10-Q 1 g71246e10-q.txt ELLETT BROTHERS INC 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2001 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ___________ to ___________ Commission File Number: 0-21632 ------- ELLETT BROTHERS, INC. (Exact name of Registrant as specified in its charter) SOUTH CAROLINA 57-0957069 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 267 COLUMBIA AVENUE, CHAPIN, SOUTH CAROLINA 29036 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (803) 345-3751 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- --------- As of July 31, 2001, 4,082,968 shares of no par value common stock of the registrant were outstanding. Page 1 of 13 pages 2 Form 10-Q Page 2 ELLETT BROTHERS, INC. AND SUBSIDIARIES JUNE 30, 2001 INDEX

3 Form 10-Q Page 3 PART I. FINANCIAL INFORMATION Item I. Financial Statements ELLETT BROTHERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)

The accompanying notes are an integral part of these condensed consolidated financial statements. Note: The balance sheet at December 31, 2000 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. 4 Form 10-Q Page 4 ELLETT BROTHERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (in thousands, except per share data)

The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Form 10-Q Page 5 ELLETT BROTHERS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (in thousands)

Supplemental disclosure of non-cash financing activities: The change in net unrealized gain on investment securities available for sale was $6 and $(2) for the six months ended June 30, 2001 and 2000, respectively. The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Form 10-Q Page 6 ELLETT BROTHERS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) JUNE 30, 2001 (in thousands, except per share data) 1. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements, which include the accounts of Ellett Brothers, Inc. and subsidiaries (the "Company"), have been prepared in accordance with generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and six months ended June 30, 2001 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2001. For further information, refer to the financial statements and footnotes thereto included in Ellett Brothers, Inc.'s annual report on Form 10-KA for the year ended December 31, 2000. 2. INVENTORIES Inventories consisted of the following: June 30, December 31, 2001 2000 ------- ------- Finished goods $46,711 $40,848 Raw materials 452 700 Work in process 717 307 ------- ------- $47,880 $41,855 ======= ======= 3. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", which was amended by SFAS No. 138. SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. SFAS No. 133 is effective for financial statements for all fiscal quarters of all fiscal years beginning after June 15, 2000. The Company has adopted SFAS No. 133 as of January 1, 2001; however, no derivative instruments were held at adoption, and as a result, there was no impact on the Company's consolidated financial position, results of operations, or cash flows. Management does not expect SFAS 133 to have a material impact due to the Company's limited use of derivative instruments. In July 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards No. 141, "Business Combinations" ("SFAS No. 141") and Statements of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). SFAS No. 141 requires that all business combinations be accounted for by the purchase method. This statement also requires the separate recognition of intangible assets apart from goodwill that can be identified in a purchase and increases the financial statement disclosures associated with business combinations. This statement is effective for all business combinations initiated after June 30, 2001 and for all business combinations accounted for by the purchase method for which the date of acquisition is July 1, 2001, or later. SFAS No. 142 requires a non-amortization approach for goodwill in which goodwill will be tested for impairment at least annually by evaluating the fair value of the acquired business. This statement is effective for fiscal years beginning after December 15, 2001, to all goodwill and other intangible assets recognized in an entity's statement of financial position at the beginning of that fiscal year, regardless of when those previously recognized assets were initially recognized. The Company expects the adoption of these accounting standards to reduce goodwill amortization commencing January 1, 2002; however, impairment reviews may result in future periodic write-downs. 7 Form 10-Q Page 7 4. EARNINGS AND DIVIDENDS PER COMMON SHARE Although the Company had options outstanding during portions of the six month periods ended June 30, 2001 and 2000, they have an antidilutive effect on earnings (loss) per share for each period. As such, basic and diluted earnings (loss) per share for the quarters and six months ended June 30, 2001 and 2000, is computed as net income (loss) divided by the weighted average shares outstanding. No dividends were declared or paid in the quarter ended June 30, 2001. 5. COMPREHENSIVE LOSS Comprehensive income includes net income and all other changes to the Company's equity, with the exception of transactions with shareholders ("other comprehensive income"). The Company's only components of other comprehensive income relate to unrealized gains and losses on available for sale securities. The Company's comprehensive loss for the six month periods ended June 30, 2001 and 2000 was $(2,297) and $(202), respectively. The following table reconciles net loss to comprehensive loss for the six month periods ended June 30, 2001 and 2000:

