UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarterly Period Ended: September 30, 2006
Commission File No. 1-4436
THE STEPHAN CO.
(Exact Name of Registrant as Specified in its Charter)
Florida 59-0676812
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1850 West McNab Road, Fort Lauderdale, Florida 33309
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including Area Code: (954) 971-0600
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
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the
Exchange Act).
Large accelerated filer[ ] Accelerated filer[ ] Non-accelerated filer[X]
Indicate by check mark whether the Registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act)
YES NO X
Approximate number of shares of Common Stock outstanding
as of November 1, 2006:
4,389,805
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006
INDEX
PAGE NO.
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheets
as of September 30, 2006 and December 31, 2005 5-6
Unaudited Condensed Consolidated Statements
of Operations for the nine months ended
September 30, 2006 and 2005 7
Unaudited Condensed Consolidated Statements
of Operations for the three months ended
September 30, 2006 and 2005 8
Unaudited Condensed Consolidated Statements
of Cash Flows for the nine months ended
September 30, 2006 and 2005 9-10
Notes to Unaudited Condensed Consolidated
Financial Statements 11-16
ITEM 2. Management's Discussion and Analysis
of Financial Condition and
Results of Operations 17-20
ITEM 3. Quantitative and Qualitative
Disclosure About Market Risk 20
ITEM 4. Controls and Procedures 20-21
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings 22
ITEM 6. Exhibits 22
SIGNATURES 23
2
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006
CAUTIONARY STATEMENT FOR PURPOSES OF THE SAFE HARBOR
PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This quarterly report contains certain "forward-looking"
statements. The Stephan Co. ("Stephan" or the "Company") desires to take
advantage of the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995 and is including this statement for the
express purpose of availing itself of the protections of such safe harbor
with respect to all such forward-looking statements. Such forward-looking
statements involve risks, uncertainties and other factors which may cause
the actual results, condition (financial or otherwise), performance, trends
or achievements of the Company and its subsidiaries to be materially
different from any results, condition, performance, trends or achievements
projected, anticipated or implied by such forward-looking statements.
Words such as "projects," "believe," "anticipates," "estimate,"
"plans," "expect," "intends," and similar words and expressions are
intended to identify forward-looking statements and are based on our
current expectations, assumptions, and estimates about us and our industry.
In addition, any statements that refer to expectations, projections or
other characterizations of future events or circumstances are forward-
looking statements. Although we believe that such forward-looking
statements are reasonable, we cannot assure you that such expectations will
prove to be correct.
Our actual results could differ materially from those anticipated in
such forward-looking statements as a result of several factors, risks and
uncertainties. These factors, risks and uncertainties include, without
limitation, our ability to satisfactorily address any material weaknesses
in our financial controls; general economic and business conditions;
competition; the relative success of our operating initiatives; our
development and operating costs; our advertising and promotional efforts;
brand awareness for our product offerings; the existence or absence of
adverse publicity; acceptance of any new product offerings; changing trends
in customer tastes; the success of any multi-branding efforts; changes in
our business strategy or development plans; the quality of our management
team; costs and expenses incurred by us in pursuing strategic alternatives;
the availability, terms and deployment of capital; the business abilities
and judgment of our personnel; the availability of qualified personnel; our
labor and employee benefit costs; the availability and cost of raw
materials and supplies; changes in or newly-adopted accounting principles;
changes in, or our failure to comply with, applicable laws and regulations;
changes in our product mix and associated gross profit margins; as well as
management's response to these factors, and other factors that may be more
fully described in the Company's literature, press releases and publicly-
3
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006
filed documents with the Securities and Exchange Commission. You are urged
to carefully review and consider these disclosures, which describe certain
factors that affect our business.
We do not undertake, subject to applicable law, any obligation to
publicly release the results of any revisions, which may be made to any
forward-looking statements to reflect events or circumstances occurring
after the date of such statements or to reflect the occurrence of
anticipated or unanticipated events. Therefore, we caution each reader of
this report to carefully consider the specific factors and qualifications
discussed herein with respect to such forward-looking statements, as such
factors and qualifications could affect our ability to achieve our
objectives and may cause actual results to differ materially from those
projected, anticipated or implied herein.
