Jarden’s September 30 Quarter And the K2 Rolling Stones’ Limited Edition Ski Collection

As you know, Jarden is a big, multi brand company that did $6 billion in its last complete year. They’ve got over 100 brands including Crock Pot, First Alert, Coleman, and Mr. Coffee. They also own K2, Ride, 5150, Planet Earth, and Volkl and that’s pretty much why we are interested in the company, though I think I’ve got a toaster oven one of their brands made.

The brands we care about are part of their Outdoor Solutions segment that did $707 million during the quarter (the whole company did $1.8 billion) and aren’t broken out from the rest of the brands in that segment. So we’re reduced to scouring footnotes and the conference call to see if we can find anything interesting.

Here’s the link to the 10Q. I’m not going to do my standard analysis of the income statement and balance sheet because the company’s pretty solid and I can’t really pull out any specifics that are relevant to action sports and youth culture.
Hiding in plain sight is the fact that Jarden is another big corporation that’s in our space and has been for some years now. Guess we should be used to it. That size and the extent of their operations gives them a perspective on the on the economy and business conditions that can highlights some things we are also thinking about.
One of those is China. Jarden management noted in the conference call that they expect Chinese wages and benefits will “…continue to rise by 15% to 20% annually as the Chinese economy becomes more consumer oriented and that the long-term trend in shipping and transportation costs will continue upwards.” As a result, they are bringing certain products back to the U.S. for manufacture. Time Magazine wrote about it as an example of an expanding trend. No snowboards or skis yet, according to the article.
A second is their focus on “achieving greater efficiencies from working capital.” That’s the stuff we’ve all been working on since the economy got tough; controlling inventories, being careful with credit, watching expenses. You know- all the operating stuff you do to try and bring a few more bucks to the bottom line when sales growth is a bit harder to come by.
With regards to the winter sports business, we did get a few pieces of information. They note that K2, Volkl and Marker have had strong early orders, especially in Europe. They think retailers are trying to replenish record low inventory positions.
There’s also a note about there being a Seattle K2 concept store that’s open on a seasonal basis. I haven’t seen it, but will have to track it down. Jarden has Rawlings and Coleman outlet stores. They say they are interested in doing more retail, but don’t offer any specifics.
I also found out that Jarden has an investment in Rossignol (size not specified) though they aren’t involved in running it.
Finally there are, in fact, going to be Rolling Stone limited edition skis from K2. I really don’t know whether or not I like this idea. I’d love to talk to the marketing guys about their rationale. I was relieved to see that it’s apparently not on any snowboards. Maybe it was the threat of putting Rolling Stones graphics on Ride that made Robert Marcovitch leave town.
As you know, Robert was the CEO of Ride and stayed with the company when it was acquired by K2 and when K2 was acquired by Jarden. He was running (very successfully I heard) the entire Jarden winter sports business until a bit more than two months ago, when he was promoted to CEO of Coleman and sent to their headquarter in Wichita, Kansas from Seattle.
Now the plot thickens. We learn in the conference call that, “…Robert and his senior team have been looking at Coleman on a global basis, looking at where our customers are, and how we need to be able to respond to a growing global presence…”
Out of this review came a decision for Coleman to put a facility in Denver“…that puts us closer to an international airport, puts us closer to people to work in the outdoor industries in our core consumer group and we think it’s a move that is going to kind of reinvigorate Coleman and put us on its next leg of growth over the next 10 years.”
Nice work Robert!! I don’t actually know any of this, but it just feels like he took the job, got to Wichita, and decided he needed to be back near the mountains. I’d love to see the Power Point he used to convince senior management.
On a serious note, I suspect that part of his new job is to get Coleman out of Wichita figuratively as well as, I guess, literally. This is a well-known brand that I think of as reliable, workmanlike, and venerable. In some ways it feels like a utility; it always works and it’s always there when you need it, but it’s definitely not cool. Robert has the background to make it cool and expand its market reach and I’ll bet that’s part of the plan. I think there’s a lot of potential there.
Should be fun to watch.



Jarden Corporation; Remember Them?

Whenever VF comes out with its earnings, we all gather around to see if we can find anything about how Vans and Reef are doing. But when Jarden, who owns a winter lineup of brands that includes Atlas, Full Tilt, K2, Ride, Line, Little Bear, Madshus, Marker, Morrow, Tubbs, Volkl and 5150, we don’t even notice. Wonder why.

