 30, 1998, the 3,525 shares of 4% redeemable convertible preferred
stock with a total stockholders' equity value of $6,818,350 were converted into
an aggregate of 939,998 shares of the Company's common stock.
In 1997, 198,020 shares of common stock valued at $1,500,000 were issued in
connection with the acquisition of RCI (note 3).
In 1996, 469,300 shares of common stock were issued pursuant to the
conversion of bridge financing promissory notes which provided net proceeds of
$1,044,779.
NOTE 17 -- RECENT ACCOUNTING PRONOUNCEMENTS
In March 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 130, "Reporting
Comprehensive Income." This statement establishes standards for reporting and
display of comprehensive income and its components in a full set of general-
purpose financial statements. This statement requires that all items that are
required to be recognized under accounting standards as components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. This new standard requires
that an enterprise classify items of other comprehensive income by their nature
in a financial statement; display the accumulated balances of other
comprehensive income separately from retained earnings and additional paid-in
capital in the equity section of a statement of financial position. This
statement is effective for fiscal years beginning after December 15, 1997. To
date, the Company has not had any transactions that are required to be reported
in other comprehensive income.
35
37
JAKKS PACIFIC, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1998
NOTE 17 -- RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of
an Enterprise and Related Information." This statement requires public business
enterprises to report financial and descriptive information about reportable
segments. The statement also establishes standards for related disclosures about
products and services, geographic areas and major customers. This statement is
effective for fiscal years beginning after December 15, 1997. The Company
operates in one reportable segment: the development, production and marketing of
toy and related products.
NOTE 18 -- SUBSEQUENT EVENT
On March 1, 1999, the holders of the Company's 9% convertible debentures
have elected to convert an aggregate of $3,000,000 principal amount of the
debentures into 521,740 shares of the Company's common stock on May 25, 1999.
36
38
JAKKS PACIFIC, INC. AND SUBSIDIARIES
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
Allowances are deducted from the assets to which they apply, except for
sales returns and allowances.
BALANCE AT CHARGED TO CHARGED TO BALANCE
BEGINNING OF COSTS AND OTHER AT END
PERIOD EXPENSES ACCOUNTS DEDUCTIONS OF PERIOD
------------ ---------- ---------- ---------- ----------
Year ended December 31, 1996:
Allowance for:
Uncollectible accounts............. $ -- $ -- $ -- $ -- $ --
Reserve for potential product
obsolescence.................... -- -- -- -- --
Reserve for sales returns and
allowances...................... 460,513 253,568 -- 539,081 175,000
---------- ---------- ---------- ---------- ----------
$ 460,513 $ 253,568 $ -- $ 539,081 $ 175,000
========== ========== ========== ========== ==========
Year ended December 31, 1997:
Allowance for:
Uncollectible accounts............. $ -- $ -- $ 51,153 $ -- $ 51,153
Reserve for potential product
obsolescence.................... -- -- 200,000 70,305 129,695
Reserve for sales returns and
allowances...................... 175,000 3,660,775 1,050,000 3,024,954 1,860,821
---------- ---------- ---------- ---------- ----------
$ 175,000 $3,660,775 $1,301,153 $3,095,259 $2,041,669
========== ========== ========== ========== ==========
Year ended December 31, 1998:
Allowance for:
Uncollectible accounts............. $ 51,153 $ 82,833 $ -- $ -- $ 133,986
Reserve for potential product
obsolescence.................... 129,695 334,438 -- -- 464,133
Reserve for sales returns and
allowances...................... 1,860,821 6,525,867 -- 3,045,171 5,341,517
---------- ---------- ---------- ---------- ----------
$2,041,669 $6,943,138 $ -- $3,045,171 $5,939,636
========== ========== ========== ========== ==========
37
39
ITEM 8.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
PART III
ITEM 9.DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
DIRECTORS AND EXECUTIVE OFFICERS
Our directors and executive officers are as follows:
NAME AGE POSITIONS WITH THE COMPANY
- ---- --- --------------------------
Jack Friedman 59 Chairman and Chief Executive Officer
Stephen G. Berman 34 Chief Operating Officer, President, Secretary and Director
Joel M. Bennett 37 Chief Financial Officer
Robert E. Glick 53 Director
Michael G. Miller 51 Director
Murray L. Skala 52 Director
Jack Friedman has been our Chairman and Chief Executive Officer since
co-founding JAKKS with Mr. Berman in January 1995. Until December 31, 1998, he
was also our President. From January 1989 until January 1995, Mr. Friedman was
Chief Executive Officer, President and a director of THQ. From 1970 to 1989, Mr.
Friedman was President and Chief Operating Officer of LJN Toys, Ltd., a toy and
software company. After LJN was acquired by MCA/Universal, Inc. in 1986, Mr.
Friedman continued as President until his departure in late 1988.
Stephen G. Berman has been our Chief Operating Officer and Secretary and
one of our directors since co-founding JAKKS with Mr. Friedman in January 1995.
Since January 1, 1999, he has also served as our President. From our inception
until December 31, 1998, Mr. Berman was also our Executive Vice President. From
October 1991 to August 1995, Mr. Berman was a Vice President and Managing
Director of THQ International, Inc., a subsidiary of THQ. From 1988 to 1991, he
was President and an owner of Balanced Approach, Inc., a distributor of personal
fitness products and services.
Joel M. Bennett joined us in September 1995 as Chief Financial Officer.
