S-1 1 y86057s1sv1.htm FORM S-1 sv1
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As filed with the Securities and Exchange Commission on April 22, 2011.
Registration No. 333-      
 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
Form S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
Party City Holdings Inc.
(Exact name of registrant as specified in its charter)
 
     
Delaware   20-1033029
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
80 Grasslands Road, Elmsford, NY 10523
(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)
 
(914) 345-2020
(Name, address, including zip code, and telephone number, including area code, of agent for service)
Copies to:
 
     
Keith F. Higgins, Esq.
Jane D. Goldstein, Esq.
Andrew J. Terry, Esq.
Ropes & Gray LLP
Prudential Tower, 800 Boylston Street
Boston, MA 02199-3600
Telephone (617) 951-7000
Fax (617) 951-7050
  Marc D. Jaffe, Esq.
Latham & Watkins LLP
885 Third Avenue
New York, NY 10022-4834
Telephone (212) 906-1200
Fax (212) 751-4864
 
Approximate date of commencement of proposed sale to public:  As soon as practicable after this Registration Statement becomes effective.
 
If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended (the “Securities Act”), check the following box.  o
 
If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer o Accelerated filer o Non-accelerated filer þ Smaller reporting company o
(Do not check if a smaller reporting company)
 
CALCULATION OF REGISTRATION FEE
 
                     
      Proposed Maximum
         
Title of Each Class of
    Aggregate
      Amount of
 
Securities to be Registered     Offering Price(1)(2)       Registration Fee  
Common Stock, $0.01 par value per share
    $ 350,000,000       $ 40,635  
                     
 
 
(1) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(o) under the Securities Act.
 
(2) Includes shares to be sold upon exercise of the underwriters’ option to purchase additional shares. See “Underwriting.”
 
The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.
 


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The information in this preliminary prospectus is not complete and may be changed. Neither we nor the selling stockholders may sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.
 
 
Subject to Completion. Dated April 22, 2011
 
Party City Holdings Inc.
 
          Shares
 
     
LOGO   LOGO
Common Stock
 
This is the initial public offering of shares of common stock of Party City Holdings Inc., or “Party City Holdings.”
 
Party City Holdings is offering           shares to be sold in the offering. The selling stockholders identified in this prospectus are offering an additional           shares. Party City Holdings will not receive any of the proceeds from the sale of the shares being sold by the selling stockholders.
 
Prior to this offering, there has been no public market for the common stock. It is currently estimated that the initial public offering price per share will be between $      and $      . Party City Holdings intends to list the common stock on the           under the symbol “PRTY”.
 
See “Risk Factors” on page 10 to read about factors you should consider before buying shares of the common stock.
 
 
Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
 
 
                 
    Per Share   Total
 
Initial public offering price
  $                $             
Underwriting discount
  $     $  
Proceeds before expenses to Party City Holdings
  $     $  
Proceeds before expenses to the selling stockholders
  $     $  
 
To the extent the underwriters sell more than           shares of common stock, the underwriters have the option to purchase up to an additional          shares from           at the initial public offering price less the underwriting discount.
 
 
The underwriters expect to deliver the shares against payment in New York, New York on           , 2011.
 
 
     
Goldman, Sachs & Co.
  BofA Merrill Lynch
Barclays Capital
  Deutsche Bank Securities
 
 
         
Credit Suisse
  Morgan Stanley   Wells Fargo Securities
 
             
Baird
  William Blair & Company   RBC Capital Markets   Stifel Nicolaus Weisel
 
Prospectus dated          , 2011


 

 
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Through and including          , 2011 (the 25th day after the date of this prospectus), all dealers effecting transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to a dealer’s obligation to deliver a prospectus when acting as an underwriter and with respect to an unsold allotment or subscription.
 
We have not authorized anyone to provide any information or to make any representations other than those contained in this prospectus or in any free writing prospectuses we have prepared. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. This prospectus is an offer to sell only the shares offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date.


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MARKET, RANKING AND OTHER INDUSTRY DATA
 
The market, ranking and other industry data included in this prospectus, including the size of certain markets and our position and the position of our competitors within these markets, are based on published industry sources and estimates based on our management’s knowledge and experience in the markets in which we operate. These estimates have been based on information obtained from our trade and business organizations and other contacts in the markets in which we operate. We believe these estimates to be accurate as of the date of this prospectus. However, this information may prove to be inaccurate because of the method by which we obtained some of the data for the estimates or because this information cannot always be verified with complete certainty due to the limits on the availability and reliability of raw data, the voluntary nature of the data gathering process and other limitations and uncertainties. As a result, you should be aware that market, ranking and other similar industry data included in this prospectus, and estimates and beliefs based on that data, may not be reliable.


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PROSPECTUS SUMMARY
 
This summary highlights information contained elsewhere in this prospectus. This summary does not contain all of the information you should consider before investing in our common stock. You should read this entire prospectus carefully, especially the “Risk Factors” section of this prospectus and our consolidated financial statements and related notes appearing at the end of this prospectus, before making an investment decision.
 
When we use the terms “we,” “us,” “our” or the “Company,” we mean Party City Holdings Inc., a Delaware corporation, formerly known as “AAH Holdings Corporation,” and its consolidated subsidiaries, including Amscan Holdings, Inc. (“Amscan Holdings”), taken as a whole, unless the context otherwise indicates.
 
Our Company
 
We are a global leader in decorated party supplies. We make it easy and fun to enhance special occasions with the widest assortment of innovative and exciting merchandise at a compelling value. With the 2005 acquisition of Party City Corporation (“Party City”), we created a vertically integrated business combining the leading product design, manufacturing and distribution platform, Amscan, with the largest U.S. retailer of party supplies. We have the industry’s broadest selection of decorated party supplies, which we distribute to over 100 countries. Our party superstore retail network consists of approximately 800 locations in the United States and is approximately 15 times larger than that of our next largest party superstore competitor. Our vertically integrated business model and scale differentiate us from other party supply companies and allow us to capture the manufacturing-to-retail margin on a significant portion of the products sold in our stores. We believe our widely recognized brands, broad product offering, low-cost global sourcing model and category-defining retail concept are significant competitive advantages. We believe these characteristics, combined with our vertical business model and scale, position us for continued organic and acquisition-led growth in the United States and internationally.
 
Founded in 1947, we started as a wholesaler and have grown to become the largest global designer, manufacturer and distributor of decorated party supplies. Today, through our wholesale activities, we distribute the broadest selection of decorated party supplies with approximately 37,000 SKUs that range from paper and plastic tableware, decorations and metallic and latex balloons to novelties, costumes, party kits, stationery and gifts for everyday, themed and seasonal events. Our products are available in over 40,000 retail outlets worldwide, including our own retail network, independent party supply stores, dollar stores, mass merchants, grocery retailers and gift shops. We believe that through our extensive offering as well as industry-leading innovation, customer service levels and value, we will continue to win with our customers.
 
The acquisition of Party City represented an important step in our evolution. Over the last five years, we have established the largest network of party supply stores in the United States with over 1,200 locations consisting of approximately 800 party superstores (including approximately 230 franchised stores), principally under the Party City banner, and a temporary Halloween network of over 400 locations under the Halloween City banner. We also operate PartyCity.com, our primary e-commerce site, which provides a broader merchandise selection and party-planning ideas while also allowing us to reach markets where we do not currently have a retail presence. Underscored by our slogan “Nobody Has More Party for Less,” we believe we offer a superior one-stop shopping experience with a broad selection, consistently high in-stock positions and compelling value, making us the favored destination for all of our customers’ party-supply needs.
 
Through a combination of organic growth and strategic acquisitions, we increased our consolidated revenues from $1,015 million in 2006 to $1,599 million in 2010, representing a compounded annual growth rate of 12.0%. During this same period, we grew our Adjusted EBITDA from $122 million to $226 million, representing a compounded annual growth rate of 16.7%. Adjusted EBITDA as a percentage of revenues has increased 213 basis points from 12.0% in 2006 to 14.1% in 2010.


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Evolution of Our Business
 
Over the last 60 years, we have grown to become a global, vertically integrated designer, manufacturer, distributor and retailer of decorated party supplies. Below we summarize some of our key acquisitions and strategic initiatives:
 
  •  Enhancing Our Wholesale Platform.  The acquisition of Anagram International in 1998 and the subsequent acquisition of M&D Balloons in 2002 positioned us as the largest manufacturer and distributor of metallic balloons in the world. In 2001, we opened a state-of-the-art distribution center to enhance our industry-leading service levels and, in 2003, we opened a Hong Kong office to support our growing Asian-based sourcing and sales organization.
 
  •  Establishing Retail Leadership and Our Vertically Integrated Model.  Through the acquisitions of Party City in 2005, Party America Corporation (“Party America”) in 2006 and Factory Card and Party Outlet (“FCPO”) in 2007, we have become the largest party goods specialty retailer in the United States. Following each acquisition, we capitalized on our vertically integrated model by increasing the percentage of Amscan products sold at our retail stores, allowing us to capture the manufacturing-to-retail margin on a significant portion of our retail sales. In 2007, we entered the temporary Halloween business through the acquisition of Gags & Games Inc. and have since grown that business from 94 to over 400 temporary Halloween City locations.
 
  •  Re-Launching Our E-commerce Platform.  In August 2009, we re-launched PartyCity.com with e-commerce capabilities, providing us with an additional direct-to-consumer sales channel. We believe PartyCity.com will continue to grow based on its differentiated content, strong brand recognition and vertical integration.
 
  •  Broadening Products and Channel Reach.  Our March 2010 acquisition of the Designware party goods division (“Designware”) from American Greetings Corporation (“American Greetings”) strengthened our juvenile licensed character portfolio and enhanced our reach into the grocery retail and mass merchant channels. Our September 2010 acquisition of U.K.-based Christy’s By Design Limited and affiliated companies (the “Christy’s Group”) provided costume design and additional sourcing capabilities and enhanced our platform in European markets.
 
  •  Growing International Presence.  Our January 2011 acquisition of Germany-based Riethmuller GmbH (“Riethmuller”), which included the Malaysian operations of latex balloon manufacturer Everts Balloon, expanded our reach in Europe while also enabling us to directly supply a significant portion of our latex balloon requirements previously sourced from third-party vendors.
 
As a result of these investments, we have created a differentiated, vertically integrated business model. We believe that our superior selection of party supplies, scale, innovation and service position us for future growth across all of our channels.
 
Competitive Strengths
 
We are well-positioned to continue to capitalize on the growing trend to celebrate life’s memorable events as a result of the following competitive strengths:
 
Leading Market Position with Industry Defining Brands.  We are the largest vertically integrated provider of decorated party supplies in the world. Through our category-defining brands, Amscan and Party City, we offer the broadest selection of continuously updated and innovative merchandise at a compelling value. We distribute products to over 100 countries and, with approximately 800 party superstores in 41 states, our domestic retail footprint is approximately 15 times larger than that of our next largest party superstore competitor. We believe that our scale, brand recognition and value proposition underscore our credibility as the destination of choice for party supplies in any channel.
 
Unique Vertically Integrated Operating Model.  We manufacture, source and distribute party supplies, acting as a one-stop shop for decorated party goods to both wholesale and retail customers. Our vertically integrated model provides us with a number of advantages including the ability to (i) realize the


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manufacturing-to-retail margin on a significant portion of our retail sales, (ii) leverage a global sourcing network to reinforce our position as the low-cost provider of quality party supplies and (iii) effectively respond to changes in consumer trends through our in-house design and innovation team.
 
Broad and Innovative Product Offering.  We offer the broadest and deepest product assortment in the party supply industry with over 37,000 SKUs available in wholesale and an average of 25,000 SKUs offered at any one time in our Party City superstores. Our extensive selection supports our leading position as the party supply destination as we offer customers a single source for all of their party needs. Over the last three years, our in-house design team has introduced an average of 3,500 new products annually, driving newness in our product offering and supporting increased sales across our channels.
 
Category Defining Retail Concept.  With our extensive selection, consistently high in-stock positions, convenient locations and compelling value proposition, we believe customers associate Party City with successful celebrations, and, as a result, our stores will continue to be seen as the favored destination for party supplies and innovative ideas for great parties.
 
Highly Efficient Global Sourcing and Distribution Capabilities.  Over the last 60 years, we have developed a global network of owned and third-party manufacturers that we believe optimizes speed to market, quality and cost. In 2010, we manufactured approximately 40% of our wholesale product sales with the balance sourced from a network of third-party manufacturers. We also have warehousing and distribution facilities around the world, including our state-of-the-art distribution center in Chester, New York, which has nearly 900,000 square feet under one roof. Our global sourcing and distribution capabilities offer our customers best-in-class service levels, rapid fulfillment and competitive prices, and have capacity for continued growth with our business.
 
World-Class Management Team with a Proven Track Record.  Our senior management team averages 20 years of industry experience and possesses a unique combination of management skills and experience in the party goods sector. Our team has successfully grown our sales and profits during various economic cycles and through several business transformations. Additionally, our team has a strong track record of successful acquisitions and integrations, which continue to be an important part of our overall strategy.
 
Growth Strategy
 
We believe we have significant opportunities to enhance our leadership position in the party goods industry and improve profitability. Key elements of our growth strategy include:
 
Growing Market Share and Earnings.  We believe we have significant opportunities to continue to grow our business by capitalizing on our leading scale, vertical operating model and strong innovation capabilities as well as strategic acquisitions. We will continue to broaden our product assortment by adding new party themed events and licenses, which, combined with our enhanced in-house capabilities, will enable us to continue to increase our market share and grow the percentage of our own products sold at retail, including in our company-owned and franchised stores. Since the acquisition of Party City in 2005, we have increased the selection of Amscan merchandise offered in Party City stores from approximately 25% to over 60%, with a target of 70% to 75% over the long term. Our ability to create new and enhance existing celebration opportunities will continue to be a consistent driver of our growth.
 
Expand Our Retail Store Base.  Our retail network includes approximately 800 party superstores and over 400 temporary Halloween locations. We believe there is an opportunity to open more than 400 additional Party City stores in North America. In 2011, we plan to open 25 Party City stores and close five locations. Starting in 2012, we plan to open 25 to 35 Party City stores per year. Based on historical performance, we expect our new stores to have a payback period of approximately three years and to generate an average pre-tax cash-on-cash return of approximately 50% in their fourth year (including the margin generated from our vertical model).
 
Drive Additional Growth and Productivity From Existing Retail Stores.  We plan to grow our comparable store sales by continuing to improve our brand image and awareness and by converting FCPO stores to the Party City banner. In late 2009, we modified our advertising strategy to focus on a national


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broadcasting campaign to further develop brand awareness and expand our customer base. In addition, in 2010 we began converting our FCPO stores to the Party City banner and expect to have the remaining 93 FCPO stores converted to the Party City banner by the end of 2013.
 
Increase International Presence.  We believe international growth will be driven, in part, by increasing customization of our products to local tastes and holidays and the expansion of our retail presence, particularly through our store-within-a-store concept with selected international retailers. Our recent acquisitions of Christy’s Group and Riethmuller also expanded our presence in select markets, including the U.K., Germany and Poland. We believe international sales, which represented 6.9% of total revenues in 2010, are likely to grow to 10% to 15% of our total revenues over the next three to five years through organic and acquisition-led growth.
 
Grow Our E-commerce Platform.  In August 2009, we re-launched our primary e-commerce platform PartyCity.com, providing us with an additional direct-to-consumer sales channel. We expect e-commerce will continue to experience significant growth as we increase online content for party products and ideas, invest in additional online advertising and target customers through the four million email addresses that we have captured through our stores and website.
 
Pursue Accretive Acquisitions.  Over the past 15 years, we have successfully integrated nine acquisitions, strengthening our manufacturing, distribution and retail platforms. We have also acquired, and will continue to acquire, franchised stores as such opportunities emerge. We believe our significant experience in identifying attractive acquisition targets, proven integration process and global infrastructure create a strong platform for future acquisitions.
 
Industry Overview
 
We operate in the broadly defined $10 billion retail party goods industry (including decorative paper and plastic tableware, decorations, accessories and balloons), which is supported by a range of suppliers from commodity paper goods producers to party goods specialty retailers. The retail landscape is comprised primarily of party superstores, dollar stores, mass merchants, grocery retailers and craft stores. Party superstores have emerged as the preferred destination for party goods shoppers because they offer a wide variety of merchandise at more compelling prices in a convenient setting. Other retailers that cater to the party goods market typically offer a limited assortment of party supplies and seasonal items. Sales of party goods are fueled by everyday events such as birthdays, baby showers, weddings and anniversaries, as well as seasonal events such as holidays and other special occasions. As a result of numerous and diverse occasions, the U.S. party goods market enjoys broad demographic appeal. We also operate in the Halloween market, which represents a $6 billion retail opportunity and includes costumes, candy and makeup.
 
Risks That We Face
 
Our business is subject to a number of risks of which you should be aware before making an investment decision. The risks are discussed more fully in the “Risk Factors” section of this prospectus immediately following this prospectus summary. These risks include, but are not limited to, the following:
 
  •  we operate in a competitive industry, and our failure to compete effectively could cause us to lose our market share, revenues and growth prospects;
 
  •  our business may be adversely affected by fluctuations in commodity prices;
 
  •  our failure to appropriately respond to changing merchandise trends and consumer preferences could significantly harm our customer relationships and financial performance;
 
  •  we may not be able to successfully implement our store growth strategy;
 
  •  a decrease in our Halloween sales could have a material adverse effect on our operating results for the year;


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  •  our substantial indebtedness and lease obligations could adversely affect our financial flexibility and our competitive position; and
 
  •  investment funds affiliated with Advent International Corporation (“Advent”), Berkshire Partners LLC (“Berkshire Partners”) and Weston Presidio will have the ability to control the outcome of matters submitted for stockholder approval and may have interests that differ from those of our other stockholders.
 
The Sponsors
 
On April 30, 2004, our business was acquired by an entity jointly controlled by funds affiliated with Berkshire Partners and Weston Presidio. On August 19, 2008, certain of our stockholders, in a secondary transaction, sold Class B common stock representing approximately 38% of our outstanding common stock to an entity controlled by funds managed by Advent. As a result of these transactions, investment funds sponsored by each of Berkshire Partners and Weston Presidio and the funds managed by Advent (collectively, the “Sponsors”) collectively own approximately 93% of our common stock as of March 31, 2011. Upon completion of this offering, the Sponsors will continue to beneficially own approximately     % of our outstanding common stock.
 
Advent International Corporation
 
Since 1984, Advent has raised $26 billion in private equity capital and completed over 260 transactions valued at more than $60 billion in 35 countries. Advent’s current portfolio is comprised of investments in 52 companies in 15 countries and across five sectors — Retail, Consumer & Leisure; Financial and Business Services; Industrial; Technology, Media & Telecoms; and Healthcare. The Advent team includes more than 160 investment professionals in 17 offices around the world.
 
Berkshire Partners LLC
 
Berkshire Partners is a private equity firm focused on investing in mid-sized private companies. Berkshire Partners has raised seven investment funds with aggregate commitments of $6.5 billion. Berkshire Partners is currently investing from its seventh fund, which totals $3.1 billion in committed capital, and has completed more than 100 private equity transactions during its nearly 25-year investment history.
 
Weston Presidio
 
Weston Presidio, founded in 1991, is a private equity firm that has managed five investment funds aggregating over $3.3 billion. The firm focuses its investment activities on growth companies in the consumer, business services and industrial growth sectors. With offices in Boston and San Francisco, Weston Presidio targets middle-market opportunities primarily in the United States.
 
Corporate Information
 
Party City Holdings Inc. is the parent company of our collective businesses. Our address is 80 Grasslands Road, Elmsford, NY 10523. Our telephone number is (914) 345-2020. Our primary website addresses are www.amscan.com and www.partycity.com. Information contained in, and that can be accessed through, our websites is not incorporated into and does not form a part of this prospectus.
 
We own a number of trademarks and service marks registered with the United States Patent and Trademark Office, including Party City®, The Discount Party Super Store®, Halloween Costume Warehouse®, Party America®, The Paper Factory®, The Factory Card & Party Outlet® and Halloween City®.


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THE OFFERING
 
Common stock offered by us           shares
 
Common stock to be offered by selling stockholders           shares
 
Common stock to be outstanding after this offering           shares
 
Option to purchase additional shares offered to underwriters We, along with some of our stockholders, have granted the underwriters an option to purchase up to           additional shares. If this option is exercised in full, we will issue and sell           shares and the selling stockholders will sell           shares.
 
Use of proceeds Assuming an initial public offering price of $      , which is the midpoint of the range listed on the cover page of this prospectus, we estimate that the net proceeds to us from this offering will be approximately $      million. We intend to use the net proceeds from this offering to repay indebtedness and for working capital and other general corporate purposes. See “Use of Proceeds.”
 
We will not receive any proceeds from the shares sold by the selling stockholders.
 
Risk factors You should read the “Risk Factors” section of this prospectus beginning on page 10 for a discussion of factors to consider carefully before deciding whether to purchase shares of our common stock.
 
Proposed           symbol PRTY
 
The number of shares of our common stock to be outstanding after this offering is based on 32,112.29 shares of common stock outstanding as of March 31, 2011 and excludes:
 
  •  3,283.47 shares of Class A common stock issuable upon the exercise of stock options issued under our 2004 Equity Incentive Plan with a weighted average exercise price of $15,030.00 per share;
 
  •            additional shares of Class A common stock reserved for future issuance under our 2004 Equity Incentive Plan; and
 
  •            additional shares of common stock reserved for future issuance under our 2011 Equity Incentive Plan.
 
Unless otherwise indicated, all information in this prospectus assumes:
 
  •  A           -for-one stock split on our Class A common stock and Class B common stock effected as a stock dividend immediately prior to the conversion described below;
 
  •  The conversion of all outstanding shares of our Class B common stock into shares of our Class A common stock on a one-for-one basis and renaming the Class A common stock as “Common Stock” (the “Common Stock Conversion”);
 
  •  The adoption of our amended and restated certificate of incorporation (“certificate of incorporation”) and our amended and restated bylaws (“bylaws”), to be effective upon the closing of this offering; and
 
  •  No exercise by the underwriters of their option to purchase up to           additional shares of our common stock from us and the selling stockholders in this offering.


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SUMMARY FINANCIAL DATA
 
The following table sets forth our summary historical and pro forma consolidated financial and other data as of the dates and for the periods presented. The historical consolidated statements of income data are derived from our audited consolidated financial statements included elsewhere in this prospectus. You should read the following tables together with “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes appearing elsewhere in this prospectus.
 
                                 
    Fiscal Year Ended December 31,     Pro Forma
 
    2008     2009     2010     As Adjusted(1)  
    (dollars in thousands, except per share data)  
 
Income Statement Data:
                               
Revenues:
                               
Net sales
  $ 1,537,641     $ 1,467,324     $ 1,579,677                     
Royalties and franchise fees
    22,020       19,494       19,417          
                                 
Total revenues
    1,559,661       1,486,818       1,599,094          
Cost of sales
    966,426       899,041       943,058          
Operating expenses
    479,317       445,904       528,600          
                                 
Income from operations
    113,918       141,873       127,436          
Interest expense, net
    50,915       41,481       40,850          
Other (income) expense, net
    (818 )     (32 )     4,208          
                                 
Income before income taxes
    63,821       100,424       82,378          
Income tax expense
    24,188       37,673       32,945          
                                 
Net income
    39,633       62,751       49,433          
Less: net (loss) income attributable to noncontrolling interests
    (877 )     198       114          
                                 
Net income attributable to Party City Holdings Inc. 
  $ 40,510     $ 62,553     $ 49,319          
                                 
Per Share Data:
                               
Net income per share
                               
Basic
                               
Diluted
                               
Weighted average shares outstanding Basic
                               
Diluted
                               
Statement of Cash Flow Data:
                               
Net cash provided by (used in):
                               
Operating activities
  $ 79,929     $ 123,942     $ 61,168          
Investing activities
    (51,199 )     (54,358 )     (102,766 )        
Financing activities
    (23,033 )     (70,157 )     46,515          


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    Fiscal Year Ended December 31,     Pro Forma
 
    2008     2009     2010     As Adjusted(1)  
    (dollars in thousands, except per share data)  
 
Other Financial Data:
                               
Net revenues by segment:
                               
Wholesale (after intercompany eliminations)
  $ 438,505     $ 411,359     $ 470,892          
Retail
    1,121,156       1,075,459       1,128,202          
Consolidated
    1,559,661       1,486,818       1,599,094          
EBITDA(2)
    162,891       186,089       172,532          
Adjusted EBITDA(2)
    186,040       190,479       226,114          
Adjusted EBITDA margin
    11.9 %     12.8 %     14.1 %        
Number of company-owned and franchised retail stores (at end of period)(3)
    916       851       828          
Number of Party City superstores
    385       382       439          
Party City comparable store sales growth(4)
    0.5 %     (3.3 )%     1.4 %        
Capital expenditures including assets under capital leases (excluding acquisitions)
    53,701       26,254       53,967          
Working capital (excluding cash)
    63,846       146,823       169,539          
Ratio of debt to Adjusted EBITDA(2)
    3.9x       3.4x       4.4x          
                                 
                      Pro Forma
 
                Actual     As Adjusted(1)  
Balance Sheet Data (at period end):
                               
Cash and cash equivalents
                  $ 20,454          
Total assets
                    1,653,151          
Total debt
                    1,000,256          
Total equity
                    256,422          
 
 
(1) The pro forma as adjusted financial data in the table above give effect to: (i) this offering and the use of proceeds therefrom; (ii) the refinancing of Amscan Holdings’ revolving and term debt credit facilities in 2010; and (iii) the one-time cash dividend declared in December 2010, assuming in each case such event occurred on January 1, 2010 with respect to any operating and other financial data and as of December 31, 2010 with respect to any balance sheet data. The pro forma as adjusted financial data do not necessarily represent what our financial position and results of operations would have been if the transactions described above had actually been completed as of January 1, 2010, and are not intended to project our financial position or results of operations for any future period.
 
(2) We present Adjusted EBITDA as a supplemental measure of our performance. We define Adjusted EBITDA, per the terms of the credit agreement for our revolving and term debt, as net income (loss) plus (i) interest expense, (ii) provision for taxes and (iii) depreciation and amortization, as further adjusted to eliminate the impact of certain items that we do not consider indicative of our ongoing operating performance. These further adjustments are itemized below. You are encouraged to evaluate these adjustments and the reasons we consider them appropriate for supplemental analysis. In evaluating Adjusted EBITDA, you should be aware that in the future we may incur expenses that are the same as or similar to some of the adjustments in this presentation. Our presentation of Adjusted EBITDA should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items. The reconciliation from net income to EBITDA and Adjusted EBITDA for the periods presented is as follows:
 


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    Fiscal Year Ended December 31,     Pro Forma
 
    2008     2009     2010     As Adjusted  
    (dollars in thousands)  
 
Net Income
  $ 40,510     $ 62,553     $ 49,319                     
Interest expense, net
    50,915       41,481       40,850          
Income taxes
    24,188       37,673       32,945          
Depreciation and amortization
    47,278       44,382       49,418          
                                 
EBITDA
    162,891       186,089       172,532          
Equity based compensation and other charges
    4,546       882       6,019          
Non-cash purchase accounting adjustments
    2,329       (344 )     2,533          
Management fee
    1,248       1,248       1,248          
Loss (gain) from joint venture
    (538 )     (632 )     (678 )        
Impairment charges
    17,376 (a)           27,997 (a)        
Restructuring, retention and severance
          2,670       1,780          
Payment in lieu of dividend
                9,395 (b)        
Refinancing charges
                2,448          
Acquisition related expenses
          270       1,660          
Other
    (1,812 )     296       1,180          
                                 
Adjusted EBITDA
  $ 186,040     $ 190,479     $ 226,114          
                                 
 
(a) During 2008 and 2010, we implemented plans to convert and rebrand our company-owned and franchised Party America stores and our FCPO stores to Party City stores, respectively. As a result, we recorded charges for the impairment of the Party America trade name and the FCPO trade name of $17.4 million and $27.4 million in the fourth quarters of 2008 and 2010, respectively.
 
(b) Represents payment to holders of vested time-based options in connection with a one-time cash dividend paid in 2010. This payment is included as stock-based compensation expense in general and administrative expenses in 2010.
 
We present Adjusted EBITDA because we believe it assists investors and analysts in comparing our performance across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance. In addition, we use Adjusted EBITDA: (i) as a factor in determining incentive compensation, (ii) to evaluate the effectiveness of our business strategies and (iii) because the credit facility agreements use Adjusted EBITDA to measure compliance with certain covenants.
 