Jarden is another large company with $6 billion in revenue. Its Outdoor Solutions Group, of which the winter sports brands listed above are a part, represented $2.5 billion, or 42% of total revenues in the year ended December 31, 2010.

The catch of course, like with VF, is that they don’t tell us anything specific about brand performance. But if you listen carefully to the conference call, you can pick up a few things.
The Outdoor Solutions Group grew 17% during the year. Of that, 13% was organic (not the result of acquisitions). They tell us that growth was led by the winter sports brands. They view winter sports sales as a barometer for consumer confidence. Performance for winter sports was “exceptionally strong” and produced record sales and EBITDA. They say that their winter performance was a lot stronger than many of their competitors due to certain technical improvements they made in the product.
Well, it ain’t much information, but it’s better than nothing. We probably can’t afford to ignore $6 billion companies that play in our back yard.
Jarden’s winter business is run by Robert Marcovitch and judging from the smile on his face in Denver, things are going just as well as management indicated in the conference call. I wonder if those guys saw Ride’s booth. I was really disappointed when “Our customers come first” came off the sign on the booth entrance after the first day of the show. Sorry I missed seeing the booth in Europe.      



Good News And Bad News; Ride Reports Third Quarter and Preseason Orders.

            It must suck to be the only public, pure snowboard company left standing. All the other snowboard brands are suffering from some of the same industry issues as Ride, but they can equivocate about it with impunity.

