-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, DkQDuJwkfBZgMh2x94VK6yDwVhq9PkjJIfUkO2K2/grP3Cp0TRW/nJKXWIL4VE7U hGydIxOGcRGFU9YguNxOnA== 0001005477-99-003135.txt : 19990719 0001005477-99-003135.hdr.sgml : 19990719 ACCESSION NUMBER: 0001005477-99-003135 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 14 FILED AS OF DATE: 19990715 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PIETRAFESA CORP CENTRAL INDEX KEY: 0001070545 STANDARD INDUSTRIAL CLASSIFICATION: MEN'S & BOYS' FURNISHINGS, WORK CLOTHING, AND ALLIED GARMENTS [2320] STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-1/A SEC ACT: SEC FILE NUMBER: 333-74439 FILM NUMBER: 99665510 BUSINESS ADDRESS: STREET 1: 7400 MORGAN RD CITY: LIVERPOOL STATE: NY ZIP: 13090 BUSINESS PHONE: 3154534300 S-1/A 1 PRE-EFFECTIVE AMENDMENT NO. 2 TO FORM S-1 FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JULY 15, 1999 REGISTRATION NO. 333-74439 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 PRE-EFFECTIVE AMENDMENT NO. 2 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 THE PIETRAFESA CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 2311 22-3607757 (STATE OR OTHER JURISDICTION (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER OF INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
7400 MORGAN ROAD LIVERPOOL, NY 13090 (315) 453-4300 ATTN: MR. RICHARD C. PIETRAFESA, JR. (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) IT IS REQUESTED THAT COPIES OF COMMUNICATIONS BE SENT TO: L. KEVIN SHERIDAN, JR., ESQ. STEPHEN T. BURDUMY, ESQ. ROBERTS, SHERIDAN & KOTEL, KLEHR, HARRISON, A PROFESSIONAL CORPORATION HARVEY, BRANZBURG & ELLERS LLP 12 EAST 49TH STREET, 30TH FLOOR 260 SOUTH BROAD STREET NEW YORK, NEW YORK 10017 PHILADELPHIA, PENNSYLVANIA 19102-3163 APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this registration statement. If any of the Securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 of the Securities Act of 1933, check the following box: |X| 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. |_| 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. |_| 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. |_| If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. |_| 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 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. ================================================================================ CALCULATION OF REGISTRATION FEE
========================================================================================================= AMOUNT TO PROPOSED MAXIMUM PROPOSED MAXIMUM AMOUNT OF TITLE OF EACH CLASS OF BE OFFERING PRICE AGGREGATE OFFERING REGISTRATION SECURITIES TO BE REGISTERED REGISTERED(1) PER SHARE PRICE(2) FEE - ------------------------------ --------------- ------------------- ---------------------- --------------- Class A Common Stock ...... 4,658,333 $ 13.00 $60,600,000 $ 16,847(3) ============================== =============== =================== ====================== ===============
(1) Includes up to 600,000 shares that may be purchased from The Pietrafesa Corporation at the option of the underwriters solely to cover over-allotments, if any, and 58,333 shares being registered for resale by a stockholder of The Pietrafesa Corporation on a continuous basis. (2) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(o) under the Securities Act of 1933, as amended. (3) $14,095 of which has been previously paid. THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION, DATED JULY 15, 1999 4,000,000 SHARES CLASS A COMMON STOCK [LOGO] $ PER SHARE All of the shares of The Pietrafesa Corporation's Class A Common Stock being offered in this prospectus are being offered by The Pietrafesa Corporation. Prior to this offering, there has been no public market for our Class A Common Stock. We expect that the initial public offering price to the public will be between $11.00 and $13.00 per share. The market price of the shares after the offering may be higher or lower than the offering price. We have applied for listing of the Class A Common Stock on the Nasdaq National Market under the symbol "BRND." The Class A Common Stock is one of two classes of Common Stock of The Pietrafesa Corporation. Holders of shares of Class A Common Stock will elect 25% of the directors. Holders of shares of Class B Common Stock will elect 75% of the directors and will have the power to decide substantially all other matters submitted to stockholders. The Class B Common Stock is not being offered to the public and is currently held by a private limited partnership. Holders of shares of Class A Common Stock will have limited voting rights until all shares of Class B Common Stock are converted into Class A Common Stock. INVESTING IN THE CLASS A COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING ON PAGE 14. PER SHARE TOTAL ----------- ------ Price to the public ........................... Underwriting discounts and commissions ........ Proceeds to The Pietrafesa Corporation ........ The Pietrafesa Corporation has granted an over-allotment option to the underwriters. Under this option, the underwriters may elect to purchase up to 600,000 shares of Class A Common Stock from The Pietrafesa Corporation within 30 days following the date of this prospectus. THE SECURITIES AND EXCHANGE COMMISSION AND STATE SECURITIES REGULATORS HAVE NOT APPROVED OR DISAPPROVED THESE SECURITIES, OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. JANNEY MONTGOMERY SCOTT INC. FIRST SECURITY VAN KASPER MORGAN SCHIFF & CO., INC. Prospectus dated , 1999 [ARTWORK] TABLE OF CONTENTS PAGE ---- Prospectus Summary ......................................................... 5 Risk Factors ............................................................... 14 Forward Looking Statements ................................................. 21 Use of Proceeds ............................................................ 22 Capitalization ............................................................. 23 Dividend Policy ............................................................ 24 Dilution ................................................................... 24 Selected Historical Consolidated Financial Data ............................ 26 Pro Forma Combined Financial Data .......................................... 29 Management's Discussion and Analysis of Financial Condition and Results of Operations .............................................................. 38 Business ................................................................... 52 Management ................................................................. 63 Certain Relationships and Related Transactions ............................. 67 Principal Stockholders ..................................................... 69 Description of Capital Stock ............................................... 71 Shares Eligible for Future Sale ............................................ 74 Underwriting ............................................................... 75 Legal Matters .............................................................. 76 Experts .................................................................... 76 Additional Information ..................................................... 77 Index to Financial Statements .............................................. F-1 ------------------------------ You should rely only on the information contained in this prospectus. No dealer, salesperson or other person is authorized to give information that is not contained in this prospectus. This prospectus is not an offer to sell nor is it seeking an offer to buy these securities in any jurisdiction where the offer or sale is not permitted. The information contained in this prospectus is correct only as of the date of this prospectus, regardless of the time of the delivery of this prospectus or any sale of these securities. Our logo and name are trademarks of The Pietrafesa Corporation. Other trademarks, trade names or service marks appearing in this prospectus are the property of their respective owners. [THIS PAGE INTENTIONALLY LEFT BLANK] - -------------------------------------------------------------------------------- PROSPECTUS SUMMARY THIS SUMMARY HIGHLIGHTS INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS. YOU SHOULD READ THE ENTIRE PROSPECTUS CAREFULLY, ESPECIALLY THE "RISK FACTORS" SECTION, THE FINANCIAL STATEMENTS AND THE NOTES TO THOSE STATEMENTS, BEFORE MAKING YOUR INVESTMENT DECISION. THIS PROSPECTUS CONTAINS MARKET DATA, FOR THE MOST RECENT PERIODS FOR WHICH SUCH DATA IS GENERALLY AVAILABLE, THAT WE OBTAINED FROM INDUSTRY TRADE GROUPS AND FROM INDUSTRY PUBLICATIONS AND OTHER PUBLICLY AVAILABLE INFORMATION. THE PIETRAFESA CORPORATION WAS INCORPORATED IN 1998 AND IS THE SUCCESSOR TO A BUSINESS FOUNDED IN 1922. IN OCTOBER 1998, MS PIETRAFESA, L.P., OUR PREDECESSOR OPERATING PARTNERSHIP AND SOLE CLASS B STOCKHOLDER, TRANSFERRED ALL OF ITS ASSETS AND LIABILITIES TO US. IN APRIL 1999, WE ACQUIRED TWO INDEPENDENT MERCHANDISING/SOURCING BUSINESSES. WE WILL COMPLETE TWO ADDITIONAL ACQUISITIONS SIMULTANEOUSLY WITH THE CONSUMMATION OF THIS OFFERING. UNLESS OTHERWISE INDICATED OR THE CONTEXT OTHERWISE REQUIRES, ALL SHARE, PER SHARE AND BUSINESS AND FINANCIAL INFORMATION CONTAINED IN THIS PROSPECTUS: o GIVES EFFECT TO OUR ACQUISITION OF DIVERSIFIED APPAREL GROUP, LTD., GLOBAL SOURCING NETWORK, LTD. AND COMPONENTS BY JOHN MCCOY, INC. AND OUR ACQUISITION OF ALL ASSETS AND LIABILITIES OF MS PIETRAFESA, L.P.; o GIVES EFFECT TO OUR ACQUISITION OF WINDSONG, INC. AND THE ISSUANCE OF $4.0 MILLION WORTH OF CLASS A COMMON STOCK VALUED AT THE INITIAL PUBLIC OFFERING PRICE AS PART OF THE ACQUISITION CONSIDERATION; o ASSUMES THAT NO SHARES OF CLASS A COMMON STOCK WILL BE ISSUED AS PART OF THE CONSIDERATION PAID IN THE DIVERSIFIED APPAREL, GLOBAL SOURCING NETWORK AND COMPONENTS ACQUISITIONS; o ASSUMES NO EXERCISE OF THE UNDERWRITERS' OVER-ALLOTMENT OPTION; AND o GIVES EFFECT RETROACTIVELY TO THE ISSUANCE TO MS PIETRAFESA, L.P., OUR SOLE STOCKHOLDER IMMEDIATELY PRIOR TO THE OFFERING, OF A TOTAL OF 3,775,567 SHARES OF CLASS B COMMON STOCK PRIOR TO THE CONSUMMATION OF THE OFFERING. THE PIETRAFESA CORPORATION GENERAL. We believe that we are the only major apparel business that offers companies that license brand names and major retailers "one-stop shopping" for dress apparel products for men. By providing design, merchandising, sourcing and other services, we act as "The Brand behind the Brand." Our product line includes everything that a man might wear to the office Monday through Friday and on formal occasions. Our products include suits, sport jackets, dress shirts, woven sport shirts, casual pants, knitwear, neckwear and topcoats, at a wide range of price points. Our strategy is to satisfy all the product needs of our customers who otherwise might have to maintain separate purchasing or licensing arrangements with different suppliers for each product. One of our key strengths is the ability to satisfy our customers' cost, quality, construction and delivery requirements through a worldwide network of third party manufacturers. This capability is referred to as "sourcing." We sell men's apparel to a variety of well-known retailers, including: Belk Neiman Marcus Bergdorf Goodman Nordstrom Bijan S&K Famous Brands Bloomingdale's Saks Fifth Avenue Brooks Brothers Sam's Club Dillards Sulka Filene's Basement The Men's Wearhouse Jos.A.Bank Today's Man - -------------------------------------------------------------------------------- 5 - -------------------------------------------------------------------------------- In 1998, we generated 70% of our net revenues from our seven largest customers, Brooks Brothers, Dillards, Jos.A.Bank, Nordstrom, Polo Retail, S&K Famous Brands and Sam's Club. None of these customers individually accounted for more than 20% of our net revenues in 1998. Sales to Polo Retail, which accounted for 6% of our net revenues in 1998, terminated with the spring 1999 season, but the loss of such revenues is not expected to have a material adverse effect on our overall revenues because we anticipate that our revenues from other customers will increase. INDUSTRY. Retail sales of men's apparel in the United States in 1998 were approximately $54 billion, an increase of 6.8% over the prior year, as compared to increases of 3.7% in women's apparel and 4.7% in all apparel. The men's apparel industry is highly fragmented and includes a large number of small, privately-held merchandising/sourcing companies that specialize in specific products, price points or distribution channels. We believe that two important trends among our customers benefit us: o Retailers of private label apparel are experiencing increased sales; and o Retailers are concentrating more business with fewer suppliers to achieve greater efficiency in merchandising, purchasing and inventory management. The apparel industry is intensely competitive and includes companies that are larger and better capitalized than we are. BUSINESS, GROWTH AND ACQUISITION STRATEGIES. We seek to be the most efficient source of men's apparel products for major retailers and companies that license brand names by offering: o "one-stop shopping"; o the ability to develop customized lines of men's apparel in a variety of styles; o the lowest available cost for each product line, by using third party manufacturers throughout the world; o design, merchandising, statistical quality control, inventory management and other services; o technological innovations that enable us to compress delivery schedules; and o the scale and financial stability required by major retailers in connection with long-term supply arrangements. We believe that our business strategy will create numerous growth opportunities. The principal components of our growth strategy include: o achieving greater penetration among our existing customers and developing new customer relationships; o acquiring, developing and licensing brands in order to leverage our merchandising and sourcing capabilities; o expanding internationally by offering our merchandising/sourcing services to foreign retailers; and o growing revenues through selective acquisitions that are consistent with our business strategy. To increase the range of products, price points and sourcing options available to our customers and to add new customers, we intend to identify and acquire leading merchandising/sourcing companies. The major elements of our acquisition strategy include: o making, whenever possible, the payment of a significant portion of the purchase price contingent on achieving projected results for the acquired business over several years following the acquisition. We will also include other performance-based incentives for the sellers of each business; - -------------------------------------------------------------------------------- 6 - -------------------------------------------------------------------------------- o operating each newly-acquired business as an independent unit and holding it accountable for its utilization of capital and overhead; and o improving and standardizing the financial controls, quality control practices and back-office functions of each acquired business and eliminating duplicative operational facilities. RECENT ACQUISITIONS AND LICENSING ARRANGEMENTS. Upon the completion of this offering, we will have completed four acquisitions and will have entered into, or acquired as a result of these acquisitions, four new licensing arrangements. These transactions expand our product offerings and customers. The acquisitions are: o Diversified Apparel Group, Ltd., which merchandises and sources men's suits, dress shirts, neckwear and knits primarily from the Caribbean Basin, the United States and Europe; o Global Sourcing Network, Ltd., which designs and imports low-to-mid priced men's suits primarily from Eastern Europe and Asia; o Components by John McCoy, Inc., which merchandises and sources higher-priced tailored clothing, sportswear, dress shirts, neckwear, topcoats and casual slacks from Italy; and o Windsong, Inc., which merchandises and sources men's sportswear worldwide. Our licenses cover tailored and other categories of men's apparel bearing the Alexander Julian, FUBU, Greg Norman Collection and DKNY trademarks. FUBU, the Greg Norman Collection and DKNY are new licensing arrangements for us. Sales of Alexander Julian licensed products constituted 27% of our 1998 pro forma combined revenues. All four licenses require us to pay royalties to the licensors at rates which we believe to be consistent with other license arrangements in the industry. RISK FACTORS. See the section of this prospectus entitled "Risk Factors" for a discussion of factors that you should consider before investing in the Class A Common Stock offered by this prospectus. These risk factors include our customer concentration, the significance to our business of revenues from sales of Alexander Julian licensed products, our reliance on third party manufacturers, the unpredictability of our operating results, the challenges raised by our acquisition strategy and the fact that holders of the Class A Common Stock will have limited voting rights. The Pietrafesa Corporation is a Delaware corporation. Our principal executive offices are located at 7400 Morgan Road, Liverpool, New York 13090 and our telephone number is (315) 453-4300. - -------------------------------------------------------------------------------- 7 - -------------------------------------------------------------------------------- THE OFFERING Common Stock offered by The Pietrafesa Corporation .......... 4,000,000 shares of Class A Common Stock Common Stock to be outstanding after our offering .............. 4,333,333 shares of Class A Common Stock(1) 3,775,667 shares of Class B Common Stock, all of which are owned by MS Pietrafesa, L.P., our sole stockholder prior to the offering. Holders of Class B Common Stock may convert their shares at any time on a one-for-one basis into shares of Class A Common Stock. Use of proceeds ................... To pay the purchase price of the Components and Windsong acquisitions, to fund the escrow in connection with the Windsong acquisition and to repay indebtedness in connection with the Diversified Apparel and Global Sourcing Network acquisitions and under our revolving credit line. Voting rights ..................... Holders of Class A Common Stock, voting as a class, are entitled to elect 25% of the members of our Board of Directors. Other than such right to elect directors, holders of Class A Common Stock will have very limited voting rights until all of the shares of Class B Common Stock are converted into shares of Class A Common Stock or otherwise cease to be issued and outstanding. See "Description of Capital Stock." Nasdaq National Market symbol ................... BRND - ---------- (1) Excludes: o shares of Class A Common Stock equal to 10% of our outstanding shares after the offering which may be issued in the future under our Stock Option Plan; o shares of Class A Common Stock which may be issued as deferred purchase price to the sellers of Diversified Apparel, Global Sourcing Network, Components and Windsong; and o up to 600,000 shares of Class A Common Stock which will be issued to the underwriters if they exercise their over-allotment option. See "Management," "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Significant Acquisitions" and "Underwriting." - -------------------------------------------------------------------------------- 8 - -------------------------------------------------------------------------------- SUMMARY HISTORICAL CONSOLIDATED AND PRO FORMA COMBINED FINANCIAL DATA The following tables present our summary historical consolidated financial data for each year in the five-year period ended December 31, 1998 and for the three-month periods ended March 31, 1998 and 1999, as well as pro forma combined and pro forma combined, as adjusted financial data. The summary historical consolidated annual financial data were derived from our audited consolidated financial statements. The summary historical consolidated financial data as of March 31, 1998 and March 31, 1999 and for the three-month periods then ended were derived from our unaudited interim financial statements. The unaudited financial statements include all adjustments, consisting of normal recurring accruals, which we consider necessary for a fair presentation of the financial position and results of operations for these periods. Operating results for the three-month period ended March 31, 1999 are not necessarily indicative of the results that may be expected for the entire year ending December 31, 1999. You should read this financial data in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the historical and pro forma financial statements and the notes thereto, included elsewhere in this prospectus. Our pro forma combined financial data includes our statement of operations data which reflects our historical results after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as if they had occurred on January 1, 1998, and also includes our balance sheet data, which reflects our balance sheet and the balance sheets of Diversified Apparel, Global Sourcing Network, Components and Windsong as if the acquisitions of such businesses had occurred on the respective balance sheet dates. Our 1998 pro forma combined, as adjusted financial data includes our pro forma combined financial data as adjusted for this offering and the application of the proceeds of this offering. The pro forma combined and pro forma combined, as adjusted financial data are based upon preliminary estimates, available information and assumptions that management deems appropriate, but are not necessarily indicative of the results that would have been obtained had such events occurred at the times assumed. See our Pro Forma Combined Financial Statements included elsewhere in this prospectus. Our statement of operations, balance sheet and other data include a number of items that require further explanation. These items include: o Impairment loss on fixed assets, which relates to the reduction of property, plant, and equipment to their net realizable value less sale costs based on independent appraisals. In 1995, we discontinued the low price point tailored clothing segment of our business and closed the related manufacturing facilities located in Carrollton, Georgia. Accordingly, in 1995 we reduced the net book value of plant and equipment, as well as furniture and fixtures, located at the Carrollton facility to their net realizable value and recorded an impairment loss of $2.3 million. The impairment loss of $170,000 in 1996 related to equipment which we disposed of at our former Sturgis, Kentucky facility; o Public offering costs, which relate to the abandonment of our public offering in 1998 due to adverse market conditions; o Provision for income taxes, which was not included in our statement of operations data prior to October 1998 because our predecessor, MS Pietrafesa, L.P., was not subject to state or federal income taxes; o Extraordinary item, which relates to the forgiveness of all of our outstanding subordinated debt in 1996; o The pro forma weighted average number of common shares outstanding, basic and diluted, for 1998 and the first quarter of 1999 consists of the 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering; o Pro forma combined weighted average number of shares outstanding, basic and diluted, consists of the 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering, and the 333,333 shares of Class A Common Stock issued to Windsong at the initial public offering price as part of our acquisition of Windsong, based on an assumed offering price of $12.00 per share; and - -------------------------------------------------------------------------------- 9 - -------------------------------------------------------------------------------- o Pro forma combined, as adjusted weighted average number of common shares outstanding, basic and diluted, consists of the shares of Class A Common Stock which will be issued in the offering, as part of the initial purchase price in the Windsong acquisition, and the 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview" and " -- Results of Operations" for a more detailed explanation of these items. In addition, we have included under "Other Data" below and in our Selected Historical Consolidated Financial Data, the line item "EBITDA plus public offering costs," which represents income (loss) before provision (benefit) for income taxes plus depreciation and amortization plus interest expense plus public offering costs. EBITDA plus public offering costs is not intended to represent cash flows from operations and should not be considered as an alternative to net income as an indicator of our operating performance or to cash flows as a measure of liquidity. We believe that EBITDA is a standard measure commonly reported and widely used by analysts, investors and other interested parties in the apparel industry. Accordingly, as modified to exclude our public offering costs, it has been disclosed in this prospectus to permit a more complete description of our performance relative to other companies in the apparel industry. Our definition of EBITDA may not be identical to the definitions used by other companies and, therefore, may not necessarily provide an accurate basis for comparison. - -------------------------------------------------------------------------------- 10 - --------------------------------------------------------------------------------
FOR THE YEAR ENDED DECEMBER 31, ------------------------------------------------------------------------------------- PRO FORMA PRO FORMA COMBINED, COMBINED AS ADJUSTED 1994 1995 1996 1997 1998 1998 1998 ---------- ------------ ---------- ---------- ------------ ------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues ............................. $54,859 $ 51,431 $44,000 $37,582 $ 56,763 $ 161,081 $ 161,081 Cost of sales ............................ 45,803 46,533 34,769 29,218 47,062 130,311 130,311 ------- -------- ------- ------- ---------- ---------- ---------- Gross profit ............................. 9,056 4,898 9,231 8,364 9,701 30,770 30,770 Operating expenses: Selling, general and administrative expenses .............................. 7,250 10,080 7,427 6,150 5,536 19,048 19,048 Impairment loss on fixed assets ......... -- 2,324 170 -- -- -- -- Depreciation and amortization expenses .............................. 99 102 165 151 222 1,982 1,982 ------- -------- ------- ------- ---------- ---------- ---------- 7,349 12,506 7,762 6,301 5,758 21,030 21,030 ------- -------- ------- ------- ---------- ---------- ---------- Operating income (loss) .................. 1,707 (7,608) 1,469 2,063 3,943 9,740 9,740 Interest expense ......................... 1,648 1,914 1,962 1,507 1,209 3,321 2,385 Public offering costs .................... -- -- -- -- 823 823 823 ------- -------- ------- ------- ---------- ---------- ---------- Income (loss) before income taxes and extraordinary item .................. 59 (9,522) (493) 556 1,911 5,596 6,532 Provision for income taxes ............... -- -- -- -- 514 2,238 2,612 ------- -------- ------- ------- ---------- ---------- ---------- Income (loss) before extraordinary item .................................... 59 (9,522) (493) 556 1,397 3,358 3,920 Extraordinary item ....................... -- -- 3,150 -- -- -- -- ------- -------- ------- ------- ---------- ---------- ---------- Net income (loss) ........................ $ 59 $ (9,522) $ 2,657 $ 556 $ 1,397 $ 3,358 $ 3,920 ------- -------- ------- ------- ---------- ---------- ---------- PRO FORMA INCOME DATA: Income before income taxes ............... $ 1,911 $ 5,596 $ 6,532 Pro forma provision for income taxes ..... 764 2,238 2,612 ---------- ---------- ---------- Pro forma net income ..................... $ 1,147 $ 3,358 $ 3,920 ========== ========== ========== Pro forma basic and diluted net income per common share ................. $ 0.30 $ 0.82 $ 0.48 Pro forma basic and diluted weighted average number of common shares outstanding ............................. 3,775,667 4,109,000 8,109,000
AS OF DECEMBER 31, 1998 -------------------------------------- PRO FORMA PRO FORMA COMBINED, ACTUAL COMBINED AS ADJUSTED --------- ----------- ------------ (IN THOUSANDS) BALANCE SHEET DATA: Working capital ......................................... $ 9,239 $12,134 $13,710 Total assets ............................................ 29,375 86,913 86,913 Total long-term debt, net of current maturities ......... 12,561 16,517 5,838 Total stockholders' equity .............................. 2,383 6,383 49,583
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FOR THE YEAR ENDED DECEMBER 31, ---------------------------------------------------------------------------------- PRO FORMA PRO FORMA COMBINED, COMBINED AS ADJUSTED 1994 1995 1996 1997 1998 1998 1998 ----------- ------------ ---------- ---------- ---------- ----------- ------------ (IN THOUSANDS) OTHER DATA: EBITDA plus public offering costs ......... $ 2,719 $ (6,411) $ 2,415 $ 2,865 $ 4,731 $ 12,288 $ 12,288 Capital expenditures ...................... 1,103 368 105 59 592 895 895 Cash (used in) provided by operating activities ............................... (3,022) 3,779 2,445 3,056 (1,395) (3,002) (2,440) Cash (used in) provided by investing activities ............................... (1,035) (265) 419 2,185 (563) (36,501) (36,501) Cash (used in) provided by financing activities ............................... 4,540 (4,001) (2,866) (5,242) 1,969 39,581 39,581
FOR THE THREE MONTHS ENDED MARCH 31, --------------------------------------------------------------------------------- PRO FORMA PRO FORMA PRO FORMA PRO FORMA COMBINED, COMBINED, COMBINED COMBINED AS ADJUSTED AS ADJUSTED 1998 1999 1998 1999 1998 1999 ------------- ------------ ------------- ------------- ------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues ............................ $ 9,503 $ 17,803 $ 37,774 $ 46,012 $ 37,774 $ 46,012 Cost of sales ........................... 7,028 14,833 29,698 37,445 29,698 37,445 ---------- ---------- ---------- ---------- ---------- ---------- Gross profit ............................ 2,475 2,970 8,076 8,567 8,076 8,567 Operating expenses: Selling, general and administrative expenses .............................. 1,305 1,201 4,311 4,433 4,311 4,433 Depreciation and amortization expenses .............................. 64 68 504 507 504 507 ---------- ---------- ---------- ---------- ---------- ---------- 1,369 1,269 4,815 4,940 4,815 4,940 ---------- ---------- ---------- ---------- ---------- ---------- Operating income ........................ 1,106 1,701 3,261 3,627 3,261 3,627 Interest expense ........................ 253 296 607 712 350 539 ---------- ---------- ---------- ---------- ---------- ---------- Income before income taxes .............. 853 1,405 2,654 2,915 2,911 3,088 Provision for income taxes .............. -- 565 1,061 1,169 1,164 1,235 ---------- ---------- ---------- ---------- ---------- ---------- Net income .............................. $ 853 $ 840 $ 1,593 $ 1,746 $ 1,747 $ 1,853 ========== ========== ========== ========== ========== ========== PRO FORMA INCOME DATA: Income before income taxes .............. $ 853 $ 1,405 $ 2,654 $ 2,915 $ 2,911 $ 3,088 Pro forma provision for income taxes..... 341 565 1,061 1,169 1,164 1,235 ---------- ---------- ---------- ---------- ---------- ---------- Pro forma net income .................... $ 512 $ 840 $ 1,593 $ 1,746 $ 1,747 $ 1,853 ========== ========== ========== ========== ========== ========== Pro forma basic and diluted net income per common share ................ $ 0.14 $ 0.22 $ 0.39 $ 0.42 $ 0.22 $ 0.23 Pro forma basic and diluted weighted average number of common shares outstanding ............................ 3,775,667 3,775,667 4,109,000 4,109,000 8,109,000 8,109,000
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AS OF MARCH 31, 1999 --------------------------------------- PRO FORMA PRO FORMA COMBINED, ACTUAL COMBINED AS ADJUSTED ---------- ----------- ------------ (IN THOUSANDS) BALANCE SHEET DATA: Working capital ......................................... $10,520 $14,392 $15,592 Total assets ............................................ 29,944 95,698 95,698 Total long-term debt, net of current maturities ......... 13,054 16,969 5,914 Total stockholders' equity .............................. 3,473 7,473 50,673
FOR THE THREE MONTHS ENDED MARCH 31, ---------------------------------------------------------------------- PRO FORMA PRO FORMA PRO FORMA PRO FORMA COMBINED, COMBINED, COMBINED COMBINED AS ADJUSTED AS ADJUSTED 1998 1999 1998 1999 1998 1999 --------- --------- ----------- ----------- ------------- ------------ (IN THOUSANDS) OTHER DATA: EBITDA plus public offering costs ............. $1,308 $1,886 $ 3,904 $ 4,253 $ 3,904 $ 4,253 Capital expenditures .......................... 90 109 186 313 186 313 Cash (used in) provided by operating activities ................................... 28 (613) (9,223) (4,496) (11,471) (6,868) Cash used in investing activities ............. (90) (109) (35,731) (35,858) (35,731) (35,858) Cash provided by financing activities ......... 62 721 42,805 39,905 43,533 39,905
- -------------------------------------------------------------------------------- 13 RISK FACTORS YOU SHOULD CONSIDER CAREFULLY THE RISKS DESCRIBED BELOW AND OTHER INFORMATION IN THIS PROSPECTUS BEFORE DECIDING TO INVEST IN SHARES OF CLASS A COMMON STOCK. RISKS ASSOCIATED WITH OUR BUSINESS OUR SIGNIFICANT RELIANCE ON A LIMITED NUMBER OF CUSTOMERS MAY SUBJECT US TO A SIGNIFICANT DECREASE IN REVENUES IF WE LOSE ONE OR MORE CUSTOMERS S&K Famous Brands, Sam's Club, Brooks Brothers, Dillards, Jos.A.Bank, Nordstrom and Polo Retail, our seven most significant customers in 1998, accounted for 70% of our net revenues in 1998. S&K Famous Brands, Sam's Club, Brooks Brothers and Dillards each accounted for over 10% of our net revenues in 1998. Sales to our six largest customers in 1997 accounted for 68% of our net revenues in 1997. Our licensing agreement with Polo Corporation expired in June 1999 and sales to Polo Retail under this agreement terminated with the spring 1999 season. A failure to replace such lost business, the loss of or decrease in business from any other significant customer or the replacement of lost business with business that produces lower margins would result in a significant decrease in our revenues. Various factors, including a deterioration in the business or financial condition of one or more of our customers or in our relationship with any of these customers, may cause their level of business with us to decrease. In addition, consolidations, restructurings and reorganizations involving our customers could reduce the number of stores that carry our products and decrease our revenues. Any increase in the ownership concentration within the retail industry could make us more dependent on fewer customers and could increase the effect of losing a customer. See "Business -- Industry Overview." IF OUR ALEXANDER JULIAN LICENSE IS TERMINATED OUR REVENUES AND PROFITABILITY WOULD DECREASE SIGNIFICANTLY Approximately 27% of our pro forma combined revenues and approximately 28% of our pro forma combined net income during 1998 were attributable to sales of products which we are entitled to produce and sell under a license agreement with Alexander Julian, Inc. We have monetary and nonmonetary obligations under the Alexander Julian license, as we do under our three new licenses which were not in effect in 1998. If we fail to perform our obligations, Alexander Julian and our other licensors could terminate the licenses and we would lose the right to sell the products, which would substantially reduce our revenues and net income. See "Business -- Intellectual Property." OUR FOREIGN SOURCING OF PRODUCTS EXPOSES US TO DELAYS IN PRODUCTION, WHICH MAY RESULT IN INCREASED COSTS AND REDUCED PROFITABILITY A significant portion of the products we sell are produced by foreign manufacturers. Products from Italy, the Dominican Republic, Mexico, Eastern Europe and the Far East accounted for 66% of our 1998 revenues. Foreign sourcing exposes us to numerous risks, including work stoppages, natural disasters, transportation delays and interruptions, political instability, economic disruptions and the imposition of increased tariffs and more stringent import and export restrictions. If any of these events were to occur, we may not have sufficient quantities of raw materials or products to meet our customers' needs in a timely manner, which could cause us to lose material revenues, customer orders and goodwill. Bilateral textile agreements between the United States and a number of other countries contain provisions that impose quotas on the amount and type of goods that can be imported into the United States from those countries. These agreements allow the United States to impose restraints at any time on the importation of specified categories of merchandise. Substantially all of the countries from which we import products are subject to these agreements. In addition, the United States imposes customs duties on our imported products. The United States may impose additional tariffs on products that are found to have been manufactured by convict, forced or indentured labor. In addition, the United States may withdraw the "most favored nation" status of countries in which our products are manufactured, which could result in the imposition of reduced quotas and/or higher tariffs on products imported from these countries. New or less favorable quotas, duties, 14 tariffs or import restrictions could result in an increase in our cost of products. We may not be able to pass these increased costs on to our customers, which would reduce our profitability. See "Business -- Imports and Import Regulations." OUR INTERNATIONAL SOURCING OF PRODUCTS AND RAW MATERIALS MAY SUBJECT US TO INCREASED COSTS AND UNPROFITABLE TRANSACTIONS We currently source production and purchase raw materials from providers located outside the United States. As a result, we are exposed to various risks, including: o currency exchange rate fluctuations when our agreements are denominated in currencies other than U.S. dollars; o changes to foreign legal and regulatory requirements; o deterioration in the stability of foreign governments or their trading relationships with the United States; o difficulties in staffing and managing foreign operations; o variances in financial reporting standards; and o differences in the manner in which different cultures do business. Any of these risks could increase the costs of doing business in the affected countries or preclude us from transacting business in the affected countries, either of which could reduce our profitability. THE ADOPTION OF THE EURO MAY BE DISRUPTIVE TO OUR EUROPEAN SUPPLIERS, IMPAIR THEIR ABILITY TO SATISFY THEIR OBLIGATIONS TO US AND DISRUPT OUR DELIVERIES OF PRODUCTS On January 1, 1999, 11 member countries of the European Union replaced their local currencies with a single currency, the Euro, in an effort toward the economic and monetary union of Europe. During a three-year transition period, the currencies of these countries will continue to circulate but only as fixed denominations of the Euro. The Euro has become the predominant currency to settle wholesale transactions previously denominated in the participants' currencies. In 1998, we purchased approximately 46% of our raw materials from suppliers based in countries which are participating in the Euro in 1999. The adoption of the Euro may be disruptive to the accounting and financial reporting operations of some of these suppliers and may have an adverse impact on the financial results of such suppliers or their ability to meet their manufacturing obligations. Material delays in manufacturing by our significant European suppliers could cause us to lose material revenues, customer orders and goodwill. See " -- Failure by Third Party Manufacturers to Perform their Obligations could Adversely Affect our Ability to Deliver Products in a Timely Manner." WE MAY BE UNABLE TO COMPETE SUCCESSFULLY IN THE HIGHLY COMPETITIVE APPAREL INDUSTRY The men's tailored clothing and apparel businesses are intensely competitive. We have experienced and will continue to experience competition from domestic and international sources, including independent brand name and private label producers. We also consider retailers' in-house product development and sourcing capabilities to be a source of competition. Some of our competitors and potential competitors have greater financial, manufacturing and distribution resources than us. Although factors may differ by product line, we believe that we compete primarily on the basis of quality of design and workmanship, pricing and customer service. We believe that our success depends in large part upon our ability to anticipate, gauge and respond to our customers' changing needs in a timely manner. If we fail to identify and respond appropriately to their changing needs, or to otherwise compete successfully, we could lose our market share, be required to reduce our prices or pay higher production costs. A RECESSION IN THE APPAREL INDUSTRY COULD INCREASE OUR BAD DEBT EXPENSE AND REDUCE OUR REVENUES AND PROFITABILITY Apparel retailers have experienced significant financial difficulties over the past several years, including restructurings, bankruptcies and liquidations. These developments have increased our risk of extending credit to 15 our customers. If any of our customers were to suffer financial problems, it could cause us to reduce or discontinue business with that customer, require us to assume more credit risk relating to its receivables or result in excess inventory requiring liquidation at discounted prices, each of which would reduce our profitability. SEASONAL FLUCTUATIONS IN REVENUE AND NET INCOME MAY AFFECT OUR CASH FLOW, LIQUIDITY AND PROFITABILITY Some of our principal products are organized into seasonal lines in response to the marketing strategies of our customers. As a result, our net revenues and net income have fluctuated and may continue to fluctuate on a seasonal basis. A disproportionate amount of our net revenues and a majority of our net income are typically realized during the third quarter. Historically, this seasonality has resulted in reductions in working capital during the first and third quarters. If we are unable to finance our seasonal cash requirements adequately, our ability to conduct business will be restricted. Moreover, as a result of the seasonality of net revenues, if our net revenues decrease substantially in the third quarter it could have a material adverse effect on our liquidity and on our profitability for the entire year. WE WILL NOT BE ABLE TO FULFILL OUR EXPANSION PLANS IF WE ARE UNABLE TO OBTAIN ADDITIONAL FINANCING AND MAINTAIN A STRONG INFRASTRUCTURE In 1998, we experienced rapid sales growth, expansion of our product and service offerings and an increase in our customer base. Our continued growth will depend on our ability to develop successful new product lines, distribution channels and merchandise categories. The integration of Diversified Apparel, Global Sourcing Network, Components and Windsong, as well as our future growth objectives, will require increasing amounts of working capital and financing and may place a significant strain on our management and information processing systems. Our failure to respond effectively to the demands associated with our business expansion could render our growth strategy unsuccessful. VARIATIONS IN OUR HISTORICAL FINANCIAL PERFORMANCE MAY CONTINUE We have experienced inconsistent financial results in recent years. For example, during the years 1995 through 1998, excluding the financial results of Diversified Apparel, Global Sourcing Network, Components and Windsong, our operating income (loss) fluctuated between $(7.6) million and $3.9 million and net income (loss) fluctuated between $(9.5) million and $1.4 million. See "Summary Historical Consolidated and Pro Forma Combined Financial Data." Our future financial performance depends on various factors, including successfully implementing our growth strategy. THE LOSS OF ANY OF OUR KEY MANAGEMENT PERSONNEL COULD REDUCE OUR REVENUES AND PROFITABILITY Our ability to successfully implement our growth strategy and operate profitably depends on the continued employment of our senior management team led by Richard C. Pietrafesa, Jr., John McCoy, Jarrod Nadel, Joseph Sweedler and Joseph J. Pietrafesa II, all of whom would be difficult to replace. The termination of Mr. McCoy's, Mr. Nadel's or Mr. Sweedler's employment with us would likely reduce revenues and profitability of our Components, Diversified Apparel and Windsong divisions. In addition, these managers, as well as other members of our senior management, have only recently been assembled and management controls are still in their formative stages. We cannot assure you that this team will perform well together. Although we have entered into or will enter into multi-year employment and non-competition agreements with Mr. McCoy, Mr. Nadel and Mr. Sweedler, it is our general policy not to enter into such agreements with our executives. See "Management." This policy could enable the members of our management team to change jobs more freely. If the principal members of our management team become unable or unwilling to continue in their present positions, it would become more difficult for us to pursue our growth strategy, which could reduce our revenues and profitability. If Richard Pietrafesa ceases to be our Chief Executive Officer, or if Philip Ean Cohen ceases to control The Pietrafesa Corporation other than by reason of death or disability, our deferred purchase price obligations under the Components and Windsong acquisition agreements may be accelerated. The accelerated payment of these deferred purchase price obligations could deplete our capital resources. In addition, the Alexander Julian 16 license terminates if Mr. Cohen transfers control of the Pietrafesa Corporation without Alexander Julian's consent. See " -- Some of our Acquisition Agreements Contain Terms that could Prevent a Change of Control or a Change in Management and may Discourage Transactions which would Benefit our Shareholders." While we generally do not maintain key person life insurance covering our executive officers or other employees, we intend to purchase key person life insurance in the amount of $10 million covering Richard Pietrafesa prior to the consummation of the offering. In addition, we intend to purchase key person life insurance for Messrs. McCoy and Nadel in an amount equal to the up-front portion of the purchase price for Components and Diversified Apparel, respectively. We cannot assure you that we will be able to maintain such policies in effect or that the proceeds of such policies would adequately compensate us for the loss of the services of any of these people. OUR SIGNIFICANT RELIANCE ON TWO FABRIC MANUFACTURERS COULD CAUSE OUR COST OF SALES TO INCREASE, IMPAIR OUR ABILITY TO MEET OUR CUSTOMERS' DEMANDS AND REDUCE OUR REVENUES AND PROFITABILITY In 1998, we purchased 54% (by dollar value) of our total fabric requirements directly from two suppliers, Burlington Industries and Loro Piana. While we believe that we have had good relations with each of these two suppliers for over 10 years, we do not have long-term formal supply contracts with either of them. If our relationship with any significant supplier is interrupted, we will have to purchase fabric from alternate suppliers. These alternate suppliers might not provide us with fabrics at comparable prices, comparable quality or on a timely basis. If the price, availability or quality of fabrics or other raw materials used by us fluctuate significantly, it could increase our cost of sales or impair our ability to meet our customers' demands, each of which would reduce our revenues and profitability. FAILURE BY THIRD PARTY MANUFACTURERS TO FULFILL THEIR OBLIGATIONS COULD ADVERSELY AFFECT OUR ABILITY TO DELIVER PRODUCTS IN A TIMELY MANNER AND COULD REDUCE OUR PROFITABILITY As of December 31, 1998, we sourced approximately 72% of total product orders (by sales dollar value) with independent manufacturers. We intend for this percentage to increase. If our independent manufacturers fail to finance production adequately, maintain production capacity or otherwise produce finished goods on schedule, it will adversely affect our ability to deliver products to our customers in a timely fashion. Alternative manufacturers, if available, may not be able to provide us with products or services of comparable quality at an acceptable price or on a timely basis. Therefore, a failure by our independent manufacturers to fulfill their obligations could prevent us from meeting our clients' requirements in a timely manner, which could result in cancelled purchases by our clients and impair our relationships with them, each of which could reduce our profitability. IF OUR OR OUR CUSTOMERS' OR SUPPLIERS' YEAR 2000 COMPLIANCE EFFORTS ARE NOT SUCCESSFUL, OUR OPERATIONS MAY BE DISRUPTED AND OUR REVENUES AND PROFITABILITY COULD BE REDUCED We are highly dependent upon the proper function of our computer systems as well as those of our suppliers and customers. Arthur Andersen & Co. has advised us that we will have to upgrade, modify or replace portions of our financial systems to make them Year 2000 compliant. We currently estimate that the total cost of implementing our Year 2000 program will be approximately $200,000. If our computer systems or the computer systems of any of our suppliers or customers are not Year 2000 compliant or are unable to recover from system interruptions which may result from the Year 2000 date change, we may experience a disruption to our operations which could adversely affect our ability to process or fulfill orders from our customers, deliver products in a timely manner, send invoices or engage in normal business activities for an indefinite period of time. Such a disruption to our operations could result in a loss of revenues and a reduction of our profitability. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Impact of the Year 2000 Issue." RISKS RELATING TO OUR ACQUISITION STRATEGY AND FUTURE ACQUISITIONS OUR COMBINED OPERATING HISTORY MAY NOT BE INDICATIVE OF FUTURE OPERATING RESULTS We recently acquired Diversified Apparel and Global Sourcing Network and will acquire Components and Windsong simultaneously with the consummation of the offering. Accordingly, we have just begun to integrate 17 the operations of these businesses with our pre-existing operations. Our pro forma results of operations and the historical results of Diversified Apparel, Global Sourcing Network, Components and Windsong cover periods when these businesses were not under our control or management and may not be indicative of our future financial or operating results or the results that would have been achieved if these businesses had been operating on a consolidated basis with us for the periods presented. Our management team has only recently been assembled and will be burdened by the integration and supervision of our combined operations and the implementation of our operating and growth strategies. We cannot assure you that the managers of Diversified Apparel, Global Sourcing Network, Components and Windsong will work effectively with our senior management or as part of a larger entity. Our inability to successfully integrate and supervise the operations, services, technologies and personnel of these acquired businesses, or implement our operating or growth strategies, could reduce our profitability and inhibit future growth. OUR INABILITY TO IMPLEMENT OUR GROWTH STRATEGY COULD REDUCE OUR REVENUES AND PROFITABILITY Our growth strategy depends heavily on the identification, acquisition and successful management of additional businesses. Pursuit of this growth strategy will divert our management's attention from other business concerns. It is also possible that our management, including the respective managers of our Diversified Apparel, Global Sourcing Network, Components and Windsong divisions, will not have the skills necessary to manage an aggressive acquisition program. Although we may recruit additional managers to supplement the existing management of any acquired businesses, we may not be able to recruit additional managers with the skills necessary to enhance the management of such businesses. Any or all of these factors could cause our growth strategy to fail and reduce our revenues and profitability. UNFORESEEN, UNKNOWN LIABILITIES IN CONNECTION WITH THE OPERATION OF ACQUIRED BUSINESSES MAY ADVERSELY AFFECT OUR WORKING CAPITAL AND LIQUIDITY AND REDUCE OUR PROFITABILITY Unforeseen, unknown liabilities may arise in connection with the ownership and operation of Diversified Apparel, Global Sourcing Network, Components, Windsong or any future acquired business. These liabilities could relate to such matters as previously unasserted contract or tort claims against such businesses and product liability claims relating to the design or production of the apparel distributed by such businesses, among others. Although we believe that the risk of pre-existing claims being successfully asserted against The Pietrafesa Corporation has been minimized by the acquisition structures we have employed, we cannot assure you that no such claims will be asserted or, if asserted, that such claims will not result in material liabilities to us. Contractual purchase price adjustments, as well as other contractual rights or other remedies available to us, may not be sufficient to compensate us in the event that such unforeseen liabilities arise. The occurrence of any such liability could have a material adverse effect on our working capital and liquidity and reduce our profitability. FUTURE PERFORMANCE OF THE ACQUIRED BUSINESSES MAY NOT BE COMMENSURATE WITH THEIR PURCHASE PRICES Valuations of Diversified Apparel, Global Sourcing Network, Components and Windsong were not established by independent appraisals, but were determined through purchase price negotiations among the parties. The consideration paid for each such business was based exclusively on these negotiations. A variety of factors played a role in these negotiations, including the financial performance of each business, its markets and its management. The consideration paid does not necessarily bear any relationship to the net book value of the acquired assets or to any other recognized measure of value. Independent valuations of Diversified Apparel, Global Sourcing Network, Components and Windsong may have been less than the consideration paid or to be paid by us for the acquisition of any of these businesses. REDUCTIONS IN OUR FUTURE NET INCOME CAUSED BY THE AMORTIZATION OF GOODWILL MAY ADVERSELY AFFECT THE MARKET PRICE OF OUR COMMON STOCK Approximately $29 million, or 31%, of our pro forma combined, as adjusted total assets as of March 31, 1999 consisted of goodwill arising from the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions. Goodwill is an intangible asset that represents the difference between the aggregate 18 purchase price for the assets acquired, including deferred purchase price actually paid, and the amount of such purchase price allocated to the identified assets for purposes of an as-adjusted balance sheet. We are required to amortize the goodwill from the acquisitions over a period of time, with the amount amortized in a particular period constituting an expense that reduces our net income for that period.We plan to amortize goodwill associated with the acquisitions over a period of 20 years for Windsong, 15 years for Global Sourcing Network and Components and 10 years for Diversified Apparel, in each case beginning at the closing of each such acquisition. The amount amortized will not be less than $1.6 million per year for 10 years, of which $167,000 per year will not give rise to a corresponding tax benefit. We plan to evaluate continually whether events or circumstances have occurred that could result in an acceleration of the amount to be amortized. Such acceleration would reduce our net income by a corresponding amount. Further, each of the above-referenced acquisitions involves a deferred purchase price which we will pay if the acquired business achieves specified earnings targets. This deferred purchase price may result in additional goodwill of up to $29.7 million that will be amortized over a period of time to be determined at the date any deferred purchase price payments are made. The initial goodwill plus the additional goodwill, if any, resulting from such deferred purchase price provisions would result in an aggregate maximum goodwill amortization of $2.1 million for the year ending December 31, 2000, $2.3 million for the year ending December 31, 2001, $2.5 million for the year ending December 31, 2002, $2.9 million for the year ending December 31, 2003, $3.3 million for the year ending December 31, 2004 and $3.7 million for the year ending December 31, 2005. In addition, we will also be required to amortize the goodwill, if any, from any future acquisitions. Reductions in our net income resulting from the amortization of goodwill may adversely affect the market price of our Class A Common Stock. IF WE ARE UNABLE TO SUCCESSFULLY IMPLEMENT OR REALIZE COST SAVINGS CREATED BY OUR ACQUISITIONS, OUR OPERATING RESULTS MAY BE REDUCED We believe that our integration of Diversified Apparel, Global Sourcing Network, Components and Windsong will result in cost savings, including a reduction in operating expenses as a result of the elimination of duplicative administrative functions and personnel. Significant uncertainties, however, accompany any business combination, and we cannot assure you that we will be able to achieve our anticipated operating efficiencies or otherwise realize cost savings from the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions or future acquisitions. The inability to achieve anticipated operating efficiencies or cost savings could reduce our income or cause us to sustain a loss. SOME OF OUR AGREEMENTS CONTAIN TERMS THAT COULD IMPEDE A CHANGE IN CONTROL OR A CHANGE IN MANAGEMENT AND MAY DISCOURAGE TRANSACTIONS WHICH WOULD BENEFIT OUR SHAREHOLDERS If Philip Ean Cohen ceases to control The Pietrafesa Corporation, other than by reason of death or disability, we will immediately be required to pay Windsong, Inc. up to $17.8 million, representing the net present value of all unpaid amounts of the $22.0 million deferred portion of the purchase price for the assets of Windsong, Inc. The Alexander Julian license terminates if Mr. Cohen transfers control of The Pietrafesa Corporation without Alexander Julian's prior consent. If Richard Pietrafesa is no longer our chief executive officer, all unpaid amounts of the $4.7 million deferred portion of the purchase price under the Components acquisition agreement will be accelerated. These and other provisions included in the Components and Windsong acquisition agreements may entrench management or discourage transactions in which we are assigned an attractive valuation that would otherwise benefit our shareholders because a change in control is involved. RISKS ASSOCIATED WITH OUR CAPITAL STRUCTURE HOLDERS OF CLASS A COMMON STOCK WILL HAVE LIMITED VOTING RIGHTS Following the offering, MS Pietrafesa, L.P., which is controlled by Phillip Ean Cohen, will continue to own all of the outstanding shares of Class B Common Stock. As such, MS Pietrafesa, L.P. will elect 75% of our directors and, except in very limited circumstances, will have the power to decide all other matters submitted to our stockholders. Holders of Class A Common Stock will generally have no voting rights except 19 the right to elect 25% of our directors, until all shares of Class B Common Stock are converted into shares of Class A Common Stock or otherwise cease to be outstanding. As a result, Mr. Cohen will control the outcome of substantially all matters submitted to a vote of our stockholders. See "Description of Capital Stock." THE INTERESTS OF OUR CONTROLLING STOCKHOLDER MAY CONFLICT WITH THE INTERESTS OF THE HOLDERS OF OUR CLASS A COMMON STOCK The interests of Mr. Cohen may conflict with the interests of holders of Class A Common Stock. The concentration of voting power described above may make us an unattractive takeover target and may discourage acquisition proposals, even if such proposals are supported by holders of Class A Common Stock. In addition, Mr. Cohen's voting power permits him to implement policies not favored by, or in the best interests of, the holders of the Class A Common Stock. In addition, as long as any Class B Common Stock is outstanding, Mr. Cohen will be able to transfer voting control to a third party at a premium that will not be enjoyed by holders of the Class A Common Stock. Voting power will, in all likelihood, continue to be concentrated following conversion of all of the outstanding shares of Class B Common Stock, since MS Pietrafesa, L.P. would own approximately 46.6% of the outstanding shares of Class A Common Stock following the full conversion. FAILURE TO COMPLY WITH SIGNIFICANT COVENANT RESTRICTIONS IN OUR AGREEMENTS WITH OUR LENDERS COULD RESULT IN ACCELERATION OF OUR REPAYMENT OBLIGATIONS We may incur substantial additional indebtedness to fund our growth strategy. Incurring substantial additional indebtedness would reduce our financial flexibility and expose us to additional risks, including greater vulnerability to economic downturns and competitive pressures. Our agreements with our lenders contain significant operating and financial restrictions. Our current credit agreements and other loan documents contain restrictive covenants, including restrictions on incurrence of debt, dividend payments, sales of assets, acquisitions and other business combinations, transactions with affiliates, liens and investments. If we fail to comply with existing or future debt covenants, we could default under these agreements. If a default were to occur, the lender under such agreement could accelerate our repayment of the indebtedness evidenced by that agreement. Acceleration of our repayment obligations may also be required under any other agreements then in effect containing cross-acceleration or cross-default provisions. Any acceleration of our outstanding indebtedness could result in foreclosure against our operating and working capital assets, the termination of our license or other agreements and our bankruptcy. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." THE MARKET PRICE OF OUR CLASS A COMMON STOCK COULD BE ADVERSELY AFFECTED BY FUTURE SALES OF SUBSTANTIAL AMOUNTS OF SHARES IN THE PUBLIC MARKET There will be an aggregate of 4,333,333 shares of Class A Common Stock outstanding immediately after the offering, which amount could increase by up to 600,000 shares if the underwriters exercise their over-allotment option. Of these shares, the 4,000,000 shares of Class A Common Stock sold in this offering and, commencing six months after the completion of this offering, 58,333 shares of Class A Common Stock registered for resale, from time to time, by Windsong, Inc. will be freely tradable under the Securities Act of 1933. The balance of the shares of Class A Common Stock issued to Windsong, Inc. in connection with the Windsong acquisition and the up to 3,775,667 shares of Class A Common Stock to be issued upon conversion of the 3,775,667 outstanding shares of Class B Common Stock will be "restricted securities" and may, in the future, be sold in compliance with Rule 144 under the Securities Act, subject, in the case of the shares issued to Windsong, Inc., to the resale restrictions in the Windsong acquisition agreement. See "Shares Eligible for Future Sale." The sale or availability for sale of a large number of shares in the market after the offering could cause a decline in the market price of the Class A Common Stock. This could make it more difficult for us to raise funds through future offerings of our stock. 20 ABSENCE OF CURRENT PUBLIC MARKET, DETERMINATION OF PUBLIC OFFERING PRICE AND MARKET UNCERTAINTY MAY CAUSE THE MARKET PRICE OF THE CLASS A COMMON STOCK TO FLUCTUATE There has not been a public market for the Class A Common Stock. We have applied for listing of the Class A Common Stock on the Nasdaq National Market. We do not know the extent to which investor interest in our stock will cause an active trading market to develop or be sustained, or how liquid that market might be. The market price for the Class A Common Stock could also fluctuate in response to various factors and events, including liquidity of the market for our shares, quarter-to-quarter variations in our results of operations and our significant developments and of other industry participants, pricing and competition in our industry, broad market fluctuations and economic and political conditions not directly related to our business. The initial public offering price of the Class A Common Stock will be determined by negotiation between us and representatives of the underwriters. Investors may not be able to resell their shares at or above the price that they pay in the initial public offering. PURCHASERS OF CLASS A COMMON STOCK WILL EXPERIENCE IMMEDIATE DILUTION AND WILL BE SUBJECT TO POTENTIAL FUTURE DILUTION Based upon our pro forma net tangible book value as of March 31, 1999, purchasers of Class A Common Stock in the offering will experience an immediate dilution of $9.37 in the pro forma net tangible book value per share of Class A Common Stock from the initial public offering price of $12.00 per share. Moreover, additional issuances of Class A Common Stock pursuant to the exercise of stock options or warrants that we may issue from time to time, or as payment of the deferred purchase price in connection with the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, could cause further dilution in the net tangible book value per share of the Class A Common Stock. See "Dilution." FORWARD-LOOKING STATEMENTS An investment in the Class A Common Stock offered hereby is speculative in nature and involves a high degree of risk. Some statements made in this prospectus under the captions "Prospectus Summary," "Risk Factors," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Business" and elsewhere in this prospectus are forward-looking statements. Forward-looking statements are identified by use of terms such as "may," "will," "expect," "anticipate," "believe," "estimate," "intend," "plan" and similar expressions, although some forward-looking statements are expressed differently. Although we believe these statements are reasonable, there are important risks and uncertainties, including those discussed in the "Risk Factors" section above, that could cause actual results to differ materially from those expressed or implied by such forward-looking statements, including changes in general economic and business conditions, actions of competitors, changes in our business strategies and the factors set forth under the captions "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business." 21 USE OF PROCEEDS Our net proceeds from the sale of 4,000,000 shares of Class A Common Stock in this offering, after payment of expenses of this offering, are estimated to be approximately $43.2 million, or $49.9 million if the underwriters' over-allotment option is exercised in full, assuming an initial public offering price of $12.00 per share, the midpoint of the range set forth on the cover page of this prospectus. We intend to apply the net proceeds as follows: (In thousands) Windsong acquisition ............................ $22,000 Windsong escrow ................................. 4,250(1) Notes due to sellers of Diversified Apparel and Global Sourcing Network ......................... 1,200(2) Components acquisition .......................... 4,695 Repay indebtedness .............................. 11,055(3) ------- $43,200 ======= - ---------- (1) Indicates the amount that we will deposit in escrow prior to the closing of the Windsong acquisition to secure the payment of a performance-based portion of the purchase price of the Windsong acquisition. These funds will be released from escrow to Windsong, no later than March 31, 2000 if Windsong achieves targeted performance results. If these results are not achieved, the funds will be released to us and used for general corporate purposes. (2) These notes bear interest at a rate of 10% per annum and mature in May 2002. (3) Indicates the amount of proceeds that will be used to repay indebtedness under our revolving credit line with PNC Bank, National Association, which matures April 15, 2002. Borrowings under the PNC Bank revolving credit line bear interest, at our option, at a rate based on either the bank's commercial lending rate plus 0.5% or LIBOR plus 2.75%. In addition to the funding of our working capital requirements, borrowings under the PNC Bank revolving credit line were used to fund a $1.56 million tax distribution, the $1.4 million initial cash portion of the purchase price for Global Sourcing Network and the $800,000 initial cash portion of the Diversified Apparel purchase price. See "Certain Relationships and Related Transactions" and "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Significant Acquisitions." As of June 30, 1999, $11.8 million was outstanding under the revolving credit line. 22 CAPITALIZATION The following table sets forth as of March 31, 1999: (1) our actual capitalization, giving retroactive effect to the issuances of Class B Common Stock to our sole stockholder which have occurred or will occur prior to the completion of the offering; (2) our pro forma combined capitalization after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, including the issuance of 333,333 shares of Class A Common Stock to Windsong, based on an assumed initial offering price of $12.00 per share, as part of our acquisition of Windsong; and (3) our pro forma combined capitalization, as adjusted to give effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, our sale of 4,000,000 shares of Class A Common Stock pursuant to the offering, assuming an initial public offering price of $12.00 per share, and the application of the net proceeds of the offering as described under "Use of Proceeds." Our pro forma combined capitalization, as adjusted, set forth below, excludes shares of Class A Common Stock which may be issued as deferred purchase price under the terms of the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions. This table should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Pro Forma Combined Financial Data" and the audited financial statements and the notes thereto included elsewhere in this prospectus.
AS OF MARCH 31, 1999 ------------------------------------------------ PRO FORMA COMBINED, ACTUAL PRO FORMA COMBINED AS ADJUSTED ---------- -------------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Long term debt, net of current maturities .............. $13,054 $16,969 $ 5,914 Stockholders' equity: Class A Common Stock, par value $.001 per share; 12,000,000 shares authorized, no shares issued and outstanding, 333,333 shares issued and outstanding pro forma combined and 4,333,333 shares issued and outstanding pro forma combined, as adjusted ......... -- -- 4 Class B Common Stock, par value $.0002 per share; 10,000,000 shares authorized, 3,775,667 shares issued and outstanding actual, pro forma combined and pro forma combined, as adjusted ................. -- -- -- Additional paid-in capital ............................. 3,191 7,191 50,387 Retained earnings ...................................... 282 282 282 ------- ------- ------- Total stockholders' equity ........................... 3,473 7,473 50,673 ------- ------- ------- Total capitalization ................................... $16,527 $24,442 $56,587 ======= ======= =======
23 DIVIDEND POLICY We have not declared or paid any cash or other dividends on our capital stock and we do not expect to pay dividends for the foreseeable future. We anticipate that all of our earnings in the foreseeable future will be used for the operation of our business, to support our growth strategy and to reduce our indebtedness. Any future determination to pay dividends will be at the discretion of our Board of Directors and will depend upon, among other factors, our results of operations, financial condition and capital requirements. In addition, our existing credit facility with PNC Bank, National Association, and other loan agreements contain, and any successor facility will likely contain, prohibitions on our ability to pay dividends. Please refer to the "Certain Relationships and Related Transactions" section of this prospectus, however, for a description of tax-related distributions required to be made by MS Pietrafesa, L.P. to its partners under its partnership agreement. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." DILUTION Our net tangible book value as of March 31, 1999, was $3.3 million, or $0.88 per share of Common Stock. Net tangible book value per share represents the amount of total tangible assets less total liabilities, divided by the aggregate number of shares of Common Stock outstanding. Dilution in the net tangible book value per share represents the difference between the amount per share paid by purchasers of shares of Class A Common Stock in this offering and the net tangible book value per share of Common Stock immediately afterwards. After giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions and our obligation to issue to Windsong, Inc. as part of our acquisition of Windsong, $4.0 million worth of Class A Common Stock at our initial public offering price, which would result in the issuance of 333,333 shares of Class A Common Stock, our net tangible book value as of March 31, 1999 would have been $(21.9) million or $(5.33) per share. After giving effect to the sale of 4,000,000 shares of Class A Common Stock offered hereby at an assumed initial public offering price of $12.00 per share, and the application of the net proceeds therefrom, our pro forma net tangible book value as of March 31, 1999 would have been approximately $21.3 million, or $2.63 per share. This represents an immediate increase in net tangible book value of $7.96 per share to the holder of our Class B Common Stock and an immediate dilution in net tangible book value of $9.37 per share to purchasers of Class A Common Stock in the offering. The following table illustrates this per share dilution. Assumed initial public offering price per share ....................................... $ 12.00 Net tangible book value per share of Common Stock as of March 31,1999 ................ $ 0.88 Decrease in net tangible book value per share of Common Stock attributable to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions ....................................................................... (6.21) ------- Pro forma net tangible book value per share of Common Stock after the acquisitions ... (5.33) Increase in pro forma net tangible book value per share of Common Stock attributable to new investors ...................................................... 7.96 ------- Pro forma net tangible book value per share of Common Stock after the acquisitions and the offering ................................................................... 2.63 -------- Dilution per share of Class A Common Stock to new investors .......................... $ 9.37 ========
24 The following table sets forth, on the pro forma basis described above, as of March 31, 1999, the difference between the number of shares purchased, the total consideration paid and the average price per share paid by the existing stockholder and new investors purchasing shares of Class A Common Stock in this offering. The information presented is based upon an assumed initial public offering price of $12.00 per share, the midpoint of the range set forth on the cover page of this prospectus, before deducting the estimated offering expenses and underwriting discounts and commissions:
SHARES TOTAL CONSIDERATION ------------------------------ ------------------------- AVERAGE PRICE NUMBER PERCENT AMOUNT PERCENT PER SHARE ------------------ --------- ------------- --------- -------------- Existing stockholder ......... 3,775,667 46.6% $ 8,184,454 13.6% $ 2.17 Windsong, Inc. ............... 333,333(1) 4.1 4,000,000 6.6 12.00 New investors ................ 4,000,000 49.3 48,000,000 79.8 12.00 --------- ----- ----------- ----- 8,109,000(2) 100.0% $60,184,454 100.0% ========= ===== =========== =====
- ---------- (1) Represents shares issued as part of the purchase price of the Windsong acquisition. (2) Excludes shares of Class A Common Stock to be reserved for issuance upon the exercise of options which may be issued under our Stock Option Plan, under which options to purchase a number of shares equal to 10% of our outstanding capital stock immediately following the offering may be granted. See "Management -- Stock Option Plan." 25 SELECTED HISTORICAL CONSOLIDATED FINANCIAL DATA The following tables present our selected historical statement of operations and historical balance sheet data for each year in the five-year period ended December 31, 1998 and for the three-month periods ended March 31, 1998 and 1999. The selected annual historical financial data were derived from audited consolidated financial statements. The selected historical financial data as of March 31, 1998 and 1999 and for the three-month periods then ended were derived from our unaudited interim financial statements. The unaudited financial statements include all adjustments, consisting of normal recurring accruals, which we consider necessary for a fair presentation of the financial position, and the results of operations for these periods. Operating results for the three-month period ended March 31, 1999 are not necessarily indicative of the results that may be expected for the entire year ending December 31, 1999. Our statement of operations, balance sheet and other data include a number of items that require further explanation. These items include: o Impairment loss on fixed assets, which relates to the reduction of property, plant, and equipment to their net realizable value less sale costs based on independent appraisals. In 1995, we discontinued the low price point tailored clothing segment of our business and closed the related manufacturing facilities located in Carrollton, Georgia. Accordingly, in 1995 we reduced the net book value of plant and equipment, as well as furniture and fixtures, located at the Carrollton facility, to their net realizable value and realized an impairment loss of $2.3 million. The impairment loss of $170,000 in 1996 related to equipment which we disposed of at our former Sturgis, Kentucky facility; o Public offering costs, which relate to the abandonment of our public offering in 1998 due to adverse market conditions; o Provision for income taxes, which was not included in our statement of operations data prior to October, 1998 because our predecessor, MS Pietrafesa, L.P., was not subject to state or federal income taxes; o Extraordinary item, which relates to the forgiveness of all of our outstanding subordinated debt in 1996; and o Pro forma weighted average number of common shares outstanding, basic and diluted, for 1998 and the first quarter of 1999, which consists of the 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview" and " -- Results of Operations" for a more detailed explanation of these items. In addition, we have included under "Other Data" below and in our Selected Historical Consolidated Financial Data, the line item "EBITDA plus public offering costs," which represents income (loss) before provision (benefit) for income taxes plus depreciation and amortization plus interest expense plus public offering costs. EBITDA plus public offering costs is not intended to represent cash flows from operations and should not be considered as an alternative to net income as an indicator of our operating performance or to cash flows as a measure of liquidity. We believe that EBITDA is a standard measure commonly reported and widely used by analysts, investors and other interested parties in the apparel industry. Accordingly, as modified to exclude our public offering costs, it has been disclosed in this prospectus to permit a more complete description of our performance relative to other companies in the apparel industry. Our definition of EBITDA may not be identical to the definitions used by other companies and, therefore, may not necessarily provide an accurate basis for comparison. The selected historical financial data set forth below should be read in conjunction with our financial statements and notes thereto included elsewhere in this prospectus, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and other financial data included herein. 26
FOR THE THREE MONTHS FOR THE YEAR ENDED DECEMBER 31, ENDED MARCH 31, ------------------------------------------------------------- -------------------------- 1994 1995 1996 1997 1998 1998 1999 ---------- ------------- ----------- ----------- ------------ ------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues ......................... $54,859 $ 51,431 $ 44,000 $ 37,582 $ 56,763 $ 9,503 $ 17,803 Cost of sales ........................ 45,803 46,533 34,769 29,218 47,062 7,028 14,833 ------- --------- -------- -------- ---------- ---------- ---------- Gross profit ......................... 9,056 4,898 9,231 8,364 9,701 2,475 2,970 Operating expenses: Selling, general and administrative expenses ........... 7,250 10,080 7,427 6,150 5,536 1,305 1,201 Impairment loss on fixed assets ..... -- 2,324 170 -- -- -- -- Depreciation and amortization expense ........................... 99 102 165 151 222 64 68 ------- --------- -------- -------- ---------- ---------- ---------- 7,349 12,506 7,762 6,301 5,758 1,369 1,269 ------- --------- -------- -------- ---------- ---------- ---------- Operating income (loss) .............. 1,707 (7,608) 1,469 2,063 3,943 1,106 1,701 Interest expense ..................... 1,648 1,914 1,962 1,507 1,209 253 296 Public offering costs ................ -- -- -- -- 823 -- -- ------- --------- -------- -------- ---------- ---------- ---------- Income (loss) before income taxes and extraordinary item .............. 59 (9,522) (493) 556 1,911 853 1,405 Provision for income taxes ........... -- -- -- -- 514 -- 565 ------- --------- -------- -------- ---------- ---------- ---------- Income (loss) before extraordinary item .................. 59 (9,522) (493) 556 1,397 853 840 ------- --------- -------- -------- ---------- ---------- ---------- Extraordinary item ................... -- -- 3,150 -- -- -- -- ------- --------- -------- -------- ---------- ---------- ---------- Net income (loss) .................... $ 59 $ (9,522) $ 2,657 $ 556 $ 1,397 $ 853 $ 840 ======= ========= ======== ======== ========== ========== ========== PRO FORMA INCOME DATA: Income before income taxes ........... $ 1,911 $ 853 $ 1,405 Pro forma provision for income taxes ............................... 764 341 565 ---------- ---------- ---------- Pro forma net income ................. $ 1,147 $ 512 $ 840 ========== ========== ========== Pro forma basic and diluted net income per common share ............. $ 0.30 $ 0.14 $ 0.22 Pro forma basic and diluted weighted average number of common shares outstanding ........... 3,775,667 3,775,667 3,775,667
27
AS OF DECEMBER 31, AS OF MARCH 31, -------------------------------------------------------- --------------------- 1994 1995 1996 1997 1998 1998 1999 --------- ------------- ------------ --------- --------- --------- ----------- (IN THOUSANDS) BALANCE SHEET DATA: Working capital (deficiency) ......... $ 4,713 $ (3,287) $ (2,412) $ 4,642 $ 9,239 $ 5,707 $ 10,520 Total assets ......................... 40,035 27,116 23,627 19,673 29,375 21,838 29,944 Total long-term debt, net of current maturities .......................... 7,429 3,746 3,036 8,663 12,561 8,754 13,054 Total partners' capital and stockholders' equity ................ 8,818 (704) 2,153 2,709 2,383 3,562 3,473
FOR THE THREE MONTHS FOR THE YEAR ENDED DECEMBER 31, ENDED MARCH 31, -------------------------------------------------------------------- --------------------- 1994 1995 1996 1997 1998 1998 1999 ----------- ------------- ----------- ---------- ----------- --------- --------- (IN THOUSANDS) OTHER DATA: EBITDA plus public offering costs $ 2,719 $ (6,411) $ 2,415 $ 2,865 $ 4,731 $1,308 $1,886 Capital expenditures ............ 1,103 368 105 59 592 90 109 Cash (used in) provided by operating activities ........... (3,022) 3,779 2,445 3,056 (1,395) 28 (613) Cash (used in) provided by investing activities ........... (1,035) (265) 419 2,185 (563) (90) (109) Cash (used in) provided by financing activities ........... 4,540 (4,001) (2,866) (5,242) 1,969 62 721
28 PRO FORMA COMBINED FINANCIAL DATA Our pro forma combined financial data includes our statement of operations data which reflects our historical results after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as if they occurred on January 1, 1998, and also includes our balance sheet data, which reflects our balance sheet and the balance sheets of Diversified Apparel, Global Sourcing Network, Components and Windsong as if the acquisitions of such businesses had occurred on March 31, 1999. The acquisitions of Diversified Apparel and Global Sourcing Network were consummated on April 15, 1999. We have entered into definitive agreements to purchase the Components and Windsong businesses. Our acquisition of Components and Windsong will occur simultaneously with this offering. The pro forma combined, as adjusted financial data includes our pro forma combined information as adjusted for this offering and the application of the proceeds of this offering. The pro forma combined financial data are based upon preliminary estimates, available information and assumptions that management deems appropriate, but are not necessarily indicative of the results that would have been obtained had such events occurred at the times assumed or our future results. The pro forma combined financial statements should be read in conjunction with the other financial statements and notes thereto included elsewhere in this prospectus. The acquisitions have been recorded in the pro forma financial statements as a purchase in accordance with Accounting Principle Board Opinion No. 16. Accordingly, the purchase price of each acquisition has been allocated to the fair value of the assets acquired and the amount of the liabilities assumed, with the remainder allocated to goodwill. No other intangible assets were acquired as part of the acquisitions. The initial purchase price of Components will be paid entirely in cash. The initial purchase prices of Global Sourcing Network and Diversified Apparel were paid in cash and by the issuance of notes. The initial purchase price of Windsong will be paid in cash and $4.0 million worth of Class A Common Stock valued at the initial public offering price, assumed to be $12.00 per share, or 333,333 shares. A summary of the purchase price of the acquisitions and allocation of each such price to the fair value of assets acquired and liabilities assumed is shown below: SCHEDULE OF ALLOCATION OF PURCHASE PRICE OF ACQUISITIONS
GLOBAL DIVERSIFIED SOURCING TOTAL APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------ ------------ ------------- ------------- (IN THOUSANDS) PURCHASE PRICE: Cash portion ............................... $ 800 $ 1,400 $ 4,695 $ 22,000 $ 28,895 Equity portion ............................. -- -- -- 4,000 4,000 Sellers' notes ............................. 400 800 -- -- 1,200 Costs directly associated with the acquisition ............................... 350 350 350 400 1,450 --------- -------- -------- --------- --------- Total purchase price ....................... $ 1,550 $ 2,550 $ 5,045 $ 26,400 $ 35,545 ALLOCATION OF PURCHASE PRICE: Fair value of assets acquired .............. $ (2,457) $ (1,171) $ (8,660) $ (19,998) $ (32,286) Assumption of liabilities .................. $ 1,955 $ 1,121 $ 6,021 $ 16,862 $ 25,959 --------- -------- -------- --------- --------- Goodwill acquired .......................... $ 1,048 $ 2,500 $ 2,406 $ 23,264 $ 29,218 ========= ======== ======== ========= ========= Pro forma amortization expense ............. $ 105 $ 167 $ 160 $ 1,163 $ 1,595 ========= ======== ======== ========= ========= Pro forma amortization for quarter ......... $ 26 $ 42 $ 40 $ 291 $ 399 ========= ======== ======== ========= =========
29 Goodwill will be amortized over a period ranging from 10 to 20 years. The principal assets acquired or to be acquired for each of the acquisitions are accounts receivable, inventory and goodwill. The principal liabilities assumed for each of the acquisitions are accounts payable, accrued expenses and debt facilities. The amount of goodwill recorded in the pro forma financial statements is based on the assets and liabilities of the acquisitions as of March 31, 1999, which are estimated to approximate fair value at that date. The actual amount of goodwill recorded when the acquisitions are completed will vary depending on the actual amount of assets and liabilities of the acquisitions on the acquisition dates. However, we do not believe there will be a material difference between the assumed and actual amount of goodwill recorded since the purchase agreements contain mandatory purchase price adjustments to the extent that net assets or working capital do not meet targeted amounts. In addition, a portion of the purchase price for each of the above-referenced acquisitions will be deferred, which we will pay upon the achievement by the acquired business of specified performance targets. These deferred purchase price provisions may result in additional goodwill of $29.7 million that will be amortized over a period ranging from nine to 19 years. The initial goodwill plus the additional goodwill, if any, resulting from such deferred purchase price provisions would result in aggregate goodwill amortization of $2.1 million for the year ending December 31, 2000, $2.3 million for the year ending December 31, 2001, $2.5 million for the year ending December 31, 2002, $2.9 million for the year ending December 31, 2003, $3.3 million for the year ending December 31, 2004 and $3.7 million for the year ending December 31, 2005. The statement of operations data reflects the following pro forma adjustments: o A reduction of selling, general and administrative expenses totaling $2.7 million in 1998 representing the excess of actual 1998 compensation expense and benefits over the compensation and benefits to be paid to the former owners of Diversified Apparel, Global Sourcing Network, Components and Windsong, under their respective employment agreements. This pro forma information is shown solely to demonstrate the changed circumstances that will exist following the consummation of the acquisitions. Although the administrative expenses of the acquired businesses will decline after the offering as a result of the reduced compensation payable to the former owners of these businesses, the roles and responsibilities and the administrative function of these individuals will not be diminished as a result of the acquisitions. We do not expect to incur any additional administrative expense beyond those reflected in the adjustments going forward. We believe this information is necessary for investors to realistically assess the impact of these acquisitions; o The amortization of goodwill resulting from the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as if the acquisitions occurred on January 1, 1998. The calculation of this adjustment is shown in the table above entitled, "Schedule of Allocation of Purchase Price of Acquisitions"; o The reduction of interest expense incurred during 1998, the first quarter of 1999 and the first quarter of 1998 on interest-bearing subordinated accounts payable of Windsong that we will not assume as part of the Windsong acquisition; o The reduction of interest expense resulting from repayment of debt with the proceeds of the offering, net of a fee for unused availability under the PNC Bank credit facility that will result from the repayment of the PNC Bank credit facility with the proceeds of this offering; o The income tax effect of the pro forma adjustments and the additional tax expense necessary to adjust our historical income tax expense to a combined effective federal and state tax rate of 40%. See footnote 1 to the Pro Forma Statement of Operations for further information; o Pro forma combined weighted average number of shares outstanding, basic and diluted, includes, in addition to the 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering, 333,333 shares of Class A Common Stock issued to Windsong at the initial public offering price as part of our acquisition of Windsong, based on an assumed offering price of $12.00 per share; and o Pro forma combined, as adjusted weighted average number of common shares outstanding, basic and diluted, which includes, in addition to all shares of Class A Common Stock to be issued in the offering 30 and the initial portion of the Windsong acquisition price, 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering. The balance sheet data reflects the following pro forma adjustments: o Goodwill as a result of the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as calculated in the table above entitled, "Schedule of Allocation of Purchase Price of Acquisitions"; o Deposit of $4.25 million cash in escrow which will be paid to the sellers of Windsong if Windsong achieves specified earnings targets during 1999; o Elimination of certain liabilities that are not being assumed as part of the acquisition of Windsong; o For purposes of the acquisition pro forma adjustments, we have assumed an acquisitions payable amount, which represents the initial purchase price owed for the Components and Windsong acquisitions and the Windsong escrow amount. No interest expense has been provided for the Windsong and Components acquisitions as those acquisitions will be funded by the proceeds of the offering. See "Use of Proceeds"; o Elimination of common stock and retained earnings of the acquisitions; o Elimination of the additional paid-in capital of the acquisitions; o Issuance of $4.0 million worth of Class A Common Stock associated with the acquisition of Windsong at an assumed price of $12.00 per share; o Assumed net proceeds of approximately $43.2 million from this offering; and o Our use of the net proceeds of the offering. See "Use of Proceeds." In addition to the adjustments included in the pro forma combined financial data, our acquisition and integration of the acquired businesses may affect their operations in other ways. We expect the acquired businesses to be able to use our existing merchandising, sourcing, sales and accounting staff to perform certain functions performed for the acquired businesses historically by third party consultants. For example, as a condition to our acquisition of Global Sourcing Network, it agreed to stop paying royalties and commissions to third party consultants who assisted in the development, merchandising and international sourcing of apparel programs for S&K Famous Brands. These terminated commissions and royalties totaled $870,000 in 1998. We expect that our existing staff will perform these services for Global Sourcing Network at no additional cost to us and without any loss of revenues. We also expect to incur additional costs associated with being a public company which are estimated to be $300,000 per year. 31 PRO FORMA COMBINED STATEMENT OF OPERATIONS DATA FOR THE YEAR ENDED DECEMBER 31, 1998
THE GLOBAL PIETRAFESA DIVERSIFIED SOURCING TOTAL CORPORATION APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------- ---------- ------------ ---------- ------------ (IN THOUSANDS) STATEMENT OF OPERATIONS DATA: Net revenues ................................ $56,763 $ 2,633 $18,062 $19,993 $63,630 $ 161,081 Cost of sales ............................... 47,062 1,590 16,768 15,007 49,884 130,311 ------- ------- ------- ------- ------- --------- Gross profit ................................ 9,701 1,043 1,294 4,986 13,746 30,770 Operating expenses: Selling, general and administrative expenses .................................. 5,536 765 1,390 3,107 10,917 21,715 Depreciation and amortization expenses ..... 222 3 4 1 157 387 ------- ------- ------- ------- ------- --------- 5,758 768 1,394 3,108 11,074 22,102 ------- ------- ------- ------- ------- --------- Operating income (loss) ..................... 3,943 275 (100) 1,878 2,672 8,668 Interest expense ............................ 1,209 1 -- 293 1,661 3,164 Public offering costs ....................... 823 -- -- -- -- 823 ------- ------- ------- ------- ------- --------- Income (loss) before income taxes ........... 1,911 274 (100) 1,585 1,011 4,681 Provision for income taxes .................. 514 24 (46) 158 46 696 ------- ------- ------- ------- ------- --------- Net income (loss) ........................... $ 1,397 $ 250 $ (54) $ 1,427 $ 965 $ 3,985 ======= ======= ======= ======= ======= =========
COMPANY ACQUISITION PRO FORMA PRO FORMA PRO FORMA PRO FORMA OFFERING COMBINED, ADJUSTMENTS ADJUSTMENTS COMBINED ADJUSTMENTS AS ADJUSTED ------------- ------------- ------------- ------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues .................................... $ -- $ -- $ 161,081 $ -- $ 161,081 Cost of sales ................................... -- -- 130,311 -- 130,311 ------ -------- ---------- ------ ---------- Gross profit .................................... -- -- 30,770 -- 30,770 Operating expenses: Selling, general and administrative expenses ...................................... -- (2,667) 19,048 -- 19,048 Depreciation and amortization expenses ......... -- 1,595 1,982 -- 1,982 ------ -------- ---------- ------ ---------- -- (1,072) 21,030 -- 21,030 ------ -------- ---------- ------ ---------- Operating income (loss) ......................... -- 1,072 9,740 -- 9,740 Interest expense ................................ -- 157 3,321 (936) 2,385 Public offering costs ........................... -- -- 823 -- 823 Income (loss) before income taxes ............... -- 915 5,596 936 6,532 Provision for income taxes ...................... 250(1) 1,292(1) 2,238 374 2,612 -------- ---------- ---------- ------ ---------- Net income (loss) ............................... $ (250) $ (377) $ 3,358 $ 562 $ 3,920 ======== ========== ========== ====== ========== Basic and diluted net income (loss) per common share ................................... $ 0.82 $ 0.48 Basic and diluted weighted average number of common shares outstanding ................... 4,109,000 8,109,000
32 PRO FORMA COMBINED STATEMENT OF OPERATIONS DATA FOR THE THREE MONTHS ENDED MARCH 31, 1999
THE GLOBAL PIETRAFESA DIVERSIFIED SOURCING TOTAL CORPORATION APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------- ---------- ------------ ---------- --------- (IN THOUSANDS) STATEMENT OF OPERATIONS DATA: Net revenues ................................ $17,803 $2,233 $6,040 $5,384 $14,552 $46,012 Cost of sales ............................... 14,833 1,697 5,622 4,123 11,170 37,445 ------- ------ ------ ------ ------- ------- Gross profit ................................ 2,970 536 418 1,261 3,382 8,567 Operating expenses: Selling, general and administrative expenses .................................. 1,201 336 261 604 2,030 4,432 Depreciation and amortization expenses ..... 68 -- -- -- 40 108 ------- ------ ------ ------ ------- ------- 1,269 336 261 604 2,070 4,540 ------- ------ ------ ------ ------- ------- Operating income ............................ 1,701 200 157 657 1,312 4,027 Interest expense ............................ 296 4 -- 76 334 710 Public offering cost ........................ -- -- -- -- -- -- ------- ------ ------ ------ ------- ------- Income before income taxes .................. 1,405 196 157 581 978 3,317 Provision for income taxes .................. 565 (1) -- -- 44 608 ------- -------- ------ ------ ------- ------- Net income .................................. $ 840 $ 197 $ 157 $ 581 $ 934 $ 2,709 ======= ======= ====== ====== ======= =======
COMPANY ACQUISITION PRO FORMA PRO FORMA PRO FORMA PRO FORMA OFFERING COMBINED, AS ADJUSTMENTS ADJUSTMENTS COMBINED ADJUSTMENTS ADJUSTED ------------- ------------- ------------- ------------- ------------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues .................................... -- $ -- $ 46,012 $ -- $ 46,012 Costs of sales .................................. -- -- 37,445 -- 37,445 -- ------ ---------- ------ ---------- Gross profit .................................... -- -- 8,567 -- 8,567 Operating expenses: Selling, general and administrative expenses ...................................... -- 1 4,433 -- 4,433 Depreciation and amortization expenses ......... -- 399 507 -- 507 -- ------ ---------- ------ ---------- -- 400 4,940 -- 4,940 -- ------ ---------- ------ ---------- Operating income (loss) ......................... -- (400) 3,627 -- 3,627 Interest expense ................................ -- 2 712 (173) 539 -- ------ ---------- ------ ---------- Income (loss) before income taxes ............... -- (402) 2,915 173 3,088 Provision for income taxes ...................... -- 561(1) 1,169 66 1,235 -- -------- ---------- ------ ---------- Net income (loss) ............................... -- $ (963) $ 1,746 $ 107 $ 1,853 == ======== ========== ====== ========== Basic and diluted net income (loss) per common share ................................... $ 0.42 $ 0.23 Basic and diluted weighted average number of common shares outstanding ................... 4,109,000 8,109,000
33 PRO FORMA COMBINED STATEMENT OF OPERATIONS DATA FOR THE THREE MONTHS ENDED MARCH 31, 1998
THE GLOBAL PIETRAFESA DIVERSIFIED SOURCING TOTAL CORPORATION APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------- ---------- ------------ ---------- --------- (IN THOUSANDS) STATEMENT OF OPERATIONS DATA: Net revenues ................................ $9,503 $260 $5,831 $4,868 $17,312 $37,774 Cost of sales ............................... 7,028 18 5,372 3,596 13,684 29,698 ------ ---- ------ ------ ------- ------- Gross profit ................................ 2,475 242 459 1,272 3,628 8,076 Operating expenses: Selling, general and administrative expenses .................................. 1,305 176 324 509 2,090 4,404 Depreciation and amortization expenses ..... 64 -- -- -- 41 105 ------ ---- ------ ------ ------- ------- 1,369 176 324 509 2,131 4,509 ------ ---- ------ ------ ------- ------- Operating income ............................ 1,106 66 135 763 1,497 3,567 Interest expense ............................ 253 -- -- 67 448 768 Public offering costs ....................... -- -- -- -- -- -- ------ ---- ------ ------ ------- ------- Income before income taxes .................. 853 66 135 696 1,049 2,799 Provision for income taxes .................. -- 13 2 16 47 78 ------ ---- ------ ------ ------- ------- Net income .................................. $ 853 $ 53 $ 133 $ 680 $ 1,002 $ 2,721 ====== ==== ====== ====== ======= =======
COMPANY ACQUISITION PRO FORMA PRO FORMA PRO FORMA PRO FORMA OFFERING COMBINED, AS ADJUSTMENTS ADJUSTMENTS COMBINED ADJUSTMENTS ADJUSTED ------------- ------------- ------------- ------------- ------------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) STATEMENT OF OPERATIONS DATA Net revenues .................................... $ -- $ -- $ 37,774 $ -- $ 37,774 Costs of sales .................................. -- -- 29,698 -- 29,698 ------ ------ ---------- ------ ---------- Gross profit .................................... -- -- 8,076 -- 8,076 Operating expenses: Selling, general and administrative expenses ...................................... -- (93) 4,311 -- 4,311 Depreciation and amortization expenses ......... -- 399 504 -- 504 ------ ------ ---------- ------ ---------- -- 306 4,815 -- 4,815 ------ ------ ---------- ------ ---------- Operating income (loss) ......................... -- (306) 3,261 -- 3,261 Interest expense ................................ -- (161) 607 (257) 350 Public offering costs ........................... -- -- -- -- -- ------ ------ ---------- ------ ---------- Income (loss) before income taxes ............... -- (145) 2,654 257 2,911 Provision for income taxes ...................... 341(1) 642(1) 1,061 103 1,164 -------- -------- ---------- ------ ---------- Net income (loss) ............................... $ (341) $ (787) $ 1,593 $ 154 $ 1,747 ======== ======== ========== ====== ========== Basic and diluted net income per common share .......................................... $ 0.39 $ 0.22 Basic and diluted weighted average number of common shares outstanding ................... 4,109,000 8,109,000
- ---------- (1) Reflects the income tax effect of the pro forma adjustments and the additional tax expense necessary to adjust our historical income tax expense to a combined effective federal and state tax rate of 40%. This pro forma adjustment was made to reflect this effective rate as the income of The Pietrafesa Corporation and the combining companies was not all taxable in 1998 but would have been taxable had the transaction been consummated on January 1, 1998. Prior to October 1, 1998, The Pietrafesa Corporation operated as a limited partnership with income and loss included in the taxable income of the individual partners. 34 Diversified Apparel, Components and Windsong operated as S-corporations for federal income tax purposes. Accordingly, the income and loss of Diversified Apparel, Components and Windsong were included in the taxable income of their shareholders. These adjustments are summarized as follows:
FOR THE THREE MONTHS FOR THE FOR THE YEAR ENDED ENDED THREE MONTHS ENDED DECEMBER 31, 1998 MARCH 31, 1999 MARCH 31, 1998 ----------------------------- ---------------- ---------------------------- COMPANY ACQUISITION ACQUISITION COMPANY ACQUISITION PRO FORMA PRO FORMA PRO FORMA PRO FORMA PRO FORMA ADJUSTMENTS ADJUSTMENTS ADJUSTMENTS ADJUSTMENTS ADJUSTMENTS ------------- ------------- ---------------- ------------- ------------ (IN THOUSANDS) To adjust historical income tax expense to an effective tax rate of 40% The Pietrafesa Corporation ......... $250 $341 Diversified Apparel ................ $ 86 $ 79 $ 13 Global Sourcing Network ............ 6 63 52 Components ......................... 476 232 262 Windsong ........................... 358 348 373 Tax effect of pro forma adjustments assuming a 40% tax rate ............ 366 (161) (58) ------- ------ ----- Total .............................. $250 $ 1,292 $ 561 $341 $ 642 ==== ======= ====== ==== =====
35 PRO FORMA COMBINED BALANCE SHEET DATA AS OF MARCH 31, 1999
THE GLOBAL PIETRAFESA DIVERSIFIED SOURCING TOTAL CORPORATION APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------- ---------- ------------ ---------- --------- (IN THOUSANDS) BALANCE SHEET DATA: Assets Current assets Cash ......................................... $ 13 $ 116 $ -- $ 187 $ 21 $ 337 Accounts receivable .......................... 8,488 1,471 589 5,199 8,527 24,274 Inventories .................................. 12,682 792 434 2,454 9,473 25,835 Prepaid expenses and other assets ............ 1,313 56 139 -- 1,308 2,816 ------- ------ ------ ------ ------- ------- Total current assets .......................... 22,496 2,435 1,162 7,840 19,329 53,262 Property, plant and equipment, net ............. 6,523 13 9 312 598 7,455 Goodwill ....................................... -- -- -- -- -- -- Other assets ................................... 925 9 -- 508 71 1,513 ------- ------ ------ ------ ------- ------- Total assets ................................... $29,944 $2,457 $1,171 $8,660 $19,998 $62,230 ======= ====== ====== ====== ======= ======= Liabilities and stockholders' equity Current liabilities Credit facility .............................. $ -- $ 150 $ -- $3,369 $10,707 $14,226 Accounts payable ............................. 7,166 1,300 898 2,494 6,365 18,223 Other current liabilities .................... 2,767 357 223 158 859 4,364 Tax distribution payable ..................... 1,516 70 -- -- -- 1,586 Current maturities of long-term debt ....................................... 527 -- -- -- 124 651 ------- ------ ------ ------ ------- ------- Total current liabilities ..................... 11,976 1,877 1,121 6,021 18,055 39,050 Deferred tax liability ......................... 1,441 -- -- -- -- 1,441 Long-term debt, net of current maturities .................................... 13,054 -- -- -- 187 13,241 Stockholders' equity Common stock .................................. -- 1 1 300 1 303 Additional paid-in capital .................... 3,191 -- -- -- 6 3,197 Retained earnings ............................. 282 579 49 2,339 1,749 4,998 ------- ------ ------ ------ ------- ------- Total stockholders' equity ..................... 3,473 580 50 2,639 1,756 8,498 ------- ------ ------ ------ ------- ------- Total liabilities and stockholders' equity ..... $29,944 $2,457 $1,171 $8,660 $19,998 $62,230 ======= ====== ====== ====== ======= =======
36
AS OF MARCH 31, 1999 ---------------------------------------------------------------------------- COMPANY ACQUISITION PRO FORMA TOTAL PRO FORMA PRO FORMA PRO FORMA COMBINED, COMBINED ADJUSTMENTS ADJUSTMENTS COMBINED OFFERING AS ADJUSTED ---------- ------------- ------------- ----------- ------------ ------------ (IN THOUSANDS) BALANCE SHEET DATA (CONT.): Assets Current assets Cash ........................................ $ 337 $ -- $ -- $ 337 $ -- $ 337 Accounts receivable ......................... 24,274 -- -- 24,274 -- 24,274 Inventories ................................. 25,835 -- -- 25,835 -- 25,835 Prepaid expenses and other assets ........... 2,816 -- -- 2,816 -- 2,816 ------- ------- -------- ------- --------- ------- Total current assets ......................... 53,262 -- -- 53,262 -- 53,262 ------- ------- -------- ------- --------- ------- Property, plant and equipment, net ............ 7,455 -- -- 7,455 -- 7,455 Goodwill ...................................... -- -- 29,218 29,218 -- 29,218 Other assets .................................. 1,513 -- 4,250 5,763 -- 5,763 ------- ------- -------- ------- --------- ------- Total assets .................................. $62,230 $ -- $ 33,468 $95,698 $ -- $95,698 ======= ======= ======== ======= ========= ======= Liabilities and stockholders' equity Current liabilities Credit facility ............................. $14,226 $ -- $ -- $14,226 $ -- $14,226 Accounts payable ............................ 18,223 -- (1,380) 16,843 -- 16,843 Other current liabilities ................... 4,364 -- 1,200 5,564 (1,200) 4,364 Tax distribution payable .................... 1,586 -- -- 1,586 -- 1,586 Current maturities of long-term debt ...................................... 651 -- -- 651 -- 651 ------- ------- -------- ------- --------- ------- Total current liabilities .................... 39,050 -- (180) 38,870 (1,200) 37,670 ------- ------- -------- ------- --------- ------- Acquisitions payable: Components ................................... 4,695 4,695 (4,695) -- Windsong ..................................... 22,000 22,000 (22,000) -- Windsong escrow .............................. 4,250 4,250 (4,250) -- -------- ------- --------- ------- 30,945 30,945 (30,945) -- Deferred tax liability ........................ 1,441 -- -- 1,441 -- 1,441 Long-term debt, net of current maturities 13,241 -- 3,728 16,969 (11,050) 5,914 Stockholders' equity Common stock ................................. 303 -- (303) -- 4 4 Additional paid in capital ................... 3,197 -- 3,994 7,191 43,196 50,387 Retained earnings ............................ 4,998 -- (4,716) 282 -- 282 ------- ------- -------- ------- --------- ------- Total stockholders' equity .................... 8,498 -- (1,025) 7,473 43,200 50,673 ------- ------- -------- ------- --------- ------- Total liabilities and stockholders' equity .... $62,230 $ -- $ 33,468 $95,698 $ -- $95,698 ======= ======= ======== ======= ========= =======
37 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Selected Historical and Pro Forma Combined Financial Data and the Combined Financial Statements and Notes thereto included in this prospectus. OVERVIEW We began our business in 1922 as a contract manufacturer of branded tailored clothing, and in the 1970s started producing directly for large retailers. In 1990, an investment group led by Richard C. Pietrafesa, Jr. and Joseph J. Pietrafesa II created MS Pietrafesa, L.P. and acquired the business in a management buyout from their father and uncle. In the early 1990s, we formalized our growth strategy of focusing on developing proprietary brand programs for major retailers. Our strategy at that time was to support these programs by increasing production capacity to serve a broader range of price points and to develop state-of-the-art manufacturing capabilities at our Liverpool, New York facility. Our proprietary brand strategy produced significant revenue growth. Despite material revenue growth from 1993 to 1994, our profits grew only modestly. Our profitability was adversely impacted during this period by the costs of expanding operations and manufacturing facilities to support planned growth and meet customers' expanding production needs, as well as by competition from products supplied by foreign sources. During the period 1995 through 1997, we divested all of our manufacturing assets other than the Liverpool facility, refinanced our secured lending arrangements and negotiated the forgiveness of our subordinated indebtedness. Beginning in 1997, we developed a new business strategy designed to leverage our reputation as a developer of innovative dress apparel programs for retailers. This strategy was far less reliant on our own manufacturing assets, and emphasized our expertise in garment design and production management through sourcing arrangements with third party manufacturers. See "Risk Factors -- Failure by Third Party Manufacturers to Fulfill their Obligations could Adversely Affect our Ability to Deliver Products in a Timely Manner and could Reduce our Profitability," As part of this new strategy, in 1998 we commenced acquisition discussions with various independent merchandising and sourcing companies. See "Business -- Business Strategy" and "Business -- Acquisition Strategy." SIGNIFICANT ACQUISITIONS TERMS OF THE ACQUISITIONS. In addition to the measures described above and taken during 1995 through 1997, we have completed the acquisitions of Diversified Apparel and Global Sourcing Network. We will complete the acquisitions of Components and Windsong simultaneously with the consummation of this offering. We believe that the terms of each acquisition satisfy all elements of our acquisition strategy. See "Business -- Reorganization, Acquisitions and Operating Unit Structure." The terms of each acquisition are as follows: On April 15, 1999, we purchased all of the assets of Diversified Apparel. Under the terms of the Diversified Apparel acquisition agreement, we paid $800,000 in cash and issued a promissory note in the principal amount of $400,000. In addition, we assumed some existing liabilities of Diversified Apparel totaling $2.0 million as of March 31, 1999, which consisted of approximately $1.3 million of trade payables, as well as third party indebtedness. Diversified Apparel merchandises and sources apparel, including lower to mid-priced suits and dress shirts, to value-priced apparel retailers. The purchase price also includes a potential five-year earn-out of $800,000 payable in cash or, in limited circumstances, shares of Class A Common Stock at our option, based on Diversified Apparel's achievement of specified annual pre-tax earnings targets. These targets require aggregate growth of 46% in pre-tax earnings over the five-year period from 1999 through 2003. These targets are measured annually and, if an annual target is missed, the earn-out payment for such year will be deferred or forfeited, depending on the extent to which actual performance falls short of the target. 38 On April 15, 1999, we purchased all of the issued and outstanding capital stock of Global Sourcing Network. Under the terms of the Global Sourcing Network acquisition agreement, the initial purchase price consisted of $1.4 million in cash and the issuance of a promissory note payable to the sole stockholder of Global Sourcing Network, in the principal amount of $800,000. Global Sourcing Network sources men's suits for S&K Famous Brands. The purchase price also includes a potential five-year earn-out of $2.2 million payable in cash based on Global Sourcing Network's achievement of specified annual pre-tax earnings targets. These targets require aggregate growth of 31% in pre-tax earnings over the five-year period from 1999 through 2003. These targets are measured annually and, if an annual target is missed, the earn-out payment for such year will be deferred or forfeited, depending on the extent to which actual performance falls short of the target. Concurrent with the closing of this offering, we will acquire all of the assets of Components. The purchase price will consist of $4.7 million in cash. In addition, we will assume some existing liabilities of Components totaling $6.0 million as of March 31, 1999, consisting of approximately $5.0 million of trade payables and factor advances, as well as third party indebtedness. Components merchandises and sources St. Andrews tailored clothing, as well as sportswear, dress shirts, neckwear, topcoats and casual slacks in Italy. The purchase price also includes a potential six-year earn-out of $4.7 million payable in cash or, in limited circumstances, shares of Class A Common Stock based on Components' achievement of specified annual pre-tax earnings targets. These targets require aggregate growth of 76.5% in pre-tax earnings over the six-year period from 1999 through 2004. These targets are measured annually and, if an annual target is missed, the earn-out payment for such year will be deferred or forfeited, depending on the extent to which actual performance falls short of the target. Concurrent with the closing of this offering, we will acquire substantially all of the assets of Windsong. Windsong merchandises and sources men's sportswear worldwide. The purchase price will consist of $22.0 million in cash, $4.0 million in shares of Class A Common Stock valued at the initial public offering price, and our assumption of approximately $16.9 million of Windsong liabilities as of March 31, 1999. See "Use of Proceeds." The liabilities to be assumed include approximately $16.7 million of operating liabilities, including the balance outstanding under Windsong's factoring agreement with FINOVA, which was $10.7 million as of March 31, 1999 but exclude subordinated accounts payable of $1.4 million as of March 31, 1999 and liabilities associated with Windsong's defined benefit pension plan. As of June 30, 1999, the outstanding balance under the Finova Factoring Agreement was $8.0 million. The purchase price also includes a potential six-year earn-out of $22.0 million. Aside from $1.0 million worth of shares of Class A Common Stock which Windsong, Inc. may earn in year one of the earn-out, the earn-out is payable in cash or, in limited circumstances, at our option, shares of Class A Common Stock, based on Windsong's achievement of specified annual pre-tax earnings targets. These targets require Windsong to achieve $6.3 million in pre-tax earnings during 1999 and to increase pre-tax earnings by approximately 33% by 2004. These targets are measured annually and, if an annual target is missed, the earn-out payment for such year will be deferred or forfeited, depending on the extent to which actual performance falls short of the target. If at any time Philip Ean Cohen ceases to control The Pietrafesa Corporation, other than because of his death or disability, the then present value of the remaining earn-out payments will become immediately due to Windsong. Following the acquisition, the operations of the Windsong unit will be under the day-to-day control of an advisory board consisting principally of executives of Windsong, Inc. POSSIBLE IMPACT OF ACQUISITIONS ON RESULTS OF OPERATIONS. The consummation of the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions is expected to affect our results of operations in significant respects. Our depreciation and amortization expense will be significantly higher than the corresponding amounts from prior to the acquisitions and will never be less than $1.6 million per year over the next 10 years. Additionally, the earn-out portions of the purchase prices of Diversified Apparel, Global Sourcing Network, Components and Windsong will be recorded as additional goodwill to the extent they are earned. Accordingly, our depreciation and amortization expense will increase as a result of the amortization of this additional goodwill. See "Risk Factors -- Reductions in our Future Net Income Caused by the Amortization of Goodwill may Adversely Affect the Market Price of our Common Stock." RESULTS OF OPERATIONS As an aid to understanding The Pietrafesa Corporation's, Global Sourcing Network's, Components' and Windsong's results of operations on a comparative basis, we have prepared the following discussion setting 39 forth items within The Pietrafesa Corporation's, Global Sourcing Network's, Components' and Windsong's statements of income as a percentage of net revenues for the periods indicated. Cost of sales for The Pietrafesa Corporation include costs associated with manufacturing and sourcing of product. Cost of sales for manufactured product includes raw materials, direct and indirect labor, and manufacturing overhead. The Pietrafesa Corporation's cost of sales for sourced product includes raw materials and contractor costs. Global Sourcing Network's, Components' and Windsong's cost of sales include raw materials and contractor costs. Selling, general, and administrative expenses for The Pietrafesa Corporation and the acquired companies primarily include payroll costs associated with selling and administrative functions, licensing fees, travel, sample, rent, legal, and other general office expenses. Financial information for Diversified Apparel has not been included because its historical results of operations are not material as compared to the results of operations of the other companies. The following discussion of the results of operations and financial position should be read in conjunction with the financial statements, including the notes thereto, appearing elsewhere in this prospectus. THE PIETRAFESA CORPORATION The following table sets forth financial data as a percentage of net revenues for The Pietrafesa Corporation. This information may not be indicative of our future results. For more information, see the financial statements of The Pietrafesa Corporation, including the notes thereto, appearing elsewhere in this prospectus.
