-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Bjr51pt6DzVqB+nC2pNqF1HnsKT8jim3f1pgNoqus0zrrozMZMwxdzq+xgqAD3GZ Sr1pNPIuFg5KTiQaDE3XOA== 0000947871-99-000269.txt : 19990630 0000947871-99-000269.hdr.sgml : 19990630 ACCESSION NUMBER: 0000947871-99-000269 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19990331 FILED AS OF DATE: 19990629 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ACG HOLDINGS INC CENTRAL INDEX KEY: 0000856710 STANDARD INDUSTRIAL CLASSIFICATION: COMMERCIAL PRINTING [2750] IRS NUMBER: 621395968 STATE OF INCORPORATION: DE FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 033-97090-01 FILM NUMBER: 99654893 BUSINESS ADDRESS: STREET 1: 225 HIGH RIDGE RD CITY: STAMFORD STATE: CT ZIP: 06905 BUSINESS PHONE: 6153770377 MAIL ADDRESS: STREET 1: 100 WINNERS CIRCLE CITY: BRENTWOOD STATE: TN ZIP: 37027 FORMER COMPANY: FORMER CONFORMED NAME: SULLIVAN HOLDINGS INC DATE OF NAME CHANGE: 19920703 FILER: COMPANY DATA: COMPANY CONFORMED NAME: AMERICAN COLOR GRAPHICS INC CENTRAL INDEX KEY: 0000856709 STANDARD INDUSTRIAL CLASSIFICATION: COMMERCIAL PRINTING [2750] IRS NUMBER: 161003976 STATE OF INCORPORATION: NY FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 033-97090 FILM NUMBER: 99654894 BUSINESS ADDRESS: STREET 1: 100 WINNERS CIRCLE CITY: BRENTWOOD STATE: TN ZIP: 37027 BUSINESS PHONE: 6153770377 MAIL ADDRESS: STREET 1: 100 WINNERS CIRCLE CITY: BRENTWOOD STATE: TN ZIP: 37027 10-K 1 FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (Mark One) [X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended March 31, 1999 or [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ___________ to ____________ Commission file number 33-97090 ACG HOLDINGS, INC. (Exact name of registrant as specified in its charter) Delaware 62-1395968 (State or other jurisdiction of (I.R.S. employer identification incorporation or organization) number) 100 Winners Circle Brentwood, Tennessee 37027 (615) 377-0377 (Address, including zip code, and telephone number, including area code, of registrant's principal executive offices) AMERICAN COLOR GRAPHICS, INC. (Exact name of registrant as specified in its charter) New York 16-1003976 (State or other jurisdiction of (I.R.S. employer identification incorporation or organization) number) 100 Winners Circle Brentwood, Tennessee 37027 (615) 377-0377 (Address, including zip code, and telephone number, including area code, of registrant's principal executive offices) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark 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. X Aggregate market value of the voting and non-voting common stock of ACG Holdings, Inc. held by non-affiliates: Not applicable. ACG Holdings, Inc. has 134,250 shares outstanding of its common stock, $.01 Par Value, as of June 17, 1999 (all of which are privately owned and not traded on a public market). DOCUMENTS INCORPORATED BY REFERENCE None INDEX Page Referenced Form 10-K ---------- PART I Item 1. Business........................................................ 2 Item 2. Properties...................................................... 7 Item 3. Legal Proceedings............................................... 8 Item 4. Submission of Matters to A Vote of Security Holders............. 8 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters ........................................................ 9 Item 6. Selected Financial Data......................................... 9 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations........................................... 13 Item 7A. Quantitative and Qualitative Disclosures About Market Risk...... 24 Item 8. Financial Statements and Supplementary Data..................... 25 Item 9. Changes In And Disagreements With Accountants on Accounting and Financial Disclosure............................................ 54 PART III Item 10. Directors and Executive Officers ............................... 55 Item 11. Executive Compensation ......................................... 56 Item 12. Security Ownership of Certain Beneficial Owners and Management.. 61 Item 13. Certain Relationships and Related Transactions.................. 62 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K ...................................................... 64 Signatures..................................................... 74 PART I Special Note Regarding Forward Looking Statements This Annual Report on Form 10-K (this "Report") contains forward-looking statements within the meaning of Section 21E of the Securities Act of 1934. Discussions containing such forward-looking statements may be found in Items 1, 3, 7 and 7A hereof, as well as within this Report generally. In addition, when used in this Report, the words "believes," "anticipates," "expects" and similar expressions are intended to identify forward-looking statements. Forward-looking statements include without limitation, our expectation as to when we will complete the remediation and testing phases of our Year 2000 program, as well as, any Year 2000 contingency plans, our estimated cost of achieving Year 2000 readiness and our belief that internal systems and equipment will be Year 2000 compliant in a timely manner. Forward-looking statements are subject to a number of risks and uncertainties. Actual results in the future could differ materially from those described in the forward-looking statements as a result of many factors outside the control of ACG Holdings, Inc. ("Holdings") formerly Sullivan Communications, Inc. ("Communications"), together with its wholly-owned subsidiary, American Color Graphics, Inc. ("Graphics") formerly Sullivan Graphics, Inc., including, but not limited to: - fluctuations in the cost of paper and other raw materials used, - changes in the advertising and printing markets, - actions by our competitors particularly with respect to pricing, - the financial condition of our customers, - our financial condition and liquidity, - the general condition of the United States economy, - demand for our products and services, - the availability of qualified personnel and other information technology resources, - the ability to identify and remediate all date sensitive lines of computer code, - the ability to replace embedded computer chips in systems affected by Year 2000 issues, - the actions of government agencies or other third parties with respect to Year 2000 issues, and - the matters set forth in this Report generally. Consequently, such forward-looking statements should be regarded solely as our current plans, estimates and beliefs. We do not undertake and specifically decline any obligation to publicly release the results of any revisions to these forward-looking statements that may be made to reflect any future events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. ITEM 1. BUSINESS General We are a successor to a business that commenced operations in 1926, and are one of the largest national diversified commercial printers in North America with ten printing plants in eight states and Canada, ten prepress facilities located throughout the United States and one digital visual effects facility, that provides special effects services for the motion picture industry, located in California. We operate primarily in two business segments of the commercial printing industry: printing (which accounted for approximately 83% of total sales during the fiscal year ended March 31, 1999 ("Fiscal Year 1999")) and digital imaging and prepress services conducted through our American Color division (which accounted for approximately 16% of total sales in Fiscal Year 1999). Our printing business and American Color division are both headquartered in Nashville, Tennessee. Partnerships affiliated with Morgan Stanley Dean Witter & Co. ("MSDW") currently own 61.7% of the outstanding common stock and 72.7% of the outstanding preferred stock of Holdings. Market data used throughout this Report was obtained from industry publications and internal company estimates. While we believe such information is reliable, the accuracy of such information has not been independently verified and cannot be guaranteed. Financial Information About Industry Segments See disclosure in note 17 of our consolidated financial statements appearing elsewhere in this Report. 2 Printing Our printing business, which accounted for approximately 83%, 84% and 86% of our sales in the fiscal year ended March 31, 1999 (Fiscal Year 1999), the fiscal year ended March 31, 1998 ("Fiscal Year 1998") and the fiscal year ended March 31, 1997 ("Fiscal Year 1997"), respectively, produces retail advertising inserts, comics (newspaper Sunday comics, comic insert advertising and comic books), and other publications. Retail Advertising Inserts (81% of printing sales in Fiscal Year 1999 and 80% in Fiscal Year 1998 and Fiscal Year 1997). We believe that we are one of the largest printers of retail advertising inserts in the United States. We printed advertising inserts for approximately 300 retailers in Fiscal Year 1999. Retail advertising inserts are preprinted advertisements, generally in color, that display products sold by a particular retailer or manufacturer. Advertising inserts are used extensively by many different retailers, including discount, department, supermarket, home center, drug and automotive stores. Inserts are an important and cost effective means of advertising for these merchants. Advertising inserts are primarily distributed through insertion in newspapers but are also distributed by direct mail or in-store by retailers. They generally advertise for a specific, limited sale period. As a result, advertising inserts are both time sensitive and seasonal. Comics (13% of printing sales in Fiscal Year 1999, 14% in Fiscal Year 1998 and Fiscal Year 1997, includes newspaper Sunday comics, comic insert advertising and comic books). We believe that we are one of the largest printers of comics in the United States. We print Sunday comics for over 300 newspapers in the United States and Canada and print a significant share of the annual comic book requirements of Marvel Entertainment Group, Inc. Other Publications (6% of printing sales in Fiscal Year 1999, Fiscal Year 1998 and Fiscal Year 1997). We print local newspapers, TV guide listings and other publications. In January 1998, we approved a plan for our printing division which was designed to improve responsiveness to customer requirements, increase asset utilization and reduce overhead costs. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Restructuring Costs and Other Special Charges" and note 14 to our consolidated financial statements appearing elsewhere in this Report. Printing Production Our network of ten printing plants in the United States and Canada is strategically positioned to service major metropolitan centers and provide us with distribution efficiencies and shorter turnaround times, two factors instrumental in continuing our success in servicing large national and regional accounts. There are three printing processes used to produce advertising insert and newspaper supplements: offset lithography (heatset and cold), rotogravure and flexography. We principally use heatset offset and flexographic web printing equipment in our printing operations. We own a substantial majority of our printing equipment, which currently consists of 36 heatset offset presses, 5 coldset offset presses and 11 flexographic presses. Most of our advertising inserts and all of our other publications and comic books are printed using the offset process, while some advertising inserts and substantially all of our newspaper Sunday comics and comic advertising inserts are printed using the flexographic process. In the heatset offset process, images are distinguished chemically from non-image areas of a metal plate and transferred from the plate to a rubber blanket and then to the paper surface. The printed web goes through an oven which dries the solvents from the ink, thereby setting the ink on the paper. In the cold offset process, inks are set by the absorption of solvents into the paper. Because the heatset offset process can be utilized on a wide variety of papers and produce sharper reproductions, heatset offset presses provide a more colorful and attractive product than cold offset presses. The flexographic process differs from offset printing in that it utilizes raised image plates and rapid-drying, water-based (as opposed to solvent-based) inks. The flexographic image area results from application of ink to the raised surface on the plate, which is transferred directly to the paper surface. Our flexographic printing generally provides vibrant color reproduction at a lower cost than heatset offset printing. The strengths of flexography compared with the rotogravure and offset processes are faster press set up times, brighter colors, reduced paper waste, reduced energy use and maintenance costs, and environmental advantages due to the use of water-based inks. Faster press set up times make the process particularly attractive to commercial customers with shorter runs and extensive regional versioning. 3 In addition to advertising insert capacity, certain equipment parameters are critical to competing in the advertising insert market, including cut-off length, folding capabilities and in-line finishing. Cut-off length is one of the determinants of the size of the printed page. Folding capabilities for advertising inserts must include a wide variety of page sizes, page counts and special paper folding effects. Finally, many advertising inserts require gluing or stitching of the product, adding cards, trimming and numbering. These production activities generally are done in-line with the press to meet the expedited delivery schedules and pricing required by many customers. We believe that our mix and configuration of presses and press services allows for efficient tailoring of printing services to customers' product needs. Digital Imaging and Prepress Services Our digital imaging and prepress services business is conducted by our American Color division ("American Color") which accounted for approximately 16%, 15%, and 14% of our Fiscal Year 1999, Fiscal Year 1998 and Fiscal Year 1997 sales, respectively. We believe American Color is one of the largest full-service providers of digital imaging, prepress and color separation services in the United States and a technological leader in its industry. American Color commenced operations in 1975 and maintains ten full service locations nationwide. American Color assists its customers in the capture, manipulation, transmission and distribution of images. The majority of this work leads to the production of four-color separations in a format appropriate for use by printers. American Color makes page changes, including typesetting, and combines digital page layout information with electronically captured and color-corrected four-color images. From these digital files, proofs, final corrections and, finally, four-color films or digital output are produced for each advertising or editorial page. The final four-color films or digital output enable printers to prepare plates for each color resulting in the appearance of full color in the printed page. American Color's revenue from these traditional services is being supplemented by new revenue sources from electronic prepress services such as digital image storage, facilities management (operating digital imaging and prepress service facilities at a customer location), computer-to-plate services, creative services, consulting and training services, multimedia and internet services, and software and data-base management. American Color has been a leader in implementing these new technologies, enabling it to reduce unit costs and effectively service the increasingly complex demands of its customers more quickly than many of its competitors. American Color has also been one of the leaders in the integration of electronic page make-up, microcomputer-based design and layout, and digital cameras into prepress production. The digital imaging and prepress services industry is highly fragmented, primarily consisting of smaller local and regional companies, with only a few national full-service digital imaging and prepress companies such as American Color, none of which has a significant nationwide market share. Many smaller digital imaging and prepress companies have left the industry in recent years due to their inability to keep pace with technological advances in the industry. In March 1999, we approved a plan for our American Color division designed to primarily: 1) Consolidate certain facilities in order to improve asset utilization and operational efficiency; 2) Modify the organizational structure as a result of facility consolidation and other changes; and 3) Reduce overhead and other costs. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Restructuring Costs and Other Special Charges" and note 14 to our consolidated financial statements appearing elsewhere in this Report. Competitive Advantages and Strategy Competitive Advantages. We believe that we have the following competitive advantages in our printing and digital imaging and prepress services businesses: Modern Equipment. We believe that our web heatset offset and flexographic web printing equipment is among the most advanced in the industry and that the average age of our equipment is significantly less than the majority of our regional competitors and is comparable to our major national competitors. We are also committed to a comprehensive, long-term maintenance program, which enhances the reliability and extends the life of our presses and other production equipment. We also believe that our digital imaging and prepress equipment is significantly more advanced than many of our smaller regional competitors, many of whom have not incorporated digital prepress technologies and computer-to-plate services to the same extent as we have, nor adopted an open systems environment which allows greater flexibility and more efficient maintenance. 4 Strong Customer Base. We provide printing services to a diverse base of customers, including approximately 300 retailers and over 300 newspapers in the United States and Canada. Our printing services customer base includes a significant number of the major national retailers and larger newspaper chains as well as numerous smaller regional retailers. Our consistent focus on providing high quality printing products and strong customer service at competitive prices has resulted in long-term relationships with many of these customers. American Color's customer base includes large and medium-sized customers in the publishing, retail and catalog businesses, many of whom also have long-term relationships with us. Although the digital imaging and prepress services business has generally been on a spot bid basis in the past, we have been successful in continuing to increase the proportion of our business under long-term contracts. Competitive Cost Structure. We have reduced the variable and fixed costs of production at our printing facilities over the past several years and believe we are well positioned to maintain our competitive cost structure in the future due to economies of scale. We have also reduced both labor and material costs (the principal variable production costs) in our digital imaging and prepress services business primarily through the adoption of new digital prepress production methodologies. Strong Management Team. We have strengthened our printing management group by hiring experienced managers with a clear focus on growth, quality and continued cost reduction, resulting in an improved cost structure and a well-defined strategy for future expansion. We have also strengthened our management group in our digital imaging and prepress services business, filling a number of senior, regional and plant management positions with individuals who we believe will manage the digital imaging and prepress services business for growth and profitability and will continue to upgrade our capabilities. National Presence. Our nine printing plants in the United States and one plant in Canada provide us with distribution efficiencies, strong customer service, flexibility and short turnaround times, all of which are instrumental in our continued success in servicing our large national and regional retail accounts. Our expanded sales and marketing groups provide greater customer coverage and enable us to more successfully penetrate regional markets. We believe that our ten digital imaging and prepress facilities provide us with contingency capabilities, increased capacity during peak periods, access to top quality internal technical personnel throughout the country, short turnaround time and other customer service advantages. Strategy. Our objective is to increase shareholder value by growing our revenues, increasing our market share and reducing costs. Our strategy to achieve this objective is as follows: Grow Unit Volume. Management believes that our level of national sales coverage, when coupled with our significant industry experience and customer-focused sales force, will result in unit growth. In an effort to stimulate unit volume growth, we have strengthened our printing sales group. Unit volume growth is also expected to result from continued capital expansion and selective printing acquisitions. In addition, in our digital imaging and prepress services business, we have strengthened our sales force, provided expanded training and, more closely focused our marketing efforts on new, larger customers. Continue to Improve Product Mix. We intend to increase our share of the retail advertising insert market. In addition, we expect to continue to adjust the mix of our customers and products within the retail advertising insert market to those that are more profitable and less seasonable and to maximize the use of our equipment. We are also continuing expansion of our printing facilities' capabilities for in-plant prepress and postpress services. Our digital imaging and prepress services business will continue to focus on high value-added new business opportunities, particularly large-scale projects that will best utilize the breadth of services and technologies we have to offer. Additionally, we will continue to pursue large facilities management opportunities as well as national and large regional customers that require more sophisticated levels of service and technologies. Continue to Reduce Manufacturing Costs and Improve Quality. We intend to further reduce our production costs at our printing facilities through our Total Quality Management Process, an ongoing cost reduction and continuous quality improvement process. Additionally, we plan to continue to maximize scale advantages in the purchasing, technology and engineering areas. We also intend to continue to gain variable cost efficiencies in our digital imaging and prepress services business by using our technical resources to improve digital prepress workflows at our various facilities. In addition, we believe we will be able to reduce our per unit technical, sales and management costs as we increase sales in this business. 