            But Ride’s management wouldn’t want to do that anyway. Like the title says, there’s good news and bad news. The good news is the improvement in the income statement and the preseason orders (up 26 percent). The bad news is a weak balance sheet and a capital structure that needs, well, restructuring.
            The income-statement result and preseason-order growth is all the more impressive given the balance sheet Ride has had to work with and the constraints placed on what the company can do. A weak balance sheet means the CEO spends all his time managing cash, assuaging banks, and trying to raise capital. Who knows what Ride—or any other snowboard brand for that matter—could accomplish if the management team could actually focus on running the business?
The Income Statement
            Sales for the nine months ending March 31, 1999 are up 14.2 percent to 38.1-million dollars over the same period last year. Ride’s loss for those nine months was 1.389-million dollars compared to 14.645-million dollars last year. The improvement isn’t as spectacular as it seems at first glance. Last year, the company took an 8.6-million-dollar write-down for impairment of goodwill. In other words, given market conditions at the time of the write down, it had some assets that were worth a lot less than what Ride paid for them.
            Nine-month selling, general, and administrative expenses have been more than cut in half, but that includes the 8.6-million-dollar write-down. If you take that out of the equation, the expense reduction is still 19.7 percent—which is pretty impressive. According to Ride, and excluding the impact of the 8.6-million-dollar write-down, the expense reduction “ … was primarily due to staff reductions and lower executive salaries.”
            Gross margin over nine months was up to 27.4 percent, an increase of 1.3 percent. May not sound like much, but 1.3 percent of Ride’s nine-month sales is half-a-million bucks, which would buy a lot of beer at Vegas. Perhaps you recall, many years ago, when having your own factory was the Holy Grail of the snowboard industry because “it would let you have a really great gross margin.” Numbers like 45 percent were once thrown around. Too bad everybody had the same idea.
The Balance Sheet
            Ride’s receivables at March 31 were 6.5-million dollars net of a bad-debt allowance of 750,000 dollars. That would be bad if those receivables represented uncollected accounts from last season. But according to Ride President Robert Marcovitch, those receivables represent early 1999 sales of last season’s product that will be collected this fall.
            The 10Q confirms this, stating, “The company made the decision to move our closeout inventory at prices lower than would normally be the case in order to gain quick sales and hence borrowing availability.” Translation, we needed the cash!
            If it isn’t getting paid until fall, how does that get the company any cash? The bank line from CIT allows Ride to borrow a percentage of eligible inventory and receivables. Ignoring the issue of what’s “eligible” and what’s not, the percentages for Ride are 55 and 85 percent respectively. Let’s say you’ve got a million bucks in inventory. You can borrow 55 percent of that, or 550,000 dollars assuming it’s all eligible. If you’ve got a million in receivables, you can borrow 85 percent or 850,000 dollars. Because I went to business school, I know that 850,000 dollars is better than 550,000 dollars, so Ride sold at lower prices to create receivables. 
            Inventory of 7.3-million dollars on March 31 gives you pause for a moment. But the footnotes in the 10Q tell us that 2.5-million dollars of that is raw materials and work in progress. That will turn into next season’s product. The remainder is finished-goods inventory. According to Marcovitch, almost all of the finished goods are product for the coming season. Not only do we know from this that the inventory is good, but it suggests that however tight cash is, Ride is finding enough dollars to run its factory efficiently. That is, it’s getting materials from suppliers and not having to start and stop the plant because of material or cash shortages. The major liquid assets then—inventory and receivables—are more or less worth what the balance sheet says they are. And, in the normal course of business, when Ride ships that inventory to customers it will turn into receivables (and, hopefully, someday cash), that will be worth substantially more than the current inventory value.
            Meanwhile, down on the liability side of the balance sheet, we find current liabilities of 15.1-million dollars broken down as follows:
            Accounts Payable: 4,247,000 dollars.
            Accrued Expenses: 2,383,000 dollars.
            Short-term Borrowings: 8,484,000 dollars.