4
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
September 30, December 31,
2006 2005
____________ ____________
CURRENT ASSETS
Cash and cash equivalents $ 6,231,566 $ 5,602,762
Restricted cash 1,112,074 3,335,557
Accounts receivable, net 2,292,675 1,431,650
Inventories 6,096,707 6,148,267
Income taxes receivable - 22,893
Prepaid expenses and
other current assets 389,958 311,905
____________ ____________
TOTAL CURRENT ASSETS 16,122,980 16,853,034
RESTRICTED CASH 1,387,500 -
PROPERTY, PLANT AND EQUIPMENT, net 1,612,243 1,682,951
GOODWILL, net 4,013,458 4,013,458
TRADEMARKS, net 8,364,809 8,364,809
DEFERRED ACQUISITION COSTS, net 92,667 142,185
OTHER ASSETS, net 1,371,027 1,721,169
____________ ____________
TOTAL ASSETS $ 32,964,684 $ 32,777,606
============ ============
See notes to unaudited condensed consolidated financial statements
5
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
September 30, December 31,
2006 2005
____________ ____________
CURRENT LIABILITIES
Accounts payable and
accrued expenses $ 2,189,538 $ 2,002,728
Current portion of
long-term debt 1,110,000 3,237,500
Income taxes payable 43,600 -
____________ ____________
TOTAL CURRENT LIABILITIES 3,343,138 5,240,228
DEFERRED INCOME TAXES, net 1,656,823 1,343,257
LONG-TERM DEBT, less current maturities 1,387,500 -
____________ ____________
TOTAL LIABILITIES 6,387,461 6,583,485
____________ ____________
COMMITMENTS AND CONTINGENCIES (NOTE 3)
STOCKHOLDERS' EQUITY
Common stock, $.01 par value 43,898 43,898
Additional paid in capital 17,623,735 17,556,731
Retained earnings 8,909,590 8,593,492
____________ ____________
TOTAL STOCKHOLDERS' EQUITY 26,577,223 26,194,121
____________ ____________
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 32,964,684 $ 32,777,606
============ ============
See notes to unaudited condensed consolidated financial statements
6
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Nine Months Ended
September 30,
______________________________
2006 2005
____________ ____________
NET SALES $ 17,054,155 $ 17,141,001
COST OF GOODS SOLD 9,910,822 10,437,736
___________ ___________
GROSS PROFIT 7,143,333 6,703,265
SELLING, GENERAL AND
ADMINISTRATIVE EXPENSES 6,231,099 6,712,074
___________ ____________
OPERATING INCOME/(LOSS) 912,234 (8,809)
OTHER INCOME(EXPENSE)
Interest income 155,312 86,061
Interest expense (110,580) (74,122)
Other income, net 37,500 37,500
___________ ___________
INCOME BEFORE INCOME TAXES 994,466 40,630
INCOME TAX EXPENSE 414,979 31,884
___________ ___________
NET INCOME $ 579,487 $ 8,746
=========== ===========
BASIC AND DILUTED EARNINGS PER SHARE $ .13 $ .00
=========== ===========
WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING 4,391,052 4,401,454
=========== ===========
See notes to unaudited condensed consolidated financial statements
7
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended
September 30,
_____________________________
2006 2005
____________ ____________
NET SALES $ 6,097,238 $ 6,567,510
COST OF GOODS SOLD 3,525,412 4,242,746
___________ ___________
GROSS PROFIT 2,571,826 2,324,764
SELLING, GENERAL AND
ADMINISTRATIVE EXPENSES 1,945,022 2,214,012
___________ ____________
OPERATING INCOME 626,804 110,752
OTHER INCOME(EXPENSE)
Interest income 48,919 34,567
Interest expense (42,604) (20,925)
Other income, net 12,500 12,500
___________ ___________
INCOME BEFORE INCOME TAXES 645,619 136,894
INCOME TAX EXPENSE 279,367 43,038
___________ ___________
NET INCOME $ 366,252 $ 93,856
=========== ===========
BASIC AND DILUTED EARNINGS PER SHARE $ .08 $ .02
=========== ===========
WEIGHTED AVERAGE NUMBER
OF SHARES OUTSTANDING 4,391,052 4,401,454
=========== ===========
See notes to unaudited condensed consolidated financial statements
8
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended
September 30,
___________________________
2006 2005
___________ ____________
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 579,487 $ 8,746
___________ ____________
Adjustments to reconcile net income
to cash flows provided by
operating activities:
Depreciation 108,931 108,302
Stock option compensation 67,004 -
Amortization of intangible assets 49,518 55,711
Write-down of inventories - 60,000
Deferred income tax provision 313,566 3,948
Provision for doubtful accounts 55,774 24,414
Changes in operating assets and
liabilities:
Accounts receivable (916,799) (579,162)
Inventories 51,560 370,470
Income taxes receivable/payable 66,493 (25,020)
Prepaid expenses
and other current assets (78,053) 87,768
Other assets 350,142 146,712
Accounts payable and accrued expenses 186,810 422,445
___________ ___________
Total adjustments 254,946 675,588
