FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark One)
(X) Quarterly Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended MARCH 30, 2002
or
( ) Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
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Commission file number 1-11720
ADVO, INC.
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(Exact name of registrant as specified in its charter)
Delaware 06-0885252
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Univac Lane, P.O. Box 755, Windsor, CT 06095-0755
(Address of principal executive offices) (Zip Code)
Registrant's telephone number including area code: (860) 285-6100
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
As of April 27, 2002 there were 20,069,100 shares of common stock outstanding.
ADVO, INC.
INDEX TO QUARTERLY REPORT
ON FORM 10-Q
QUARTER ENDED MARCH 30, 2002
Part I - Financial Information
Page
Item 1. Financial Statements (Unaudited).
Consolidated balance sheets -
March 30, 2002 and September 29, 2001. 2
Consolidated statements of operations -
Six months and three months ended March 30, 2002 and
March 31, 2001. 3
Consolidated statements of cash flows -
Six months ended March 30, 2002 and March 31, 2001. 4
Notes to consolidated financial statements. 5
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of
Operations. 8
Item 3. Quantitative and Qualitative Disclosures
about Market Risk. 13
Part II - Other Information
Item 6. Exhibits and Reports on Form 8-K. 14
Signatures 15
ADVO, INC.
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(In thousands, except share data)
March 30, September 29,
ASSETS 2002 2001
--------- ----------
Current assets:
Cash and cash equivalents $ 10,593 $ 17,728
Accounts receivable, net 115,053 119,388
Inventories 2,832 2,840
Prepaid expenses and other current assets 8,120 7,282
Investment in deferred compensation plan 13,379 11,493
Deferred income taxes 11,145 11,319
--------- ---------
Total current assets 161,122 170,050
Property, plant and equipment 256,748 246,936
Less accumulated depreciation and amortization (137,354) (126,455)
--------- ---------
Net property, plant and equipment 119,394 120,481
Goodwill 21,600 21,525
Other assets 13,003 10,264
--------- ---------
TOTAL ASSETS $ 315,119 $ 322,320
========= =========
LIABILITIES
Current liabilities:
Current portion of long-term debt $ 15,000 $ 11,250
Notes payable - short term 1,715 2,390
Accounts payable 30,451 37,759
Accrued compensation and benefits 23,646 21,531
Deferred compensation plan 13,379 11,493
Other current liabilities 38,095 44,678
--------- ---------
Total current liabilities 122,286 129,101
Long-term debt 157,250 173,750
Notes payable - long term -- 1,715
Deferred income taxes 10,173 9,852
Other liabilities 5,030 4,949
STOCKHOLDERS' EQUITY
Series A Convertible preferred stock, $.01 par value
(Authorized 5,000,000 shares, none issued) -- --
Common stock, $.01 par value (Authorized
40,000,000 shares, issued 30,464,213
and 30,317,994 shares, respectively) 305 303
Additional paid-in capital 200,785 197,222
Accumulated earnings 39,830 19,321
--------- ---------
240,920 216,846
Less common stock held in treasury, at cost (217,295) (208,620)
Accumulated other comprehensive loss (3,245) (5,273)
--------- ---------
Total stockholders' equity 20,380 2,953
--------- ---------
TOTAL LIABILITIES & STOCKHOLDERS' EQUITY $ 315,119 $ 322,320
========= =========
See Accompanying Notes.
- 2 -
ADVO, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands, except per share data)
Six months ended Three months ended
--------------------- ---------------------
March 30, March 31, March 30, March 31,
2002 2001 2002 2001
--------- -------- --------- --------
REVENUES $561,369 $569,324 $274,433 $271,783
Costs and expenses:
Cost of sales 409,217 413,346 201,786 200,346
Selling, general and
administrative 107,835 105,164 53,445 50,194
Provision for bad debts 4,112 3,017 1,987 1,924
-------- -------- -------- --------
OPERATING INCOME 40,205 47,797 17,215 19,319
Interest expense 6,864 9,177 3,349 4,538
Other expense, net 787 221 493 103
-------- -------- -------- --------
Income before income taxes 32,554 38,399 13,373 14,678
Provision for income taxes 12,045 14,208 4,948 5,431
-------- -------- -------- --------
NET INCOME $ 20,509 $ 24,191 $ 8,425 $ 9,247
======== ======== ======== ========
BASIC EARNINGS PER SHARE $ 1.03 $ 1.20 $ .42 $ .46
======== ======== ======== ========
DILUTED EARNINGS PER SHARE $ 1.01 $ 1.17 $ .42 $ .45
======== ======== ======== ========
Weighted average basic shares 19,939 20,105 19,950 20,183
Weighted average diluted shares 20,281 20,650 20,276 20,713
See Accompanying Notes.