5 Continue to Make Opportunistic Acquisitions. An integral part of our long-term growth strategy includes a plan to selectively assess and acquire other printing and digital imaging and prepress services companies that we believe will enhance our leadership position in these industries. Customers and Distribution Customers. We sell our printing products and services to a large number of customers, primarily retailers and newspapers, and all of the products are produced in accordance with customer specifications. We perform a portion of our printing work, primarily the printing of Sunday comics and comic books, under long-term contracts with our customers. The contracts vary in length and many of the contracts automatically extend for one year unless there has been notice to the contrary from either of the contracting parties within a certain number of days before the end of any term. For the balance of our printing work, we obtain varying time commitments from our customers ranging from job to job to annual allocations. Printing prices are generally fixed during such commitments; however, our standard terms of trade call for the pass-through of changes in the cost of raw materials, primarily paper and ink. American Color's customers consist of magazine and newspaper publishers, retailers, catalog sales organizations, printers, consumer products companies, advertising agencies and direct mail advertisers. Its customers typically have a need for high levels of technical expertise, short turnaround times and responsive customer service. In addition to its historical regional customer base, American Color is increasingly focused on larger, national accounts that have a need for a broad range of fully integrated services and communication capabilities requiring leading edge technology. This trend has resulted in an increasing amount of contractual business related to facilities management arrangements with customers over the past several years. These contracts typically extend from three to five years in length. The printing and American Color divisions have historically had certain common customers and their ability to cross-market is an increasingly valuable tool as computer-to-plate, regional versioning, electronic digital imaging, facilities management and speed to market become more important to their customers. This enables us to provide more comprehensive solutions to customers' digital imaging and prepress and printing needs. No single customer accounted for sales in excess of 10% of our consolidated sales in Fiscal Year 1999. Our top ten customers accounted for approximately 34% of consolidated sales in Fiscal Year 1999. Distribution. We distribute our printing products primarily by truck to customer designated locations, primarily newspapers. Costs of distribution are generally paid by the customers, and most shipping is by common carrier. American Color generally distributes its products via electronic transmission, overnight express, or other methods of personal delivery or by courier. Competition Commercial printing in the United States is a large, highly fragmented, capital-intensive industry and we compete with numerous national, regional and local printers. A trend of industry consolidation in recent years can be attributed to (1) customer preferences for larger printers with a greater range of services, (2) capital requirements and (3) competitive pricing pressures. We believe that competition in the printing business is based primarily on quality and service at a competitive price. American Color competes with numerous digital imaging and prepress service firms on both a national and regional basis. The industry is highly fragmented, primarily consisting of smaller local and regional companies, with only a few national full-service digital imaging and prepress companies such as American Color, none of which has a significant nationwide market share. Many smaller digital imaging and prepress companies have left the industry in recent years due to their 6 inability to keep pace with the technological advances required to service increasingly complex customer demands. We believe that the digital imaging and prepress services sector will continue to be subject to high levels of ongoing technological change and the need for capital expenditures to keep up with such change. Raw Materials The primary raw materials used in our printing business are paper and ink. We purchase substantially all of our ink and related products under long-term ink supply contracts. Throughout Fiscal Year 1997, the overall cost of paper declined. During Fiscal Year 1998, paper prices increased slightly through mid year and then declined to near beginning of the year levels. In Fiscal Year 1999, as most grades of paper became more plentiful, paper prices declined. Management expects that, as a result of our strong relationships with key suppliers, our material costs will remain competitive within the industry. In accordance with industry practice, we generally pass through increases in the cost of paper to customers in the costs of our printed products, while decreases in paper costs generally result in lower prices to customers. The primary inputs in prepress service processes are film and proofing materials. In both of our business segments, there is an adequate supply of the necessary materials available from multiple vendors. We are not dependent on any single supplier and have had no significant problems in the past obtaining necessary raw materials. Seasonality Some of our printing and digital imaging and prepress services business is seasonal in nature, particularly those revenues derived from advertising inserts. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Seasonality" appearing elsewhere in this Report. Backlog Because our printing, digital imaging and prepress services products are required to be delivered soon after final customer orders are received, we do not experience any backlog of unfilled customer orders. Employees As of May 31, 1999, we had a total of approximately 2,760 employees, of which approximately 220 employees are represented by a collective bargaining agreement that will expire on December 31, 2004. We consider our relations with our employees to be excellent. Governmental and Environmental Regulations We are subject to regulation under various federal, state and local laws relating to employee safety and health, and to the generation, storage, transportation, disposal and emission into the environment of hazardous substances. We believe that we are in material compliance with such laws and regulations. Although compliance with such laws and regulations in the future is likely to entail additional capital expenditures, we do not anticipate that such expenditures will be material. See "Legal Proceedings Environmental Matters" appearing elsewhere in this Report. 7 ITEM 2. PROPERTIES We operate in 21 locations in 14 states and Canada. We own seven printing plants in the United States and one in Canada and lease two printing plants, one in California and one in Pennsylvania. The American Color division has ten production locations, all of which are leased by American Color. The American Color division also operates digital imaging and prepress facilities on the premises of several of its customers ("facilities management"). In addition, we maintain one small executive office in Connecticut, a digital visual effects facility in California and our headquarter facility in Nashville, Tennessee, all of which are leased. We believe that our plants and facilities are adequately equipped and maintained for present and planned operations. ITEM 3. LEGAL PROCEEDINGS We have been named as a defendant in several legal actions arising from our normal business activities. In the opinion of management, any liabilities that may arise from such actions will not, individually or in the aggregate, have a material adverse effect on our financial condition or results of operations. Environmental Matters Graphics, together with over 300 other persons, has been designated by the U.S. Environmental Protection Agency as a potentially responsible party (a "PRP") under the Comprehensive Environmental Response Compensation and Liability Act ("CERCLA," also known as "Superfund") at one Superfund site. Although liability under CERCLA may be imposed on a joint and several basis and our ultimate liability is not precisely determinable, the PRPs have agreed that Graphics' share of removal costs is approximately 0.46% and therefore Graphics believes that its share of the anticipated remediation costs at such site will not be material to its business or financial condition. Based upon an analysis of Graphics' volumetric share of waste contributed to the site and the agreement among the PRPs, we maintain a reserve of approximately $0.1 million in connection with this liability on our consolidated balance sheet at March 31, 1999. We believe this amount is adequate to cover such liability. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 8 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Market Information There is no established public market for the common stock of either Holdings or Graphics. Holders As of June 2, 1999, there were approximately 93 record holders of Holdings' common stock. Holdings is the sole shareholder of Graphics' common stock. Dividends There have been no cash dividends declared on any class of common equity for the two most recent fiscal years. See restrictions on Holdings' ability to pay dividends and Graphics' ability to transfer funds to Holdings in note 1 to our consolidated financial statements appearing elsewhere in this Report. Recent Sales of Unregistered Securities During the fourth quarter of Fiscal Year 1998, certain officers exercised options to purchase an aggregate of 8,254 shares of Holdings' common stock for $.01/share. The securities that were sold were exempt from registration on the basis that all such officers are "accredited investors" within the meaning of the Securities Act of 1933. ITEM 6. SELECTED FINANCIAL DATA Set forth below is selected financial data for and as of the fiscal years ended March 31, 1999, 1998, 1997, 1996 and 1995. The balance sheet data as of March 31, 1999, 1998, 1997, 1996 and 1995 and the statement of operations data for the fiscal years ended March 31, 1999, 1998, 1997, 1996 and 1995 are derived from the audited consolidated financial statements for such periods and at such dates. The selected financial data below also reflects our discontinued wholly-owned subsidiary, Sullivan Media Corporation ("SMC") and our coupon free standing insert ("FSI") operation previously conducted by our discontinued wholly-owned subsidiary Sullivan Marketing, Inc. ("SMI"). See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Discontinued Operations" and note 2 of our consolidated financial statements appearing elsewhere in this Report. This data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our consolidated financial statements appearing elsewhere in this Report. 9 Selected Financial Data ACG Holdings, Inc.
Fiscal Year Ended March 31, --------------------------------------------------------- 1999 1998 1997 1996 1995(a) --------------------------------------------------------- (dollars in thousands) Statement of Operations Data: Sales $ 520,343 533,335 524,551 529,523 433,198 Cost of Sales 439,091 461,407 459,880 465,110 370,267 --------- --------- --------- --------- --------- Gross Profit 81,252 71,928 64,671 64,413 62,931 Selling, general and administrative expenses (b) 46,333 54,227 51,418 44,164 41,792 Restructuring costs and other special charges (c) 5,464 5,598 2,881 7,533 -- Gain from curtailment and establishment of defined benefit pension plans, net (d) -- -- -- -- (3,311) --------- -------- -------- -------- -------- Operating income 29,455 12,103 10,372 12,716 24,450 Interest expense, net 36,077 38,813 36,132 32,425 25,334 Other expense 1,217 412 245 1,722 985 Income tax expense 523 2,106 2,591 4,874 2,552 --------- -------- -------- -------- -------- Loss from continuing operations before extraordinary items (8,362) (29,228) (28,596) (26,305) (4,421) --------- -------- -------- -------- -------- Discontinued operations: (e) Loss from operations, net of tax -- -- (1,557) (1,364) (912) Estimated (loss) on shut down and gain on settlement, net of tax -- (667) (1,550) 2,868 18,495 Extraordinary loss on early extinguishment of debt(f) (4,106) -- -- (4,526) -- --------- -------- -------- -------- -------- Net (loss) income $ (12,468) (29,895) (31,703) (29,327) 13,162 ========= ======== ======== ========= ======== Balance Sheet Data (at end of period): Cash and cash equivalents $ 0 0 0 0 4,635 Working capital (deficit) $ (5,451) 11,610 (8,598) 9,612 4,958 Total assets $ 299,000 329,958 333,975 351,181 328,368 Long-term debt and capitalized leases, including current installments (g) $ 289,589 319,657 312,309 297,617 258,201 Stockholders' deficit $(119,306) (106,085) (76,318) (44,396) (14,970) Other Data: Net cash provided (used) by operating activities $ 48,137 18,257 24,313 (4,187) 30,510 Net cash used by investing activities $ (10,364) (10,100) (10,997) (24,436) (17,580) Net cash (used) provided by financing activities $ (37,812) (8,143) (13,312) 23,982 (17,527) Capital expenditures (including lease obligations entered into) $ 16,238 23,713 37,767 28,022 20,415 EBITDA (h) $ 64,286 52,367 46,972 46,847 51,719
10 NOTES TO SELECTED FINANCIAL DATA (a) On August 15, 1995, Shakopee Valley Printing, Inc. ("Shakopee") was merged with and into Graphics (the "Shakopee Merger"). The merger has been accounted for as a combination of entities under common control (similar to a pooling-of-interests), and accordingly, the consolidated financial statements give retroactive effect to the Shakopee Merger and include the combined operations of Holdings and Shakopee subsequent to December 22, 1994 (the date on which Shakopee became under our common control). Shakopee's financial results are not reflected in periods prior to December 22, 1994 as these periods were prior to common control ownership. (b) Fiscal Year 1998 selling, general and administrative expense includes $1.5 million of non-recurring American Color charges associated with the relocation of American Color's corporate office and various severance related expenses and $0.6 million of non-cash charges associated with an employee benefit program. Fiscal Year 1997 selling, general and administrative expense includes $2.5 million of non-recurring employee termination expenses. See note 15 to our consolidated financial statements appearing elsewhere in this Report. (c) In March 1999, we approved a restructuring plan for our American Color division, which was designed to consolidate certain facilities in order to improve asset utilization and operational efficiency, modify the organizational structure as a result of facility consolidation and other changes and reduce overhead and other costs. We recorded $4.6 million of costs under this plan in Fiscal Year 1999. In January 1998, we approved a restructuring plan for our printing division designed to improve responsiveness to customer requirements, increase asset utilization and reduce overhead costs. We recorded $3.9 million of costs under this plan in Fiscal Year 1998. In April 1995, we implemented a restructuring plan for our American Color division, which was designed to improve productivity, increase customer service and responsiveness and provide increased growth in the business. We recorded $0.9 million and $4.1 million of costs under this plan in Fiscal Year 1997 and the fiscal year ended March 31, 1996 ("Fiscal Year 1996"), respectively. In addition, we recorded $0.9 million, $1.7 million, $1.9 million and $3.4 million of other special charges related to asset write-offs and write-downs in our printing and American Color divisions in Fiscal Year 1999, Fiscal Year 1998, Fiscal Year 1997 and Fiscal Year 1996, respectively. See note 14 to our consolidated financial statements appearing elsewhere in this Report. (d) In October 1994, we amended our defined benefit pension plans, which resulted in the freezing of additional defined benefits for future services under the plans effective January 1, 1995. We recognized a curtailment gain of $3.7 million as a result of freezing such benefits. Also in October 1994, the Board of Directors approved a new Supplemental Executive Retirement Plan ("SERP"), which is a defined benefit plan, for certain key executives. We recognized a $0.4 million expense associated with the establishment of the SERP. (e) In February of Fiscal Year 1997, we made a strategic decision to shut down the operation of our wholly-owned subsidiary SMC. SMC's shut down has been accounted for as a discontinued operation, and accordingly, SMC's operations are segregated in our consolidated financial statements. Sales, costs of sales and selling, general and administrative expenses attributable to SMC for Fiscal Years 1997, 1996 and 1995 have been reclassified to discontinued operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Discontinued Operations" and note 2 of our consolidated financial statements appearing elsewhere in this Report. On February 16, 1994, we assigned the coupon FSI contracts of our subsidiary, SMI, to News America FSI, Inc. ("News America"). In June 1994, we recorded income from the settlement of a lawsuit entitled Sullivan Marketing, Inc. and Sullivan Graphics, Inc. v. Valassis Communications, Inc., News America FSI Inc. and David Brandon (the "SMI Settlement") of $18.5 million, net of taxes, and when coupled with settlement expenses which had previously been accrued, the net cash proceeds resulting from this settlement were approximately $16.7 million. 11 In Fiscal Year 1996, we recognized settlement of a complaint naming SMI, News America and two packaged goods companies as defendants (the "EPI lawsuit") and reversed certain accruals related to the estimated loss on shut down of SMI. The resulting effect reflected in the Fiscal Year 1996 consolidated statement of operations was $2.9 million income in discontinued operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Discontinued Operations" and note 2 of our consolidated financial statements appearing elsewhere in this Report. (f) As part of a refinancing transaction entered into on May 8, 1998 (the "1998 Refinancing"), we recorded an extraordinary loss related to early extinguishment of debt of $4.1 million, net of zero taxes. This extraordinary loss primarily consisted of the write-off of deferred financing costs related to refinanced indebtedness in the quarter ended June 30, 1998. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources". In August 1995, as part of the Shakopee Merger and the refinancing transactions (the "1995 Refinancing"), collectively (the "1995 Transactions"), we recorded an extraordinary loss related to early extinguishment of debt of $4.5 million, net of zero taxes. This extraordinary loss primarily consisted of the early redemption premium on Graphics' 15% Senior Subordinated Notes due 2000 (the "15% Notes") and the write-off of deferred financing costs related to refinanced indebtedness partially offset by the write-off of a bond premium associated with the 15% Notes. (g) The balance of long-term debt outstanding at March 31, 1995 includes an additional $9.7 million relating to a purchase accounting adjustment to the 15% Notes resulting from the 1993 Acquisition. The principal amount payable at maturity of the 15% Notes remained at $100 million. The 15% Notes were redeemed in connection with the 1995 Refinancing. (h) EBITDA is included in the Selected Financial Data because management believes that investors regard EBITDA as a key measure of a leveraged company's performance and ability to meet its future debt service requirements. EBITDA is defined as earnings before net interest expense, income tax expense, depreciation, amortization, other special charges related to asset write-offs and write-downs, other income (expense), discontinued operations and extraordinary items. EBITDA is not a measure of financial performance under generally accepted accounting principles and should not be considered an alternative to net income (or any other measure of performance under generally accepted accounting principles) as a measure of performance or to cash flows from operating, investing or financing activities as an indicator of cash flows or as a measure of liquidity. Certain covenants in the Indenture dated as of August 15, 1995 and the bank credit agreement entered into in May 1998 (see "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources") are based on EBITDA, subject to certain adjustments. EBITDA in Fiscal Year 1999 includes $4.6 million in restructuring costs related to the American Color division, $0.6 million of non-recurring costs associated with the consolidation of certain production facilities at the American Color division, $0.3 million of non-recurring employee termination expenses and $0.2 million of non-cash charges associated with an employee benefit program. EBITDA in Fiscal Year 1998 includes $3.9 million in restructuring costs related to the printing division, $1.5 million of non-recurring charges associated with the relocation of American Color's corporate office and various severance related expenses, and $0.7 million of certain charges associated with employee benefit programs. EBITDA in Fiscal Year 1997 includes $0.9 million of restructuring costs related to the American Color division and non-recurring employee termination expenses of $2.5 million (see note 15 to our consolidated financial statements appearing elsewhere in this Report). EBITDA in Fiscal Year 1996 includes $4.1 million of restructuring costs related to the American Color division. EBITDA in Fiscal Year 1995 includes a $3.3 million net gain related to a change in our defined benefit pension plans (as discussed in note (d) above). 