___________ ___________
Net cash flows provided
by operating activities 834,433 684,334
___________ ___________
See notes to unaudited condensed consolidated financial statements
9
THE STEPHAN CO. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended
September 30,
____________________________
2006 2005
____________ ___________
CASH FLOWS FROM INVESTING ACTIVITIES:
Change in restricted cash 835,983 929,945
Purchase of property, plant
and equipment (38,223) (179,784)
___________ ___________
Net cash flows provided by
investing activities 797,760 750,161
___________ ___________
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayments of long-term debt (740,000) (832,500)
Dividends paid (263,389) (263,390)
___________ ___________
Net cash flows used in
financing activities (1,003,389) (1,095,890)
___________ ___________
INCREASE IN CASH AND
CASH EQUIVALENTS 628,804 338,605
CASH AND CASH EQUIVALENTS,
BEGINNING OF PERIOD 5,602,762 4,402,463
___________ ___________
CASH AND CASH EQUIVALENTS,
END OF PERIOD $ 6,231,566 $ 4,741,068
=========== ===========
Supplemental Disclosures of
Cash Flow Information:
Interest paid $ 32,641 $ 45,387
=========== ===========
Income taxes paid $ 35,178 $ 45,771
=========== ===========
See notes to unaudited condensed consolidated financial statements
10
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 1: NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
NATURE OF OPERATIONS: The Stephan Company (the "Company") is
engaged in the manufacture, sale, and distribution of hair and personal
care grooming products principally throughout the United States. The
Company has allocated substantially all of its business into three
segments, which include professional hair care products and distribution,
retail personal care products and manufacturing.
BASIS OF PRESENTATION: In the opinion of management, all
adjustments (consisting only of normal accruals) necessary for a fair
presentation of the Company's financial position and results of operations
are reflected in these unaudited interim financial statements.
The results of operations for the three and nine month periods ended
September 30, 2006 is not necessarily indicative of the results to be
achieved for the year ending December 31, 2006. The December 31, 2005
condensed consolidated balance sheet was derived from the audited
consolidated financial statements, but does not include all disclosures
required by accounting principles generally accepted in the United States
of America ("generally accepted accounting principles"). These interim
financial statements should be read in conjunction with the audited
consolidated financial statements and accompanying notes appearing in the
Company's Annual Report on Form 10-K for the year ended December 31, 2005,
previously filed with the Securities and Exchange Commission.
USE OF ESTIMATES: The preparation of consolidated financial
statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the consolidated financial statements
and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS: Cash and cash equivalents include
cash, money market investment accounts and short-term instruments having
maturities of 90 days or less when acquired. The Company maintains cash
deposits at certain financial institutions in amounts in excess of the
federally insured limit. Cash and cash equivalents held in interest-
bearing accounts as of September 30, 2006 and December 31, 2005 were
approximately $5,812,000 and $5,095,000, respectively.
INVENTORIES: Inventories are stated at the lower of cost (deter-
mined on a first-in, first-out basis) or market, and are as follows:
11
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 1: NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
September 30, December 31,
2006 2005
____________ ____________
Raw materials $ 1,490,079 $ 1,692,277
Packaging and components 2,189,540 2,238,763
Work in progress 530,170 454,217
Finished goods 3,177,534 3,402,742
____________ ____________
7,387,323 7,787,999
Less: Amount included in
other assets (1,290,616) (1,639,732)
____________ ____________
$ 6,096,707 $ 6,148,267
============ ============
Raw materials include surfactants, chemicals and fragrances used in
the production process. Packaging materials include cartons, inner sleeves
and boxes used in the actual product, as well as outer boxes and cartons
used for shipping purposes. Components are the actual bottles or
containers (plastic or glass), jars, caps, pumps and similar materials that
become part of the finished product. Finished goods include hair dryers,
electric clippers, lather machines, scissors and salon furniture.