- 3 -
ADVO, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
Six months ended
--------------------------
March 30, March 31,
2002 2001
------------ -----------
NET CASH PROVIDED BY OPERATING ACTIVITIES $ 28,633 $ 13,313
Cash flows from investing activities:
Acquisition of property, plant and equipment (13,370) (16,537)
Proceeds from disposals of property, plant and equipment 301 94
Distributions from equity affiliates 44 --
Acquisitions/joint ventures, net of cash acquired (450) (9,255)
-------- --------
NET CASH USED BY INVESTING ACTIVITIES (13,475) (25,698)
Cash flows from financing activities:
Revolving line of credit - net (9,000) 6,000
Payments on long-term debt (3,750) --
(Decrease) increase in note payable - net (2,391) 4,030
Proceeds from exercise of stock options 1,522 4,523
Purchase of common stock for treasury (8,674) (3,976)
-------- --------
NET CASH (USED) PROVIDED BY FINANCING ACTIVITIES (22,293) 10,577
-------- --------
Decrease in cash and cash equivalents (7,135) (1,808)
Cash and cash equivalents at beginning of period 17,728 6,003
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 10,593 $ 4,195
======== ========
Noncash activities:
Change in fair value of interest rate swap liabilities 2,028 (3,129)
Change in noncash portion of deferred compensation plan 1,967 (1,197)
See Accompanying Notes.
- 4 -
ADVO, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments considered
necessary for a fair presentation have been included.
Operating results for the six month period ended March 30, 2002 are not
necessarily indicative of the results that may be expected for the fiscal year
ending September 28, 2002. For further information, refer to the consolidated
financial statements and footnotes thereto included in ADVO's annual report on
Form 10-K for the fiscal year ended September 29, 2001. Certain
reclassifications have been made in the fiscal 2001 financial statements to
conform with the fiscal 2002 presentation.
2. SUMMARY OF ACCOUNTING POLICIES
Long-lived assets
In August 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("Statement") No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets", which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and
for the disposal of a segment of a business. The Company expects to adopt
Statement No. 144 in fiscal 2003 and does not expect such adoption to have a
material effect on the Company's financial position or results of operations.
3. GOODWILL AND OTHER INTANGIBLE ASSETS
Effective October 1, 2001, the Company adopted Statement No. 142, "Goodwill and
Other Intangible Assets". Under Statement No. 142, goodwill and intangible
assets that have indefinite useful lives are no longer subject to amortization.
Accordingly, the Company ceased amortization of all goodwill upon adoption.
Intangible assets that have a finite life continue to be amortized over their
useful lives.
Statement No. 142 also requires that goodwill be tested for impairment at least
annually. Impairment exists when the carrying amount of goodwill exceeds its
fair market value. The Company performed the impairment tests upon the adoption
of Statement No. 142 on October 1, 2001. Fair value was determined using the
discounted cash flow methodology. The Company has determined that no impairment
of goodwill exists.