12 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview On May 8, 1998, we refinanced all of our existing bank indebtedness in the 1998 Refinancing (see note 6 to our consolidated financial statements appearing elsewhere in this Report and "Liquidity and Capital Resources" below). The primary objectives of the refinancing were to gain greater financial and operating flexibility, to reduce our overall cost of capital and to provide greater opportunity for internal growth and growth through acquisitions. Printing. Commercial printing in the United States is highly competitive. The significant capital required to keep pace with changing technology and competitive pricing trends has led to a trend of industry consolidation in recent years. In addition, customers' preference for larger printers, such as us, with a wider variety of services, greater distribution capabilities and more flexibility have also contributed to consolidation within the industry. The industry is expected to remain competitive in the near future and our sales will continue to be subject to changes in retailers' demands for printed products. The cost of paper is a principal factor in our overall pricing to our customers. The level of paper costs also has a significant impact on our reported sales. Throughout Fiscal Year 1997, the overall cost of paper declined. During Fiscal Year 1998, paper prices increased slightly through mid year and then declined to near beginning of the year levels. In Fiscal Year 1999, as most grades of paper became more plentiful, paper prices declined. In accordance with industry practice, we generally pass through increases in the cost of paper to customers in the costs of our printed products, while decreases in paper costs generally result in lower prices to customers. In recent years, comprehensive quality improvement and cost reduction programs have been implemented for all our printing processes. As a result of these measures, we have been successful in lowering our manufacturing costs within the printing sector, while improving product quality. Additionally, in order to grow sales and improve gross margins, we increased the geographic and industry scope of our sales force and shifted the mix of our business toward retail customers and away from the printing of certain lower margin publications. Furthermore, management believes that continued strong demand for the retail advertising insert product has resulted in less excess industry capacity and therefore an improved supply/demand position within the marketplace. This dynamic has resulted in a greater stabilization of printing prices which in conjunction with our cost reduction programs has had favorable impact on printing gross profit levels. In January 1998, we approved a plan for our printing division which was designed to improve responsiveness to customer requirements, increase asset utilization and reduce overhead costs. The cost of this plan was accounted for in accordance with the guidance set forth in Emerging Issues Task Force Issue 94-3 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)" ("EITF 94-3") (see "Restructuring Costs and Other Special Charges" below). American Color. The digital imaging and prepress services industry has experienced significant technological advances as electronic digital prepress systems have replaced the more manual and photography-based methods utilized in the past. This shift in technology, which improved process efficiencies and decreased processing costs, produced increased unit growth for American Color as the demand for color pages increased. However, American Color's selling price levels per page have declined because of greater efficiencies resulting from increased use of technology. American Color's revenue from traditional services are now supplemented by new revenue sources from electronic digital imaging and prepress services such as digital image storage, facilities management, computer-to-plate services, creative services, consulting and training services, multimedia and internet services, and software and data-base management. In March 1999, we approved a plan for our American Color division, which was designed to consolidate certain facilities in order to improve asset utilization and operational efficiency, modify the organizational structure as a result of facility consolidation and other changes, and reduce overhead and other costs. The cost of this plan is being accounted for in accordance with the guidelines set forth in EITF 94-3 (see "Restructuring Costs and Other Special Charges" below). 13 The following table summarizes our historical results of continuing operations for Fiscal Years 1999, 1998 and 1997: Fiscal Year Ended March 31, ---------------------------------- 1999 1998 1997 ---- ---- ---- (dollars in thousands) Sales: Printing $431,936 $446,350 $449,924 American Color 83,816 82,384 71,712 Other (a) 4,591 4,601 2,915 -------- -------- -------- Total $520,343 $533,335 $524,551 ======== ======== ======== Gross Profit: Printing $ 62,025 $ 51,278 $ 49,469 American Color 19,128 19,249 15,062 Other (a) 99 1,401 140 -------- -------- -------- Total $ 81,252 $ 71,928 $ 64,671 ======== ======== ======== Gross Margin: Printing 14.4% 11.5% 11.0% American Color 22.8% 23.4% 21.0% Total 15.6% 13.5% 12.3% Operating Income (Loss): Printing (b)(c) $ 38,994 $ 22,612 $ 25,858 American Color (b)(c) (2,542) 2,404 (1,315) Other (a)(d)(e) (6,997) (12,913) (14,171) -------- -------- -------- Total $29,455 $12,103 $10,372 ======== ======== ======== (a) Other operations primarily include revenues and expenses associated with our digital visual effects business ("Digiscope"). (b) Printing operating income includes the impact of $1.7 million and $0.4 million in Fiscal Year 1998 and Fiscal Year 1997, respectively, of other special charges related to asset write-offs and write-downs. American Color's operating loss includes the impact of other special charges related to asset write-offs and write-downs of $0.9 million and $1.5 million in Fiscal Year 1999 and Fiscal Year 1997, respectively. See "Restructuring Costs and Other Special Charges" below. (c) Printing operating income includes the impact of $3.9 million of restructuring costs in Fiscal Year 1998. American Color's operating loss includes the impact of restructuring costs of $4.6 million and $0.9 million in Fiscal Year 1999 and Fiscal Year 1997, respectively. See "Restructuring Costs and Other Special Charges" below. American Color's operating (loss) income also includes $0.9 million of non-recurring charges in Fiscal Year 1999 associated with the consolidation of certain production facilities and $1.5 million of non-recurring charges in Fiscal Year 1998 associated with the relocation of its corporate office and various severance related expenses. (d) Also includes corporate general and administrative expenses, and amortization expense. (e) Other operations also reflects the impact of $0.3 million of non-recurring employee termination expenses and $0.2 million of non-cash charges associated with an employee benefit program in Fiscal Year 1999, certain charges associated with employee benefit programs of $0.7 million in Fiscal Year 1998 and non-recurring employee termination expenses of $2.5 million in Fiscal Year 1997 (see note 15 to our consolidated financial statements appearing elsewhere in this Report). 14 Historical Results of Operations Fiscal Year 1999 vs. Fiscal Year 1998 Our sales decreased 2.4% to $520.3 million in Fiscal Year 1999 from $533.3 million in Fiscal Year 1998. This decrease includes a decrease in printing sales of $14.5 million, or 3.2%, offset in part by an increase in American Color's sales of $1.4 million or 1.7%. Our gross profit increased to $81.3 million or 15.6% of sales in Fiscal Year 1999 from $71.9 million or 13.5% of sales in Fiscal Year 1998. Our operating income increased to $29.5 million or 5.7% of sales in Fiscal Year 1999 from $12.1 million or 2.3% of sales in Fiscal Year 1998. See the discussion of these changes by segment below. Printing Sales. Printing sales decreased $14.5 million to $431.9 million in Fiscal Year 1999 from $446.4 million in Fiscal Year 1998. Printing production volume increased approximately 4%. This increase was offset by an increase in sales to customers that supply their own paper and the impact of declining paper prices. Gross Profit. Printing gross profit increased $10.7 million to $62.0 million in Fiscal Year 1999 from $51.3 million in Fiscal Year 1998. Printing gross margin increased to 14.4% in Fiscal Year 1999 from 11.5% in Fiscal Year 1998. The increase in gross profit is primarily the result of reduced manufacturing costs and increased production volume. The increase in gross margin includes the above mentioned factors coupled with the impact of an increase in sales to customers that supply their own paper and declining paper prices. Selling, General and Administrative Expenses. Printing selling, general and administrative expenses decreased slightly to $23.0 million, or 5.3% of printing sales, in Fiscal Year 1999 compared to $23.1 million, or 5.2% of printing sales, in Fiscal Year 1998. Operating Income. As a result of the above factors and the incurrence of both restructuring costs associated with the printing restructuring plan of $3.9 million in Fiscal Year 1998 and other special charges related to asset write-offs and write-downs of $1.7 million in Fiscal Year 1998 (see "Restructuring Costs and Other Special Charges" below), operating income from the printing business increased to $39.0 million in Fiscal Year 1999 from $22.6 million in Fiscal Year 1998. American Color Sales. American Color's sales increased $1.4 million, or 1.7%, to $83.8 million in Fiscal Year 1999 from $82.4 million in Fiscal Year 1998. The increase in Fiscal Year 1999 was primarily the result of higher packaging prepress sales and increased digital imaging and prepress production volume. Gross Profit. American Color's gross profit decreased $0.1 million to $19.1 million in Fiscal Year 1999 from $19.2 million in Fiscal Year 1998. American Color's gross margin decreased to 22.8% in Fiscal Year 1999 from 23.4% in Fiscal Year 1998. Included were decreases resulting from increased costs associated with new operations servicing the packaging prepress industry and $0.9 million of non-recurring costs associated with the consolidation of certain production facilities, offset in part by an increase in volume and other material and payroll savings. Selling, General and Administrative Expenses. American Color's selling, general and administrative expenses decreased to $16.2 million, or 19.3% of American Color's sales in Fiscal Year 1999 from $16.8 million, or 20.4% of American Color's sales in Fiscal Year 1998. This decrease is primarily a result of $1.5 million of non-recurring charges associated with the relocation of American Color's corporate office and various severance related expenses in Fiscal Year 1998, partially offset by increased selling expenses for packaging prepress and other operations in Fiscal Year 1999. Operating (Loss) Income. As a result of the above factors and the incurrence of both restructuring costs associated with the American Color restructuring plan of $4.6 million in Fiscal Year 1999 and other special charges related to asset write-offs and write-downs of $0.9 million in Fiscal Year 1999 (see "Restructuring Costs and Other Special Charges" below), operating (loss) income at American Color decreased to a loss of $2.5 million in Fiscal Year 1999 from income of $2.4 million in Fiscal Year 1998. 15 Fiscal Year 1998 vs. Fiscal Year 1997 Our sales increased 1.7% to $533.3 million in Fiscal Year 1998 from $524.6 million in Fiscal Year 1997. This increase includes an increase in American Color sales of $10.7 million, or 14.9%, offset in part by a decrease in printing sales of $3.5 million, or 0.8%. Our gross profit increased to $71.9 million or 13.5% of sales in Fiscal Year 1998 from $64.7 million or 12.3% of sales in Fiscal Year 1997. Our operating income increased to $12.1 million or 2.3% of sales in Fiscal Year 1998 from $10.4 million or 2% of sales in Fiscal Year 1997. See the discussion of these changes by segment below. Printing Sales. Printing sales decreased $3.5 million to $446.4 million in Fiscal Year 1998 from $449.9 million in Fiscal Year 1997. This decrease is primarily the result of an increase in sales to customers that supply their own paper offset in part by an increase in production volume of approximately 2.5%. Gross Profit. Printing gross profit increased $1.8 million to $51.3 million in Fiscal Year 1998 from $49.5 million in Fiscal Year 1997. Printing gross margin increased to 11.5% in Fiscal Year 1998 from 11.0% in Fiscal Year 1997. The increase in gross profit includes reduced manufacturing costs, improved mix and pricing, along with an increase in production volume. These gains were partially offset by an increase in depreciation and amortization expense. The increase in gross margin includes the above mentioned factors and the impact of an increase in sales to customers that supply their own paper. Selling, General and Administrative Expenses. Printing selling, general and administrative expenses remained relatively unchanged at $23.1 million, or 5.2% of printing sales, in Fiscal Year 1998 compared to $23.1 million, or 5.1% of printing sales, in Fiscal Year 1997. Operating Income. As a result of the above factors and the incurrence of both restructuring costs associated with the printing restructuring plan of $3.9 million in Fiscal Year 1998 and other special charges related to asset write-offs and write-downs of $1.7 million and $0.4 million in Fiscal Year 1998 and 1997, respectively (see "Restructuring Costs and Other Special Charges" below), operating income from the printing business decreased to $22.6 million in Fiscal Year 1998 from $25.9 million in Fiscal Year 1997. American Color Sales. American Color's sales increased $10.7 million, or 14.9%, to $82.4 million in Fiscal Year 1998 from $71.7 million in Fiscal Year 1997. The increase in Fiscal Year 1998 was primarily the result of higher digital imaging and prepress production volume due to American Color's implementation of various digital prepress technologies, including facilities management, packaging prepress, software and image management services. Gross Profit. American Color's gross profit increased $4.1 million to $19.2 million in Fiscal Year 1998 from $15.1 million in Fiscal Year 1997. American Color's gross margin increased to 23.4% in Fiscal Year 1998 from 21.0% in Fiscal Year 1997. These improvements resulted from increased volume (primarily from increased facilities management sales) and material and payroll cost savings offset in part by costs associated with new operations servicing the packaging industry. Selling, General and Administrative Expenses. American Color's selling, general and administrative expenses increased to $16.8 million, or 20.4% of American Color's sales in Fiscal Year 1998 from $14.0 million, or 19.5% of American Color's sales in Fiscal Year 1997. This increase includes relocation costs related to the move of American Color's corporate office from Phoenix to Nashville and various severance related expenses of $1.5 million in Fiscal Year 1998. In addition, the increase includes increased sales and marketing expenses, including the costs of the new packaging sales group. Operating Income (Loss). As a result of the above factors and the incurrence of both restructuring costs associated with the American Color restructuring plan of $0.9 million in Fiscal Year 1997 and other special charges related to asset write-offs and write-downs of $1.5 million in Fiscal Year 1997 (see "Restructuring Costs and Other Special Charges" below), operating income (loss) at American Color increased to income of $2.4 million in Fiscal Year 1998 from a loss of $1.3 million in Fiscal Year 1997. 16 Other Operations (Fiscal Year 1999 vs. Fiscal Year 1998 and Fiscal Year 1998 vs. Fiscal Year 1997) Other operations consist primarily of revenues and expenses associated with our digital visual effects business, corporate general and administrative expenses, other expenses and amortization expense. Amortization expenses for other operations, including goodwill amortization (see below), were $2.6 million, $8.7 million and $8.4 million in Fiscal Years 1999, 1998 and 1997, respectively. Operating losses from other operations improved to a loss of $7.0 million in Fiscal Year 1999 from a loss of $12.9 million in Fiscal Year 1998. This decrease is primarily attributable to a $6.0 million reduction in goodwill amortization expense. This reduction results from full amortization of the original 1993 acquisition goodwill related to American Color as of March 31, 1998. Operating losses from other operations improved to a loss of $12.9 million in Fiscal Year 1998 from a loss of $14.2 million in Fiscal Year 1997. This improvement includes non-recurring employee termination expenses of $2.5 million in Fiscal Year 1997 (see note 15 to our consolidated financial statements appearing elsewhere in this Report) and improved digital visual effects operating results in Fiscal Year 1998. These improvements were offset in part by $0.7 million of certain expenses associated with employee benefit programs in Fiscal Year 1998 and increases in amortization expenses and certain corporate general and administrative expenses during Fiscal Year 1998. Goodwill Amortization Amortization expense associated with goodwill was $2.5 million, $8.5 million and $8.3 million for Fiscal Years 1999, 1998 and 1997, respectively. Restructuring Costs and Other Special Charges Restructuring Costs: American Color. In March 1999, we approved a plan for our American Color division, which was designed to consolidate certain facilities in order to improve asset utilization and operational efficiency, modify the organizational structure as a result of facility consolidation and other changes and reduce overhead and other costs. The cost of this plan is being accounted for in accordance with the guidance set forth in EITF 94-3. The pretax costs of $4.6 million which were incurred as a direct result of this plan (excluding other special charges related to asset write-offs and write-downs - see below) includes $2.5 million of employee termination costs, $1.2 million of lease settlement costs and $0.9 million of other transition and restructuring expenses. This restructuring charge was recorded in the quarter ended March 31, 1999. The majority of these costs will be paid or settled before March 31, 2000. In addition, approximately $0.9 million of restructuring costs (primarily relocation expenses) were recognized in Fiscal Year 1997. These costs were associated with a plan implemented in Fiscal Year 1996 for our American Color division. Printing. In January 1998, we approved a plan for our printing division which was designed to improve responsiveness to customer requirements, increase asset utilization and reduce overhead costs. The cost of this plan was accounted for in accordance with the guidance set forth in EITF 94-3. The pretax costs of $3.9 million which were incurred as a direct result of this plan (excluding other special charges related to asset write-offs and write-downs - see below) includes $3.3 million of employee termination costs and $0.6 million of relocation and other transition expenses. This restructuring charge was recorded in the quarter ended March 31, 1998. These costs were paid or settled before March 31, 1999. Other Special Charges: During the quarter ended March 31, 1999, we recorded special charges totaling $0.9 million to adjust the carrying values of idle, disposed and under-performing assets of the American Color division to estimated fair values. The provision was based on a review of our long-lived assets in accordance with Financial Accounting Standards Board Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("SFAS 121"). Fair value was based on our estimate of held and used and idle assets based on current market conditions using the best information available. 