            The short-term borrowings include three million dollars owed to U.S. bank and a note for 1,725,000 dollars payable to Advantage Fund II, Ltd. The remainder is owed to CIT Group/Credit Finance, Inc. under Rides’ revolving line of credit. Accounts payable and accrued expenses are moneys owed to the phone company, materials suppliers, insurance agents, employees, and everybody else Ride needs to get goods and services from to operate its business. Ride’s current ratio (its current assets divided by current liabilities) is 0.98. The current ratio is a standard financial measure of a company’s ability to meet its ongoing operating expenses. The lower
the number gets, the tougher things are. You can’t continue to operate with a current ratio under 1.0 for too long.
            Let’s put that in a little perspective. In a highly seasonal business, in the part of the season where the cash is drying up (like the end of March for example) no snowboard company has a great-looking balance sheet and is rushing to pay all its bills. Nevertheless, Ride’s current ratio is symptomatic of the need for a balance sheet restructuring and additional working capital.
Preseason Orders
            Up 26 percent to 43-million dollars. Wow. Any other snowboard company that had a bigger increase, step up and claim it. I won’t be holding my breath. The only category that’s down is “OEM, wakeboards, and other.” That’s only down, according to the press release, because it chooses not to accept certain OEM orders, which is probably a correct strategic move.
            What I like even better are the categories the increases came in. Boards are up nineteen percent. However, boots, bindings, and apparel and accessories (excluding SMP) are up 38, 33, and 58 percent respectively. That is, higher margin products represent an increasing percentage of total sales, which should bring the whole margin up.
            Some of these sales may get shipped before June 30. But just for fun, let’s say Ride sells that 43-million dollars, and nothing more, in the nine months of their next fiscal year. Let’s assume the company’s gross margin stays the same. Its gross profit will be 11.78-million dollars.
With the preferred stock dividend eliminated, that increase in gross profit by itself will bring Ride to break-even. A restructuring should reduce the company’s interest expense from 798,000 dollars, if only because Ride is paying punitive interest rates right now. Margins should go up a point or two just based on the change in the product mix. Obviously, the quarter ending June 30 isn’t a strong one, but for the twelve months ending June 30, 2000 Ride ought to earn a few bucks just from what’s in place right now. That is, if Ride management can get the restructuring done.
            The U.S. Bank facility is a term loan for three million dollars that is due and payable August 31, 1999. That loan, according to the 10Q, “ … is secured by promissory notes from Global Sports, Inc. in the original aggregate amount of 1.8-million dollars. Additionally, the facility is secured by the personal guarantee of one of the Company’s outside directors, including certain real-estate property owned by the director.”
The note for 1.725-million dollars, also according to the 10Q, “ … has a term due date of June 30, 1999 which date is automatically extended to September 30, 1999 in the event the company has executed a letter of intent for a transaction which would raise capital sufficient to fully redeem the note.”  The note’s interest rate is ten percent, but it has a default rate of
eighteen percent. The CIT line of credit expires August 30, 1999.
            So, there are a lot of critical deadlines coming up, and the 10Q is replete with the usual statements companies in these circumstances make about dire consequences if Ride can’t meet some of these deadlines.
            My guess is that there will be a successful restructuring. The improvement in operating performance and increase in preseason orders makes me believe that. Its likely shareholders will be hit by additional dilution as a result of the restructuring. Concern over that dilution is probably the reason the stock price didn’t go up significantly in the wake of Ride’s healthy preseason order numbers.
            Ride has hired Ladenburg Thalman & Co. “ … as its financial advisor to provide advice regarding potential strategic alternatives available to the company,” says the 10Q. Negotiations are ongoing.
The Bottom Line
            If Ride had paid maybe two-million less for its factory, not hired quite so many people so quickly, and had paid some of them less, and not built the Taj Mahal in Preston, Washington, I suspect the managers at Ride would be smiling and looking forward to closing out their fiscal year June 30 with a twelve-month profit. But that’s not how it happened, and Ride was hardly the only snowboard company seduced by perceived endless growth.
            Ride’s market position seems sound and the product line complete and well received. Management and employees are industry experienced.          I still have some trouble with the financial burden of owning a factory, but Ride management has made its a marketing asset. So, strategically the brand seems positioned to succeed. By the time you read this, we’ll probably know if Ride’s managers pulled off the financial restructuring that will allow them to do it.