FOR THE FOR THE YEAR ENDED THREE MONTHS DECEMBER 31, ENDED MARCH 31, --------------------------------------- ------------------------- 1996 1997 1998 1998 1999 ----------- ----------- ----------- ----------- ----------- (UNAUDITED) Net revenues ................................ 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales ............................... 79.0 77.7 82.9 74.0 83.3 ----- ----- ----- ----- ----- Gross profit ................................ 21.0 22.3 17.1 26.0 16.7 Selling, general and administrative ......... 16.9 16.4 9.8 13.7 6.7 Impairment loss on fixed assets ............. 0.4 -- -- -- -- Depreciation and amortization ............... 0.4 0.4 0.4 0.7 0.4 ----- ----- ----- ----- ----- Operating income ............................ 3.3 5.5 6.9 11.6 9.6 Interest expense ............................ 4.5 4.0 2.1 2.7 1.7 Public offering costs ....................... -- -- 1.4 -- -- ----- ----- ----- ----- ----- Income (loss) before income taxes and extraordinary item ......................... ( 1.2) 1.5 3.4 8.9 7.9 Provision for income taxes .................. -- -- 0.9 -- 3.2 ----- ----- ----- ----- ----- Income (loss) before extraordinary item ..... ( 1.2) 1.5 2.5 8.9 4.7 Extraordinary item .......................... 7.2 -- -- -- -- ----- ----- ----- ----- ----- Net income .................................. 6.0% 1.5% 2.5% 8.9% 4.7% ===== ===== ===== ===== =====
THREE MONTHS ENDED MARCH 31, 1999 COMPARED WITH THREE MONTHS ENDED MARCH 31, 1998 NET REVENUES. Net revenues for the three months ended March 31, 1999 increased by 87.4% to $17.8 million from $9.5 million for the three months ended March 31, 1998. The increase in net revenues was due principally to our commencement of sales to Jos.A.Bank under a long-term arrangement. This increase represented approximately 63% of the increase in net revenues. The balance of the increase in net revenues was due to increased sales to existing customers. In June 1999, our license with the Polo Corporation expired. We believe that the loss of sales of Polo products will not have a material adverse effect on our revenues. We anticipate replacing revenues generated from the sales of Polo products with revenues from sales to other customers. COST OF SALES. Cost of sales for the three months ended March 31, 1999 increased by 111.4% to $14.8 million from $7.0 million for the three months ended March 31, 1998, which amount is consistent with our 40 increased net revenues. Cost of sales as a percentage of net revenues for the three months ended March 31, 1999 increased to 83.3% from 74.0% for the three months ended March 31, 1998, due primarily to the new cost-plus sourcing/manufacturing services arrangement with Jos.A.Bank. Under this long-term arrangement, Jos.A.Bank receives a cost-plus pricing structure in consideration for minimum annual purchase commitments. Gross margin on sales to Jos.A.Bank is less than gross margin earned on seasonal business. However, this lower gross margin did not reduce the operating income that we realized from such revenues because our sales to Jos.A.Bank do not require us to make capital investments or overhead expenditures. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for the three months ended March 31, 1999 decreased by 7.7% to $1.2 million from $1.3 million for the three months ended March 31, 1998, due to the implementation of cost control programs. Despite this decline, we anticipate that such expenses will continue to increase in the future to support growth in revenues. OPERATING INCOME. Operating income for the three months ended March 31, 1999 increased by 54.5% to $1.7 million from $1.1 million for the three months ended March 31, 1998, due primarily to increased gross profit associated with increased revenues and the reduction of selling, general and administrative expenses. INTEREST EXPENSE. Interest expense for the three months ended March 31, 1999 increased by 20.0% to $300,000 from $250,000 for the three months ended March 31, 1998, due primarily to increased borrowing. PROVISION FOR INCOME TAXES. Provision for income taxes for the three months ended March 31, 1999 was $600,000 as compared to $0 for the three months ended March 31, 1998, due to MS Pietrafesa, L.P.'s transfer of its assets and liabilities to The Pietrafesa Corporation, a C-corporation, on October 1, 1998. NET INCOME. Net income remained constant at $800,000 for the three months ended March 31, 1999 and for the three months ended March 31, 1998. YEAR ENDED DECEMBER 31, 1998 COMPARED WITH YEAR ENDED DECEMBER 31, 1997 NET REVENUES. Net revenues for 1998 increased by 51.1% to $56.8 million from $37.6 million for 1997. The increase in net revenues was due principally to our commencement of sales to Jos.A.Bank under a long term arrangement. This increase represented approximately 74% of the increase in net revenues. The balance of the increase in net revenues was due to increased sales to existing customers. COST OF SALES. Cost of sales for 1998 increased by 61.3% to $47.1 million from $29.2 million for 1997 consistent with our increased net revenues. Cost of sales as a percentage of net revenues for 1998 increased to 82.9% from 77.7% for 1997, due primarily to the new cost-plus sourcing/manufacturing services arrangement with Jos.A.Bank. Under this long-term arrangement, Jos.A.Bank receives a cost-plus pricing structure in consideration for minimum annual purchase commitments. Gross margin on sales to Jos.A.Bank is less than gross margin earned on seasonal business. However, this lower gross margin did not reduce the operating income that we realized from such revenues because our sales to Jos.A.Bank do not require us to make capital investments or overhead expenditures. Additionally, $500,000 or 0.8% of the increase in cost of sales as a percent of net revenues resulted from an increase in inventory reserves which resulted from our ordering excess raw materials and finished goods that exceeded our forecasted sales. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for 1998 decreased by 9.8% to $5.5 million from $6.1 million for 1997, due to the cost-plus nature of the Jos.A.Bank arrangement and the elimination of advertising and licensing expenses incurred in 1997 under an agreement with Polo Corporation which expired in June 1999. This decline in selling, general and administrative expenses was partially offset by costs associated with establishing new customer relationships. Despite this decline, we anticipate that such expenses will increase in the future to support growth in revenues. OPERATING INCOME. Operating income for 1998 increased by 85.7% to $3.9 million from $2.1 million for 1997, due primarily to increased gross profit associated with increased revenue and the elimination of advertising and license expenses to Polo Corporation. INTEREST EXPENSE. Interest expense for 1998 decreased by 20.0% to $1.2 million from $1.5 million for 1997, due primarily to improved operating cash flow which was used to reduce outstanding principal balances. 41 PUBLIC OFFERING COSTS. In 1998, MS Pietrafesa, L.P. incurred $800,000 of public offering costs. Such costs related to a public offering that was abandoned due to adverse market conditions. The public offering costs include costs for legal ($200,000), accounting ($300,000) and investment banking services ($60,000), as well as travel-related expenses ($200,000). PROVISION FOR INCOME TAXES. Provision for income taxes for 1998 was $500,000 as compared to $0 for 1997, due to MS Pietrafesa, L.P.'s transfer of its assets and liabilities to The Pietrafesa Corporation, a C-corporation, in October 1998. NET INCOME. As a result of the above factors, net income for 1998 increased by 133.3% to $1.4 million from $600,000 for 1997. YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEAR ENDED DECEMBER 31, 1996 NET REVENUES. Net revenues for 1997 decreased by 14.8% to $37.5 million from $44.0 million for 1996, due principally to the discontinuance of Polo Corporation's "Ralph Lauren" labeled products and a decline in sales to Brooks Brothers. In 1996, our net revenues from sales to Brooks Brothers were unusually high because of the launch of, and initial product deliveries for, the new "Brooksease" product program. In 1997, our net revenues from sales to Brooks Brothers for such program, although lower, were consistent with our past experiences involving the production of replenishment inventory for existing programs. COST OF SALES. Cost of sales for 1997 decreased by 16.1% to $29.2 million from $34.8 million for 1996, primarily due to overall lower sales. Cost of sales as a percentage of net revenues for 1997 declined to 77.7% from 79.0% for 1996 due to lower overhead costs and a shift in the business away from general manufacturing to the sourcing of a greater percentage of total product. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for 1997 decreased by 19.7% to $6.1 million from $7.6 million for 1996, due primarily to the impact of reductions in management personnel implemented in late 1996. This decrease was partially offset by a reduction of bad debt expenses in 1996 of $180,000 due to lower bad debt exposures in 1996. There was no similar reduction in 1997. Selling, general and administrative expenses as a percentage of net revenues for 1997 decreased to 16.4% from 16.9% for 1996. IMPAIRMENT LOSS ON FIXED ASSETS. At the end of 1996, it was determined that assets held for sale at our Sturgis, Kentucky facility would be disposed of at a loss of $170,000. The loss was recorded in 1996 and actually realized in 1997 when the property was sold. The net realizable value of the assets was determined using estimated selling prices less sale costs based on an independent appraisal. INTEREST EXPENSE. Interest expense for 1997 decreased by 25.0% to $1.5 million from $2.0 million for 1996, due primarily to lower outstanding principal balances resulting from improved operating cash flow. INCOME (LOSS) BEFORE INCOME TAXES AND EXTRAORDINARY ITEM. Income (loss) before income taxes and extraordinary item for 1997 increased to $600,000 from $(500,000) for 1996, due to lower cost of sales and decreases in selling, general and administrative expenses. EXTRAORDINARY ITEM. There was no extraordinary item for 1997 as compared to an extraordinary item of $3.2 million for 1996. This item resulted from an agreement between the owners of a predecessor company of MS Pietrafesa, L.P. to forgive its subordinated indebtedness in exchange for an equity interest in a limited partnership that is a limited partner of MS Pietrafesa, L.P. NET INCOME. As a result of the above factors, net income for 1997 decreased by 77.8% to $600,000 from $2.7 million for 1996. 42 GLOBAL SOURCING NETWORK The following table sets forth financial data as a percentage of net revenues for Global Sourcing Network. This information may not be indicative of the future results of Global Sourcing Network's business. For more information, see the financial statements of Global Sourcing Network, including the Notes thereto, appearing elsewhere in this prospectus.
FOR THE FOR THE YEAR ENDED THREE MONTHS ENDED DECEMBER 31, MARCH 31, ------------------------- ------------------------- 1997 1998 1998 1999 ----------- ----------- ----------- ----------- (UNAUDITED) Net revenues ................................ 100.0% 100.0% 100.0% 100.0% Cost of sales ............................... 93.4 92.8 92.1 93.1 ----- ----- ----- ----- Gross profit ................................ 6.6 7.2 7.9 6.9 Selling, general and administrative ......... 1.5 1.7 0.9 0.9 Royalties and commissions ................... 5.2 6.1 4.7 3.4 ----- ----- ----- ----- Operating (loss) income ..................... ( 0.1) ( 0.6) 2.3 2.6 Provision for income taxes .................. -- ( 0.3) -- -- ----- ----- ----- ----- Net loss .................................... ( 0.1)% ( 0.3)% 2.3% 2.6% ===== ===== ===== =====
THREE MONTHS ENDED MARCH 31, 1999 COMPARED WITH THREE MONTHS ENDED MARCH 31, 1998 NET REVENUES. Net revenues for the three months ended March 31, 1999 increased by 3.4% to $6.0 million from $5.8 million for the three months ended March 31, 1998. The increase in net revenues was due principally to earlier sales of spring season products to S&K Famous Brands through March 31, 1999. COST OF SALES. Cost of sales for the three months ended March 31, 1999 increased by 3.7% to $5.6 million from $5.4 million for the three months ended March 31, 1998 consistent with our increased net revenues. Cost of sales as a percentage of net revenues for the three months ended March 31, 1999 increased to 93.1% from 92.1% for the three months ended March 31, 1998, due primarily to a sale of higher margin product during the three months ended March 31, 1998. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for the three months ended March 31, 1999 increased by 17.4% to $54,000 from $46,000 for the three months ended March 31, 1998, due to increased legal and accounting expenses associated with the sale of Global Sourcing Network. ROYALTIES AND COMMISSIONS. Royalties and commissions for the three months ended March 31, 1999 decreased by 33.3% to $200,000 from $300,000 for the three months ended March 31, 1998. Royalties and commissions decreased due to the termination of the remaining commission relationship early in the three months ended March 31, 1999. Historically, Global Sourcing Network has paid significant royalties and commissions on its total net revenues. All such royalties and commission costs were eliminated upon our acquisition, with no anticipated adverse effect on the generation of sales. PROVISION FOR INCOME TAXES. A provision for income taxes for the three months ended March 31, 1999 was not established due to the anticipated sale of the business. A provision for income taxes for the three months ended March 31, 1998 was $2,000. NET INCOME. As a result of the above factors, net income for the three months ended March 31, 1999 increased by 23.1% to $160,000 from $130,000 for the three months ended March 31, 1998. YEAR ENDED DECEMBER 31, 1998 COMPARED WITH YEAR ENDED DECEMBER 31, 1997 NET REVENUES. Net revenues for 1998 decreased by 4.7% to $18.1 million from $19.0 million for 1997, due principally to a decline in sales to Global Sourcing Network's primary customer, S&K Famous Brands. 43 COST OF SALES. Cost of sales for 1998 decreased by 5.6% to $16.8 million from $17.8 million for 1997. Cost of sales as a percentage of net revenues for 1998 decreased to 92.8% from 93.4% for 1997. The reduction in cost of sales was due to reduced revenues. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for 1998 remained constant at $300,000. ROYALTIES AND COMMISSIONS. Royalties and commissions for 1998 increased by 10.0% to $1.1 million from $1.0 million for 1997. Royalties and commissions increased due to an increase in commission rate. Historically, Global Sourcing Network has paid significant royalties and commissions on its total net revenues. All such royalties and commission costs were eliminated upon our acquisition, with no anticipated adverse effect on the generation of sales. NET LOSS. As a result of the above factors, the net loss for 1998 increased to $(50,000) from a loss of $(10,000) for 1997. COMPONENTS The following table sets forth financial data as a percentage of net revenues for Components. This information may not be indicative of the future results of Components' business. For more information, see the financial statements of Components, including the Notes thereto, appearing elsewhere in this prospectus.
FOR THE FOR THE YEAR ENDED THREE MONTHS DECEMBER 31, ENDED MARCH 31, ------------------------- ------------------------- 1997 1998 1998 1999 ----------- ----------- ----------- ----------- (UNAUDITED) Net revenues ................................ 100.0% 100.0% 100.0% 100.0% Cost of sales ............................... 78.8 75.1 73.9 76.6 ----- ----- ----- ----- Gross profit ................................ 21.2 24.9 26.1 23.4 Selling, general and administrative ......... 14.1 15.5 10.5 11.2 ----- ----- ----- ----- Operating income ............................ 7.1 9.4 15.6 12.2 Interest expense ............................ 1.6 1.5 1.4 1.4 ----- ----- ----- ----- Income before taxes ......................... 5.5 7.9 14.2 10.8 Provision for income taxes .................. 0.5 0.8 0.3 -- ----- ----- ----- ----- Net income .................................. 4.9% 7.1% 13.9% 10.8% ===== ===== ===== =====
THREE MONTHS ENDED MARCH 31, 1999 COMPARED WITH THREE MONTHS ENDED MARCH 31, 1998 NET REVENUES. Net revenues for the three months ended March 31, 1999 increased by 10.2% to $5.4 million from $4.9 million for the three months ended March 31, 1998. The increase in net revenues was due principally to increased volume of sportswear sales through existing distribution channels. COST OF SALES. Cost of sales for the three months ended March 31, 1999 increased by 13.9% to $4.1 million from $3.6 million for the three months ended March 31, 1998 due primarily to our increased net revenues. Cost of sales as a percentage of net revenues for the three months ended March 31, 1999 increased to 76.6% from 73.9% for the three months ended March 31, 1998, due primarily to an increase in sales allowances and discounts. Sales allowances and discounts increased $128,000 due to increases in sales discounts and advertising allowances associated with sales. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for the three months ended March 31, 1999 increased by 20.0% to $600,000 from $500,000 for the three months ended March 31, 1998, due to increased commission and travel expenses. OPERATING INCOME. Operating income for the three months ended March 31, 1999 decreased by 12.5% to $700,000 from $800,000 for the three months ended March 31, 1998, due primarily to increased sales volume offset by increases in sales allowances and selling expenses. 44 PROVISION FOR INCOME TAXES. A provision for income taxes for the three months ended March 31, 1999 was not established due to immateriality. Provision for income taxes for the three months ended March 31, 1998 was $20,000. NET INCOME. As a result of the above factors, net income for the three months ended March 31, 1999 decreased by 14.3% to $600,000 from $700,000 for the three months ended March 31, 1998. YEAR ENDED DECEMBER 31, 1998 COMPARED WITH YEAR ENDED DECEMBER 31, 1997 NET REVENUES. Net revenues for 1998 increased by 34.2% to $20.0 million from $14.9 million for 1997, due principally to increased sales to Brooks Brothers. COST OF SALES. Cost of sales for 1998 increased by 27.1% to $15.0 million from $11.8 million for 1997, due primarily to overall increased sales. Cost of sales as a percentage of net revenues for 1998 decreased to 75.1% as compared to 78.8% for 1997, due primarily to cost efficiencies in sourcing larger quantities of products. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for 1998 increased by 47.6% to $3.1 million from $2.1 million for 1997, due primarily to a $400,000 increase in salary payable to the business owner, as well as bad debt expense and advertising expense. Historically, such owner's salary has varied considerably because, as an S-corporation, all year-end net cash balances were paid as salary. Selling, general and administrative expenses as a percentage of net revenues for 1998 increased to 15.5% from 14.1% for 1997. OPERATING INCOME. Operating income for 1998 increased by 72.7% to $1.9 million from $1.1 million for 1997. The increase was due to increases in net revenues and gross profit. NET INCOME. As a result of the above factors, net income for 1998 increased by 100% to $1.4 million from $700,000 for 1997. WINDSONG The following table sets forth financial data as a percentage of net revenues for Windsong. This information may not be indicative of our future results. For more information, see the financial statements of Windsong, including the notes thereto, appearing elsewhere in this prospectus.
FOR THE FOR THE YEAR ENDED THREE MONTHS ENDED DECEMBER 31, MARCH 31, --------------------------------------- ------------------------- 1996 1997 1998 1998 1999 ----------- ----------- ----------- ----------- ----------- (UNAUDITED) Net revenues ................................ 100.0% 100.0% 100.0% 100.0% 100.0% Cost of sales ............................... 87.8 78.7 78.4 79.0 76.8 ----- ----- ----- ----- ----- Gross profit ................................ 12.2 21.3 21.6 21.0 23.2 Selling and distribution expenses ........... 6.4 6.1 7.1 5.8 5.9 General and administrative expenses ......... 5.5 12.8 10.3 6.5 8.3 ----- ----- ----- ----- ----- Operating income ............................ 0.3 2.4 4.2 8.7 9.0 Interest expense ............................ ( 0.2) ( 1.3) ( 2.7) ( 2.6) ( 2.3) Other income ................................ -- 0.2 0.1 -- -- ----- ----- ----- ----- ----- Income before taxes ......................... 0.1 1.3 1.6 6.1 6.7 Provision for income taxes .................. ( 0.1) 0.1 0.1 0.3 0.3 ----- ----- ----- ----- ----- Net income .................................. 0.0% 1.2% 1.5% 5.8% 6.4% ===== ===== ===== ===== =====
THREE MONTHS ENDED MARCH 31, 1999 COMPARED WITH THREE MONTHS ENDED MARCH 31, 1998 NET REVENUES. Net revenues for the three months ended March 31, 1999 decreased by 15.6% to $14.6 million from $17.3 million for the three months ended March 31, 1998. The decrease in net revenues was a result of a management decision to reduce low margin private label sales and reduce certain department store 45 sales due to the increased markdowns and allowances associated with these customers. During the last quarter of 1998, Windsong's management decided to reduce sales to department stores that took large markdowns and sales allowances resulting from the department stores lower than anticipated retail margins on these products. Windsong's decision to reduce sales to these stores was based on the lower profitability of sales to these customers after taking account of the markdowns and sales allowances, which totalled approximately $1.4 million in 1998. Overall, sales to the most significant customer in the three months ended March 31, 1999 amounted to 57.8% of total net revenues, as compared to 33.8% for the three months ended March 31, 1998. COST OF SALES. Cost of sales for the three months ended March 31, 1999 decreased by 18.2% to $11.2 million from $13.7 million for the three months ended March 31, 1998. This decline resulted from decreased net revenues. Cost of sales as a percentage of net revenues for the three months ended March 31, 1999 decreased to 76.8% from 79.0% for the three months ended March 31, 1998, due primarily to the reduction in low margin private label sales and a decrease in markdowns and allowances in the three months ended March 31, 1999 compared to the three months ended March 31, 1998. The reduction in discounts and allowances was due to the discontinuation of sales to department store customers which accounted for a disproportionate amount of the March 31, 1998 discounts and allowances. SELLING AND DISTRIBUTION EXPENSES. Selling and distribution expenses for the three months ended March 31, 1999 decreased by 10.0% to $900,000 from $1.0 million for the three months ended March 31, 1998. Selling and distribution expenses as a percentage of net revenues for the three months ended March 31, 1999 increased to 5.9% from 5.8% for the three months ended March 31, 1998 as a result of decreased sales, a net increase in royalty fees on license sales offset by a decrease in warehouse expense due to less labor intensive department store sales which decreased in the quarter compared to 1998. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for the three months ended March 31, 1999 increased by 9.1% to $1.2 million from $1.1 million for the three months ended March 31, 1998. General and administrative expenses as a percentage of net revenues for the three months ended March 31, 1999 increased to 8.3% from 6.5% for the three months ended March 31, 1998. This percentage increase was primarily due to a general increase in the payroll and payroll-related expenses and lower sales. OPERATING INCOME. Operating income for the three months ended March 31, 1999 decreased by 13.3% to $1.3 million from $1.5 million for the three months ended March 31, 1998 due to the factors described above. Operating income as a percentage of net revenues for the three months ended March 31, 1999 increased to 9.0% from 8.7% for the three months ended March 31, 1998. The 0.3% improvement in operating income as a percentage of net revenues is attributable to a 2.2% increase in gross profit margin compared to a 1.9% increase in operating expenses for the three months ended March 31, 1999. INTEREST EXPENSE. Interest expense for the three months ended March 31, 1999 decreased by 25.0% to $300,000 from $400,000 for the three months ended March 31, 1998, due primarily to interest expense on accounts payable-subordinated debt. Effective January 1, 1998, Windsong's management agreed to pay a supplier interest at a rate of 8.5% per year on a subordinated loan balance related to goods purchased prior to 1998 that Windsong owed to such supplier. The interest was to accrue on Windsong's balance as of May 15, 1996. Accordingly, the liability for 1996 and 1997 interest expense was not incurred or known before 1998 and is reflected as a retroactive interest expense adjustment. In addition, commencing in 1998, Windsong agreed to pay interest to the same supplier on Windsong's open accounts payable balance at an interest rate equal to the supplier's bank borrowing rate. INCOME BEFORE INCOME TAXES. As a result of the above factors, income before income taxes remained constant at $1.0 million for the three months ended March 31, 1999 and the three months ended March 31, 1998. NET INCOME. As a result of the above factors, net income for the three months ended March 31, 1999 decreased by 10.0% to $900,000 from $1.0 million for the three months ended March 31, 1998. YEAR ENDED DECEMBER 31, 1998 COMPARED WITH YEAR ENDED DECEMBER 31, 1997 NET REVENUES. Net revenues for 1998 increased by 109.9% to $63.6 million from $30.3 million in 1997. The increase in net revenues included an aggregate increase in sales of $21.0 million to the most significant 46 customer, $10.2 million to department stores, and $3.2 million to the second most significant customer, primarily as a result of an increased volume of unit sales. COST OF SALES. Cost of sales for 1998 increased by 108.8% to $49.9 million from $23.9 million for 1997 which is consistent with increased net revenues. Cost of sales as a percentage of net revenues for 1998 decreased to 78.4% from 78.7% for 1997 due to a management decision to reduce low margin private label sales and increase licensed product sales that carry higher margins. SELLING AND DISTRIBUTION EXPENSES. Selling and distribution expenses for 1998 increased by 136.8% to $4.5 million from $1.9 million in 1997. Selling and distribution expenses as a percentage of net revenues for 1998 increased to 7.1% from 6.1% for 1997. This percentage increase is primarily due to the opening of a new, expanded, computerized warehouse facility, higher royalty expenses due to increased sales volume for all customers, and in particular, increased sales with department stores that required increased expenses as compared to other customers. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for 1998 increased by 66.7% to $6.5 million from $3.9 million for 1997. General and administrative expenses as a percentage of net revenues for 1998 decreased to 10.3% from 12.8% for 1997. Overall, general and administrative expenses for 1998 included increases in officer bonus accruals, increased staffing, insurance, travel and entertainment, computer costs, and training, offset by a decrease in the pension expense. The allowance for bad debts includes an allowance for returns and discounts as well as bad debt expense. Special officers' bonus accruals for 1998 were $1.6 million, including payroll taxes, as compared to $0 for 1997. Windsong's management decided in 1998 to convert stockholder loans receivable into officers' bonuses at the end of 1998 due to Windsong's profitability. Accordingly, the officers' bonuses reflected in 1998 are higher than those in previous years. OPERATING INCOME. Operating income for 1998 increased by 285.7% to $2.7 million from $700,000 for 1997, due to increased sales to significant customers and management's decision to reduce low margin private label sales and increase licensed product sales that carry higher margins. Operating income as a percentage of net revenues for 1998 increased to 4.2% from 2.4% for 1997. This increase in operating income as a percentage of net revenues was due to the increase in gross profit, which amounted to $7.3 million reduced by an increase in selling and distribution expenses, which amounted to a $2.7 million and an increase in general and administrative expenses of $2.7 million. INTEREST EXPENSE. Interest expense for 1998 increased by 325.0% to $1.7 million from $400,000 for 1997, due primarily to increased borrowings and factor costs consistent with sales growth. INCOME BEFORE INCOME TAXES. Income before income taxes for 1998 increased by 150.0% to $1.0 million from $400,000 for 1997 due to the factors described above. Income before income taxes as a percentage of net revenues for 1998 increased to 1.6% from 1.3% for 1997 due to the factors described above. NET INCOME. As a result of the above factors, net income for 1998 increased by 150.0% to $1.0 million from $400,000 for 1997. YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEAR ENDED DECEMBER 31, 1996 NET REVENUES. Net revenues for 1997 increased by 388.7% to $30.3 million from $6.2 million for 1996. The increase in net revenues included an aggregate increase in sales of $19.0 million to the primary customers. COST OF SALES. Cost of sales for 1997 increased by 342.6% to $23.9 million from $5.4 million for 1996, and is consistent with increased net revenues. Cost of sales as a percentage of net revenues for 1997 decreased to 78.7% from 87.8% for 1996 due to better margins with significant customers. SELLING AND DISTRIBUTION EXPENSES. Selling and distribution expenses for 1997 increased by 375.0% to $1.9 million from $400,000 for 1996. Selling and distribution expenses as a percentage of net revenues for 1997 decreased to 6.1% from 6.4% for 1996. The increase of $1.5 million is primarily due to an increase in royalty and commission expenses, which amounted to 2.6% and 1.8% of net revenues, respectively. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for 1997 increased by 1,200.0% to $3.9 million from $300,000 for 1996. General and administrative expenses as a percentage of net 47 revenues for 1997 increased to 12.8% from 5.5% for 1996. This increase was primarily due to the significant increase in sales growth in 1997. OPERATING INCOME. Operating income for 1997 increased to $700,000 from $17,000 for 1996. Operating income as a percentage of net revenues for 1997 increased to 2.4% from 0.3% for 1996 due to the factors described above. INTEREST EXPENSE. Interest expense for 1997 increased to $400,000 from $15,000 for 1996. Interest expense as a percentage of net revenues for 1997 increased to 1.3% from 0.2% for 1996. This increase is primarily the result of increased borrowings in working capital due to growth in 1997. INCOME BEFORE INCOME TAXES. Income before income taxes for 1997 increased to $400,000 from $3,000 for 1996. Income before income taxes as a percentage of net revenues for 1997 increased to 1.3% from 0.1% for 1996. This increase in income before income taxes as a percentage of net revenues was due to factors discussed previously. NET INCOME. Net income for 1997 increased to $400,000 from $0 for 1996 as a result of the above factors. LIQUIDITY AND CAPITAL RESOURCES The following discussion of liquidity and capital resources is derived from our historical consolidated financial statements. Our primary capital requirements are the funding of operations and capital expenditures. MS Pietrafesa, L.P. historically financed its growth in sales and the resulting increases in inventory and receivables through a combination of operating cash flow and borrowings under its working capital facilities. During the three months ended March 31, 1999, we used $600,000 for operating activities. This was primarily the result of net income of $800,000 offset by a $1.0 million decrease in current liabilities and a $500,000 increase in accounts receivable. During the year ended December 31, 1998, we generated negative cash from operations of $1.4 million. This was primarily the result of a $3.9 million increase in accounts receivable and a $4.8 million increase in inventories offset by net income of $1.4 million and a $4.6 million increase in other current liabilities. The increase in accounts receivable was primarily the result of a 51.0% increase in net revenues for the year ended December 31, 1998 as compared to the year ended December 31, 1997. The increases in other current liabilities and inventories were due primarily to the sourcing of product for Jos.A.Bank and other customers at manufacturing facilities managed by an affiliate. On April 15, 1999, we, together with our subsidiaries, entered into a senior secured credit facility with PNC Bank, National Association. The PNC Bank credit facility consists of an $18.0 million revolving credit line, $1.0 million of which can be utilized for the issuance of letters of credit, and a $7.0 million term note. The amount available for borrowing under the revolving credit line at any given time is determined by a formula based upon levels of accounts receivable and inventory. The term note is payable in 33 monthly payments of $116,667 which commenced on May 1, 1999, with a final payment of all unpaid principal on April 15, 2002. As of June 30, 1999, $11.8 million was outstanding under the revolving credit line and $6.8 million was outstanding under the term note. The credit facility is secured by a senior lien on substantially all of our assets. We have also pledged all of the stock of our subsidiaries as collateral. Borrowings under the PNC Bank credit facility bear interest, at our option, based upon either domestic interest rates or Euro interest rates. Under the revolving credit line, the domestic interest rate is 0.5% per annum above the higher of (a) PNC Bank's base commercial lending rate and (b) 0.5% per annum above the Fed Funds rate. Under the revolving credit line, the Euro interest rate is a multiple of 2.75% above LIBOR, where the multiple is equal to 1.00 minus the Federal Reserve's reserve requirement percentage. Under the term note, the domestic interest rate is 1.0% higher than the domestic interest rate calculated under the revolving credit line, and the Euro interest rate is 0.75% higher than the Euro interest rate calculated under the revolving credit line. Upon consummation of the offering, all of the foregoing domestic and Euro interest rates will decrease by 0.25% if we receive net proceeds of at least $20 million from the offering. 48 The PNC Bank credit facility includes significant financial and operating covenants, including prohibitions on our ability to pay dividends, to make capital expenditures of more than $750,000, to assume additional indebtedness exceeding $500,000 in total, except for trade debt and permitted capital expenditures, and requirements that we maintain a minimum fixed charge coverage ratio. The fixed charge coverage ratio requires us to maintain EBITDA plus capital expenditures of at least 110% of required debt payments under the PNC Bank credit facility. We are currently in compliance with all covenants under the PNC Bank credit facility. The PNC Bank credit facility also contains customary events of default, including a cross-default provision which provides that if we or any of our subsidiaries fail to perform our obligations under the Diversified Apparel and Global Sourcing Network acquisition agreements, then it would result in a default under the PNC Bank credit facility. In November 1996, Windsong entered into a factoring agreement with FINOVA Capital Corporation whereby Windsong receives monthly advances from FINOVA. The amount of these advances outstanding at any time may not exceed $20.0 million and is primarily determined based upon the net face amount of Windsong's receivables and inventory. Windsong repays the advances to FINOVA as the receivables are collected. As of June 30, 1999, $8.0 million was outstanding under the FINOVA agreement. FINOVA earns a factoring commission for services rendered under the FINOVA agreement equal to 0.5% of assigned receivables. FINOVA also receives customary charges in connection with letters of credit issued for Windsong's account to its suppliers and the servicing of assigned receivables. The amounts of outstanding balances due to or from FINOVA currently bear interest at a rate of prime plus 0.5%, except that over-advances bear interest at a rate of prime plus 1.0%. All amounts due to FINOVA, as well as any outstanding letters of credit, are secured by Windsong's trade receivables and inventory. Upon our acquisition of Windsong, we will become a party to the FINOVA agreement. The FINOVA agreement terminates on December 31, 2000 and is terminable by FINOVA at will prior to that date on thirty days prior notice. In November 1995, MS Pietrafesa, L.P. entered into a loan agreement with the New York State Urban Development Corporation ("UDC"), pursuant to which MS Pietrafesa, L.P. borrowed $1.0 million from UDC to finance the purchase of machinery and equipment. As of June 30, 1999, $500,000 of the UDC loan was outstanding. The UDC loan matures January 2003, bears interest at 1.0% and is secured by a senior lien on specified machinery and equipment and a subordinate mortgage on the Liverpool facility. The UDC loan agreement contains restrictive covenants similar to those contained in the PNC Bank credit facility. We are currently in compliance with all covenants under the UDC loan agreement. Our capital expenditures were $600,000 for 1998, primarily for replacing manufacturing equipment. We expect capital expenditures to be approximately $700,000 during 1999. Capital expenditure spending in 1999 will primarily fund technology investments and replacement in kind of manufacturing equipment. We anticipate that operating income and the amounts available under the PNC Bank credit facility will be sufficient to fund our capital expenditures in 1999. We had working capital of $10.5 million at March 31, 1999 and $9.2 million at December 31, 1998. The increase in working capital was due primarily to a $1.0 million decrease in current liabilities, a $500,000 increase in accounts receivable offset by a $400,000 decrease in inventory. We expect that our working capital needs will continue to fluctuate based on seasonal increases in sales and accounts receivable and seasonal decreases in trade accounts payable. We had working capital of $9.2 million at December 31, 1998 and $4.6 million at December 31, 1997. The increase in working capital was due primarily to a $3.9 million increase in accounts receivable. In addition, inventories increased by $4.8 million, which was offset by a $4.6 million increase in accounts payable. In part, the new sourcing/manufacturing services arrangement with Jos.A.Bank accounted for the changes in accounts receivable, inventories and other current liabilities. We expect that our working capital needs will continue to fluctuate based on seasonal increases in sales and accounts receivable and seasonal decreases in trade accounts payable. Management believes that the combination of existing working capital, funds anticipated to be generated from operating activities, the borrowing availability under the PNC Bank credit facility, advances under the FINOVA factoring agreement and the anticipated net proceeds of the offering will be sufficient to fund both our 49 short-term and long-term capital and our liquidity needs, other than in respect of future acquisitions. As part of our growth strategy, we intend to seek out and acquire merchandising/sourcing businesses. These acquisitions may require additional capital in the form of equity, debt or a combination of the two. We cannot assure you that additional capital will be available to us if and when required, or, if available, that the terms of such additional capital will be acceptable to us. MARKET RISK Our earnings are affected by changes in short-term interest rates as a result of our variable rate debt instruments. If market interest rates for similar debt obligations had averaged 10% more in 1998, interest expense for The Pietrafesa Corporation, excluding any of the acquired businesses, would have increased, and income before income taxes would have decreased by $103,803. This analysis does not consider the effects of the reduced level of borrowings that could exist in such an environment if management took actions to mitigate our exposure to the change. However, due to the uncertainty of the specific actions that would be taken and their possible effects, this sensitivity analysis assumes no change in our debt structure. BACKLOG Our backlog of orders is affected by a number of factors, including revisions in the scheduling of manufacturing and shipment of product which, in some instances, depends on the demands of the retail consumer. Accordingly, a comparison of unfilled orders from period to period is not necessarily meaningful, and the level of unfilled orders at any given time may not be indicative of actual shipments. SEASONALITY Some of our principal products are organized into seasonal lines in response to the seasonal marketing of such products by our customers. As a result, our net revenues and net income may fluctuate on a seasonal basis. A disproportionate amount of our net revenues and a majority of our net income are typically realized during the third quarter. Given that orders are usually placed six to nine months in advance of shipping, net revenues and net income are generally weakest during the second and fourth quarters, the two peak retail seasons of our customers. Our greatest cash requirements occur in the later part of the first and third quarters to support production and sales costs and a buildup in customer receivables, resulting in reductions in working capital in each of those quarters. If we are unable to finance our seasonal cash requirements adequately, our ability to conduct business will be restricted. Moreover, as a result of this seasonality of net revenues, a substantial decrease in our net revenues in the third quarter of the year could have a material adverse effect on our liquidity and on our profitability for the entire year. See "Risk Factor -- Seasonal Fluctuations in Revenue and Net Income may Affect our Cash Flow, Liquidity and Profitability." EFFECTS OF INFLATION AND FOREIGN CURRENCY FLUCTUATIONS We believe that inflation has not had a material impact on our results of operations for the periods discussed herein. Because a significant portion of our purchases of raw materials are denominated in U.S. dollars, to date we have not been materially adversely affected by foreign currency fluctuations. See "Risk Factors -- Our Foreign Sourcing of Products Exposes us to Delays in Production, which may Result in Increased Costs and Reduced Profitability" and " - -- Our International Sourcing of Products and Raw Materials may Subject us to Increased Costs and Unprofitable Transactions." NEW ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." The statement amends the accounting for derivatives and hedging activities effective for fiscal years beginning after June 15, 1999. We have not historically engaged in hedging activities to mitigate foreign currency risk. In the event that we engage in hedging activities in the future, SFAS No. 133 may have an impact on the accounting treatment of these hedging activities. IMPACT OF THE YEAR 2000 ISSUE Many institutions around the world are currently reviewing and modifying their computer systems to ensure that they are Year 2000 compliant. The issue, in general terms, is that many existing computer systems 50 and microprocessors with date functions use only two digits to identify a year in the date field with the assumption that the first two digits are always "19." Consequently, on January 1, 2000, any computers that are not Year 2000 compliant may read the year as 1900. The failure to correct any computers that calculate, compare or sort using the incorrect date could result in system failures or malfunctions causing disruptions of operations, including a temporary inability to process transactions, send invoices or engage in similar normal business activities. Our computerized production and sourcing systems are not reliant on date-sensitive information. We are working to resolve the potential impact of the Year 2000 on the ability of our computerized financial information systems to accurately process date-sensitive information. We engaged Arthur Andersen & Co. for a fee of $33,400 to conduct an analysis of our financial information processing systems to determine whether we are Year 2000 compliant. Based on their study it was determined that we need to upgrade, modify or replace portions of our financial systems to make them Year 2000 compliant. Modifications to our in-house software programs have been completed and are Year 2000 compliant. Certain software programs of third parties require installation of new versions that are Year 2000 compliant. All third party software, except financial systems and production systems, has been installed with Year 2000 compliant programs that are currently in use. We are in the process of installing a new Year 2000 compliant version of our production system. We have installed Year 2000 compliant software in our AS400 system, completed systems testing, trained our staff and have tested our conversion process. We have developed a detailed implementation plan and intend to complete our conversion and implementation prior to September 30, 1999. We believe that completing the program within the time-frame we have set will avoid any adverse impact on our operating systems. We currently estimate that the total cost of implementing our Year 2000 program will be approximately $200,000, of which $160,000 had been spent as of June 30, 1999. We believe, however, that such Year 2000 compliance costs will not have a material adverse impact on our financial condition. Year 2000 compliance costs are expected to be funded from our working capital. We do not believe that there will be a need to outsource financial systems and therefore we have not made detailed contingency plans. However, in the event that we fail to correct our computerized financial information systems prior to December 31, 1999, we intend to out-source appropriate aspects of our financial systems and manually execute any functions we retain. We will implement standardized financial controls and back-office functions of Diversified Apparel, Global Sourcing Network, Components and Windsong and hope to resolve all Year 2000 issues with regard to these acquired businesses at the same time we resolve our own issues. During 1997, MS Pietrafesa, L.P. initiated formal communications with its customers to determine the business risk to it related to customer Year 2000 compliance issues. Communications with other third parties, such as suppliers, commenced in 1998. The majority of our customers and suppliers have responded positively to our Year 2000 inquiries. Contingency plans are in the process of being formalized with customers and suppliers to assure the continuance of business. We believe the majority of our customers and suppliers will be Year 2000 compliant and that any non-compliant customers or suppliers would have minimal impact on our business. In the worst case scenario in which our computer systems or the computer systems of any of our suppliers or customers are not Year 2000 compliant and are unable to recover from the resulting system failure or interruption, we will engage alternative suppliers to manufacture and deliver products to our customers. The founders of Diversified Apparel, Global Sourcing Network, Components and Windsong have initiated formal communications with their customers and other third parties to determine their business risks related to Year 2000 compliance issues. Our failure, the failure of such founders or the failure of third parties with which we do business or upon which we rely, to address Year 2000 compliance issues in a timely manner could cause system failures or a disruption in operations and could adversely affect our ability to process or fulfill orders from our customers, deliver products in a timely manner, send invoices or engage in similar normal business activities for an indefinite period of time. Such a disruption in operations could result in a loss of revenues and a reduction of our profitability. 51 BUSINESS GENERAL The Pietrafesa Corporation develops and manages men's dress apparel programs for proprietary and third party brands. Our brand development and management programs include comprehensive design, merchandising and sourcing services for apparel covering a broad range of price points and products, including suits, sport jackets, dress shirts, woven sport shirts, casual pants, knitwear, neckwear and topcoats. We have been a contract manufacturer for branded tailored clothing since 1922 and started producing directly for large retailers after entering into a contract with Brooks Brothers in the 1970s. As a result of this experience, we have identified and responded to two significant trends among our customers: o Retailers of private label apparel are experiencing increased sales; and o Retailers are concentrating more business with fewer suppliers to achieve greater efficiency in merchandising, purchasing and inventory management. By capitalizing on these trends, we believe that we are positioned to best address the men's dress apparel needs of national retailers and to increase our market share across all price points and distribution channels. One of our key strengths is our ability to satisfy our customers' cost, quality, construction and delivery requirements through a worldwide network of third party manufacturers. This capability is referred to as sourcing. INDUSTRY OVERVIEW Retail sales of men's apparel in the United States in 1998 were approximately $54 billion, an increase of 6.8% over the prior year, as compared to retail sales increases of 3.7% in women's apparel and 4.7% in all apparel. The following important trends in the apparel industry have redefined the manner in which our business must be conducted: PRIVATE LABEL SALES ARE INCREASING. Based upon our 1998 sales and the announced store opening plans of our customers, we believe that there is an increased consumer acceptance of and demand for high quality, private label apparel such as that sold by Brooks Brothers and Jos.A.Bank. Private label apparel bears the retailer's own name or a brand name exclusive to the retailer. RETAILERS ARE CONCENTRATING MORE BUSINESS WITH FEWER SUPPLIERS TO ACHIEVE GREATER EFFICIENCY IN MERCHANDISING, PURCHASING AND INVENTORY MANAGEMENT. Many larger retailers are concentrating more business with fewer suppliers to achieve greater efficiency in distribution and quality control, to reduce the retailers' merchandising costs and to ensure that their most important requirements are satisfied with reliable and financially stable organizations. Retailers are also requiring higher levels of service from all suppliers, such as operating through network computer systems through which retailers electronically submit purchase orders, receive invoices and pay bills, maintaining strict quality control procedures, creating a system for maintaining inventories of private label products at specified levels, as well as placing size and price information on products and shipping to the retail outlet. We believe that many merchandising/sourcing businesses, however, lack the systems, capital or scale to comply with the increasing demands of larger retailers. SPECIALTY CHAINS ARE ACHIEVING STRONG SALES GROWTH. Over the last five years, sales of clothing by chain retailers and high-end specialty chains, many of which sell private label brands primarily or exclusively, have grown significantly due to both new store openings and comparable store sales increases. In 1998, specialty chains reported dollar increases in sales of men's clothing of 6.5% and captured 10.5% of all dollars spent on men's clothing. This growth is evidenced by the growth of men's apparel retailers such as The Men's Wearhouse and Today's Man and the publicly announced national store opening plans of Brooks Brothers and Jos.A.Bank. BUSINESS STRATEGY Our business strategy is to become the global leader in developing and managing branded men's apparel products for major retailers and for companies that license independent brands by offering: 52 o THE ABILITY TO DEVELOP COLLECTIONS of men's apparel that are customized to each retailer's quality, composition, styling and other needs. The collections we develop span styles ranging from the traditional tailored look of Savile Row to FUBU's urban contemporary look, at a full range of price points; o THE LOWEST AVAILABLE COST for each product line, by using third party manufacturers throughout the world to satisfy the specifications, country of origin and delivery requirements of each customer. Unlike traditional clothing manufacturers, this strategy permits us to seek the best manufacturer worldwide for a specific product at the lowest marginal cost, and minimizes our investments in plant and equipment; o VALUABLE SERVICES such as design and merchandising services, statistical quality control and inventory management, which permit major retailers to achieve greater efficiency by outsourcing many aspects of their private label product offerings; o TECHNOLOGICAL INNOVATIONS, such as interactive sales software and inventory management and replenishment systems, that enable us to compress delivery schedules and better manage product selection for our customers; and o THE SCALE AND FINANCIAL STABILITY required of vendors by major retailers in connection with long-term supply arrangements. We believe that our business strategy is unique in its focus on the constantly changing merchandising and sourcing needs of retailers. By contrast, our competitors continue to emphasize product lines and sourcing options that are tied to the capabilities of their own manufacturing facilities. GROWTH STRATEGY We believe that our business strategy will create numerous growth opportunities. The principal components of our growth strategy include: o ACHIEVING GREATER PENETRATION among our existing customers. In particular, we believe that our ability to develop a broad range of product lines, as well as our sophisticated services, scale and financial stability, will result in increased sales to our existing customers; o DEVELOPING NEW CUSTOMER RELATIONSHIPS by aggressively marketing our capabilities. We believe that our development of new relationships will be enhanced by the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, each of which has unique customer relationships; o ACQUIRING, DEVELOPING AND LICENSING BRANDS in order to leverage our existing merchandising and sourcing capabilities. We believe that licensed brands such as Alexander Julian, FUBU, the Greg Norman Collection and DKNY and acquired brands such as Pivot Rules have significant growth potential and will complement our private label business; o EXPANDING INTERNATIONALLY by offering our merchandising/sourcing services to foreign retailers. We believe that our strong global sourcing relationships, along with our merchandising and production expertise, position us to capitalize on the fundamental dynamics of the menswear market in Europe both through securing foreign retailers as customers in Europe and through participation in global distribution arrangements involving merchandise supplied to our customers; and o GROWING REVENUES THROUGH SELECTIVE ACQUISITIONS. Our acquisition strategy is to identify and acquire leading merchandising/sourcing companies that specialize in specific menswear products and specific quality or price segments. In addition to increasing revenues, these acquisitions will increase the range of products, price points and sourcing options available to our customers and add new customers. We believe this will lead to significant opportunities to sell products to, and source products for, customers of one business unit that were previously sold to or sourced for customers of another business unit, thereby increasing the value of each customer and sourcing relationship. ACQUISITION STRATEGY We believe that the merchandising and sourcing industry is highly fragmented. Our growth strategy includes selective strategic acquisitions within this industry that expand and complement our product lines and sourcing and distribution capabilities. Major elements of our acquisition strategy include: 53 o identifying and acquiring leading merchandising and sourcing companies that specialize in specific menswear products and specific quality or price segments, in order to increase the range of products, price points and sourcing options available to our customers and to add new customers; o including in each acquisition, when possible, incentives for the sellers of each acquired business that are realized only if the acquired business meets or exceeds growth and profitability targets subsequent to the closing of the acquisition, including by conditioning payment of a substantial portion of the purchase price on the achievement of such targets for several years; o allowing newly acquired businesses to operate as an independent operating unit, while holding each accountable for its profitability, utilization of capital and overhead; and o improving and standardizing the financial controls, quality control practices and back-office functions of each acquired business and eliminating duplicative operational facilities, such as leased office and warehouse space and personnel, whenever possible. We believe that many of our potential acquisition candidates are unable to fully serve the needs of their customers or effectively market product lines developed for one retailer to other customers. We believe that these limitations are often due to their narrow product offerings, limited systems expertise, capital constraints and lack of an industry-wide reputation. Our acquisition strategy is intended to address these limitations and to provide acquisition candidates with a compelling opportunity to leverage their existing customer base and to build new customer relationships. Our acquisition strategy offers each candidate: o the opportunity to be a part of a diversified apparel products company, thereby enhancing the candidate's competitive position in its particular product segment through an expansion of distribution channels and improved production and distribution capacities; o greater purchasing power of raw materials and other supplies and services, and other economies of scale; o enhanced financial strength and visibility as part of a public company; o the opportunity for its management to remain involved in, and to profit from, future operations; and o an opportunity for liquidity through the receipt of cash or securities. See "Risk Factors -- Risks Relating To Our Acquisition Strategy And Future Acquisitions" and "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Significant Acquisitions." 54 PRODUCTS We produce high quality men's tailored clothing, trousers, outerwear, sportswear and accessories across a variety of fashion directions, price points and distribution channels. We focus primarily on developing a style for each private label or licensed product line that is distinctive to the relevant brand, yet not susceptible to fashion obsolescence. Key fabrics include 100% wool, camel hair, cashmere, silk, cotton and linen. Key fabric constructions include 100% mechanical stretch, 4-ply worsteds, storm proof wovens and worsted camel hair. The table below sets forth our sales by product category, expressed as a percentage of net revenues: FOR THE YEAR ENDED DECEMBER 31, ----------------------- 1997 1998 ---------- ---------- Sport shirts ...................... 28.4% 38.2% Men's suits ....................... 33.6 25.7 Men's sport jackets ............... 13.5 14.0 Suit separates (trousers) ......... 7.9 7.9 Outerwear ......................... 4.2 5.1 Suit separates (jackets) .......... 4.4 4.8 Women's tailored .................. 3.4 2.3 Dress Shirts ...................... 1.3 1.1 Other ............................. 3.3 0.9 ----- ----- 100.0% 100.0% ===== ===== Our design staff examines domestic and international trends in the apparel industry to determine trends in styling, color, consumer preferences and lifestyle. Virtually all of our products are designed by our in-house staff, utilizing computer-aided design technology, through which we can quickly generate samples in response to customer input. The use of computer-aided design technology minimizes the time and costs associated with producing sewn samples prior to production and allows us to create custom designed products meeting the specific needs of each customer. DISTRIBUTION CHANNELS, CUSTOMERS AND SALES AND MARKETING DISTRIBUTION CHANNELS. We market our products across all major apparel retail channels. Because we market private label products designed specifically for each of our customers, our sales are not constrained by competition among our customers. During 1997 and 1998, we generated our net revenues from the following distribution channels: FOR THE YEAR ENDED DECEMBER 31, ----------------------- 1997 1998 ---------- ---------- Mass merchandise chains ...................... 37.2% 37.7% National chains .............................. 16.7 22.9 Department stores ............................ 14.5 16.2 High-end specialty stores and chains ......... 19.0 13.3 Other ........................................ 12.6 9.9 ----- ----- 100.0% 100.0% ===== ===== 55 CUSTOMERS. We sell to a variety of customers within each of the distribution channels discussed above. The following table summarizes the percentage of our net revenues attributable to each of our customers that accounted for more than 5% of our net revenues in 1997 and 1998 after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions: FOR THE YEAR ENDED DECEMBER 31, ------------------- 1997 1998 -------- -------- Sam's Club ................ 10% 20% S&K Famous Brands ......... 18 11 Brooks Brothers ........... 8 11 Dillards .................. 12 10 Jos.A.Bank ................ -- 9 Polo Retail ............... 12 6 Nordstrom ................. 8 3 -- -- Total .................... 68% 70% == == SALES AND MARKETING. In contrast to traditional apparel companies, which attempt primarily to sell customers product that they manufacture, we apply our sourcing relationships and contacts and our ability to provide sophisticated design, raw material procurement, merchandising, statistical quality control and other services to solve customer problems and/or create new retail opportunities for our customers. We believe that this consultative approach to sales and marketing results in long-term relationships with successful retailers. Our flexibility in sourcing products does not restrict us to offering solutions that are dependent on our manufacturing capabilities. Our consultative approach to sales and marketing has evolved over the last decade, and involves providing both products and services. For example, in 1991 MS Pietrafesa, L.P. analyzed a manufacturing facility owned by a major national retailer, and we concluded that there were structural barriers that precluded that facility from ever becoming an efficient manufacturing source. We proposed closing the facility and moving the relevant production to our Liverpool facility, where production lines were established specifically for that product. In 1994, MS Pietrafesa, L.P. performed a similar analysis for a major brand, resulting in the closure of the brand's manufacturing facility and the sourcing of its product between the Liverpool facility and two other contractors. Most recently, MS Pietrafesa, L.P. assisted a national chain in phasing out its manufacturing division and its exclusive reliance on its in-house merchandisers. We assign each of our major customers their own sales teams -- which include design, specification, quality control and sales administration personnel -- focused on the needs and requirements of that particular customer. In order to maintain exclusivity for each customer, all products remain unique to their respective sales team. On a seasonal basis, merchandising concepts, including exclusive or special fabrics, model enhancements and marketing ideas, are presented to customers. When a customer adopts one of our merchandising strategies, that strategy is executed exclusively for that customer unless otherwise agreed. MERCHANDISING TECHNOLOGY SYSTEMS EXPERTISE. We continually develop new systems, services and production methods that make buying from us more attractive to retailers. We generally use computer-aided design systems to develop products and program fabric cutting for all products to ensure color consistency and maximize material yield. We employ a proprietary system to insure consistency of products among production facilities. In addition, our interactive ordering, invoicing and payment system significantly enhances customer order execution and inventory tracking. All such systems are intended to enhance customer profitability and loyalty. In addition, our sales forecasting, production planning and logistics and inventory management are performed on systems that are unique to us. MADE-TO-MEASURE SOFTWARE. In November 1998, we launched a point-of-sale made-to-measure system at two retail stores and introduced the system in five Brooks Brothers stores in the first quarter of 1999. This system, which uses software developed exclusively by us, offers retailers the opportunity simultaneously to 56 electronically capture a customer profile and a made-to-measure suit order, automatically alter a standard computer-aided design pattern based on the customer's measurements, and is intended to deliver a custom suit to the customer in less than four weeks. PRODUCT SOURCING, RAW MATERIALS SOURCING AND MANUFACTURING PRODUCT SOURCING. During 1998, we sourced approximately 72% (by sales dollar volume) of our products with over 50 independent manufacturers worldwide. Further, 66% (by sales dollar volume) of our products were produced outside the United States in 1998, principally in Italy, the Dominican Republic, Mexico, Eastern Europe and the Far East. No manufacturer accounted for more than 10% of our total production in 1998. We monitor our selection of independent factories to attempt to minimize the instances in which one manufacturer or country is the source of a disproportionate amount of our merchandise. These manufacturers are selected, monitored and coordinated by our employees located in regional offices to assure conformity to strict quality standards. We believe the use of dedicated sourcing personnel rather than independent agents reduces our sourcing costs and cycle times. Personnel who are focused narrowly on our interests are more responsive to our needs than independent agents would be, and are more likely to build long-term relationships with key vendors. We believe that the use of these independent manufacturers increases our production capacity and delivery flexibility, reduces our costs and allows us to match each of these criteria to specific customer needs. See "Risk Factors -- Our Foreign Sourcing of Products Exposes us to Delays in Production, which may Result in Increased Costs and Reduced Profitability." We have long-standing relationships with our most important independent manufacturers. In a number of cases, we are the largest customer of our independent manufacturers, providing as much as 50% of such manufacturers' annual order volume (by unit). As a result, we are able to pass through to our customers the benefits of the significant leverage we have with such manufacturers and the resulting production, delivery and cost flexibility. For many of our lower priced products, we have established numerous alternative manufacturing sources. As a result, production of such products can be placed on the most competitive delivery and price terms on a season-by-season basis, and significant dependence on single manufacturers of such products is minimized. We believe that our sourcing relationships enable us to offer our customers valuable brand management services, including risk reduction achieved through decreasing reliance on particular product sources. RAW MATERIALS SOURCING. We obtain our raw materials, which include fabric, linings, thread, buttons and labels, from domestic and foreign sources based on quality, pricing, customer requirements and availability. Our principal raw material is fabric, including woolens, cashmere, camel hair, silks, linen, cotton and blends of wool with other fibers, as well as thread, trim and labeling and packaging materials. Whenever practicable, fabric is procured by our contract manufacturers directly but in accordance with our specifications, thus reducing capital employed by us in work-in-process inventory. For some of our product offerings, we select fabric suppliers to jointly develop fabric for our exclusive use. In order to assure quality control, we send samples of all new fabrics to laboratories in order to test their sewing characteristics. For a significant portion of the products we sell, the customer or manufacturer purchases the raw materials. A substantial portion of these purchases are denominated in U.S. dollars. We purchased 54% (by dollar value) of our total fabric requirements in 1998 from two suppliers. No other supplier accounted for more than 10% of our purchases. As is customary in our industry, we do not have long-term contracts with our suppliers. We believe that there are alternative sources of supply available to satisfy our raw material requirements. MANUFACTURING. We have over 75 years of experience as a leading domestic manufacturer of premium tailored clothing. As a result, unlike many of our competitors, we have the expertise to offer retailers private label services that include styling developments, quick replenishment, statistical quality control, delivery reliability and systems integration that are competitive with the largest domestic manufacturers. In addition, we believe that we can improve retailer margins by leveraging our experience in manufacturing technology. In particular, we believe that our fabric-maximizing manufacturing technology, our unit production process, and "just-in-time" inventory and distribution management systems, which reduce customers' working capital costs by lowering stocking and warehousing requirements, will lower raw material and inventory costs, and result in better customer order fulfillment. 57 In 1998, approximately 28% of our products (by sales dollar volume) were produced at our manufacturing facility, located in Liverpool, New York, and at two facilities in Baltimore, Maryland. The Baltimore facilities are operated by SourceOne, L.L.C., a subsidiary of the general partner of MS Pietrafesa, L.P. See "Certain Relationships and Related Transactions." Our business and growth strategies focus on growth through worldwide sourcing and diminished reliance on manufacturing facilities owned and operated by us. See "Risk Factors -- Our Foreign Sourcing of Products Exposes us to Delays in Production, which may Result in Increased Costs and Reduced Profitability." SourceOne took over operation of the Baltimore facilities in April 1998. We are not financially liable, or otherwise obligated, for any overhead or other operating expenses or liabilities of the Baltimore facilities. We source approximately one-third of our production for Jos.A.Bank with SourceOne pursuant to a subcontractor agreement. Under that agreement, SourceOne is paid based on the production costs of the agreement, without mark-up. None of our employees receive additional compensation from SourceOne. The Baltimore facilities were formerly operated by Jos.A.Bank. As part of its announced plan to phase out its domestic manufacturing operations and focus on a publicly announced national five-year store opening plan, Jos.A.Bank sought our assistance in executing this plan. SourceOne was established to ensure an orderly continuation of the operations of the Baltimore facilities, without exposing us to any associated overhead or other operating liabilities. SourceOne is obligated to operate the Baltimore facilities through February 2000. In addition, SourceOne's obligations are contingent on Jos.A.Bank satisfying its minimum order commitments to us for the corresponding period. QUALITY CONTROL. As of June 30, 1999 we had eight quality control personnel in three foreign centers, as well as five additional inspectors for United States and Caribbean based manufacturing contractors. In addition, as of such date, we had nine people in our headquarters facility overseeing and coordinating global quality control standards and efforts. We believe our quality control program is an important component of our private label and licensed brand product capabilities. Our quality control program is designed to ensure that our products meet high quality standards. This program is based on the "green seal/black seal" process to ensure that all garments we source or produce meet specifications and original expectations for the production of such garments. Before a new product order is placed, an exact sample garment is sent to the customer. Upon customer approval, a "green seal" tag is placed on the garment to indicate acceptance by both us and the customer and to provide a standard for future reference. Prior to shipping the first production unit of the green sealed product, a size run from the order is shipped to the customer for "black seal" approval. If the items sufficiently match the "green seal" garment, "black seal" approval is given, and the balance of the order is completed and distributed. We also monitor the quality of fabrics and inspect each roll before production runs are commenced. We perform in-line inspections during and after production before garments leave the factory. Our quality control personnel visit most of our independent manufacturers' facilities at least once every two weeks. DELIVERY AND CUSTOMER ORDERS. In most cases, our independent manufacturers are at risk for the quality and timely delivery of the products. Our international production requirements are financed with letters of credit or under open credit terms. Whenever possible, we push related financing requirements down to our contractors, matching payment terms to the contractor with payment terms from our customers. This minimizes inventory financing and keeps the contractors vested in the process. We transact business on an order-by-order basis and do not maintain any long-term or exclusive commitments or arrangements to purchase from any vendor other than SourceOne in respect of minimum product quantities for Jos.A.Bank. We receive most of our customers' orders prior to placing our manufacturing orders, except in instances where our customers have agreed to purchase specific amounts of products in order to maintain desired inventory levels on a continuing basis. OPERATING UNITS Upon the consummation of the offering, our operations will be divided into five business units: the Windsong Unit, the Pietrafesa Unit, the Components Unit, the Global Sourcing Network Unit and the Diversified Apparel Unit. Each of our current business units operates, and it is intended that each new business 58 unit will operate, as a separate unit accountable for its own profitability, utilization of capital and overhead. Each business unit's operations will conform to our standardized financial controls, quality practices and back-office functions. The following table summarizes the percentage of our 1998 net revenues attributable to each operating business unit on a pro forma basis giving effect to the acquisition of Diversified Apparel, Global Sourcing Network, Components and Windsong as of January 1, 1998. PERCENTAGE OF PRO FORMA COMBINED NET REVENUES FOR THE YEAR ENDED BUSINESS UNIT DECEMBER 31, 1998 - ---------------------------------------- ------------------- Windsong ........................ 39.5% Pietrafesa ...................... 35.2 Components ...................... 12.4 Global Sourcing Network ......... 11.2 Diversified Apparel ............. 1.7 ----- Total .......................... 100.0% ===== The Windsong Unit supplies designer label and private label sportswear to department stores, specialty stores and mass merchandise chains. This unit will be headed by Joseph Sweedler, with whom we will enter into a five-year employment contract upon the consummation of the offering. Windsong supplies knit shirts at retail price points from $28 to $75, woven shirts from $35 to $65 and sweaters from $55 to $150 to customers that include major retailers such as Belk, Dillards and Sam's Club. See "Management's Discussion and Analysis of Financial Conditions and Results of Operations -- Significant Acquisitions." The Pietrafesa Unit, our oldest unit, merchandises, sources and manufactures tailored clothing, including suits, suit separates, sport coats, dress trousers and formal wear. The Pietrafesa Unit consists primarily of a Men's Division which is headed by Joseph J. Pietrafesa II, the brother of our Chief Executive Officer. Mr. Pietrafesa joined the predecessor of MS Pietrafesa, L.P. in 1979 as Director of Sales, becoming Vice President of Sales and Merchandising when MS Pietrafesa, L.P. was formed in 1990. For the years 1993 through 1996 Mr. Pietrafesa served as President of our Polo Clothing Unit. The Pietrafesa Unit also operates a Women's Division. The Women's Division is headed by Alisa Rothstein, who joined MS Pietrafesa, L.P. in October 1991 as President of the Women's Division. Ms. Rothstein is responsible for product design, merchandising, and marketing of all products promoted by this Division. Prior to joining MS Pietrafesa, L.P., Ms. Rothstein spent eight years as President of Pincus Brothers-Maxwell's women's unit. The Components Unit merchandises and sources tailored clothing, as well as sportswear, dress shirts, neckwear, topcoats and casual slacks in Italy. This unit will be headed by John McCoy with whom we will enter into a six-year employment contract upon the consummation of the offering. Customers of Components are the highest tier retailers including Bergdorf Goodman, Saks Fifth Avenue, Brooks Brothers and Sulka, at retail price points from $695 to $3,000 for men's suits, $125 to $400 for dress shirts and $65 to $95 for silk neckwear. Mr. McCoy founded Components in 1985 after spending three years as an independent sales representative for a variety of imported apparel lines. Mr. McCoy served as President of Fitzgerald, Inc., a men's clothing unit of Warren Sewell, for the years 1977 through 1979, and a unit of the Palm Beach Company for the years 1979 through 1982. See "Management's Discussion and Analysis of Financial Conditions and Results of Operations -- Significant Acquisitions." The Global Sourcing Network Unit designs and imports men's suits. This unit is headed by Peter Lister with whom we have entered into a five-year employment contract. Using manufacturers in Slovakia, the Czech Republic, Bulgaria, Moldova, Indonesia, the Philippines, India and China, Global Sourcing Network contracts for the production and delivery of men's suits. In all cases, Global Sourcing Network takes ownership of products while in transit, but ships directly to customers against firm orders. Global Sourcing Network's largest customer is S&K Famous Brands. Typical retail price points are $99 to $295 for men's suits. See "Management's Discussion and Analysis of Financial Conditions and Results of Operations -- Significant Acquisitions." 59 The Diversified Apparel Unit merchandises and sources apparel, including lower to mid-priced suits and dress shirts, to value-priced apparel retailers. This unit is headed by Jarrod Nadel with whom we have entered into a five year employment contract. Using manufacturers in the United States, Italy, the Dominican Republic and Korea, Diversified Apparel merchandises a specific product around a customer's need and executes the production and delivery, typically on a commission basis without owning inventory. Customers of Diversified Apparel include The Men's Wearhouse, Bloomingdales, S&K Famous Brands, K&G Men's Center, Bachrach and Filene's Basement. Typical retail price points are $195 to $495 for men's suits and $29.95 to $39.95 for dress shirts. Mr. Nadel founded Diversified Apparel in 1994 as a full service sourcing, merchandising and design company with offices in New York City and Italy. Prior to 1994, Mr. Nadel spent two years as Director of Sourcing for After Six Ltd. For the years 1988 to 1992, Mr. Nadel served as Vice President of Sales and Merchandising for the Pierre Balmain Division of Capital Fashions Corporation. See "Management's Discussion and Analysis of Financial Conditions and Results of Operations -- Significant Acquisitions." IMPORTS AND IMPORT REGULATIONS We presently import garments under four separate scenarios having distinct customs consequences: (1) imports of finished goods mostly from the Pacific Rim and the Middle East; (2) imports from the Caribbean Basin and Central America; (3) imports from Mexico and Canada; and (4) imports from Europe. For direct importations, mostly from the Pacific Rim and the Middle East, imported garments are normally assessed with customs duties at "most favored nation" tariff rates. The tariffs for most of the countries from which we currently import or intend to import have been set by international negotiations under the auspices of the World Trade Organization and implemented into U.S. law. These tariffs generally range between 17% and 35%, depending upon the nature of the garment, such as shirt or pants, its construction and its chief weight by fiber. Currently, the only countries not enjoying "most favored nation" treatment are Afghanistan, Cuba, Laos, North Korea, and Vietnam. In addition to tariffs, merchandise from virtually all of the countries from which we import is also subject to bilateral quota restraints, pursuant to U.S. domestic law or the Multi-Lateral Agreement on Textile and Clothing, which exists under the auspices of the World Trade Organization. Most bilateral quotas are negotiated on a calendar year basis. After the United States and a particular country agree to a particular level of exports in a particular quota category (for instance, wool men's suits), the country that receives the quota has the right to determine the method by which such quota is assigned to its manufacturers. Some jurisdictions, such as Hong Kong, have a free market under which quotas are bought and sold. Most countries, however, assign it to the factories that actually produce the garments. Shipments which are exported to the United States must, in addition to the usual commercial documentation, have appropriate and official textile visas, in either an electronic or paper format, which confirm their quota status. This documentation must be filed prior to the admission and clearance of the merchandise into the United States. Accordingly, we usually demand that this paperwork be submitted prior to payment. We also import garments from countries in the Caribbean Basin and Central America, most notably the Dominican Republic and Costa Rica. Although merchandise imported from these jurisdictions is potentially subject to tariffs and quotas of the kind described for Far Eastern importations, there are special programs which provide for reduced tariffs for some merchandise sourced from the Caribbean Basin and Central America. The principal program is the so-called "807" program. Under this program, merchandise described by tariff subheading 9802.00.80, Harmonized Tariff Schedule ("HTS"), is admitted into the United States with a substantial tariff reduction when the standards of subheading 9802.00.80 are met. Specifically, in qualifying circumstances, the provision exempts from collection that duty which would be based on the value of exported U.S. components assembled into a product in a foreign jurisdiction which is subsequently re-imported into the United States. In essence, the duty reduction is equal to the duty that would otherwise be assessed on the value of the components incorporated into these assembled goods plus southbound international freight and insurance. For apparel products, such U.S. components normally consist of cut-to-shape U.S. fabric parts, finishing and trim, such as buttons or thread. In addition, if the fabric which is cut to create the cut component parts is also knitted, woven or formed in the United States, there is a special program which provides for more liberalized access to the U.S. 60 marketplace. This program is applicable only to some Caribbean Basin, Central American and northern Latin American countries which have signed special agreements with the United States known as Guaranteed Access Level ("GAL") agreements. Under these agreements, qualifying products, known in the trade as "807A" or "Super 807" or GAL products, are eligible to enter the United States free of any quota restraints. Accordingly, a country such as the Dominican Republic would have the normal advantages of the "807" process, as well as the advantages of the GALS program if the GAL standards are met. We produce a significant amount of garments that qualify for one or both of these particular programs. In circumstances where garments qualify for both preferences, i.e., "807" and "807A," the merchandise is accorded both substantial and significant quota and tariff advantage over Pacific Rim, Middle Eastern or non-qualifying Western hemisphere goods. We also import finished goods from Mexico and Canada under the North American Free Trade Agreement, commonly known as NAFTA. Under NAFTA, merchandise which qualifies, is accorded reduced or duty-free access, depending upon the type of merchandise involved. For many garments, the key requirement for NAFTA qualification is that the yarn, cloth, cut, sew and finish of the garments all take place within North America. This is commonly known as the "yarn-forward rule," which is a general guideline, not a legal rule. Merchandise qualifying under NAFTA enters the United States at a preferential or zero rate and is not subject to any quota. In addition to our imports eligible for entry under the NAFTA program, some imports made by us are also subject to a tariff preference which was created and enacted as part of the NAFTA-enabling legislation. This tariff provision, subheading 9802.00.90, HTS, provides for immediate duty-free entry into the United States from Mexico of garments made from components which are cut to shape in the United States from U.S. knit, woven or formed cloth. Such articles enter quota-free. This duty-free, quota-free entry would be available for articles produced in Mexico from U.S. components cut from U.S. knitted/woven fabric. This merchandise, therefore, has an even more favorable treatment than merchandise being imported from the Caribbean Basin. We currently import a limited amount of such merchandise from Mexico. Finally, non-NAFTA qualifying goods may be imported from Mexico. As noted, this merchandise could be imported with reduced duties under the 807 program, as well as under special tariff rate quotas called "TPLs." Otherwise, it is subject to full "most favored nation" duty. Such merchandise may also be subject to Mexican quotas which are effective for some products until 2004. COMPETITION The apparel industry in the United States is highly competitive and characterized by a relatively small number of multi-line manufacturers and a larger number of specialty manufacturers, including brand name and private label producers. We have the ability to compete with internal product development and sourcing capabilities of retailers. Our products also compete with a substantial number of designer and non-designer product lines. Some of our competitors and potential competitors have greater financial, manufacturing and distribution resources than us. We believe that we compete favorably based on the quality and value of our programs and products, price, the production flexibility resulting from of our cutting and sourcing network, and the long-term customer relationships we have developed. See "Risk Factors -- We may be Unable to Compete Successfully in the Highly Competitive Apparel Industry." INTELLECTUAL PROPERTY In connection with the Windsong acquisition, Windsong's exclusive license to the "Colours by Alexander Julian" trademark will be assigned to us. The Alexander Julian license covers sales of sport shirts, knit shirts and sweaters in the United States. The initial term of the Alexander Julian license agreement ends on December 31, 2001, but if our net sales of specified items of "Colours by Alexander Julian" apparel exceed a specified sales target for the twelve-month period ending December 31, 2000, we will have the option to extend the term of the Alexander Julian license agreement until December 31, 2006. Windsong's sales of such apparel were substantially in excess of this sales target in 1998. We will be obligated under the license agreement to make annual minimum payments to Alexander Julian, Inc., as well as royalty payments based on net sales of Colours by Alexander Julian apparel. Sales of Alexander Julian products represent 27% of our pro forma combined revenues and 24% of our pro forma combined net income for 1998. 61 Our exclusive sublicense of the FUBU trademark covers the sale of men's tailored clothing and specified accessories in the United States and Canada. The FUBU sublicense will terminate on June 30, 2004. We are entitled to renew the FUBU sublicense for an additional five-year term if our net sales of sublicensed products exceed a specified target during the twelve months preceding our sending of a renewal notice. We will be obligated under the FUBU sublicense to make royalty payments based on net sales of FUBU apparel. In connection with the Components acquisition, Components' nonexclusive sublicense to the DKNY trademark covering the sale of overcoats in the United States, Canada, Mexico and the Caribbean will be assigned to us. The initial term of the DKNY sublicense agreement will terminate on December 31, 2000, but if our net sales of specified items of DKNY apparel as of June 30, 2000 exceed a specified target in connection with the Fall/Winter 1999 and Spring/Summer 2000 seasonal collections, we will have the option to extend the term of the DKNY license agreement until December 31, 2002. We will be obligated under this sublicense to make annual minimum payments, as well as royalty payments based on net sales of DKNY apparel. Our exclusive license of the Greg Norman Collection trademark covers the sale of men's tailored clothing in the United States and Canada. The Greg Norman Collection license will terminate on December 31, 2004, but we will have the right to elect two three-year extensions so long as we obtain minimum sales targets and make minimum royalty payments. We will be obligated under the Greg Norman collection license to make royalty payments based on net sales of Greg Norman Collection apparel. Although we have applied for a number of registered U.S. trademarks, including the Pietrafesa name and the Pivot Rules brand name, such trademarks do not represent a material asset of ours. In addition, we own the software used in our point-of-sale made-to-measure programs. PROPERTIES We own our corporate headquarters, principal manufacturing facility and warehouse facility, all of which are located in Liverpool, New York. Such facilities are the subject of a lease and lease-back transaction with the Onondaga County Industrial Development Authority, pursuant to which we received a Payment In Lieu Of Taxes agreement which significantly reduced real estate taxes on the facility, and fixed the assessment for a period of 18 years. Our Liverpool facility is also subject to mortgages held by PNC Bank and the UDC securing indebtedness owed to such parties. See "Management's Discussion and Analysis of Results of Operations -- Liquidity and Capital Resources." During 1998, our Liverpool facility operated at approximately 62.5% of space capacity and 75% of current machine capacity. We also lease one retail store in Syracuse, New York, at which we operate under the name Learbury Clothes. This store has been in continuous operation since 1941. The Learbury lease expires in 2007. We also maintain an office in New York City. The lease on this space commenced in July 1999 and expires in July 2009, with escalating annual rental payments of $243,000 in year one and $345,000 in year ten. Diversified Apparel, Global Sourcing Network, Components and Windsong each lease office space in New York City and Windsong leases office space in Connecticut, in each case to conduct administrative and sales operations. In addition, Windsong leases warehouse space in New Jersey. None of these businesses own any real property. We believe that our existing facilities are adequate to meet our current and forseeable needs. We also believe our existing facilities are well maintained and in good operating condition. EMPLOYEES As of June 30, 1999, we had 523 employees. Of the total, 55 hold executive and administrative positions, eight are engaged in design and merchandising, 406 are engaged in production activities such as marking, cutting and labeling, 45 are engaged in sales, 17 are engaged in distribution and 22 are engaged in quality control. Approximately 70% of our work force is covered under collective bargaining agreements, which expire in 2002. We have not experienced work stoppages in the past and believe that our relations with our employees are satisfactory. LEGAL PROCEEDINGS From time to time, we are a party to litigation arising in the ordinary course of our business. We are not currently a party to any litigation that, if determined adversely to us, we believe would have a material adverse effect on us. 62 MANAGEMENT DIRECTORS AND EXECUTIVE OFFICERS The following table sets forth information as of June 30, 1999 with respect to the members of our Board of Directors and our executive officers: NAME AGE POSITIONS - ---------------------------------- --- -------------------------------------- Richard C. Pietrafesa, Jr.(1) .... 42 President, Chief Executive Officer, Director Sterling B. Brinkley, Jr.(1) ..... 47 Chairman of the Board Thomas A. Minkstein(1) ........... 52 Chief Operating Officer, Director Eugene R. Sunderhaft ............. 51 Vice President -- Finance, Chief Financial Officer, Secretary, Treasurer David McDonough .................. 35 Vice President -- Business Development Mark C. Pickup(2) ................ 47 Director Robert J. Bennett(2)(3) .......... 58 Director Paul M. McNicol(2)(3) ............ 43 Director - ---------- (1) Member of Executive Committee (2) Member of Audit Committee (3) Member of Compensation Committee RICHARD C. PIETRAFESA, JR. has served as our President, Chief Executive Officer and Director since June 1990. Mr. Pietrafesa is also a member of our Executive Committee. Mr. Pietrafesa joined our predecessor in 1979 and became Director of Operations in 1981. Over his 20 years in the men's apparel industry, Mr. Pietrafesa has been awarded the U.S. Senate Medal for Productivity in 1984, the Apparel Industry Magazine All Star Award in 1985 and again in 1991, the Bobbin Magazine C.E.O. of the Year Award in 1994, and, along with his brother Joseph J. Pietrafesa II, the President of the Pietrafesa for Men Unit, the Sales and Marketing Association Award for Innovation in 1997. Mr. Pietrafesa earned an honors degree in Economics and Government from Harvard College. STERLING B. BRINKLEY, JR. serves as our Chairman of the Board of Directors and Chairman of our Executive Committee and has been a Director since June 1990. Mr. Brinkley was a Managing Director of Morgan Schiff & Co., Inc., one of the underwriters of this offering, for the years 1986 to 1990. Since 1990, Mr. Brinkley has been a consultant to Morgan Schiff. Prior to 1986, Mr. Brinkley was a Managing Director in the Corporate Finance Department of Shearson Lehman Brothers, Inc. Mr. Brinkley is also Chairman of the Board of Directors of EZCORP, Inc., a publicly-traded pawnshop chain, and Friedman's Inc., a publicly-traded retail jewelry chain, and Chairman of the Executive Committee of the Board of Directors of The Farm Journal Corporation, a publisher of agricultural information. All three companies are affiliates of The Pietrafesa Corporation and Morgan Schiff. Mr. Brinkley also serves on the boards of directors of various privately held companies that are affiliates of The Pietrafesa Corporation and Morgan Schiff. Mr. Brinkley received a B.A. from Yale University and an M.B.A. from the Stanford Graduate School of Business. THOMAS A. MINKSTEIN joined us in August 1998 as Chief Operating Officer and Director. Mr. Minkstein is also a member of our Executive Committee. Prior to joining us, Mr. Minkstein served for 10 years as Chief Operating Officer of Empire Vision, a division of Highmark, Inc., and the thirteenth largest optical retailer in the United States. In this position, Mr. Minkstein was responsible for the operation of over 4,000 distribution points and six manufacturing facilities throughout the United States, and managed that division's rapid growth and earnings expansion through acquisitions and the operations of large managed care programs. For the years 1973 through 1988, Mr. Minkstein held various management positions with Frank's Nursery & Craft, a division of General Host, a publicly-traded company. EUGENE R. SUNDERHAFT joined us in August 1998 as Vice President -- Finance, Chief Financial Officer, Secretary, Treasurer. Prior to joining us, Mr. Sunderhaft served for four years as Senior Vice President-Finance, Chief Financial Officer and Secretary of The Penn Traffic Company, a publicly-traded $3.2 billion retail, wholesale and manufacturing company, where he was responsible for all accounting 63 activities, treasury functions, strategic and tactical planning, SEC compliance, investor relations and information technology. For the years 1972 through 1993, Mr. Sunderhaft served P&C Foods, a subsidiary of Penn Traffic, in a variety of management positions including controller for the years 1982 through 1989, and Chief Financial Officer for the years 1989 through 1993. Prior to joining P&C, Mr. Sunderhaft was employed by Ernst & Ernst, the predecessor of Ernst & Young LLP. Mr. Sunderhaft is a graduate of the University of Dayton. DAVID MCDONOUGH currently serves as our Vice President -- Business Development. In this position, Mr. McDonough is responsible for financial and structural analysis of all acquisitions, and implementation of consolidation efficiencies and back office integration efforts. Mr. McDonough joined us in January 1995 as Controller, and became Chief Financial Officer in 1996, a position held until August of 1998. Prior to joining us, Mr. McDonough was Vice President-Finance of Ferris Industries, a $14 million equipment manufacturer for two years. Prior to that, Mr. McDonough was Corporate Finance Manager at CIS Corporation, a publicly-traded company, where he worked for six years. Mr. McDonough holds a B.S. in Economics from Cornell University. MARK C. PICKUP serves as a Director and Chairman of our Audit Committee. Mr. Pickup is also a director of EZCORP, Inc., Friedman's Inc. and The Farm Journal Corporation, each an affiliate of ours and Morgan Schiff. Since 1995, he has served as an independent business consultant with a variety of companies. Mr. Pickup served as Vice Chairman of Crescent Jewelers, a privately-held retail jewelry chain which is an affiliate of ours and Morgan Schiff, from December 1994 until February 1995, and served as President and Chief Executive Officer of Crescent Jewelers from August 1993 to December 1994. >From October 1992 until August 1993, Mr. Pickup served as the Senior Vice President and Chief Financial Officer for Crescent Jewelers. For more than five years prior to October 1992, Mr. Pickup held various positions with the predecessors of Ernst & Young LLP, leaving as a partner in its San Francisco, California office in October 1992. Mr. Pickup received a B.S. in mathematics from Brigham Young University. ROBERT J. BENNETT serves as a Director and member of our Audit Committee and as Chairman of our Compensation Committee. Mr. Bennett is also Chairman of the Board of M&T Bank Corporation, Vice-Chairman of the Board of Manufacturers and Traders Trust Company and a director of Traders Mutual Life Insurance Co. He also serves as Director for the Syracuse University School of Management, Crouse Hospital, the Federal Home Loan Bank of New York, the Metropolitan Development Association of Syracuse and Central NY, the Pan African Business Association and the New York Bankers Association. Mr. Bennett was also the Chairman, President and CEO of ONBANCorp, Inc. for the years 1987 until April 1998 when it merged with M&T Bank Corporation. Mr. Bennett received his B.S. from Babson College and his M.B.A. from the University of Massachusetts, Amherst, and holds a graduate degree from the Harvard Business School Advanced Management Program. PAUL M. MCNICOL serves as a Director and member of our Audit and Compensation Committees. Mr. McNicol is also Senior Vice President-Legal, Cendant Corporation. For the years 1994 to 1996, Mr. McNicol served as Senior Vice President-General Counsel of Six Flags Theme Parks, Inc. Mr. McNicol received his B.A. from Harvard College and his J.D. from Fordham University School of Law. Our directors are currently elected annually, 25% by the holders of the Class A Common Stock and 75% by the holders of the Class B Common Stock, to serve during the ensuing year or until their respective successors are duly elected and qualified. Officers serve at the discretion of our Board of Directors. For a description of class voting rights see "Description of Capital Stock." COMMITTEES OF THE BOARD OF DIRECTORS Our Board of Directors currently has three committees: (1) the Audit Committee; (2) the Executive Committee; and (3) the Compensation Committee. The Audit Committee is comprised of Messrs. Pickup, Bennett and McNicol, with Mr. Pickup as Chairman. The Audit Committee recommends the independent accountants appointed by the Board to audit our financial statements which includes an inspection of our books and accounts. The Audit Committee reviews with such accountants the scope of their audit and their report thereon, including any questions and recommendations that may arise relating to such audit and report or our internal accounting and auditing procedures. 64 The Executive Committee is comprised of Messrs. Pietrafesa, Minkstein and Brinkley, with Mr. Brinkley as Chairman. The Executive Committee exercises the authority of the Board, to the extent permitted by law, in the management of our business between meetings of the Board. The Executive Committee of the Board also serves as the nominating committee in connection with annual meetings of stockholders. The Compensation Committee is comprised of Messrs. Bennett and McNicol, with Mr. Bennett as Chairman. The function of the Compensation Committee is to review and approve the compensation of executive officers and establish targets and incentive awards under our incentive compensation plans. COMPENSATION OF THE BOARD OF DIRECTORS Sterling Brinkley, the Chairman of the Board and Chairman of our Executive Committee, will receive fees of $100,000 per year. All other directors who are not our current employees will receive an annual retainer of $10,000 payable quarterly, plus an additional fee of $1,500 per meeting, and will be eligible to receive stock option grants under our Stock Option Plan. See " -- Stock Option Plan." Committee members, other than Mr. Brinkley, who are not our current employees will receive an additional fee of $500 for each committee meeting attended. In addition, our directors may be eligible to participate in other incentive arrangements from time to time. We will reimburse directors for travel and other out-of-pocket expenses incurred in connection with their services as directors. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION To date, executive compensation has been determined by our Chief Executive Officer. Upon completion of this offering, the Compensation Committee will make all compensation decisions. No interlocking relationship exists between the Board or Compensation Committee and the board of directors or compensation committee of any other company. 65 COMPENSATION OF EXECUTIVE OFFICERS The following table presents summary information concerning compensation that we paid or accrued for services rendered in all capacities during the last three years for our Chief Executive Officer, our other most highly compensated executive officer and one additional individual who served as one of our executive officers for a portion of the last completed year. With respect to the persons and periods covered in the following table, we made no restricted stock awards and had no long-term incentive plan pay-outs. Our contributions to our 401(k) retirement plan, as well as premium amounts paid for Mr. Pietrafesa's life insurance benefits, are included under "All Other Compensation." 1998 bonus amounts include payments related to performance in prior years. SUMMARY COMPENSATION TABLE
ANNUAL COMPENSATION ----------------------------------------- ALL OTHER NAME AND PRINCIPAL POSITIONS YEAR SALARY BONUS COMPENSATION - --------------------------------------- ------ ----------- ----------- ------------- Richard C. Pietrafesa, Jr. ............ 1998 $100,000 $255,600 $38,729 PRESIDENT, CHIEF EXECUTIVE OFFICER 1997 100,000 100,000 33,650 AND DIRECTOR 1996 100,000 40,000 34,602 David McDonough ....................... 1998 $ 90,000 $ 30,000 $ 1,698 VICE PRESIDENT OF BUSINESS DEVELOPMENT 1997 90,000 20,000 1,683 1996 90,000 10,000 1,050 Ross W. Stefano(1) .................... 1998 $ 50,000 $155,000 $ 1,689 CHIEF OPERATING OFFICER AND DIRECTOR 1997 100,000 100,000 1,171 1996 100,000 100,000 1,546
- ---------- (1) Mr. Stefano ceased to be an employee and director on June 22, 1998. STOCK OPTION PLAN We intend to establish our 1999 Stock Option Plan for key employees and directors prior to the closing of the offering. Under the Stock Option Plan, awards of options to purchase shares of Class A Common Stock may be made to our key employees and directors, including employees who are also our officers or directors. We may award options to purchase a number of shares equal to 10% of our outstanding capital stock immediately following the offering. Options awarded under the Stock Option Plan may be either "incentive stock options," as that term is defined in Section 422 of the Internal Revenue Code of 1986, as amended, or nonqualified stock options. The Stock Option Plan will be administered by our Compensation Committee. The Compensation Committee will have the authority to establish the terms and conditions of the options in any manner not inconsistent with the terms of the Stock Option Plan, adopt any rules it considers appropriate for the administration of the Stock Option Plan, make interpretations of the Stock Option Plan that it deems consistent with its provisions, and take any other action it considers appropriate in connection with the Stock Option Plan. Each option granted under the Stock Option Plan will be evidenced by an agreement between The Pietrafesa Corporation and the employee and/or director to whom the option is granted. Prior to the adoption of the Stock Option Plan, we have made no provision for the grant of options to purchase equity interests in The Pietrafesa Corporation and no executive officer named in the above table holds or has ever exercised any stock appreciation rights. At the time of the offering, no options will have been granted to our executive officers, employees or directors under the Stock Option Plan. RETIREMENT PLANS Our 401(k) Retirement Plan, as restated and amended, is a qualified retirement plan available to all of our eligible employees (together, the "Participants"). 66 Annual contributions to employees, if any, are declared by the Board at the end of each year. Pursuant to the Retirement Plan, employees may also make non-matching contributions. The contribution amounts for the executive officers named in the Summary Compensation Table are included under "All Other Compensation." Contributions to the Retirement Plan are made to a trust where the funds are invested in available investment options selected by the Participant and managed by the trustee. The trust may be invested and reinvested in common or preferred stocks, bonds, mortgages, leases, notes, debentures, mutual funds, guaranteed investment contracts and other contracts and funds of insurance companies, other securities and other real or personal property. The account balances grow until finally distributed. Employee contributions to the Retirement Plan are 100% vested upon contribution, and employer contributions to the Retirement Plan vest over five years. Upon the occurrence of a distributive event, a Participant may elect to receive funds according to the respective plans' provisions. Pursuant to these provisions, a Participant is also entitled to rollover eligible distribution amounts into another eligible retirement plan. We may amend the Retirement Plan and our associated trusts, retroactively or prospectively, in our sole discretion, except where prohibited by the Internal Revenue Code of 1986, as amended, or the Employee Retirement Income Security Act of 1974, as amended, and so long as such amendment does not exclude a Participant, reduce a Participant's account, reduce a Participant's vested percentage or modify the vesting schedule for a Participant eligible under the Retirement Plan prior to the effective date of the amendment. The Retirement Plan may be merged or consolidated, or its assets and liabilities may be transferred, in whole or in part, to another qualified retirement plan. We also reserve the right to terminate the Retirement Plan and our associated trusts, or to cease or suspend further contributions, upon which occurrence accounts of Participants shall become nonforfeitable. The Retirement Plan is a qualified retirement plan and trust under Section 401 of the Code, ERISA and all regulations issued thereunder. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS In October 1998, MS Pietrafesa, L.P. transferred all of its assets and liabilities to us in exchange for 100 shares of Class B Common Stock. To establish our initial capital structure as a public company, immediately prior to the consummation of the offering, we will issue an additional 3,775,567 shares of Class B Common Stock to our sole stockholder, MS Pietrafesa, L.P., in exchange for nominal consideration. We are controlled by Phillip Ean Cohen through his sole ownership of MS Pietrafesa Acquisition Corporation, the general partner of MS Pietrafesa, L.P. (the "General Partner"). See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." Morgan Schiff, which is owned by Mr. Cohen, is one of the managing underwriters of the offering. We reimbursed Morgan Schiff for expenses incurred, principally employee salary, legal and accounting fees of $192,300 in 1998, in connection with our formation and will continue to reimburse Morgan Schiff for ongoing administrative expenses, principally legal and accounting services rendered to us. In the future, we may engage Morgan Schiff for business and financial advisory services. Mr. Brinkley, a consultant to Morgan Schiff, is our Chairman of the Board. Morgan Schiff is acting as one of the underwriters in the offering and, in such capacity, will receive an underwriter's discount equal to 7.0% of the gross proceeds of the shares of Class A Common Stock allocated to it. Mr. Brinkley, Richard C. Pietrafesa, Jr., Mr. Minkstein and Joseph J. Pietrafesa, II own indirect limited partnership interests in MS Pietrafesa, L.P. through their ownership of limited partnership interests in MSJP, L.P., a limited partner of MS Pietrafesa, L.P. See "Principal Stockholders." In addition, Messrs. Pietrafesa own indirect limited partnership interests in MS Pietrafesa, L.P. through their ownership of limited partnership interests in RJP Investment Assoc., L.P. ("RJP"), a limited partner of MS Pietrafesa, L.P. See "Principal Stockholders." In the event that the limited partners of MS Pietrafesa, L.P. receive a specified minimum investment return, RJP, and, as a result, Messrs. Pietrafesa will be allocated by MS Pietrafesa, L.P. shares of Class B Common Stock and/or other property that would otherwise be allocated to the other limited partners. MS Pietrafesa, L.P.'s Partnership Agreement contains similar provisions in favor of the General Partner, which is owned by Mr. Cohen. None of the foregoing provisions require that we issue additional shares of Class A or Class B Common Stock or other securities of any kind. 67 We lease a retail store facility in Syracuse, New York from Robert D. Pietrafesa and Richard C. Pietrafesa, uncle and father, respectively, of our President and Chief Executive Officer, under a 10-year lease expiring in 2007 requiring rental payments totaling $145,000 per year. A portion of this retail store facility is subleased to a third party. The sublease will expire in 2000 and provides minimum rental income of $30,000 per year. We source customer orders, including a substantial volume of the aggregate orders for Jos.A.Bank, with an affiliate, SourceOne. SourceOne is owned by the General Partner. SourceOne operates two manufacturing facilities in Baltimore, Maryland of 54,000 and 125,000 square feet. SourceOne leases, directly and through a sublease, these facilities from Jos.A.Bank. All production performed for us by SourceOne is performed on a "cost" basis, without mark-up. None of our employees receive compensation from SourceOne. Morgan Schiff, an affiliate of the General Partner, provides financial advisory and strategic consulting services to us under an agreement requiring monthly retainer payments of $25,000. The agreement also requires us to pay specified fees to Morgan Schiff when we consummate various acquisitions, capital raising and financing transactions. The agreement may be terminated annually by either party upon 30 days notice. Morgan Schiff has waived all retainer payments otherwise payable to it for financial advisory services for 1996, 1997, 1998 and 1999, as well as all fees associated with the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, the PNC Bank credit facility and this offering. No such services were provided to us by Morgan Schiff during those periods and in respect of those transactions, other than investment banking and financial analyst services for which Morgan Schiff was paid, and we received no benefit under the agreement during those periods. Our agreement with Morgan Schiff does not compel Morgan Schiff to provide any actual services in return for the $25,000 monthly retainer payment. However, it was in our interest to enter into the agreement at the time of our acquisition by MS Pietrafesa, L.P., an affiliate of Morgan Schiff, because it was anticipated that we would be financially successful and that Morgan Schiff would provide meaningful services in the form of merger and acquisition advice and assistance in private capital raising activities and that the cost of those services would be less than or equal to the cost of procuring those services from an unaffiliated third party. However, after we were acquired in the early 1990s, our revenues increased rapidly, but our profitability declined. As a result, during the period from 1995 through 1997, we divested our non-core manufacturing assets, refinanced our secured lending arrangements and negotiated the forgiveness of our subordinated indebtedness. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview." Financial analysis related to these transactions was provided by our financial management and consultants and not by Morgan Schiff. In April 1998, MS Pietrafesa, L.P. made a distribution of $207,000 to its partners in accordance with its Amended and Restated Agreement of Limited Partnership dated January 1, 1996, for the payment of income taxes incurred by such partners on the portion of partnership income attributable to their respective interests during 1997. In May 1999, we paid $1.5 million to MS Pietrafesa, L.P. from amounts borrowed under the PNC Bank credit facility to cover the tax distribution to be made by MS Pietrafesa, L.P. to its partners in accordance with its Partnership Agreement for the payment of income taxes incurred by such partners on the portion of partnership income attributable to their respective interests during the period from January 1, 1998 through September 30, 1998. A portion of the net proceeds of the offering will be applied toward the repayment of the PNC Bank credit facility. We reimburse, on a per-flight basis, operating expenses of an aircraft owned by Twins Aviation, Inc., a corporation owned by our President and Chief Executive Officer. We use this aircraft on a regularly scheduled, weekly basis to fly staff to production meetings in New York City, as well as for customer and contractor visits. Such reimbursements amounted to $225,000 for the year ended December 31, 1996, $223,000 for the year ended December 31, 1997 and $454,000 for the year ended December 31, 1998. We believe that each of the affiliate transactions described above are on terms no less favorable than would be generally available to us from unaffiliated third parties. After the closing of the offering, all related party transactions will be approved by our independent, disinterested directors. See also "Management," "Principal Stockholders" and "Underwriting." 68 PRINCIPAL STOCKHOLDERS The table below sets forth information as of June 30, 1999 regarding the beneficial ownership of Class A Common Stock and Class B Common Stock, as well as the percentage ownership of our Class A Common Stock and Class B Common Stock. Shares of Class B Common Stock are convertible into Class A Common Stock on a one-for-one basis, as described under "Description of Capital Stock." Percentage ownership numbers are based on shares of Class A Common Stock and shares of Class B Common Stock outstanding immediately following the offering and, in the case of Class B Common Stock, immediately prior to the offering. Although shares of Class B Common Stock may be converted into shares of Class A Common Stock at any time, the table below does not reflect the shares of Class A Common Stock issuable to holders of Class B Common Stock upon conversion as being beneficially owned by those holders. Information is provided as to each of our directors, the executive officers named in the Summary Compensation Table under "Management -- Compensation of Executive Officers," each person we know to own beneficially more than 5% of the outstanding shares of Class A Common Stock or Class B Common Stock and all of our directors and executive officers as a group. Except as described below, the persons named in the table have sole voting and investment power with respect to all shares of Common Stock shown as beneficially owned by them. MS Pietrafesa Acquisition Corporation is the general partner of MS Pietrafesa, L.P. and has the sole right to vote the shares of Class B Common Stock owned by MS Pietrafesa, L.P. and to direct the disposition of such shares. Philip Ean Cohen is the sole stockholder of MS Pietrafesa Acquisition Corporation. See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." MSJP, L.P. and RJP Investments Assoc., L.P. indirectly own shares of Class B Common Stock through their respective ownership of limited partnership interests in MS Pietrafesa, L.P. Neither MSJP nor RJP has any right to vote or to direct the disposition of their respective shares. Shares of Class B Common Stock indicated below as beneficially owned by MSJP and RJP exclude additional shares of Class B Common Stock that MSJP and RJP are entitled to receive pursuant to MS Pietrafesa, L.P.'s Partnership Agreement. See "Certain Relationship and Related Transactions." Shares of Class B Common Stock indicated below as beneficially owned by Sterling B. Brinkley, Jr. and Thomas A. Minkstein are owned indirectly through their ownership of limited partnership interests in MSJP, L.P. Such individuals have no right to vote or to direct the disposition of these shares. Shares of Class B Common Stock indicated below as beneficially owned by Richard C. Pietrafesa, Jr. and Joseph J. Pietrafesa II are owned indirectly through their ownership of limited partnership interests in MSJP, L.P. and RJP Investments Assoc., L.P. Such individuals have no right to vote or to direct the disposition of these shares.