17 During the quarter ended March 31, 1998, we recorded special charges totaling $1.7 million to adjust the carrying values of idle, disposed and under-performing assets of the printing segment to estimated fair values. The provision was based on a review of our long-lived assets in accordance with SFAS 121. Fair value was based on our estimate of held and used and idle assets based on current market conditions using the best information available. During Fiscal Year 1997, we recorded special charges totaling $1.9 million, for impaired long-lived assets and to adjust the carrying values of idle, disposed and under-performing assets to estimated fair values. The provisions were based on a review of long-lived assets in connection with the initial adoption of SFAS 121. Of the Fiscal Year 1997 total of long-lived assets that were adjusted based on being idle, disposed of or under-performing, approximately $0.4 million and $1.5 million related to the printing and American Color divisions, respectively. Fair value was based on our estimate of held and used and idle assets based on current market conditions using the best information available. These special charges are classified within restructuring costs and other special charges in the consolidated statements of operations. Interest Expense Interest expense decreased 7.0% to $36.2 million in Fiscal Year 1999 from $39.0 million in Fiscal Year 1998. This decrease includes the impact of both lower levels of indebtedness and reduced borrowing costs associated with our 1998 Refinancing. See note 6 to our consolidated financial statements appearing elsewhere in this Report. Interest expense increased 7.3% to $39.0 million in Fiscal Year 1998 from $36.3 million in Fiscal Year 1997. This increase includes the impact of increased obligations under capital leases and incremental costs related to the $25 million term loan facility entered into on June 30, 1997 (the "Old Term Loan Facility"). See note 6 to our consolidated financial statements appearing elsewhere in this Report. Other Expense (Income) and Taxes Other expenses, net increased to $1.2 million in Fiscal Year 1999 from $0.4 million in Fiscal Year 1998. Other expenses, net in Fiscal Year 1999 include various non-recurring legal settlements and related fees of approximately $0.8 million. Other expenses, net increased to $0.4 million in Fiscal Year 1998 from $0.2 million in Fiscal Year 1997. Our effective tax rates for Fiscal Years 1999, 1998, and 1997 exceeded the federal statutory rate due primarily to increases in the valuation allowance, amortization of nondeductible goodwill, and foreign tax expense. Discontinued Operations Sullivan Media Corporation Our Fiscal Year 1998 and Fiscal Year 1997 net loss includes the estimated net loss on shut down of approximately $0.4 million and $1.5 million, respectively, related to our discontinued wholly-owned subsidiary SMC. Our net loss in Fiscal Year 1997 includes the loss from operations of SMC of approximately $1.6 million. See note 2 to our consolidated financial statements appearing elsewhere in this Report. Extraordinary Loss on Early Extinguishment of Debt As part of the 1998 Refinancing which was consummated in Fiscal Year 1999 (see note 6 to our consolidated financial statements appearing elsewhere in this Report), we recorded an extraordinary loss related to early extinguishment of debt of $4.1 million, net of zero taxes. This extraordinary loss primarily consisted of the write-off of deferred financing costs related to refinanced indebtedness in the quarter ended June 30, 1998. 18 Net Loss As a result of the factors discussed above, our net loss improved to a loss of $12.5 million in Fiscal Year 1999 from a loss of $29.9 million in Fiscal Year 1998. The Fiscal Year 1999 net loss includes the $4.1 million extraordinary loss related to early extinguishment of debt, $4.6 million of restructuring costs and $0.9 million of other special charges related to asset write-offs and write-downs associated with our American Color division. Our net loss decreased to a loss of $29.9 million in Fiscal Year 1998 from a loss of $31.7 million in Fiscal Year 1997. The Fiscal Year 1998 net loss includes $3.9 million of restructuring costs and $1.7 million of other special charges related to asset write-offs and write-downs associated with our printing division. In addition, Fiscal Year 1998 includes $1.5 million of non-recurring charges related to the relocation of American Color's corporate office and various severance related expenses, certain charges associated with employee benefit programs of $0.7 million and an approximate $0.7 million loss from discontinued operations related to SMC and SMI. The Fiscal Year 1997 net loss includes $0.9 million of expense related to the American Color restructuring, $1.9 million of other special charges related to asset write-offs and write-downs, $2.5 million of non-recurring employee termination expenses (see note 15 to our consolidated financial statements appearing elsewhere in this Report) and an approximate $3.1 million loss from discontinued operations related to SMC. Liquidity and Capital Resources On May 8, 1998, we refinanced all of our existing bank indebtedness in the 1998 Refinancing (see note 6 to our consolidated financial statements appearing elsewhere in this Report). The primary objectives of the refinancing were to gain greater financial and operating flexibility, to reduce our overall cost of capital and to provide greater opportunity for internal growth and growth through acquisitions. The 1998 Refinancing transaction included the following: (1) We entered into a $145 million credit facility with a syndicate of lenders (the "Bank Credit Agreement") providing for: - a $70 million revolving credit facility, which is not subject to a borrowing base limitation, maturing on March 31, 2004 (the "Revolving Credit Facility"), - a $25 million amortizing term loan facility maturing on March 31, 2004 (the "A Term Loan Facility"), and - a $50 million amortizing term loan facility maturing on March 31, 2005 (the "B Term Loan Facility"); (2) The repayment of all $57.0 million of indebtedness outstanding under our previous credit agreement as amended (the "Old Bank Credit Agreement") (plus accrued interest to the date of repayment); (3) The repayment of all $25.0 million of indebtedness outstanding under the Old Term Loan Facility (plus accrued interest to the date of repayment); and (4) The payment of fees and expenses associated with the refinancing transaction. The Revolving Credit Facility provides for a maximum of $70 million borrowing availability and includes a $40 million letter of credit sub-limit. At May 31, 1999, we had total borrowings and letters of credit outstanding under the Revolving Credit Facility of approximately $24.5 million, and therefore, additional borrowing availability of approximately $45.5 million. At May 31, 1999, $20.5 million of the A Term Loan Facility and $43.8 million of the B Term Loan Facility remained outstanding. Scheduled A Term Loan Facility and B Term Loan Facility payments due in the fiscal year ending March 31, 2000 ("Fiscal Year 2000") are de minimus. Scheduled repayments of capital lease obligations and other senior indebtedness during Fiscal Year 2000 will approximate $7.4 million and $0.8 million, respectively. 19 In Fiscal Year 1999, net cash provided by operating activities of $48.1 million (see consolidated statements of cash flows appearing elsewhere in this Report), proceeds from sales of property, plant and equipment of $0.8 million and proceeds from the 1998 Refinancing of $84.8 million ($75 million from the A Term Loan and B Term Loan facilities and $9.8 million of initial net borrowings under the Revolving Credit Facility) were used to: (1) Repay $84.2 million of indebtedness outstanding under the Old Bank Credit Agreement and Old Term Loan Facility (including related transaction fees), (2) Fund scheduled principal repayments of indebtedness and financing costs of $20.3 million (including capital lease obligations of $6.9 million and voluntary prepayments on the A Term Loan Facility and B Term Loan Facility of $4.4 million and $5.6 million, respectively), (3) Fund cash capital expenditures of $11.1 million, and (4) Further reduce outstanding revolver borrowings by $18.1 million. We plan to continue our program of upgrading our printing and prepress equipment and currently anticipate that Fiscal Year 2000 cash capital expenditures will approximate $19.3 million and equipment acquired under capital leases will approximate $3.0 million. Our cash on hand of approximately $2.6 million is presented net of outstanding checks within trade accounts payable at March 31, 1999. Accordingly, cash is presented at a balance of $0 in the March 31, 1999 balance sheet. Our primary sources of liquidity are cash provided by operating activities and borrowings under the Revolving Credit Facility. We anticipate that our primary needs for liquidity will be to conduct our business, meet our debt service requirements, make capital expenditures and, if we elect, redeem, repay or repurchase outstanding indebtedness. At March 31, 1999, we had total indebtedness outstanding of $289.6 million, including capital lease obligations as compared to $319.7 million at March 31, 1998, representing a reduction of indebtedness during Fiscal Year 1999 of $30.1 million. Of the total debt outstanding at March 31, 1999, $64.3 million was outstanding under the Bank Credit Agreement at a weighted-average interest rate of 7.1%. Indebtedness under the Bank Credit Agreement bears interest at floating rates. At March 31, 1999, we had indebtedness other than obligations under the Bank Credit Agreement of $225.3 million (including $185 million of the Notes). We are currently in compliance with all financial covenants set forth in the Bank Credit Agreement. See note 6 to our consolidated financial statements appearing elsewhere in this Report. A significant portion of Graphics' long-term obligations, including indebtedness under the Bank Credit Agreement, has been fully and unconditionally guaranteed by Holdings. Holdings is subject to certain restrictions under its guarantee of indebtedness under the Bank Credit Agreement, including among other things, restrictions on mergers, acquisitions, incurrence of additional debt and payment of cash dividends. See note 1 to our consolidated financial statements appearing elsewhere in this Report. 20 EBITDA Fiscal Year Ended March 31, ---------------------------------------------------------- 1999 1998 1997 ------------- ------------- ------------ (dollars in thousands) EBITDA: Printing (a) $ 61,627 $ 46,838 $ 46,755 American Color (a) 5,283 8,405 5,180 Other (b) (c) (2,624) (2,876) (4,963) =========== =========== =========== Total $ 64,286 $ 52,367 $ 46,972 =========== =========== =========== EBITDA Margin: Printing 14.3% 10.5% 10.4% American Color 6.3% 10.2% 7.2% Total 12.4% 9.8% 9.0% (a) Printing EBITDA includes the impact of $3.9 million of restructuring costs in Fiscal Year 1998. American Color EBITDA for Fiscal Year 1999 and Fiscal Year 1997 includes the impact of restructuring costs of $4.6 million and $0.9 million, respectively. See "Restructuring Costs and Other Special Charges" above. American Color EBITDA also includes $0.6 million of non-recurring charges in Fiscal Year 1999 associated with the consolidation of certain production facilities and $1.5 million of non-recurring charges in Fiscal Year 1998 associated with the relocation of American Color's corporate office and various severance related expenses. (b) Other operations include revenues and expenses associated with our digital visual effects business and corporate general and administrative expenses. (c) Other operations also reflects the impact of $0.3 million of non-recurring employee termination expenses and $0.2 million of non-cash charges associated with an employee benefit program in Fiscal Year 1999, certain charges associated with employee benefit programs of $0.7 million in Fiscal Year 1998 and non-recurring employee termination expenses of $2.5 million in Fiscal Year 1997 (see note 15 to our consolidated financial statements appearing elsewhere in this Report). EBITDA is presented and discussed because we believe that investors regard EBITDA as a key measure of a leveraged company's performance and ability to meet its future debt service requirements. "EBITDA" is defined as earnings before net interest expense, income tax expense, depreciation, amortization, other special charges related to asset write-offs and write-downs, other income (expense), discontinued operations and extraordinary items. "EBITDA Margin" is defined as EBITDA as a percentage of net sales. EBITDA is not a measure of financial performance under generally accepted accounting principles and should not be considered an alternative to net income (or any other measure of performance under generally accepted accounting principles) as a measure of performance or to cash flows from operating, investing or financing activities as an indicator of cash flows or as a measure of liquidity. Certain covenants in the Indenture and the Bank Credit Agreement are based on EBITDA, subject to certain adjustments. Printing. As a result of the reasons previously described under "--Printing," (excluding changes in depreciation and amortization expense and other special charges related to asset write-offs and write-downs), printing EBITDA increased $14.8 million to $61.6 million in Fiscal Year 1999 from $46.8 million in Fiscal Year 1998. Printing EBITDA was $46.8 million in both Fiscal Year 1998 and Fiscal Year 1997. Printing EBITDA Margin increased to 14.3% in Fiscal Year 1999 from 10.5% in Fiscal Year 1998. Printing EBITDA Margin increased to 10.5% in Fiscal Year 1998 from 10.4% in Fiscal Year 1997. Included in the Fiscal Year 1998 EBITDA and EBITDA Margin is $3.9 million of restructuring costs related to the printing restructuring plan (see discussion above). 21 American Color. As a result of the reasons previously described under "--American Color," (excluding changes in depreciation, amortization expense, other non-cash expenses and other special charges related to asset write-offs and write-downs), American Color EBITDA decreased $3.1 million to $5.3 million in Fiscal Year 1999 from $8.4 million in Fiscal Year 1998. American Color EBITDA Margin decreased to 6.3% in Fiscal Year 1999 from 10.2% in Fiscal Year 1998. Included in the Fiscal Year 1999 EBITDA and EBITDA Margin is the impact of $0.6 million of non-recurring charges associated with the consolidation of certain production facilities and $4.6 million of restructuring costs (see discussion above). American Color EBITDA increased to $8.4 million in Fiscal Year 1998 from $5.2 million in Fiscal Year 1997, representing an increase of $3.2 million. EBITDA Margin increased to 10.2% in Fiscal Year 1998 from 7.2% in Fiscal Year 1997. American Color EBITDA and EBITDA Margin in Fiscal Year 1998 includes $1.5 million of non-recurring charges associated with the relocation of its corporate office and various severance related expenses. Included in the Fiscal Year 1997 EBITDA and EBITDA Margin is the impact of restructuring costs of $0.9 million (see discussion above). Other Operations. As a result of the reasons previously described under "--Other Operations," (excluding changes in depreciation and amortization expense), other operations negative EBITDA improved to negative EBITDA of $2.6 million in Fiscal Year 1999 from negative EBITDA of $2.9 million in Fiscal Year 1998. EBITDA from other operations improved to negative EBITDA of $2.9 million in Fiscal Year 1998 from negative EBITDA of $5.0 million in Fiscal Year 1997. Other operations negative EBITDA for Fiscal Year 1999 includes the impact of $0.3 million of non-recurring employee termination expenses and $0.2 million of non-cash charges associated with an employee benefit program and negative EBITDA for Fiscal Year 1998 includes the impact of $0.7 million of certain charges associated with employee benefit programs. Negative EBITDA for Fiscal Year 1997 includes the impact of non-recurring employee termination expenses of $2.5 million (see note 15 to our consolidated financial statements appearing elsewhere in this Report). Amortization of Goodwill Our goodwill is amortized on a straight-line basis by business segment. Goodwill amortization expense will be approximately $2.5 million in Fiscal Year 2000. Impact of Inflation In accordance with industry practice, we generally pass through increases in our costs (primarily paper and ink) to customers in the costs of our printed products, while decreases in paper costs generally result in lower prices to customers. Throughout Fiscal Year 1997, the overall cost of paper declined. During Fiscal Year 1998, paper prices increased slightly through mid year and then declined to near beginning of the year levels. In Fiscal Year 1999, as most grades of paper became more plentiful, paper prices declined. Management expects that, as a result of our strong relationship with key suppliers, our material costs will remain competitive within the industry. Seasonality Some of our printing and digital imaging and prepress services business is seasonal in nature, particularly those revenues derived from advertising inserts. Generally, our sales from advertising inserts are highest during periods prior to the following advertising periods: Spring advertising season (March 15 -- May 15); Back-to-School (July 15 -- August 15); and Thanksgiving/Christmas (October 15 -- December 15). One of the reasons we chose to enter the comic book printing market is that it is not subject to significant seasonal fluctuations. Sales of newspaper Sunday comics are also not subject to significant seasonal fluctuations. Our strategy has been and will continue to include the mitigation of the seasonality of our printing business by increasing our sales to customers whose own sales are less seasonal (i.e., food and drug companies). Environmental Environmental expenditures that relate to current operations are expensed or capitalized as appropriate. Expenditures that relate to an existing condition caused by past operations and which do not contribute to current or future period revenue generation are expensed. Environmental liabilities are recorded when assessments and/or remedial efforts are probable and the related costs can be reasonably estimated. We believe that environmental liabilities, currently and in the prior periods discussed herein, are not material. We maintain a reserve of approximately $0.1 million in connection with a Superfund site in our consolidated statement of financial position at March 31, 1999, which we believe to be adequate. See "Legal Proceedings -- Environmental Matters" appearing elsewhere in this Report. We do not anticipate receiving insurance proceeds related to this potential settlement. Management does not expect that any identified matters, individually or in the aggregate, will have a material adverse effect on our consolidated financial position or results of operations. 22 Accounting There are no pending accounting pronouncements that, when adopted, are expected to have a material effect in our results of operations or its financial position. Year 2000 Issue The Year 2000 issue is the result of computer programs being written using two digits rather than four to define the applicable year. Computer programs or hardware that have date-sensitive software or embedded chips may recognize a date using "00" as the year 1900 rather than the Year 2000 which could result in a system failure or miscalculations causing disruptions of operations. In the spring of 1997, we initiated our review of our Year 2000 information and manufacturing systems compliance ("Y2K Project"). Our Y2K Project includes four phases: assessment, remediation, testing, and implementation. Over the past year, we have made significant progress in each of these areas and believe we will complete the Y2K Project by October 1999. Information Technology Systems. To date, we have fully completed our assessment of all information technology systems that could be significantly affected by the Year 2000. We have completed 85% of the remediation phase of our information technology systems and expect to complete software reprogramming and replacement by July 1999. To date, we have completed 85% of our testing and have implemented 65% of our remediated systems. Completion of the testing phase for all significant systems is expected by July 1999, all remediated systems are anticipated to be fully tested by August 1999, with 100% implementation targeted for September 1999. Production and Manufacturing Systems. Our strategy includes an on-going program that focuses on the need to upgrade and maintain our production and manufacturing systems. As such, we believe our production and manufacturing systems to be reasonably current and do not anticipate significant Year 2000 issues in this area. We have completed the assessment phase in this area and are 90% complete in the remediation phase of our operating equipment. To date, the required remediation has been within planned expenditures, and has not been material to our consolidated financial results. We do not expect full remediation of our operating equipment to be costly or extensive. We are 70% complete with the testing of our remediated operating equipment. Once testing is complete, the operating equipment in most cases will be ready for immediate use. We expect to complete our remediation efforts by August 1999. Testing and implementation of affected equipment is expected to be completed by October 1999. We have nearly completed the process of gathering information about the Year 2000 compliance of our significant suppliers and subcontractors (external agents). To date, we are not aware of any external agent with a Year 2000 issue that would materially impact our results of operations, liquidity, or capital resources. In addition, as a printer and graphics prepress supplier, our products and services are not generally impacted by the Year 2000 issue. We are utilizing both internal and external resources to reprogram, or replace, test, and implement the software and operating equipment necessary for Year 2000 compliance. The total cost of the Y2K Project is estimated at $4.0 million and is being funded through operating cash flows and our Revolving Credit Facility. To date, we have incurred costs of approximately $1.9 million, relating to all phases of the Y2K Project. Of the remaining project costs, approximately $1.9 million is attributable to the purchase of new software and operating equipment, which will be capitalized. The remaining $0.2 million relates to repair of hardware and software and will be expensed as incurred. Management believes they have an effective program in place to resolve the Year 2000 compliance issue in a timely manner and is monitoring the progress of the Y2K Project closely. As noted above, we have not yet completed all necessary phases of the Y2K Project. In the unlikely event that we do not complete any additional phases, (1) the printing segment would be forced to manually enter customer orders, pay its employees, order and track its paper needs, and collect certain cost, sales history and operating data of a non-critical nature, and (2) certain digital workflows in our American Color division would be diverted to existing, less efficient digital workflows, thereby reducing capacity in affected locations and the American Color division would have to pay its employees manually. In addition, disruption in services such as electrical power, telecommunications and banking, or disruption in the general retail economy environment could materially adversely affect us. Although there can be no assurance that our efforts will prevent a material adverse impact on the results of operations or financial conditions, we believe that none of these scenarios are likely. We plan to evaluate the completion status of all phases of the Y2K Project in September 1999 and determine if and when contingency plans are necessary. 