Included in other assets is inventory not anticipated to be utilized
within one year and is comprised primarily of packaging, components and
finished goods. The Company reduces the carrying value of inventory to
provide for these slow moving goods that includes the estimated costs of
disposal of inventory that may ultimately become unusable or obsolete.
BASIC AND DILUTED EARNINGS PER SHARE: Basic and diluted earnings
per share are computed by dividing net income by the weighted average
number of shares of common stock outstanding. The weighted average number
of shares outstanding was 4,391,052 and 4,401,454, respectively, for both
the nine-month and three-month periods ended September 30, 2006 and 2005.
For the nine months ended September 30, 2006 and 2005, the Company had
396,178 and 351,240 outstanding stock options, respectively, a significant
portion of which were anti-dilutive. The inclusion of dilutive stock
options in the calculation of earnings per share did not have any impact on
the earnings per share for the three month period ended September 30, 2006.
STOCK-BASED COMPENSATION: Effective January 1, 2006, the Company
adopted Statement of Financial Accounting Standards No. 123 (revised),
"Share-Based Payment" ("FAS 123R"), and chose to utilize the modified
prospective transition method. Under this method, compensation costs
12
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 1: NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
recognized at September 30, 2006 relate to the estimated fair value at the
grant date of 75,310 stock options granted subsequent to January 1, 2006 in
accordance with FAS 123R. Prior to the adoption of FAS 123R the Company
accounted for stock options in accordance with APB Opinion No. 25,
"Accounting for Stock Issued to Employees," and recognized no compensation
expense in net income for stock options granted and has elected the
disclosure only provisions of FAS 123. In accordance with the provisions
of FAS 123R, options granted prior to January 1, 2006 have not been
restated to reflect the adoption of FAS 123R. The required services for
awards prior to January 1, 2006 had been rendered prior to December 31,
2005.
As a result of adopting FAS 123R on January 1, 2006, the Company's net
income for the nine and three month periods ended September 30, 2006 was
reduced due to the Company's recognition of approximately $67,000 and
$25,000, respectively, of compensation expense (included in Selling,
General and Administrative Expenses) in the periods that stock options were
granted. The impact on basic and diluted earnings per share for the nine
months and quarter ended September 30, 2006 was not material and the per
share earnings remained at $.13 and $.08, respectively. For the nine
months and quarter ended September 30, 2005, no compensation expense was
recorded for options granted in the period, as indicated above. The
Company has used the Black-Scholes option pricing model to estimate the
fair value of stock options using the following assumptions as at
September 30, 2006:
Life expectancy - Key Employee 10 years
Life expectancy - Outside Director 5 years
Risk-free interest rate 5.2%
Expected volatility 61.1%
Dividends per share 2.1%
Weighted average fair
value at grant date $1.88
The above assumptions are based on a number of factors as follows:
(i) expected volatility was determined using the historical volatility of
the Company's stock price, (ii) the expected term of the options is based
on the period of time that the options granted are expected to be
outstanding, and (iii) the risk free rate is the U.S. Treasury rate
effective at the time of grant for the duration of the options granted.
Compensation cost is recognized on a straight-line basis over the vesting
period.
13
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 1: NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES (continued)
NEW FINANCIAL ACCOUNTING STANDARDS: In May 2005, the FASB issued SFAS
No. 154, "Accounting Changes and Error Corrections, a replacement of APB
Opinion No. 20 and FASB Statement No. 3", effective for accounting changes
and corrections of errors made in fiscal year 2006 and beyond. In February
2006, the FASB issued SFAS No. 155, "Accounting for Certain Hybrid
Financial Instruments, an amendment of FASB Statements No. 133 and 140",
effective for events occurring after the first fiscal year that begins
after September 15, 2006. In March 2006, the FASB issued SFAS No. 156,
"Accounting for Servicing of Financial Assets, an amendment of FASB
Statement No. 140", also effective for the first fiscal year that begins
after September 15, 2006. In September 2006, the FASB issued SFAS No. 157,
"Fair Value Measurements", effective for financial statements issued for
fiscal years beginning after November 15, 2007. SFAS No. 157 defines fair
value, establishes a framework for measuring fair value and expands
required disclosures in connection therewith. The effect of these
statements on the Company's consolidated financial statements will be
determined based upon the nature and significance of future events, if any,
that would be subject to these statements.