SHARES OF CLASS A SHARES OF CLASS B PERCENTAGE OF COMMON STOCK COMMON STOCK CLASS A AND ----------------------- -------------------------- CLASS B BENEFICIAL OWNER NUMBER PERCENTAGE NUMBER PERCENTAGE COMMON STOCK - ----------------------------------------------- -------- ------------ ----------- ------------ -------------- MS Pietrafesa, L.P. ........................... -- -- 3,775,667 100.0% 46.6% MSJP, L.P. .................................... -- -- 3,151,549 83.5% 38.9% MS Pietrafesa Acquisition Corporation ......... -- -- 3,775,667 100.0% 46.6% Phillip Ean Cohen ............................. -- -- 3,775,667 100.0% 46.6% 350 Park Avenue, 8th Floor New York, NY 10022 Richard C. Pietrafesa, Jr. .................... -- -- 504,683 13.4% 6.2% Thomas A. Minkstein ........................... -- -- 94,231 2.5% 1.2% David McDonough ............................... -- -- -- -- --
69
SHARES OF CLASS A SHARES OF CLASS B PERCENTAGE OF COMMON STOCK COMMON STOCK CLASS A AND ------------------------- ------------------------ CLASS B BENEFICIAL OWNER NUMBER PERCENTAGE NUMBER PERCENTAGE COMMON STOCK - ----------------------------------------- ---------- ------------ --------- ------------ --------------- RJP Investments Assoc., L.P. ............ -- -- 586,361 15.5% 7.2% 7400 Morgan Road Liverpool, NY 13090 Sterling B. Brinkley, Jr. ............... -- -- 245,077 6.5% 3.0% 350 Park Avenue, 8th Floor New York, NY 10022 Mark C. Pickup .......................... -- -- -- -- -- 6734 Corte Segunda Martinez, CA 94553 Robert J. Bennett ....................... -- -- -- -- -- M&T Bank Corp. 101 South Salina Street Syracuse, NY 13202 Paul M. McNicol ......................... -- -- 47,131 1.3% * 305 Oakley Court Mill Neck, NY 11765 Ross W. Stefano ......................... -- -- -- -- -- 30 The Orchard Fayetteville, NY 13066 Windsong, Inc. .......................... 333,333 7.7% -- -- 4.1% 1599 Post Road East Westport, CT 06880 All executive officers and directors as a group (eight persons) .................. -- -- 891,122 23.6% 11.0%
- ---------- * Represents less than 1.0%. 70 DESCRIPTION OF CAPITAL STOCK GENERAL The following summary describes the material provisions of our capital stock and is subject to, and qualified in its entirety by, our Certificate of Incorporation and By-laws that are included as exhibits to the Registration Statement of which this prospectus is a part and by the provisions of applicable law. We have filed our Certificate of Incorporation to (1) authorize 12,000,000 shares of Class A Common Stock, 10,000,000 shares of Class B Common Stock and 5,000,000 shares of Preferred Stock; and (2) set forth the rights and privileges of the Class A Common Stock, Class B Common Stock and Preferred Stock as described below. Upon completion of the offering, 4,333,333 shares of Class A Common Stock, 3,775,667 shares of Class B Common Stock and no shares of Preferred Stock will be issued and outstanding. The discussion herein describes our capital stock, Certificate of Incorporation and By-laws in effect upon effectiveness of the Registration Statement of which this prospectus is a part. CLASS A AND CLASS B COMMON STOCK The holders of shares of Class A Common Stock and Class B Common Stock have identical rights and privileges on a per share basis, except as set forth below. The holders of shares of Common Stock have no preemptive rights to maintain their respective percentage ownership interest in or other subscription rights for our other securities. Shares of Common Stock are not redeemable or subject to further calls or assessments. The shares of Common Stock to be outstanding after the offering, including the shares of Class A Common Stock to be issued hereby, when paid for and issued, will be fully paid and non-assessable. Holders of shares of Common Stock are entitled to share pro rata in dividends, if any, as may be declared by our Board of Directors out of funds legally available therefor; provided, however, that any dividend upon the Common Stock that is payable in Common Stock shall be paid only in Class A Common Stock to the holders of Class A Common Stock, but is payable in Class A or Class B Common Stock to the holders of Class B Common Stock. Upon our liquidation, dissolution and winding up, holders of shares of Common Stock are entitled to share ratably in the net assets available for distribution to such holders. The consent of the holder or holders of a majority of the Class B Common Stock is required to authorize the issuance of additional Class B Common Stock. LIMITED VOTING RIGHTS. The holders of Class A Common Stock have the right as a class to elect that minimum number of directors constituting 25% of the members of the Board, which presently represents two of the six directors. The minimum number of directors shall be rounded to the next highest whole number if such percentage is not equal to a whole number of directors. Directors elected by the holders of Class A Common Stock will first be elected at the annual meeting of stockholders to be held in 1999. Other than the right to elect directors and as otherwise required by Delaware law, the holders of Class A Common Stock will have very limited voting rights until all of the shares of Class B Common Stock are converted into shares of Class A Common Stock or otherwise cease to be issued and outstanding. At such time, the holders of Class A Common Stock will be entitled to vote on all matters submitted to a vote of the stockholders and will be entitled to one vote per share held. Generally, the vote of the majority of the shares represented at a meeting of the stockholders and entitled to vote is sufficient for actions that require a vote of the stockholders. Our Certificate of Incorporation does not provide for cumulative voting. Because sole voting power has been granted to the holders of Class B Common Stock, except as stated above and as otherwise required by Delaware law, substantially all corporate actions can be taken without any vote by the holders of the Class A Common Stock including, without limitation: o amending our Certificate of Incorporation or By-laws, including authorizing the issuance of additional shares of Class A Common Stock; o authorizing stock options, restricted stock and other compensation plans for employees, executives and directors; o authorizing a merger or disposition or change in control; o approving indemnification of our directors, officers and eligible employees; and 71 o approving conflict of interest transactions involving our affiliates which are approved by our disinterested directors. The holders of the outstanding shares of Class A Common Stock will be entitled, however, to vote as a class upon any proposed amendment to our Certificate of Incorporation which would increase or decrease the par value of the shares of Class A Common Stock, or alter or change the powers, preferences or special rights of the shares of the Class A Common Stock so as to affect them adversely. See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." All of the shares of the Class B Common Stock are owned by MS Pietrafesa, L.P. and can be voted by the General Partner, which is wholly-owned by Mr. Cohen. See "Principal Stockholders" and "Underwriting." CONVERSION RIGHTS. At the option of any holder of shares of Class B Common Stock, such holder may, at any time and from time to time, convert all or part of such holder's shares of Class B Common Stock into an equal number of shares of Class A Common Stock. The shares of Class B Common Stock are also subject to mandatory conversion into an equal number of shares of Class A Common Stock, in whole or in part, at any time and from time to time, at the option of the holder or holders of a majority of the outstanding shares of Class B Common Stock. If, and only if, all the outstanding shares of Class B Common Stock converted into Class A Common Stock or are otherwise no longer outstanding, the holders of the Class A Common Stock will have general voting power in the election of all members of the Board and in all other matters upon which our stockholders are entitled to vote. Holders of shares of Class A Common Stock have no right to convert Class A Common Stock into any of our other securities. PREFERRED STOCK Our Certificate of Incorporation authorizes 5,000,000 shares of Preferred Stock. Upon the affirmative vote or the written consent of the holders of a majority of the outstanding shares of Class B Common Stock, shares of Preferred Stock may be issued in one or more series. Each such series will have such distinctive designation as stated in resolutions adopted by the Board. Authority is expressly vested in the Board to fix the rights, preferences, privileges and restrictions thereof, including dividend rights, conversion rights, voting rights, terms of redemption, redemption prices, liquidation preferences and the number of shares constituting any series of the designation of such series, without further vote or action by the stockholders. The Preferred Stock may be granted voting powers provided, however that (1) so long as any Class B Common Stock is outstanding, the holders of the Class B Common Stock will always have the absolute right to elect a majority of the Board and (2) if voting powers are granted, the holders of shares of Preferred Stock will be entitled to vote together with the holders of the Class A Common Stock as a class on all matters on which holders of Class A Common Stock are entitled to vote. At present, we have no plans to issue any shares of the Preferred Stock. INDEMNIFICATION AND LIMITATION OF LIABILITY Our Certificate of Incorporation limits the liability of directors to the maximum extent permitted by Delaware law as currently or hereafter in effect. Delaware law provides that directors of a corporation will not be personally liable for monetary damages for breach of their fiduciary duty as a director, except for liability (1) for breach of their duty of loyalty to the corporation or its stockholders; (2) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; (3) for unlawful payments of dividends or unlawful stock repurchases or redemptions as provided in Section 174 of the General Corporation Law of the State of Delaware (the "DGCL"); or (4) for any transaction from which the director derives an improper personal benefit. Our Certificate of Incorporation provides for the mandatory indemnification of, and advancement of expenses to our directors and officers. 72 SECTION 203 OF THE DELAWARE GENERAL CORPORATION LAW We are subject to Section 203 of the DGCL, which prevents an "interested stockholder" from engaging in a "business combination" with a publicly-held Delaware corporation for three years following the date such person became an interested stockholder, unless (1) before such person became an interested stockholder, the board of directors of the corporation approved the transaction in which the interested stockholder became an interested stockholder or approved the business combination; (2) upon consummation of the transaction that resulted in the interested stockholder's becoming an interested stockholder, the interested stockholder owns at least 85% of the voting stock of the corporation outstanding at the time the transaction commenced; or (3) following the transaction in which such person became an interested stockholder, the business combination is approved by the board of directors of the corporation and authorized at a meeting of stockholders by the affirmative vote of the holders of 662/3% of the outstanding voting stock of the corporation not owned by the interested stockholder. The DGCL defines an "interested stockholder" as a person owning 15% or more of a corporation's outstanding voting stock. A "business combination" includes mergers, stock or asset sales and other transactions resulting in a financial benefit to the interested stockholder. The disproportionate voting rights between the Class A Common Stock and the Class B Common Stock and the provisions of Section 203 of the DGCL could have the effect of delaying, deferring or preventing a change in control. See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." TRANSFER AGENT The transfer agent and registrar for the Class A Common Stock is American Stock Transfer & Trust Company. 73 SHARES ELIGIBLE FOR FUTURE SALE Upon completion of the offering, we will have a total of 4,333,333 shares of Class A Common Stock, 4,933,333 if the Underwriters' over-allotment option is exercised in full, and 3,775,667 shares of Class B Common Stock outstanding. All shares of Class A Common Stock sold in the offering and, after the expiration of the 180 day lock-up period, described below, the 58,333 shares of Class A Common Stock being registered for resale, from time to time, by Windsong, Inc. will be freely tradable under the Securities Act unless they are purchased or held by "affiliates" of ours as defined in Rule 144. The balance of the shares of Class A Common Stock issued to Windsong, Inc. in connection with the Windsong acquisition will be "restricted securities" within the meaning of Rule 144 under the Securities Act and may, after the expiration of the 180 day lock-up period, be sold in compliance with Rule 144 under the Securities Act, subject to additional resale restrictions under the Windsong acquisition agreement. In addition, all shares of Class B Common Stock and the 3,775,667 shares of Class A Common Stock issuable upon conversion thereof, all of which are subject to the 180 day lock-up period, will be "restricted" securities within the meaning of Rule 144 under the Securities Act and may not be sold in the absence of registration under the Securities Act unless an exemption from registration is available, including the exemption provided by Rule 144. In general, under Rule 144 as currently in effect, beginning 90 days after the date of this prospectus, a person, or persons whose shares are aggregated, who has beneficially owned "restricted" shares for at least one year, including a person who may be deemed our affiliate, is entitled to sell within any three-month period a number of shares of Class A Common Stock that does not exceed the greater of 1% of the then-outstanding shares of our Class A Common Stock or the average weekly trading volume of the Class A Common Stock on the Nasdaq National Market during the four calendar weeks preceding such sale. Sales under Rule 144 are subject to restrictions relating to manner of sale, notice and the availability of current public information about us. A person who is not our affiliate and has not been such at any time during the 90 days preceding a sale, and who has beneficially owned "restricted" shares for at least two years, would be entitled to sell such shares immediately following the offering without regard to the volume limitations, manner of sale provisions or notice or other requirements of Rule 144 of the Securities Act. However, the transfer agent, American Stock Transfer & Trust Company, may require an opinion of counsel that a proposed sale of "restricted" shares comes within the terms of Rule 144 of the Securities Act prior to effecting a transfer of such shares. Such opinion would be provided by and at the cost of the transferor. Our officers and directors and certain other stockholders, including the principal officers of Diversified Apparel, Global Sourcing Network, Components and Windsong, have agreed, pursuant to the underwriting agreement and lock-up agreement, that they will not sell any shares of our capital stock owned by them, either publicly or privately, without the prior consent of Janney Montgomery Scott Inc., as representative of the underwriters, for a period of 180 days from the date of this prospectus. See "Underwriting." MS Pietrafesa, L.P. has offered its limited partners the right to withdraw from the partnership under its Partnership Agreement and receive a distribution of Class A Common Stock. Such right to withdraw may be exercised by a limited partner at any time between the consummation of the offering and 14 days before the expiration of the lock-up period. The withdrawal will be effective at the end of the month in which the lock-up period expires. The shares acquired through a limited partner's withdrawal will be subject to the resale limitations under Rule 144. Limited partners electing to withdraw from MS Pietrafesa, L.P. will generally be deemed to have held the shares of Class A Common Stock distributed to them from the date they acquired their partnership interest. Accordingly, original investors in MS Pietrafesa, L.P. will be entitled to sell such shares pursuant to Rule 144 immediately upon distribution of such shares from MS Pietrafesa, L.P., subject to volume, manner of sale and other limitations. Prior to the offering, there has been no public market for either class of our Common Stock and no predictions can be made of the effect, if any, that the sale or availability for sale of additional shares of our Common Stock or our other securities, or the development of a public trading market for the Class B Common Stock, will have on the market price of the Class A Common Stock. Nevertheless, sales of substantial amounts of shares of Class A Common Stock in the public market, the perception that such sales could occur, the 74 development of a public trading market for the Class B Common Stock or the issuance of other securities, could adversely affect the market price of the Class A Common Stock and could impair our future ability to raise capital through an offering of our equity securities. UNDERWRITING Subject to the terms of an underwriting agreement among Janney Montgomery Scott Inc., First Security Van Kasper, Morgan Schiff & Co., Inc., as representatives of the underwriters and The Pietrafesa Corporation, the underwriters have each severally agreed to purchase from us and we have agreed to sell to the underwriters the number of shares of Class A Common Stock set forth opposite their respective names below. The underwriters will not be purchasing any of the shares which may be offered, from time to time, by the selling stockholder. Pursuant to the terms of the underwriting agreement, the commitments of non-defaulting underwriters may be increased. UNDERWRITER NUMBER OF SHARES ----------- ---------------- Janney Montgomery Scott Inc. .......... First Security Van Kasper ............. Morgan Schiff & Co., Inc. ............. Total ................................ 4,000,000 ========= The underwriting agreement provides that obligations of the underwriters to pay for and accept delivery of the Class A Common Stock are subject to the approval of specific conditions. The underwriters are obligated to take and pay for all of the shares of the Class A Common Stock offered by this prospectus, other than shares of Class A Common Stock covered by the over-allotment option described below, if any shares are taken. The underwriters propose to offer the shares of Class A Common Stock to the public initially at the offering price per share shown on the cover page of this prospectus and to dealers at such price, less a concession not in excess of $___ per share. The underwriters may allow, and such dealers may reallow, a concession not in excess of $___ per share to other dealers. After this offering of the Class A Common Stock, the public offering price and the concessions may be changed by the Representatives. In addition to the discounts and commissions shown on the cover page of this prospectus, we will pay to Janney Montgomery Scott Inc. a financial advisory fee of $100,000 upon completion of the offering. In addition, we have agreed to pay to Klehr, Harrison, Harvey, Branzburg & Ellers LLP, underwriters' counsel, legal fees and expenses incurred in connection with the preparation of a preliminary Blue Sky memorandum and the qualification of the securities for sale in any state and in connection with securing any review or approvals by the National Association of Securities Dealers. We have granted to the underwriters an option for 30 days after the date of this prospectus to purchase up to 600,000 additional shares of Class A Common Stock, at the same price per share as the public offering price, less the underwriting discounts and commissions shown on the cover page of this prospectus. The underwriters may exercise the option only to cover over-allotments in the sale of the shares of Class A Common Stock offered by this prospectus. To the extent the underwriters exercise this option, each of the underwriters has a firm commitment, subject to certain conditions, to purchase a number of the additional shares of Class A Common Stock proportionate to such underwriter's initial commitment as indicated in the preceding table. In connection with this offering and in compliance with applicable securities laws, the underwriters may over-allot, or sell more shares of Class A Common Stock than is shown on the cover page of this prospectus, and may effect transactions on the Nasdaq National Market which stabilize, maintain or otherwise affect the market price of the Class A Common Stock at prices above those which might otherwise prevail in the open market. Such transactions may include placing bids for the Class A Common Stock or effecting purchases of the Class A Common Stock for the purpose of pegging, fixing or maintaining the price of the Class A Commons Stock or for the purpose of reducing a short position created in connection with the offering. A short position may be covered by exercise of the over-allotment option described above in place of or in addition to 75 open market purchases. The underwriters are not required to engage in any of these activities and if the underwriters commence any of these activities, they may discontinue them at any time. We and the underwriters make no representation or prediction as to the direction or magnitude of any effect that the transactions described above may have on the price of the Class A Common Stock. In addition, we and the underwriters make no representation that the underwriters will engage in such transactions or that such transactions, once commenced, will not be discontinued without notice. The underwriters do not intend to confirm sales of the Class A Common Stock to any accounts over which they exercise discretionary authority. Our directors and executive officers and the sole holder of Class B Common Stock have agreed that they will not, directly or indirectly, sell or otherwise dispose of any Class A Common Stock or Class B Common Stock for a period of 180 days after the completion of this offering, without Janney Montgomery Scott Inc.'s prior written consent. Together, this group directly and indirectly owns, prior to the offering, all of the outstanding shares of the Class B Common Stock. We have agreed to indemnify the underwriters and persons who control the underwriters against, or contribute to losses arising out of, some liabilities that may be incurred in connection with this offering, including liabilities under the Securities Act of 1933, as amended. Morgan Schiff, one of the underwriters, is owned by Philip Ean Cohen. Mr. Cohen has voting power over all of our outstanding Class B Common Stock and, accordingly, has the power to determine virtually all matters submitted to our stockholders and to appoint 75% of the members of our board of directors. See "Certain Relationships and Related Transactions" and "Description of Capital Stock." As a result of our affiliation with Morgan Schiff, the offering is being conducted in accordance with the provisions of Rule 2720 of the National Association of Securities Dealers, Inc. Conduct Rules. Rule 2720 requires that the initial public offering price of the shares be no higher than the price recommended by a "qualified independent underwriter" meeting specified standards. In accordance with this requirement, Janney Montgomery Scott Inc. is assuming the responsibilities of acting as a qualified independent underwriter in pricing the offering and conducting due diligence. The price of the shares will be no higher than the price recommended by Janney Montgomery Scott Inc. There is no established trading market for the shares. The offering price for the shares has been determined through negotiations between us and the Representatives, based on the following factors: o prevailing market conditions; o our past and present operations; o market capitalizations and stages of development of other companies which we and the Representatives believe to be comparable to us; o an assessment of our management; o the history of, and prospects for, our business and the industry in which it competes; and o our prospects for future earnings. LEGAL MATTERS The validity of the Class A Common Stock offered hereby will be passed upon by Roberts, Sheridan & Kotel, a Professional Corporation, which firm provides legal services from time to time for Morgan Schiff and its affiliates. The validity of the shares of Class A Common Stock will be passed upon for the underwriters by Klehr, Harrison, Harvey, Branzburg & Ellers LLP. EXPERTS The Consolidated Financial Statements and schedule of The Pietrafesa Corporation at December 31, 1997 and 1998, and for each of the three years in the period ended December 31, 1998, appearing in this prospectus 76 and the registration statement have been audited by Ernst & Young LLP, independent auditors, as set forth in their reports thereon appearing elsewhere herein, and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. The Financial Statements of Components at December 31, 1997 and 1998, and for each of the two years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Lawrence B. Goodman & Co., P.A., independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon such report given upon their authority of such firm as experts in accounting and auditing. The Financial Statements of Global Sourcing Network at December 31, 1997 and 1998, and for each of the two years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Pasquale & Bowers, LLP, independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon the reports of such firm, given upon their authority as experts in accounting and auditing. The Financial Statements of Windsong at December 31, 1997 and 1998, and for each of the three years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Weissbarth, Altman & Michaelson LLP, independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon the reports of such firm, given upon their authority as experts in accounting and auditing. ADDITIONAL INFORMATION We have filed with the Commission a Registration Statement on Form S-1, including all amendments, exhibits, annexes and schedules thereto, pursuant to the Securities Act, and the rules and regulations promulgated thereunder, with respect to the Class A Common Stock being offered in the offering. This Prospectus does not contain all the information set forth in the Registration Statement. For further information with respect to The Pietrafesa Corporation and the securities offered hereby, reference is made to the Registration Statement. Statements made in this prospectus as to the contents of any contract, agreement or other document referred to are not necessarily complete. With respect to each such contract, agreement or other document filed as an exhibit to the Registration Statement, reference is made to the exhibit for a more complete description of the document or matter involved, and each such statement shall be deemed qualified in its entirety by such reference. The Registration Statement, may be inspected, without charge, and copies may be obtained, at prescribed rates, at the public reference facilities of the Commission maintained at Judiciary Plaza, 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549. Copies of the Registration Statement may also be inspected, without charge, at the Commission's regional office at Seven World Trade Center, Suite 1300, New York, New York 10048 and Citicorp Center, 500 West Madison Street, Chicago, Illinois 60661. In addition, copies of the Registration Statement may be obtained by mail at prescribed rates, from the Commission's Public Reference Section at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Commission maintains a Web site at www.sec.gov that contains reports, proxy and information statements and other information regarding registrants that file electronically with the Commission. Upon completion of the offering, we will become subject to the informational requirements of the Exchange Act, and in accordance therewith will be required to file periodic reports and other information with the Commission. Such periodic reports, proxy statements and other information will be available for inspection and copying at the public reference facilities, regional offices and Web site referred to above. We intend to furnish our stockholders with annual reports containing consolidated financial statements audited by independent certified public accountants. 77 THE PIETRAFESA CORPORATION AND SUBSIDIARIES INDEX TO FINANCIAL STATEMENTS PAGE ---- THE PIETRAFESA CORPORATION Report of Independent Auditors ........................................... F-2 Consolidated Balance Sheets as of December 31, 1997 and 1998 ............. F-3 Consolidated Statements of Operations for the years ended December 31, 1996, 1997 and 1998 ..................................................... F-5 Consolidated Statements of Changes in Partners' Capital and Shareholder's Equity for the years ended December 31, 1996, 1997 and 1998 ................................................................ F-6 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1997 and 1998 ........................................ F-7 Notes to Consolidated Financial Statements ............................... F-8 Consolidated Balance Sheets as of December 31, 1998 and at March 31, 1999 (unaudited) .............................................. F-16 Consolidated Statements of Operations for the three months ended March 31, 1998 and 1999 (unaudited) ..................................... F-17 Consolidated Statements of Cash Flows for the three months ended March 31, 1998 and 1999 (unaudited) ..................................... F-18 Notes to Quarterly Consolidated Financial Statements ..................... F-19 GLOBAL SOURCING NETWORK, LTD. Independent Auditors' Report ............................................. F-21 Balance Sheets as of December 31, 1997 and 1998 .......................... F-22 Statements of Operations and Accumulated Deficit for the years ended December 31, 1997 and 1998 .............................................. F-23 Statements of Cash Flows for the years ended December 31, 1997 and 1998 .. F-24 Notes to Financial Statements ............................................ F-25 Balance Sheets as of December 31, 1998 and March 31, 1999 (unaudited) .... F-28 Statements of Operations and Accumulated Deficit for the three months ended March 31, 1998 and 1999 (unaudited) ............................... F-29 Statements of Cash Flows for the three months ended March 31, 1998 and 1999 (unaudited) ............................................... F-30 Notes to Quarterly Financial Statements .................................. F-31 COMPONENTS BY JOHN MCCOY, INC. Report of Independent Auditors ........................................... F-32 Balance Sheets as of December 31, 1997 and 1998 .......................... F-33 Statements of Income and Retained Earnings for the years ended December 31, 1997 and 1998 .............................................. F-34 Statements of Cash Flows for the years ended December 31, 1997 and 1998 .. F-35 Notes to Financial Statements ............................................ F-36 Balance Sheets as of December 31, 1998 and March 31, 1999 (unaudited) .... F-39 Statements of Income and Retained Earnings for the three months ended March 31, 1998 and 1999 (unaudited) ..................................... F-40 Statements of Cash Flows for the three months ended March 31, 1998 and 1999 (unaudited) .................................................... F-41 Notes to Quarterly Financial Statements .................................. F-42 WINDSONG, INC. Independent Auditors' Report ............................................. F-43 Balance Sheets as of December 31, 1997 and 1998 .......................... F-44 Statements of Income and Retained Earnings (Accumulated Deficit) for the years ended December 31, 1996, 1997 and 1998 ........................ F-46 Statements of Cash Flows for the years ended December 31, 1996, 1997 and 1998 ........................................................... F-47 Notes to Financial Statements ............................................ F-50 Balance Sheets as of December 31, 1998 and March 31, 1999 (unaudited) .... F-63 Statements of Income and Retained Earnings (Accumulated Deficit) for the three months ended March 31, 1998 and 1999 (unaudited) .............. F-64 Statements of Cash Flows for the three months ended March 31, 1998 and 1999 (unaudited) .................................................... F-65 Notes to Quarterly Financial Statements .................................. F-66 F-1 REPORT OF INDEPENDENT AUDITORS Board of Directors The Pietrafesa Corporation We have audited the accompanying consolidated balance sheets of The Pietrafesa Corporation (formerly MS Pietrafesa, L.P.) as of December 31, 1997 and 1998, and the related consolidated statements of operations, changes in partners' capital and shareholder's equity and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of The Pietrafesa Corporation at December 31, 1997 and 1998, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. /s/ Ernst & Young LLP Syracuse, New York February 12, 1999, except as to Note 12 as to which the date is July 15, 1999 F-2 THE PIETRAFESA CORPORATION CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, ------------------------- 1997 1998 ----------- ----------- (IN THOUSANDS) ASSETS Current assets Cash .............................................................. $ 3 $ 14 Accounts receivable, less allowance for doubtful accounts of $35 in 1997 and 1998 ................................................... 4,066 7,967 Inventories: Finished goods .................................................. 3,510 4,273 Work-in-process ................................................. 1,902 3,865 Raw materials ................................................... 3,319 4,979 -------- -------- 8,731 13,117 Prepaid expenses .................................................. 143 193 Deferred taxes .................................................... -- 938 -------- -------- Total current assets ............................................... 12,943 22,229 Property, plant, and equipment, at cost: Land .............................................................. 297 297 Buildings and improvements ........................................ 3,157 3,215 Machinery and equipment ........................................... 6,199 6,485 Furniture and fixtures ............................................ 699 708 Construction in progress .......................................... -- 290 -------- -------- 10,352 10,995 Accumulated depreciation .......................................... 3,806 4,409 -------- -------- 6,546 6,586 Other assets ....................................................... 184 560 -------- -------- $ 19,673 $ 29,375 ======== ========
F-3 THE PIETRAFESA CORPORATION CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, ------------------------- 1997 1998 ---------- ------------ (IN THOUSANDS, EXCEPT SHARE DATA) LIABILITIES, PARTNERS' CAPITAL AND SHAREHOLDER'S EQUITY Current liabilities: Accounts payable ................................................... $ 6,610 $ 7,893 Other current liabilities .......................................... 1,204 3,054 Tax distribution payable ........................................... -- 1,516 Current maturities of long-term debt ............................... 487 527 -------- -------- Total current liabilities ........................................... 8,301 12,990 Deferred tax liability .............................................. -- 1,441 Long-term debt, net of current maturities ........................... 8,663 12,561 Partners' capital and shareholder's equity: Partners' capital: General partner .................................................. 27 -- Limited partners ................................................. 2,682 -- -------- -------- Total partners' capital ......................................... 2,709 -- Shareholder's equity: Preferred stock, $.001 par value: ................................ Authorized shares -- 5,000,000 .................................. Issued shares -- none Common stock: Authorized shares -- 12,000,000 Class A, $.001 par value ........ -- 10,000,000 Class B, $.0002 par value ....... Issued shares -- 3,775,667 Class B .............................. -- -- -------- -------- Additional paid-in capital ....................................... -- 2,941 Retained earnings (accumulated deficit) .......................... -- (558) Total shareholder's equity ...................................... 2,383 -------- -------- $ 19,673 $ 29,375 ======== ========
See notes to consolidated financial statements. F-4 THE PIETRAFESA CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, ----------------------------------------- 1996 1997 1998 ----------- ----------- ------------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Net revenues ..................................................... $ 44,000 $ 37,582 $ 56,763 Cost of sales .................................................... 34,769 29,218 47,062 -------- -------- ---------- Gross profit ..................................................... 9,231 8,364 9,701 Operating expenses: Selling, general, and administrative expenses ................... 7,427 6,150 5,536 Impairment loss on fixed assets ................................. 170 -- -- Depreciation and amortization expense (excludes amounts in cost of sales) ............................................. 165 151 222 -------- -------- ---------- 7,762 6,301 5,758 -------- -------- ---------- Operating income ................................................. 1,469 2,063 3,943 Public offering costs ............................................ -- -- 823 -------- -------- ---------- Income (loss) before income taxes and extraordinary item ......... (493) 556 1,911 Provision for income taxes ....................................... -- -- 514 -------- -------- ---------- Income (loss) before extraordinary item .......................... (493) 556 1,397 Extraordinary item ............................................... 3,150 -- -- -------- -------- ---------- Net income ....................................................... $ 2,657 $ 556 $ 1,397 ======== ======== ========== Pro forma net income data (Note 2): Income before income taxes, as reported above ................... $ 1,911 Pro forma provision for income taxes ............................ 764 ---------- Pro forma net income ............................................ $ 1,147 ========== Pro forma basic and diluted earnings per share (Notes 2 and 12) ......................................................... $ 0.30 ========== Pro forma basic and diluted weighted average number of common shares outstanding ....................................... 3,775,667 ==========
See notes to consolidated financial statements. F-5 THE PIETRAFESA CORPORATION CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERS' CAPITAL AND SHAREHOLDER'S EQUITY FOR THE YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
ADDITIONAL GENERAL LIMITED COMMON PAID-IN RETAINED PARTNER PARTNERS STOCK CAPITAL EARNINGS TOTAL ----------- ---------- -------- ----------- ---------- ----------- (IN THOUSANDS) Balance at December 31, 1995 .......... $ (6) $ (698) $ -- $ -- $ -- $ (704) YEAR ENDED DECEMBER 31, 1996 Net income ............................ 26 2,631 -- -- -- 2,657 Capital contribution .................. 2 198 -- -- -- 200 ---- -------- ---- ------- ------- -------- Balance at December 31, 1996 .......... 22 2,131 -- -- -- 2,153 YEAR ENDED DECEMBER 31, 1997 Net income ............................ 5 551 -- -- -- 556 Balance at December 31, 1997 .......... 27 2,682 -- -- -- 2,709 YEAR ENDED DECEMBER 31, 1998 Net income (loss) ..................... 19 1,936 -- -- (558) 1,397 Distributions to partners for income taxes ................................ (17) (1,706) -- -- -- (1,723) Incorporation of the Company .......... (29) (2,912) -- 2,941 -- -- Issuance of 3,775,567 shares of Class B Common Stock for par value (Note 12) ............................ -- -- -- -- -- -- ---- -------- ---- ------- ------- -------- Balance at December 31, 1998 .......... $ -- $ -- $ -- $ 2,941 $ (558) $ 2,383
See notes to consolidated financial statements. F-6 THE PIETRAFESA CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, ---------------------------------------------- 1996 1997 1998 -------------- -------------- ------------ (IN THOUSANDS) OPERATING ACTIVITIES Net income .................................................. $ 2,657 $ 556 $ 1,397 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Extraordinary item ........................................ (3,150) -- -- Depreciation and amortization ............................. 946 802 788 Provision for doubtful accounts ........................... (179) -- 10 Impairment loss on fixed assets ........................... 170 -- -- Loss on fixed asset disposals ............................. 24 149 16 Deferred taxes ............................................ -- -- 503 Changes in operating assets and liabilities: Accounts receivable ...................................... (392) 1,549 (3,911) Inventories, prepaid expenses and other assets ........... 3,267 1,533 (4,847) Accounts payable and accrued expenses .................... (898) (1,533) 4,649 -------- -------- --------- Net cash provided by (used in) operating activities ......... 2,445 3,056 (1,395) INVESTING ACTIVITIES Purchases of property, plant, and equipment ................. (105) (59) (592) Proceeds from disposal of fixed assets ...................... 524 2,244 29 -------- -------- --------- Net cash provided by (used in) investing activities ......... 419 2,185 (563) FINANCING ACTIVITIES Borrowings under credit line ................................ 51,854 39,981 46,639 Repayments of credit line ................................... (52,419) (42,516) (43,348) Proceeds from long-term debt ................................ 2,530 -- 1,115 Principal payments on long-term debt ........................ (4,581) (2,666) (596) Payment of debt issuance costs .............................. (250) (41) (77) Principal payments under capital lease obligations .......... -- -- (41) Distributions payable to partners for income taxes .......... -- -- (1,723) -------- -------- --------- Net cash (used in) provided by financing activities ......... (2,866) (5,242) 1,969 -------- -------- --------- (Decrease) increase in cash ................................. (2) (1) 11 Cash at beginning of period ................................. 6 4 3 ======== ======== ========= Cash at end of period ....................................... $ 4 $ 3 $ 14 ======== ======== =========
See notes to consolidated financial statements. F-7 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 1. THE COMPANY AND BASIS OF PRESENTATION The Pietrafesa Corporation (the "Company") was formed on October 1, 1998 through the issuance of 3,775,667 shares of Class B common stock in exchange for the net assets of MS Pietrafesa, L.P. (the "Partnership"). The exchange was recorded at the Partnership's historical cost basis as both entities were under common control. The accompanying financial statements include the financial position and operations of the Partnership for 1996 and 1997 and the Company and the Partnership combined for 1998. The Company operates principally in one business segment, the sourcing of proprietary brands of men's and women's clothing for major domestic retailers. Sourced products are manufactured by the Company and third parties. Approximately 77% of the Company's work force is represented under collective bargaining agreements. The Company also has one retail outlet whose operations are not significant. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONSOLIDATION The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary. All significant intercompany transactions are eliminated. REVENUE RECOGNITION Revenue is recognized when products are shipped or services have been provided and is net of returns and allowances. CASH Cash consists of demand deposits at banks. INVENTORIES Inventories are stated at the lower of standard costs (which approximate cost determined on a first in, first out basis) or market. PROPERTY, PLANT, AND EQUIPMENT Depreciation is provided using the straight line method over the estimated useful lives of the respective assets (buildings and improvements -- 25 years; machinery and equipment -- 15 years; and furniture and fixtures -- 10 years). The Company recorded losses on disposals of machinery and equipment in the normal course of business of $24, $149 and $16 as of December 31, 1996, 1997 and 1998, respectively. These losses are recorded in the selling, general and administrative expenses caption of the income statement. LONG-LIVED ASSETS The Company accounts for long-lived assets pursuant to Statement of Financial Standards (SFAS) No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF, which requires impairment losses to be recorded on long-lived assets used in operations when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Management reviews long-lived assets and the related intangible assets for impairment whenever events or changes in circumstances indicate the assets may be F-8 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED) impaired. When such circumstances exist, the Company estimates expected future cash flows to determine whether an asset is impaired by grouping assets at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows of other groups of assets. The Company recorded an impairment loss of $170 as of December 31, 1996. The impairment loss of $170 relates to the reduction of the book value to net realizable value of equipment which was to be disposed of at the Sturgis, Kentucky facility. The net realizable value was determined based on estimated selling price minus the costs to sell. The property was sold in 1997. OTHER ASSETS Other assets include debt issuance costs which are amortized over the terms of the related debt using the interest method. INCOME TAXES AND TAX DISTRIBUTIONS Prior to October 1, 1998, the Company operated as a limited partnership and income or loss of the Partnership was included in the taxable income of the individual partners. The Company is required under the Partnership Agreement to distribute cash to the partners which approximates the tax on taxable income reported by the Partnership through September 30, 1998. The Company has accrued a liability of $1,516 related to distributions for taxable income for the nine month period ended September 30, 1998. As of October 1, 1998, effective with the net asset transfer discussed in Note 1, the Company is subject to federal and state corporate income taxes. The Company accounts for income taxes using the liability method in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." Under this method, deferred tax assets and liabilities are determined based on differences between the tax basis of assets and liabilities and are measured using currently enacted tax laws and rates. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires the use of estimates and assumptions. Those estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and such differences could be material. PRO FORMA NET INCOME AND EARNINGS PER SHARE Pro forma net income and earnings per share for 1998 reflect adjustments for federal and state income taxes as if the Company were subject to these taxes for the entire year. The weighted average number of shares issued and outstanding includes the 3,775,567 shares of Class B Common Stock issued subsequent to year for the nominal consideration of par value (see Note 12). RECLASSIFICATIONS Certain prior year amounts have been reclassified to conform with the 1998 presentation. 3. BORROWING ARRANGEMENTS Long-term debt consisted of the following: F-9 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA)
AS OF DECEMBER 31, --------------------- 1997 1998 --------- --------- Revolving credit agreements due June 30, 2001 ............................... $6,147 $ 9,439 Equipment notes with monthly principal and interest payments ranging from $7 to $13 through December of 2002 ............................................ 762 612 Capital equipment leases with monthly principal and interest payments ranging from $1 to $4 through July 2002 ............................................ 107 234 Term notes with monthly principal payments of $16 and $10 through June 2005. 2,134 2,803 ------ ------- 9,150 13,088 Less current maturities ..................................................... 487 527 ------ ------- $8,663 $12,561 ====== =======
Substantially all of the Company's debt bears interest at variable rates which range between prime plus .5% and prime plus 1% (8.25% and 8.75% at December 31, 1998). Under terms of a revolving credit agreement with a bank, the Company may borrow up to $12,500, limited by levels of accounts receivable and inventory. The unused credit line totaled approximately $2,311 at December 31, 1998. Interest on the line is based on prime plus .5% or LIBOR plus 2.75% (8.25% at December 31, 1998). The weighted average borrowing rate on the credit lines was 9.91% and 9.26% at December 31, 1997 and 1998, respectively. During the year ended December 31, 1996, 1997 and 1998, the highest outstanding balance on the credit line was $12,283, $10,787 and $11,782, respectively, and the average outstanding balance was $10,344, $8,338 and $8,701, respectively. The credit line is subject to renewal in 2001 and has been classified as long-term. On June 19, 1998, the Company refinanced certain mortgage, equipment and term loans with principal balances of $2,134 at December 31, 1997. The refinanced loans are payable over 5 and 7 years with interest ranging from prime plus 1% to prime plus .75%. The Company's borrowing arrangements include certain restrictive covenants which limit, among other things, additional indebtedness, capital expenditures and dividends, and require that the Company maintain specified levels of working capital, tangible net worth, debt-to-equity, debt service coverage and net income. Amounts outstanding under these arrangements, including the working capital facility, are secured by substantially all of the Company's assets. Aggregate principal payments on long-term debt for each of the next five years and thereafter are as follows as of December 31, 1998: 1999 ............... $ 527 2000 ............... 539 2001 ............... 9,987 2002 ............... 497 2003 ............... 660 Thereafter ......... 878 ------- $13,088 ======= F-10 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 3. BORROWING ARRANGEMENTS -- (CONTINUED) As further discussed in Note 9, certain subordinated indebtedness were forgiven in June 1996. Interest paid for the years ended December 31, 1996, 1997 and 1998 amounted to $1,630, $1,205 and $1,156, respectively. The Company acquired $109 and $169 in assets under capital lease obligations in 1997 and 1998, respectively. 4. SHAREHOLDER'S EQUITY The Company is authorized to issue two classes of common stock designated Class A and Class B. The Class B elects 75% of the Board of Directors, has voting rights on all corporate matters and is convertible, at any time, at the option of the holder, into an equal number of Class A shares. The shares of Class B common stock are also subject to mandatory conversion into an equal number of Class A common stock at the option of the majority of the holder or holders of Class B common stock. In connection with the incorporation of the Company, 3,775,667 Class B shares were issued to the Partnership. Except in limited instances, Class A shares will be non-voting except as to the election of 25% of the Board of Directors. No Class A shares have been issued. The Company is also authorized to issue up to, in one or more series, 5,000,000 shares of preferred stock upon the consent of the holders of a majority of the outstanding shares of Class B common stock. The Board is authorized to fix the rights, preferences, privileges and restrictions of each series, without further vote or action by the stockholders. The preferred stock may be granted voting powers provided that the Class B common stock will always have the right to elect a majority of the Board and the preferred stock will be entitled to vote with the Class A common stock as a class on any matters on which holders of Class A common stock are entitled to vote. 5. RETIREMENT PLANS The Company sponsors contributory defined contribution plans for employees not covered by multi-employer plans. Employer contributions to the plans range from no contribution to 50% of each participant's elective deferral for the plan year, subject to certain restrictions as defined in the Plan documents. Contributions for the years ended December 31, 1996, 1997 and 1998 were $97, $125 and $141, respectively. The Company also contributes to two multi-employer pension funds which cover certain union employees under a collective bargaining agreement. Contributions for the years ended December 31, 1996, 1997, and 1998 were approximately $323, $173 and $156, respectively. Provisions of the Multi-Employer Pension Plan Amendments Act of 1980 require participating employers to assume a proportionate share of a multi-employer plan's unfunded vested benefit in the event of withdrawal from or termination of the Plan. 6. RELATED PARTY TRANSACTIONS The Company leases a retail store facility from a related party under a ten-year lease ending June 30, 2000 requiring rental payments totaling $146 per year. A portion of this facility is subleased and provides minimum rental income of $30 per year. Beginning in 1998, the Company sources certain customer orders through SourceOne, L.L.C, an affiliate of the General Partner of the Partnership. SourceOne has no significant assets or liabilities and neither the Company nor its employees receive any compensation from SourceOne. The Company purchased approximately $10,614 of services from SourceOne during 1998 and has a net payable to SourceOne of $591 at December 31, 1998. F-11 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 6. RELATED PARTY TRANSACTIONS -- (CONTINUED) The Company has an agreement with an affiliate of the Partnership whereby the affiliate would provide financial advisory and strategic consulting services. The agreement contains a monthly retainer fee of $25 per month. This agreement may be terminated annually by either party upon 30 days' notice. The affiliate provided certain investment banking and financial analyst services to the Company during 1998. Total expenses for these services were $192. Since no other services were provided to the Company during 1996, 1997 and 1998, the affiliate agreed to amend the agreement to eliminate the monthly retainer payment in 1996, 1997 and 1998. Accordingly, no expense has been recognized in the financial statements related to the monthly retainer payments. The Company reimburses on a per-flight basis certain operating expenses of an aircraft owned by a corporation owned by the Company's President and Chief Executive Officer. Payments amounted to $225, $223 and $454 for the years ended December 31, 1996, 1997 and 1998, respectively. 7. REVENUE AND SUPPLIER CONCENTRATIONS The Company grants credit without collateral to customers and performs periodic credit evaluations of their financial condition. The Company's products are primarily sold to specialty retail stores. The Company makes substantial sales to a relatively few, large customers. The following table presents the percentage of net sales concentrated with certain customers: FOR THE YEAR ENDED DECEMBER 31, ------------------------------ 1996 1997 1998 -------- -------- -------- Customer A ......... 27% 22% 26% Customer B ......... 24 24 16 Customer C ......... 15 22 9 Customer D ......... -- -- 25 -- -- -- 66% 68% 76% == == == In April 1998, the Company entered into a five-year sourcing agreement with a domestic clothing retailer and became the retailer's primary source for tailored clothing. The Company's affiliate, SourceOne, manages the retailer's manufacturing operations. The Company will receive an annual management fee for the first three years of the agreement and purchased certain inventory owned by the retailer at market value ($2,140), payable in installments. The agreement requires the retailer to purchase a minimum number of units during the 5-year term of the agreement. The Company purchases a significant volume of fabric from two suppliers. In 1996, 1997 and 1998, 51%, 54% and 62% of total purchases were purchased from these two suppliers, respectively. 8. INCOME TAXES On October 1, 1998, the Company recorded deferred income taxes due to its incorporation. The recording of the deferred tax liability at October 1, 1998 resulted in additional tax expense of $516 in 1998. F-12 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 8. INCOME TAXES -- (CONTINUED) The provision for income taxes is as follows: FOR THE YEAR ENDED DECEMBER 31, ----------------------- 1996 1997 1998 ------ ------ ----- Current Federal .............................................. $-- $-- $ 8 State ................................................ -- -- 3 --- --- --- Total current ......................................... -- -- 11 === === === FOR THE YEAR ENDED DECEMBER 31, ------------------------- 1996 1997 1998 ------ ------ ------- Balance brought forward ............................. $ -- $ -- $ 11 Deferred: Federal ............................................ -- -- 428 State .............................................. -- -- 75 ---- ---- ---- Total deferred ...................................... -- -- 503 ---- ---- ---- Total tax expense ................................... $ -- $ -- $514 ==== ==== ==== The difference between the United States federal statutory income tax rate and the Company's effective tax rate were as follows:
FOR THE YEAR ENDED DECEMBER 31, ------------------------------------------ 1996 1997 1998 ------------ ------------ ------------ U.S. federal statutory rate ...................................... 34.0% 34.0% 34.0% Income attributed to period the Company was a partnership that is not subject to federal or state corporate income tax (34.0%) (34.0%) (34.0%) Deferred taxes related to the change to a taxable entity ......... 27.0% ----- ----- ----- Effective tax rate ............................................... 0.0% 0.0% 27.0% ===== ===== =====
Deferred tax assets and liabilities are comprised of the following: AS OF DECEMBER 31, -------------------------- 1996 1997 1998 ------ ------ -------- Deferred tax assets: ...................... Bad debt and chargeback reserves ......... $-- $-- $ 131 Inventory related reserves ............... -- -- 292 Employee benefits ........................ -- -- 236 Other .................................... -- -- 279 --- --- ------ Total deferred tax assets ................. -- -- 938 Deferred tax liability: Depreciation ............................. -- -- 1,441 --- --- ------ Net deferred tax liability ............... $-- $-- $ 503 === === ====== F-13 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) 9. FORGIVENESS OF DEBT In June 1996, the Company completed a transaction under which subordinated notes with an outstanding principal and interest balance of $3,350 were forgiven in exchange for a greater partnership interest in MSJP, L.P., a limited partner of the Partnership. The value of the partnership interest exchanged, $200, has been treated as a capital contribution, with the remainder recorded as an extraordinary item in the statement of operations. 10. FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying amounts of the Company's short-term borrowings and variable rate long-term debt approximate their fair value. The difference between carrying value and fair value on fixed rate long-term debt is not material. 11. PUBLIC OFFERING COSTS In 1998 the Company incurred costs related to a public offering that was delayed due to adverse market conditions. Costs amounting to $823 related to this offering have been charged off due to the extended delay of the offering. 12. ACQUISITIONS, PUBLIC OFFERING AND STOCK OPTION PLAN On April 15, 1999, the Company acquired the assets and assumed certain liabilities of Diversified Apparel Group, Ltd. for $3,500 in a transaction to be accounted for as a purchase. Diversified Apparel merchandises and sources apparel, including lower to mid-priced suits and dress shirts, to value-priced apparel retailers. On April 15, 1999, the Company acquired all of the common stock of Global Sourcing Network, Ltd. for $3,700 in a transaction to be accounted for as purchase. Global Sourcing Network designs and imports men's suits. Concurrent with the public offering, the Company will also acquire the assets and assume certain liabilities of Components by John McCoy, Inc. for $11,100 in a transaction to be accounted for as a purchase. Components merchandises and sources tailored clothing, as well as sportswear, dress shirts, neckwear, topcoats and casual slacks in Italy. The Company has entered an agreement to acquire the assets and assume certain liabilities of Windsong, Inc. for $43,300 in a transaction to be accounted for as a purchase. Windsong is a supplier of designer and private label sportswear to department store, specialty store and mass merchandising chains. The total purchase price of the acquired businesses is based upon an estimate of the liabilities to be assumed of $1,955, $1,121, $6,021 and $16,862 for Diversified Apparel, Global Sourcing Network, Components and Windsong, respectively. The Company does not believe the actual amount of liabilities assumed will be materially different from the estimated amount. The portion of the consideration assigned to goodwill in each transaction will represent the excess of the cost over the estimated fair value of the net assets acquired. The Company will amortize goodwill using the straight line method over a period ranging from 10 to 20 years. In each of the purchase agreements, there are specific contingent payments based upon achieving specified earning levels. These payments will be recognized as an adjustment to the purchase price when made. In connection with the offering, on July 15, 1999 the Company issued 3,775,567 additional shares of Class B common stock for the nominal consideration of the stock's par value. Shareholder's equity, earnings per share and other share information has been restated to reflect the additional shares of Class B Common Stock. Immediately prior to the closing of the offering, the Company may adjust F-14 THE PIETRAFESA CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT SHARE DATA) through redemption or additional issuance of shares, the number of shares of Class B common stock outstanding to represent the percentage of the Company that will be owned by the Company's sole shareholder after the offering. 12. ACQUISITIONS, PUBLIC OFFERING AND STOCK OPTION PLAN - (CONTINUED) On July 15, 1999, the Company amended its Certificate of Incorporation to increase the number of authorized shares of Class A Common Stock from 5,000,000 to 12,000,000 shares and to change the par value of the Class B Common Stock to $.0002, each of which has been reflected on the December 31, 1998 balance sheet. The Company intends to establish a Stock Option Plan for key employees and directors prior to the closing of the offering. Under the Stock Option Plan, awards of options to purchase shares of Class A Common Stock may be made to the Company's key employees and directors, including employees who are also the Company's officers or directors. The Company may award options to purchase a number of shares equal to 10% of our outstanding capital stock immediately following the offering. Options awarded under the Stock Option Plan may be either "incentive stock options," as that term is defined in Section 422 of the Internal Revenue Code of 1986, as amended, or nonqualified stock options. The Stock Option Plan will be administered by the Company's Compensation Committee. The Compensation Committee will have the authority to establish the terms and conditions of the options in any manner not inconsistent with the terms of the Stock Option Plan, adopt any rules it considers appropriate for the administration of the Stock Option Plan, make interpretations of the Stock Option Plan that it deems consistent with its provisions, and take any other action it considers appropriate in connection with the Stock Option Plan. Each option granted under the Stock Option Plan will be evidenced by an agreement between the Company and the employee and/or director to whom the option is granted. Prior to the adoption of the Stock Option Plan, the Company has made no provision for the grant of options to purchase equity interests in the Company. At the time of the offering, no options will have been granted by the Company to their executive officers, employees or directors under the Stock Option Plan. F-15 THE PIETRAFESA CORPORATION CONSOLIDATED BALANCE SHEET
AS OF AS OF MARCH 31, DECEMBER 31, 1999 1998 ------------ ------------- (UNAUDITED) (IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA) ASSETS Current assets Cash .............................................................. $ 13 $ 14 Accounts receivable, net .......................................... 8,488 7,967 Inventories: Finished goods .................................................. 4,862 4,273 Work-in-process ................................................. 3,224 3,865 Raw materials ................................................... 4,596 4,979 ------- -------- 12,682 13,117 Prepaid expenses .................................................. 375 193 Deferred Taxes .................................................... 938 938 ------- -------- Total current assets ............................................... 22,496 22,229 Property, plant, and equipment, at cost: Land .............................................................. 297 297 Buildings and improvements ........................................ 3,216 3,215 Machinery and equipment ........................................... 6,883 6,485 Furniture and fixtures ............................................ 709 708 Construction in progress .......................................... -- 290 ------- -------- 11,105 10,995 Accumulated depreciation .......................................... 4,582 4,409 ------- -------- 6,523 6,586 Other assets ....................................................... 925 560 ------- -------- $29,944 $ 29,375 ======= ======== LIABILITIES AND SHAREHOLDER'S EQUITY Current liabilities: Accounts payable .................................................. $ 7,166 $ 7,893 Other current liabilities ......................................... 2,767 3,054 Tax distribution payable .......................................... 1,516 1,516 Current maturities of long-term debt .............................. 527 527 ------- -------- Total current liabilities .......................................... 11,976 12,990 Deferred tax liability ............................................. 1,441 1,441 Long-term debt, net of current maturities .......................... 13,054 12,561 Shareholder's equity: Preferred stock, $.001 par value: Authorized shares -- 5,000,000 .................................. Issued shares -- none ........................................... Common stock ...................................................... Authorized shares -- 12,000,000 Class A, $.001 par value......... -- 10,000,000 Class B, $.0002 par value........ Issued shares -- 3,775,667 Class B .............................. Additional paid-in capital ........................................ 3,191 2,941 Retained earnings (accumulated deficit) ........................... 282 (558) ------- -------- Total shareholder's equity ..................................... 3,473 2,383 ------- -------- $29,944 $ 29,375 ======= ========
See notes to consolidated financial statements. F-16 THE PIETRAFESA CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, ---------------------------- 1999 1998 ------------ ------------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Net revenues ....................................................... $ 17,803 $ 9,503 ---------- ---------- Cost of sales ...................................................... 14,833 7,028 ---------- ---------- Gross profit ....................................................... 2,970 2,475 ---------- ---------- Operating expenses: Selling, general, and administrative expenses ..................... 1,201 1,305 Depreciation and amortization expense ............................. 68 64 ---------- ---------- 1,269 1,369 ---------- ---------- Operating income ................................................... 1,701 1,106 ---------- ---------- Interest expense ................................................... 296 253 ---------- ---------- Income before taxes ................................................ 1,405 853 ---------- ---------- Provision for income taxes ......................................... 565 -- ========== ========== Net income ......................................................... $ 840 $ 853 ========== ========== Basic and diluted earnings per share ............................... $ 0.22 ========== Weighted average number of common shares outstanding ............... 3,775,667 ========== Pro forma net income data: Income before income taxes, as reported above ..................... $ 853 ---------- Pro forma provision for income taxes .............................. 341 ---------- Pro forma net income ............................................... $ 512 ========== Pro forma basic and diluted earnings per share ..................... $ 0.14 ========== Pro forma basic and diluted weighted average number of common shares outstanding ....................................................... 3,775,667 ==========
See notes to consolidated financial statements. F-17 THE PIETRAFESA CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE THREE MONTHS ENDED MARCH 31, ---------------------------- 1999 1998 -------------- ----------- (IN THOUSANDS) OPERATING ACTIVITIES Net income ....................................................... $ 840 $ 853 Adjustments to reconcile net income to net cash (used in) provided by operating activities: Depreciation and amortization .................................. 185 202 Loss on sale of fixed assets ................................... -- 12 Changes in operating assets and liabilities: Accounts receivable ........................................... (521) (269) Inventories, prepaid expenses and other assets ................ (103) (2,018) Accounts payable and accrued expenses ......................... (1,014) 1,248 -------- --------- Net cash (used in) provided by operating activities ............ (613) 28 INVESTING ACTIVITIES Purchases of property, plant, and equipment ...................... (109) (90) -------- --------- Net cash used in investing activities ............................ (109) (90) FINANCING ACTIVITIES Borrowings under credit line ..................................... 19,302 10,496 Repayments of credit line ........................................ (18,679) (10,329) Principal payments on long-term debt ............................. (117) (105) Payment of debt issuance costs ................................... (20) -- Principal payments under capital lease obligations ............... (15) -- Capital contribution ............................................. 250 -- -------- --------- Net cash provided by financing activities ........................ 721 62 -------- --------- (Decrease) increase in cash ...................................... (1) -- Cash at beginning of period ...................................... 14 3 -------- --------- Cash at end of period ............................................ $ 13 $ 3 ======== =========
See notes to consolidated financial statements. F-18 THE PIETRAFESA CORPORATION NOTES TO QUARTERLY CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) MARCH 31, 1999 1. ORGANIZATION AND BASIS OF PRESENTATION The accompanying financial statements include the accounts of the Company and its consolidated subsidiary. All significant intercompany transactions and balances have been eliminated. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results of operations for the periods presented have been included. The consolidated financial data at December 31, 1998 is derived from audited financial statements at that date but does not include all of the information and footnotes required by GAAP for complete financial statements and should be read in conjunction with the audited financial statements and notes thereto. Interim results are not necessarily indicative of results to be expected for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statement and accompanying notes. Actual results could differ from those estimates. Pro forma net income and earnings per share reflect adjustments for federal and state income taxes as if the Company were subject to these taxes for the entire period. 3. SUBSEQUENT EVENTS On April 15, 1999, the Company acquired the assets and assumed certain liabilities of Diversified Apparel Group, Ltd. for $3.5 million in a transaction to be accounted for as a purchase. Diversified Apparel merchandises and sources apparel, including lower to mid-priced suits and dress shirts, to value-priced apparel retailers. On April 15, 1999, the Company acquired all of the common stock of Global Sourcing Network, Ltd. for $3.7 million in a transaction to be accounted for as purchase. Global Sourcing Network designs and imports men's suits. Concurrent with the public offering, the Company will also acquire the assets and assume certain liabilities of Components by John McCoy, Inc. for $11.1 million in a transaction to be accounted for as a purchase. Components merchandises and sources tailored clothing, as well as sportswear, dress shirts, neckwear, topcoats and casual slacks in Italy. On May 12, 1999, the Company entered into an agreement to purchase the assets and assume certain liabilities of Windsong, Inc. for $43.3 million in a transaction to be accounted for as a purchase. Windsong is a supplier of designer and private label sportswear to department store, specialty store and mass merchandising chains. The portion of the consideration assigned to goodwill in each transaction will represent the excess of the cost over the estimated fair value of the net assets acquired. The Company will amortize goodwill using the straight line method over a period ranging from 10 to 20 years. In each of the purchase agreements, there are specific contingent payments based upon achieving specified earning levels. These payments will be recognized as an adjustment to the purchase price when made. On April 15, 1999, we entered into a senior secured credit facility with PNC Bank, National Association. This facility replaced the Company's current $12.5 million revolving credit facility. The PNC Bank credit facility consists of (1) an $18.0 million revolving credit line, $1.0 million of which can be utilized for the issuance of letters of credit, and (2) a $7.0 million term note. The amount available for F-19 THE PIETRAFESA CORPORATION NOTES TO QUARTERLY CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) -- (CONTINUED) MARCH 31, 1999 3. SUBSEQUENT EVENTS -- (CONTINUED) borrowing under the revolving credit line at any given time is determined pursuant to a formula based upon the levels of qualifying accounts receivable and eligible inventory and the credit balance owed to us under our factoring agreement, subject to the $18.0 million maximum. The term note is payable in 33 monthly payments of $116,667 commencing on May 1, 1999, with a final payment of all unpaid principal on April 15, 2002. The new credit facility was used to repay amounts due under the Company's former credit facility which had a balance of $12.8 million at March 31, 1999. Amounts outstanding under the credit facility are secured by a senior lien on substantially all of our assets. We have also pledged all of the stock of our subsidiaries as collateral. Borrowings under the PNC Bank credit facility bear interest, at our option, based upon either domestic interest rates or Euro interest rates. Under the revolving credit line, the domestic interest rate is 0.5% per annum above the higher of (a) PNC Bank's base commercial lending rate and (b) 0.5% per annum above the Fed Funds rate. Under the revolving credit line, the Euro interest rate is a multiple of 2.75% above LIBOR, where the multiple is equal to 1.00 minus the Federal Reserve's reserve requirement percentage. Under the term note, the domestic interest rate is 1.00% higher than the domestic interest rate calculated under the revolving credit line, and the Euro interest rate is 0.75% higher than the Euro interest rate calculated under the revolving credit line. Upon consummation of the offering, all of the foregoing domestic and Euro interest rates shall decrease by 0.25%, provided that we receive net proceeds of at least $20 million from the offering. The PNC Bank credit facility includes significant financial and operating covenants, including requirements that we maintain a minimum fixed charge coverage ratio, prohibitions on our ability to incur additional indebtedness or to pay dividends and restrictions on our ability to make capital expenditures and acquisitions. We are currently in compliance with all covenants under the PNC Bank credit facility. The PNC Bank credit facility contains customary events of default, including a cross-default to our obligations under the Diversified Apparel and Global Sourcing Network acquisition agreements. F-20 INDEPENDENT AUDITORS' REPORT BOARD OF DIRECTORS AND SHAREHOLDER GLOBAL SOURCING NETWORK, LTD. We have audited the accompanying balance sheets of GLOBAL SOURCING NETWORK, LTD. as of December 31, 1998 and 1997, and the related statements of operations and accumulated deficit, and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of GLOBAL SOURCING NETWORK, LTD. as of December 31, 1998 and 1997, and the results of its operations and its cash flows for the years then ended, in conformity with generally accepted accounting principles. /s/ Pasquale & Bowers LLP ----------------------------------- Syracuse, New York February 2, 1999 F-21 GLOBAL SOURCING NETWORK, LTD. BALANCE SHEETS DECEMBER 31, 1998 AND 1997
1998 1997 ------------- ------------ ASSETS CURRENT ASSETS Cash and cash equivalents ............................ $ 153,598 $ 84,348 Accounts receivable .................................. 19,148 338,304 Note receivable, net of allowance of $90,000 ......... 0 0 Due from related party (Note 7) ...................... 0 55,000 Inventories .......................................... 907,500 0 Deferred taxes (Note 5) .............................. 57,600 0 ---------- --------- TOTAL CURRENT ASSETS .............................. 1,137,846 477,652 ---------- --------- PROPERTY AND EQUIPMENT-NET (Note 3) .................. 10,204 10,161 ---------- --------- OTHER ASSETS Due from shareholder (Note 7) ....................... 0 116,397 Deferred taxes (Note 5) ............................. 0 10,700 Other ............................................... 0 5,142 ---------- --------- 0 132,239 ---------- --------- $1,148,050 $ 620,052 ========== ========= LIABILITIES AND SHAREHOLDER'S DEFICIT CURRENT LIABILITIES Accounts payable .................................... $1,026,265 $ 275,828 Royalty fees payable (Note 4) ....................... 229,085 397,215 ---------- --------- TOTAL CURRENT LIABILITIES ......................... 1,255,350 673,043 ---------- --------- SHAREHOLDER'S DEFICIT Common stock No par value Authorized -- 200 Shares Issued and outstanding - 50 Shares ................ 1,000 1,000 Accumulated deficit ................................. (108,300) (53,991) ---------- --------- (107,300) (52,991) ---------- --------- $1,148,050 $ 620,052 ========== =========
See accompanying notes to the financial statements. F-22 GLOBAL SOURCING NETWORK, LTD. STATEMENTS OF OPERATIONS AND ACCUMULATED DEFICIT YEARS ENDED DECEMBER 31, 1998 AND 1997 1998 1997 -------------- -------------- SALES ........................................ $18,062,322 $19,043,296 COST OF SALES ................................ 16,767,880 17,781,789 ----------- ----------- GROSS PROFIT ................................. 1,294,442 1,261,507 GENERAL AND ADMINISTRATIVE EXPENSES .......... 298,798 295,385 ROYALTIES AND COMMISSIONS .................... 1,095,873 985,975 ----------- ----------- LOSS FROM OPERATIONS ......................... (100,229) (19,853) PROVISION FOR INCOME TAXES (Note 5) .......... (45,920) (8,019) ----------- ----------- NET LOSS ..................................... (54,309) (11,834) ACCUMULATED DEFICIT -- BEGINNING OF YEAR ..... (53,991) (42,157) ----------- ----------- ACCUMULATED DEFICIT -- END OF YEAR ........... $ (108,300) $ (53,991) =========== =========== See accompanying notes to the financial statements. F-23 GLOBAL SOURCING NETWORK, LTD. STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1998 AND 1997 INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
1998 1997 ------------- ------------- CASH FLOWS FROM OPERATING ACTIVITIES Net loss ......................................................... $ (54,309) $ (11,834) ---------- ---------- Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation ................................................... 4,421 3,574 Bad debts ...................................................... 149,017 102,000 Deferred tax benefit ........................................... (46,900) (10,700) Offset of amounts due from shareholder ......................... 116,397 0 Changes in assets and liabilities affecting cash flows from operating activities: Accounts receivable ......................................... 260,139 (225,022) Inventories ................................................. (907,500) 0 Other assets ................................................ 5,142 2,134 Accounts payable ............................................ 750,437 267,909 Royalty fees payable ........................................ (168,130) 5,772 Accrued expenses ............................................ 0 (7,474) ---------- ---------- Total adjustments ........................................... 163,023 138,193 ---------- ---------- Net cash provided by operating activities ................... 108,714 126,359 ---------- ---------- CASH FLOWS FROM INVESTING ACTIVITIES Purchases of property and equipment .............................. (4,464) (6,004) Advances on note receivable ...................................... (90,000) 0 Repayments on notes receivable ................................... 0 144,000 ---------- ---------- Net cash provided by (used in) investing activities ......... (94,464) 137,996 ---------- ---------- CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from related party ...................................... 55,000 0 Payments to related party ........................................ 0 (313,200) ---------- ---------- Net cash provided by (used in) financing activities ......... 55,000 (313,200) ---------- ---------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ................................................ 69,250 (48,845) CASH AND CASH EQUIVALENTS -- BEGINNING OF YEAR .................................................... 84,348 133,193 ---------- ---------- CASH AND CASH EQUIVALENTS -- END OF YEAR..................... $ 153,598 $ 84,348 ========== ========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Income taxes: ................................................... $ 680 $ 2,957 ========== ==========
See accompanying notes to the financial statements. F-24 GLOBAL SOURCING NETWORK, LTD. NOTES TO FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1998 AND 1997 1. ORGANIZATION Global Sourcing Network, Ltd. (the "Company") imports men's apparel for distribution to retail apparel companies located principally throughout the United States. Substantially all of the Company's sales in 1997 and 1998 are to one customer. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Revenue Recognition Revenue is recognized when products are received by the customer. The Company estimates accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is recorded. Inventories Inventories are valued at the lower of cost, determined on the specific identification method, or market. Property and Equipment Property and equipment is recorded at cost. Depreciation is provided using accelerated methods over the estimated useful lives of the related assets. Income Taxes Income taxes have been provided using the liability method in accordance with SFAS No. 109, "Accounting for Income Taxes". Deferred tax assets are the result primarily of net operating loss carryforwards the Company has available to offset future taxable income and reserves for bad debts. Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash Equivalents The Company considers all highly liquid debt instruments with an original maturity of three months or less to be cash equivalents. Business Concentrations The Company's financial instruments that are exposed to concentrations of credit risk consist primarily of cash and trade accounts receivable. At times, balances may be in excess of the FDIC insurance limit. Substantially all of the Company's sales are to one customer. Essentially all accounts receivable at December 31, 1998 and 1997 are from this customer. 3. PROPERTY AND EQUIPMENT Property and equipment, net of accumulated depreciation as of December 31, 1998 and 1997, consists of the following: 1998 1997 ----------- ------------ Office equipment ........................ $ 19,347 $ 16,641 Furniture and fixtures .................. 7,496 5,738 --------- --------- 26,843 22,379 Less: Accumulated depreciation .......... (16,639) (12,218) --------- --------- $ 10,204 $ 10,161 ========= ========= F-25 GLOBAL SOURCING NETWORK, LTD. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) YEARS ENDED DECEMBER 31, 1998 AND 1997 4. ROYALTY FEES PAYABLE The Company has a license agreement with Emerald Rise Trading, Ltd. (ERT), for technical knowledge and expertise in association with the sourcing, production and delivery of apparel. The Company pays royalties equal to 3% of gross sales. Royalty fees, included in general and administrative expenses, for the years ended December 31, 1998 and 1997, were approximately $542,000 and $571,000, respectively. 5. PROVISION FOR INCOME TAXES Income taxes for the years ended December 31, 1998 and 1997 are summarized as follows: 1998 1997 ------------ ----------- Current: State and city ............... $ 980 $ 2,681 --------- --------- Deferred: Federal ...................... (39,900) (7,400) State ........................ (7,000) (3,300) --------- --------- (46,900) (10,700) --------- --------- $ (45,920) $ (8,019) ========= ========= The Company has unused net operating loss carryforwards available to offset against future taxable income of approximately $54,000 at December 31, 1998, which expire from 2010 through 2018. The components of the deferred tax asset as of December 31, 1998 and 1997 are as follows: 1998 1997 ----------- ---------- Current deferred tax asset: Net operating losses ............ $ 21,600 $ 0 Allowance for bad debts ......... 36,000 0 -------- ------- $ 57,600 $ 0 ======== ======= Noncurrent deferred tax asset: Net operating losses ............ $ 0 $10,700 ======== ======= The reconciliation of the effective income tax rate is as follows:
1998 1997 ---------- ---------- Federal income tax rate ................................. (34)% (34)% State taxes, net of federal income tax benefit .......... (6) (6) Adjustment to deferred tax rate ......................... (6) (0) ---- ---- (46)% (40)% ==== ====
6. COMMITMENTS The Company leases office space under an agreement accounted for as an operating lease expiring July 31, 1999. The Company sublet a portion of its office to a related entity. Rent expense for the years ended December 31, 1998 and 1997, net of sublease income was approximately $22,000 and $38,000, respectively. F-26 GLOBAL SOURCING NETWORK, LTD. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) YEARS ENDED DECEMBER 31, 1998 AND 1997 7. RELATED PARTIES Due from Related Party The Company provides management services and subleases office space to Global Sourcing International (GSI), which is related through family attribution. Management fees, sublease income and amounts due from GSI are summarized as follows: 1998 1997 ---------- ---------- Management fees ................. $ 36,000 $24,000 Sublease income ................. $ 26,700 $ 4,700 Due from related party .......... $ 0 $55,000 Due from Shareholder The Company periodically makes advances to its president and sole shareholder. Approximately $116,000 in advances outstanding at December 31, 1997 has been written off as commission expense in 1998. No interest has been imputed on outstanding advances. 8. FINANCIAL STATEMENT PRESENTATION Certain amounts in the 1997 financial statements have been reclassified to conform to the 1998 presentation. F-27 GLOBAL SOURCING NETWORK, LTD. BALANCE SHEETS MARCH 31, 1999 AND DECEMBER 31, 1998
MARCH 31, DECEMBER 31, 1999 1998 ------------ ------------- (UNAUDITED) ASSETS CURRENT ASSETS Cash and cash equivalents ............................ $ 200 $ 153,598 Accounts receivable .................................. 588,962 19,148 Note receivable, net of allowance of $90,000 ......... 0 0 Inventories .......................................... 433,918 907,500 Prepaid expenses ..................................... 81,385 0 Deferred taxes ....................................... 57,600 57,600 ---------- ---------- TOTAL CURRENT ASSETS .............................. 1,162,065 1,137,846 ---------- ---------- PROPERTY AND EQUIPMENT-NET .............................. 8,859 10,204 ---------- ---------- $1,170,924 $1,148,050 ========== ========== LIABILITIES AND SHAREHOLDER'S EQUITY (DEFICIT) CURRENT LIABILITIES Accounts payable ..................................... $ 898,573 $1,026,265 Royalty fees payable ................................. 222,660 229,085 ---------- ---------- TOTAL CURRENT LIABILITIES ......................... 1,121,233 1,255,350 ---------- ---------- SHAREHOLDER'S EQUITY (DEFICIT) Common stock No par value Authorized -- 200 Shares Issued and outstanding -- 50 Shares .................. 1,000 1,000 RETAINED EARNINGS (ACCUMULATED DEFICIT) ................. 48,691 (108,300) ---------- ---------- 49,691 (107,300) ---------- ---------- $1,170,924 $1,148,050 ========== ==========
See accompanying notes to the financial statements. F-28 GLOBAL SOURCING NETWORK, LTD. STATEMENTS OF OPERATIONS AND RETAINED EARNINGS (ACCUMULATED DEFICIT) (UNAUDITED) THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998
THREE MONTHS THREE MONTHS ENDED ENDED MARCH 31, MARCH 31, 1999 1998 -------------- ------------- SALES .............................................. $6,039,754 $5,831,482 COST OF SALES ...................................... 5,622,094 5,371,979 ---------- ---------- GROSS PROFIT ....................................... 417,660 459,503 GENERAL AND ADMINISTRATIVE EXPENSES ................ 54,119 45,882 ROYALTIES AND COMMISSIONS .......................... 206,550 277,944 ---------- ---------- INCOME FROM OPERATIONS ............................. 156,991 135,677 PROVISION FOR INCOME TAXES ......................... 0 2,288 ---------- ---------- NET INCOME ......................................... 156,991 133,389 ACCUMULATED DEFICIT -- BEGINNING OF PERIOD ......... (108,300) (53,792) ---------- ---------- RETAINED EARNINGS -- END OF PERIOD ................. $ 48,691 $ 79,597 ---------- ----------
See accompanying notes to the financial statements. F-29 GLOBAL SOURCING NETWORK, LTD. STATEMENTS OF CASH FLOWS (UNAUDITED) THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
THREE MONTHS THREE MONTHS ENDED ENDED MARCH 31, MARCH 31, 1999 1998 -------------- ------------- CASH FLOWS FROM OPERATING ACTIVITIES Net Income ................................................................. $ 156,991 $ 133,389 ---------- ---------- Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation ............................................................ 1,345 199 Changes in assets and liabilities affecting cash flows from operating activities: Accounts receivable .................................................. (569,814) 261 Inventories .......................................................... 473,582 0 Prepaid expenses ..................................................... (81,385) (8,500) Other assets ......................................................... 0 594 Accounts payable ..................................................... (127,692) (31,298) Royalty fees payable ................................................. (6,425) (100,000) ---------- ---------- Total adjustments ................................................. (310,389) (138,744) ---------- ---------- Net cash used in operating activities ............................. (153,398) (5,355) ---------- ---------- CASH FLOWS FROM INVESTING ACTIVITIES Purchases of property and equipment ........................................ 0 (1,758) Advances to related party .................................................. 0 (18,000) ---------- ---------- Net cash used in investing activities ............................. 0 (19,758) ---------- ---------- CASH FLOWS FROM FINANCING ACTIVITIES Advances to shareholder .................................................... 0 (46,451) ---------- ---------- Net cash used in financing activities ............................. 0 (46,451) ---------- ---------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........................... (153,398) (71,564) CASH AND CASH EQUIVALENTS -- BEGINNING OF PERIOD .............................. 153,598 84,348 ---------- ---------- CASH AND CASH EQUIVALENTS -- END OF PERIOD .................................... $ 200 $ 12,784 ========== ==========