23 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Qualitative Information. In the ordinary course of business, our exposure to market risks is limited as is described below. Market risk is the potential loss arising from adverse changes in market rates and prices, such as interest and foreign currency exchange rates. Currently, we do not utilize derivative financial instruments such as forward exchange contracts, future contracts, options and swap agreements. Interest Rate Risk for us primarily relates to interest rate fluctuations on variable rate debt. Foreign Currency Exchange Rate Risk is minimal as we have only one foreign printing facility (in Canada) and any fluctuations in net asset values as a result of changes in foreign currency exchange rates associated with activity at this one facility would be immaterial to the company as a whole. Quantitative Information. At March 31, 1999 and March 31, 1998, we had both fixed rate and variable rate debt. The carrying value of our total variable rate debt approximated the fair value of such debt at March 31, 1999 and March 31, 1998. At our March 31, 1999 and March 31, 1998 borrowing levels, a hypothetical 10% adverse change in interest rates on the variable rate debt would have been immaterial. Approximately 75% and 68% of our long-term debt (excluding capitalized lease obligations) was fixed rate at March 31, 1999 and March 31, 1998, respectively. The above market risk discussions are forward-looking statements of market risk assuming the occurrence of certain adverse market conditions. Actual results in the future may differ materially from those projected as a result of actual developments in the market. 24 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Page No. The following consolidated financial statements of ACG Holdings, Inc. are included in this Report: Report of Independent Auditors......................................... 26 Consolidated balance sheets - March 31, 1999 and 1998.................. 27 For the Years Ended March 31, 1999, 1998 and 1997: Consolidated statements of operations............................. 29 Consolidated statements of stockholders' deficit.................. 30 Consolidated statements of cash flows............................. 31 Notes to Consolidated Financial Statements............................. 33 The following consolidated financial statement schedules of ACG Holdings, Inc. are included in Part IV, Item 14: I. Condensed Financial Information of Registrant Condensed Consolidated Financial Statements (parent company only) for the years ended March 31, 1999, 1998, and 1997, and as of March 31, 1999 and 1998 II. Valuation and qualifying accounts All other schedules specified under Regulation S-X for ACG Holdings, Inc. have been omitted because they are either not applicable, not required, or because the information required is included in the financial statements or notes thereto. 25 Report of Independent Auditors Board of Directors ACG Holdings, Inc. We have audited the accompanying consolidated balance sheets of ACG Holdings, Inc. as of March 31, 1999 and 1998, and the related consolidated statements of operations, stockholders' deficit, and cash flows for each of the three fiscal years in the period ended March 31, 1999. Our audits also included the financial statement schedules listed in the Index at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statement and schedules based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of ACG Holdings, Inc. at March 31, 1999 and 1998, and the consolidated results of their operations and their cash flows for each of the three fiscal years in the period ended March 31, 1999, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein. As discussed in Note 10 to the consolidated financial statements, in fiscal year 1998 the Company adopted the provisions of the Financial Accounting Standards Board's Statement of Financial Accounting Standards No. 123, "Accounting for Stock Based Compensation." Nashville, Tennessee May 25, 1999 26 ACG HOLDINGS, INC. Consolidated Balance Sheets (Dollars in thousands)
March 31, ----------------------------- 1999 1998 ----------- ------------ Assets Current assets: Cash $ 0 0 Receivables: Trade accounts, less allowance for doubtful accounts of $2,860 and $2,112 at March 31, 1999 and 1998, respectively 57,895 63,185 Other 2,082 2,605 --------- --------- Total receivables 59,977 65,790 Inventories 8,343 10,795 Prepaid expenses and other current assets 3,271 3,578 --------- --------- Total current assets 71,591 80,163 Property, plant and equipment: Land and improvements 2,907 3,148 Buildings and improvements 18,895 19,426 Machinery and equipment 177,851 178,713 Furniture and fixtures 6,549 5,379 Leased assets under capital leases 52,843 48,039 Equipment installations in process 4,146 1,612 --------- --------- 263,191 256,317 Less accumulated depreciation (119,576) (96,684) --------- --------- Net property, plant and equipment 143,615 159,633 Excess of cost over net assets acquired, less accumulated amortization of $44,587 and $42,060 at March 31, 1999 and 1998, respectively 72,029 74,556 Other assets 11,765 15,606 --------- --------- Total assets $ 299,000 329,958 ========= =========
See accompanying notes to consolidated financial statements. 27 ACG HOLDINGS, INC. Consolidated Balance Sheets (Dollars in thousands, except par values)
March 31, ----------------------------- 1999 1998 ----------- ------------ Liabilities and Stockholders' Deficit Current liabilities: Current installments of long-term debt and capitalized leases $ 7,994 9,131 Trade accounts payable 37,096 27,381 Accrued expenses 30,756 31,539 Income taxes 1,196 502 --------- -------- Total current liabilities 77,042 68,553 Long-term debt and capitalized leases, excluding current installments 281,595 310,526 Deferred income taxes 7,916 9,443 Other liabilities 51,753 47,521 --------- -------- Total liabilities 418,306 436,043 Stockholders' deficit: Common stock, voting, $.01 par value, 5,852,223 shares authorized, 134,250 shares and 134,812 shares issued and outstanding at March 31, 1999 and 1998, respectively 1 1 Preferred Stock, $.01 par value, 15,823 shares authorized, 3,622 shares and 3,631 shares Series AA convertible preferred stock issued and outstanding at March 31, 1999 and 1998, respectively, $40,000,000 liquidation preference, 1,606 shares Series BB convertible preferred stock issued and outstanding at March 31, 1999 and 1998, $17,500,000 liquidation preference -- -- Additional paid-in capital 58,286 58,249 Accumulated deficit (174,905) (162,250) Other accumulated comprehensive loss, net of tax (2,688) (2,085) --------- -------- Total stockholders' deficit (119,306) (106,085) --------- -------- Commitments and contingencies Total liabilities and stockholders' deficit $ 299,000 329,958 ========= ========
See accompanying notes to consolidated financial statements. 28 ACG HOLDINGS, INC. Consolidated Statements of Operations (In thousands)
Year ended March 31, ---------------------------------------- 1999 1998 1997 ----------- ---------- --------- Sales $ 520,343 533,335 524,551 Cost of sales 439,091 461,407 459,880 ---------- ---------- -------- Gross profit 81,252 71,928 64,671 Selling, general and administrative expenses 43,806 45,690 43,164 Amortization of goodwill 2,527 8,537 8,254 Restructuring costs and other special charges 5,464 5,598 2,881 ---------- ---------- -------- Operating income 29,455 12,103 10,372 ---------- ---------- -------- Other expense (income): Interest expense 36,242 38,956 36,289 Interest income (165) (143) (157) Other, net 1,217 412 245 ---------- ---------- -------- Total other expense 37,294 39,225 36,377 ---------- ---------- -------- Loss from continuing operations before income taxes and extraordinary item (7,839) (27,122) (26,005) Income tax expense (523) (2,106) (2,591) ---------- ---------- -------- Loss from continuing operations before extraordinary item (8,362) (29,228) (28,596) Discontinued operations: Loss from operations, net of tax -- -- (1,557) Estimated loss on shut down, net of tax -- (667) (1,550) ---------- ---------- -------- Loss before extraordinary item (8,362) (29,895) (31,703) Extraordinary loss on early extinguishment of debt (4,106) -- -- ---------- ---------- -------- Net loss $ (12,468) (29,895) (31,703) ========== ========== ========
See accompanying notes to consolidated financial statements. 29 ACG HOLDINGS, INC. Consolidated Statements of Stockholders' Deficit (In thousands)
Series AA and BB Other Voting convertible Additional accumulated common preferred paid-in Accumulated comprehensive stock stock capital deficit loss Total ---------- ----------- ---------- ----------- ------------- --------- Balances, March 31, 1996 $ 1 -- 57,499 (100,525) (1,371) $ (44,396) --------- Net loss -- -- -- (31,703) -- (31,703) Change in cumulative translation adjustment, net of tax -- -- -- -- (219) (219) --------- Comprehensive loss (31,922) --------- ----------- ---------- ----------- ------------- --------- Balances, March 31, 1997 $ 1 -- 57,499 (132,228) (1,590) $ (76,318) --------- Net loss -- -- -- (29,895) -- (29,895) Other comprehensive loss, net of tax: Change in cumulative translation adjustment -- -- -- -- (410) (410) Unfunded pension liability -- -- -- -- (85) (85) --------- Comprehensive loss (30,390) Treasury stock -- -- -- (127) -- (127) Exercise of stock options -- -- 176 -- -- 176 Executive stock compensation -- -- 574 -- -- 574 --------- ----------- ---------- ----------- ------------- --------- Balances, March 31, 1998 $ 1 -- 58,249 (162,250) (2,085) $(106,085) --------- Net loss -- -- -- (12,468) -- (12,468) Other comprehensive loss, net of tax: Change in cumulative translation adjustment -- -- -- -- (504) (504) Unfunded pension liability -- -- -- -- (99) (99) --------- Comprehensive loss (13,071) Treasury stock -- -- -- (187) -- (187) Executive stock compensation -- -- 37 -- -- 37 --------- ----------- ---------- ----------- ------------- --------- Balances, March 31, 1999 $ 1 -- 58,286 (174,905) (2,688) $ (119,306) ========= =========== ========== =========== ============= =========
See accompanying notes to consolidated financial statements. 30 ACG HOLDINGS, INC. Consolidated Statements of Cash Flows (In thousands)
Year ended March 31, ---------------------------------------- 1999 1998 1997 ----------- ---------- --------- Cash flows from operating activities: Net loss $ (12,468) (29,895) (31,703) Adjustments to reconcile net loss to net cash provided by operating activities: Extraordinary item - non-cash 4,106 -- -- Other special charges - non-cash 908 1,727 1,944 Depreciation 29,651 28,124 25,282 Depreciation and amortization related to SMC -- -- 251 Amortization of goodwill 2,527 8,537 8,254 Amortization of other assets 1,498 1,876 1,120 Amortization of deferred financing costs 1,412 2,292 1,784 Loss on shut down -- 667 1,550 Loss (gain) on disposals of property, plant and equipment 501 (37) 6 Deferred income tax (benefit) expense (1,303) 930 911 Changes in assets and liabilities, net of effects of shut down of SMI and SMC: Decrease (increase) in receivables 4,108 (9,079) 11,262 Decrease (increase) in inventories 2,388 (1,122) 3,453 Increase (decrease) in trade accounts payable 9,846 (1,887) (6,528) (Decrease) increase in accrued expenses (753) 1,172 1,226 Increase (decrease) in current income taxes payable 694 (520) (193) Increase in other liabilities 4,133 18,588 3,106 Other 889 (3,116) 2,588 -------- --------- -------- Total adjustments 60,605 48,152 56,016 -------- --------- -------- Net cash provided by operating activities 48,137 18,257 24,313 -------- --------- --------
See accompanying notes to consolidated financial statements. 31 ACG HOLDINGS, INC. Consolidated Statements of Cash Flows (In thousands)
Year ended March 31, ---------------------------------------- 1999 1998 1997 ----------- ---------- --------- Cash flows from investing activities: Purchases of property, plant and equipment (11,143) (10,902) (10,810) Proceeds from sales of property, plant and equipment 765 1,067 63 Other 14 (265) (250) ----------- ---------- --------- Net cash used by investing activities (10,364) (10,100) (10,997) ----------- ---------- --------- Cash flows from financing activities: Debt: Proceeds 75,000 25,000 1,162 Payments (103,185) (24,899) (10,374) Increase in deferred financing costs (2,608) (2,467) (827) Repayment of capital lease obligations (6,938) (6,349) (3,212) Other (81) 572 (61) ----------- ---------- --------- Net cash used by financing activities (37,812) (8,143) (13,312) ----------- ---------- --------- Effect of exchange rates on cash 39 (14) (4) ----------- ---------- --------- Decrease in cash 0 0 0 Cash: Beginning of period 0 0 0 ----------- ---------- --------- End of period $ 0 0 0 =========== ========== ========= Supplemental disclosure of cash flow information: Cash paid for: Interest $ 35,546 35,931 34,284 Income taxes, net of refunds 1,201 1,751 1,863 Exchange rate adjustment to long-term debt (81) (67) (61) Non-cash investing activities: Lease obligations $ 5,095 12,811 26,957
See accompanying notes to consolidated financial statements. 32 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (1) Summary of Significant Accounting Policies ACG Holdings, Inc. ("Holdings"), together with its wholly-owned subsidiary, American Color Graphics, Inc. ("Graphics"), (collectively the "Company"), was formed in April 1989 under the name GBP Holdings, Inc. to effect the purchase of all the capital stock of GBP Industries, Inc. from its stockholders in a leveraged buyout transaction. In October 1989, GBP Holdings, Inc. changed its name to Sullivan Holdings, Inc. and GBP Industries, Inc. changed its name to Sullivan Graphics, Inc. Effective June 1993, Sullivan Holdings, Inc. changed its name to Sullivan Communications, Inc. Effective July 1997, Sullivan Communications, Inc. changed its name to ACG Holdings, Inc. and Sullivan Graphics, Inc. changed its name to American Color Graphics, Inc. Holdings has no operations or significant assets other than its investment in Graphics. Holdings is dependent upon distributions from Graphics to fund its obligations. Under the terms of its debt agreements at March 31, 1999, Graphics' ability to pay dividends or lend to Holdings was either restricted or prohibited, except that Graphics may pay specified amounts to Holdings (i) to pay the repurchase price payable to any officer or employee (or their estates) of Holdings, Graphics or any of their respective subsidiaries in respect of their stock or options to purchase stock in Holdings upon the death, disability or termination of employment of such officers and employees (so long as no default, or event of default, as defined, has occurred under the terms of the Bank Credit Agreement, as defined below, and provided the aggregate amount of all such repurchases does not exceed $2 million) and (ii) to fund the payment of Holdings' operating expenses incurred in the ordinary course of business, other corporate overhead costs and expenses (so long as the aggregate amount of such payments does not exceed $250,000 in any fiscal year) and Holdings' obligations pursuant to a tax sharing agreement with Graphics. A significant portion of Graphics' long-term obligations has been fully and unconditionally guaranteed by Holdings. The two business segments of the commercial printing industry in which the Company operates are (i) printing and (ii) digital imaging and prepress services conducted by its American Color division. Significant accounting policies are as follows: (a) Basis of Presentation The consolidated financial statements include the accounts of Holdings and all greater than 50%-owned subsidiaries, which are consolidated under generally accepted accounting principles. All significant intercompany transactions and balances have been eliminated in consolidation. Earnings-per-share data has not been provided since Holdings' common stock is closely held. (b) Revenue Recognition In accordance with trade practices of the printing industry, printing revenues are recognized upon the completion of production. Shipment of printed material generally occurs upon completion of this production process. Materials are printed to unique customer specifications and are not returnable. Credits relating to specification variances and other customer adjustments are not significant. 33 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (c) Inventories Inventories are valued at the lower of first-in, first-out ("FIFO") cost or market (net realizable value). (d) Property, Plant and Equipment Property, plant and equipment is stated at cost. Depreciation, which includes amortization of assets under capital leases, is based on the straight-line method over the estimated useful lives of the assets or the remaining terms of the leases. Estimated useful lives used in computing depreciation and amortization expense are 3 to 15 years for furniture and fixtures, and machinery and equipment, and 15 to 40 years for buildings and improvements. (e) Excess of Cost Over Net Assets Acquired The excess of cost over net assets acquired (or "goodwill") is amortized on a straight-line basis over a range of 5 to 40 years for each of its principal business segments. The carrying value of goodwill is reviewed if facts and circumstances suggest that it may be impaired. If this review indicates that goodwill will not be recoverable, as determined based on the estimated undiscounted future cash flows of the assets acquired, the Company's carrying amount of the goodwill is reduced by the estimated shortfall of such discounted cash flows or other measures of fair value. In addition, the Company assesses long-lived assets for impairment under Financial Accounting Standards Board Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("SFAS 121"). Under these rules, goodwill associated with assets acquired in a purchase business combination is included in impairment evaluations when assets or circumstances exist that indicate the carrying amount of these assets may not be recoverable. (f) Other Assets Financing costs related to the Bank Credit Agreement (as defined herein) are deferred and amortized over the term of the agreement. Costs related to the Notes (as defined herein) are deferred and amortized over the ten-year term of the Notes. The covenant not to compete is amortized over the five-year term of the underlying agreement. (g) Income Taxes Income taxes have been provided using the liability method in accordance with Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). (h) Foreign Currency Translation The assets and liabilities of the Company's Canadian facility, which include interdivisional balances, are translated at year-end rates of exchange while revenue and expense items are translated at average rates for the year. Translation adjustments are recorded as a separate component of stockholders' deficit. Since the transactions of the Canadian facility are denominated in its functional currency and the interdivisional accounts are of a long-term investment nature, no transaction adjustments are included in operations. 34 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (i) Environmental Environmental expenditures that relate to current operations are expensed or capitalized as appropriate. Expenditures that relate to an existing condition caused by past operations, and which do not contribute to current or future period revenue generation, are expensed. Environmental liabilities are provided when assessments and/or remedial efforts are probable and the related amounts can be reasonably estimated. (j) Fair Value of Financial Instruments The Company discloses the estimated fair values of its financial instruments together with the related carrying amount. The Company is not a party to any financial instruments with material off-balance-sheet risk. (k) Concentration of Credit Risk Financial instruments, which subject the Company to credit risk, consist primarily of trade accounts receivable. Concentration of credit risk with respect to trade accounts receivable are generally diversified due to the large number of entities comprising the Company's customer base and their geographic dispersion. The Company performs ongoing credit evaluations of its customers and maintains an allowance for potential credit losses. (l) Use of Estimates The preparation of the financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. (m) Stock-Based Compensation Effective April 1, 1997 the Company changed its method of accounting for stock-based compensation plans from the intrinsic value method of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") to the fair value method established by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). Application of the recognition provisions of SFAS 123 is prospective (restatement of prior periods is prohibited). The Company believes that including the fair value of compensation plans in determining net income is consistent with accounting for the cost of all other forms of compensation. (n) Impact of Recently Issued Accounting Standards In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 130 "Reporting Comprehensive Income" ("SFAS 130"). SFAS 130 requires that companies report comprehensive income in either the Statement of Shareholders' Equity or in the Statement of Operations. Comprehensive income includes all changes in equity during a period except those resulting from investments by owners and distributions to owners. SFAS 130 is effective for fiscal years beginning after December 15, 1997. The Company adopted SFAS 130 during the fiscal year ended March 31, 1999 ("Fiscal Year 1999"). The adoption of this statement did not have a material impact on the financial position of the Company. 