Adjusted EBITDA has limitations as an analytical tool. Some of these limitations are:
 
  •  Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments;
 
  •  Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
 
  •  Adjusted EBITDA does not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our indebtedness;
 
  •  although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements;
 
  •  non-cash compensation is and will remain a key element of our overall long-term incentive compensation package, although we exclude it as an expense when evaluating our ongoing operating performance for a particular period;
 
  •  Adjusted EBITDA does not reflect the impact of certain cash charges resulting from matters we consider not to be indicative of our ongoing operations; and
 
  •  other companies in our industry may calculate Adjusted EBITDA differently than we do, limiting its usefulness as a comparative measure.
 
Because of these limitations, Adjusted EBITDA should not be considered in isolation or as a substitute for performance measures calculated in accordance with GAAP. We compensate for these limitations by relying primarily on our GAAP results and using Adjusted EBITDA only supplementally.
 
(3) Excludes temporary locations under our Halloween City banner and includes Party City superstores.
 
(4) Party City comparable store sales exclude FCPO store conversions, as presented here.

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RISK FACTORS
 
Investing in our common stock involves a certain degree of risk. You should carefully consider the following risk factors, as well as the other information in this prospectus, before deciding to invest in our common stock. The occurrence of any of the following risks could harm our business, financial condition, results of operations or prospects. In that case, the trading price of our common stock could decline, and you may lose all or part of your investment. Certain statements in “Risk Factors” are “forward-looking statements.” See “Special Note Regarding Forward-Looking Statements” elsewhere in this prospectus.
 
Risks Related to Our Business
 
We operate in a competitive industry, and our failure to compete effectively could cause us to lose our market share, revenues and growth prospects.
 
We compete with many other manufactures and distributors, including smaller, independent specialty manufacturers and divisions or subsidiaries of larger companies with greater financial and other resources than we have. Some of our competitors control licenses for widely recognized images and have broader access to mass market retailers that could provide them with a competitive advantage.
 
The party goods retail industry is large and highly fragmented. Our retail stores compete with a variety of smaller and larger retailers, including specialty retailers, warehouse/merchandise clubs, drug stores, supermarkets, dollar stores, mass merchants, and catalogue and online merchants. Our stores compete, among other ways, on the basis of location and store layout, product mix and availability, customer convenience and price. We may not be able to continue to compete successfully against existing or future competitors in the retail space. Expansion into markets served by our competitors and entry of new competitors or expansion of existing competitors into our markets could materially adversely affect our business, results of operations, cash flows and financial performance.
 
We must remain competitive in the areas of quality, price, breadth of selection, customer service and convenience. Competing effectively may require us to reduce our prices or increase our costs, which could lower our margins and adversely affect our revenues and growth prospects.
 
Our business may be adversely affected by fluctuations in commodity prices.
 
The costs of our key raw materials (paper, petroleum-based resin and cotton) fluctuate. In general, we absorb movements in raw material costs that we consider temporary or insignificant. However, cost increases that are considered other than temporary may require us to increase our prices to maintain our margins. Raw material prices may increase in the future and we may not be able to pass on these increases to our customers. A significant increase in the price of raw materials that we cannot pass on to customers could have a material adverse effect on our results of operations and financial performance. In addition, the interruption in supply of certain key raw materials essential to the manufacturing of our products may have an adverse impact on our and our suppliers’ abilities to manufacture the products necessary to maintain our existing customer relationships.
 
Although not used in the actual manufacture of our products, helium gas is currently used to inflate the majority of our metallic balloons. Although adequate quantities of helium are currently available for this purpose, we will rely upon future exploration and refining of natural gas to assure continued adequate supply.
 
Our failure to appropriately respond to changing merchandise trends and consumer preferences could significantly harm our customer relationships and financial performance.
 
As a manufacturer, distributor and retailer of consumer goods, our products must appeal to a broad range of consumers whose preferences are constantly changing. We also sell certain licensed products, with images such as cartoon or motion picture characters, which are in great demand for short time periods, making it difficult to project our inventory needs for these products. In addition, if consumers’ demand for single-use, disposable party goods were to diminish in favor of reusable products for environmental or other reasons, our sales could decline.


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The success of our business depends upon many factors, such as our ability to accurately predict the market for our products and our customers’ purchasing habits, to identify product and merchandise trends, to innovate and develop new products, to manufacture and deliver our products in sufficient volumes and in a timely manner and to differentiate our product offerings from those of our competitors. We may not be able to continue to offer assortments of products that appeal to our customers or respond appropriately to consumer demands. We could misinterpret or fail to identify trends on a timely basis. Our failure to anticipate, identify or react appropriately to changes in consumer tastes could, among other things, lead to excess inventories and significant markdowns or a shortage of products and lost sales. Our failure to do so could harm our customer relationships and financial performance.
 
We may not be able to successfully implement our store growth strategy.
 
If we are unable to increase the number of retail stores we operate and increase the productivity and profitability of existing retail stores, our ability to increase sales, profitability and cash flow could be impaired. To the extent we are unable to open new stores as we planned, our sales growth would come primarily from increases in comparable store sales. We may not be able to increase our comparable store sales, improve our margins or reduce costs as a percentage of sales. Growth in profitability in that case would depend significantly on our ability to increase margins or reduce costs as a percentage of sales. Further, as we implement new initiatives to reduce the cost of operating our stores, sales and profitability may be negatively impacted.
 
Our ability to successfully open and operate new stores depends on many factors including, among others, our ability to:
 
  •  identify suitable store locations, including temporary lease space for our Halloween City locations, the availability of which is largely outside of our control;
 
  •  negotiate and secure acceptable lease terms, desired tenant allowances and assurances from operators and developers that they can complete the project, which depend in part on the financial resources of the operators and developers;
 
  •  obtain or maintain adequate capital resources on acceptable terms, including the availability of cash for rent outlays under new leases;
 
  •  manufacture and source sufficient levels of inventory at acceptable costs;
 
  •  hire, train and retain an expanded workforce of store managers and other personnel;
 
  •  successfully integrate new stores into our existing control structure and operations, including information system integration;
 
  •  maintain adequate manufacturing and distribution facilities, information system and other operational system capabilities;
 
  •  identify and satisfy the merchandise and other preferences of our customers in new geographic areas and markets; and
 
  •  address competitive, merchandising, marketing, distribution and other challenges encountered in connection with expansion into new geographic areas and markets, including geographic restrictions on the opening of new stores based on certain agreements with our franchisees and other business partners.
 
In addition, as the number of our stores increases along with our online sales, we may face risks associated with market saturation of our product offerings. To the extent our new store openings are in markets where we have existing stores, we may experience reduced net sales in existing stores in those markets. Finally, there can be no assurance that any newly opened stores will be received as well as, or achieve net sales or profitability levels comparable to those of, our existing stores in the time periods estimated by us, or at all. If our stores fail to achieve, or are unable to sustain, acceptable net sales and profitability levels, our business may be materially harmed and we may incur significant costs associated with closing those stores. Our failure to effectively address challenges such as these could adversely affect our


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ability to successfully open and operate new stores in a timely and cost-effective manner, and could have a material adverse effect on our business, results of operations and financial condition.
 
A decrease in our Halloween sales could have a material adverse effect on our operating results for the year.
 
Our retail business, including our Party City stores, online sales from our e-commerce website and our temporary Halloween City locations, realizes a significant portion of its revenues, net income and cash flow in September and October, principally due to our Halloween sales. We believe this general pattern will continue in the future. An economic downturn during this period could adversely affect us to a greater extent than if such downturn occurred at other times of the year. Any unanticipated decrease in demand for our products during the Halloween season could require us to maintain excess inventory or sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, profitability, ability to repay any indebtedness and our brand image. In addition, our sales during the Halloween season could be affected if we are not able to find sufficient and adequate lease space for our temporary Halloween City locations or if we are unable to hire temporary personnel to adequately staff these stores and our distribution facility during the Halloween season. Failure to have proper lease space and adequate personnel could hurt our business, financial condition and results of operations.
 
Disruption to the transportation system or increases in transportation costs may negatively affect our operating results.
 
We rely upon various means of transportation, including shipments by air, sea, rail and truck, to deliver products to our distribution centers from vendors and manufacturers and from other distribution centers to our stores, as well as for direct shipments from vendors to stores. Independent third parties with whom we conduct business may employ personnel represented by labor unions. Labor stoppages, shortages or capacity constraints in the transportation industry, disruptions to the national and international transportation infrastructure, fuel shortages or transportation cost increases could adversely affect our business, results of operations, cash flows and financial performance.
 
Product recalls and/or product liability may adversely impact our business, merchandise offerings, reputation, results of operations, cash flow and financial performance.
 
We may be subject to product recalls if any of the products that we manufacture or sell are believed to cause injury or illness. In addition, as a retailer of products manufactured by third parties, we may also be liable for various product liability claims for products we do not manufacture. Indemnification provisions that we may enter into are typically limited by their terms and depend on the creditworthiness of the indemnifying party and its insurer and the absence of significant defenses. We may be unable to obtain full recovery from the insurer or any indemnifying third party in respect of any claims against us in connection with products manufactured by such third party. In addition, if our vendors fail to manufacture or import merchandise that adheres to our quality control standards or standards established by applicable law, our reputation and brands could be damaged, potentially leading to an increase in customer litigation against us. Furthermore, to the extent we are unable to replace any recalled products, we may have to reduce our merchandise offerings, resulting in a decrease in sales, especially if a recall occurs near or during a peak seasonal period. If our vendors are unable or unwilling to recall products failing to meet our quality standards, we may be required to recall those products at a substantial cost to us.
 
Our business is sensitive to consumer spending and general economic conditions, and an economic slowdown could adversely affect our financial performance.
 
In general, our retail sales, and the retail sales of our business partners to whom we sell, represent discretionary spending by our customers and our business partners’ customers. Discretionary spending is affected by many factors, such as general business conditions, interest rates, availability of consumer credit, unemployment levels, taxation, weather and consumer confidence in future economic conditions. Our customers’ and our business partners’ customers’ purchases of discretionary items, including our products,


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often decline during periods when disposable income is lower or during periods of actual or perceived unfavorable economic conditions. If this occurs, our revenues and profitability will decline. In addition, economic downturns may make it difficult for us to accurately forecast future demand trends, which could cause us to purchase excess inventories, resulting in increases in our inventory carrying cost, or insufficient inventories, resulting in our inability to satisfy our customer demand and potential loss of market share.
 
Our business may be adversely affected by the loss or actions of our third-party vendors, and the loss of the right to use licensed material could harm our business and our results of operations.
 
Our ability to find new qualified vendors who meet our standards and supply products in a timely and efficient manner can be a significant challenge, especially for goods sourced from outside the United States. Many of our vendors currently provide us with incentives such as volume purchasing allowances and trade discounts. If our vendors were to reduce or discontinue these incentives, costs would increase. Should we be unable to pass cost increases to consumers, our profitability would be reduced.
 
Additionally, certain of our suppliers may control various product licenses for widely recognized images, such as cartoon or motion picture characters. The loss of these suppliers, or the termination of our ability to use certain licensed material, would prevent us from manufacturing and distributing the licensed products and could cause our customers to purchase these products from our competitors. This could materially adversely affect our business, results of operations, financial performance and cash flow.
 
Because we rely heavily on our own manufacturing operations, disruptions at our manufacturing facilities could adversely affect our business, results of operations, cash flows and financial performance.
 
In 2010, we manufactured items representing approximately 40% of our net sales at wholesale. Any significant disruption in our manufacturing facilities, in the United States or abroad, for any reason, including regulatory requirements, the loss of certifications, power interruptions, fires, hurricanes, war or other force of nature, could disrupt our supply of products, adversely affecting our business, results of operations, cash flows and financial performance. The occurrence of one or more natural disasters, or other disruptive geo-political events, could also result in increases in fuel (or other energy) prices or a fuel shortage, the temporary or permanent closure of one or more of manufacturing or distribution centers, the temporary lack of an adequate work force in a market, the temporary or long-term disruption in the supply of products from some local and overseas suppliers, the temporary disruption in the transport of goods from overseas or delays in the delivery of goods to our distribution centers or stores or to third parties who purchase from us. If one or more of these events occurred, our revenues and profitability would be reduced.
 
We may suffer risks if our suppliers or third-party manufacturers fail to follow our guidelines, including risks that a supplier or a manufacturer may fail to use acceptable labor practices, comply with other applicable laws or face interruption with its operations.
 
Many of the products sold in our stores and on our website are manufactured outside of the United States, which may increase the risk that the labor, manufacturing safety and other practices followed by the manufacturers of these products may differ from those generally accepted in the United States as well as those with which we are required to comply under many of our image or character licenses. Although we require each of our vendors to sign a purchase order and vendor agreement that requires adherence to accepted labor practices and compliance with labor, manufacturing safety and other laws and we test merchandise for product safety standards, we do not supervise, control or audit our vendors or the manufacturers that produce the merchandise we sell to our customers. The violation of labor, manufacturing safety or other laws by any of our vendors or manufacturers, or the divergence of the labor practices followed by any of our vendors or manufacturers from those generally accepted in the United States could interrupt or otherwise disrupt the shipment of finished products to us, damage our brand image, subject us to boycotts by our customers or activist groups or cause some of our licensors of popular images to terminate their licenses to us. Our future operations and performance will be subject to these factors, which are beyond our control and could materially hurt our business, financial condition and results of operations or require us to modify our current business practices or incur increased costs.


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Our international operations subject us to additional risks, which risks and costs may differ in each country in which we do business and may cause our profitability to decline.
 
We conduct our business in a number of foreign countries, including contracting with manufacturers and suppliers located outside of the United States, many of which are located in Asia. Our operations and financial condition may be adversely affected if the markets in which we compete or source our products are affected by changes in political, economic or other factors. These factors, over which we have no control, may include:
 
  •  recessionary or expansive trends in international markets;
 
  •  changes in foreign currency exchange rates, principally fluctuations in the Euro, British pound sterling, Mexican peso, Canadian dollar and Chinese renminbi;
 
  •  hyperinflation or deflation in the foreign countries in which we operate;
 
  •  work stoppages or other employee rights issues;
 
  •  the imposition of restrictions on currency conversion or the transfer of funds;
 
  •  transportation delays and interruptions;
 
  •  increases in the taxes we pay and other changes in applicable tax laws;
 
  •  legal and regulatory changes and the burdens and costs of our compliance with a variety of laws, including trade restrictions and tariffs; and
 
  •  political and economic instability.
 
We may face risks associated with litigation and claims.
 
From time to time, we are involved in class actions and other lawsuits, claims and other proceedings relating to the conduct of our business, including but not limited to employee-related and consumer matters. Due to the uncertainties of litigation, we can give no assurance that we will prevail on all claims made against us in the lawsuits that we currently face or that additional claims will not be made against us in the future. While it is not feasible to predict the outcome of pending lawsuits and claims, we do not believe that any such matters are material or that the disposition thereof is likely to have a material adverse effect on our business, financial condition and results of operations, although the resolution in any reporting period of any matter could have an adverse effect on our operating results for that period. Also, we can give no assurance that any other lawsuits or claims brought in the future will not have a material adverse effect on our business, financial condition and results of operations.
 
We may require additional capital to fund our business, which may not be available to us on satisfactory terms or at all.
 
Our management currently believes that the cash generated by operations, together with the borrowing availability under our credit facilities, will be sufficient to meet our working capital needs. However, if we are unable to generate sufficient cash from operations, we may be required to adopt one or more alternatives to raise cash, such as incurring additional indebtedness, selling our assets, seeking to raise additional equity capital or restructuring. If adequate financing is unavailable or is unavailable on acceptable terms, we may be unable to maintain, develop or enhance our operations, products and services, take advantage of future opportunities, service our current debt costs or respond to competitive pressures.
 
Our success depends on key personnel whom we may not be able to retain or hire.
 
Our success depends, to a large extent, on the continued service of our senior management team. The departure of senior officers could have a negative impact on our business, as we may not be able to find


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suitable management personnel to replace departing executives on a timely basis. We do not maintain key life insurance on any of our senior officers.
 
As our business expands, we believe that our future success will depend greatly on our continued ability to attract, motivate and retain highly skilled and qualified personnel. Although we generally have been able to meet our staffing requirements in the past, our ability to meet our labor needs while controlling costs is subject to external factors, such as unemployment levels, minimum wage legislation and changing demographics. Our inability to meet our staffing requirements in the future at costs that are favorable to us, or at all, could impair our ability to increase revenue, and our customers could experience lower levels of customer service.
 
We are subject to risks associated with leasing substantial amounts of space.
 
We lease all of our company-owned stores, our corporate headquarters and most of our distribution facilities. Our continued growth and success depends in part on our ability to renew leases for successful stores and negotiate leases for new stores, including temporary leases for our Halloween City stores. There is no assurance that we will be able to negotiate leases at similar or favorable terms, and we may decide not to enter a market or be forced to exit a market if a favorable arrangement cannot be made. If an existing or future store is not profitable and we decide to close it, we may nonetheless be committed to perform our obligations under the applicable lease, including, among other things, paying the base rent for the balance of the lease term. Moreover, even if a lease has an early cancellation clause, we may not satisfy the contractual requirements for early cancellation under the lease.
 
Our business could be harmed if our existing franchisees do not conduct their business in accordance with the standards that we have agreed to.
 
Our success depends, in part, upon the ability of our franchisees to operate their stores and promote and develop our store concept. Although our franchise agreements include certain operating standards, all franchisees operate independently and their employees are not our employees. We provide certain training and support to our franchisees, but the quality of franchise store operations may be diminished by any number of factors beyond our control. Consequently, franchisees may not successfully operate stores in a manner consistent with our standards and requirements, or may not hire and train qualified managers and other store personnel. If they do not, our image, brand and reputation could suffer.
 
Our information systems, order fulfillment and distribution facilities may prove inadequate or may be disrupted.
 
We depend on our management information systems for many aspects of our business. We will be materially adversely affected if our management information systems are disrupted or we are unable to improve, upgrade, maintain and expand our systems. In particular, we believe our perpetual inventory, automated replenishment and weighted average cost stock ledger systems are necessary to properly forecast, manage and analyze our inventory levels, margins and merchandise ordering quantities. We may fail to properly optimize the effectiveness of these systems, or to adequately support and maintain the systems. Moreover, we may not be successful in developing or acquiring technology that is competitive and responsive to our customers and might lack sufficient resources to make the necessary investments in technology needs and to compete with our competitors, which could have a material adverse impact on our business, results of operations, cash flows and financial performance.
 
In addition, we may not be able to prevent a significant interruption in the operation of our electronic order entry and information systems, e-commerce platform or manufacturing and distribution facilities due to natural disasters, accidents, systems failures or other events. Any significant interruption in the operation of these facilities, including an interruption caused by our failure to successfully expand or upgrade our systems or manage our transition to utilizing the expansions or upgrades, could reduce our ability to receive and process orders and provide products and services to our stores, third-party stores, and other customers, which could result in lost sales, cancelled sales and a loss of loyalty to our brand.


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We may fail to adequately maintain the security of our electronic and other confidential information.
 
We have become increasingly centralized and dependent upon automated information technology processes. In addition, a portion of our business operations is now conducted over the Internet. We could experience operational problems with our information systems and e-commerce platform as a result of system failures, viruses, computer “hackers” or other causes. Any material disruption or slowdown of our systems could cause information, including data related to customer orders, to be lost or delayed, which could — especially if the disruption or slowdown occurred during a peak sales season — result in delays in the delivery of merchandise to our stores and customers or lost sales, which could reduce demand for our merchandise and cause our sales to decline.
 
In addition, in the ordinary course of our business, we collect and store certain personal information from individuals, such as our customers and suppliers, and we process customer payment card and check information, including via our e-commerce platform. Computer hackers may attempt to penetrate our computer system and, if successful, misappropriate personal information, payment card or check information or confidential Company business information. In addition, a Company employee, contractor or other third party with whom we do business may attempt to circumvent our security measures in order to obtain such information and may purposefully or inadvertently cause a breach involving such information. Any failure to maintain the security of our customers’ confidential information, or data belonging to us or our suppliers, could put us at a competitive disadvantage, result in deterioration in our customers’ confidence in us, subject us to potential litigation and liability, and fines and penalties, resulting in a possible material adverse impact on our business, results of operations, cash flows and financial performance.
 
Changes in regulations or enforcement may adversely impact our business.
 
We are subject to federal, state, provincial and local regulations with respect to our operations in the United States and abroad. There are a number of legislative and regulatory initiatives, the enactment or enforcement of which could adversely impact our business. These initiatives include those affecting wage or workforce issues, collective bargaining matters, healthcare mandates, environmental regulation, price and promotion regulation, trade regulations and others. If applicable regulations were to change or were violated by our management, employees, vendors, buying agents or other business partners, the costs of certain goods could increase, or we could experience delays in shipments of our goods, be subject to fines or penalties or suffer reputational harm, which could reduce consumer demand and hurt our business and results of operations. In addition, proposed changes in tax regulations may also change our effective tax rate as our business is subject to a combination of applicable tax rates in the various countries, states and other jurisdictions in which we operate.
 
We may be subject to future unionization, work stoppages, slowdowns or increased labor costs.
 
Currently, none of our employees is represented by a union. However, our employees have the right at any time under the National Labor Relations Act to form or affiliate with a union. Furthermore, the Employee Free Choice Act of 2007, which would amend the National Labor Relations Act by streamlining union certification, facilitating initial collective bargaining agreements and strengthening enforcement, could, if enacted, make it easier for employees to unionize and obtain employee favorable bargaining agreements. If some or all of our workforce were to become unionized and the terms of the collective bargaining agreement were significantly different from our current compensation arrangements, it could increase our costs and adversely impact our profitability.
 
Our intellectual property rights may be inadequate to protect our business.
 
We hold a variety of United States trademarks, service marks, patents, copyrights, and registrations and applications therefor, as well as a number of foreign counterparts thereto and/or independent foreign intellectual property asset registrations. In some cases, we rely solely on unregistered trademarks and copyrights under United States common law rights to distinguish and/or protect our products, services and branding from the products, services and branding of our competitors. We cannot assure you that no one will


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challenge our intellectual property rights in the future. In the event that our intellectual property rights are successfully challenged by a third party, we could be forced to re-brand, re-design or discontinue the sale of certain of our products or services, which could result in loss of brand recognition and/or sales and could require us to devote resources to advertising and marketing new branding or re-designing our products. Further, we cannot assure you that competitors will not infringe our intellectual property rights, or that we will have adequate resources to enforce these rights. We also permit our franchisees to use a number of our trademarks and service marks, including Party City®, The Discount Party Super Store®, Halloween Costume Warehouse®, Party America®, The Paper Factory®, The Factory Card & Party Outlet® and Halloween City®. Our failure to properly control our franchisees’ use of such trademarks could adversely affect our ability to enforce them against third parties. A loss of any of our material intellectual property rights could have a material adverse effect on our business, financial condition and results of operations.
 
We license from many third parties and do not own the intellectual property rights necessary to sell products capturing many popular images, such as cartoon or motion picture characters. While none of these licenses is individually material to our aggregate business, a large portion of our business depends on the continued ability to license the intellectual property rights to these images in the aggregate. Any injury to our reputation or our inability to comply with, in many cases, stringent licensing guidelines in these agreements may adversely affect our ability to maintain these relationships. A large loss of these licensed rights in the aggregate could have a material adverse effect on our business, financial condition and results of operations.
 
We also face the risk of claims that we have infringed third parties’ intellectual property rights, which could be expensive and time consuming to defend, cause us to cease using certain intellectual property rights or selling certain products or services, result in our being required to pay significant damages or require us to enter into costly royalty or licensing agreements in order to obtain the rights to use third parties’ intellectual property rights, which royalty or licensing agreements may not be available at all, any of which could have a negative impact on our operating profits and harm our future prospects.
 
Risks Related to Our Indebtedness
 
Our substantial indebtedness and lease obligations could adversely affect our financial flexibility and our competitive position.
 
We have, and will continue to have, a significant amount of indebtedness. As of December 31, 2010, we had $1,000 million of outstanding indebtedness. As of December 31, 2010, we had $162 million excess availability under our senior secured asset-based revolving credit facility. Our substantial level of indebtedness increases the risk that we may be unable to generate cash sufficient to pay amounts due in respect of our indebtedness. We also have, and will continue to have, significant lease obligations. As of December 31, 2010, our minimum annual rental obligations under long-term operating leases for 2011 and 2012 were $112 million and $95 million, respectively. Our substantial indebtedness and lease obligations could have other important consequences to you and significant effects on our business. For example, they could:
 
  •  increase our vulnerability to adverse changes in general economic, industry and competitive conditions;
 
  •  require us to dedicate a substantial portion of our cash flow from operations to make payments for our indebtedness and leases, thereby reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate purposes;
 
  •  limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;
 
  •  restrict us from exploiting business opportunities;
 
  •  make it more difficult to satisfy our financial obligations, including payments on our indebtedness;
 
  •  place us at a disadvantage compared to our competitors that have less debt and lease obligations; and


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  •  limit our ability to borrow additional funds for working capital, capital expenditures, acquisitions, debt service requirements, execution of our business strategy or other general corporate purposes.
 
Restrictions under our existing and future indebtedness may prevent us from taking actions that we believe would be in the best interest of our business.
 
The agreements governing our existing indebtedness contain and the agreements governing our future indebtedness will likely contain customary restrictions on us or our subsidiaries, including covenants that, among other things and subject to certain exceptions, restrict us or our subsidiaries, as the case may be, from:
 
  •  incurring additional indebtedness or issuing disqualified stock;
 
  •  paying dividends or distributions on, redeeming, repurchasing or retiring our capital stock;
 
  •  making payments on, or redeeming, repurchasing or retiring subordinated indebtedness;
 
  •  making investments, loans, advances or acquisitions;
 
  •  entering into sale and leaseback transactions;
 
  •  engaging in transactions with affiliates;
 
  •  creating liens;
 
  •  transferring or selling assets;
 
  •  guaranteeing indebtedness;
 
  •  creating restrictions on the payment of dividends or other amounts to us from our subsidiaries; and
 
  •  consolidating, merging or transferring all or substantially all of our assets and the assets of our subsidiaries.
 
In addition, we are required to maintain compliance with certain financial ratios. These restrictions may prevent us from taking actions that we believe would be in the best interest of our business. Our ability to comply with these restrictive covenants will depend on our future performance, which may be affected by events beyond our control. If we violate any of these covenants and are unable to obtain waivers, we would be in default under the applicable agreements and payment of the indebtedness could be accelerated. The acceleration of our indebtedness under one agreement may permit acceleration of indebtedness under other agreements that contain cross-default or cross-acceleration provisions. If our indebtedness is accelerated, we may not be able to repay that indebtedness or borrow sufficient funds to refinance it. Even if we are able to obtain new financing, it may not be on commercially reasonable terms or on terms that are acceptable to us. Furthermore, we and our subsidiaries may still be able to incur substantially more debt. This could further exacerbate the risks associated with our substantial leverage. If we are for any reason in default under any of the agreements governing our indebtedness, our business could be materially and adversely affected. In addition, complying with our covenants may also cause us to take actions that are not favorable to holders of the common stock and may make it more difficult for us to successfully execute our business strategy and compete against companies that are not subject to such restrictions.
 
Significant interest rate changes could affect our profitability and financial performance.
 
Our earnings are affected by changes in interest rates as a result of our variable rate indebtedness under our senior secured asset-based revolving facility and senior secured loan facility. The interest rate swap agreements that we use to manage the risk associated with fluctuations in interest rates may not be able to fully eliminate our exposure to these changes.


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Risks Related to This Offering
 
An active public market for our common stock may not develop following this offering.
 
Prior to this offering, there has been no public market for our common stock. We cannot predict the extent to which investor interest in our company will lead to the development of an active trading market in our common stock or how liquid that market might become. An active market for our common stock may not develop or be sustained after the offering. If an active public market does not develop or is not sustained, it may be difficult for you to sell your shares of common stock at a price that is attractive to you, or at all. In addition, an inactive market may impair our ability to raise capital by selling shares and may impair our ability to acquire other companies by using our shares as consideration, which, in turn, could materially adversely affect our business.
 
The Sponsors will have the ability to control the outcome of matters submitted for stockholder approval and may have interests that differ from those of our other stockholders.
 