See accompanying notes to the financial statements. F-30 GLOBAL SOURCING NETWORK, LTD. NOTES TO QUARTERLY FINANCIAL STATEMENTS (UNAUDITED) THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying unaudited financial statements have been prepared in accordance with generally accepted principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results of operations for the periods presented have been included. The financial data at December 31, 1998 is derived from audited financial statements for the year ended December 31, 1998, and should be read in conjunction with the audited financial statements and notes thereto. Interim results are not necessarily indicative of results for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 2. SUBSEQUENT EVENTS On April 15, 1999, the Company was acquired by The Pietrafesa Corporation, as more fully set forth in the prospectus. F-31 To the Board of Directors of Components by John McCoy, Inc. 6040 Boulevard East -- Apt. 2G West New York, New Jersey 07093 We have audited the accompanying balance sheets of Components by John McCoy, Inc., a New Jersey corporation, as of December 31, 1998 and 1997, and the related statements of income, retained earnings, and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Components by John McCoy, Inc., as of December 31, 1998 and 1997, and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles. /s/ Lawrence B. Goodman & Co., P.A. Certified Public Accountants Fair Lawn, New Jersey March 4, 1999 F-32 COMPONENTS BY JOHN MCCOY, INC. BALANCE SHEETS DECEMBER 31, 1998 AND 1997 ASSETS 1998 1997 -------------- -------------- CURRENT ASSETS Cash ................................... $ 45,358 $ 10,335 Accounts Receivable -- net ............. 4,462,931 3,711,586 Inventory .............................. 2,311,177 829,833 Employee Loan .......................... -- 1,600 ---------- ---------- Total current assets ................. 6,819,466 4,553,354 ---------- ---------- PROPERTY & EQUIPMENT Furniture and fixtures ................. 3,616 3,616 Leasehold improvements ................. 178,167 -- ---------- ---------- 181,783 3,616 Less: Accumulated depreciation ......... (1,086) (362) ---------- ---------- Net property and equipment .......... 180,697 3,254 ---------- ---------- OTHER ASSETS Security deposit ....................... 28,032 28,032 ---------- ---------- Total Assets ........................ $7,028,195 $4,584,640 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY
1998 1997 ------------- ------------- CURRENT LIABILITIES Accounts payable and accrued expenses ...................... $2,459,127 $1,671,965 Loan payable ............................................... 2,462,451 2,070,731 Taxes payable .............................................. 48,868 66,890 ---------- ---------- Total current liabilities ................................ 4,970,446 3,809,586 ---------- ---------- STOCKHOLDERS' EQUITY Common Stock, no par value (authorized 200 shares,issued and outstanding 100 shares) .................................. 300,000 300,000 Retained earnings .......................................... 1,757,749 475,054 Total stockholders' equity ............................... 2,057,749 775,054 ---------- ---------- Total Liabilities and Stockholders' Equity .............. $7,028,195 $4,584,640 ========== ==========
See notes to financial statements and auditor's report. F-33 COMPONENTS BY JOHN MCCOY, INC. STATEMENTS OF INCOME AND RETAINED EARNINGS YEARS ENDED DECEMBER 31, 1998 AND 1997
1998 1997 --------------- --------------- REVENUES Net Sales ............................................ $ 19,993,484 $ 14,916,695 ------------ ------------ COST OF SALES Beginning inventory .................................. 829,833 740,408 Purchases ............................................ 13,854,070 9,733,368 Freight-in ........................................... 681,339 505,506 Customs charges ...................................... 1,953,422 1,606,554 ------------ ------------ 17,318,664 12,585,836 Less: Ending inventory ............................... 2,311,177 829,833 ------------ ------------ Total cost of sales ................................ 15,007,487 11,756,003 ------------ ------------ Gross Profit ...................................... 4,985,997 3,160,692 GENERAL AND ADMINISTRATIVE EXPENSES Advertising .......................................... 177,635 28,740 Bad debt expense ..................................... 253,565 113,856 Commissions .......................................... 588,879 675,204 Insurance ............................................ 27,881 34,130 Interest ............................................. 292,676 241,225 Professional services ................................ 66,404 24,729 Office supplies ...................................... 166,449 155,159 Outside services ..................................... 212,392 131,951 Payroll taxes ........................................ 41,983 24,106 Postage .............................................. 102,386 95,383 Profit sharing ....................................... 45,030 38,517 Rent ................................................. 166,951 110,792 Repairs and maintenance .............................. 521 11,615 Salaries -- Officer .................................. 606,154 180,000 Salaries and wages -- other .......................... 287,532 185,138 Storage .............................................. 108,694 64,092 Telephone and utilities .............................. 50,674 43,077 Travel and entertainment ............................. 134,910 161,884 Miscellaneous ........................................ 69,865 25,141 ------------ ------------ Total general and administrative expenses .......... 3,400,581 2,344,739 ------------ ------------ Income from operations ................................ 1,585,416 815,953 OTHER INCOME AND (EXPENSES) State and local income taxes ......................... (157,711) (81,595) ------------ ------------ Net income ............................................ 1,427,705 734,358 Retained earnings -- beginning ........................ 475,054 118,854 Distributions of undistributed taxable income ......... (145,010) (378,158) ------------ ------------ Retained earnings -- ending ........................... $ 1,757,749 $ 475,054 ============ ============
See notes to financial statements and auditor's report. F-34 COMPONENTS BY JOHN MCCOY, INC. STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1998 AND 1997
1998 1997 --------------- --------------- Cash flows from operating activities: Net income ................................................ $ 1,427,705 $ 734,358 ------------- ------------ Adjustments to reconcile net income to net cash provided by operating activities: Depreciation ............................................. 724 362 Changes in assets and liabilities: Increase in accounts receivable .......................... (751,345) (1,264,338) Increase in inventory .................................... (1,481,344) (89,425) Increase in employee loan ................................ -- (1,600) Increase in security deposit ............................. -- (28,032) Increase in accounts payable ............................. 787,162 179,879 Increase/(Decrease) in taxes payable ..................... (18,022) 54,923 ------------- ------------ Total adjustments ...................................... (1,462,825) (1,148,231) ------------- ------------ Net cash used by operating activities ..................... (35,120) (413,873) ------------- ------------ Cash flows from investing activities: Purchase of furniture and fixtures ....................... (178,167) (3,616) ------------- ------------ Cash flows from financing activities: Borrowing on loan payable ................................ 19,494,135 10,120,000 Repayments on loan payable ............................... (19,102,415) (9,359,340) Distributions to shareholder ............................. (143,410) (382,468) ------------- ------------ Net cash provided by financing activities ................. 248,310 378,192 ------------- ------------ Net increase (decrease) in cash ........................... 35,023 (39,297) Cash -- beginning of year ................................. 10,335 49,632 ------------- ------------ Cash -- end of year ....................................... $ 45,358 $ 10,335 ============= ============ SUPPLEMENTAL INFORMATION Interest paid ............................................ $ 292,676 $ 241,225 Taxes paid ............................................... $ 176,133 $ 29,889
See notes to financial statements and auditor's report. F-35 COMPONENTS BY JOHN MCCOY, INC. NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 1998 AND 1997 DESCRIPTION OF BUSINESS Components by John McCoy, Inc. is a distributor of men's clothing. The Company was incorporated and commenced business on January 6, 1995. Its principal place of business is located at 20 West 55th Street, New York, New York. NOTE 1: ACCOUNTING POLICIES A) ACCOUNTS RECEIVABLE In the normal course of business, the Company discounts or sells trade accounts receivable without recourse to Heller Financial, Inc. At December 31, 1998 and 1997, the amount of such receivables was $3,239,184 and $3,162,716, respectively. B) UNCOLLECTIBLE ACCOUNTS Uncollectible accounts receivable are estimated to be 4% for 1998 and 10% for 1997 of non-factored receivables, based upon management's evaluation of outstanding accounts receivable. At December 31, 1998 and 1997, uncollectible accounts are estimated to be $56,779 and $60,986, respectively. C) INVENTORY Inventory is stated at the lower of cost determined by the first-in, first-out method, or market. D) INCOME TAXES The shareholders have elected to be treated as a small business corporation (Sub-Chapter "S" of the Internal Revenue Code) for Federal income tax purposes as of January 6, 1995. Similarly, the shareholders have elected to be treated as a small business corporation for New York and New Jersey State income tax purposes. Accordingly, no provision has been made for Federal income taxes, a provision has been made for the State income taxes for New York and for New Jersey at the prevailing rates for 1998. Income will be reported by the shareholder in his individual income tax returns. New York City does not recognize Sub-Chapter "S" status, therefore, a tax provision has been made based upon the income tax rates in effect for 1998. There are no material differences in the calculation of net income for book and income tax purposes, therefore, deferred income taxes have not been recorded. E) USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. F) REVENUE RECOGNITION Revenue is recognized when products are shipped or services have been provided and is net of returns and allowances. NOTE 2: LOAN PAYABLE Loan payable represents a Collection Factoring Agreement with Heller Financial, Inc., in which they "purchase" the receivables. However, the transaction is accounted for as a secured loan facility because the underlying structure is actually that of an asset-based loan. Specifically, the accounts receivable F-36 COMPONENTS BY JOHN MCCOY, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 purchase price is funded at a predetermined advance rate, Heller requires a security interest in all the assets of the Company and pays interest in all of the assets of the Company and pays interest on the amount advanced and final risk of collection lies with the Company. Under the Heller Factoring Agreement, the Company generates accounts receivable in the ordinary course of business and Heller purchases these accounts. The net purchase price is the face value of the receivable less factoring commissions, credits, returns, allowances, chargebacks and other allowances whose appropriateness is decided solely by Heller. Heller advances the Company 80% of the gross purchase price and pays the remaining net purchase price on the due date of each individual account. In practice, Heller only purchases and advances on approved accounts, determined by Heller in its sole discretion. Advances are wired to a non-Heller bank account. Heller provides collection services on approved accounts and collections on approved accounts are netted against amounts advanced by Heller. Heller does not advance against, pay when due or otherwise compensate the Company for the non-approved accounts. Non-approved do not appear on Heller's ledger. The Company, not Heller, collects receipts for non-approved accounts into a non-Heller bank account. Therefore, all of the Company's accounts receivable remain on the balance sheet and a loan payable equal to the amounts advanced by Heller also appears on the balance sheet. The Company records and pays monthly an interest expense computed daily at the rate of 2% over the current prime rate and factor fee expense. Collection on approved accounts is applied to the open account receivable and the Heller loan account. Rates in effect were as follows: 01/01/96 through 03/26/97 ......... 10.25% 03/27/97 through 01/01/98 ......... 10.25% 02/02/98 through 09/29/98 ......... 10.00% 09/30/98 through 10/16/98 ......... 9.75% 10/17/98 through 11/17/98 ......... 9.50% 11/18/98 through 12/31/98 ......... 9.25% Average outstanding loan balances for the years ended December 31, 1998 and 1997 were approximately $2.6 million and $1.9 million, respectively. The high outstanding balances for those years were $4.0 million and $3.2 million, respectively. NOTE 3: STATE AND LOCAL INCOME TAXES Taxes consist of the following: 1998 1997 ----------- ---------- New York State income taxes ............ $ 15,841 $ 8,183 New Jersey State income taxes .......... 3,182 2,735 New York City income taxes ............. 138,688 70,677 --------- -------- $ 157,711 $ 81,595 ========= ======== F-37 COMPONENTS BY JOHN MCCOY, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 NOTE 4: NET SALES Net sales consists of the following: 1998 1997 --------------- --------------- Sales .......................... $ 20,340,045 $ 16,039,672 Less: Sales, returns and discounts .................... 346,561 1,122,977 ------------ ------------ $ 19,993,484 $ 14,916,695 ============ ============ NOTE 5: INTEREST Interest expense for 1998 and 1997 was $292,676 and $241,225, respectively, all of which was charged to operations. NOTE 6: RENT The Company leases office space under a five-year operating lease which expires January 31, 2007. Future minimum rentals are as follows: 1999 ............... $ 126,000 2000 ............... 126,000 2001 ............... 126,000 2002 ............... 132,417 2003 ............... 133,000 Thereafter ......... 410,083 ---------- $1,053,500 ========== NOTE 7: PROFIT SHARING PLAN The Company has a defined contribution Profit-Sharing Plan beginning January 1, 1997, covering substantially all of its employees. Employees qualify based on age and hours of service. The amount of the contribution is determined by the Board of Directors. The profit sharing plan contributions for 1998 and 1997 were $45,030 and $38,517, respectively. F-38 COMPONENTS BY JOHN MCCOY, INC. BALANCE SHEETS MARCH 31, 1999 AND DECEMBER 31, 1998 (IN THOUSANDS)
MARCH 31, DECEMBER 31, 1999 1998 ------------ ------------- (UNAUDITED) ASSETS CURRENT ASSETS Cash ........................................................ $ 187 $ 45 Accounts Receivable -- net .................................. 5,199 4,463 Inventory ................................................... 2,454 2,311 ------ ------ Total current assets ...................................... 7,840 6,819 ------ ------ Net property and equipment .................................. 312 181 Other assets ................................................ 508 28 ------ ------ TOTAL ASSETS ............................................. $8,660 $7,028 ====== ====== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable ............................................ $2,494 $2,459 Loan payable ................................................ 3,369 2,462 Other current liabilities ................................... 158 49 ------ ------ Total current liabilities ................................. 6,021 4,970 ------ ------ STOCKHOLDERS' EQUITY Common Stock, no par value (authorized 200 shares, issued and outstanding 100 shares) ................................... 300 300 Retained earnings ........................................... 2,339 1,758 ------ ------ Total stockholders' equity ................................ 2,639 2,058 ------ ------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY ............... $8,660 $7,028 ====== ======
See notes to financial statements. F-39 COMPONENTS BY JOHN MCCOY, INC. STATEMENTS OF INCOME AND RETAINED EARNINGS (UNAUDITED) THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 (IN THOUSANDS)
THREE MONTHS THREE MONTHS ENDED ENDED MARCH 31, MARCH 31, 1999 1998 -------------- ------------- Net Sales ............................................ $5,384 $4,868 Cost of Sales ........................................ 4,123 3,596 ------ ------ Gross Profit ........................................ 1,261 1,272 Selling, general and administrative expenses ......... 604 509 ------ ------ Income from operations .............................. 657 763 Interest expense ..................................... 76 67 ------ ------ Income before provision for income taxes ............ 581 696 Provision for income taxes ........................... -- 16 ------ ------ Net income .......................................... 581 680 Retained earnings Beginning of period ................................. 1,758 475 Shareholders distributions .......................... -- (50) ------ ------ Retained earnings -- end of period .................. $2,339 $1,105 ====== ======
See notes to financial statements. F-40 COMPONENTS BY JOHN MCCOY, INC. STATEMENTS OF CASH FLOWS (UNAUDITED) THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 (IN THOUSANDS)
THREE MONTHS THREE MONTHS ENDED ENDED MARCH 31, MARCH 31, 1999 1998 -------------- ------------- Cash flows from operating activities: Net income ................................................ $ 581 $ 680 Adjustments to reconcile net income to net cash provided by operating activities: Accounts receivable ..................................... (736) (228) Inventory and prepaid assets ............................ (143) (579) Accounts payable and accrued expenses ................... 144 15 -------- -------- Net cash used by operating activities .................. (154) (112) Cash flows from investing activities: Purchases of furniture and fixtures ....................... (131) -- Cash flows from financing activities: Borrowing on loan payable ................................. 5,330 4,000 Repayments on loan payable ................................ (4,423) (3,809) Distributions to shareholder .............................. (480) (50) -------- -------- Net cash provided by financing activities .................. 427 141 Net increase in cash ....................................... 142 29 Cash -- beginning of period ................................ 45 10 -------- -------- Cash -- end of period ...................................... $ 187 $ 39 ======== ========
See notes to financial statements. F-41 COMPONENTS BY JOHN MCCOY, INC. NOTES TO QUARTERLY FINANCIAL STATEMENTS THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 1. ORGANIZATION AND BASIS OF CONSOLIDATION The accompanying financial statements include the accounts of the Company and its consolidated subsidiary. All significant inter-company transactions and balance have been eliminated. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying unaudited financial statements have been prepared in accordance with generally accepted principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results of operations for the periods presented have been included. The financial data at December 31, 1998 is derived from audited financial statements for the year ended December 31, 1998, and should be read in conjunction with the audited financial statements and notes thereto. Interim results are not necessarily indicative of results for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 3. SUBSEQUENT EVENTS The Company has entered a definitive agreement to be purchased by The Pietrafesa Corporation as more fully described in this prospectus. F-42 INDEPENDENT AUDITOR'S REPORT Stockholders Windsong, Inc. We have audited the accompanying balance sheets of Windsong, Inc. as of December 31, 1998 and 1997, and the related statements of income and retained earnings (accumulated deficit) and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Windsong, Inc. as of December 31, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. /s/ Weissbarth, Altman & Michaelson LLP New York, New York May 7, 1999 F-43 WINDSONG, INC. BALANCE SHEETS DECEMBER 31, 1998 AND 1997 ASSETS
1998 1997 --------------- --------------- Current assets Cash (Note 2) ................................................. $ 126,179 $ 700 Accounts receivable (Note 1,2,3) .............................. 5,643,217 5,573,629 Insurance claim receivable .................................... -- 37,229 Inventories (Note 1,2,3,5,14) ................................. 6,584,546 5,308,870 Other (Note 6) ................................................ 729,941 223,748 ------------ ------------ Total current assets ........................................ 13,083,883 11,144,176 ------------ ------------ Property and equipment, net (Note 2,7,10) ...................... 565,902 256,621 ------------ ------------ Other assets Note receivable-officer/stockholder (Note 4,6,15) ............. -- 1,036,436 Loan receivable-affiliated company (Note 8) ................... 437,429 -- Organization costs, net of accumulated amortization of $-0- and $814 (Note 2)................................................ -- 623 Security deposits and other ................................... 71,268 82,329 ------------ ------------ Total other assets .......................................... 508,697 1,119,388 ------------ ------------ $ 14,158,482 $ 12,520,185 ============ ============
See accompanying notes to financial statements F-44 LIABILITIES AND STOCKHOLDERS' EQUITY
1998 1997 --------------- --------------- Current liabilities Current portion of obligations under capital leases (Note 2,7,10,15) $ 124,685 $ -- Accounts payable and accrued expenses (Note 1,2,9,11,13,14,15) . 4,143,299 7,517,193 Advances from factor (Note 3,15) ................................... 7,301,274 3,082,608 Due to affiliated company .......................................... -- 118,043 State income taxes payable (Note 2) ................................ 25,341 32,090 ------------ ------------ Total current liabilities ........................................ 11,594,599 10,749,934 Obligations under capital leases (Note 2,7,10,15) ................... 227,628 -- Deferred rent expense (Note 2,10) ................................... 8,225 13,901 Accounts payable-subordinated (Note 9,15) ........................... 1,379,568 1,379,568 ------------ ------------ Total liabilities ................................................ 13,210,020 12,143,403 ------------ ------------ Commitments and contingencies (Note 1,3,10,11,12,13,14,16) Stockholders' equity Common stock-no par value -- - Class A (voting) -- 1,000 shares authorized,200 shares issued and outstanding ...................................................... 200 200 - Class B (non-voting) -- 1,000 shares authorized, 800 shares issued and outstanding .................................................. 800 800 Additional paid-in capital .......................................... 6,000 6,000 Retained earnings ................................................... 941,462 369,782 ------------ ------------ Total stockholders' equity ....................................... 948,462 376,782 ============ ============ $ 14,158,482 $ 12,520,185 ============ ============
See accompanying notes to financial statements. F-45 WINDSONG, INC. STATEMENTS OF INCOME AND RETAINED EARNINGS (ACCUMULATED DEFICIT) FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
1998 1997 1996 --------------- --------------- -------------- Net sales ......................................... $ 63,630,094 $ 30,330,207 $ 6,202,405 Cost of goods sold ................................ 49,884,050 23,861,570 5,444,006 ------------ ------------ ----------- Gross profit ...................................... 13,746,044 6,468,637 758,399 Selling and distribution expenses ................. 4,527,731 1,858,492 400,253 General and administrative expenses ............... 6,546,268 3,883,081 340,978 ------------ ------------ ----------- Income from operations ............................ 2,672,045 727,064 17,168 Interest expense, net ............................. 1,661,405 317,214 13,937 Income before provision for income taxes .......... 1,010,640 409,850 3,231 Provision for income taxes ........................ 46,000 35,000 2,500 ------------ ------------ ----------- Net income ........................................ 964,640 374,850 731 Retained earning (accumulated deficit) -- beginning of year .......................................... 369,782 (5,068) (5,799) Distributions to stockholders ..................... (392,960) -- -- ------------ ------------ ----------- Retained earnings -- end of year .................. $ 941,462 $ 369,782 $ (5,068) ============ ============ ===========
See accompanying notes to financial statements. F-46 WINDSONG, INC. STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 INCREASE (DECREASE) IN CASH
1998 1997 1996 --------------- --------------- --------------- Cash flows from operating activities Net income ....................................... $ 964,640 $ 374,850 $ 731 ------------ ------------ ------------ Adjustments to reconcile net income to net cash provided by operating activities ............... Depreciation and amortization .................. 156,882 45,629 24,895 Effect of straight-lining minimum lease payments ...................................... (5,676) 13,901 -- Loss on disposal of property and equipment...... -- 15,294 -- Net basis adjustment of property and equipment ..................................... (3,831) -- -- Provision for doubtful accounts ................ 20,000 -- -- Computer training expense incurred in connection with property and equipment acquired under capital lease .................. 67,840 -- -- Note receivable-officer/stockholder converted into salary ................................... 1,036,436 -- -- Changes in operating assets and liabilities Accounts receivable .............................. (89,588) (4,220,872) (1,352,757) Insurance claim receivable ....................... 37,229 10,667 (47,796) Inventories ...................................... (1,275,676) (3,122,119) (1,202,185) Other current assets ............................. (506,193) (138,274) (84,674) Security deposits and other ...................... 11,061 (70,244) (10,067) Accounts payable and accrued expenses ............ (3,373,894) 5,011,137 2,905,955 Advances from factor ............................. 4,218,666 2,640,551 442,057 State income taxes payable ....................... (6,749) 32,090 -- ------------ ------------ ------------ Total adjustments .............................. 286,507 217,760 675,428 ------------ ------------ ------------ Net cash provided by operating activities, carried forward ........................................ $ 1,251,147 $ 592,610 $ 676,159 ------------ ------------ ------------
See accompanying notes to financial statements. F-47 WINDSONG, INC. STATEMENTS OF CASH FLOWS -- CONTINUED FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996 INCREASE (DECREASE) IN CASH
1998 1997 1996 -------------- ------------ ------------ Net cash provided by operating activities, brought forward .......... $ 1,251,147 $ 592,610 $ 676,159 Cash flows from investing activities Increase in note receivable officer/stockholder, net ............... -- (74,321) -- Payments to affiliated company ..................................... (555,472) (284,904) (686,127) Payments for property and equipment ................................ (101,416) (232,785) (54,293) Payments for organization costs .................................... -- -- (1,000) ----------- ---------- ---------- Net cash used in investing activities ........................... (656,888) (592,010) (741,420) Cash flows from financing activities Distributions to shareholders ...................................... (392,960) -- -- Payments on obligations under capital lease,net of certain adjustments by lessor ............................................ (75,820) -- -- ----------- ---------- ---------- Net cash used in financing activities ........................... (468,780) -- -- ----------- ---------- ---------- Net increase in cash (decrease in cash) ............................. 125,479 600 (65,261) Cash -- beginning of year ........................................... 700 100 65,361 ----------- ---------- ---------- Cash -- end of year ................................................. $ 126,179 $ 700 $ 100 =========== ========== ========== Supplemental disclosure of cash flow information: Cash was paid for Income taxes ..................................................... $ 64,745 $ 4,901 $ 750 =========== ========== ========== Interest, net of interest received from factor ................... $ 1,638,830 $ 381,530 $ 15,810 =========== ========== ==========
See accompanying notes to financial statements. F-48 WINDSONG, INC. STATEMENT OF CASH FLOWS -- CONTINUED FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
1998 1997 1996 ------------ -------------- ------------ Supplemental schedules of non-cash operating, investing and financing activities: Acquisition of property and equipment and $67,840 in training under capital leases, net of certain adjustments by lessor .................... $ 428,133 $ -- $ -- ========= =========== ========= Reclassification of amount from property andequipment, net, to organization costs, net..... $ 120 $ -- $ -- Reclassification of accounts payable to accounts payable-subordinated ............................. $ -- $ 399,899 $ -- Issuance of 800 shares of newly-authorized Class B (non-voting) common stock and a corresponding increase in other current assets. (The Company's voting common stock has been designated as Class A.) ........................................ $ -- $ 800 $ -- Acquisition of the following net assets of an affiliated company, at their book value in exchange for (a) satisfaction of the Company's receivable from the affiliated company, in the amount of $897,860, and (b) a payable to the affiliated company, in the amount of $118,043: Note receivable -- officer/stockholder ............. $ -- $ 962,115 $ -- Property and equipment, net ........................ -- 51,770 $ -- Security deposits and other ........................ -- 2,018 $ -- --------- ----------- --------- $ -- $ 1,015,903 $ -- ========= =========== ========= Inventories acquired for accounts payable -- subordinated ..................................... $ -- $ -- $ 979,669 Property and equipment acquired for decrease in due from affiliated company ...................... $ -- $ -- $ 2,777
See accompanying notes to financial statements. F-49 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS NOTE 1 -- DESCRIPTION OF BUSINESS Windsong, Inc. (the Company) was incorporated on August 3, 1995 and commenced substantive operations as of January 1, 1996 and approximately $3.3 million of the Company's sales occurred in the fourth quarter of 1996. Windsong, Inc. is engaged in developing, designing and sourcing private-label knit and woven shirts for distribution to a relatively small number of retail customers located throughout the United States. Additionally, the Company has entered into a long-term licensing agreement with a certain designer to source and distribute knit and woven shirts and sweaters throughout the United States (Note 13). During 1996, the Company's stockholder and another individual who controlled the Company's major supplier had an agreement to provide financing to the Company (Note 9). During 1996, in connection with that agreement, (a) a substantial portion of Company expenses was paid for by a company controlled by the stockholder (hereafter referred to as affiliated company) and (b) a substantial portion of the Company's inventories were acquired from the major supplier. Also during 1996, (a) the Company reimbursed the affiliated company for amounts incurred on its behalf and (b) the aforementioned individual had subscribed to purchase shares of the Company's common stock and, accordingly, was previously identified as a Company stockholder; however, that subscription expired prior to December 31, 1996, whereupon those subscribed shares were issued, instead, to the Company's sole stockholder. During the last quarter of 1996 the affiliated company substantially terminated its operations. The Company assumed none of its affiliates customers and did not import/distribute the same products as the affiliate. During 1997, the Company: a. assumed (1) sponsorship of a defined benefit pension plan that was previously sponsored by the affiliated company (Note 11) and (2) the affiliated company's remaining obligation under non-cancellable leases for office and warehouse space (Note 10) b. became totally responsible for certain expenses that had been previously allocated between the Company and the affiliated company. c. exchanged its intercompany receivable for assets of the affiliate, at their net book value including property and equipment consisting of approximately $50,000 and $2,000 for automobiles and furniture and equipment, respectively. During 1998 and 1997, a substantial portion of the Company's inventories was acquired from a relatively small number of suppliers. a) Use of estimates The preparation of financial statements requires the Company's management to estimate the current effects of transactions and events whose ultimate outcomes may not be determinable until future years. Consequently, the estimated current effects could differ from the effects of the ultimate outcomes. b) Cash Cash includes cash on hand and demand deposits with a financial institution located in Connecticut. As of December 31, 1998, deposits with that financial institution in the amount of approximately $194,000 are not covered by federal deposit insurance. c) Inventories Inventories are valued at the lower of cost (principally the specific identification method) or market. F-50 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS- (CONTINUED) NOTE 1 -- DESCRIPTION OF BUSINESS - (CONTINUED) d) Property and equipment and depreciation Property and equipment is stated at cost. Depreciation is provided over the estimated useful lives of the assets, utilizing principally the straight-line method. Expenditures for maintenance, repairs and renewals, which neither materially add to the value of the property nor appreciably extend its useful life, are charged to operations as incurred. When depreciable assets are sold or otherwise retired from service, their cost and related accumulated depreciation are removed from the accounts and any resulting gain or loss is reflected in the results of operations. The Company entered into non-cancellable capital leases for computer software and equipment, as well as office and warehouse equipment. Under the terms of the leases, (a) the lessors retain a security interest in the leased assets and (b) the Company is obligated for the payment of taxes, insurance and maintenance costs, which are included in the results of operations. The asset values related to capital leases are included in property and equipment at the present value of the minimum lease payments at inception plus any additional costs incurred or fair value, if lower. The capital lease obligations are reflected as part of current and non-current liabilities, and the associated interest is charged to expense over the related lease terms. e) Organization costs and amortization Organization costs were originally stated at cost and amortized over five years, utilizing the straight-line method. At December 31, 1998, these costs have been fully amortized. Amortization, included in the results of operations, amounted to $743, $407 and $407 for 1998, 1997 and 1996, respectively. f) Deferred rent expense Deferred rent expense represents the cumulative effect of straight-lining minimum lease payments which, for financial statement purposes, are required to be recognized as rent expense on a straight-line basis over the lease term. g) Advertising costs The costs of cooperative advertising are charged to expense when related sales are recognized. All other costs of advertising are charged to expense as incurred. Total advertising costs amounted to approximately $372,000, $126,000 and $37,500 for 1998, 1997 and 1996, respectively, of which approximately $238,000, $62,000 and $0 respectively, related to cooperative advertising. h) Income taxes The Company is treated as an S Corporation for federal income tax purposes. As an S Corporation, the taxable income or loss and tax credits of the Company are allocated to its stockholder. State income taxes are provided to the extent that S Corporation status is not recognized for such purposes. i) Reclassifications Certain items included in the 1997 and 1996 financial statements, as originally issued, have been reclassified to conform to the 1998 presentation. F-51 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED ) NOTE 3 -- ACCOUNTS RECEIVABLE Accounts receivable consist of the following: 1998 1997 -------------- -------------- Accounts assigned to factor (a) .............. $ 5,654,907 $ 5,443,921 Accounts not assigned to factor .............. 8,310 129,708 ----------- ----------- 5,663,217 5,573,629 =========== =========== Less: allowance for doubtful accounts ........ 20,000 -- ----------- ----------- Total accounts receivable .................... $ 5,643,217 $ 5,573,629 =========== =========== (a) The Company has an arrangement with a commercial factor that includes the terms and conditions discussed below. o The Company receives advances from the factor in accordance with a formula that is based upon -- (1) the "net face amount", as defined, of assigned receivables (less a factoring commission) plus (2) eligible inventories, as defined, less (3) certain amounts held by the factor for letters of credit opened and liabilities owed to the factor. o The aforementioned advances are repaid as the assigned receivables are collected. o Interest is charged or credited on outstanding balances due to or from the factor at a specified percentage (the percentage) above the prime rate of a certain bank, as quoted from time to time. The percentage was 2% through September 30, 1997. Effective October 1, 1997, the percentage was 1.5% (decreased to .5% as of October 1, 1998), except for "overadvances", in which case the percentage was 4.5% (decreased to 1% as of October 1, 1998). The "overadvances" percentage was 5% above the prime rate of a certain bank through September 30, 1997. o Factor commissions are charged in an amount equal to a specified percentage of assigned receivables. That percentage was 1% through September 30, 1997. Effective October 1, 1997, that percentage was .75% (decreased to .5% for the period from October 1, 1998 until September 30, 1999, then .6% thereafter). o Customary charges are made by the factor in connection with (a) letters of credit that are issued for the Company's account to its suppliers and (b) the servicing of assigned receivables. o Amounts due to the factor, as well as any outstanding letters of credit, are secured by the Company's trade receivables and inventories. o Amounts due to the factor are also guaranteed by a Company officer/ stockholder. Amounts were due (to)/from the factor as follows: 1998 1997 ----------------- -------------- Accounts receivable assigned to factor .... $ 5,654,907 $ 5,443,921 Less: advances from the factor ............ 7,301,274 3,082,608 ------------- ----------- $ (1,646,367) $ 2,361,313 ============= =========== F-52 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS- (CONTINUED) NOTE 3 -- ACCOUNTS RECEIVABLE - (CONTINUED) Factor commissions and interest expense, net, included in the results of operations, amounted to $484,757 and $1,298,176, respectively, for 1998, $322,155 and $367,884, respectively, for 1997 and $35,670 and $14,908, respectively, for 1996. NOTE 4 -- NOTE RECEIVABLE-OFFICER/STOCKHOLDER A note receivable-officer/stockholder, which bore interest at the short-term federal rate, as published by the Internal Revenue Service from time to time, was converted into salary during 1998. Interest income, included in the results of operations, amounted to $62,573 and $64,316, for 1998 and 1997, respectively. NOTE 5 -- INVENTORIES Inventories consist of the following: 1998 1997 -------------- -------------- Raw materials ............ $ 85,904 $ 367,122 Work-in-process .......... -- 278,336 ----------- ----------- Finished goods ........... 6,498,642 4,663,412 ----------- ----------- $ 6,584,546 $ 5,308,870 =========== =========== NOTE 6 -- OTHER CURRENT ASSETS Other current assets consist of the following:
1998 1997 ------------ ------------ Prepaid/unearned sales allowances .................................... $ 445,598 $ -- Interest receivable on note receivable- officer/stockholder .......... 126,889 64,316 Advances to officers/stockholders .................................... 105,273 -- Deposit on inventory purchase ........................................ -- 100,000 --------- --------- Prepaid expenses and other ........................................... 52,181 59,432 --------- --------- $ 729,941 $ 223,748 ========= =========
NOTE 7 -- PROPERTY AND EQUIPMENT, NET Property and equipment, net, consists of the following:
ESTIMATED USEFUL LIVES IN YEARS 1998 1997 ------------- ------------ ------------ Furniture and equipment ....................................... 5 -- 7 $ 254,724 $ 232,522 Automobiles ................................................... 5 146,881 202,195 Computer software ............................................. 3 70,981 51,036 Property and equipment under capital leases (Note 10) ......... 3 -- 5 360,293 -- --------- --------- 832,879 485,753 Less accumulated depreciation and amortization ................ 266,977 229,132 --------- --------- $ 565,902 $ 256,621 ========= =========
F-53 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS- (CONTINUED) NOTE 7 -- PROPERTY AND EQUIPMENT, NET - (CONTINUED) Included in property and equipment are assets acquired from an affiliated company during 1997. As of January 1, 1998, the cost basis and related accumulated depreciation of certain of those assets were adjusted to better reflect net book value at the time of acquisition. The foregoing resulted in the recognition of a net basis adjustment credit of $3,831, which is included in other income. Property and equipment under capital leases consist of the following: 1998 ------------ Computer software ...................... $ 128,790 Computer and office equipment .......... 180,210 Warehouse equipment .................... 51,293 --------- $ 360,293 ========= Depreciation and amortization on property and equipment, included in the results of operations, amounted to $156,139, $45,222, and $24,488 for 1998, 1997 and 1996, respectively. Included in accumulated depreciation and amortization is accumulated depreciation related to capital leases in the amount of $68,060 as of December 31, 1998. NOTE 8 -- LOAN RECEIVABLE-AFFILIATED COMPANY The loan receivable-affiliated company is due on demand and bears interest at the short-term federal rate, as published by the Internal Revenue Service from time to time, commencing January 1, 1999 (extended from October 1, 1998). The Company has expressed its intent not to demand payment on this loan prior to January 1, 2000 (extended from October 1, 1999). NOTE 9 -- ACCOUNTS PAYABLE One of the Company's largest suppliers has agreed that approximately $1.4 million of its accounts payable shall be subordinated to all other liabilities of the Company. During 1998, the Company and the supplier agreed that, effective January 1, 1998, accounts payable to that supplier will bear interest as follows: o for the subordinated portion, 8-1/2% per annum, retroactive to May 15, 1996. o for the remaining portion, a rate equal to the prime rate of the supplier's bank, as quoted from time to time. Interest expense, included in the results of operations, amounted to $405,595 for 1998. NOTE 10 -- LEASES a) Capital leases As of December 31, 1998, the future minimum payments under capital leases are as follows: TOTAL NET PAYMENTS INTEREST PORTION (1) PAYMENTS ------------ ---------------------- ------------ 1999 ......... $ 159,332 $ 34,647 $ 124,685 2000 ......... 155,082 19,774 135,308 2001 ......... 96,584 4,264 92,320 --------- -------- --------- $ 410,998 $ 58,685 $ 352,313 ========= ======== ========= - ---------- (1) Interest rates range from approximately 9% to approximately 17% per annum. Interest expense, included in the results of operations, amounted to $19,907. F-54 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS- (CONTINUED) NOTE 10 -- LEASES - (CONTINUED) b) Operating leases The Company is obligated under non-cancellable operating leases for office, showroom and warehouse space. The leases, which expire on various dates through November, 2002 provide for minimum annual payments. Additional information about the leases is as follows: o The lease for office space was assumed from an affiliated company as of January 1, 1997 (Note 1). Payments under the lease for office space were guaranteed by an officer/ stockholder of the Company. The lease contained a two-year renewal option which was not exercised. The Company's lease obligation was terminated effective April 19, 1999 (Note 16). o The lease for showroom space provides for contingent rental payments, consisting of a proportionate share of any increases in real estate taxes and operating expenses. o One of the Company's two leases for warehouse space expired during August 1998. The remaining lease contains a five-year renewal option and provides for contingent rentals consisting of a proportionate share of real estate taxes, insurance and operating expenses. b) Operating leases-continued Future minimum lease payments are as follows: OFFICE AND SHOWROOM WAREHOUSE TOTAL SPACE SPACE -------------- ----------- ------------ 1999 ......... $ 327,713 $ 80,616 $ 247,097 2000 ......... 288,897 41,800 247,097 2001 ......... 247,097 -- 247,097 2002 ......... 226,503 -- 226,503 ----------- --------- --------- $ 1,090,210 $ 122,416 $ 967,794 =========== ========= ========= Rent expense, included in the results of operations, amounted to $419,036 and $134,283 for 1998 and 1997, respectively, of which $38,794 and $7,209, respectively consisted of contingent rentals. During 1996, the Company rented office space from an affiliated company (Note 1) on a month-to-month basis and reimbursed the affiliated company for other expenses necessary for the Company's operations. A summary of the reimbursed expenses follows:
RENT OTHER TOTAL ---------- ------------ ------------- For the eight months ended August 31, 1996, as previously reported ............................... $ 9,059 $ 146,214 $ 155,273 For the period from September 1 through December 31, 1996 (a) ............................. 4,055 (134,792) (130,737) -------- ---------- ---------- Total for the year ended December 31, 1996 ......... $ 13,114 $ 11,422 $ 24,536 ======== ========== ==========
- ---------- (a) After giving effect to a credit resulting from a refinement in the way in which expenses are allocated between the Company and the affiliated company. Additionally, the Company makes payments under various short-term leases for equipment. Such payments are not significant to the Company's operations. F-55 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) NOTE 11 - EMPLOYEE BENEFIT PLAN Effective January 1, 1997, the Company assumed the sponsorship, from the affiliated company, of a defined benefit pension plan for all eligible employees. The plan provides for retirement benefits based on employees' length of service and earnings. Pension cost is actuarially determined and annual contributions to the plan are made in amounts that meet the minimum funding standards of the Employee Retirement Income Security Act (ERISA) and the Internal Revenue Code.
PENSION BENEFITS -------------------------------- 1998 1997 -------------- --------------- Change in benefit obligation: Benefit obligation at beginning of year ................ $ 2,290,708 $ 967,290 Service cost ........................................... 429,801 402,653 Interest cost .......................................... 160,350 118,447 Amendments ............................................. -- 1,006,833 Actuarial gain/(loss) .................................. 73,718 (127,377) Benefits paid .......................................... -- (77,138) Benefit obligation at end of year ...................... 2,954,577 2,290,708 Changes in plan assets: Fair value of plan assets at beginning of year ......... 1,229,381 1,227,394 Actual return on plan assets ........................... 13,614 79,125 Employer contributions ................................. 871,000 -- Benefits paid .......................................... -- (77,138) Fair value of plan assets at end of year ............... 2,113,995 1,229,381 Funded status .......................................... (840,582) (1,061,327) Unrecognized actuarial gain ............................ (185,877) (356,793) Unrecognized prior service cost ........................ 469,335 488,891 Unrecognized net obligation ............................ 71,761 75,178 Unrecognized intangible asset .......................... (15,908) (17,066) Net amount recognized .................................. $ (501,271) $ (871,117) =========== ============
The decrease in the pension liability and net periodic cost result from (1) 1997 plan amendments to the benefit formula and (2) a change in plan actuarial assumptions for recognizing the effect of the amendments in 1997. F-56 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS- (CONTINUED) NOTE 11 - EMPLOYEE BENEFIT PLAN - (CONTINUED) Amount recognized in the statement of financial position consist of:
1998 1997 --------------- --------------- Accrued benefit liability ..................... $ (501,271) $ (871,117) Weighted-average assumptions as of December 31: Discount rate ................................ 7.00% 7.00% Expected return on plan assets ............... 7.00 7.00 Rate of compensation increase ................ 4.00 4.00 Components of net periodic cost consist of: Service cost ................................. $ 429,801 $ 402,653 Interest cost ................................ 160,350 118,447 Expected return on plan assets ............... (105,006) (83,481) Amortization of prior service cost ........... 19,556 517,942 Amortization of net obligation ............... 3,417 3,417 Amortization of actuarial gain ............... (5,806) (4,828) Underaccrual of prior service cost ........... (1,041) (83,033) Net periodic cost ............................ $ 501,271 $ 871,117 =========== ===========
The projected benefit obligation, accumulated benefit obligation, and fair value of plan assets were $2,955,000, $ 2,615,000, and $2,114,000 respectively, as of December 31, 1998 and $2,291,000, $2,100,000 and $1,229,000 respectively, as of December 31, 1997. As of December 31, 1998, plan assets consisted primarily of investments in money market and mutual funds and common stocks under discretionary management in accordance with ERISA. NOTE 12 -- PURCHASE ORDERS As of December 31, 1998, the Company is contingently liable on outstanding letters of credit of approximately $4.5 million, against open purchase orders of approximately $13.7 million. NOTE 13 -- LICENSING AGREEMENT The Company's licensing agreement with a certain designer (a) expires on December 31, 2001, or sooner if the Company is unable to achieve certain sales volumes before that date, (b) contains an option that allows the Company to renew the licensing agreement for an additional five years under substantially the same terms, except for varying minimum annual payments as set forth in the licensing agreement, and (c) provides for the payment of the following: a) Specified percentages of annual net sales (as defined in the agreement, as amended) of the designer's products, with minimum annual payments totalling 75% of the prior year's percentage payments, for each of the calendar years from January 1, 1998 through December 31, 2001. Percentage payments, included in the results of operations, amounted to approximately $1,747,000, $778,000 and $37,500 for 1998, 1997 and 1996, respectively, and exceed the minimum annual payments for 1998, 1997 and 1996, respectively. The foregoing includes amounts accrued, but unpaid as of December 31, 1998, 1997, and 1996. b) A specified percentage of annual net sales of the designer's products or an agreed upon amount, to be used for advertising, commencing January 1, 1998. (The amount of such advertising expense, included in the results of operations, amounted to approximately $132,000, $50,000 and $37,500 for 1998, 1997 and 1996, respectively.) c) Reimbursements for certain travel and other expenses incurred by the designer. F-57 WINDSONG, INC. NOTES TO FINANCIAL STATEMENTS -- (CONTINUED) NOTE 14 -- OTHER AGREEMENTS The Company has agreements with (a) an independent sales representative for the payment of commissions on licensed products sold to certain significant customers and (b) a purchasing agent for the payment of commissions on certain products acquired by the Company for resale. Additionally, the Company provides members of management with bonuses that are payable if certain Company goals are attained. The total of such bonuses, included in the results of operations, amounted to approximately $1,578,000, $612,000 and $0 for 1998, 1997 and 1996, respectively. NOTE 15 -- INTEREST EXPENSE, NET Interest expense, net, consists of the following:
1998 1997 1996 -------------- ------------ ----------- Interest on -- Advances from factor, net (Note 3) ..................... $ 1,298,176 $ 367,884 $ 14,908 Accounts payable (Note 9) .............................. 405,595 12,814 -- Obligations under capital lease (Note 10) .............. 19,907 -- -- Other, net ............................................. 300 832 -- 1,723,978 .............................................. 381,530 14,908 Interest income from note receivable officer/stockholder (Note 4) ............................................. (62,573) (64,316) -- Other .................................................. -- -- (971) $ 1,661,405 $ 317,214 $ 13,937 =========== ========= ========
NOTE 16 -- SUBSEQUENT EVENT On April 1, 1999, the Company entered into a non-cancellable lease for office space from a new affiliated company. The lease which expires on April 1, 2009, provides for initial fixed annual gross rental payments of approximately $195,000 per annum, and increases at the rate of 6% per annum during the lease term. The lease payments include the Company's proportionate share of operating expenses and real estate taxes. F-58 WINDSONG, INC. BALANCE SHEETS MARCH 31, 1999 AND DECEMBER 31, 1998
MARCH 31 DECEMBER 31 1999 1998 --------------- --------------- (UNAUDITED) (AUDITED) ASSETS Current assets: Cash and cash equivalents ................................... $ 20,717 $ 126,179 Accounts receivable, net .................................... 8,527,200 5,643,217 Due from affiliates ......................................... 720,136 -- Due from officers ........................................... 166,139 232,162 Inventory ................................................... 9,472,703 6,584,546 Prepaid expenses and other current assets ................... 422,279 497,779 ------------ ------------ Total current assets ..................................... 19,329,174 13,083,883 ------------ ------------ Due from affiliates ............................................ -- 437,429 Property and equipment, net .................................... 597,791 565,902 Other assets ................................................... 71,268 71,268 ------------ ------------ Total assets ............................................. $ 19,998,233 $ 14,158,482 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current portion of obligations under capital leases ......... $ 125,000 $ 124,685 Advances from factor ........................................ 10,707,226 7,301,274 Accounts payable ............................................ 4,985,354 1,873,078 Accounts payable -- subordinated ............................ 1,379,568 -- Accrued expenses ............................................ 854,032 2,270,221 State income taxes payable .................................. 4,551 25,341 ------------ ------------ Total current liabilities ................................ 18,055,731 11,594,599 ------------ ------------ Obligations under capital leases ............................... 186,621 227,628 Deferred rent expense .......................................... -- 8,225 Accounts payable -- subordinated ............................... -- 1,379,568 ------------ ------------ Total liabilities ........................................ 18,242,352 13,210,020 ------------ ------------ Shareholders' equity: Common stock -- no par value --Class A (voting) 1,000 shares authorized 200 shares issued and outstanding .......................... 200 200 --Class B (non-voting) 1,000 shares authorized 800 shares issued and outstanding .......................... 800 800 Contributed capital ......................................... 6,000 6,000 Retained earnings ........................................... 1,748,881 941,462 ------------ ------------ Total shareholders' equity ............................... 1,755,881 948,462 ------------ ------------ Total liabilities and shareholders' equity ............... $ 19,998,233 $ 14,158,482 ============ ============
See accompanying notes. F-59 WINDSONG, INC. STATEMENTS OF INCOME AND RETAINED EARNINGS THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 THREE MONTHS ENDED MARCH 31, --------------------------------- 1999 1998 --------------- --------------- (UNAUDITED) Net sales .................................. $ 14,552,336 $ 17,311,703 Cost of sales .............................. 11,169,978 13,683,331 ------------ ------------ Gross profit ............................... 3,382,358 3,628,372 Selling and distribution expenses .......... 864,247 1,010,437 General and administrative expenses ........ 1,205,933 1,120,800 ------------ ------------ Income from operations ..................... 1,312,178 1,497,135 Interest expense ........................... (334,132) (447,939) Interest income ............................ 263 110 ------------ ------------ Income before provision for income taxes ... 978,309 1,049,306 Provision for income taxes ................. 44,000 47,000 ------------ ------------ Net income ................................. $ 934,309 $ 1,002,306 ============ ============ See accompanying notes F-60 WINDSONG, INC. STATEMENTS OF CASH FLOWS THREE MONTHS ENDED MARCH 31, 1999 AND MARCH 31, 1998 INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
THREE MONTHS ENDED MARCH 31, -------------------------------- 1999 1998 --------------- -------------- (UNAUDITED) OPERATING ACTIVITIES Net income ..................................................... $ 934,309 $ 1,002,306 Adjustments to reconcile net income to net cashprovided by (used in) operating activities: Depreciation and amortization ................................. 40,000 41,152 Changes in operating assets and liabilities: Accounts receivable ........................................ (2,883,983) (7,701,394) Due from affiliates and officers ........................... (343,573) (126,575) Inventory .................................................. (2,888,157) (439,109) Prepaid expenses ........................................... 202,389 (319,892) Accounts payable ........................................... 2,011,409 (805,644) Accrued expenses ........................................... (344,337) (398,718) Advances from factor ....................................... 3,405,952 8,846,243 Other assets ............................................... (9,146) ------------ ------------ Net cash provided by operating activities ................... 134,009 89,223 ------------ ------------ INVESTING ACTIVITIES Purchase of fixed assets ....................................... (71,889) (88,425) Distributions to shareholders .................................. (126,890) ------------ Net cash used in investing activities ....................... (198,779) (88,425) ------------ ------------ FINANCING ACTIVITIES Payments on obligations under capital lease .................... (40,692) ------------ ------------ Net cash used in financing activities ....................... (40,692) -- ------------ ------------ (Decrease) increase in cash and cash equivalents ............... (105,462) 798 Cash and cash equivalents at beginning of period ............... 126,179 700 ------------ ------------ Cash and cash equivalents at end of period ..................... $ 20,717 $ 1,498 ============ ============
See accompanying notes. F-61 WINDSONG, INC. NOTES TO QUARTERLY FINANCIAL STATEMENTS THREE MONTHS ENDED MARCH 31, 1999 1. ORGANIZATION Windsong, Inc. ("Windsong") is engaged in developing, designing and sourcing private-label knit and woven shirts for distribution to a relatively small number of retail customers located throughout the United States. Additionally, Windsong has entered into a long-term licensing agreement with a certain designer to source and distribute knit and woven shirts and sweaters throughout the United States. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of Windsong's management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results of operations for the periods presented have been included. The financial data at December 31, 1998 is derived from audited financial statements and should be read in conjunction with the audited financial statements and notes thereto. Interim results are not necessarily indicative of results for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires Windsong's management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 3. ACCOUNTS RECEIVABLE Accounts receivable consist of the following: MARCH 31, DECEMBER 31, 1999 1998 --------------- --------------- (UNAUDITED) (AUDITED) U.S. trade accounts receivable ........ $ 8,617,200 $ 5,663,217 Allowance for returns and discounts ... (90,000) (20,000) ----------- ----------- $ 8,527,200 $ 5,643,217 =========== =========== Windsong has entered into a factoring arrangement on its accounts receivable. Amounts due (owed) to the factor are $8.5 million and $5.6 million of unmatured accounts receivable assigned to the factor, less $10.7 million and $7.3 million of advances received from the factor, at March 31, 1999 and December 31, 1998 respectively. 4. INVENTORY Inventory consists of the following: MARCH 31, DECEMBER 31, 1999 1998 ------------- ------------- (UNAUDITED) (AUDITED) Raw materials ............................. $ 41,343 $ 85,904 Finished goods shipments-in-transit ....... 2,079,973 1,550,292 Finished goods ............................ 7,351,387 4,948,350 ----------- ----------- $ 9,472,703 $ 6,584,546 =========== =========== F-62 4,000,000 SHARES [LOGO] CLASS A COMMON STOCK JANNEY MONTGOMERY SCOTT INC. FIRST SECURITY VAN KASPER MORGAN SCHIFF & CO., INC. Until , 1999, all dealers that effect transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealers' obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions. , 1999 THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION, DATED JULY 15, 1999 58,333 SHARES CLASS A COMMON STOCK [LOGO] This prospectus relates to the offer and sale, from time to time, of up to 58,333 shares of The Pietrafesa Corporation's Class A Common Stock by a stockholder of The Pietrafesa Corporation. We will not receive any portion of the proceeds from the sale of shares of Class A Common Stock by the selling stockholder. Prior to this offering, there has been no public market for our Class A Common Stock. We have applied for listing of the Class A Common Stock on the Nasdaq National Market under the symbol "BRND." The Class A Common Stock is one of two classes of Common Stock of The Pietrafesa Corporation. Holders of shares of Class A Common Stock will elect 25% of the directors. Holders of shares of Class B Common Stock will elect 75% of the directors and will have the power to decide substantially all other matters submitted to stockholders. The Class B Common Stock is not being offered to the public and is currently held by a private limited partnership. Holders of shares of Class A Common Stock will have limited voting rights until all shares of Class B Common Stock are converted into Class A Common Stock. The selling stockholder advised us that it may sell, directly or through brokers, all or part of the Class A Common Stock offered by this prospectus in negotiated transactions at the market price at the time of the sale. In connection with these sales, the selling stockholder and any participating broker may be deemed to be "underwriters" of the Class A Common Stock within the meaning of the Securities Act of 1933. We expect that usual and customary brokerage fees will be paid by the selling stockholder in all open market transactions. We have informed the selling stockholder that the anti-manipulation provisions of Regulation M under the Securities Exchange Act of 1934 may apply to the sales of its shares offered by this prospectus. We also have advised the selling stockholder that it must deliver a prospectus to the purchaser in connection with any sale of the shares offered by this prospectus. INVESTING IN THE CLASS A COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" BEGINNING ON PAGE 14. THE SECURITIES AND EXCHANGE COMMISSION AND STATE SECURITIES REGULATORS HAVE NOT APPROVED OR DISAPPROVED THESE SECURITIES, OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. Prospectus dated , 1999 ALT-COVER TABLE OF CONTENTS PAGE ----- Prospectus Summary ..................................................... 5 Risk Factors ........................................................... 14 Forward Looking Statements ............................................. 21 Capitalization ......................................................... 23 Dividend Policy ........................................................ 24 Selected Historical Consolidated Financial Data ........................ 26 Pro Forma Combined Financial Data ...................................... 29 Management's Discussion and Analysis of Financial Condition and Results of Operations .................................................. 38 Business ............................................................... 52 Management ............................................................. 63 Certain Relationships and Related Transactions ......................... 67 Principal Stockholders ................................................. 69 Selling Stockholder .................................................... 70 Description of Capital Stock ........................................... 71 Shares Eligible for Future Sale ........................................ 74 Plan of Distribution by Selling Stockholder ............................ 75 Legal Matters .......................................................... 75 Experts ................................................................ 75 Additional Information ................................................. 76 Index to Financial Statements .......................................... F-1 ------------------------------ You should rely only on the information contained in this prospectus. No dealer, salesperson or other person is authorized to give information that is not contained in this prospectus. This prospectus is not an offer to sell nor is it seeking an offer to buy these securities in any jurisdiction where the offer or sale is not permitted. The information contained in this prospectus is correct only as of the date of this prospectus, regardless of the time of the delivery of this prospectus or any sale of these securities. Our logo and name are trademarks of The Pietrafesa Corporation. Other trademarks, trade names or service marks appearing in this prospectus are the property of their respective owners. ALT-T/C [This page intentionally left blank] ALT-8 the right to elect 25% of our directors, until all shares of Class B Common Stock are converted into shares of Class A Common Stock or otherwise cease to be outstanding. As a result, Mr. Cohen will control the outcome of substantially all matters submitted to a vote of our stockholders. See "Description of Capital Stock." THE INTERESTS OF OUR CONTROLLING STOCKHOLDER MAY CONFLICT WITH THE INTERESTS OF THE HOLDERS OF OUR CLASS A COMMON STOCK The interests of Mr. Cohen may conflict with the interests of holders of Class A Common Stock. The concentration of voting power described above may make us an unattractive takeover target and may discourage acquisition proposals, even if such proposals are supported by holders of Class A Common Stock. In addition, Mr. Cohen's voting power permits him to implement policies not favored by, or in the best interests of, the holders of the Class A Common Stock. In addition, as long as any Class B Common Stock is outstanding, Mr. Cohen will be able to transfer voting control to a third party at a premium that will not be enjoyed by holders of the Class A Common Stock. Voting power will, in all likelihood, continue to be concentrated following conversion of all of the outstanding shares of Class B Common Stock, since MS Pietrafesa, L.P. would own approximately 46.6% of the outstanding shares of Class A Common Stock following the full conversion. FAILURE TO COMPLY WITH SIGNIFICANT COVENANT RESTRICTIONS IN OUR AGREEMENTS WITH OUR LENDERS COULD RESULT IN ACCELERATION OF OUR REPAYMENT OBLIGATIONS We may incur substantial additional indebtedness to fund our growth strategy. Incurring substantial additional indebtedness would reduce our financial flexibility and expose us to additional risks, including greater vulnerability to economic downturns and competitive pressures. Our agreements with our lenders contain significant operating and financial restrictions. Our current credit agreements and other loan documents contain restrictive covenants, including restrictions on incurrence of debt, dividend payments, sales of assets, acquisitions and other business combinations, transactions with affiliates, liens and investments. If we fail to comply with existing or future debt covenants, we could default under these agreements. If a default were to occur, the lender under such agreement could accelerate our repayment of the indebtedness evidenced by that agreement. Acceleration of our repayment obligations may also be required under any other agreements then in effect containing cross-acceleration or cross-default provisions. Any acceleration of our outstanding indebtedness could result in foreclosure against our operating and working capital assets, the termination of our license or other agreements and our bankruptcy. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." THE MARKET PRICE OF OUR CLASS A COMMON STOCK COULD BE ADVERSELY AFFECTED BY FUTURE SALES OF SUBSTANTIAL AMOUNTS OF SHARES IN THE PUBLIC MARKET There will be an aggregate of 4,333,333 shares of Class A Common Stock outstanding immediately after the offering, which amount could increase by up to 600,000 shares if our underwriters exercise their over-allotment option. Of these shares, the shares of Class A Common Stock sold in our initial public offering and the 58,333 shares of Class A Common Stock sold in this offering will be freely tradable under the Securities Act of 1933. The balance of the shares of Class A Common Stock issued to Windsong, Inc. in connection with the Windsong acquisition and the up to 3,775,667 shares of Class A Common Stock to be issued upon conversion of the 3,775,667 outstanding shares of Class B Common Stock will be "restricted securities" and may, in the future, be sold in compliance with Rule 144 under the Securities Act, subject, in the case of the shares issued to Windsong, Inc., to the resale restrictions in the Windsong acquisition agreement. See "Shares Eligible for Future Sale." The sale or availability for sale of a large number of shares in the market after the offering could cause a decline in the market price of the Class A Common Stock. This could make it more difficult for us to raise funds through future offerings of our stock. ALT-20 ABSENCE OF CURRENT PUBLIC MARKET, DETERMINATION OF PUBLIC OFFERING PRICE AND MARKET UNCERTAINTY MAY CAUSE THE MARKET PRICE OF THE CLASS A COMMON STOCK TO FLUCTUATE There has not been a public market for the Class A Common Stock. We have applied for listing of the Class A Common Stock on the Nasdaq National Market. We do not know the extent to which investor interest in our stock will cause an active trading market to develop or be sustained, or how liquid that market might be. The market price for the Class A Common Stock could also fluctuate in response to various factors and events, including liquidity of the market for our shares, quarter-to-quarter variations in our results of operations and our significant developments and of other industry participants, pricing and competition in our industry, broad market fluctuations and economic and political conditions not directly related to our business. The initial public offering price of the Class A Common Stock will be determined by negotiation between us and representatives of the underwriters. Investors may not be able to resell their shares at or above the price that they pay in the initial public offering. PURCHASERS WILL BE SUBJECT TO POTENTIAL FUTURE DILUTION Issuances of Class A Common Stock pursuant to the exercise of stock options or warrants that we may issue from time to time, or as payment of the deferred purchase price in connection with the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, could cause further dilution in the net tangible book value per share of the Class A Common Stock. FORWARD-LOOKING STATEMENTS An investment in the Class A Common Stock offered hereby is speculative in nature and involves a high degree of risk. Some statements made in this prospectus under the captions "Prospectus Summary," "Risk Factors," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Business" and elsewhere in this prospectus are forward-looking statements. Forward-looking statements are identified by use of terms such as "may," "will," "expect," "anticipate," "believe," "estimate," "intend," "plan" and similar expressions, although some forward-looking statements are expressed differently. Although we believe these statements are reasonable, there are important risks and uncertainties, including those discussed in the "Risk Factors" section above, that could cause actual results to differ materially from those expressed or implied by such forward-looking statements, including changes in general economic and business conditions, actions of competitors, changes in our business strategies and the factors set forth under the captions "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business." ALT-21 [This page intentionally left blank] ALT-22 CAPITALIZATION The following table sets forth as of March 31, 1999: (1) our actual capitalization, giving retroactive effect to the issuances of Class B Common Stock to our sole stockholder which have occurred or will occur prior to the completion of the offering; (2) our pro forma combined capitalization after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, including the issuance of 333,333 shares of Class A Common Stock to Windsong, based on an assumed initial offering price of $12.00 per share, as part of our acquisition of Windsong; and (3) our pro forma combined capitalization, as adjusted to give effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, our sale of 4,000,000 shares of Class A Common Stock pursuant to our initial public offering, assuming an initial public offering price of $12.00 per share, and the application of the net proceeds of such offering. Our pro forma combined capitalization, as adjusted, set forth below, excludes shares of Class A Common Stock which may be issued as deferred purchase price under the terms of the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions. This table should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Pro Forma Combined Financial Data" and the audited financial statements and the notes thereto included elsewhere in this prospectus.
AS OF MARCH 31, 1999 ------------------------------------------------ PRO FORMA COMBINED, ACTUAL PRO FORMA COMBINED AS ADJUSTED ---------- -------------------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Long term debt, net of current maturities .............. $13,054 $16,969 $ 5,914 Stockholders' equity: Class A Common Stock, par value $.001 per share; 12,000,000 shares authorized, no shares issued and outstanding, 333,333 shares issued and outstanding pro forma combined and 4,333,333 shares issued and outstanding pro forma combined, as adjusted ......... -- -- 4 Class B Common Stock, par value $.0002 per share; 10,000,000 shares authorized, 3,775,667 shares issued and outstanding actual, pro forma combined and pro forma combined, as adjusted ......................... -- -- -- Additional paid-in capital ............................. 3,191 7,191 50,387 Retained earnings ...................................... 282 282 282 ------- ------- ------- Total stockholders' equity ........................... 3,473 7,473 50,673 ------- ------- ------- Total capitalization ................................... $16,527 $24,442 $56,587 ======= ======= =======
ALT-23 DIVIDEND POLICY We have not declared or paid any cash or other dividends on our capital stock and we do not expect to pay dividends for the foreseeable future. We anticipate that all of our earnings in the foreseeable future will be used for the operation of our business, to support our growth strategy and to reduce our indebtedness. Any future determination to pay dividends will be at the discretion of our Board of Directors and will depend upon, among other factors, our results of operations, financial condition and capital requirements. In addition, our existing credit facility with PNC Bank, National Association, and other loan agreements contain, and any successor facility will likely contain, prohibitions on our ability to pay dividends. Please refer to the "Certain Relationships and Related Transactions" section of this prospectus, however, for a description of tax-related distributions required to be made by MS Pietrafesa, L.P. to its partners under its partnership agreement. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Liquidity and Capital Resources." ALT-24 [This page intentionally left blank] ALT-25 PRO FORMA COMBINED FINANCIAL DATA Our pro forma combined financial data includes our statement of operations data which reflects our historical results after giving effect to the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as if they occurred on January 1, 1998, and also includes our balance sheet data, which reflects our balance sheet and the balance sheets of Diversified Apparel, Global Sourcing Network, Components and Windsong as if the acquisitions of such businesses had occurred on March 31, 1999. The acquisitions of Diversified Apparel and Global Sourcing Network were consummated on April 15, 1999. We have entered into definitive agreements to purchase the Components and Windsong businesses. Our acquisition of Components and Windsong occurred simultaneously with our initial public offering. The pro forma combined, as adjusted financial data includes our pro forma combined information as adjusted for our initial public offering and the application of the proceeds of that offering. The pro forma combined financial data are based upon preliminary estimates, available information and assumptions that management deems appropriate, but are not necessarily indicative of the results that would have been obtained had such events occurred at the times assumed or our future results. The pro forma combined financial statements should be read in conjunction with the other financial statements and notes thereto included elsewhere in this prospectus. The acquisitions have been recorded in the pro forma financial statements as a purchase in accordance with Accounting Principle Board Opinion No. 16. Accordingly, the purchase price of each acquisition has been allocated to the fair value of the assets acquired and the amount of the liabilities assumed, with the remainder allocated to goodwill. No other intangible assets were acquired as part of the acquisitions. The initial purchase price of Components will be paid entirely in cash. The initial purchase prices of Global Sourcing Network and Diversified Apparel were paid in cash and by the issuance of notes. The initial purchase price of Windsong will be paid in cash and $4.0 million worth of Class A Common Stock valued at the initial public offering price, assumed to be $12.00 per share, or 333,333 shares. A summary of the purchase price of the acquisitions and allocation of each such price to the fair value of assets acquired and liabilities assumed is shown below: SCHEDULE OF ALLOCATION OF PURCHASE PRICE OF ACQUISITIONS
GLOBAL DIVERSIFIED SOURCING TOTAL APPAREL NETWORK COMPONENTS WINDSONG COMBINED ------------- ------------ ------------ ------------- ------------- (IN THOUSANDS) PURCHASE PRICE: Cash portion ............................... $ 800 $ 1,400 $ 4,695 $ 22,000 $ 28,895 Equity portion ............................. -- -- -- 4,000 4,000 Sellers' notes ............................. 400 800 -- -- 1,200 Costs directly associated with the acquisition ............................... 350 350 350 400 1,450 --------- -------- -------- --------- --------- Total purchase price ....................... $ 1,550 $ 2,550 $ 5,045 $ 26,400 $ 35,545 ALLOCATION OF PURCHASE PRICE: Fair value of assets acquired .............. $ (2,457) $ (1,171) $ (8,660) $ (19,998) $ (32,286) Assumption of liabilities .................. $ 1,955 $ 1,121 $ 6,021 $ 16,862 $ 25,959 --------- -------- -------- --------- --------- Goodwill acquired .......................... $ 1,048 $ 2,500 $ 2,406 $ 23,264 $ 29,218 ========= ======== ======== ========= ========= Pro forma amortization expense ............. $ 105 $ 167 $ 160 $ 1,163 $ 1,595 ========= ======== ======== ========= ========= Pro forma amortization for quarter ......... $ 26 $ 42 $ 40 $ 291 $ 399 ========= ======== ======== ========= =========
ALT-29 and the initial portion of the Windsong acquisition price, 3,775,667 shares of Class B Common Stock owned by our sole stockholder as of the date of the offering. The balance sheet data reflects the following pro forma adjustments: o Goodwill as a result of the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions as calculated in the table above entitled, "Schedule of Allocation of Purchase Price of Acquisitions"; o Deposit of $4.25 million cash in escrow which will be paid to the sellers of Windsong if Windsong achieves specified earnings targets during 1999; o Elimination of certain liabilities that are not being assumed as part of the acquisition of Windsong; o For purposes of the acquisition pro forma adjustments, we have assumed an acquisitions payable amount, which represents the initial purchase price owed for the Components and Windsong acquisitions and the Windsong escrow amount. No interest expense has been provided for the Windsong and Components acquisitions as those acquisitions will be funded by the proceeds of our initial public offering; o Elimination of common stock and retained earnings of the acquisitions; o Elimination of the additional paid-in capital of the acquisitions; o Issuance of $4.0 million worth of Class A Common Stock associated with the acquisition of Windsong at an assumed price of $12.00 per share; o Assumed net proceeds of approximately $43.2 million from our initial public offering; and o Our use of the net proceeds of our initial public offering. In addition to the adjustments included in the pro forma combined financial data, our acquisition and integration of the acquired businesses may affect their operations in other ways. We expect the acquired businesses to be able to use our existing merchandising, sourcing, sales and accounting staff to perform certain functions performed for the acquired businesses historically by third party consultants. For example, as a condition to our acquisition of Global Sourcing Network, it agreed to stop paying royalties and commissions to third party consultants who assisted in the development, merchandising and international sourcing of apparel programs for S&K Famous Brands. These terminated commissions and royalties totaled $870,000 in 1998. We expect that our existing staff will perform these services for Global Sourcing Network at no additional cost to us and without any loss of revenues. We also expect to incur additional costs associated with being a public company which are estimated to be $300,000 per year. ALT-31 We lease a retail store facility in Syracuse, New York from Robert D. Pietrafesa and Richard C. Pietrafesa, uncle and father, respectively, of our President and Chief Executive Officer, under a 10-year lease expiring in 2007 requiring rental payments totaling $145,000 per year. A portion of this retail store facility is subleased to a third party. The sublease will expire in 2000 and provides minimum rental income of $30,000 per year. We source customer orders, including a substantial volume of the aggregate orders for Jos.A.Bank, with an affiliate, SourceOne. SourceOne is owned by the General Partner. SourceOne operates two manufacturing facilities in Baltimore, Maryland of 54,000 and 125,000 square feet. SourceOne leases, directly and through a sublease, these facilities from Jos.A.Bank. All production performed for us by SourceOne is performed on a "cost" basis, without mark-up. None of our employees receive compensation from SourceOne. Morgan Schiff, an affiliate of the General Partner, provides financial advisory and strategic consulting services to us under an agreement requiring monthly retainer payments of $25,000. The agreement also requires us to pay specified fees to Morgan Schiff when we consummate various acquisitions, capital raising and financing transactions. The agreement may be terminated annually by either party upon 30 days notice. Morgan Schiff has waived all retainer payments otherwise payable to it for financial advisory services for 1996, 1997, 1998 and 1999, as well as all fees associated with the Diversified Apparel, Global Sourcing Network, Components and Windsong acquisitions, the PNC Bank credit facility and this offering. No such services were provided to us by Morgan Schiff during those periods and in respect of those transactions, other than investment banking and financial analyst services for which Morgan Schiff was paid, and we received no benefit under the agreement during those periods. Our agreement with Morgan Schiff does not compel Morgan Schiff to provide any actual services in return for the $25,000 monthly retainer payment. However, it was in our interest to enter into the agreement at the time of our acquisition by MS Pietrafesa, L.P., an affiliate of Morgan Schiff, because it was anticipated that we would be financially successful and that Morgan Schiff would provide meaningful services in the form of merger and acquisition advice and assistance in private capital raising activities and that the cost of those services would be less than or equal to the cost of procuring those services from an unaffiliated third party. However, after we were acquired in the early 1990s, our revenues increased rapidly, but our profitability declined. As a result, during the period from 1995 through 1997, we divested our non-core manufacturing assets, refinanced our secured lending arrangements and negotiated the forgiveness of our subordinated indebtedness. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview." Financial analysis related to these transactions was provided by our financial management and consultants and not by Morgan Schiff. In April 1998, MS Pietrafesa, L.P. made a distribution of $207,000 to its partners in accordance with its Amended and Restated Agreement of Limited Partnership dated January 1, 1996, for the payment of income taxes incurred by such partners on the portion of partnership income attributable to their respective interests during 1997. In May 1999, we paid $1.5 million to MS Pietrafesa, L.P. from amounts borrowed under the PNC Bank credit facility to cover the tax distribution to be made by MS Pietrafesa, L.P. to its partners in accordance with its Partnership Agreement for the payment of income taxes incurred by such partners on the portion of partnership income attributable to their respective interests during the period from January 1, 1998 through September 30, 1998. A portion of the net proceeds of the offering will be applied toward the repayment of the PNC Bank credit facility. We reimburse, on a per-flight basis, operating expenses of an aircraft owned by Twins Aviation, Inc., a corporation owned by our President and Chief Executive Officer. We use this aircraft on a regularly scheduled, weekly basis to fly staff to production meetings in New York City, as well as for customer and contractor visits. Such reimbursements amounted to $225,000 for the year ended December 31, 1996, $223,000 for the year ended December 31, 1997 and $454,000 for the year ended December 31, 1998. We believe that each of the affiliate transactions described above are on terms no less favorable than would be generally available to us from unaffiliated third parties. After the closing of the offering, all related party transactions will be approved by our independent, disinterested directors. See also "Management" and "Principal Stockholders." ALT-68 PRINCIPAL STOCKHOLDERS The table below sets forth information as of June 30, 1999 regarding the beneficial ownership of Class A Common Stock and Class B Common Stock, as well as the percentage ownership of our Class A Common Stock and Class B Common Stock. Shares of Class B Common Stock are convertible into Class A Common Stock on a one-for-one basis, as described under "Description of Capital Stock." Percentage ownership numbers are based on shares of Class A Common Stock and shares of Class B Common Stock outstanding immediately following our initial public offering and, in the case of Class B Common Stock, immediately prior to that offering. Although shares of Class B Common Stock may be converted into shares of Class A Common Stock at any time, the table below does not reflect the shares of Class A Common Stock issuable to holders of Class B Common Stock upon conversion as being beneficially owned by those holders. Information is provided as to each of our directors, the executive officers named in the Summary Compensation Table under "Management -- Compensation of Executive Officers," each person we know to own beneficially more than 5% of the outstanding shares of Class A Common Stock or Class B Common Stock and all of our directors and executive officers as a group. Except as described below, the persons named in the table have sole voting and investment power with respect to all shares of Common Stock shown as beneficially owned by them. MS Pietrafesa Acquisition Corporation is the general partner of MS Pietrafesa, L.P. and has the sole right to vote the shares of Class B Common Stock owned by MS Pietrafesa, L.P. and to direct the disposition of such shares. Philip Ean Cohen is the sole stockholder of MS Pietrafesa Acquisition Corporation. See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." MSJP, L.P. and RJP Investments Assoc., L.P. indirectly own shares of Class B Common Stock through their respective ownership of limited partnership interests in MS Pietrafesa, L.P. Neither MSJP nor RJP has any right to vote or to direct the disposition of their respective shares. Shares of Class B Common Stock indicated below as beneficially owned by MSJP and RJP exclude additional shares of Class B Common Stock that MSJP and RJP are entitled to receive pursuant to MS Pietrafesa, L.P.'s Partnership Agreement. See "Certain Relationship and Related Transactions." Shares of Class B Common Stock indicated below as beneficially owned by Sterling B. Brinkley, Jr. and Thomas A. Minkstein are owned indirectly through their ownership of limited partnership interests in MSJP, L.P. Such individuals have no right to vote or to direct the disposition of these shares. Shares of Class B Common Stock indicated below as beneficially owned by Richard C. Pietrafesa, Jr. and Joseph J. Pietrafesa II are owned indirectly through their ownership of limited partnership interests in MSJP, L.P. and RJP Investments Assoc., L.P. Such individuals have no right to vote or to direct the disposition of these shares.
SHARES OF CLASS A SHARES OF CLASS B PERCENTAGE OF COMMON STOCK COMMON STOCK CLASS A AND ----------------------- -------------------------- CLASS B BENEFICIAL OWNER NUMBER PERCENTAGE NUMBER PERCENTAGE COMMON STOCK - ----------------------------------------------- -------- ------------ ----------- ------------ -------------- MS Pietrafesa, L.P. ........................... -- -- 3,775,667 100.0% 46.6% MSJP, L.P. .................................... -- -- 3,151,549 83.5% 38.9% MS Pietrafesa Acquisition Corporation ......... -- -- 3,775,667 100.0% 46.6% Phillip Ean Cohen ............................. -- -- 3,775,667 100.0% 46.6% 350 Park Avenue, 8th Floor New York, NY 10022 Richard C. Pietrafesa, Jr. .................... -- -- 504,683 13.4% 6.2% Thomas A. Minkstein ........................... -- -- 94,231 2.5% 1.2% David McDonough ............................... -- -- -- -- --
ALT-69
SHARES OF CLASS A SHARES OF CLASS B PERCENTAGE OF COMMON STOCK COMMON STOCK CLASS A AND ------------------------- ------------------------ CLASS B BENEFICIAL OWNER NUMBER PERCENTAGE NUMBER PERCENTAGE COMMON STOCK - ----------------------------------------- ---------- ------------ --------- ------------ --------------- RJP Investments Assoc., L.P. ............ -- -- 586,361 15.5% 7.2% 7400 Morgan Road Liverpool, NY 13090 Sterling B. Brinkley, Jr. ............... -- -- 245,077 6.5% 3.0% 350 Park Avenue, 8th Floor New York, NY 10022 Mark C. Pickup .......................... -- -- -- -- -- 6734 Corte Segunda Martinez, CA 94553 Robert J. Bennett ....................... -- -- -- -- -- M&T Bank Corp. 101 South Salina Street Syracuse, NY 13202 Paul M. McNicol ......................... -- -- 47,131 1.3% * 305 Oakley Court Mill Neck, NY 11765 Ross W. Stefano ......................... -- -- -- -- -- 30 The Orchard Fayetteville, NY 13066 Windsong, Inc. .......................... 333,333 7.7% -- -- 4.1% 1599 Post Road East Westport, CT 06880 All executive officers and directors as a group (eight persons) .................. -- -- 891,122 23.6% 11.0%
- ---------- * Represents less than 1.0%. SELLING STOCKHOLDER The following table contains information concerning Windsong, Inc., on behalf of which shares of Class A Common Stock are being registered for sale on a continuous basis.