6. BUSINESS SEGMENT INFORMATION The Company's reportable segments are business units that offer different products and have separate management teams and infrastructures. The business units have been aggregated into two reportable segments. These segments are: Hunting, Shooting, Camping, Archery & Outdoor Products ("HS&A") and Marine Products. The "Other" segment includes the Company's subsidiary operations, except for Archery Center International, which is included in HS&A. The accounting policies of the segments are the same as those described in the Company's annual report on Form 10-K for the year ended December 31, 2000. The Company evaluates performance based upon operating income of the business units. The following table presents information about reported segments for the three months ended June 30, 2001 and 2000 (in millions):

A reconciliation of total segment operating income (loss) to total consolidated loss before taxes for the three months ended June 30 (in millions) is as follows:

8 Form 10-Q Page 8 The following table presents information about reported segments for the six months ended June 30, 2001 and 2000 (in millions):

A reconciliation of total segment operating income to total consolidated loss before taxes for the six months ended June 30 (in millions) is as follows:

A reconciliation of identifiable segment assets to total assets as of June 30 (in millions) is as follows:

7. CONTINGENCIES The Company is a party to litigation in connection with the distribution of its inventory. Over the past three years, thirty cities and/or counties, states, and one advocacy group have filed lawsuits against the firearms industry as a whole. These lawsuits list numerous manufacturers and distributors as defendants in the claims. To date, three of the thirty-one suits have been dismissed, as the judges have found the complaints "without standing" under the laws of their respective states. The Company was named in eight of these remaining twenty-eight suits which include several industry-wide cases. The Company and all distributors were dismissed from one of these lawsuits (the Hamilton-Cargill lawsuit) in the first quarter of 1999. The remaining defendants in the Hamilton-Cargill case appealed a previous ruling and in April of 2001 the appeals court reversed the ruling in favor of the defendants. Although the outcome cannot be predicted in the remaining cases, it is the opinion of management that the Company has meritorious defenses and the disposition of these matters will not have a material adverse effect on the consolidated financial position, results of operations or liquidity of the Company. In recent years, an increasing amount and variety of legislation aimed at eliminating or limiting the production, sale, possession, ownership and use of certain kinds of firearms has been introduced in the United States Congress and in various state legislatures, and the Company expects that such legislation will continue to be introduced in the future. In addition, certain states and other local governments have already adopted, or are currently considering the adoption of, laws aimed at the control of firearm possession and ownership by the public. There can be no assurance that existing and future gun control legislation will not have a substantial negative impact on consumer demand for firearms and result in a material adverse effect on the Company's financial condition, results of operations, or cash flows. The Company is also subject to a variety of federal, state and local laws and regulations relating to, among other things, advertising, the sale and handling of firearms, the offering and extension of credit and workplace and product safety, including various regulations concerning the storage of gunpowder. Certain governmental licenses and permits are also necessary in connection with the Company's operations. In particular, as with any seller of firearms, the Company is required to maintain a federal firearms license that imposes various restrictions and conditions on the Company's operations, including a requirement that the Company resell firearms and ammunition only to federally licensed firearms 9 Form 10-Q Page 9 dealers. In addition, all exports of firearms and ammunition require federal government licenses in advance of shipment. In the event that the Company should be determined to be in violation of any applicable regulations, licenses or permits, the Company could become subject to cease and desist orders, injunctions, civil fines and other penalties. Any such penalties could have a material adverse effect on the Company's business, financial condition, results of operations, and cash flows. 