10-K 1 form10k-fy09.htm FORM 10-K - FY 2009 form10k-fy09.htm


UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-K
     
þ
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
FOR THE FISCAL YEAR ENDED AUGUST 29, 2009
OR
     
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file numbers 333-121479 and 333-84294

AAC GROUP HOLDING CORP.
AMERICAN ACHIEVEMENT CORPORATION
(Exact Name of Registrant as Specified in its Charter)
     
DELAWARE
DELAWARE
(State or Other Jurisdiction of Incorporation or Organization)
 
20-1854833
13-4126506
(I.R.S. Employer Identification Number)

7211 CIRCLE S ROAD
AUSTIN, TEXAS 78745
(Address of Principal Executive Offices) (Zip Code)
Registrants’ Telephone Number, Including Area Code: (512) 444-0571

Securities registered pursuant to Section 12(b) of the Act: None.

Securities registered pursuant to Section 12(g) of the Act: None.

Indicate by check mark if the registrants are well-known seasoned issuers, as defined in Rule 405 of the Securities Act. Yes o    No þ

Indicate by check mark if the registrants are not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes þ Noo

Indicate by check mark whether the registrants (1) have filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrants were required to file such reports), and (2) have been subject to such filing requirements for the past 90 days. Yes o    No þ. Although the registrants are not subject to the filing requirements of Section 13 or 15(d) of the Exchange Act, the registrants have filed all reports for the preceding 12 months.

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o    No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrants’ knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer                                                                                                    Accelerated filer     
Non-accelerated filer þ(do not check if smaller reporting company)      Smaller reporting company 

Indicate by check mark whether any of the registrants are shell companies (as defined in Rule 12b-2 of the Exchange Act). Yes o   No þ.

Number of shares outstanding of AAC Group Holding Corp. as of October 31, 2009: 100 shares of common stock.
Number of shares of American Achievement Corporation outstanding as of October 31, 2009: 100 shares of common stock.

This Form 10-K is a combined annual report being filed separately by AAC Group Holding Corp. and American Achievement Corporation. Unless the context indicates otherwise, any reference in this report to “Intermediate Holdings” refers to AAC Group Holding Corp. and “AAC” refers to American Achievement Corporation, the indirect wholly-owned operating subsidiary of Intermediate Holdings. The “Company”, “we”, “us” and “our” refer to AAC Group Holding Corp. together with American Achievement Corporation.
 
 

 
 

AMERICAN ACHIEVEMENT CORPORATION

FORM 10-K
FOR THE FISCAL YEAR ENDED AUGUST 29, 2009
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Explanatory Note

This combined Form 10-K is separately filed by AAC Group Holding Corp. and American Achievement Corporation. Each Registrant hereto is filing on its own behalf all of the information contained in this annual report that relates to such Registrant. Each Registrant hereto is not filing any information that does not relate to such Registrant, and therefore makes no representation as to any such information.




Registrants
 
AAC Group Holding Corp. (“Intermediate Holdings”), formed in November 2004, owns 100% of the shares of common stock of AAC Holding Corp., which is the holder of 100% of the shares of common stock of American Achievement Corporation (“AAC”).  Intermediate Holdings conducts all of its business through AAC Holding Corp. and AAC and its subsidiaries. Intermediate Holdings and AAC are treated as entities under common control. Accordingly, the financial results are being presented for Intermediate Holdings for all periods for which the financial results of AAC are presented.  The financial results of Intermediate Holdings prior to its formation represent entirely those of its wholly owned indirect subsidiary, AAC. Unless the context indicates otherwise, any reference in this report to “Intermediate Holdings” refers to AAC Group Holding Corp. and “AAC” refers to American Achievement Corporation, the indirect wholly-owned operating subsidiary of Intermediate Holdings. The “Company”, “we”, “us”, and “our” refer to AAC Group Holding Corp. together with American Achievement Corporation.
 
General

We are one of the leading manufacturers and suppliers of class rings, yearbooks, graduation products, and recognition products and affinity jewelry in the United States. We market and sell yearbooks to the college, high school, junior high school and elementary school markets. We primarily sell our class rings and graduation products, which include fine paper products and graduation accessories, in the college, high school and junior high school markets. We also sell jewelry commemorating family events such as the birth of a child, military and fan affinity jewelry and related products, professional sports championship rings, commercial printing and recognition products such as letter jackets.

Company Background

Our business was founded when the operations of ArtCarved, which were previously owned by CJC Holdings, Inc., and the operations of Balfour, which were previously owned by L.G. Balfour Company, Inc., were combined through various asset purchase agreements in December 1996. AAC was formed in June 2000 to serve as a holding company for these operations as well as any future acquisitions. In June 2000, we acquired the Taylor Senior Holding Company, the parent company of Taylor Publishing Company (“Taylor”), whose primary business is designing and printing student yearbooks. In July 2002, AAC acquired all the outstanding stock and warrants of Milestone Marketing, a marketer of class rings and other graduation products to the college market. In January 2004, AAC acquired C-B Graduation Announcements, a marketer of graduation products to the college market.  In April 2007, Commemorative Brands, Inc. (“CBI”), a wholly-owned subsidiary of AAC, acquired all of the outstanding stock of BFJ Holdings, Inc. and its wholly owned subsidiary, Powers Embroidery, Inc. (“Powers”). Powers is a producer of quality letter jackets, chenille patches and other school spirit embroidery merchandise.

On March 25, 2004, AAC Acquisition Corp., a wholly owned subsidiary of AAC Holding Corp., merged with and into AAC, with AAC continuing as the surviving corporation and a wholly-owned subsidiary of AAC Holding Corp. The merger was financed by a cash equity investment by an investor group led by Fenway Partners Capital Fund II, L.P., borrowings under AAC’s senior secured credit facility and the issuance of AAC’s 8.25% senior subordinated notes due 2012.  In November 2004, AAC Holding Corp. underwent a recapitalization transaction pursuant to which its stockholders exchanged their shares of AAC Holding Corp. common stock for shares of Intermediate Holdings common stock and, as a result, AAC Holding Corp. became a wholly owned subsidiary of Intermediate Holdings.

On November 16, 2004, Intermediate Holdings issued $131.5 million aggregate principal amount at maturity of 10.25% senior discount notes due 2012, generating net proceeds of $89.3 million. Intermediate Holdings is the sole obligor of these notes. The net proceeds of this offering were used as a distribution to stockholders through the repurchase of shares of Intermediate Holdings’ common stock from its stockholders.

 
 
 
As fully described under the “Significant Developments” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations, during the first quarter of fiscal year 2008, we decided to shut down the operations of our achievement publications segment, which produced, marketed and sold publications that recognize the achievements of top students at the high school and college levels, as well as the nation’s most inspiring teachers.  All shutdown activities were substantially complete prior to November 24, 2007 and were fully complete by May 31, 2008.

Business Segments

Our product business segments consist of four principal categories: Class Rings, Yearbooks, Graduation Products and Other. Sales for these segments for the most recent three fiscal years were: 
 

($ in thousands)
 
Fiscal Year Ended
 
Segment
 
August 29, 2009
   
August 30, 2008
   
August 25, 2007
 
Class Rings
  $ 108,568     $ 120,282     $ 120,949  
Yearbooks
    108,705       115,084       115,207  
Graduation Products
    42,012       45,846       44,428  
Other
    30,375       32,191       30,004  
Total
  $ 289,660     $ 313,403     $ 310,588  



The table below sets forth our principal product lines, various brand names, and the distribution channels through which we sell our products. 
 
Product Lines
 
Brand Names
 
Distribution Channel
High School Class Rings:
 
ArtCarved®
 
Independent jewelry stores
Jewelry chains
   
ArtCarved Class Rings®
 
Independent jewelry stores
Jewelry chains
   
Balfour®
 
On-campus
On-line
   
Keystone Class Rings®
 
Mass merchandisers
On-line
   
Master Class Rings®
 
Mass merchandisers
   
R. Johns®
 
Independent jewelry stores
College Class Rings:
 
Balfour®
 
College bookstores
Direct marketing
On-line
Yearbooks:
 
Taylor Publishing
 
On-campus
On-line
High School Graduation Products:
 
Balfour®
 
On-campus
On-line
College Graduation Products:
 
Balfour®
 
Direct marketing
College bookstores
On-line
   
CB Grad
 
College bookstores
On-line
Affinity Group Jewelry:
 
Keepsake®
 
Direct marketing
On-line
   
R. Johns®
 
Direct marketing
   
Balfour®
 
Direct marketing
Personalized Fashion Jewelry:
 
Celebrations of Life®
 
Independent jewelry stores
Jewelry chains
   
ArtCarved®
 
Independent jewelry stores
Jewelry chains
Mass merchandisers
   
Keepsake®
 
Mass merchandisers
On-line
   
Generations of Love®
 
Mass merchandisers
   
Namesake®
 
Mass merchandisers
On-line
Fan Affinity Sports Jewelry:
 
Balfour Sports®
 
Mass merchandisers
Catalogues
Professional Sports Championship Jewelry:
Balfour®
 
Direct marketing
Commercial Printing:
 
Taylor Publishing
 
Direct marketing
   
Taylor Specialty Books
 
Direct marketing
Other Recognition Products:
 
Balfour®
 
On-campus
   
Powers
 
Sporting goods stores
   
Keepsake Fine Paper®
 
Mass merchandisers

 


Class Rings

We manufacture class rings for high school, college and university students and, to a lesser extent, junior high school students. Our rings are marketed under various brand names, including ArtCarved, Balfour, R. Johns, Keystone and Master Class Rings. Our ArtCarved and Balfour brand names have been known in the market place for over 68 years and 95 years, respectively. For most of the schools that we serve, we are the sole on-campus class ring supplier. Our independent sales representatives operate under contracts with us and coordinate ring design, promotion and order processing.

We custom manufacture each ring. We maintain an extensive inventory of unique proprietary ring dies.  The production process takes approximately two to eight weeks from receipt of the customer’s order to product shipment, depending on style, option selections and new or custom tooling requirements. We use computer aided design software to quickly and cost-effectively convert new custom designs such as school seals, mascots and activities into physical tools capable of producing rings in large quantities. Rings are generally produced only upon receipt of a customer order and deposit, which reduces our credit risk. We manufacture many of the products in this segment in our own facilities and some of the products are also manufactured at independent overseas manufacturers.  Class ring products contributed approximately 37%, 38% and 39% of our net sales in fiscal years 2009, 2008 and 2007, respectively.

Yearbooks

We produce yearbooks for college, high school, junior high school and elementary school students. We also publish specialty commercial books including military yearbooks, which, for example, commemorate naval tours of duty at sea. We are one of the leading providers of yearbooks. All of our yearbooks are sold under the Taylor Publishing brand name.

We typically enter into one-year contracts with schools, although some of our contracts are multi-year agreements. Our independent sales representatives operate under contracts with us and develop strong relationships with schools as they assist students and faculty advisors throughout the design process and provide technical and marketing support. We have made major advances in yearbook systems and design. We believe we were the first yearbook provider to fully integrate digital technology throughout our production process which has led to increased output speed and enhanced print quality. We provide our customers with exceptional versatility and productivity in publishing their yearbook through the use of online desktop publishing technology.
 
We publish yearbooks in our own facilities. Since 1993, we have made significant expenditures on proprietary software and hardware to support electronic platforms for creating, transmitting and managing yearbook production and printing technology. We also offer full production support for off-the-shelf desktop publishing tools. We have upgraded our printing presses and fully integrated digital technology throughout our production process to, among other things, increase the speed of output and automatically monitor ink flow and control color composition. This new technology allows Taylor to fulfill the dominant customer need in the industry over the past several years; high-quality full-color printing. The foregoing technology upgrades and enhancements have enabled us to reduce manufacturing costs and improve on-time delivery, performance and print quality. Yearbook products contributed approximately 38% of our net sales in fiscal year 2009 and 37% in fiscal years 2008 and 2007.

Graduation Products

We offer a full array of graduation products to high school and college students through our network of independent class ring sales representatives, as well as through college bookstores. Our graduation product line includes personalized graduation announcements, name cards, thank you notes, diplomas, mini diplomas, diploma covers, certificates, appreciation gifts, graduation soft goods and other fine paper accessory items. In addition to our fine paper accessories, we also offer caps and gowns for high school and college students. Most of our graduation products are sold under the Balfour or CB Grad brand names.

A majority of our graduation products are personalized to some degree and have short production runs and cycles. We manufacture these products at our own facilities and distribute them through our independent high school class ring sales representatives and college bookstores.  Graduation products contributed approximately 15% of our net sales in each of the fiscal years 2009 and 2008 and 14% in fiscal year 2007.



Other

Our other products are primarily recognition and affinity jewelry, which consist of the following product categories:

·        
Affinity Group Jewelry. Affinity group jewelry is sold to members of large groups and associations. The jewelry features emblems of, and otherwise commemorates accomplishments within, the group. Through our Balfour brand, we provide affinity rings to military personnel that recognize affiliation and completion of specialized training ranging from basic training to special forces.

·  
Personalized Fashion Jewelry. Our personalized fashion jewelry products include rings commemorating children’s birth dates, featuring a level of personalization, such as birthstones and names. We also sell other personalized jewelry, such as necklaces and bracelets.  We provide personalized family jewelry under our Celebrations of Life, ArtCarved, Generations of Love, Keepsake and Namesake brand names.

·  
Professional Sports Championship Jewelry. We provide sports championship jewelry for professional teams and their members and have, for example, produced several World Series, Super Bowl and Stanley Cup rings, including all of the rings for the New York Yankees’ 26 championships, and most recently supplied the 2007 Boston Celtics National Championship rings. We provide sports championship jewelry under the Balfour brand.

·  
Commercial Printing. We provide a variety of printing products for the commercial market. We provide these products under the Taylor Publishing and Taylor Specialty Books brands.