From August 1993 to September 1995, he served in several financial management
capacities at Time Warner Entertainment Company, L.P., including as Controller
of Warner Brothers Consumer Products Worldwide Merchandising and Interactive
Entertainment. From June 1991 to August 1993, Mr. Bennett was Vice President and
Chief Financial Officer of TTI Technologies, Inc., a direct-mail computer
hardware and software distribution company. From 1986 to June 1991, Mr. Bennett
held various financial management positions at The Walt Disney Company,
including Senior Manager of Finance for its international television syndication
and production division. Mr. Bennett holds a Master of Business Administration
degree and is a Certified Public Accountant.
Robert E. Glick has been one of our directors since October 1996. For more
than 20 years, Mr. Glick has been an officer, director and principal stockholder
in a number of privately-held companies which manufacture and market women's
apparel.
Michael G. Miller has been one of our directors since February 1996. From
1979 until May 1998, Mr. Miller was President and a director of several
privately-held affiliated companies, including a list brokerage and list
management consulting firm, a database management consulting firm, and a direct
mail graphic and creative design firm. Mr. Miller's interests in such companies
were sold in May 1998. Since 1991, he has been President of an advertising
company.
Murray L. Skala has been one of our directors since October 1995. Since
1976, Mr. Skala has been a partner of the law firm Feder, Kaszovitz, Isaacson,
Weber, Skala & Bass LLP, our general counsel. Mr. Skala is a director of Quintel
Entertainment, Inc., a publicly-held company in the business of
telecommunications
38
40
services and entertainment. Mr. Skala has also served as a director of other
public companies, including THQ from January 1991 to January 1997, Katz Digital
Technologies, Inc., a digital prepress and printing company, from December 1995
to December 1998, and Grand Toys International, Inc., from 1993 to 1994.
Our directors hold office until the next annual meeting of stockholders and
until their successors are elected and qualified. The holders of our convertible
debentures have the right to designate one person for nomination by management
to serve as one of our directors or as an advisor to the Board. Upon certain
events of default under the loan agreement for our convertible debentures, the
holders may designate an additional person as a director. The holders of our
preferred stock also have the right, if we miss two quarterly dividends, to
designate two persons to be added to our Board of Directors.
COMMITTEES OF THE BOARD OF DIRECTORS
We have an Audit Committee, a Compensation Committee and a Stock Option
Committee. The Board does not have a Nominating Committee and performs the
functions of a Nominating Committee itself.
Audit Committee. The primary functions of the Audit Committee are to
recommend the appointment of our independent certified public accountants and to
review the scope and effect of such audits. Messrs. Glick, Miller and Skala are
the current members of the Audit Committee.
Compensation Committee. The functions of the Compensation Committee are to
make recommendations to the Board regarding compensation of management employees
and to administer plans and programs relating to employee benefits, incentives
and compensation, other than our Third Amended and Restated 1995 Stock Option
Plan (the "Option Plan"). Messrs. Friedman, Miller and Skala are the current
members of the Compensation Committee.
Stock Option Committee. The function of the Stock Option Committee is to
determine the recipients of and the size of awards granted under the Option
Plan. Messrs. Glick and Miller, both of whom are non-employee directors, are the
current members of the Stock Option Committee.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
To the best of our knowledge, all Forms 3, 4 or 5 required to be filed
during the fiscal year ended December 31, 1998 were filed on a timely basis.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth the compensation we paid for our fiscal
years ended December 31, 1996, 1997 and 1998 to our Chief Executive Officer and
to each of our other executive officers whose compensation exceeded $100,000 on
an annual basis (collectively, the "Named Officers").
SUMMARY COMPENSATION TABLE
LONG-TERM AWARDS
ANNUAL COMPENSATION --------------------
---------------------------------------- RESTRICTED
OTHER ANNUAL STOCK
NAME AND SALARY BONUS COMPENSATION AWARDS OPTIONS
PRINCIPAL POSITION YEAR ($) ($) ($) ($) (#)
------------------ ---- ------- ------- ------------- ---------- -------
Jack Friedman.......................... 1998 446,000 550,000 -- -- 125,000
Chairman and Chief 1997 296,000 130,224 -- -- 125,000
Executive Officer 1996 226,000 53,722 -- -- --
Stephen G. Berman...................... 1998 421,000 550,000 -- -- 125,000
Chief Operating Officer, 1997 271,000 130,224 -- -- 125,000
President and Secretary 1996 201,000 53,722 -- -- --
Joel M. Bennett........................ 1998 135,000 45,000 -- -- --
Chief Financial Officer 1997 110,000 40,000 -- -- 30,000
1996 85,000 10,200 -- -- --
39
41
- - Employment Agreements
We have entered into employment agreements with Mr. Friedman and Mr.
Berman, pursuant to which Mr. Friedman serves as our Chairman and Chief
Executive Officer and Mr. Berman serves as our President and Chief Operating
Officer. Mr. Friedman's annual base salary in 1999 is $521,000 and Mr. Berman's
is $496,000. Their annual base salaries are subject to annual increases in an
amount, not less than $25,000, determined by our Board of Directors. Each of
them is also entitled to receive an annual bonus equal to 4% of our pre-tax
earnings, if our pre-tax earnings are at least $2,000,000. If we terminate Mr.
Friedman's or Mr. Berman's employment because of his death or disability, we are
required to make a lump-sum severance payment in an amount equal to his then
applicable annual base salary. In the event of the termination of his employment
under certain circumstances after a "Change in Control" (as defined in the
employment agreement), we are required to make to Mr. Friedman or Mr. Berman a
one-time payment of an amount equal to the aggregate gross amount to be paid to
him as salary for the three-year period ending December 31, 2001, and all
options to purchase shares of our common stock will immediately rest and remain
exercisable during the three-year period following the date of his termination.