The following table reflects actual results of operations for the six month and
three month periods ended March 30, 2002 and pro-forma results of operations for
the six month and three month periods ended March 31, 2001 had the Company
applied the non-amortization provisions of Statement No. 142 in those periods:
- 5 -
ADVO, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
Six months ended Three months ended
------------------------ -----------------------
March 30, March 31, March 30, March 31,
2002 2001 2002 2001
---------- ---------- ---------- ----------
(In thousands, except per share data)
Reported net income $ 20,509 $ 24,191 $ 8,425 $ 9,247
Add: Goodwill amortization, net of tax -- 439 -- 234
---------- ---------- ---------- ----------
Adjusted net income $ 20,509 $ 24,630 $ 8,425 $ 9,481
========== ========== ========== ==========
Reported basic earnings per share $ 1.03 $ 1.20 $ .42 $ .46
Add: Goodwill amortization, net of tax -- .02 -- .01
---------- ---------- ---------- ----------
Adjusted basic earnings per share $ 1.03 $ 1.22 $ .42 $ .47
========== ========== ========== ==========
Reported diluted earnings per share $ 1.01 $ 1.17 $ .42 $ .45
Add: Goodwill amortization, net of tax -- .02 -- .01
---------- ---------- ---------- ----------
Adjusted diluted earnings per share $ 1.01 $ 1.19 $ .42 $ .46
========== ========== ========== ==========
Intangible assets that continue to be subject to amortization are included in
other assets and consist primarily of customer based intangibles with a gross
carrying value of $4.0 million and accumulated amortization of $3.4 million at
March 30, 2002.
Amortization expense for the quarter and six months ended March 30, 2002 was
$0.1 million and $0.2 million, respectively. Amortization expense is estimated
to be $0.2 million for the remainder of fiscal 2002, $0.3 million for fiscal
2003. Subsequent to fiscal 2003, all intangible assets are expected to be fully
amortized.
4. COMPREHENSIVE INCOME
Comprehensive income for a period encompasses net income and all other changes
in a company's equity other than from transactions with the company's owners.
The Company's comprehensive income was as follows:
Six months ended Three months ended
------------------- --------------------
March 30, March 31, March 30, March 31,
2002 2001 2002 2001
-------- ------- -------- --------
(In thousands)
Net income $ 20,509 $ 24,191 $ 8,425 $ 9,247
Other comprehensive income (loss):
Unrealized gain (loss) on derivative
instruments 2,028 (3,129) 1,362 (1,552)
-------- -------- -------- --------
Total comprehensive income $ 22,537 $ 21,062 $ 9,787 $ 7,695
======== ======== ======== ========
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ADVO, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
5. EARNINGS PER SHARE
Basic earnings per share excludes the effect of common stock equivalents, such
as stock options, and is computed by dividing net income by the weighted average
number of common shares outstanding for the period. Diluted earnings per share
reflect the potential dilution that could occur if common stock equivalents,
such as stock options, were exercised.
Six months ended Three months ended
-------------------- ---------------------
March 30, March 31, March 30, March 31,
2002 2001 2002 2001
--------- ------- ------- --------
(In thousands, except
per share data)
Net income $20,509 $24,191 $ 8,425 $ 9,247
Weighted average basic shares 19,939 20,105 19,950 20,183
Effect of dilutive securities:
Stock options 310 508 305 494
Restricted stock 32 37 21 36
------- ------- ------- -------
Dilutive potential common shares 342 545 326 530
Weighted average diluted shares 20,281 20,650 20,276 20,713
======= ======= ======= =======
Basic earnings per share $ 1.03 $ 1.20 $ .42 $ .46
======= ======= ======= =======
Diluted earnings per share $ 1.01 $ 1.17 $ .42 $ .45
======= ======= ======= =======
-7-
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This section should be read in conjunction with the consolidated financial
statements of the Company and the notes thereto.
RESULTS OF OPERATIONS
REVENUES Revenues for the second quarter of fiscal 2002 were $274.4 million,
representing a 1.0% increase over the second quarter of fiscal 2001.
Contributing to this result were increases in the Company's core shared mail
business, notably the continued extension of newspaper partnerships and
second-in-home dates, and incremental revenues of $1.8 million associated with
the acquisition of the New Jersey Shoppers Guide ("NJ Shopper") in the third
quarter of the previous fiscal year. The increase in shared mail revenue was
primarily due to pricing gains, in part as a result of the postal rate increases
effective in the prior year, partially offset by shifts in product mix and
weights.