In July 2006 the FASB issued FASB Interpretation No. 48, ("FIN 48")
"Accounting for Uncertainty in Income Taxes, an interpretation of FASB
Statement No. 109". FIN 48 requires that we recognize in our financial
statements the impact of a tax position taken or expected to be taken in a
tax return, provided that that position is more likely than not of being
sustained on audit. FIN 48 is effective for fiscal years beginning after
December 15, 2006. We do not anticipate that FIN 48 will have any adverse
effect on our financial statements.
NOTE 2: SEGMENT INFORMATION
The Company has identified three reportable operating segments based
upon the manner in which its management evaluates its business. These
segments are Professional Hair Care Products and Distribution
("Professional"), Retail Personal Care Products ("Retail") and
"Manufacturing". The Professional segment has a customer base consisting
generally of distributors that purchase the Company's hair products and
beauty and barber supplies for sale to salons and barbershops. The
customer base for the Retail segment consists of mass merchandisers, chain
drug stores and supermarkets that sell products to end-users. The
Manufacturing segment manufactures products for different subsidiaries of
the Company and manufactures private label brands for customers.
The Company conducts operations principally in the United States and
sales to international customers are not material to its consolidated net
14
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 2: SEGMENT INFORMATION (continued)
sales. Income/(Loss) Before Income Taxes as shown below reflects an
allocation of corporate overhead expenses (based upon sales) incurred by
the Manufacturing segment. The following tables, in thousands, summarize
Net Sales and Income/(Loss) Before Income Taxes by reportable segment:
NET SALES NET SALES
_______________ _______________
Nine Months Three Months
Ended Sept. 30, Ended Sept. 30,
2006 2005 2006 2005
_______________ _______________
Professional $12,906 $13,377 $ 4,698 $ 5,065
Retail 3,279 3,221 1,111 1,269
Manufacturing 3,505 4,058 1,181 1,642
_______ _______ _______ _______
Total 19,690 20,656 6,990 7,976
Intercompany
Manufacturing (2,636) (3,515) (893) (1,408)
_______ _______ _______ _______
Consolidated $17,054 $17,141 $ 6,097 $ 6,568
======= ======= ======= =======
INCOME/(LOSS) INCOME/(LOSS)
BEFORE INCOME BEFORE INCOME
TAXES TAXES
_______________ _______________
Nine Months Three Months
Ended Sept. 30, Ended Sept. 30,
2006 2005 2006 2005
_______________ _______________
Professional $ 693 $ 702 $ 384 $ 246
Retail 398 (25) 301 (12)
Manufacturing ( 97) (636) ( 39) (97)
_______ _______ ______ ______
Consolidated $ 994 $ 41 $ 646 $ 137
======= ======= ====== ======
15
THE STEPHAN CO. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
QUARTERS ENDED SEPTEMBER 30, 2006 AND 2005
NOTE 3: LONG-TERM DEBT
On September 26, 2006, the Company finalized a recasting of the
Wachovia Bank balloon payment due in August 2006. Under the terms of the
loan modification agreement, the $2,497,500 that was due will continue to
be paid in installment payments of $92,500, plus interest, monthly until
the obligation is satisfied in January 2009. The interest rate remained
the same, at 50 basis points above the rate of interest paid on the cash
collateral. In connection with this modification, $1,387,500 of restricted
cash has been reclassified to long-term as of September 30, 2006.
NOTE 4: COMMITMENTS AND CONTINGENCIES
The Company is involved in litigation matters arising in the ordinary
course of business. It is the opinion of management that none of these
matters, at September 30, 2006, would likely, if adversely determined, have
a material adverse effect on the Company's financial position, results of
operations or cash flows. Additionally, there has been no material change
in the status of any other pending litigation since the Company's filing of
its Annual Report on Form 10-K with the Securities and Exchange Commission
for the year ended December 31, 2005.
16
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Nine months ended September 30, 2006:
For the nine months ended September 30, 2006, net sales were
$17,054,000, compared to $17,141,000 achieved in the corresponding nine-
month period of 2005. The decrease in net sales was primarily a result of
lower Professional sales in the third quarter of 2006. Gross profit for
the nine months ended September 30, 2006 was $7,143,000, compared to gross
profit of $6,703,000 achieved for the corresponding nine-month period in
2005. The increase in gross profit was the result of an overall change in
the sales mix, especially in the third quarter of 2006. An increase in
private label manufacturing and sales of certain retail brands, coupled
with a decline in Professional hard goods sales had the effect of
increasing our gross profit for both the three and nine month periods
ended September 30, 2006. The overall gross profit for the nine months
ended September 30, 2006 was 41.9% as compared to 39.1% for the nine months
ended September 30, 2005.