35 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 131 "Disclosures about Segments of an Enterprise and Related Information" ("SFAS 131"). SFAS 131, which supercedes Statement of Financial Accounting Standard No. 14 "Financial Reporting for Segments of a Business Enterprise," changes financial reporting requirements for business segments from an Industry Segment approach to an Operating Segment approach. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision-maker in deciding how to allocate resources and in assessing performance. SFAS 131 is effective for fiscal years beginning after December 15, 1997. The Company adopted SFAS 131 during Fiscal Year 1999. See note 17. SFAS 131 requires the Company to provide disclosures regarding its segments which it has not previously been required to provide. The disclosures include certain financial and qualitative data about its operating segments. Management does not feel this disclosure will have a material effect upon a reader's assessment of the financial performance and the financial condition of the Company. In February 1998, the Financial Accounting Standards Board issued Financial Accounting Standard No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132"), which standardizes the disclosure requirements for pensions and other postretirement benefits. SFAS 132 is effective for fiscal years beginning after December 15, 1997. The Company adopted this statement in Fiscal Year 1999 and as required by SFAS 132, restated the prior year disclosure for comparative purposes. In March 1998, the American Institute of Certified Public Accountants ("AICPA") issued Statement of Position No. 98-1 "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"). SOP 98-1 is effective for fiscal years beginning after December 15, 1998 and requires the capitalization of certain costs incurred in connection with developing or obtaining software for internal use after the date of adoption. The Company adopted SOP 98-1 in Fiscal Year 1999. The adoption of SOP 98-1 did not have a material effect on the results of operations or financial position of the Company. In May 1998, the AICPA issued Statement of Position No. 98-5 "Reporting on the Costs of Startup Activities" ("SOP 98-5"). SOP 98-5 requires companies to expense the costs of startup activities (including organization costs) as incurred. SOP 98-5 is effective for fiscal years beginning after December 15, 1998. The adoption of SOP 98-5 will not have a material effect on the results of operations or financial position of the Company. In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). This statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. This statement is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. Earlier adoption is permitted. Management does not anticipate that the adoption of SFAS 133 will have a material effect on the Company's results of operations or financial position. 36 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (2) Discontinued Operations SMC In February 1997, the Company made a strategic decision to shut down the operations of its wholly-owned subsidiary Sullivan Media Corporation ("SMC"). This resulted in an estimated net loss on shut down of approximately $1.5 million, which is net of zero income tax benefits. In the fiscal year ended March 31, 1998 ("Fiscal Year 1998"), the Company recorded an additional $0.4 million estimated net loss on shut down. The shut down of SMC has been accounted for as a discontinued operation, and accordingly, its operating results are segregated and reported as a discontinued operation in the accompanying consolidated statements of operations. The assets of SMC and any resulting gain or loss on the disposal of those assets is immaterial to the results of operations and financial position of the Company. The condensed consolidated statements of operations relating to the discontinued SMC operation follows: Year Ended March 31, --------------------------------- 1999 1998 1997 --------- -------- -------- Sales $ -- -- 9,786 Cost and expenses -- -- 11,343 --------- -------- -------- Loss before income taxes -- -- (1,557) Income taxes -- -- -- --------- -------- -------- Net loss $ -- -- (1,557) ========= ======== ======== (3) Inventories The components of inventories are as follows (in thousands): March 31, ----------------------- 1999 1998 -------- -------- Paper $ 6,525 9,161 Ink 232 227 Supplies and other 1,586 1,407 -------- -------- Total $ 8,343 10,795 ======== ======== 37 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (4) Other Assets The components of other assets are as follows (in thousands): March 31, ----------------------- 1999 1998 -------- -------- Deferred financing costs, less accumulated amortization of $3,278 in 1999 and $5,185 in 1998 $ 7,194 10,104 Spare parts inventory, net of valuation allowance of $100 in 1999 and 1998 2,293 1,852 Other 2,278 3,650 -------- -------- Total $ 11,765 15,606 ======== ======== (5) Accrued Expenses The components of accrued expenses are as follows (in thousands): March 31, ----------------------- 1999 1998 -------- -------- Compensation and related taxes $ 10,114 10,004 Employee benefits 8,814 8,755 Interest 4,264 5,028 Other 7,564 7,752 -------- -------- Total $ 30,756 31,539 ======== ======== 38 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (6) Notes Payable, Long-Term Debt and Capitalized Leases Long-term debt is summarized as follows (in thousands): March 31, ----------------------- 1999 1998 -------- -------- Bank Credit Agreement: Series A Term Loan $ 20,537 -- Series B Term Loan 43,753 -- Term Loan -- 35,979 Revolving Credit Facility Borrowings -- 29,257 -------- -------- 64,290 65,236 Old Term Loan Facility -- 25,000 12 3/4% Senior Subordinated Notes Due 2005 185,000 185,000 Capitalized leases 36,304 38,147 Other loans with varying maturities and interest rates 3,995 6,274 -------- -------- Total long-term debt 289,589 319,657 Less current installments 7,994 9,131 -------- -------- Long-term debt and capitalized leases, excluding current installments $281,595 310,526 ======== ======== Refinancing Transaction On May 8, 1998, the Company completed a refinancing transaction (the "1998 Refinancing") which included the following: (1) the Company entered into a $145 million credit facility with a syndicate of lenders (the "Bank Credit Agreement") which included an $11.5 million participation by Morgan Stanley Senior Funding, Inc., a related party, providing for a $70 million revolving credit facility which is not subject to a borrowing base limitation (the "Revolving Credit Facility") maturing on March 31, 2004, a $25 million amortizing term loan facility maturing on March 31, 2004 (the "A Term Loan Facility") and a $50 million amortizing term loan facility maturing on March 31, 2005 (the "B Term Loan Facility"); (2) the repayment of all $57.0 million of indebtedness outstanding under the Company's previous credit agreement, as amended (the "Old Bank Credit Agreement") (plus accrued interest to the date of repayment); (3) the repayment of all $25.0 million of indebtedness outstanding under the $25 million term loan facility which included a $5 million participation by Morgan Stanley & Co., Incorporated, a related party, which was to mature on March 31, 2001 (the "Old Term Loan Facility") (plus accrued interest to the date of repayment) and (4) the payment of fees and expenses associated with the 1998 Refinancing. In addition, the Company recorded an extraordinary loss related to early extinguishment of debt of $4.1 million, net of zero taxes, associated with the write-off of deferred financing costs related to refinanced indebtedness in the quarter ended June 30, 1998. 39 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements The Senior Subordinated Notes (the "Notes") bear interest at 12 3/4% and mature August 1, 2005. Interest on the Notes is payable semi-annually on February 1 and August 1. The Notes are redeemable at the option of Graphics in whole or in part after August 1, 2000 at 106.375% of the principal amount, declining to 100% of the principal amount, plus accrued interest, on or after August 1, 2002. Upon the occurrence of a change of control triggering event, as defined, each holder of a Note will have the right to require Graphics to repurchase all or any portion of such holder's Note at 101% of the principal amount thereof, plus accrued interest. The Notes are subordinate to all existing and future senior indebtedness, as defined, of Graphics, and are guaranteed on a senior subordinated basis by Holdings. Interest under the Bank Credit Agreement is floating based upon existing market rates plus agreed upon margin levels. In addition, the Company is obligated to pay specific commitment and letter of credit fees. Such margin levels and fees reduce over the term of the agreement subject to the achievement of certain Leverage Ratio measures. The weighted-average rate on outstanding indebtedness under the Bank Credit Agreement at March 31, 1999 was 7.1%. Borrowings under the Bank Credit Agreement are secured by substantially all of the Company's assets. In addition, Holdings has guaranteed the indebtedness under the Bank Credit Agreement, which guarantee is secured by a pledge of all of Graphics' and its subsidiaries' stock. The agreement (1) requires satisfaction of certain financial covenants including Minimum Consolidated EBITDA, Consolidated Interest Coverage Ratio and Leverage Ratio requirements, (2) requires prepayments in certain circumstances including excess cash flows, proceeds from asset dispositions in excess of prescribed levels and certain capital structure transactions and (3) contains various restrictions and limitations on the following items: (a) the level of capital spending, (b) the incurrence of additional indebtedness, (c) mergers, acquisitions, investments and similar transactions and (d) dividends and other distributions. In addition, the agreement includes various other customary affirmative and negative covenants. The Senior Subordinated Notes Indenture's negative covenants are similar to, but in certain respects are less restrictive than, covenants under the Bank Credit Agreement. Graphics' ability to pay dividends or lend funds to Holdings is restricted (see note 1 for a discussion of those restrictions). The amortization for total long-term debt and capitalized leases at March 31, 1999 is shown below (in thousands): Long-Term Capitalized Fiscal year Debt Leases ----------- --------- ------ 2000 $ 778 $10,376 2001 6,483 8,862 2002 6,310 7,623 2003 7,166 6,812 2004 26,341 6,149 Thereafter 206,207 7,379 -------- ------- Total $253,285 47,201 ======== Imputed interest 10,897 ------- Present value of minimum lease payments $36,304 ======= Capital leases have varying maturity dates and implicit interest rates which generally approximate 8%-10%. The Company estimates that the carrying amounts of the Company's debt and other financial instruments approximate their fair values at March 31, 1999 and 1998. 40 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (7) Income Taxes Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts as measured by tax laws and regulations. Significant components of the Company's deferred tax liabilities and assets as of March 31, 1999 and 1998 are as follows (in thousands): March 31, ----------------- 1999 1998 ---- ---- Deferred tax liabilities: Book over tax basis in fixed assets $29,579 31,466 Foreign taxes 2,631 3,701 Accumulated amortization 861 766 Other, net 4,449 4,594 ------- ------- Total deferred tax liabilities 37,520 40,527 Deferred tax assets: Bad debts 1,143 830 Accrued expenses and other liabilities 26,877 34,754 Accrued loss on discontinued operations 55 254 Net operating loss carryforwards 40,743 30,420 AMT credit carryforwards 1,262 1,262 Cumulative translation adjustment 984 786 ------- ------- Total deferred tax assets 71,064 68,306 Valuation allowance for deferred tax assets 41,460 37,222 ------- ------- Net deferred tax assets 29,604 31,084 ------- ------- Net deferred tax liabilities $ 7,916 9,443 ======= ======= Management has evaluated the need for a valuation allowance, and as such, a valuation allowance of $41.5 million has been recorded. The valuation allowance was increased by $4.2 million during the current fiscal year. 41 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements The components of income tax expense are as follows (in thousands): Year ended March 31, ------------------------------- 1999 1998 1997 ----- ----- ----- Amount attributable to continuing operations $ 523 2,106 2,591 Amount attributable to discontinued operations -- -- -- ----- ----- ----- Total expense $ 523 2,106 2,591 ===== ===== ===== Income tax expense (benefit) attributable to loss from continuing operations consists of (in thousands): Year ended March 31, ------------------------------- 1999 1998 1997 ----- ----- ----- Current Federal $ -- -- -- State 237 230 145 Foreign 1,589 946 1,535 --------- -------- ------- Total current 1,826 1,176 1,680 --------- -------- ------- Deferred Federal (132) (108) 354 State (102) (157) 120 Foreign (1,069) 1,195 437 --------- -------- ------- Total deferred (1,303) 930 911 --------- -------- ------- Provision for income taxes $ 523 2,106 2,591 ========= ======== ======= 42 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements The effective tax rates for Fiscal Year 1999, Fiscal Year 1998, and the fiscal year ending March 31, 1997 ("Fiscal Year 1997") were (6.7%), (7.8%), and (10.0%), respectively. The difference between these effective rates relating to continuing operations and the statutory federal income tax rate is composed of the following items: Year ended March 31, ------------------------------- 1999 1998 1997 ----- ----- ----- Statutory tax rate 35.0% 35.0% 35.0% State income taxes, less federal tax impact (1.1) (0.2) (0.7) Foreign taxes, less federal tax impact (4.4) (5.2) (5.0) Amortization (6.2) (9.9) (11.9) Change in valuation allowance (34.4) (24.1) (28.3) Other, net 4.4 (3.4) 0.9 ----- ----- ----- Effective income tax rate (6.7)% (7.8)% (10.0)% ===== ===== ===== As of March 31, 1999, the Company had available net operating loss carryforwards ("NOL's") for state purposes of $79.1 million, which can be used to offset future state taxable income. If these NOL's are not utilized, they will begin to expire in 2000 and will be totally expired in 2019. As of March 31, 1999, the Company had available NOL's for federal purposes of $107.5 million, which can be used to offset future federal taxable income. If these NOL's are not utilized, they will begin to expire in 2006 and will be totally expired in 2019. The Company also had available an alternative minimum tax credit carryforward of $1.3 million which can be used to offset future taxes in years in which the alternative minimum tax does not apply. This credit can be carried forward indefinitely. The Company has alternative minimum tax NOL's in the amount of $89.9 million, which will begin to expire in 2007 and will be completely expired in 2019. 43 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (8) Employee Benefit Plans Defined Benefit Pension Plans Pension Plans The Company sponsors defined benefit pension plans covering full-time employees of the Company who had at least one year of service at December 31, 1994. Benefits under these plans generally are based upon the employee's years of service and, in the case of salaried employees, compensation during the years immediately preceding retirement. The Company's general funding policy is to contribute amounts within the annually calculated actuarial range allowable as a deduction for federal income tax purposes. The plans' assets are maintained by trustees in separately managed portfolios consisting primarily of equity securities and fixed income securities. In October 1994, the Board of Directors approved an amendment to the Company's defined benefit pension plans, which resulted in the freezing of additional defined benefits for future services under the plans effective January 1, 1995. Supplemental Executive Retirement Plan In October 1994, the Board of Directors approved a new Supplemental Executive Retirement Plan ("SERP"), which is a defined benefit plan, for certain key executives. Such benefits will be paid from the Company's assets. The aggregate accumulated projected benefit obligation under this plan was approximately $2.6 million and $2.1 million at March 31, 1999 and March 31, 1998, respectively. Defined Benefit Postretirement Plans Postretirement Benefits The Company provides certain other postretirement benefits for employees, primarily life and health insurance. Full-time employees who have attained age 55 and have at least five years of service are entitled to postretirement health care and life insurance coverage. Postretirement life insurance coverage is provided at no cost to eligible retirees. Special cost sharing arrangements for health care coverage are available to employees whose age plus years of service at the date of retirement equals or exceeds 85 ("Rule of 85"). Any eligible retiree not meeting the Rule of 85 must pay 100% of the required health care insurance premium. Effective January 1, 1995, the Company amended the health care plan changing the health care benefit for all employees retiring on or after January 1, 2000. This amendment had the effect of reducing the accumulated postretirement benefit obligation by approximately $3 million. This reduction is reflected as unrecognized prior service cost and is being amortized on a straight line basis over 15.6 years, the average remaining years of service to full eligibility of active plan participants at the date of the amendment. 401(k) Defined Contribution Plan Effective January 1, 1995, the Company amended its 401(k) defined contribution plan. Eligible participants may contribute up to 15% of their annual compensation subject to maximum amounts established by the Internal Revenue Service and receive a matching employer contribution on amounts contributed. The employer matching contribution is made bi-weekly and equals 2% of annual compensation for all plan participants plus 50% of the first 6% of annual compensation contributed to the plan by each employee, subject to maximum amounts established by the Internal Revenue Service. The Company's contribution under this Plan amounted to $3.8 million in Fiscal Year 1999, $3.3 million during Fiscal Year 1998 and $3.4 million during Fiscal Year 1997. 44 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements The following table provides a reconciliation of the changes in the defined benefit plans' benefit obligations and fair value of plan assets for the Fiscal Years 1999 and 1998 and a statement of the funded status of such plans as of March 31, 1999 and 1998:
Defined Benefit Defined Benefit Pension Plans Postretirement Plan -------------------- ------------------- 1999 1998 1999 1998 -------- -------- ------- ------- Change in Benefit Obligation Benefit obligation at beginning of year $ 55,064 49,707 3,766 3,393 Service cost 680 769 30 46 Interest cost 3,901 3,762 181 265 Plan participants' contributions -- -- 148 128 Actuarial loss (gain) 1,468 3,541 (980) 508 Benefits paid (2,649) (2,727) (499) (574) Curtailment gain (63) 12 -- -- Settlement gain (69) -- -- -- -------- -------- ------- ------- Benefit obligation at end of year $ 58,332 55,064 2,646 3,766 ======== ======== ======= ======= Change in Plan Assets Fair value of plan assets at beginning of year $ 45,306 41,391 -- -- Actual return on plan assets 6,462 5,984 -- -- Employer contributions 693 780 351 446 Plan participants' contributions -- -- 148 128 Benefits paid (2,978) (2,849) (499) (574) -------- -------- ------- ------- Fair value of plan assets at end of year $ 49,483 45,306 -- -- ======== ======== ======= ======= Funded status $ (8,849) (9,758) (2,646) (3,766) Unrecognized net actuarial (gain) loss (2,501) 85 (1,537) (1,145) Unrecognized net transition obligation -- (2,142) -- -- Unrecognized prior service cost (350) (371) (2,522) (2,391) -------- -------- ------- ------- Accrued benefit cost $(11,700) (12,186) (6,705) (7,302) ======== ======== ======= =======
45 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements
Defined Benefit Pension Plans Defined Benefit Postretirement Plan ----------------------------- ----------------------------------- 1999 1998 1999 1998 -------- -------- ------ ------ Weighted - average assumptions: Discount rate - benefit obligation 7.00% 7.25% 7.00% 7.25% Expected return on plan assets 10.00% 9.25% N/A N/A Rate of compensation increase N/A N/A N/A N/A
For measurement purposes under the defined benefit postretirement plan, a 7.0 percent annual rate of increase in the per capita cost of covered health care benefits was assumed for March 31, 1999. The rate was assumed to decrease gradually to 5 percent through fiscal year 2003 and remain at that level thereafter.