·  
Other Recognition Products.  Our other recognition products include letter jackets, loose and applied chenille, inserts, pins, banners, and embroidered soft goods that commemorate accomplishments in sports, band or other school based organizations.  Our products are marketed under Balfour to on-campus and Powers to sporting goods retailers.  These products are also marketed to corporations and businesses as corporate affinity products.

We manufacture many of the products in this segment in our own facilities and some of the products are also manufactured at independent overseas manufacturers.  Other products contributed approximately 10% of our net sales in each of the fiscal years 2009, 2008 and 2007.

Sales and Marketing

At the high school level, class rings are sold through two distribution channels: independent sales representatives selling directly to students on campus and on-line; and retail stores. Our high school class rings are sold by retailers including independent jewelry retailers, many of the nation’s largest jewelry chains, including Zales, Gordons and Sterling, and by mass merchandisers, such as Wal-Mart, JC Penney, and K-Mart. We sell different brands and product lines in retail stores in order to enable them to differentiate their products from those sold by our independent sales representatives directly to students at schools and on-line. College rings are sold primarily through college bookstores and colleges by our employee sales representatives. Historically, college bookstores have been owned and operated by academic institutions. Over the last several years, an increasing number of college bookstores have been leased to contract operators, primarily Barnes and Noble Bookstores and Follett Corporation, with whom we have longstanding relationships. Decisions to include our products are typically made on a national basis by each bookstore operator.

Yearbooks are produced under an exclusive contract with each school for the academic year and are sold directly to students by the school. Under the terms of the contract, the school agrees to pay us a base price for producing the yearbook. This price sometimes increases between order receipt and production as a result of enhancements to the contract specifications, such as additional color pages. Our independent yearbook sales representatives call on schools at the contract stage and coordinate with the school’s yearbook committee to ensure satisfactory quality and service throughout the contract term.

Graduation products are sold directly to students through our network of independent high school class ring sales representatives and in college bookstores and colleges through our network of employee and independent sales representatives.



Other products are sold through a variety of distribution channels, including direct marketing, mass merchandisers, catalogs and retail stores.  Several of our products are also marketed on-line.

We compensate our independent sales representatives and college bookstores on a commission basis. Some colleges also receive compensation in the form of royalty payments.  Independent sales representatives also receive a monthly advance against commissions earned, although all expenses, including promotional materials made available by us, are the responsibility of the representative. Our independent sales representatives operate under exclusive contracts that include non-compete arrangements. Our independent high school class ring and independent yearbook sales representatives have average tenures with our company of approximately 13 and 8 years, respectively.   Employee sales representatives receive a combination of salary and bonus incentives.

Intellectual Property

We have trademarks, patents and licenses that in the aggregate are an important part of our business. However, we do not regard our business as being materially dependent upon any single trademark, patent or license. We have trademark registration applications pending and intend to pursue other registrations as appropriate to establish and preserve our intellectual property rights.

We market our products under many trademarked brand names, some of which rank among the most recognized and respected names in jewelry and publications. Generally, a trademark registration will remain in effect so long as the trademark remains in use by the registered holder and any required renewals are obtained. We own several patented ring designs and business process patents.

The marks registered pursuant to applicable intellectual property laws are listed in the table of our product lines in "Business Segments" herein.  These marks and the various logos related to the brands are the property of AAC or its subsidiaries.
 
Competition

We face competition for most of our principal products.  While the class ring, graduation products and yearbook markets were once highly concentrated and consisted primarily of a few large national manufacturers (of which we were one) advances in technology and the emergence of international manufacturing have significantly lowered the costs of entry.  Additionally, traditional yearbook and graduation products businesses now face considerable competition from regional and local printers and internet-based purveyors of yearbook and alternative web-based virtual products.  Competition from alternative sales channels is robust in virtually all market categories.

 Our principal competitors in the class ring and graduation products markets are Jostens, Inc. and Herff Jones, Inc., both of which compete with us nationally across all product lines. Our principal competitors in the yearbook market are Jostens, Inc., Herff Jones, Inc. and Walsworth Publishing Company. All competitors in the scholastic products market compete primarily on the basis of quality, marketing and customer service and, to a lesser extent, price.

Our affinity group jewelry products, fan affinity sports jewelry and products and our professional sports championship jewelry businesses compete with Jostens, Inc. and, to a lesser extent, with various other companies. Our personalized fashion jewelry products compete mainly with smaller regional companies. We compete with our affinity product competitors primarily on the basis of quality, marketing, customer service and price.

Raw Material and Suppliers

Numerous raw materials are used in the manufacture of our products. Gold and other metals, precious, semi-precious and synthetic stones, paper products and ink comprise the bulk of the raw materials we utilize in the largest segments of our business. We purchase a majority of our gold from a single supplier. We also purchase the majority of our precious, semi-precious and synthetic stones from a single supplier in Germany.  Synthetic and semi-precious stones are available from other suppliers, although switching to these suppliers could result in additional costs to us.



Prices of these materials, especially gold, continually fluctuate. We generally are able to pass on price increases in gold and stones to our customers as such increases are realized by us, however, this may not always be the case. We periodically reset our prices to reflect the then current prices of raw materials. In addition, we may engage in various hedging transactions to reduce the effects of fluctuations in the price of gold. We also negotiate paper prices on an annual basis so that we are able to estimate yearbook and graduation announcement costs with greater certainty.

Seasonality

The seasonal nature of our various businesses tends to be tempered by our broad product mix. Class ring sales are highest during October through December and early spring, with many orders made for delivery to students before the winter holiday season. Graduation product sales are predominantly made during February through April prior to the April through June graduation season. Yearbook sales are highest during the months of April through June, as yearbooks are typically shipped prior to each school’s summer break. Our recognition and affinity product line sales are also seasonal with highest sales during the winter holiday season and in the period leading up to Mother’s Day.

We have experienced operating losses during our first and fourth fiscal quarters, which include the beginning of the school year and the summer months when school is not in session, thus reducing related shipment of products. In addition, our working capital requirements tend to exceed our operating cash flows from May through September.

Backlog

Because of the nature of our business, all orders (except yearbooks) are generally filled between two and eight weeks after the time of placement. We enter into yearbook contracts several months prior to delivery. While yearbook base prices are established at the time of order, final prices are often not calculated at that time since the content typically changes prior to publication. We estimate (calculated on the basis of the base price of yearbooks ordered) that the backlog of orders was approximately $104 million as of August 29, 2009, almost exclusively related to student yearbooks. We expect substantially all of this backlog to be filled in fiscal 2010.

Employees

Given the seasonality of our business, the size of our employee base fluctuates throughout the year, with the number typically being highest during September through May and lowest from June to August. As of August 29, 2009, we had approximately 1,507 employees. We believe that we maintain strong employee relationships.  Some of our production employees are represented by unions. Hourly production and maintenance employees located at our Austin, Texas manufacturing facility are represented by the UBC Local Union No. 1751 Carpenters Industrial Council. A 3-year labor agreement was reached with this union in May 2009 and covers the period June 1, 2009 through May 31, 2012. Bindery hourly production employees at our Dallas facility are represented by the Graphic Communications Conference/International Brotherhood of Teamsters Local 367M. A three year labor agreement was reached with these Bindery employees in July 2009 and covers the period July 11, 2009 through July 11, 2012.  This same union also represents the Litho employees in our Dallas facility and will enter into contract negotiations with us in February 2010 when that contract expires.

Environmental

We are subject to applicable federal, state and local laws, ordinances and regulations that establish various health and environmental quality standards. Past and present manufacturing operations subject us to environmental laws and regulations that seek to protect human health or the environment, governing among other things the use, handling and disposal or recycling of, or exposure to, hazardous or toxic substances, the remediation of contaminated sites, emissions into the air and the discharge of wastewaters. We believe that our business, operations and facilities are in substantial compliance with all material environmental laws and regulations, many of which provide for substantial fines and criminal sanctions for violations. We believe that we have adequate environmental insurance and indemnities to sufficiently cover any currently known material environmental liabilities and that we do not currently face environmental liabilities that could have a material adverse affect on our financial condition or results of operations.




Our substantial indebtedness could adversely affect our financial health and prevent us from fulfilling our financial obligations.

We have a significant amount of indebtedness. On August 29, 2009, our total indebtedness was $328.3 million (of which $131.5 million consisted of the 10.25% senior discount notes due October 2012, $150.0 million consisted of the 8.25% senior subordinated notes due April 2012 and $46.8 million consisted of indebtedness under the existing senior secured credit facility due March 2011).

Our substantial indebtedness could have important consequences to you. For example, it could:

·   
make it more difficult for us to satisfy our obligations with respect to our indebtedness;
·   
increase our vulnerability to general adverse economic and industry conditions;
·   
require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate purposes;
·   
limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;
·   
place us at a competitive disadvantage compared to our competitors that have less debt; and
·   
limit our ability to borrow additional funds.
     
To service our indebtedness, we require a significant amount of cash. Our ability to generate cash depends on many factors beyond our control.

Our ability to make payments on and to refinance our indebtedness, including the notes, and to fund planned capital expenditures depends on our ability to generate cash. Our ability to do so, to a certain extent, is subject to general economic, financial, competitive, legislative and other factors that are beyond our control.

We cannot assure you that our business will generate sufficient cash flow from operations and that anticipated cost savings and operating improvements will be realized or that future borrowings will be available under the existing senior secured credit facility in an amount sufficient to enable us to pay our indebtedness or to fund our other liquidity needs. We may need to refinance all or a portion of our indebtedness, on or before maturity. We cannot assure you that we will be able to refinance any of our indebtedness, including the existing senior secured credit facility, the 10.25% senior discount notes and the 8.25% senior subordinated notes on commercially reasonable terms or at all.

Repayment of the obligations of our indirect parent company could adversely affect our financial health.

As of August 29, 2009, American Achievement Group Holding Corp. (“Parent Holdings”), the indirect parent company of Intermediate Holdings, had indebtedness in addition to the indebtedness at Intermediate Holdings and AAC of $55.4 million, of which $47.9 million consisted of outstanding 12.75% Senior PIK Notes due October 1, 2012 (the “Parent Holdings Notes”) and $7.5 million consisted of mandatory redeemable series A preferred stock.  Through April 2011, interest on the Parent Holdings Notes is payable in the form of additional notes semi-annually in arrears on April 1 and October 1 of each year.  On October 1, 2011 and thereafter, interest on the Parent Holdings Notes will be payable in cash semi-annually in arrears on April 1 and October 1 of each year.  The Parent Holdings Notes mature on October 1, 2012.  At maturity, Parent Holdings is required to repay the notes at a repayment price of 103.188% of the aggregate principal amount thereof, plus accrued and unpaid interest through the maturity date.  Additionally, the redemption obligation for the mandatory redeemable series A preferred stock of Parent Holdings matures in January 2013.  Accumulated undeclared dividends of Parent Holdings’ series A preferred stock at August 29, 2009 totaled $4.8 million.

Although the Parent Holdings Notes and the series A preferred stock are Parent Holdings’ unsecured obligations and are structurally subordinated to all indebtedness and other obligations of Parent Holdings’ subsidiaries, including Intermediate Holdings and AAC, in order to service this indebtedness, we will have to make dividends of cash up to Parent Holdings in amounts sufficient to repay such indebtedness.   Beginning in October 2011, such dividends may limit our cash flow available to fund working capital, capital expenditures and other general corporate purposes, and may generally exacerbate the risks associated with indebtedness as described above.  The indenture governing the 8.25% notes contains certain restrictions on AAC, including restrictions on its ability to pay dividends.



Restrictions in the indentures governing the 10.25% senior discount notes, the 8.25% senior subordinated notes and the existing senior secured credit facility may prevent us from taking actions that we believe would be in the best interest of our business.

The indentures governing the 10.25% senior discount notes, the 8.25% senior subordinated notes and the existing senior secured credit facility contain customary restrictions on us or our subsidiaries, including covenants that restrict us or our subsidiaries, as the case may be, from:

·   
incurring additional indebtedness and issuing preferred stock;
·   
granting liens on our assets;
·   
making investments;
·   
consolidating, merging with or acquiring another business;
·   
selling or otherwise disposing of our assets;
·   
paying dividends and making other distributions with respect to our capital stock, or purchasing, redeeming or retiring our capital stock;
·   
entering into transactions with our affiliates; and
·   
entering into sale and leaseback transactions.
     
The existing senior secured credit facility also requires AAC to meet specified financial ratios. These restrictions may prevent us from taking actions that we believe would be in the best interest of our business, and may make it difficult for us to successfully execute our business strategy or effectively compete with companies that are not similarly restricted.

The current disruptions in the financial markets could affect our ability to obtain financing on favorable terms (or at all).

The U.S. capital markets have recently experienced historic dislocations and liquidity disruptions which have caused financing to be unavailable in many cases and, even if available, have caused the cost of prospective financings to increase. These circumstances have materially impacted liquidity in the debt markets, making financing terms for borrowers able to find financing less attractive, and in many cases have resulted in the unavailability of certain types of debt financing. Continued uncertainty in the debt and equity markets may negatively impact our ability to access financing on favorable terms or at all. In addition, Federal legislation to deal with the current disruptions in the financial markets could have an adverse affect on our ability to raise other types of financing.

The Company may find it advantageous to raise capital in order to fund operations or to refinance certain of its debt obligations prior to their maturities.  In the event that disruptions in the U.S. capital markets continue or worsen, our ability to refinance indebtedness may be materially adversely affected.

If we are unable to maintain our business or further implement our business strategy, our business and financial condition could be adversely affected.

Our ability to meet our debt service and other obligations depends significantly on how successful we are in maintaining our business and further implementing our business strategy. We may not be able to do either of the foregoing and the anticipated results of our strategy may not be realized. Our business plan envisions several long-term growth initiatives, including the development of new products. The components of our strategy are subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. If we are unable to continue to successfully maintain our business and implement our business strategy, our long-term growth and profitability may be adversely affected.
    