- - Third Amended and Restated 1995 Stock Option Plan
In its current form, our Third Amended and Restated 1995 Stock Option Plan
(the "Option Plan") was adopted and approved by the stockholders and directors
in July 1998. Options to purchase, in the aggregate, up to 1,250,000 shares of
our common stock may be granted under the Option Plan. The Option Plan allows us
to grant options that are intended to qualify as incentive stock options
("Incentive Stock Options") within the meaning of Section 422 of the Internal
Revenue Code or as options that are not intended to meet the requirements of
such section ("Nonstatutory Stock Options"). Under the Option Plan, Incentive
Stock Options may only be granted to our employees (including officers), while
Nonstatutory Stock Options may be granted to employees (including officers),
non-employee directors, consultants or advisors.
The Option Plan is administered by the Stock Option Committee, whose
members are non-employee directors chosen by our Board. Subject to the
restrictions prescribed in the Option Plan, this committee has discretionary
authority to select the persons to whom, the number of shares for which, the
times and the exercise price at which options will be granted.
Options granted to an employee expire immediately upon the termination of
employment voluntarily by such employee or for cause. Employee options may be
exercised up to one year after the termination of employment due to death or
disability, or up to three months after termination for any other reason.
Incentive Stock Options must have an exercise price greater than or equal
to the fair market value of the shares underlying the option on the date of
grant (or, if granted to a holder of 10% or more of our common stock, an
exercise price of at least 110% of the underlying shares' fair market value on
the date of grant). The maximum exercise period of Incentive Stock Options is 10
years from the date of grant (or five years in the case of a holder of 10% or
more of our common stock). The aggregate fair market value (determined at the
date the option is granted) of shares with respect to which Incentive Stock
Options are exercisable for the first time by the holder of the option during
any calendar year may not exceed $100,000. If that amount exceeds $100,000, our
Board or the Stock Option Committee may designate those shares that will be
treated as Nonstatutory Stock Options.
The Option Plan provides for the inclusion in any grant of options to one
of our employees of a provision requiring the optionee, for a period of one year
after the optionee's employment is terminated, not to disclose certain of our
confidential information and, under certain circumstances, not to compete with
us or be employed by an individual or entity that competes with us.
As of March 26, 1999, we have granted options to purchase an aggregate of
1,212,250 shares of our common stock under the Option Plan. All the shares
issuable upon exercise of outstanding options granted under the Option Plan are
currently registered under the Securities Act.
40
42
The following table sets forth certain information regarding options
granted to the Named Officers in 1998.
OPTION/SAR GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS
NUMBER OF % OF TOTAL
SECURITIES OPTIONS/SARS
UNDERLYING GRANTED TO EXERCISE
OPTIONS/SARS EMPLOYEES IN OR BASE PRICE
NAME GRANTED (#) FISCAL YEAR(1) ($/SHARE) EXPIRATION DATE
---- ------------ -------------- ------------- ---------------
Jack Friedman........................ 125,000 33.7 8.6625 10/9/03
Stephen G. Berman.................... 125,000 33.7 7.875 10/9/03
- ---------------
(1) Options to purchase a total of 371,500 shares of our common stock were
granted to our employees, including the Named Officers, during 1998.
The following table sets forth certain information regarding options
exercised and exercisable during 1998, and the value of options held as of
December 31, 1998 by the Named Officers:
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR END OPTION/SAR VALUES
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY
OPTIONS/SARS OPTIONS/SARS
SHARES AT FISCAL YEAR END AT FISCAL YEAR END(2)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE (#) REALIZED ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ------------ ------------ ----------- ------------- ----------- -------------
Jack Friedman................ -- -- 41,667 83,333 1,042 2,083
-- 125,000 -- 260,938
Stephen G. Berman............ -- -- 41,667 83,333 41,667 83,333
-- 125,000 -- 359,375
Joel M. Bennett.............. 20,000 165,070(1) 13,250 16,625 115,938 145,469
10,000 20,000 10,000 20,000
- ---------------
(1) The difference between (x) the product of the number of exercised options
and $10.2535 (the average sale price per share of the common stock sold on
the exercise dates) and (y) the aggregate exercise price of such options.
(2) The difference between (x) the product of the number of unexercised options
and $10.75 (the closing sale price of the common stock on December 31, 1998)
and (y) the aggregate exercise price of such options.
- - Compensation of Directors
Directors currently receive no cash compensation for serving on the Board,
but are reimbursed for reasonable expenses incurred in attending meetings. Our
Option Plan provides for certain grants to non-employee directors. Each
non-employee director serving on the Board when the Option Plan was adopted
received options to purchase an aggregate of 10,850 shares of common stock at
the fair market value of our common stock on such date. Since then, the Option
Plan provides for any newly appointed non-employee director to receive an option
to purchase 25,000 shares at their then current fair market value on the date of
appointment. In addition, every calendar quarter, each non-employee director
receives an option to purchase 6,250 shares at their then current fair market
value. Options granted to a non-employee director expire upon the termination of
the director's services for cause, but may be exercised at any time during a
one-year period after such person ceases to serve as a director for any other
reason.
41
43
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information as of March 26, 1999
with respect to the beneficial ownership of our common stock by (1) each of our
directors, (2) each Named Officer, (3) all our directors and executive officers
as a group and (4) each person known by us to own beneficially more than 5% of
the outstanding shares of our common stock.