Investment funds affiliated with the Sponsors own a majority of our capital stock, on a fully-diluted basis, as of March 31, 2011. After the completion of this offering, the Sponsors will own approximately     % of our common stock, or     % on a fully-diluted basis. The Sponsors have significant influence over corporate transactions. So long as investment funds associated with or designated by the Sponsors continue to own a significant amount of the outstanding shares of our common stock, even if such amount is less than 50%, the Sponsors will continue to be able to strongly influence or effectively control our decisions, regardless of whether or not other stockholders believe that the transaction is in their own best interests. Such concentration of voting power could also have the effect of delaying, deterring or preventing a change of control or other business combination that might otherwise be beneficial to our stockholders.
 
In addition, the Sponsors and their affiliates are in the business of making investments in companies and may, from time to time in the future, acquire interests in businesses that directly or indirectly compete with certain portions of our business. To the extent the Sponsors invest in such other businesses, the Sponsors may have differing interests than our other stockholders.
 
Our stock price may be volatile or may decline regardless of our operating performance, and you may not be able to resell your shares at a price at or above the initial public offering price.
 
The initial public offering price for the shares of our common stock sold in this offering will be determined by negotiation between the representatives of the underwriters and us. This price may not reflect the market price of our common stock following this offering. In addition, the market price of our common stock is likely to be highly volatile and may fluctuate substantially in response to a number of factors, most of which we cannot control, including:
 
  •  actual or anticipated fluctuations in our results of operations;
 
  •  variance in our financial performance from the expectations of equity research analysts;
 
  •  conditions and trends in the markets we serve;
 
  •  announcements of new products or significant price reductions by us or our competitors;
 
  •  additions or changes to key personnel;
 
  •  the commencement or outcome of litigation;
 
  •  changes in market valuation or earnings of our competitors;
 
  •  the trading volume of our common stock;
 
  •  future sale of our equity securities;
 
  •  stock price performance of our competitors;


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  •  changes in the estimation of the future size and growth rate of our markets; and
 
  •  economic, legal and regulatory factors unrelated to our performance.
 
The initial public offering price of our common stock will be determined by negotiations between us and the underwriters based upon a number of factors and may not be indicative of prices that will prevail following the completion of this offering. Volatility in the market price of our common stock may prevent investors from being able to sell their common stock at or above the initial public offering price. As a result, you may suffer a loss on your investment.
 
In addition, the stock markets in general have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance or the particular companies affected. These broad market and industry factors may materially harm the market price of our common stock irrespective of our operating performance. As a result of these factors, you might be unable to resell your shares at or above the initial public offering price after this offering. In addition, in the past, following periods of volatility in the overall market and the market price of a company’s securities, securities class action litigation has often been instituted against the affected company. This type of litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.
 
We do not expect to pay any cash dividends for the foreseeable future and, consequently, your only opportunity to achieve a return on your investment is if the price of our common stock appreciates.
 
Following this offering, we do not anticipate that we will pay any cash dividend on shares of our common stock for the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors and will depend upon results of operations, financial performance, contractual restrictions, restrictions imposed by applicable law and other factors our board of directors deems relevant. Additionally, our current credit facilities and the indenture governing our notes contain restrictive covenants which have the effect of limiting our ability to pay cash dividends. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.
 
Future sales of our common stock, or the perception in the public markets that these sales may occur, may depress our stock price.
 
Sales of substantial amounts of our common stock in the public market after this offering, or the perception that these sales could occur, could adversely affect the price of our common stock and could impair our ability to raise capital through the sale of additional shares. Upon completion of this offering, we will have           million shares of common stock outstanding. The shares of common stock offered in this offering will be freely tradable without restriction under the Securities Act, except for any shares of our common stock that may be held or acquired by our directors, executive officers and other affiliates, as that term is defined in the Securities Act, which will be restricted securities under the Securities Act. Restricted securities may not be sold in the public market unless the sale is registered under the Securities Act or an exemption from registration is available.
 
In the future, we may also issue our securities if we need to raise capital in connection with a capital raise or acquisitions. The amount of shares of our common stock issued in connection with a capital raise or acquisition could constitute a material portion of our then-outstanding shares of our common stock.
 
Upon expiration of lock-up agreements between the underwriters and our officers, directors, the selling stockholders and certain other holders of our common stock, a substantial number of shares of our common stock could be sold into the public market shortly after this offering, which could depress our stock price.
 
Our officers, directors, the selling stockholders and certain other holders of our common stock have entered into lock-up agreements with our underwriters which prohibit, subject to certain limited exceptions,


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the disposal or pledge of, or the hedging against, any of their common stock or securities convertible into or exchangeable for shares of common stock for a period through the date 180 days after the date of this prospectus, subject to extension in certain circumstances. See “Shares Eligible for Future Sale” for a more detailed description of the restrictions on selling shares of our common stock after this offering. The market price of our common stock could decline as a result of sales by our existing stockholders in the market after this offering and after the expiration of these lock-up periods, or the perception that these sales could occur. Once a trading market develops for our common stock, and after these lock-up periods expire, many of our stockholders will have an opportunity to sell their stock for the first time. These factors could also make it difficult for us to raise additional capital by selling stock.
 
If you purchase shares of common stock in this offering, you will incur immediate and substantial dilution.
 
If you purchase shares of common stock in this offering, you will incur immediate and substantial dilution in the amount of $      per share because the initial public offering price of $      per share is substantially higher than the pro forma net tangible book value per share of our common stock. This dilution is due in large part to the fact that our earlier investors paid substantially less than the initial public offering price when they purchased their shares. In addition, you may also experience additional dilution upon future equity issuances or the exercise of stock options to purchase common stock granted to our employees, consultants and directors under our equity incentive plans.
 
We may undertake acquisitions to expand our business, which may pose risks to our business and dilute the ownership of our existing shareholders.
 
We may selectively pursue acquisitions of businesses, technologies or services. Integrating any newly acquired businesses, technologies or services is likely to be expensive and time consuming. To finance any acquisitions, it may be necessary for us to raise additional funds through public or private financings. Additional funds may not be available on terms that are favorable to us, and, in the case of equity financings, would result in dilution to our shareholders. If we do complete any acquisitions, we may be unable to operate the acquired businesses profitably or otherwise implement our strategy successfully. If we are unable to integrate any newly acquired entities, technologies or services effectively, our business and results of operations will suffer. The time and expense associated with finding suitable and compatible businesses, technologies or services could also disrupt our ongoing business and divert our management’s attention. Future acquisitions by us could also result in large and immediate write-offs or assumptions of debt and contingent liabilities, any of which could substantially harm our business and results of operations.
 
Our management will have broad discretion over the use of the proceeds we receive in this offering and might not apply the proceeds in ways that increase the value of your investment.
 
If the underwriters exercise their option to purchase additional shares in this offering in full, we estimate that net proceeds of the sale of the common stock that we are offering will be approximately $      million. Our management will have broad discretion to use our net proceeds from this offering, and you will be relying on the judgment of our management regarding the application of these proceeds. Our management might not apply the net proceeds of this offering in ways that increase the value of your investment. Our management might not be able to yield any return on the investment and use of these net proceeds. You will not have the opportunity to influence our decisions on how to use the proceeds.
 
If securities or industry analysts do not publish research or reports or publish unfavorable research or reports about our business, our stock price and trading volume could decline.
 
The trading market for our common stock will depend in part on the research and reports that securities and industry analysts publish about us, our business, our market or our competitors. We may not obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of our company, the trading price of our stock could be negatively impacted. In the event we obtain securities or industry analyst coverage, if one or more of the analysts who covers us publishes unfavorable research or


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reports or downgrades our stock, our stock price would likely decline. If one or more of these analysts ceases to cover us or fails to regularly publish reports on us, interest in our stock could decrease, which could cause our stock price or trading volume to decline.
 
Anti-takeover provisions in our charter documents and Delaware law might discourage, delay or prevent a change in control of our company.
 
Our certificate of incorporation and bylaws contain provisions that may make the acquisition of our company more difficult without the approval of our board of directors. These provisions include:
 
  •  the division of our board of directors into three classes and the election of each class for three-year terms;
 
  •  advance notice requirements for stockholder proposals and director nominations;
 
  •  the sole ability of the board of directors to fill a vacancy created by the expansion of the board of directors;
 
  •  the required approval of holders of at least two-thirds of the shares entitled to vote at an election of the directors to remove directors only for cause;
 
  •  the required approval of holders of at least two-thirds of the shares entitled to vote at an election of directors to adopt, amend or repeal our bylaws, or amend or repeal certain provisions of our certificate of incorporation;
 
  •  limitations on the ability of stockholders to call special meetings and, when the Sponsors cease to collectively own 50% of our outstanding common stock, to take action by written consent; and
 
  •  provisions that reproduce much of the provisions that limit the ability of “interested stockholders” (other than the Sponsors and certain of their transferees) from engaging in specified business combinations with us absent prior approval of the board of directors or holders of 662/3% of our voting stock.
 
The existence of the foregoing provisions and anti-takeover measures could limit the price that investors might be willing to pay in the future for shares of our common stock. They could also deter potential acquirers of our company, thereby reducing the likelihood that you could receive a premium for your common stock in the acquisition.
 
We will incur increased costs as a result of becoming a public company.
 
As a public company, we will incur significant legal, accounting and other expenses that we have not incurred as a private company, including costs associated with complying with requirements of the Sarbanes-Oxley Act of 2002 and related rules implemented by the SEC and the           . We expect these rules and regulations to increase our legal and financial compliance costs and to make some activities more time-consuming and costly, although we are currently unable to estimate these costs with any degree of certainty. These laws and regulations could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors, our board committees or as our executive officers. Furthermore, if we are unable to satisfy our obligations as a public company, we could be subject to delisting of our common stock, sanctions and other regulatory action and potentially civil litigation.


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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
 
This prospectus contains forward-looking statements that convey our current expectations or forecasts of future events. All statements in this prospectus other than statements of historical fact are forward-looking statements. Forward-looking statements include statements about our future financial position, business strategy, budgets, projected costs, plans and objectives of management for future operations. The words “may,” “might,” “should,” “predict,” “potential,” “continue,” “estimate,” “intend,” “plan,” “will,” “believe,” “project,” “expect,” “seek,” “anticipate” and similar expressions may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking.
 
Any or all of our forward-looking statements in this prospectus may turn out not to occur as contemplated. They are based largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. There are important factors that could cause our actual results, level of activity, performance or achievements to differ materially from the results, level of activity, performance or achievements expressed or implied by the forward-looking statements. These factors include the effects of competition in the industry, the failure by us to anticipate changes in tastes and preferences of party goods retailers and consumers, the inability to increase store growth, the inability to increase prices to recover fully future increases in commodity prices, the loss of key employees, changes in general business conditions and other factors which are beyond our control. In particular, you should consider the numerous risks described in the “Risk Factors” section of this prospectus.
 
Although we believe the expectations reflected in the forward-looking statements are reasonable, in light of these risks and uncertainties, the forward-looking events and circumstances discussed in this prospectus may not occur as contemplated and actual results could differ materially from those anticipated or implied by the forward-looking statements.
 
You should not unduly rely on these forward-looking statements, which speak only as of the date of this prospectus. Unless required by law, we undertake no obligation to publicly update or revise any forward-looking statements to reflect new information or future events or otherwise. You should, however, review the factors and risks we describe in the reports we will file from time to time with the SEC after the date of this prospectus. See “Where You Can Find Additional Information.”


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USE OF PROCEEDS
 
We estimate that the net proceeds of the sale of the common stock that we are offering will be approximately $           million, or $           million if the underwriters exercise their option to purchase additional shares in full, assuming an initial public offering price of $      per share, which is the midpoint of the range listed on the cover page of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. We will not receive any proceeds from the sale of shares of common stock by the selling stockholders.
 
We expect to use approximately $           million of the net proceeds from this offering received by us to repay or repurchase indebtedness, including amounts outstanding under our senior credit facilities or senior subordinated notes. We do not currently have a firm expectation as to how we will allocate the reduction of our indebtedness among these borrowing arrangements but intend to determine the allocation following the completion of this offering based on a number of factors, including amounts remaining at maturity, applicable interest rates, available pricing of repurchases, outstanding balance and ability to reborrow. As of December 31, 2010:
 
  •  approximately $150.1 million was outstanding under our ABL facility due 2015 at interest rates ranging from 2.77% to 4.75%;
 
  •  approximately $666.6 million was outstanding under our first lien term loan due 2017 at interest rates ranging from 6.75% to 7.5%; and
 
  •  approximately $175.0 million of our 8.75% senior subordinated notes due 2014 were outstanding.
 
We used some of the proceeds under the first lien term loan due 2017 to pay a dividend to holders of our common stock and to make a cash payment to certain option and warrant holders. See “Dividend Policy”.
 
For additional information on our liquidity and outstanding indebtedness, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources.”
 
We may also use the remaining portion of the net proceeds for working capital and other general corporate purposes.
 
This expected use of net proceeds from this offering represents our intentions based upon our current plans and business conditions. The amounts and timing of our actual expenditures may vary significantly depending on numerous factors and any unforeseen cash needs. As a result, our management will retain broad discretion over the allocation of the net proceeds from this offering. Pending our use of the net proceeds from this offering, we intend to invest the net proceeds in a variety of capital preservation investments, including short-term, investment-grade, interest-bearing instruments and U.S. government securities.


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DIVIDEND POLICY
 
We currently intend to retain all of our future earnings, if any, to finance operations, development and growth of our business, and repay debt. Most of our indebtedness contains restrictions on our activities, including paying dividends on our capital stock and restricting dividends or other payments to us. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend on a number of factors, including future earnings, capital requirements, financial conditions, future prospects, contractual restrictions and covenants and other factors that our board of directors may deem relevant.
 
In December 2010, in connection with the refinancing of our term loan agreement, Amscan Holdings’ board of directors declared and paid to us a one-time cash dividend totaling approximately $311.2 million. We used the aggregate proceeds from this dividend to pay a one-time cash dividend to our holders of common stock and to make a cash payment in lieu of a dividend to certain option and warrant holders (such dividend and payments, the “2010 Dividend”). In addition, holders of unvested options at the date such dividend was declared will receive a comparable distribution, if and when the options vest. The 2010 Dividend was the only dividend that we have paid on our common stock during the past four years.


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CAPITALIZATION
 
The following table sets forth our cash and cash equivalents and capitalization as of December 31, 2010:
 
  •  on an actual basis; and
 
  •  on an as adjusted basis to give effect to the issuance and sale by us of           shares of our common stock in the offering at an assumed initial public offering price of $      per share, the mid-point of the range set forth on the cover of this prospectus, after deducting underwriting discounts and commissions and estimated offering expenses payable by us and the application of the net proceeds from this offering as described in “Use of Proceeds.”
 
You should read this table in conjunction with “Use of Proceeds,” “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes thereto included elsewhere in this prospectus.
 
                 
    December 31, 2010  
    Actual     As Adjusted  
    (dollars in thousands)  
 
Cash and cash equivalents
  $ 20,454                   
                 
Debt:
               
Revolving credit facilities(1)
  $ 150,098          
Term loan due 2017
    666,644          
Mortgage obligation
    4,539          
Capital lease obligations
    3,975          
8.75% senior subordinated notes
    175,000          
                 
Total debt
    1,000,256          
Stockholders’ Equity:
               
Class A common stock, $0.01 par value, 80,000,000 shares authorized,          shares issued and outstanding, actual; no shares authorized, and no shares issued and outstanding, as adjusted
               
Class B common stock, $0.01 par value, 30,400,000 shares authorized,          shares issued and outstanding, actual; no shares authorized, and no          shares issued and outstanding, as adjusted
               
Common stock, $0.01 par value,          shares authorized, no shares issued and outstanding, actual;          shares authorized, and          shares issued and outstanding, as adjusted(2)
               
Preferred stock, $0.01 par value, 10,000 shares authorized, no shares issued and outstanding, actual;          shares authorized, and no shares issued and outstanding, as adjusted
               
Additional paid-in capital
    287,583          
Retained (deficit) earnings
    (27,558 )        
Accumulated other comprehensive loss
    (5,915 )        
                 
Party City Holdings Inc. stockholders’ equity(3)
    254,110          
Noncontrolling interest
    2,312          
                 
Total equity
    256,422          
                 
Total capitalization
  $ 1,256,678          
                 
 
 
(1) At December 31, 2010, there were $150.1 million of outstanding borrowings under the secured revolving credit facilities, a total of $12.9 million of outstanding letters of credit and excess availability of $162.0 million.


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(2) The Class B common stock will convert into Class A common stock upon completion of the offering. At that time, we will rename Class A common stock to “Common Stock.”
 
(3) A $1.00 increase (decrease) in the assumed initial public offering price of $      per share would (decrease) increase our total long-term obligations and would increase (decrease) equity by $      and $     , respectively, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated expenses payable by us. To the extent we raise more proceeds in this offering, we may repay additional indebtedness. To the extent we raise less proceeds in this offering, we may reduce the amount of indebtedness that will be repaid.


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DILUTION
 
If you purchase our common stock in this offering, you will experience an immediate dilution of net tangible book value per share from the initial public offering price. Dilution in net tangible book value per share of our common stock represents the difference between the initial public offering price per share and the net tangible book value per share immediately after this offering. We calculate net tangible book value per share of our common stock by dividing the net tangible book value (total consolidated tangible assets less total consolidated liabilities) by the number of outstanding shares of our common stock
 
At December 31, 2010, the net tangible book value of our common stock was approximately $(559,386) million, or approximately $           per share of our common stock. After giving effect to (1) the sale of shares of our common stock in this offering at an assumed initial public offering price of $      per share, and after deducting estimated underwriting discounts and commissions and the estimated offering expenses of this offering, and (2) the Common Stock Conversion, the as adjusted net tangible book value at December 31, 2010 attributable to common stockholders would have been approximately $      million, or approximately $      per share of our common stock. This represents a net increase in net tangible book value of $      per existing share and an immediate dilution in net tangible book value of $      per share to new stockholders. The following table illustrates this per share dilution to new stockholders:
 
                 
Assumed initial public offering price per share
                   $             
Net tangible book value per share as of December 31, 2010
  $            
Increase in net tangible book value per share attributable to this offering
  $            
As adjusted net tangible book value per share after this offering
          $    
                 
Dilution in net tangible book value per share to new stockholders
          $    
                 
 
The table below summarizes, as of December 31, 2010, the differences for (1) our existing stockholders, and (2) investors in this offering, with respect to the number of shares of common stock purchased from us, the total consideration paid, and the average price per share paid before deducting fees and expenses.
 
                                                 
                            Average
       
    Shares Issued     Total Consideration     Price per
       
    Number     Percentage     Amount     Percentage     Share        
 
Existing stockholders
                                %                                 %   $                     
New stockholders in this offering
                                               
                                                 
Total
            100 %             100 %   $            
                                                 
 
The foregoing discussion and tables assume no exercise of stock options to purchase           shares of our common stock subject to outstanding stock options with a weighted average exercise price of $           per share as of December 31, 2010 and excludes           shares of our common stock available for future grant or issuance under our stock plans. To the extent that any options having an exercise price that is less than the offering price of this offering are exercised, new investors will experience further dilution.


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SELECTED CONSOLIDATED FINANCIAL DATA
 
The selected consolidated financial data presented below are derived from our audited consolidated financial statements. The consolidated financial data as of December 31, 2009 and 2010 and for the years ended December 31, 2008, 2009 and 2010 were derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated financial data as of December 31, 2006, 2007 and 2008 and for the years ended December 31, 2006 and 2007 have been derived from our audited consolidated financial statements for such years, which are not included in this prospectus.
 
Our historical results are not necessarily indicative of future operating performance. The information set forth below should be read in conjunction with, and is qualified in its entirety by reference to, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this prospectus.
 
                                                         
                                  Pro Forma
       
    Year Ended December 31,     As Adjusted
       
    2006(1)     2007(2)     2008     2009     2010(3)     (6)        
    (dollars in thousands)  
 
Income Statement Data:
                                                       
Revenues:
                                                       
Net sales
  $ 993,342     $ 1,221,516     $ 1,537,641     $ 1,467,324     $ 1,579,677                  
Royalties and franchise fees
    21,746       25,888       22,020       19,494       19,417                           
                                                         
Total revenues
    1,015,088       1,247,404       1,559,661       1,486,818       1,599,094                  
Expenses:
                                                       
Cost of sales
    676,527       777,586       966,426       899,041       943,058                  
Selling expenses
    39,449       41,899       41,894       39,786       42,725                  
Retail operating expenses
    126,224       191,423       273,627       261,691       296,891                  
Franchise expenses
    13,009       12,883       13,686       11,991       12,269                  
General and administrative expenses
    84,836       105,707       120,272       119,193       134,392                  
Art and development costs
    10,338       12,149       12,462       13,243       14,923                  
Impairment of trade name(4)
                17,376             27,400                  
                                                         
Income from operations
    64,705       105,757       113,918       141,873       127,436                  
Interest expense, net
    54,887       54,590       50,915       41,481       40,850                  
Other (income) expense, net(5)
    (1,000 )     18,214       (818 )     (32 )     4,208                  
                                                         
Income before income taxes
    10,818       32,953       63,821       100,424       82,378                  
Income tax expense
    4,295       13,246       24,188       37,673       32,945                  
                                                         
Net income
    6,523       19,707       39,633       62,751       49,433                  
Less: net income (loss) attributable to noncontrolling interests
    83       446       (877 )     198       114                  
                                                         
Net income attributable to Party City Holdings Inc. 
  $ 6,440     $ 19,261     $ 40,510     $ 62,553     $ 49,319                  
                                                         
Other Financial Data:
                                                       
Net revenues by segment:
                                                       
Wholesale (after intercompany eliminations)
  $ 432,534     $ 453,333     $ 438,505     $ 411,359     $ 470,892                  
Retail
    582,554       794,071       1,121,156       1,075,459       1,128,202                  
                                                         
Consolidated
    1,015,088       1,247,404       1,559,661       1,486,818       1,599,094                  
EBITDA(7)
    104,241       125,190       162,891       186,089       172,532                  
Adjusted EBITDA(7)
    121,926       152,045       186,040       190,479       226,114                  
Adjusted EBITDA margin
    12.0 %     12.2 %     11.9 %     12.8 %     14.1 %                
Number of company-owned and franchised retail superstores (at end of period)(8)
    768       955       916       851       828                  
Number of Party City superstores
    339       392       385       382       439                  
Party City comparable store sales growth(9)
    6.5 %     5.8 %     0.5 %     (3.3 )%     1.4 %                
Capital expenditures including assets under capital leases (excluding acquisitions)
    40,904       36,648       53,701       26,254       53,967                  
Working capital (excluding cash)
    162,595       91,100       63,846       146,823       169,539                  


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                                  Pro Forma
       
    Year Ended December 31,     As Adjusted
       
    2006(1)     2007(2)     2008     2009     2010(3)     (6)        
    (dollars in thousands)  
 
Ratio of debt to Adjusted EBITDA
    4.7 x     4.9 x     3.9 x     3.4 x     4.4 x                
 
                                                 
                                  Pro Forma
 
    Year Ended December 31,     As Adjusted
 
    2006(1)     2007(2)     2008     2009     2010(3)     (6)  
    (dollars in thousands)  
 
Balance Sheet Data (at period end):
                                       
Cash
  $ 4,966     $ 17,274     $ 13,058     $ 15,420     $ 20,454          
Working capital
    167,561       108,374       76,904       162,243       189,993                   
Total assets
    1,217,371       1,498,845       1,507,977       1,480,501       1,653,151          
Total debt
    567,005       746,126       721,635       651,433       1,000,256          
Total equity
    361,891       378,074       412,117       479,122       256,422          
 
 
(1) Party America is included in the balance sheet data beginning with December 31, 2006, and the income statement and other financial data from its acquisition date (September 29, 2006).
 
(2) FCPO and PCFG are included in the balance sheet data as of December 31, 2007, and the income statement and other financial data from their respective acquisition dates (PCFG- November 2, 2007 and FCPO-November 16, 2007).
 
(3) The acquisitions of Designware and the Christy’s Group are included in the balance sheet data as of December 31, 2010, and the income statement and other financial data from their respective acquisition dates (March 1, 2010 and September 30, 2010).
 
(4) During 2008 and 2010, we implemented plans to convert and rebrand our company-owned and franchised Party America stores and our FCPO stores to Party City stores, respectively. As a result, we recorded charges for the impairment of the Party America trade name and the FCPO trade name of $17.4 million and $27.4 million in the fourth quarters of 2008 and 2010, respectively.
 
(5) In connection with the refinancing of debt in May 2007, we recorded non-recurring expenses of $16.2 million, including $6.2 million of debt retirement costs, $6.3 million write off of deferred finance costs, and a $3.7 million write-off of original issue discount associated with the repayment of debt. In connection with the refinancing of the Company and its subsidiaries’ revolving and term debt credit facilities in August and December 2010, we wrote off $2.4 million of deferred finance charges.
 
(6) The pro forma as adjusted financial data in the table above give effect to: (i) this offering and the use of proceeds therefrom; (ii) the refinancing of Amscan Holdings’ revolving and term debt credit facilities in 2010; and (iii) the one-time cash dividend declared in December 2010, assuming in each case such event occurred on January 1, 2010 with respect to any operating and other financial data and as of December 31, 2010 with respect to any balance sheet data. The pro forma as adjusted financial data do not necessarily represent what our financial position and results of operations would have been if the transactions had actually been completed as of January 1, 2010, and are not intended to project our financial position or results of operations for any future period.

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(7) For a discussion of our use of Adjusted EBITDA, please refer to “Prospectus Summary — Summary Financial Data”. The reconciliation from net income to EBITDA and Adjusted EBITDA for the period presented is as follows:
 
                                                 
                                  Pro Forma
 
                                  As
 
    2006     2007     2008     2009     2010     Adjusted  
    (dollars in thousands)  
 
Net Income
  $ 6,440     $ 19,261     $ 40,510     $ 62,553     $ 49,319                   
Interest expense, net
    54,887       54,590       50,915       41,481       40,850          
Income taxes
    4,295       13,246       24,188       37,673       32,945          
Depreciation and amortization
    38,619       38,093       47,278       44,382       49,418          
                                                 
EBITDA
    104,241       125,190       162,891       186,089       172,532          
Equity based compensation and other charges
    1,208       1,928       4,546       882       6,019          
Non-cash purchase accounting adjustments
    2,509       1,332       2,329       (344 )     2,533          
Management fee
    1,248       1,248       1,248       1,248       1,248          
Loss (gain) from joint venture
          (628 )     (538 )     (632 )     (678 )        
Impairment charges
          2,115       17,376 (a)           27,997 (a)        
Restructuring, retention and severance
    2,114       2,504             2,670       1,780          
Payment in lieu of dividend
                            9,395 (b)        
Refinancing charges
          16,360                   2,448          
Acquisition related expenses
                      270       1,660          
Intercompany gross profit elimination(c)
    10,901                                  
Other
    (295 )     1,996       (1,812 )     296       1,180          
                                                 
Adjusted EBITDA
  $ 121,926     $ 152,045     $ 186,040     $ 190,479     $ 226,114          
                                                 
 
 
(a) During 2008 and 2010, we implemented plans to convert and rebrand our company-owned and franchised Party America stores and our FCPO stores to Party City stores, respectively. As a result, we recorded charges for impairment of the Party America trade and the FCPO trade name of $17.4 million and $27.4 million in the fourth quarters of 2008 and 2010, respectively.
 
(b) Represents payment to holders of vested time-based options in connection with a one-time cash dividend payment in 2010. This payment is included as stock-based compensation expense in general and administrative expenses in 2010.
 
(c) Prior to our May 2007 refinancing, the definition of Adjusted EBITDA under our credit agreement provided for the add-back of intercompany gross profit on sales from our wholesale operations to our retail stores.
 
(8) Excludes temporary locations under our Halloween City banner and includes Party City superstores.
 
(9) Party City comparable store sales exclude FCPO store conversions, as presented here.


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MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes to those consolidated financial statements appearing elsewhere in this prospectus. This discussion contains forward-looking statements that involve significant risks and uncertainties. As a result of many factors, such as those set forth under “Risk Factors” and elsewhere in this prospectus, our actual results may differ materially from those anticipated in these forward-looking statements.
 