In addition, the business strategy that we intend to pursue is based on our operations and strategic planning process. We may decide to alter or discontinue parts of this strategy or may adopt alternative or additional strategies. The strategies implemented may not be successful and may not improve our operating results. Further, other conditions may occur, including increased competition, which may offset any improved operating results attributable to our business strategy.
 


We face significant competition from various competitors.

We face competition for most of our principal products.  While the class ring, graduation products and yearbook markets were once highly concentrated and consisted primarily of a few large national manufacturers (of which we were one) advances in technology and the emergence of international manufacturing have significantly lowered the costs of entry.  As a result, we expect to meet significant competition from existing competitors with entrenched positions and may face additional competition from new competitors, with respect to our existing product lines and new products we might introduce.  Major domestic mass merchant and jewelry chain retailers now effectively compete in the class ring business and the traditional yearbook and graduation products businesses now face considerable competition from regional and local printers and internet-based purveyors of yearbook and alternative web-based virtual products.  Competition from alternative sales channels is robust in virtually all market categories.

Our future financial performance will depend, in large part, on our ability to establish and maintain an advantageous market position.  We may not be able to compete successfully with our competitors, some of whom may have greater resources, including financial resources, than we have. Some of our competitors may be able to adapt more quickly to new or emerging technologies and changes in customer preferences or to devote greater resources to the promotion and sale of their products than we can.  Further, competitors might expand their product offerings, either through internal product development or acquisitions of our direct competitors. These competitors could introduce products or establish prices for their products in a manner that could adversely affect our ability to compete or result in pricing pressures. Increases in competition could have an adverse effect on our business, financial condition and results of operations. To maintain a competitive advantage, we may need to make increased investment in product development, manufacturing capabilities and sales and marketing.

The recent global market and economic conditions, as well as the effects of these conditions on our material suppliers’ businesses and our customers’ demand for our products and services, could have an adverse effect on our business.

Our business and operating results have been and will continue to be affected by global economic conditions and, in particular, conditions in our suppliers’ businesses and the market segments they serve, and our customers’ demand for our products and services. As a result of slowing global economic growth, constrained credit market conditions, declining consumer and business confidence, reduced consumer spending, increased unemployment, bankruptcies and other challenges currently affecting the global economy, our suppliers may experience deterioration of their businesses, cash flow shortages and difficulty obtaining financing. Additionally, as a result of the economic downturn, existing or potential customers may delay or decline to purchase our products and related services, and our suppliers and customers may not be able to fulfill their obligations to us in a timely fashion.  Jewelry purchases are discretionary and may be affected by adverse trends in the general economy (and consumer perceptions of those trends).  As a result, any reduction in consumer discretionary spending or disposable income may affect our industry more significantly than other industries.  Economic weakness and reduced demand for our products and services may result in decreased revenue, gross margin, earnings or growth rates and increased challenges with respect to collection of customer receivables.  In addition, customer difficulties could result in increases in bad debt write-offs and to our allowance for doubtful accounts receivable.  Further, our suppliers may experience a deterioration in their financial condition as a result of the economic downturn, which may impact their viability and their ability to fulfill their obligations to us.  Economic downturns may also result in restructuring actions and associated expenses and impairment of long-lived assets, including goodwill and other intangibles. If the global economic slowdown continues for a significant period or there is significant further deterioration in the global economy, our results of operations, financial position and cash flows could be materially adversely affected.

A decrease in the availability of, or an increase in the cost of, consumer credit could have a negative impact on our business.

Our net sales include transactions involving major credit cards such as Visa, MasterCard, American Express and others.  A general decrease in the availability of such credit to customers, or an increase in the cost of such credit to customers, could have a material adverse effect on our results of operations or financial condition.  During periods of increasing consumer credit delinquencies in the retail industry generally, financial institutions may reexamine their lending practices and procedures.



Increased prices for raw materials or finished goods used in our products could adversely affect our profitability or revenues.

Numerous raw materials are used in the manufacture of our products. Gold and other metals, precious, semi-precious and synthetic stones, paper products and ink comprise the bulk of the raw materials we utilize in the largest segments of our business. Prices of these materials, especially gold, continually fluctuate. Any material long-term increase in the price of one or more of our raw materials could have a direct adverse impact on our cost of sales. In addition, we may be unable to pass on the increased costs to our customers since it could affect the demand for our products or cause our customers to choose lower priced options, which could adversely affect our revenues.  Our inability to pass on these increased costs could adversely affect our results of operations, financial condition and cash flow.

As discussed in the “Significant Developments” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations, the First Amended and Restated Agreement for Fee Consignment and Purchase of Gold dated March 25, 2004, between the Company and the Bank of Nova Scotia, was terminated effective May 5, 2009.  The facility with the Bank of Nova Scotia was one method by which the Company managed its risk related to fluctuations in the price of gold, and the loss of the ability to purchase gold on consignment may expose the Company to additional risk related to fluctuations in the price of gold.

Our operating results are dependent upon the market price of gold. We have no control over gold prices, which can fluctuate widely and are affected by numerous factors, such as supply and demand and investor sentiment. We will at times, enter into forward sale contracts and/or put/call option contracts to hedge the effects of price fluctuations. We continually evaluate the potential benefits of engaging in these strategies based on current market conditions, but there can be no assurance that we will be able to hedge in the future on similar economic terms, or that any of the hedges we enter into will be effective. We may be exposed to nonperformance by counterparties or, during periods of significant price fluctuation, margin calls as a result of our hedging activities. Each ten percent change in the price of gold would result in a change of $2.2 million in cost of goods sold, assuming gold purchase levels approximate the levels in the fiscal year 2009. An unfavorable change in the cost of gold, or an improper hedging strategy, could adversely affect our results of operations.

Currency exchange rate fluctuations may adversely affect our results of operations.

We have been subject to market risk associated with foreign currency exchange rates. We purchase the majority of our semi-precious and synthetic stones from a single supplier in Germany. The prices for these products are denominated in Euros.  We also operate a manufacturing plant in Juarez, Mexico where we conduct business in the Mexican Peso.  In order to hedge market risk, we have from time-to-time purchased forward currency contracts; however, during the fiscal years 2009 and 2008, we did not purchase any forward contracts and did not have any such contracts outstanding. Each ten percent change in the Euro exchange rate would result in a $0.5 million change in cost of goods sold, assuming stone purchase levels approximate those levels in the fiscal 2009. Each ten percent change in the Peso would result in a $.02 million change in operating income, assuming operations approximate the levels in fiscal 2009.  An unfavorable change in the exchange rates could adversely affect our results of operations.

Many of our products or components of our products are provided by a limited number of third-party suppliers.

Virtually all of the synthetic and semi-precious stones used in our class rings are purchased from a single supplier. We believe that most of the class ring manufacturers in the United States purchase substantially all of these types of stones from this supplier. If this supplier was unable to supply us with stones, or if this supplier’s inventory of stones significantly decreased, our ability to manufacture rings featuring these stones would be adversely affected. If we were required to secure a new source for these stones, we might not be able to do so on terms as favorable as our current terms, which could adversely affect our results of operations and financial condition. Even if acceptable alternatives were found, the process of locating and securing such alternatives might be disruptive to our business. Extended unavailability of a necessary raw material or finished good used in our products could cause us to cease manufacturing one or more products for a period of time.

Our future operating results are dependent on maintaining our relationships with our independent sales representatives.

We rely on the efforts and abilities of our network of independent sales representatives to sell our class rings, yearbooks, graduation products and letter jackets. Most of our relationships with customers and schools are cultivated and maintained by our independent sales representatives. If we were to lose a significant number of our independent sales representatives, it could adversely affect our results of operations, financial condition and cash flow.



Our performance may fluctuate with the financial condition of, or loss of, our retail customers.

A portion of our jewelry products are sold through major retail stores, including mass merchandisers, jewelry store chains and independent jewelry stores. As a result, our business and financial results may be adversely impacted by adverse changes in the financial conditions of these retailers, loss of the retailer’s business, the general condition of the retail industry and the economy overall. Specifically, bankruptcy filings by these retailers could adversely affect our results of operations, financial condition and cash flow.

The seasonality of our sales may have an adverse effect on our operations and our ability to service our debt.

Our business experiences strong seasonal swings that correspond to the typical U.S. academic year. Class ring sales are highest during October through December and early spring, yearbook sales are highest during April through June, and our graduation product sales are highest during February through April. The seasonality of our businesses requires us to manage our capital carefully over the course of the year. If we fail to manage our capital effectively in response to seasonal fluctuations, or if our sales were to fall substantially below what we would normally expect during these periods, our annual financial results would be adversely impacted and our ability to service our debt could also be adversely affected.  Additionally, if we fail to monitor production and distribution accurately during these peak seasonal periods and are unable to satisfy our customers’ delivery requirements, we could jeopardize our relationships with our customers.

We are subject to environmental laws and regulations that could impose substantial costs upon us and may adversely affect our financial results.

We are subject to applicable federal, state and local laws, ordinances and regulations that establish various health and environmental quality standards. Past and present manufacturing operations subject us to environmental laws and regulations that seek to protect human health or the environment governing, among other things, the use, handling and disposal or recycling of, or exposure to, hazardous or toxic substances, the remediation of contaminated sites, emissions into the air and discharge of wastewaters. In the event that environmental liabilities are in excess of, or not covered by, our environmental insurance and indemnities, this could have a material adverse affect on our results of operations, financial condition and cash flow.

We rely on proprietary rights which may not be adequately protected.

Our efforts to protect and defend our intellectual property rights may not be successful, and the costs associated with protecting our rights in certain jurisdictions could be extensive. Third parties may initiate litigation against us asserting that our businesses infringe or otherwise violate their intellectual property rights. Our intellectual property rights may not have the value that we believe them to have, and our products or processes may be found to infringe, impair, misappropriate, dilute or otherwise violate the intellectual property rights of others.  The loss or reduction of any of our significant proprietary rights could hurt our ability to distinguish our products from competitors’ products and retain our leading market shares.

We depend on numerous complex information systems, and any failure to successfully maintain those systems or implement new systems could materially harm our operations.

We depend upon numerous information systems for operational and financial information and billing operations. We may not be able to maintain or enhance existing or implement new information systems. We intend to continue to invest in and administer sophisticated information systems, and we may experience unanticipated delays, complications and expenses in implementing, integrating and operating our systems. Furthermore, our information systems may require modifications, improvements or replacements that may require substantial expenditures and may require interruptions in operations during periods of implementation. Moreover, implementation of these systems is subject to the availability of information technology and skilled personnel to assist us in creating and implementing the systems. The failure to successfully implement and maintain operational, financial and billing information systems could have an adverse effect on our results of operations, financial condition and cash flow.



Our results of operations are dependent on certain principal production facilities.

We are dependent on certain key production facilities. Any disruption of production capabilities at our production facilities, including our Dallas yearbook and Austin class ring facilities, or at independent overseas manufacturers for a significant term could lead to the loss of customers during any period in which production is interrupted, and could adversely affect our business, financial condition and results of operations.

Operating internationally carries risks and uncertainties which could negatively affect our results of operations.

We maintain manufacturing facilities outside of the United States, including the operation of a manufacturing plant in Juarez, Mexico.  The Company's international operations are subject to a number of risks inherent in doing business internationally in addition to the currency exchange risk discussed above, which may include the following:

·   
legal and regulatory requirements or limitations imposed by foreign governments, which are often complex and subject to variation and unexpected changes, and could result in unexpected costs and potential litigation;
·   
labor practices and difficulties in staffing and managing foreign operations;
·   
disruptions or delays in shipments caused by customs compliance or government agencies;
·   
political, social and criminal instability;
·   
health crises or similar issues; and
·   
potentially adverse tax consequences.

These risks could have an adverse effect on the Company's financial position, results of operations, or cash flows.

Our stockholders’ interests may conflict with interests of our other investors.

The Company is wholly owned by American Achievement Intermediate Holding Corp. (“AAIH”), a subsidiary of Parent Holdings.  An investor group led by Fenway Partners Capital Fund II, L.P. owns a majority of the voting securities of Parent Holdings’ outstanding stock. As a result, these investors are in a position to control all matters affecting us, including controlling decisions made by our board of directors, such as the approval of acquisitions and other extraordinary business transactions, the appointment of members of our management and the approval of mergers or sales of substantially all of our assets. The interests of these investors in exercising control over our business may conflict with interests of our other investors.


     None.




Our headquarters and principal executive offices are located at 7211 Circle S Road, Austin, Texas. A summary of the physical properties that we use follows in the table below.  We believe that our facilities are suitable for their purpose and adequate to meet our business operations requirements. The extent of utilization of individual facilities varies due to the seasonal nature of our business.
 

           
Approximate Location
Type of Property
Leased or Owned
 
Square Footage
 
Austin, TX
Corporate headquarters
Owned
    23,000  
Austin, TX
Jewelry manufacturing and administration
Owned
    108,000  
Austin, TX
Warehouse facility
Leased
    38,600  
Dallas, TX
Yearbook administration and manufacturing
Owned
    327,000  
El Paso, TX
Yearbook pre-press
Leased
    50,000  
El Paso, TX
Yearbook pre-press
Leased
    5,493  
Louisville, KY
Graduation products manufacturing
Leased
    100,000  
Manhattan, KS
Graduation products manufacturing
Leased
    6,000  
Juarez, Mexico
Jewelry manufacturing
Leased
    20,000  
Waco, TX
Recognition product manufacturing
Leased
    51,000  
 

In the normal course of business, we may be a party to lawsuits and administrative proceedings before various courts and government agencies. These lawsuits and proceedings may involve personal injury, contractual issues and other matters. We cannot predict the ultimate outcome of any pending or threatened litigation or of actual claims or possible claims.

We currently are not a party to any pending legal proceedings other than ordinary routine litigation incidental to our business. In management’s opinion, adverse decisions on these ordinary legal proceedings, individually or in the aggregate, would not have a materially adverse impact on our results of operations, financial condition or cash flows.


     None.





None of our stock is publicly traded. 100% of the shares of common stock of Intermediate Holdings is held by AAIH.