Fat Lady Sings. K2 Buys Ride

K2’s purchase of Ride, announced on July 22 and expected to close within 100 days, is as close as we’ll ever get to a capstone on consolidation.

We all were intellectually aware of consolidation, but this makes you aware in your gut. Burton and K2 now control what I’d estimate to be 65 percent of the U. S. snowboard hard goods market. Add Salomon and Rossignol and the number jumps to north of 75 percent. The number two, independent, snowboard only brand in North America is now Sims
Three questions:
·         What the deal?
·         What does it mean for the industry?
·         How is K2 going to manage it?
The Deal
The only info we’ve got on the deal comes from the press release and Ride’s 8K filing with the Securities and Exchange Commission. K2 is buying the common stock of Ride. That is, it’s buying the whole company- not the assets like in the Morrow deal and so many other snowboard deals.
So K2 gets all the assets and all the liabilities, known and unknown. If a two-year-old Ride binding blows up, somebody is hurt, and Ride is sued, K2 will be responsible. In an asset deal, they typically would not be- which is one reason asset deals are often popular.
Ride’s stock will be acquired in exchange for K2 common stock. Ride shareholders will receive K2 shares “with an approximate value of $1.00 for each share of Ride stock owned.” Given the number of Ride shares outstanding, that means a purchase price of around $14.3 million. Both boards of directors have approved the deal. One of the reasons it will take so long to close is that Ride shareholders have to approve the deal as well.
The deal is being structured so it’s tax free to Ride’s shareholders. Ride’s directors have already agreed to vote their shares in favor of the deal.
To get Ride from the July 22 agreement date to closing, K2 has agreed to extend $2 million in interim financing to Ride in exchange of a promissory note that can be converted into Ride stock. The note’s initial interest rate is eight percent. That rate increases one percent every 180 days up to a maximum of eighteen percent on the unpaid portion of the note and any accrued interest, however the notes is payable in full on November 19, 1999.
The note is convertible by K2 at any time into Ride’s cumulative convertible preferred stock and is automatically converted under certain circumstances if the merger agreement between K2 and Ride is terminated. K2 would get one share of the convertible preferred stock for each dollar that is still owed from the principal and unpaid interest of the note.
If somebody else buys Ride, or agrees to buy ride, before the note is repaid or converted, K2 can demand to be paid in cash for up to a year based on the price of Ride’s stock (which could go up if a better deal comes along).
Ride, as a public company, has an obligation to consider any better offers that come along. This note is structured not only to give Ride working capital to get it through the period until closing, but to make it less likely that any such deal will come along. If the deal with K2 closes, there’s nothing but intercompany debt that gets eliminated in consolidation and doesn’t much matter.
As another step in keeping Ride operational until the deal closes, the two companies have agreed that K2 will acquire Ride bindings with an approximate cost of $700,000 and assume Ride’s obligations to ship Ride customer orders of approximately $8.4 million in bindings and apparel. K2 will purchase approximately $4 million in inventory from Ride’s vendors to fill these orders.
What’s it all mean? The two companies are getting so far into bed with each other before the deal closes that it’s unlikely it won’t close or that another buyer will come along.  
The transaction will be accounted for as a purchase rather than a pooling, and now I’ve put my foot in it because I have to explain the difference.
First, if you buy assets, you assign values to the assets based on what they are really worth. So is you’re buying accounts receivable for $100,000, but know that only 85 percent are collectible you’d “allocate” $85,000 of the purchase price to those receivables. After you’ve allocated as much of the purchase price as you can to the assets, the rest is allocated to goodwill. Goodwill sits on your balance sheet and has to be amortized (taken as an expense some at a time) over a period of many years, but isn’t deductible for tax purposes.   In addition, no bank ever thinks good will is worth anything when considering whether or not to lend you money.
Allocation of purchase price in an asset deal also has a major impact on who pays what tax when the deal closes, but since this isn’t an asset deal and I hate it when readers fall asleep, we’ll skip that. You’re welcome.
A pooling is a straight exchange of stock where the values on the two company’s balance sheets are added up. No goodwill is created. No assets are written up or down and there’s no allocation of purchase price. The only adjustments are the netting out of any inter-company debts (amounts the two companies owe each other).
K2 is buying Ride’s stock with its stock, but it’s not a pooling because Ride shareholders are getting a certain value per share- not just K2 shares with a value completely dependent on the market. It’s a purchase. That’s what the Financial Accounting Standards Board says, so that’s the way it is.
Once K2 knows exactly how many shares it’s exchanging for Ride, and the market price of those shares at closing, it will know how many dollars it paid for Ride by multiplying the market price of each share by the number of shares they are giving Ride shareholders. The accounting interpretation of the deal is that K2 is buying Ride’s equity, a balance sheet number. At March 31, that number was 16.1 million dollars. I’m sure it’s lower now. I wouldn’t be surprised if it’s around 14.3 million dollars.
To the extent that the purchase price is higher or lower than Ride’s actual equity at closing, other balance sheet items will be adjusted to reflect fair market values. For example, if the purchase price is $100,000 higher than the value of Ride’s equity at closing, the value of other Ride assets will have to be increased, to a maximum of $100,00 if what they are really worth justified such an increase. To the extent that those adjustments don’t account for the difference between Ride’s equity and K2’s purchase price, goodwill is adjusted. It looks in this case like the purchase price will end up being somewhere close to Ride’s equity, so adjustments should be minor.
That’s enough of that. This article is in serious danger of turning into a lecture on acquisition accounting.
So what’s the deal worth anyway? The easy answer is that it’s worth the approximately $14.3 million in K2 stock Ride shareholders are receiving. That’s not a bad answer, but let’s go a little further, keeping in mind that there’s rarely a right answer when you value companies.
Ride’s March 31 balance sheet showed thirty two million dollars in assets and sixteen million dollars in liabilities. K2 gets all those as part of the purchase. The assets include $8.5 million in goodwill and $5.4 million in net plant and equipment. If I were K2 trying to figure out the value of Ride, I’d call the goodwill zero. I’d write down the plant and equipment. How much would depend on what use I was going to make of the factory. Let’s say they cut it in half, making the realizable value of the Ride assets around $20 million. The liabilities, as usual, are all real.