AMOUNT AND
NATURE OF PERCENT OF
NAME AND ADDRESS OF BENEFICIAL OUTSTANDING
BENEFICIAL OWNER OWNERSHIP SHARES
------------------- ---------- -----------
Jack Friedman(1)............................................ 959,655(3) 15.4
Stephen G. Berman(1)........................................ 171,165(4) 2.7
Joel M. Bennett(1).......................................... 24,250(5) *
Robert E. Glick(1).......................................... 60,775(6) *
Michael G. Miller(1)........................................ 53,775(7) *
Murray L. Skala(1).......................................... 152,196(8) 2.4
Renaissance Capital Growth & Income Fund III, Inc.(2)....... 856,935(9) 12.2
Renaissance US Growth & Income Trust PLC(2)................. 521,740(10) 7.8
Kern Capital Management, LLC(11)............................ 310,000 5.0
All directors and executive officers as a group (6
persons).................................................. 1,354,944(12) 21.0
- ---------------
* Less than 1% of our outstanding shares.
(1) The address of Messrs. Friedman, Berman, Bennett, Glick, Miller and Skala
is 22761 Pacific Coast Highway, Malibu, California 90265.
(2) The address of this beneficial owner is 8080 N. Central Parkway, Dallas, TX
75026.
(3) Includes 66,872 shares held in trusts for the benefit of children of Mr.
Friedman. Also includes 41,667 shares which Mr. Friedman may purchase upon
the exercise of certain stock options.
(4) Includes 41,667 shares which Mr. Berman may purchase upon the exercise of
certain stock options.
(5) Includes 23,250 shares which Mr. Bennett may purchase upon the exercise of
certain stock options.
(6) Includes 53,775 shares which Mr. Glick may purchase upon the exercise of
certain stock options.
(7) Represents shares which Mr. Miller may purchase upon the exercise of
certain stock options.
(8) Includes 59,200 shares which Mr. Skala may purchase upon the exercise of
certain stock options and 66,872 shares held by Mr. Skala as trustee under
trusts for the benefit of children of Mr. Friedman.
(9) Consists of 521,740 shares which Renaissance Capital Growth & Income Fund
III, Inc. has the right to acquire upon the conversion of $3,000,000
principal amount of our convertible debentures held by it (at a conversion
price of $5.75 per share), and 335,195 shares which it has the right to
acquire upon the conversion of 600 shares of our preferred stock held by it
(at a conversion price of $8.95 per share).
(10) Represents shares which Renaissance US Growth & Income Trust PLC has the
right to acquire upon the conversion of $3,000,000 principal amount of our
convertible debentures owned by it (at a conversion price of $5.75 per
share).
(11) Reflects shares owned as of December 31, 1998. Robert E. Kern Jr. and David
G. Kern are principal and controlling members of Kern Capital Management,
LLC and, as such, may be deemed beneficial owners of the shares, although
they have expressly denied such beneficial ownership. Kern Capital
Management, LLC is an investment advisor that holds these shares for the
benefit of certain institutional accounts. The address of these beneficial
owners is 114 West 47th Street, Suite 1926, New York, New York 10036. We
have relied solely on a statement on Schedule 13G jointly filed by these
beneficial owners on February 12, 1999.
42
44
(12) Includes 66,872 shares held in trusts for the benefit of children of Mr.
Friedman and an aggregate of 273,334 shares which the directors and
executive officers may purchase upon the exercise of certain stock options.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
One of our directors, Murray L. Skala, is a partner in the law firm of
Feder, Kaszovitz, Isaacson, Weber, Skala & Bass LLP, which has performed, and is
expected to continue to perform, legal services for us. We paid his firm legal
fees of approximately $151,000 in 1997 and $510,000 in 1998.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
EXHIBIT
NUMBER DESCRIPTION
------- -----------
3.1 Restated Certificate of Incorporation of the Company(1)
3.1.1 Certificate of Designation of 4% Redeemable Convertible
Preferred Stock of the Company(6)
3.1.2 Certificate of Designation and Preferences of Series A
Cumulative Convertible Preferred Stock of the Company(7)
3.1.3 Certificate of Elimination of All Shares of 4% Redeemable
Convertible Preferred Stock of the Company(7)
3.1.4 Certificate of Amendment of Restated Certificate of
Incorporation of the Company(11)
3.2 By-Laws of the Company(1)
3.2.1 Amendment to By-Laws of the Company(2)
4.1 9% Convertible Debenture issued to Renaissance Capital
Growth & Income Fund III, Inc. dated December 31, 1996(2)
4.2 9% Convertible Debenture issued to Renaissance US Growth &
Income Trust PLC dated December 31, 1996(2)
10.1 Third Amended and Restated 1995 Stock Option Plan(9)(*)
10.2 Employment Agreement between the Company and Jack Friedman
dated January 1, 1998(8)(*)
10.2.1 Amendment, dated January 1, 1999, to Employment Agreement
between the Company and Jack Friedman(12)(*)
10.3 Employment Agreement between the Company and Stephen G.
Berman dated January 1, 1998(8)(*)
10.3.1 Amendment, dated January 1, 1999, to Employment Agreement
between the Company and Stephen G. Berman(12)(*)
10.4 Asset Purchase Agreement dated October 19, 1995 (as of July
1, 1995) between the Company, JP (HK) Limited and Justin(1)
10.5 Convertible Loan Agreement among the Company and Renaissance
Capital Growth & Income Fund III, Inc. and Renaissance US
Growth & Income Trust PLC dated December 31, 1996(2)
10.6 Purchase Agreement among the Company, JAKKS Acquisition
Corp., Road Champs, Inc., Road Champs Ltd., Die Cast
Associates, Inc. and the shareholders of Road Champs, Inc.