Intermediate Holdings and AAC are treated as entities under common control. The Selected Financial Data of Intermediate Holdings prior to its formation date of November 2004 represents entirely those of its wholly-owned indirect subsidiary, AAC. For periods subsequent to the formation date, other than debt, cash, interest expense related to the debt, amortization of deferred financing costs, interest income on cash balances, and the related income taxes, all other assets, liabilities, income, expenses and cash flows presented for all periods represent those of Intermediate Holdings’ wholly-owned indirect subsidiary AAC and the direct and indirect subsidiaries of AAC.
     
The summary historical consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, the consolidated financial statements and the related notes thereto appearing elsewhere in this report.

As fully described under the “Significant Developments” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations, on October 26, 2007, the Company decided to shut down the operations of its achievement publications segment.  The results of operations of the achievement publications business are reported as discontinued operations in the consolidated statements of operations for all periods presented.
 
   
Intermediate Holdings
 
                                 
   
Fiscal Year Ended
 
   
August 29,
   
August 30,
 
August 25,
 
August 26,
 
August 27,
 
($ in thousands)
 
2009
   
2008
 
2007 (1)
 
2006
 
2005
 
Statement of Operations Data:
                               
Net sales
  $ 289,660       $ 313,403     $ 310,588     $ 299,936     $ 293,678  
Cost of sales
    125,540         140,373       138,892       130,145       130,755  
Gross profit
    164,120         173,030       171,696       169,791       162,923  
Selling, general and administrative expenses
    124,336         132,809       126,731       129,334       133,712  
Other charges (2)
    3,595         -       5,262       -       -  
Operating income
    36,189         40,221       39,703       40,457       29,211  
Interest expense, net
    30,734         32,769       33,522       34,265       31,271  
Income (loss) before income taxes
    5,455         7,452       6,181       6,192       (2,060 )
Provision (benefit) for income taxes
    2,981         3,765       3,875       3,170       (456 )
Income (loss) from continuing operations
    2,474         3,687       2,306       3,022       (1,604 )
Discontinued operations:
                                         
Income (loss) from discontinued operations before income taxes (3)
    -         (6,375 )     (28,406 )     2,085       5,610  
Provision (benefit) for income taxes
    -         (9,123 )     (11,108 )     815       2,194  
Income (loss) from discontinued operations
    -         2,748       (17,298 )     1,270       3,416  
Net income (loss)
  $ 2,474       $ 6,435     $ (14,992 )   $ 4,292     $ 1,812  
                                           
Balance Sheet Data (at end of period):
                                         
Total assets (3)
  $ 408,535       $ 442,058     $ 454,554     $ 488,198     $ 499,361  
Total debt (4)
    328,253         355,906       362,909       374,093       388,492  
Total stockholder's equity (deficit) (6)
    (4,818 )       31,031       24,876       36,714       23,818  
                                           
Other Data:
                                         
EBITDA (5)
  $ 61,438       $ 59,075     $ 36,289     $ 67,618     $ 60,102  
Capital expenditures
    5,928         12,579       10,594       12,511       12,795  
Depreciation and amortization
    25,249         25,229       25,000       25,095       25,281  




 
AAC
 
                               
 
Fiscal Year Ended
 
 
August 29,
 
August 30,
 
August 25,
 
August 26,
 
August 27,
 
($ in thousands)
2009
 
2008
 
2007 (1)
 
2006
 
2005
 
Statement of Operations Data:
                             
Net sales
  $ 289,660     $ 313,403     $ 310,588     $ 299,936     $ 293,678  
Cost of sales
    125,540       140,373       138,892       130,145       130,755  
Gross profit
    164,120       173,030       171,696       169,791       162,923  
Selling, general and administrative expenses
    124,336       132,809       126,731       129,334       133,712  
Other charges (2)
    3,595       -       5,262       -       -  
Operating income
    36,189       40,221       39,703       40,457       29,211  
Interest expense, net
    16,849       19,775       22,064       23,308       23,497  
Income before income taxes
    19,340       20,446       17,639       17,149       5,714  
Provision for income taxes
    7,933       8,122       7,986       7,092       2,423  
Income from continuing operations
    11,407       12,324       9,653       10,057       3,291  
Discontinued operations:
                                       
Income (loss) from discontinued operations before income taxes (3)
    -       (6,375 )     (28,406 )     2,085       5,610  
Provision (benefit) for income taxes
    -       (9,123 )     (11,108 )     815       2,194  
Income (loss) from discontinued operations
    -       2,748       (17,298 )     1,270       3,416  
Net income (loss)
  $ 11,407     $ 15,072     $ (7,645 )   $ 11,327     $ 6,707  
                                         
Balance Sheet Data (at end of period):
                                       
Total assets (3)
  $ 403,623     $ 442,399     $ 451,744     $ 484,967     $ 495,977  
Total debt (4)
    196,753       225,485       245,055       267,276       291,836  
Total stockholder's equity (6)
    110,192       143,847       129,055       133,546       114,263  
                                         
Other Data:
                                       
EBITDA (5)
  $ 61,438     $ 59,075     $ 36,289     $ 67,618     $ 60,102  
Capital expenditures
    5,928       12,579       10,594       12,511       12,795  
Depreciation and amortization
    25,249       25,229       25,000       25,095       25,281  
 _____________________________
 
(1)  
Includes the results of Powers from April 1, 2007, the date of our acquisition of Powers.

(2)  
Other charges in fiscal 2009 includes a non-cash charge of $3.6 million related to the impairment of capitalized software development costs.  Other charges in fiscal 2007 includes non-cash charges of $4.9 million for the class rings segment related to impairment of goodwill and trademarks in retail class rings, and $0.4 million for the other segment related to impairment of trademarks in personalized fashion jewelry.  See the “Significant Developments” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations for a discussion of these charges.

(3)  
As discussed in Note 7 to the Consolidated Financial Statements, we have restated the Consolidated Balance Sheets for all years presented and loss from discontinued operations for the year ended August 30, 2008.

(4)  
Total debt includes all borrowings outstanding under notes, credit facilities, and capital lease obligations.

(5)  
EBITDA represents net income (loss) before interest expense, income taxes, depreciation, and amortization. EBITDA does not represent net income or cash flows from operations, as these terms are defined under generally accepted accounting principles, 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.  Fiscal 2009, 2008 and 2007 EBITDA were unfavorably impacted by other charges of $3.6 million, $4.7 million and $28.0 million, respectively related to the write-down of certain assets, as discussed in the “Significant Developments” section of Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
(6)  
Reflects distributions to Parent Holdings of $35.9 million during fiscal 2009.  See "Parent Transactions" in the "Significant Developments" Section of Management's Discussion and Analysis of Financial Condition and Results of Operations.



We consider EBITDA to be a key indicator of operating performance as it and similar measures are instrumental in the determination of compliance with certain financial covenants in the senior secured credit facility, and is used by our management in the calculation of the aggregate fee payable under our management agreement and in determining a portion of compensation for certain of our employees. We also believe that EBITDA is useful to investors in evaluating the value of companies in general, and in evaluating the liquidity of companies with debt service obligations and their ability to service their indebtedness.

EBITDA is not a defined term under generally accepted accounting principals in the United States (“GAAP”) and should not be considered an alternative to operating income or net income as a measure of operating results or to cash flows as a measure of liquidity. EBITDA has important limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. For example, EBITDA: (i) does not reflect our cash expenditures or future requirements for capital expenditures or contractual commitments; (ii) does not reflect changes in or cash requirements for our working capital needs; (iii) does not reflect the significant interest expense or the cash requirements necessary to service interest or principal payments on our debts; and (iv) excludes tax payments that represent a reduction in cash available to us. Despite these limitations, we believe that EBITDA is useful since it provides investors with additional information not available in a GAAP presentation. To compensate for these limitations, however, we rely primarily on our GAAP results and use EBITDA only supplementally.
 
The following sets forth a reconciliation of Intermediate Holdings’ net income (loss) to EBITDA and operating cash flow:


   
Intermediate Holdings
 
                               
   
Fiscal Year Ended
 
($ in thousands)
 
August 29,
   
August 30,
   
August 25,
   
August 26,
   
August 27,
 
   
2009
   
2008
   
2007
   
2006
   
2005
 
Income (loss) from continuing operations
  $ 2,474     $ 3,687     $ 2,306     $ 3,022     $ (1,604 )
Interest expense, net
    30,734       32,769       33,522       34,265       31,271  
Provision (benefit) for income taxes
    2,981       3,765       3,875       3,170       (456 )
Depreciation and amortization expense
    25,249       24,829       23,652       23,009       23,304  
EBITDA from continuing operations
  $ 61,438     $ 65,050     $ 63,355     $ 63,466     $ 52,515  
                                         
Income (loss) from discontinued operations
  $ -     $ 2,748     $ (17,298 )   $ 1,270     $ 3,416  
Interest expense, net
    -       -       (8 )     (19 )     -  
Provision (benefit) for income taxes
    -       (9,123 )     (11,108 )     815       2,194  
Depreciation and amortization expense
    -       400       1,348       2,086       1,977  
EBITDA from discontinued operations
  $ -     $ (5,975 )   $ (27,066 )   $ 4,152     $ 7,587  
                                         
Total EBITDA(1)
  $ 61,438     $ 59,075     $ 36,289     $ 67,618     $ 60,102  
Other charges - continuing operations
  $ 3,595     $ -     $ 5,262     $ -     $ -  
Other charges - discontinued operations
    -       4,682       22,751       -       -  
Changes in assets and liabilities
    6,646       948       (14,369 )     (15,623 )     (335 )
Deferred income taxes
    2,055       (6,293 )     (7,274 )     3,824       1,521  
Interest expense, net
    (30,734 )     (32,769 )     (33,514 )     (34,246 )     (31,271 )
(Provision) benefit for income taxes
    (2,981 )     5,358       7,233       (3,985 )     (1,738 )
Amortization of debt discount and deferred financing fees
    2,186       1,976       1,976       1,959       1,882  
Accretion of interest on 10.25% senior discount notes
    1,079       12,567       11,037       10,161       7,387  
Provision for doubtful accounts
    2,074       198       (233     (464 )     (107 )
Loss (gain) on operating lease agreement
    -       (222 )     961       -       -  
Loss (gain) on sales of plant, property and equipment
    8       13       (1,989 )     79       -  
Net cash provided by operating activities
  $ 45,366     $ 45,533     $ 28,130     $ 29,323     $ 37,441  
 


The following sets forth a reconciliation of AAC’s net income (loss) to EBITDA and operating cash flow:


   
AAC
 
                               
   
Fiscal Year Ended
 
($ in thousands)
 
August 29,
   
August 30,
   
August 25,
   
August 26,
   
August 27,
 
   
2009
   
2008
   
2007
   
2006
   
2005
 
Income from continuing operations
  $ 11,407     $ 12,324     $ 9,653     $ 10,057     $ 3,291  
Interest expense, net
    16,849       19,775       22,064       23,308       23,497  
Provision for  income taxes
    7,933       8,122       7,986       7,092       2,423  
Depreciation and amortization expense
    25,249       24,829       23,652       23,009       23,304  
EBITDA from continuing operations
  $ 61,438     $ 65,050     $ 63,355     $ 63,466     $ 52,515  
                                         
Income (loss) from discontinued operations
  $ -     $ 2,748     $ (17,298 )   $ 1,270     $ 3,416  
Interest expense, net
    -       -       (8 )     (19 )     -  
Provision (benefit) for income taxes
    -       (9,123 )     (11,108 )     815       2,194  
Depreciation and amortization expense
    -       400       1,348       2,086       1,977  
EBITDA from discontinued operations
  $ -     $ (5,975 )   $ (27,066 )   $ 4,152     $ 7,587  
                                         
Total EBITDA(1)
  $ 61,438     $ 59,075     $ 36,289     $ 67,618     $ 60,102  
Other charges - continuing operations
  $ 3,595     $ -     $ 5,262     $ -     $ -  
Other charges - discontinued operations
    -       4,682       22,751       -       -  
Changes in assets and liabilities
    603       1,508       (14,382 )     (16,010 )     (379 )
Deferred income taxes
    6,872       (1,940 )     (3,150 )     7,737       4,392  
Interest expense, net
    (16,849 )     (19,775 )     (22,056 )     (23,289 )     (23,497 )
(Provision) benefit for income taxes
    (7,933 )     1,001       3,122       (7,907 )     (4,617 )
Amortization of debt discount and deferred financing fees
    1,741       1,530       1,530       1,498       1,527  
Provision for doubtful accounts
    2,074       198       (233 )     (464 )     (107 )
Loss (gain) on operating lease agreement
    -       (222 )     961       -       -  
Loss (gain) on sales of plant, property and equipment
    8       13       (1,989 )     79       -  
Net cash provided by operating activities
  $ 51,549     $ 46,070     $ 28,105     $ 29,262     $ 37,421  
 
(1)  
Fiscal 2009, 2008 and 2007 EBITDA were unfavorably impacted by other charges of $3.6 million, $4.7 million and $28.0 million, respectively related to the write-down of certain assets, as discussed in the "Significant Developments" section of Management's Discussion and Analysis of Financial Condition and Results of Operations.

 

The following discussion of our financial condition and results of operations should be read together with our consolidated financial statements and the accompanying notes included elsewhere in this report. The consolidated financial statements, and the notes thereto, have been prepared in accordance with GAAP. All amounts are in U.S. dollars except otherwise indicated.

    The accompanying Management's Discussion and Analysis of Financial Condition and Results of Operations has been revised to reflect the effects of the restatement of our consolidated financial statements. See Note 7 in the Notes to Consolidated Financial Statements.

 
Uncertainty of Forward Looking Statements and Information

This report contains “forward looking statements.” All statements other than statements of historical facts included in this report that address activities, events or developments that we expect, believe or anticipate will or may occur in the future are forward looking statements. Forward looking statements give our current expectations and projections relating to the financial condition, results of operations, plans, objectives, future performance and business of our company. You can identify these statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events.
 