Let’s say that K2 could liquidate the assets for $20 and pay off the liabilities for $16 million. It doesn’t work that way of course, but if it did K2 would have $4 million in the bank. So they would have paid stock worth $14.3 million less $4 million in net assets, or $10.3 million basically for Ride’s trade name and order book.
But you can’t realize the value of that trade name and order book unless you operate the business. To do that, you have to invest a certain amount of permanent working capital. Ride didn’t have the working capital it needed. In a nutshell, that’s why it had to sell. My guesstimate, depending on the expense reductions K2 can find to reduce overall operating costs, is that K2 is going to have to invest maybe more than$10 million in Ride in additional to the $4 million in net assets that’s already in there. My guess is that Ride’s bank (owed $8.5 million at March 31) is going to want to be paid off and certain unsecured creditors who have been waiting a long time for their money will also have to be paid. 
K2, therefore, may look at it’s cost to buy Ride as not only the value of the equity it gave up, but as the additional capital they have to invest to normalize the balance sheet- $24 million in total or maybe higher. If Ride had been capitalized normally, that whole amount, and probably more, would have accrued to Ride’s shareholders. But K2’s offer was based on what it would cost them not only to buy but to operate Ride regardless of whether it went to the shareholders or not.
Good deal or bad deal? K2 got a good deal. Did Ride shareholders get screwed? Not given the alternative. My sense is that Ride’s management found the buyer to whom Ride has the most value. Furthermore, Ride’s balance sheet and recent public information suggest that cash flow issues were severe enough that scenarios where shareholders got less than one dollar per share were possible. Like a whole lot less. Like the big goose egg.
All of the web whiners who are bitching and moaning about this deal ought to give Ride employees credit for performing some operational miracles under impossibly difficult circumstances not of their making.
If you want to blame somebody, check out the nearest mirror. The person you’re looking at bought an over priced stock in an industry facing an inevitable and predictable consolidation. 
Industry Impact
Ride and Morrow are gone as independent snowboard companies. Atlantis, Division 23 and Type A are, in my judgment, unlikely to resurface as strong specialty brands. To Forum, Sims, Palmer, Never Summer, Option and maybe a couple of other brands this could be an opportunity depending on retailers’ perception of the deal. One brand I’ve talked with is already getting calls from retailers who were prepared to buy Ride but are reluctant to buy “another K2 brand.”
The strategic line between the niche players and the big companies are as clearly drawn as you could ever expect to see. If any single action can be said to mark the end of snowboarding’s consolidation phase, this deal is it.
Specialty brands can exist in their niches and maybe grow a little. But it’s financially unlikely that anybody will start another one. Those niche brands that exist don’t have the economies of scale, distribution leverage, and marketing dollars they need to chase the big players. And as independent companies, they probably never will.
Then there’s Burton with something like forty five percent of the U.S. market. They are left standing alone with the cache of a niche brand, but on an international scale, and the leverage of a large company. Ain’t nothing to analyze there. My guess is that they are thrilled with this deal.
As I indicated, some retailers may have some resistance to putting more eggs in the K2 basket. But if the consumer wants Ride boards, and K2 offers good terms, prices, service, quality and promotion, the retailers will pretty much get over it. They have before.
I would expect the complete programs from Morrow and Ride to improve as a result of being part of a larger, financially stable organization. And the production of boards in China is going to produce some price points that retailers aren’t going to be able to live without.
Sean- I don’t really want to add here what you added. I think I ask and answer the question you raise in the next section.
K2’s Decisions
What I think was the opportunistic purchase of Morrow (it was too good a deal to turn down) seems to have transformed itself into a strategy with the purchase of Ride. Of course, we don’t know exactly what that strategy is yet. K2 now has five snowboard brands, with K2, Morrow, Ride, Liquid and 5150. How do they get positioned against each other? How many of those brands can you imagine one retailer buying? If I were doing it, I’d make K2 the ski shop brand. I’d retain Brad Steward (between movies, of course) to consult on repositioning Morrow as the quirky brand it use to be. Liquid would be for the mass-market channel, and Ride for specialty shops, but with a more mainstream profile and higher volume than Morrow. I’m fresh out of market positions and have no idea what I’d do with 5150. Whatever the positioning decisions are, I’ll be interested to see if all five are retained. I wonder what Cass would pay for Liquid? I’d really like to leave this in. Let’s talk.
Even excluding the distribution issues, managing five brands against each other in the same organization is tough. I’m reminded that one of Bob Hall’s first pronouncements on becoming CEO of Ride was that the company had too many brands.
Of course, some of the brands he eliminated didn’t have enough volume to justify the required advertising and promotional expenditures, and I don’t think K2 faces that. Still, there are some obvious conflicts as K2 works to restructure its organization to manage the five brands.
For instance, you just know that the financial guys at K2 are sharpening their knives to slice expenses and walking around muttering stuff about synergies. And certainly K2doesn’t need two warehouses, credit departments, computer systems, purchasing departments, etc.
Maybe they don’t need two factories. Yet maintaining brand integrity means keeping sales and marketing separate. Will they have separate customer service departments with people dedicated to brands or will the temptation to have one group that answers the phone “snowboard customer service!” win out? Will all the invoices the retailers receive look the same except for the brand name?   How many brands will be made in the same factory? Will the T-shirts and beanies all be the same but with different logos? In a thousand ways, none of which, by itself, probably matters, the identity of the brands can be subverted in the perfectly reasonable pursuit of operational efficiencies.
I’m not saying it will happen, but making sure it doesn’t is a hell of a challenge. It’s not easy to be passionate about five brands at once.
Things to Watch
1)             Who’s going to run what brands?
2)             What will happen to Ride’s factory?
3)             What will be the fate of the Device step-in system and the lawsuit with Vans (Switch)?
4)             How will be product development be managed among the different brands?
5)             I’m sure we’ll figure out some more to add.