dated January 21, 1997(3)
10.7.1 Office Lease dated June 18, 1997 between the Company and
Malibu Vista Partners(8)(P)
43
45
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.7.2 Supplemental Lease dated August 10, 1998 between Malibu
Vista Partners and the Company(10)
10.8 Lease of the Company's warehouse space at 7 Patton Drive,
West Caldwell, New Jersey and amendment thereto(3)
10.8A Office Lease dated March 27, 1998 between the Company and
Hundal of Union L.P.(8)(P)
10.9 Lease of the Company's showroom at the Toy Center South, 200
Fifth Avenue, New York, New York(1)
10.10 Lease of the Company's showroom at the Toy Center North,
1107 Broadway, New York, New York(3)
10.11 Tenancy Agreement dated March 14, 1998 between the Company
and Astoria Investment Company, Ltd.(8)(P)
10.11A Office Lease dated September 24, 1998 between Astoria
Investment Company Limited and Road Champs Ltd.(10)
10.12 License Agreement with Titan Sports, Inc. dated October 24,
1995(1)
10.12.1 Amendment to License Agreement with Titan Sports, Inc. dated
April 22, 1996(4)
10.12.2 Amendment to License Agreement with Titan Sports, Inc. dated
January 21, 1997(4)
10.12.3 Amendment to License Agreement with Titan Sports, Inc. dated
December 3, 1997(8)
10.12.4 Amendment to License Agreement with Titan Sports, Inc. dated
January 29, 1998(8)
10.13 International License Agreement with Titan Sports, Inc.
dated February 10, 1997(4)
10.13.1 Amendment to International License Agreement with Titan
Sports, Inc. dated December 3, 1997(8)
10.13.2 Amendment to International License Agreement with Titan
Sports, Inc. dated January 29, 1998(8)
10.14 License Agreement with Saban Merchandising, Inc. and Saban
International N.V. dated May 21, 1996, with amendment dated
October 31, 1996(4)
10.15 License Agreement with Wow Wee International dated June 1,
1996(4)
10.16 Agreement with Quantum Toy Concepts Pty, Ltd. dated July
1996(4)
10.17 [RESERVED]
10.18 [RESERVED]
10.19 Warrant to purchase 150,000 shares of Common Stock dated
January 8, 1997 issued to Joseph Charles & Associates,
Inc.(8)
10.20 [RESERVED]
10.21 Option Agreement dated August 28, 1997 between the Company
and Silverman Heller Associates(8)
10.22 Consulting Agreement dated July 30, 1997 between the Company
and Silverman Heller Associates(8)
10.23 Option Agreement dated August 28, 1997 between the Company
and Joseph Charles & Associates, Inc.(5)
10.24 Engagement Letter dated August 28, 1997 between the Company
and Joseph Charles & Associates, Inc.(5)
10.25 Consulting Agreement between the Company and Sheldon Weiner
Sales Organization, Inc. dated June 18, 1996(5)
44
46
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.26.1 Stock Option Agreement between the Company and Sheldon
Weiner Sales Organization, Inc. dated June 18, 1996(5)
10.26.2 Restated Stock Option Agreement between the Company and
Sheldon Weiner Sales Organization, Inc. dated June 18,
1996(5)
10.27 Restated Option Agreement between the Company and Murray
Bass dated September 1, 1995(5)
10.28 Restated Option Agreement between the Company and Joel
Bennett dated September 1, 1995(5)
10.29 Restated Option Agreement between the Company and Gina
Hancock dated September 1, 1995(5)
10.30 Restated Option Agreement between the Company and Wills Hon
dated September 1, 1995(5)
10.31 Restated Option Agreement between the Company and Bruce Katz
dated September 1, 1995(5)
10.32 Trademark Purchase Agreement dated October 24, 1997 between
the Company and Azrak-Hamway International, Inc.(6)
10.33 $1,200,000 Promissory Note dated October 24, 1997 of the
Company payable to Azrak-Hamway International, Inc.(6)
10.34 Manufacturing and Supply Agreement dated October 24, 1997
between the Company and Azrak- Hamway International, Inc.(6)
10.35 Security Agreement dated October 24, 1997 between the
Company and Azrak-Hamway International, Inc.(6)
10.36A Debenture dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and Road Champs Limited(8)
10.36B Debenture dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and JP (HK) Limited(8)
10.36C Debentures dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and JAKKS Pacific (H.K.)
Limited(8)
10.37 Guaranty dated October 21, 1997 by the Company in favor of
Norwest Bank Minnesota, National Association(8)
10.38A Guaranty dated October 21, 1997 by Road Champs, Inc. in
favor of Norwest Bank Minnesota, National Association(8)
10.38B Guaranty dated October 21, 1997 by JAKKS Acquisition Corp.
in favor of Norwest Bank Minnesota, National Association(8)
10.38C Guaranty dated October 21, 1997 by J-X Enterprises, Inc. in
favor of Norwest Bank Minnesota, National Association(8)
10.39 Security Agreement dated October 21, 1997 between the
Company and Norwest Bank Minnesota, National Association(8)
10.40A Security Agreement dated October 21, 1997 between Road
Champs, Inc. and Norwest Bank Minnesota, National
Association(8)
10.40B Security Agreement dated October 21, 1997 between JAKKS
Acquisition Corp. and Norwest Bank Minnesota, National
Association(8)
10.40C Security Agreement dated October 21, 1997 between J-X
Enterprises, Inc. and Norwest Bank Minnesota, National
Association(8)
45
47
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.41 Series A Cumulative Convertible Preferred Stock Purchase
Agreement dated April 1, 1998 among the Company, Renaissance
Capital Growth & Income Fund III, Inc. and ProFutures Bridge
Capital Fund, L.P.(7)
21 Subsidiaries of the Company(12)
23 Consent of Pannell Kerr Forster, Certified Public
Accountants, A Professional Corporation, Los Angeles,
California(12)
27 Financial Data Schedule(12)
- ---------------
(1) Filed previously as an exhibit to the Company's Registration Statement on
Form SB-2 (File No. 333-2048-LA), effective May 1, 1996, and incorporated
herein by reference.