For the year-to-date period ended March 30, 2002, the Company's revenues were
$561.4 million reflecting a 1.4% decrease from the prior year period. This
decrease was primarily driven by volume declines which took place in the first
quarter of fiscal 2002, and to a lesser degree, shifts in product mix and
weights. Partially offsetting these year-to-date declines were pricing gains,
due in part to the postal rate increases in the prior year. Also offsetting the
revenue decline for the first six months of fiscal 2002 was a 7.3% year over
year revenue increase in the Company's A.N.N.E. (ADVO National Network
Extension) brokered distribution program and $3.9 million of incremental
revenues associated with the Company's acquisition of the NJ Shopper in the
third quarter of fiscal 2001.
Revenue per thousand pieces remained relatively constant for the three months
ended March 30, 2002 at $38.53 versus $38.66 for the same period in fiscal 2001.
Revenue per thousand pieces was $39.48 for the six months ended March 30, 2002,
representing a 0.4% increase over the comparable period in the prior year.
Average pieces per package were 7.63 for the second quarter and 7.84 for the six
months ended March 30, 2002, decreasing 3.4% and 4.6%, respectively, from the
prior year due to the dilutive effect of the second in-home date mailings.
Conversely, these mailings contributed to the increase in shared mail packages
delivered to 856.3 million packages and 1,655.9 million packages for the three
and six months ended March 30, 2002, representing a 5.9% and 3.6% increase,
respectively, over the prior year period. Also, total shared mail pieces
distributed increased 2.3% and decreased 1.2% for the second quarter and first
half of fiscal 2002, respectively, compared to the same periods in fiscal 2001.
OPERATING EXPENSES Cost of sales as a percentage of revenue was 73.5% for the
second quarter of fiscal 2002 decreasing 0.2 percentage points when compared to
the same period in the prior year. The decrease was primarily the result of
continued improvements and efficiencies in the branch operations of the Company
and lower print costs. In absolute terms, cost of sales increased $1.4 million
for the three months ended March 30, 2002 when compared to the same period in
the prior year. The increase was due to higher distribution costs partially
offset by lower print and paper costs and branch efficiencies. Distribution
costs, consisting primarily of postage costs, increased for the second quarter
of fiscal 2002. This net increase was the result of the postal rate increase in
the prior fiscal year and higher postage costs resulting from the 5.9% increase
in shared mail packages delivered in the second quarter of fiscal 2002.
-8-
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Cost of sales as a percentage of revenue for the first half of fiscal 2002
increased 0.3 percentage points to 72.9% when compared to the first half of
fiscal 2001. This increase primarily resulted from underweight postage costs
incurred as a result of the decline in average pieces per package due to the
expected dilutive effect of the second in-home date initiatives. In absolute
terms, cost of sales decreased $4.1 million for the first six months of fiscal
2002 versus 2001. The decrease was caused primarily by lower print costs due to
volume declines and lower paper prices. Also contributing to the decrease were
lower production costs, particularly temporary labor cost reductions associated
with the year over year 1.2% decrease in shared mail pieces processed and
improved branch efficiencies. Offsetting these decreases in cost of sales were
higher postage costs resulting from the postal rate increase in the prior year
and the 3.6% increase in shared mail packages distributed during the first half
of fiscal 2002.
For the three and six month periods ended March 30, 2002, selling, general and
administrative costs, including the provision for bad debts, increased $3.3
million and $3.8 million, respectively, when compared to the same periods in the
prior year. As a percentage of revenue, these costs increased 1.0 and 0.9
percentage points for the three and six months ended March 30, 2002 versus the
comparable periods in fiscal 2001. The increase in selling, general and
administrative costs for the second quarter and year-to-date periods was due to
incremental security costs incurred when the Company established at the
beginning of the fiscal year an executive level Office of Safety and Security
designed to ensure the safety of the Company's operations for its associates,
clients and consumers. The increase in selling, general and administrative costs
was also affected by lower incentive wages in the prior year versus the current
year. Also impacting year-to-date selling, general and administrative expenses
were the organizational realignment costs incurred during the first quarter of
fiscal 2002. These increases were offset by reductions in spending due to strict
fixed cost controls implemented throughout the organization.