8. MERGER PROPOSAL The Company announced on November 6, 2000 that it had received an offer from a group of controlling shareholders to acquire the Company through a cash merger at $2.75 per share. The shareholder group currently owns approximately 62.2% of the outstanding shares of the Company. The offer to acquire the Company came during a regularly scheduled meeting of the Company's Board of Directors. The Board appointed a special committee of outside directors to consider the offer. On March 7, 2001, the Board of Directors of the Company approved a cash-out merger between the Company and certain corporations owned by members of the Company's management (the "Acquirers"). The merger will result in a payment of $3.20 per share for all shares of the Company not already owned by the Acquirers on November 6, 2000. The transaction is subject to approval of the Company's shareholders. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis provides information that management believes is relevant to an assessment and understanding of the operations and financial condition of Ellett Brothers, Inc. and its subsidiaries (the "Company"). This discussion and analysis should be read in conjunction with the financial statements and related notes presented in the Company's annual report on Form 10-K for the year ended December 31, 2000, and the condensed consolidated financial statements and related notes included in this Form 10-Q. Sales for the three months ended June 30, 2001 were $32.3 million, as compared to $36.1 million for the same period in 2000, a decrease of $3.8 million, or 10.5%. Sales for the six months ended June 30, 2001 were $67.8 million, as compared to $72.7 million for the same period in 2000, a decrease of $4.9 million, or 6.8%. Included in these amounts were sales from the subsidiaries of $1.8 million and $3.4 million for the three and six months ended June 30, 2001, respectively. Sales in our distribution business continued to be effected by the slow-down in the retail sector. Sales in the distribution business decreased 10.6% for the quarter and 7.1% for the six months ended June 30, 2001 when compared to the same periods in 2000. Sales in the hunting and shooting sports products were down 17.4% in the quarter and 8.3% for the six months. Our marine accessories were down 3.5% for the quarter and 7.0% for the six months. Camping, archery and outdoor accessories sales were down 3.2% for the quarter and 3.5% for the six months. Gross profit was $5.5 million (17.0% of sales) for the three months ended June 30, 2001, as compared to $6.5 million (18.0% of sales) for the same period in 2000, a decrease of approximately $1.0 million. Gross profit for the six months ended June 30, 2001 was $10.6 million (15.6% of sales), as compared to $13.3 million (18.3% of sales) for the same period in 2000, a decrease of approximately $2.7 million. The decrease in sales, along with the competitive discounting that has taken place in the market in 2001, has adversely affected margins. Also, a sales mix of lower margin items in 2001 has had an adverse impact on margins. Selling, general and administrative ("SG&A") expenses for the three months ended June 30, 2001 were $6.4 million (19.8% of sales), as compared to $6.3 million (17.3% of sales) for the same period in 2000, an increase of $124,000, or 2.0%. SG&A expenses for the six months ended June 30, 2001 were $12.7 million (18.7% of sales), as compared to $12.2 million (16.8% of sales) for the same period in 2000, an increase of $436,000, or 3.6%. SG&A expenses have increased over 2000 both for the quarter and six months due to one additional month of depreciation expense in 2001 associated with the computer system, a reimbursement in associate insurance received in 2000 and expenses attributable to the expanded warehouse facility in 2001 at Archery Center International. Interest expense was $759,000 (2.4% of sales) for the three months ended June 30, 2001, as compared to $867,000 (2.4% of sales) for the same period in 2000, an decrease of $108,000, or 12.5%. Interest expense for the six months ended June 30, 2001 was $1.6 million (2.3% of sales), as compared to $1.5 million (2.1% of sales) for the same period in 2000, an increase of $74,000, or 4.9%. Interest expense for the second quarter was favorably impacted by the lower interest rates that have occurred in 2001. 10 Form 10-Q Page 10 An income tax benefit of $497,000 was recorded for the three months ended June 30, 2001, as compared to an income tax benefit of $188,000 for the same period in 2000. The income tax benefit was $1.1 million for the six months ended June 30, 2001, as compared to an income tax benefit of $61,000 for the same period in 2000. Net loss for the three months ended June 30, 2001 was $1.1 million (3.3% of sales) or $.26 per basic and diluted share, as compared to a net loss of $356,000 (1.0% of sales) or $.08 per basic and diluted share, for the same period in 2000. Net loss for the six months ended June 30, 2001 was $2.3 million (3.4% of sales) or $.56 per basic and diluted share, as compared to a net loss of $200,000 (0.3% of sales) or $.05 per basic and diluted share for the same period in 2000. The net loss is a result of the decline in sales and margin