MEGA Brands announces second quarter 2008 results, closing of CA$75 million financing and $9.3 million insurance recovery

2008-08-19 05:00:00

    MONTREAL, Aug. 19 /EMWNews/ - MEGA Brands Inc. (TSX: MB)

(the "Corporation") today announces its financial results for the second

quarter and six-month periods ended June 30, 2008.



    Concurrently, the Corporation announces the closing of a private

placement offering of senior unsecured convertible debentures for gross

proceeds of CA$75 million. The proceeds of the offering, combined with

amendments to the Corporation's senior secured credit facilities, provide

the Corporation with the financial resources and flexibility to meet

working capital requirements leading up to the peak toy selling season and

to continue the implementation of its Value Enhancement Plan.



    The Corporation also announces that, subsequent to the closing of the

second quarter financial statements, it has reached an agreement in

principle with its insurers for the recovery of an additional $9.3 million

related to the settlement of lawsuits for magnet ingestion. The Corporation

expects to receive payment shortly and to record this amount in its third

quarter results. This insurance payment will bring the total recovery to

$12.9 million, nearly the full amount of the $13.5 million settlement paid

by the Corporation in 2006.



    "Looking ahead, the next two quarters are traditionally the strongest

in our business and our objective is to restore profitability," stated Marc

Bertrand, President and CEO of MEGA Brands. "This year's new product

launches are occurring in the third and fourth quarters and we are well

positioned to build sales momentum through the balance of the year."



    Second Quarter 2008 Results



    Net sales in the second quarter of 2008 decreased 12.4% to $106.4

million compared to $121.5 million in the corresponding period last year.

This decrease reflects lower sales in the Toys and Stationery and

Activities product lines as well as additional product recall charges.



    Net sales of our Toys product lines declined to $47.3 million compared

to $57.9 million in the second quarter of 2007. This decrease is due mainly

to lower shipments of licensed toys in the Boys 5-plus category, offsetting

increased sales of preschool construction toys. In the second quarter of

2007, the Corporation experienced strong sales of licensed products based

on two major theatrical releases, Disney's "Pirates of the Caribbean: At

World's End" and Marvel's "Spider-Man 3". The decrease in sales also

reflects $2.5 million of additional product recall charges related to

MAGTASTIK and MAGNAMAN.



    Net sales of Stationery and Activities product lines declined to $59.1

million compared to $63.6 million in the second quarter of 2007. This

decrease is explained mainly by lower shipments of lower-margin children's

activity products which have been discontinued under the Corporation's SKU

rationalization program.



    On a geographical basis, net sales in North America decreased to $71.1

million compared to $87.1 million in the second quarter of 2007.

International net sales increased to $35.3 million compared to $34.3

million in the second quarter of 2007. International net sales accounted

for 33.1% of total net sales in the second quarter of 2008 compared to

28.3% in the corresponding 2007 period.



    Cost of sales was $71.6 million compared to $74.2 million in the second

quarter of 2007. The Corporation continued to experience higher input costs

and cost of sales also reflects the underutilization of its manufacturing

facilities in Montreal and China.



    Gross profit was $34.8 million compared to $47.3 million in the second

quarter of 2007. Gross margin declined to 32.7% compared to 38.9% in the

second quarter of 2007, mainly as a result of higher costs, unfavorable

product mix due to lower sales of construction toys in the Boys 5-plus

category as well as additional product recall charges.



    Marketing and advertising expenses increased to $5.3 million compared

to $4.5 million in the second quarter of 2007. This increase reflects

higher advertising spending in International markets.



    Research and development expenses decreased to $3.9 million compared to

$6.4 million in the second quarter of 2007. This decrease reflects mainly a

reduction in third-party services, the completion of upfront R&D work for

the new MagNext product line and cost savings resulting from the

Corporation's SKU rationalization program.



    Other selling, distribution and administrative expenses decreased to

$26.0 million compared to $28.2 million in the second quarter of 2007. This

decrease reflects mainly a reduction in administrative expenses as well as

lower warehousing costs offset by higher direct distribution costs. The

Corporation recorded integration charges of $0.9 million during the period

relating to the centralization of distribution activities in North America.



    As a result of the above, loss from operations was $2.4 million

compared to earnings from operations of $8.7 million in the second quarter

of 2007.