Big Air; Initial Public Offerings in the US

Open on the table next to me I have the preliminary and actual prospectus for, respectively, Morrow and Ride Snowboards initial public offerings. As of December 13th, 1995, my broker assures me, Morrow is not public yet.  Ride’s prospectus is dated May 6, 1994 and those of you who bought their stock at the time of the offering are patting yourselves on the back. Those of you who didn’t, aren’t.

Ride’s prospectus estimates expenses of the offering at $361,500. Morrow’s estimate is $900,000. They pay these expenses for the privilege of filing quarterly and annual statements with the Security and Exchange Commission (SEC), dealing with shareholders, revealing information they’d rather keep confidential, paying for audited financial statements and legal fees and holding annual meetings.
I can tell you from experience that to prepare their company to do all this, they went through a process which, besides being expensive, distracted senior management from running the business, was stressful and involved a high level of uncertainty. Why would they do it?
For the money, dude. But it’s not quite that simple. Basically, there are five financial benefits to going public.
First, the company receives cash from the sale of shares. In the case of Ride, the net proceeds were $4,138,500. Morrow hopes to raise something like $19,000,000. The company has great flexibility in how it uses the money. The Use of Proceeds section of the Ride prospectus says they expect to use $175,000 for office and warehouse equipment and the remainder for “working capital and general corporate purposes.” As non specific as that is, they then go on to reserve the right to use it differently “…if market conditions or unexpected changes in operating conditions or results occur.”
Basically, they can use it for any reasonable business purpose.
Second, it’s typical that the value of a public company is higher than a private company. As recently as April of 1995, Morrow sold convertible debentures with a conversion price of $3.67 per share. Remember they are hoping to go public at “between $11.00 and $13.00 per share.” If the offering price was $12.00, the company’s apparent valuation would have increased over 225% since April. Going public creates wealth.
Third, the company gains liquidity, and this in part explains the higher valuation. Shares in the company can now be bought or sold easily and efficiently.  The price is determined daily by the actions of (hopefully) objective third parties.
Fourth, the owners reduce their risk and can diversify their portfolios. Also, they make a lot of money. Morrow expects to sell 1,600,000 shares to the public but current shareholders will sell an additional 530,000 shares personally. The net proceeds from sale of those shares (around $6 million) will go directly to those individuals.
Finally, the company creates an asset that doesn’t show up on its balance sheet; the ability to sell stock. There are restrictions to how much you can sell, when, and at what price.  Some restrictions are legal one, and some the result of how the financial markets view the sale of new shares. But in general the public company has easier access to capital.
In August of this year, Ride did a secondary stock offering. The company sold an additional 1,165,400 shares and existing shareholders (directors and officers of the company) sold 834,600 shares they held at a price of $17.00 a share, succinctly demonstrating the value to the owners of a public offering and a successful company’s ability to raise cash after it is public.
The process of doing a public offering starts when a company goes into registration, submitting a registration statement and a draft of the prospectus (known as a “red herring”) to the SEC. Depending on how recently the company has done an offering, and how well known the company may be, the SEC may decide to have no review, limited review, or full review. A review will typically take about a month. It results in the company receiving comments from the SEC that require changes and/or additions to the registration statement and prospectus.
If there is no review, or when it is complete, the road show can begin. The road show is a series of meetings and presentations with interested investors and institutions in different cities. These meetings allow the company and its investment bankers to create interest in the offering and to evaluate how it should be priced.
Following the road show, the stock is priced in one or more meetings between the company and its investment bankers. The price depends on a variety of factors including market conditions and the reception during the road show. Once the deal is priced, the prospectus can be printed with complete information and become effective. The prospectus and stock are distributed to interested institutions for sale to investors and the stock begins to trade.
The draft I have of Morrow’s prospectus runs to 66 pages. Ride’s was 48. Both have sections entitled “Additional Information” which makes the reader aware that the prospectus does not contain all the information in the Registration Statement filed with the SEC. It notes that “Statements contained in this Prospectus as to the contents of any contract or other document are not necessarily complete…” and informs the reader that they can get copies of these documents (which, including exhibits, can run to hundreds of additional pages) from the SEC.