Business Overview
 
Our Company
 
We are a global leader in decorated party supplies. We make it easy and fun to enhance special occasions with the widest assortment of innovative and exciting merchandise at a compelling value. With the 2005 acquisition of Party City, we created a vertically integrated business combining the leading product design, manufacturing and distribution platform, Amscan, with the largest U.S. retailer of party supplies. We have the industry’s broadest selection of decorated party supplies, which we distribute to over 100 countries. Our party superstore retail network consists of approximately 800 locations in the United States and is approximately 15 times larger than that of our next largest party superstore competitor. Our vertically integrated business model and scale differentiate us from other party supply companies and allow us to capture the manufacturing-to-retail margin on a significant portion of the products sold in our stores. We believe our widely recognized brands, broad product offering, low-cost global sourcing model and category-defining retail concept are significant competitive advantages. We believe these characteristics, combined with our vertical business model and scale, position us for continued organic and acquisition-led growth in the United States and internationally.
 
How We Assess the Performance of Our Company
 
In assessing the performance of our company, we consider a variety of performance and financial measures for our two operating segments, Retail and Wholesale. These key measures include revenues and gross profit, comparable retail same-store sales and operating expenses. We also review other metrics such as EBITDA and Adjusted EBITDA.
 
Segments
 
Our Wholesale segment generates revenues globally through sales of our Amscan, Designware, Anagram and other party supplies to party goods superstores, including our company-owned and franchised stores, independent party supply stores, dollar stores, mass merchants, grocery retailers and gift shops. Domestic sales accounted for 86%, and international sales accounted for 14% of our total wholesale sales, respectively. International wholesale sales are expected to increase as a result of our recent acquisitions and the further maturation of international party supply markets.
 
Our Retail segment generates revenues from the sale of merchandise to the end consumer through our chain of company-owned party goods stores, online through our e-commerce websites, including PartyCity.com, and through our chain of temporary Halloween locations. Franchise revenues include royalties on franchise retail sales and franchise fees charged for the initial franchise award and subsequent renewals. Our retail sales of party goods are fueled by everyday events such as birthdays, various seasonal events and other special occasions occurring throughout the year. In addition, through Halloween City, our temporary Halloween business, we seek to maximize our Halloween seasonal opportunity. As a result, in the year ended 2010, our Halloween business represented approximately 25% of our total annual retail sales, generally occurring in a five-week selling season ending on October 31. We expect to continue to generate a significant portion of our retail sales during the Halloween selling season.
 
Intercompany sales between the Wholesale and the Retail segment are eliminated, and the profits on intercompany sales are deferred and realized at the time merchandise is sold to the consumer. For segment reporting purposes, certain general and administrative expenses and art and development costs are allocated based on total revenues.


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Financial Measures
 
Revenues.  Revenues from retail operations are recognized at point of sale. We estimate future retail sales returns and record a provision in the period in which the related sales are recorded based on historical information. Retail revenues include shipping revenue related to e-commerce sales. Retail sales are reported net of taxes collected. Franchise royalties are recognized based on reported franchise retail sales. Revenues from our wholesale operations represent the sale of our products to third parties, less rebates, discounts and other allowances. The terms of our wholesale sales are generally FOB shipping point, and revenue is recognized when goods are shipped. We estimate reductions to revenues for volume-based rebate programs and subsequent credits at the time sales are recognized. Intercompany sales from our wholesale operations to our retail stores are eliminated in our consolidated total revenues.
 
Comparable Retail Same-Store Sales.  The growth in same-store sales represents the percentage change in same-store sales in the period presented compared to the prior year. Same-store sales exclude the net sales of a store for any period if the store was not open during the same period of the prior year. Comparable sales are calculated based upon stores that were open at least thirteen full months as of the end of the applicable reporting period. When a store is reconfigured or relocated within the same general territory, the store continues to be treated as the same store. If, during the period presented, a store was closed, sales from that store up to and including the closing day are included as same-store sales as long as the store was open during the same period of the prior year. FCPO stores that are in the process of being converted have not been included in Party City same store-sales and will not be included until the thirteenth month following conversion.
 
Gross Profit.  Gross profit is equal to net sales minus cost of goods sold. At wholesale, cost of goods sold reflects the production costs (i.e., raw materials, labor and overhead) of manufactured goods and the direct cost of purchased goods, inventory shrinkage, inventory adjustments, inbound freight to our manufacturing and distribution facilities, distribution costs and outbound freight to get goods to our wholesale customers. At retail, cost of goods sold reflects the direct cost of goods purchased from third parties and the production or purchase costs of goods acquired from our wholesale operations. Retail cost of goods sold also includes inventory shrinkage, inventory adjustments, inbound freight, occupancy costs related to store operations (such as rent and common area maintenance, utilities and depreciation on assets) and all logistics costs associated with our e-commerce business. Gross margin measures gross profit as a percentage of net sales.
 
Our cost of goods sold increases in higher volume periods as the direct costs of manufactured and purchased goods, inventory shrinkage and freight are generally tied to sales. However, other costs are largely fixed or vary based on other factors and do not necessarily increase as sales volume increases. Changes in the mix of our products, such as changes in the proportion of company manufactured goods, which have higher margins, may also impact our overall cost of goods sold. The direct costs of manufactured and purchased goods are influenced by raw material costs (principally paper, petroleum-based resins and cotton), domestic and international labor costs in the countries where our goods are purchased or manufactured and logistics costs associated with transporting our goods. We monitor our inventory levels on an on-going basis in order to identify slow-moving goods and generally use our outlet stores to clear such goods.
 
Selling Expenses.  Selling expenses include the costs associated with our wholesale sales and marketing efforts, including licensing, merchandising and customer service. Costs include the salaries and benefits of the related work force, including sales-based bonuses and commissions. Other costs include catalogues, showroom rent, travel and other operating costs. Certain selling expenses, such as sales-based bonuses and commissions, vary in proportion to sales, while other costs vary based on other factors, such as our marketing efforts, or are largely fixed and do not necessarily increase as sales volume increases.
 
Retail Operating Expenses.  Retail operating expenses include all of the costs associated with retail store operations, excluding occupancy-related costs included in the cost of goods sold. Costs include store payroll and benefits, advertising, supplies and credit card costs. Retail expenses are largely variable but do not necessarily vary in proportion to sales.


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Franchise Expenses.  Franchise expenses include the costs associated with operating our franchise network, including salaries and benefits of the administrative work force and other administrative costs. These expenses generally do not vary proportionally with net sales or franchise-related income.
 
General and Administrative Expenses.  General and administrative expenses include all operating costs not included elsewhere. These expenses include payroll and other expenses related to operations at our corporate offices including occupancy costs, related depreciation and amortization, legal and professional fees and data-processing costs. These expenses generally do not vary proportionally with net sales.
 
Art and Development Costs.  Art and development costs include the costs associated with art production, creative development and product management. Costs include the salaries and benefits of the related work force. These expenses generally do not vary proportionally with net sales.
 
EBITDA and Adjusted EBITDA.  We define EBITDA as net income (loss) before interest expense, income taxes, depreciation and amortization. We define Adjusted EBITDA as EBITDA further adjusted to exclude certain cash and non-cash, non-recurring items. We caution investors that amounts presented in accordance with our definitions of EBITDA and Adjusted EBITDA may not be comparable to similar measures disclosed by other issuers, because not all issuers and analysts calculate EBITDA or Adjusted EBITDA in the same manner. We present EBITDA in this prospectus because we consider it an important supplemental measure of our performance and believe it is frequently used by securities analysts, investors and other interested parties in the evaluation of companies in our industry. We present Adjusted EBITDA in this prospectus as a further supplemental measure of our performance and our liquidity. We use Adjusted EBITDA as a performance measure for our annual cash incentive plan.
 
Executive Overview
 
Our recent financial results demonstrate continued growth and profitability enhancements during a difficult economic environment. For the year ended December 31, 2010, we posted revenue growth of 7.6% and Adjusted EBITDA growth of 18.7% as compared to the same period in 2009. The revenue growth reflects the impact of our acquisitions as well as increased purchases from our customers across all channels after the decline in consumer demand experienced in 2009. In addition to the higher sales, the Adjusted EBITDA growth also reflects an increase in the percentage of Amscan products sold through our company-owned stores allowing us to capture the manufacturing- or wholesale-to-retail margin on a growing share of our sales.
 
In 2010, we completed two acquisitions that expanded our product line and channel reach and, combined, contributed $46.2 million to our revenue. The March 2010 acquisition of the Designware party division of American Greetings strengthens our juvenile licensed character portfolio while increasing our reach into the grocery retail and mass merchant channels. The September 2010 acquisition of the U.K.-based Christy’s Group provides costume-design and sourcing capabilities as well as additional resources in the U.K. and European markets. In January 2011, we acquired Germany-based Riethmuller, including the Malaysian operations of latex balloon manufacturer Everts Balloon. This acquisition expanded our reach in Europe while also enabling us to directly supply a significant portion of our latex balloon requirements previously sourced from third-party vendors. We expect these acquisitions to enhance our distribution capabilities and product line and increase our profits as we continue to capitalize on our vertical model by increasing the percentage of our products sold through Party City.
 
We also experienced growth in our retail business driven by increases in our same-store sales combined with the addition of new locations. We increased our company-owned Party City store count by 57 locations in 2010, including FCPO conversions and stores acquired from our franchisees. Our extensive product selection combined with the new advertising strategy launched in late 2009 resulted in higher traffic which drove an improvement in same-store sales during the year with 0.6%, 0.2%, 1.6% and 2.6% growth in each of the first, second, third and fourth quarters. Same-store sales at our Party City stores, excluding FCPO conversions, increased 1.4% in 2010. The FCPO stores converted to the Party City format in 2010 have experienced a 13.8% increase in sales over 2009. During 2010, we also operated 404 temporary Halloween locations compared to 247 in 2009. While revenue resulting from the increased store count contributed over $30.0 million to our sales in 2010, we experienced reduced average sales per location. We believe that we will


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be able to improve Halloween City profitability in 2011. Our e-commerce platform, re-launched in 2009, experienced strong growth during 2010, and we expect it will continue to provide attractive growth opportunities for us.
 
Other Factors Affecting Our Results
 
Important events that have impacted or will impact the results presented in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” include:
 
Christy’s Group.  On September 30, 2010, we acquired the Christy’s Group for total consideration of approximately $30.4 million. The Christy’s Group designs and distributes costumes and other garments and accessories through its operations in Asia and the U.K. The results of operations of the Christy’s Group are included in our consolidated financial statements from the date of acquisition and included revenues of $11.4 million for 2010. The Christy’s Group has historically had a lower gross margin than we have and this acquisition is expected to reduce our consolidated gross margin in 2011.
 
Riethmuller GmbH.  On January 30, 2011, we acquired Riethmuller for total consideration of approximately $46.8 million. Riethmuller is a 150-year-old German balloon producer and the pre-eminent brand for party and carnival items in Germany, Austria and Switzerland. The acquisition expands our vertical business model into the latex balloon category and gives us a significant presence in Germany, Poland and Malaysia. Similar to the Christy’s Group, the historical gross margin of Riethmuller has been lower than the margins generated by our wholesale operations. As a result, we expect the inclusion of Riethmuller in our 2011 results of operations to reduce our consolidated gross margin.
 
Refinancing.  On August 13, 2010, we entered into a new senior secured asset-based revolving credit facility for an aggregate principal amount of up to $325 million for working capital, general corporate purposes and the issuance of letters of credit. The new asset-based revolving credit facility, which matures in August 2015, was used to refinance our existing asset-based revolver and certain other term debt.
 
On December 2, 2010, we entered into a $675.0 million senior secured term loan facility and used the proceeds to refinance our existing $342.0 million term loan facility, pay a one-time cash dividend to common stockholders and make a cash dividend equivalent payment to vested time-based option holders and warrant holders aggregating approximately $311.2 million and to pay $18.1 million of related fees and expenses. The new term loan facility matures in December 2017.
 
As a result of higher interest rates and debt following these refinancings, our interest expense will increase in future periods.
 
Public Company Costs.  As a result of the initial public offering of our common stock we will incur additional legal, accounting and other expenses that we did not previously incur, including costs associated with public company reporting and corporate governance requirements. These requirements include compliance with the Sarbanes-Oxley Act of 2002 as well as other rules implemented by the SEC and          .
 
Termination of Management Agreement.  We have a management agreement with our Sponsors. Pursuant to the management agreement, we pay annual management fees of approximately $1.2 million and an advisory fee of 1% of the value of specified transactions they assist us with. We intend to terminate the agreement in connection with this offering.
 
Equity Based Compensation.  In December 2010, in connection with the refinancing of our term loan agreement (see “— Liquidity and Capital Resources”), our Board of Directors declared a one-time cash dividend totaling $311.2 million, which included $9.4 million to holders of vested time-based options, which was included in stock compensation expense in 2010. In addition, holders of unvested options at the date such dividend was declared will receive a comparable distribution, if and when the options vest. At December 31, 2010, the aggregate potential distribution associated with unvested options was $18.5 million, which could be paid out within 12 months following completion of this offering and would result in a charge to stock compensation expense.


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Results of Operations
 
The following information presented for 2010, 2009 and 2008 was derived from our audited consolidated financial statements and related notes which are included elsewhere in this prospectus.
 
                                                 
    Year Ended December 31,  
    2010     2009     2008  
    (dollars in thousands)  
 
Revenues:
                                               
Net sales
  $ 1,579,677       98.8 %   $ 1,467,324       98.7 %   $ 1,537,641       98.6 %
Royalties and franchise fees
    19,417       1.2       19,494       1.3       22,020       1.4  
                                                 
Total revenues
    1,599,094       100.0       1,486,818       100.0       1,559,661       100.0  
Expenses:
                                               
Cost of sales
    943,058       59.0       899,041       60.5       966,426       62.0  
Selling expenses
    42,725       2.7       39,786       2.7       41,894       2.7  
Retail operating expenses
    296,891       18.6       261,691       17.6       273,627       17.5  
Franchise expenses
    12,269       0.8       11,991       0.8       13,686       0.9  
General and administrative expenses
    134,392       8.4       119,193       8.0       120,272       7.7  
Art and development costs
    14,923       0.9       13,243       0.9       12,462       0.8  
Impairment of trade name
    27,400       1.7             0.0       17,376       1.1  
                                                 
Total expenses
    1,471,658       92.0       1,344,945       90.5       1,445,743       92.7  
                                                 
Income from operations
    127,436       8.0       141,873       9.5       113,918       7.3  
Interest expense, net
    40,850       2.6       41,481       2.8       50,915       3.3  
Other expense (income), net
    4,208       0.3       (32 )     0.0       (818 )     (0.1 )
                                                 
Income before income taxes
    82,378       5.2       100,424       6.7       63,821       4.1  
Income tax expense
    32,945       2.1       37,673       2.5       24,188       1.6  
                                                 
Net income
    49,433       3.1       62,751       4.2       39,633       2.5  
Less: net income (loss) attributable to noncontrolling interest
    114             198               (877 )     (0.1 )
                                                 
Net income attributable to Party City Holdings Inc.
  $ 49,319       3.1 %   $ 62,553       4.2 %   $ 40,510       2.6 %
                                                 
 
Year Ended December 31, 2010 Compared to Year Ended December 31, 2009
 
Revenues
 
Total revenues for 2010 were $1,599.1 million, or 7.6%, higher than in 2009 reflecting growth in both reporting segments. The following table sets forth the composition of our total revenues for 2010 and 2009.
 
                                 
    Year Ended December 31,  
    2010     2009  
    Dollars in
    Percentage of
    Dollars in
    Percentage of
 
 
  Thousands     Total Revenue     Thousands     Total Revenue  
 
Revenues:
                               
Sales:
                               
Wholesale
  $ 769,247       48.1 %   $ 633,006       42.6 %
Eliminations
    (298,355 )     (18.7 )     (221,647 )     (14.9 )
                                 
Net wholesale
    470,892       29.4       411,359       27.7  
Retail
    1,108,785       69.3       1,055,965       71.0  
                                 
Total net sales
    1,579,677       98.8       1,467,324       98.7  
Royalties and franchise fees
    19,417       1.2       19,494       1.3  
                                 
Total revenues
  $ 1,599,094       100.0 %   $ 1,486,818       100.0 %
                                 


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Wholesale
 
Net sales for 2010 of $470.9 million were $59.5 million, or 14.5%, higher than net sales for 2009. Net sales to domestic party goods retailers, including our franchisee network, and to other domestic party goods distributors totaled $281.2 million and were $35.3 million, or 14.4%, higher than 2009 sales. The increase in sales principally reflects the impact of our acquisition of Designware division in March 2010 as well as a return to near normal purchasing patterns and inventory levels by retailers, following their reduction in purchasing during the economic downturn in 2009. Net sales of metallic balloons were $96.4 million, or 14.1%, higher than in 2009 and also reflect the normalization of purchasing patterns by domestic balloon distributors. International sales totaled $93.3 million and were $12.3 million, or 15.2%, higher than in 2009, primarily the result of the acquisition of the Christy’s Group in September 2010. Changes in foreign currency exchange rates resulted in a 2.1% increase in the international sales over 2009.
 
Intercompany sales to our retail affiliates of $298.4 million were $76.7 million, or 34.6%, higher than in 2009 and represented 38.8% of total wholesale sales in 2010 compared to 35.0% in 2009. The increase in intercompany sales principally reflects the impact of the acquisition of Designware and the growth of our products as a percentage of the total products sold in our retail stores, particularly at our rebranded and re-merchandised FCPO stores. During 2010, our wholesale sales to our retail stores represented 61.3% of the retail segment’s total purchases, compared to 53.7% in 2009. The intercompany sales of our wholesale segment are eliminated against the intercompany purchases of our retail segment in the consolidated financial statements.
 
Retail
 
Retail sales for 2010 at our company-owned stores of $1,108.8 million were $52.8 million, or 5.0%, higher than retail sales for 2009. The retail sales of our company-owned Party City stores (excluding FCPO conversions) totaled $770.7 million and were $15.8 million, or 2.1%, higher than in 2009. Party City same-store sales increased 1.4% during 2010, driven by a 2.0% increase in transaction count, partially offset by a 0.6% decrease in average sale price per transaction. Party City same-store sales accelerated during 2010, with growth of 0.6%, 0.2%, 1.6% and 2.6% for the first, second, third and fourth quarters, respectively, driven in part by the successful shift in our principal advertising strategy from free standing newspaper inserts to a national broadcasting campaign. The increase in Party City store sales also reflects the addition of 33 stores (excluding FCPO conversions), including the acquisition of 20 stores from franchisees, partially offset by the sale or closure of 16 stores in 2010. Additionally, we converted 40 FCPO stores to the Party City format, which generated sales of $28.6 million in 2010, a $3.5 million or 13.8% increase over 2009. Prior to this conversion to the Party City format, these 40 FCPO stores generated comparable sales of $25.1 million in 2009. Converted FCPO stores will be included in Party City’s same-store sales beginning with the thirteenth month following conversion. Net sales at our temporary Halloween City locations totaled $101.4 million and were $33.4 million, or 49.1%, higher than in 2009, reflecting an increase in the number of locations to 404 in 2010 from 247 in 2009, partially offset by an 8.8% decrease in average sales per location compared to 2009. The decrease in average Halloween City sales per location is primarily attributable to the expansion in 2010 into several new territories with existing competition. Our e-commerce sales totaled $40.2 million in 2010 compared to $13.4 million in 2009, reflecting the successful re-launch of the PartyCity.com website. Sales at all other store formats, including unconverted FCPO and outlet stores, totaled $167.8 million and were $26.7 million or 13.7% lower than in 2009. The decrease reflects the closure of six FCPO and 17 outlet stores during 2010 and the impact of liquidating non-conforming FCPO inventories prior to the stores’ remerchandising and rebranding.
 
Royalties and franchise fees
 
Royalties and franchise fees for 2010 totaled $19.4 million and were $0.1 million lower than in 2009 principally as a result of a net decrease of 18 franchise stores that occurred primarily during the fourth quarter of 2010.


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Gross profit
 
Our total margin on net sales for 2010 was 40.3%, or 160 basis points higher, than in 2009. The following table sets forth our consolidated gross profit and gross margin on net sales for 2010 and 2009.
 
                                 
    Year Ended December 31,  
    2010     2009  
    Dollars in
    Percentage of
    Dollars in
    Percentage of
 
    Thousands     Associated Sales     Thousands     Associated Sales  
 
Net Wholesale
  $ 174,507       37.1 %   $ 148,424       36.1 %
Retail
    462,112       41.7 %     419,859       39.8 %
                                 
Total
  $ 636,619       40.3 %   $ 568,283       38.7 %
                                 
 
The gross margin on net sales at wholesale for 2010 was 37.1%, or 100 basis points higher than in 2009. The increase in wholesale gross margin principally reflects changes in product mix, including a greater percentage of higher margin decorated tableware and accessories due, in part, to the acquisition of Designware, the impact of product price increases and the continued leveraging of our distribution infrastructure, partially offset by increases in input costs.
 
Retail gross profit margin for 2010 was 41.7%, or 190 basis points higher than in 2009, principally due to a greater percentage of products sold at retail that were manufactured or sourced by us, including Designware products, resulting in a higher margin.
 
Operating expenses
 
Selling expenses totaled $42.7 million and were $2.9 million, or 7.4%, higher than in 2009. The increase in 2010 selling expense, as compared to 2009, principally reflects increases in compensation and employee benefits and the additional expenses of the Christy’s Group. Selling expenses were 2.7% of total revenue in both 2010 and 2009.
 
Retail operating expenses of $296.9 million for 2010 were $35.2 million, or 13.5%, higher than 2009, principally reflecting additional costs associated with the growth in our temporary Halloween and e-commerce businesses. E-commerce costs reflect higher distribution, website and customer service costs. The increase in retail operating expenses also reflects the addition of 18 stores in 2010. In addition, during 2010, we implemented a national broadcast-based advertising program, the costs of which were partially offset by a reduction in advertising through free standing newspaper inserts. Retail operating expenses were 26.8% of retail sales in 2010 and 24.8% of retail sales in 2009. Franchise expenses for 2010 of $12.3 million were $0.3 million, or 2.3%, higher than in 2009. Franchise expenses were 63.2% of franchise-related revenue in 2010 compared to 61.5% in 2009.
 
General and administrative expenses for 2010 totaled $134.4 million and were $15.2 million, or 12.8%, higher than in 2009. The increase in general and administrative expenses reflects increased equity-based expenses, increased support for our expanding temporary Halloween operations and the additional expenses of the Christy’s Group in 2010. In 2010, equity-based expenses included $9.4 million of stock compensation expense arising from the payment of the December 2010 dividend distribution to vested time-based option holders and a $5.3 million non-cash charge related to certain redeemable options and warrants held by employees that were marked to market.
 
These increases in general and administrative expense were partially offset by a lower provision for bad debts in 2010 as compared to 2009 and the continued implementation of cost reductions that began in 2009, including the consolidation of FCPO’s former corporate office operations in Naperville, Illinois into those of Party City. As a percentage of total revenues, general and administrative expenses were 8.4% for 2010 compared to 8.0% for 2009.
 
Art and development costs for 2010 totaled $14.9 million and were $1.7 million higher than in 2009, principally reflecting an increase in personnel and compensation and employee benefits. As a percentage of total revenues, art and development costs were 0.9% in 2010, comparable to 2009.


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During 2010, we instituted a program to convert substantially all of our FCPO stores to either Party City stores or to an outlet format and recorded a $27.4 million non-cash charge for the impairment of the Factory Card & Party Outlet trade name.
 
Interest expense, net
 
Interest expense of $40.9 million for 2010 was comparable to 2009. Despite increases in our ABL and term loan interest rates in August and December of 2010, respectively, and a $326.6 million increase in our term debt following our December 2010 dividend distribution, our average debt and effective interest rate for 2010 were comparable to those of 2009.
 
Other expense, net
 
Other expense, net, for 2010 totaled $4.2 million. Other expense, net, includes costs of $2.4 million associated with the refinancing of our revolving and term debt credit facilities in 2010 and $1.6 million of acquisition-related costs. These costs were partially offset by our share of income from an unconsolidated balloon distribution joint venture located in Mexico.
 
Income tax expense
 
Income tax expense for 2010 and 2009 reflected consolidated effective income tax rates of 40.0% and 37.5% respectively. The increase in the 2010 effective income tax rate is primarily attributable to certain adjustments related to deferred tax accounts recorded in the current year related to activities associated with previous acquisitions and non-deductible, non-cash stock option and warrant related charges, partially offset by an increased domestic manufacturing deduction, a lower average state income tax rate, the expiration of certain states’ statutes of limitations that resulted in the recognition of previous unrecognized tax benefits and the favorable settlement of the audit of our 2007 federal tax return. We expect our effective tax rate for 2011 to be approximately 36.5%.
 
Year Ended December 31, 2009 Compared to Year Ended December 31, 2008
 
Revenues
 
Total revenues for 2009 were $1,486.8 million, or 4.7%, lower than in 2008. The following table sets forth the Company’s total revenues for 2009 and 2008.
 
                                 
    Year Ended December 31,  
    2009     2008  
    Dollars in
    Percentage of
    Dollars in
    Percentage of
 
    Thousands     Total Revenue     Thousands     Total Revenue  
 
Revenues:
                               
Sales:
                               
Wholesale
  $ 633,006       42.6 %   $ 653,403       41.9 %
Eliminations
    (221,647 )     (14.9 )     (214,898 )     (13.8 )
                                 
Net wholesale
    411,359       27.7       438,505       28.1  
Retail
    1,055,965       71.0       1,099,136       70.5  
                                 
Total net sales
    1,467,324       98.7       1,537,641       98.6  
Royalties and franchise fees
    19,494       1.3       22,020       1.4  
                                 
Total revenues
  $ 1,486,818       100.0 %   $ 1,559,661       100.0 %
                                 
 
Wholesale
 
Net sales for 2009 of $411.4 million were $27.1 million, or 6.2%, lower than net sales for 2008, principally as a result of the downturn in the United States economy. Net sales to domestic party goods


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retailers, including our franchise network, and to other domestic party goods distributors totaled $245.9 million and were $16.4 million, or 6.3%, lower than 2008 sales, as the negative impact of the economy was partially offset by a large seasonal direct import program for one of our retailers. Net sales of metallic balloons were $84.5 million, or 8.9%, lower than in 2008, as wholesale distributors and retailers rationalized stock inventory levels in light of the economic downturn. International sales totaled $81.0 million and were $2.5 million, or 3.0%, lower than in 2008. Fluctuations in foreign currency account for an $11.0 million decrease in international sales, more than offsetting volume-related growth in local currency sales, principally at European national accounts.
 
Intercompany sales to our retail affiliates of $221.6 million were $6.7 million, or 3.1%, higher than in 2008 and represented 35.0% of the total wholesale sales in 2009 compared to 32.9% in 2008. The increase in intercompany sales principally reflects the growth of our manufactured and sourced products as a percentage of the total products sold in company-owned retail stores, particularly the FCPO stores acquired in November 2007. During 2009, our wholesale sales to our retail segment represented 53.7% of the retail segment’s total purchases compared to 50.4% in 2008. The intercompany sales of our wholesale segment are eliminated against the intercompany purchases of our retail segment in the consolidated financial statements.
 
Retail
 
Retail sales for 2009 at our company-owned stores of $1,056.0 million were $43.2 million, or 3.9%, lower than retail sales for 2008, reflecting the downturn in the United States economy, the operation of fewer FCPO and outlet stores during 2009 and the inclusion of a 53rd week in our 2008 fiscal year. Retail sales of our company-owned Party City stores totaled $754.9 million and were $35.3 million, or 4.5%, lower than in 2008. Party City same-store sales during 2009 decreased 3.3% compared to 2008 as the result of a decrease in transaction count, as the average dollar per transaction remained consistent between 2009 and 2008. Retail sales at our temporary Halloween locations totaled $68.0 million and were $28.6 million, or 72.3%, higher than in 2008 due to a 7.5% increase in average sales per location and a 65.7% increase in location count compared to 2008. During 2009, we generated $13.4 million in e-commerce sales compared to $5.9 million in 2008. The increase in e-commerce sales was driven by the re-launch of the PartyCity.com website in August 2009. Sales at all other store formats, including unconverted FCPO and outlet stores, totaled $219.6 million and were $43.9 million or 16.7% lower than in 2008.
 
Royalties and franchise fees
 
Franchise-related revenue for the year ended December 31, 2009, consisting of royalties and franchise fees, totaled $19.5 million, or 11.5%, lower than in 2008, as our franchise store count decreased by 23 stores or 8.4% and the stores experienced a same-store net sales decrease of 2.3% compared to 2008.
 