OPERATING INCOME The Company reported operating income of $17.2 million for the
second quarter of fiscal 2002 compared to $19.3 million for the second quarter
of fiscal 2001. For the first half of fiscal 2002, operating income was $40.2
million versus $47.8 million for the same period in the prior year.
INTEREST EXPENSE Interest expense decreased $1.2 million and $2.3 million for
the three and six month periods ended March 30, 2002, respectively. The
decreases were due to lower market rates of interest and a decrease in the
average outstanding debt balance.
INCOME TAXES The effective income tax rate was 37% for both the three and six
months ended March 30, 2002 and March 31, 2001.
EARNINGS PER SHARE Diluted earnings per share was $0.42 for the second quarter
of fiscal 2002 versus $0.45 for the same period of the prior year. On a
year-to-date basis, diluted earnings per share was $1.01 for the current period
versus $1.17 in the comparable prior year period.
FINANCIAL CONDITION
Working capital decreased $2.1 million from September 29, 2001 to March 30,
2002. The change in working capital was the result of decreases in current
assets and current liabilities of $8.9 million and $6.8 million, respectively.
The change in current assets was due in part to a decrease in cash and cash
equivalents as a result of scheduled debt repayments, treasury stock purchases
made under the Company's buyback program and the timing of vendor payments. A
decrease in accounts receivable, due to improved collections, also contributed
to the decrease in current assets.
-9-
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The decrease in current liabilities was attributed to the following: decreases
in accounts payable due to the timing of vendor payments, decreases in other
current liabilities relating to the timing of customer advance payments and the
change in the fair value of interest rate swap liabilities. Offsetting these
decreases were increases in taxes payable associated with the timing of
payments, increases in accrued compensation and benefits due to higher incentive
compensation and increases in the current portion of long term debt due to
scheduled debt payments.
Stockholders' equity of $20.4 million at March 30, 2002 reflects an increase of
$17.4 million from September 29, 2001. The increase was primarily attributable
to net income of $20.5 million. Other increases in equity were derived from
employee related stock activity of $3.6 million and a $2.0 million reduction in
the fair value of derivative instruments. These increases were offset by
treasury stock purchases of $8.7 million. The treasury stock purchases consisted
of $7.3 million made on the open market associated with the Company's buyback
program and $1.4 million pursuant to elections by employees to satisfy
withholding requirements under the Company's restricted stock and stock option
plans.
PROPERTY, PLANT AND EQUIPMENT
Investments in property, plant and equipment for the six month period ended
March 30, 2002 were $13.4 million. Software development for the order
management, order fulfillment and targeting solutions systems, as well as,
upgrades to the human resource/payroll systems, deployment of computer hardware
and renovations at certain of the Company's facilities account for the majority
of the capital expenditures. The Company expects its capital expenditures for
the entire year to be approximately $35.0 million.
LIQUIDITY
The Company's main source of liquidity continues to be funds generated from
operating activities. In addition, the Company has available unused credit
commitments of $116.5 million that may be used to fund operating activities.
The net cash provided by operating activities was $28.6 million for the six
months ended March 30, 2002 versus $13.3 million for the six months ended March
31, 2001. The year over year increase resulted primarily from the change in
accounts receivable due to improved collections and the change in accrued
compensation and benefits as a result of the incentive payment which was made in
fiscal 2001 for which no comparable payment was made in the current fiscal year.
Cash and cash equivalents for the first six months of fiscal 2002 decreased $7.1
million to $10.6 million. The decrease was comprised of net cash used for
investing and financing activities of $13.5 million and $22.3 million,
respectively, offset partially by net cash provided by operating activities of
$28.6 million.
Investing activities made during the first half of fiscal 2002 primarily
consisted of $13.4 million for the capital expenditures detailed above.