These forward looking statements are based on our expectations and beliefs concerning future events affecting us. They are subject to uncertainties and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control. Although we believe that the expectations reflected in our forward looking statements are reasonable, we do not know whether our expectations will prove correct. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties.

General

We are one of the leading manufacturers and suppliers of class rings, yearbooks, graduation products, and recognition products and affinity jewelry in the United States. We market and sell yearbooks to the college, high school, junior high school and elementary school markets. We primarily sell our class rings and graduation products, which include fine paper products and graduation accessories, in the college, high school and junior high school markets. We also sell jewelry commemorating family events such as the birth of a child, military and fan affinity jewelry and related products, professional sports championship rings, commercial printing and recognition products such as letter jackets.
 
Our ability to meet our debt service and other obligations depends in significant part on how successful we are in maintaining our core businesses and further implementing our business strategy. Our business plan envisions several long-term growth initiatives, including the development of new products. The components of our strategy are subject to significant business, economic and competitive uncertainties and contingencies.

Numerous raw materials are used in the manufacture of our products. Gold and other metals, precious, semi-precious and synthetic stones, paper products and ink comprise the bulk of the raw materials we utilize in the largest segments of our business. Prices of these materials, especially gold, continually fluctuate. We purchase a majority of our gold from a single supplier. We also purchase the majority of our precious, semi-precious and synthetic stones from a single supplier in Germany. We generally are able to pass on price increases in gold and stones to our customers as such increases are realized by us, however, this may not always be the case.

We face competition for most of our principal products.  While the class ring, graduation products and yearbook markets were once highly concentrated and consisted primarily of a few large national manufacturers (of which we were one) advances in technology and the emergence of international manufacturing have significantly lowered the costs of entry.  Major domestic mass merchant and jewelry chain retailers now effectively compete in the class ring business and the traditional yearbook and graduation products businesses now face considerable competition from regional and local printers and internet-based purveyors of yearbook and alternative web-based virtual products.  Competition from alternative sales channels is robust in virtually all market categories.

We experience seasonal fluctuations in our net sales tied primarily to the school year. We recorded approximately 50% of our fiscal year 2009 net sales in our third quarter. Class ring sales are highest during October through December and early spring, with many orders made for delivery to students before the winter holiday season. Graduation product sales are predominantly made during February through April prior to the April through June graduation season. Yearbook sales are highest during the months of April through June, as yearbooks are typically shipped prior to each school’s summer break. Our recognition and affinity product line sales are seasonal. The recognition and affinity product line sales are highest during the winter holiday season and in the period leading up to Mother’s Day. We have experienced operating losses during our first and fourth fiscal quarters, which include the beginning of the school year and the summer months when school is not in session, thus reducing related shipment of products. In addition, our working capital requirements tend to exceed our operating cash flows from May through September.
 
We also have exposure to market risk relating to changes in interest rates on our variable rate debt. Our senior secured credit facility (revolver and term loan) is a variable rate arrangement.
 


Basis of Presentation

We present financial information relating to Intermediate Holdings, AAC and its subsidiaries in this discussion and analysis.   Intermediate Holdings owns 100% of the shares of common stock of AAC Holding Corp., which is the holder of 100% of the shares of common stock of AAC.

Other than debt, cash, interest expense related to the debt, amortization of deferred financing costs, interest income on cash balances, and the related income taxes, all other assets, liabilities, income, expenses and cash flows presented for all periods represent those of Intermediate Holdings’ wholly-owned indirect subsidiary AAC and the direct and indirect subsidiaries of AAC. Intermediate Holdings’ only direct subsidiary is AAC Holding Corp., whose sole asset is the stock of AAC. AAC and Intermediate Holdings are treated as entities under common control.

We use a 52/53-week fiscal year ending on the last Saturday of August.  Fiscal 2009, 2008 and 2007 consisted of 52, 53 and 52 weeks, respectively.

Company Background

Our business was founded when the operations of ArtCarved, which were previously owned by CJC Holdings, Inc., and the operations of Balfour, which were previously owned by L.G. Balfour Company, Inc., were combined through various asset purchase agreements in December 1996. AAC was formed in June 2000 to serve as a holding company for these operations as well as any future acquisitions. In June 2000, we acquired the Taylor Senior Holding Company, the parent company of Taylor Publishing Company (“Taylor”), whose primary business is designing and printing student yearbooks. In July 2002, AAC acquired all the outstanding stock and warrants of Milestone Marketing, a marketer of class rings and other graduation products to the college market. In January 2004, AAC acquired C-B Graduation Announcements, a marketer of graduation products to the college market.  In April 2007, Commemorative Brands, Inc. (“CBI”), a wholly-owned subsidiary of AAC, acquired all of the outstanding stock of BFJ Holdings, Inc. and its wholly owned subsidiary, Powers Embroidery, Inc. (“Powers”). Powers is a producer of quality letter jackets, chenille patches and other school spirit embroidery merchandise.

On March 25, 2004, AAC Acquisition Corp., a wholly owned subsidiary of AAC Holding Corp., merged with and into AAC, with AAC continuing as the surviving corporation and a wholly-owned subsidiary of AAC Holding Corp. The merger was financed by a cash equity investment by an investor group led by Fenway Partners Capital Fund II, L.P., borrowings under AAC’s senior secured credit facility and the issuance of AAC’s 8.25% senior subordinated notes due 2012.  In November 2004, AAC Holding Corp. underwent a recapitalization transaction pursuant to which its stockholders exchanged their shares of AAC Holding Corp. common stock for shares of Intermediate Holdings common stock and, as a result, AAC Holding Corp. became a wholly owned subsidiary of Intermediate Holdings.

On November 16, 2004, Intermediate Holdings issued $131.5 million aggregate principal amount at maturity of 10.25% senior discount notes due 2012, generating net proceeds of $89.3 million. Intermediate Holdings is the sole obligor of these notes. The net proceeds of this offering were used as a distribution to stockholders through the repurchase of shares of Intermediate Holdings’ common stock from its stockholders.

During the first quarter of fiscal year 2008, we decided to shut down the operations of our achievement publications segment, which produced, marketed and sold publications that recognize the achievements of top students at the high school and college levels, as well as the nation’s most inspiring teachers.  All shutdown activities were substantially complete prior to November 24, 2007 and were fully complete by May 31, 2008.



Critical Accounting Policies

We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. As such, we are required to make certain estimates, judgments and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. The significant accounting policies which we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following:

Allowance for Product Returns. We make estimates of potential future product returns related to current period product revenue. We analyze average historical returns, current economic trends and changes in customer demand and acceptance of our products when evaluating the adequacy of the sales returns and allowances. Significant management judgments and estimates must be made and used in connection with establishing the allowance for sales returns and allowances in any accounting period. Product returns as a percentage of net sales were 2.7%, 2.1% and 2.3% for the fiscal years 2009, 2008 and 2007, respectively. A ten percent increase in product returns would result in a reduction of annual net sales of approximately $0.8 million, based on fiscal year end 2009 rates. Material differences could result in the amount and timing of our revenue for any period if we made different judgments or utilized different estimates.

Allowance for Doubtful Accounts and Reserve on Independent Sales Representative Advances. We make estimates of potentially uncollectible customer accounts receivable and receivables arising from independent sales representative advances paid in excess of earned commissions. Our reserves are based on an analysis of individual customer and salesperson accounts and historical write-off experience. Our analysis includes the age of the receivable, customer or salesperson creditworthiness and general economic conditions. Write-offs of doubtful accounts as a percentage of net sales were 0.3%, 0.4% and 0.4% for the fiscal years 2009, 2008 and 2007, respectively. Write-offs of independent sales representative advances as a percentage of net sales were 0.5%, 0.6% and 0.2% for the fiscal years ended 2009, 2008 and 2007, respectively. A ten percent increase in expense for uncollectible customer accounts and independent sales representative advances would result in an increase in expense of approximately $0.2 million and $0.2 million, respectively, based on fiscal year ended 2009 rates. We believe that our results could be materially different if historical trends do not reflect future results or if economic conditions worsened.

Goodwill and Other Intangible Assets. We account for our long-lived assets with indefinite lives under Statement of Financial Accounting Standards (“SFAS”) 142, “Goodwill and Other Intangible Assets” (“SFAS 142”). Under SFAS 142 we are required to test goodwill and intangible assets with indefinite lives for impairment annually, or more frequently if impairment indicators occur. The impairment test requires management to make judgments in connection with identifying reporting units, assigning assets and liabilities to reporting units and determining fair value of each reporting unit. Significant judgments required to estimate the fair value of reporting units include projecting future cash flows, determining appropriate discount rates and other assumptions. The projections are based on historical performance and future estimated results.

As fully described under “Significant Developments” below, during fiscal 2007 and the first quarter of fiscal 2008, we recorded an impairment of our goodwill and intangible assets with indefinite lives.  We believe that we had no impairment as of August 29, 2009 and August 30, 2008; however, unforeseen future events could adversely affect the reported value of goodwill and indefinite-lived intangible assets.  As of August 29, 2009, goodwill and indefinite-lived intangible assets totaled $195.4 million and represented 48% of total assets of Intermediate Holdings and of AAC.

Long-lived Tangible and Intangible Assets with Definite Lives. We test our long-lived tangible and intangible assets with definite lives for impairment under SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”), which requires us to review long-lived tangible and intangible assets with definite lives whenever events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Recoverability of these assets is measured by comparison of its carrying amount to the future undiscounted cash flows the assets are expected to generate. If long-lived assets are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the assets exceeds its fair market value and is recorded in the period the determination is made. In applying this standard, assets are grouped and evaluated at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows of other groups of assets. We consider historical performance and future estimated results in evaluation of impairment. If the carrying amount of the asset exceeds expected undiscounted future cash flows, we measure the amount of impairment by comparing the carrying amount of the asset to its fair value, generally measured by discounting expected future cash flows at the rate we utilize to evaluate potential investments.



As fully described under “Significant Developments” below, during fiscal 2009, we recorded a non-cash charge of $3.6 million related to the impairment of capitalized software development costs previously included in construction in progress, reported in property, plant and equipment in the accompanying consolidated balance sheets. During fiscal 2007 and first quarter of fiscal 2008 we recorded an impairment of long-lived tangible and intangible assets in our achievement publications segment. 

  We believe that we had no other impairment to our long-lived tangible and intangible assets with definite lives as of August 29, 2009 or August 30, 2008; however, unforeseen future events could adversely affect the reported value of long-lived tangible and intangible assets with definite lives. As of August 29, 2009, long-lived tangible and intangible assets with definite lives totaled $106.5 million and represented 26% of total assets of Intermediate Holdings and of AAC.

Revenue Recognition. Our revenues from product sales are generally recognized at the time the product is shipped, the risks and rewards of ownership have passed to the customer and collectibility is reasonably assured. Our stated shipping terms are FOB shipping point. Provisions for sales returns, warranty costs and rebate expenses are recorded based upon historical information and current trends.

Our accounting method for recognizing revenue and related gross profit on class ring sales through independent sales representatives, along with commissions to independent sales representatives that are directly related to the revenue, is to defer the revenue until the independent sales representative delivers the product to the end customer.

We recognize revenue on our publishing operations based upon the completed contract method, when the products are shipped.
 
Income Taxes.  As part of the process of preparing consolidated financial statements, we must assess the likelihood that our deferred income tax assets will be recovered through future taxable income.  To the extent we believe that recovery is not likely, a valuation allowance must be established.  Significant management judgment is required in determining any valuation allowance recorded against net deferred income tax assets.  Based on our estimates of taxable income in each jurisdiction in which we operate and the period over which deferred income tax assets will be recoverable, we have not recorded a valuation allowance as of August 29, 2009 or August 30, 2008.  In the event that actual results differ from these estimates or we make adjustments to these estimates in future periods, we may need to establish a valuation allowance.

Significant Developments

Following are some significant developments in fiscal years 2009, 2008 and 2007.

Amendment of Senior Secured Credit Facilities. As described in Note 9 in the Notes to Condensed Consolidated Financial Statements, on May 20, 2009, we executed an amendment (the “Second Amendment”) to our senior secured credit facility (as amended, the “Amended Senior Credit Facility”). Among other things, the Second Amendment: (i) modified the existing $40 million revolving facility to a $25 million revolving facility available through March 25, 2011 and eliminated incremental facilities of up to $75 million available under the agreement, (ii) increased interest rates, term loan quarterly amortization, and revolving commitment fees paid to lenders, (iii) modified the limitations on restricted payments, dividends or distributions, and permitted acquisitions, and (iv) modified covenants relating to the maintenance of a maximum leverage ratio and minimum interest coverage ratio to be less restrictive for fiscal quarters beginning August 30, 2009.

In connection with the Second Amendment, we incurred costs totaling $2.5 million, of which $1.1 million was recorded as selling, general and administrative expense during the three months ended May 30, 2009, and $1.4 million is included in other assets and is being be amortized over the remaining term of the Amended Senior Credit Facility.

Termination of Gold Consignment Agreement.  On March 4, 2009, we received notice from The Bank of Nova Scotia electing to terminate the First Amended and Restated Agreement for Fee Consignment and Purchase of Gold dated March 25, 2004. The termination is pursuant to a provision in the agreement allowing either party to terminate the agreement upon 60 days written notice without cause. The termination was effective May 5, 2009. We do not anticipate replacing the agreement at this time and instead may use availability under our revolving credit facility as necessary to finance purchases of gold.



Discontinued Operations.  During the first quarter of fiscal year 2008, we decided to shut down the operations of our achievement publications segment, which produced, marketed and sold publications that recognize the achievements of top students at the high school and college levels, as well as the nation’s most inspiring teachers.  All shutdown activities were substantially complete prior to November 24, 2007 and were fully complete by May 31, 2008. The results of operations of the achievement publications business are reported as discontinued operations in the consolidated income statements for all periods presented. Certain shared costs that were previously allocated to the achievement publications segment in fiscal 2007 were reallocated to continuing operations since such costs will continue to be incurred.