PERCENTAGE OF CLASS A AND CLASS B SHARES OWNED AMOUNT TO SHARES OWNED PERCENTAGE OF CLASS A OWNED AFTER PRIOR TO OFFERING BE OFFERED AFTER OFFERING OWNED AFTER OFFERING OFFERING - ------------------- ------------ ---------------- ----------------------- ---------------------- 333,333 58,333 275,000 6.3% 3.4%
ALT-70 o approving conflict of interest transactions involving our affiliates which are approved by our disinterested directors. The holders of the outstanding shares of Class A Common Stock will be entitled, however, to vote as a class upon any proposed amendment to our Certificate of Incorporation which would increase or decrease the par value of the shares of Class A Common Stock, or alter or change the powers, preferences or special rights of the shares of the Class A Common Stock so as to affect them adversely. See "Risk Factors -- The Interests of our Controlling Stockholder may Conflict with the Interests of the Holders of our Class A Common Stock." All of the shares of the Class B Common Stock are owned by MS Pietrafesa, L.P. and can be voted by the General Partner, which is wholly-owned by Mr. Cohen. See "Principal Stockholders." CONVERSION RIGHTS. At the option of any holder of shares of Class B Common Stock, such holder may, at any time and from time to time, convert all or part of such holder's shares of Class B Common Stock into an equal number of shares of Class A Common Stock. The shares of Class B Common Stock are also subject to mandatory conversion into an equal number of shares of Class A Common Stock, in whole or in part, at any time and from time to time, at the option of the holder or holders of a majority of the outstanding shares of Class B Common Stock. If, and only if, all the outstanding shares of Class B Common Stock converted into Class A Common Stock or are otherwise no longer outstanding, the holders of the Class A Common Stock will have general voting power in the election of all members of the Board and in all other matters upon which our stockholders are entitled to vote. Holders of shares of Class A Common Stock have no right to convert Class A Common Stock into any of our other securities. PREFERRED STOCK Our Certificate of Incorporation authorizes 5,000,000 shares of Preferred Stock. Upon the affirmative vote or the written consent of the holders of a majority of the outstanding shares of Class B Common Stock, shares of Preferred Stock may be issued in one or more series. Each such series will have such distinctive designation as stated in resolutions adopted by the Board. Authority is expressly vested in the Board to fix the rights, preferences, privileges and restrictions thereof, including dividend rights, conversion rights, voting rights, terms of redemption, redemption prices, liquidation preferences and the number of shares constituting any series of the designation of such series, without further vote or action by the stockholders. The Preferred Stock may be granted voting powers provided, however that (1) so long as any Class B Common Stock is outstanding, the holders of the Class B Common Stock will always have the absolute right to elect a majority of the Board and (2) if voting powers are granted, the holders of shares of Preferred Stock will be entitled to vote together with the holders of the Class A Common Stock as a class on all matters on which holders of Class A Common Stock are entitled to vote. At present, we have no plans to issue any shares of the Preferred Stock. INDEMNIFICATION AND LIMITATION OF LIABILITY Our Certificate of Incorporation limits the liability of directors to the maximum extent permitted by Delaware law as currently or hereafter in effect. Delaware law provides that directors of a corporation will not be personally liable for monetary damages for breach of their fiduciary duty as a director, except for liability (1) for breach of their duty of loyalty to the corporation or its stockholders; (2) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; (3) for unlawful payments of dividends or unlawful stock repurchases or redemptions as provided in Section 174 of the General Corporation Law of the State of Delaware (the "DGCL"); or (4) for any transaction from which the director derives an improper personal benefit. Our Certificate of Incorporation provides for the mandatory indemnification of, and advancement of expenses to our directors and officers. ALT-72 SHARES ELIGIBLE FOR FUTURE SALE Upon completion of our initial public offering, we will have a total of 4,333,333 shares of Class A Common Stock, 4,933,333 if the Underwriters' over-allotment option is exercised in full, and 3,775,667 shares of Class B Common Stock outstanding. All shares of Class A Common Stock sold in the offering and, after the expiration of the 180 day lock-up period, described below, the 58,333 shares of Class A Common Stock sold in this offering will be freely tradable under the Securities Act unless they are purchased or held by "affiliates" of ours as defined in Rule 144. The balance of the shares of Class A Common Stock issued to Windsong, Inc. in connection with the Windsong acquisition will be "restricted securities" within the meaning of Rule 144 under the Securities Act and may, after the expiration of the 180 day lock-up period, be sold in compliance with Rule 144 under the Securities Act, subject to additional resale restrictions under the Windsong acquisition agreement. In addition, all shares of Class B Common Stock and the 3,775,667 shares of Class A Common Stock issuable upon conversion thereof, all of which are subject to the 180 day lock-up period, will be "restricted" securities within the meaning of Rule 144 under the Securities Act and may not be sold in the absence of registration under the Securities Act unless an exemption from registration is available, including the exemption provided by Rule 144. In general, under Rule 144 as currently in effect, beginning 90 days after the date of this prospectus, a person, or persons whose shares are aggregated, who has beneficially owned "restricted" shares for at least one year, including a person who may be deemed our affiliate, is entitled to sell within any three-month period a number of shares of Class A Common Stock that does not exceed the greater of 1% of the then-outstanding shares of our Class A Common Stock or the average weekly trading volume of the Class A Common Stock on the Nasdaq National Market during the four calendar weeks preceding such sale. Sales under Rule 144 are subject to restrictions relating to manner of sale, notice and the availability of current public information about us. A person who is not our affiliate and has not been such at any time during the 90 days preceding a sale, and who has beneficially owned "restricted" shares for at least two years, would be entitled to sell such shares immediately following the offering without regard to the volume limitations, manner of sale provisions or notice or other requirements of Rule 144 of the Securities Act. However, the transfer agent, American Stock Transfer & Trust Company, may require an opinion of counsel that a proposed sale of "restricted" shares comes within the terms of Rule 144 of the Securities Act prior to effecting a transfer of such shares. Such opinion would be provided by and at the cost of the transferor. Our officers and directors and certain other stockholders, including the principal officers of Diversified Apparel, Global Sourcing Network, Components and Windsong, have agreed, pursuant to the underwriting agreement and lock-up agreement, that they will not sell any shares of our capital stock owned by them, either publicly or privately, without the prior consent of Janney Montgomery Scott Inc., as representative of the underwriters, for a period of 180 days from the date of this prospectus. MS Pietrafesa, L.P. has offered its limited partners the right to withdraw from the partnership under its Partnership Agreement and receive a distribution of Class A Common Stock. Such right to withdraw may be exercised by a limited partner at any time between the consummation of the offering and 14 days before the expiration of the lock-up period. The withdrawal will be effective at the end of the month in which the lock-up period expires. The shares acquired through a limited partner's withdrawal will be subject to the resale limitations under Rule 144. Limited partners electing to withdraw from MS Pietrafesa, L.P. will generally be deemed to have held the shares of Class A Common Stock distributed to them from the date they acquired their partnership interest. Accordingly, original investors in MS Pietrafesa, L.P. will be entitled to sell such shares pursuant to Rule 144 immediately upon distribution of such shares from MS Pietrafesa, L.P., subject to volume, manner of sale and other limitations. Prior to the offering, there has been no public market for either class of our Common Stock and no predictions can be made of the effect, if any, that the sale or availability for sale of additional shares of our Common Stock or our other securities, or the development of a public trading market for the Class B Common Stock, will have on the market price of the Class A Common Stock. Nevertheless, sales of substantial amounts of shares of Class A Common Stock in the public market, the perception that such sales could occur, the ALT-74 development of a public trading market for the Class B Common Stock or the issuance of other securities, could adversely affect the market price of the Class A Common Stock and could impair our future ability to raise capital through an offering of our equity securities. PLAN OF DISTRIBUTION OF SELLING STOCKHOLDER The selling stockholder may, but is not required to, sell, directly or through brokers, its shares of Class A Common Stock in negotiated transactions or in one or more transactions in the market at the price prevailing at the time of sale, subject to lock-up provisions contained in the Windsong acquisition agreement and subject to a lock-up agreement with the underwriters. Under the Windsong acquisition agreement the selling stockholder is subject to a staggered lock-up for a period of 30 months following the closing of the Windsong acquisition. The selling stockholder and any broker-dealers that participate in the sale of the Class A Common Stock may be deemed to be "underwriters" of the selling stockholder's shares of Class A Common Stock within the meaning of the Securities Act. It is anticipated that usual and customary brokerage fees will be paid by the selling stockholder in all open market transactions. We will not receive any of the proceeds from the sale of any Class A Common Stock sold by the selling stockholder. We will bear all costs and expenses of the registration under the Securities Act of the Class A Common Stock exclusive of any discounts or commissions payable with respect to sales of such securities. The selling stockholder may agree to indemnify any agent, dealer or broker-dealer that participates in transactions involving sales of the selling stockholder's Class A Common Stock against certain liabilities, including liabilities arising under the Securities Act. At the time an offer for Class A Common Stock owned by the selling stockholder is made by or on behalf of the selling stockholder, to the extent required, a prospectus will be distributed by the selling stockholder which will set forth the number of shares of Class A Common Stock being offered by the selling stockholder and the terms on which shares of Class A Common Stock are offered by the selling stockholder. Except for its entry into the Windsong acquisition agreement, the selling stockholder has not had any material relationship with us or any of our affiliates within the past three years. We will inform the selling stockholder that the anti-manipulation provisions of Regulation M under the Exchange Act may apply to the sales of the shares of Class A Common Stock being registered by the selling stockholder. We will advise the selling stockholder of the requirement for delivery of this prospectus in connection with any sale of the Class A Common Stock offered by the selling stockholder. LEGAL MATTERS The validity of the Class A Common Stock offered hereby will be passed upon by Roberts, Sheridan & Kotel, a Professional Corporation, which firm provides legal services from time to time for Morgan Schiff and its affiliates. EXPERTS The Consolidated Financial Statements and schedule of The Pietrafesa Corporation at December 31, 1997 and 1998, and for each of the three years in the period ended December 31, 1998, appearing in this prospectus and the registration statement have been audited by Ernst & Young LLP, independent auditors, as set forth in their reports thereon appearing elsewhere herein, and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. The Financial Statements of Components at December 31, 1997 and 1998, and for each of the two years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Lawrence B. Goodman & Co., P.A., independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon such report given upon their authority of such firm as experts in accounting and auditing. ALT-75 The Financial Statements of Global Sourcing Network at December 31, 1997 and 1998, and for each of the two years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Pasquale & Bowers, LLP, independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon the reports of such firm, given upon their authority as experts in accounting and auditing. The Financial Statements of Windsong at December 31, 1997 and 1998, and for each of the three years in the period ended December 31, 1998 included elsewhere in this prospectus and the related financial statement schedules included elsewhere in the registration statement have been audited by Weissbarth, Altman & Michaelson LLP, independent auditors, as stated in their reports appearing herein and elsewhere in the Registration Statement, and are included in reliance upon the reports of such firm, given upon their authority as experts in accounting and auditing. ADDITIONAL INFORMATION We have filed with the Commission a Registration Statement on Form S-1, including all amendments, exhibits, annexes and schedules thereto, pursuant to the Securities Act, and the rules and regulations promulgated thereunder, with respect to the Class A Common Stock being offered in the offering. This Prospectus does not contain all the information set forth in the Registration Statement. For further information with respect to The Pietrafesa Corporation and the securities offered hereby, reference is made to the Registration Statement. Statements made in this prospectus as to the contents of any contract, agreement or other document referred to are not necessarily complete. With respect to each such contract, agreement or other document filed as an exhibit to the Registration Statement, reference is made to the exhibit for a more complete description of the document or matter involved, and each such statement shall be deemed qualified in its entirety by such reference. The Registration Statement, may be inspected, without charge, and copies may be obtained, at prescribed rates, at the public reference facilities of the Commission maintained at Judiciary Plaza, 450 Fifth Street, N.W., Room 1024, Washington, D.C. 20549. Copies of the Registration Statement may also be inspected, without charge, at the Commission's regional office at Seven World Trade Center, Suite 1300, New York, New York 10048 and Citicorp Center, 500 West Madison Street, Chicago, Illinois 60661. In addition, copies of the Registration Statement may be obtained by mail at prescribed rates, from the Commission's Public Reference Section at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The Commission maintains a Web site at www.sec.gov that contains reports, proxy and information statements and other information regarding registrants that file electronically with the Commission. Upon completion of the offering, we will become subject to the informational requirements of the Exchange Act, and in accordance therewith will be required to file periodic reports and other information with the Commission. Such periodic reports, proxy statements and other information will be available for inspection and copying at the public reference facilities, regional offices and Web site referred to above. We intend to furnish our stockholders with annual reports containing consolidated financial statements audited by independent certified public accountants. ALT-76 58,333 SHARES [LOGO] CLASS A COMMON STOCK , 1999 ALT-B/C PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The following is an itemization of all estimated expenses incurred or expected to be incurred by the Registrant in connection with the issuance and distribution of the securities being registered hereby, other than underwriting discounts and commissions. All amounts are estimated except for the SEC registration fee and the NASD filing fee. ITEM AMOUNT - ---- ---------- SEC registration fee ............................................... $ 16,847 NASD filing fee .................................................... 5,500 Nasdaq National Market listing fee ................................. 55,000 Blue sky fees and expenses ......................................... 10,000 Printing and engraving costs ....................................... 140,000 Transfer agent fees ................................................ 3,500 Legal fees and expenses ............................................ 395,000 Accounting fees and expenses ....................................... 340,000 Miscellaneous ...................................................... 474,153 ---------- Total .............................................................. $1,440,000 ========== ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS We are incorporated under the laws of the State of Delaware. Section 145 of the General Corporation Law of the State of Delaware provides that a Delaware corporation may indemnify any person who is, or is threatened to be made, a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of such corporation), by reason of the fact that such person was an officer, director, employee or agent of such corporation, or is or was serving at the request of such corporation as a director, officer, employee or agent of another corporation or enterprise. The indemnity may include expenses, including attorneys' fees, judgments, fines and amounts paid in settlement actually and reasonably incurred by such person in connection with such action, suit or proceeding, provided such person acted in good faith and in a manner he reasonably believed to be in or not opposed to the corporation's best interests and, with respect to any criminal action or proceeding, had no reasonable cause to believe that his conduct was illegal. A Delaware corporation may indemnify any person who is, or is threatened to be made, a party to any threatened, pending or completed action or suit by or in the right of the corporation by reason of the fact that such person was a director, officer, employee or agent of such corporation, or is or was serving at the request of such corporation as a director, officer, employee or agent of another corporation or enterprise. The indemnity may include expenses, including attorneys' fees, actually and reasonably incurred by such person in connection with the defense or settlement of such action or suit, provided such person acted in good faith and in a manner he reasonably believed to be in or not opposed to the corporation's best interests except that no indemnification is permitted without judicial approval if the officer or director is adjudged to be liable to the corporation. Where an officer or director is successful on the merits or otherwise in the defense of any action referred to above, the corporation must indemnify him against the expenses which such officer or director has actually and reasonably incurred. Our Certificate of Incorporation provides for the indemnification of our directors and officers to the fullest extent permitted by Section 145. In that regard, our Certificate of Incorporation provides that we shall indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the corporation) by reason of the fact that he is or was a director or officer of such corporation, or is or was serving at the request of such corporation as a director, officer or member of another corporation, partnership, joint venture, trust or other enterprise, against expenses, including attorneys' fees, judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with II-1 such action, suit or proceeding if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of such corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. Indemnification in connection with an action or suit by or in the right of such corporation to procure a judgment in its favor is limited to payment of settlement of such an action or suit except that no such indemnification may be made in respect of any claim, issue or matter as to which such person shall have been adjudged to be liable for negligence or misconduct in the performance of his duty to the indemnifying corporation unless and only to the extent that the Court of Chancery of Delaware or the court in which such action or suit was brought shall determine that, despite the adjudication of liability but in consideration of all the circumstances of the case, such person is fairly and reasonably entitled to indemnity for such expenses which the court shall deem proper. In addition, our By-laws provide that we shall indemnify to the full extent authorized by law any person made or threatened to be made a party to an action, suit or proceeding, whether criminal, civil, administrative or investigative, by reason of the fact that he, his testator or intestate is or was our director, officer, employee or agent or is or was serving, at our request, as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise. We have purchased an insurance policy effective upon consummation of the offering covering indemnification of directors and officers of the Registrant against liabilities arising under the Securities Act that might be incurred by them in such capacities. ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES We have issued the following securities:
NUMBER OF PURCHASER SHARES/UNITS DATE CLASS/TYPE PAR VALUE - ----------------------------- ------------------- --------------------- -------------------------- ----------------- MS Pietrafesa, L.P. ......... 100 shares October 1, 1998 Class B Common Stock $.0002 per share 3,775,567 shares Issued prior to the Class B Common Stock $.0002 per share offering through additional issuance for nominal consideration Thomas M. Minkstein ......... 2.5 Units January 27, 1999 Partnership Units of Not applicable MSJP, L.P. valued at $100,000 per Unit, representing an indirect 2.9% beneficial interest in the shares of Class B Common Stock owned by MS Pietrafesa, L.P. Windsong, Inc. .............. 333,333 shares(1) , 1999 Class A Common Stock $.001 per share
- ---------- (1) Shares of Class A Common Stock issued to Windsong, Inc. as part of our acquisition of Windsong, based on an assumed offering price of $12.00 per share. Each of the issuances cited above was exempt from registration under the Securities Act pursuant to Section 4(2) of the Securities Act because the issuances did not involve a public offering. In addition, each recipient represented its intention to acquire the securities for investment only and not with a view to or for sale in connection with any distribution thereof and appropriate legends were affixed to the certificates issued in such transactions. Such recipients had adequate access to information about The Pietrafesa Corporation and were sophisticated and expert in financial matters. II-2 ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) Exhibits. NUMBER DESCRIPTION ------ ----------- 1 Form of Underwriting Agreement 3.1 Certificate of Incorporation of Registrant, as amended **3.2 By-Laws of Registrant 4 Form of Common Stock Certificate 5 Opinion of Roberts, Sheridan & Kotel, a Professional Corporation **10.1 Asset Purchase Agreement dated March 11, 1999, among Registrant, Components Acquisition Corp., John McCoy and Components by John McCoy, Inc. **10.2 Asset Purchase Agreement dated March 11, 1999, among Registrant, DAG Acquisition Corp., Jarrod Nadel and Diversified Apparel Group, Ltd. **10.3 Stock Purchase Agreement dated March 11, 1999, among Registrant, Peter Lister and Global Sourcing Network, Ltd. **10.4 Credit Agreement dated June 19, 1998, between National Bank of Canada and MS Pietrafesa, L.P. **10.5 Lease Agreement dated October 1, 1994, between MS Pietrafesa, L.P. and Onondaga County Industrial Development Agency **10.6 Payment in Lieu of Tax Agreement dated as of October, 1, 1994 between Onondaga County Industrial Development Agency and MS Pietrafesa, L.P. **10.7 Loan Agreement dated November 22, 1995, with New York State Urban Development Corporation and MS Pietrafesa, L.P. **10.8 Transfer of Assets and Assignment and Assumption of Contracts and Leases dated as of October 1, 1998, between MS Pietrafesa, L.P. and The Pietrafesa Corporation. **10.9 Revolving Credit, Term Loan and Security Agreement dated April 15, 1999, between Registrant and PNC Bank, National Association. **+10.10 License Agreement, as amended, dated as of January 1, 1996, between Alexander Julian, Inc. and Windsong, Inc. 10.11 Factoring Agreement dated November 4, 1996, between Windsong, Inc. and FINOVA Capital Corporation, as amended. 10.12 Asset Purchase Agreement dated as of July 12, 1999, between Windsong Acquisition Corp. and Windsong, Inc. 21 List of Subsidiaries of Registrant 23.1 Consent of Ernst & Young LLP 23.2 Consent of Lawrence B. Goodman & Co., P.A. 23.3 Consent of Pasquale & Bowers, LLP 23.4 Consent of Weissbarth, Altman & Michaelson LLP 23.5 Consent of Roberts, Sheridan & Kotel, a Professional Corporation (included in its opinion filed as Exhibit 5 hereto) **24 Power of Attorney (reference is made to the signature pages to the Registration Statement) 27 Financial Data Schedule - ---------- * To be filed by amendment. ** Previously filed. + Confidential treatment requested. Omitted portions have been filed separately with the Commission. (b) Financial Statement Schedules. Schedule II -- Valuation and Qualifying Accounts All other schedules have been omitted as they are inapplicable, or the other information is included in the financial statements. II-3 ITEM 17. UNDERTAKINGS (a) The undersigned registrant hereby undertakes to provide the underwriters at the closing of the offering specified in the Underwriting Agreement certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser. (b) Insofar as indemnification for liabilities arising under the Act may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Commission, such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel that matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. (c) The undersigned Registrant hereby undertakes that: (1) For purposes of determining any liability under the Act, the information omitted from the form of prospectus filed as part of this Registration Statement in reliance upon Rule 430A and contained in a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Act shall be deemed to be part of this Registration Statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (d) The undersigned Registrant hereby undertakes that it will: (1) File, during any period in which offers or sales of securities are being made, a post-effective amendment to this registration statement to: (i) Include any prospectus required by section 10(a)(3) of the Securities Act; (ii) Reflect in the prospectus any facts or events arising after the effective date of the registration statement (or the most recent post-effective amendment thereof) which, individually or together, represent a fundamental change in the information in the registration statement. Notwithstanding the foregoing, any increase or decrease in volume of securities offered (if the total dollar value of securities offered would not exceed that which was registered) and any deviation from the low or high end of the estimated maximum offering range may be reflected in the form of prospectus filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the changes in the volume and price represent no more than a 20% change in the maximum aggregate offering price set forth in the "Calculation of Registration Fee" table in the effective registration statement; and (iii) Include any material information with respect to the plan of distribution not previously disclosed in the registration statement or any material change to such information in the registration statement. (2) For determining liability under the Securities Act, treat each post-effective amendment as a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering. (3) File a post-effective amendment to remove from registration any of the securities that remain unsold at the end of the offering. II-4 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, the registrant has duly caused this registration statement to be signed on its behalf by the undersigned, thereunto duly authorized, in Syracuse, New York on this 14th day of July, 1999. THE PIETRAFESA CORPORATION BY: /S/ RICHARD C. PIETRAFESA, JR. ------------------------------------ Name: Richard C. Pietrafesa, Jr. Title: Chief Executive Officer Pursuant to the requirements of the Securities Act of 1933, as amended, this registration statement has been signed by the following persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE - ---------------------------------- -------------------------------------------- -------------- /s/ Richard C. Pietrafesa, Jr. * President, Chief Executive Officer and July 14, 1999 - -------------------------------- Director (Principal Executive Officer) /s/ Thomas A. Minkstein * Chief Operating Officer and Director July 14, 1999 - -------------------------------- /s/ Eugene R. Sunderhaft * Vice President -- Finance, Chief Financial July 14, 1999 - -------------------------------- Officer, Secretary and Treasurer (Principal Financial and Accounting Officer) /s/ Sterling B. Brinkley, Jr. * Chairman of the Board July 14, 1999 - -------------------------------- /s/ Mark C. Pickup * Director July 14, 1999 - -------------------------------- /s/ Robert J. Bennett * Director July 14, 1999 - -------------------------------- /s/ Paul M. McNicol * Director July 14, 1999 - --------------------------------
- ---------- *By: /S/ RICHARD C. PIETRAFESA, JR. --------------------------------- Richard C. Pietrafesa, Jr. Attorney-in-Fact II-5 We have audited the Consolidated Financial Statements of The Pietrafesa Corporation as of December 31, 1997 and 1998, and for each of the three years in the period ended December 31, 1998, and have issued our report thereon dated February 12, 1999 (except for Note 12 as to which the date is July 15, 1999); (included elsewhere in this Registration Statement). Our audits also included the financial statement schedule pertaining to Pietrafesa listed in Item 16(b) of this Registration Statement. This schedule is the responsibility of Pietrafesa's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/ Ernst & Young LLP Syracuse, New York February 12, 1999 S-1 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS THE PIETRAFESA CORPORATION YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998 (IN THOUSANDS)
BALANCE AT CHARGED BALANCE AT DESCRIPTION BEGINNING OF YEAR TO EXPENSE DEDUCTIONS END OF YEAR - ------------------------------- ------------------- ---------------- -------------- ------------ Year Ended December 31, 1996: Reserve for bad debts ......... $187 $ (179)(1) (27)(2) $ 35 Inventory reserve ............. 435 -- 100(3) 335 Year Ended December 31, 1997: Reserve for bad debts ......... 35 -- -- 35 Inventory reserve ............. 335 -- -- 335 Year Ended December 31, 1998: Reserve for bad debts ......... 35 10(1) 10(3) 35 Inventory reserve ............. 335 459(1) 39(3) 755
- ---------- (1) Reduction/Addition of reserve based on analysis of related assets. (2) Write-off of accounts receivable, net of recoveries. Writes-offs totaled $27 in 1996 and recoveries totaled $54 in 1996. (3) Write-off of accounts receivable or inventory. S-2 We have audited the Financial Statements of Components by John McCoy, Inc. ("Components") as of December 31, 1997 and 1998, and for the years then ended, and have issued our report thereon dated March 4, 1999 (included elsewhere in this Registration Statement). Our audits also included the financial statement schedule pertaining to Components listed in Item 16(b) of this Registration Statement. This schedule is the responsibility of Components management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/ Lawrence B. Goodman & Co., P.A. Certified Public Accountants Fair Lawn, New Jersey March 7, 1999 S-3 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS COMPONENTS BY JOHN MCCOY, INC. YEARS ENDED DECEMBER 31, 1997 AND 1998 (IN THOUSANDS)
BALANCE AT CHARGED BALANCE AT DESCRIPTION BEGINNING OF YEAR TO EXPENSE DEDUCTIONS (1) END OF YEAR - ------------------------------- ------------------- ------------ ---------------- ------------ Year Ended December 31, 1997: Reserve for bad debts ......... $11 $ 51 $ -- $62 Year Ended December 31, 1998: Reserve for bad debts ......... $62 $114 $115 $61
- ---------- (1) Represents write-offs of account receivables. S-4 We have audited the Financial Statements of Global Sourcing Network, Ltd. (GSN) as of December 31, 1997 and 1998 and for the years then ended, and have issued our reports thereon dated February 2, 1999 (included elsewhere in this Registration Statement). Our audits also included the financial statement schedule pertaining to GSN listed in Item 16(b) of this Registration Statement. This schedule is the responsibility of GSN's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/ Pasquale & Bowers, LLP Certified Public Accountants Syracuse, New York May 28, 1999 S-5 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS GLOBAL SOURCING NETWORK, LTD. DECEMBER 31, 1997 AND 1998 (IN THOUSANDS)
BALANCE AT CHARGED BALANCE AT DESCRIPTION BEGINNING OF YEAR TO EXPENSE DEDUCTIONS END OF YEAR - ------------------------------- ------------------- ------------ ------------------ ------------ Year Ended December 31, 1997: Reserve for bad debts ......... $0 $ 102 $ (102) (1) $ 0 Year Ended December 31, 1998: Reserve for bad debts ......... $0 $ 149 $ (59) (1) $90
- ---------- (1) Represents write-off of accounts receivable. S-6 We have audited the Financial Statements of Windsong, Inc. as of December 31, 1998 and 1997 and the related statements of income and retained earnings (accumulated deficit) and cash flows for each of the three years in the period ended December 31, 1998, and have issued our report thereon dated May 7, 1999 (included elsewhere in this Registration Statement). Our audits also included the financial statement schedule pertaining to Windsong, Inc. listed in item 16(b) of this Registration Statement. This schedule is the responsibility of Windsong's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects, the information set forth therein. /s/ Weissbarth, Altman & Michaelson LLP New York, New York May 7, 1999 S-7 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS WINDSONG, INC. YEAR ENDED DECEMBER 31, 1996, 1997 AND 1998 (IN THOUSANDS)
BALANCE AT CHARGED BALANCE AT DESCRIPTION BEGINNING OF YEAR TO EXPENSE DESCRIPTION END OF YEAR - ------------------------------- ------------------- ------------ ------------- ------------ Year Ended December 31, 1996: Reserve for bad debts ......... $ -- $-- $ -- $-- Inventory reserve ............. 35 -- -- 35 Year Ended December 31, 1997: Reserve for bad debts ......... -- -- -- -- Inventory reserve ............. 35 -- 35 (1) -- Year Ended December 31, 1998: Reserve for bad debts ......... -- 20 -- 20 Inventory reserve ............. -- -- -- --
- ---------- (1) Reduction/Addition of reserve based on analysis of related assets. S-8 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------ EXHIBITS TO PRE-EFFECTIVE AMENDMENT NO. 2 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------------ THE PIETRAFESA CORPORATION ================================================================================ EXHIBIT INDEX NUMBER DESCRIPTION ------ ----------- 1 Form of Underwriting Agreement 3.1 Certificate of Incorporation of Registrant, as amended **3.2 By-Laws of Registrant 4 Form of Common Stock Certificate 5 Opinion of Roberts, Sheridan & Kotel, a Professional Corporation **10.1 Asset Purchase Agreement dated March 11, 1999, among Registrant, Components Acquisition Corp., John McCoy and Components by John McCoy, Inc. **10.2 Asset Purchase Agreement dated March 11, 1999, among Registrant, DAG Acquisition Corp., Jarrod Nadel and Diversified Apparel Group, Ltd. **10.3 Stock Purchase Agreement dated March 11, 1999, among Registrant, Peter Lister and Global Sourcing Network, Ltd. **10.4 Credit Agreement dated June 19, 1998, between National Bank of Canada and MS Pietrafesa, L.P. **10.5 Lease Agreement dated October 1, 1994, between MS Pietrafesa, L.P. and Onondaga County Industrial Development Agency **10.6 Payment in Lieu of Tax Agreement dated as of October, 1, 1994 between Onondaga County Industrial Development Agency and MS Pietrafesa, L.P. **10.7 Loan Agreement dated November 22, 1995, with New York State Urban Development Corporation and MS Pietrafesa, L.P. **10.8 Transfer of Assets and Assignment and Assumption of Contracts and Leases dated as of October 1, 1998, between MS Pietrafesa, L.P. and The Pietrafesa Corporation. **10.9 Revolving Credit, Term Loan and Security Agreement dated April 15, 1999, between Registrant and PNC Bank, National Association. **+10.10 License Agreement, as amended, dated as of January 1, 1996, between Alexander Julian, Inc. and Windsong, Inc. 10.11 Factoring Agreement dated November 4, 1996, between Windsong, Inc. and FINOVA Capital Corporation, as amended. 10.12 Asset Purchase Agreement dated as of July 12, 1999, between Windsong Acquisition Corp. and Windsong, Inc. 21 List of Subsidiaries of Registrant 23.1 Consent of Ernst & Young LLP 23.2 Consent of Lawrence B. Goodman & Co., P.A. 23.3 Consent of Pasquale & Bowers, LLP 23.4 Consent of Weissbarth, Altman & Michaelson LLP 23.5 Consent of Roberts, Sheridan & Kotel, a Professional Corporation (included in its opinion filed as Exhibit 5 hereto) **24 Power of Attorney (reference is made to the signature pages to the Registration Statement) 27 Financial Data Schedule - ---------- * To be filed by amendment. ** Previously filed. + Confidential treatment requested. Omitted portions have been filed separately with the Commission. (b) Financial Statement Schedules. Schedule II -- Valuation and Qualifying Accounts All other schedules have been omitted as they are inapplicable, or the other information is included in the financial statements. EX-1 2 UNDERWRITING AGREEMENT Exhibit 1 [______________] Shares THE PIETRAFESA CORPORATION Class A Common Stock UNDERWRITING AGREEMENT Philadelphia, Pennsylvania [___________ ___, 1999] JANNEY MONTGOMERY SCOTT INC. FIRST SECURITY VAN KASPER MORGAN SCHIFF & CO., INC. As Representatives of the Several Underwriters Named in Schedule I Hereto c/o Janney Montgomery Scott Inc. 1801 Market Street Philadelphia, Pennsylvania 19103 Dear Ladies and Gentlemen: The Pietrafesa Corporation, a Delaware corporation (the "Company"), proposes to sell to Janney Montgomery Scott Inc., First Security Van Kasper and Morgan Schiff & Co., Inc. (the "Representatives") and the several other underwriters named in Schedule I hereto (collectively with the Representatives, the "Underwriters") _____________ shares of the Company's Class A common stock ("Class A Shares"). The Class A Shares to be sold to the Underwriters by the Company are hereinafter referred to as the "Firm Shares." The respective amounts of the Firm Shares to be so purchased by the several Underwriters are set forth opposite their names in Schedule I hereto. The Firm Shares shall be offered to the public at an initial public offering price of $______ per Firm Share (the "Offering Price"). In addition, in order to cover over-allotments in the sale of the Firm Shares, the Underwriters may purchase for the Underwriters' own accounts, ratably in proportion to the amounts set forth opposite their respective names in Schedule I hereto, up to __________ additional Class A Shares from the Company (such additional Class A Shares are referred to herein as the "Optional Shares"). If any Optional Shares are purchased, the Optional Shares shall be purchased for offering to the public at the Offering Price and in accordance with the terms and conditions set forth herein. The Firm Shares and the Optional Shares are referred to collectively herein as the "Shares." In October 1998, MS Pietrafesa, L.P. (the "Partnership") transferred all of its assets and liabilities to the Company in exchange for 100 shares of the Company's Class B common stock ("Class B Shares"). Immediately prior to the completion of the sale of the Firm Shares, the Company will issue an additional _____ Class B Shares to the Partnership for nominal consideration. The transactions described in this paragraph (collectively, the "Reorganization") have been or will be made pursuant to the terms of certain contribution, transfer, assignment, assumption and exchange agreements (collectively, the "Reorganization Agreements") between the Company and the Partnership. The Company has entered into the Asset Purchase Agreements and Stock Purchase Agreement identified on Exhibit A hereto (the "Acquisition Agreements") with each of Diversified Apparel Group, Ltd. ("DAG"), Global Sourcing Network, Ltd. ("Global"), Components by John McCoy, Inc. ("Components"), Windsong, Inc. ("Windsong") and each of their stockholders (collectively, with Components, DAG, Global and Windsong, the "Sellers") to purchase substantially all of the assets of DAG, Components and Windsong and all of the outstanding shares of capital stock of Global prior to or simultaneous with the closing of the sale of the Firm Shares (the "Acquisitions"). Global and the business and operations of each of DAG, Components and Windsong are hereinafter collectively referred to as the "Acquired Businesses." For the purposes of this Agreement, unless indicated otherwise, references to the Subsidiaries (as defined below) shall include the Acquired Businesses. The Company, intending to be legally bound, hereby confirms its agreement with the Underwriters as follows: 1. Representations and Warranties. (a) Representations and Warranties of the Company. The Company, and each of its subsidiaries (the "Subsidiaries") jointly and severally represent and warrant to, and agree with, the several Underwriters that: (i) The Company has prepared, in conformity with the requirements of the Securities Act of 1933, as amended (the "Act"), and the rules and regulations (the "Regulations") of the Securities and Exchange Commission (the "SEC") under the Act, and has filed with the SEC a registration statement on Form S-1 (File No. 333-74439) and one or more amendments thereto for the primary purpose of registering the Shares under the Act. Copies of such registration statement and any amendments thereto, and all forms of the related prospectus contained therein, have been delivered to the Representatives; any preliminary prospectus included in a Registration Statement or filed with the SEC pursuant to Rule 424(a) of the Regulations is hereinafter called a "Preliminary Prospectus." The various parts of such registration statement, including all exhibits thereto and the information (if any) contained in the form of final prospectus filed with the SEC pursuant to Rule 424(b) of the Regulations in accordance with Section 5(a) of this Agreement and deemed by virtue 2 of Rule 424 of the Regulations to be part of the registration statement at the time it was declared effective, each as amended at the time the registration statement became effective, are hereinafter collectively called the "Original Registration Statement." Any registration statement filed with the Commission pursuant to Rule 462(b) under the Act (including the Registration Statement and any Preliminary Prospectus or Prospectus incorporated therein at the time such Registration Statement becomes effective) is hereinafter referred to as a "Rule 462(b) Registration Statement." The term "Registration Statement" includes both the Original Registration Statement and any Rule 462(b) Registration Statement. The final prospectus in the form included in the Registration Statement or first filed with the SEC pursuant to Rule 424(b) of the Regulations and any amendments or supplements thereto are hereinafter called the "Prospectus." (ii) The Registration Statement has become effective under the Act and the SEC has not issued any stop order suspending the effectiveness of the Registration Statement or preventing or suspending the use of the Preliminary Prospectus, nor has the SEC instituted or threatened to institute proceedings with respect to such an order. No stop order suspending the sale of the Shares in any jurisdiction designated by the Representatives as provided for in Section 5(f) hereof has been issued, and no proceedings for that purpose have been instituted or threatened. The Company has complied in all material respects with all requests of the SEC, or requests of which the Company has been advised of any state securities commission in a state designated by the Representatives as provided for in Section 5(f) hereof, for additional information to be included in the Registration Statement, any Preliminary Prospectus or the Prospectus unless such request has been waived. Each Preliminary Prospectus conformed to all the requirements of the Act and the Regulations as of its date in all material respects and did not as of its date contain any untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in light of the circumstances under which they were made, not misleading, except the foregoing shall not apply to statements in or omissions from any Preliminary Prospectus in reliance upon and in conformity with information supplied to the Company in writing by or on behalf of any Underwriter through the Representatives expressly for use therein. The Registration Statement, on the date on which it is declared effective by the SEC (the "Effective Date") and when any post-effective amendment thereof shall become effective, and the Prospectus, at the time it is filed with the SEC pursuant to Rule 424(b) and on the Closing Date (as defined in Section 3 hereof) and any Option Closing Date (as defined in Section 4(b) hereof), will conform in all material respects to all the requirements of the Act and the Regulations, and will not, on any of such dates, include any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading, except that this representation and warranty does not apply to statements in or omissions from the Registration Statement or the Prospectus made in reliance upon and in conformity with information furnished to the Company in writing by or on behalf of any Underwriter through the Representatives expressly for use therein. (iii) If the Company has elected to rely on Rule 462(b) and the Rule 462(b) Registration Statement has not been declared effective (a) the Company has filed a Rule 462(b) Registration Statement in compliance with and that is effective upon filing pursuant to Rule 462(b) and has received confirmation of its receipt and (b) the Company has given irrevocable 3 instructions for transmission of the applicable filing fee in connection with the filing of the Rule 462(b) Registration Statement, in compliance with Rule 111 promulgated under the Act or the Commission has received payment of such filing fee. (iv) The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, with all necessary corporate power and authority, and all required licenses, permits, clearances, certifications, registrations, approvals, consents and franchises, to own or lease and operate its properties and to conduct its business as described in the Prospectus, and to execute, deliver and perform this Agreement. Each of the Subsidiaries has been duly organized and is validly existing as a corporation in good standing under the laws of the jurisdiction of its incorporation, with all necessary corporate power and authority, and all required licenses, permits, clearances, certifications, registrations, approvals, consents and franchises, to own or lease and operate its properties and to conduct its business as described in the Prospectus. (v) The outstanding shares of capital stock or other evidence of ownership of the Subsidiaries have been duly authorized and validly issued and are 100% owned by the Company, in all cases free and clear of all liens, encumbrances and security interests. There are no outstanding options, obligations to issue or other rights to convert or exchange any obligations into shares of capital stock or ownership interests in the Subsidiaries. Except as provided in the corporation law of the respective jurisdictions of incorporation of the Subsidiaries or as set forth in the Prospectus, there are no restrictions of any kind which prevent the payment of dividends by any of the Subsidiaries. (vi) This Agreement has been duly authorized, executed and delivered by the Company and constitutes its legal, valid and binding obligation, enforceable against the Company in accordance with its terms, except as such enforceability may be limited by equitable principles or by the application of bankruptcy, insolvency or other similar laws, now or hereafter in effect, relating to or affecting creditors' rights generally, and except as rights to indemnity and contribution hereunder may be limited by applicable securities laws. (vii) The Reorganization Agreements have been duly authorized, executed and delivered by the Company and the Partnership and are the valid and binding obligations of the Company and the Partnership, enforceable against the Company and the Partnership in accordance with their respective terms, except as such enforceability may be limited by equitable principles or by the application of bankruptcy, insolvency or other similar laws, now or hereafter in effect, affecting creditors' rights generally. The Reorganization has been consummated on the terms and conditions set forth in the Prospectus and in accordance with the terms and provisions of the Reorganization Agreements. (viii) Each Acquisition Agreement has been duly authorized, executed and delivered by the Company and the applicable Sellers and are the valid and binding obligations of the Company and such Sellers, enforceable against the Company and such Sellers in accordance with its terms, except as such enforceability may be limited by equitable principles or by the application of bankruptcy, insolvency or other similar laws, now or hereafter in effect, affecting creditors' rights 4 generally. Each Acquisition has been consummated on the terms and conditions set forth in the Prospectus and in accordance with the terms and provisions of the applicable Acquisition Agreement. (ix) The execution, delivery and performance of this Agreement by the Company does not and will not, with or without the giving of notice or the lapse of time, or both, (a) conflict with any term or provision of the Company's and each of the Subsidiaries' Certificates of Incorporation or Bylaws, or similar governing instruments, (b) result in a breach of, constitute a default under, result in the termination or modification of, result in the creation or imposition of any lien, security interest, charge or encumbrance upon any of the assets of the Company or any of the Subsidiaries, or require any payment by the Company or any of the Subsidiaries, or impose any liability on the Company or any of the Subsidiaries pursuant to, any contract, indenture, mortgage, deed of trust, commitment or other agreement or instrument to which the Company or any of the Subsidiaries is a party or by which any of the Company's or any of the Subsidiaries' assets are bound or affected, (c) assuming compliance with Blue Sky laws and regulations applicable to the offer and sale of the Shares, violate any law, rule, regulation, judgment, order or decree of any government or governmental agency, instrumentality or court, domestic or foreign, having jurisdiction over the Company or any of its Subsidiaries or any of the Company's or any of its Subsidiaries' properties or business or (d) result in a breach, termination or lapse of the Company's or any of its Subsidiaries' power and authority to own or lease and operate its assets and properties and conduct its business as described in the Prospectus. (x) At the date or dates indicated in the Prospectus, the Company had the duly authorized and outstanding capital stock set forth in the Prospectus; and on the Effective Date, the Closing Date and any Option Closing Date, there were and will be no options or warrants for the purchase of, other outstanding rights to purchase, agreements or obligations to issue or agreements or other rights to convert or exchange any obligation or security into, capital stock of the Company or securities convertible into or exchangeable for capital stock of the Company, except as described in the Prospectus. (xi) The capital stock of the Company conforms with the description thereof contained in the Prospectus. (xii) The currently outstanding shares of the Company's and the Subsidiaries' capital stock have been duly authorized and are validly issued, fully paid and non-assessable, and none of such outstanding shares of the Company's or Subsidiaries' capital stock has been issued in violation of any preemptive rights of any security holder of the Company or the Subsidiaries. The holders of the outstanding shares of the Company's and the Subsidiaries' capital stock are not subject to personal liability solely by reason of being such holders. The offers and sales of the outstanding shares of the Company's and the Subsidiaries' capital stock, whether described in the Registration Statement or otherwise, were made in conformity with applicable federal, state and foreign securities laws. 5 (xiii) When the Shares have been duly delivered against payment therefor as contemplated by this Agreement, the Shares will be validly issued, fully paid and non-assessable, and the holders thereof will not be subject to personal liability solely by reason of being such holders. The certificates representing the Shares are in proper legal form under, and conform in all respects to the requirements of, the Delaware General Corporation Law, as amended. Neither the filing of the Registration Statement nor the offering or sale of Shares as contemplated by this Agreement gives any security holder of the Company any rights for or relating to the registration of any Class A Shares or any other capital stock of the Company, except such as have been satisfied or waived. (xiv) No consent, approval, authorization, order, registration, license or permit of, or filing or registration with, any court, government, governmental agency, instrumentality or other regulatory body or official is required for the valid and legal execution, delivery and performance by the Company of this Agreement and the consummation of the transactions contemplated hereby and described in the Prospectus, except such as may be required for the registration of the Shares under the Act and the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and for compliance with the applicable state securities or Blue Sky laws. (xv) The Class A Shares (including the Shares) have been approved for inclusion, subject only to official notice of issuance, in the Nasdaq National Market. (xvi) The statements in the Registration Statement and Prospectus, insofar as they are descriptions of or references to contracts, agreements or other documents, are accurate in all material respects and present or summarize fairly, in all material respects, the information required to be disclosed under the Act and/or the Regulations, and there are no contracts, agreements or other documents required to be described or referred to in the Registration Statement or Prospectus or to be filed as exhibits to the Registration Statement under the Act or the Regulations that have not been so described, referred to or filed, as required. (xvii) No relationship, direct or indirect, exists between or among the Company or any of the Subsidiaries on the one hand, and the directors, officers, stockholders, customers or suppliers of the Company or any of the Subsidiaries on the other hand, which is required by the Act to be described in the Registration Statement and the Prospectus and which is not so described. (xviii) The pro forma combined financial statements of the Company and the historical financial statements of the Company, the Partnership and each Seller (including, in each case, the notes thereto) filed as part of any Preliminary Prospectus, the Prospectus and the Registration Statement present fairly, in all material respects, the pro forma combined or historical financial position, as the case may be, of the Company, the Partnership and such Sellers, as the case may be, as of the respective dates thereof, and the results of their operations, their stockholders' equity and their cash flows for the periods indicated therein, all in conformity with generally accepted accounting principles consistently applied. The supporting notes and schedules included in the Registration Statement fairly state in all material respects the information required to be stated therein in relation to the financial statements taken as a whole. The financial information included 6 in the Prospectus under the caption "Prospectus Summary" and "Selected Historical Consolidated Financial Data" presents fairly the information shown therein and has been compiled on a basis consistent with that of the audited financial statements included in the Registration Statement. The unaudited pro forma financial information included in the Registration Statement complies as to form in all material respects with the applicable accounting requirements of Rule 11-02 of Regulation S-X under the Act and the pro forma adjustments have been properly applied to the historical amounts in the compilation of this information. (xix) Since the respective dates as of which information is given in the Registration Statement and the Prospectus, except as otherwise expressly stated therein or expressly contemplated thereby, there has not been (a) any material adverse change (including, whether or not insured against, any material loss or damage to any material assets), or development which could reasonably be expected to involve a prospective material adverse change, in the general affairs, properties, assets, management, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of either the Company or the Subsidiaries taken as a whole, (b) any material adverse change, loss, reduction, termination or non-renewal of any contract to which the Company or any Subsidiary is a party, (c) any transaction entered into by the Company or any Subsidiary not in the ordinary course of its business that is material to the Company and the Subsidiaries taken as a whole, (d) any dividend or distribution of any kind declared, paid or made by the Company or any Subsidiary on its capital stock, (e) any liabilities or obligations, direct or indirect, incurred by the Company or any Subsidiary that are material to the Company and the Subsidiaries taken as a whole, (f) any change in the capitalization or stock ownership of the Company or any Subsidiary or (g) any change in the indebtedness of the Company or any Subsidiary that is material to the Company and the Subsidiaries taken as a whole. Neither the Company nor any Subsidiary has any contingent liabilities or obligations that are material to the Company and the Subsidiaries taken as a whole and that are not disclosed in the Prospectus. (xx) The Company has not distributed and will not distribute any offering material in connection with the offering and sale of the Shares other than the Registration Statement, a Preliminary Prospectus, the Prospectus and other material, if any, permitted by the Act and the Regulations. Neither the Company nor any of its officers, directors or affiliates has taken nor shall the Company take any action designed to, or that might be reasonably expected to cause or result in, stabilization or manipulation of the price of the Shares. (xxi) The Company, the Partnership and each Subsidiary have filed with the appropriate federal, state and local governmental agencies, and all foreign countries and political subdivisions thereof, all tax returns that are required to be filed or have duly obtained extensions of time for the filing thereof and have paid all taxes shown on such returns or otherwise due and all material assessments received by it to the extent that the same have become due. Neither the Company, the Partnership nor any Subsidiary has executed or filed with any taxing authority, foreign or domestic, any agreement extending the period for assessment or collection of any income or other tax or is a party to any pending action or proceeding by any foreign or domestic governmental agencies for the assessment or collection of taxes, and no claims for assessment or collection of taxes have been asserted against the Company, the Partnership or any Subsidiary that might materially 7 adversely affect the general affairs, assets, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries, taken as a whole. (xxii) To the best knowledge of the Company, Ernst & Young LLP, Lawrence B. Goodman & Co., P.A., Pasquale & Bowers, LLP and Weissbarth, Altman & Michaelson LLP, each of which has given its reports on certain financial statements included as part of the Registration Statement, are firms of independent certified public accountants as required by the Act and the Regulations. (xxiii) Neither the Company nor any Subsidiary is in violation of or in default under any of the terms or provisions of (a) its Certificate of Incorporation or Bylaws or similar governing instruments, or (b) any indenture, mortgage, deed of trust, contract, commitment or other agreement or instrument to which it is a party or by which it or any of its properties is bound or affected, (c) any law, rule, regulation, judgment, order or decree of any government or governmental agency, instrumentality or court, domestic or foreign, having jurisdiction over it or any of its properties or business or (d) any license, permit, clearance, certification, registration, approval, consent or franchise referred to in Section 1(a)(iii) hereof, where, with respect to clauses (b), (c) and (d) of this Section 1(a)(xxi), such violation or default could reasonably be expected to have a material adverse effect on the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. (xxiv) There are no claims, actions, suits, protests, proceedings, arbitrations, investigations or inquiries pending before, or threatened or to the Company's knowledge contemplated by, any governmental agency, instrumentality, court or tribunal, domestic or foreign, or before any private arbitration tribunal to which the Company, the Partnership or any Subsidiary is a party, that could reasonably be expected to affect the validity of any of the outstanding Class A Shares, or that, if determined adversely to the Company, the Partnership or any Subsidiary, would, in any case or in the aggregate, result in any material adverse change in the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole; nor, to the Company's knowledge, is there any reasonable basis for any such claim, action, suit, protest, proceeding, arbitration, investigation or inquiry. There are no outstanding orders, judgments or decrees of any court, governmental agency, instrumentality or other tribunal enjoining the Company or any Subsidiary from, or requiring the Company or any Subsidiary to take or refrain from taking, any action, or to which the Company or any Subsidiary, their properties, assets or business are bound or subject. (xxv) The Company and the Subsidiaries own, or possess adequate rights to use, all patents, patent applications, trademarks, trade names, service marks, licenses, inventions, copyrights, know-how, trade secrets, confidential information, processes and formulations and other proprietary information necessary for, used in or proposed to be used in the conduct of their business as described in the Prospectus. The Company and the Subsidiaries have not infringed upon, are not 8 infringing upon and have not received any notice of conflict with, the asserted intellectual property or other rights of others and the Company knows of no reasonable basis for any notice or claim of such infringement or conflict. (xxvi) The Company and each Subsidiary have good and marketable title to all property described in the Prospectus as being owned by them, free and clear of all liens, security interests, charges or encumbrances, except such as are described or referred to in the Prospectus or such as do not materially affect the value of such property and do not interfere in any material respect with the use made, or proposed to be made, of such property by the Company or the Subsidiary. The Company and each Subsidiary have adequately insured their property against loss or damage by fire or other casualty and maintain, in amounts reasonably believed by them to be adequate, insurance against such other risks as they deem appropriate. All real and personal property leased by the Company or any Subsidiary, as described or referred to in the Prospectus, is held by the Company or such Subsidiary under valid leases. All of the facilities of the Company and each Subsidiary (the "Premises"), and all operations conducted thereon, are now and, since the Company or any Subsidiary began to use such Premises, always have been and, to the knowledge of the Company, prior to when the Company or any Subsidiary began to use such Premises, always had been, in compliance with all, foreign or domestic, federal, state and local statutes or ordinances, regulations and rules concerning or relating to industrial hygiene and the protection of health and the environment (collectively, "the Governmental Laws"), except to the extent that any failure to be in such compliance would not materially adversely affect the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. There are no conditions on, about, beneath or arising from the Premises that might give rise to liability, the imposition of a statutory lien or require a "Response," "Removal" or "Remedial Action," as defined herein, under any of the Governmental Laws, and that would materially adversely affect the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. Neither the Company nor any Subsidiary has received notice, and the Company does not have knowledge, of any claim, demand, investigation, regulatory action, suit or other action instituted or threatened against the Company or any Subsidiary or any portion of the Premises relating to any of the Governmental Laws. Neither the Company nor any Subsidiary has received any notice of material violation, citation, complaint, order, directive, request for information or response thereto, notice letter, demand letter or compliance schedule to or from any governmental or regulatory agency, foreign or domestic, arising out of or in connection with "hazardous substances" (as defined by applicable Governmental Laws) on, about, beneath, arising from or generated at the Premises. As used in this subsection, the terms "Response," "Removal" and "Remedial Action" shall have the respective meanings assigned to such terms under Sections 101(23)-101(25) of the Comprehensive Environmental Response, Compensation and Liability Act, as amended by the Superfund Amendments and Reauthorization Act, 42 U.S.C. 9601(23)-9601(25). (xxvii) The Company and each Subsidiary maintain a system of internal accounting controls sufficient to provide reasonable assurances that: (a) transactions are executed in accordance with management's general or specific authorization; (b) transactions are recorded as necessary in order to permit preparation of financial statements in accordance with generally 9 accepted accounting principles and statutory accounting practices and to maintain accountability for assets; (c) access to assets is permitted only in accordance with management's general or specific authorization and (d) the recorded accountability for assets is compared with existing assets at reasonable intervals and appropriate action is taken with respect to any differences. (xxviii) Each contract or other instrument (however characterized or described) to which the Company or any Subsidiary is a party or by which any of their properties or business is bound or affected and which is material to the conduct of the Company's business as described in the Prospectus has been duly and validly executed by the Company or such Subsidiary, and, to the knowledge of the Company, by the other parties thereto. Each such contract or other instrument is in full force and effect and is enforceable against the parties thereto in accordance with its terms, and the Company and the Subsidiaries are not, and to the knowledge of the Company, no other party is, in material default thereunder, and no event has occurred that, with the lapse of time or the giving of notice, or both, would constitute a material default under any such contract or other instrument. All necessary consents under such contracts or other instruments to disclosure in the Prospectus with respect thereto have been obtained. (xxix) Except for such plans that are expressly disclosed in the Prospectus, the Company and the Subsidiaries do not have any employee benefit plan, profit sharing plan, employee pension benefit plan or employee welfare benefit plan or deferred compensation arrangements ("Plans") that are subject to the provisions of the Employee Retirement Income Security Act of 1974, as amended, or the rules and regulations thereunder ("ERISA"). All Plans that are subject to ERISA are in compliance with ERISA, in all material respects, and, to the extent required by the Internal Revenue Code of 1986, as amended (the "Code"), in compliance with the Code in all material respects. Neither the Company nor any Subsidiary has or ever had any employee pension benefit plan that is subject to Part 3 of Subtitle B of Title I of ERISA or any defined benefit plan or multi-employer plan. The Company has not maintained retired life and retired health insurance plans that are employee welfare benefit plans providing for continuing benefit or coverage for any employee or any beneficiary of any employee after such employee's termination of employment, except as required by Section 4980B of the Code. No fiduciary or other party in interest with respect to any of the Plans has caused any of such Plans to engage in a prohibited transaction as defined in Section 406 of ERISA. As used in this subsection, the terms "defined benefit plan," "employee benefit plan," "employee pension benefit plan," "employee welfare benefit plan," "fiduciary" and "multi-employer plan" shall have the respective meanings assigned to such terms in Section 3 of ERISA. (xxx) Neither the Company, the Partnership nor any Subsidiary has experienced any work stoppages or labor disputes in the past. No labor dispute presently exists with the employees of the Company or any Subsidiary, and no such labor dispute is threatened. The Company has no knowledge of any existing or threatened labor disturbance by the employees of any of the principal suppliers, contractors or customers of the Company or its Subsidiaries that would materially adversely affect the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. 10 (xxxi) The Company, the Partnership and the Subsidiaries have complied with all provisions of Section 517.075, Florida Statutes (Chapter 92-198, Laws of Florida) relating to doing business with the Government of Cuba or with any person or affiliate located in Cuba; (xxxii) Neither the Company, the Partnership nor any Subsidiary has incurred any liability for any finder's fees or similar payments in connection with the transactions contemplated herein. (xxxiii) Each of the Company and the Subsidiaries currently intends to conduct its affairs in such a manner as to ensure that it will not be an "investment company" within the meaning of the Investment Company Act of 1940, as amended (the "1940 Act"), and the rules and regulations thereunder. (xxxiv) There is no document or contract of a character required to be described in the Prospectus or to be filed as an exhibit to the Registration Statement which is not described or filed as required; no statement, representation, warranty or covenant made by the Company or any Subsidiary in this Agreement or in any certificate or document required by this Agreement to be delivered to the Representatives is, was when made, or as of the Closing Date or any Option Closing Date will be, inaccurate, untrue or incorrect in any material respect. No transaction has occurred or is proposed between or among the Company and any of its officers, directors or stockholders or any affiliate of any such officer, director or stockholder that is required to be described in and is not described in the Registration Statement and the Prospectus. (xxxv) None of the Company, the Partnership any Subsidiary or any officer, director, employee, agent or other person acting on behalf of the Company, the Partnership or such Subsidiary has, directly or indirectly, given or agreed to give any money, property or similar benefit or consideration to any customer or supplier (including any employee or agent of any customer or supplier) or official or employee of any agency or instrumentality of any government (foreign or domestic) or political party or candidate for office (foreign or domestic) or any other person who was, is or in the future may be in a position to affect the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole or any actual or proposed business transaction of the Company or the Subsidiaries that (a) could subject the Company, the Partnership, such Subsidiary or an executive officer of any of them to any liability (including, but not limited to, the payment of monetary damages) or penalty in any civil, criminal or governmental action or proceeding, foreign or domestic, which would have a material adverse effect on the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company or the Subsidiaries taken as a whole or (b) violates any law, rule or regulation, foreign or domestic, to which the Company, the Partnership or the Subsidiaries are subject, which violation if proven would have a material adverse effect on the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. 11 (xxxvi) Neither the Company nor the Partnership has declared, paid or accrued any dividends or distributions to stockholders or partners since its inception, except as described or referred to in the Prospectus and will not hereafter declare, pay or, except as described in the Prospectus, accrue any such dividends or distributions prior to the Closing Date. (xxxvii) Except as described on Schedule II attached hereto, none of the stockholders of the Company is affiliated with any member of the National Association of Securities Dealers, Inc. (the "NASD"). Any certificate signed by any officer of the Company or any Subsidiary in such capacity and delivered to the Representatives or to counsel for the Underwriters pursuant to this Agreement shall be deemed a representation and warranty by the Company or such Subsidiary to the several Underwriters as to the matters covered thereby. 2. Purchase and Sale of Firm Shares. On the basis of the representations, warranties, covenants and agreements contained herein, but subject to the terms and conditions set forth herein, the Company shall sell to the several Underwriters at the Offering Price, less the Underwriting Discounts and Commissions in the amount of $_____ per Share, the respective amounts of the Firm Shares set forth opposite their names on Schedule I hereto, and the Underwriters, severally and not jointly, shall purchase from the Company on a firm commitment basis, at the Offering Price, less the Underwriting Discounts and Commissions in the amount of $____ per Share, the respective amounts of the Firm Shares set forth opposite their names on Schedule I hereto. In making this Agreement, each Underwriter is contracting severally, and not jointly, and except as provided in Sections 4 and 11 hereof, the agreement of each Underwriter is to purchase only that number of shares specified with respect to that Underwriter in Schedule I hereto. The Underwriters shall offer the Shares to the public as set forth in the Prospectus. 3. Payment and Delivery. Payment for the Firm Shares shall be made by certified or official bank check payable to the order of the Company, in New York Clearing House funds at the offices of Janney Montgomery Scott Inc., 1801 Market Street, Philadelphia, Pennsylvania, or such other place as shall be agreed upon by the Company and the Representatives, or in immediately available funds wired to such accounts as the Company may specify (with all costs and expenses incurred by the Underwriters in connection with such settlement in immediately available funds, including, but not limited to, interest or cost of funds and expenses, to be borne by the Company), against delivery of the Firm Shares to the Representatives at the offices of Janney Montgomery Scott Inc., 1801 Market Street, Philadelphia, Pennsylvania, or such other place as shall be agreed upon by the Company and the Representatives, for the respective accounts of the Underwriters. Such payment and delivery will be made at 10:00 AM., Philadelphia, Pennsylvania time, on ________, 1999. Such time and date are referred to herein as the "Closing Date." The certificates representing the Firm Shares to be sold and delivered will be in such denominations and registered in such names as the Representatives request not less than two full business days prior to the Closing Date, and will be made available to the Representatives for inspection, checking and packaging at the New York correspondent office of the Company's transfer agent not less than one full business day prior to the Closing Date. 12 4. Option to Purchase Optional Shares. (a) For the purposes of covering any over-allotments in connection with the distribution and sale of the Firm Shares as contemplated by the Prospectus, subject to the terms and conditions herein set forth, the several Underwriters are hereby granted an option by the Company to purchase all or any part of the Optional Shares from the Company (the "Over-allotment Option"). The purchase price to be paid for the Optional Shares shall be the Offering Price less the Underwriting Discounts and Commissions shown on the cover page of the Prospectus. The Over- allotment Option granted hereby may be exercised by the Representatives on behalf of the several Underwriters as to all or any part of the Optional Shares at any time and from time to time within 30 days after the date of the Prospectus. No Underwriter shall be under any obligation to purchase any Optional Shares prior to an exercise of the Over-allotment Option. (b) The Over-allotment Option granted hereby may be exercised by the Representatives on behalf of the several Underwriters by giving notice to the Company by a letter sent by registered or certified mail, postage prepaid, telex, telegraph, telegram or facsimile (such notice to be effective when received), addressed as provided in Section 13 hereof, setting forth the number of Optional Shares to be purchased, the date and time for delivery of and payment for the Optional Shares and stating that the Optional Shares referred to therein are to be used for the purpose of covering over-allotments in connection with the distribution and sale of the Firm Shares. If such notice is given prior to the Closing Date, the date set forth therein for such delivery and payment shall be the Closing Date. If such notice is given on or after the Closing Date, the date set forth therein for such delivery and payment shall be a date selected by the Representatives that is within three full business days after the exercise of the Over-allotment Option. The date and time set forth in such a notice is referred to herein as an "Option Closing Date," and a closing held pursuant to such a notice is referred to herein as an "Option Closing." Upon each exercise of the Over-allotment Option, and on the basis of the representations, warranties, covenants and agreements herein contained, and subject to the terms and conditions herein set forth, the several Underwriters shall become severally, but not jointly, obligated to purchase from the Company the number of Optional Shares specified in each notice of exercise of the Over-allotment Option. (c) The number of Optional Shares to be sold to each Underwriter pursuant to each exercise of the Over-allotment Option shall be the number that bears the same ratio to the aggregate number of Optional Shares being purchased through such Over-allotment Option exercise as the number of Firm Shares opposite the name of such Underwriter in Schedule I hereto bears to the total number of all Firm Shares. Notwithstanding the foregoing, the number of Optional Shares purchased and sold pursuant to each exercise of the Over-allotment Option shall be subject to such adjustment as the Representatives may approve to eliminate fractional shares and subject to the provisions for the allocation of Optional Shares purchased for the purpose of covering over-allotments set forth in the agreement entered into by and among the Underwriters in connection herewith (the "Agreement Among Underwriters"). 13 (d) Payment for the Optional Shares shall be made to the Company by certified or official bank check payable to the order of the Company in New York Clearing House funds, at the offices of Janney Montgomery Scott Inc., 1801 Market Street, Philadelphia, Pennsylvania, or such other place as shall be agreed upon by the Company and the Representatives, or in immediately available funds wired to such account as the Company may specify (with all costs and expenses incurred by the Underwriters in connection with such settlement in immediately available funds, including, but not limited to, interest or cost of funds and expenses, to be borne by the Company), against delivery of the Optional Shares to the Representatives at the offices of Janney Montgomery Scott Inc., 1801 Market Street, Philadelphia, Pennsylvania, or such other place as shall be agreed upon by the Company and the Representatives, for the respective accounts of the Underwriters. The certificates representing the Optional Shares to be issued and delivered will be in such denominations and registered in such names as the Representatives request not less than two full business days prior to the Option Closing Date, and will be made available to the Representatives for inspection, checking and packaging at the New York correspondent office of the Company's transfer agent not less than one full business day prior to the Option Closing Date. 5. Certain Covenants and Agreements of the Company. The Company covenants and agrees with the several Underwriters as follows: (a) If Rule 430A of the Regulations is employed, the Company will timely file the Prospectus pursuant to and in compliance with Rule 424(b) of the Regulations and will advise the Representatives of the time and manner of such filing. (b) The Company will not file or publish any amendment or supplement to the Registration Statement, Preliminary Prospectus or Prospectus, including a Rule 462(b) Registration Statement, at any time before the completion of the distribution of the Shares by the Underwriters that is not (i) in compliance with the Regulations and (ii) approved by the Representatives (such approval not to be unreasonably withheld or delayed). (c) The Company will advise the Representatives immediately, and confirm such advice in writing, (i) when any post-effective amendment to the Registration Statement, including a Rule 462(b) Registration Statement, is filed with the SEC, (ii) of the receipt of any comments from the SEC concerning the Registration Statement (and provide copies of any such comments to the Representatives), (iii) when any post-effective amendment to the Registration Statement becomes effective, or when any supplement to the Prospectus, any amended Prospectus or a Rule 462(b) Registration Statement has been filed, (iv) of any request of the SEC for amendment or supplementation of the Registration Statement or Prospectus or for additional information, (v) during the period when the Prospectus is required to be delivered under the Act and Regulations, of the happening of any event as a result of which the Registration Statement or the Prospectus would include an untrue statement of a material fact or omit to state a material fact necessary to make the statements therein not misleading, (vi) during the period noted in (v) above, of the need to amend the Registration Statement or supplement the Prospectus to comply with the Act, (vii) of the issuance by the SEC of any stop order suspending the effectiveness of the Registration Statement or of any order preventing or suspending the use of any Preliminary Prospectus or the Prospectus, and (viii) 14 of the suspension of the qualification of any of the Shares for offering or sale in any jurisdiction in which the Underwriters intend to make such offers or sales, or of the initiation or threatening of any proceedings for any of such purposes known to the Company. The Company will use its best efforts to prevent the issuance of any such stop order or of any order preventing or suspending such use and, if any such order is issued, to obtain as soon as possible the lifting thereof. (d) The Company has delivered to the Representatives, without charge, copies of each Preliminary Prospectus. The Company will deliver to the Representatives, without charge, from time to time during the period when delivery of the Prospectus is required under the Act, such number of copies of the Prospectus (as supplemented or amended) as the Representatives may reasonably request. The Company hereby consents to the use of such copies of the Preliminary Prospectus and the Prospectus for purposes permitted by the Act, the Regulations and the securities or Blue Sky laws of the states in which the Shares are offered by the several Underwriters and by all dealers to whom Shares may be sold, both in connection with the offering and sale of the Shares and for such period of time thereafter as the Prospectus is required by the Act to be delivered in connection with sales by any Underwriter or dealer. The Company has furnished or will furnish to the Representatives (i) five original signed copies of the Registration Statement as originally filed and of all amendments and supplements thereto (including any Rule 462(b) Registration Statement), whether filed before or after the Effective Date, (ii) five copies of all exhibits filed therewith and (iii) five signed copies of all consents and certificates of experts, and will deliver to the Representatives such number of conformed copies of the Registration Statement, including financial statements and exhibits, and all amendments and supplements thereto, as the Representatives may reasonably request. (e) The Company will comply with the Act, the Regulations, the Exchange Act and the rules and regulations thereunder so as to permit the continuance of sales of and dealings in the Shares for as long as may be necessary to complete the distribution of the Shares as contemplated hereby. (f) The Company will furnish such information as may be required and otherwise cooperate in the registration or qualification of the Shares, or exemption therefrom, for offering and sale by the several Underwriters and by dealers under the securities or Blue Sky laws of such jurisdictions in which the Representatives determine to offer the Shares, after consultation with the Company, and will file such consents to service of process or other documents necessary or appropriate in order to effect such registration or qualification; provided, however, that no such qualification shall be required in any jurisdiction where, solely as a result thereof, the Company would be subject to taxation or qualification as a foreign corporation doing business in such jurisdiction where it is not now so qualified or to take any action which would subject it to service of process in suits, other than those arising out of the offering or sale of the Shares, in any jurisdiction where it is not now so subject. The Company will, from time to time, prepare and file such statements and reports as are or may be required to continue such qualification in effect for so long a period as is required under the laws of such jurisdictions for such offering and sale. (g) Subject to subsection 5(b) hereof, in case of any event, at any time within the period during which, in the opinion of counsel for the Underwriters, a prospectus is required to be 15 delivered under the Act and Regulations, as a result of which any Preliminary Prospectus or the Prospectus, as then amended or supplemented, would contain an untrue statement of a material fact, or omit to state any material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading, or, if it is necessary at any time to amend any Preliminary Prospectus or the Prospectus to comply with the Act and Regulations or any applicable securities or Blue Sky laws, the Company promptly will prepare and file with the SEC, and any applicable state securities commission, an amendment, supplement or document that will correct such statement or omission or effect such compliance and will furnish to the several Underwriters such number of copies of such amendment(s), supplement(s) or document(s) (in form and substance satisfactory to the Representatives and counsel for the Underwriters) as the Representatives may reasonably request. For purposes of this subsection (g), the Company will provide such information to the Representatives, the Underwriters' counsel and counsel to the Company as shall be necessary to enable such persons to consult with the Company with respect to the need to amend or supplement the Registration Statement, Preliminary Prospectus or Prospectus or file any document, and shall furnish to the Representatives and the Underwriters' counsel such further information as each may from time to time reasonably request. (h) The Company will make generally available to its security holders not later than 45 days after the end of the period covered thereby, an earnings statement of the Company (which need not be audited) that shall comply with Section 11(a) of the Act and cover a period of at least 12 consecutive months beginning not later than the first day of the Company's fiscal quarter next following the Effective Date. (i) For a period of five years following the Effective Date, the Company will furnish to the Representatives copies of all materials furnished by the Company to its Stockholders and all public reports and all reports and financial statements furnished by the Company to the SEC pursuant to the Exchange Act or any rule or regulation of the SEC thereunder. (j) During the course of the distribution of the Shares, the Company will not take, directly or indirectly, any action designed to or that could reasonably be expected to cause or result in stabilization or manipulation of the price of the Class A Shares. (k) The Company has caused each person listed on Schedule III hereto to execute an agreement (a "Lock-up Agreement"). The Company has delivered such Lock-up Agreements to Janney Montgomery Scott Inc. prior to the date of this Agreement. Appropriate stop transfer instructions will be issued by the Company to the Company's transfer agent for the Class A Shares. (l) The Company will not engage in any transaction with affiliates (as defined in the Regulations) without the prior approval of a majority of the members of its Board of Directors who do not have an interest in such transaction other than in their capacity as directors of the Company. (m) For a period of ___ days after the Effective Date, the Company will not, without the prior written consent of Janney Montgomery Scott Inc. offer, sell, contract to sell or otherwise dispose of any Class A Shares or any securities convertible into or exercisable for any 16 Class A Shares or, except for up to ___________ Class A Shares pursuant to the Company's 1999 Stock Option Plan (subject to the agreement of each holder thereof that, until after the ___ day after the Effective Date, such holder will not, without the prior written consent of Janney Montgomery Scott Inc., directly or indirectly offer to sell, sell, contract to sell or otherwise transfer or dispose of any of such Class A Shares), grant options to purchase any Class A Shares. (n) The Company will use all reasonable efforts to maintain the qualification or listing of the Class A Shares (including, without limitation, the Shares) on the Nasdaq National Market. (o) The Company will maintain Directors and Officers liability insurance in amounts, and key man life insurance covering such individuals and in amounts, reasonably determined by the Company's Board of Directors to be appropriate to the Company's circumstances and consistent with the amounts set forth in the Prospectus. (p) If the Company elects to rely on Rule 462(b), the Company shall both file a Rule 462(b) Registration Statement with the Commission in compliance with Rule 462(b) and pay, or give irrevocable instructions for the payment of, the applicable fees in accordance with Rule 111 promulgated under the Act by the earlier of (A) 10:00 p.m. Philadelphia time on the date of this Agreement and (B) the time confirmations are sent or given, as specified by Rule 462(b)(2). 6. Payment of Fees and Expenses. (a) Whether or not the transactions contemplated by this Agreement are consummated and regardless of the reason this Agreement is terminated, the Company will pay or cause to be paid, and bear or cause to be borne, all costs and expenses incident to the performance of the obligations of the Company under this Agreement, including: (i) the fees and expenses of the accountants and counsel for the Company incurred in the preparation of the Registration Statement and any post-effective amendments (including any Rule 462(b) Registration Statement) thereto (including financial statements and exhibits), Preliminary Prospectuses and the Prospectus and any amendments or supplements thereto, (ii) printing and mailing expenses associated with the Registration Statement and any post-effective amendments thereto, Preliminary Prospectus, the Prospectus, this Agreement, the Agreement Among Underwriters, the Underwriters' Questionnaire submitted to each of the Underwriters by Janney Montgomery Scott Inc. in connection herewith, the power of attorney executed by each of the Underwriters in favor of Janney Montgomery Scott Inc. in connection herewith, the Selected Dealer Agreement and related documents and the preliminary Blue Sky memorandum relating to the offering prepared by Klehr, Harrison, Harvey, Branzburg & Ellers LLP, counsel to the Underwriters (collectively with any supplement thereto, the "Preliminary Blue Sky Memorandum"), (iii) the costs incident to the authentication, issuance, sale and delivery of the Shares to the Underwriters, (iv) the fees, expenses and all other costs of qualifying the Shares for sale under the securities or Blue Sky laws of those states in which the Shares are to be offered or sold, including, without limitation, the reasonable fees and expenses of Underwriters' counsel and such local counsel as may have been reasonably required and retained for such purpose, (v) the fees, expenses and other costs of, or incident to, securing any review or approvals by or from the NASD, 17 including the reasonable fees and expenses of the Underwriters' counsel, (vi) the filing fees of the SEC, (vii) the cost of furnishing to the Underwriters copies of the Registration Statement, Preliminary Prospectuses and Prospectuses as herein provided, (viii) the Company's travel expenses in connection with meetings with the brokerage community and institutional investors, (ix) the costs and expenses associated with settlement in same day funds (including, but not limited to, interest or cost of funds expenses), if desired by the Company, (x) any fees or costs payable to the Nasdaq Stock Market, Inc. as a result of the offering, (xi) the cost of printing certificates for the Shares; (xii) the cost and charges of the Company's transfer agents, (xiii) the costs of advertising the offering, including, without limitation, with respect to the placement of "tombstone" advertisements in publications selected by the Representatives, and (xiv) all other costs and expenses reasonably incident to the performance of the Company's obligations hereunder that are not otherwise specifically provided for in this Section 6(a); provided, however, that the Underwriters shall be responsible for their out-of-pocket expenses, including those associated with meetings with the brokerage community and institutional investors, other than the Company's travel expenses, and the fees and expenses of their counsel for other than Blue Sky and NASD representation. (b) The Company shall pay as due any state registration, qualification and filing fees and any accountable out-of-pocket disbursements in connection with such registration, qualification or filing in the states in which the Representatives determine to offer or sell the Shares. (c) At the Closing, the Company will pay to Janney Montgomery Scott Inc. a financial advisory fee in the amount of $100,000. 7. Conditions to Underwriters' Obligations. The obligation of each Underwriter to purchase and pay for the Firm Shares that it has agreed to purchase hereunder on the Closing Date, and to purchase and pay for any Optional Shares as to which it exercises its right to purchase under Section 4 on an Option Closing Date, is subject at the date hereof, the Closing Date and any Option Closing Date to the continuing accuracy and fulfillment of the representations and warranties of the Company, to the performance by the Company of its covenants and obligations hereunder, and to the following additional conditions: (a) If required by Rule 430A of the Regulations, the Prospectus shall have been filed with the SEC pursuant to Rule 424(b) of the Regulations within the applicable time period prescribed for such filing by the Regulations; on or prior to the Closing Date or any Option Closing Date, as the case may be, no stop order or other order preventing or suspending the effectiveness of the Registration Statement or the sale of any of the Shares shall have been issued under the Act or any state securities law and no proceedings for that purpose shall have been initiated or shall be pending or, to the Representatives' knowledge or the knowledge of the Company, shall be contemplated by the SEC or by any authority in any jurisdiction designated by the Representatives pursuant to Section 5(f) hereof; and any request on the part of the SEC for additional information shall have been complied with to the reasonable satisfaction of counsel for the Underwriters. (b) If the Company has elected to rely upon Rule 462(b), the Rule 462(b) Registration Statement shall have been declared effective not later than the earlier of (i) 11:00 a.m., 18 Philadelphia time, on the date on which the Rule 462(b) Registration Statement has been filed with the Commission and (ii) the time confirmations are sent or given as specified by Rule 462(b)(2). (c) All corporate proceedings and other matters incident to the authorization, form and validity of this Agreement, the Shares and the form of the Registration Statement and the Prospectus, and all other legal matters relating to this Agreement and the transactions contemplated hereby, shall be satisfactory in all material respects to counsel to the Underwriters. The Reorganization and each Acquisition shall have been consummated as described in the Registration Statement and in accordance with the provisions of the Reorganization Agreements and applicable Acquisition Agreement, respectively. The Company shall have furnished to such counsel all documents and information that they may reasonably request to enable them to pass upon such matters. The Representatives shall have received from the Underwriters' counsel, Klehr, Harrison, Harvey, Branzburg & Ellers LLP, an opinion, dated as of the Closing Date and any Option Closing Date, as the case may be, and addressed to the Representatives individually and as the Representatives of the several Underwriters, which opinion shall be satisfactory in all respects to the Representatives. (d) The NASD shall have indicated that it has no objection to the underwriting arrangements pertaining to the sale of any of the Shares. (e) The Representatives shall have received a copy of an executed Lock-up Agreement from each person listed on Schedule III hereto. (f) The Representatives shall have received at or prior to the Closing Date from the Underwriters' counsel a memorandum or summary, in form and substance satisfactory to the Representatives, with respect to the qualification for offering and sale by the Underwriters of the Shares under the securities or Blue Sky laws of such jurisdictions designated by the Representatives pursuant to Section 5(f) hereof. (g) On the Closing Date and any Option Closing Date, there shall have been delivered to the Representatives signed opinions of Roberts, Sheridan & Kotel, a Professional Corporation, counsel for the Company, dated as of each such date and addressed to the Representatives individually and as the Representatives of the several Underwriters to the effect set forth in Exhibit B hereto or as is otherwise reasonably satisfactory to the Representatives. (h) At the Closing Date and any Option Closing Date: (i) the Registration Statement and any post-effective amendment thereto and the Prospectus and any amendments or supplements thereto shall contain all statements that are required to be stated therein in accordance with the Act and the Regulations and in all material respects shall conform to the requirements of the Act and the Regulations, and neither the Registration Statement nor any post-effective amendment thereto nor the Prospectus and any amendments or supplements thereto shall contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary to make the statements therein not misleading, (ii) since the respective dates as of which information is given in the Registration Statement and any post-effective amendment thereto and the Prospectus and any amendments or supplements thereto, except as otherwise stated therein, there 19 shall have been no material adverse change in the properties, condition (financial or otherwise), results of operations, stockholders' equity, business, prospects or management of the Company and the Subsidiaries, taken as a whole, from that set forth therein, whether or not arising in the ordinary course of business, other than as referred to in the Registration Statement or Prospectus (iii) since the respective dates as of which information is given in the Registration Statement and the Prospectus or any amendment or supplement thereto, there shall have been no event or transaction, contract or agreement entered into by the Company or any of the Subsidiaries, other than in the ordinary course of business and as set forth in the Registration Statement or Prospectus, that has not been, but would be required to be, set forth in the Registration Statement or Prospectus, (iv) since the respective dates as of which information is given in the Registration Statement and any post-effective amendment thereto and the Prospectus and any amendments or supplements thereto, there shall have been no material adverse change, loss, reduction, termination or non-renewal of any contract to which the Company or any Subsidiary is a party and (v) no action, suit or proceeding at law or in equity, domestic or foreign, shall be pending or threatened against the Company or any Subsidiary that would be required to be set forth in the Prospectus, other than as set forth therein, and no proceedings shall be pending or threatened against or directly affecting the Company or any Subsidiary before or by any federal, state or other commission, board or administrative agency, domestic or foreign, wherein an unfavorable decision, ruling or finding would materially adversely affect the properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company or the Subsidiaries other than as set forth in the Prospectus. (i) The Representatives shall have received at the Closing Date and any Option Closing Date certificates of the Company executed by the Chief Executive Officer and the Chief Financial Officer of the Company in their capacities as such dated as of the date of the Closing Date or Option Closing Date, as the case may be, and addressed to the Representatives, individually and as the Representatives of the several Underwriters, to the effect that (i) the signers of the certificate have read this Agreement and the representations and warranties of the Company in this Agreement are true and correct in all material respects, as if made at and as of the Closing Date or the Option Closing Date, as the case may be, and the Company has complied in all material respects with all the agreements, fulfilled in all material respects all the covenants and satisfied all the conditions on its part to be performed, fulfilled or satisfied at or prior to the Closing Date or the Option Closing Date, as the case may be, and (ii) the signers of the certificate have examined the Registration Statement and the Prospectus and any amendments or supplements thereto and that the conditions set forth in Section 7(g) of this Agreement have been satisfied. (j) At the time this Agreement is executed and at the Closing Date and any Option Closing Date the Representatives shall have received letters addressed to the Representatives individually and as the Representatives of the several Underwriters, and in form and substance satisfactory to the Representatives in all respects (including the non-material nature of the changes or decreases, if any, referred to in clause (iii) below) from each of Ernst & Young LLP, Lawrence B. Goodman & Co. P.A., Pasquale & Bowers, LLP and Weissbarth, Altman & Michaelson LLP, dated as of the date of this Agreement, the Closing Date or the Option Closing Date, as the case may be: 20 (i) confirming that they are independent certified public accountants within the meaning of the Act and the Regulations; (ii) stating that, in their opinion, the consolidated financial statements, schedules and notes of the entities audited by them and included in the Registration Statement comply in form in all material respects with the applicable accounting requirements of the Act and the Regulations; (iii) stating that, on the basis of specified procedures, which included, to the extent applicable, the procedures specified by the American Institute of Certified Public Accountants for a review of interim financial information, as described in SAS No. 71, Interim Financial Information (with respect to the latest unaudited consolidated financial statements of the entity audited by them), a reading of the latest available unaudited interim consolidated financial statements of the entity audited by them (with an indication of the date of the latest available unaudited interim financial statements), a reading of the minutes of the meetings of the stockholders and the Board of Directors of such entity and its subsidiaries, and audit and compensation committees of such Boards, if any, and inquiries to certain officers and other employees of such entities and their subsidiaries responsible for operational, financial and accounting matters and other specified procedures and inquiries, nothing has come to their attention that would cause them to believe that (A) the unaudited consolidated financial statements of such entity included in the Registration Statement, (1) do not comply in form in all material respects with the applicable accounting requirements of the Act and the Regulations, or (2) any material modifications should be made to such unaudited financial statements for them to be in conformity with generally accepted accounting principles; (B) at the date of the latest available unaudited interim consolidated financial statements of such entity and a specified date not more than five business days prior to the date of such letter, there was any change in the capital stock or debt of such entity or any decrease in net current assets, total assets or stockholders' equity of such entity as compared with the amounts shown in the December 31, 1998 balance sheet of such entity included in the Registration Statement, or that for the periods from January 1, 1999 to the date of the latest available unaudited financial statements of such entity and to a specified date not more than five days prior to the date of the letter, there were any decreases, as compared to the corresponding periods in the prior year, in revenues, gross profit, operating income or total or per share amounts of net earnings, except in all instances for changes, decreases or increases which the Registration Statement discloses have occurred or may occur and except for such other changes, decreases or increases which the Representatives shall in their sole discretion accept; or (C) the unaudited pro forma combined financial statements included in the Registration Statement do not comply as to form in all material respects with the applicable accounting requirements of Rule 11-02 of Regulation S-X under the Act and that the pro forma adjustments have not been properly applied to the historical amounts in the compilation of those statements; and (iv) stating that they have compared specific dollar amounts, numbers of shares and other numerical data and financial information set forth in the Registration Statement that have been specified by the Representatives prior to the date of this Agreement, to the extent that such information is derived from the accounting records subject to the internal control structure, policies 21 and procedures of the accounting systems of the entities audited by them, or has been derived directly from such accounting records by analysis or comparison or has been derived from other records and analysis maintained or prepared by such entity with the results obtained from the application of readings, inquiries and other appropriate procedures (which procedures do not constitute an audit in accordance with generally accepted auditing standards) set forth in the letter, and found them to be in agreement. (k) There shall have been duly tendered to the Representatives for the respective accounts of the Underwriters certificates representing all of the Shares to be purchased by the Underwriters on the Closing Date or any Option Closing Date, as the case may be. (l) At the Closing Date and any Option Closing Date, the Representatives shall have been furnished such additional documents, information and certificates as they shall have reasonably requested. (m) The issuance and sale of the Shares shall be legally permitted under applicable Blue Sky or state securities laws so long as such sales are made in accordance with the Preliminary Blue Sky Memorandum. All such opinions, certificates, letters and documents shall be in compliance with the provisions hereof only if they are satisfactory in form and substance to the Representatives and Underwriters' counsel. The Company shall furnish the Representatives with such conformed copies of such opinions, certificates, letters and other documents as they shall reasonably request. If any condition to the Underwriters' obligations hereunder to be fulfilled prior to or at the Closing Date or any Option Closing Date, as the case may be, is not fulfilled, the Representatives may, on behalf of the several Underwriters, terminate this Agreement with respect to the Closing Date or such Option Closing Date, as applicable, or, if they so elect, waive any such conditions which have not been fulfilled or extend the time for their fulfillment. Any such termination shall be without liability of the Underwriters to the Company. 8. Indemnification and Contribution. (a) The Company shall indemnify and hold harmless each Underwriter, and each person, if any, who controls each Underwriter within the meaning of the Act, against any and all loss, liability, claim, damage and expense whatsoever, including, but not limited to, any and all reasonable expenses whatsoever incurred in investigating, preparing or defending against any litigation, commenced or threatened, or any claim whatsoever or in connection with any investigation or inquiry of, or action or proceeding that may be brought against, the respective indemnified parties, arising out of or based upon any breach of the Company's representations and warranties made in this Agreement and any untrue statements or alleged untrue statements of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, any application or other document (in this Section 8 collectively called "application") executed by the Company and based upon written information furnished by or on behalf of the Company filed in any jurisdiction in order to qualify all or any part of the Shares under the securities laws thereof or filed with the SEC or the 22 NASD, or the omission or alleged omission therefrom of a material fact required to be stated therein or necessary to make the statements therein not misleading; provided, however, that the foregoing indemnity: (x) shall not apply to statements in or omissions from any Preliminary Prospectus, the Registration Statement or the Prospectus, or in any application or in any communication to the SEC, as the case may be, made in reliance upon and in conformity with information supplied to the Company in writing by or on behalf of any Underwriter through the Representatives expressly for use therein; and (y) with respect to any Preliminary Prospectus, shall not inure to the benefit of any Underwriter from whom the person asserting any such losses, claims, damages, liabilities or expenses purchased the Shares if, at or prior to the written confirmation of the sale of such Shares, a copy of an amended Preliminary Prospectus or the Prospectus (or the Prospectus as amended or supplemented) was delivered to such Underwriter but was not sent, or delivered to such person and the untrue statement or omission of a material fact contained in such Preliminary Prospectus was corrected in the amended Preliminary Prospectus or Prospectus (or the Prospectus as amended or supplemented). This indemnity agreement will be in addition to any liability the Company may otherwise have. (b) Each Underwriter, severally and not jointly, shall indemnify and hold harmless the Company, each of the directors of the Company, each of the officers of the Company who shall have signed the Registration Statement, and each other person, if any, who controls the Company within the meaning of the Act to the same extent as the foregoing indemnities from the Company to the several Underwriters as set forth in Section 8(a) hereof, but only with respect to any loss, liability, claim, damage or expense resulting from statements or omissions, or alleged statements or omissions, if any, made in any Preliminary Prospectus, the Registration Statement or the Prospectus, or in any application or in any communication to the SEC, as the case may be, made in reliance upon and in conformity with information supplied to the Company in writing by or on behalf of any Underwriter through the Representatives expressly for use therein. This indemnity agreement will be in addition to any liability which such Underwriter may otherwise have. (c) If any action, inquiry, investigation or proceeding is brought against any person in respect of which indemnity may be sought pursuant to any of the two preceding paragraphs, such person (hereinafter called the "indemnified party") shall, promptly after notification of, or receipt of service of process for, such action, inquiry, investigation or proceeding, notify in writing the party or parties against whom indemnification is to be sought (hereinafter called the "indemnifying party") of the institution of such action, inquiry, investigation or proceeding and the indemnifying party, upon the request of the indemnified party, shall assume the defense of such action, inquiry, investigation or proceeding, including the employment of counsel (reasonably satisfactory to such indemnified party) and payment of expenses. No indemnification provided for in this Section 8 shall be available to any indemnified party who shall fail to give such notice if the indemnifying party does not otherwise have knowledge of such action, inquiry, investigation or proceeding, to the extent that such indemnifying party has been materially prejudiced by the failure 23 to give such notice, but the omission to so notify the indemnifying party shall not relieve the indemnifying party otherwise than under this Section 8. Such indemnified party or controlling person shall have the right to employ its or their own counsel in any such case, but the fees and expenses of such counsel shall be at the expense of such indemnified party unless the employment of such counsel shall have been authorized in writing by the indemnifying party in connection with the defense of such action. If such indemnified party or parties shall have been advised by counsel that there may be a conflict between the positions of the indemnifying party or parties and of the indemnified party or parties or that there may be legal defenses available to such indemnified party or parties different from or in addition to those available to the indemnifying party or parties, the indemnified party or parties shall be entitled to select counsel (such counsel, "Separate Counsel") to conduct the defense to the extent determined by such counsel to be necessary to protect the interests of the indemnified party or parties and the reasonable fees and expenses of such Separate Counsel shall be borne by the indemnifying party; provided, however, that if the indemnified parties engage more than one Separate Counsel, then the indemnifying party's liability with respect to such Separate Counsel shall be limited, in the aggregate, to an amount equal to the highest amount of reasonable fees and expenses charged or incurred by a single Separate Counsel, which amount shall be divided among the indemnified parties on a pro rata basis in accordance with the relative amounts of reasonable fees and expenses of their respective Separate Counsel. Expenses covered by the indemnification in this Section 8 shall be paid by the indemnifying party as they are incurred by the indemnified party. Anything in this Section 8 to the contrary notwithstanding, the indemnifying party shall not be liable for any settlement of any such claim effected without its prior written consent. (d) If the indemnification provided for in this Section 8 is unavailable to, or insufficient to hold harmless an indemnified party under Sections 8(a) or (b) hereof in respect of any losses, liabilities, claims, damages or expenses (or actions, inquiries, investigations or proceedings in respect thereof) referred to therein, except by reason of the provisos set forth in Section 8(a) hereof or the failure to give notice as required in Section 8(c) hereof (provided that the indemnifying party does not have knowledge of the action, inquiry, investigation or proceeding and to the extent such party has been materially prejudiced by the failure to give such notice), then each indemnifying party shall contribute to the amount paid or payable by such indemnified party as a result of such losses, liabilities, claims, damages or expenses (or actions, inquiries, investigations or proceedings in respect thereof) in such proportion as is appropriate to reflect the relative benefits received by the Company on the one hand and the Underwriters on the other from the offering of the Shares. If, however, the allocation provided by the immediately preceding sentence is not permitted by applicable law, then each indemnifying party shall contribute to such amount paid or payable by such indemnified party in such proportion as is appropriate to reflect not only such relative benefits but also the relative fault of the Company on the one hand and the Underwriters on the other in connection with the statements or omissions which resulted in such losses, liabilities, claims or reasonable expenses (or actions, inquiries, investigations or proceedings in respect thereof), as well as any other relevant equitable considerations. The relative benefits received by the Company on the one hand and the Underwriters on the other shall be deemed to be in the same proportion as the total net proceeds from the offering (before deducting expenses) received by the Company bears to the total underwriting discounts and commissions received by the Underwriters, in each case as set 24 forth in the table on the cover page of the Prospectus. The relative fault shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by the Company on the one hand or the Underwriters on the other hand and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The Company and the Underwriters agree that it would not be just and equitable if contributions pursuant to this Section 8(d) were determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation that does not take account of the equitable considerations referred to above in this Section 8(d). The amount paid or payable by an indemnified party as a result of the losses, liabilities, claims, damages or reasonable expenses (or actions, inquiries, investigations or proceedings in respect thereof) referred to above in this Section 8(d) shall be deemed to include any legal or other expenses reasonably incurred by such indemnified party in connection with investigating or defending any such action or claim. Notwithstanding the provisions of this Section 8(d), (i) the provisions of the Agreement Among Underwriters shall govern contribution among Underwriters, (ii) no Underwriter (except as provided in the Agreement Among Underwriters) shall be required to contribute any amount in excess of the underwriting discounts and commissions applicable to the Shares purchased by such Underwriter, and (iii) no person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The Underwriters' obligations in this Section 8(d) to contribute are several in proportion to their individual underwriting obligations and not joint. 9. Representations and Agreements to Survive Delivery. Except as the context otherwise requires, all representations, warranties and agreements contained in this Agreement shall be deemed to be representations, warranties and agreements at the Closing Date and any Option Closing Date; and such representations, warranties and agreements of the Underwriters and the Company, including, without limitation, the indemnity and contribution agreements contained in Section 8 hereof and the agreements contained in Sections 6, 9, 10 and 13 hereof, shall remain operative and in full force and effect regardless of any investigation made by or on behalf of any Underwriter or any controlling person, and shall survive delivery of the Shares and termination of this Agreement, whether before or after the Closing Date or any Option Closing Date. 10. Effective Date of This Agreement and Termination Hereof. (a) This Agreement shall become effective at 10:00 a.m., Philadelphia, Pennsylvania time, on the first business day following the Effective Date or at the time of the public offering by the Underwriters of the Shares, whichever is earlier, except that the provisions of Sections 6, 8, 9, 10 and 13 hereof shall be effective upon execution hereof. The time of the public offering, for the purpose of this Section 10, shall mean the time when any of the Shares are first released by the Underwriters for offering by dealers. The Representatives may prevent the provisions of this Agreement (other than those contained in Sections 6, 8, 9, 10 and 13) hereof from becoming effective without liability of any party to any other party, except as noted below, by giving 25 the notice indicated in Section 10(c) hereof before the time the other provisions of this Agreement become effective. (b) The Representatives shall have the right to terminate this Agreement at any time prior to the Closing Date as provided in Sections 7 and 11 hereof or if any of the following have occurred: (i) since the respective dates as of which information is given in the Registration Statement and the Prospectus, any material adverse change or any development involving a prospective material adverse change in or affecting the condition, financial or otherwise, of the Company or its Subsidiaries, or the earnings, business affairs, management or business prospects of the Company or its Subsidiaries, whether or not arising in the ordinary course of business, that would, in the Representatives' sole judgment, make the offering or delivery of the Shares impractical or inadvisable; (ii) any outbreak of hostilities or other national or international calamity or crisis or change in economic, political or financial market conditions if the effect on the financial markets of the United States of such outbreak, calamity, crisis or change would, in the Representatives' sole judgment, make the offering or delivery of the Shares impractical or inadvisable; (iii) suspension of trading generally in securities on the New York Stock Exchange, the American Stock Exchange, the Nasdaq Stock Market or the over-the-counter market or limitation on prices (other than limitations on hours or numbers of days of trading) for securities or the promulgation of any federal or state statute, regulation, rule or order of any court or other governmental authority that in the Representatives' sole opinion materially and adversely affects trading on such exchange or the over-the-counter market; (iv) declaration of a banking moratorium by either federal or Pennsylvania state authorities; (v) the taking of any action by any federal, state or local government or agency in respect of its monetary or fiscal affairs that in the Representatives' sole opinion has a material adverse effect on the securities markets in the United States; or (vi) trading in any securities of the Company shall have been suspended or halted by the Nasdaq Stock Market or the Commission. (c) If the Representatives elect to prevent this Agreement from becoming effective or to terminate this Agreement as provided in this Section 10, the Representatives shall notify the Company thereof promptly by telephone, telex, telegraph, telegram or facsimile, confirmed by letter. 