    Total interest expense was $1.3 million compared to $6.7 million in the

second quarter of 2007. Interest on long-term debt and other interest

declined to $6.2 million compared to $6.5 million in the second quarter of

2007, reflecting lower indebtedness. During the second quarter of 2008, the

Corporation recorded a change in fair value of $5.6 million related to the

interest rate swap on part of its Term B credit facility.



    Income tax recovery was $0.1 million compared to a recovery of $1.9

million in the second quarter of 2007. The tax rate used to establish the

income tax expense for the quarterly results is the applicable estimated

effective rate of each entity of the group. The effective tax rate reflects

the Corporation's structure for tax purposes as well as the financing

structure put in place following the acquisition of MEGA Brands America.



    Net loss was $3.6 million or $0.10 diluted loss per share compared to

net earnings of $4.0 million or $0.12 diluted earnings per share in the

second quarter of 2007.



    Recent Developments



    On August 18, 2008, the Corporation executed a sixth amending agreement

(the "Sixth Amendment") to its Credit Agreement dated July 26, 2005

providing for certain changes to the terms and conditions of its senior

secured Credit Facilities maturing in 2012, including a waiver of the

cumulative minimum EBIDTA ratio covenant for the period ended June 30,

2008. Additionally, the Sixth Amendment introduces the concept of a new

definition of the calculation of EBIDTA allowing for the add-back of

certain non-recurring and non-cash items. The covenant includes a minimum

EBITDA at the end of each quarter up to and including June 30, 2010, at

which point more stringent covenants previously in place under the Credit

Agreement become effective. The revolving credit facility has been reduced

to $100 million.



    On August 18, 2008, the Corporation announced the closing of a private

placement offering of senior unsecured convertible debentures for gross

proceeds of CA$75 million. The proceeds of the Offering will be used as

working capital and for general corporate purposes. The debentures,

maturing on August 31, 2013, will bear interest at a rate of 8% payable

semi-annually in arrears and will be convertible at the option of the

holder at any time prior to the maturity date based on a conversion price

equal to approximately CA$3.19 per common share, subject to customary

anti-dilution adjustments. The debentures will be convertible into

23,512,500 common shares, representing 39% of the common shares of the

Corporation on an as converted basis. The debentures were issued to Fairfax

Financial Holdings Ltd., Chiefswood Holdings Limited, The Owners Fund and

Victor J. Bertrand Sr., the founder and chairman of the board of directors

of the Corporation, with Fairfax investing CA$64 million and Mr. Bertrand

investing $7 million in the offering. This financing was undertaken by the

Corporation in connection with its consideration of its strategic

alternatives, including the sale of its Stationery and Activities business.

The financing was approved by the Toronto Stock Exchange and required

certain amendments to the Corporation's credit facilities which were agreed

to by the lenders.



    MD&A Filing



    The Corporation's Management's Discussion and Analysis for the second

quarter ended June 30, 2008 was filed with SEDAR on August 18, 2008 and

will be available on the Corporation's Web site as of 7:00 a.m. August 19,

2008.



    Conference Call



    An analyst conference call will be held at 9:00 a.m. on August 19, 2008

to discuss the results. Participants may listen to the call by dialing 1

(800) 814-4862. For those unable to participate, a replay will be available

until August 26, 2008. The replay phone number is 1 (416) 640-1917, access

code 21278141#.



    About MEGA Brands



    MEGA Brands is a trusted family of leading global brands in

construction toys, games & puzzles, arts & crafts and stationery. They

offer engaging creative experiences for children and families through

innovative, well-designed, affordable and high-quality products that

deliver on our Creativity to the Rescue promise. Visit

http://www.megabrands.com for more information.



    The MEGA logo, Creativity to the Rescue, Mega Bloks, Rose Art, MagNext

and Board Dudes are trademarks of MEGA Brands Inc. or its affiliates.



    Forward-Looking Statements



    All statements in this press release that do not directly and

exclusively relate to historical facts constitute "forward-looking

statements". These statements represent the Corporation's intentions,

plans, expectations and beliefs. In certain instances, these statements

require us to make assumptions and there is significant risk that these

assumptions may not be correct. Furthermore, these statements are subject

to risks, uncertainties and other factors, many of which are beyond the

Corporation's control. The Corporation disclaims any intention or

obligation to publicly update or revise any forward-looking statements,

whether as a result of new information, future events or otherwise, other

than as required by applicable legislation. Readers are cautioned not to

place undue reliance on these forward-looking statements. More information

about the risks that could cause our actual results to significantly differ

from our current expectations can be found in the "Risks and Uncertainties"

section of our 2007 annual MD&A as well as Q1 and Q2 2008 MD&A.