Impairment Charges. During fiscal 2009, we recorded a non-cash charge of $3.6 million related to the impairment of capitalized software development costs previously included in construction in progress, reported in property, plant and equipment in the accompanying consolidated balance sheets.  In August 2009, as a result of redefined business needs, we determined that it was probable that the software would not perform as required.  We discontinued all efforts associated with this project and performed an assessment of recoverability in accordance with SFAS 144.  It was determined that the carrying amount was not recoverable and that there was no fair value related to the software development costs, resulting in a write-off of the entire carrying amount of the asset.  The charge related to this impairment is included in other charges in the accompanying consolidated statements of operations and consolidated statements of cash flows.

In the fourth quarter 2007 we recorded $28.0 million in impairment charges of which $22.8 million was in our achievement publications segment, $4.9 million was in the class rings segment related to retail class rings, and $0.4 million was in our other business segment related to personalized fashion jewelry.
 
The sale or shutdown options being pursued for our achievement publications segment at fiscal 2007 year end constituted a triggering event requiring that the assets of our achievement publications segment be tested for recoverability in accordance with SFAS 144 and SFAS 142.  This analysis indicated that an impairment in goodwill, trademarks, and tangible assets existed as of August 25, 2007.  We recorded a charge in August 2007 of $22.8 million, of which $12.1 million reduced the carrying value of trademarks, $9.5 million reduced the carrying value of goodwill, and $1.2 million reduced the carrying value of fixed assets.  Additionally, as a consequence of the decision in October 2007 to shutdown the achievement publications business, we recorded charges of approximately $4.7 million primarily related to the write-off of the remaining carrying value of tangible and intangible assets of the achievement publications segment.  These charges are included in loss from discontinued operations in the accompanying consolidated statements of operations and in other charges in the consolidated statements of cash flows.

Under the provisions of SFAS 142, we test goodwill and indefinite-lived intangibles for impairment on an annual basis or more frequently if impairment indicators occur. As a result of the annual impairment review performed in the fourth quarter of fiscal 2007, we recorded an impairment of $4.9 million related to goodwill and trademarks in our retail class rings business that is included in our class rings business segment and $0.4 million related to trademarks in our personalized fashion jewelry business that is included in our other business segment to adjust the carrying value to the net realizable value. These charges are included in other charges in the accompanying consolidated statements of operations and in other charges in the consolidated statements of cash flows.  The annual impairment review performed in 2007 for our other businesses did not reveal any impairment.

The annual impairment reviews performed in the fourth quarters of fiscal 2009 and fiscal 2008 did not reveal additional impairment in any of our reporting units.

Business Acquisition.  In April 2007, CBI acquired all of the outstanding stock of BFJ Holdings, Inc. and its wholly owned subsidiary, Powers. Powers, located in Waco, Texas, is a producer of quality letter jackets, chenille patches and other school spirit embroidery merchandise. The purchase price in connection with this acquisition was approximately $6.2 million, including transaction costs. The Powers acquisition was accounted for using the purchase method of accounting.

On January 6, 2009, CBI entered into an amendment to finalize the stock purchase agreement related to the acquisition of Powers.  The amended agreement provided for $0.3 million of additional purchase price instead of the provision in the original agreement that provided for up to $1.5 million of additional purchase price payment that was contingent upon the acquired business achieving certain financial goals through August 2010.  The $0.3 million of additional purchase price is to be paid over three years beginning January 2009 and $0.1 million was paid during year ended August 29, 2009.



Parent Transactions.  The following are fiscal 2009 transactions of American Achievement Intermediate Holdings Corp. (“AAIH”) and American Achievement Group Holdings Corp. (“Parent Holdings”), the direct and indirect parent companies of Intermediate Holdings, respectively.  These transactions impact the separate financial statements of Parent Holdings and AAIH, which are not presented herein and had no impact on our financial position and results of operations, except as specifically referenced below.

·    
On December 5, 2008, Parent Holdings and Herff Jones, Inc., together with the equity holders of Parent Holdings, announced that such parties had terminated the proposed transaction pursuant to which Parent Holdings would be sold to Herff Jones, Inc.  Parent Holdings received proceeds in connection with the settlement of that termination that, after considering transaction related costs incurred by Parent Holdings, amounted to net proceeds of approximately $26.5 million.

·    
On February 25, 2009, Parent Holdings repurchased $104.3 million aggregate principal amount of its outstanding 12.75% Senior PIK Notes due October 1, 2012 (the “Parent Holdings Notes”) for an aggregate purchase price of $24.0 million.  This repurchase was funded from the net proceeds received by Parent Holdings in connection with the aforementioned settlement.  For no additional consideration, sellers of the Parent Holdings Notes representing a majority in principal amount of the Parent Holdings Notes consented to a second supplemental indenture (“the Second Supplemental Indenture”), which was entered into on February 25, 2009, by Parent Holdings and the trustee under the indenture.  The Second Supplemental Indenture removed substantially all of the restrictive and reporting covenants set forth in such indenture, as well as certain events of default and related provisions.  Accordingly, Parent Holdings is no longer obligated to file reports with the Securities and Exchange Commission.
 
Deferred tax benefits of net operating losses generated by AAC that will be utilized by Parent Holdings in the 2009 consolidated tax return to offset the income generated from the aforementioned settlement and repurchase transactions were transferred from AAC to Parent Holdings in the second quarter of fiscal 2009.  This transfer was accounted for as a distribution by AAC to Intermediate Holdings to Parent Holdings which is reflected as a reduction to additional (distributions in excess of) paid-in capital and a reduction of a deferred tax asset at AAC and Intermediate Holdings.
 
 ·    
On June 4, 2009, Parent Holdings and AAIH, entered into a Securities Purchase Agreement with the Purchasers party thereto with respect to the issuance of shares of new preferred stock by AAIH and warrants to purchase Parent Holdings’ common stock.  AAIH received gross proceeds of $14.3 million in connection with the issuance of the new preferred stock and warrants.  The holders of the redeemable series A preferred stock of AAIH are entitled to receive cumulative dividends at a rate of 25% per annum, when, as and if declared by the board of directors of Parent Holdings. AAIH is obligated to redeem its series A preferred stock upon the occurrence of certain events of default, in the event of a change of control or upon an adjusted EBITDA shortfall event, as such terms are defined in AAIH’s certificate of incorporation.  The Purchase Agreement contains restrictions on the ability of AAIH and its subsidiaries, including the Company, to incur additional debt or issue preferred stock; pay dividends or make distributions on its capital stock, or redeem or repurchase its capital stock or subordinated debt; make certain investments; enter into sale and leaseback transactions; engage in transactions with affiliates; create liens on assets to secure debt; transfer or sell assets; guarantee debt; restrict dividend or other payments to the issuer; in the case of the issuer, consolidate, merge or transfer all or substantially all of its assets and the assets of its subsidiaries; and engage in unrelated businesses.

·   
On August 7, 2009, Parent Holdings repurchased $65.3 million aggregate principal amount of Parent Holdings Notes for an aggregate purchase price of $22.9 million. This purchase was funded with (i) $8.3 million cash distributed to Parent Holdings by the Company, (ii) proceeds from the sale of new preferred stock by AAIH and (iii) cash on hand. As of August 29, 2009 there was approximately $47.9 million aggregate principal amount of Parent Holdings Notes outstanding.
 
The cash distributed by the Company to Parent Holdings was accounted for as a distribution by AAC to Intermediate Holdings to Parent Holdings, which is reflected as a reduction to accumulated earnings, to the extent that it exists, and then to additional (distributions in excess of) paid-in capital.



Results of Operations

Fiscal Year Ended August 29, 2009 Compared to Fiscal Year Ended August 30, 2008

The following tables set forth selected information for Intermediate Holdings and AAC from our consolidated statements of operations expressed on an actual basis and as a percentage of net sales:


 
Intermediate Holdings
 
 
Fiscal Year Ended
% of
 
Fiscal Year Ended
 
% of
   
Increase/
($ in millions)
August 29, 2009
Net Sales
 
August 30, 2008
 
Net Sales
   
(Decrease)
                                     
Net sales
$
 289.7
   
 100.0
 %  
$
 313.4
   
 100.0
   
$
 (23.7
Cost of sales
 
 125.6
   
 43.4
 %    
 140.4
   
 44.8
     
 (14.8
)
Gross profit
 
 164.1
   
 56.6
 %    
 173.0
   
 55.2
     
 (8.9
Selling, general and administrative expenses
 
 124.3
   
 42.9
 %    
 132.8
   
 42.4
     
 (8.5
Other charges
 
 3.6
   
 1.2
 %    
 -
   
 -
     
 3.6
 
Operating income
 
36.2
   
 12.5
 %    
 40.2
   
 12.8
     
 (4.0
Interest expense, net
 
 30.7
   
 10.6
 %    
 32.8
   
 10.5
     
 (2.1
Income before income taxes
 
 5.5
   
 1.9
 %    
 7.4
   
 2.4
     
 (1.9
Provision for income taxes
 
 3.0
   
 1.0
 %    
 3.7
   
 1.2
     
 (0.7
Income from continuing operations
 
 2.5
   
 0.9
 %    
 3.7
   
 1.2
     
 (1.2
Discontinued operations:
                                   
Loss from discontinued operations before income taxes
 
 -
   
 -
 %    
 (6.4
)  
 (2.0
)    
6.4
 
Benefit for income taxes
 
  -
   
-
 %    
 (9.1
)  
 (2.9
)    
 9.1
 
Income from discontinued operations
 
-
   
-
 %    
 2.7
   
 0.9
     
 (2.7
Net income
$
 2.5
   
 0.9
 %  
$
 6.4
   
 2.1
   
$
 (3.9
                                     
                                     
 
AAC
 
 
Fiscal Year Ended
 
% of
 
Fiscal Year Ended
 
% of
   
Increase/
($ in millions)
August 29, 2009
 
Net Sales
 
August 30, 2008
 
Net Sales
   
(Decrease)
                                     
Net sales
$
 289.7
   
 100.0
 %  
$
 313.4
   
 100.0
   
$
 (23.7
Cost of sales
 
 125.6
   
 43.4
 %    
 140.4
   
 44.8
     
 (14.8
)
Gross profit
 
 164.1
   
 56.6
 %    
 173.0
   
 55.2
     
 (8.9
)
Selling, general and administrative expenses
 
 124.3
   
 42.9
 %    
 132.8
   
 42.4
     
 (8.5
)
Other charges
 
 3.6
   
 1.2
 %    
 -
   
 -
     
 3.6
 
Operating income
 
 36.2
   
 12.5
 %    
 40.2
   
 12.8
     
 (4.0
)
Interest expense, net
 
 16.9
   
 5.8
 %    
 19.8
   
 6.3
     
 (2.9
)
Income before income taxes
 
 19.3
   
 6.7
 %    
 20.4
   
 6.5
     
 (1.1
)
Provision for income taxes
 
 7.9
   
 2.8
 %    
 8.1
   
 2.6
     
 (0.2
)
Income from continuing operations
 
 11.4
   
 3.9
 %    
 12.3
   
 3.9
     
 (0.9
)
Discontinued operations:
                                   
Loss from discontinued operations before income taxes
 
 -
   
 -
 %    
 (6.4
 
 (2.0
)    
6.4
 
Benefit for income taxes
 
-
   
-
 %    
 (9.1
)  
 (2.9
)    
 9.1
 
Income from discontinued operations
 
-
   
-
 %    
2.7
   
 0.9
     
 (2.7
)
Net income
$
 11.4
   
 3.9
 %  
$
 15.0
   
 4.8
   
$
 (3.6
)




We use a 52/53 week fiscal year.  Fiscal year 2009 consisted of 52 weeks, whereas fiscal year 2008 consisted of 53 weeks.  As a result, the current year reflects one week less of net sales, expenses and operating income as compared to the prior year.

Net Sales. Net sales consist of product sales and are net of product returns and promotional discounts. Net sales decreased $23.7 million, or 7.6%, to $289.7 million in fiscal 2009 from $313.4 million in fiscal 2008. The decrease was primarily a result of lower sales volumes due to softness in the economy. The following details the changes in net sales by business segment.

Class Rings. Net sales decreased $11.7 million to $108.6 million in fiscal 2009 from $120.3 million in fiscal 2008. The decrease in net sales from class rings was the result of a decline of $8.7 million in on-campus class ring sales and a decline of $3.0 million in retail class ring sales. The decrease in class ring sales was primarily a result of lower sales volumes and change in product mix from gold to other metals with lower selling prices due to softness in the economy and higher gold prices, and timing of sales from the fourth quarter of fiscal 2009 to the first quarter of fiscal 2010.  These decreases were partially offset by an increase in average selling price of college class rings due to an increase in gold prices.

Yearbooks. Net sales decreased $6.4 million to $108.7 million in fiscal 2009 from $115.1 million in fiscal 2008.  The decrease in net sales was primarily the result of lower contract volume and a decrease in the average contract value due to softness in the economy.  Net sales also decreased as a result of timing of shipments from the fourth quarter of fiscal 2009 to the first quarter of fiscal 2010 and as a result of the timing of shipments between the fourth quarter of fiscal 2008 and the first quarter of fiscal 2009.

Graduation Products. Net sales decreased $3.8 million to $42.0 million in fiscal 2009 from $45.8 million in fiscal 2008.  The decrease in net sales was primarily the result of lower sales volume due to softness in the economy and product mix.

Other. Net sales decreased $1.8 million to $30.4 million in fiscal 2009 from $32.2 million in fiscal 2008.  The decrease in net sales was primarily related to a decline in sales of personalized family jewelry due to softness in the economy, partially offset by an increase in professional championship rings and letter jackets due to new business.

Gross Profit. Gross margin represents gross profit as a percentage of net sales. Gross margin was 56.6% in fiscal 2009 as compared to 55.2% in fiscal 2008.   The improvement in gross margin in fiscal 2009 is primarily a result of savings from productivity and cost reduction measures.