11. Default by an Underwriter. 26 (a) If any Underwriter or Underwriters shall default in its or their obligation to purchase Firm Shares or Optional Shares hereunder, and if the Firm Shares or Optional Shares with respect to which such default relates do not exceed the aggregate of 10% of the number of Firm Shares or Optional Shares, as the case may be, that all Underwriters have agreed to purchase hereunder, then such Firm Shares or Optional Shares to which the default relates shall be purchased severally by the non-defaulting Underwriters in proportion to their respective commitments hereunder. (b) If such default relates to more than 10% of the Firm Shares or Optional Shares, as the case may be, the Representatives may, in their discretion, arrange for another party or parties (including a non-defaulting Underwriter) to purchase such Firm Shares or Optional Shares to which such default relates, on the terms contained herein. In the event that the Representatives do not arrange for the purchase of the Firm Shares or Optional Shares to which a default relates as provided in this Section 11, this Agreement may be terminated by the Representatives or by the Company without liability on the part of the several Underwriters (except as provided in Section 8 hereof) or the Company (except as provided in Sections 6 and 8 hereof), but nothing herein shall relieve a defaulting Underwriter of its liability, if any, to the other several Underwriters and to the Company for damages occasioned by its default hereunder. (c) If the Firm Shares or Optional Shares to which the default relates are to be purchased by the non-defaulting Underwriters, or are to be purchased by another party or parties as aforesaid, the Representatives or the Company shall have the right to postpone the Closing Date or any Option Closing Date, as the case may be, for a reasonable period but not in any event exceeding seven days, in order to effect whatever changes may thereby be made necessary in the Registration Statement or the Prospectus or in any other documents and arrangements, and the Company agrees to file promptly any amendment to the Registration Statement or supplement to the Prospectus that in the opinion of counsel for the Underwriters may thereby be made necessary. The terms "Underwriters" and "Underwriter" as used in this Agreement shall include any party substituted under this Section 11 with like effect as if it had originally been a party to this Agreement with respect to such Firm Shares and/or Optional Shares. 12. Information Furnished by Underwriters. The statements under the caption "Underwriting" (except for the second, third and fourth to last paragraphs thereunder) in any Preliminary Prospectus and the Prospectus constitute the only written information furnished by or on behalf of any Underwriter referred to in Sections 1(a)(ii) and 8 hereof. 13. Notice. All communications hereunder, except as herein otherwise specifically provided, shall be in writing and, if sent to any Underwriter, shall be mailed, delivered, telexed, telegrammed, telegraphed or telecopied and confirmed to such Underwriter, c/o Janney Montgomery Scott Inc., 1801 Market Street, Philadelphia, Pennsylvania 19103, Attention: Mr. Michael J. Mufson, with a copy to Klehr, Harrison, Harvey, Branzburg & Ellers LLP, 1401 Walnut Street, Philadelphia, Pennsylvania 19102, Attention: Stephen T. Burdumy, Esquire; and if sent to the Company, shall be mailed, delivered, telexed, telegrammed, telegraphed or telecopied and confirmed 27 to The Pietrafesa Corporation, 7400 Morgan Road, Liverpool, New York 13090, Attention: Richard C. Pietrafesa, Jr., with a copy to Roberts, Sheridan & Kotel, a Professional Corporation, 12 East 49th Street, 30th Floor, New York, New York 10017, Attention: L. Kevin Sheridan, Jr., Esquire. 14. Parties. This Agreement shall inure solely to the benefit of, and shall be binding upon, the several Underwriters, the Company and the controlling persons, directors and officers thereof, and their respective successors, assigns, heirs and legal representatives, and no other person shall have or be construed to have any legal or equitable right, remedy or claim under or in respect of or by virtue of this Agreement or any provision herein contained. The terms "successors" and "assigns" shall not include any purchaser of the Shares merely because of such purchase. In all dealings with the Company under this Agreement, the Representatives shall act on behalf of each of the several Underwriters, and the Company shall be entitled to act and rely upon any statement, request, notice or agreement made or given by the Representatives jointly or by Janney Montgomery Scott Inc. on behalf of the Representatives. 15. Definition of Business Day. For purposes of this Agreement, "business day" means any day on which the Nasdaq National Market is opened for trading. 16. Counterparts. This Agreement may be executed in one or more counterparts and by facsimile signatures and all such counterparts and facsimile signatures will constitute one and the same instrument. 17. Construction. This Agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Pennsylvania applicable to agreements made and performed entirely within such Commonwealth. All references herein to the knowledge of the Company shall be deemed to include the knowledge of each of the Subsidiaries. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK.] 28 If the foregoing correctly sets forth your understanding of our agreement, please sign and return to the Company the enclosed duplicate hereof, whereupon it will become a binding agreement in accordance with its terms. Very truly yours, THE PIETRAFESA CORPORATION By: ---------------------------- Richard C. Pietrafesa, Jr. President and Chief Executive Officer The foregoing Agreement is hereby confirmed and accepted as of the date first above written. JANNEY MONTGOMERY SCOTT INC. FIRST SECURITY VAN KASPER MORGAN SCHIFF & CO., INC. As Representatives of the Several Underwriters named in Schedule I hereto By: JANNEY MONTGOMERY SCOTT INC. By: ------------------------------------ Authorized Representative SCHEDULE I Schedule of Underwriters - -------------------------------------------------------------------------------- Number of Firm Number of Optional Underwriter Shares to be Purchased Shares to be Purchased ----------- ---------------------- ---------------------- - -------------------------------------------------------------------------------- Janney Montgomery Scott Inc. - -------------------------------------------------------------------------------- First Security Van Kasper - -------------------------------------------------------------------------------- Morgan Schiff & Co., Inc. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- --------------------- ---------------------- - -------------------------------------------------------------------------------- Total ====================== ====================== - -------------------------------------------------------------------------------- SCHEDULE II Stockholder NASD Affiliations M.S. Pietrafesa, L.P. is an affiliate of Morgan Schiff & Co., Inc., a member of the National Association of Securites Dealers, Inc. SCHEDULE III List of Persons Who Are to Deliver Lock-Up Agreements Called for Under Sections 5(k) and 7(e) EXHIBIT A Acquisition Agreements 1. Asset Purchase Agreement, among Components Acquisition Corp., John McCoy and Components by John McCoy, Inc., dated as of March 11, 1999. 2. Asset Purchase Agreement, among the Company, DAG Acquisition Corp., Jarrod Nadel and Diversified Apparel Group, Ltd., dated as of March 11, 1999. 3. Stock Purchase Agreement, among the Company, Peter Lister and Global Sourcing Network, Ltd., dated as of March 11, 1999. 4. [Windsong Agreement] A-1 EXHIBIT B Matters to be Covered in the Opinion of Roberts, Sheridan & Kotel, Counsel for the Company 1. The Company is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, with corporate power and authority to conduct all of the activities conducted by it, own or lease all of the assets owned or leased by it, and conduct its business all as described in the Registration Statement and the Prospectus; and the Company is duly licensed or qualified to do business and in good standing as a foreign corporation in all jurisdictions, domestic or foreign, in which failure to be so licensed or qualified would have a material adverse effect on the Company and the Subsidiaries considered as a whole. 2. Each of the Subsidiaries is a corporation duly organized, validly existing and in good standing under the laws of the jurisdiction of its incorporation, with corporate power and authority to conduct its business all as described in the Registration Statement and Prospectus and own or lease all of the assets owned or leased by it, and each Subsidiary is duly licensed or qualified to do business and is in good standing as a foreign corporation in all jurisdictions, domestic and foreign, in which failure to be so licensed or qualified would have a material adverse effect on the Company and the Subsidiaries considered as a whole. 3. No authorization, approval, consent or license of any governmental or regulatory body, domestic or foreign, except as may be required under the securities (blue sky) laws of the various jurisdictions, is required in connection with the (i) authorization, issuance, transfer, sale or delivery of the Shares to be sold by the Company; (ii) execution, delivery and performance of the Underwriting Agreement by the Company or (iii) taking of any action contemplated in the Underwriting Agreement or in the Registration Statement or the Prospectus, or, if so required, all such authorizations, approvals, consents and licenses have been obtained and are in full force and effect. 4. The Company has authorized and outstanding capital stock, stock options and other derivative securities as set forth in the Registration Statement and the Prospectus. The outstanding shares of the Class A Stock and the Class B Stock, have been, and all of the Shares will be, upon issuance and payment therefor, duly authorized, validly issued, fully paid and nonassessable, are not subject to preemptive rights and have not been issued in violation of any statutory preemptive rights or, to our knowledge, similar contractual rights. The holders of Shares are not and will not be subject to personal liability solely by reason of being such holders. The issue and sale of the Shares by the Company have been duly and validly authorized and the Shares have been duly listed for trading on the Nasdaq National Market. The transactions consummated pursuant to the Reorganization Agreements were exempt from, or complied in all material respects with, the provisions of all applicable, federal, state and foreign securities and corporate laws. B-1 5. To such counsel's knowledge, no holder of any securities of the Company has the right to require registration of shares of the Class A Stock or other securities of the Company. The description of the Class A Stock, the Class B Stock and the Shares contained in the Registration Statement and the Prospectus conforms to the rights set forth in the instruments or certificates defining the same and is in conformity with the requirements of the Act and the Regulations. 6. The Company is not an "investment company" as defined in Section 3(a) of the Investment Company Act; the Company has not, prior to the date of the Prospectus, been required to make any filings pursuant to the Exchange Act. 7. The Company has the corporate power and authority to enter into the Underwriting Agreement, and the Underwriting Agreement has been duly authorized, executed and delivered by the Company and constitutes a valid and binding obligation of the Company enforceable in accordance with its terms, except as such enforceablility may be limited by applicable bankruptcy, insolvency, reorganization, fraudulent transfer, moratorium or similar laws affecting creditors' rights generally and to equitable principles (including, without limitation, concepts of materiality, reasonableness, good faith and fair dealing), regardless of whether considered in a proceeding in equity or at law, and except insofar as rights to indemnity or contribution may be limited by applicable securities laws. 8. The statements in the Prospectus under "Properties," "Legal Proceedings," "Certain Relationships and Related Transactions," and "Description of Capital Stock," and in the Registration Statement in Items 14 and 15, insofar as such statements constitute a summary of the terms of the capital stock, legal matters, documents or proceedings referred to therein, accurately reflect the information called for with respect to such terms, legal matters, documents or proceedings. 9. The Registration Statement and the Prospectus, and each amendment thereof or supplement thereto (including any Rule 462(b) Registration Statement), comply as to form with the requirements of the Act and the Rules and Regulations. Such counsel expresses no opinion as to matters concerning financial statements and other financial data and related notes, schedules and financial or statistical data contained in the Registration Statement or the Prospectus. 10. In connection with the Registration Statement, such counsel has participated in discussions and conferences with certain of the officers and representatives of the Company, representatives of the Underwriters, counsel to the Underwriters, and the independent accountants for the Company and the Acquired Businesses at which the contents of the Registration Statement and the Prospectus were discussed. While such counsel does not assume any responsibility for the accuracy, completeness or fairness of the statements made in the Registration Statement and the Prospectus, nothing has come to such counsel's attention which lead them to believe that either the Registration Statement or the Prospectus, or any amendment or supplement thereto, as of their respective effective or issue dates, or as of the date hereof, contained any untrue statement of a material fact or omitted to state any material fact required to be stated therein or necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading. B-2 [The preceding text will be removed after review of 10b-5 letter.] The descriptions in the Registration Statement and Prospectus of statutes and legal and governmental proceedings are accurate and fairly present the information required to be shown. There are no legal proceedings pending or, to such counsel's knowledge, threatened against the Company which are required to be disclosed in the Registration Statement and Prospectus, except as described therein. Such counsel expresses no opinion as to the financial statements or other financial or statistical data contained in the Registration Statement or the Prospectus. 11. Such counsel has read all contracts and other documents specifically enumerated in the Registration Statement and the Prospectus, and such contracts and other documents are fairly summarized or described therein, fairly present the information required to be shown, conform in all material respects to the descriptions thereof contained therein, and are filed as exhibits thereto, if required, and to such counsel's knowledge, there are no contracts or documents required to be so summarized or disclosed or so filed which have not been so summarized or disclosed or so filed. 12. The Registration Statement has become effective under the Act, and, to our knowledge, (i) no stop order suspending the effectiveness of the Registration Statement has been issued, and (ii) no proceedings for that purpose have been instituted or are threatened, pending or contemplated. 13. The Reorganization Agreements have been duly authorized, executed and delivered by the Company and the Partnership and are the valid and binding obligations of the Company and the Partnership, enforceable against the Company and the Partnership in accordance with their respective terms, except as such enforceability may be limited by equitable principles or by the application of bankruptcy, insolvency or other similar laws affecting creditors' rights generally. The Reorganization has been consummated on the terms and conditions set forth in the Prospectus and in accordance with the terms and provisions of the Reorganization Agreements. 14. Each Acquisition Agreement has been duly authorized, executed and delivered by the Company and the applicable Sellers and are the valid and binding obligations of the Company and such Sellers, enforceable against the Company and such Sellers in accordance with its terms, except as such enforceability may be limited by equitable principles or by the application of bankruptcy, insolvency or other similar laws affecting creditors' rights generally. Each Acquisition has been consummated on the terms and conditions set forth in the Prospectus and in accordance with the terms and provisions of the applicable Acquisition Agreement. 15. The execution and delivery of the Underwriting Agreement by the Company and the consummation by the Company of the transactions therein contemplated, and the compliance with the terms of the Underwriting Agreement do not and will not conflict with or result in a breach of any of the terms or provisions of or violate or constitute a default under the Certificate of Incorporation or Bylaws or other constituent documents of the Company or the Subsidiaries or, (i) any indenture, mortgage or other agreement or instrument to which the Company or any of the Subsidiaries is a party or by which the Company or any of the Subsidiaries or any material portion B-3 of its properties is bound, or (ii) to such counsel's knowledge, after due inquiry, any judgment, order or decree of any government, governmental instrumentality or court having jurisdiction over the Company or any of the Subsidiaries or any material portion of its properties, or (iii) any existing statute, rule or regulation applicable to the Company or the where, with respect to clauses (i), (ii) and (iii) of this paragraph, such violation or default could reasonably be expected to have a material adverse effect on the general affairs, properties, condition (financial or otherwise), results of operations, stockholders' equity, business or prospects of the Company and the Subsidiaries taken as a whole. 16. To such counsel's knowledge, except as described in the Prospectus, neither the Company nor any of the Subsidiaries owns any interest in any corporation, partnership, joint venture, trust or other business entity. In rendering such opinions, counsel for the Company may set forth that as to certain matters of fact, where appropriate, such counsel is relying on one or more certificates of public officials, governmental agencies or officers of the Company. In addition, as to matters of law, counsel for the Company may rely as to matters involving the application of laws other than the laws of the United States (except for laws dealing with matters within the jurisdiction of the United States Federal Trade Commission), the laws of Delaware and jurisdictions in which they are admitted, to the extent such counsel deems proper and to the extent specified in such opinion, if at all, upon an opinion or opinions (in form and substance satisfactory to the Underwriters' counsel) of other counsel reasonably acceptable to the Underwriters' counsel, familiar with the applicable laws. Unless the context clearly indicates otherwise, the term "Company" as used in this Exhibit, shall include the Subsidiaries and the Acquired Businesses. The opinion of counsel for the Company shall include a statement to the effect that it may be relied upon by counsel for the Underwriters in their opinion delivered to the Underwriters. B-4 EX-3.1 3 CERTIFICATE OF INCORPORATION Exhibit 3.1 CERTIFICATE OF INCORPORATION OF THE PIETRAFESA CORPORATION FIRST: The name of the corporation is The Pietrafesa Corporation (the "Company"). SECOND: The address of the registered office of the Company in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle. The name of the registered agent of the Company at such address is The Corporation Trust Company. THIRD: The nature of the business of the Company and the objects and purposes to be transacted, promoted or carried on by it are to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware. FOURTH: (a) The total number of shares of all classes of stock which the Company shall have authority to issue is 20,000,000, consisting of 5,000,000 shares of Class A Common Stock, par value $.001 per share (the "Class A Stock"), 10,000,000 shares of Class B Common Stock, par value $.001 per share (the "Class B Stock," and together with the Class A Stock, the "Common Stock"), and 5,000,000 shares of Preferred Stock, par value $.001 per share (the "Preferred Stock"). (b) The designations and preferences and relative participating, optional and other special rights and qualifications, limitations and restrictions thereof, of each class of stock of the Company which are fixed by this Certificate of Incorporation, are as follows: A. Preferred Stock (1) Upon the affirmative vote or the written consent of the holders of a majority of the outstanding shares of Class B Stock, shares of Preferred Stock may be issued from time to time in one or more series, each such series to have such distinctive designation as shall be stated and expressed in the resolution or resolutions adopted by the Board of Directors providing for the initial issuance of shares of such series, and authority is expressly vested in the Board of Directors, by such resolution or resolutions providing for the initial issuance of shares of each series: (a) To fix the distinctive designation of such series and the number of shares which shall constitute such series, which number may be increased or decreased (but not below the number of shares thereof then outstanding) from time to time by action of the Board of Directors; (b) To fix (i) the dividend rate of such series, (ii) any limitations, restrictions or conditions on the payment of dividends, including whether dividends shall be 2 cumulative and, if so, from which date or dates, (iii) the relative rights of priority, if any, of payment of dividends on shares of that series and (iv) the form of dividends, which shall be payable either (A) in cash only, or (B) in stock only, or (C) partly in cash and partly in stock, or (D) in stock or, at the option of the holder, in cash (and in such case to prescribe the terms and conditions of exercising such option), and to make provision in case of dividends payable in stock for adjustment of the dividend rate in such events as the Board of Directors shall determine; (c) To fix the price or prices at which, and the terms and conditions on which, the shares of such series may be redeemed by the Company; (d) To fix the amount or amounts payable upon the shares of such series in the event of any liquidation, dissolution or winding up of the Company and the relative rights of priority, if any, of payment upon shares of such series; (e) To determine whether or not the shares of such series shall be entitled to the benefit of a sinking fund to be applied to the purchase or redemption of such series and, if so entitled, the amount of such fund and the manner of its application; (f) To determine whether or not the shares of such series shall be made convertible into, or exchangeable for, shares of any other class or classes of stock of the Company or shares of any other series of Preferred Stock, and, if made so convertible or exchangeable, the conversion price or prices, or the rate or rates of exchange, and the adjustments thereof, if any, at which such conversion or exchange may be made, and any other terms and conditions of such conversion or exchange; (g) To determine whether or not the shares of such series shall have any voting powers and, if voting powers are so granted, the extent of such voting powers; provided, however, that (i) so long as any Class B Stock shall be outstanding the holders of the Class B Stock shall always have the absolute right under all conditions and circumstances to elect a majority of the directors; and (ii) if voting powers are so granted, the holders of shares of Preferred Stock shall be entitled to vote together with the holders of the Class A Stock as a class on all matters upon which holders of shares of Class A Stock are entitled to vote. Subject to the foregoing and except as otherwise provided by statute, the holders of shares of Preferred Stock, as such holders, shall not have any right to vote in the election of directors or for any other purpose; and such holders shall not be entitled to notice of any meeting of stockholders at which they are not entitled to vote; (h) To determine whether or not the issue of any additional shares of such series or of any other series in addition to such series shall be subject to restrictions in addition to the restrictions, if any, on the issue of additional shares imposed in the resolution or resolutions fixing the terms of any outstanding series of Preferred 3 Stock theretofore issued pursuant to this Section A and, if subject to additional restrictions, the extent of such additional restrictions; and (i) Generally to fix the other rights, and any qualifications, limitations or restrictions of such rights, of such series; provided, however, that no such rights, qualifications, limitations or restrictions shall be in conflict with this Certificate of Incorporation or any amendment hereof. (2) Before any dividends shall be declared or paid or any distribution ordered or made upon the Common Stock (other than a dividend payable in Common Stock), the Company shall comply with the dividend and sinking fund provisions, if any, of any resolution or resolutions providing for the issue of any series of Preferred Stock any shares of which shall at the time be outstanding. Subject to the foregoing sentence, the holders of Common Stock shall be entitled, to the exclusion of the holders of Preferred Stock of any and all series, to receive such dividends as from time to time may be declared by the Board of Directors. (3) Upon any liquidation, dissolution or winding up of the Company, the holders of Preferred Stock of each series shall be entitled to receive the amounts to which such holders are entitled as fixed with respect to such series, including all dividends accumulated to the date of final distribution, before any payment or distribution of assets of the Company shall be made to or set apart for the holders of Common Stock; and after such payments shall have been made in full to the holders of Preferred Stock, the holders of Common Stock shall be entitled to receive any and all assets remaining to be paid or distributed to stockholders and the holders of Preferred Stock shall not be entitled to share therein. For the purposes of this paragraph, the voluntary sale, conveyance, lease, exchange or transfer of all or substantially all the property or assets of the Company or a consolidation or merger of the Company with one or more other corporations (whether or not the Company is the corporation surviving such consolidation or merger) shall not be deemed to be a liquidation, dissolution or winding up, voluntary or involuntary. (4) Subject to such limitations (if any) as may be fixed by the Board of Directors with respect to such series of Preferred Stock in accordance with paragraph (1) of this Section A, Preferred Stock of each series may be redeemed at any time in whole or from time to time in part, at the option of the Company, by vote of the Board of Directors, at the redemption price thereof fixed in accordance with said paragraph (1). If less than all the outstanding shares of Preferred Stock of such series are to be redeemed, the shares to be redeemed shall be determined in such manner as the Board of Directors shall prescribe. At such time or times prior to the date fixed for redemption as the Board of Directors shall determine, written notice shall be mailed to each holder of record of shares to be redeemed, in a postage prepaid envelope addressed to such holder at his address as shown by the records of the Company, notifying such holder of the election of the Company to redeem such shares and stating the date fixed for the redemption thereof and calling upon such holder to surrender to the Company on or after said date, at a place designated in such notice, his certificate or certificates representing the number of shares specified in such notice of redemption. On and after the date fixed in such notice of redemption, each 4 holder of shares of Preferred Stock to be redeemed shall present and surrender his certificate or certificates for such shares to the Company at the place designated in such notice and thereupon the redemption price of such shares shall be paid to or on the order of the person whose name appears on the records of the Company as the holder of the shares designated for redemption. In case less than all the shares represented by any such certificate are redeemed a new certificate shall be issued representing the unredeemed shares. From and after the date fixed in any such notice as the date of redemption (unless default shall be made by the Company in payment of the redemption price) all dividends on the shares of Preferred Stock designated for redemption in such notice shall cease to accrue and all rights of the holders thereof as stockholders of the Company, other than to receive the redemption price, shall terminate and such shares shall not thereafter be transferred (except with the consent of the Company) on the books of the Company and such shares shall not be deemed to be outstanding for any purpose whatsoever. At any time after the mailing of any such notice of redemption the Company may deposit the redemption price of the shares designated therein for redemption with a bank or trust company in the Borough of Manhattan, City and State of New York, or in the City of Atlanta, Georgia, having capital and surplus of at least $25,000,000, in trust for the benefit of the respective holders of the shares designated for redemption but not yet redeemed. From and after the making of such deposit the sole right of the holders of such shares shall be the right either to receive the redemption price of such shares on and after such redemption date, or, in the case of shares having conversion rights, the right to convert the same at any time at or before the earlier of the close of business on such redemption date or such prior date and time at which the right to convert shall have expired; and except for these rights, the shares of Preferred Stock so designated for redemption shall not be deemed to be outstanding for any purpose whatsoever. (5) Shares of any series of Preferred Stock which have been redeemed (whether through the operation of a sinking fund or otherwise) or purchased by the Company, or which, if convertible, have been converted into shares of stock of the Company of any other class or classes, may, upon appropriate filing and recording to the extent required by law, have the status of authorized and unissued shares of Preferred Stock and may be reissued as a part of such series or of any other series of Preferred Stock, subject to such limitations (if any) as may be fixed by the Board of Directors with respect to such series of Preferred Stock in accordance with paragraph (1) of this Section A. B. Common Stock (1) Except as otherwise provided by (a) the Board of Directors in fixing the voting rights of any series of Preferred Stock in accordance with Section A of this Article Fourth, (b) this Section B, or (c) statute, voting power in the election of directors and for all other purposes shall be vested exclusively in the holders of Class B Stock. The number of authorized shares of Preferred Stock, Class A Stock, Class B Stock or any other capital stock of the Company may be increased or decreased (but not below the number of shares thereof then outstanding) by the affirmative vote or the written consent of the holders of a majority of the outstanding shares of Class B Stock. Any director elected by the holders of Class B Stock (and any successor to such director) shall be subject to removal without 5 cause and to replacement from time to time by the affirmative vote or written consent of the holders of a majority of the outstanding shares of Class B Stock. Every holder of stock of a class entitled to vote upon a matter shall be entitled to one vote for each share of stock of such class standing in his name upon the books of the Company. Except as otherwise provided by this Section B and by Section C of this Article Fourth, there shall be no distinction whatever between the rights accorded to the holders of Class A Stock and Class B Stock. (2) With regard to the election of directors, holders of Class A Stock shall be entitled, voting separately as a class, to elect 25 percent of the directors (rounding the number of such directors to the next highest whole number if such percentage is not equal to a whole number of directors) and no less, to remove any director elected by the holders of Class A Stock (and any successor to such director) and, in the manner provided in the Bylaws of the Company, to replace any director so removed. If at any time there shall not be any Class B Stock outstanding, the provisions of this Certificate of Incorporation which provide limited and separate voting rights for the holders of the Class A Stock shall cease to be of any effect, and such holders shall thereafter have general voting power in the election of directors and in all other matters upon which stockholders of the Company are entitled to vote pursuant to this Certificate of Incorporation, the Bylaws of the Company or statute. The holders of the outstanding shares of Class A Common Stock will be entitled, however, to vote as a class upon any proposed amendment to the Certificate of Incorporation which would increase or decrease the par value of the shares of Class A Stock, or alter or change the powers, preferences or special rights of the shares of Class A Stock so as to affect them adversely. (3) A holder of shares of Class B Stock shall be entitled at any time and from time to time to convert any or all such shares held by him into shares of Class A Stock in the ratio of one share of Class A Stock for one share of Class B Stock. Each conversion of shares of Class B Stock into shares of Class A Stock made pursuant to the provisions of this paragraph (3) shall be effected by the surrender of the certificate representing the shares to be converted at the office of the Secretary of the Company (or at such additional place or places as may from time to time be designated by the Secretary or any Assistant Secretary of the Company) in such form and accompanied by all stock transfer tax stamps, if any, as shall be requisite for such transfer, and upon such surrender the holder of such shares shall be entitled to become, and shall be registered on the books of the Company as, the holder of the number of shares of Class A Stock issuable upon such conversion, and each such share of Class B Stock shall be converted into one share of Class A Stock, as the Class A Stock shall then be constituted, and thereupon there shall be issued and delivered to such holder or other named person, as the case may be, promptly at such office or other designated place, a certificate or certificates for such number of shares of Class A Stock. (4) Upon the affirmative vote or the written consent of the holders of a majority of the outstanding shares of Class B Stock, all or any part of the entire class of outstanding Class B Stock shall be converted, effective upon the date specified in such vote or consent, into shares of Class A Stock in the ratio of one share of Class A Stock for one 6 share of Class B Stock. Any conversion pursuant to this paragraph (4) of less than all the outstanding shares of Class B Stock shall be effected through the conversion of an equal percentage of such shares held by each holder of Class B Stock (including any holder who shall not have given his affirmative vote or written consent). Any fractional share of Class B Stock resulting from the application of such percentage shall not be eliminated and shall exist as a fractional share of Class B Stock and the holder thereof shall be entitled to exercise voting rights, to receive dividends thereon, to participate in any of the assets of the Company in the event of liquidation and to all other rights in respect of Class B Stock to the extent of such fractional share; but any fractional share of Class A Stock shall be eliminated and in lieu thereof the Company shall issue scrip or pay cash as provided in paragraph (5) of this Section B. Upon the effective date of any conversion pursuant to this paragraph (4), certificates representing the shares of Class B Stock so converted shall thereafter represent a like number of shares of Class A Stock, and each holder thereof shall be registered on the books of the Company as the record holder of such number of shares of Class A Stock. Upon presentation and surrender of said certificates at the office of the Secretary of the Company (or at such additional place or places as may from time to time be designated by the Secretary or any Assistant Secretary of the Company) the Company shall issue or cause to be issued certificates representing the whole number of shares of Class A Stock resulting from such conversion, and shall issue scrip or pay cash in lieu of any fractional share eliminated upon such conversion, and shall issue or cause to be issued certificates representing the number of whole shares and any fractional shares of Class B Stock remaining after such conversion. (5) Fractional shares of Class B Stock shall be issued upon and in connection with any conversion, split-up, merger, consolidation, reclassification, stock dividend or other change in so far as the same shall affect Class B Stock. A certificate for a fractional share of Class B Stock so issued shall entitle the holder to exercise voting rights, to receive dividends thereon, to participate in any of the assets of the Company in the event of liquidation and to all other rights in respect of Class B Stock to the extent of such fractional share. No fractional share of stock of any other class of the Company now or hereafter authorized shall be issuable upon or in connection with any other conversion, split-up, merger, consolidation, reclassification, stock dividend or change involving stock of such other class; in lieu of any such fractional share, the person entitled to an interest in respect of such a fractional share shall be entitled, as determined from time to time by the Board of Directors, to either (i) a scrip certificate for such fractional share with such terms and conditions as the Board of Directors shall prescribe or (ii) the cash equivalent of any such fractional share based upon the market value of shares of such class at the date on which rights in respect of any such fractional share shall accrue, as determined in good faith by the Board of Directors. (6) Subject to the prior rights of the holders of the Preferred Stock contained in this Article Fourth, when and as dividends are declared, whether payable in cash, in property or in shares of stock of the Company (except as hereinafter provided in this paragraph (6)), the holders of Class A Stock and the holders of Class B Stock shall be entitled to share equally, share for share, in such dividends. A dividend payable in shares of Class 7 A Stock to the holders of Class A Stock and in shares of Class B Stock to the holders of Class B Stock shall be deemed to be shared equally among both classes. No dividends shall be declared or paid in shares of Class B Stock except to holders of Class B Stock, but dividends may be declared and paid, as determined by the Board of Directors, in shares of Class A Stock to all holders of Common Stock. (7) In the event of any liquidation, dissolution or winding up of the Company, either voluntary or involuntary, after payment shall have been made to the holders of the Preferred Stock of the full amount to which they shall be entitled pursuant to paragraph (3) of Section A of this Article Fourth, the holders of Common Stock shall be entitled, to the exclusion of the holders of the Preferred Stock of any and all series, to share, ratably according to the number of shares of Common Stock held by them, in all remaining assets of the Company available for distribution to its stockholders. B. Issuance of Stock; Negation of Preemptive Rights Without the affirmative vote or written consent of the holders of a majority of the outstanding shares of Class B Stock, the Company shall not issue or sell any shares of Class B Stock or any obligation or security that shall be convertible into, or exchangeable for, or entitle the holder thereof to subscribe for or purchase, any shares of Class B Stock. Except as expressly provided in this Section C or as the Board of Directors in its discretion may by resolution determine, no holder of stock of the Company of any class shall have any right to subscribe for or purchase any shares of stock of the Company of any class now or hereafter authorized or any obligations or securities which the Company may hereafter issue or sell that shall be convertible into, or exchangeable for, or entitle the holders thereof to subscribe for or purchase, any shares of any such class of stock of the Company. C. Rights or Options Subject to Section C of this Article Fourth, the Company shall have the power to create and issue, whether or not in connection with the issue and sale of any shares of stock or other securities of the Company, rights or options entitling the holders thereof to purchase from the Company any shares of its capital stock of any class or classes at the time authorized, such rights or options to be evidenced by or in such instrument or instruments as shall be approved by the Board of Directors. The terms upon which, the time or times, which may be limited or unlimited in duration, at or within which, and the price or prices at which any such rights or options may be issued and any such shares may be purchased from the Company upon the exercise of any such right or option shall be such as shall be fixed and stated in a resolution or resolutions adopted by the Board of Directors providing for the creation and issue of such rights or options and, in every case, set forth or incorporated by reference in the instrument or instruments evidencing such rights or options. In the absence of actual fraud in the transaction, the judgment of the Board of Directors as to the consideration for the issuance of such rights or options and the sufficiency thereof shall be conclusive. 8 D. Unclaimed Dividends Any and all right, title, interest and claim in or to any dividends declared, or other distributions made, by the Company, whether in cash, stock or otherwise, which are unclaimed by the stockholder entitled thereto for a period of three years after the close of business on the payment date, shall be and be deemed to be extinguished and abandoned; and such unclaimed dividends or other distributions in the possession of the Company, its transfer agents or other agents or depositaries shall at such time become the absolute property of the Company, free and clear of any and all claims of any persons or other entities whatsoever. FIFTH: The private property of the stockholders of the Company shall not be subject to the payment of corporate debts to any extent whatsoever. SIXTH: Whenever a compromise or arrangement is proposed between the Company and its creditors or any class of them and/or between the Company and its stockholders or any class of them, any court of equitable jurisdiction within the State of Delaware may, on the application in a summary way of the Company or of any creditor or stockholder of the Company or on the application of any receiver or receivers appointed for the Company under the provisions of Section 291 of Title 8 of the Delaware Code or on the application of trustees in dissolution or of any receiver or receivers appointed for the Company under the provisions of Section 279 of Title 8 of the Delaware Code order a meeting of the creditors or class of creditors and/or of the stockholders or class of stockholders of the Company, as the case may be, to be summoned in such manner as the said court directs. If a majority in number representing three-fourths in value of the creditors or class of creditors, and/or of the stockholders or class of stockholders of the Company, as the case may be, agree to any compromise or arrangement and to any reorganization of the Company as a consequence of such compromise or arrangement, the said compromise or arrangement and the said reorganization shall, if sanctioned by the court to which the said application has been made, be binding on all the creditors or class of creditors, and/or on all the stockholders or class of stockholders, of the Company, as the case may be, and also on the Company. SEVENTH: In furtherance and not in limitation of the powers conferred by the laws of the State of Delaware, the Board of Directors, subject to the provisions of this Certificate of Incorporation, is expressly authorized and empowered: (a) To make, alter, amend or repeal the Bylaws of the Company in any manner not inconsistent with the laws of the State of Delaware or this Certificate of Incorporation, subject to the power of the stockholders to amend, alter or repeal the Bylaws made by the Board of Directors or to limit or restrict the power of the Board of Directors so to make, alter, amend or repeal the Bylaws; provided, however, that so long as any Class B Stock shall remain outstanding the minimum number of directors shall be the lowest number required for the holders of Class B Stock to have the absolute power under all conditions and circumstances to elect a majority of the directors. 9 (b) Subject to the applicable provisions of the Bylaws, to determine from time to time, whether and to what extent and at what times and places and under what conditions and regulations the accounts and books and documents of the Company, or any of them, shall be open to the inspection of the stockholders, and no stockholder shall have any right to inspect any account or book or document of the Company, except as conferred by the laws of the State of Delaware, unless and until authorized so to do by resolution adopted by the Board of Directors or the stockholders of the Company entitled to vote in respect thereof. (c) Without the assent or vote of the stockholders, to authorize and issue obligations of the Company, secured or unsecured, to include therein such provisions as to redeemability, convertibility or otherwise, as the Board of Directors in its sole discretion may determine, and to authorize the mortgaging or pledging, as security therefor, of any property of the Company, real or personal, including after-acquired property. (d) To fix and determine, and to vary the amount of, the working capital of the Company; to determine whether any, and if any, what part of any, accumulated profits shall be declared in dividends and paid to the stockholders; to determine the time or times for the declaration and payment of dividends; to direct and to determine the use and disposition of any surplus or net profits over and above the capital stock paid in; and in its discretion the Board of Directors may use or apply any such surplus or accumulate profits in the purchase or acquiring of bonds or other pecuniary obligations of the Company to such extent, in such manner and upon such terms as the Board of Directors may deem expedient. (e) To sell, lease or otherwise dispose of, from time to time, any part or parts of the properties of the Company and to cease to conduct the business connected therewith or again to resume the same, as it may deem best. In addition to the powers and authorities hereinbefore or by statute expressly conferred upon it, the Board of Directors may exercise all such powers and do all such acts and things as may be exercised or done by the Company, subject, nevertheless, to the provisions of the laws of the State of Delaware, of this Certificate of Incorporation and of the Bylaws of the Company. EIGHTH: No contract or transaction between the Company and one or more of its directors or officers, or between the Company and any other corporation, partnership, association or other organization in which one or more of its directors or officers are directors or officers or have a financial interest, shall be void or voidable solely for such reason, or solely because such director or officer is present at or participates in the meeting of the Board of Directors or committee thereof which authorizes such contract or transaction, or solely because such director is counted in determining the presence of a quorum at such meeting and votes upon the authorization of such contract or transaction, if (a) the material facts as to such director's or officer's relationship or interest and as to the contract or transaction are disclosed or are known to the Board of Directors or the committee, and the Board of Directors or the committee in good faith authorizes the contract or transaction by the affirmative vote of a majority of the disinterested members thereof, even though such disinterested members be less than a quorum, or (b) the material facts as to such director's or officer's relationship or interest and as to the contract or transaction are disclosed or are known to the stockholders entitled to vote thereon, and the contract or transaction is specifically approved in good faith by such stockholders, or (c) 10 the contract or transaction is fair as to the Company as of the time it is authorized, approved or ratified by the Board of Directors, a committee thereof, or the stockholders. Common or interested directors may be counted in determining the presence of a quorum at a meeting of the Board of Directors or of a committee which authorizes the contract or transaction. NINTH: Limitation of Liability; Indemnification A. Limitation of Directors' Liability To the fullest extent that the General Corporation Law of the State of Delaware, as it exists on the date hereof or as it may hereafter be amended, permits the limitation or elimination of the liability of directors, no director of the Company shall be liable to the Company or its stockholders for monetary damages for breach of fiduciary duty as a director. No amendment to or repeal of this Section A of this Article shall apply to or have any effect on the liability or alleged liability of any director of the Company for or with respect to any acts or omissions of such director occurring prior to such amendment or repeal. B. Indemnification 1. Right to Indemnification. The Company shall to the fullest extent permitted by applicable law as then in effect indemnify any person (the "Indemnitee") who was or is involved in any manner (including, without limitation, as a party or witness) or is threatened to be made so involved in any threatened, pending or completed investigation, claim, action, suit or proceeding, whether civil, criminal, administrative or investigative (including, without limitation, any action, suit or proceeding by or in the right of the Company to procure a judgment in its favor) (a "Proceeding") by reason of the fact that he is or was a director or officer of the Company, or is or was serving at the request of the Company as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise (including, without limitation, any employee benefit plan) against all expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with such Proceeding. Such indemnification shall be a contract right and shall include the right to receive payment in advance of any expenses incurred by the Indemnitee in connection with such Proceeding, consistent with the provisions of applicable law as then in effect. 2. Insurance, Contracts and Funding. The Company may purchase and maintain insurance to protect itself and any Indemnitee against any expenses, judgments, fines and amounts paid in settlement as specified in Section B-1 of this Article or incurred by any Indemnitee in connection with any Proceeding referred to in Section B-1 of this Article, to the fullest extent permitted by applicable law as then in effect. The Company may enter into contracts with any director or officer of the Company in furtherance of the provisions of this Article and may create a trust fund, grant a security interest or use other means (including, without limitation, a letter of credit) to ensure the payment of such amounts as may be necessary to effect indemnification as provided in this Article. 11 3. Indemnification Not Exclusive Right. The right of indemnification provided in this Article shall not be exclusive of any other rights to which those seeking indemnification may otherwise be entitled, and the provisions of this Article shall inure to the benefit of the heirs and legal representatives of any person entitled to indemnity under this Article and shall be applicable to proceedings commenced or continuing after the adoption of this Article, whether arising from acts or omissions occurring before or after such adoption. 4. Advancement of Expenses; Procedures; Presumptions and Effects of Certain Proceedings; Remedies. In furtherance but not in limitation of the foregoing provisions, the following procedures, presumptions and remedies shall apply with respect to the advancement of expenses and the right to indemnification under this Article: (a) Advancement of Expenses. All reasonable expenses incurred by or on behalf of an Indemnitee in connection with any Proceeding shall be advanced to the Indemnitee by the Company within 20 days after the receipt by the Company of a statement or statements from the Indemnitee requesting such advance or advances from time to time, whether prior to or after final disposition of such Proceeding. Such statement or statements shall reasonably evidence the expenses incurred by the Indemnitee and, if required by law at the time of such advance, shall include or be accompanied by an undertaking by or on behalf of the Indemnitee to repay the amounts advanced if it should ultimately be determined that the Indemnitee is not entitled to be indemnified against such expenses pursuant to this Article. (b) Procedure for Determination of Entitlement to Indemnification. (i) To obtain indemnification under this Article, an Indemnitee shall submit to the Secretary of the Company a written request, including such documentation as is reasonably available to the Indemnitee and reasonably necessary to determine whether and to what extent the Indemnitee is entitled to indemnification (the "Supporting Documentation"). The determination of the Indemnitee's entitlement to indemnification shall be made not later than 60 days after receipt by the Company of the written request for indemnification together with the Supporting Documentation. The Secretary of the Company shall, promptly upon receipt of such a request for indemnification, advise the Board of Directors in writing that the Indemnitee has requested indemnification. (ii) The Indemnitee's entitlement to indemnification under this Article shall be determined in one of the following ways: (A) by a majority vote of the Disinterested Directors (as hereinafter defined), if they constitute a quorum of the Board of Directors; (B) by a written opinion of Independent Counsel (as hereinafter defined) if a quorum of the Board of Directors consisting of Disinterested Directors is not obtainable or, even if obtainable, a majority of such Disinterested Directors so directs; (C) by the stockholders of the Company entitled to vote; or (D) as provided in Section B-4(c) of this Article. 12 (iii) In the event the determination of entitlement to indemnification is to be made by Independent Counsel pursuant to Section B-4(b)(ii) of this Article, a majority of the Disinterested Directors shall select the Independent Counsel, but only an Independent Counsel to which the Indemnitee does not reasonably object. (c) Presumptions and Effect of Certain Proceedings. Except as otherwise expressly provided in this Article, the Indemnitee shall be presumed to be entitled to indemnification under this Article upon submission of a request for indemnification together with the Supporting Documentation in accordance with Section B-4(b)(i), and thereafter the Company shall have the burden of proof to overcome that presumption in reaching a contrary determination. In any event, if the person or persons empowered under Section B-4(b) of this Article to determine entitlement to indemnification shall not have been appointed or shall not have made a determination within 60 days after the receipt by the Company of the request therefor together with the Supporting Documentation, the Indemnitee shall be entitled to indemnification unless (A) the Indemnitee misrepresented or failed to disclose a material fact in making the request for indemnification or in the Supporting Documentation or (B) such indemnification is prohibited by law. The termination of any Proceeding described in Section B-1, or of any claim, issue or matter therein, by judgment, order, settlement or conviction, or upon a plea of nolo contendere or its equivalent, shall not, of itself, adversely affect the right of the Indemnitee to indemnification or create a presumption that the Indemnitee did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the Company or, with respect to any criminal Proceeding, that the Indemnitee had reasonable cause to believe that his conduct was unlawful. (d) Remedies of Indemnitee. (i) In the event that a determination is made pursuant to Section B-4(b) of this Article that the Indemnitee is not entitled to indemnification under this Article, (A) the Indemnitee shall be entitled to seek an adjudication of his entitlement to such indemnification either, at the Indemnitee's sole option, in (x) an appropriate court of the State of Delaware or any other court of competent jurisdiction or (y) an arbitration to be conducted by a single arbitrator pursuant to the rules of the American Arbitration Association; (B) any such judicial proceeding or arbitration shall be de novo and the Indemnitee shall not be prejudiced by reason of such adverse determination; and (C) in any such judicial proceeding or arbitration the Company shall have the burden of proving that the Indemnitee is not entitled to indemnification under this Article. (ii) If a determination shall have been made or deemed to have been made, pursuant to Section B-4(b) or (c), that the Indemnitee is entitled to indemnification, the Company shall be obligated to pay the amounts constituting such indemnification within five days after such determination has been made or deemed to have been made and shall be 13 conclusively bound by such determination unless (A) the Indemnitee misrepresented or failed to disclose a material fact in making the request for indemnification or in the Supporting Documentation or (B) such indemnification is prohibited by law. In the event that (C) advancement of expenses is not timely made pursuant to Section B-4(a) or (D) payment of indemnification is not made within five days after a determination of entitlement to indemnification has been made or deemed to have been made pursuant to Section B-4(b) or (c), the Indemnitee shall be entitled to seek judicial enforcement of the Company's obligation to pay to the Indemnitee such advancement of expenses or indemnification. Notwithstanding the foregoing, the Company may bring an action, in an appropriate court of the State of Delaware or any other court of competent jurisdiction, contesting the right of the Indemnitee to receive indemnification hereunder due to the occurrence of an event described in subclause (A) or (B) of this clause (ii) (a "Disqualifying Event"); provided, however, that in any such action the Company shall have the burden of proving the occurrence of such Disqualifying Event. (iii) The Company shall be precluded from asserting in any judicial proceeding or arbitration commenced pursuant to this Section B-4(d) that the procedures and presumptions of this Article are not valid, binding and enforceable and shall stipulate in any such court or before any such arbitrator that the Company is bound by all the provisions of this Article. (iv) In the event that the Indemnitee, pursuant to this Section B-4(d), seeks a judicial adjudication of or an award in arbitration to enforce his rights under, or to recover damages for breach of, this Article, the Indemnitee shall be entitled to recover from the Company, and shall be indemnified by the Company against, any expenses actually and reasonably incurred by him if the Indemnitee prevails in such judicial adjudication. If it shall be determined in such judicial adjudication or arbitration that the Indemnitee is entitled to receive part but not all of the indemnification or advancement of expenses sought, the expenses incurred by the Indemnitee in connection with such judicial adjudication or arbitration shall be prorated accordingly. (e) Definitions. For purposes of this Section B-4: (i) "Disinterested Director" means a director of the Company who is not or was not a party to the Proceeding in respect of which indemnification is sought by the Indemnitee. (ii) "Independent Counsel" means a law firm or a member of a law firm that neither presently is, nor in the past five years has been, retained to represent (A) the Company or the Indemnitee in any matter material to either such party or (B) any other party to the Proceeding giving rise to a 14 claim for indemnification under this Article. Notwithstanding the foregoing, the term "Independent Counsel" shall not include any person who, under the applicable standards of professional conduct then prevailing under the law of the State of Delaware, would have a conflict of interest in representing either the Company or the Indemnitee in an action to determine the Indemnitee's rights under this Article. (5) Severability. If any provisions of this Article shall be held to be invalid, illegal or unenforceable for any reason whatsoever: (a) the validity, legality and enforceability of the remaining provisions of this Article (including, without limitation, all portions of any paragraph of this Article containing any such provision held to be invalid, illegal or unenforceable that are not themselves invalid, illegal or unenforceable) shall not in any way be affected or impaired thereby; and (b) to the fullest extent possible, the provisions of this Article (including, without limitation, all portions of any paragraph of this Article containing any such provision held to be invalid, illegal or unenforceable that are not themselves invalid, illegal or unenforceable) shall be construed so as to give effect to the intent manifested by the provision held invalid, illegal or unenforceable. TENTH: To the extent deemed necessary or appropriate by the Board of Directors to enable the Company to engage in any business or activity directly or indirectly conducted by it in compliance with the laws of the United States of America as now in effect or as they may hereafter from time to time be amended, the Company may adopt such Bylaws as may be necessary or advisable to comply with the provisions and avoid the prohibitions of any such law. ELEVENTH: Elections of directors need not be by written ballot unless the Bylaws of the Company shall so provide. TWELFTH: The Company reserves the right at any time and from time to time to amend, alter, change or repeal any provision contained in this Certificate of Incorporation in the manner now or hereafter prescribed by law, and all rights, preferences and privileges of whatsoever nature conferred upon stockholders, directors, or any other persons whomsoever by and pursuant to this Certificate of Incorporation in its present form or as hereinafter amended are granted subject to the right reserved in this Article Twelfth. 15 The name and mailing address of the Incorporator is Eli Curi, Jr., 12 East 49th Street, 30th Floor, New York, NY 10017. IN WITNESS WHEREOF, the undersigned being the sole incorporator executes, signs and acknowledges this Certificate of Incorporation, this 21st day of September, 1998 and affirms the statements contained herein as true under penalty of perjury. /s/ Eli Curi, Jr. ------------------------------- Eli Curi, Jr. Sole Incorporator CERTIFICATE OF AMENDMENT TO THE CERTIFICATE OF INCORPORATION OF THE PIETRAFESA CORPORATION The Pietrafesa Corporation (the "Corporation"), a corporation organized and existing under the laws of the State of Delaware, hereby certifies as follows: FIRST: That the name of the Corporation is The Pietrafesa Corporation. The date of the filing of the Certificate of Incorporation of the Corporation with the Secretary of State of the State of Delaware is September 21, 1998. SECOND: That the Board of Directors of said Corporation, at a vote duly conducted, adopted a resolution to amend Article FOURTH(a) of the Corporation's Certificate of Incorporation to read in its entirety as follows: "FOURTH: (a) The total number of shares of all classes of stock which the Company shall have authority to issue is 27,000,000, consisting of 12,000,000 shares of Class A Common Stock, par value $.001 per share (the "Class A Stock"), 10,000,000 shares of Class B Common Stock, par value $.0002 per share (the "Class B Stock," and together with the Class A Stock, the "Common Stock"), and 5,000,000 shares of Preferred Stock, par value $.001 per share (the "Preferred Stock")." THIRD: That in lieu of a meeting and vote of stockholders, the sole stockholder of the Corporation has given written consent to said amendment in accordance with the provisions of Section 228 of the General Corporation Law of the State of Delaware. FOURTH: That the aforesaid amendment was duly adopted in accordance with the applicable provisions of Sections 228 and 242 of the General Corporation law of the State of Delaware. FIFTH: That this Certificate of Amendment to the Certificate of Incorporation shall be effective immediately upon filing with the Secretary of State of the State of Delaware. IN WITNESS WHEREOF, The Pietrafesa Corporation has caused this Certificate of Amendment to be signed this 12th day of July, 1999. By: /s/ Richard C. Pietrafesa, Jr. -------------------------------------- Name: Richard C. Pietrafesa, Jr. Title: President and Chief Executive Officer EX-4 4 COMMON STOCK CERTIFICATE Exhibit 4 Form of Common Stock Certificate Common Stock Common Stock Number Shares Incorporated under the laws of the State of Delaware THE PIETRAFESA CORPORATION CLASS A COMMON STOCK, PAR VALUE $.001 PER SHARE CUSIP 720887 108 THIS CERTIFIES THAT is the owner of fully paid and non-assessable shares of Class A Common Stock, par value $.001 per share, of THE PIETRAFESA CORPORATION, transferable on the books of the Corporation by the holder hereof in person or by duly authorized attorney upon surrender of this Certificate properly endorsed. This Certificate is not valid unless duly countersigned by the Transfer Agent and registered by the Registrar. WITNESS the facsimile seal of the Corporation and the facsimile signatures of its duly authorized officers. - ------------------------------ ------------------------------ President Secretary Countersigned and Registered: American Stock Transfer & Trust Company (Brooklyn, NY) Transfer Agent and Registrar By --------------------------- Authorized Officer EX-5 5 LEGAL OPINION EXHIBIT 5 [Letterhead of Roberts, Sheridan & Kotel, P.C.] July 12, 1999 The Pietrafesa Corporation 7400 Morgan Road Liverpool, NY 13090 The Pietrafesa Corporation Registration Statement on Form S-1 Dear Sirs: We have acted as counsel for The Pietrafesa Corporation, a Delaware corporation (the "Issuer"), in connection with the preparation of Pre-Effective Amendment No. 2 to the Registration Statement on Form S-1 (the "Registration Statement") filed with the Securities and Exchange Commission (the "Commission") on July 12, 1999, Registration Number 333-74439, under the Securities Act of 1933 (the "Act") for the registration under the Act of 4,058,333 shares of Class A Common Stock, par value $.001 per share, of the Issuer. Such registered shares of Class A Common Stock consist of 4,000,000 shares being offered by the Issuer and up to 58,333 shares being offering for resale, from time to time, by a stockholder of the Issuer. In that connection, we have examined originals or copies, certified or otherwise identified to our satisfaction, of certificates of public officials and corporate records, instruments and documents of or affecting the Issuer, including, without limitation, (i) the Certificate of Incorporation of the Issuer; (ii) the Bylaws of the Issuer; (iii) resolutions adopted by the Board of Directors and Stockholders of the Issuer; and (iv) a form of specimen stock certificate for the Class A Common Stock. We have also examined originals or copies, certified or otherwise identified to our satisfaction, of certificates of officers of the Issuer, and have reviewed such questions of law and made such other inquiries, as we have deemed necessary or appropriate for the purpose of rendering this opinion. In rendering our opinion, we have relied, as to matters of fact, upon representations and warranties of the Issuer and upon such certificates and other instruments of officers of the Issuer and public officials as we have deemed necessary or appropriate for the purpose of rendering this opinion, in each case without independent investigation or verification. Additionally, without any independent investigation or verification, we have assumed (i) the 2 genuineness of all signatures, (ii) the authenticity of all documents submitted to us as originals and the conformity with the original documents of all documents submitted to us as certified, conformed or photostatic copies, (iii) the authority of all persons signing any document other than the officers of the Issuer, where applicable, signing in their capacity as such, (iv) the enforceability of all the agreements we have reviewed in accordance with their respective terms against the parties thereto, and (v) the truth and accuracy of all matters of fact set forth in all certificates and other instruments furnished to us. Based upon the foregoing, and subject to the limitations, qualifications and assumptions set forth herein, we are of the opinion that: 1. The Issuer is a corporation duly incorporated and is in good standing under the laws of the State of Delaware. 2. The 4,058,333 shares of Class A Common Stock, when sold in accordance with the provisions of the Registration Statement, shall have been legally issued and are fully paid and nonassessable. Members of this Firm are admitted to practice law only in the State of New York and do not purport to be experts on, and are not expressing any opinion with respect to, any laws other than the laws of the State of New York, Delaware corporate law and the Federal laws of the United States of America. We hereby consent to the filing of this opinion as Exhibit 5 to the Registration Statement and the reference to us under the heading "Legal Counsel" in the prospectus included in Part I of the Registration Statement. In giving such consent, we do not thereby admit that we are in the category of persons whose consent is required under Section 7 of the Act. Very truly yours, Roberts, Sheridan & Kotel, P.C. EX-10.10 6 ALEXANDER JULIAN LICENSE EXHIBIT 10.10 ALEXANDER JULIAN, INC. 63 Copps Hill Road Ridgefield, CT 06877 as of January 1, 1996 Windsong, Inc. 224 Riverside Avenue Westport, CT 06880 Attention: Joseph Sweedler Gentlemen: You have requested that Alexander Julian, Inc., a North Carolina corporation (hereinafter referred to as the "Company"), grant to Windsong, Inc., a Connecticut corporation, ("Windsong"), the exclusive right to use the trademark COLOURS BY ALEXANDER JULIAN, whether registered or not, (the "Trademark"), in connection with the manufacture, importation, distribution, advertising and sale of the products listed in Exhibit A (the "Products"). This letter sets forth the terms on which the Company agrees to grant such rights. 1. Grant. 1.1 Subject to the terms and conditions hereof the Company hereby grants to Windsong and Windsong hereby accepts, an exclusive license to use the Trademark, including all of the rights and privileges that the Company has or shall acquire during the term hereof in utilizing the Trademark, solely in connection with the manufacture, importation, distribution, advertising and sale of the Products in the countries set forth in Exhibit B which is attached hereto (the "Territory"). 1.2 Windsong shall not manufacture, distribute or sell any merchandise utilizing the Trademark, except as specifically provided for herein, in the Territory or otherwise. All articles other than the Products are expressly excluded from this Agreement. 2. Design and Manufacture of the Products. 2.1 In accordance with industry practice and timetables the Company shall develop and present design information and product specifications and Windsong shall prepare finished designs and prototype samples of the Products, and shall submit such items to the Company for its written approval prior to use. The Company will consider suggestions of Windsong, but the Company will have ultimate design control. Windsong shall make no changes in the design of the Products unless such changes are consented to by the Company by prior written approval. In the event that the Company does not respond within fifteen days, then its approval shall be deemed to have been given. The finished design Products produced by Windsong shall be submitted to the Company for approval in a timely, formal, unified and cohesive presentation. 2.2 Windsong agrees to produce, and manufacture and diligently promote the Products for each selling season during the term of this Agreement. 2.3 All designs and product information, including without limitation, sketches and swatches, whether final or rough, for the Products are and shall be the sole and exclusive property of the Company, shall be returned to the Company, shall not be disclosed or furnished by Windsong to any other person, firm or corporation (except in accordance with this Agreement). Windsong shall not manufacture or sell any Product bearing designs copied from the Products of the Company or using trademark, copyrights or designs which are confusingly similar to the Trademark used in conjunction with the Products, or any other property proprietary to the Company, without the prior written consent of the Company. 2.4 The Products shall at all times be manufactured, packaged, sold, marketed, distributed, advertised or otherwise promoted in a manner appropriate for and consistent with the "Approved Quality" products. For purposes hereof, a Product shall be deemed to be of "Approved Quality" if the quality of such Product is equal or superior to the quality of a sample of such Product previously approved by the Company. 2.5 All of the Products shall be manufactured, labeled, packaged, sold, marketed, distributed, advertised or otherwise promoted in accordance with all applicable federal, state and local laws and regulations. 2.6 The styles, designs, packaging, labels, contents, fabric, color, workmanship and quality of all of the Products shall require the approval of the Company pursuant to the terms of this Agreement to insure that the Products manufactured, sold or distributed hereunder are of Approved Quality. 2.7 Windsong acknowledges that the Trademark has established prestige and goodwill and is well-recognized in the mind of the trade and the public, that it is of great importance and value to the Company, and that in the sale of the various lines of the Company's products, including the Products, the high standards and reputation that the Company and the Trademark have established be maintained. Accordingly, all Products produced by Windsong hereunder shall be of first quality and uniform workmanship, with strict adherence to all details, colors and other characteristics which have been approved by the Company. Windsong shall make no changes in any of the Company's 2 designs, its Products or samples approved by the Company without the prior written approval of the Company as to the changes. From time to time during production, Windsong shall, at reasonable times and upon reasonable notice during the term hereof, upon the Company's request, make its facilities available to the Company for inspection by its representative during usual working hours. Off-quality, irregular or damaged Products, or otherwise defective merchandise shall be clearly marked as such, and shall not bear the Trademark or trade name unless consented to in writing by the Company or unless the removal of such mark or name would destroy the Product. Windsong shall provide, and be financially responsible for, samples and related materials. 2.8 All the Products shall be manufactured in the Territory or in countries outside the Territory which have received prior written approval by the Company. Windsong will submit to the Company a list of countries and factories in which it intends to manufacture Products. 3. Marketing of the Products. 3.1 Windsong shall use its best efforts to exploit the rights herein granted, maximize sales and obtain as broad a distribution of the Products in the Territory as is reasonably possible consistent with the Company's high prestige and the maintenance of the Company's good will; provided, however, that none of the Products sold hereunder shall be sold to accounts which are not approved by the Company. Windsong shall provide the Company with a complete account list on an annual basis. Windsong acknowledges that the Products sold hereunder shall be sold in a manner so not to injure or in any manner diminish the substantial good will and prestige associated with items sold under the Trademark or that would otherwise injure the prestige and good will of the Company or the Trademark. 3.2 Windsong shall be responsible for the sale of the Products through its sales force and, unless otherwise specifically provided for herein, for all matters relating to such sales, including without limitation, credit determination, billing and shipping. 3.3 Windsong shall establish, maintain and operate a full time showroom for the display of the Products in New York, NY. In addition, Windsong shall display Products semi-annually at the Magic Trade Show in Las Vegas, Nevada. All matters involving the display shall have the prior written approval of the Company. 3.4 Windsong shall cause appropriate copyright, trademark, service mark or other notice desired by the Company relative to the Trademark to appear on or with all labels, cartons, containers, packing or wrapping material, advertising, art work, designs, promotional or display material bearing the Trademark. Copies of each and every tag, label, imprint, or other device containing any such notice, trademark or otherwise relating to the Products and 3 all advertising, art work, designs, packaging, promotional, display or publicity material bearing the Trademark including press releases, annual reports and promotional brochures (with respect to material pertaining to the Company or Trademark only) and promotional brochures shall be submitted by Windsong to the Company for its written approval prior to use by Windsong, which approval or rejection shall be given within five (5) working days of receipt thereof. Failure to respond within such time shall be deemed approval. None of such material shall bear the name of any other firm or person, except that certain advertising may bear the name of retail establishments with which Windsong is doing cooperative advertising. All such material shall be of a taste level consistent with the Company's reputation and image and shall be delivered to the Company in a timely manner so as to allow for due consideration and modification by the Company. Approval by the Company shall not constitute waiver of the Company's rights or Windsong's duties under any provision hereof. Windsong shall not vary the Trademark. 3.5 Windsong and the Company shall jointly prepare prior to year end a written annual marketing plan detailing their strategies for the ensuing period, with respect to sales, marketing, advertising and sales support. 4. Use of Trademark. 4.1 Windsong acknowledges that the Company has the sole and exclusive ownership of the Trademark in connection with the Products in the Territory. The Company agrees to maintain the Trademark for the term of this Agreement and in connection with the protection and defense thereof will consider all information from Windsong with regard to the potential infringement of the Trademark with respect to the Products, it being understood that all action or inaction with regard to protection of the Trademark shall be in the sole discretion of the Company. 4.2 Windsong shall cause to appear on everything which uses, bears or displays the Trademark, including without limitation, all labels, packaging, tags, advertising, annual reports, art work, designs, and promotional or display material therefor, a notice proclaiming and identifying the Trademark appearing therein as proprietary to the Company, as the Company may deem appropriate or as may be required by law or governmental regulation. No name and no product other than the Products shall be used in connection with the Trademark in any advertising, publicity, labeling, wrapping or packaging under the control of Windsong in connection with the Products, except as to which the Company may consent in writing or as otherwise provided herein with respect to trade or coop advertising or as may be required by law. 4 4.3 Windsong agrees that it will not have or obtain, by exercising its rights under this Agreement or otherwise, any right or interest in the Trademark, beyond the rights specifically granted in this Agreement. Windsong further agrees that the Trademark used by Windsong in connection with the Products which might suggest that they are indicia of source, shall, with all of the goodwill relating thereto, inure to the benefit of and be the sole property of the Company. If, contrary to the provisions of this Agreement, Windsong during or after the Term of this Agreement, obtains any right or interest in the Trademark by any cause, then Windsong will immediately assign it, along with any accompanying goodwill, to the Company, at Windsong's expense, in accordance with the Company's written instructions. If any such right or interest is not assigned or assignable for any reason, Windsong agrees never to exercise such right or interest by exploiting it directly or indirectly, or by preventing the Company or any other person authorized by the Company from exploiting it. 4.4 Windsong shall use the Trademark in each jurisdiction in the Territory in compliance with the legal requirements obtaining therein and shall use such markings in connection therewith as may be required by such jurisdiction's applicable legal provisions. 4.5 Windsong represents, warrants and covenants to the Company that Windsong (directly or through any affiliated or unaffiliated person) has not made and will not during and after the Term make, and does not and will not in any manner during and after the Term wholly or partially hold or control, or represent directly or indirectly that it holds or controls, any applications, registrations, or other indicia of ownership of the Trademark, or of any other property proprietary to the Company, or of any word, name, symbol or design which might suggest an association with the Company within or outside the Territory. Windsong agrees that it shall not, directly or indirectly, during the Term of this Agreement or thereafter, (i) challenge, contest or attack the Company's ownership of or the validity of the Trademark, or any application for registration thereof, or (ii) seek to register or claim ownership of any of the Trademark, or any other trademark confusingly similar to the Trademark. 4.6 Windsong shall not at any time use, promote, advertise, display or otherwise commercialize the Trademark, or any variation thereof, or any material utilizing or reproducing the Trademark, unless Windsong does so in such manner as will not adversely affect any right of ownership of the Company therein. 4.7 Windsong shall not use the Trademark in any manner likely to cause confusion or doubt in the mind of the public as to the ownership and control thereof or in any manner that does not make clear that the Trademark are owned and controlled exclusively by the Company. 5 4.8 Windsong shall, in connection with its duty to use the so as to promote the continuing goodwill thereof, give immediate attention and take necessary action to satisfy all material and legitimate customer complaints brought to the attention of Windsong in connection with the Products or other materials using the Trademark. Windsong shall give the Company immediate notice of all complaints that might affect the good standing of the Trademark or the reputation of the Company and also of all complaints that might result in legal action between the Company and any third party, and shall cooperate with the Company upon request to achieve as good a reputation and press for the Trademark as possible. 5. Infringement. 5.1 Windsong agrees to assist the Company, to the extent reasonably necessary, in the procurement of any protection or to protect any of the Company's rights in and to the Trademark in the Territory, both during and after the Term of this Agreement, including without limitation the procuring of trademark registrations. The Company, if it so desires, may commence or prosecute any claim or suit in its own name or join Windsong as a party thereto with the consent of Windsong. Windsong will immediately notify the Company in writing of any infringement or imitation of, or any other event or claim adverse to or in violation of the Company's rights or interests in, the Trademark, occurring within or outside the Territory, which comes to Windsong's attention. The Company shall have the absolute right to determine whether or not any action shall be taken on account of any such infringements or imitations and Windsong shall not institute any suit or take any action on account of any such infringements or imitations without first obtaining the written consent of the Company; however, should Windsong desire to take any action in respect of an infringement of the Trademark, the Company agrees to cooperate reasonably with Windsong in arriving at a mutually acceptable basis upon which to proceed with such action. 5.2 The Company does hereby indemnify and agree to hold Windsong harmless during and after the Term from and against any and all liabilities, claims, causes of action, suits, damages, loss, expenses, or other injury (including reasonable attorneys' fees and expenses), in connection with any legal or other formal proceeding by a third person against Windsong in which Windsong's proper reproduction or use of the Trademark in accordance with this Agreement is attacked for infringement of such third-person's proprietary rights. This obligation is conditional on Windsong notifying the Company promptly in writing of such proceeding or potential proceeding, on the Company having sole right to control all aspects of the defense of such proceeding (including choice of attorney and settlement), and on Windsong assisting and fully cooperating with the Company in connection with such proceeding. 6 5.3 Windsong does hereby indemnify and hold the Company harmless during and after the Term from and against any and all claims, liabilities, damages, causes of action, suits, losses, expenses or other injury (including reasonable attorney's fees and expenses) arising in any way out of Windsong's activities hereunder, including without limitation any actual or alleged: (i) Windsong violation of this Agreement; (ii) violation by any subcontractor of the terms of this Agreement; (iii) claim by any employee or subcontractor permitted by Windsong to produce or participate in the production of the Products; or (iv) other act or omission of such employee or subcontractor in connection with this Agreement. Windsong's indemnity obligation includes without limitation claims for alleged improper reproduction or use of the Trademark, or except as may be limited by paragraph 5.3 of actual or alleged violation of any copyright, trademark, service mark, certification mark, patent, confidential information, privacy, publicity or other rights, and claims for injury or damage related to any alleged defect in any Product, or the failure of any product to conform to applicable law. In the case of a legal or other proceeding by a third person against Windsong, relating to this provision, the Company shall assist and fully cooperate with Windsong in connection with such proceeding. Windsong shall provide Company with copies of all court pleadings, correspondence and any other relevant documentation relating to any such action. 6. Compensation and Certain Definitions. 6.1 "Net Sales" shall mean the invoice price charged by Windsong, for the sale or other exploitation of the Products in the Territory, as well as the fair market value of any other compensation received by Windsong with regard thereto. No set-offs or deductions of any kind may be taken in the determination of Net Sales or the royalties due the Company hereunder, except that Windsong may deduct standard trade, advertising and promotional discounts actually given, actual returns, bad debts, tariffs, import/export duties, freight and sales taxes. 6.2 "Annual Period" shall mean the twelve (12) month period commencing on January 1, and ending on December 31, for the term of this Agreement, except that the first Annual Period shall commence on [***] and end on [***]. 6.3 Annual Minimum Payments. During the initial term of this Agreement Windsong shall pay the Company a Minimum Annual Payment. Annual Minimum shall be paid in quarterly payments on January 1, April 1, July 1, and October 1 of each Annual Period. The Annual Minimum for the First Annual Period shall be [***] and thereafter shall be [***]. Thereafter the Annual Minimum payment shall be [***]. [***] Confidential treatment requested. Omitted portions have been filed separately with the Commission. 7 6.4 Percentage Payments. During the term of this Agreement, Windsong shall pay the Company a percentage payment of [***] Net Sales (the "Percentage Payment"). Any Percentage Payment due the Company for any calendar quarter during the Annual Period shall be paid by Windsong within thirty (30) days following the end of such calendar quarter. Additionally, if certain products designed by the Company (which shall be approved by the Company) but which do not bear the Trademark are sold by Windsong or off-price or irregular sales then the Company shall receive a percentage payment of [***]. 6.5 Payments of Annual Minimums for each Annual Period shall at all times be credited against the Percentage Payment due for the same Annual Period. 6.6 In no event shall the Percentage Payment for any Annual Period in excess of the Minimum Payment for the same Annual Period be credited against any payment due for any other Annual Period. 6.7 All amounts payable hereunder shall be paid in United States Dollars. 6.8 All payments hereunder which are overdue fifteen (l5) business days or more shall bear interest at [***]% above the prime rate from the due date. 6.9 Windsong shall promptly reimburse the Company upon presentation of an appropriate invoice for any travel or related expenses incurred by the Company and its employees in connection with this Agreement, including without limitation, sourcing travel, personal appearances, headquarters or sales visits which shall be discussed with Windsong. It is understood that travel for its principal designer shall be first class and for others business class whether domestic or foreign. 7. Advertising and Marketing Assistance. 7.1 During the term hereof in each Annual Period commencing January 1, 1996, Windsong shall set aside and pay over to the Company for advertising of the Trademark and the Products, [***]. All matters pertaining to such advertising shall be determined by the Company, including without limitation conception, development, content and placement. The Company shall consult periodically with Windsong regarding such program through the annual plan. Windsong and the Company shall account in writing to each other for all expenditures made hereunder. For purposes hereof, expenditures on advertising shall consist of the out-of-pocket cost of space and time in any media as well as direct production costs related thereto, direct out-of-pocket expenditures relating to public relations or in store [***] Confidential treatment requested. Omitted portions have been filed separately with the Commission. 8 seminars, promotions, displays, exhibits or joint showrooms may also constitute expenditures on advertising as well as fashion shows, press kits and videos. Windsong shall have annual audit rights with regard to advertising expenditures. 7.2 Any and all advertising undertaken by Windsong shall have the prior written approval of the Company. 7.3 All advertising (except cooperative advertising), art work, involving the Trademark, or any reproduction thereof, shall, notwithstanding their creation, invention or use by Windsong, be and remain the property of the Company and the Company shall be entitled to use the same. Upon the termination of this Agreement, all art work shall be delivered to the Company. 8. Accounting. 8.1 Windsong shall deliver to the Company, at the time each Percentage Payment is due, a full and complete statement (a form of which has been submitted to and approved by the Company and which is attached as Exhibit C) indicating the amount of the Net Sales for the period covered by the Percentage Payment. Each statement shall show the category, style number, description, invoice price and gross sales of all of the Products by categories and styles during the period covered by the Percentage Payment, as well as the amount of authorized deductions therefrom as permitted under this Agreement, including actual trade discounts and returns, and computation of the amount of Percentage Payment due hereunder in respect of such Net Sales for such period. Such statement shall in each instance be certified by the Chief Financial Officer of Windsong. Such statement shall be furnished irrespective of the quantity of the Products sold during the period for which such statement is due; provided, however, no statement shall be delivered until actual sales of the Products have occurred. The Company shall have the right to inspect return reports. 8.2 Windsong shall prepare and maintain, in accordance with generally accepted accounting principles as consistently applied by Windsong, complete and accurate books of account and records covering all transactions relating to the rights hereby granted. The Company and its duly authorized representatives shall have the right upon reasonable advance notice to examine said books of account and records and other documents and material in the possession or under the control of Windsong to the extent reasonably required to verify the amount of Net Sales of the Products, deductions, and compensation payable with respect to such sales, and to make extracts therefrom. All such books of account, records and documents shall be kept available by Windsong for the Company's inspection during the term of this Agreement. In the event that Windsong shall not deliver or make available in a timely manner the reports referred to herein, then the Company or its representative shall have the right to audit the books and records of 9 Windsong to determine the information contained in such reports and the expense of any such audit shall be borne by Windsong. This remedy shall be in addition to and without limitation to any other which the Company may have under this Agreement or otherwise. 8.3 The Company may, in its sole discretion and at its sole expense, cause an independent public accountant of its choice, upon reasonable advance notice to Windsong, to examine Windsong's books and records to verify the accuracy of the statements submitted by Windsong and to determine the amounts due the Company hereunder. Such examination and audit shall be at the Company's own expanse and shall be limited to no more than one such audit during any Annual Period; provided, however, that if such examination or audit discloses an underpayment of the total compensation due to the Company of [***] for the Annual Periods covered by such audit, then reasonable expenses incurred by the Company in connection with the examination and audit shall be borne by Windsong. 9. Term. 9.1 The initial term of this Agreement shall be from [***] and continuing through December 31, 2001; provided, however, that unless sooner terminated in accordance with its terms. Windsong shall have the right to renew this agreement for one additional period of five years, which renewal period shall end on December 31, 2006, if at least [***] prior to the conclusion of such term, written notice of such renewal is delivered to the Company by Windsong. The foregoing rights of extension shall only be exercisable for Windsong if Windsong shall have achieved Net Sales for the Products of [***] for the twelve months ending December 31, 2000. 9.2 It is understood that in the event that this Agreement is not renewed or extended on [***] or [***], as the case may be, then, the Company shall thereafter be free to negotiate with any other party in respect of the rights contained in this Agreement and to manufacture, distribute and sell the Products under the Trademark (either alone or in concert with a third party), provided that none of the Products is delivered for sale prior to the termination date of this Agreement. 9.3 In the event that the following sales volume is not achieved, the Company shall have the right to terminate the contract: Year ending Volume December 31, [***] [***] December 31, [***] [***] December 31, [***] [***] 10. Default. [***] Confidential treatment requested. Omitted portions have been filed separately with the Commission. 10 10.1 The following shall constitute events of default on the part of Windsong: (a) If any Advance Payment or Percentage Payment or other payment shall not be paid when due and such default continues for more than five (5) days after written notice thereof, or (b) if Windsong attacks the title or any rights of the Company in and to the Trademark or otherwise attacks the validity of this Agreement, or (c) if Windsong, except for reasons of force majuer, (i) ceases to manufacture, sell or distribute the Products unless otherwise provided for herein for a period of fifteen (15) days, or (ii) defaults in performing any of the other material terms of this Agreement, including but not limited to its obligations to use the Trademark and to not misuse the Trademark, and in each instance continues in default for a period of thirty (30) days after written notice thereof, or (d) if a receiver is appointed for it, or (e) if Windsong is adjudicated bankrupt or insolvent or makes application for relief as a debtor under any federal or state bankruptcy law, or (f) if Windsong defaults on any obligation which is secured by a security interest in any of the Products covered by this Agreement, then, in any such event, the Company shall have the right, exercisable in its sole discretion, to terminate this Agreement upon ten (10) days' written notice to Windsong of its intention to do so, and upon the expiration of such 10 day period, this Agreement shall automatically terminate and be of no further force and effect without prejudice to any remedy of the Company for the recovery of monies then due it under this Agreement or in respect of antecedent breach of this Agreement, and without prejudice to any other rights of the Company, including without limitation, damages for breach to the extent that the same may be recoverable. No assignee for the benefit of creditors, receiver, trustee in bankruptcy, sheriff, or any other officer of the court or official charged with taking over custody of Windsong's assets or business shall have the right to continue the performance of this Agreement. 10.2 Windsong shall have the right to terminate this Agreement (a) if the Company defaults in performing any of the material terms of this Agreement and continues in default for a period of thirty (30) days after notice thereof, or (b) if the Company is adjudicated bankrupt or insolvent, or makes application for relief as a debtor under any federal or state bankruptcy act, or (c) if a receiver is appointed for it. Windsong's right of termination shall take effect upon ten (10) days written notice thereof to the Company. 11. Disposal of Stock Upon Termination or Expiration. 11.1 Upon termination or expiration of this Agreement, Windsong shall provide the Company with an accurate inventory of Windsong's Products as of the termination date. Additionally, the Company or its agent shall have the right within ten (10) days of submission of the inventory to make an audit of Windsong's inventory of the Products. After termination of this Agreement, provided that Windsong is not in default hereunder, Windsong may 11 dispose of the Products which are on hand or in process at the time notice of termination is received for a period of one hundred eighty (180) days, on a non-exclusive basis, after date of termination, provided Windsong fully complies with all provisions of this Agreement hereof in connection with such disposal (including, but not limited to, payment of Percentage Payments pursuant to Paragraph 6 hereof). 12. Effect of Termination. 12.1 It is understood and agreed that except for the right to use the Trademark as specifically provided for in this Agreement, Windsong shall have no right, title or interest in or to the Trademark. Upon and after the termination of this Agreement and except as granted in Paragraph 11 hereof, all rights granted to Windsong hereunder, together with any interest in and to the Trademark and corresponding goodwill that Windsong may acquire, shall forthwith and without further act or instrument be assigned to and revert back to the Company. In addition, Windsong will execute any instruments reasonably requested by the Company to accomplish or confirm the foregoing. Any such assignment, transfer or conveyance shall be without further consideration other than the mutual agreements contained herein. The Company shall thereafter be free to assign or license to others the use of the Trademark in connection with the manufacture and sale of the Products covered hereby, and Windsong will refrain from further use of the Trademark or any further reference to it, direct or indirect, or anything deemed by the Company, in its sole opinion, to be similar to the Trademark in connection with the manufacture, sale or distribution of Windsong's products, except as specifically set forth in Paragraph 11 hereof. 13. Insurance. 13.1 Windsong shall procure and maintain at its own expense in full force and effect at all times during which the Products are being sold, a comprehensive liability insurance policy (including contractual and product liability) from a reputable insurance company with respect to all of the Products with a limit of liability of not less than $5,000,000 per occurrence and $2,000,000 per person. Such insurance may be obtained by Windsong in conjunction with a policy of products liability insurance which covers products other than the Products. Windsong shall deliver a certificate evidencing said insurance policy, and such policy shall name the Company as an additional insured to the extent of its interests, and shall provide that it may not be canceled or changed without thirty (30) days prior written notice to the Company. 14. Certain Representations and Warranties. 12 14.1 Windsong represents and warrants that it has full right, power and authority to enter into this Agreement and to perform all of its obligations hereunder and that it has sufficient financial capability to fulfill all of its obligations hereunder. 14.2 The Company hereby represents and warrants that it is the owner of the Trademark, and has the full right, power and authority to enter into this Agreement and to perform all of its obligations hereunder. The Company shall have the right to change the Trademark to resolve any actual or potential conflict with the rights of third parties. 14.3 Windsong represents and warrants that it will assign any and all design patents, copyrights, invention or other items of intellectual property that may have been developed or produced relating to the Products produced under this Agreement to the Company notwithstanding the invention or use by Windsong. 15. Samples. 15.1 Windsong shall provide the Company with samples from time to time as needed for marketing purposes, as may be reasonably requested by the Company. 16. Arbitration. 16.1 Except as specifically set forth in this Agreement, any and all disputes, controversies and claims arising out of or relating to this Agreement, or with respect to the construction of this Agreement, or concerning the respective rights or obligations hereunder of the parties hereto and their respective permitted successors and assigns (except disputes, controversies and claims relating to or affecting in any way the Company's ownership of, or rights to, or the validity of the Trademark or any registration thereof or infringement thereof, as set forth in Paragraph 6) shall be determined by arbitration of a panel of three (3) arbitrators in New York, New York, in accordance with and pursuant to the then existing rules of the American Arbitration Association. Windsong acknowledges that any unauthorized reproduction or use of the Trademark, during or after the Term, which violates this Agreement or is otherwise improper, will be an infringement of, and will immediately and irreparably damage the Company, and the Company's rights and interests in and to, and the value to the Company of, the Trademark, within and outside the Territory. Windsong agrees that the Company, provided it is not in breach of any of the terms in this Agreement, is entitled to preliminary and permanent injunctive relief and any and all other remedies for enforcement of rights to stop such reproduction or use. This Paragraph will in no way limit the Company from obtaining any and all other relief to which it may be entitled. Any arbitration award shall be final and binding upon the parties and judgment thereon may be entered in any court 13 having jurisdiction thereof. Jurisdiction in the state and federal courts of New York is hereby consented to by the parties for such purposes. The service of any notice, process, motion or other document in connection with an arbitration award hereunder may be effectuated either by personal service upon a party or by certified or registered mail to the respective addresses herein provided. The arbitrators shall have no right to amend or supplement this Agreement. 17. Notices, etc. 17.1 All notices, requests, consents and other communications hereunder shall be in writing and shall be deemed to have been properly given or sent on the date when such notice, request, consent or communication is (a) personally delivered and acknowledged, or (b) if mailed, when received by certified or registered mail, at the address of the parties set forth below, or at such other address or addresses as any of the parties hereto shall have heretofore designated by notice hereunder. If to the Company: Alexander Julian Inc. 63 Copps Hill Road Ridgefield, Connecticut 06877 Attention: Alexander Julian If to Windsong: Windsong 224 Riverside Avenue Westport, CT 06880 Attention: Joseph Sweedler 18. Relationship Between the Parties. 18.1 Nothing herein contained shall be construed to place the parties in the relationship of partners or joint venturers. Neither party shall represent itself as the agent or legal representative of the other party for any purpose whatsoever and shall have no power to obligate or bind the other party in any manner whatsoever. 19. Waiver. 19.1 None of the terms hereof can be waived or modified except by an express agreement in writing signed both parties hereto. The failure of either party hereto to enforce, or the delay by either party in enforcing, any of its rights hereunder shall not be deemed a continuing waiver or a modification thereof and either party may, within the time provided by applicable law, commence appropriate legal proceedings to enforce any and all such rights. All rights and remedies provided for herein shall be cumulative and in addition to any other rights or remedies such 14 parties may have at law or in equity. No person, firm or corporation, other than the parties hereto, shall be deemed to have acquired any rights by reason of anything contained in this Agreement. 20. Assignment. 20.1 This Agreement may not be assigned by Windsong without prior written consent of the Company. Windsong may not grant sublicenses. Subject to the foregoing, this Agreement shall bind and inure to the benefit of the parties, their successors and assigns. 21. Brokerage. 21.1 The parties in their negotiations relative to this Agreement have not utilized the services of any finder, broker or agent. Each party agrees to indemnify the other party against and hold it harmless from any and all liabilities (including without limitation, reasonable attorney's fees) to any person, firm or corporation claiming commissions or fees in connection with this Agreement or the transactions contemplated hereby as a result of an agreement with or services rendered to such party. 22. Paragraph Headings. 22.1 The captions of paragraphs have been inserted for convenience only and shall not be given any legal effect. 23. Applicable Law. 23.1 This Agreement shall be construed and interpreted in accordance with the internal laws of the State of New York applicable to contracts made and performed therein (without applying New York conflict of laws rules). If any applicable mandatory law prevents application of New York law to a provision of this Agreement, all other provisions will remain subject to New York law. 24. Severability. 24.1 In the event that any one or more provisions of this Agreement shall at any time be found to be invalid or otherwise rendered unenforceable, including with respect to all or part of the Territory, then such provision or provisions shall be severable from this Agreement (but only with respect to that part of the Territory) and the validity or enforceability of the remaining provisions of this Agreement shall not be affected thereby. 25. Entire Agreement. 15 25.1 This Agreement expresses fully the understanding between the parties and all prior understandings are hereby canceled and no changes in the terms of this Agreement shall be valid except when and if reduced to writing and signed by both parties. 16 If the foregoing correctly sets forth our complete agreement and understanding, please so indicate by signing in the space provided below and on the duplicate copy of this letter, and thereafter returning it to the Company, whereupon this letter shall constitute a binding agreement between the Company and Windsong. Very truly yours, ALEXANDER JULIAN, INC. By: /s/ ---------------------------- AGREED TO: As of this 1st day of January, 1996. WINDSONG, INC. By: /s/ Joseph Sweedler -------------------------------- 17 Alexander Julian, Inc. 63 Copps Hill Road Ridgefield, Connecticut 06877 As of July 9, 1999 Windsong, Inc. 1599 Post Road East Westport, Connecticut 06880 Re: License Agreement (the "License Agreement"), dated as of January 1, 1996, Between Alexander Julian, Inc. (the "Licensor") and Windsong, Inc. (the "Licensee") Gentlemen: In connection with the proposed sale of substantially all of the assets of the Licensee (including, without limitation, all of the Licensee's right, title and interest in, to and under the License Agreement) to Windsong Acquisition Corp. (the "Purchaser" pursuant to an Asset Purchase Agreement (the "Asset Purchase Agreement") to be entered into between the Licensee and the Purchaser, you have requested that the Licensor consent to the assignment of the License Agreement from the Licensee to the Purchaser. Effective upon [***] delivery of an executed guaranty by Pietrafesa Corporation as set forth in the last paragraph of this Letter Agreement, (i) the Licensor hereby consents to the assignment of the License Agreement from the Licensee to the Purchaser [***] (ii) the Licensor and the Licensee hereby amend and restate the last sentence in Article 6.3 of the License Agreement by deleting such sentence in its entirety and inserting in lieu thereof the following: "Thereafter the Annual Minimum payment shall be [***]," and (iii) the Licensor and Licensee reaffirm all other terms and conditions of the License Agreement except to the extent modified by this Letter Agreement and the Coloursport Alexander Julian Agreement entered into simultaneously herewith. The Licensor and the Licensee both represent to the best of their knowledge that (i) the License Agreement is in full force and effect, and (ii) there is no dispute or disagreement between the Licensor and the Licensee with respect to the License Agreement and to the best of their knowledge there is no basis for terminating the License Agreement or asserting any indemnity claim thereunder. The Licensor agrees and acknowledges that in connection with the assignment of the License Agreement, Licensee may continue to sell the Products (as defined by the License Agreement, Exhibit A) to Licensee's existing customers to the extent identified on Schedule A annexed hereto and made a part hereof. The Licensee agrees and acknowledges that notwithstanding the Licensor's approval of the customers identified on Schedule A, Licensee will not sell the Products (without Licensor's prior written approval), to any customer who: (i) applies for, or consents to the appointment of a receiver, trustee, or liquidator for all, or a substantial part of its assets; (ii) admits in writing its inability to pay its debts as they mature; (iii) makes a general assignment or trust mortgage for the benefit of its creditors; (iv) is adjudged bankrupt or insolvent; (v) files a petition initiating any proceeding under any insolvency or other similar law; (vi) files an answer admitting the material allegations of a petition filed in any proceeding under any provision of the Bankruptcy Act or under any insolvency or other similar law, or permits any such petition to remain undismissed for a period of thirty (30) days; or (vii) permits an order, judgment or decree to be entered with or without its application, approval or consent, by any court [***] Confidential treatment requested. Omitted portions have been filed separately with the Commission. of competent jurisdiction approving a petition seeking its reorganization, or the appointment of a receiver, trustee, liquidator, or any similar officer of all, or a substantial part, of its assets and, if such order, judgment or decree is entered without its application, approval or consent, such order, judgment or decree shall continue unstayed and in effect for a period of thirty (30) days; or (viii) takes any corporate action for the purpose of effecting any of the foregoing. The Licensor's prior written approval will be required relative to any publicity utilizing Licensor's corporate name, the name Alexander Julian. Licensor's trademarks, the License Agreement, and/or any modification of Pietrafesa Corporation's S-1 to the extent such modification concerns or relates to any of the above. Licensee agrees and acknowledges that there will not be any further assignment of the License Agreement without Licensor's prior written approval and that (i) any merger or acquisition of Purchaser or its parent, the result of which is that Purchaser or its parent is not the surviving entity, or (ii) any other corporate transaction whereby Philip E. Cohen is no longer in direct or indirect control of Pietrafesa Corporation, other than by death or total and permanent disability shall be considered an assignment requiring Licensor's prior written approval for the purposes of License Agreement Article 20. The Licensor will be timely provided with all further drafts and execution copies of (i) the "more definitive agreements" referenced in the Letter of Intent, (ii) the assignment of the License Agreement to Purchaser, and (iii) Pietrafesa Corporation's guaranty of Purchaser's assumption of the obligations of the License Agreement. In the event that the License Agreement has not been assigned to the Purchaser on or before the earlier of October 31, 1999 or the date on which the Asset Purchase Agreement terminates (or, if the Asset Purchase Agreement is not entered into by the Licensee and the Purchaser, the date on which the Letter of Intent, between the Licensee and The Pietrafesa Corporation is terminated), this Letter Agreement shall automatically terminate and be of no further force or effect, after which, the parties hereto shall not have any rights or obligations under this Letter Agreement. This Letter Agreement represents the entire agreement of the parties hereto with respect to the subject matter expressed in this Letter Agreement, and any previous agreement or understanding between the parties hereto with respect to the subject matter of this Letter Agreement is superseded by this Letter Agreement. This Letter Agreement is governed by the laws of the State of New York. This Letter Agreement and the assignment of the License Agreement to Purchaser shall not become effective unless and until the obligations of the Licensee are assumed by the Purchaser and unconditionally guaranteed by the Pietrafesa Corporation in form and substance acceptable to each of the undersigned. Very truly yours, ALEXANDER JULIAN, INC., Licensor By: /s/ Alexander Julian ---------------------------- Alexander Julian President Acknowledged and Agreed: WINDSONG, INC., Licensee By: /s/ Joseph Sweedler ------------------------------ Joseph Sweedler President 2 EX-10.11 7 FINOVA FACTORING AGREEMENT EXHIBIT 10.11 FINOVA CAPITAL CORPORATION FACTORING AGREEMENT (Retail Inventory) New York, New York November 4, 1996 Windsong, Inc. 64 Post Road West Westport, CT 06880 Gentlemen: Upon your written acceptance, to be noted at the foot of this instrument, the following shall constitute the entire agreement and understanding between us pursuant to which you hereby appoint us your sole factor on the following basis: 1. You agree to, and do hereby, sell and assign to us all of your right, title and interest in and to all of your accounts receivable, notes, bills, acceptances, contract rights and other forms of obligation (as hereinafter defined) and all security and guarantees therefore (herein collectively termed "Receivables") arising out of all of your sales of goods or rendition of services, whether now existing or hereafter created, together with title to any merchandise represented by such Receivables which may be rejected or returned by your customers for any reason whatsoever. You hereby grant us a continuing security interest in and to all of your present and hereafter acquired Inventory and the products and proceeds thereof. The term "Inventory" includes: (a) your raw materials, components, work in process, finished merchandise, and packing and shipping materials, wherever located; (b) all such chattels hereafter acquired by you by way of substitution, replacement, return, repossession or otherwise; (c) all additions and accessions thereto and the resulting product or mass; and (d) any documents of title representing any of the foregoing (herein collectively term "Inventory"). During the term of this Agreement you shall not sell, negotiate, pledge, assign or grant any security interest in any Receivables or inventory of yours to anyone other than us. 2. Except as hereinafter set forth, we agree to purchase your Receivables without recourse to you, provided that the sale of the merchandise represented by the Receivables and the terms thereof have first been approved by us in writing (such approval being sometimes referred to herein as "Credit Approval"), and provided further that the merchandise represented by the Receivables is duly delivered to and finally accepted and retained by your customer with out dispute, whether bona fide or not, as to price, terms of sale, delivery, quantity, quality or otherwise. We reserve the right to revoke our Credit Approval at any time prior to delivery to and acceptance by your customer. We shall be entitled to collect and receive all proceeds of your sales and shall enjoy all the rights and remedies of the seller of goods, including the right of stoppage in transit, reclamation, replevin and any similar rights or remedies as may be available to you. Our Credit Approval numbers shall be valid for a period of 30 days from the date of such Credit Approval number or until 30 days after the delivery date set forth in our approval sheet unless revoked by us. We shall not be liable in any manner for refusing to give or for withdrawing Credit Approval or for exercising our rights and remedies as set forth herein. No modifications or extensions may be granted by you with respect to any Receivable which has our Credit Approval without our prior written consent. In the event we shall give our written consent as aforesaid, upon each and every such consent to your requested modification or extension, whether as to terms, dates or otherwise, you shall pay us a service fee in the amount of $10.00 which fee shall be due and payable upon the issuance of our consent to your proposed modifications or extension. Receivables as to which we have not given our written Credit Approval, either in whole or in part, shall nevertheless be deemed to have been sold and assigned to us with full recourse to you to the extent and in the respects and amounts not so approved. The credit risk on sales not approved by us is assumed by you. Such sales shall be known as Department Risk (D.R.) Receivables. All invoices in an amount less than $200.00 shall be deemed samples and shall automatically be considered as D.R. Receivables. Each and every assignment of D.R. Receivables hereunder shall be deemed to be a grant of a security interest in our favor in and to any such D.R. Receivable. 3. (a) All of your sales shall be billed or invoiced by you at your expense upon forms of bills or invoices acceptable to us and shall constitute assignments to us of the Receivables represented thereby, irrespective of whether you execute any other specific instrument of assignment in our favor or otherwise. Each bill or invoice shall have imprinted thereon the following: "THIS ACCOUNT HAS BEEN SOLD AND ASSIGNED TO, IS OWNED BY AND IS PAYABLE IN U.S. DOLLARS ONLY TO FINOVA CAPITAL CORPORATION, P.O. BOX 12082, NEWARK, N.J. 07193-0282, TO WHOM PROMPT NOTICE MUST BE GIVEN OF ANY OBJECTIONS TO PAYMENT OF THIS INVOICE AS RENDERED. GOODS RETURNABLE FOR ANY REASON SHALL BE RETURNED ONLY UPON WRITTEN NOTICE TO FINOVA." We may request shipping and/or delivery receipts covering any of your Receivables to be promptly delivered to us. You shall not be entitled to any credit with respect to any Receivable until the relevant shipping and/or delivery receipts have been delivered to us where requested. You will supply us with as many duplicate bills or invoices as we may from time to time require. At our request, invoices to your customers shall be mailed by us at your expense. (b) At the time of each sale you shall execute and deliver to us, in form satisfactory to us, a written schedule and assignment of the Receivables arising out of such sales, together with proof of delivery to your customer. Notwithstanding your failure to execute and deliver any such written assignment as aforesaid, each Receivable created by you shall be deemed assigned to us and shall become our property immediately upon shipment of the merchandise. Billing on your invoices, whether done by you or by us, shall constitute assignments to us of the Receivables represented thereby, whether or not you execute any other specific instrument of assignment in our favor, or otherwise. (c) Copies of all credit memoranda as may be issued by you to any of your account debtors shall be furnished to us for the sole purpose of notifying us of the transmission of such credit memoranda to each such account debtor, it being understood and agreed that only the account debtor to whom such credit or allowance is issued shall be entitled thereto. 