Investing activities for the first half of the prior fiscal year included $16.5
million of capital expenditures and $9.3 million for acquisitions and joint
ventures, most notably for the $8.3 million acquisition of MMSI, net of cash
acquired, and including subsequent contingent consideration paid in the second
quarter of fiscal 2001.
-10-
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Net cash used for financing activities was $22.3 million for the year-to-date
period ended March 30, 2002 versus net cash provided by financing activities of
$10.6 million in the same prior year period. In the current year, financing
activities consisted of debt payments of $12.8 million which included net
payments on the revolver and scheduled principal payments on the term loan,
payment of a $2.4 million note resulting from the acquisition of MMSI in the
prior year, and $8.7 million of treasury stock purchases offset by $1.5 million
of proceeds from stock option exercises. In the prior year, financing activities
included net borrowings of $6.0 million, a $4.0 million note payable related to
the acquisition of MMSI and $4.5 million of proceeds from stock option exercises
offset by treasury stock purchases of $4.0 million.
Contractual and commercial commitments
The Company's contractual obligations are as follows.
(In millions) Long term debt Operating leases
-------------- ----------------
Less than one year $ 15.0 $ 13.2
One to three years 157.3 26.3
Four to five years -- 11.3
After five years -- 16.2
------ ------
Total $172.3 $ 67.0
====== ======
The Company's long-term debt obligations are discussed below in the "Financing
Arrangements" section. The Company leases property in its normal business
operations under noncancellable operating leases. Certain of these leases
contain renewal options and certain leases also provide for cost escalation
payments.
The Company has various agreements with International Business Machines
Corporation ("IBM") Global Services to provide systems development, technical
support, a customer support center and server farm management services to the
Company. The noncancellable portions of these contracts have lapsed allowing the
Company to cancel these contracts subject to termination charges ranging from
$9.6 million in fiscal 2002 to $1.7 million in fiscal 2006 depending on the year
in which the cancellation becomes effective.
The Company has outstanding letters of credit of approximately $7.5 million
under separate agreements expiring in April 2003 primarily relating to its
worker's compensation program.
The Company anticipates it will be able to meet its commitments detailed above
through funds generated from operations or from unused credit under its
revolving line of credit.
- 11 -
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FINANCING ARRANGEMENTS
The Company maintains a credit agreement which provides for total credit
facilities of $300 million, consisting of a $135 million term loan and a $165
million revolving line of credit. At March 30, 2002, there was $172.3 million of
debt outstanding, with $15.0 million classified as current due to scheduled
principal payments. The Company anticipates it will be able to meet its debt
obligations through funds generated from operations. During April 2002, the
Company borrowed an additional $15.0 million under the revolving line of credit.
Under the terms of the credit agreement, the Company is required to maintain
certain financial ratios. In addition, the credit agreement also places
restrictions on disposals of assets, mergers and acquisitions, dividend
payments, investments and additional debt.
NEW ACCOUNTING PRONOUNCEMENTS
Effective October 1, 2001, the Company adopted Statement of Financial Accounting
Standards ("Statement") No. 142, "Goodwill and Other Intangible Assets". Under
Statement No. 142, goodwill and intangible assets that have indefinite useful
lives are no longer subject to amortization. Accordingly, the Company ceased
amortization of all goodwill upon adoption. Additionally, intangible assets that
have a finite life continue to be amortized over their useful lives. Operating
income was $17.2 million and $19.3 million for the second quarter of fiscal 2002
and 2001, respectively, and $40.2 million and $47.8 million for the first six
months of fiscal 2002 and 2001, respectively. Had the Company applied the
non-amortization provisions of Statement No. 142 in fiscal 2001, operating
income would have been $19.7 million and $48.5 million for the three and six
months ended March 31, 2001. See the discussion in Note 3 of the "Notes to
Consolidated Financial Statements" of this report for a further discussion of
the impact of Statement No. 142 to the Company.
Statement No. 142 also requires that goodwill be tested for impairment at least
annually. Impairment exists when the carrying amount of goodwill exceeds its
fair market value. The Company performed the impairment tests upon the adoption
of Statement No. 142 on October 1, 2001. Fair value was determined using the
discounted cash flow methodology. The Company has determined that no impairment
of goodwill exists. Additional evaluations of goodwill may be performed in
future periods should any circumstances arise that would indicate that the
carrying value of goodwill might be impaired. Impairment adjustments recognized
after adoption, if any, are required to be recognized as operating expenses.