Overall, gross profit decreased $8.9 million, or 5.1%. The decrease in gross profit was primarily a result of several factors including the following, partially offset by cost savings from productivity and cost reduction measures:
·   
$3.0 million decrease in on-campus class rings gross profit due to sales declines
·   
$1.0 million decrease in retail class rings gross profit primarily related to the decline in net sales
·   
$1.7 million decrease in yearbooks gross profit primarily due to lower contract volume
·   
$3.9 million decrease in graduation products gross profit primarily attributable to lower sales volume
·   
$1.1 million decrease in other segment gross profit due to the decline in sales of recognition and affinity jewelry and commercial books and due to unfavorable product mix in recognition and affinity jewelry

These decreases in gross profit were partially offset by the following:
·   
$1.5 million increase in other segment gross profit due to higher sales of professional championship rings and higher gross margin on military rings
·   
$0.3 million increase in other segment gross profit attributable to the increase in sales of letter jackets



Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased $8.5 million to $124.3 million in fiscal 2009 from $132.8 million in fiscal 2008.  Included in selling, general and administrative expenses are two sub-categories: selling and marketing expenses and general and administrative expenses.

Selling and marketing expenses decreased $7.1 million to $83.7 million, or 28.9% of net sales, in fiscal 2009 from $90.8 million, or 29.0% of net sales, in fiscal 2008. The decrease in selling and marketing expenses was primarily the result of lower marketing expenditures as a result of cost reduction efforts and a decrease in commission expenses related to sales decreases.

General and administrative expenses in fiscal 2009 were $40.6 million, or 14.0% of net sales, as compared to $42.0 million, or 13.4% of net sales, in fiscal 2008. The $1.4 million decrease in general and administrative expenses was primarily the result of:
·   
$1.6 million decrease in employee costs including decreased headcount, recruiting and relocation expenses
·   
$2.0 million decrease in professional fees, consulting fees and other expenses

These decreases in general and administrative expenses were partially offset by the following:
·   
$1.1 million increase as a result of fees incurred to amend our credit facility
·   
$1.1 million increase in expense for uncollectible accounts receivable
 
Other Charges. As described in “Significant Developments,” other charges in fiscal 2009 include a non-cash charge of $3.6 million related to the impairment of capitalized software development costs previously included in construction in progress, reported in property, plant and equipment in the accompanying balance sheets.

Operating Income. As a result of the foregoing, operating income was $36.2 million, or 12.5% of net sales for fiscal 2009, as compared with operating income of $40.2 million, or 12.8% of net sales, for fiscal 2008. The class rings segment reported operating income of $5.4 million for fiscal 2009 as compared with operating income of $7.9 million for fiscal 2008. The yearbooks segment reported operating income of $27.7 million for fiscal 2009 as compared with operating income of $28.0 million for fiscal 2008. The graduation products segment reported operating income of $4.6 million for fiscal 2009 as compared with operating income of $6.5 million for fiscal 2008. The other segment reported operating loss of $1.5 million for fiscal 2009 as compared with operating loss of $2.2 million for fiscal 2008.

Interest Expense, Net.  For Intermediate Holdings, net interest expense was $30.7 million for fiscal 2009 and $32.8 million for fiscal 2008. The average debt outstanding of Intermediate Holdings for fiscal 2009 and fiscal 2008 was $339 million and $359 million, respectively. The weighted average interest rate on debt outstanding of Intermediate Holdings for fiscal 2009 and fiscal 2008 was 8.5% and 8.7%, respectively.

For AAC, net interest expense was $16.9 million for fiscal 2009 and $19.8 million for fiscal 2008. The average debt outstanding of AAC for fiscal 2009 and fiscal 2008 was $208 million and $235 million, respectively. The weighted average interest rate on debt outstanding of AAC for fiscal 2009 and fiscal 2008 was 7.3% and 7.8%, respectively.

Provision for Income Taxes.   For fiscal 2009 and fiscal 2008, Intermediate Holdings recorded an income tax provision of $3.0 million and $3.7 million, respectively, which represents an effective tax rate of 55% and 50%, respectively. The effective tax rates for fiscal 2009 and 2008, respectively, vary from the statutory federal rate due to the impact of state income taxes and the non-deductibility of a portion of its interest on high-yield debt.

For fiscal 2009 and fiscal 2008, AAC recorded an income tax provision of $7.9 million and $8.1 million, respectively, which represents an effective tax rate of 41% and 40%, respectively. The effective tax rates for the fiscal 2009 and 2008 vary from the statutory federal tax rate due to the impact of state income taxes.

Income from Discontinued Operations.  As described in “Significant Developments,” the results of operations of the achievement publications business are reported as discontinued operations.  Loss from discontinued operations before income taxes for fiscal 2008 was $6.4 million.  Loss from discontinued operations for fiscal 2008 included charges of approximately $4.7 million primarily related to the write-off of the remaining carrying value of tangible and intangible assets of the achievement publications segment and approximately $0.7 million related to contract termination and employee severance costs.

The tax benefit from discontinued operations was 143% for fiscal 2008.  The tax benefit as a percentage of loss from discontinued segment in fiscal 2008 was impacted by a portion of the tax loss related to the shutdown of the achievement publications segment resulting in a permanent difference for tax purposes.



Fiscal Year Ended August 30, 2008 Compared to Fiscal Year Ended August 25, 2007

The following tables set forth selected information for Intermediate Holdings and AAC from our consolidated statements of operations expressed on an actual basis and as a percentage of net sales:


 
Intermediate Holdings
 
Fiscal Year Ended
 
% of
 
Fiscal Year Ended
% of
 
Increase/
($ in millions)
August 30, 2008
 
Net Sales
 
August 25, 2007
Net Sales
 
(Decrease)
                                       
Net sales
$
 313.4
   
 100.0
   
$
 310.6
   
 100.0
  %  
$
 2.8
 
Cost of sales
 
 140.4
   
 44.8
  %    
 138.9
   
 44.7
  %    
 1.5
 
Gross profit
 
 173.0
   
 55.2
  %    
 171.7
   
 55.3
  %    
 1.3
 
Selling, general and administrative expenses
 
 132.8
   
 42.4
  %    
 126.7
   
 40.8
  %    
 6.1
 
Other charges
 
-
   
 -
  %    
 5.3
   
 1.7
  %    
 (5.3
Operating income
 
 40.2
   
 12.8
  %    
 39.7
   
 12.8
  %    
 0.5
 
Interest expense, net
 
 32.8
   
10.5
  %    
 33.5
   
 10.8
  %    
 (0.7
Income before income taxes
 
 7.4
   
 2.4
  %    
 6.2
   
 2.0
  %    
 1.2
 
Provision for income taxes
 
 3.7
   
 1.2
  %    
 3.9
   
 1.3
  %    
 (0.2
Income from continuing operations
 
 3.7
   
 1.2
  %    
 2.3
   
 0.7
  %    
 1.4
 
Discontinued operations:
                                     
Loss from discontinued operations before income taxes
 
 (6.4)
   
 (2.0
%    
 (28.4
)  
 (9.1
%    
 22.0
 
Benefit for income taxes
 
 (9.1)
   
 (2.9
%    
 (11.1
 
 (3.6
%    
 2.0
 
Income (loss) from discontinued operations
 
2.7
   
 0.9
  %    
 (17.3
)  
 (5.6
%    
 20.0
 
Net income (loss)
$
6.4
   
2.1
  %  
$
 (15.0
 
 (4.8
)  
$
21.4
 
                                       
                                       
 
AAC
 
 
Fiscal Year Ended
 
% of
 
Fiscal Year Ended
% of
 
Increase/
 
($ in millions)
August 30, 2008
 
Net Sales
 
August 25, 2007
Net Sales
 
(Decrease)
 
                                       
Net sales
$
 313.4
   
 100.0
  %  
$
 310.6
   
 100.0
   
$
 2.8
 
Cost of sales
 
 140.4
   
 44.8
  %    
 138.9
   
 44.7
     
 1.5
 
Gross profit
 
 173.0
   
 55.2
  %    
 171.7
   
 55.3
     
 1.3
 
Selling, general and administrative expenses
 
 132.8
   
 42.4
  %    
 126.7
   
 40.8
     
 6.1
 
Other charges
 
-
   
 -
  %    
 5.3
   
 1.7
     
 (5.3
Operating income
 
 40.2
   
 12.8
  %    
 39.7
   
 12.8
     
 0.5
 
Interest expense, net
 
 19.8
   
 6.3
  %    
 22.0
   
 7.1
     
 (2.2
)
Income before income taxes
 
 20.4
   
 6.5
  %    
 17.7
   
 5.7
     
 2.7
 
Provision for income taxes
 
 8.1
   
 2.6
  %    
 8.0
   
 2.6
     
 0.1
 
Income from continuing operations
 
 12.3
   
 3.9
  %    
 9.7
   
 3.1
     
 2.6
 
Discontinued operations:
                                     
Loss from discontinued operations before income taxes
 
 (6.4
 
 (2.0
) %    
 (28.4
 
 (9.1
)    
22.0
 
Benefit for income taxes
 
 (9.1
 
 (2.9
%    
 (11.1
 
 (3.6
   
 2.0
 
Income (loss) from discontinued operations
 
2.7
   
 0.9
  %    
 (17.3)
   
 (5.6
   
 20.0
 
Net income (loss)
$
15.0
   
 4.8
  %  
$
 (7.6)
   
 (2.4
 
$
 22.6
 




We use a 52/53 week fiscal year.  Fiscal year 2008 consisted of 53 weeks, whereas fiscal year 2007 consisted of 52 weeks.  As a result, the current reporting period reflects an extra week of net sales, expense and operating income as compared to the prior year.

Net Sales. Net sales consist of product sales and are net of product returns and promotional discounts. Net sales increased $2.8 million, or 0.9%, to $313.4 million in fiscal 2008 from $310.6 million in fiscal 2007. The increase was primarily a result of sales of letter jackets attributed to the acquisition of Powers in April 2007 and stronger sales of graduation products, partially offset by lower sales of retail class rings.

Class Rings. Net sales decreased $0.7 million to $120.3 million in fiscal 2008 from $121.0 million in fiscal 2007. The decrease in net sales from class rings was the result of a decline of $1.1 million in retail high school class ring sales, partially offset by a $0.4 million increase in on-campus class ring sales. The decrease in retail class ring sales was due to a continuing softness in the jewelry market offset by an increase in prices.  The increase in on-campus class ring sales was primarily due to higher average sales prices.  These increases were partially offset by a volume decrease, reflecting market softness, and a change in product sales mix caused by continuing increases in gold prices, causing buyers to purchase lower priced non-gold rings.  

Yearbooks. Net sales decreased $0.1 million to $115.1 million in fiscal 2008 from $115.2 million in fiscal 2007.

Graduation Products. Net sales increased $1.4 million to $45.8 million in fiscal 2008 from $44.4 million in fiscal 2007. The increase was due to an increase in pricing and volume shipments of high school graduation products.

Other. Net sales increased $2.2 million to $32.2 million in fiscal 2008 from $30.0 million in fiscal 2007. The increase in net sales was the result of a $3.9 million increase in sales of letter jackets related to the acquisition of Powers in April 2007, a $0.5 million increase in commercial book sales due to new business and a $0.2 million increase in sales of military rings.  This increase was partially offset by a $2.2 million decrease in recognition and affinity jewelry due to a decline in professional championship rings and affinity jewelry, as well as a product mix shift to rings with a lower average sales price in our personalized family jewelry.

Gross Profit. Gross margin represents gross profit as a percentage of net sales. Gross margin was 55.2% in fiscal 2008 compared to 55.3% in fiscal 2007. Overall, gross profit increased $1.3 million, or 0.8%. The increase in gross profit was a result of several factors including the following:
·   
$4.0 million improvement in yearbooks gross profit resulting mainly from efficiencies related to continuous expansion of our on-line publishing software, reduced medical costs and savings related to ongoing investments in equipment and technology
·   
$1.1 million increase in other segment gross profit attributable to increased letter jacket sales resulting from the Powers acquisition
·   
$0.9 million increase in graduation products gross profit directly attributable to higher sales of high school graduation products
·   
$0.3 million increase in commercial books related to the increase in net sales resulting from expansion of product line

These increases in gross profit were partially offset by the following:
·   
$2.4 million decrease in other segment gross profit due to the decline in net sales, increased material cost and unfavorable product mix in recognition and affinity jewelry
·   
$2.6 million decline in retail class rings gross profit directly related to the decline in net sales, increases in material costs, increased labor costs, and outside consulting fees related to productivity improvement initiatives



Selling, General and Administrative Expenses. Selling, general and administrative expenses increased $6.1 million to $132.8 million in fiscal 2008 from $126.7 million in fiscal 2007.  Included in selling, general and administrative expenses are two sub-categories: selling and marketing expenses and general and administrative expenses.

Selling and marketing expenses increased $0.9 million to $90.8 million, or 29.0% of net sales, in fiscal 2008 from $89.9 million, or 28.9% of net sales, in fiscal 2007. The increase in selling and marketing expenses was primarily the result of an increase in marketing related to new products in yearbooks and personalized family jewelry and an increase in commission expenses related to higher sales of graduation products and military rings, partially offset by a reduction in selling and marketing expenses in retail class rings as a result of cost reduction efforts.

General and administrative expenses in fiscal 2008 were $42.0 million, or 13.4% of net sales, as compared to $36.8 million, or 11.9% of net sales, in fiscal 2007. The $5.2 million increase in general and administrative expenses was primarily the result of:
·   
$2.0 million gain on the sale of the land located at our Austin, Texas facility recognized during fiscal 2007
·   
$1.0 million increase as a result of the acquisition of Powers in April 2007
·   
$0.6 million increase in employee costs including increased headcount, recruiting and relocation expenses
·   
$1.6 million increase in professional fees consulting fees and other expenses

Other Charges. As described in “Significant Developments” above, other charges in fiscal 2007 consist of impairment charges of $4.9 million in our class rings segment related to retail class rings, and $0.4 million related to personalized fashion jewelry included in our other segment.