4. (a) The purchase price ("Purchase Price") which we shall pay to you for Receivables accepted by us, as aforesaid, shall be the "Net Face Amount" thereof, calculated at our option on any terms offered by you, less our factoring commission, as set forth below. "Net Face Amount" shall be deemed to mean the gross amount of the Receivable less all discounts. The Purchase Price (less (a) any reserves which may in our sole discretion determine to hold; (b) any monies remitted, paid, or otherwise advanced by us to you or for your account including any amounts which we may be obligated to pay in the future; and (c) any other of our charges to your account as provided for in this Agreement) shall be payable by us to you on the 2 monthly average due date of the Receivables so purchased, as calculated by us on the terms given to your customer plus five (5) working days for collection. We may, in our sole discretion, advance to you from time to time sums up to seventy (70%) percent of the Purchase Price on Receivables purchased by us; and (ii) fifty (50%) percent of Eligible Inventory as determined by us, in our sole and absolute discretion. "Eligible Inventory" shall be valued, in our discretion, at the lower of cost or market. (b) Notwithstanding the foregoing, we shall withhold a reserve of sums otherwise due you and, in our discretion, may revise the amount of such reserve from time to time. We shall be entitled to hold all sums to your credit as security for D.R. Receivables, outstanding claims and any and all Obligations owing to us, our subsidiaries and affiliates by you, however arising. Further, at our request you shall maintain a credit balance with us in such amount as will, in our sole discretion, be commensurate with the volume and character of the business conducted by you so as to protect us against all possible returns, claims of your customers, indebtedness owing by you to us or any other contingencies (your "Obligations"). Except in our sole discretion, the aggregate amount of your Obligations at any time shall not exceed $5,000,000 inclusive of Letters of Credit opened for your account. You shall repay to us on demand any Obligations and debit balance then in your account. (c) In addition to our factoring commissions and to any other fees provided for herein or otherwise, you shall pay us a closing fee for establishing the factoring arrangements provided for herein, in the amount of $N/A, which fee is payable on and shall be fully earned as of the date hereof, and shall be included as part of the Obligations. (d) If any taxes are imposed against you, or if we shall withhold or pay any tax or penalty as a result of or in connection with any transaction or transactions between us, you hereby indemnify us and hold us harmless from and against all claims of every kind and nature whatsoever in respect thereof. In addition, you agree that any such payments made by us shall be charged to your account and shall be included as part of your Obligations. (e) We shall have the right and are hereby irrevocably authorized by you to charge your account or accounts in the amount or amounts of any and all of your Obligations. We shall have the right (but not the obligation) to pay and to charge as an advance to your account any dyeing finishing, processing or warehousing charges, landlord's bills, or other claims against or liens upon the Inventory. Notwithstanding the foregoing, we shall not be required at any time, or to any extent, to have recourse to any collateral security given by you to us to secure your Obligations and the exercise of our rights to look to any such collateral shall be and remain in our sole and absolute discretion. Accordingly, you shall at all times remain liable for the repayment, upon our demand, of all of your Obligations owing to us. 5. We shall be entitled to hold and your hereby grant to us and to our subsidiaries and affiliates, a continuing general lien and security interest in and to all accounts, contract rights, documents, instruments, chattel paper, general intangibles, returns, reserves, credit balances, sums, Inventory and all of your property at any time in our possession, or in the possession of any of our subsidiaries or affiliates, or upon or in which we may otherwise have a lien or security interest as collateral security for any and all your Obligations at any time owing to us, our subsidiaries and affiliates, whether fixed or contingent, no matter how or when arising, whether under this Agreement or otherwise, and including all obligations incurred by you for purchases from any other person, firm or corporation factored or financed by us, all of which shall be included as part of your Obligations. In addition to the foregoing you hereby grant us a general lien and security interest in and to all security and guarantees in your favor and to all of 3 your books and records. You agree to execute and deliver financing statements and any and all instruments and documents that we may request to perfect, protect, establish or enforce the security interests granted hereunder and any other provisions hereof. You hereby authorize us to file such financing statements in your name signed by us, or a reproduction of this agreement to reflect the security interest granted hereunder. We shall have the right at any time to immediate possession of all Inventory and its products and proceeds, we shall not be liable or responsible in any way for the safekeeping of any Inventory, the same shall be at your sole risk at all times. 6. (a) All disputes, claims or controversies relating to any Receivable must be settled by you at your sole cost and expense. We shall have no responsibility or liability of any kind or nature whatsoever with respect to any Receivable, payment of which is refused or withheld by reason of any dispute, bona fide or not, and whether before or after maturity date, as to price, terms, delivery, quantity, quality or otherwise, nor where the customer claims release from liability or inability to pay because of any act of God or a public enemy or war or because or the requirements of law or of rules, orders or regulations having the force of law (each, a "Dispute"). Upon our receipt of notice of the existence of a Dispute, we shall have the right to immediately charge your account for the entire amount of any Receivable subject to such Dispute whether such Dispute regards that Receivable or any other Receivable and whether due or not due, and you agree to immediately pay the entire amount of all such disputed Receivables to us upon our demand. You shall promptly advise us in writing of the existence of each Dispute with your customers upon your receipt of notice thereof and you shall forthwith transmit to us copies of any and all chargeback notices, allowance requests, claims, correspondence and the like received by you from your customer evidencing the existence of a Dispute. (b) Notwithstanding anything to the contrary contained in subparagraph (a) above and regardless of the date or dates upon which we charge back to you the full amount of any Receivable where there is a Dispute, claim, offset, defense or counterclaim, it is understood, agreed and acknowledged that immediately upon the occurrence of any such Dispute, claim, offset, defense or counterclaim we shall no longer bear or be responsible for the credit risk and/or loss, if any, with respect to any such Receivables due to the financial inability of your customer to pay. Such risk and/or loss, if any, shall immediately revert to and be deemed to have been assumed by you without any further or other act upon our part. A chargeback shall not be deemed a reassignment. (c) All fees and expenses of any attorney or collection agency employed by us or on our behalf to collect or sue upon any D.R. Receivables or upon any Receivable with respect to which we have notice of a Dispute, claim, offset, defense or counterclaim shall be charged to your account and shall be paid by you and made a part of your Obligations. (d) Immediately upon our request, you shall pay to us, or reimburse to us for, all sums, costs and expenses (which shall be and hereby are included as part of the Obligations) which we may pay or incur in connection with or related to this Agreement. In addition to those items set forth hereinabove and hereafter, Obligations shall include: the negotiation, preparation, consummation, administration and enforcement of this Agreement and all other documents and instruments regarding this factoring arrangement and/or its related financial accommodations, and the transactions contemplated hereunder; any future proposed amendments, supplements, consents or modifications to this Agreement (whether or not executed); all efforts made to advance, expand, defend, protect or enforce the security interests or other rights granted to us hereunder; enforcing payment of the Obligations; filing fees and taxes, expenses for searches incurred by us from time to time, periodic field examinations of our 4 collateral or your operations (plus a charge of $600 per day for our examiners in addition to the reimbursement for their expenses); wire transfer fees, check dishonor fees, the fees and disbursements of our counsel, all fees and expenses for the service and/or filing of papers, premiums on bonds and undertakings, fees of marshals, sheriffs, custodians or auctioneers and others, travel expenses and all court costs and collection charges. All Obligations shall accrue interest after demand thereof at the Interest Rate. A "demand" as used herein shall be deemed to have been made upon posting any Obligation to your account. At our option, all principal, interest, fees, commissions, costs, expenses or other charges with respect to this Agreement may be charged directly to your account maintained by us. 7. You represent and warrant: (a) that you are solvent; (b) that you have paid and shall pay all taxes which have become or shall hereafter due and payable; (c) that there shall not be any judgments, assessments or liens filed against you or against any of your property, real or personal during the term of this Agreement and that there are no judgments, assessments, purchase money or other liens filed against you or against any of your property, real or personal, at the time of the execution of this Agreement except as may have been disclosed by you to us in writing, the receipt of which has been confirmed by us to you in writing; (d) that each Receivable is based upon your bona fide sale and actual delivery to the customer of merchandise or rendition of services invoiced in the regular course of your business; (e) that the customer, without qualification or limitation, has made himself liable to pay by the maturity date of the invoice the full amount of the Receivable indicated thereon without deduction, claim, offset, defense or counterclaim; (f) that you have full title of all Inventory and all merchandise sold; and (g) that your transfers and assignments to us are free and clear of all encumbrances, liens and security interests and that you have full title in and to all Receivables and Inventory; you shall insure and keep insured all Inventory for full value, with such coverage as we may reasonably approve, at your expense, and the policies shall be duly endorsed in our favor and delivered to us. If you default in this regard, we shall have the right to insure and charge the cost to you. We assume no risk or responsibility in connection with the payment or non-payment of losses, our only responsibility being to credit you with any insurance payments received on account of losses. 8. In the event of the rejection, return or recovery of any merchandise on any Receivable you shall pay us the amount of such Receivable, either in cash or by the assignment of new Receivables acceptable to us hereunder. We shall have the right to immediate possession of such merchandise which you shall hold in trust for our benefit, segregated and identified by you as our property, and we shall have a lien upon it, as well as the ownership of any Receivables arising from the subsequent sale of such merchandise as security for the payment of your Obligations. Upon our request, at your expense, you shall deliver such merchandise, upon five (5) days written notice to you, at such places and upon such terms as we may deem proper. In the event you fail to deliver such merchandise as aforesaid, we shall have the right and are hereby authorized to enter your premises to take immediate possession thereof and to sell such merchandise, upon notice to you, at public or private sale, at which sale we may be the purchaser, and at such price or prices and upon such terms as we, in our sole discretion, may deem acceptable. Only the net proceeds of such sale; after deduction for all costs and expenses thereof, shall be credited to your account. 9. We reserve the right to limit the amount of D.R. Receivables, as well as the amount of any advance thereon. Upon the insolvency of any of your D.R. customers (as determined in our absolute discretion) or default in payment by such D.R. customers at maturity, we shall have the right to immediately charge such sale or sales to D.R. customers to your account, and you agree to pay the amount thereof to us on demand. 5 10. All checks, notes, remittances, acceptances, proceeds, other instruments, or cash received by you with respect to any Receivable shall be our property and if received by you shall be held in trust for us and immediately turned over to us in kind without deduction. You hereby authorize and irrevocably appoint us as your attorney-in-fact to endorse your name upon checks or other instruments or documents received by you or us pertaining to Receivables, and to make, execute and deliver in your name such further instrument or instruments of assignment of Receivables to us in furtherance of this Agreement and its purpose as we may from time to time deem necessary. It is understood and agreed that we shall have the absolute right, but not the obligation, to deposit all checks or other remittances received by us in payment of Receivables irrespective of any deductions shown or taken by your customers or any notifications or conditions as may appear thereon. We may charge back to you or to your account any deductions or deficiencies therein, other than deficiencies in the payment of Receivables which have heretofore received our Credit Approval and which deductions or deficiencies result solely form your customer's financial inability to pay. Any charge back of your D.R. Receivables or Disputed Receivables or any of them, shall not be deemed a reassignment thereof, and title thereto and to the merchandise represented thereby shall remain with and in us as security for your obligations until we shall have been fully reimbursed. 11. You shall at all times maintain, at your sole cost and expense, books and records showing all sales and all claims, allowances, Disputes and similar information with respect to the Receivables and the goods and services relating thereto. We, or our representative, shall have the right at any time during normal business hours to inspect Inventory and examine all of your books which may pertain to merchandise or Receivables. You agree that you will furnish to us, as soon as available, but in any event not later than one hundred and twenty days (120) after the close of each fiscal year, your audited financial statements for such fiscal year (including balance sheets, statements of income and loss, statements of cash flow and statements of shareholders' equity), and the accompanying notes thereto, setting forth in each case, in comparative form, figures for the previous fiscal year, all in reasonable detail, fairly representing the financial position and the results of your operations as at the date thereof and for the fiscal year then ended and prepared in accordance with generally accepted accounting principles consistently applied. Such audited statements shall be examined in accordance with generally accepted auditing practices by (and accompanied by a report thereon unqualified as to scope of) independent certified public accountants selected by you and acceptable to us. In addition, at such time or times as we may request, you will furnish to us such quarterly or monthly unaudited financial statements (including balance sheets, statements of income as loss, statements of cash flows and statements of shareholders' equity), and the accompanying notes thereto, all in reasonable detail, fairly presenting the financial position and results of your operation as at the date thereof and for such period prepared in accordance with generally accepted accounting principles consistently applied and such other information with respect to your business, operations and condition (financial and otherwise) as we may from time to time reasonably request. 12. (a) Each of your Receivables shall be calculated as of the first of the month following the date of the invoice to your customer at the net amount thereof, less discounts, allowances or any other deductions. Interest shall be charged at the Prime Rate plus 2% (the "Interest Rate") on Receivables computed as follows: from the first day of the month to and including the weighted average due date of such invoices plus five (5) business days for collection and clearance of remittances. As used herein the term "Prime Rate" shall be deemed to mean the prime commercial rate charged by Citibank, N.A. in effect on the date hereof and as same may be adjusted upwards or downwards from time to time. The Interest Rate shall never be less than six (6%) percent per annum nor greater than the highest rate permitted by law. Any 6 change in the Interest Rate shall become effective the first day of the month following the month in which the Prime Rate shall have been increased or decreased, as the case may be. The Interest Rate shall be calculated based on a three hundred sixty (360) day year for the actual number of days elapsed and shall be charged to you on all Obligations including, but not limited to, any debits due us and upon all monies remitted, paid or otherwise advanced by us to you or for your account prior to the average due date as above described and shall be payable at the close of each month. All interest charged or chargeable to your account shall be deemed as an additional advance and shall become part of the Obligations. You will be charged with interest on all sums advanced or charged under this Agreement and upon all other sums owed by you to us of every kind and nature at the Interest Rate (as such term is defined below) then in effect. In the event the amount of the sums advanced or charged to you under this Agreement together with any other agreement between us (collectively, "This Agreement"), exceeds the amount available to you pursuant to any percentage or sublimit set forth in this Agreement (hereinafter sometimes referred to as an "Overadvance") on each of ten (10) or more days in any month the Interest Rate charged to you for that month shall be at a rate which is three (3%) percent above the Interest Rate otherwise applicable herein without regard as to whether any such Overadvance is made with or without our knowledge or consent. On the first day of the following month, we will credit you with interest on any net credit in your favor during such month at the Interest Rate in effect hereunder for advances during such month except that no credits shall bear interest subsequent to the weighted average due date of the Receivables creating such credits. In addition, interest on advances shall be charged from the date of the advance up to and including the last day of the month. (b) In no event shall the Interest Rate and any other charges hereunder exceed the highest rate permissible under any law which a court of competent jurisdiction shall, in a final determination, deem applicable hereto. In the event that a court determines that we have received interest and other charges hereunder in excess of the highest rate permissible under law, such excess shall be deemed received on account of, and shall automatically be applied to reduce, the Obligations arising under or in connection with this Agreement other than interest, and the provisions hereof shall be deemed amended to provide for the highest permissible rate allowable under the law. If there are no such Obligations outstanding, we shall refund any such excess to you. 13. On or about the 15th day of each month we shall render a statement to you covering the activity in your account over the previous month. Each such account as shall be rendered by us shall be deemed correct in all respects and shall be deemed conclusive and binding upon you and shall be admissible and conclusive in evidence in any action unless we are notified by you and confirmed by us in writing to the contrary within thirty (30) days after the date of the rendering of such statement. In the event of timely objection to any such statement, only the items expressly objected to in your notice of objection shall be deemed to be disputed by you. In the event that we provide to you or on your behalf copies of additional statements, reports or accountings with respect to the Receivables or otherwise in connection herewith, you shall pay to us an additional fee in the amount of $50.00 for each such additional statement, report or accounting, which fee is due and payable on the date of the issuance by us of such additional statement, report or accounting, and which fee shall be included as part of the Obligations. 14. You shall pay us a factoring commission for our services hereunder which commission shall be and become due and payable to us on the 15th day of each month in which we purchase your Receivables, such factoring commission to be in an amount equal to one (1%) percent of the amount of your gross sales. The minimum factoring commission on each invoice in respect of any Receivable shall be $5.00. The minimum aggregate factoring 7 commissions payable under this Agreement for each contract year hereof shall be $50,000 which to the extent of any deficiency shall be chargeable to your account with us. Factoring commissions payable to us hereunder are based upon your usual and regular terms of sales which do not exceed sixty (60) days. On all Receivables for which there is a change of terms, in addition to any service fee for such change, our commission thereon shall be increased at the rate of twenty-five (25%) percent of the basic commission rate for each additional thirty (30) days or fraction thereof by which your regular terms are increased. No Credit Approval for such change in terms, however, shall be granted without our prior written approval. 15. (a) We shall have the right to terminate this Agreement at any time upon not less than thirty (30) days' prior written notice or immediately upon any Default, as defined hereinbelow. This Agreement shall continue in effect until one year from the date hereof and shall automatically be renewed from year to year thereafter unless you notify us of your termination to be effective on any anniversary of this Agreement by giving us not less than sixty (60) days' prior written notice. Notice of termination, whether by you or by us, shall be sent by certified mail, return receipt requested with postage prepaid. All of our rights and your Obligations arising out of transactions having their inception prior to termination shall not be affected thereby. Upon any termination of this Agreement all Obligations shall be deemed to be immediately due and payable to us, and after such termination any credit balance in your favor shall continue to be held by us, without interest, until a final accounting is rendered unless you shall furnish us with an undertaking satisfactory to us against any items chargeable to you hereunder. (b) In the event of your early termination of this Agreement, whether by virtue of a default hereunder or at your election as set forth hereinabove, you agree to pay us in cash or other immediately available funds, and in addition to all other Obligations, an early termination fee as and for our liquidated damages resulting from such early termination in an amount equal to the greater of the minimum commission as set forth in paragraph "14" hereof reduced by any commissions already paid during that contract year or an amount equal to (i) the percentage for our factoring commission as set forth in paragraph "14" herein multiplied by the aggregate amount of your Receivables for the twelve (12) month period immediately preceding the date of notice of such early termination, as determined by us in our sole and absolute discretion; (ii) divided by twelve (12); and (iii) multiplied by the number of months (or any part thereof) remaining in the then current term. Such early termination fee shall be conclusively presumed to be the amount of our damages sustained by the early termination which fee you agree is reasonable and proper. The early termination fee shall be and is included in the Obligations. 16. The occurrence of any one or more of the following shall constitute an Event of Default hereunder and under any supplement hereto or other agreement by you with, to, or in favor of us or of any of our subsidiaries or affiliates: (a) you fail to pay or perform when due any of the Obligations; (b) you breach any of the terms, covenants, conditions or provisions contained in this Agreement or any other agreement between us; (c) any present or future representation, warranty or statement of fact made by you or on your behalf (including any representation, warranty or statement by any guarantor of your Obligations) to us in this Agreement or any other agreement, schedule or instrument referred to herein or therein or related hereto or thereto is false or misleading at any time; (d) we in good faith believe that because of a change in the conditions or affairs (financial or otherwise) of you or any guarantor of any of the Obligations, either (i) the prospect of payment or performance of the Obligations is impaired or (ii) the collateral is not sufficient to fully secure the Obligations; and (e) the occurrence of any of the following with respect to you or any guarantor of any of the Obligations; dissolution; a 8 termination of existence; insolvency; business cessations or suspension; calling of a meeting of creditors; appointment of a receiver for any property; assignment for the benefit of creditors; commencement of any voluntary or involuntary proceeding under any bankruptcy or any other insolvency law; entry of any court order which enjoins or restrains the conduct of business in the ordinary course. Upon the occurrence of any Event of Default hereunder we shall have all the rights and remedies of a secured party under the Uniform Commercial Code and other applicable laws with respect to all collateral in which we have a security interest. We may but are not obligated to sell or cause to be sold any or all such collateral, in one or more sales or parcels, at such prices and upon such terms as we may deem best, and for cash or on credit or for future delivery and whether by public or private sales as we may deem appropriate. We may require you to assemble all or any part of the Inventory and make it available to us at any place designated by us and reasonably convenient to both parties. Unless the collateral is perishable or threatens to decline speedily in value or is of a type customarily sold on a recognized market, we shall give you reasonable notice of the time and place of any public sale of collateral owned by you or of the time after which any private sale or any other intended disposition thereof is to be made. The requirements of reasonable notice shall be met if any such notice is mailed, postage prepaid, to your address shown herein, at least five (5) days before the time of the sale or disposition thereof. We may be the purchaser at any such public sale. The proceeds of sale of such collateral shall be applied first to all costs and expenses of and incident to any such sale, including our attorneys' fees and then to the payment, in such order as we may elect, of all sums owing to us hereunder. We shall return any excess to you, subject to the rights of third parties or as otherwise required by applicable law, and you shall remain liable for any deficiency. In addition, upon any default interest shall be charged on all Obligations at the "Default Rate" which Default Rate shall be in the amount of 2% in excess of the Overadvance Rate. 17. Any delay or failure on our part to enforce any right or privilege hereunder, or our waiver of any default by you as to any term of this Agreement, shall not constitute a waiver of our rights or privileges with regard to any subsequent or continuing default and no waiver whatsoever shall be valid unless in writing and signed by us and then only to the extent therein set forth. 18. You shall not be entitled to pledge our credit upon or in connection with any of your purchases, or for any other purpose whatsoever. 19. Each of the parties expressly submits and consents to the exclusive jurisdiction of the Supreme Court of the State of New York with respect to any controversy arising out of or relating to this Agreement or any supplement hereto or to any transactions in connection herewith and hereby agree that service of such summons and complaint or process may be made by Registered or Certified Mail addressed to the other party at the address appearing herein. Failure on the part of either party to appear or answer within thirty (30) days after the mailing of such summons, complaint or process shall constitute a default entitling the other party to enter a judgement or order as demanded or prayed for therein. 20. All interest for slow payments by your customers will be charged directly to your account. 21. You hereby indemnify us and hold us harmless from and against any loss, liability, claim and expense of every kind and nature, including our attorneys' fees and disbursements, arising from any claim, dispute, action and proceeding by or against you or against any of your customers or any other party with regard to any Receivable or this Agreement. 9 22. From time to time we may designate certain account debtors as SPECIAL RISK. We may notify you in writing at any time and from time to time of account debtors as to which we have so designated. Receivables arising out of sales to account debtors which we have notified you as being SPECIAL RISK shall be subject to a surcharge of 2% in addition to the other charges set forth in this Agreement. 23. This Agreement cannot be modified orally and can only be modified or amended by a written instrument signed by you and by us. This Agreement supersedes any prior agreements between us and neither of us shall be bound by anything not expressed herein or in any other writing entered into simultaneously herewith or subsequent to the date hereof. 24. This Agreement, made in the State of New York, shall be construed, interpreted and enforced according to the laws of the State of New York and shall be binding upon and inure to the benefit of the parties hereto, their successors, executors, administrators and assigns. If in the event of litigation between the parties over any matter connected with this Agreement or resulting from transactions hereunder, the right to a trial by jury is hereby waived. ACCEPTED AND AGREED: Very truly yours, WINDSONG, INC. FINOVA CAPITAL CORPORATION By: /s/ Joseph Sweedler By: /s/ Salvatore J. Gianino ------------------------------- ------------------------------------ Joseph Sweedler, President Salvatore J. Gianino, Vice President - --------------------------------- Factored Client's Tax I.D. Number CERTIFICATE OF CORPORATE RESOLUTIONS I, William Sweedler, do hereby certify that I am Secretary of Windsong, Inc., a corporation organized and existing in good standing under the laws of the State of Connecticut and that a special meeting of the Board of Directors thereof, duly held on November 4, 1996, at which a quorum was present, the following resolution was duly and unanimously adopted: "RESOLVED: That any officer or officers of this corporation be and they are authorized and empowered to enter into and execute, on behalf of the corporation, an agreement with FINOVA CAPITAL CORPORATION, relating to the sale, assignment, negotiation and guarantee to said FINOVA CAPITAL CORPORATION of accounts, chattel mortgages, notes, drafts, acceptances, bills and other commercial receivables, collectively referred to as "receivables", and/or relating to the consignment, security interest, pledge, mortgage, factor's lien, or other hypothecation of merchandise or other property now or hereafter belonging to or acquired by the corporation to or with FINOVA CAPITAL CORPORATION, and from time to time to modify or supplement said agreement and to make and modify or supplement arrangements with said FINOVA CAPITAL CORPORATION as to the terms or conditions on which receivables are to be sold, assigned or negotiated, and on which merchandise or other property, now or hereafter belonging to or acquired by the corporation, may be consigned, pledged, mortgaged, liened or otherwise hypothecated to or with FINOVA CAPITAL CORPORATION, and/or with respect to which this corporation may grant FINOVA CAPITAL 10 CORPORATION a security interest; and they or any of them are hereby further authorized and empowered from time to time to execute and deliver any and all assignments, schedules, transfers, endorsements, drafts, guarantees, agreements or other instruments granting a security interest, or of assignment or receivables or pledge or hypothecation of merchandise and to execute and deliver any and all instruments and powers of attorney and do and perform all acts and things necessary, convenient, or proper to carry out, supplement or modify and such agreement and arrangements made with FINOVA CAPITAL CORPORATION; hereby ratifying, approving and confirming all that any said officer has done or may do in the premises". I further certify that the foregoing resolutions remain in full force, have not been rescinded or modified, and conform with the charter and by-laws of the corporation. IN WITNESS WHEREOF, I have hereunto set my hand as Secretary of said corporation and affixed its corporate seal by order of its Board of Directors, this 4th day of November, 1996. Certificate approved: /s/ Joseph Sweedler /s/ William Sweedler - -------------------------------- -------------------------------- Joseph Sweedler, President William Sweedler, Secretary (Corporate Seal) GUARANTY 1. In consideration of and in order to induce FINOVA CAPITAL CORPORATION ("FINOVA"), its successors, endorsees or assigns to grant and continue to grant such advances, loans or extensions of credit directly or indirectly to Windsong, Inc. (hereinafter, whether one or more, called "Client") and to grant to Client such renewals, extensions, forbearances, releases of collateral or other relinquishment of legal rights as FINOVA may deem advisable, and for other good and valuable consideration, receipt of which is hereby duly acknowledged, the undersigned Guarantor(s) (hereinafter, whether one or more, called "Guarantor", who, if two or more in number, shall be jointly and severally bound) for the undersigned Guarantor and for their heirs and personal representatives or successors, and assigns of the undersigned Guarantor, hereby absolutely and unconditionally guarantees to FINOVA, its successors, endorsees and assigns, the prompt and unconditional payment when due (whether at maturity, by acceleration or otherwise) and at all times thereafter of any and all obligations or liabilities of every kind, nature and character (including all renewals, extensions and modifications thereof) of Client to FINOVA, its successors, endorsees or assigns howsoever created or arising, whether or not represented by negotiable instruments or other writings, whether now existing or hereafter incurred, whether originally contracted with FINOVA or with another and assigned or transferred to FINOVA or otherwise acquired by FINOVA, whether contracted by Client alone or jointly with others, and whether absolute or contingent, secured or unsecured, matured or unmatured (collectively, the "Indebtedness"), including but not limited to any and all sums, late charges, disbursements, expenses, legal fees and any deficiency upon enforcement of collateral, agreements and contracts in connection with all of such obligations. 11 2. Undersigned Guarantor consents that without notice to or further assent by undersigned Guarantor, the obligation of Client or of any other party for the liability hereby guaranteed may be renewed, extended, modified, prematured or released by FINOVA as it may deem advisable in its sole and absolute discretion, and that any security or securities which FINOVA holds may be exchanged, sold, released, or surrendered by it, as it may deem advisable in its sole and absolute discretion, without impairing or affecting the obligation of undersigned Guarantor hereunder. 3. Undersigned Guarantor waives any and all notice of the acceptance of this guaranty, or of the creation, renewal or accrual of any obligations or liability of Client to FINOVA, present or future, or of the reliance of FINOVA upon this guaranty. Any and every obligation or liability of Client to FINOVA herein described shall conclusively be presumed to have been created, contracted or incurred in reliance upon this guaranty, and all dealing between Client and FINOVA shall likewise be presumed to be in reliance upon this guaranty. Undersigned Guarantor waives protest, presentment, demand for payment, notice or default or non-payment and notice of dishonor to or upon undersigned Guarantor, Client or any other party liable for any of Client's obligations hereby granted. 4. This guaranty shall be construed as an absolute and unconditional guaranty of payment without regard to the validity, regularity or enforceability of any obligation or purported obligation of Client. FINOVA shall have all of its remedies under this guaranty without being obliged to resort first to any security or to any other remedy or remedies to enforce payment or collection of the obligations hereby guaranteed and may pursue all or any of its remedies at one or at different times. FINOVA is hereby given a continuing lien for the purposes and security of this guaranty as well as for any other obligation or liability (present or future, absolute or contingent, due or not due) of undersigned Guarantor to FINOVA upon all property and securities now or hereafter given unto or left in the possession or custody of FINOVA for any purpose (including property left in safekeeping or custody), by or for the account of any undersigned Guarantor, and also upon any deposits with or any credit or claim of any undersigned Guarantor against FINOVA existing from time to time. FINOVA is hereby authorized and empowered, upon the occurrence of any of the events set forth in the next succeeding paragraph, to appropriate and apply to the payment and extinguishment of the liability of undersigned Guarantor any and all such monies, property, securities, deposits or credit balances without demand, advertisement or notice, all of which are hereby expressly waived. 5. Upon the default of Client or any undersigned Guarantor with respect to any obligations or liabilities of either of them to FINOVA or in the event Client or any undersigned Guarantor shall die or become insolvent or make an assignment for the benefit of creditors, or if a petition in bankruptcy be filed by or against Client or any undersigned Guarantor, or in the event of the appointment of a receiver (either at law or in equity) of Client or any undersigned Guarantor, or in the event that a judgement is obtained or warrant of attachment issued against Client or any undersigned Guarantor, or in the event that the financial or business condition of any of them shall so change as in the opinion of FINOVA will materially impair its security or increase its risk, all or any part of the obligations and liabilities of Client and/or of undersigned Guarantor to FINOVA, whether direct or contingent, and of every kind and description, shall, without notice or demand, become immediately due and payable insofar as this guaranty is concerned, and shall be taken up forthwith by undersigned Guarantor, and in any of such events, and whether or not the said liabilities and obligations are due and payable, FINOVA may (in addition to, and subject to its rights and remedies under the terms of any special contract with Client), without demand of performance or advertisement or notice of intention to sell or of time or place of sale, or to redeem, or other notice whatsoever to undersigned Guarantor or to 12 Client (all and each of which demands, advertisements and notices being hereby expressly waived), sell any and all collateral which it may hold for said obligations, or under this guaranty, in one or more parcels, at public or private sale, at FINOVA's office or elsewhere, at such prices as FINOVA may deem best, either for cash or credit, with the right of FINOVA at any such sale, public or private, to purchase the whole or any part of said collateral free from any right or equity of redemption, which right or equity is hereby expressly waived. FINOVA may, in its uncontrolled discretion, apply the net proceeds of such sale or sales to payment on account of the obligations or liabilities of Client and undersigned Guarantor in such manner and order of priority as FINOVA may, in its absolute and uncontrolled discretion, elect. If, in the opinion of FINOVA, any collateral deposited hereunder cannot be freely sold or disposed of at public or private sale (because of any relationship between the owner and issuer thereof or otherwise), FINOVA shall have the unqualified right (in addition to all other rights hereunder) to sell the same, or any part thereof, to a purchaser or purchasers, under investment letters, for a negotiated price or prices which, under such circumstances, shall be deemed to be fair and equitable. 6. Any stocks, bonds or other securities held by FINOVA hereunder may, whether or not Client or undersigned Guarantor is in default, be registered and held in the name of FINOVA or its nominee, and FINOVA or said nominee may exercise all voting and corporate rights relating thereto as if the absolute owner thereof. 7. The term "Client" as used herein shall include the individual or individuals, association, partnership or corporation named herein as Client, and (a) any successor individual or individuals, association, partnership or corporation to which all or substantially all of the business or assets of said Client shall have been transferred, (b) in the case of a partnership Client, any new partnership which shall have been created by reason of the admission of any new partner or partners therein and/or the dissolution of the existing partnership by the death, resignation, or other withdrawal of any partner, and (c) in the case of a corporate Client, any other corporation into or with which said Client shall have been merged, consolidated, reorganized, purchased or absorbed. The right of FINOVA to hold, deal with and dispose of the property deposited by undersigned Guarantor hereunder, as herein provided, shall continue unimpaired notwithstanding any invalidity or unenforceability of this guaranty as against undersigned Guarantor personally. 8. FINOVA's books and records showing the account between FINOVA and Client shall be admissible as evidence in any action or proceeding, shall be binding upon the undersigned Guarantor for the purpose of establishing the items therein set forth and shall constitute prima facie proof hereof. FINOVA's monthly statements rendered to Client shall, to the extent to which no written objection is made within thirty (30) days after the date thereof, constitute an account stated between FINOVA and Client and be binding upon the undersigned Guarantor. 9. The undersigned Guarantor waives any and all rights of subrogation, reimbursement, indemnity, exoneration, contribution or any other claim which the undersigned Guarantor may now or hereafter have against Client, or any person other than a coguarantor directly or contingently liable for the obligations guaranteed hereunder, or against or with respect to the Client's property (including without limitation, property collateralizing the undersigned Guarantor's obligations to FINOVA) arising from the existence or performance of this guaranty. In furtherance and not in limitation of the preceding waiver, the undersigned Guarantor agrees that any payment to FINOVA by the undersigned Guarantor pursuant to this guaranty shall be deemed a contribution to the capital of the Client or other obligated party, and any such payment shall not constitute the undersigned Guarantor a creditor of any such party. 13 10. The undersigned Guarantor represents and warrants that there is no existing indemnification agreement, whether qualified or unqualified, between the undersigned and Client. The undersigned waives any right he may otherwise have to seek a stay from any United States Bankruptcy Court, in which Client may become a debtor, of any claim or cause of action hereinafter asserted against the undersigned Guarantor on his guaranty, whether in an action commenced against the undersigned as a guarantor prior to or instituted following the filing a Chapter 11 petition by or against Client. The undersigned Guarantor further acknowledges that this waiver hereinabove, is specifically provided to FINOVA as an inducement to it to effect the financial accommodations provided by FINOVA to Client. 11. This guaranty shall, without further reference, pass to, and may be relied upon and enforced by, any successor or assignee of FINOVA and any transferee or subsequent holder of any of said liabilities or obligations of Client. This guaranty may be terminated (but only insofar as it may relate to obligations of Client arising subsequent to such termination) upon written notice to that effect delivered by undersigned Guarantor to an officer of FINOVA, such termination to be effective only upon the execution by such officer of a written receipt therefor, and in the event of such termination, undersigned Guarantor and his or their respective executors, administrators or successors and assigns shall nevertheless remain liable with respect to obligations incurred or arising theretofore, and with respect to such obligations and any renewals, extensions or other liabilities arising out of same, this guaranty shall continue in full force and effect, and FINOVA shall have all the rights herein provided for as if no such termination had occurred. 12. The undersigned Guarantor does hereby waive any and all right to a trial by jury in any action or proceeding based hereon. This guaranty and the rights and obligations of FINOVA and of the undersigned Guarantor shall be governed and construed in accordance with the laws of the State of New York. The undersigned Guarantor hereby consents to the exclusive jurisdiction of the Supreme Court of the State of New York for a determination of any dispute connected with this guaranty and authorizes the service of process on the undersigned Guarantor by registered or certified mail sent to the undersigned Guarantor at the address or addresses of the undersigned Guarantor, as the case may be as herein set forth or as set forth on any record maintained by FINOVA. Guarantor irrevocably waives, to the fullest extent Guarantor may effectively do so, the defense of an inconvenient forum to the maintenance of any such action or proceeding; agrees that a final judgment in any such action or proceeding shall be conclusive and may be enforced in any other manner provided by law; Guarantor agrees not to institute any legal action or proceeding against FINOVA or any of FINOVA's directors, officers, employees, agents or property concerning any matter arising out of or relating to this continuing Guaranty in any court other than one located in New York, New York. Nothing herein shall affect or impair FINOVA's right to serve legal process in any manner permitted by law or FINOVA's right to bring any action or proceeding against Guarantor or its property in the courts of any other jurisdiction. This guaranty cannot be changed or terminated orally, shall be interpreted according to the laws of the State of New York, shall be binding upon the heirs, executors, administrators, successors and assigns of the undersigned Guarantor and shall inure to the benefit of FINOVA's successors and assigns. Guarantor agrees that any action brought by it against FINOVA whether regard to this Agreement or otherwise shall be subject to the exclusive jurisdiction and venue of the Supreme Court of the State of New York, County of New York or the United States District Court for the Southern District of New York. 13. Guarantor agrees that, whenever an attorney is used to obtain payment under or otherwise enforce this guaranty or to enforce, declare or adjudicate any rights or obligations 14 under this guaranty or with respect to collateral, whether by legal proceeding or by any other means whatsoever, FINOVA's reasonable attorney's fee plus costs and expenses shall be payable by each Guarantor against whom this guaranty or any obligation or right hereunder is sought to be enforced, declared or adjudicated. Guarantor, if more than one, shall be jointly and severally bound and liable hereunder and if any of the undersigned is a partnership, also the members thereof individually. FINOVA and Guarantor, in any litigation (whether or not arising our of or relating to obligations, liabilities or collateral security or any of the matters contained in this guaranty) in which FINOVA an any of them shall be adverse parties, waive trial by jury. In addition, Guarantor waives the performance of each and every condition precedent to which Guarantor might otherwise be entitled by law. FINOVA shall have the right to fill in any blank spaces left in this guaranty (including the name of "Client"), to date this guaranty and to correct patent errors therein. 14. Guarantor is fully aware of the financial condition of Client and is executing and delivering this Guaranty at Client's request and based solely upon his own independent investigation of all matters pertinent hereto, and Guarantor is not relying in any manner upon any representation or statement of FINOVA with respect thereto. Guarantor represents and warrants that he is in a position to obtain, and Guarantor hereby assumes full responsibility for obtaining, any additional information concerning Client's financial condition and any other matter pertinent hereto as Guarantor may desire, and Guarantor is not relying upon or expecting FINOVA to furnish to him any information now or hereafter in FINOVA's possession concerning the same or any other matter. By executing this Guaranty, Guarantor knowingly accepts the full range of risks encompassed within a contract of continuing Guaranty, which risks Guarantor acknowledges include without limitation the possibility that Client will incur additional Indebtedness for which Guarantor will be liable hereunder after Client's financial condition or ability to pay such Indebtedness has deteriorated and/or after bankruptcy or insolvency proceedings have been commenced by or against Client. Guarantor shall have no right to require FINOVA to obtain or disclose any information with respect to the Indebtedness, the financial condition or character of Client, the existence of any collateral or security for any or all of the Indebtedness, the filing by or against Client or any bankruptcy or insolvency proceeding, the existence of any other guaranties of all or any part of the Indebtedness, any action or non-action on the part of FINOVA, Client or any other person, or any other matter, fact or occurrence. 15. The Guarantor acknowledges that this guaranty and the Guarantor's obligations under this guaranty are and shall at all times continue to be absolute and unconditional in all respects and shall at all times be valid and enforceable irrespective of any other agreements or circumstances of any kind or nature whatsoever which might otherwise constitute a defense to this guaranty and the obligations of the Guarantor under this guaranty or the obligations of any other person or party (including, without limitation, the Client) relating to this guaranty or the obligations of the Guarantor hereunder or otherwise with respect to any transactions involving the Client and FINOVA. This Guaranty sets forth the entire agreement and understanding of FINOVA and Guarantor and Guarantor absolutely, unconditionally and irrevocably waives and any all right to asset any defense, set-off, counterclaim or cross-claim of any nature whatsoever (including, but not limited to fraud in the inducement and commercial disposition of collateral of the guarantor or client) with respect to this Guaranty or the obligations of the Guarantor under this guaranty or the obligations of any other person or party (including, without limitation, Client) relating to this guaranty or the obligations of the Guarantor under this guaranty or otherwise with respect to any transactions involving the Client and FINOVA in any action or proceeding brought by its successors and assigns, to collect the Debt or any portion thereof, or to enforce, the obligations of the Guarantor under this guaranty. The Guarantor acknowledges that no oral or other agreements, understandings, representations or warranties exists with respect to this 15 guaranty or with respect to the obligations of the Guarantor under this guaranty, except as specifically set forth in this guaranty. 16. No executory agreement and no course of dealing between undersigned Guarantor and FINOVA shall be effective to change or modify this guaranty in whole or in part; nor shall any change, modification or waiver of any rights or powers of FINOVA be valid or effective unless in writing or signed by an authorized officer of FINOVA. 17. MUTUAL WAIVER OF RIGHT TO JURY TRIAL, FINOVA, BY ITS ACCEPTANCE HEREOF, AND GUARANTOR EACH HEREBY WAIVE THE RIGHT TO TRIAL BY JURY IN ANY ACTION OR PROCEEDING BASED UPON, ARISING OUT OF, OR IN ANY WAY RELATING TO: (i) THIS AGREEMENT; OR (ii) ANY OTHER PRESENT OR FUTURE INSTRUMENT OR AGREEMENT BETWEEN FINOVA AND GUARANTOR; OR (iii) ANY CONDUCT, ACTS OR OMISSIONS OF FINOVA OR GUARANTOR OR ANY OF THEIR DIRECTORS, OFFICERS, EMPLOYEES, AGENTS, ATTORNEYS OR ANY OTHER PERSONS AFFILIATED WITH FINOVA OR GUARANTOR; IN EACH OF THE FOREGOING CASES, WHETHER SOUNDING IN CONTRACT OR TORT OR OTHERWISE. 16 IN WITNESS WHEREOF, the undersigned Guarantor has hereunto set his had and seal the day and year first above written. WITNESS: /s/ /s/ Joseph Sweedler - -------------------------- ------------------------------------- Joseph Sweedler 12 Hockanum Road Westport, CT 06880 Social Security No.: ###-##-#### /s/ Joan Sweedler ------------------------------------- Joan Sweedler 12 Hockanum Road Westport, CT 06880 Social Security No.: 17 STATE OF NEW YORK ) )ss.: COUNTY OF NEW YORK ) On this 4th day of November, 1996 before me appeared Joseph Sweedler, to me known, and known to me to be the individuals described in and who executed the foregoing instrument and they duly and severally acknowledged to me that they executed the same. /s/ ----------------------------- NOTARY PUBLIC STATE OF NEW YORK ) )ss.: COUNTY OF NEW YORK ) On this 4th day of November, 1996 before me appeared Joan Sweedler, to me known, and known to me to be the individuals described in and who executed the foregoing instrument and they duly and severally acknowledged to me that they executed the same. /s/ ----------------------------- NOTARY PUBLIC 18 FINOVA FINOVA CAPITAL CORPORATION 111 WEST 40th STREET 14TH FLOOR NEW YORK, NEW YORK 10018 TEL 212 403 0700 FAX 212 403 0913 February 4, 1998 Windsong, Inc. 64 Post Road West Westport, CT 06880 Ladies and Gentlemen: We refer you to that certain Factoring Agreement by and between Windsong, Inc. ("Windsong") and FINOVA Capital Corporation ("FINOVA"), dated November 4, 1996 (the "Agreement"), as amended. All capitalized terms not otherwise defined herein shall have the meanings ascribed to them in the Agreement. The following changes to the Agreement are immediately effective: 1. The next to last sentence in Paragraph 2 which states, "All invoices in an amount less than $200.00 shall be deemed samples and shall automatically be considered as D.R. Receivables." is hereby deleted. 2. The next to last sentence in Paragraph 4(a) is hereby amended to read: "We may, in our sole discretion, advance to you from time to time sums up to eighty percent (80%) of the Purchase Price on Receivables purchased by us;..." 3. The next to last sentence in Paragraph 4(b) is hereby amended to read: "Except in our sole discretion, the aggregate amount of your Obligations at any time shall not exceed $13,500,000.00 inclusive of Letters of Credit opened for your account." 4. Notwithstanding anything to the contrary stated in Paragraph 15(b) of the Agreement, should FINOVA elect to voluntarily terminate this Agreement, and provided no Event of Default has occurred, the early termination fee associated with such voluntary termination shall be prorated and calculated by multiplying the minimum annual factoring commissions as set forth in Paragraph 14 by the number of months, or part thereof, that the Agreement has been in effect for the then current contract year, less any factoring commissions already paid during said contract year. Except as hereby or heretofore amended or supplemented, the Agreement shall remain in full force and effect in accordance with its original terms and conditions. If the foregoing correctly sets forth the understanding between us, kindly sign the enclosed duplicate original of this letter where indicated and return to the undersigned as soon as possible. Very truly yours, FINOVA CAPITAL CORPORATION By: /s/ Michael Meehan -------------------------------- Name: Michael Meehan Title: VP AGREED AND ACKNOWLEDGED this _________ day of February, 1998 WINDSONG, INC. By: /s/ Joseph Sweedler -------------------------------- Name: Joseph Sweedler Title: President FINOVA FINOVA CAPITAL CORPORATION 111 WEST 40th STREET 14TH FLOOR NEW YORK, NEW YORK 10018 TEL 212 403 0700 FAX 212 403 0913 October 5, 1998 Windsong, Inc. 64 Post Road West Westport, CT 06880 Ladies and Gentlemen: Windsong, Inc. ("Client") and FINOVA Capital Corporation ("FINOVA") are parties to, among other things, a Factoring Agreement (the "Factoring Agreement") dated November 4, 1996. Capitalized terms used herein and not otherwise defined shall have the meanings ascribed to them in the Factoring Agreement. We hereby propose that, effective as of October 1, 1998, the Factoring Agreement be amended as follows: 1. The first clause of the second sentence of Section 12(a) of the Factoring Agreement shall be deleted in its entirety and the following clause shall be inserted to reflect the reduction of the Interest Rate: "Interest shall be charged at the Prime Rate plus .5% (the "Interest Rate") on Receivables computed as follows:" 2. The ninth sentence of Section 12(a) of the Factoring Agreement shall be deleted in its entirely and the following sentence inserted to reflect the reduction of the Overadvance rate of Interest: "In the event the amount of the sums advanced or charged to you under this Agreement together with any other agreement between us (collectively "this Agreement"), exceeds the amount available to you pursuant to any percentage or sublimit set forth in this Agreement (hereinafter sometimes referred to as an "Overadvance") on each of ten (10) or more days in any month the Interest Rate charged to you for that month shall be at a rate which is on half of one percent (.5%) above the Interest Rate otherwise applicable herein without regard as to whether any such Overadvance is made with or without our knowledge or consent." 3. Section 14 of the Factoring Agreement shall be amended and restated as follows to reflect the reduction of the factoring commission, eliminate the minimum invoice charge and increase your standard terms of sale. "You shall pay us a factoring commission for our services hereunder which commission shall be and become due and payable to us on the 15th day of each month in which we purchase your Receivables, such factoring commission to be in an amount equal to (i) one half of one percent (.5%) of the amount of your gross sales from the period October 1, 1998 through September 30, 1999 and (ii) six tenths of one percent (.6%) of the amount of your gross sales thereafter. The minimum factoring commission on each invoice in respect of any Receivable shall be $N/A. The minimum aggregate factoring commissions payable under this Agreement for each contract year hereof shall be $250,000.00 which to the extent of any deficiency shall be chargeable to your account with us. Factoring commissions payable to us hereunder are based upon your usual and regular terms of sale which do not exceed ninety (90) days. On all Receivables for which there is a change of terms, in addition to any service fee for such change, our commission thereon shall be increased at the rate of twenty-five (25%) per cent of the basic commission rate for each additional thirty (30) days or fraction thereof by which your regular terms are increased. No Credit Approval for such change in terms, however, shall be granted without our prior written approval." 4. The Second sentence of Section 15(a) shall be deleted in its entirety and the following shall be inserted to reflect the extension of the Agreement: "This Agreement shall continue in effect until December 31, 2000 and shall automatically be renewed for one year periods thereafter unless you notify us of your termination to be effective on any anniversary of this Agreement by giving us not less than sixty (60) days prior written notice." Except as hereby or heretofore amended or supplemented, the Financing Agreements shall remain in full force and effect in accordance with their original terms and conditions. In the foregoing correctly sets forth your and our understanding, please execute the enclosed copy of this letter in the spaces provided below and return such fully executed copy to the undersigned as soon as possible. Very truly yours, FINOVA CAPITAL CORPORATION By: /s/ Michael Meehan ---------------------------------- Name: Michael Meehan Title: VP CONSENTED AND AGREED TO this 6th day of October, 1998 WINDSONG, INC. By: /s/ Joseph Sweedler --------------------------- Name: Joseph Sweedler Title: President EX-10.12 8 ASSET PURCHASE AGREEMENT ASSET PURCHASE AGREEMENT BY AND BETWEEN WINDSONG ACQUISITION CORP. AND WINDSONG, INC. DATED AS OF JULY 12, 1999 TABLE OF CONTENTS Page ---- Article I Definitions 1.1 Defined Terms...................................................1 Article II Sale and Purchase of the Assets 2.1 Closing........................................................10 2.2 Assets To Be Transferred.......................................10 2.3 Payment Of Purchase Price......................................10 2.4 Additional Excluded Assets.....................................20 2.5 Adjustments to the Purchase Price..............................20 2.6 Assumption Of Liabilities......................................21 2.7 Allocation Of Purchase Price...................................22 2.8 Bulk Sales Law Compliance; Transfer Taxes; Franchise Taxes.....22 Article III Representations And Warranties Of The Seller 3.1 Good Standing..................................................22 3.2 Authorization..................................................23 3.3 Financial Statements...........................................23 3.4 Taxes..........................................................23 3.5 Ownership of Assets............................................24 3.6 Fixed Assets...................................................24 3.7 Real Property..................................................24 3.8 Intellectual Property..........................................25 3.9 Contracts......................................................25 3.10 Customers And Vendors..........................................26 3.11 Legal Proceedings..............................................27 3.12 Orders, Decrees, Etc...........................................27 3.13 Compliance With Law............................................27 3.14 Inventory......................................................27 3.15 Capital Projects And Expenditures..............................27 3.16 Compensation...................................................28 3.17 Environmental Protection.......................................28 3.18 Employee Benefits..............................................28 3.19 Approvals......................................................29 Article III Representations And Warranties Of The Seller 3.20 No Brokers.....................................................29 3.21 Absence of Undisclosed Liabilities.............................29 3.22 Accounts Receivable............................................29 3.23 Accounts Payable...............................................29 3.24 Insurance Policies.............................................29 3.25 Labor Relations................................................29 3.26 No Omissions...................................................30 Article IV Representations And Warranties Of The Purchaser 4.1 Good Standing..................................................30 4.2 Authorization..................................................30 4.3 Capitalization.................................................30 4.4 Legal Proceedings..............................................31 4.5 Contracts......................................................31 4.6 Orders, Decrees................................................31 4.7 Compliance With Law............................................31 4.8 Approvals......................................................31 4.9 No Brokers.....................................................32 4.10 Absence of Liabilities.........................................32 4.11 Business Activities............................................32 4.12 No Omissions...................................................32 Article V Conduct Prior To The Closing 5.1 Investigation By The Purchaser And The Seller..................32 5.2 Conduct Of Business............................................33 5.3 Other Transactions.............................................35 5.4 Consents.......................................................35 5.5 Public Announcements...........................................36 5.6 Employees......................................................36 5.7 Notification...................................................36 5.8 Supplemental Disclosure........................................36 ii Article VI Conditions Of The Purchaser's Obligations To Close 6.1 Agreement And Conditions.......................................36 6.2 Representations And Warranties.................................37 6.3 Opinion Of Counsel.............................................37 6.4 No Legal Proceeding............................................37 6.5 Officer's Certificate..........................................37 6.6 Secretary's Certificate........................................37 6.7 Employment Agreement...........................................37 6.8 IPO............................................................37 6.9 Consents.......................................................37 6.10 No Change......................................................38 6.11 Pivot Rules....................................................38 6.12 Colours/Alexander Julian.......................................38 6.13 Performance By The Seller......................................38 6.14 Working Capital................................................38 6.15 Stockholder Guarantee..........................................38 6.16 Board Approval.................................................38 6.17 Due Diligence..................................................38 6.18 Loss, Damages, Destruction.....................................38 6.19 Business Plan..................................................38 6.20 Seller Note....................................................39 Article VII Conditions Of The Seller's Obligations To Close 7.1 Agreements And Conditions......................................39 7.2 Representations And Warranties.................................39 7.3 Opinion Of Counsel.............................................39 7.4 No Legal Proceeding............................................39 7.5 Officer's Certificate..........................................39 7.6 Secretary's Certificate........................................39 7.7 Employment Agreement...........................................39 7.8 Consents.......................................................40 7.9 Escrow Agreement...............................................40 7.10 Working Capital................................................40 7.11 Pivot Rules Trademark..........................................40 7.12 Parent Guarantee...............................................40 7.13 Purchaser Note.................................................40 iii Article VIII Additional Covenants And Agreements 8.1 Cooperation: Access To Books And Records.......................41 8.2 Collection of Records; Delivery of Mail........................41 8.3 Confidentiality................................................42 8.4 Further Assurances.............................................42 8.5 Advisory Board.................................................42 8.6 Strategic Annual Business Plan.................................43 8.7 Additional Working Capital.....................................43 8.8 Discharge of Liabilities.......................................43 8.9 Non-Competition of the Seller..................................44 8.10 Physical Inventory.............................................44 8.11 Name Change....................................................44 Article IX Indemnification 9.1 Indemnification By The Seller..................................44 9.2 Indemnification By The Purchaser...............................44 9.3 Procedures For Indemnification.................................44 9.4 Indemnification Threshold And Ceilings.........................46 9.5 Survival of Representations: Effect of Certificates............47 Article X Termination 10.1 Termination....................................................47 10.2 Effect Of Termination..........................................48 Article XI Miscellaneous 11.1 Fees And Disbursements.........................................48 11.2 Notices........................................................48 11.3 Entire Agreement...............................................49 11.4 Taxes..........................................................50 11.5 Governing Law..................................................50 11.6 Benefit Of Parties' Assignment.................................50 11.7 Pronouns.......................................................50 11.8 Headings.......................................................50 11.9 Knowledge......................................................50 11.10 Consent To Arbitration.........................................50 iv EXHIBITS Exhibit A 1999 Strategic Annual Business Plan Exhibit B Form of Escrow Agreement Exhibit C-1 Form of Employment Agreement for Joseph Sweedler Exhibit C-2 Form of Employment Agreement for William Sweedler Exhibit C-3 Form of Employment Agreement for David Sweedler Exhibit C-4 Form of Employment Agreement for Alan Rummelsburg Exhibit D Form of Stockholder Guarantee Exhibit E Form of Parent Guarantee Exhibit F Pivot Rules Assignment and Assumption Agreement Exhibit G Assignment and Assumption Agreement Exhibit H Purchaser Note Exhibit I Seller Note v SCHEDULES Schedule I Pre-Tax Income (Without Working Capital Facility) Schedule IA Pre-Tax Income (With Working Capital Facility) Schedule 1.1(a) Assumed Pension and Retirement Plans Schedule 1.1(b) Excluded Loans Schedule 1.1(d) Permitted Liens Schedule 2.3(j)(ii) Right of First Refusal Schedule 2.7 Allocation of Purchase Price Schedule 3.1 Jurisdictions Schedule 3.3 Accounting Practices Schedule 3.4 Taxes Schedule 3.5 Ownership of Assets Schedule 3.6 Fixed Assets Schedule 3.7(a)(i) Real Property Leases Schedule 3.7(a)(ii) Breaches of Real Property Leases Schedule 3.7(a)(iii) Consents for Real Property Leases Schedule 3.7(b)(i) Notice of Repairs for Leased Premises Schedule 3.7(b)(ii) Structural or Mechanical Defects on Leased Premises Schedule 3.7(b)(iii) Defects of Roof, Basement, Walls of Leased Premises Schedule 3.7(b) (iv) Notice of Assessments Affecting Leased Premises Schedule 3.8(a) Owned or Used Intellectual Property Schedule 3.8(b) Leased Intellectual Property Schedule 3.8(c) Intellectual Property Infringement Schedule 3.9(a) Material Contracts Schedule 3.9(c) Enforceability of Material Contracts Schedule 3.9(d)(i) Breaches of Material Contracts Schedule 3.9(d)(ii) Defaults under Material Contracts Schedule 3.10(a) Customers and Vendors Schedule 3.10(b) Changes in Relationships with Customers and Vendors Schedule 3.10(c) Notices from Customers and Vendors Schedule 3.11(a) Pending Actions Schedule 3.11(b) Defaults Schedule 3.12 Orders; Decrees Schedule 3.13(a) Compliance with Laws Schedule 3.13(b) Permits Schedule 3.13(c) Compliance with Permits Schedule 3.13(d) Revocation of Permits Schedule 3.15 Capital Projects and Expenditures Schedule 3.16 Compensation Schedule 3.17(a)(i) Compliance with Environmental Laws Schedule 3.17(a)(ii) Environmental Permits Schedule 3.17(b) Compliance with Environmental Permits Schedule 3.17(c) Environmental Law Proceedings vi SCHEDULES Schedule 3.17(d) Conditions that may Cause Environmental Liability Schedule 3.18 Employee Benefits Schedule 3.19(a) Required Consents Schedule 3.19(b) Required Consents not Obtained Schedule 3.21 Undisclosed Liabilities Schedule 3.22 Accounts Receivable Schedule 3.23 Accounts Payable Schedule 3.24 Insurance Policies Schedule 4.4(a) Pending Actions Schedule 4.4(b) Defaults Schedule 4.6 Orders; Decrees Schedule 4.7(a) Compliance with Laws Schedule 4.7(b) Permits Schedule 4.7(c) Compliance with Permits Schedule 4.7(d) Revocation of Permits Schedule 4.8(a) Required Consents Schedule 4.8(b) Required Consents not Obtained Schedule 4.9 Brokers vii ASSET PURCHASE AGREEMENT THIS AGREEMENT, dated as of July 12, 1999 (this "Agreement"), by and between Windsong Acquisition Corp., a Delaware corporation (the "Purchaser"), and Windsong, Inc., a Connecticut corporation (the "Seller"). R E C I T A L S WHEREAS, subject to the terms and conditions set forth in this Agreement, the Purchaser desires to purchase from the Seller, and the Seller desires to sell to the Purchaser, all of the assets, properties, rights and business of the Seller other than the Excluded Assets (as defined below) and, in connection therewith, the Purchaser has agreed to (x) pay the Purchase Price (as defined below) to the Seller and, (y) assume all of the Assumed Liabilities (as defined below). A G R E E M E N T NOW, THEREFORE, in consideration of the mutual covenants contained in this Agreement, the Seller and the Purchaser hereby agree as follows: ARTICLE I DEFINITIONS Section 1.1 Defined Terms. For purposes of this Agreement and the schedules and exhibits attached to this Agreement, the following terms shall have the meanings set forth below: "1999 Business Plan" shall mean the 1999 strategic annual business plan of the Seller, which shall be attached to this Agreement as Exhibit A on or prior to the Closing Date. "Acquired Assets" means all of the assets, properties, rights and business of the Seller of every kind and description, wherever located (including, without limitation, (i) all of the property, tangible or intangible, real, personal or mixed, cash, notes and accounts receivable and other rights to receive amounts payable to the Seller, (ii) all of the claims, causes of action and rights of recovery or set-off, reserves, prepayments, deferred and other charges, inventories (including, without limitation, raw materials, finished goods, work-in-process and goods in transit), supplies, machinery, fixtures, equipment, tools, dies, jigs and molds, inventions, samples, models, securities, claims and contract rights of the Seller, (iii) all of the Seller's Intellectual Property, (iv) the name "Windsong" and "Windsong, Inc.", (v) the Acquired Books and Records, and (vi) all of the Seller's cash and cash equivalents as of the Closing Date other than the cash distributed to the Stockholders pursuant to Section 2.4 of this Agreement; provided, however, that notwithstanding the foregoing or anything to the contrary in the Acquisition 1 Documents, the Acquired Assets shall not include (A) any of the Excluded Assets, or (B) any of the pension or retirement plans of the Seller other than those identified on Schedule 1.1(a) to this Agreement. "Acquired Books and Records" means all of the books, records and documents pertaining to the assets, properties, business, operations, accounts, financial condition or customers of the Seller, regardless of whether such books and records are maintained for tax or financial reporting purposes (including, without limitation, files, customer and vendor lists, marketing literature, blueprints, plans, specifications and drawings); provided, however, that the foregoing shall not include any of the Excluded Assets or any of the books, records and documents that relate to the Excluded Assets; provided further that the Seller shall be permitted to retain copies of, and have access to, all of the Acquired Books and Records for tax purposes. "Acquisition" has the meaning specified in Section 2.2 of this Agreement. "Acquisition Documents" means this Agreement and all of the other documents, agreements and instruments entered into by the Seller, the Purchaser, the Stockholders and/or the Parent in connection with the Acquisition (including, without limitation, the Escrow Agreement, the Parent Guarantee, the Stockholder Guarantee and the Employment Agreements), and all of the exhibits and schedules to this Agreement. "Action" means any claim, action, suit, proceeding or investigation, whether at law or at equity, before any court, arbitrator, arbitration panel or other Governmental Authority. "Additional Stock Payment" has the meaning specified in Section 2.3(g) of this Agreement. "Adjustment Report" has the meaning specified in Section 2.3(l) of this Agreement. "Advance Percentage" has the meaning specified in Section 2.3(i) of this Agreement. "Advisory Board" has the meaning specified in Section 8.5 of this Agreement. "Affiliate" means, when used with respect to any Specified Person (a "Specified Person"), any other Person that, directly or indirectly, through one or more intermediaries, controls or is controlled by, or is under common control with, the Specified Person. As used in this definition, the term "control" means the power of any Person to direct the affairs of any other Person through the ownership of voting securities or other equity interests, contract or otherwise. "Assignment and Assumption Agreement" means the assignment and assumption agreement in the form of Exhibit G to this Agreement, which agreement shall be entered into on or prior to the Closing Date by the Seller and the Purchaser. 2 "Assumed Liabilities" has the meaning specified in Section 2.6 of this Agreement. "Audited Financial Statements" has the meaning specified in Section 3.3 of this Agreement. "Balance Sheet" means the audited balance sheet of the Seller as at December 31, 1998. "Balance Sheet Date" means December 31, 1998. "Business" shall mean the business of the Seller as of the date of this Agreement. "Business Day" shall mean a day other than a Saturday, Sunday or other day on which commercial banks in New York, New York or Westport, Connecticut are authorized or required to close. "CERCLA" means the Comprehensive Environmental Response, Compensation and Liability Act, as amended, 42 U.S. C. ss. 9601 et seq. "Change of Control" has the meaning specified in Section 2.3(d). "Class A Common Stock" has the meaning specified in Section 2.3(b) of this Agreement. "Closing" has the meaning specified in Section 2.1 of this Agreement. "Closing Date" has the meaning specified in Section 2.1 of this Agreement. "Closing Date Balance Sheet" has the meaning specified in Section 2.5(a). "Code" means the Internal Revenue Code of 1986, as amended. "Confidentiality Agreement" has the meaning specified in Section 5.1(a) of this Agreement. "Consents" means all written consents, approvals, waivers, authorizations and orders required to consummate the transactions contemplated by the Acquisition Documents. "Contracts" means all contracts, agreements, indentures, licenses, leases, commitments, plans, arrangements, sales orders and purchase orders of every kind, whether written or oral. "Damages" means costs, losses, Liabilities, damages, lawsuits, deficiencies, claims, Taxes and expenses (whether or not arising out of third-party claims or governmental examinations, inspections or audits), including, without limitation, interest, penalties, reasonable 3 attorneys' fees, costs and expenses and all reasonable amounts paid in investigation, defense or settlement of any of the foregoing. "Deferred Payment" has the meaning specified in Section 2.3(e) of this Agreement. "Dispute Notice" has the meaning specified in Section 2.5(a) of this Agreement. "Disputed Matter" has the meaning specified in Section 9.3(f) of this Agreement. "Effective Tax Rate" means forty-five percent (45%). "Employee Benefit Plans" has meaning specified in Section 3.18 of this Agreement. "Employment Agreements" means the employment agreements to be entered into by the Purchaser and each of the Stockholders in connection with the Acquisition in the form of Exhibit C-1 through Exhibit C-4 to this Agreement. "Environmental Laws" means all federal, state, local and foreign (i) environmental laws, codes and ordinances and all rules promulgated thereunder, and (ii) health and safety laws, codes and ordinances and all rules and regulations promulgated thereunder. The term "Environmental Laws" shall include, without limitation, all laws relating to emissions, discharges, releases or threatened releases of pollutants, contaminants, chemicals, or industrial, toxic or Hazardous Substances or Wastes into the environment (including, without limitation, air, surface water, ground water, land surface or subsurface strata) or otherwise relating to the manufacture, processing, distribution, use, treatment, storage, disposal, transport or handling of pollutants, contaminants, chemicals, or industrial, solid, toxic or Hazardous Substances or Wastes. "ERISA" means the Employee Retirement Income Security Act of 1974, as amended, and the rules and regulations promulgated thereunder. "Escrow Agent" means Fleet Bank, located in New York, New York (or such other location as is acceptable to the Seller and the Purchaser) or its successors and assigns or such other financial institution as is acceptable to the Seller and the Purchaser. "Escrow Agreement" means the escrow agreement in the form of Exhibit B to this Agreement (with such changes as may be required by the Escrow Agent that are reasonably acceptable to the Purchaser and the Seller), which agreement shall be entered into on or prior to the Closing Date by the Seller, the Purchaser and the Escrow Agent. "Escrow Amount" has the meaning specified in Section 2.3(c) of this Agreement. "Excluded Assets" means (i) the corporate seal, articles of incorporation, minute books and stock books, and the tax returns and the related financial records and working papers of the Seller, (ii) the rights of the Seller under the Acquisition Documents, (iii) all of the 4 automobiles owned by the Seller (including, without limitation, the 1991 Porsche 928 and the 1999 Range Rover, (iv) all of the bank, investment and other accounts of the Seller (including, without limitation checking account #0071208155 held at Fleet Bank branch located in Fairfield, Connecticut, business checking account #43352882 held at Citibank N.A., Inc. branch located in Stamford, Connecticut, cash reserve account #02132427 held at Citibank N.A., Inc. branch located in Stamford, Connecticut), (v) all of the loans made by the Seller to, and all promissory and other notes to the Seller from, the Stockholders, their families, friends and affiliates, all of the inter-company loans of the Seller, and all of the loans by the Seller to its employees (including, without limitation, the loans set forth on Schedule 1.1(b) to this Agreement), (vi) all casualty, liability and other insurance policies maintained by or on behalf of the Seller and rights thereunder, including any insurance proceeds related to any Excluded Assets or Excluded Liabilities, and (vii) any cash retained by the Seller or distributed to Stockholders on the Closing Date pursuant to Section 2.4 of this Agreement. "Excluded Liabilities" means any and all Liabilities of the Seller other than the Assumed Liabilities. The Excluded Liabilities shall include, without limitation, (i) any subordinated debt of the Seller, (ii) any Liabilities of the Seller relating to any of its pension and retirement plans that are not being transferred to the Purchaser, (iii) all of the Seller's Tax Liabilities that are due and payable, or that are attributable to a period, prior to the Closing Date other than accrued and unpaid employee withholding taxes and sales taxes that are not past due, (iv) all of the Seller's Liabilities related to or arising from the Seller not qualifying to do business in the States of New Jersey and New York; and (v) all of the Seller's legal and accounting fees incurred in connection with the Acquisition. "Financial Statements" has the meaning given to it in Section 3.3 of this Agreement. "Fixed Assets" means all tools, dies, equipment and furniture (including office equipment and office furniture), machinery, motor vehicles, fixtures and other assets owned, leased or used by the Seller, including, without limitation, all buildings, land and equipment leased by the Seller; provided, however, that Fixed Assets shall not include any inventory, accounts receivable, intellectual property, books and records, intangible assets, Contracts, real property, causes of action or claims, cash, deposits, investments or supplies of the Seller. "Forfeited Payment" has the meaning specified in Section 2.3(e) of this Agreement. "GAAP" means United States generally accepted accounting principles. "Governmental Authority" means any agency, instrumentality, department, commission, court, tribunal or board of any government, whether foreign or domestic and whether national, federal, state or local. 5 "Hazardous Substances or Wastes" means any substance that (i) is or contains asbestos, urea formaldehyde foam insulation, polychlorinated biphenyls, petroleum or petroleum-derived substances or wastes, radon gas or related materials, (ii) requires investigation, removal or remediation under any Environmental Law, or is defined, listed or identified as a "hazardous waste" or "hazardous substance" thereunder, or (iii) is toxic, explosive, corrosive, flammable, infectious, radioactive, carcinogenic, mutagenic, or otherwise hazardous and is regulated by any Governmental Authority or Environmental Law. "Indemnification Threshold" has the meaning specified in Section 9.4 of this Agreement. "Indemnified Party" has the meaning specified in Section 9.3(a) of this Agreement. "Indemnifying Party" has the meaning specified in Section 9.3(a) of this Agreement. "Indemnity Notice Period" has the meaning specified in Section 9.3(a) of this Agreement. "Installment Payment" has the meaning specified in Section 2.3(c) of this Agreement. "Initial Share Allotment" has the meaning specified in Section 2.3(b) of this Agreement. "Intellectual Property" means (i) patents, patent applications, patent disclosures, industrial designs and inventions (whether or not patentable and whether or not reduced to practice), (ii) registered and unregistered trademarks, service marks, domain names, licenses, logos, sales materials and trade names, (iii) registrations, applications and renewals of any of the foregoing, (iv) trade secrets, confidential information, know-how, customers, software, formulae, manufacturing and production processes and techniques, mask works, research and development information, product designations, quality standards, investigations, drawings, specifications, designs, plans, improvements, proposals, technical and computer data, and (v) license agreements and sub-license agreements to and from third parties relating to any of the foregoing. "Interim Financial Statements" has the meaning specified in Section 3.3 of this Agreement. "IPO" has the meaning specified in Section 2.3(b) of this Agreement. "Laws" means laws, rules, regulations, codes, orders, ordinances, judgments, injunctions, decrees and policies. "Leased Premises" has the meaning specified in Section 3.7 of this Agreement. 6 "Liabilities" means debts, liabilities, obligations, duties, whether absolute or contingent, monetary or non-monetary, direct or indirect, known or unknown or matured or unmatured. "Liens" means any security interest, lien, mortgage, pledge, restriction, equitable interest or encumbrance of any nature. "Minimum Price" has the meaning specified in Section 2.3(j)(i) of this Agreement. "Notice of Disagreement" has the meaning specified in Section 2.3(k) of this Agreement. "Obligation Shortfall" has the meaning specified in Section 2.3(g) of this Agreement. "Parent" means The Pietrafesa Corporation, a Delaware corporation. "Parent Guarantee" means the subordinated guarantee of the Purchaser's obligations under Article IX of this Agreement, which guarantee shall be made by the Parent pursuant to a guarantee that is in the form of Exhibit E to this Agreement. "Parties" means both the Seller and the Purchaser and "Party" means either the Seller or the Purchaser. "Payoff Amount" has the meaning specified in Section 2.3(j) of this Agreement. "Permitted Liens" means all Liens securing any loan made by Finova Capital Corp. to the Seller or any other obligation of the Seller to Finova Capital Corp. and all Liens set forth on Schedule 1.1(d). "Person" means any natural person, corporation, business trust, joint venture, association, company, firm, partnership, or other entity or government or Governmental Authority. "Pivot Rules Assignment and Assumption Agreement" means the Pivot Rules assignment and assumption agreement in the form of Exhibit F to this Agreement, which agreement shall be entered into on or prior to the Closing Date by Klearknit Sales, Inc. and the Purchaser "Postponed Payment" has the meaning specified in Section 2.3(e) of this Agreement. "Pre-Closing Income Statement" has the meaning specified in Section 2.5(a) of this Agreement. 7 "Pre-Closing Taxes" means the amount equal to the product of the Effective Tax Rate and the Pre-Closing Taxable Income. "Pre-Closing Taxable Income" means the aggregate amount of the net taxable income of the Seller as passed through to the stockholders of the Seller in accordance with Subchapter S of the Code for the period commencing on January 1, 1999 and ending on (and including) the Closing Date, excluding any gains or losses recognized by the Seller as a result of the consummation of the transactions contemplated by this Agreement. "Pre-Tax Income" has the meaning specified in Section 2.3(c) of this Agreement. "Pre-Tax Income Report" has the meaning specified in Section 2.3(k) of this Agreement. "Pre-Tax Income Target" has the meaning specified in Section 2.3(c) of this Agreement. "Projected Pre-Closing Taxable Income" means the net income of the Seller for the period commencing on January 1, 1999 and ending on (and including) the Closing Date as projected in the 1999 Business Plan and excluding any gains or losses recognized by the Seller as a result of the consummation of the transactions contemplated by this Agreement; provided, however, that if the Closing Date occurs on any day other than the last day of a month, "Projected Pre-Closing Taxable Income" shall mean the sum of (i) the income of the Seller for the period commencing on January 1, 1999 and ending on (and including) the last day of the month immediately preceding the month in which the Closing Date occurs as projected in the 1999 Business Plan, plus (ii) the product of (x) the income of the Seller for the month in which the Closing Date occurs as projected in the 1999 Business Plan and (y) a fraction, the numerator of which shall be equal to the number of days from the start of the month in which the Closing Date occurs until (and including) the Closing Date and the denominator of which shall be equal to the number of days in the month in which the Closing Date occurs. "Projected Pre-Closing Taxes" means the amount equal to the product of the Effective Tax Rate and the Projected Pre-Closing Taxable Income. "Proposed Business Plan" has the meaning specified in Section 8.6. "Purchase Price" has the meaning specified in Section 2.3(a) of this Agreement. "Purchaser" means Windsong Acquisition Corp., a Delaware corporation that is a wholly owned subsidiary of the Parent. "Purchaser's Accountant" means Ernst & Young, LLP. "Purchaser's Board" has the meaning specified in Section 2.3(c) of this Agreement. 8 "Purchaser Indemnitees" has the meaning specified in Section 9.1 of this Agreement. "Purchaser Material Adverse Effect" means a material adverse effect on the business, operations, assets, properties, liabilities, obligations, condition (financial or otherwise) or results of operations of the Purchaser. "Purchaser Material Asset" has the meaning specified in Section 2.3(j) of this Agreement. "Purchaser Note" means the contingency promissory note of the Purchaser payable to the Seller, dated as of the date of this Agreement, which note shall be the form of Exhibit H to this Agreement. "Receivables" has the meaning specified in Section 3.22 of this Agreement. "Review Period" has the meaning specified in Section 2.3(k) of this Agreement. "RCRA " means the Resource Conservation and Recovery Act, 42 U.S. C. ss.6901 et seq. "Securities Act" means the Securities Act of 1933, as amended. "Seller" means Windsong, Inc., a Connecticut corporation. "Seller's Accountant" means Weissbarth, Altman & Michaelson, LLP. "Seller Indemnitees" has the meaning specified in Section 9.2 of this Agreement. "Seller Material Adverse Effect" means a material adverse effect on the business, operations, assets, properties, liabilities, obligations, condition (financial or otherwise) or results of operations of the Seller. "Seller Note" means the contingency promissory note of the Seller payable to the Purchaser, dated as of the date of this Agreement, which note shall be in the form of Exhibit I to this Agreement. "Stockholder Guarantee" means the guarantee of the Seller's obligations under Article IX of this Agreement, which guarantee shall be made by the Stockholders, jointly and severally, pursuant to a guarantee that is in the form of Exhibit D to this Agreement. "Stockholders" means Joseph Sweedler, William Sweedler, David Sweedler and Alan Rummelsburg. "Subordinated Debt Repayment Amount" means $1,501,535.87. 9 "Target Date" has the meaning specified in Section 2.3(c) of this Agreement. "Tax" or "Taxes" means (i) all forms of taxation, charges, levies or other assessments, whether direct or indirect and whether levied by reference to net income, alternative or add-on minimum tax, gross income, gross receipts, sales, use, ad valorem, franchise, profits, license, withholding (whether with respect to receipts or payments), payroll, privilege, employment, including benefits or cost of benefits provided or deemed by applicable law to be provided to employees, excise, severance, capital gains, transfer gains, stamp, occupation, premium or similar tax measured by insurance premiums, real and personal property, environmental or windfall profit tax, custom, duty or other tax, governmental fee or other like assessment or charge of any kind whatsoever, and any interest or any penalty, addition to tax or additional amount, imposed by any Taxing Authority, (ii) any Liability, whether to a Taxing Authority or pursuant to an agreement with or legal obligation to any Person, for the payment of any amounts of the type described in clause (i) of this definition as a result of being a member of an affiliated, consolidated, combined or unitary group for any taxable period, and (iii) any Liability for the payment of any amounts of the type described in clause (i) or (ii) of this definition as a result of an obligation to indemnify any other Person. "Tax Returns" means, with respect to any Person, all of the returns, declarations, reports, estimates, information returns and statements required to be filed with or supplied to any Taxing Authority in connection with any Taxes payable by such Person. "Taxing Authority" means a Governmental Authority responsible for and having requisite jurisdiction with respect to the imposition of Taxes. ARTICLE II SALE AND PURCHASE OF THE ASSETS Section 2.1 Closing. The closing of the Acquisition (the "Closing") shall take place at the offices of Roberts, Sheridan & Kotel, a Professional Corporation, 12 East 49th Street, New York, New York, on the Closing Date at 10:00 a.m., New York time, on the date on which the IPO is consummated or at such other time or place as the Parties may mutually agree. The day on which the Closing actually occurs is referred to in this Agreement as the "Closing Date." Section 2.2 Assets To Be Transferred. Subject to the terms and conditions of this Agreement, in consideration for the payment of the Purchase Price to the Seller, the Seller hereby agrees to sell, convey, transfer, assign and deliver the Acquired Assets to the Purchaser, and the Purchaser hereby agrees to purchase and acquire the Acquired Assets from the Seller, on the Closing Date (the "Acquisition"). Section 2.3 Payment of Purchase Price. (a) The total amount payable to the Seller for the Acquired Assets shall be up to, but shall not exceed, $48,000,000, which shall be payable in cash and stock as, when and to the extent provided in this Section 2.3 as adjusted by Section 2.5 10 of this Agreement. (b) On the Closing Date, the Purchaser shall pay $26,000,000 of the Purchase Price as follows: (i) the Purchaser shall pay the Seller $22,000,000 in immediately available funds by wire transfer to the account or accounts designated by the Seller; and (ii) the Purchaser shall deliver to the Seller the number of shares of Class A Common Stock, par value $0.001 per share ("Class A Common Stock"), of the Parent equal to the quotient of $4,000,000 divided by the initial public offering price per share of Class A Common Stock (such shares, the "Initial Share Allotment") in the initial public offering of Class A Common Stock (the "IPO"); provided that the number of such shares that are registered in the IPO shall not be less than the quotient of $700,000 divided by the initial public offering price per share of Class A Common Stock in the IPO (and such registration shall be maintained for at least thirteen (13) months). The Seller agrees that it shall not sell, assign or transfer the Initial Share Allotment to any Person other than (1) its stockholders or their immediate family at any time to the extent permitted by applicable securities laws and regulations, or (2) by operation of law, or (3) except as follows: (A) up to 10% of the Initial Share Allotment on or after the date which is six months after the Closing Date, (B) up to 30% of the Initial Share Allotment on or after the date which is 12 months after the Closing Date, (C) up to 42.5% of the Initial Share Allotment on or after the date that is 15 months after the Closing Date, (D) up to 55% of the Initial Share Allotment on or after the date that is 18 months after the Closing Date, (E) up to 67.5% of the Initial Share Allotment on or after the date that is 21 months after the Closing Date, (F) up to 80% of the Initial Share Allotment on or after the date that is 24 months after the Closing Date, (G) up to 92.5% of the Initial Share Allotment on or after the date that is 27 months after the Closing Date, and (H) up to 100% of the Initial Share Allotment on or after the date that is 30 months after the Closing Date. (c) In addition, subject to the terms of this Section 2.3, the Purchaser shall pay the Seller up to, but not more than, $22,000,000 in cash and stock in accordance with the terms of this Section 2.3, which shall be payable in installments (each such installment, an "Installment Payment") during the period commencing on the Closing Date and ending on December 31, 2004 (the last day of each calendar year for which an Installment Payment is payable is referred to in this Agreement as a "Target Date"). The maximum amount of the Installment Payment that is payable with respect to each year is set forth in the table below, the full amount of which shall be payable if the Pre-Tax Income of the Purchaser for such year equals or exceeds the amount of the pre-tax income target for such year (each such target, a "Pre-Tax Income Target"); provided, however, that if the Purchaser achieves less than 100% of the Pre-Tax Income Target for any year, all or part of the Installment Payment payable with respect to such year shall be deferred or forfeited as set forth in Section 2.3(e) in this Agreement. The Pre-Tax Income of the Purchaser and the Pre-Tax Income Targets for any year shall be adjusted as and to the extent required by the terms of this Agreement. The Pre-Tax Income Targets and the Installment Payments payable with respect to each year is set forth below: 11 Target Date Pre-Tax Income Target Installment Payment ----------- --------------------- ------------------- December 31, 1999 $ 6,275,000 $ 7,500,000* December 31, 2000 6,575,000 1,500,000 December 31, 2001 7,000,000 2,700,000 December 31, 2002 7,475,000 2,800,000 December 31, 2003 7,975,000 3,700,000 December 31, 2004 8,375,000 3,800,000 * (i) $6,500,000 in cash, and (ii) the number of shares of Class A Common Stock equal to $1,000,000 divided by the average of the closing price of Class A Common Stock for the 20 trading days preceding such payment, as reported in The Wall Street Journal. For purposes of this Agreement, the term "Pre-Tax Income" means income before amortization of goodwill and taxes and any other amortization or depreciation attributable to any increase in the value of the Acquired Assets as a result of the Acquisition (including, without limitation, all deferred charges). The Pre-Tax Income of the Purchaser shall be determined in accordance with (i) GAAP consistently applied as adjusted pursuant to the terms of this Agreement, (ii) this Agreement, and (iii) Schedule I to this Agreement if the Purchaser does not have its own credit line or Schedule IA to this Agreement if the Purchaser does have its own credit line; provided, however, that if the Purchaser does not have its own credit line, the interest expense charged to the Purchaser by the Parent for purposes of calculating Pre-Tax Income shall not exceed the interest expense that the Purchaser would have incurred under the Seller's credit line as of the date of this Agreement (or, if such credit line is subsequently modified or replaced with a separate line of credit after the date of this Agreement, the interest expense that the Purchaser would have incurred under such modified or replacement line of credit); provided further, however, that in the event of any inconsistencies or conflicts between this Section and Schedule I or Schedule IA, the provisions of Schedule I or Schedule IA shall govern and control. The Pre-Tax Income of the Purchaser for the period commencing on January 1, 1999 and ending on the Closing Date shall be calculated on a pro forma basis in accordance with GAAP consistently applied by the Seller prior to the Acquisition and as adjusted pursuant to the terms of this Agreement to give effect to the Acquisition as of January 1, 1999; provided, however, that the calculation of the Purchaser's Pre-Tax Income for any period shall not include any fees, costs, expenses or liabilities paid or incurred by (A) the Seller with respect to or in connection with (i) its pension and retirement plans that are being maintained, frozen or terminated by the Seller and not being transferred to the Purchaser, (ii) its subordinated debt, (iii) obtaining the Consents (including, without limitation, any payments made by or on behalf of the Seller to obtain the consent of the transfer of the Colours/Alexander Julian license to the Purchaser), and (iv) the Acquisition Agreements and the consummation of the transactions contemplated thereby, including any fees paid to Finova Capital Corporation with respect to the termination, renewal or transfer of the working capital facility (and the reasonable fees and expenses incurred with respect to any such renewal or transfer), or (B) the Purchaser, the Parent or any of their subsidiaries or other affiliates prior to, or in connection with, or as a result of, the Acquisition (including any success fee or other amounts payable to Finova Capital Corporation as a result of 12 the Acquisition, the payment of which shall not be included in the calculation of any Pre-Tax Income, but excluding all other Assumed Liabilities, if any, that have not reduced the Pre-Tax Income of the Seller, the payment of which shall be included in the calculation of the Purchaser's Pre-Tax Income if and to the extent required by GAAP consistently applied by the Seller prior to the Acquisition); provided further, however, that the Pre-Tax Income of the Purchaser shall be reduced by the Royalty Payments (as defined in the Pivot Rules Assignment and Assumption Agreement), other commission fees paid by the Purchaser to Klearknit Sales, Inc., commissions paid by the Purchaser to Mr. William Roberti, and commissions paid by the Purchaser to Pivot Rules, Inc., all as made pursuant to the terms of the Pivot Rules Assignment and Assumption Agreement, and payments made by the Purchaser to the JHE Foundation, if and to the extent such payments and commissions would not otherwise reduce the Purchaser's Pre-Tax Income under GAAP consistently applied. Notwithstanding the foregoing or anything to the contrary in this Agreement, none of the gains, losses or liabilities resulting from the Acquisition (including, without limitation, any tax liabilities) shall be included in the calculation of any Pre-Tax Income. In calculating the Pre-Tax Income of the Purchaser for purposes of determining whether a Pre-Tax Income Target for any year has been achieved, the Purchaser will, for accounting purposes, be treated as an independent and separate business unless otherwise provided (and then only to the extent expressly provided) in this Agreement. All disputes between the Seller and the Purchaser with respect to the amount of the Pre-Tax Income of the Purchaser during any period (including, without limitation, the Pre-Tax Income for 1999 calculated on a pro forma basis and the amount of any adjustments required to be made to such Pre-Tax Income pursuant to this Agreement), and all disputes relating to any adjustment to the Pre-Tax Income Targets required by this Agreement, shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement, and the Parties shall act in good faith to resolve all such disputes as expeditiously as practicable. To secure the payment of the amount of the Installment Payment, if any, that becomes due and payable to the Seller for the year ended December 31, 1999, the Purchaser shall deposit $4,250,000 (the "Escrow Amount") with the Escrow Agent pursuant to the terms of the Escrow Agreement on or prior to the Closing Date. If the pro forma Pre-Tax Income of the Purchaser for the year ended December 31, 1999 (as calculated and adjusted in accordance with this Section 2.3) is less than $6,275,000, the Purchase Price will be reduced by a multiple of 7.649 times the amount of the short fall, in which case (i) the first $5,000,000 of such reduction shall be applied against the Installment Payment payable to the Seller with respect to 1999, and (ii) the balance, if any, of such reduction shall be spread proportionately over the balance of the remaining Installment Payments. (d) In the event that Philip E. Cohen owns, directly or indirectly, less than a majority of the voting securities of the Parent other than as a result of death or total and permanent disability (such event, a "Change of Control"), the present value of all Installment Payments not yet due and payable, and all Deferred Payments and all Postponed Payments, shall immediately become due and payable to the Seller. The discount factor used to calculate the present value of any such Installment Payments shall be the then current borrowing rate of the Purchaser's working capital facility or, if there is none, the then current borrowing rate of the Parent's working capital facility. 13 (e) Subject to the terms and conditions of this Agreement, the Installment Payment payable with respect to each year shall occur not later than 90 days after the Target Date for such year. No Installment Payment shall be paid to the Seller with respect to any year in which the Pre-Tax Income of the Purchaser is less than 60% of the Pre-Tax Income Target for such year (each such Installment Payment, a "Forfeited Payment"). Subject to the provisions of Section 2.3(i) of this Agreement, the payment of the Installment Payment payable with respect to any year shall be postponed for five years from the Target Date for such year if the Pre-Tax Income of the Purchaser for such year is 60% or more but less than 80% of the Pre-Tax Income Target for such year (each such postponed Installment Payment, a "Postponed Payment"). Subject to the provisions of Section 2.3(i) of this Agreement, the payment of 50% of the Installment Payment payable with respect to any year shall be deferred for five years from the Target Date for such year if the Pre-Tax Income of the Purchaser for such year is 80% or more but less than 100% of the Pre-Tax Income Target for such year (each such deferred Installment Payment, a "Deferred Payment"), and the remaining 50% of such Installment Payment shall be payable to the Seller within 90 days of the Target Date for such year. Subject to the provisions of Section 2.3(i) and Section 11.10 of this Agreement, 100% of the Installment Payment payable with respect to any year in which the Pre-Tax Income of the Purchaser for such year is 100% or more of the Pre-Tax Income Target for such year shall be payable to the Seller within 90 days of the Target Date for such year. (f) If the Purchaser claims that the Seller has breached a contractual obligation to the Purchaser under this Agreement in any material respect, the amount of damages reasonably claimed by the Purchaser with respect to such breach may be withheld from any Installment Payment, Postponed Payment or Deferred Payment that is then due and payable; provided, however, that the amount withheld shall in no event exceed the maximum amount for which the Seller could be liable to the Purchaser with respect to such claim under the indemnification provisions set forth in Article IX of this Agreement; provided further that any amount withheld by the Purchaser pursuant to this Section 2.3(f) shall be immediately deposited into an escrow account with the Escrow Agent pending the resolution of such claim pursuant to an escrow agreement that is in form and substance substantially similar to the Escrow Agreement with such changes as may be required by the Escrow Agent that are reasonably acceptable to the Seller and the Purchaser. Any such claim shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement, and the Parties shall act in good faith to resolve all such disputes as expeditiously as possible. Immediately upon the resolution of any such claim, the amount owed to the Seller (if any) shall be paid to the Seller, and the remainder of the withheld amount (if any) shall be paid to the Purchaser. Interest earned on any amount deposited into an escrow account pending resolution of any such claim shall be allocated between the Purchaser and the Seller in the same proportion as the escrowed amount is allocated between them. (g) At the option of the Purchaser, any Installment Payment, Postponed Payment or Deferred Payment for any year commencing on or after January 1, 2001 may be paid with shares of Class A Common Stock if, and only if, such shares are then freely transferable by the Seller and its designees without any legal or contractual restriction. With respect to any Installment Payment, Postponed Payment or Deferred Payment paid with shares of Class A 14 Common Stock, the following shall apply: (i) the number of shares issued to the Seller in respect of any Installment Payment, Postponed Payment or Deferred Payment shall not exceed the average daily trading volume of shares of Class A Common Stock in the preceding 90 trading days, it being understood and agreed that if no shares of Class A Common Stock are traded on any one or more of the preceding 90 trading days, the volume of shares traded for such day(s), which is zero (0), will still be included for such day(s) in calculating the average trading volume of shares of the Class A Common Stock for such 90 trading day period; (ii) all shares issued and delivered to the Seller as payment of any Installment Payment, Postponed Payment or Deferred Payment (except with respect to shares issued and delivered to the Seller as an Additional Stock Payment pursuant to clause (iii) of this Section 2.3(g)) shall be valued at the average of the closing price of Class A Common Stock for the 20 trading days preceding such payment as reported in The Wall Street Journal; (iii) in the event that the Seller sells all of the Class A Common Stock paid to it with respect to any Installment Payment, Postponed Payment or Deferred Payment within five (5) Business Days after its receipt of such shares and such sale results in gross cash proceeds, less reasonable brokerage fees, to the Seller that are less than the amount of such Installment Payment, Postponed Payment or Deferred Payment (such difference, the "Obligation Shortfall"), the Purchaser shall promptly (but in no event later than three (3) Business Days) either (x) pay the Obligation Shortfall to the Seller in cash, or (y) cause the issuance to the Seller of an additional number of shares of Class A Common Stock (an "Additional Stock Payment") equal to the quotient of the Obligation Shortfall divided by the average of the closing price of Class A Common Stock for the 20 trading days preceding such payment as reported in The Wall Street Journal, and if the gross cash proceeds, less reasonable brokerage fees, paid to the Seller from the sale of the Additional Stock Payment are less than the amount of such Obligation Shortfall, the Purchaser shall either pay the Seller the amount of such short fall in cash or cause the issuance of additional shares to the Seller until the gross cash proceeds, less reasonable brokerage fees, paid to the Seller from the sale of all such shares equals the full amount of such Installment Payment, Postponed Payment or Deferred Payment; and (iv) the Purchaser represents and warrants that all shares of Class A Common Stock issued to the Seller pursuant to the preceding clauses (i), (ii) or (iii) of this Section 2.3(g) shall be freely transferable by the Seller and its designees without any legal or contractual restriction. (h) Unless otherwise agreed to by the Advisory Board, (i) if the Purchaser is required, directly on indirectly, by its board of directors or stockholders to sell, transfer or otherwise convey any license or other material asset (it being agreed that any asset that generates 15 more than $10,000 of revenues during any year shall be a material asset) of the Purchaser to any entity that is controlled, directly on indirectly, by the Parent, then all income and reasonable expenses attributable to each such license and asset shall be deemed to have been earned or incurred, as the case may be, by the Purchaser for purposes of calculating the Pre-Tax Income of the Purchaser, (ii) if the Purchaser is required, directly on indirectly, by its board of directors or stockholders to incur any material expenditure or liability (it being agreed that any expenses and/or liabilities that exceed $10,000 in the aggregate during any fiscal year shall be material) not in the ordinary course of its business consistent with the strategic annual business plan of the Purchaser then in effect developed by the Advisory Board and approved by the Purchaser's Board (as such strategic annual business plan is modified by the Advisory Board and then approved by the Purchaser's Board in connection with any quarterly review of such strategic annual business plan), such expenditures and liabilities (and any associated revenues) shall be excluded from the calculation of the Purchaser's Pre-Tax Income, and/or (iii) if the Purchaser is required, directly or indirectly, by its board of directors or stockholders to enter into a joint venture or partnership, or acquire a new business, a subsidiary or any material asset (including, without limitation, the capital stock or any other equity interest of any other Person), or is merged, consolidated or otherwise combined with another entity and the surviving entity is controlled by the Parent, the Purchaser's business prior to such joint venture, partnership, acquisition, merger, consolidation or other business combination shall be treated as an independent and separate business for purposes of calculating the Pre-Tax Income of the Purchaser; provided, however, that if any of the forgoing transactions is approved by the Advisory Board, the revenues and expenses resulting from, and all of the fees, costs and expenses incurred by the Purchaser in connection with, such transaction shall be included in the calculation of the Purchaser's Pre-Tax Income from and after the effective date of such transaction in accordance with GAAP consistently applied on a consolidated basis as adjusted pursuant to this Agreement. In addition, unless consented to by the Advisory Board, all of the fees, costs, expenses and liabilities incurred or paid by, and all of the income earned by, the Purchaser in connection with, or as a result of, any transaction that the Purchaser is required to enter into by its board of directors or stockholders shall not be included in the calculation of the Purchaser's Pre-Tax Income, whether or not any such transaction is consummated. All disputes between the Seller and the Purchaser with respect to any adjustments to the Pre-Tax Income under this Section 2.3(h) shall be resolved by binding arbitration as set forth in Section 11.10, and the Parties shall act in good faith to resolve all such disputes as expeditiously as practicable. (i) In the event that the Purchaser's Pre-Tax Income for any year exceeds the Pre-Tax Income Target for such year, the Seller may elect: (1) to credit such excess amount (or any portion thereof as specified by the Seller) to any one or more of the prior years selected by the Seller for which there was a Postponed Payment or a Deferred Payment (but not a Forfeited Payment) and, if the amount of the Pre-Tax Income of the Purchaser for any such prior year plus the amount of such credit would have equaled the Pre-Tax Income Target for such year, the Postponed and/or Deferred Payment for such year shall, subject to Section 11.10 of this Agreement, become due and payable within 90 days of the Target Date for the year in which such excess amount occurred; 16 (2) if there are no unpaid Postponed Payments or Deferred Payments (or if all of the Postponed and Deferred Payments have become due and payable as a result of a credit of part of such excess to a prior year), to be paid the Advance Percentage of such excess amount (or any part thereof specified by the Seller that has not been credited to a prior year), which shall be credited against the Installment Payment for the December 31, 2004 Target Date, which payment shall become due and payable within 90 days of the Target Date of the year in which such excess occurred. The term "Advance Percentage" shall mean, as of any year, a percentage equal to 1.0 minus the effective tax rate of the Purchaser for such year; and/or (3) to cause the Purchaser to pay the Stockholders in accordance with their employment agreements a bonus equal to 25% of such excess (less any part of such excess that is credited to a prior year) as provided in the Employment Agreements; provided, however, that in calculating such bonus the amount of such excess shall be reduced by the product of (a) the amount of such excess, if any, credited to the Installment Payment for the December 31, 2004 Target Date pursuant to the preceding clause (2) of this Section 2.3(i), and (b) a fraction, the numerator of which shall be equal to 1.0 and the denominator of which shall be equal to the Advance Percentage for such year. Therefore, for example, if the excess Pre-Tax Income for any year was $1,000,000 and the effective tax rate was 40% and the Seller elected to credit 50% of such excess to the Installment Payment for the year ending December 31, 2004, then (x) $300,000 would be paid to the Seller and credited to such Installment Payment ($500,000 x 60%), and (y) the Stockholders would be paid an aggregate bonus of $125,000 [25% x ($1,000,000 minus the product of $300,000 and 1/.60) = 25% x ($1,000,000 minus $500,000)]. (j) Unless otherwise consented to by the Advisory Board, if a majority of the outstanding or voting capital stock of the Purchaser, or any one or more assets of the Purchaser that generate 50% or more of the revenues of the Purchaser (such asset or assets referred to herein as a "Purchaser Material Asset"), is sold, transferred or otherwise conveyed to one or more Persons (other than entities controlled, directly or indirectly, by the Parent) in one or more transactions on or prior to December 31, 1999, all of the Installment Payments shall become due and payable on the date of such sale, transfer or conveyance. Unless otherwise consented to by the Advisory Board, if a majority of the outstanding or voting capital stock, or any Purchaser Material Asset is sold, transferred or otherwise conveyed to one or more Persons (other than entities controlled, directly or directly, by the Parent) in one or more transactions after December 31, 1999, the Payoff Amount shall become due and payable on the date of such sale, transfer or conveyance; provided, however, that if any of the consideration payable with respect to any such sale, transfer or conveyance is deferred, all of the cash payable with respect to such sale, transfer or conveyance shall be paid to the Seller as and when received by the Parent and/or its Affiliates until the Payoff Amount has been paid in full (and, if the deferred consideration is accruing interest, the Payoff Amount shall accrue interest at the same rate). The term "Payoff Amount" means: 17 (i) if the Minimum Price (as defined below) is equal to or greater than $48,000,000, the Payoff Amount shall equal the present value of all unearned and unpaid Installment Payments plus the aggregate amount of all Deferred Payments and all Postponed Payments. The term "Minimum Price" shall mean an amount equal to the product of 7.649 and the average annual Pre-Tax Income of the Purchaser for each full fiscal year since January 1, 1999 (including the pro forma Pre-Tax Income of the Purchaser for the year ending December 31, 1999 (as calculated in accordance with Section 2.3 of this Agreement), it being acknowledged and agreed that the Pre-Tax Income of the Purchaser for any partial fiscal year shall not be included in the calculation of the Minimum Price. The present value of any Installment Payments shall be determined using a discount factor equal to the then current borrowing rate of the Purchaser under its working capital facility or, if there is none, the then current borrowing rate of Parent under its working capital facility. (ii) if the Minimum Price is less than $48,000,000, the Purchaser shall pay to the Seller an amount equal to the Minimum Price less the aggregate amount of the Purchase Price previously paid to the Seller and all Forfeited Payments. (iii) in the event that there are two consecutive years of Forfeited Payments, the Parent may elect, but shall not be required, to liquidate the Purchaser's business without any obligation to the Seller other than the immediate payment of all earned but unpaid Installment Payments (including all Deferred Payments and all Postponed Payments); provided, however, that the sale, transfer or conveyance of a Purchaser Material Asset to one or more Persons (other than entities controlled, directly or indirectly, by the Parent) in one or more transactions shall be governed by clause (i) or (ii) of this Section 2.3 (j), as applicable. In the event that the Parent elects to liquidate the Purchaser's business, (x) the Seller shall have a right of first offer to purchase the assets of the Purchaser upon the terms and conditions offered by the Purchaser in accordance with the procedures set forth on Schedule 2.3(j)(iii) to this Agreement, and (y) the Employment Agreements shall terminate and be of no further force or effect (including, without limitation, any agreements not to compete). In the event that any asset or group of assets of the Purchaser (other than an asset disposed of in the ordinary course of business as a result of obsolescence, wear and tear, or no longer being useful to the business) is sold, transferred or otherwise conveyed to one or more Persons (other than entities controlled by the Parent) in one more transactions, all of the remaining Pre-Tax Income Targets shall be reduced by the greater of (i) the amount of Pre-Tax Income attributable to each such asset in the strategic annual business plan in effect for the year in negotiations for such sale, transfer or conveyance began, or (ii) the amount of Pre-Tax Income attributable to each such asset in the strategic annual business plan in effect for the year in which such sale, transfer or conveyance occurs. In the event that the Purchaser acquires a material asset after the Pre-Tax Income Targets have been reduced pursuant to this paragraph, the Pre-Tax Income Target for the year in which such asset is acquired, and each year thereafter during which such asset is owned by the Purchaser, shall be increased by the actual Pre-Tax Income attributable to such asset during such year; provided, however, that the Pre-Tax Income Target 18 for any year shall not exceed the original Pre-Tax Income Targets for such year as set forth in Section 2.3(c) of this Agreement under any circumstances. All disputes between the Seller and the Purchaser with respect to any adjustments to the Pre-Tax Income Targets under this Section 2.3(j) shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement, and the Parties shall act in good faith to resolve all such disputes as expeditiously as practicable. (k) Within ninety (90) days after the end of each of the Purchaser's 1999 through 2004 fiscal years (each of which shall be a calendar year), the Purchaser shall prepare and deliver to the Seller financial statements for the Purchaser for such year prepared in accordance with GAAP consistently applied on an unconsolidated basis (unless the Purchaser has acquired the capital stock or other equity interest of another Person pursuant to a transaction approved by the Advisory Board, in which the financial results of the Purchaser and each such Person shall be included in such financial statements on a consolidated and consolidating basis in accordance with GAAP consistently applied), together with a statement of the Purchaser's Accountant or the chief financial officer of the Parent that concurs with the accuracy of the financial information set forth on such Pre-Tax Income Report and a statement setting forth the Purchaser's Pre-Tax Income for such year as adjusted pursuant to the terms of this Agreement (each such statement, a "Pre-Tax Income Report"), which shall set forth the calculation of such Pre-Tax Income in reasonable detail. During the forty-five (45) day period following the Seller's receipt of any Pre-Tax Income Report, the Seller shall be permitted to review, or have its accountants, financial advisors, counsel or other representatives review, all relevant working papers and books and records of the Purchaser relating to such Pre-Tax Income Report; provided, however, that the Seller may, at its option, extend any such forty-five (45) day period to one hundred and eighty (180) days by giving notice of such extension to the Purchaser prior to the end of such forty-five (45) day period (such 45 day period, as may be extended to 180 days, is referred to as the "Review Period"); provided further, however, that such forty-five (45) day period or one hundred and eighty (180) day period, as the case may be, shall be extended by the number of days, if any, that the Seller or any of its accountants, financial advisors, counsel or other representatives are not provided access to the work papers and books and records of the Purchaser. Each Pre-Tax Income Report shall become final and binding upon the Parties on the day following the Review Period for such Pre-Tax Income Report unless the Seller delivers a written notice of objection thereto together with a statement of the Seller's Accountant or the chief financial officer of the Seller that concurs with the basis of the Seller's objection (a "Notice of Disagreement") to the Purchaser prior to end of such Review Period. The Notice of Disagreement delivered to the Purchaser shall specify in reasonable detail the amount in dispute and the items on the Pre-Tax Income Report disputed, and shall describe in reasonable detail the basis for the Seller's objection. During the 30-day period following the delivery of a Notice of Disagreement pursuant to this Section 2.3(k), each of the Seller and the Purchaser shall negotiate in good faith to resolve the matters objected to in the Notice of Disagreement. At the end of such 30-day period, if the Seller and the Purchaser have not reached agreement on such matters, the dispute shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement, and the Parties shall act in good faith to resolve all such disputes as expeditiously as practicable. Promptly after the Purchaser has delivered a Pre-Tax Income Report to the Seller for any year, the Purchaser shall pay to the Seller the amount, if any, of the Installment Payment payable to the Seller based on the calculation of the Pre-Tax Income for such year as set forth in such report. In 19 the event that the Seller subsequently disputes the calculation of the Pre-Tax Income for any year, the Purchaser shall promptly deposit into an escrow account the additional amount, if any, that would be payable to the Seller based on the Seller's calculation of the Purchaser's Pre-Tax Income for such year (the escrow account shall be maintained with the Escrow Agent pending the resolution of such dispute pursuant to an escrow agreement that is in form and substance substantially similar to the Escrow Agreement with such changes as may be required by the Escrow Agent that are reasonably acceptable to the Purchaser and the Seller). (l) Except as expressly provided otherwise in Schedule I and Schedule IA to this Agreement, none of the fees, costs, expenses or liabilities incurred or paid by the Parent or any of its subsidiaries (other than the Purchaser) or other affiliates shall be allocated to the Purchaser or included in the calculation of the Purchaser's Pre-Tax Income for any year. In addition, in the event that the Purchaser enters into any transaction that is not authorized or contemplated by the strategic annual business plan then in effect or approved by the Advisory Board and the Pre-Tax Income of the Purchaser for any fiscal year is reduced in connection with, or as a result of, such transaction, the Pre-Tax Income of the Purchaser for such fiscal year shall be increased by the amount of such reduction for purposes of determining whether the Purchaser has achieved the Pre-Tax Income Target for such year. Section 2.4 Additional Excluded Assets. (a) Notwithstanding any other provision to this Agreement to the contrary (including, without limitation, Section 5.2 of this Agreement), in the event that the Projected Pre-Closing Taxes as of the Closing Date exceeds the Subordinated Debt Repayment Amount, then on the Closing Date, immediately prior to the Closing, the Seller may distribute to the Stockholders an amount of cash equal to the amount by which the Projected Pre-Closing Taxes exceed the Subordinated Debt Repayment Amount (all such retained or distributed cash shall be Excluded Assets). To the extent deemed necessary or appropriate by the Seller, any amounts payable to the Seller pursuant to this Section 2.4 may be funded with borrowings under the Seller's working capital facility (which borrowings may be overdrafts and all of which shall be Assumed Liabilities). (b) On the Closing Date, the Purchaser shall execute and deliver the Purchaser Note to the Seller pursuant to which the Purchaser shall be obligated to pay the Seller the amount, if any, by which the Pre-Closing Taxes exceed the Projected Pre-Closing Taxes plus interest on such amount at a rate per annum of 10% from the Closing Date until paid in full. Any amount payable to the Seller pursuant to the Purchaser Note shall be paid to the Seller no later than three (3) Business Days after the Pre-Closing Income Statement has become final pursuant to Section 2.5 of this Agreement. Section 2.5 Adjustments to the Purchase Price. (a) In the event that the Subordinated Debt Repayment Amount exceeds the Projected Pre-Closing Taxes as of the Closing Date, then the amount of the Purchase Price payable to the Seller pursuant to Section 2.3 of this Agreement shall be reduced by the amount by which the Subordinated Debt Repayment Amount exceeds the Projected Pre-Closing Taxes. 