Defined Benefit Pension Plans Defined Benefit Postretirement Plan ----------------------------- ----------------------------------- 1999 1998 1999 1998 -------- -------- ------ ------ Components of net periodic benefit cost: Service cost $ 680 769 30 46 Interest cost 3,876 3,656 181 265 Expected return on plan assets (4,410) (3,715) -- -- Amortization of prior service cost 55 76 (315) (193) Recognized net actuarial (gain) loss -- (103) (142) (79) ---------- ------- ------ ----- Net periodic benefit cost $ 201 683 (246) 39 ========== ======= ====== =====
Assumed health care cost trend rates have a significant effect on the amounts reported for the defined benefit postretirement plan. A one-percentage point change in the assumed health care cost trend rates would have the following effects: 1% Point 1% Point Increase Decrease -------- -------- Effect on total of service and interest cost components of expense $ 168 158 Effect on postretirement benefit obligation $ 2,273 2,118 (9) Capital Stock Effective January 16, 1998, the Company amended and restated its Certificate of Incorporation and approved a recapitalization plan resulting in the conversion of Series A and Series B convertible preferred stock (the "Previously Issued Preferred Stock") into Series AA and Series BB convertible Preferred Stock collectively, ("Preferred Stock"). At March 31, 1999, capital stock consists of Holdings' common stock ("Common Stock") and Preferred Stock. The Preferred Stock has rights on preferences substantially the same as the Previously Issued Preferred Stock. Each share of Common Stock is entitled to one vote on each matter common shareholders are entitled to vote on. The Preferred Stock has no voting rights. Dividends on the Common Stock and Preferred Stock are discretionary by the Board of Directors. Upon the occurrence of a Liquidation Event (as defined in the amended and restated 46 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements Certificate of Incorporation), all amounts available for payment or distribution shall first be paid to holders of Series BB preferred stock, then holders of Series AA preferred stock and then to holders of Common Stock. Each share of the Preferred Stock may be converted, at the option of the holder, into shares of Common Stock using conversion ratios and subject to conditions set forth in the Company's Certificate of Incorporation. (10) Stock Option Plans Effective April 1, 1997 the Company changed its method of accounting for stock-based compensation plans from the intrinsic value method of APB 25 to the fair value method established by SFAS 123. Application of the recognition provisions of SFAS 123 is prospective (restatement of prior periods is prohibited). However, SFAS 123 pro forma information for prior years is required. The effects of applying SFAS 123 for either recognizing compensation expense or providing pro forma disclosures are not likely to be representative of the effects on future years. Common Stock Option Plan In 1993, the Company established the ACG Holdings, Inc. Common Stock Option Plan. This plan, as amended, (the "1993 Common Stock Option Plan") is administered by a committee of the Board of Directors (the "Committee") and provides for granting up to 20,841 shares of Common Stock. On January 16, 1998, the Company established another common stock option plan (the "1998 Common Stock Option Plan"). This plan is administered by the Committee and provides for granting up to 36,939 shares of Common Stock. The 1993 Common Stock Option Plan and the 1998 Common Stock Option Plan are collectively referred to as the "Common Stock Option Plans". Stock options may be granted under the Common Stock Option Plans to officers and other key employees of the Company at the exercise price per share of Common Stock, as determined at the time of grant by the Committee in its sole discretion. All options are 25% exercisable on the first anniversary date of a grant and vest in additional 25% increments on each of the next three anniversary dates of each grant. All options expire 10 years from date of grant. A summary of activity under the Common Stock Option Plans is as follows: Weighted- Average Exercise Options Price ($) ------- --------- Outstanding at March 31, 1996 16,499 50.00 Granted 6,015 50.00 Exercised -- -- Forfeited (3,214) 50.00 -------- Outstanding at March 31, 1997 19,300 50.00 Granted 30,014 .01 Exercised (11,773) 14.95 Forfeited (334) 50.00 -------- Outstanding at March 31, 1998 37,207 1.42(a) Granted 4,283 97.45 Exercised -- -- Forfeited (4,309) 12.23 -------- Outstanding at March 31, 1999 37,181 11.23 ======== (a) Reflects Fiscal Year 1998 option repricing discussed below. The weighted-average grant-date fair value of options granted was $0 for fiscal years ending March 31, 1999, 1998 and 1997. The weighted- 47 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements average remaining contractual life of the options outstanding at March 31, 1999 was 7.5 years. The options outstanding at March 31, 1999, had exercise prices ranging from $.01 to $240. Of the options outstanding; 9,698; 1,147 and 9,004 were exercisable at March 31, 1999, 1998 and 1997, respectively. The weighted-average exercise price of the exercisable options was $.01 at March 31, 1999 and 1998, and $50 at March 31, 1997. During Fiscal Year 1998, certain common stock option agreements were modified to reprice options previously granted with a $50 exercise price to a $.01 exercise price. A total of 9,188 shares (including 362 previously exercised options that were subsequently cancelled) of Holdings Common Stock were reserved for issuance, but not granted under the Common Stock Option Plans at March 31, 1999. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for Fiscal Year 1999, Fiscal Year 1998 and Fiscal Year 1997: risk-free interest rates of 4.5 - 5.6%, 5.5% and 6.5%, respectively; no annual dividend yield; volatility factors of 0; and an expected option life of 5 years. For the purposes of Fiscal Year 1997 SFAS 123 pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. Because the fair value of the Company's options equaled $0, earnings were the same for Fiscal Year 1997 under both APB 25 and SFAS 123. Preferred Stock Option Plan In Fiscal Year 1998, the Company established the ACG Holdings, Inc. Preferred Stock Option Plan (the "Preferred Stock Option Plan"). This plan is administered by the Committee and provides for granting up to 583 shares of Preferred Stock. Stock options may be granted under this Preferred Stock Option Plan to officers and other key employees of the Company at the exercise price per share of Preferred Stock, as determined at the time of grant by the Committee in its sole discretion. All options are fully vested and are 100% exercisable at the date of grant. All options expire 10 years from date of grant. A summary of the Preferred Stock Option Plan is as follows: Options ------- Outstanding at March 31, 1997 -- Granted 526 Exercised -- Forfeited -- ----- Outstanding at March 31, 1998 526 Granted 29 Exercised -- Forfeited -- ----- Outstanding at March 31, 1999 555 ===== All options were granted with a $1,909 exercise price. The weighted-average grant-date fair value of options granted was $1,288 and $1,091 for Fiscal Year 1999 and Fiscal Year 1998, respectively. The weighted-average remaining contractual life of the options outstanding at March 31, 1999 was 8.8 years. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model. The following weighted-average assumptions were used for Fiscal Year 1999 and Fiscal Year 1998: risk free interest rate of 5.6% and 5.5%, respectively; no annual dividend yield; volatility factors of 0; and an expected option life of 2 years. All of the options outstanding were exercisable at March 31, 1999. A total of 28 shares of Holdings Preferred Stock was reserved for issuance, but not granted under the Preferred Stock Option Plan at March 31, 1999. As a result of the SFAS 123 requirements, the Company recognized $0.0 million and $0.6 million of related compensation expense in Fiscal Year 1999 and Fiscal Year 1998, respectively. 48 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (11) Commitments and Contingencies The Company incurred rent expense for Fiscal Year 1999, Fiscal Year 1998, and Fiscal Year 1997 of $6.9 million, $6.4 million, and $5.4 million, respectively, under various operating leases. Future minimum rental commitments under existing operating lease arrangements at March 31, 1999 are as follows (in thousands): Fiscal Year ----------- 2000 $ 5,051 2001 4,106 2002 3,461 2003 2,216 2004 980 Thereafter 3,589 -------- Total $ 19,403 ======== The Company has employment agreements with one of its principal officers and four other employees. Such agreements provide for minimum salary levels as well as for incentive bonuses which are payable if specified management goals are attained. The aggregate commitment for future salaries at March 31, 1999, excluding bonuses, was approximately $2.7 million. On December 21, 1989, Graphics sold to CPS Corp ("CPS"), its ink manufacturing operations and facilities. Graphics remains contingently liable under $1.5 million of industrial revenue bonds assumed by CPS. CPS assumed these liabilities and has agreed to indemnify Graphics for any resulting obligation and has also provided an irrevocable letter of credit in favor of the holders of such bonds. Accordingly, management believes that any obligation of Graphics under this contingency is unlikely. Concurrent with the sale of its ink manufacturing facility, Graphics entered into a long-term ink supply contract with CPS. The supply contract requires Graphics to purchase a significant portion of its ink requirements, within certain limitations and minimums, from CPS. Graphics believes that prices for products under this contract approximate market prices at the time of purchase of such products. In the quarter ended December 31, 1997, the Company entered into multi-year contracts to purchase a portion of the Company's raw materials to be used in its normal operations. In connection with such purchase agreements, pricing for a portion of the Company's raw materials is adjusted for certain movements in market prices, changes in raw material costs and other specific price increases. The Company is deferring certain contractual provisions over the life of the contracts, which are being recognized as the purchase commitments are achieved. The amount deferred at March 31, 1999 is $25.7 million and is included within Other liabilities in the Company's consolidated balance sheet. Graphics, together with over 300 other persons, has been designated by the U.S. Environmental Protection Agency as a potentially responsible party (a "PRP") under the Comprehensive Environmental Response Compensation and Liability Act ("CERCLA", also known as "Superfund") at one Superfund site. Although liability under CERCLA may be imposed on a joint and several basis and the Company's ultimate liability is not precisely determinable, the PRPs have agreed that Graphics' share of removal costs is 0.46% and therefore Graphics believes that its share of the 49 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements anticipated remediation costs at such site will not be material to its business or financial condition. Based upon an analysis of Graphics' volumetric share of waste contributed to the site and the agreement among the PRPs, the Company maintains a reserve of approximately $0.1 million in connection with this liability on its consolidated balance sheet at March 31, 1999. The Company believes this amount is adequate to cover such liability. The Company has been named as a defendant in several legal actions arising from its normal business activities. In the opinion of management, any liabilities that may arise from such actions will not, individually or in the aggregate, have a material adverse effect on the consolidated financial statements of the Company. (12) Significant Customers No single customer represented 10% or more of total sales in the fiscal years ended March 31, 1999, 1998 and 1997. (13) Interim Financial Information (Unaudited) Quarterly financial information follows (in thousands):
Loss Before Gross Extraordinary Extraordinary Net Income Net Sales Profit Item Item (Loss) ------------- ---------- ------------- ------------- ---------- Fiscal Year 1999: Quarter Ended June 30 $ 127,813 18,562 (1,423) (4,020) (5,443) September 30 126,965 20,014 (1,572) -- (1,572) December 31 144,296 26,000 3,557 -- 3,557 March 31 121,269 16,676 (8,924) (86) (9,010) ----------- --------- --------- -------- --------- Total $ 520,343 81,252 (8,362) (4,106) (12,468) =========== ========= ========= ======== ========= Fiscal Year 1998: Quarter Ended June 30 $ 126,128 17,028 (4,950) -- (4,950) September 30 135,609 17,863 (6,404) -- (6,404) December 31 145,748 20,370 (2,285) -- (2,285) March 31 125,850 16,667 (16,256) -- (16,256) ----------- --------- --------- -------- --------- Total $ 533,335 71,928 (29,895) -- (29,895) =========== ========= ========= ======== =========
50 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (14) Restructuring Costs and Other Special Charges Restructuring Costs: American Color. In March 1999, the Company approved a plan for its American Color division which was designed to consolidate certain facilities in order to improve asset utilization and operational efficiency, modify the organizational structure as a result of facility consolidation and other changes and reduce overhead and other costs. The cost of this plan is being accounted for in accordance with the guidance set forth in Emerging Issues Task Force Issue 94-3 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring)" ("EITF 94-3"). The pretax costs of $4.6 million which were incurred as a direct result of this plan (excluding other special charges related to asset write-offs and write-downs - see below) includes $2.5 million of employee termination costs, $1.2 million of lease settlement costs and $0.9 million of other transition and restructuring expenses. This restructuring charge was recorded in the quarter ended March 31, 1999. The majority of these costs will be paid or settled before March 31, 2000. In April 1995, the Company implemented a plan for its American Color division, which was designed to improve productivity, increase customer service and responsiveness, and provide increased growth in the digital imaging and prepress services business. The cost of this plan was accounted for in accordance with the guidance set forth in EITF 94-3. The pretax costs of $5 million which were incurred as a part of this plan (excluding other special charges related to asset write-offs and write-downs - see below) represent employee termination, goodwill write-down and other related costs that were incurred as a direct result of the plan. Approximately $0.9 million of restructuring costs primarily related to relocation expenses were recognized in Fiscal Year 1997. Printing. In January 1998, the Company approved a plan for its printing division, which was designed to improve responsiveness to customer requirements, increase asset utilization and reduce overhead costs. The cost of this plan was accounted for in accordance with the guidance set forth in EITF 94-3. The pretax costs of $3.9 million which were incurred as a direct result of this plan (excluding other special charges related to asset write-offs and write-downs - see below) includes $3.3 million of employee termination costs and $0.6 million of relocation and other transition expenses. This restructuring charge was recorded in the quarter ended March 31, 1998. These costs were paid or settled before March 31, 1999. Other Special Charges: During the quarter ended March 31, 1999, the Company recorded special charges totaling $0.9 million to adjust the carrying values of idle, disposed and under-performing assets of the American Color division to estimated fair values. The provision was based on a review of the Company's long-lived assets in accordance with SFAS 121. Fair value was based on the Company's estimate of held and used and idle assets based on current market conditions using the best information available. During the quarter ended March 31, 1998, the Company recorded special charges totaling $1.7 million to adjust the carrying values of idle, disposed and under-performing assets of the printing segment to estimated fair values. The provision was based on a review of the Company's long-lived assets in accordance with SFAS 121. Fair value was based on the Company's estimate of held and used and idle assets based on current market conditions using the best information available. 51 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements During Fiscal Year 1997, the Company recorded special charges totaling $1.9 million, for impaired long-lived assets and to adjust the carrying values of idle, disposed and under-performing assets to estimated fair values. The provisions were based on a review of long-lived assets in connection with the initial adoption of SFAS 121. Of the Fiscal Year 1997 total of long-lived assets that were adjusted based on being idle, disposed of or under-performing, approximately $0.4 million and $1.5 million related to the printing and American Color divisions, respectively. Fair value was based on the Company's estimate of held and used and idle assets based on current market conditions using the best information available. These special charges are classified within restructuring costs and other special charges in the consolidated statements of operations. (15) Non-recurring Charge Related to Resignation of Former Chief Executive Officer A non-recurring charge of $1.9 million relating to the resignation of the Company's former Chief Executive Officer was recorded in Fiscal Year 1997, and is classified as a selling, general and administrative expense. Payments under the related agreement continue through 2001, subject to certain requirements. (16) Summarized Financial Information of American Color Graphics, Inc. Summary financial information for Holdings' wholly-owned subsidiary, American Color Graphics, Inc., is as follows (in thousands): March 31, -------------------------------- 1999 1998 ---------- --------- Balance sheet data: Current assets $ 71,591 80,163 Noncurrent assets 227,409 249,795 Current liabilities 77,515 69,176 Noncurrent liabilities 341,264 367,490 Year ended March 31, ------------------------------------- 1999 1998 1997 ----------- --------- --------- Statement of operations data: Sales $ 520,343 533,335 524,551 Operating income 29,455 12,103 10,372 Net loss (12,468) (29,895) (31,703) 52 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements (17) Industry Segment Information Effective March 31, 1999, the Company adopted the provisions of SFAS 131. The Company has restated its sector disclosures in prior years to conform to the requirements of SFAS 131. The Company has significant operations principally in two industry segments: (1) printing and (2) digital imaging and prepress services. All of the Company's printing business and assets are attributed to the printing division and all of the Company's digital imaging and prepress business and assets are attributed to the American Color division ("American Color"). The Company's digital visual effects operations and corporate expenses have been segregated and do not constitute a reportable segment of the Company as contemplated by SFAS 131. The Company has two reportable segments: (1) printing and (2) digital imaging and prepress services. The printing business produces retail advertising inserts, comics (newspaper Sunday comics, comic insert advertising and comic books), and other publications. The Company's digital imaging and prepress services business assist customers in the capture, manipulation, transmission and distribution of images. The majority of its work leads to the production of four-color separations in a format appropriate for use by printers. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on segment EBITDA which is defined as earnings before net interest expense, income tax expense, depreciation, amortization, other special charges related to asset write-offs and write-downs, other income (expense), discontinued operations and extraordinary items. The Company generally accounts for intersegment revenues and transfers as if the revenues or transfers were to third parties, that is, at current market prices. The Company's reportable segments are business units that offer different products and services. They are managed separately because each segment requires different technology and marketing strategies. A substantial portion of the revenue, long-lived assets and other assets of the Company's reportable segments are attributed to or located in the United States.