Gross profit
 
The following table sets forth the Company’s consolidated gross profit and gross margin on net sales for 2009 and 2008;
 
                                 
    Year Ended December 31,  
    2009     2008  
    Dollars in
    Percentage of
    Dollars in
    Percentage of
 
    Thousands     Associated Net Sales     Thousands     Associated Net Sales  
 
Net Wholesale
  $ 148,424       36.1 %   $ 142,438       32.5 %
Retail
    419,859       39.8 %     428,777       39.0 %
                                 
Total Gross Profit
  $ 568,283       38.7 %   $ 571,215       37.1 %
                                 
 
The gross margin on net sales at wholesale for 2009 was 36.1%, or 360 basis points higher than in 2008. The increase in wholesale gross profit margin principally reflects cost reducing initiatives including reductions in distribution costs, and changes in product mix.


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Retail gross profit margin for 2009 was 39.8%, or 80 basis points higher than in 2008, primarily the result of favorable variances in inventory shrink and damage reserves as compared to 2008.
 
Operating expenses
 
Selling expenses totaled $39.8 million and were $2.1 million, or 5.0%, lower than in 2008, reflecting a decrease in variable selling expenses, consistent with the decrease in wholesale sales, and a reduction in the size of our sales force and changes in foreign currency exchange rates, partially offset by inflationary increases principally in compensation and employee benefits. Selling expenses were 2.7% of total revenue in both 2009 and 2008.
 
Retail operating expenses of $261.7 million for 2009 were $11.9 million, or 4.4%, lower than 2008, principally reflecting a reduction in store count. Retail operating expenses were 24.8% of retail sales in 2009 and comparable to 2008. Franchise expenses for 2009 of $12.0 million were $1.7 million, or 12.4%, lower than in 2008, also reflecting a reduction in store count. Franchise expenses were 61.5% of franchise-related revenue in 2009 compared to 62.2% in 2008.
 
General and administrative expenses for 2009 totaled $119.2 million and were $1.1 million, or 0.9%, lower than in 2008. The decrease in general and administrative expenses reflects a management-directed cost reduction program, which included reductions in work force, travel and other expenses, the reduction of a prior year purchase accounting reserve and the impact of changes in foreign currency exchange rates. These decreases were partially offset by inflationary increases, particularly in base compensation and employee benefits, increased support for our expanding temporary Halloween operations, an increase in consulting expense and an additional provision for bad debts due to the bankruptcy of a national account in Europe. As a percentage of total revenues, general and administrative expenses were 8.0% for 2009 compared to 7.7% for 2008.
 
Art and development costs of $13.2 million for 2009 were comparable to 2008 expenses. As a percentage of total revenues, art and development costs were 0.9% and 0.8% of total revenues for 2009 and 2008, respectively.
 
Interest expense, net
 
Interest expense of $41.5 million for 2009 was $9.4 million lower than for 2008, reflecting the impact of lower average debt balances and LIBOR rates.
 
Other income, net
 
Other income, net, in 2009 primarily includes our share of income from an unconsolidated balloon distribution joint venture located in Mexico partially offset by foreign currency transaction losses and other expenses.
 
Income tax expense
 
Income tax expense for 2009 and 2008 reflected consolidated effective income tax rates of 37.5% and 37.9%, respectively. The decrease in the 2009 effective income tax rate is primarily attributable to a lower average state income tax rate caused by earnings mix shift among subsidiaries and the expiration of state statutes of limitations for certain states that resulted in the recognition of previous unrecognized tax benefits and the favorable settlement of the audits of our 2006 and 2005 federal tax returns. These tax rate reductions were partially offset by a lower domestic manufacturing deduction, as a percentage of pre-tax income.
 
Liquidity and Capital Resources
 
Capital Structure
 
On August 13, 2010, Amscan Holdings entered into a new senior secured asset-based revolving credit facility (the “New ABL Facility”), for an aggregate principal amount of up to $325 million for working


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capital, general corporate purposes and the issuance of letters of credit. The New ABL Facility was principally used to refinance the existing asset-based revolving loans.
 
On December 2, 2010, Amscan Holdings entered into a $675 million senior secured term loan facility (the “New Term Loan Credit Agreement”). Amscan Holdings used the proceeds from this facility to refinance the then existing $342 million term loan facility and to pay to us a one-time cash dividend. We used the aggregate proceeds from this dividend to pay a one-time cash dividend to common stockholders and a cash payment in lieu of a dividend to certain option and warrant holders aggregating approximately $311.2 million and to pay related fees and expenses. The term loan under the New Term Loan Credit Agreement was issued at a 1%, or $6.8 million discount that is being amortized by the effective interest method over the life of the loan.
 
New ABL Facility
 
The New ABL Facility provides for (a) revolving loans in an aggregate principal amount at any time outstanding not to exceed $325 million, subject to a borrowing base described below, (b) swing-line loans in an aggregate principal amount at any time outstanding not to exceed 10% of the aggregate commitments under the facility and (c) letters of credit, in an aggregate face amount at any time outstanding not to exceed $50 million, to support payment obligations incurred in the ordinary course of business by Amscan Holdings and its subsidiaries.
 
Under the New ABL Facility, the borrowing base at any time equals (a) 85% of eligible trade receivables plus (b) 85% of eligible inventory at its net orderly liquidation value and (c) 90% of eligible credit card receivables, less (d) certain reserves.
 
Amounts borrowed under the New ABL Facility bear interest at a rate per annum equal to an applicable margin plus, at our option, either (a) an alternate base rate determined by reference to the highest of (1) the prime rate of Wells Fargo, N.A., (2) the federal funds rate in effect on such date plus 1/2 of 1.00% and (3) the LIBOR rate for a three-month interest period plus 1.0% or (b) the LIBOR rate determined by reference to the LIBOR cost of funds for U.S. dollar deposits for the relevant interest period adjusted for certain additional costs. The applicable margin percentage ranges from 1.25% to 1.75% for alternate base rate loans and from 2.25% to 2.75% for loans based on the LIBOR rate, in each case based on average historical excess availability (as defined in the New ABL Facility agreement). The applicable margin at December 31, 2010 was 1.50% for alternate base rate loans and 2.50% for loans based on the LIBOR rate.
 
In addition to paying interest on outstanding principal under the New ABL Facility, Amscan Holdings is required to pay a commitment fee of between 0.375% and 0.50% per annum in respect of the unutilized commitments thereunder. Amscan Holdings must also pay customary letter of credit fees and agency fees.
 
The New ABL Facility also provides that Amscan Holdings has the right from time to time to request an amount of additional commitments up to $125 million, of which the entire amount remains available. The lenders under the New ABL Facility are not under any obligation to provide any such additional commitments, and any increase in commitments is subject to several conditions precedent and limitations. If Amscan Holdings were to request any additional commitments, and the existing lenders or new lenders were to agree to provide such commitments, the facility size could be increased to up to $450 million, but Amscan Holdings’ ability to borrow under this facility would still be limited by the amount of the borrowing base.
 
In connection with the New ABL Facility, we incurred $3.9 million in finance costs that have been capitalized and will be amortized over the life of the loan.
 
All obligations under the New ABL Facility are jointly and severally guaranteed by us and each existing and future domestic subsidiary of Amscan Holdings. Each guarantor has secured its obligations under the guaranty by a first priority lien on its accounts receivable, inventory, cash and related proceeds and assets and a second priority lien on substantially all of its other assets.


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The New ABL Facility contains negative covenants that, among other things and subject to certain exceptions, restrict our ability, and the ability of Amscan Holdings and any of its restricted subsidiaries to:
 
  •  incur additional indebtedness;
 
  •  pay dividends or distributions on capital stock or redeem, repurchase or retire capital stock of Amscan Holdings, us or any restricted subsidiary or make payments on, or redeem, repurchase or retire any subordinated indebtedness;
 
  •  make certain investments, loans, advances and acquisitions;
 
  •  enter into sale and leaseback transactions;
 
  •  engage in transactions with affiliates;
 
  •  create liens;
 
  •  transfer or sell assets;
 
  •  guarantee debt;
 
  •  create restrictions on the payment of dividends or other amounts to us from our restricted subsidiaries;
 
  •  consolidate, merge or transfer all or substantially all of our assets and the assets of our subsidiaries; and
 
  •  engage in unrelated businesses.
 
In addition, Amscan Holdings must comply with a fixed charge coverage ratio if our excess availability on any day is less than (a) 15% of the lesser of the aggregate commitments under the New ABL Facility or the then borrowing base or (b) $25 million. The fixed charge coverage ratio is the ratio of (i) Adjusted EBITDA minus the unfinanced portion of consolidated capital expenditures (as defined in the New ABL Facility) to (ii) fixed charges (as defined in our New ABL Facility). Excess availability under the New ABL Facility means the lesser of (a) the aggregate commitments under the New ABL Facility and (b) the then borrowing base, minus the outstanding credit extensions.
 
The New ABL Facility also contains certain customary affirmative covenants and events of default.
 
Borrowings under the New ABL Facility at December 31, 2010 totaled $150.1 million at interest rates ranging from 2.77% to 4.75%. Outstanding standby letters of credit totaled $12.9 million and Amscan Holdings had $162.0 million of excess availability under the terms of the New ABL Facility at December 31, 2010.
 
New Term Loan Credit Agreement
 
Amounts borrowed under the New Term Loan Credit Agreement bear interest at a rate per annum equal to an applicable margin plus, at Amscan Holdings’ option, either (a) an alternate base rate determined by reference to the highest of (1) the prime rate of Credit Suisse AG, (2) the federal funds rate in effect on such date plus 1/2 of 1.00% and (3) the LIBOR rate for a one-month interest period plus 1.0% or (b) a LIBOR rate determined by reference to the cost of funds for U.S. dollar deposits for the relevant interest period, adjusted for certain additional costs. The applicable margin percentage is 4.25% for alternate base rate loans and 5.25% for loans based on the LIBOR rate.
 
In addition to paying interest on outstanding principal under the New Term Loan Credit Agreement, Amscan Holdings must also pay customary agency fees.
 
The New Term Loan Credit Agreement also provides that Amscan Holdings has the right from time to time to request an amount of additional term loans up to $175 million and to refinance, replace or extend the maturity date of all or a portion of the then existing term loans thereunder. The lenders under the New Term Loan Credit Agreement are not under any obligation to provide any such additional term loans, provide such refinancing or replacement term loans or agree to extend the maturity date of existing term loans held by


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them, and transactions to effect any additional, refinancing, replacement or extended term loans are subject to several conditions precedent and limitations.
 
The New Term Loan Credit Agreement provides that the term loans are subject to a 1.0% prepayment premium if voluntarily repaid under certain circumstances before December 2, 2011. Otherwise, Amscan Holdings may voluntarily prepay the term loans at any time without premium or penalty, other than customary breakage costs with respect to loans based on the LIBOR rate. The term loans are subject to mandatory prepayment, subject to certain exceptions, with (i) 100% of net proceeds arising from all non-ordinary course asset sales or other dispositions of property(including casualty events) by Amscan Holdings or by its subsidiaries, subject to reinvestment rights and certain other exceptions, (ii) 100% of the net cash proceeds of any incurrence of debt other than debt permitted under the New Term Loan Credit Agreement, (iii) commencing with the fiscal year ended December 31, 2011, 50% (which percentage will be reduced to 25% if Amscan Holdings’ total leverage ratio is less than 3.50 to 1.00, but greater than 2.50 to 1.00, and 0% if Amscan Holdings’ total leverage ratio is less than 2.50 to 1.00) of Amscan Holdings’ annual excess cash flow (as defined in the New Term Loan Credit Agreement). The total leverage ratio is the ratio of our consolidated total debt (as defined in the New Term Loan Credit Agreement) to Adjusted EBITDA.
 
The term loans under the New Term Loan Credit Agreement mature on December 2, 2017 (or January 30, 2014, if Amscan Holdings’ senior subordinated notes are not refinanced with indebtedness permitted to be incurred under the New Term Loan Credit Agreement that matures at least 91 days after the maturity date of the term loans). Amscan Holdings is required to repay installments on the term loans in quarterly principal amounts of 0.25%, with the remaining amount payable on the maturity date.
 
All obligations under the New Term Loan Credit Agreement are jointly and severally guaranteed by us and each existing and future domestic subsidiary of Amscan Holdings. Each guarantor has secured its obligations under the guaranty by a first priority lien on substantially all of its assets (other than accounts receivable, inventory, cash and related proceeds and assets) and a second priority lien on its accounts receivable, inventory, cash and related proceeds and assets.
 
The New Term Loan Credit Agreement also contains certain customary affirmative covenants and events of default. The New Term Loan Credit Agreement contains negative covenants that, among other things and subject to certain exceptions, restrict our ability, and the ability of Amscan Holdings and any of its restricted subsidiaries, to:
 
  •  incur additional indebtedness;
 
  •  pay dividends or distributions on capital stock or redeem, repurchase or retire capital stock of Amscan Holdings, us, or any restricted subsidiary or make payments on, or redeem, repurchase or retire any subordinated indebtedness;
 
  •  make certain investments, loans, advances and acquisitions;
 
  •  enter into sale and leaseback transactions;
 
  •  engage in transactions with affiliates;
 
  •  create liens;
 
  •  transfer or sell assets;
 
  •  guarantee debt;
 
  •  create restrictions on the payment of dividends or other amounts to us from our restricted subsidiaries;
 
  •  consolidate, merge or transfer all or substantially all of our assets and the assets of our subsidiaries; and
 
  •  engage in unrelated businesses.
 
In connection with the New Term Loan Credit Agreement, we incurred $12.2 million in finance costs that have been capitalized and will be amortized over the life of the loan.


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At December 31, 2010, the outstanding principal amount of term loans under the Term Loan Credit Agreement was $666.6 million, which reflects an original issue discount of $6.7 million, net of $0.1 million of accumulated amortization, and the interest rate on borrowings ranged from 6.75% to 7.50%
 
Other Credit Agreements
 
At December 31, 2010, Amscan Holdings has a $0.4 million Canadian dollar denominated revolving credit facility that bears interest at the Canadian prime rate plus 1.1% and expires in June 2011, and a £1.4 million British Pound Sterling denominated revolving credit facility that bears interest at the U.K. base rate plus 1.75% on the first £1.0 million British Pound Sterling and 4.75% over the U.K. base rate on the remaining £0.4 million British pound sterling. The British pound Sterling revolving credit facility expires on June 30, 2011. There were no borrowings under the British Pound Sterling revolving credit facility at December 31, 2010. At December 31, 2009, borrowings outstanding under the British Pound Sterling revolving credit facility were £0.4 million British Pound Sterling. At December 31, 2010 and 2009, there were no borrowings under the Canadian dollar denominated revolving credit facility. Amscan Holdings expects to renew these revolving credit facilities upon expiration.
 
Long-term borrowings at December 31, 2010 include a mortgage note with the New York State Job Development Authority of $4.5 million. The mortgage note was amended on December 18, 2009, extending the fixed monthly payments of principal and interest for a period of 60 months up to and including December 31, 2014. The note bears interest at the rate of 2.22% and is subject to review and adjustment semi-annually based on the New York State Job Development Authority’s confidential internal protocols. The mortgage note is collateralized by our Chester, New York distribution facility.
 
8.75% Senior Subordinated Notes due 2014
 
In connection with its acquisition by the Sponsors on April 30, 2004, Amscan Holdings issued and sold $175.0 million in principal amount of 8.75% senior subordinated notes due 2014. Interest on the notes is payable semi-annually in arrears on May 1 and November 1 of each year. The outstanding senior subordinated notes are guaranteed, jointly and severally, on an unsecured subordinated basis by each of Amscan Holdings’ existing and future domestic subsidiaries.
 
The indenture governing the outstanding notes contains certain covenants limiting, among other things and subject to certain exceptions, Amscan Holdings’ ability and the ability of Amscan Holdings’ restricted subsidiaries, to:
 
  •  incur additional indebtedness or issue preferred stock;
 
  •  pay dividends or distributions on capital stock or redeem, repurchase or retire capital stock of Amscan Holdings or any restricted subsidiary or make payments on, or redeem, repurchase or retire any subordinated indebtedness;
 
  •  make certain investments, loans, advances and acquisitions;
 
  •  enter into sale and leaseback transactions;
 
  •  engage in transactions with affiliates;
 
  •  create liens;
 
  •  transfer or sell assets;
 
  •  guarantee debt;
 
  •  create restrictions on the payment of dividends or other amounts to us from our restricted subsidiaries;
 
  •  consolidate, merge or transfer all or substantially all of our assets and the assets of our subsidiaries; and
 
  •  engage in unrelated businesses.


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Amscan Holdings may redeem the outstanding senior subordinated notes, in whole or in part, at the redemption prices (expressed as percentages of principal amount of senior subordinated notes to be redeemed) set forth below, plus accrued and unpaid interest thereon, if redeemed during the twelve-month period beginning on May 1 of each of the years indicated below:
 
         
Year
  Percentage
 
2011
    101.458 %
2012 and thereafter
    100.000 %
 
If Amscan Holdings experiences certain kinds of change in control, it must offer to purchase the outstanding senior subordinated notes at 101% of their principal amount, plus accrued and unpaid interest.
 
If Amscan Holdings or its restricted subsidiaries engage in certain asset sales, it generally must either invest the net cash proceeds from such sales in its business within a period of time, prepay senior debt or make an offer to purchase a principal amount of the outstanding senior subordinated notes equal to the excess net cash proceeds, subject to certain exceptions. The purchase price of the outstanding senior subordinated notes will be 100% of their principal amount, plus accrued and unpaid interest.
 
Amscan Holdings have entered into various capital leases for machinery and equipment and automobiles with implicit interest rates ranging from 5.69% to 17.40% which extend to 2015. Amscan Holdings has numerous non-cancelable operating leases for its retail store sites as well as several leases for offices, distribution and manufacturing facilities, showrooms and equipment. These leases expire on various dates through 2023 and generally contain renewal options and require Amscan Holdings to pay real estate taxes, utilities and related insurance costs.
 
Restructuring costs
 
Restructuring costs associated with the Factory Card & Party Outlet Acquisition of $9.1 million were accrued as part of net assets acquired. Through December 31, 2009, we incurred $6.7 million in restructuring costs, including $3.8 million in 2009. Through December 31, 2010, we incurred $7.6 million in restructuring costs including $0.9 million incurred in the year ended December 31, 2010. We expect to incur $1.5 million in restructuring costs in 2011.
 
During October 2009, we communicated our plan to close the FCPO corporate office in Naperville, Illinois and to consolidate our retail corporate office operations into those of Party City in Rockaway, New Jersey. In connection with the closing, we recorded severance costs of $1.8 million during 2009, all of which were paid by December 2010. We continue to utilize the Naperville facility as a distribution center for greeting cards and other products.
 
Liquidity
 
We expect that cash generated from operating activities and availability under our credit agreements will be our principal sources of liquidity. Based on our current level of operations, we believe these sources will be adequate to meet our liquidity needs for at least the next twelve months. We cannot assure you, however, that our business will generate sufficient cash flow from operations or that future borrowings will be available to us under our senior secured credit facilities in an amount sufficient to enable us to repay our indebtedness, including the notes, or to fund our other liquidity needs.
 
Cash Flow Data — Year Ended December 31, 2010 Compared to Year Ended December 31, 2009
 
Net cash provided by operating activities totaled $61.2 million during 2010, as compared to $123.9 million during 2009. Net cash flow provided by operating activities before changes in operating assets and liabilities was $133.4 million during 2010 and $124.2 million during 2009. Changes in operating assets and liabilities during 2010 resulted in the use of cash of $72.2 million and principally reflect an increase in inventories to support the replenishment of inventories across the channels we serve from the intentionally low levels reached in 2009, growth in Halloween City locations and additional inventory build related to the


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Designware acquisition. Changes in operating assets and liabilities resulted in the use of cash of $0.2 million during 2009.
 
Net cash used in investing activities totaled $102.8 million during 2010 and $54.4 million during 2009. Investing activities for 2010 included $30.4 million paid in connection with the purchase of the Christy’s Group and $21.5 million paid in connection with the purchase of retail franchise stores. Capital expenditures totaled $49.6 million in 2010 compared to $26.2 million in 2009. Retail capital expenditures totaled $37.2 million in 2010 and were principally for FCPO conversions, store renovations and updated information systems, while wholesale capital expenditures totaled $12.4 million.
 
Net cash provided from financing activities was $46.5 million in 2010, compared to $70.2 million used in financing activities in 2009. During 2010, net cash provided by financing activities included $160.6 million from the refinancing of our asset based revolving credit facility and $675.0 million from the refinancing of our term loan credit facility. Cash provided by the refinancing of the revolving credit facility was principally used to pay off the $137.6 million balance on the prior revolving credit facility and the $19.2 million balance of the prior PCFG term loan. The remaining cash from financing under the revolving credit facility was principally used to pay down trade payables. Cash provided by the refinancing of the term loan credit facility was used to pay off the $341.6 million balance on the prior term loan credit facility and to pay a $301.8 million dividend to stockholders (excluding the $9.4 million stock compensation expense). Additionally, cash used in financing activities included scheduled payments on our long-term obligations that totaled $2.6 million compared to $11.0 million 2009.
 
Cash Flow Data — Year Ended December 31, 2009 Compared to Year Ended December 31, 2008
 
Net cash provided by operating activities totaled $123.9 million in 2009, as compared to $79.9 million in 2008. Net cash provided by operating activities before changes in operating assets and liabilities was $124.2 million for 2009 and $102.6 million for 2008. Changes in operating assets and liabilities resulted in the use of cash of $0.2 million in 2009 and $22.7 million in 2008. The increase in cash provided by operating activities during 2009 principally reflects an increase in income from operations and decreases in interest expense and inventory levels, partially offset by an increase in other assets.
 
Net cash used in investing activities totaled $54.4 million in 2009 and $51.2 million in 2008. Investing activities for 2009 included $24.9 million paid in escrow in connection with the acquisition of Designware. Retail capital expenditures, principally for store renovations and updated information systems, totaled $16.3 million in 2009, while wholesale capital expenditures totaled $9.9 million.
 
Net cash used in financing activities was $70.2 million in 2009 and $23.0 million in 2008. During 2009, the majority of cash used in financing activities was used to reduce borrowings under our revolving credit facility. Additionally, cash used in financing activities included scheduled payments on our long-term obligations that totaled $11.0 million in 2009 compared to $8.9 million during 2008. Scheduled payments during 2009 included an additional $2.5 million for payments on the PCFG term loan in connection with the amended credit agreement.


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Tabular Disclosure of Contractual Obligations
 
Our contractual obligations at December 31, 2010 are summarized by the year in which the payments are due in the following table (in thousands):
 
                                                         
    Total     2011     2012     2013     2014     2015     Thereafter  
 
Long-term debt obligations(a)
  $ 846,183     $ 6,810     $ 6,835     $ 6,860     $ 181,982     $ 5,737     $ 637,959  
Capital lease obligations(a)
    3,975       2,236       1,446       147       131       15        
Operating lease obligations(b)
    425,164       112,172       95,026       67,314       45,510       33,369       71,773  
Merchandise purchase commitments(c)
    81,600       26,700       27,200       27,700                    
Minimum product royalty obligations
    19,765       8,271       7,320       1,724       800       550       1,100  
                                                         
Total contractual obligations
  $ 1,376,687     $ 156,189     $ 137,827     $ 103,745     $ 228,423     $ 39,671     $ 710,832  
                                                         
 
 
(a) See Note 8 to our audited consolidated financial statements which are included elsewhere in this prospectus.
 
(b) We are also an assignor with continuing lease liability for sixteen stores sold to franchisees that expire through 2016. The assigned lease obligations continue until the applicable leases expire. The maximum amount of the assigned lease obligations may vary, but is limited to the sum of the total amount due under the lease. At December 31, 2010, the maximum amount of the assigned lease obligations was approximately $7.4 million and is not included in the table above.
 
The operating lease obligations included above do not include contingent rent based upon sales volume (which represented less than 1% of minimum lease obligations in 2010), or other variable costs such as maintenance, insurance and taxes. See Note 17 to our audited consolidated financial statements which are included elsewhere in this prospectus.
 
(c) We have certain purchase commitments with vendors requiring minimum purchase commitments through 2013.
 
At December 31, 2010 there were no non-cancelable purchase orders related to capital expenditures.
 
At December 31, 2010, there were $150.1 million of borrowings under our ABL Credit Agreement and standby letters of credit totaling $12.9 million.
 
Not included in the above table are $0.7 million of net potential cash obligations associated with unrecognized tax benefits due to the high degree of uncertainty regarding the timing of future cash outflows associated with such obligations. See Note 16 to our audited consolidated financial statements for further information related to unrecognized tax benefits.
 
Off-Balance Sheet Arrangements
 
We do not have any off-balance sheet arrangements.
 
Effects of Inflation
 
Although we expect that our operating results will be influenced by general economic conditions, we do not believe that inflation has had a material effect on our results of operations during the periods presented. However, there can be no assurance that our business will not be affected by inflation in the future.
 
Critical Accounting Policies and Estimates
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires the appropriate application of certain accounting policies, many of which require estimates and assumptions about future events and their impact on amounts reported in the financial statements and related notes. Since future events and their impact cannot be determined with certainty, the


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actual results will inevitably differ from our estimates. Such differences could be material to the consolidated financial statements included herein.
 
We believe our application of accounting policies, and the estimates inherently required by these policies, are reasonable. These accounting policies and estimates are constantly re-evaluated and adjustments are made when facts and circumstances dictate a change. Historically, we have found the application of accounting policies to be reasonable, and actual results generally do not differ materially from those determined using necessary estimates.
 
Revenue Recognition
 
Our terms of sale to retailers and other distributors are principally FOB shipping point and, accordingly, title and the risks and rewards of ownership are transferred to the customer, and revenue is recognized, when goods are shipped. We estimate reductions to revenues for volume-based rebate programs at the time sales are recognized. Should customers earn rebates higher than estimated by us, additional reductions to revenues may be required.
 
Revenue from retail operations is recognized at the point of sale. We estimate future retail sales returns and, when material, record a provision in the period that the related sales are recorded based on historical information. Should actual returns differ from our estimates, we would be required to revise estimated sales returns. Retail sales are reported net of taxes collected.
 
Store Closure Costs
 
We record estimated store closure costs, estimated lease commitment costs net of estimated sublease income and other miscellaneous store closing costs when the liability is incurred. Such estimates, including sublease income, may be subject to change.
 
Product Royalty Agreements
 
We enter into product royalty agreements that allow us to use licensed designs on certain of its products. These contracts require us to pay royalties, generally based on the sales of such product, and may require guaranteed minimum royalties, a portion of which may be paid in advance. We match royalty expense with revenue by recording royalties at the time of sale, at the greater of the contractual rate or an effective rate calculated based on the guaranteed minimum royalty and we estimate of sales during the contract period. If a portion of the guaranteed minimum royalty is determined to be unrecoverable, the unrecoverable portion is charged to expense at that time.
 
Doubtful Accounts
 
We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers and franchisees to make required payments. A considerable amount of judgment is required in assessing the ultimate realization of these receivables, including consideration of our history of receivable write-offs, the level of past due accounts and the economic status of our customers. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances would be required.
 
Inventories
 
Our policy requires that we state our inventories at the lower of cost or market. In assessing the ultimate realization of inventories, we are required to make judgments regarding, among other things, future demand and market conditions, current inventory levels and the impact of the possible discontinuation of product designs. If actual conditions are less favorable than those projected by us, additional inventory write-downs to market value may be required.
 
We estimate retail inventory shortage, for the period from the last inventory date to the end of the reporting period, on a store-by-store basis. Our inventory shortage estimate can be affected by changes in


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merchandise mix and changes in actual shortage trends. The shrinkage rate from the most recent physical inventory, in combination with historical experience, is the basis for estimating shrinkage.
 
Long-Lived and Intangible Assets
 
We review the recoverability of our long-lived assets, including definite-lived intangible assets other than goodwill, whenever facts and circumstances indicate that the carrying amount may not be fully recoverable. For purposes of recognizing and measuring impairment, we evaluate long-lived assets other than goodwill based upon the lowest level of independent cash flows ascertainable to evaluate impairment. If the sum of the undiscounted future cash flows expected over the remaining asset life is less than the carrying value of the assets, we may recognize an impairment loss. The impairment related to long-lived assets is measured as the amount by which the carrying amount of the asset exceeds the fair value of the asset. When fair values are not readily available, we estimate fair values using expected discounted future cash flows.
 