20 (b) On the Closing Date, the Seller shall execute and deliver the Seller Note to the Purchaser pursuant to which the Seller shall be obligated to pay the Purchaser the amount, if any, by which the Projected Pre-Closing Taxes exceed the Pre-Closing Taxes plus interest on such amount at a rate per annum of 10% from the Closing Date until paid in full. Any amount payable to the Purchaser pursuant to the Seller Note shall be paid to the Purchaser no later than three (3) Business Days after the Pre-Closing Income Statement has become final pursuant to this Section 2.5. (c) As soon as reasonably practicable after the Closing, but in any event within forty-five (45) days after the Closing Date, the Seller shall deliver to the Purchaser (i) a balance sheet of the Purchaser as of the Closing Date immediately after giving effect to the Closing (the "Closing Date Balance Sheet"), which shall have been prepared in accordance with GAAP consistently applied by the Seller prior to the Acquisition, and (ii) a pre-closing income statement (the "Pre-Closing Income Statement") of the Seller for the period commencing on January 1, 1999 and ending on the Closing Date, which shall, among other things, set forth the calculation of the Pre-Closing Taxable Income. The fees, costs and expenses incurred by the Seller in connection with the preparation of the Closing Date Balance Sheet shall be paid by the Seller; provided, however, that such fees, costs and expenses shall be excluded from the calculation of the Purchaser's Pre-Tax Income. (d) The Closing Date Balance Sheet and the Pre-Closing Income Statement shall become final and binding upon the Parties after sixty (60) days following the Purchaser's receipt thereof unless the Purchaser delivers to the Seller a written notice of objection to the Closing Date Balance Sheet or the Pre-Closing Income Statement (a "Dispute Notice") prior to end of such 60-day period. The Dispute Notice shall specify in reasonable detail the amount in dispute and the items on the Closing Date Balance Sheet and/or the Pre-Closing Income Statement being disputed, and such notice shall describe in reasonable detail the basis for the Purchaser's objection. During the 30-day period following the delivery of the Dispute Notice pursuant to this Section 2.5, the Seller and the Purchaser shall negotiate in good faith to resolve the matters objected to in the Dispute Notice. At the end of such 30-day period, if the Seller and the Purchaser have not reached agreement on such matters, the dispute shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement, and the Parties shall act in good faith to resolve all such disputes as expeditiously as practicable. In the event of any dispute with respect to the Closing Date Balance Sheet and/or the Pre-Closing Income Statement, as the case may be, that requires arbitration pursuant to Section 11.10 of this Agreement, the financial statement in dispute shall become final upon the resolution of such dispute. Section 2.6 Assumption of Liabilities. (a) As of the Closing, the Purchaser shall assume and agree to pay, honor and discharge in full when due and payable any and all of the (i) Liabilities reflected on the balance sheet of the Seller as at December 31, 1998 other than the Excluded Liabilities, (ii) Liabilities incurred by the Seller in the ordinary course of business after December 31, 1998, (iii) Liabilities under the working capital facility of the Seller as of the Closing Date and all amounts that become due and payable under, or with respect to, such working capital facility as a result of, or in connection with, the Acquisition (including, without limitation, the Seller's liabilities with respect to overdrafts advanced, and letters of credit 21 outstanding, under such working capital facility and any success or other fees payable to Finova Capital Corporation as a result of the Acquisition), (iv) accrued and unpaid withholding Taxes and sales Taxes that are not past due, (v) unused vacation time that has accrued in 1999 for each employee of the Seller, and (vi) unpaid sick pay that has accrued in 1999 for each employee of the Seller (collectively, the "Assumed Liabilities"). The Seller shall remain liable for, and shall pay as and when due and payable, all of the Excluded Liabilities. (b) At the Closing, the Purchaser shall assume all of the Assumed Liabilities by executing and delivering the Assignment and Assumption Agreement to the Seller. Section 2.7 Allocation of Purchase Price. The cash payable at the Closing Date, the value of the Initial Share Allotment on the Closing Date and the amount of the Assumed Liabilities that are liabilities for tax purposes shall be allocated to the Acquired Assets in accordance with a schedule to be mutually agreed upon by the Seller and the Purchaser, which schedule shall be attached to this Agreement on the Closing Date as Schedule 2.7. Schedule 2.7 to this Agreement may be amended from time to time in a manner acceptable to the Seller and the Purchaser to reflect the amount of each Installment Payment and any other adjustments made to the Purchase Price after the date of this Agreement pursuant to this Agreement. Each Party agrees to (x) reflect the Acquired Assets upon its books for tax reporting purposes in accordance with Schedule 2.7 to this Agreement, as amended from time to time, and (y) file all tax returns in accordance with and based upon such schedule. The allocation of the Purchase Price made pursuant to this Section 2.7 is intended to comply with the requirements of ss.1060 of the Code. Section 2.8 Bulk Sales Law Compliance; Transfer Taxes; Franchise Taxes. The Seller agrees to pay and discharge all claims of creditors (other than the Assumed Liabilities, which shall be paid in full by the Purchaser as and when due and payable) that may be asserted against the Purchaser by reason of the noncompliance of the Seller with the provisions of the bulk sales or transfer laws of any state as a result of the transactions contemplated by this Agreement; provided, however, that the foregoing shall not preclude the Seller from contesting any claims in good faith; provided further, that the Seller agrees to indemnify and hold the Purchaser harmless from and against claims suffered or incurred by the Purchaser by reason of or arising out of the (i) failure of the Seller to pay or discharge any such claims (other than Assumed Liabilities) when due or (ii) the noncompliance with the provisions of any applicable bulk sales or transfer laws. This indemnification provision is not subject to the restrictions and limitations set forth in Article IX of this Agreement. ARTICLE III REPRESENTATIONS AND WARRANTIES OF THE SELLER The Seller represents and warrants to the Purchaser as of the date of this Agreement as follows: Section 3.1 Good Standing. The Seller (i) is a corporation duly organized, validly existing and in good standing under the laws of the State of Connecticut, (ii) has full power and 22 authority to own, lease and operate its properties and assets and to conduct the Business as it is being conducted, and (iii) except as set forth on Schedule 3.1 to this Agreement, is duly qualified or licensed to do business as a foreign corporation in each of the jurisdictions set forth on such schedule, and (iv) is duly qualified or licensed to do business as a foreign corporation, and is in good standing, in all jurisdictions in which such qualification or licensing is required, except for such jurisdictions in which the failure to be duly qualified or licensed would not reasonably be expected to have, either individually or in the aggregate, a Seller Material Adverse Effect. The Seller has made available to the Purchaser true, correct and complete copies of its certificate of incorporation and by-laws, as amended as of the date of this Agreement. Section 3.2 Authorization. The Seller has full right, authority and power to (i) enter into and deliver the Acquisition Documents to which it is a party, (ii) to consummate the transactions contemplated by such Acquisition Documents, and (iii) perform its obligations under such Acquisition Documents. The Acquisition Documents to which the Seller is a party have been duly executed and delivered by the Seller, and such Acquisition Documents are legal, valid and binding obligations of the Seller enforceable against the Seller in accordance with their terms. Section 3.3 Financial Statements. The Seller has provided the Purchaser with a copy of (a) the unaudited balance sheet, and the related unaudited statements of income, retained earnings and cash flow of the Seller as at and for the three-month period ended March 31, 1999 (collectively, the "Interim Financial Statements"), and (b) the audited balance sheets of the Seller as at December 31 in each of the years 1996 through 1998, together with the related statements of income, retained earnings and cash flows for the years ended on such dates, together with the notes thereto (collectively, the "Audited Financial Statements" and together with the Interim Financial Statements, the "Financial Statements"). Each of the Financial Statements was prepared in accordance with GAAP consistently applied, except that the Interim Financial Statements do not contain footnotes or year-end adjustments, and each of the Financial Statements fairly presents the financial position, results of operations and changes in financial position of Seller as at, or for the periods ended on, the dates thereof. Except as set forth on Schedule 3.3 to this Agreement, the Seller has not changed its policy or procedures with respect to its accounting practices since the Balance Sheet Date. Section 3.4 Taxes. (a) Except with respect to the Seller's 1998 Tax Return, for which the Seller has filed an extension and has paid all amounts required to have been paid for such year as of the date of this Agreement, the Seller has timely filed, or caused to be timely filed, all Tax Returns required to be filed by the Seller on or prior to the Closing Date, and all such Tax Returns are complete and accurate in all material respects and comply in all material respects with all applicable Laws. The Seller has made available to the Purchaser true, correct and complete copies of all Tax Returns filed by the Seller for each of its past two fiscal years ended December 31, 1997. Except as set forth on Schedule 3.4 to this Agreement, during the last thirty-six (36) months, none of the Seller's Tax Returns have been audited by the United States Internal Revenue Service or any other Governmental Authority, nor is any such audit scheduled or pending. The Seller shall retain any and all rights to claim a refund for any Taxes and the proceeds thereof paid by the Seller. 23 (b) The Seller has timely paid and through the Closing Date will have timely paid, all Taxes due and payable on or before the Closing Date. The Seller has, and through the Closing Date will have, established on its books and records reserves that are adequate for the payment of all Taxes attributable to any period (or portion of a period) occurring on or before the Closing Date, but which are not due and payable on or before the Closing Date. The provision for Taxes of the Seller shown on the Balance Sheet are sufficient for the payment of all such Taxes not paid for the period then ended and for all periods prior to the Balance Sheet Date thereto. The provision for employment withholding and payroll taxes made by the Seller through the Closing Date will be adequate to pay all unpaid liabilities for such taxes through the Closing Date and the Seller has, and through the Closing Date will have, within the time and in the manner prescribed, withheld from employees' wages and paid over to the proper Governmental Authority all amounts required to be so withheld and paid over under all applicable Laws. Section 3.5 Ownership of Assets. The Acquired Assets are sufficient to operate the Business in the manner in which it is being operated as of the date of this Agreement. Except as set forth on Schedule 3.5 to this Agreement, the Seller has good and marketable title to, or valid leasehold interests in, all of the Acquired Assets, free and clear of all liens other than Permitted Liens. Section 3.6 Fixed Assets. Schedule 3.6 to this Agreement sets forth a true, correct and complete list of all Fixed Assets of the Seller that have a book value of more than $1,000 as of the date of this Agreement. Section 3.7 Real Property. (a) The Seller does not own any real property. Schedule 3.7(a)(i) to this Agreement sets forth a true, correct and complete list of each lease for real property executed by or binding upon the Seller as lessee, sub-lessee, tenant or assignee (the "Leased Premises"). Except as set forth on Schedule 3.7(a)(ii) to this Agreement, each such lease is in full force and effect on the date of this Agreement without any default or breach thereof by the Seller or, to the Seller's knowledge, any other party thereto. Except as set forth on Schedule 3.7(a)(iii), no consent of any landlord or any other party is required under any such lease in order to assign each such lease to the Purchaser (or its designee) and to keep such lease in full force and effect after the execution and delivery of this Agreement and the consummation of the transactions contemplated by this Agreement. True, correct and complete copies of all leases listed on Schedule 3.7(a)(i) to this Agreement (including all amendments, addenda, waivers and all other binding documents affecting the tenant's rights thereunder) have been delivered to the Purchaser. (b) Except as set forth on Schedule 3.7(b)(i) to this Agreement, the Seller has not received any notice from any insurance company that has issued a policy covering any part of any Leased Premises (or by any board of fire underwriters or other body exercising similar functions) that requires or recommends any repairs or work to be done on any part of the Leased Premises. All of the public utilities required for the operation of the Leased Premises in the manner currently operated are installed and operating, and all installation and connection charges have been paid in full or provided for. Except as set forth on Schedule 3.7(b)(ii) to this Agreement, 24 the plumbing, electrical, heating, air conditioning, ventilating and other structural or material mechanical systems in the Leased Premises are in good working order and are adequate for the operation of the business of Seller on the date of this Agreement. Except as set forth on Schedule 3.7(b)(iii) to this Agreement, there are no leaks or other defects in or on the roof, basement or foundation walls of the Leased Premises are in good working order and are adequate for the operation of the business of Seller on the date of this Agreement. Except as provided in the leases for the Leased Premises and except as set forth on Schedule 3.7(b)(iv) to this Agreement, the Seller has not received notice of any assessments, and has no knowledge of any pending assessments, affecting the Leased Premises. Section 3.8 Intellectual Property. Schedule 3.8(a) to this Agreement lists of all of the Intellectual Property owned or used by the Seller. Schedule 3.8(b) to this Agreement sets forth a true, correct and complete list of all written and material licenses and arrangements pursuant to which the Seller is permitted to use the Intellectual Property of a third party in the conduct of its Business. No use by the Seller of any Intellectual Property infringes on any Intellectual Property right of any other Person. Except as disclosed in Schedule 3.8(c) to this Agreement, no action, claim, suit or proceeding has been brought against the Seller or, to the knowledge of the Seller, has been threatened against the Seller with respect to any of the Intellectual Property used by the Seller in the Business that challenges the Seller's right to use any such Intellectual Property or that alleges that the Seller infringes any of the Intellectual Property of any other Person. To the knowledge of the Seller, no other Person is infringing on any of the Intellectual Property owned or used by the Seller. Section 3.9 Contracts. (a) Schedule 3.9(a) to this Agreement lists all of the contracts described below and to which the Seller is a party (collectively, the "Material Contracts") that are in effect as of the date of this Agreement: (i) any lease of real property or any lease of personal property that (x) involves annual rental payments in excess of $10,000 in the aggregate or (y) is not cancelable within 30 days notice without penalty; (ii) any royalty, commission, distribution, agency, territorial or license agreement that involve aggregate payments by the Seller of more than $10,000; (iii) any employment contract that involves annual payments by the Seller in excess of $50,000; (iv) any agreement with any professional person or firm, consultant, independent contractor or advertising firm or agency that involves annual payments by the Seller in excess of $10,000 (excluding payments to legal and accounting advisors in connection with the Acquisition); (v) any contract or collective bargaining agreement with any labor union or representative of employees; 25 (vi) any contract obligating the Seller to guaranty the payment or performance of the obligations of others that involves an amount in excess of $10,000; (vii) any pension, profit sharing, retirement, medical, bonus, incentive, severance, stock option or stock purchase plan or other similar benefit plan in effect with respect to its employees or others; (viii) any contract materially limiting the freedom of the Seller to engage in any line of business or to compete with any Person; (ix) any license agreement that involves aggregate payments by or to the Seller in excess of $10,000; (x) any franchise agreement that involves aggregate payments by or to the Seller in excess of $10,000; and (xi) any other Contract that (x) involves aggregate annual payments by or to the Seller in excess of $10,000, or (y) requires performance for over six months and cannot be terminated within thirty (30) days notice without penalty. (b) The Seller has delivered or made available to the Purchaser true, correct and complete copies of all of the Material Contracts. (c) Except as set forth on Schedule 3.9(c) to this Agreement, each of the Material Contracts to which the Seller is a party constitutes the legal, valid and binding obligation of the Seller enforceable against it in accordance with its terms and is, to the knowledge of the Seller, a legal, valid and binding obligation of the other parties thereto enforceable against them in accordance with its terms. (d) Except as set forth on Schedule 3.9(d)(i) to this Agreement, the Seller is not as of the date of this Agreement, in breach or violation of, or default under, any of the Material Contracts, and no event has occurred thereunder that, with or without the lapse of time or the giving of notice, or both, would constitute a default by the Seller thereunder, except any such breach, violation or default that would not reasonably be expected to result in a Seller Material Adverse Effect. Except as set forth on Schedule 3.9(d)(ii) to this Agreement, to the knowledge of the Seller, no other party is in default under any Material Contract. Section 3.10 Customers and Vendors. Schedule 3.10(a) to this Agreement lists (i) the five (5) largest customers of the Seller in terms of revenues during the twelve-month period ended March 31, 1999, showing the approximate total sales by the Seller to each such customer during such period; and (ii) the five (5) largest vendors of the Seller in terms of purchases of goods or services by the Seller during such twelve-month period, showing the approximate total purchases by the Seller from each such vendor during such period. Except as set forth on Schedule 3.10(b) to this Agreement, since the Balance Sheet Date, there has been no material adverse change in the business relationship of the Seller with any customer or vendor named in 26 Schedule 3.10(a) to this Agreement. Except as set forth on Schedule 3.10(c) to this Agreement, the Seller has not received any written or oral notice, or to the knowledge of the Seller any oral notice, from any existing customer or vendor of the Seller that states that such customer or vendor intends to terminate its business relationship with the Seller. Section 3.11 Legal Proceedings. Except as set forth on Schedule 3.11(a) to this Agreement, there are no Actions pending or, to the knowledge of the Seller, threatened against the Seller. Except as set forth on Schedule 3.11(b) to this Agreement, the Seller is not in default with respect to any order, writ, injunction or decree of any Governmental Authority. There is no Action pending or, to the knowledge of the Seller, threatened against or affecting the Seller or the Seller's ability to consummate the transactions contemplated by this Agreement. Section 3.12 Orders; Decrees. Except as set forth on Schedule 3.12 to this Agreement, there are no outstanding orders, decrees, injunctions, rulings, decisions, directives, consents, pronouncements or regulations of any court or other Governmental Authority issued against, or binding on, the Seller or the Acquired Assets. Section 3.13 Compliance With Law. Except as set forth in Schedule 3.13(a) to this Agreement, the Seller has complied with all Laws applicable to the Seller and the Acquired Assets in all material respects. Schedule 3.13(b) to this Agreement sets forth all of the licenses, permits, consents, approvals, franchises and other authorizations that the Seller has obtained from Governmental Authorities. Except as set forth in Schedule 3.13(c) to this Agreement, the Seller has been granted, and it is in compliance with in all material respects, all of the licenses, permits, consents, approvals, franchises and other authorizations from Governmental Authorities that are necessary for the operation of the Business or the ownership of the Acquired Assets. Except as set forth in Schedule 3.13(d) to this Agreement, the Seller has not received any notice that any of its licenses, permits, consents, approvals, franchises or other authorizations from Governmental Authorities that are necessary for the operation of the Business or the ownership of the Acquired Assets will be revoked, canceled, rescinded or not renewed. Section 3.14 Inventory. The inventory (including, without limitation, new product inventory, and work-in-progress) owned by the Seller as of the Closing has been acquired in the ordinary course of the its business. The Seller has good and valid title to the inventory, free and clear of all Liens, except Permitted Liens. The allowance for obsolete and slow moving inventory reflected in the Balance Sheet was determined in accordance with GAAP consistently applied. Section 3.15 Capital Projects and Expenditures. All capital projects and capital expenditures (including any leases capitalized in accordance with GAAP consistently applied) that have been committed to or undertaken by the Seller but that have not been fully paid for on the date of this Agreement (in each instance having a cost of $10,000 or more), as well as the terms of any and all financing arranged in connection therewith and details of the payments, if any, to be made after the date of this Agreement with respect to any such capital projects or expenditures, are either (i) described in, or contemplated by, the 1999 Business Plan, or (ii) identified on Schedule 3.15 to this Agreement. 27 Section 3.16 Compensation. Schedule 3.16 to this Agreement lists the names, titles, and total annual compensation (including, as separately set forth figures, any bonuses) of all employees, salaried officers and directors of the Seller that earned more than $10,000 in compensation from the Seller in 1998. Section 3.17 Environmental Protection. (a) Except as set forth in Schedule 3.17(a)(i) to this Agreement, the Seller has complied in all material respects with all Environmental Laws. Except as set forth in Schedule 3.17(a)(ii) to this Agreement, the Seller has obtained all material permits, licenses, certificates and other authorizations that are required under any Environmental Laws with respect to the operation of the Business and ownership of the Acquired Assets. (b) Except as set forth in Schedule 3.17(b) to this Agreement, the Seller is in compliance in all material respects with (x) all permits, licenses and authorizations required, to be obtained by it under any Environmental Laws, and (y) all other material limitations, restrictions, conditions, standards, prohibitions, requirements, obligations, schedules and timetables contained in any Environmental Laws or contained in any regulation, code, plan, order, decree, judgment, injunction, notice or demand letter issued, entered, promulgated or approved thereunder. (c) Except as set forth in Schedule 3.17(c) to this Agreement, there is no pending or, to the knowledge of the Seller, threatened civil, criminal or administrative Action, demand, claim, hearing, notice of violation, investigation, proceeding, notice or demand letter against the Seller. (d) Except as set forth in Schedule 3.17(d) to this Agreement, there are no past or present events, conditions, circumstances, activities, practices, incidents, Actions or plans that would cause the Seller to be in violation in any material respect with any Environmental Laws. Section 3.18 Employee Benefits. Except as set forth in Schedule 3.18 to this Agreement, the Seller has not maintained, sponsored, adopted, made contributions to or obligated itself to make contributions to or to pay any benefits or grant rights under or with respect to any "Employee Pension Benefit Plan" (as defined in Section 3(2) of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), "Employee Welfare Benefit Plan" (as defined in Section 3(1) of ERISA), "multi-employer plan" (as defined in Section 3(37) of ERISA), plan of deferred compensation, or other plan providing for the welfare of any of the Seller's employees or former employees or beneficiaries thereof, personnel policy (including, without limitation, vacation time, holiday pay, bonus programs, moving expense reimbursement programs and sick leave), excess benefit plan, bonus or incentive plan (including, without limitation, stock options, restricted stock, stock bonus and deferred bonus plans), salary reduction agreement, change-of-control agreement, employment agreement, consulting agreement or any other benefit, program or contract (collectively, the "Employee Benefit Plans"), whether or not written or pursuant to a collective bargaining agreement, that could give rise to or result in the Seller having any material debt, liability, claim or obligation of any kind or nature, whether accrued, absolute, contingent, direct, indirect, known or unknown, perfected or inchoate or 28 otherwise and whether or not due or to become due. Copies of all of the Seller's Employee Benefit Plans have been made available to the Purchaser and the Seller's Employee Benefit Plans are in compliance in all material respects with governing documents and agreements and with all applicable Laws. Section 3.19 Approvals. Schedule 3.19 to this Agreement sets forth each material authorization, approval, order, license, permit, franchise and Consent that is required to be obtained by the Seller in connection with the execution, delivery and performance of the Acquisition Documents. Except as set forth on Schedule 3.19 to this Agreement, no authorization, approval, order, license, permit, franchise or Consent is required to be obtained by the Seller, and no registration, declaration or filing with any Governmental Authority or any other Person is required to be made by the Seller, in connection with the execution, delivery and performance of the Acquisition Documents. Section 3.20 No Brokers. Neither the Seller nor any of its Affiliates has entered into any contract, agreement, arrangement or understanding with any Person or firm that will result in the obligation of the Purchaser to pay any finder's fee or financial advisory fee, brokerage fee or commission or similar payment in connection with the transactions contemplated by this Agreement. Section 3.21 Absence of Undisclosed Liabilities. On the Balance Sheet Date, there were no Liabilities of the Seller other than those Liabilities reflected, disclosed or provided for on the Balance Sheet (including the notes thereto). The Assumed Liabilities shall only include the Liabilities of the Seller set forth on the Balance Sheet (other than the Excluded Liabilities) and the Liabilities of the Seller set forth on, or described in, Schedule 3.21 to this Agreement, and such other liabilities, if any, incurred by the Seller in the ordinary course of its business after December 31, 1998 that are less than $50,000 in the aggregate. Section 3.22 Accounts Receivable. Schedule 3.22 to this Agreement sets forth all of the outstanding accounts receivables of the Seller, and an aging schedule for such receivables, as of the date hereof (the "Receivables"). All of the Receivables have arisen from bona fide transactions in the ordinary course of the Seller's business. The allowance for doubtful accounts for the Receivables has been determined in accordance with GAAP consistently applied. Section 3.23 Accounts Payable. Except as set forth on Schedule 3.23 to this Agreement, none of the accounts payable of the Seller as of the date hereof are past due other than those being contested in good faith. Section 3.24 Insurance Policies. Except as set forth on Schedule 3.24 to this Agreement, no policy of Seller has been canceled, or has had its premiums increased (except for workers' compensation) by more than 10% by the issuer thereof, during the past 18 months. Section 3.25 Labor Relations. The Seller is not a party to any collective bargaining agreement. There are no labor strikes, disputes, slow downs, work stoppages or other labor troubles or grievances pending or, to the knowledge of the Seller, threatened against or involving 29 the Seller. No unfair labor practice complaint before the National Labor Relations Board, no discharge or grievance before the Equal Employment Opportunity Commission and no complaint, charge or grievance of any nature before any similar or comparable state, local or foreign agency, in any case relating to the Seller or the conduct of its business is pending or, to the knowledge of the Seller and the Stockholders, threatened. Neither the Seller nor the Stockholders has received notice, or has knowledge, of the intent of any Governmental Authority responsible for the enforcement of labor or employment laws to conduct any investigation of or relating to Seller or the conduct of its business. To the knowledge of the Seller and the Stockholders, no officer or key employee of Seller has any plans to terminate his or her employment with the Seller. Section 3.26 No Omissions. None of the representations or warranties by the Seller contained in this Agreement, or in the Schedules and Exhibits to this Agreement, contains any untrue statement of any material fact, or omits to state any material fact necessary in order to make the statements contained in any such representations and warranties not misleading. ARTICLE IV REPRESENTATIONS AND WARRANTIES OF THE PURCHASER The Purchaser represents and warrants to the Seller as of the date of this Agreement as follows: Section 4.1 Good Standing. The Purchaser (i) is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, (ii) has full power and authority to own, lease and operate its properties and assets and to conduct its business as now being conducted, and (iii) is duly qualified or licensed to do business as a foreign corporation and is in good standing, in all jurisdictions in which such qualification or licensing is required, except for such jurisdictions in which the failure to be duly qualified or licensed would not be reasonably expected to have, either individually or in the aggregate, a Purchaser Material Adverse Effect. The Purchaser has made available to the Seller true, correct and complete copies of the certificates of incorporation and by-laws of the Purchaser and the Parent, each as amended as of the date of this Agreement. Section 4.2 Authorization. The Purchaser has full right, authority and power to (i) enter into and deliver the Acquisition Documents to which it is a party, (ii) consummate the transactions contemplated by such Acquisition Documents, and (iii) perform its obligations under such Acquisition Documents. The Acquisition Documents to which the Purchaser is a party have been duly executed and delivered by the Purchaser, and such Acquisition Documents are legal, valid and binding obligations of the Purchaser enforceable against the Purchaser in accordance with their terms. Section 4.3 Capitalization. The authorized capital stock of the Parent consists of 5,000,000 shares of Class A Common Stock, 10,000,000 shares of Class B Common Stock, par 30 value $0.001 per share ("Class B Common Stock"), and 5,000,000 shares of Preferred Stock, par value $0.001 per share ("Preferred Stock"). Section 4.4 Legal Proceedings. Except as set forth on Schedule 4.4(a) to this Agreement, there are no Actions pending or, to the knowledge of the Purchaser, threatened against the Purchaser. Except as set forth on Schedule 4.4(b) to this Agreement, the Purchaser is not in default with respect to any order, writ, injunction or decree of any Governmental Authority. There is no action pending or, to the knowledge of the Purchaser, threatened against or affecting the Purchaser's ability to consummate the transactions contemplated by this Agreement. Section 4.5 Contracts. The Purchaser will not be party to any Contracts immediately prior to the Acquisition other than the Acquisition Documents and the other Contracts contemplated thereby and, as of the Closing Date immediately after giving effect to the Acquisition, the Purchaser will not be a party to any Contract other than the Acquisition Documents, the Contracts contemplated by the Acquisition Documents, and the Contracts being assumed by the Purchaser from the Seller in connection with the Acquisition. Section 4.6 Orders; Decrees. Except as set forth on Schedule 4.6 to this Agreement, there are outstanding orders, decrees, injunctions, rulings, decisions, directives, consents, pronouncements or regulations of any court or any Governmental Authority issued against, or binding on, the Purchaser or any of its assets. Section 4.7 Compliance With Law. Except as set forth on Schedule 4.7(a) to this Agreement, the Purchaser has complied with all applicable Laws in all material respects. Schedule 4.7(b) to this Agreement sets forth all of the licenses, permits, consents, approvals, franchises and other authorizations obtained by the Purchaser from Governmental Authorities. Except as set forth on Schedule 4.7(b) to this Agreement, the Purchaser has been granted and is in compliance with, in all material respects, all of its licenses, permits, consents, approvals, franchises and other authorizations from Governmental Authorities that are necessary for the operation of its businesses or the ownership its assets. Except as set forth in Schedule 4.7(c) to this Agreement, the Purchaser has not received any written notice that any of their licenses, permits, consents, approvals, franchises and other authorizations from Governmental Authorities that are necessary for the operation of their businesses or the ownership of their assets will be revoked, canceled, rescinded or not renewed. Section 4.8 Approvals. Schedule 4.8(a) to this Agreement sets forth each material authorization, approval, order, license, permit, franchise and Consent that is required to be obtained by the Purchaser in connection with the execution, delivery and performance of the Acquisition Documents. Except as set forth on Schedule 4.8(b) to this Agreement, no authorization, approval, order, license, permit, franchise, or Consent is required to be obtained by the Purchaser, and no registration, declaration or filing with any Governmental Authority or any other Person is required to be made by the Purchaser, in connection with the execution, delivery and performance of the Acquisition Documents. 31 Section 4.9 No Brokers. Except for Mr. William Roberti and as set forth on Schedule 4.9 of this Agreement, neither the Purchaser nor any of its Affiliates has entered into any contract, agreement, arrangement or understanding with any Person that will result in the obligation of the Seller to pay any finder's fee or financial advisory fee, brokerage fee or commission or similar payment in connection with the transactions contemplated by this Agreement. Section 4.10 Absence of Liabilities. The Purchaser will not have any Liabilities immediately prior to the Acquisition and, except for the Assumed Liabilities, the Purchaser will not have any Liabilities whatsoever immediately following the Acquisition. Section 4.11 Business Activities. The Purchaser is a newly formed wholly owned subsidiary of the Parent that has been formed for the purpose of purchasing the Acquired Assets from the Seller. The Purchaser has not had any business activities prior to the Acquisition. Section 4.12 No Omissions. None of the representations or warranties by the Purchaser contained in this Agreement, or in the Schedules and Exhibits to this Agreement, contains any untrue statement of any material fact, or omits to state any material fact necessary in order to make the statements contained in any such representations and warranties not misleading. ARTICLE V CONDUCT PRIOR TO THE CLOSING Section 5.1 Investigation by the Purchaser and the Seller. (a) During the period from the date of this Agreement through the Closing Date, the Purchaser may, through its own representatives (including its counsel, accountants and consultants), make such investigations of the properties, plants and operations of the Seller and such review of the financial condition of the Seller as the Purchaser deems necessary or advisable in connection with the transactions contemplated by this Agreement. The Seller shall authorize and permit the Purchaser and its representatives to have access during normal business hours, upon reasonable notice and for reasonable purposes and in such manner as shall not unreasonably interfere with the conduct of the Seller's business, to (x) the Seller's officers and premises, and (y) all of the financial books and records of the Seller, and the Purchaser shall have the right to make copies thereof and excerpts therefrom; provided, however, that all such information shall be subject to the Confidentiality Agreement, dated as of April 6, 1999, between the Seller and the Parent (the "Confidentiality Agreement"). The Seller shall furnish the Purchaser with such financial and operating data and other information with respect to the Seller and the Acquired Assets as the Purchaser may from time to time reasonably request. Upon reasonable advance notice to the Seller and subject to the Seller's consent and restrictions (such consent not to be unreasonably withheld), the Seller agrees to permit the Purchaser and its authorized representatives to visit material suppliers, customers and others having material business relations with the Seller. 32 (b) During the period from the date of this Agreement through the Closing Date, the Seller may, through its own representatives (including its counsel, accountants and consultants), make such investigations of the properties, plants and operations of the Parent and its subsidiaries and such review of the financial condition of the Parent and its subsidiaries as the Seller deems necessary or advisable in connection with the transactions contemplated by this Agreement. The Purchaser shall cause the Parent and its other subsidiaries to authorize and permit the Seller and its representatives to have access during normal business hours, upon reasonable notice and for reasonable purposes and in such manner as shall not unreasonably interfere with the conduct of the business of the Parent or its other subsidiaries, to (x) the officers and premises of the Parent and its other subsidiaries, and (y) all financial books and records of the Parent and its other subsidiaries, and the Seller shall have the right to make copies thereof and excerpts therefrom; provided, however, that all such information shall be subject to the Confidentiality Agreement. The Purchaser will cause the Parent and its other subsidiaries to furnish to the Seller such financial and operating data and other information with respect to the business of the Parent and its other subsidiaries as the Seller may from time to time reasonably request. Section 5.2 Conduct of Business. The Seller agrees that, unless otherwise consented to by the Purchaser, from the date of this Agreement until the Closing: (a) the Seller shall conduct its Business in the ordinary course consistent with past practices; (b) the Seller will use commercially reasonable efforts to: (i) preserve the Business and to maintain satisfactory relationships with its material customers, suppliers, distributors and any other Person that has material business relations with the Seller; (ii) maintain its tangible assets in good order and repair, ordinary wear and tear excepted; (iii) perform its obligations under each Material Contract, and keep each Material Contract in full force and effect, free from any right of cancellation, forfeiture or termination (except in accordance with its terms); (iv) retain the services of its key officers and employees; (v) promptly notify the Purchaser of any material adverse change in the business, assets, financial condition or results of operations of the Seller; and (c) without the prior consent of the Purchaser or except with respect to the Excluded Assets and Excluded Liabilities, the Seller will not: 33 (i) incur any liabilities, obligations or indebtedness for borrowed money or guarantee any such liabilities, obligations or indebtedness in excess of $10,000 or which has a term of more than one year other than to an independent third party in the ordinary course of business consistent with past practices; (ii) cancel any material indebtedness (other than Excluded Asset) owed to the Seller other than in the ordinary course of business consistent with past practices; (iii) acquire or agree to acquire by merging or consolidating with, or by purchasing stock or a substantial portion of the assets of, or by any other manner, any material operating business, corporation, partnership, association or other business organization (or division thereof); (iv) enter into any lease of real property; (v) modify, amend or terminate any lease of, or other material agreement pertaining to, real property (except modifications or amendments associated with renewals of leases in the ordinary course of business), except for such modifications, amendments or terminations that would not reasonably be expected to have, individually or in the aggregate, a Seller Material Adverse Effect; (vi) except as disclosed on Schedule 3.15 of this Agreement or in the 1999 Business Plan, make capital expenditures or purchases in excess of $10,000 in the aggregate; (vii) increase the compensation of any officer, director or Stockholder except in the ordinary course of business; (viii) enter into any material Contract or commitment or incur any Liability other than in the ordinary course of business consistent with past practices; (ix) waive any rights of substantial value affecting the Acquired Assets; (x) dispose of, permit to lapse (except pursuant to its terms), or otherwise fail to use commercially reasonably efforts to preserve any of its material Intellectual Property, dispose of or permit to lapse (except pursuant to its terms) any material license, permit or other form of authorization, or dispose of or disclose any customer list, trade secret, formula process or know-how to any Person except in the ordinary course of business consistent with past practices; (xi) make any change in any method of accounting or accounting practice or in the application of such method of accounting or accounting practice; 34 (xii) pay, loan or advance any amount to or in respect of, or sell, transfer or lease any assets (whether real, personal or mixed, tangible or intangible) to, or enter into any agreement, arrangement or transaction with, any of its officers or directors, any of its Affiliates or any Person in which it or any of its officers, directors, Affiliates has any direct or indirect interest, except for (A) directors' fees and compensation to its officers and employees, and (B) advances made to directors, officers and employees for travel and other business expenses in reasonable amounts consistent with past practices; (xiii) hire any person that is a relative of any of the Stockholders; (xiv) agree, whether in writing or otherwise, to take any action prohibited by this Section 5.2; or (xv) distribute any cash to its stockholders other than salaries paid in the ordinary course of business consistent with past practices. Section 5.3 Other Transactions. Except with respect to the Excluded Assets, the Seller will not, and the Seller shall not permit its directors, officers and agents to, directly or indirectly, solicit or initiate the submission of proposals from, or solicit, encourage, entertain or enter into any arrangement, agreement or understanding with, or engage in any discussions with, or furnish any information to, any Person other than the Purchaser or a representative thereof, with respect to the acquisition of all or any part of the Acquired Assets, except for sales of inventory in the ordinary course of business consistent with past practices. In the event that the Seller receives any such offer or inquiry relating to any proposed acquisition of the Acquired Assets prior to the Closing Date, the Seller will provide the Purchaser with notice thereof as promptly as practicable, which notice will include the identity of the prospective offeror and the price and terms of any offer. Section 5.4. Consents. The Purchaser and the Seller shall each use commercially reasonable efforts to obtain in writing, prior to the Closing, all Consents necessary or reasonably required in order to permit it to consummate the transactions contemplated by this Agreement. To the extent that the assignment of or the agreement to assign any Contract to the Purchaser under this Agreement would constitute a breach of that Contract unless the consent or waiver of another party thereto has been obtained, this Agreement shall not constitute any such assignment or agreement to assign unless and until such consent or waiver is obtained. The Purchaser and the Seller agree to use their commercially reasonable efforts to obtain all such consents and waivers prior to the Closing Date. If any such consent or waiver is not obtained before the Closing Date and the Closing is nevertheless consummated, the Seller agrees to continue to use its commercially reasonable efforts to obtain all such consents as have not been obtained on or prior to such date and further agrees to cooperate with the Purchaser after such date in any reasonable arrangement (such as subcontracting, sublicensing or subleasing) designed to provide for the Purchaser, on terms commercially reasonable to the Purchaser, the benefits under the applicable Contracts. 35 Section 5.5. Public Announcements. Each of the Parties agree that it will (x) consult with the other Party before issuing any press releases or otherwise making any public statements with respect to this Agreement or the transactions contemplated by this Agreement, and (y) not issue any press release or make any public statement prior to Closing without the prior written consent of the other Party, except as may be required by law. Section 5.6. Employees. On or prior to the Closing, the Purchaser shall offer employment to all of the employees of the Seller, and the compensation and benefits offered to each employee shall be at least as favorable as the compensation and benefits being paid to such employee by the Seller immediately prior to the Closing Date. In addition, the Purchaser shall (i) assume and pay with respect to each employee of the Seller all accrued and unpaid compensation that is not past due, (ii) provide such employee all of his or her unused vacation time that has accrued on or after January 1, 1999 in a manner consistent with the past practices of the Seller and (iii) provide such employee all of his or her unpaid sick pay that has accrued on or after January 1, 1999 in a manner consistent with the past practices of the Seller. Section 5.7. Notification. Each Party (a "Reporting Party") shall give the other Party prompt written notice of (i) the existence of any fact or the occurrence of any event that constitutes, or with the giving of notice or the passage of time or both would constitute, a material breach of any representation or warranty of the Reporting Party made in the Acquisition Documents, and (ii) the taking of any action by the Reporting Party that would breach or violate, or constitute a default under, any agreement or covenant made by the Reporting Party in the Acquisition Documents. The giving of any such notice shall not affect, modify or limit in any way any representation, warranty, agreement or covenant made by the either Party made in the Acquisition Documents or the other Party's right to rely thereon. Section 5.8. Supplemental Disclosure. Each Reporting Party covenants that until the Closing it shall promptly advise the other Party with respect to any matter arising or discovered that is outside of the ordinary course of business that, if existing or known at the date of this Agreement, would have been required to be set forth or described in a schedule to this Agreement by the Reporting Party, or that constitutes a breach or prospective breach of this Agreement by the Reporting Party. ARTICLE VI CONDITIONS OF THE PURCHASER'S OBLIGATIONS TO CLOSE The obligations of the Purchaser under this Agreement are subject to the conditions set forth below, which conditions may be waived by the Purchaser in its sole discretion: Section 6.1 Agreement and Conditions. On or prior to the Closing Date, the Seller shall have complied in all material respects with all of the covenants, agreements and conditions to be performed by it pursuant to the Acquisition Documents on or prior to the Closing Date. 36 Section 6.2 Representations and Warranties. The representations and warranties of the Seller contained in the Acquisition Documents, as amended, modified or supplemented by the Officer's Certificate to be delivered pursuant to Section 6.5 of this Agreement, shall be true and correct as of the Closing Date; provided, however, that without the consent of the Purchaser, modifications, amendments or supplements to the representations and warranties of the Seller shall be limited to events, developments and transactions that occurred after the date of this Agreement (or, if earlier, the effective date of any such representation or warranty) or that occurred in the ordinary course of the Seller's business. Section 6.3 Opinion of Counsel. The Purchaser shall have received an opinion of Duval & Stachenfeld LLP and the local and special counsel for the Seller if appropriate, each in form and substance reasonably satisfactory to the Purchaser. Section 6.4 No Legal Proceeding. No Action shall have been instituted or threatened to restrain or prohibit the transactions contemplated by this Agreement. Section 6.5 Officer's Certificate. The Purchaser shall have received a certificate dated the Closing Date and executed by the chief executive officer and the chief financial officer of the Seller to the effect that the conditions expressed in Sections 6.1, 6.2 and 6.4 of this Agreement shall have been satisfied, which shall be in form and substance reasonably satisfactory to the Purchaser. Section 6.6 Secretary's Certificate. The Purchaser shall have received a certificate dated as of the Closing Date and executed by the secretary of the Seller certifying to (i) the Seller's certificate of incorporation and bylaws; (ii) the incumbency of all officers of the Seller having authority to execute and deliver the Acquisition Documents to which the Seller is a party; and (iii) the resolutions of the Seller's board of directors and stockholders approving the execution, delivery and performance of the Acquisition Documents to which the Seller is a party, all of which shall be in form and substance reasonably satisfactory to the Purchaser. Section 6.7 Employment Agreement. The Stockholders shall have entered into employment agreements with the Purchaser, which agreements shall be substantially in the form of Exhibit C to this Agreement. Section 6.8 IPO. The Parent shall have received gross proceeds of $50 million or more from the IPO. Section 6.9 Consents. The Seller and the Purchaser shall have received all of the authorizations, consents, orders, licenses, permits and approvals required to be obtained by them from Governmental Authorities and all other Persons for the consummation of the transactions contemplated by this Agreement, and each such authorization, consent, order, and approval shall be in form and substance satisfactory to the Purchaser, including without limitation, the consent of the Parent's lender. 37 Section 6.10 No Change. There shall not have been any change since the date of this Agreement in the Business or financial condition of the Seller that has resulted in a Seller Material Adverse Effect. Section 6.11 Pivot Rules. The Stockholders shall have caused Klearknit, Inc. to execute and deliver to the Purchaser an assignment and assumption agreement for the "Pivot Rules" trademark, which agreement shall be in the form of Exhibit F to this Agreement (the "Pivot Rules Assignment and Assumption Agreement"). Section 6.12 Colours/Alexander Julian. For no additional consideration by the Purchaser, the Seller shall have caused the transfer of the Colours/Alexander Julian license upon its current terms and conditions to the Purchaser on the Closing Date, which license shall not have been modified between the date of this Agreement and the Closing Date without the prior written consent of the Purchaser, and the current term of such license shall expire no earlier than December 31, 2001, with a renewal option of no less than five years exercisable at the Purchaser's option. Section 6.13 Performance by the Seller. The Seller shall have satisfied or performed all of its liabilities and obligations with respect to its subordinated indebtedness and pension plan liabilities or, if such liabilities and obligations have not been paid in full as of Closing, such liabilities and obligations shall be Excluded Liabilities. Section 6.14 Working Capital. The Purchaser shall have obtained working capital financing sufficient to fund its business after the Closing on terms and conditions reasonably satisfactory to the Purchaser. Section 6.15 Stockholder Guarantee. Each of the Stockholders shall have executed and delivered the Stockholder Guarantee and to the Purchaser. Section 6.16 Board Approval. The Purchaser's Board of Directors shall have approved the transactions contemplated by the Acquisition Documents. Section 6.17 Due Diligence. The Purchaser shall be satisfied with the results of its due diligence investigation of the Seller, which due diligence shall have been completed no later than three weeks after the date on which all information requested by the Purchaser has been delivered to the Purchaser. Section 6.18 Loss, Damage or Destruction. Between the date of this Agreement and the Closing Date there shall not have been any loss, damage or destruction to or of any of the assets, property or business of Seller in excess of $100,000 in the aggregate, nor shall the assets, properties and business of Seller have been materially adversely affected in any way as a result of any fire, accident, or other casualty, war, civil strife, riot or act of God or the public enemy. Section 6.19 Business Plan. The 1999 Business Plan shall have been delivered in form and substance reasonably satisfactory to the Purchaser. 38 Section 6.20 Seller Note. The Seller shall have executed and delivered the Seller Note to the Purchaser. ARTICLE VII CONDITIONS OF THE SELLER'S OBLIGATIONS TO CLOSE The obligations of the Seller under this Agreement are subject to the satisfaction of the conditions set forth below, which conditions may be waived by the Seller in its sole discretion: Section 7.1 Agreements and Conditions. On or prior to the Closing Date, the Purchaser shall have complied in all material respects with all of the covenants, agreements and conditions to be performed by it pursuant to the Acquisition Documents on or prior to the Closing Date. Section 7.2 Representations and Warranties. The representations and warranties of the Purchaser contained in the Acquisition Documents, as amended, modified or supplemented by the Officer's Certificate to be delivered pursuant to Section 7.5 of this Agreement, shall be true and correct as of the Closing; provided, however, that without the consent of the Seller, modifications, amendments or supplements to the representations and warranties of the Purchaser shall be limited to events, developments and transactions that occurred after the date of this Agreement (or, if earlier, the effective date of any such representation or warranty) or that occurred in the ordinary course of the Purchaser's business. Section 7.3 Opinion of Counsel. The Seller shall have received an opinion of Scolaro, Shulman, Cohen, Lawler & Burstein, P.C., counsel for the Purchaser, in form and substance reasonably satisfactory to the Seller. Section 7.4 No Legal Proceeding. No Action shall have been instituted or threatened to restrain or prohibit the transactions contemplated by this Agreement. Section 7.5 Officer's Certificate. The Seller shall have received a certificate dated the Closing Date and executed by the chief executive officer and the chief financial officer of the Purchaser to the effect that the conditions expressed in Sections 7.1, 7.2 and 7.4 and of this Agreement shall have been satisfied, which shall be in form and substance reasonably satisfactory to the Seller. Section 7.6 Secretary's Certificate. The Seller shall have received a certificate dated as of the Closing Date and executed by the secretary of the Purchaser certifying to (i) the certificate of incorporation and bylaws of the Purchaser and the Parent; (ii) the incumbency of all officers of the Purchaser and the Parent having authority to execute and deliver the Acquisition Documents to which the Purchaser and/or the Parent is a party; and (iii) the resolutions of the boards of directors and stockholders of the Purchaser and the resolutions of the Parent's board of 39 directors approving the execution, delivery and performance of the Acquisition Documents to which the Purchaser and the Parent is a party, all of which shall be in form and substance reasonably satisfactory to the Seller. Section 7.7 Employment Agreement. The Purchaser shall have entered into employment agreements with each of the Stockholders, which agreements shall be substantially in the form of Exhibit C to this Agreement. Section 7.8 Consents. The Seller and the Purchaser shall have received all of the authorizations, consents, orders, licenses, permits and approvals required to be obtained by them from Governmental Authorities and all other Persons (including, without limitations, the consent of Alexander Julian) for the consummation of the transactions contemplated by this Agreement, and each such authorization, consent, order and approval shall be in form and substance satisfactory to the Seller, including without limitation, the consent of the Seller's lender if required. Section 7.9 Escrow Agreement. Each of the Purchaser, the Seller and Escrow Agent shall have executed and delivered to the other the Escrow Agreement, and the Purchaser shall have deposited the Escrow Amount with the Escrow Agent as contemplated by Section 2.3(c) of this Agreement. Section 7.10 Working Capital. The Purchaser shall have obtained working capital financing sufficient to fund its business after the Closing on terms and conditions reasonably satisfactory to the Seller. Section 7.11 Pivot Rules Trademark. The Purchaser shall have executed and delivered to Klearknit, Inc. the Pivot Rules Assignment and Assumption Agreement. Section 7.12 Parent Guarantee. The Parent shall have executed and delivered the Parent Guarantee to the Seller. Section 7.13 Purchaser Note. The Purchaser shall have executed and delivered the Purchaser Note to the Seller. 40 ARTICLE VIII ADDITIONAL COVENANTS AND AGREEMENTS Section 8.1 Cooperation; Access to Books and Records. From the date of this Agreement until the Closing, each Party will (i) cooperate with the other Party, and (ii) use commercially reasonable efforts to have its officers, directors and other employees cooperate with the other Party. From and after the Closing, the Purchaser will authorize and permit the Seller and its representatives to have access during normal business hours, upon reasonable notice and for reasonable purposes and in such manner as will not unreasonably interfere with the conduct of the Purchaser's business, to all of the Purchaser's books and records for tax purposes and any other reasonable purpose relating to the Seller's rights and obligations under the Agreement. From and after the Closing, the Seller will authorize and permit the Purchaser and its representatives to have access during normal business hours, upon reasonable notice and for reasonable purposes and in such manner as will not unreasonably interfere with the conduct of the Seller's business, to all of the Seller's books and records for tax purposes and any other reasonable purpose relating to Purchaser's rights and obligations under the Agreement. Section 8.2 Collection of Receivables; Delivery of Mail. The Seller agrees that the Purchaser shall have the right and authority to (x) collect for the account of the Purchaser all of the accounts receivable and other assets that are transferred to the Purchaser pursuant to this Agreement, and (y) endorse with the name of the Seller any checks received with respect to any such accounts receivable or other assets. The Seller agrees that it will promptly transfer and deliver to the Purchaser any cash or other property that the Seller may receive in respect of any such receivables or other items. The Seller agrees to deliver to the Purchaser promptly upon receipt any mail, checks or other documents received by it pertaining to the Acquired Assets or otherwise to the Business of the Seller (other than with respect to the Excluded Assets) or any of the Assumed Liabilities. Upon demand of the Purchaser, the Seller shall promptly repurchase from the Purchaser the accounts receivables assigned from the Seller to the Purchaser on the Closing Date that are not collected within 120 days after their creation to the extent the amount not collected exceeds the reserve for doubtful accounts set forth in the Closing Date Balance Sheet; provided, however, with respect to all of the accounts receivables not collected due to returned merchandise from Sam's Club returned in the ordinary course of business, such accounts receivables shall be deemed collected in full for purposes of this Section 8.2, and with respect to accounts receivables not collected due to all other returned merchandise, such accounts receivables shall be deemed collected to the extent of the cost of such returned merchandise for purposes of this Section 8.2 and the balance of such receivables shall be deemed uncollectible; provided further, however, if any such merchandise is subsequently sold, any proceeds received by the Purchaser from such sale in excess of the cost of such merchandise shall be paid to the Seller if and to the extent that the Seller has paid any amounts to the Purchaser pursuant to this Section 8.2 as a result of the return of such merchandise. The Seller shall own, and shall be entitled to keep, all of the proceeds from the accounts receivables, if any, repurchased by the Seller from the Purchaser. 41 Section 8.3. Confidentiality. (a) The Seller agrees not to, directly or indirectly, without the prior written consent of the Purchaser, use or disclose to any Person any information, trade secrets, confidential customer information, technical data or know-how relating to the Business; provided, however, that this provision shall not prohibit the Seller's use or disclosure of information that (i) is or becomes generally available to the public or the industry in which the Purchaser conducts business other than as a result of disclosure by the Seller, or (ii) is used by the Seller in any activity or business that is not the same as, similar to, or competitive with the Business. (b) Notwithstanding the terms of the Confidentiality Agreement, the Parent may include information about the Seller in the registration statement being prepared by the Parent if and to the extent required by applicable Law; provided, however, that the Seller shall be given ample opportunity to review any material concerning the Seller that is to be included in such registration statement, and the Seller shall be permitted to edit and revise all such material, before any such information is filed with the Securities and Exchange Commission; provided further that the Parent shall have the final authority as to the form and content of the information included in such registration statement; provided further, however, that the Parent hereby agrees to indemnify and hold harmless the Seller from and against any and all of the Damages incurred or suffered by the Seller as a result of any material misstatement or omission included in such registration statement with respect to the Seller if the Seller has objected in writing to the inclusion of such material in the registration statement (provided further, however, that no such objection shall be required with respect to any such material if the Seller has not been given a reasonable and adequate opportunity to review such material in the registration statement before it is filed with the Securities and Exchange Commission). Section 8.4. Further Assurances. Each Party agrees that at any time and from time to time after the Closing Date, upon the reasonable request of the other Party, to use commercially reasonable efforts to do, execute, acknowledge and deliver, or to cause to be done, executed, acknowledged and delivered, all such further acts, assignments, transfers, powers of attorney and assurances as may be reasonably necessary or appropriate to carry out the terms and conditions of this Agreement. Section 8.5 Advisory Board. The Purchaser shall have an advisory board (the "Advisory Board") of five persons (or such other number of persons selected by the Seller, but not less than three persons), all but one of which shall be designated by the Stockholders and one of which shall be designated by the Purchaser's Board; provided, however, that if someone other than a Stockholder is selected to serve as the Chief Executive Officer of the Purchaser, such person shall also be entitled to serve on the Advisory Board (decisions of the Advisory Board shall be made by majority vote, with each person being entitled to one vote). The Advisory Board shall have full control of the day-to-day operations and affairs of the Purchaser, provided that such control is consistent with the written strategic annual business plan of the Purchaser developed by such Advisory Board and approved by the Purchaser's Board; provided further that such control may be delegated to the chief executive officer of the Purchaser if such officer is a Stockholder. The Advisory Board shall have no authority to authorize or approve any action that would be inconsistent with the strategic annual business plan of the Purchaser then in effect. The 42 Advisory Board may adopt procedures and policies with respect to its management, operations and affairs as a majority of its members determine appropriate. The Advisory Board shall be entitled to select one member of the operating advisory board of the Parent. Section 8.6 Strategic Annual Business Plan. The 1999 Business Plan shall be the strategic annual business plan of the Purchaser for the remainder of 1999. The strategic annual business plan of the Purchaser for each year shall be reviewed quarterly by the Advisory Board and the Purchaser's Board and, if there has been a material change in the Purchaser's business during any such quarter, the Advisory Board may (and, if requested by the Purchaser's Board, the Advisory Board shall) prepare a revised strategic annual business plan for the approval of the Purchaser's Board. On or before September 30 of each fiscal year beginning in 1999, the Advisory Board shall prepare and submit to the Purchaser's Board a proposed strategic annual business for the following year (such strategic annual business plan submitted by the Advisory Board and revised pursuant to this Section 8.6, the "Proposed Business Plan"). The Purchaser's Board shall review the Proposed Business Plan and recommend revisions to the Proposed Business Plan (if any) to the Advisory Board by October 31 of such year. If revisions are requested by the Purchaser's Board, the Advisory Board shall revise the Proposed Business Plan as it deems appropriate based on the revisions proposed by the Purchaser's Board, and the Advisory Board shall submit a revised Proposed Business Plan to the Purchaser's Board for approval by November 15 of such year, after which the Advisory Board and the Purchaser's Board shall work to finalize the Proposed Business Plan; provided, however, that if the Proposed Business Plan is not approved and adopted by the Purchaser's Board by the end of business on November 30 of such year, the then current strategic annual business plan shall remain in effect until a new strategic annual business plan for the Purchaser has been developed by the Advisory Board and approved by the Purchaser's Board. The Purchaser's Board and the Advisory Board shall cooperate in good faith to develop a strategic annual business plan for each year, and to modify, amend or supplement such plan from time to time as necessary or appropriate to maximize the Purchaser's Pre-Tax Income during the period commencing on the Closing Date and ending on December 31, 2004 in a manner consistent with the fiduciary duties of the Purchaser's Board to its stockholders. Section 8.7 Additional Working Capital. The Purchaser shall cause its business and operations to be funded in accordance with the provisions of paragraph (c) of Schedule I and Schedule IA to this Agreement. Section 8.8 Discharge of Liabilities. The Purchaser shall pay, honor and discharge in full when due and payable all of the Assumed Liabilities as and when such liabilities become due and payable, and the Seller shall pay honor and discharge in full all of the Excluded Liabilities as and when such liabilities become due and payable. Except as provided in Article IX and Section 11.10 of this Agreement, the Parties acknowledge and agree that the Seller shall have no liability or responsibility for any fees, costs, expenses or liabilities incurred by the Purchaser prior to, as a result of, or after the Acquisition, all of which shall be paid in full by the Parent. 43 Section 8.9 Non-Competition of the Seller. Until December 31, 2004, the Seller shall not engage in any business in the men's apparel industry that competes with any business in which the Purchaser, the Parent or any of their affiliates is engaged as of the date of this Agreement. Section 8.10 Physical Inventory. Prior to the Closing Date, on such date as requested by the Purchaser on reasonable notice, the Seller shall conduct one physical inventory, which may be observed by the Purchaser's representatives. The reasonable fees, costs and expenses of conducting a physical inventory pursuant this Section 8.10 shall be paid by the Seller. Section 8.11 Name Change. The Seller shall change its name at or prior to the Closing. ARTICLE IX INDEMNIFICATION Section 9.1. Indemnification by the Seller. The Seller agrees to indemnify the Purchaser and its Affiliates, officers, directors, employees, agents and representatives (collectively, the "Purchaser Indemnitees") against and hold them harmless from any and all Damages that a Purchaser Indemnitee may sustain at any time by reason of (i) any Excluded Liability, and (ii) any breach by the Seller of any of its representations, warranties, covenants or agreements set forth in the Acquisition Documents. Section 9.2. Indemnification by the Purchaser. The Purchaser agrees to indemnify and hold the Seller and its Affiliates, officers, directors, employees, agents and representatives (collectively, the "Seller Indemnitees") against and hold them harmless from any and all Damages that a Seller Indemnitee may sustain at any time by reason of (i) any Assumed Liability, and (ii) any breach by the Purchaser of any of its representations, warranties, conditions, covenants or agreements set forth in the Acquisition Documents. Section 9.3. Procedures for Indemnification. (a) Subject to Section 9.5 of this Agreement, a Party seeking indemnification under this Article IX (the "Indemnified Party") shall promptly notify the Party against whom a claim for indemnification is sought under this Agreement (the "Indemnifying Party") in writing, which notice shall specify, in reasonable detail, the nature and estimated amount of the claim and shall include a complete and accurate copy of any notice, complaint or other information received by the Indemnified Party with respect to such claim. If a claim by a third party is made against an Indemnified Party, and if the Indemnified Party intends to seek indemnity with respect thereto under this Article IX, the Indemnified Party shall promptly (but in no event longer than 30 days ("Indemnity Notice Period") of such claim being made) notify the Indemnifying Party of such claim and the reasonable details thereof, including a complete and accurate copy of any notice, complaint or other information received by the Indemnified Party with respect to such claim; provided, however, that any failure by an Indemnified Party to notify the Indemnifying Party of a claim within the Indemnity Notice Period for such claim shall not affect the Indemnified Party's right to indemnification under the Article IX except (and then only) to the extent that the Indemnifying 44 Party is actually prejudiced by such failure. The Indemnifying Party shall have 30 days after receipt of such notice to undertake, conduct and control, through counsel of its own choosing and at its expense, the settlement or defense thereof, and the Indemnified Party shall cooperate with it in connection therewith, except that with respect to settlements entered into by the Indemnifying Party (i) the consent of the Indemnified Party shall be required if the settlement provides for equitable relief against, or otherwise adversely affects, the Indemnified Party, which consent shall not be unreasonably withheld or delayed; and (ii) the Indemnifying Party shall obtain a complete release of the Indemnified Party. If the Indemnifying Party undertakes, conducts and controls the settlement or defense of such claim, the Indemnifying Party shall permit the Indemnified Party to participate in such settlement or defense through counsel chosen by the Indemnified Party, provided that the fees and expenses of the Indemnified Party's counsel shall be borne by the Indemnified Party. (b) With respect to third party claims, if the Indemnifying Party does not notify the Indemnified Party within the Indemnity Notice Period after receipt of the Indemnified Party's notice of a claim of indemnity under this Agreement that it elects to undertake the defense thereof, the Indemnified Party shall have the right, but not the obligation, to contest, settle or compromise the claim in the exercise of its reasonable judgment at the expense of the Indemnifying Party. However, the Indemnified Party shall not pay or settle any claim so long as the Indemnifying Party is reasonably contesting any such claim in good faith on a timely basis; provided further, however, that notwithstanding the foregoing, the Indemnified Party shall have the right to pay or settle any such claim if it waives any right to indemnity from the Indemnifying Party with respect to such claim. (c) In the event of any claim by a third party against an Indemnified Party, the defense of which is being undertaken and controlled by the Indemnifying Party, the Indemnified Party will use all reasonable efforts to make available to the Indemnifying Party those employees whose assistance, testimony or presence is necessary or appropriate to assist the Indemnifying Party in evaluating and in defending any such claims. (d) With respect to third party claims, the Indemnified Party shall make available to the Indemnifying Party or its representatives on a timely basis all documents, records and other materials in the possession of the Indemnified Party, at the expense of the Indemnifying Party, reasonably required by the Indemnifying Party for its use in defending any claim and shall otherwise cooperate in good faith and on a timely basis with the Indemnifying Party in the defense of such claim. (e) With respect to any re-assessment for income, corporate, sales, excise, or other tax or other liability enforceable by a lien or other encumbrance against the property of the Indemnified Party, the Indemnifying Party's right to contest such re-assessment shall only apply after the payment of such re-assessment or the provision of such security as is necessary to avoid any lien or other encumbrance being placed on the property of the Indemnified Party. 45 (f) Notwithstanding anything to the contrary set forth in this Article IX, the Parties shall not be entitled to indemnification or set-off with respect to any matter set forth in Sections 9.1 or 9.2 of this Agreement (each, a "Disputed Matter") until the Disputed Matter is finally resolved as provided in this Section 9.3(f). For a period of 30 days following the giving of the notice of any Disputed Matter as provided in this Section 9.3, the Parties to this Agreement shall attempt to resolve any differences they may have with respect to such Disputed Matter. If a resolution is not reached within such 30-day period (unless the Parties to this Agreement mutually agree in writing to extend such period), the Disputed Matter shall be resolved by binding arbitration as set forth in Section 11.10 of this Agreement. Section 9.4 Indemnification Threshold and Ceilings. Notwithstanding anything to the contrary in this Agreement, the Parties agree that an Indemnified Party shall not seek indemnification for Damages unless and until such Indemnified Party's claim or claims for Damages are at least $50,000 in the aggregate (the "Indemnification Threshold"). After the Indemnification Threshold is reached, any Indemnified Party may seek indemnification for the total amount of such Damages pursuant to the procedures set forth in this Article IX; provided, however, that: (i) the absolute maximum aggregate amount of the Seller's liability for Damages suffered by the Purchaser Indemnitees shall be limited as follows: (A) with respect to title, federal, state and local taxes or assessments or any similar charges (whether foreign or domestic) and liabilities arising from a breach of any environmental representations and warranties in Section 3.17 of this Agreement, the aggregate amount of the Purchase Price actually paid to the Seller; and (B) with respect to all other matters, up to $10,000,000 in the aggregate; (ii) the absolute maximum aggregate amount of the Purchaser's liability for Damages suffered by the Seller Indemnitees shall be limited as follows; (A) with respect to the non-payment of any part of the Purchase Price that has become due and payable to the Seller pursuant to the terms of this Agreement (including, without limitation, all of the Installment Payments, Postponed Payments and Deferred Payments that become payable pursuant to the terms of this Agreement), the aggregate unpaid amount of the Purchase Price plus interest thereon at a rate equal to the borrowing rate then in effect under the Purchaser's working capital facility (or, if there is none, the borrowing rate then in effect under the Parent's working capital facility) plus all reasonable fees, costs and expenses paid or incurred by the Seller to collect any such unpaid amount less all Forfeited Payments, if any; and (B) with respect to all other matters, up to $10,000,000 in the aggregate; 46 (iii) the amount of any Damages payable to an Indemnified Party pursuant to this Article IX shall be net of any tax benefits, insurance proceeds, and damages derived from third party claims by such Indemnified Party on account of, or in connection with, such Damages; and (iv) notwithstanding anything to the contrary in this Agreement, in the case of fraud or intentional misrepresentation by either Party in connection with the transactions contemplated by the Agreement, the other Party shall have all of the remedies available to it at law and at equity without giving effect to any of the limitations set forth in this Section 9.4. Section 9.5 Survival of Representations: Effect of Certificates. The representations and warranties of the Parties in the Acquisition Documents shall survive the Closing for a period of 18 months from the Closing Date, except the representations and warranties contained in (i) Sections 3.5 and 4.3 of this Agreement, which shall survive indefinitely, (ii) Section 3.4 of this Agreement, which shall survive until the expiration of the applicable statute of limitations with respect to the matters contained in such section, and (iii) Section 3.17 of this Agreement, which shall survive for a period of ten years from the Closing Date with respect to environmental conditions pertaining to the warehouse and distribution center and related real property that was used by the Seller in connection with its Business, and all other matters contained in Section 3.17 of this Agreement shall survive for a period of six years from the Closing Date. Notwithstanding anything in this Agreement to the contrary, any Damages as to which a notice of claim for indemnification under this Article IX has been given in writing prior to the expiration of the applicable period set forth in this Section 9.5 shall survive until payment or other final resolution of such indemnification claim as provided in this Agreement. ARTICLE X TERMINATION Section 10.1 Termination. This Agreement may be terminated at any time prior to the Closing by any of the following: (a) by mutual written agreement of the Purchaser and the Seller; (b) by either Party if the Closing has not occurred by October 31, 1999 upon written notice by such terminating Party; (c) by either Party if the Parent terminates its efforts to raise capital pursuant to the IPO; (d) by either Party if the Parent or the underwriters to the IPO terminate the underwriting agreement to be entered into by them in connection with the IPO; or 47 (e) by the Purchaser if the licensor of the Colours/Alexander Julian license has not consented to the transfer of such license from the Seller to the Purchaser by July 19, 1999; provided, however, that such right shall expire if not exercised within five Business Days after the delivery of such consent to the Purchaser; or (f) by the Purchaser if the Seller does not deliver the 1999 Business Plan to the Purchaser, in a form approved by the Purchaser, by July 19, 1999; provided, however, that such right shall expire if not exercised within five Business Days after the delivery of such plan to the Purchaser. Section 10.2 Effect of Termination. In the event of the termination of this Agreement pursuant to Section 10.1 of this Agreement, this Agreement shall become void and have no effect, without any liability to any Party or any other Person with respect to, or under, this Agreement or in connection with the transactions contemplated by this Agreement, except as specified in Section 11.1 of this Agreement and except for any liability resulting from a Party's intentional breach of its representations, warranties covenants and agreements in the Acquisition Documents. ARTICLE XI MISCELLANEOUS Section 11.1 Fees and Disbursements. Except as provided in this Agreement with respect to the arbitration of any disputed matters and except as otherwise expressly provided in this Agreement, the Seller and the Purchaser shall each bear its own expenses, costs and fees (including attorneys' and auditors' fees and expenses) in connection with the transactions contemplated by this Agreement, including the preparation, execution, delivery and performance of this Agreement. Notwithstanding the foregoing, the Purchaser shall reimburse the Seller for all of the reasonably incurred costs, fees and expenses (including the fees and expenses of the Seller's legal and financial advisors) up to an amount not to exceed $225,000 if (i) the Acquisition fails to close (a) as a result of the Purchaser being unable to arrange adequate financing prior to October 31, 1999, or (b) the Purchaser has breached any of its representations, warranties, covenants or agreements in the Acquisition Documents in any material respect, including its agreement to use good faith and commercially reasonable efforts to cause the conditions of the Closing to be satisfied, and (ii) the Seller has not breached any of its covenants or agreements in the Acquisition Documents in any material respect, including its agreement to use good faith and commercially reasonable efforts to cause the conditions to the Closing to be satisfied. Section 11.2 Notices. All notices, requests, demands and other communications provided for by this Agreement shall be in writing and shall be deemed to have been given when hand delivered, when received if sent by telecopier or by same day or overnight recognized commercial courier service or three business days after being mailed in any general or branch office of the United States Postal Service, enclosed in a registered or certified postpaid envelope, 48 addressed to the address of the parties stated below (or to such changed address as such party may have fixed by notice pursuant to this Section 11.2): To the Seller: Windsong, Inc. 1599 Post Road East Westport, Connecticut 06880 Fax: (203) 319-3600 Attn: Joseph Sweedler William Sweedler with a copy to: Duval & Stachenfeld LLP 405 Lexington Avenue New York, New York 10174-3299 Fax: (212) 883-8883 Attn: Patrick W. Duval Harsha Murthy To the Purchaser: Windsong Acquisition Corp. 7400 Morgan Road Liverpool, New York 13090 Fax: (315) 451-5459 Attn: Richard C. Pietrafesa, Jr. with a copy to: Scolaro, Shulman, Cohen, Lawler & Burstein, P.C. 90 Presidential Plaza Syracuse, New York 13202 Fax: (315) 425-3621 Attn: Richard S. Scolaro Todd S. Smith Section 11.3 Entire Agreement. The Acquisition Documents set forth the entire agreement and understanding between the Parties and merges and supersedes all prior discussions, agreements and understandings of every kind and nature among them as to the subject matter hereof (including, without limitation, the Letter of Intent, dated May 12, 1999) other than the Confidentiality Agreement, which shall survive until the Closing. 49 Section 11.4 Taxes. Any Taxes in the nature of a sales or transfer tax (including any realty transfer tax or realty gains transfer tax) payable on the sale or transfer of all or any part of the Acquired Assets or the consummation of any other transaction contemplated by this Agreement, of up to $20,000 in the aggregate, shall be shared equally between the Seller and the Purchaser, and such taxes that exceed $20,000 shall be paid by the Purchaser. Section 11.5 GOVERNING LAW. THIS AGREEMENT AND ITS VALIDITY, CONSTRUCTION AND PERFORMANCE SHALL BE GOVERNED IN ALL RESPECTS BY THE LAWS OF THE STATE OF NEW YORK, WITHOUT GIVING EFFECT TO PRINCIPLES OF CONFLICTS OF LAW. Section 11.6 Benefit of Parties' Assignment. This Agreement shall be binding upon and shall inure to the benefit of the Parties and their successors and assigns. This Agreement may not be assigned by the Seller or the Purchaser without the prior written consent of the other Party assign to Party without consent; provided, however that the Purchaser may assign this Agreement to the Parent without the consent of the Seller if the Parent assumes all of the Purchaser's obligations under this Agreement. Section 11.7 Pronouns. Whenever the context requires, the use in this Agreement of a pronoun of any gender shall be deemed to refer also to any other gender, and the use of the singular shall be deemed to refer also to the plural. Section 11.8 Headings. The headings in the Sections, Schedules and Exhibits of this Agreement are inserted for convenience of reference only and shall not constitute a part hereof. The words "herein" "hereof, " "hereto" and "hereunder," as well as other words of similar import, refer to this Agreement as a whole and not to any particular provision of this Agreement. Section 11.9 Knowledge. As it pertains to the Seller, when used in this Agreement, the phrases "to the knowledge of" or derivatives thereof shall mean the actual knowledge of the Stockholders and the knowledge that reasonable persons serving in the same or substantially similar capacities, acting prudently under similar circumstances, would be expected to have. As it pertains to the Purchaser, when used in this Agreement, the phrases "to the knowledge of" or derivatives thereof shall mean the actual knowledge of the Chief Executive Officer, the Chief Financial Officer and the Chief Operating Officer of the Parent and the knowledge that reasonable persons serving in the same or substantially similar capacities, acting prudently under similar circumstances, would be expected to have. Section 11.10 Consent to Arbitration. The Parties agree to submit, and consent to the binding resolution of any dispute, claims or controversy under this Agreement, to resolution by arbitration in accordance with the rules of the American Arbitration Association in the City of New York. Any such arbitration shall be conducted by a panel of at least three arbitrators, an equal number of whom shall be appointed by each Party and the balance of whom shall be mutually agreed by the arbitrators so appointed; provided, however, that with respect to disputed matters pertaining to (i) the calculation of Pre-Tax Income for any year, (ii) the adjustment of Pre-Tax Income Target for any year, (iii) the calculation of Projected Pre-Closing Taxes, or (iv) 50 the calculation of Pre-Closing Income Taxes, the arbitrators may, in their discretion, retain an independent public accounting firm to advise them in connection with such dispute, and the cost of retaining such accounting firm shall be paid by the Parties as provided below in this Section 11.10; provided that such accounting firm does not at the time of retention provide, and has not in the prior two (2) years provided, services to the Seller or the Purchaser (or to any of their Affiliates). The arbitrators shall, as promptly as practicable and in no event later than 90 days following the date of its retention, resolve the dispute(s) between the Seller and the Purchaser; provided, however, that the arbitrators may extend the time in which any dispute is to be resolved if and to the extent that the arbitrators determine that such extension is necessary to resolve the dispute. Payment of all the fees, costs and expenses incurred in connection with a dispute (including, without limitation, the costs of reviewing books, records and working papers) shall be allocated between the Parties as follows: (i) if the Seller is awarded all of the amount in dispute, the Purchaser shall reimburse the Seller for all of its reasonable fees, costs and expenses; (ii) if the Seller is awarded a portion of the amount in dispute, (a) the Purchaser shall reimburse the Seller an amount equal to the product of the total amount of the reasonable fees, costs and expenses incurred by the Seller multiplied by a fraction, the numerator of which shall be equal to the amount that the Seller is awarded and the denominator of which shall be equal to the amount that was in dispute, and (b) the Seller shall reimburse the Purchaser an amount equal to the product of the total amount of the reasonable fees, costs and expenses incurred by the Purchaser multiplied by a fraction, the numerator of which shall be equal to the difference of the amount that was in dispute minus the amount that was awarded to the Seller and denominator of which shall be equal to the amount that was in dispute; and (iii) if the Purchaser is awarded all of the amount in dispute, the Seller shall reimburse the Purchaser for all of its reasonable fees, costs and expenses. All arbitration awards made pursuant to this Section 11.10 shall be final and binding upon the Purchaser and the Seller, and shall be deemed a final arbitration award that is enforceable pursuant to the terms of the Federal Arbitration Act, 9 U.S.C. ss.ss. 1 et seq. (b) The arbitration procedures set forth in this Section 11.10 shall be the sole and exclusive method for the resolution of all disputes and disagreements between the Seller and the Purchaser with respect to this Agreement, and such procedures shall be in lieu of all other or alternative judicial or dispute resolution procedures. The Seller and the Purchaser hereby waive all defenses and challenges to the arbitration procedures set forth in this Section 11.10, (including, without limitation, (i) exclusivity, (ii) jurisdiction and venue, and (iii) costs and damages). [SIGNATURES ON NEXT PAGE] 51 IN WITNESS WHEREOF, the Seller and the Purchaser have caused this Agreement to be duly executed as of the day and year first above written. WINDSONG ACQUISITION CORP. By: /s/ Richard C. Pietrafesa, Jr. ------------------------------------- Richard C. Pietrafesa, Jr. President WINDSONG, INC. By: /s/ Joseph Sweedler ------------------------------------- Joseph Sweedler President SCHEDULE I (a) General. The provisions of this Schedule I are applicable only during such times that the Purchaser does not have its own working capital facility. In calculating Pre-Tax Income of the Purchaser for the purpose of determining whether the Pre-Tax Income Targets have been achieved for any year, the business of the Purchaser (the "Business") shall be treated as an independent and separate business for accounting purposes except as otherwise provided (and then only to the extent expressly provided) in the Agreement. (b) Accounts receivable. Reserves for delinquent accounts, sales, returns and allowances will be maintained in accordance with GAAP consistently applied. The effect of an increase or decrease of delinquent accounts on Pre-Tax Income for any period shall be determined in accordance with GAAP consistently applied. (c) Funding and Operation of the Business. The Purchaser shall maintain its own checking account and checks on such account will be issued by the accounting department of the Purchaser. The Parent will fund such account on a daily basis to meet all ordinary course expenses of operating the Business and all other expenses consistent with the strategic annual business plan of the Purchaser then in effect (as modified as a result of any quarterly reviews by the Advisory Board and the Purchaser's board of directors). All expenses of the Purchaser that are not in the ordinary course of its business or that are not consistent with the approved strategic annual business plan of the Purchaser then in effect shall require the approval of the Purchaser's board of directors. (d) Allocations of Overhead. Except as otherwise provided in the Agreement, all direct operating costs of the Purchaser shall be charged to the Purchaser for purposes of determining its Pre-Tax Income. The operating costs shall include all costs of operating the Business, including all payroll (including bonuses other than the bonuses payable to the Stockholders as a result of the Pre-Tax Income exceeding the Pre-Tax Income Targets, which shall be excluded in the calculation of Pre-Tax Income), health insurance, payroll processing, payroll taxes and other costs directly related to the operation of the Business that are paid by the Parent (but excluding all transaction fees, costs and expenses incurred in connection with, or as a result of, the Acquisition). All persons who are primarily engaged in the operation of the Business shall be employees of the Purchaser and not the Parent. In addition, for purposes of determining its Pre-Tax Income, the Purchaser shall be charged its pro rata share (as determined below) of the following overhead costs of the Parent: (i) the costs of any additional staff or consultants hired by the Purchaser after the Closing that are required to perform the accounting functions of the Parent and all of its subsidiaries; (ii) the costs of any additional management information system investment after the Closing Date that is required to carry out the operations of the Parent and all of its subsidiaries, excluding any costs incurred in connection with any Year 2000 maintenance, upgrade or compliance programs of the Parent or any of its other subsidiaries; (iii) legal, accounting and other expenses related to the reporting and other obligations of the Parent as a public company, provided that: (A) for the year 1999, the amount allocable to the Purchaser shall be equal to the product of (x) the actual amount of such costs incurred by the Parent during 1999 that would have been allocated to the Purchaser on the basis of its gross revenues as provided below if the Acquisition had occurred on January 1, 1999, and (y) a fraction, the numerator of which shall be equal to the number of days in the period commencing on the Closing Date and ending on December 31, 1999 and the denominator of which shall be equal to 365; provided, however, that the amount allocable to the Purchaser for the year 1999 shall not exceed $50,000; and (B) in each year after 1999, the amount allocable to the Purchaser shall not exceed the product of (i) the amount allocable to the Purchaser for the immediately preceding year (based on a full year's allocation for the year 1999), and (ii) a fraction, the numerator of which shall be equal to the Pre-Income Tax Target for the current year and the denominator of which shall be equal to the Pre-Income Tax Target for the immediately preceding year; and (iv) legal and other transaction fees and expenses payable by the Parent in connection with any working capital and term financing originated by the Parent on or after the Closing Date that is used by the Purchaser. To the extent practicable, overhead costs shall be allocated among the Purchaser, the Parent and the Parent's other subsidiaries based on their usage of the personnel, programs, financings, benefits or other assets that gave rise to such overhead costs. Overhead costs that cannot be allocated based on usage shall be allocated to the Purchaser as follows: The Purchaser's pro rata share of such overhead costs during any period shall be equal to the product of such overhead costs during such period and a fraction, the numerator of which shall be equal to the gross revenues of the Purchaser during such period and the denominator of which shall be equal to the aggregate gross revenues of the Purchaser, the Parent and all of the other subsidiaries of the Parent. In the event that the revenues of the Parent or any of its subsidiaries is based on commissions or royalties, then the gross revenues of each such company that is used in calculating the allocations of overhead costs shall include the amount of gross sales on which such commission or royalty is based. Notwithstanding the foregoing, the Purchaser shall not be allocated any of the overhead costs of the Parent and its subsidiaries or any of its other affiliates for any period prior to the Closing Date. (e) Capital Costs. For purposes of calculating Pre-Tax Income, subject to the terms of the Agreement (including, without limitation, the terms of Section 2.3(c) of the Agreement) and subject to the terms of subsections (f) and (g) of this Schedule I, the Purchaser may be charged interest by the Parent on a monthly basis based on the working capital requirements of the Purchaser. For purposes of calculating such interest expense, working capital of the Purchaser at any time shall be defined as the current assets of the Purchaser at such time less the current liabilities of the Purchaser at such time (provided that such current liabilities shall exclude any taxes payable by the Purchaser). The basis for the working capital charge for any month shall be an amount (the "Charge Amount") equal to (i) the average working capital balance of the Purchaser at the end of such month and the end of the prior month, minus (ii) the amount of Net Distributed Cash (as defined below). If the Charge Amount is positive at the end of any month, the Purchaser will be charged interest on the positive balance, which shall be calculated as follows: (1) the Debt Principal (as defined below) multiplied by the weighted average of the prevailing interest rate under the Parent's working capital facility during such month, divided by 12, plus (2) the Equity Principal (as defined below) multiplied by 35%, divided by 12. For purposes hereof, (x) the term "Debt Principal" with respect to any month shall mean the lesser of (A) the amount of the Purchaser's current assets at the end of such month that would constitute "eligible collateral" under the Parent's working capital facility, and (B) the Charge Amount, (y) the term "Equity Principal" means the amount, if any, by which the Charge Amount exceeds the Debt Principal, and (z) the term "Net Distributed Cash" means, with respect to any fiscal year of the Purchaser, the amount, if any, by which the amount of cash distributed from the Purchaser to the Parent since the first day of such fiscal year (or the Closing Date for the year 1999) exceeds the amount of cash provided to the Purchaser by the Parent since the first day of such fiscal year (or the Closing Date for the year 1999), provided that such amount may not be less than $0. If the Charge Amount is negative at the end of any month, the Parent shall be charged interest on the negative balance, which interest expense shall be equal to the amount of the negative balance multiplied by the weighted average of the prevailing interest rate under the Parent's working capital facility during such month, divided by 12. The Purchaser's Pre-Tax Income shall be (i) reduced by the amount of interest charged to it pursuant to the preceding paragraph, and (ii) increased by the amount of interest charged to the Parent pursuant to the preceding paragraph. (f) Transaction Costs. Notwithstanding any provision in the Agreement to the contrary, except for the Assumed Liabilities that are being assumed and paid by the Purchaser as provided in the Agreement, all of the fees, expenses, costs and liabilities incurred by the Seller, the Purchaser and the Parent in connection with, or as a result of, the Acquisition, will be the responsibility of the Party that incurred such fees, expenses, costs and liabilities; provided, however, that none of such fees, expenses, costs or liabilities incurred by the Purchaser will be funded by the Purchaser's working capital facility or other assets and that none of such fees, expenses, costs or liabilities (including, without limitation, any amortization or depreciation expenses of the Purchaser or the Parent) shall reduce the Pre-Tax Income of the Seller or the Purchaser for purposes of determining whether the Purchaser has achieved its Pre-Tax Income Targets for any year. (g) Acquisition Related Payments. Notwithstanding any provision in the Agreement to the contrary, none of the amounts payable by the Purchaser to the Seller pursuant to the Agreement (including, without limitation, the Purchase Price, the Installment Payments, Damages, and any fees, costs and expenses incurred in connection with any dispute between the Purchaser and the Seller), and none of the amounts payable to the Stockholders pursuant to the Employment Agreements other than their base salaries, shall reduce the Pre-Tax Income or working capital of the Purchaser. In addition, notwithstanding anything to the contrary in the Agreement, the Purchaser shall not be charged interest on any funds contributed or advanced by the Parent or any of its affiliates to the Purchaser to pay any such acquisition related payment or any part thereof. SCHEDULE IA (a) General. The provisions of this Schedule IA are applicable only during such times that the Purchaser has its own working capital facility. In calculating Pre-Tax Income of the Purchaser for the purpose of determining whether the Pre-Tax Income Targets have been achieved for any year, the business of the Purchaser (the "Business") shall be treated as an independent and separate business for accounting purposes except as otherwise provided (and then only to the extent expressly provided) in the Agreement. (b) Accounts receivable. Reserves for delinquent accounts, sales, returns and allowances will be maintained in accordance with GAAP consistently applied. The effect of an increase or decrease of delinquent accounts on Pre-Tax Income for any period shall be determined in accordance with GAAP consistently applied. (c) Funding and Operation of the Business. The Purchaser shall maintain its own checking account and checks on such account will be issued by the accounting department of the Purchaser. Working capital requirements of the Business shall be funded from the Finova Factoring Arrangement (the "Finova Credit Line") or any other credit line of the Purchaser. All costs associated with the Finova Credit Line or any other credit line of the Purchaser shall be included in the calculation of the Purchaser's Pre-Tax Income (excluding all of the transaction and other costs incurred as a result of the Acquisition, which shall not be included in the calculation of the Purchaser's Pre-Tax Income). On a monthly basis, to the extent permitted by the Finova Credit Line or any other credit line of the Purchaser, the Purchaser shall transfer to the Parent the "free cash flow" of the Purchaser as reported in the monthly financial statements of the Purchaser. For purposes of this schedule, the term "free cash flow" shall mean earnings before interest, taxes, depreciation and amortization minus interest expense, taxes, amortization of the principal amount of outstanding loans, capital lease expenses, reserves to fund anticipated working capital requirements, amounts payable under the Finova Credit Line or any other credit line of the Purchaser, and capital expenditures. If at any time the Purchaser requires additional working capital above the amount that is available under the Finova Credit Line or any other credit line of the Purchaser, subject to the availability of funds to the Parent taking into consideration the current and anticipated cash needs of the Parent and its subsidiaries (including the Purchaser), the Parent shall provide such working capital advance to the Purchaser. For purposes of calculating the Pre-Tax Income of the Purchaser for any fiscal year, subject to the terms of the Agreement (including, without limitation, the terms of Section 2.3(c) of the Agreement), the Purchaser shall be charged for any such working capital advance made by the Parent to the Purchaser during such fiscal year as follows: (i) to the extent that on any day the aggregate outstanding amount of the advances from the Parent to the Purchaser since the first day of such fiscal year (or the Closing Date for the year 1999) is less than the aggregate amount of free cash flow previously transferred from the Purchaser to the Parent since the first day of such fiscal year (or the Closing Date for the year 1999), the Purchaser shall not be charged any interest on such advance, (ii) in the event that the preceding clause (i) does not apply to any advance (or any part of an advance), to the extent that funds for such advance (or part thereof) are available under the Parent's working capital facility, the Purchaser shall be charged a monthly interest on such advance (or part thereof) equal to the Parent's prevailing interest rate under its working capital facility, and (iii) to the extent that the preceding clause (i) and clause (ii) does not apply to any advance (or any part of an advance), the funds ("equity financing") provided by the Parent to the Purchaser for such advance (or part thereof) shall result in a monthly interest charge to the Purchaser of 35% per annum with respect to such advance (or part thereof). All interest charges shall be based on the actual number of days that such financing remains outstanding, and all transfers of cash from the Purchaser to the Parent shall reduce the amount of the advances from the Parent to the Purchaser (with all outstanding equity financing being deemed repaid before any other advance is deemed repaid). All interest charged to the Purchaser with respect to working capital advances from the Parent for any period shall reduce the Pre-Tax Income of the Purchaser for such period. To the extent that the aggregate amount of the funds provided by the Purchaser to the Parent at any time during any fiscal year exceeds the amount of funds provided by the Parent to the Purchaser at such time, the Parent will be charged interest on such excess amount at the prevailing rate under the Finova Credit Line or other credit line of the Purchaser, and any such interest charge shall increase the Pre-Tax Income of the Purchaser during the period that such advance remains outstanding. (d) Allocations of Overhead. Except as otherwise provided in the Agreement, all direct operating costs of the Purchaser shall be charged to the Purchaser for purposes of determining its Pre-Tax Income. The operating costs shall include all costs of operating the Business, including all payroll (including bonuses other than the bonuses payable to the Stockholders as a result of the Pre-Tax Income exceeding the Pre-Tax Income Targets, which shall be excluded in the calculation of Pre-Tax Income), health insurance, payroll processing, payroll taxes and other costs directly related to the operation of the Business that are paid by the Parent (but excluding all transaction fees, costs and expenses incurred in connection with, or as a result of, the Acquisition). All persons who are primarily engaged in the operation of the Business shall be employees of the Purchaser and not the Parent. In addition, for purposes of determining its Pre-Tax Income, the Purchaser shall be charged its pro rata share (as determined below) of the following overhead costs of the Parent: (i) the costs of any additional staff or consultants hired by the Parent after the Closing Date that are required to perform the accounting functions of the Parent and all of its subsidiaries; (ii) the costs of any additional management information system investment after the Closing Date that is required to carry out the operations of the Parent and all of its subsidiaries, excluding any costs incurred in connection with any Year 2000 maintenance, upgrade or compliance programs of the Parent or any of its other subsidiaries; (iii) legal, accounting and other expenses related to the reporting and other obligations of the Parent as a public company, provided that: (A) for the year 1999, the amount allocable to the Purchaser shall be equal to the product of (x) the actual amount of such costs incurred by the Parent during 1999 that would have been allocated to the Purchaser on the basis of its gross revenues as provided below if the Acquisition had occurred on January 1, 1999, and (y) a fraction, the numerator of which shall be equal to the number of days in the period commencing on the Closing Date and ending on December 31, 1999 and the denominator of which shall be equal to 365; provided, however, that the amount allocable to the Purchaser for the year 1999 shall not exceed $50,000; and (B) in each year after 1999, the amount allocable to the Purchaser shall not exceed the product of (i) the amount allocable to the Purchaser for the immediately preceding year (based on a full year's allocation for the year 1999), and (ii) a fraction, the numerator of which shall be equal to the Pre-Tax Income Target for the current year and the denominator of which shall be equal to the Pre-Tax Income Target for the immediately preceding year; and (iv) legal and other transaction fees and expenses payable by the Parent in connection with any working capital and term financing originated by the Parent on or after the Closing Date that is used by the Purchaser; provided, however, that no such fees and expenses shall be allocated to the Purchaser during any period in which the Finova Credit Line or any other credit line of the Purchaser is in effect. To the extent practicable, overhead costs shall be allocated among the Purchaser, the Parent and the Parent's other subsidiaries based on their usage of the personnel, programs, financings, benefits or other assets that gave rise to such overhead costs. Overhead costs that cannot be allocated based on usage shall be allocated to the Purchaser as follows: The Purchaser's pro rata share of such overhead costs during any period shall be equal to the product of such overhead costs during such period and a fraction, the numerator of which shall be equal to the gross revenues of the Purchaser during such period and the denominator of which shall be equal to the aggregate gross revenues of the Purchaser, the Parent and all of the other subsidiaries of the Parent. In the event that the revenues of the Parent or any of its subsidiaries is based on commissions or royalties, then the gross revenues of each such company that is used in calculating the allocations of overhead costs shall include the amount of gross sales on which such commission or royalty is based. Notwithstanding the foregoing, the Purchaser shall not be allocated any of the overhead costs of the Parent and its subsidiaries or any of its other affiliates for any period prior to the Closing Date. (e) Transaction Costs. Notwithstanding any provision in the Agreement to the contrary, except for the Assumed Liabilities that are being assumed and paid by the Purchaser as provided in the Agreement, all of the fees, expenses, costs and liabilities incurred by the Seller, the Purchaser and the Parent in connection with, or as a result of, the Acquisition, will be the responsibility of the Party that incurred such fees, expenses, costs and liabilities; provided, however, that none of such fees, expenses, costs or liabilities incurred by the Purchaser will be funded by the Purchaser's working capital facility or other assets and that none of such fees, expenses, costs or liabilities (including, without limitation, any amortization or depreciation expenses of the Purchaser or the Parent) shall reduce the Pre-Tax Income of the Seller or the Purchaser for purposes of determining whether the Purchaser has achieved its Pre-Tax Income Targets for any year. (f) Acquisition Related Payments. Notwithstanding any provision in the Agreement to the contrary, none of the amounts payable by the Purchaser to the Seller pursuant to the Agreement (including, without limitation, the Purchase Price, the Installment Payments, Damages, and any fees, costs and expenses incurred in connection with any dispute between the Purchaser and the Seller), and none of the amounts payable to the Stockholders pursuant to the Employment Agreements other than their base salaries, shall reduce the Pre-Tax Income or working capital of the Purchaser. In addition, notwithstanding anything to the contrary in the Agreement, the Purchaser shall not be charged interest on any funds contributed or advanced by the Parent or any of its affiliates to the Purchaser to pay any such acquisition related payment or any part thereof. SCHEDULE 2.3(j)(iii) In the event that Windsong Acquisition Corp (the "Offeror") elects to offer to sell, transfer, convey or otherwise liquidate its assets pursuant to Section 2.3(j)(iii) of the Asset Purchase Agreement (the "Agreement"), the Offeror shall make an irrevocable written offer (the "Offer") to sell its assets to Windsong, Inc. (the "Offeree"), which Offer shall set forth the purchase price and all of the other material terms and conditions of the Offer. The Offeree shall have 45 days after actual receipt of the Offer within which to notify the Offeror whether or not the Offeree will accept the Offer. If the Offeree does not accept the Offer within such 45-day period, the Offeror shall then have 120 days within which enter into a definitive agreement with a third party for the sale of its assets to such third party for no less purchase price and no less favorable terms and conditions than as set forth in the Offer. In the event that the sale of the Offeror's assets to such third party pursuant to the terms and conditions of such definitive agreement does not close within 120 days after such definitive agreement was entered into by the Offeror and such third party, and if the Offeror wishes to continue its efforts to sell, transfer, convey or otherwise liquidate its assets, the Offerer shall be required to re-offer such assets to the Seller in accordance with the terms set forth on this Schedule 2.3(j)(iii). EX-21 9 LIST OF SUBSIDIARIES EXHIBIT 21 List of Subsidiaries of The Pietrafesa Corporation 1. DAG Acquisition Corp., a Delaware corporation. 2. Components Acquisition Corp., a Delaware corporation 3. Global Sourcing Network, Ltd., a New York corporation 4. Windsong Acquisition Corp., a Delaware corporation EX-23.1 10 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our reports dated February 12, 1999 (except for Note 12, as to which the date is July 15, 1999), in the Pre-Effective Amendment No. 2 to Registration Statement (Form S-1 No. 333-74439) and related prospectus of The Pietrafesa Corporation for the registration of 4,658,333 shares of its common stock. /s/ Ernst & Young LLP Syracuse, New York July 15, 1999 EX-23.2 11 CONSENT OF INDEPENDENT AUDITORS Exhibit 23.2 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our reports dated March 4, 1999, with respect to the financial statements and schedules of Components by John McCoy, Inc. included in the Registration Statement (Form S-1) and related prospectus of The Pietrafesa Corporation for the registration of 4,658,333 shares of its common stock. /s/ Lawrence B. Goodman & Co. P.A. Certified Public Accountants Fair Lawn, New Jersey July 14, 1999 EX-23.3 12 CONSENT OF INDEPENDENT AUDITORS Exhibit 23.3 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our reports dated February 2, 1999, with respect to the financial statements and schedules of Global Sourcing Network, Ltd. included in the Registration Statement (Form S-1--No. 333-74439) and related prospectus of The Pietrafesa Corporation for the registration of 4,658,333 shares of its common stock. /s/ Pasquale & Bowers, LLP Syracuse, New York July 14, 1999 EX-23.4 13 CONSENT OF INDEPENDENT AUDITORS Exhibit 23.4 CONSENT OF INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and to the use of our reports dated May 7, 1999 for the Financial Statements of Windsong, Inc. in the Registration Statement (Form S-1--No. 333-74439) and related prospectus of The Pietrafesa Corporation for the registration of 4,658,333 shares of its common stock. /s/ Weissbarth, Altman & Michaelson LLP New York, New York July 14, 1999 EX-27 14 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE PIETRAFESA CORPORATION'S STATEMENT OF INCOME FOR THE YEAR AND THREE MONTHS ENDED DECEMBER 31, 1998 AND MARCH 31, 1999, RESPECTIVELY, AND BALANCE SHEETS AS OF DECEMBER 31, 1998 AND MARCH 31, 1999, RESPECTIVELY, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 3-MOS YEAR DEC-31-1998 DEC-31-1998 JAN-01-1999 JAN-01-1998 MAR-31-1999 DEC-31-1998 13 14 0 0 8,488 7,967 35 35 12,682 13,117 22,496 22,229 11,105 10,995 4,582 4,409 29,944 29,379 11,976 12,990 0 0 0 0 0 0 0 0 3,473 2,383 29,944 29,375 17,803 56,763 17,803 56,763 14,833 47,062 14,833 47,062 1,269 6,581 0 0 296 1,209 1,405 1,911 565 514 840 1,397 0 0 0 0 0 0 840 1,397 0 0 0 0
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