Operating Income. As a result of the foregoing, operating income was $40.2 million, or 12.8% of net sales for fiscal 2008, as compared with operating income of $39.7 million, or 12.8% of net sales, for fiscal 2007. The class rings segment reported operating income of $7.9 million for fiscal 2008 as compared with operating income of $7.3 million for fiscal 2007. The yearbooks segment reported operating income of $28.0 million for fiscal 2008 as compared with operating income of $25.2 million for fiscal 2007. The graduation products segment reported operating income of $6.5 million for fiscal 2008 as compared with operating income of $6.3 million for fiscal 2007. The other segment reported operating loss of $2.2 million for fiscal 2008 as compared with operating income of $0.9 million for fiscal 2007.

Interest Expense, Net.  For Intermediate Holdings, net interest expense was $32.8 million for fiscal 2008 and $33.5 million for fiscal 2007. The average debt outstanding of Intermediate Holdings for fiscal 2008 and fiscal 2007 was $359 million and $368 million, respectively. The weighted average interest rate on debt outstanding of Intermediate Holdings for both fiscal 2008 and fiscal 2007 was 8.7%.

For AAC, net interest expense was $19.8 million for fiscal 2008 and $22.0 million for fiscal 2007. The average debt outstanding of AAC for fiscal 2008 and fiscal 2007 was $235 million and $256 million, respectively. The weighted average interest rate on debt outstanding of AAC for fiscal 2008 and fiscal 2007 was 7.8% and 8.0%, respectively.

Provision for Income Taxes.  For fiscal 2008 and fiscal 2007, Intermediate Holdings recorded an income tax provision of $3.7 million and $3.9 million, respectively, which represents an effective tax rate of 50% and 63%, respectively. The effective tax rates for fiscal 2008 and 2007 vary from the statutory federal rate due to the impact of state income taxes and the non-deductibility of a portion of our interest on high-yield debt.

For fiscal 2008 and fiscal 2007, AAC recorded an income tax provision of $8.1 million and $8.0 million, respectively, which represents an effective tax rate of 40% and 45%, respectively. The effective tax rates for the fiscal 2008 and 2007 vary from the statutory federal tax rate due to the impact of state income taxes.

Loss from Discontinued Operations.  As described in “Significant Developments,” the results of operations of the achievement publications business are reported as discontinued operations.  Loss from discontinued operations before income taxes for fiscal 2008 and 2007 were $6.4 million and $28.4 million, respectively.  Loss from discontinued operations for fiscal 2007 included impairment charges of $22.8 million related to the achievement publications business.  Loss from discontinued operations for fiscal 2008 included charges of approximately $4.7 million primarily related to the write-off of the remaining carrying value of tangible and intangible assets of the achievement publications segment and approximately $0.7 million related to contract termination and employee severance costs.

The tax benefit from discontinued operations was 143% and 39% for fiscal 2008 and 2007, respectively.  The tax benefit as a percentage of loss from discontinued segment in fiscal 2008 was impacted by a portion of the tax loss related to the shutdown of the achievement publications segment resulting in a permanent difference for tax purposes.



Liquidity and Capital Resources

Operating Activities. Operating activities for AAC provided $51.5 million of cash after servicing $15.1 million in interest payments during fiscal 2009 compared to cash provided of $46.1 million after servicing $18.2 million in interest payments during fiscal 2008. The increase in cash provided by operating activities during fiscal year 2009 compared to fiscal year 2008 at AAC was a result of decreased working capital and lower interest payments. Cash provided by operating activities in fiscal year 2008 was negatively impacted by the losses incurred and higher working capital requirements of the discontinued achievement publications segment.  Operating activities for Intermediate Holdings provided $45.4 million of cash after servicing interest payments of $21.9 million during fiscal 2009 compared to cash provided of $45.5 million after servicing $18.2 million in interest payments during fiscal 2008.  In addition to the items impacting cash flow from operating activities of AAC, cash provided by operating activities in fiscal 2009 for Intermediate Holdings was further impacted by cash interest payments related to the 10.25% Notes.

Operating activities provided $45.5 million and $46.1 million of cash from operating activities for Intermediate Holdings and AAC, respectively, during fiscal 2008 after servicing $18.2 million in interest payments compared to $28.1 million of cash from operating activities during fiscal 2007 after servicing $21.0 million in interest payments. Cash provided by operating activities was higher in fiscal 2008 due to lower interest payments and lower use of working capital in fiscal 2008 compared to fiscal 2007 primarily as a result of lower inventories and partially due to the extra week in fiscal 2008.  Additionally, cash provided by operating activities in fiscal 2007 was negatively impacted by significantly poor earnings of the achievement publications segment.

Investing Activities.  Capital expenditures in fiscal 2009, fiscal 2008 and fiscal 2007 were $5.9 million, $12.6 million and $10.6 million, respectively. The majority of capital expenditures in fiscal 2009 were attributable to information technology and manufacturing assets.  The majority of capital expenditures in fiscal 2008 were primarily attributable to purchases of new printing presses, equipment, information technology and infrastructure. The majority of capital expenditures in fiscal 2007 were attributable to acquisition and implementation of information technology systems and fully integrating digital technology throughout our yearbook production process.

Our projected capital expenditures for fiscal 2010 are expected to be approximately $9.0 million.  Projected capital expenditures for fiscal 2010 are higher than fiscal 2009 expenditures mainly due to expected capitalized software development costs.

In fiscal 2007 there was an additional outflow from investing activities of $5.9 million for the acquisition of Powers and an additional inflow from investing activities of $4.7 million in net proceeds from the sale of land located at our Austin, Texas facility.

Financing Activities.  In fiscal 2009, cash was used to pay down $28.7 million of the term loan, of which $2.8 million were mandatory payments. During fiscal 2009, AAC paid $6.7 million related to an interest payment on the 10.25% senior discount notes of Intermediate Holdings which is reflected as a cash distribution to Intermediate Holdings.  Additionally, during fiscal 2009, we made a cash distribution of $8.3 million to Parent Holdings in connection with the repurchase of Parent Holdings Notes, as previously discussed in “Significant Developments.”

In fiscal 2008, cash was used to pay down $11.6 million of the term loan, of which $1.1 million were mandatory payments. In addition, net revolver payments were made of $7.8 million.

In fiscal 2007, cash was used to pay down $19.4 million of the term loan, of which $1.9 million were mandatory payments. In addition, net revolver payments were made of $1.5 million.

Capital Resources. We expect that cash generated from operating activities and availability under our senior secured credit facility will be our principal sources of liquidity. Due to the current unfavorable economic environment, we expect continued softness in sales into next year.  We expect our productivity initiatives and cost containment measures to partially offset the impact of lower sales on our operating income. Most of our net operating loss carryforward will be utilized by the end of fiscal year 2010; therefore, we expect higher future cash outflows for income taxes.  Based on our current and planned level of operations, we believe our cash flow from operations, available cash on hand and available borrowings under the senior secured credit facility will be adequate to meet our liquidity needs for at least the next twelve months.



We have a significant amount of indebtedness. On August 29, 2009, Intermediate Holdings had total indebtedness of $328.3 million, of which $131.5 million was 10.25% senior discount notes, $150.0 million was 8.25% senior subordinated notes and $46.8 million was indebtedness under the existing senior secured credit facility. Certain provisions of these financing arrangements are described below. We are currently in compliance with financial covenants in all of the agreements governing our outstanding indebtedness.

Senior Secured Credit Facility

The Second Amendment to the Amended Senior Credit Facility modified the availability under the existing revolving facility from $40 million to $25 million, extended the term though March 25, 2011 and increased the base interest rate and applicable margin on our outstanding term loan effective May 20, 2009.  The Second Amendment to the Amended Senior Credit Facility also permits AAC to make distributions to Intermediate Holdings and Parent Holdings in an aggregate amount not to exceed $15 million to repurchase indebtedness and to pay related fees and expenses.  As of August 29, 2009, $8.3 million of such distributions had been made by the AAC, as previously discussed in “Significant Developments.”

As of August 29, 2009, $46.8 million was outstanding on the term loan.  The interest rate on the term loan was 6.25% at August 29, 2009.  As of August 29, 2009, there was no borrowing outstanding on the revolving loan and we have $23 million in available revolving loan borrowings under this agreement.  We had commitments for $2 million on letters of credit outstanding.

The Amended Senior Credit Facility imposes certain restrictions on AAC, including restrictions on its ability to incur indebtedness, pay dividends, make investments, grant liens, sell assets and engage in certain other activities. In addition, the Amended Senior Credit Facility contains financial covenants and maintenance tests, including a minimum interest coverage test and a maximum total leverage test, and restrictive covenants, including restrictions on its ability to make capital expenditures. The Amended Senior Credit Facility is secured by substantially all of the assets of AAC, is guaranteed by and secured by the assets of its existing and future domestic subsidiaries, if any, and by a pledge of all of the capital stock of its existing and future domestic subsidiaries, if any. The Amended Senior Credit Facility is also guaranteed by AAC Holding Corp.

8.25% Senior Subordinated Notes

AAC is required to pay cash interest on the $150 million outstanding of 8.25% notes semi-annually in arrears on April 1 and October 1 of each year. The 8.25% notes have no scheduled amortization and mature on April 1, 2012. The indenture governing the 8.25% notes contains certain restrictions on AAC, including restrictions on its ability to incur indebtedness, pay dividends, make investments, grant liens, sell its assets and engage in certain other activities. The 8.25% notes are guaranteed by AAC’s existing and future domestic subsidiaries.

10.25% Senior Discount Notes

Interest accrued on the 10.25% senior discount notes in the form of an increase in the accreted value of the notes from $89.3 million at issuance in November 2004 to $131.5 million at October 1, 2008. Thereafter, cash interest on the 10.25% senior discount notes accrues and is payable semiannually in arrears on April 1 and October 1 of each year, at a rate of 10.25% per annum.  The initial interest payment of $6.7 million was made on April 1, 2009.  This payment was funded by AAC, and was accounted for as a capital distribution from AAC and reflected as a reduction of AAC’s accumulated earnings.  Interest payments in fiscal year 2010 are also expected to be funded by AAC.

The notes are Intermediate Holdings’ unsecured obligation and rank equally with all of its future senior obligations and senior to its future subordinated indebtedness. The 10.25% notes are effectively subordinated to Intermediate Holdings’ future secured indebtedness to the extent of the assets securing that indebtedness and are structurally subordinated to all indebtedness and other obligations of Intermediate Holdings’ subsidiaries, including AAC.



Parent Obligations

At August 29, 2009, Parent Holdings had indebtedness in addition to the indebtedness at Intermediate Holdings and AAC of $55.4 million, of which $47.9 million consisted of the Parent Holdings Notes and $7.5 million consisted of mandatory redeemable series A preferred stock of Parent Holdings.

Interest accrues on the Parent Holdings Notes at 16.75% per annum.  Through April 2011, interest on such notes is payable in the form of additional notes semi-annually in arrears on April 1 and October 1 of each year.  On October 1, 2011 and thereafter, interest will be payable in cash semi-annually in arrears on April 1 and October 1 of each year.  The Parent Holdings Notes mature on October 1, 2012.  At maturity, Parent Holdings is required to repay the notes at a repayment price of 103.188% of the aggregate principal amount thereof, plus accrued and unpaid interest through the maturity date.   If Parent Holdings is unable to refinance its obligations to pay interest in cash on the Parent Holdings Notes and to repay the Parent Holdings Notes upon maturity, such obligations will be funded with cash from AAC.  Currently, the terms of the 10.25% Notes, the 8.25% Notes and the Amended Senior Credit Facility place certain limitations on the ability of AAC to distribute cash to Parent Holdings.  Under the terms of the Amended Senior Credit Facility, AAC may only make dividend payments to Parent Holdings up to an aggregate amount of $15.0 million to repay, redeem or repurchase of indebtedness of Parent Holdings and Intermediate Holdings, of which amount $8.3 million has been paid to Parent Holdings as of August 29, 2009.

The Parent Holdings Notes are Parent Holdings’ unsecured obligation and rank equally with all of its future senior obligations and senior to its future subordinated indebtedness. The notes are effectively subordinated to Parent Holdings’ future secured indebtedness to the extent of the assets securing that indebtedness and are structurally subordinated to all indebtedness and other obligations of Parent Holdings’ subsidiaries, including Intermediate Holdings and AAC.

The holders of the mandatory redeemable series A preferred stock of Parent Holdings are entitled to receive cumulative dividends at a rate of 14% per annum, when, as and if declared by the board of directors of Parent Holdings.  The redemption obligation for the mandatory redeemable series A preferred stock of Parent Holdings matures in January 2013. Accumulated undeclared dividends at August 29, 2009 totaled $4.8 million.
 
Off Balance-Sheet Obligations

Gold Consignment Agreement.  On March 4, 2009, we received notice from The Bank of Nova Scotia electing to terminate the First Amended and Restated Agreement for Fee Consignment and Purchase of Gold dated March 25, 2004.  The termination was pursuant to a provision in the agreement allowing either party to terminate the agreement upon 60 days written notice without cause.  The termination was effective May 5, 2009.  We do not anticipate replacing the consignment agreement at this time and instead may use availability under our revolving credit facility to finance purchases of gold going forward.

Letters of Credit.  We had commitments for $2.0 million and $2.1 million on letters of credit outstanding as of August 29, 2009, and August 30, 2008, respectively.



Contractual Obligations

As of August 29, 2009, the due dates and amounts of our contractual obligations are as follows (in thousands):

   
Fiscal
   
Fiscal
   
Fiscal
   
Fiscal
   
Fiscal
             
   
2010
   
2011
   
2012
   
2013
   
2014
   
Thereafter
   
Total
 
10.25% Notes (principal)
   $ -      $ -      $ -      $ 131,500      $ -      $ -      $ 131,500  
8.25% Senior Subordinated Debt (principal)
            -       150,000       -