(2) Filed previously as an exhibit to the Company's Registration Statement on
Form SB-2 (File No. 333-22583), effective May 1, 1997, and incorporated
herein by reference.
(3) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed February 21, 1997, or as schedule 4.2(iii) thereto, and incorporated
herein by reference.
(4) Filed previously as an exhibit to the Company's Annual Report on Form
10-KSB for its fiscal year ended December 31, 1996, and incorporated herein
by reference.
(5) Filed previously as an exhibit to the Company's Registration Statement on
Form S-8 (File No. 333-35053), effective September 5, 1997, and
incorporated herein by reference.
(6) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed November 7, 1997, and incorporated herein by reference.
(7) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed April 7, 1998, and incorporated herein by reference.
(8) Filed previously as an exhibit to the Company's Annual Report on Form
10-KSB for its fiscal year ended December 31, 1997, and incorporated herein
by reference.
(9) Filed previously as Appendix A to the Company's definitive Proxy Statement
for its 1998 Annual Meeting of Stockholders, filed June 23, 1998, and
incorporated herein by reference.
(10) Filed previously as an exhibit to the Company's Quarterly Report on Form
10-QSB for the quarter ended September 30, 1998, filed November 16, 1998,
and incorporated herein by reference.
(11) Filed previously as exhibit 4.1.2 to the Company's Registration Statement
on Form S-3 (File No. 333-74717), filed March 19, 1999, and incorporated
herein by reference.
(12) Filed herewith.
(P) Filed in paper format pursuant to a hardship exemption under Regulation
232.202 of Regulation S-T.
(*) Management contract or compensatory plan or arrangement.
(b) Reports on Form 8-K
No report on Form 8-K was filed during the last quarter of 1998.
46
48
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Dated: March 29, 1999 JAKKS PACIFIC, INC.
By: /s/ JACK FRIEDMAN
-----------------------------------
Jack Friedman
Chairman and
Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ JACK FRIEDMAN Chairman of the Board March 29, 1999
- ----------------------------------------------------- of Directors and
Jack Friedman Chief Executive Officer
(Principal Executive Officer)
/s/ JOEL M. BENNETT Chief Financial Officer March 29, 1999
- ----------------------------------------------------- (Principal Financial Officer
Joel M. Bennett and
Principal Accounting Officer)
/s/ STEPHEN G. BERMAN Director March 29, 1999
- -----------------------------------------------------
Stephen G. Berman
/s/ ROBERT E. GLICK Director March 29, 1999
- -----------------------------------------------------
Robert E. Glick
/s/ MICHAEL G. MILLER Director March 29, 1999
- -----------------------------------------------------
Michael G. Miller
/s/ MURRAY L. SKALA Director March 29, 1999
- -----------------------------------------------------
Murray L. Skala
47
49
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
3.1 Restated Certificate of Incorporation of the Company(1)
3.1.1 Certificate of Designation of 4% Redeemable Convertible
Preferred Stock of the Company(6)
3.1.2 Certificate of Designation and Preferences of Series A
Cumulative Convertible Preferred Stock of the Company(7)
3.1.3 Certificate of Elimination of All Shares of 4% Redeemable
Convertible Preferred Stock of the Company(7)
3.1.4 Certificate of Amendment of Restated Certificate of
Incorporation of the Company(11)
3.2 By-Laws of the Company(1)
3.2.1 Amendment to By-Laws of the Company(2)
4.1 9% Convertible Debenture issued to Renaissance Capital
Growth & Income Fund III, Inc. dated December 31, 1996(2)
4.2 9% Convertible Debenture issued to Renaissance US Growth &
Income Trust PLC dated December 31, 1996(2)
10.1 Third Amended and Restated 1995 Stock Option Plan(9)(*)
10.2 Employment Agreement between the Company and Jack Friedman
dated January 1, 1998(8)(*)
10.2.1 Amendment, dated January 1, 1999, to Employment Agreement
between the Company and Jack Friedman(12)(*)
10.3 Employment Agreement between the Company and Stephen G.
Berman dated January 1, 1998(8)(*)
10.3.1 Amendment, dated January 1, 1999, to Employment Agreement
between the Company and Stephen G. Berman(12)(*)
10.4 Asset Purchase Agreement dated October 19, 1995 (as of July
1, 1995) between the Company, JP (HK) Limited and Justin(1)
10.5 Convertible Loan Agreement among the Company and Renaissance
Capital Growth & Income Fund III, Inc. and Renaissance US
Growth & Income Trust PLC dated December 31, 1996(2)
10.6 Purchase Agreement among the Company, JAKKS Acquisition
Corp., Road Champs, Inc., Road Champs Ltd., Die Cast
Associates, Inc. and the shareholders of Road Champs, Inc.
dated January 21, 1997(3)
10.7.1 Office Lease dated June 18, 1997 between the Company and
Malibu Vista Partners(8)(P)
10.7.2 Supplemental Lease dated August 10, 1998 between Malibu
Vista Partners and the Company(10)
10.8 Lease of the Company's warehouse space at 7 Patton Drive,
West Caldwell, New Jersey and amendment thereto(3)
10.8A Office Lease dated March 27, 1998 between the Company and
Hundal of Union L.P.(8)(P)
10.9 Lease of the Company's showroom at the Toy Center South, 200
Fifth Avenue, New York, New York(1)
10.10 Lease of the Company's showroom at the Toy Center North,
1107 Broadway, New York, New York(3)
48
50
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
10.11 Tenancy Agreement dated March 14, 1998 between the Company
and Astoria Investment Company, Ltd.(8)(P)
10.11A Office Lease dated September 24, 1998 between Astoria
Investment Company Limited and Road Champs Ltd.(10)
10.12 License Agreement with Titan Sports, Inc. dated October 24,
1995(1)
10.12.1 Amendment to License Agreement with Titan Sports, Inc. dated
April 22, 1996(4)
10.12.2 Amendment to License Agreement with Titan Sports, Inc. dated
January 21, 1997(4)
10.12.3 Amendment to License Agreement with Titan Sports, Inc. dated
December 3, 1997(8)
10.12.4 Amendment to License Agreement with Titan Sports, Inc. dated
January 29, 1998(8)