Consolidated statements of earnings (in thousands of US dollars, except per share data) (Unaudited) Three-month periods Six-month periods ended June 30, ended June 30, 2008 2007 2008 2007 ------------------------------------------------------------------------- ------------------------------------------------------------------------- $ $ $ $ Net sales 106,385 121,486 185,777 211,592 ------------------------------------------------------------------------- Cost of sales 71,630 74,196 123,219 154,951 ------------------------------------------------------------------------- Gross profit 34,755 47,290 62,558 56,641 Marketing and advertising expenses 5,294 4,464 9,245 10,771 Research and development expenses 3,856 6,428 8,406 11,685 Other selling, distribution and administrative expenses 26,008 28,246 53,566 56,298 Voluntary product recall and replacement - - - 4,700 Litigation expenses 2,311 1,501 3,453 2,313 Product liability settlement and related expenses - (1,000) - (1,000) Loss (gain) on foreign currency translation (336) (1,027) 1,019 (1,458) ------------------------------------------------------------------------- Earnings (loss) from operations (2,378) 8,678 (13,131) (26,668) ------------------------------------------------------------------------- Interest expense Interest on long-term debt 6,158 6,502 11,429 12,549 Change in fair value of interest rate swap (5,578) - (5,578) - Amortization of deferred financing costs 874 122 1,814 292 Other interest (172) 40 18 (54) ------------------------------------------------------------------------- 1,282 6,664 7,683 12,787 ------------------------------------------------------------------------- Earnings (loss) before income taxes (3,660) 2,014 (20,814) (39,455) ------------------------------------------------------------------------- Income taxes Current 393 (342) 1,314 (1,768) Future (481) (1,606) (8,908) (17,739) ------------------------------------------------------------------------- (88) (1,948) (7,594) (19,507) ------------------------------------------------------------------------- Net earnings (loss) (3,572) 3,962 (13,220) (19,948) ------------------------------------------------------------------------- ------------------------------------------------------------------------- Earnings (loss) per share Basic (0.10) 0.12 (0.36) (0.61) Diluted(1) (0.10) 0.12 (0.36) (0.61) ------------------------------------------------------------------------- ------------------------------------------------------------------------- (1) The dilutive effect of outstanding options under the treasury stock method for the three-month period ended June 30, 2008 and for the six-month periods ended June 30, 2007 and June 30, 2008 is nil as it is anti-dilutive. Consolidated statements of deficit (in thousands of US dollars) (Unaudited) Three-month periods Six-month periods ended June 30, ended June 30, 2008 2007 2008 2007 ------------------------------------------------------------------------- ------------------------------------------------------------------------- $ $ $ $ Balance, beginning of period (94,148) (11,274) (84,500) 12,636 Net earnings (loss) (3,572) 3,962 (13,220) (19,948) ------------------------------------------------------------------------- Balance, end of period (97,720) (7,312) (97,720) (7,312) ------------------------------------------------------------------------- ------------------------------------------------------------------------- Consolidated statements of comprehensive income (loss) and Accumulated other comprehensive income (loss) (in thousands of US dollars) (Unaudited) Three-month periods Six-month periods ended June 30, ended June 30, 2008 2007 2008 2007 ------------------------------------------------------------------------- ------------------------------------------------------------------------- $ $ $ $ Net earnings (loss) for the period (3,572) 3,962 (13,220) (19,948) ------------------------------------------------------------------------- Other comprehensive income (loss), net of income taxes Gain (loss) on derivatives designated as cash flow hedges 356 1,915 (3,552) 1,399 ------------------------------------------------------------------------- Comprehensive income (loss) for the period (3,216) 5,877 (16,772) (18,549) ------------------------------------------------------------------------- ------------------------------------------------------------------------- Accumulated other comprehensive income (loss) Balance, beginning of period (6,173) 1,235 (2,265) - Impact of adopting the new accounting policy regarding financial instruments, net of income taxes - - - 1,751 Other comprehensive income (loss), net of income taxes 356 1,915 (3,552) 1,399 ------------------------------------------------------------------------- Balance, end of period (5,817) 3,150 (5,817) 3,150 ------------------------------------------------------------------------- ------------------------------------------------------------------------- Consolidated balance sheets (in thousands of US dollars) June December June 30, 31, 30, 2008 2007 2007 (Unaudited) (Audited) (Unaudited) ------------------------------------------------------------------------- ------------------------------------------------------------------------- $ $ $ Assets Current assets Cash and cash equivalents 7,728 8,505 4,603 Accounts receivable 122,760 125,784 131,092 Inventories 112,236 91,681 162,566 Income taxes 9,902 8,219 9,234 Future income taxes 3,986 4,286 8,064 Derivative financial instruments - 306 - Prepaid expenses 21,991 19,650 11,506 ------------------------------------------------------------------------- 278,603 258,431 327,065 Property, plant and equipment 43,239 42,620 48,199 Intangible assets 74,274 74,606 79,149 Goodwill 298,938 298,938 301,988 Derivative financial instruments - - 5,089 Future income taxes 49,086 35,119 47,210 ------------------------------------------------------------------------- 744,140 709,714 808,700 ------------------------------------------------------------------------- ------------------------------------------------------------------------- Liabilities Current liabilities Accounts payable and accrued liabilities 112,289 136,592 112,229 Additional consideration accrued on business combination 54,775 54,775 58,642 Derivative financial instruments 1,682 - 535 Current portion of long-term debt 5,521 8,303 8,861 ------------------------------------------------------------------------- 174,267 199,670 180,267 Long-term debt 325,328 252,441 364,279 Derivative financial instruments 4,260 3,659 - Future income taxes 34,587 31,550 30,693 ------------------------------------------------------------------------- 538,442 487,320 575,239 ------------------------------------------------------------------------- Shareholders' equity Capital stock 308,677 308,601 237,071 Contributed surplus 558 558 552 Deficit (97,720) (84,500) (7,312) Accumulated other comprehensive income (loss) net of income taxes (5,817) (2,265) 3,150 ------------------------------------------------------------------------- 205,698 222,394 233,461 ------------------------------------------------------------------------- 744,140 709,714 808,700 ------------------------------------------------------------------------- ------------------------------------------------------------------------- Consolidated statements of cash flows (in thousands of US dollars) (Unaudited) Three-month periods Six-month periods ended June 30, ended June 30, 2008 2007 2008 2007 ------------------------------------------------------------------------- ------------------------------------------------------------------------- $ $ $ $ Cash flows from operating activities Net earnings (loss) (3,572) 3,962 (13,220) (19,948) Items not affecting cash and cash equivalents Amortization of property, plant and equipment 3,853 3,389 7,460 6,409 Amortization of intangible assets 166 183 332 368 Stock-based compensation plans (203) 25 (632) (100) Future income taxes (481) (1,606) (8,908) (17,739) Gain on disposal of property, plant and equipment - (20) - (240) Loss on foreign currency 245 246 890 383 ------------------------------------------------------------------------- 8 6,179 (14,078) (30,867) Changes in non-cash operating working capital items (13,075) (45,740) (43,244) (32,215) ------------------------------------------------------------------------- (13,067) (39,561) (57,322) (63,082) ------------------------------------------------------------------------- Cash flows from financing activities Repayment of long-term debt (2,312) (2,330) (4,665) (4,719) Change in revolving credit facility 26,500 45,800 75,000 69,000 Amortization of deferred financing costs 875 122 1,815 292 Amortization of comprehensive loss on interest rate swap 575 - 575 - Unrealized gain on derivative financial instruments related to interest rate swap (6,153) - (6,153) - Addition to deferred financing costs - - (2,666) - Issuance of capital stock - 72 76 774 ------------------------------------------------------------------------- 19,485 43,664 63,982 65,347 ------------------------------------------------------------------------- Cash flows from investing activities Acquisition of property, plant and equipment (2,763) (5,540) (7,437) (11,776) Proceeds from disposal of property, plant and equipment - - - 798 Business combinations - - - (342) ------------------------------------------------------------------------- (2,763) (5,540) (7,437) (11,320) ------------------------------------------------------------------------- Increase (decrease) in cash and cash equivalents 3,655 (1,437) (777) (9,055) Cash and cash equivalents, beginning of period 4,073 6,040 8,505 13,658 ------------------------------------------------------------------------- Cash and cash equivalents, end of period 7,728 4,603 7,728 4,603 ------------------------------------------------------------------------- ------------------------------------------------------------------------- Supplementary disclosure of cash flow information Interest paid 2,538 6,143 8,231 12,531 Income taxes paid (recovered) 2,863 1,908 2,553 (2,094) Non cash item Property, plant and equipment acquired by means of capital leases - - 622 -

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