During 2010 and 2008, we instituted programs to convert our FCPO stores and our company-owned and franchised Party America stores to Party City stores and recorded fourth quarter non-cash charges of $27.4 million and $17.4 million, respectively, for the impairment of the FCPO and Party America trade names.
 
In the evaluation of the fair value and future benefits of finite long-lived assets attached to retail stores, we perform our cash flow analysis on a store-by-store basis. Various factors including future sales growth and profit margins are included in this analysis. To the extent these future projections or strategies change, the conclusion regarding impairment may differ from the current estimates.
 
Goodwill is reviewed for potential impairment, on an annual basis or more frequently if circumstances indicate a possible impairment, by comparing the fair value of a reporting unit with its carrying amount, including goodwill. We estimate the fair value of each reporting unit using expected discounted cash flows. If the carrying amount of a reporting unit exceeds its fair value, the excess, if any, of the fair value of the reporting unit over amounts allocable to the unit’s other assets and liabilities is the implied fair value of goodwill. If the carrying amount of a reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss will be recognized in an amount equal to that excess. The fair value of a reporting unit refers to the amount at which the unit as a whole could be sold in a current transaction between willing parties.
 
Insurance Accruals
 
Our consolidated balance sheet includes significant liabilities with respect to self-insured workers’ compensation, medical and general liability claims. We estimate the required liability for such claims based upon various assumptions, which include, but are not limited to, our historical loss experience, projected loss development factors, actual payroll and other data. The required liability is also subject to adjustment in the future based upon changes in claims experience, including changes in the number of incidents (frequency) and changes in the ultimate cost per incident (severity). Adjustments to earnings resulting from changes in historical loss trends have been insignificant. Further, we do not anticipate any significant change in loss trends, settlements or other costs that would cause a significant change in our earnings.
 
Income Taxes
 
Temporary differences arising from differing treatment of income and expense items for tax and financial reporting purposes result in deferred tax assets and liabilities that are recorded on the balance sheet. These balances, as well as income tax expense, are determined through management’s estimations, interpretation of tax law for multiple jurisdictions and tax planning. If our actual results differ from estimated results due to changes in tax laws or tax planning, our effective tax rate and tax balances could be affected. As such, these estimates may require adjustment in the future as additional facts become known or as circumstances change.
 
Our income tax returns have been regularly audited by the Internal Revenue Service and are periodically audited by various state and local jurisdictions. We reserve for uncertain tax positions according to the


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guidance of ASC 740-10 Income Taxes. See further discussion in Note 16 to our consolidated financial statements.
 
Stock-Based Compensation
 
On January 1, 2006, we adopted Statement of Financial Accounting Standards, Accounting Standards Codification or “ASC Subtopic 718 (“SFAS No. 123(R)”) “Share-Based Payment,” which is a revision of SFAS No. 123 “Accounting for Stock-Based Compensation” as amended. ASFAS No. 123(R) establishes standards for the accounting for transactions where an entity exchanges its equity for goods or services and transactions that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. ASC Subtopic 718 focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions. Generally, the fair value approach in ASC Subtopic 718 is similar to the fair value approach described in SFAS No. 123(R).
 
We adopted ASC Subtopic 718 using the prospective method. Since our common stock is not publicly traded, the options granted in 2005 under SFAS No. 123 continue to be expensed under the provisions of SFAS No. 123 using a minimum value method. Options issued subsequent to January 1, 2006 are expensed under the provisions of ASC Subtopic 718 (see Note 15).
 
Recently Issued Accounting Pronouncements
 
In July 2010, the FASB issued ASU 2010-20, “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses.” ASU 2010-20 requires increased disclosures about the credit quality of financing receivables and allowances for credit losses, including disclosure about credit quality indicators, past due information and modifications of finance receivables. The guidance is generally effective for reporting periods ending after December 15, 2010. There was no material impact from this update.
 
In December 2010, the FASB issued ASU 2010-29, “Business Combinations (Topic 805).” This update requires a public entity to disclose pro forma information for business combinations that occurred in the current reporting period and specifically requires the same information for the comparative prior period. This guidance is generally effective for annual reporting periods beginning on or after December 15, 2010. We do not anticipate any material impact from this update.
 
In January 2011, the FASB issued ASU 2011-01, “Deferral of the Effective Date of Disclosures about Troubled Debt Restructurings” in Update No. 2010-20. ASU 2011-01 defers the portion of ASU 2010-20 related to troubled debt disclosures. This guidance is anticipated to be effective for interim and annual periods ending after June 15, 2011. We do not anticipate any material impact from this update.
 
Quarterly Results
 
Despite a concentration of holidays in the fourth quarter of the year, as a result of our expansive product lines and wholesale customer base and increased promotional activities, the impact of seasonality on the quarterly results of our wholesale operations in recent years has been limited. Promotional activities, including special dating terms, particularly with respect to Halloween and Christmas products sold to retailers and other distributors in the third quarter, and the introduction of our new everyday products and designs during the fourth quarter generally result in higher accounts receivables and inventory balances. Our retail operations are subject to substantial seasonal variations. Historically, our retail stores have realized a significant portion of their net sales, net income and cash flow in the fourth quarter of the year, principally due to the sales in October for the Halloween season and, to a lesser extent, due to sales for end of year holidays.


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The following table sets forth our historical revenues, gross profit, income from operations and net income (loss), by quarter, for 2010 and 2009.
 
                                 
    For the Three Months Ended,  
    March 31,     June 30,     September 30,     December 31,  
    (Dollars in thousands)  
 
2010
                               
Revenues:
                               
Net sales
  $ 304,379     $ 352,705     $ 358,772     $ 563,821  
Royalties and franchise fees
    3,844       4,453       4,035       7,085  
Gross profit
    104,479       141,840       132,437       257,863  
Income from operations
    8,288       35,367       17,963       65,818 (a)
Net (loss) income attributable to Party City Holdings Inc. 
    (412 )     16,460       4,603       28,668 (a)
2009
                               
Revenues:
                               
Net sales
  $ 309,046     $ 337,536     $ 336,944     $ 483,798  
Royalties and franchise fees
    3,694       4,536       4,164       7,100  
Gross profit
    103,629       128,425       121,453       214,776  
Income from operations
    12,201       27,818       14,937       86,917  
Net income attributable to Party City Holdings Inc. 
    2,403       10,952       3,079       46,119  
 
 
(a) During the fourth quarter of 2010, we recorded a pre-tax charge of $27,400 to write off the FCPO trade name.
 
Quantitative and Qualitative Disclosures about Market Risk
 
Our earnings are affected by changes in interest rates as a result of our variable rate indebtedness. However, we utilize interest rate swap agreements to manage the market risk associated with fluctuations in interest rates. If market interest rates for our variable rate indebtedness averaged 2% more than the interest rate actually paid for the years ended December 31, 2010, 2009 and 2008, our interest expense, after considering the effects of our interest rate swap agreements, would have increased, and income before income taxes would have decreased, by $7.1 million, $6.7 million, and $7.3 million, respectively. These amounts are determined by considering the impact of the hypothetical interest rates on our borrowings and interest rate swap agreements. This analysis does not consider the effects of the reduced level of overall economic activity that could exist in such an environment. Further, in the event of a change of such magnitude, management would likely take actions to further mitigate our exposure to the change. However, due to the uncertainty of the specific actions that we would take and their possible effects, the sensitivity analysis assumes no changes in our financial structure.
 
Our earnings are also affected by fluctuations in the value of the U.S. dollar as compared to foreign currencies, predominately in European countries, as a result of the sales of our products in foreign markets. Although we periodically enter into foreign currency forward contracts to hedge against the earnings effects of such fluctuations, we (1) may not be able to achieve hedge effectiveness to qualify for hedge-accounting treatment and, therefore, would record any gain or loss on the fair value of the derivative in other expense (income) and (2) may not be able to hedge such risks completely or permanently. A uniform 10% strengthening in the value of the dollar relative to the currencies in which our foreign sales are denominated would have resulted in a decrease in gross profit of $6.7 million, $5.5 million, and $5.6 million for the years ended December 31, 2010, 2009 and 2008, respectively. These calculations assume that each exchange rate would change in the same direction relative to the U.S. dollar. In addition to the direct effects of changes in exchange rates, which could change the U.S. dollar value of the resulting sales, changes in exchange rates may also affect the volume of sales or the foreign currency sales price as competitors’ products become more or less attractive. Our sensitivity analysis of the effects of changes in foreign currency exchange rates does not factor in a potential change in sales levels or local currency prices.


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BUSINESS
 
Our Company
 
We are a global leader in decorated party supplies. We make it easy and fun to enhance special occasions with the widest assortment of innovative and exciting merchandise at a compelling value. With the 2005 acquisition of Party City, we created a vertically integrated business combining the leading product design, manufacturing and distribution platform, Amscan, with the largest U.S. retailer of party supplies. We have the industry’s broadest selection of decorated party supplies, which we distribute to over 100 countries. Our party superstore retail network consists of approximately 800 locations in the United States and is approximately 15 times larger than that of our next largest party superstore competitor. Our vertically integrated business model and scale differentiate us from other party supply companies and allow us to capture the manufacturing-to-retail margin on a significant portion of the products sold in our stores. We believe our widely recognized brands, broad product offering, low-cost global sourcing model and category-defining retail concept are significant competitive advantages. We believe these characteristics, combined with our vertical business model and scale, position us for continued organic and acquisition-led growth in the United States and internationally.
 
Founded in 1947, we started as a wholesaler and have grown to become the largest global designer, manufacturer and distributor of decorated party supplies. Today, through our wholesale activities, we offer the broadest selection of decorated party supplies with approximately 37,000 SKUs that range from paper and plastic tableware, decorations and metallic and latex balloons to novelties, costumes, party kits, stationery and gifts for everyday, themed and seasonal events. Our products are available in over 40,000 retail outlets worldwide, including our own retail network, independent party supply stores, dollar stores, mass merchants, grocery retailers and gift shops. We have a history of driving innovation in the category with an in-house product development team that over the last three years has introduced an average of 3,500 new products annually. Our global network of owned and third-party manufacturers combined with our state-of-the-art distribution systems position us to deliver high-quality, cost-competitive products with turnaround times and fill rates that we believe are among the best in the industry. We have long-term relationships with many of our wholesale customers, for whom we provide sales support through in-store signage, planogram support and product training. We believe that through our extensive offering of party supplies combined with industry-leading innovation, customer service levels and value, we will continue to win with our customers.
 
The acquisition of Party City represented an important step in the evolution of our business. Over the last five years, we have established the largest network of party supply stores in the United States with over 1,200 locations consisting of approximately 800 party superstores (including approximately 230 franchised stores), principally under the Party City banner, and a temporary Halloween network of over 400 temporary locations under the Halloween City banner. We are the only party supply retailer with a national footprint. We also operate PartyCity.com, our primary e-commerce site, which provides a convenient alternative shopping experience, a broader merchandise selection and party-planning ideas while also allowing us to reach markets where we do not currently have a retail presence. As underscored by our “Nobody Has More Party for Less” slogan, we believe we offer a superior one-stop shopping experience with a broad selection, high in-stock positions and compelling value, making us the favored destination for all of our customers’ party-supply needs. Over the last five years, we have steadily increased the selection of Amscan merchandise offered in Party City stores from approximately 25% to over 60%, allowing us to capture the manufacturing-to-retail margin on a significant portion of our retail sales.
 
We believe our scale and scope, extending from design and manufacturing to retail and e-commerce, provide numerous competitive advantages and opportunities for growth. Through a combination of organic growth and strategic acquisitions, we increased our consolidated revenues from $1,015 million in 2006 to $1,599 million in 2010, representing a compounded annual growth rate of 12.0%. Our Adjusted EBITDA has grown from $122 million in 2006 to $226 million in 2010, representing a compounded annual growth rate of 16.7%. Adjusted EBITDA as a percentage of revenues has increased 213 basis points from 12.0% in 2006 to 14.1% in 2010.


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Evolution of Our Business
 
Over the last 60 years, we have grown from a manufacturer and distributor of selected paper goods to a global, vertically integrated wholesaler and retailer of decorated party supplies. This evolution was accomplished organically and through strategic acquisitions that were successfully integrated over the years. More recently, we implemented and completed several strategic initiatives to further strengthen our business and position us for continued growth. Below we summarize some of our key acquisitions and strategic initiatives:
 
Enhancing Our Wholesale Platform
 
  •  The acquisition of Anagram International in 1998 and the subsequent acquisition of M&D Balloons in 2002 positioned us as the largest manufacturer and distributor of metallic balloons in the world.
 
  •  In 2001, we opened a new distribution center in Chester, New York, which was significantly expanded in 2005, for an aggregate investment of approximately $60 million. This state-of-the-art, approximately 900,000 square foot facility enables us to deliver industry-leading service levels to our third-party customers and network of company-owned stores.
 
  •  In 2003, we opened a Hong Kong office to support our Asian-based sourcing and sales organization that has grown to over 40 employees.
 
Establishing Retail Leadership and Our Vertically Integrated Model
 
  •  Through the acquisitions of Party City in 2005, Party America in 2006 and FCPO in 2007, we have become the largest party goods specialty retailer in the United States.
 
  •  Subsequent to our acquisition of Party City and other party store banners, we focused on rebranding acquired businesses and remerchandising our stores. Following each acquisition, we capitalized on our vertically integrated model by increasing the percentage of Amscan products available for sale at our retail stores, allowing us to capture the manufacturing-to-retail margin on a significant portion of our retail sales.
 
  •  Between 2006 and 2009, we converted all of the Party America company-operated stores to the Party City banner. In 2010 we began converting the FCPO stores to the Party City format; we converted 40 in 2010 and expect to have the remaining 93 FCPO stores converted to the Party City banner by the end of 2013.
 
  •  In 2007, we acquired Gags & Games Inc., the parent company of Halloween USA, which operated 94 locations, enabling us to enter the growing temporary Halloween business. Since the acquisition, we have grown to over 400 locations and changed the banner to Halloween City.
 
Re-Launching Our E-commerce Platform
 
  •  In August 2009, we re-launched PartyCity.com with e-commerce capabilities, providing us with an additional direct-to-consumer sales channel. Since the re-launch, we have grown our e-commerce revenues to over $40 million in 2010 as we continue to capitalize on our competitive advantages, which include a nationwide store base, strong brand recognition and vertical business model. The average basket size on our e-commerce site is approximately three times larger than it is in our Party City stores. We expect our e-commerce platform to continue to generate significant revenue growth as we execute our planned initiatives to drive traffic and increase customer interactions through social networking interfaces as well as through the four million email addresses that we have captured through our stores and website.
 
Broadening Products and Channel Reach
 
  •  Our March 2010 acquisition of the Designware party goods division from American Greetings strengthened our juvenile licensed character portfolio and enhanced our reach into the grocery retailers and mass merchant channels. In connection with this acquisition, American Greetings granted us rights to manufacture and distribute Designware-branded and licensed character-based products into select


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  retail venues, including the party supply store channel. We also agreed to supply substantially all of American Greetings’ party supply requirements, allowing us to grow our distribution with American Greetings, specifically in the mass market, drug and grocery retail channels.
 
  •  Our September 2010 acquisition of the Christy’s Group, a U.K.-based costume company, provided costume design and additional sourcing capabilities as well as additional resources in the U.K. and European markets. The Christy’s Group accelerates our entry into the costume wholesale business and enables us to further increase the percentage of our own products sold at Party City, Halloween City and PartyCity.com.
 
Growing International Presence
 
  •  In the past five years, we have grown our international operations, which now represent 6.9% of total revenues. We believe international sales are likely to grow to 10% to 15% of our total revenues over the next three to five years through organic and acquisition-generated growth.
 
  •  Our January 2011 acquisition of Riethmuller, which included the Malaysian operations of latex balloon manufacturer Everts Balloon, expanded our reach in Europe while also enabling us to directly supply a significant portion of our latex balloon requirements previously sourced from third-party vendors.
 
As a result of these investments, we have created a differentiated, vertically integrated business model. We believe that our superior selection of party supplies, scale, innovation and service positions us for future growth across all of our channels.
 
Competitive Strengths
 
We are well-positioned to continue to capitalize on the growing trend to celebrate life’s memorable events as a result of the following competitive strengths:
 
Leading Market Position with Industry Defining Brands.  Through our category-defining brands, Amscan and Party City, we are the largest vertically integrated provider of decorated party supplies in the world. Our history of growth and established global relationships have been driven by our broad selection of continuously updated and innovative merchandise at a compelling value. Additionally, with approximately 800 party superstores in 41 states, our domestic footprint is approximately 15 times larger than that of our next largest party superstore retail competitor. We believe that our scale, brand recognition and value proposition underscore our credibility as the destination of choice for party supplies in any channel.
 
Unique Vertically Integrated Operating Model.  We manufacture, source and distribute party supplies acting as a one-stop shop for party goods to both wholesale customers and end consumers through our company-owned retail network. Our vertically integrated model provides us with a number of advantages by allowing us to:
 
  •  enhance our profitability as we realize the manufacturing-to-retail margin on a significant portion of our retail sales;
 
  •  leverage our global sourcing network and scale to reinforce our position as the low-cost provider of quality party supplies;
 
  •  effectively respond to changes in consumer trends through our in-house design and innovation team;
 
  •  sustain high standards of product quality and safety;
 
  •  maintain greater control of the design, production, cost and introduction of new products across our multiple channels; and
 
  •  monitor sell-through at retail in real-time to limit markdowns and excessive promotions.


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Broad and Innovative Product Offering.  We offer the broadest and deepest product assortment in the party supply industry with approximately 37,000 SKUs available in wholesale and an average of 25,000 SKUs offered at any one time in our Party City superstores. Our extensive selection supports our leading position as the party supply destination as we offer customers a single source for all of their party needs. The majority of our products are designed and developed by a staff of approximately 135 artists and product developers who keep the product portfolio fresh and exciting. Our vertically integrated model allows our product development team to test new products and effectively respond to changes in consumer preferences. Over the last three years, we have introduced an average of 3,500 new products and 50 new party goods ensembles annually, and we believe that this ability to consistently introduce innovative items drives newness in our product offering and supports increased sales across our channels.
 
Category Defining Retail Concept.  With an average of 25,000 SKUs at any one time, we believe our Party City stores offer one of the most extensive selections in the industry. We keep our assortment current by frequently introducing new products, and we organize our stores by events and themes to make it easy to shop while consistently presenting customers with additional product ideas that will enhance their events and our sales. We also maintain high in-stock positions of core products and related items, so we are able to address party needs of any size. With our extensive selection, convenient locations, consistently high in-stock positions and compelling value proposition, we believe customers associate Party City with successful celebrations, and, as a result, our stores will continue to be seen as the favored destination for party supplies and innovative ideas for great parties.
 
Highly Efficient Global Sourcing and Distribution Capabilities.  Over the last 60 years, we have developed a global network of owned and third-party manufacturers that we believe optimizes speed to market, quality and cost. In 2010, we manufactured approximately 40% of our wholesale product sales, principally in the United States, with the balance sourced from low-cost, third-party manufacturers primarily in Asia. Our in-house manufacturing is focused on high-volume party essentials that can be manufactured through highly automated processes, such as paper and plastic tableware products and metallic balloons. We believe our manufacturing capabilities are cost-competitive and allow us to offer rapid turnaround times on key product categories. With respect to our third-party supply network, we have over 20-year relationships with many of our vendors and often represent a significant portion of their overall business. We also have warehousing and distribution facilities around the world including our state-of-the-art distribution center in Chester, New York, which has nearly 900,000 square feet under one roof. Our manufacturing, sourcing and distribution capabilities offer our company-owned stores, third-party retailers, distributors and our retail consumers best-in-class levels of service, rapid fulfillment and competitive prices.
 
World-Class Management Team with a Proven Track Record.  Our senior management team averages 20 years of industry experience and possesses a unique combination of management skills and experience in the party goods sector. Our team has operated the business during various economic cycles and through several business transformations. Mr. Rittenberg, our Chief Executive Officer, and Mr. Harrison, our Chief Operating Officer, have worked together at the Company for 15 years and have grown our business with an almost tenfold increase in revenues during that period. Additionally, our team has a strong track record of successful acquisitions and integrations, which continue to be an important part of our overall strategy.
 
Growth Strategy
 
We believe we have significant opportunities to enhance our leadership position in the party goods industry and improve profitability through the further implementation of our operating strategy both organically and through strategic acquisitions. Key elements of our growth strategy include:
 
Growing Market Share and Earnings.  We believe we have significant opportunities to continue to grow our business by capitalizing on our leading scale, vertical operating model and strong innovation capabilities as well as strategic acquisitions. Over the past five years, we have successfully grown our wholesale revenues at a 13.6% CAGR to $769 million in 2010 (including sales to company-owned Party


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City superstores). We will continue to broaden our product assortment by adding new party themed events and licenses. We recently began manufacturing and selling licensed themed party products for MLB, NBA and NHL teams and acquired Christy’s Group, which significantly enhanced our in-house costume capabilities. These and other opportunities will position us to continue to increase our market share and grow the percentage of our own products sold at retail, including our company-owned and franchised stores. Since the acquisition of Party City in 2005, we have increased the selection of Amscan merchandise offered in Party City stores from approximately 25% to over 60%, with a target of 70% to 75% over the long term. Our ability to create new and enhance existing celebration opportunities will continue to be a consistent driver of our growth.
 
Expand Our Retail Store Base.  Our retail network includes approximately 800 party superstores and over 400 temporary locations. We believe there is an opportunity to open more than 400 additional Party City stores in North America. Our primary focus over the past five years has been on optimizing our superstore base by integrating and rebranding acquired retail stores. In 2011, we plan to open 25 Party City stores and close five locations. Starting in 2012, we plan to open 25 to 35 Party City stores per year, representing annual company-owned party superstore growth of approximately 5%. Based on historical performance, we expect our new stores to have a payback period of approximately three years and to generate an average pre-tax cash-on-cash return on invested capital of approximately 50% in year four (including the margin generated from our vertical model).
 
Drive Additional Growth and Productivity From Existing Retail Stores.  We plan to grow our comparable store sales by continuing to improve our brand image and awareness and by converting FCPO stores to the Party City banner. In late 2009, we modified our advertising strategy to minimize our dependency on newspaper inserts and focus instead on a national broadcasting campaign to further develop brand awareness and expand our customer base. This shift, which emphasizes brand building and our price-value proposition, has resonated well with our customers. In addition, in 2010 we began converting our FCPO stores to the Party City banner and expect to have the remaining 93 FCPO stores converted to the Party City banner by the end of 2013. We expect the converted stores to realize an average sales improvement of approximately 10% in the first year following the conversion relative to the unconverted FCPO stores.
 
Increase International Presence.  International sales grew 15.1% in 2010 and currently comprise 6.9% of our total revenues. The market for party goods outside the United States is less mature due to lower consumer awareness of party products and less developed retail distribution channels. We believe international growth will be driven, in part, through increasing customization of our products to local tastes and holidays and the expansion of our retail presence, particularly through our store-within-a-store concept with selected international retailers. Our recent acquisitions of Christy’s Group and Riethmuller expanded our presence in select markets, including the U.K., Germany and Poland. We believe international sales are likely to grow to 10% to 15% of our total revenues over the next three to five years through organic and acquisition-led growth.
 
Grow Our E-commerce Platform.  In August 2009, we re-launched our primary e-commerce platform PartyCity.com, providing us with an additional direct-to-consumer sales channel. In 2010, e-commerce sales were over $40 million, representing approximately 3.6% of our total retail sales. We expect e-commerce will continue to experience significant growth as we increase online content for products, party ideas and promotional offerings, invest in additional online advertising to drive traffic and target customers through the four million email addresses that we have captured through our stores and website. Our dedicated e-commerce distribution center, located in Naperville, Illinois, provides sufficient capacity to support our growth plans.
 
Pursue Accretive Acquisitions.  Over the past 15 years, we have successfully integrated nine acquisitions, strengthening our manufacturing, distribution and retail platforms. We have also acquired, and will continue to acquire our franchised stores as such opportunities emerge. We believe our significant experience in identifying attractive acquisition targets, proven integration process and global infrastructure create a strong platform for future acquisitions. Through future acquisitions we can leverage


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our existing marketing, distribution and production capabilities, expand our presence in various retail distribution channels, further broaden and deepen our product lines and increase penetration in both domestic and international markets.
 
Industry Overview
 
We operate in the broadly defined $10 billion retail party goods industry (including decorative paper and plastic tableware, decorations, accessories and balloons), which is supported by a range of suppliers from commodity paper goods producers to party goods specialty retailers. Sales of party goods are fueled by everyday events such as birthdays, baby showers, weddings and anniversaries, as well as seasonal events such as holidays and other special occasions (Christmas, New Year’s Eve, graduations, Easter, Super Bowl, Fourth of July). As a result of numerous and diverse occasions, the U.S. party goods market enjoys broad demographic appeal. We also operate in the Halloween market, which represents a $6 billion retail opportunity and includes costumes, candy and makeup.
 
The retail landscape is comprised primarily of party superstores, dollar stores, mass merchants, grocery retailers and craft stores. The party superstore has emerged as the preferred destination for party goods shoppers, similar to the dominance of specialty retailers in other categories such as office supplies, pet products and sporting goods. This is typically due to the superstore chain’s ability to offer a wider variety of merchandise at more compelling prices in a convenient setting. Other retailers that cater to the party goods market typically offer a limited assortment of party supplies and seasonal items. Mass merchants tend to focus primarily on juvenile and seasonal goods, greeting cards and gift wrap; craft stores on decorations and seasonal merchandise; and dollar stores on general and seasonal party goods items.
 
The consumable nature and low per-item prices in the party goods market have historically driven demand among consumers seeking to enhance the quality of their gatherings and celebrations. Party goods are an economical means by which to make events and occasions more festive and as a result have continued to sell well during economic downturns. Manufacturers and retailers continue to create and market party goods and gifts that celebrate a greater number of events, holidays and occasions. Additionally, the number and types of products offered for each occasion continues to expand, encouraging add-on and impulse purchases by consumers.
 
Business Overview
 
We are the leading vertically integrated provider of decorated party goods with a national footprint of party superstores offering an unrivaled selection of party supplies. We have two primary reporting segments: Wholesale and Retail. In 2010, we generated 29.4% of our total revenues from our wholesale segment and 70.6% from our retail segment (which includes 1.2% of total revenues from franchising activities). Our wholesale revenues are generated from the sales of party goods for all occasions, including paper and plastic tableware, accessories and novelties, metallic and latex balloons, stationery and gift items. Our products are sold at wholesale to party goods superstores, including our company-owned and franchised retail stores, other party goods retailers, dollar stores, mass merchants, independent card and gift stores, and other retailers and distributors throughout the world. Our retail operations generate revenue primarily through the sale of Amscan and other party supplies through Party City, Halloween City and PartyCity.com. Our franchising revenues are generated from an initial one-time franchise fee, renewal fees and ongoing franchise royalty payments based on retail sales from the franchised stores.
 
Wholesale Operations
 
Overview
 
We are the leading designer, manufacturer and distributor of decorated party goods in the world, offering the industry’s most extensive selection with approximately 37,000 SKUs. We currently offer over 400 party goods ensembles, which range from approximately five to 100 design-coordinated items spanning tableware, accessories, novelties, balloons, decorations and gifts. The breadth of these ensembles enables retailers to promote additional sales of related products for every occasion. To enhance our customers’ celebrations of


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life’s important events, we market party goods ensembles for a wide variety of occasions, including seasonal and religious holidays, special events and themed celebrations.
 
Our Amscan, Anagram and Designware branded products are offered in over 40,000 retail outlets around the world, ranging from party goods superstores, including our company-owned and franchised retail stores, other party goods retailers, dollar stores, mass merchants, independent card and gift stores. We have long-term relationships with many of our wholesale customers for whom we provide sales support through in-store signage, planogram support and product training. Party goods superstores, the Company’s primary channel of distribution, provide consumers with a one-stop source for all of their party needs. Amscan, Anagram and Designware branded products represent a significant portion of party goods carried by both company-owned and third-party stores with the overall percentage continuing to increase, reflecting the breadth of our product line and, based on our scale, our ability to manufacture and source quality products at competitive prices.
 
The table below shows the breakdown of our total wholesale sales by channel for the year ended December 31, 2010.
 