during the first six months of 2001 as compared to 2000. SEASONALITY AND QUARTERLY INFORMATION Historically, the Company's business has been seasonal. The sales of hunting and shooting sports products, as well as camping, archery and outdoor accessories, usually increase in the third quarter of each year, and peak early in the fourth quarter. Sales of marine accessories usually increase in the first quarter of each year, then peak midway through the second quarter and continue at similar levels through the first half of the third quarter. Operations of the subsidiaries have been very seasonal, producing significantly higher sales and gross profit during the third and fourth quarters, with losses in the first and second quarters. The Company's quarterly operating results may also be affected by a wide variety of factors, such as legislative and regulatory changes, competitive pressures, and general economic conditions. LIQUIDITY AND CAPITAL RESOURCES The Company's primary sources of liquidity is cash generated by operations and borrowings under its revolving credit facility. Pursuant to its operating strategy, the Company maintains very minimal cash balances and is substantially dependent on, among other things, the availability of adequate working capital financing to support inventories and accounts receivable. Net cash provided by operating activities was $1.7 million for the six months ended June 30, 2000, as compared to net cash used in operating activities of $8.0 million in 2000. For the six months ended June 30, 2001, the Company incurred a net loss, which was offset by the Company's non-cash charges to income which are primarily depreciation and amortization. This, combined with an increase in payables offset by increases in inventory and receivables, resulted in the cash provided from operations. Net cash used in investing activities was $477,000 for the six months ended June 30, 2001, as compared to $767,000 for the same period in 2000. The net cash used in 2001 was primarily for equipment used in the business. Net cash used by financing activities was $1.3 million for the six months ended June 30, 2001, as compared to net cash provided of $8.6 million for the same period in 2000. During the six months ended June 30, 2001, the Company's net repayments were $853,000 as compared to net borrowings of $9.2 million during the same period in 2000. Working capital requirements for the Company's traditional distribution business have historically been somewhat seasonal in nature. Accounts receivable have generally increased in the first quarter primarily because of the customary industry practice during the first quarter of each year whereby the Company has offered to its customers extended payment terms for purchases of certain products, thereby extending the payment due dates for a portion of its sales into the third and fourth quarters of the year. Accounts receivable have generally increased further early in the third quarter as additional 60 to 90 day extended terms have been offered to stimulate sales in advance of the Company's highest volume quarters. Accounts receivable usually decrease in the fourth quarter as payments are received on prior quarters' sales and a larger percentage of current sales are made with shorter payment terms. Inventory generally builds during the first two quarters and peaks in the third quarter to support the higher sales volumes of the third and fourth quarters. In the fourth quarter, the higher sales volumes have traditionally served to reduce inventory to its lowest point at year-end. Working capital requirements are also seasonal for the subsidiaries. Inventories generally increase during the first half of the year to accommodate the sales expected in the third and fourth quarters. Accounts receivable generally decline to their lowest point in the second quarter just before the sales increase in the second half of the year. Principal maturities on the Company's industrial revenue refunding bonds began in 1995. Remaining payments for 2001 will be $466,000, and maturities for 2002 and 2003 will be $967,000 and $1,017,000, respectively. The annual interest charges on the Company's industrial revenue bonds, at a fixed rate of 7.5%, will be $231,000 for the remainder of 2001, and $429,000 and $375,000 for 2002 and 2003, respectively. Management believes that cash generated from operations, and available under the Company's revolving credit facility, will be sufficient to finance its operations, expected working capital needs, capital expenditures, and debt service requirements for the remainder of 2001 and the foreseeable future. 