Selling, general and administrative ("SGA") expenses for the nine
months ended September 30, 2006 decreased by $481,000, to $6,231,000, when
compared to the corresponding 2005 nine-month period total of $6,712,000.
This decrease can be attributed to a decline in rent expense as warehouse
facilities were consolidated and/or reduced, as well as a decline in
professional fees.
Interest expense for the nine months ended September 30, 2006 was
$111,000, an increase of approximately $37,000 from the $74,000 incurred in
the corresponding period of 2005. For the nine months ended September 30,
2006, we accrued $78,000 in interest expense related to a previously
disclosed arbitration award, more than offsetting any decline in interest
expense on our bank debt. While our management believes we may ultimately
prevail and/or settle for an amount substantially below the amount already
accrued, our management continues to accrue interest on the entire
obligation because it cannot predict the outcome of the litigation.
Interest income of $155,000 for the nine months ended September 30, 2006
was higher than the $86,000 earned in the corresponding nine months of 2005
due to an increase in invested cash and the overall increase in interest
rates. Other income includes royalty fees received from the licensing of
our Frances Denney products.
Net income for the nine-month period ended September 30, 2006 was
$579,000, compared to net income of $9,000 for the nine months ended
September 30, 2005. An increase in gross profit and a reduction in SGA
17
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
expenses all contributed to income from operations of $912,000 for the nine
months ended September 30, 2006, compared to a loss from operations of
$9,000 for the comparable period in 2005. Income taxes for the nine months
ended September 30, 2006 were $415,000, comprised of a net current state
income tax provision of $102,000 and a deferred Federal income tax
provision of $313,000.
Basic and diluted earnings per share was $0.13 for the nine months
ended September 30, 2006, compared to $0.00 for the nine months ended
September 30, 2005, based on a weighted average number of shares
outstanding of 4,391,052 and 4,401,454, respectively.
Three months ended September 30, 2006:
For the three months ended September 30, 2006, net sales were
$6,097,000, compared to $6,568,000 for the three months ended September 30,
2005, a decrease of $471,000. Gross profit for the three months ended
September 30, 2006 was $2,572,000, compared to gross profit of $2,325,000
achieved for the corresponding three-month period in 2005. As indicated
above, similarly to the nine-month period ended September 30, 2006, the
increase in gross profit was the result of an overall change in the sales
mix. The gross profit margin for the three months ended September 30, 2006
was 42.2% as compared to 35.4% for the three months ended September 30,
2005.
SGA expenses for the three months ended September 30, 2006 decreased
by $269,000, from $2,214,000 to $1,945,000, when compared to the
corresponding three-month period of 2005.
Interest income for the three-month period ended September 30, 2006
was $49,000, an increase of approximately $14,000 when compared to $35,000
earned in the corresponding three-month period of 2005, primarily as a
result of rising interest rates.
The income tax expense for the three months ended September 30, 2006
was $279,000 compared to $43,000 for the three-month period ended September
30, 2005. For the three months ended September 30, 2006, net income was
$366,000 compared to $94,000 for the corresponding period in 2005. Basic
and diluted earnings per share was $0.08 for the three months ended
September 30, 2006 compared to $0.02 for the three months ended September
30, 2005, based on a weighted average number of shares of 4,391,052 and
4,401,454, respectively.
18
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (continued)
LIQUIDITY & CAPITAL RESOURCES
Cash and cash equivalents increased $629,000 from December 31, 2005,
to $6,232,000 at September 30, 2006. Total cash of $8,731,000 at September
30, 2006 includes $2,500,000 of cash invested in a restricted money market
account pledged as collateral for a bank loan. Accounts receivable were
$2,293,000 at September 30, 2006, an increase of $861,000 from the
$1,432,000 at December 31, 2005 due to the increased level of sales in the
third quarter when compared to the fourth quarter of 2005; inventories
decreased approximately $52,000 from $6,148,000 at December 31, 2005 to
$6,097,000 at September 30, 2006.