         
Channel
  Sales
    ($ in millions)
 
Party City — owned stores
  $ 298  
Party City — franchised stores
    133  
Other retailers
    149  
Domestic and international balloon distributors
    96  
International
    93  
         
Total wholesale sales
  $ 769  
         
 
International party supply markets are generally less mature than the U.S. markets. However, we believe this will change over time, and we are making significant investments to ensure we are well positioned to benefit from growth in these markets. Investments include our September 2010 acquisition of Christy’s Group and the January 2011 acquisition of Riethmuller, both of which will provide us with an expanded international platform and lead to an increase of international sales as a percentage of our total sales in subsequent periods.
 
Product Lines
 
We have the industry’s most extensive selection of party supplies. The following table sets forth the principal products distributed by the Company, by product category, and the corresponding percentage of revenue that each category represents:
 
Wholesale Sales by Product for the Year Ended
December 31, 2010
 
             
Category
 
Items
  % of Sales
 
Tableware
  Plastic Plates, Paper Plates, Plastic Cups, Paper Cups, Paper Napkins, Plastic Cutlery, Tablecovers     33 %
Favors, Stationery & Other
  Party Favors, Gift Bags, Gift Wrap, Invitations, Bows, Stationery     27 %
Decorations
  Latex balloons, Piñatas, Crepes, Flags & Banners, Decorative Tissues, Stickers and Confetti, Scene Setters, Garland, Centerpieces     16 %
Metallic Balloons
  Bouquets, Standard 18 Inch Sing-A-Tune, SuperShapes, Weights     14 %
Costumes & Accessories
  Costumes, Other Wearables, Wigs     10 %


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Our products span a wide range of lifestyle events from birthdays to theme parties and sporting events, as well as holidays such as Halloween and New Year’s. Approximately 78% of our wholesale sales consist of items designed for everyday occasions, with the remaining 22% comprised of items used for holidays and seasonal celebrations throughout the year. Our product offerings cover the following broad range of occasions and life celebrations:
 
Current Product Offering
 
     
Everyday
 
Seasonal
 
Birthdays
  New Year’s
Anniversaries
  Valentine’s Day
Bar Mitzvahs
  St. Patrick’s Day
Bridal/Baby Showers
  Easter
Christenings
  Passover
Confirmations
  Fourth of July
First Communions
  Halloween
Graduations
  Fall
Theme-oriented*
  Thanksgiving
Weddings
  Hanukkah
 
 
Our theme-oriented ensembles enhance every celebration and include Bachelorette, Card Party, Casino, Chinese New Year, Cocktail Party, Disco, Fiesta, Fifties Rock-and-Roll, Hawaiian Luau, Hollywood, Mardi Gras, Masquerade, Patriotic, Retirement, Sports, Summer Barbeque and Western.
 
Product Development and Design Capabilities
 
Our 135 person in-house design staff continuously develops innovative and contemporary product designs and concepts. Our continued investment in art and design results in a steady supply of fresh ideas and the creation of unique ensembles that appeal to consumers. Our creative staff is constantly in the market identifying trends and new product concepts. Over the last three years, we have introduced an average of 3,500 new products and 50 new party goods ensembles annually. In addition, in 2011, our recently acquired Christy’s Group expects to introduce 150 Halloween costumes and 250 related accessories. Our proprietary designs and strength in developing new items at attractive prices help differentiate our products from those of our competitors.
 
Sales and Marketing
 
Our principal wholesale sales and marketing efforts are conducted through an employee sales force of approximately 100 professionals servicing approximately 15,000 retail accounts in the United States. In addition to the employee sales team, a select group of manufacturers’ representatives handles specific account situations. International customers are generally serviced by employees of our subsidiaries outside the United States. We have our own sales force of over 40 professionals in the U.K., Mexico, Canada, Germany, France, Spain and Hong Kong and operate through third-party distributors elsewhere. Our Anagram subsidiary utilizes a group of approximately 35 independent distributors in the United States to bring our metallic balloons to the grocery, retail gift and floral markets, as well as to our party superstore and specialty retailer customers. Additionally, through our agreement with American Greetings, we are able to leverage American Greetings’ sales force to place our product into other distribution channels, including mass market, drug and grocery retailers.
 
To support our sales and marketing efforts, we produce five key decorative party product catalogues annually (four catalogues for seasonal products and one catalogue for everyday products), with additional catalogues produced to market our metallic balloons and gift products and for international markets. We have also developed a website which displays and describes our product assortment and capabilities. We utilize this


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website as a marketing tool, providing us with the ability to announce special product promotions, new program launches and other information in an expeditious manner. To further promote our products, we participate in a variety of industry trade shows throughout the year.
 
We have long-term relationships with many of our wholesale customers for whom we provide sales support through in-store signage, planogram support and product training. We believe our value-added services contribute to our reputation as the one-stop shop for our customers.
 
Manufacturing and Sourcing
 
We are one of the largest manufacturers of decorated party goods products globally. Our in-house manufacturing capabilities enable us to control costs, monitor product quality, better manage inventory and provide more efficient order fulfillment. Our domestic manufacturing facilities allow us to react rapidly to changing consumer trends and fulfill our customers’ needs for key products with fast turnaround times. We manufacture approximately 40% of products we sell at wholesale. Our facilities in Rhode Island, Kentucky, Minnesota, New York, Mexico and Malaysia are highly automated and produce paper and plastic plates and cups, paper napkins, metallic and latex balloons and other party and novelty items at a globally competitive cost. State-of-the-art printing, forming, folding and packaging equipment support these manufacturing operations. Given our size and sales volume, we are generally able to operate our manufacturing equipment on the basis of at least two shifts per day, thus lowering production costs per unit. In select cases, we use available capacity to manufacture products for third parties which allows us to maintain a satisfactory level of equipment utilization.
 
The table below summarizes our manufacturing facilities.
 
         
        Approximate
Location
 
Principal Products
 
Square Feet
 
East Providence, Rhode Island
  Plastic plates, cups and bowls   229,230(1)
Louisville, Kentucky
  Paper plates   189,175
Eden Prairie, Minnesota
  Metallic balloons and accessories   115,600
Tijuana, Mexico
  Piñatas and other party products   100,000
Melaka, Malaysia
  Latex balloons   100,000
Harriman, New York   Paper napkins   74,400
Newburgh, New York
  Paper napkins and paper cups   52,400
 
 
(1) This figure represents an industrial park, which includes a 48,455 square foot office and warehouse.
 
Complementing our manufacturing facilities, we have a diverse global network of third-party suppliers that supports our strategy of consistently offering the broadest selection of high quality, innovative and competitively priced product. We have over 20-year relationships with many of our vendors and often represent a significant portion of their overall business. Third-party manufacturers supplied approximately 60% of product sold at wholesale in 2010. These manufacturers generally produce items designed by and created for us, are located in Asia and are managed by our sourcing office in Hong Kong. We actively work with our third-party suppliers to ensure product cost quality and safety.
 
The principal raw materials used in manufacturing our products are paper, petroleum-based resin and cotton. While we currently purchase such raw materials from a relatively small number of sources, paper, resin and cotton are available from numerous sources. Therefore, we believe our current suppliers could be replaced without adversely affecting our manufacturing operations in any material respect.
 
Product Safety and Quality Assurance
 
We are subject to regulatory requirements in the United States and internationally, and we believe that all products that we manufacture comply with the requirements in the markets in which they are sold. Third-party manufactured products are tested both at the manufacturing site and upon arrival at our distribution center. We


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have a full-time staff of 63 professionals in the United States, Asia and Europe dedicated to product safety and quality assurance.
 
Distribution and Systems
 
We ship our products directly to retailers and distributors throughout the world from our distribution facilities, as well as on an FOB basis directly from our domestic and international factories. Our electronic order entry and information systems allow us to manage our inventory with minimal obsolescence while maintaining strong fill rates and quick order turnaround time.
 
Our main distribution facility for domestic party and gift customers is located in Chester, New York with nearly 900,000 square feet under one roof. This state-of-the-art facility, built in 2001 and expanded in 2005, serves as the main point of distribution for our Amscan-branded products and utilizes paperless, pick-by-light systems, shipping an average of over 140,000 inners a day and offering superior inventory management including fill rate in excess of 95% and turnaround times as short as 48 hours. Over the last 10 years, we have invested over $60 million to customize and upgrade our Chester distribution facility and believe it has sufficient capacity to support our continued growth.
 
We utilize a by-pass system which allows us to ship products directly from selected third-party suppliers to our company-owned and franchised stores thus bypassing our distribution facilities. In addition to lowering our distribution costs, this by-pass system creates warehouse capacity. We expect to grow the percentage of our products shipped via by-pass which will lead to additional savings.
 
We sell metallic balloons domestically from our facilities in Minnesota and New York.
 
The distribution center for our e-commerce platform is located in Naperville, Illinois. We also have other distribution centers in the U.K., Germany, Mexico and Australia and, beginning in 2011, Germany and Poland, to support our international customers.
 
Retail Operations
 
Overview
 
Opening its first company-owned store in 1986, Party City grew to become the largest operator of owned and franchised party superstores in the United States. At the time of our acquisition in 2005, Party City operated 502 stores, including 254 franchised locations. Since the acquisition, we have expanded the Party City network to approximately 800 superstore locations, including approximately 230 franchised stores. We also operated over 400 temporary Halloween locations under the Halloween banner during fiscal year 2010.
 
The 2005 combination of Party City and Amscan has led to the creation of a vertically integrated business from which we derive a number of competitive advantages. We offer customers a differentiated shopping experience with extensive selection and consistently high in-stock positions of quality products with a compelling value proposition making us the premier destination for party supplies. Through our vertical model, we also enhance our total profitability by capturing the manufacturing-to-retail margin on a significant portion of our retail sales and by leveraging our access to multiple channels to limit mark-downs and excessive promotions. Moreover, we believe that our direct-to-consumer channels enable our product development teams to effectively respond to trends and changes in consumer preferences, which allows us to keep our assortment fresh and exciting.
 
Party City was founded on the idea that life should be celebrated in monumental ways, with a passion for inspiring celebrations — from Super Bowl to New Year’s Eve parties and all the celebrations and seasons in between. With our brand’s slogan, “Nobody Has More Party for Less”, Party City offers an assortment of party supplies, decorations and costumes perfect for every type of party occasion. With dynamic merchandising displays combined with organized seasonal aisles and hundreds of party themes to match any type of celebration, party planning has never been simpler or more fun.
 
In recent years, Party City has made substantial investments to enhance the customers’ in-store experience and become the ultimate retail destination for party supplies. Stores now showcase dynamic


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balloon counters displaying hundreds of balloons to coordinate with any occasion. Additionally, store-within-a-store concepts for sports, candy and party favors are focal points in all new stores. Aptly named “Sports City,” “Candy City” and “Favor City,” these specialty areas create a fun shopping environment, expand product offering and allow us to better showcase the merchandise.
 
The following table summarizes our company-owned retail footprint by format as well as our strategy going forward:
 
                             
    # of Stores as
    # of Stores as of
    Average Size of
     
Format
  of December 31, 2008     March 31, 2011     Stores (sq. ft.)     Strategy/Focus
 
Party City
    385       457       10,000-12,000     Grow the store base opening 25-35 new stores per year
Factory Card & Party Outlet (FCPO)
    166       77       10,000-12,000     Convert the remaining FCPO stores to Party City banner by the end of 2013
The Paper Factory and other outlets
    92       51       3,500-5,000     Product liquidation channel
Halloween City
    149*       404 *     5,000-20,000     Grow locations and improve profitability
 
 
* Represents Halloween City locations opened and operated during the preceding Halloween season. These locations operate only during the Halloween selling season typically from the day after Labor Day through November 1 of each year.
 
We believe that our stores are typically destination shopping locations. We seek to maximize customer traffic and quickly build the visibility of new stores by situating them in high traffic areas. Our stores are predominantly located in strip centers and are generally co-located with other destination retailers. Site selection criteria include population density, demographics, traffic counts, location of complementary retailers, storefront visibility and presence (either in a stand-alone building or in dominant strip shopping centers), competition, lease rates and accessible parking.
 
The following table shows the change in our company-owned Party City store network:
 
                                 
    As of
                   
    March 31,
                   
    2011     2010     2009     2008  
 
Stores open at beginning of period
    439       382       385       392  
Stores opened
    2       13       6       9  
FCPO stores converted to Party City
    16       40              
Stores acquired from franchisees
    3       20       3       5  
Stores closed
    (3 )     (10 )     (9 )     (10 )
Stores sold
          (6 )     (3 )     (11 )
                                 
Stores open at end of period
    457       439       382       385  
 
We spent the last five years integrating our retail acquisitions and rationalizing our store base. We believe there are more than 400 locations in North America that present opportunities for us to expand our party superstore base. In 2011, we plan to open 20 Party City stores net of five closures, as well as convert 20 FCPO stores to the Party City banner. Starting in 2012, we plan to open 25-35 Party City stores per year and continue to convert FCPO stores to the Party City banner. A new Party City location costs an average of $765,000, which includes $90,000 in pre-openings expenses and $350,000 of net startup inventory. A typical new store reaches approximately 80% maturity in the first year of operation and reaches maturity in its fourth year of operation. We target locations where stores have the potential to generate annual sales of at least


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$2 million at maturity and achieve consolidated pre-tax store contribution of approximately 18% to 20%. We expect our new stores to have a payback period of approximately three years and to generate an average pre-tax cash-on-cash return on invested capital of approximately 50% at maturity (including margin generated from our vertical model).
 
Merchandising
 
Our merchandising strategy is based on three core principles:
 
  •  Broad Assortment of Merchandise — We offer a greater assortment of products than our national competitors including mass merchants. Our products span a wide range of lifestyle events from birthdays to themed parties and sporting events, as well as holidays such as Halloween and New Year’s. A typical retail store offers a wide selection of Amscan and other merchandise consisting of an average of 25,000 SKUs at any one time to satisfy a broad range of styles and tastes.
 
  •  Deep Merchandise Selection — We maintain high in-stock positions of core products and related items, so we are able to address party needs of any size. These high in-stock positions are enabled by our vertical integration model, which results in a high percentage of Amscan merchandise in our company-owned stores and quick turnaround times.
 
  •  Compelling Value — Our pricing strategy is to provide the best value to our customers. Our vertically integrated business model enables us to provide our customers with leading prices for most of our product categories. We negotiate pricing with suppliers on behalf of all stores in our network (company-owned and franchised) and believe that our buying power enables us to receive favorable pricing terms and enhances our ability to obtain high demand merchandise. We reinforce our value message through our advertising and marketing campaigns with the “Nobody Has More Party for Less” slogan.
 
We generally organize the aisles in our stores into four-foot sections based on themed products, which include basic products like cups and plates and other coordinated accessories that enhance sales and customers’ shopping experience. This presentation makes it simple and easy for our customers to find all their party needs in one convenient location and allows us to achieve a higher average basket size compared to non-specialty channels. We manage each category by product and by SKU and use planograms to ensure a consistent merchandise presentation across our store base. Our coordinated product offering drives add-on purchases as customers are presented with additional decorations, favors and accessories that match their party theme. Our low individual price points encourage impulse buys by customers resulting in higher unit sales.
 
We have many product categories that relate to birthdays, making this event the largest non-seasonal occasion at approximately 20% of our total annual retail sales. We aim to be the pre-eminent resource for the party goods associated with birthday celebrations. Each birthday product category includes a wide assortment of merchandise to fulfill customer needs, including invitations, thank you cards, tableware, hats, horns, banners, cascades, balloons, novelty gifts, piñatas, favors and candy.
 
Halloween is our retail segment’s largest seasonal product category in dollars. As a key component of our sales strategy, our stores provide an extensive selection of Halloween products throughout the year to position us as the premier Halloween shopping destination. The stores also carry a broad array of related decorations and accessories for the Halloween season. In the year ended 2010, for our Party City branded stores, Halloween business represented approximately 25% of our total annual retail sales. To maximize our seasonal opportunity, the Company also operates a chain of temporary Halloween locations under the Halloween City banner during the months of September and October of each year. During 2010, our Halloween City locations generated revenues of approximately $101 million.
 
As a vertically integrated business, our wholesale operation is the largest supplier to our retail party superstores, providing 61%, 54% and 50% of the merchandise purchased for the years ended December 31, 2010, 2009 and 2008, respectively. The increase was primarily driven by our expanded Amscan product offerings, rebranding and remerchandising of the FCPO stores and increased utilization of our by-pass


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initiative. We expect this percentage to reach 70% to 75% over the long term mainly driven by additional product capabilities including products provided through the recently acquired Christy’s Group.
 
We also offer products supplied by other vendors, which include licensed products, candies, greeting cards and costumes. In 2010, no other supplier accounted for more than 10% of our retail segment’s purchases.
 
E-commerce
 
In August 2009, we re-launched e-commerce capabilities through PartyCity.com, providing us with an additional direct-to-consumer sales channel. Our website offers a convenient, user-friendly, and secure online shopping option for new and existing customers. In addition to the ability to order products, we expect our website to provide a substantial amount of content about our party products, party planning ideas and promotional offers. Our website will also be one of our key marketing vehicles, specifically as it relates to social marketing initiatives.
 
Compared to our Party City superstores, PartyCity.com offers a broader assortment of products with over 35,000 SKUs available online versus an average of 25,000 SKUs at any one time in our party superstores. By seamlessly linking our website to our store network, we intend to offer our customers the option to purchase products online which are not physically available at the store.
 
We also operate PartyAmerica.com which has a commercial arrangement with Amazon.com, Inc. to supply party goods.
 
In 2010, sales from e-commerce were over $40 million or approximately 3.6% of total retail sales. We believe that our website is well positioned to continue to capture market share of online purchases, which represent one of the fastest growing distribution channels for party related goods, as we capitalize on our competitive advantages which include a nationwide store base, strong brand recognition and vertical integration. The average basket size through our e-commerce site is approximately three times as large as the average basket size in our Party City stores. We plan to drive future traffic to our website through continuation of our pay-per-click advertising strategy, implementation of a CRM initiative, which we have just started testing, and through the four million email addresses that we have captured through our stores and website.
 
Advertising and Marketing
 
Our advertising focuses on promoting specific seasonal occasions and general party themes, with a strong emphasis on our price-value proposition — “Nobody Has More Party for Less” — with the goal of increasing customer traffic and further building our brand. In late 2009, we modified our advertising strategy to minimize our dependency on newspaper inserts and focus instead on a national broadcasting campaign to further develop brand awareness and expand our customer base. This shift, which emphasizes brand building and our price-value proposition, has resonated well with our customers. As a result, our use of newspaper inserts has decreased from 71% of gross advertising spend in 2008 to 30% in 2010 while the use of national broadcasts has increased from 3% to 43% over the same period. We expect to continue to increase the use of national broadcasting to enhance our overall brand awareness with consumers.
 
Franchise Operations
 
As of March 31, 2011, we had 229 franchised stores throughout the United States and Puerto Rico. Stores run by franchisees utilize our format, design specifications, methods, standards, operating procedures, systems and trademarks. Our wholesale sales to our franchised stores generally mirror, with respect to relative size,


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mix and category, those to our company-owned stores. The following table shows the change in our franchise-owned store network:
 
                                 
    As of
                   
    March 31,
                   
    2011     2010     2009     2008  
 
Stores open at beginning of period
    232       250       273       283  
Stores opened/acquired by existing franchisees
          7       5       20  
Stores sold to the Company
    (3 )     (20 )     (3 )     (5 )
Stores closed or converted to independent
          (5 )     (25 )     (25 )
                                 
Stores open at end of period
    229       232       250       273  
 
We are not currently marketing nor plan to market new franchise territories.
 
We receive revenue from our franchisees, consisting of an initial one-time fee and ongoing royalty fees generally ranging from 4% to 6%. In exchange for these franchise fees, franchisees receive brand value and company support with respect to planograms, information technology, purchasing and marketing. In addition, each franchisee has a mandated advertising budget, which consists of a minimum initial store opening promotion and ongoing local advertising and promotions. Further, franchisees must pay an additional 1% to 2.25% of net sales to a group advertising fund to cover common advertising materials. The Company pays the franchisee a reverse royalty on e-commerce sales originating within the franchisee’s territory. The franchisee territory and the amount of the reverse royalty are based on several factors, including the profitability of our e-commerce operation and the territorial coverage of franchisee advertising. We do not offer financing to our franchisees for one-time fees or ongoing royalty fees. Our franchise agreements provide us with a right of first refusal should any franchisee look to dispose of its operation(s).
 
Current franchise agreements provide for an assigned area or territory that typically equals a three- or four-mile radius from the franchisee’s store location and the right to use the Party City® and Party America® logos and trademarks. In addition, certain agreements with our franchisees and other business partners contain geographic limitations on opening new stores. In most stores, the franchisee or the majority owner of a corporate franchisee devotes full time to the management, operation and on-premises supervision of the stores or groups of stores.
 
Information Systems
 
We continually evaluate and upgrade our information systems to enhance the quantity, quality and timeliness of information available to management and to improve the efficiency of our manufacturing and distribution facilities as well as our service at the store level. We have implemented merchandise replenishment software to complement our distribution, planning and allocation processes. The system enhances the store replenishment function by improving in-stock positions, leveraging our distribution infrastructure and allowing us to become more effective in our use of store labor. We have implemented a new Point of Sale system and upgraded merchandising systems to standardize technology across all of our retail superstores and, in 2010, we implemented similar systems at our temporary Halloween City locations. In addition, in 2010, our retail operations implemented a system conversion to upgrade and enhance the current Oracle system in order to maintain support, streamline divisional reporting and allow for future growth.
 
Competition
 
In our wholesale segment, we compete primarily on the basis of diversity and quality of our product designs, breadth of product line, product availability, price, reputation and customer service. Although we have many competitors with respect to one or more of our products, we believe that there are no competitors who design, manufacture, source and distribute products with the complexity of design and breadth of product lines that we do. Furthermore, our design and manufacturing processes create efficiencies in manufacturing that few of our competitors can achieve in the production of numerous coordinated products in multiple design types. Competitors include smaller independent specialty manufacturers, as well as divisions or subsidiaries of large


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companies. Certain of these competitors control various party goods product licenses for widely recognized images, such as cartoon or motion picture characters, which could provide them with a competitive advantage. However, we control a strong portfolio of character licenses for use in the design and production of our metallic balloons and, as a result of the acquisition of Designware, we have access to a strong portfolio of character and other licenses for party goods.
 
In our retail segment, our stores compete primarily on the basis of product mix and variety, store location and layout, customer convenience and value. Although we compete with a variety of smaller and larger retailers, including, but not limited to, independent party goods supply stores, specialty stores, dollar stores, warehouse/merchandise clubs, drug stores, mass merchants and catalogue and Internet merchandisers, we believe that our retail stores maintain a leading position in the party goods business by offering a wider breadth of merchandise than most competitors and a greater selection within merchandise classes, at a compelling value. We are one of the only vertically integrated suppliers of decorated party goods. While some of our competitors in our markets have greater financial resources, we believe that our significant buying power, which results from the size of our retail store network and the breadth of our assortment, is an important competitive advantage. Many of our retail competitors are also customers of our wholesale business.
 
Employees
 
As of December 31, 2010, we had approximately 5,470 full-time employees and 7,950 part-time employees, none of whom is covered by a collective bargaining agreement. We consider our relationship with our employees to be good.
 
Copyrights and Trademarks
 
We hold copyright registrations on the designs we create and use on our products and trademark registrations on the words and designs used on or in connection with our products. It is our practice to register our copyrights with the United States Copyright Office and trademarks with the United States Patent and Trademark Office to the extent we deem necessary. In addition, we rely on unregistered trademarks and copyrights under U.S. common law rights to distinguish and/or protect our products, services and branding. We do not believe that the loss of copyrights or trademarks with respect to any particular product or products would have a material adverse effect on our business. We hold numerous intellectual property licenses from third parties, allowing us to use various third-party cartoon and other characters and designs principally on our metallic balloons. None of these licenses is individually material to our aggregate business.
 
We permit our franchisees to use a number of our trademarks and service marks, including Party City®, The Discount Party Super Store®, Halloween Costume Warehouse®, Party America®, The Paper Factory®, The Factory Card & Party Outlet® and Halloween City®.
 
Government Regulation
 
As a franchisor, we must comply with regulations adopted by the Federal Trade Commission, such as the Trade Regulation Rule on Franchising, which requires us, among other things, to furnish prospective franchisees with a franchise offering circular. We also must comply with a number of state laws that regulate the offer and sale of our franchises and certain substantive aspects of franchisor-franchisee relationships. These laws vary in their application and in their regulatory requirements. State laws that regulate the offer and sale of franchises typically require us to, among other things, register before the offer and sale of a franchise can be made in that state and to provide a franchise offering circular to prospective franchisees.
 
State laws that regulate the franchisor-franchisee relationship presently exist in a substantial number of states. Those laws regulate the franchise relationship, for example, by restricting a franchisor’s rights with regard to the termination, transfer and renewal of a franchise agreement (for example, by requiring “good cause” to exist as a basis for the termination and the franchisor’s decision to refuse to permit the franchisee to exercise its transfer or renewal rights), by requiring the franchisor to give advance notice to the franchisee of the termination and give the franchisee an opportunity to cure most defaults. To date, those laws have not precluded us from seeking franchisees in any given area and have not had a material adverse effect on our operations.


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Our wholesale and retail operations must also comply with applicable regulations adopted by federal agencies, including product safety regulations, and with licensing and other regulations enforced by state and local health, sanitation, safety, fire and other departments. Difficulties or failures in obtaining the required licenses or approvals can delay and sometimes prevent the opening of a new store or the shutting down of an existing store.
 
Our operations must comply with applicable federal and state environmental regulations, although the cost of complying with these regulations to date has not been material. More stringent and varied requirements of local governmental bodies with respect to zoning, land use, and environmental factors can delay, and sometimes prevent, development of new stores in particular locations.
 
Our operations must comply with the Fair Labor Standards Act and various state laws governing various matters such as minimum wages, overtime and other working conditions. Our operations must also comply with the provisions of the Americans with Disabilities Act, which requires that employers provide reasonable accommodation for employees with disabilities and that stores must be accessible to customers with disabilities.
 
Properties
 
We maintain the following facilities for our corporate and retail headquarters and to conduct our principal design, manufacturing and distribution operations:
 
             
            Owned or Leased
        Approximate
  (With
    Principal
  Square
  Expiration
Location
 
Activity
 
Feet
 
Date)
 
Elmsford, New York
  Executive and other corporate offices, show rooms, design and art production for party products   119,469 square feet   Leased (expiration date: December 31, 2014)
Rockaway, New Jersey
  Party City corporate offices   106,000 square feet   Leased (expiration date: July 31, 2017)
East Providence, Rhode Island
  Manufacture and distribution of plastic plates, cups and bowls   229,230(1) square feet   Leased (expiration date: April 26, 2011)
Louisville, Kentucky
  Manufacture and distribution of paper plates   189,175 square feet   Leased (expiration date: March 31, 2013)
Eden Prairie, Minnesota
  Manufacture of metallic balloons and accessories   115,600 square feet   Owned
Tijuana, Mexico
  Manufacture and distribution of party products   100,000 square feet   Leased (expiration date: August 15, 2015)
Melaka, Malaysia
  Manufacture and distribution of latex balloons   100,000 square feet   Leased (expiration date: May 30, 2072)
Harriman, New York
  Manufacture of paper napkins   74,400 square feet   Leased (expiration date: March 31, 2016)
Newburgh, New York
  Manufacture of paper napkins and cups   52,400 square feet   Leased (expiration date: May 31, 2012)


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            Owned or Leased
        Approximate
  (With
    Principal
  Square
  Expiration
Location
 
Activity
 
Feet
 
Date)
 
Skoczow, Poland
  Manufacture and distribution of party goods   44,400 square feet   Leased (expiration date: December 31, 2012)
Eden Prairie, Minnesota
  Manufacture of retail, trade show and showroom fixtures   15,324 square feet   Leased (expiration date: July 31, 2012)
Chester, New York(2)
  Distribution of party and gift products   896,000 square feet   Owned
Naperville, Illinois
  Distribution of party goods for e-commerce sales   440,343 square feet   Leased (expiration date: December 31, 2018)
San Bernadino, California
  Distribution of party goods for Halloween City   244,000 square feet   Leased (month to month)
Kircheim unter Teck, Germany
  Distribution of party goods   215,000 square feet   Owned
Milton Keynes, Buckinghamshire, England
  Distribution of party products throughout Europe   130,858 square feet   Leased (expiration date: June 30, 2017)
Edina, Minnesota
  Distribution of metallic balloons and accessories   122,312 square feet   Leased (expiration date: December 31, 2015)
Blackstown, Australia
  Distribution of party goods   27,631 square feet   Leased (expiration date: November 13, 2014)
Dorval, Canada
  Distribution of party and gift products   19,330 square feet   Leased (expiration date: March 31, 2012)
Livonia, Michigan
  Office and distribution of party goods for Halloween City   89,780 square feet   Leased (expiration date: May 31, 2014)
Atlanta, Georgia
  Office and storage facilities   15,012 square feet   Leased (expiration date: April 30, 2013)
Pleasanton, California
  Office for e-commerce sales   11,278 square feet   Leased (expiration date: June 18, 2015)
 
 
(1) This figure represents an industrial park, which includes a 48,455 square foot office and warehouse.
 