11 Form 10-Q Page 11 ADVISORY NOTE REGARDING FORWARD-LOOKING STATEMENTS Certain of the statements contained in Item 2 (Management's Discussion and Analysis of Financial Condition and Results of Operations) that are not historical facts are forward-looking statements subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995. The Company cautions readers of this report on Form 10-Q that such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company to be materially different from those expressed or implied by such forward-looking statements. Although the Company's management believes that their expectations of future performance are based on reasonable assumptions within the bounds of their knowledge of their business and operations, there can be no assurance that actual results will not differ materially from their expectations. Factors which could cause actual results to differ from expectations include, among other things, reductions in, or lack of growth of, firearm sales; potential negative effects of existing and future gun control legislation on consumer demand for firearms; the potential negative impact on gross margins from shifts in the Company's product mix toward lower margin products; seasonal fluctuations in the Company's business; competition from national, regional and local distributors and various manufacturers who sell products directly to the Company's customer base; competition from sporting goods mass merchandisers or "superstores" which sell in competition with the Company's primary customer base; exposure to product liability lawsuits; the Company's ability to obtain liability insurance coverage for firearms related claims; the challenges and uncertainties in the implementation of the Company's expansion and development strategies; the Company's dependence on key personnel; and other factors described in this report and in other reports filed by the Company with the Securities and Exchange Commission. Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company's exposure to market risk for a change in interest rates relates solely to its debt under its revolving credit facility ($38.4 million at June 30, 2001 and $39.2 million at December 31, 2000). The Company does not currently use derivative financial instruments. Approximately $4.8 million of the Company's debt at June 30, 2001 and $5.2 million at December 31, 2000 was subject to fixed interest rates and principal payments. This debt is comprised of the Company's long-term debt under its industrial revenue refunding bonds which carry an interest rate of 7.5%. The Company is exposed to changes in interest rates primarily as a result of its debt in a revolving credit facility ("Facility") used to maintain liquidity and fund the Company's business operations. Pursuant to the Company's operating strategies, it maintains minimal cash balances and is substantially dependent on, among other things, the availability of adequate working capital financing to support inventories and accounts receivables. The Facility provides the Company with a revolving line of credit and letters of credit. The maximum amount that can be outstanding at anytime is $40.0 million. The term of the Facility expires on July 1, 2002. Borrowings under the Facility bear interest at a rate equal to, at the Company's option, prime rate plus 0.375% or 2.25% above the 30 or 90 day LIBOR rate. Combinations of these rates can be used for the various loans that comprise the total outstanding balance under the Facility. The interest rates of the Facility are subject to change based on changes in the Company's leverage ratio and net income. At June 30, 2001, the interest rate was 6.31%. The definitive extent of the Company's interest rate risk under the Facility is not quantifiable or predictable because of the variability of future interest rates and business financing requirements. The Company's long-term debt has a fair value, based upon current interest rates, of approximately $43.2 million at June 30, 2001 and $45.0 million at December 31, 2000. Fair value will vary as interest rates change. The following table presents the aggregate maturities and historical cost amounts of the fixed debt principal and interest rates by maturity dates at June 30, 2001: Maturity Date Fixed Rate Debt Interest Rate ------------------------------------------------------------------------------- 2001 $ 466,000 7.5% 2002 967,000 7.5% 2003 1,017,000 7.5% 2004 1,067,000 7.5% ------------------------------------------------------------------------------- Thereafter 1,310,000 7.5% ------------------------------------------------------------------------------- $ 4,827,000 7.5% 12 Form 10-Q Page 12 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Reports on Form 8-K The Company did not file any reports on Form 8-K during the three months ended June 30, 2001. 13 Form 10-Q Page 13 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized. ELLETT BROTHERS, INC. Date: August 14, 2001 By: /s/ Joseph F. Murray, Jr. ------------------------------------------------ Joseph F. Murray, Jr. President, Chief Executive Officer and Director By /s/ George E. Loney ----------------------------------------------- George E. Loney Chief Financial Officer (principal financial and accounting officer)

ELLETT BROTHERS INC 10-Q