Total current assets at September 30, 2006 were $16,123,000 compared
to $16,853,000 at December 31, 2005. Working capital increased $1,167,000
when compared to December 31, 2005 as a result of our formal recasting of
the Wachovia Bank balloon payment due in August 2006. Under the terms of
the loan modification signed in the third quarter of 2006 (filed as Exhibit
10.1 hereto), we will continue to make the same installment payment of
$92,500, plus interest, monthly until the obligation is satisfied in
January 2009. The interest rate remained the same, at 50 basis points
above the rate of interest paid on the cash collateral.
In August 2006, under the terms of a two-year lease, we leased ware-
house space in Tampa, Florida, replacing an existing leased facility of
similar size. Monthly rental and other terms remained similar to the
previous lease.
As has been the case in the past, the bulk of our insurance policies
come up for renewal in July; as a result, our prepaid expenses increased.
Other than the above, we do not anticipate any significant capital
expenditures in the near term and our management believes that there is
sufficient cash on hand and working capital to satisfy upcoming
requirements.
The Company does not have any off-balance sheet financing or similar
arrangements.
NEW FINANCIAL ACCOUNTING STANDARDS
See Note 1 to the Financial Statements included in Part I, Item 1 for
a discussion of new financial accounting standards.
19
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
DISCUSSION OF CRITICAL ACCOUNTING POLICIES
The preparation of consolidated financial statements in conformity
with accounting principles generally accepted in the United States of
America ("generally accepted accounting principles") requires management to
make estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results would
differ significantly from those estimates if different assumptions were
used or unexpected events transpire. Please see Item 7 in the Company's
Annual Report on Form 10-K for the year ended December 31, 2005 filed with
the Securities and Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company does not participate in derivative or other financial
instruments for which fair value disclosure would be required under SFAS
No. 107. In addition, the Company does not invest in securities that would
require disclosure of market risk, nor does it have floating rate loans or
foreign currency exchange rate risks.
ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES: As of the end
of the period covered by this quarterly report, an evaluation of the
effectiveness of the design and operation of the Company's disclosure
controls and procedures was performed under the supervision and with the
participation of our management, including our principal executive officer
and principal financial officer. Based upon that evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that a material
weakness existed in our internal controls over financial reporting and
consequently our disclosure controls and procedures were not effective, as
of the end of the period covered by this quarterly report, in timely
alerting them as to material information relating to our Company (including
our consolidated subsidiaries) required to be included in this quarterly
report.
The material weakness in our internal controls over financial
reporting as of September 30, 2006 related to the fact that as a small
public company, we have an insufficient number of personnel with clearly
delineated and fully documented responsibilities and with the appropriate
level of accounting expertise and we have insufficient documented
procedures to identify and prepare a conclusion on matters involving
material accounting issues and to independently review conclusions as to
the application of generally accepted accounting principles. The lack of a
20
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
ITEM 4. CONTROLS AND PROCEDURES (continued)
sufficient number of accounting personnel is not considered appropriate for
an internal control structure designed for external reporting purposes.
The principal factors management considered in determining whether a
material weakness existed in this regard was based upon management's
evaluation discussed above and advice from our previous independent
registered public accounting firm. As a result, management has determined
that a material weakness in the effectiveness of the Company's internal
controls over financial reporting existed as of September 30, 2006.
(b) CHANGES IN INTERNAL CONTROLS: No change in the Company's internal
control over financial reporting occurred during this reporting period that
has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting. However, management
of the Company, as well as the Audit Committee, recognizes that current
staffing levels will have to be enhanced and/or institute arrangements with
other accounting firms to act in a consulting capacity in an effort to
satisfy our reporting obligations and over-all standards of disclosure
controls and procedures.
21
THE STEPHAN CO. AND SUBSIDIARIES
QUARTERLY REPORT PURSUANT TO SECTION 13
OF THE SECURITIES EXCHANGE ACT OF 1934
SEPTEMBER 30, 2006 AND 2005
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 3 to the Financial Statements included in Part I, Item 1 for
a discussion of legal proceedings.
Other than the above, there has been no material change in the status
of any other pending litigation since our last periodic report.
ITEM 6. EXHIBITS
10.1 Loan Modification Agreement with Wachovia Bank
31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer.
31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer.
32.1 Certification by the Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
32.2 Certification by the Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
22
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.
THE STEPHAN CO.
/s/ Frank F. Ferola
_____________________________________
Frank F. Ferola
President and Chief Executive Officer
November 13, 2006
/s/ David A. Spiegel
____________________________________
David A. Spiegel
Principal Financial and
Accounting Officer
November 13, 2006
23