10.13 International License Agreement with Titan Sports, Inc.
dated February 10, 1997(4)
10.13.1 Amendment to International License Agreement with Titan
Sports, Inc. dated December 3, 1997(8)
10.13.2 Amendment to International License Agreement with Titan
Sports, Inc. dated January 29, 1998(8)
10.14 License Agreement with Saban Merchandising, Inc. and Saban
International N.V. dated May 21, 1996, with amendment dated
October 31, 1996(4)
10.15 License Agreement with Wow Wee International dated June 1,
1996(4)
10.16 Agreement with Quantum Toy Concepts Pty, Ltd. dated July
1996(4)
10.17 [RESERVED]
10.18 [RESERVED]
10.19 Warrant to purchase 150,000 shares of Common Stock dated
January 8, 1997 issued to Joseph Charles & Associates,
Inc.(8)
10.20 [RESERVED]
10.21 Option Agreement dated August 28, 1997 between the Company
and Silverman Heller Associates(8)
10.22 Consulting Agreement dated July 30, 1997 between the Company
and Silverman Heller Associates(8)
10.23 Option Agreement dated August 28, 1997 between the Company
and Joseph Charles & Associates, Inc.(5)
10.24 Engagement Letter dated August 28, 1997 between the Company
and Joseph Charles & Associates, Inc.(5)
10.25 Consulting Agreement between the Company and Sheldon Weiner
Sales Organization, Inc. dated June 18, 1996(5)
10.26.1 Stock Option Agreement between the Company and Sheldon
Weiner Sales Organization, Inc. dated June 18, 1996(5)
10.26.2 Restated Stock Option Agreement between the Company and
Sheldon Weiner Sales Organization, Inc. dated June 18,
1996(5)
10.27 Restated Option Agreement between the Company and Murray
Bass dated September 1, 1995(5)
10.28 Restated Option Agreement between the Company and Joel
Bennett dated September 1, 1995(5)
10.29 Restated Option Agreement between the Company and Gina
Hancock dated September 1, 1995(5)
49
51
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
10.30 Restated Option Agreement between the Company and Wills Hon
dated September 1, 1995(5)
10.31 Restated Option Agreement between the Company and Bruce Katz
dated September 1, 1995(5)
10.32 Trademark Purchase Agreement dated October 24, 1997 between
the Company and Azrak-Hamway International, Inc.(6)
10.33 $1,200,000 Promissory Note dated October 24, 1997 of the
Company payable to Azrak-Hamway International, Inc.(6)
10.34 Manufacturing and Supply Agreement dated October 24, 1997
between the Company and Azrak- Hamway International, Inc.(6)
10.35 Security Agreement dated October 24, 1997 between the
Company and Azrak-Hamway International, Inc.(6)
10.36A Debenture dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and Road Champs Limited(8)
10.36B Debenture dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and JP (HK) Limited(8)
10.36C Debentures dated October 23, 1997 between Norwest Bank
Minnesota, N.A., Hong Kong Branch and JAKKS Pacific (H.K.)
Limited(8)
10.37 Guaranty dated October 21, 1997 by the Company in favor of
Norwest Bank Minnesota, National Association(8)
10.38A Guaranty dated October 21, 1997 by Road Champs, Inc. in
favor of Norwest Bank Minnesota, National Association(8)
10.38B Guaranty dated October 21, 1997 by JAKKS Acquisition Corp.
in favor of Norwest Bank Minnesota, National Association(8)
10.38C Guaranty dated October 21, 1997 by J-X Enterprises, Inc. in
favor of Norwest Bank Minnesota, National Association(8)
10.39 Security Agreement dated October 21, 1997 between the
Company and Norwest Bank Minnesota, National Association(8)
10.40A Security Agreement dated October 21, 1997 between Road
Champs, Inc. and Norwest Bank Minnesota, National
Association(8)
10.40B Security Agreement dated October 21, 1997 between JAKKS
Acquisition Corp. and Norwest Bank Minnesota, National
Association(8)
10.40C Security Agreement dated October 21, 1997 between J-X
Enterprises, Inc. and Norwest Bank Minnesota, National
Association(8)
10.41 Series A Cumulative Convertible Preferred Stock Purchase
Agreement dated April 1, 1998 among the Company, Renaissance
Capital Growth & Income Fund III, Inc. and ProFutures Bridge
Capital Fund, L.P.(7)
21 Subsidiaries of the Company(12)
23 Consent of Pannell Kerr Forster, Certified Public
Accountants, A Professional Corporation, Los Angeles,
California(12)
27 Financial Data Schedule(12)
- ---------------
(1) Filed previously as an exhibit to the Company's Registration Statement on
Form SB-2 (File No. 333-2048-LA), effective May 1, 1996, and incorporated
herein by reference.
(2) Filed previously as an exhibit to the Company's Registration Statement on
Form SB-2 (File No. 333-22583), effective May 1, 1997, and incorporated
herein by reference.
50
52
(3) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed February 21, 1997, or as schedule 4.2(iii) thereto, and incorporated
herein by reference.