CRITICAL ACCOUNTING POLICIES
The SEC issued financial reporting release FR-60, "Cautionary Advice Regarding
Disclosure About Critical Accounting Policies". Critical accounting polices are
defined as those that are most important to the portrayal of a company's
financial condition and results and which require complex or subjective
judgements or estimates. The preparation of financial statements in conformity
with general accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements. Actual results could differ from those estimates under different
assumptions and conditions. The Company had determined its critical accounting
polices to include the allowance for doubtful accounts and the valuation of
goodwill and intangible assets.
- 12 -
ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Allowance for doubtful accounts
The Company maintains an allowance for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments. The
Company reviews the collectibility of its receivables on an ongoing basis taking
into account a combination of factors. On a monthly basis, the Company conducts
meetings to identify and review potential problems, such as a bankruptcy filing
or deterioration in the customer's financial condition to ensure the Company is
adequately accrued for potential loss. The Company also calculates a trended
write-off of bad debts over a rolling twelve-month period and takes into account
aging category and historical trends. If a customer's situation changes, such as
bankruptcy or creditworthiness, or there is a change in the current economic
climate, the Company may modify its estimate of the allowance for doubtful
accounts.
Valuation of goodwill and intangible assets
Goodwill represents the excess purchase price over fair value of net assets
acquired in connection with purchase business combinations. With the adoption of
Statement No. 142, the Company ceased amortization of goodwill, but is now
subject to an annual impairment test as discussed under "New Accounting
Pronouncements". The Company's goodwill impairment test was performed by
comparing the net present value of projected cash flows to the carrying value of
goodwill. The Company utilized discount rates determined by management to be
similar with the level of risk in the current business model. The Company has
determined that no impairment of goodwill exists. If the assumptions the Company
made regarding estimated cash flows, such as future operating performance and
other factors to determine the fair value, is less favorable than expected, the
Company may be required to record an impairment charge.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's interest expense is sensitive to changes in interest rates. In
this regard, changes in interest rates affect the interest paid on its debt. To
mitigate the impact of interest rate fluctuations, the Company has historically
maintained interest rate swap agreements on notional amounts totaling $100
million which is currently over 50% of its outstanding debt balance.
The Company believes that the interest rate swap agreements limit substantial
risk if interest rates should fluctuate. If interest rates should change by 2
percentage points for the remainder of the 2002 fiscal year from those rates in
effect at March 30, 2002, assuming no change in the outstanding debt balance and
considering the effects of the Company's interest rate swap agreements, interest
expense would increase/decrease by approximately $1.2 million.
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ADVO, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD LOOKING STATEMENTS
Except for the historical information stated herein, the matters discussed in
this Management's Discussion and Analysis of Financial Condition and Results of
Operations contain forward looking statements within the meaning of Section 21E
of the Securities Exchange Act of 1934, as amended. Such forward looking
statements are based on current information and expectations and are subject to
risks and uncertainties which could cause the Company's actual results to differ
materially from those in the forward looking statements. Such risks and
uncertainties include but are not limited to: changes in customer demand and
pricing; the possibility of consolidation throughout the retail sector; the
impact of economic and political conditions on retail advertising spending and
our distribution system; postal and paper prices; possible governmental
regulation or legislation affecting aspects of the Company's business; the
efficiencies achieved with technology upgrades and other general economic
factors.
PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit Index
Exhibit No. Exhibits
(b) Reports on Form 8-K
No report on Form 8-K was filed by the Company with respect to the
quarter ended March 30, 2002.
Omitted from this Part II are items which are inapplicable or to which the
answer is negative for the period covered.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ADVO, Inc.
Date: May 14, 2002 By: /s/ JOHN SPERIDAKOS
----------------------------
John Speridakos
Vice President and Controller
(Principal Accounting Officer)
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