(2) Property is subject to a lien mortgage note in the original principal amount of $10.0 million with the New York State Job Development Authority. The lien mortgage note was amended on December 18, 2009. The amended mortgage note for $5.6 million was extended for a period of 60 months and requires fixed monthly payments of principal and interest. At December 31, 2010, the lien mortgage note has a balance of $4.5 million.
 
In addition to the facilities listed above, we maintain smaller distribution facilities in Canada and Mexico. We also maintain sales offices in Australia, Canada, Hong Kong and Japan and showrooms in New York, California, Georgia, Texas, Canada and Hong Kong.

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As of December 31, 2010, company-owned and franchised retail stores were located in the following states and Puerto Rico:
 
                         
State
  Company-owned     Franchise     Chain-wide  
 
Alabama
    2       8       10  
Arizona
    1       20       21  
Arkansas
    1       3       4  
California
    86       18       104  
Colorado
    14       1       15  
Connecticut
    4       2       6  
Delaware
    1       1       2  
Florida
    54       10       64  
Georgia
    26       1       27  
Hawaii
    0       2       2  
Illinois
    61       0       61  
Indiana
    27       0       27  
Iowa
    9       1       10  
Kansas
    3       4       7  
Kentucky
    7       0       7  
Louisiana
    3       8       11  
Maryland
    14       12       26  
Michigan
    31       0       31  
Minnesota
    0       21       21  
Mississippi
    1       3       4  
Missouri
    19       3       22  
Montana
    0       1       1  
Nebraska
    5       0       5  
Nevada
    6       0       6  
New Hampshire
    1       0       1  
New Jersey
    26       2       28  
New Mexico
    0       3       3  
New York
    45       14       59  
North Carolina
    2       19       21  
North Dakota
    0       3       3  
Ohio
    31       0       31  
Oklahoma
    2       0       2  
Oregon
    2       5       7  
Pennsylvania
    17       14       31  
Puerto Rico
    0       5       5  
South Carolina
    2       6       8  
Tennessee
    7       10       17  
Texas
    41       21       62  
Virginia
    10       9       19  
Washington
    15       2       17  
West Virginia
    2       0       2  
Wisconsin
    18       0       18  
                         
Total
    596       232       828  
                         


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In 2010, the Company operated 404 temporary Halloween locations under the Halloween City banner. Under this program, we operate temporary stores under short-term leases with terms of approximately four months, to cover the early September through early November Halloween season.
 
We lease the property for all of our company-owned stores. We do not believe that any individual store property is material to our financial condition or results of operations. Of the leases for the company-owned stores, 98 expire in 2011, 121 expire in 2012, 119 expire in 2013, 84 expire in 2014, 40 expire in 2015 and the balance expire in 2016 or thereafter. We have options to extend many of these leases for a minimum of five years.
 
We believe that our properties have been adequately maintained, are in generally good condition and are suitable for our business as presently conducted. We believe our existing manufacturing facilities provide sufficient production capacity for our present needs and for our anticipated needs in the foreseeable future. To the extent such capacity is not needed for the manufacture of our products, we generally use such capacity for the manufacture of products for others pursuant to terminable agreements. All manufacturing and distribution facilities generally are used on a basis of two shifts per day. We also believe that, upon the expiration of our current leases, we will be able either to secure renewal terms or to enter into leases for alternative locations at market terms.


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MANAGEMENT
 
Set forth below are the names, ages and positions with the Company of the persons who are serving as directors and executive officers of the Company at March 31, 2011.
 
             
Name
 
Age
 
Position
 
Gerald C. Rittenberg
    59     Chief Executive Officer and Director
James M. Harrison
    59     President, Chief Operating Officer and Director
Michael A. Correale
    53     Chief Financial Officer
Gregg A. Melnick
    41     President, Party City Retail Group
Robert J. Small
    45     Chairman of the Board of Directors
Steven J. Collins
    42     Director
Michael F. Cronin
    57     Director
Kevin M. Hayes
    42     Director
Jordan A. Kahn
    69     Director
William Kussell
    52     Director
Richard K. Lubin
    64     Director
Carol M. Meyrowitz
    57     Director
David M. Mussafer
    47     Director
 
Our directors have been selected pursuant to the terms of a Stockholders’ Agreement, described more fully below, and the terms of our certificate of incorporation. That agreement and those charter provisions will no longer be in force following the completion of this offering.
 
Gerald C. Rittenberg became our Chief Executive Officer in December 1997. From May 1997 until December 1997, Mr. Rittenberg served as acting Chairman of the Board. Prior to that time, Mr. Rittenberg served as our President from October 1996. Mr. Rittenberg’s extensive experience in the decorated party goods industry, his 20-year tenure, his role as our Chief Executive Officer and the requirements of the Stockholders’ Agreement led to the conclusion that he should serve as a director of our Company.
 
James M. Harrison became our President in December 1997 and our Chief Operating Officer in March 2002. From February 1997 to March 2002, Mr. Harrison also served as our Chief Financial Officer and Treasurer. From February 1997 to December 1997, Mr. Harrison served as our Secretary. Mr. Harrison’s extensive experience in the decorated party goods industry, his 14-year tenure, his role as our President and Chief Operating Officer and the requirements of the Stockholders’ Agreement led to the conclusion that he should serve as a director of our Company.
 
Michael A. Correale became our Chief Financial Officer in March 2002. Prior to that time, Mr. Correale served as our Vice President — Finance, from May 1997 to March 2002.
 
Gregg A. Melnick became President of Party City Retail Group in March 2011. From May 2010 to February 2011, Mr. Melnick was President of Party City Corporation. Previously, he was Chief Operating Officer from October 2007 to April 2010, and Chief Financial Officer from September 2004 to September 2007.
 
Robert J. Small became one of our directors upon the consummation of the acquisition of the Company by Berkshire Partners and Weston Presidio (“the 2004 Transactions”). Mr. Small, a Managing Director of Berkshire Partners LLC, which he joined in 1992, currently serves on the board of directors of TransDigm Group Incorporated. Mr. Small has also served on the board of directors of Hexcel Corporation and several privately held companies. Mr. Small’s experience serving as a director of both public and private companies and his affiliation with Berkshire Partners, which has the right to select three directors, led to the conclusion that he should serve as a director of our Company.
 
Steven J. Collins has been a member of our Board since August 2008. Mr. Collins, a Managing Director of Advent International, which he joined in 1995, is currently a member of the board of directors of


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Kirkland’s, Inc. and previously served on the board of directors of lululemon athletica inc. and several privately held businesses. Mr. Collins received a B.S. from the Wharton School of the University of Pennsylvania and an M.B.A. from the Harvard Business School. Mr. Collins’ experience serving as a director of public and private companies and his affiliation with Advent International, whose Class B common stock holdings entitle it to elect up to three directors, led to the conclusion that he should serve as a director of our Company.
 
Michael F. Cronin became one of our directors upon the consummation of the 2004 Transactions. From 1991 to the present, Mr. Cronin has served as Managing Partner of Weston Presidio. Mr. Cronin also serves as a director of several privately held companies. Mr. Cronin’s experience serving as a director of public and private companies and his affiliation with Weston Presidio, which has the right to select three directors, led to the conclusion that he should serve as a director of our Company.
 
Kevin M. Hayes became one of our directors upon the consummation of the 2004 Transactions. Mr. Hayes is a Partner of Weston Presidio and has served in that position since 2000. Mr. Hayes also serves as a director of several privately held companies. Mr. Hayes’ experience serving as a director of private companies and his affiliation with Weston Presidio, which has the right to select three directors, led to the conclusion that he should serve as a director of our Company.
 
Jordan A. Kahn became a director in January 2005.  Mr. Kahn was the founder and Chairman of the Board of Directors of The Holmes Group and served as President and Chief Executive Officer of the Holmes organization from 1982 through 2005. Since 1968, Mr. Kahn has also been Managing Director of Jordan Kahn Co., Inc., a manufacturer’s representative representing small electric personal appliance manufacturers to retailers across the Northeast. Mr. Kahn’s experience as the founder and chief executive officer of a company that develops, manufactures and sells consumer products worldwide led to the conclusion that he should serve as a director of our Company.
 
William Kussell became a director in October 2010.  Mr. Kussell is an Operating Partner at Advent International, focusing on the North American Consumer Retail Segment. Prior to joining Advent International, he was President and Chief Brand Officer for Dunkin Donuts World Wide. Mr. Kussell’s experience as the president of a retail food company with a well-known brand and his association with Advent International led to the conclusion that he should serve as a director of our Company.
 
Richard K. Lubin became one of our directors upon the consummation of the 2004 Transactions. Mr. Lubin, a Managing Director of Berkshire Partners LLC, which he co-founded in 1986, currently serves on the board of directors SSI Pooling GP, Inc., the parent company of SkillSoft Limited. Mr. Lubin has also served on the board of directors of Electro-Motive Diesel, Holmes Products Corporation, U.S. Can Corporation and numerous privately held companies. Mr. Lubin’s experience serving as a director of both public and private companies and his affiliation with Berkshire Partners, which has the right to select three directors, led to the conclusion that he should serve as a director of our Company.
 
Carol M. Meyrowitz became a director in August 2006. Ms. Meyrowitz is currently a Director and President and Chief Executive Officer of The TJX Companies, Inc., a retailer of home products and fashions, where she has had extensive management experience since 1983. Ms. Meyrowitz also serves as a director of Staples, Inc. and is a member of the Board of Overseers for the Joslin Diabetes Center. Ms. Meyrowitz also served on the board of directors of the Yankee Candle Company from 2004 through 2007. Ms. Meyrowitz’s experience as the chief executive officer of a well-known retailer of fashion and home products led to the conclusion that she should serve as a director of our Company.
 
David M. Mussafer has been a member of our Board since August 2008. Mr. Mussafer, a Managing Partner of Advent International, which he joined in 1990, previously served on the board of directors of Dufry AG, Kirkland’s, Inc. and lululemon athletica inc. Mr. Mussafer also serves as a director of several privately held companies. Mr. Mussafer received a B.S.M. from Tulane University and an M.B.A. from the Wharton School of the University of Pennsylvania. Mr. Mussafer’s experience serving as a director of public and private companies and his affiliation with Advent International, whose Class B common stock holdings entitle it to elect up to three directors, led to the conclusion that he should serve as a director of our Company.


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In addition to the individual attributes of each of our directors listed above, we highly value the collective qualifications and experiences of our board members. We believe the collective viewpoints and perspectives of our directors results in a board that is dedicated to advancing the interests of our stockholders.
 
Composition of our Board of Directors
 
Upon the completion of this offering, the terms of office of members of our board of directors will be divided into three classes:
 
  •  Class I directors, whose terms will expire at the annual meeting of stockholders to be held in 2012;
 
  •  Class II directors, whose terms will expire at the annual meeting of stockholders to be held in 2013; and
 
  •  Class III directors, whose terms will expire at the annual meeting of stockholders to be held in 2014.
 
Our Class I directors will be          , our Class II directors will be           and our Class III directors will be          . At each annual meeting of stockholders, the successors to the directors whose terms will then expire will be elected to serve from the time of election and qualification until the third annual meeting following such election and until their successors are elected. Any vacancies in our classified board of directors will be filled by the remaining directors, and the elected person will serve the remainder of the term of the class to which he or she is appointed. Any additional directorships resulting from an increase in the number of directors will be distributed among the three classes so that, as nearly as possible, each class will consist of one-third of the directors.
 
Prior to the completion of this offering, our board of directors will make a determination about the independence of the existing and new members of the board of directors by reference to the standards of the          . Immediately following the completion of this offering, we expect that a majority of our board of directors will be independent.
 
Board Structure and Committee Composition
 
Our board of directors has established, or will establish prior to the completion of this offering, an audit committee, a compensation committee and a nominating and corporate governance committee. Each committee will operate under a charter that will be approved by our board of directors. The composition of each committee will be effective upon the closing of this offering.
 
Audit Committee
 
The Audit Committee’s primary duties and responsibilities will be to:
 
  •  appoint, compensate, retain and oversee the work of any registered public accounting firm engaged for the purpose of preparing or issuing an audit report or performing other audit, review or attest services and review and appraise the audit efforts of our independent accountants;
 
  •  establish procedures for the receipt, retention and treatment of complaints regarding accounting, internal accounting controls or auditing matters;
 
  •  engage independent counsel and other advisers, as necessary;
 
  •  determine funding of various services provided by accountants or advisers retained by the committee;
 
  •  serve as an independent and objective party to oversee our internal controls and procedures system; and
 
  •  provide an open avenue of communication among the independent accountants, financial and senior management and the board of directors.
 
Upon completion of this offering, the Audit Committee will consist of           and will have at least           independent director(s) and at least one audit committee financial expert. Prior to the completion of this offering, our board of directors will adopt a written charter under which the Audit Committee will


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operate. A copy of the charter, which will satisfy the applicable standards of the SEC and the          , will be available on our web site.
 
Compensation Committee
 
The purpose of the Compensation Committee is to review and approve the compensation of our executives. The Compensation Committee approves compensation objectives and policies as well as compensation plans and specific compensation levels for all executive officers. Upon completion of this offering, the Compensation Committee will consist of and will have at least          independent director(s). Prior to the completion of this offering, our board of directors will adopt a written charter under which the Compensation Committee will operate. A copy of the charter, which will satisfy the applicable standards of the SEC and the          , will be available on our web site.
 
Nominating and Governance Committee
 
Upon completion of this offering, the Nominating and Governance Committee of our board of directors will consist of           and will have at least           independent director(s). The Nominating and Governance Committee will be responsible for recruiting and retention of qualified persons to serve on our board of directors, including proposing such individuals to the board of directors for nomination for election as directors, for evaluating the performance, size and composition of the board of directors and for oversight of our compliance activities. Prior to the completion of this offering, our board of directors will adopt a written charter under which the Nominating and Governance Committee will operate. A copy of the charter, which will satisfy the applicable standards of the SEC and the          , will be available on our web site.
 
Code of Ethics
 
We will adopt a code of business conduct, applicable to our officers, directors and employees, in connection with this offering, which will be filed as an exhibit to the registration statement of which this prospectus forms a part.


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EXECUTIVE COMPENSATION
 
Compensation Discussion and Analysis
 
This compensation discussion and analysis section will provide context for the information contained in the tables following this discussion and is intended to provide information about our compensation objectives and policies for Gerald C. Rittenberg, our Chief Executive Officer, James M. Harrison, our President and Chief Operating Officer, Michael A. Correale, our Chief Financial Officer, and Gregg A. Melnick, our President-Party City Retail Group (collectively, our “named executive officers”).
 
Compensation Committee
 
The Compensation Committee of the Board of Directors consists of Richard K. Lubin, Chairman, Kevin M. Hayes, Jordan A. Kahn and David M. Mussafer. The Compensation Committee is responsible for setting and administering our executive compensation policies and programs and determining the compensation of our executive officers. The Compensation Committee also administers our Equity Incentive Plan (as defined hereafter). The Compensation Committee met periodically in 2010, and all members of the Compensation Committee attended each meeting.
 
The Compensation Committee has the authority to retain outside independent executive compensation consultants to assist in the evaluation of executive officer compensation and in order to ensure the objectivity and appropriateness of the actions of the Compensation Committee. The Compensation Committee has the sole authority to retain, at our expense, and terminate any such consultant, including sole authority to approve such consultant’s fees and other retention terms. However, all decisions regarding compensation of executive officers are made solely by the Compensation Committee. No independent executive compensation consultants were retained by the Compensation Committee during 2010.
 
Compensation Philosophy
 
Our executive compensation program has been designed to motivate, reward, attract and retain the management deemed essential to ensure our success. The program seeks to align executive compensation with our short- and long-term objectives, business strategy and financial performance. We seek to create a sustainable competitive advantage by achieving higher productivity and lower costs than our competitors. Our compensation objectives at all compensation levels are designed to support this goal by:
 
  •  linking pay to performance to create incentives to perform;
 
  •  ensuring compensation levels and components are actively managed; and
 
  •  using equity compensation to align employees’ long-term interests with those of our stockholders.
 
Compensation
 
Our Chief Executive Officer and our President and Chief Operating Officer jointly evaluate the performance of all executive and senior officers, other than themselves, against their established goals and objectives and recommend compensation packages to the Compensation Committee. The Compensation Committee evaluates the performance of our Chief Executive Officer and President and Chief Operating Officer. The Compensation Committee meets annually, usually in February, to evaluate the performance of the executive and senior officers, and to establish their base salaries, annual cash incentive award for the prior year’s performance and share-based incentive compensation to be effective in the first quarter of the current year. The Compensation Committee may meet at interim dates during the year to review the compensation package of a named executive or other officer as the result of unforeseen organizational or responsibility changes, including new hires, that occur during the year.
 
In determining compensation components and levels, the Chief Executive Officer, President and Chief Operating Officer and the Compensation Committee consider the scope and responsibility of the officer’s position, our overall financial and operating performance, the officer’s overall performance and future


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potential, and the officer’s income potential resulting from common stock acquired and stock options received in prior years. Three of the four members of the Compensation Committee are representatives of the private equity firms that collectively own approximately 93% of our outstanding equity. Thus, unlike the situation at many public companies, compensation decisions at our company are made by individuals who have a real and direct economic stake in the outcome of the decisions. The Compensation Committee members apply their considerable experiences in serving as directors of private equity portfolio companies to devise compensation packages that they believe will attract, retain and provide incentives to the executive talent necessary to manage an entity in which their firms have a substantial economic interest. Although the Compensation Committee looks to other companies to get a sense of the market for executive compensation in comparable circumstances, it does not engage in formal benchmarking or formulaic compensation. The members take the compensation actions that a prudent owner of a business would take to make sure that they have the right executive management to protect their investment.
 
Our Chief Executive Officer and Chief Operating Officer set salaries and bonus opportunities for employees below the levels of executive and senior officers and make recommendations with respect to equity incentive awards to employees at these levels.
 
Components of Compensation
 
The Company’s named executive and other officer compensation includes both short-term and long-term components. Short-term compensation consists of an officer’s annual base salary and annual incentive cash bonus. Long-term compensation may include grants of stock options, restricted stock or other share-based incentives established by the Company, as determined by the Compensation Committee.
 
Compensation is comprised of the following components:
 
Base Salary
 
The base salaries for our officers were determined based on the scope of their responsibilities, basing the determination in large part on the collective experience that the Sponsor representatives have with other companies in their respective portfolios. Generally, we believe that executive base salaries should be near the middle of the range of salaries that our Committee members have observed for executives in similar positions and with similar responsibilities. Base salaries are reviewed annually and adjusted from time to time to reflect individual responsibilities, performance and experience, as well as market compensation levels. In the case of Mr. Rittenberg and Mr. Harrison, annual salary adjustments are determined in accordance with their respective employment agreements. Mr. Correale’s annual salary adjustment for 2010 was the result of an evaluation of his overall performance during the last completed fiscal year by the Compensation Committee, Chief Executive Officer, and President and Chief Operating Officer.
 
Annual Cash Bonus Plan
 
We have an annual cash incentive plan that is designed to serve as an incentive to drive annual financial performance. As a company with a substantial amount of indebtedness, we believe that Adjusted EBITDA is an important measure of our financial performance and ability to service our indebtedness and we use it as the target metric for our annual cash incentive plan. Adjusted EBITDA is a non-GAAP measure used internally and is measured by taking net income (loss) from operations and adding back interest charges, income taxes, depreciation and amortization and adjustments for other non-cash or non-recurring transactions. For 2010, seventy-five percent (75%) of an executive’s annual bonus target under the plan depended on the performance against our Adjusted EBITDA target and the remaining twenty-five percent (25%) depended on the executive’s performance against individual performance goals. Each named executive was assigned a percentage of base salary — ranging from 50%, in the case of Messrs. Melnick and Correale, to 100%, in the case of Messrs. Rittenberg and Harrison — that could be earned if the target Adjusted EBITDA was achieved and the executive’s individual performance goals were met. The portion of the incentive award relating to our Adjusted EBITDA can be paid at a maximum of 150% if we exceed the Adjusted EBITDA target.


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For 2010, the Compensation Committee determined that all of the named executive officers achieved their individual performance goals. The target Adjusted EBITDA was $206 million, and we needed to achieve Adjusted EBITDA of $230 million for the named executive officers to earn the maximum 150% of the Adjusted EBITDA portion of the incentive award. For every 6% that actual Adjusted EBITDA exceeds the target, the performance portion of the bonus increases by 25%. We achieved Adjusted EBITDA of $226 million. As a result, the Compensation Committee paid all named executive officers incentive awards that were 131% of the target awards (25% of which was achieved as successful performance against individual goals and 106% of which resulted from actual Adjusted EBITDA exceeding the target).
 
Stock-based Incentive Program
 
We maintain the 2004 Equity Incentive Plan (the “Equity Incentive Plan”) under which the Committee may grant incentive awards in the form of options to purchase shares of common stock and shares of restricted or unrestricted common stock to directors, officers, employees and consultants (“Participants”) of Party City and its affiliates. The Compensation Committee uses the Equity Incentive Plan as an important component of our overall compensation program because it helps retain key employees, aligns their financial interests with the interests of our equity owners, and rewards the achievement of the our long-term strategic goals. Common stock options provide our employees with the opportunity to purchase and maintain an equity interest in the Company and to share in the appreciation of the value of our stock.
 
We granted a substantial amount of equity at the time of the 2004 Acquisition and have refreshed those awards on several occasions since 2004. The Committee uses both time-based awards and performance-based awards to provide what it believes are the appropriate incentives. Time-based stock options help to retain executives, who must be employed by us at the time the award vests. In addition, because we set the exercise price of stock options at the fair value of the common stock at the time of grant, our equity value must increase — thereby benefiting all stockholders — before the awards have any value. Performance-based awards are vested only if there is a liquidity event and our private equity owners have achieved a specified internal rate of return on their investment. We believe that these awards put our executives in the shoes of the equity owners and align their interest with those of our stockholders.
 
Unless otherwise provided in the related award agreement or, if applicable, the Stockholders’ Agreement, immediately prior to certain change of control transactions described in the Equity Incentive Plan, all outstanding Company stock options will, subject to certain limitations, become fully exercisable and vested, and any restrictions and deferral limitations applicable to any restricted stock awards will lapse. We believe that providing for acceleration upon a liquidity event such as a change of control helps to align the interests of the executive with those of the stockholders.
 
In March 2010, the Committee made a stock option award to Gregg A. Melnick, upon and in recognition of his promotion to President of Party City. The award consisted of time-based options for 30 shares that vest in five equal annual installments commencing on the first anniversary of the grant date and performance-based options for 16 shares that have performance terms that are triggered if there is a liquidity event and our private equity owners receive a specified internal rate of return. The Compensation Committee wanted Mr. Melnick to have an equity stake in our company at a level that is consistent with individuals who held similar positions, which is how it determined the size of the award. The allocation between time-based and performance-based options was consistent with the allocations for other executives.
 
Special stock option distribution
 
In December 2010, in connection with the refinancing of our term loan agreement (see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources”), our Board of Directors declared a one-time cash dividend of $9,400 per share of outstanding Common Stock. Because a dividend of that magnitude would reduce the value of the Common Stock, the Compensation Committee made dividend equivalent distributions to the holders of vested options. The named executives, to the extent they held vested options, received the same payment per vested option as if they were


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stockholders. These distributions are reflected in the “All Other Compensation” column of the Summary Compensation Table below. In addition, the Compensation Committee intends to pay a dividend equivalent, without interest, on each other option that was outstanding at the time the dividend was declared. The Board of Directors and Compensation Committee believe that this treatment of option holders is fair and consistent with their status as equity participants in our Company.
 
Other Compensation
 
Each named executive is eligible to participate in our benefit plans, such as medical, dental, group life, disability and accidental death and dismemberment insurance. Under our profit-sharing plans, our named executive officers and generally all full-time domestic exempt and non-exempt employees who meet certain length-of-service and age requirements, as defined in such plans, may contribute a portion of their compensation to the plan on a pre-tax basis and receive an employer matching contribution ranging from 25% to 100% of the employee contributions, not to exceed a range of 4% to 6% of the employee’s annual salary. In addition, our profit-sharing plans provide for annual discretionary contributions to be credited to participants’ accounts. Named executive officers participate in the benefit plans on the same basis as our other employees.
 
The Chief Executive Officer and the Chief Operating Officer drive automobiles owned by the Company. The Chief Financial Officer and the President-Party City Retail Group each receive an allowance to cover the cost of his automobile. The annual value of the automobile usage and the allowance are reported as taxable income to the executive and are reflected in the “All Other Compensation” column of the Summary Compensation Table below. All employees, including the named executives are reimbursed for the cost of business-related travel.
 
The named executive officers did not receive any other perquisites, personal benefits or property in 2010, 2009 or 2008.
 
Tax Treatment
 
Because our Common Stock is not publicly traded, executive compensation is not subject to the provisions of Section 162(m) of the Internal Revenue Code, which limit the deductibility of compensation paid to certain individuals to $1.0 million, excluding qualifying performance-based compensation. Following this offering, the Compensation Committee will endeavor to structure compensation arrangements so that the amounts paid will be deductible for federal income tax purposes. However, the Compensation Committee believes that our interests are best served if it retains the flexibility to design and structure compensation arrangements that may not be deductible for federal income tax purposes and intends to do so.
 
Summary Compensation Table
 
                                                 
            Option
  Non-Equity
  All Other
   
Name and
          Awards
  Incentive Plan
  Compensation
   
Principal Position
  Year   Salary   (a)   Compensation   (b)   Total
 
Gerald C. Rittenberg
    2010     $ 1,102,500     $     $ 1,448,900     $ 2,611,042     $ 5,162,442  
Chief Executive
    2009       1,050,000             1,017,000       371,400       2,438,400  
Officer
    2008       1,000,000       595,300       716,000       371,400       2,682,700  
James M. Harrison
    2010     $ 937,125     $     $ 1,231,600     $ 1,787,814     $ 3,956,539  
President and
    2009       892,500             864,500       270,600       2,027,600  
Chief Operating Officer
    2008       850,000       446,500       608,600       269,800       2,174,900  
Michael A. Correale
    2010     $ 345,000     $     $ 226,700     $ 258,804     $ 830,504  
Chief Financial
    2009       333,125             129,100       40,400       502,625  
Officer
    2008       325,000             93,100       37,400       455,500  
Gregg A. Melnick
    2010     $ 525,000     $ 232,530     $ 344,991     $ 262,600     $ 1,365,121  
President, Party City Retail Group
                                               


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(a) The dollar values shown reflect the aggregate grant date fair value of equity awards granted within the year in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification Topic 718 for stock-based compensation. These amounts reflect the total grant date expense for these awards and do not correspond to the actual cash value that will be recognized by each individual when received. The assumptions used in determining the fair values are disclosed in Note 15 to our audited consolidated financial statements that appear elsewhere in this prospectus.
 
(b) Includes for 2010 the special distribution of $9,400 per vested time-based option, as described above, to the following named executive officers: Mr. Rittenberg ($2,232,442); Mr. Harrison ($1,517,714); Mr. Correale ($217,704); and Mr. Melnick ($253,800) and an annual accrual for deferred bonuses for Messrs. Rittenberg and Harrison of $350,000 and $250,000, respectively, that are payable under their employment agreements described below. In addition, each of the named executive officers received a car allowance in the following amounts: Mr. Rittenberg ($16,233); Mr. Harrison ($7,800); Mr. Correale ($28,800); and Mr. Melnick ($8,000).
 
Grants of Plan Based Awards
 
                                                                 
                        All Other
       
                    All Other
  Option
       
                    Stock
  Awards:
      Grant Date
        Estimated Future Payouts
  Awards:
  Number of
  Exercise
  Fair Value
        Under Non-Equity Incentive
  Number
  Securities
  Price of
  of Stock
    Grant
  Plan Awards