(4) Filed previously as an exhibit to the Company's Annual Report on Form
10-KSB for its fiscal year ended December 31, 1996, and incorporated herein
by reference.
(5) Filed previously as an exhibit to the Company's Registration Statement on
Form S-8 (File No. 333-35053), effective September 5, 1997, and
incorporated herein by reference.
(6) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed November 7, 1997, and incorporated herein by reference.
(7) Filed previously as an exhibit to the Company's Current Report on Form 8-K,
filed April 7, 1998, and incorporated herein by reference.
(8) Filed previously as an exhibit to the Company's Annual Report on Form
10-KSB for its fiscal year ended December 31, 1997, and incorporated herein
by reference.
(9) Filed previously as Appendix A to the Company's definitive Proxy Statement
for its 1998 Annual Meeting of Stockholders, filed June 23, 1998, and
incorporated herein by reference.
(10) Filed previously as an exhibit to the Company's Quarterly Report on Form
10-QSB for the quarter ended September 30, 1998, filed November 16, 1998,
and incorporated herein by reference.
(11) Filed previously as exhibit 4.1.2 to the Company's Registration Statement
on Form S-3 (File No. 333-74717), filed March 19, 1999, and incorporated
herein by reference.
(12) Filed herewith.
(P) Filed in paper format pursuant to a hardship exemption under Regulation
232.202 of Regulation S-T.
(*) Management contract or compensatory plan or arrangement.
51
1
EXHIBIT 10.2.1
AMENDMENT TO EMPLOYMENT AGREEMENT
BETWEEN JAKKS PACIFIC, INC. AND JACK FRIEDMAN
The Employment Agreement dated January 1, 1998 between JAKKS Pacific, Inc.
and Jack Friedman (the "Employment Agreement;" capitalized terms are used herein
as defined in the Employment Agreement) is hereby amended as follows:
1. The term of Executive's employment under the Employment Agreement is
extended from December 31, 2001 to December 31, 2009 and, for this purpose,
Section 1.2 of the Employment Agreement is amended by replacing "2001" with
"2009."
2. The Executive's employment as President of the Company shall
terminate and, for this purpose, Section 2 of the Employment Agreement is
amended by deleting "the President,".
3. Pursuant to Section 4 of the Employment Agreement, Executive's
annual base salary is increased to $521,000 in 1999.
4. This Amendment shall be effective as of January 1, 1999 and the
Employment Agreement, as so amended, shall remain in full force and effect.
IN WITNESS WHEREOF, the Company, by its duly authorized officer, and
Executive have duly executed this amendment as of January 1, 1999.
JAKKS PACIFIC, INC.
By: /s/ STEPHEN G. BERMAN
------------------------------
Stephen G. Berman
Chief Operating Officer
/s/ JACK FRIEDMAN
----------------------------------
JACK FRIEDMAN
1
EXHIBIT 10.3.1
AMENDMENT TO EMPLOYMENT AGREEMENT
BETWEEN JAKKS PACIFIC, INC. AND STEPHEN G. BERMAN
The Employment Agreement dated January 1, 1998 between JAKKS Pacific, Inc.
and Stephen G. Berman (the "Employment Agreement;" capitalized terms are used
herein as defined in the Employment Agreement) is hereby amended as follows:
1. The term of Executive's employment under the Employment Agreement is
extended from December 31, 2001 to December 31, 2009 and, for this purpose,
Section 1.2 of the Employment Agreement is amended by replacing "2001" with
"2009."
2. The Executive's employment as Executive Vice President of the Company
shall terminate and he shall be employed to serve as the Company's President
and, for this purpose, Section 2 of the Employment Agreement is amended by
deleting "Executive Vice."
3. Pursuant to Section 4 of the Employment Agreement, Executive's
annual base salary is increased to $496,000 in 1999.
4. This Amendment shall be effective as of January 1, 1999 and the
Employment Agreement, as so amended, shall remain in full force and effect.
IN WITNESS WHEREOF, the Company, by its duly authorized officer, and
Executive have duly executed this Amendment as of January 1, 1999.
JAKKS PACIFIC, INC.
By: /s/ JACK FRIEDMAN
-------------------------
Jack Friedman
Chief Executive Officer
/s/ STEPHEN G. BERMAN
-------------------------
Stephen G. Berman
1
EXHIBIT 21
Subsidiaries of the Registrant
Subsidiary* Jurisdiction
- ----------- ------------
JP (HK) Limited Hong Kong
JAKKS Pacific (HK) Limited Hong Kong
J-X Enterprises, Inc. New York
JAKKS Acquisition Corp. Delaware
Road Champs, Inc. Delaware
Road Champs, Ltd. Hong Kong
* All subsidiaries conduct business under their respective corporate names.
1
EXHIBIT 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation by
reference of our report dated February 22, 1999, except note 18 for which the
date is March 1, 1999, on the consolidated financial statements of JAKKS
Pacific, Inc. in this Form 10-KSB into the previously filed Form S-3
Registration Statement of JAKKS Pacific, Inc. (File No. 333-48865).
/s/ PANNELL KERR FORSTER
----------------------------
Pannell Kerr Forster
Certified Public Accountants
A Professional Corporation
Los Angeles, California
March 29, 1999
5
US DOLLARS
YEAR
DEC-31-1998
JAN-01-1998
DEC-31-1998
1
12,452,201
0
12,060,711
133,986
2,918,941
28,633,014
6,462,714
2,173,708
58,735,765
14,897,107
5,940,000
0
1
6,026
37,747,926
58,735,765
85,252,653
85,252,653
52,000,135
24,006,497
590,948
0
422,553
8,232,430
1,857,404
0
0
0
0
6,375,026
1.12
.89