The form and content of a prospectus is clearly defined by the SEC. It is a carefully choreographed document that results from a certain level of creative tension between the company executives, the lawyers and the investment bankers. They all share the goal of getting the company public. The executives and investment bankers want the prospectus to be as positive a document as possible to improve the prospects of selling the shares at the best price. The lawyers are more cautious. Their job is to make sure that all the relevant information is disclosed completely and accurately, whether it is negative or positive. Lawsuits by investors claiming inadequate or inaccurate disclosure in the prospectus are not unusual.
My favorite example of how language gets crafted is in the Morrow prospectus when they talk about manufacturing risks. When discussing the company’s ability to get the materials it requires for manufacturing, they say “In addition, the Company has experienced limited delays in the delivery of certain raw materials due to delay in payment for such materials.” Those of us who are less eloquent than attorneys might have said “Their suppliers wouldn’t ship any more until they paid for what they’d already received.”
Obviously Morrow is far from the only snowboard company to have a tight cash flow, and one purpose of the offering is to prevent that from happening again, but you can see how it can pay to read some of the fine print carefully.
The Table of Contents to Ride’s prospectus dated May 6, 1994 is reproduced in the box below. Morrow’s is the same except for a few words and the order of presentation. We’ll talk briefly about some of the sections.
Table of Contents                                  Page
Prospectus Summary                            3
Risk Factors                                         6
Use of Proceeds                                   12
Dividend Policy                                     12
Dilution                                                 13
Capitalization                                        14
Selected Financial Data                         15
Management’s Discussion and Analysis
  of Financial Condition and Results of
  Operations                                          16
Business                                               18
Management                                         22
Executive Compensation                       24
Principal Shareholders                           27
Certain Transactions                              28
Description of Securities                       31
Underwriting                                          33
Shares Eligible for Future Sale               36
Legal Matters                                        36
Experts                                                 36
Additional Information                           37
Index to Financial Statements                F-1
The prospectus begin with a summary and moves on to “Risk Factors.” Morrow and Ride take six pages to talk about what could go wrong; foreign exchange, seasonality, ability to sustain growth, weather, dependence on key individuals, product liability. The list goes on. It gives the potential investor insight into the business risks, but is also important in protecting the company from lawsuits for inadequate disclosure.
“Selected Financial Data” is summarized historical income statement and balance sheet data. I always ignore this and proceed directly to the detailed, audited financial statements. The “Management Discussion” puts into words the financial relationships you’ll note yourself in reviewing the financial statements and explains the conditions that led to those results. The “Business” section talks about the industry, the company’s strategy, and its basis for competing.
Now it starts to get really interesting. “Management” describes the age, position and background of the company’s executives and directors. “Executive Compensation” tells you who is paid how much in salary, bonus and “other.” “Principal Shareholders” lets you know who owns how many shares, and what percent they own before and after the offering.
Now comes my favorite section: “Certain Transactions.”   This is where you can hope to  learn how the company really got financed before its public offering. You learn about stock issued for services, loans from family members of officers, private placements to officers and directors and their families and other interesting transactions. I always smile when I read about them, but it’s partly in admiration for people who figured out how to get the job done.
“Shares Eligible For Future Sale” gives you some idea what the “float” (number of shares actively available to trade) will be. Morrow’s prospectus indicates that after completion of the offering, but assuming no exercise of outstanding options or warrants, there will be 5,061,045 shares of common stock outstanding, but that only 2,130,000 will be eligible for sale to the public without restriction. The others are restricted either for legal reasons or be agreement with the investment bankers doing the public offering. They will become eligible to be sold as described in this section of the prospectus. As and if they appear on the market, the supply of Morrow common stock will increase. All other things being equal, increased supply reduces demand and, therefore, price.
Now you know a little about what it means to go public in the US and what’s to be found in a prospectus. Only the substantial financial rewards to the company and the shareholders can justify the expenses, distractions and continuing obligations the process inflicts.