Digital Imaging & Corporate and (In Thousands of Dollars) Printing Prepress Other Total ------------------------------------------------------ ----------- ----------- ------------- ---------- 1999 Segment revenues $ 431,936 83,816 4,591 520,343 EBITDA $ 61,627 5,283 (2,624) 64,286 Depreciation and amortization 22,633 6,670 4,373 33,676 Interest expense -- -- 36,242 36,242 Interest income -- -- (165) (165) Other charges, net -- 1,155 -- 1,155 Other, net 24 819 374 1,217 ----------- -------- -------- --------- Income (loss) from continuing operations before income taxes and extraordinary items $ 38,970 (3,361) (43,448) (7,839) Total assets $ 256,641 30,451 11,908 299,000 Total capital expenditures $ 9,369 6,051 818 16,238
53 ACG HOLDINGS, INC. Notes to Consolidated Financial Statements
Digital Imaging & Corporate and (In Thousands of Dollars) Printing Prepress Other Total - ------------------------- -------- -------- ------------- ----- 1998 Segment revenues $446,350 82,384 4,601 533,335 EBITDA $ 46,838 8,405 (2,876) 52,367 Depreciation and amortization 22,499 6,001 10,037 38,537 Interest expense -- -- 38,956 38,956 Interest income -- -- (143) (143) Other special charges - SFAS 121 1,727 -- -- 1,727 Other, net 207 (206) 411 412 -------- -------- -------- -------- Income (loss) from continuing operations before income taxes $ 22,405 2,610 (52,137) (27,122) Total assets $278,965 33,351 17,642 329,958 Total capital expenditures $ 14,438 7,291 1,984 23,713 - --------------------------------------------------------------------------------------------------- 1997 Segment revenues $449,924 71,712 2,915 524,551 EBITDA $ 46,755 5,180 (4,963) 46,972 Depreciation and amortization 20,431 5,017 9,208 34,656 Interest expense -- -- 36,289 36,289 Interest income -- -- (157) (157) Other special charges - SFAS 121 466 1,478 -- 1,944 Other, net 179 93 (27) 245 -------- -------- -------- -------- Income (loss) from continuing operations before income taxes $ 25,679 (1,408) (50,276) (26,005) Total assets $282,519 34,208 17,248 333,975 Total capital expenditures $ 27,844 5,681 4,242 37,767
54 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 55 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS The following table provides certain information about each of the current directors and executive officers of Holdings and Graphics (ages as of March 31, 1999). All directors hold office until their successors are duly elected and qualified. Name Age Position with Graphics and Holdings - ---- --- ----------------------------------- Stephen M. Dyott 47 Chairman, President, Chief Executive Officer and Director Michael M. Janson 50 Director Eric T. Fry 32 Director Joseph M. Milano 46 Executive Vice President and Chief Financial Officer Larry R. Williams 58 Executive Vice President Purchasing of Graphics Timothy M. Davis 44 Senior Vice President-Administration, Secretary and General Counsel Malcolm J. Anderson 60 Executive Vice President Operations of Graphics Patrick W. Kellick 41 Senior Vice President/Corporate Controller and Assistant Secretary Stephen M. Dyott - Chairman and Chief Executive Officer of Graphics and Holdings since September 1996; President of Holdings since February 1995; Director of Graphics and Holdings since September 1994; Chief Operating Officer of Holdings from February 1995 to September 1996 and Chief Operating Officer of Graphics from 1991 to September 1996; President of Graphics since 1991; Vice President and General Manager - Flexible Packaging, American National Can Company ("ANCC") from 1988 to 1991; Vice President and General Manager - Tube Packaging, ANCC from 1985 to 1987. Michael M. Janson - Director of Holdings and Graphics since February 1998; Managing Director of the general partner of Morgan Stanley Dean Witter Capital Partners ("MSDWCP") and of Morgan Stanley & Co., Incorporated ("MS&Co."); 1987 joined MS&Co.; 1997 joined MSDWCP; Managing Director in MS&Co.'s High Yield Capital Markets Department before joining MSDWCP; Director of Choice One Communications Inc., Silgan Holdings Inc., and Renaissance Media Group. Eric T. Fry - Director of Graphics and Holdings since March 1996; Vice President of the general partner of MSDWCP and MS&Co.; Joined MS&Co. in 1989, initially in the Mergers and Acquisitions Department and from 1991 to 1992 in MSDWCP; From 1992 to 1994 attended Harvard Business School and received an MBA; Rejoined MSDWCP in 1994; Director of Enterprise Reinsurance Holdings Corporation, Vanguard Health Systems, Inc. and LifeTrust America, L.L.C. Joseph M. Milano - Executive Vice President and Chief Financial Officer of Holdings and Graphics from 1997 to 1998; Senior Vice President and Chief Financial Officer of Holdings and Graphics from 1994 to 1997; Vice President - Finance of Holdings and Graphics from 1992 to 1994; Vice President and Chief Financial Officer, Farrel Corporation, 1989 to 1992; Vice President and Chief Financial Officer, Electronic Mail Corporation of America from 1984 to 1988. Larry R. Williams - Executive Vice President, Purchasing of Graphics since 1997; Senior Vice President - Purchasing, Marketing and Newspaper Sales of Graphics from 1996 to 1997; Senior Vice President of Purchasing / Transportation of Graphics from 1993 to 1996; Independent Management Consultant from 1992 to 1993 and Senior Vice President, Operations Support for Ryder Systems from 1990 to 1992. Timothy M. Davis - Senior Vice President - Administration, Secretary and General Counsel of Holdings and Graphics since 1989; Assistant General Counsel of MacMillan, Inc. and counsel to affiliates of Maxwell Communication Corporation North America, January 1989 to June 1989; Attorney in private practice from 1981 to 1989. Malcolm J. Anderson - Executive Vice President Operations of Graphics since 1996; Senior Vice President Operations of Graphics from 1993 to 1996; President, Plastic Products Division of Kerr Group, Inc. from 1989 to 1993; Vice President Manufacturing - Flexible Packaging, American National Can Company from 1982 to 1989; Vice President, Eastern Division General Manager of Sinclair and Valentine Ink Company from 1980 to 1982. 56 Patrick W. Kellick - Senior Vice President/Corporate Controller of Holdings and Graphics from 1997 to 1998; Vice President/Corporate Controller of Holdings and Graphics from 1989 to 1997; Corporate Controller of Graphics since 1987, and Assistant Secretary of Holdings and Graphics since 1995; various financial positions with Williams Precious Metals (a division of Brush Wellman, Inc.) from 1984 to 1987, including CFO from 1986 to 1987; Auditor with KPMG from 1979 to 1984. ITEM 11. EXECUTIVE COMPENSATION Summary Compensation Table The following table presents information concerning compensation for services to Holdings and Graphics during the fiscal years ended March 31, 1999, 1998 and 1997 to the Chief Executive Officers and the four other most highly compensated executive officers (the "Named Executive Officers") of Holdings and/or Graphics. Summary Compensation Table
Long-Term Compensation --------------------------------- Annual Compensation Awards Payouts ------------------------------- ------------------------ ------- Securities Other Under- Annual Restricted lying All Other Name and Principal Compen- Stock Options/ LTIP Compen- Position Period Salary Bonus sation Award(s) SAR's (#) Payouts sation -------- ------ ------ ----- ------ -------- --------- ------- ------ Stephen M. Dyott Fiscal Year 1999 $517,311 $800,000 -- -- -- -- -- Chairman, President and Fiscal Year 1998 $475,000 $525,000 -- -- 9,462 -- -- Chief Executive Officer Fiscal Year 1997 $463,462 $350,000 -- -- 1,761 -- -- & Director Joseph M. Milano Fiscal Year 1999 $287,981 $325,000 -- -- 29 -- -- Executive Vice President Fiscal Year 1998 $275,000 $290,000 -- -- 5,217 -- -- & Chief Financial Officer Fiscal Year 1997 $260,097 $150,000 -- -- 760 -- -- Larry R. Williams Fiscal Year 1999 $300,000 $200,000 -- -- -- -- -- Executive Vice President Fiscal Year 1998 $300,000 $200,000 -- -- 1,158 -- -- Purchasing of Graphics Fiscal Year 1997 $230,000 $105,000 -- -- 125 -- -- Timothy M. Davis Fiscal Year 1999 $252,308 $225,000 -- -- -- -- -- Senior Vice Fiscal Year 1998 $233,200 $160,000 -- -- 2,538 -- -- President-Administration, Fiscal Year 1997 $220,562 $110,000 -- -- 290 -- -- Secretary & General Counsel Malcolm J. Anderson Fiscal Year 1999 $240,385 $225,000 -- -- -- -- -- Executive Vice President Fiscal Year 1998 $230,000 $200,000 -- -- 1,158 -- -- Operations of Graphics Fiscal Year 1997 $230,000 $105,000 -- -- 125 -- --
57 The following table presents information concerning the options granted to the Named Executive Officers during the last fiscal year. All outstanding options issued prior to April 8, 1993 were canceled in connection with the 1993 Acquisition. Option/SAR Grants in Last Fiscal Year
Alternative To (f) and (g) Grant Date Individual Grants Value - ------------------------------------------------------------------------------------------------------ --------------- % of Total Options/ Number of SAR's Securities Granted to Grant Underlying Employees Exercise or Date Options/SAR's in Fiscal Base Price Expiration Present Name Granted (#) Year 1999 ($/sh) Date Value ($) ---- ----------- --------- ------ ---- --------- Preferred Plan Joseph M. Milano 29(a) 100% 1,908.76 06/04/2008 37,352(b)
- ---------- (a) Options granted to Joseph M. Milano on June 4, 1998 were granted pursuant to the ACG Holdings, Inc. Preferred Stock Option Plan at an exercise price of $1,908.76 and the underlying securities had a per share fair market value on the date of grant of $3,000. These options were fully vested and exercisable on the date of grant. (b) The grant date present value shown in the table is based on calculations using a Black-Scholes option pricing model with the following weighted-average assumptions at the date of grant: risk free interest rate of 5.59%; no annual dividend yield; volatility factor of 0; and an expected option life of two years. The following table presents information concerning the fiscal year-end value of unexercised stock options held by the Named Executive Officers. Aggregated Option/SAR Exercises in Last Fiscal Year and Fiscal Year-End Option/SAR Values
Number of Securities Value of Unexercised Underlying Unexercised In-the-Money Options/ Shares Acquired Value Options/SAR's at 3/31/99 SAR's at 3/31/99 on Exercise (#) Realized($) Exercisable/Unexercisable Exercisable/Unexercisable($) ---------------- --------------- ------------------------- --------------------------- Common Plan (a) Stephen M. Dyott -- -- 3,042.50 / 7,853 (a) Joseph M. Milano -- -- 1,783.25 / 4,336.75 (a) Larry R. Williams -- -- 452.25 / 931 (a) Timothy M. Davis -- -- 840.75 / 2,048.50 (a) Malcolm J. Anderson -- -- 452.25 / 931 (a) Preferred Plan (b) Stephen M. Dyott -- -- 292 / 0 318,642 / 0 (b) Joseph M. Milano -- -- 175 / 0 190,967 / 0 (b) Timothy M. Davis -- -- 88 / 0 96,029 / 0 (b)
(a) Holdings' common stock has not been registered or publicly traded and, therefore a public market price of the stock is not available. The values set forth in the table are based on our estimate of the fair market value of the common stock at March 31, 1999. Holdings believes the exercise price of the options held by the Named Executive Officers at March 31, 1999, was in each case greater than the fair market value of the underlying shares of Holdings' common stock as of such date. (b) Holdings' preferred stock has not been registered or publicly traded and, therefore a public market price of the stock is not available. The values set forth in the table are based on our estimate of the fair market value of the preferred stock at March 31, 1999. 58 Pension Plan Graphics sponsors the American Color Graphics, Inc. Salaried Employees' Pension Plan (the "Pension Plan"), a defined benefit pension plan covering full-time salaried employees of Graphics who had at least one year of service as of December 31, 1994. In October 1994, the Board of Directors approved an amendment to the Pension Plan which resulted in the freezing of additional defined benefits for future services under such plan effective January 1, 1995 (see note 8 to our consolidated financial statements appearing elsewhere in this Report). At March 31, 1999, all of the Named Executive Officers had vested in the pension plan. At March 31, 1999, the Named Executive Officers had the following amounts of credited service (original hire date through January 1, 1995) and annual benefit payable upon retirement at age 65 under the Pension Plan: Stephen M. Dyott (3 years, 3 months; $8,220), Joseph M. Milano (2 years, 7 months; $5,820), Larry R. Williams (1 year, 5 months; $3,192), Timothy M. Davis (5 years, 5 months; $11,700) and Malcolm J. Anderson (1 year, 3 months; $2,820). The basic benefit payable under the Pension Plan is a five-year certain single life annuity equivalent to (a) 1% of a participant's "final average monthly compensation" plus (b) 0.6% of a participant's "final average monthly compensation" in excess of 40% of the monthly maximum Social Security wage base in the year of retirement multiplied by years of credited service (not to exceed 30 years of service). For purposes of the Pension Plan, "final average compensation" (which, for the Named Executive Officers, is reflected in the salary and bonus columns of the Summary Compensation Table) means the average of a participant's five highest consecutive calendar years of total earnings (which includes bonuses) from the last 10 years of service. The maximum monthly benefit payable from the Pension Plan is $5,000. The basic benefit under the Pension Plan is payable upon completion of five years of vesting service and retirement on or after attaining age 65. Participants may elect early retirement under the Pension Plan upon completion of five years of vesting service and the attainment of age 55, and receive the basic benefit reduced by 0.4167% for each month that the benefit commencement date precedes the attainment of age 65. A deferred vested benefit is available to those participants who separate from service before retirement, provided the participant has at least five years of vesting service. Supplemental Executive Retirement Plan In October 1994, the Board of Directors approved a new SERP, which is a defined benefit plan, for the Named Executive Officers and five other key executives. The plan provides for a basic annual benefit payable upon completion of five years vesting service (April 1, 1994 through March 31, 1999 for Messrs. Dyott, Milano, Williams, Davis and Anderson) and retirement on or after attaining age 65 or the present value of such benefit at an earlier date under certain circumstances. The Named Executive Officers have the following basic annual benefit payable under this plan at age 65: Stephen M. Dyott $100,000 Joseph M. Milano $100,000 Larry R. Williams $ 50,000 Timothy M. Davis $ 75,000 Malcolm J. Anderson $ 50,000 Such benefits will be paid from our assets (see note 8 to our consolidated financial statements appearing elsewhere in this Report). Compensation of Directors Directors of Holdings and Graphics do not receive a salary or an annual retainer for their services but are reimbursed for expenses incurred with respect to such services. Employment Agreements In connection with the 1993 Acquisition, Graphics entered into a new employment agreement with Stephen M. Dyott (the "Dyott Employment Agreement"). The Dyott Employment Agreement superseded previous employment agreements. 59 The Dyott Employment Agreement had an initial term of four years commencing as of the effective time Acquisition Corp. merged with and into Holdings. The term under the Dyott Employment Agreement is therefore automatically extended for one-year periods absent two year's written notice of an intent by either party not to renew. The Dyott Employment Agreement provides for the payment of an annual salary and an annual bonus pursuant to a plan adopted following the 1993 Acquisition. In addition, under the Dyott Employment Agreement, Mr. Dyott is eligible to receive all other employee benefits and perquisites made available to Graphics' senior executives generally. Under the Dyott Employment Agreement, if the employee's employment is terminated by Graphics "without cause" ("cause", as defined in the Dyott Employment Agreement, means a material breach by the employee of his obligations under the Dyott Employment Agreement; continued failure or refusal of the employee to substantially perform his duties to Graphics; a willful and material violation of Federal or state law applicable to Graphics or the employee's conviction of a felony or perpetration of a common law fraud; or other willful misconduct that is injurious to Graphics) or by the employee for "good reason" (which, as defined in the Dyott Employment Agreement, means a decrease in base pay or a failure by Graphics to pay material compensation due and payable; a material diminution of the employee's responsibilities or title; a material change in the employee's principal employment location; or a material breach by Graphics of a material term of the Dyott Employment Agreement), the employee will be entitled to a pro rata portion of the bonus for the year employment was terminated payable at the time bonuses are generally paid and salary continuation payments (and certain other benefits) through the greater of the remainder of the scheduled term and a period of two years beginning on the date of termination. The Dyott Employment Agreement contains confidentiality obligations that survive indefinitely and non-solicitation and non-competition obligations that end on the second anniversary of the date employment has ceased. On July 15, 1998 Graphics entered into severance agreements with Joseph M. Milano and Timothy M. Davis which provide that in the event the employee's employment is terminated by Graphics without "cause", as defined above (but also including as "cause" competition with Graphics), or by the employee for "good reason", as defined above, the employee will be entitled to a pro rata portion of the bonus for the year employment was terminated payable at the time bonuses are generally paid and salary and benefit continuation for three years following termination. The severance agreements contain confidentiality obligations that survive indefinitely and non-solicitation and non-competition obligations that end on the third anniversary of the date employment has ceased. Graphics is also a party to letter agreements with Larry R. Williams and Malcolm J. Anderson which provide for a term of employment with an initial period of two years with one year automatic extensions. Such agreements also provide that in the event the employee's employment is terminated by Graphics without "cause", as defined in the severance agreements above, or by the employee for "good reason", as defined above, the employee will be entitled to base salary continuation for two years following termination. Such base salary payments will be reduced to the extent the employee receives compensation from another employer. The letter agreements contain confidentiality obligations that survive indefinitely and non-solicitation and non-competition obligations that end on the second anniversary of the date employment has ceased. James T. Sullivan resigned as Chairman of the Board and Chief Executive Officer and as a director and employee of Holdings effective as of September 18, 1996 (the "Effective Date"). For the period commencing on the Effective Date and ending on April 8, 1999, Mr. Sullivan held the title of Vice Chairman of Holdings. Mr. Sullivan received salary continuation payments at an annual rate of $0.6 million through April 8, 1999. For two years thereafter, Mr. Sullivan will be engaged as a consultant to Holdings for which he will be paid an annual fee of $0.2 million. Under the terms of his resignation agreement, Mr. Sullivan was entitled, through April 8, 1999, to continue to participate in certain employee benefit plans provided by Holdings to its employees generally. Mr. Sullivan also received payment of his full supplemental retirement benefit under the American Color Graphics, Inc. Supplemental Executive Retirement Plan. Mr. Sullivan's resignation agreement also contains certain non-competition and non-solicitation obligations that end on April 8, 2001 as well as confidentiality obligations that continue indefinitely. Compensation Committee Interlocks and Insider Participation We have not maintained a formal compensation committee since the 1993 Acquisition. Mr. Dyott sets compensation in conjunction with the Board of Directors. 60 Repriced Options During Fiscal Year 1998, certain common stock option agreements were modified to reprice options previously granted with a $50 exercise price to a $.01 exercise price. Based upon the Board of Directors determination, the new exercise price was not less than the fair market value of such options. See note 10 to our consolidated financial statements appearing elsewhere in this Report. The following table presents information concerning all repricing of options and SARs held by any executive officer during the last ten completed fiscal years. Ten Year Option / SAR Repricings
Number of Market Price Securities of Stock at Exercise Length of Underlying Time of Price at New Original Option Options/SARs Repricing or Time of Exercise Term Remaining at Repriced or Amendment Repricing Price Date of Repricing Name Date Amended (#) ($) ($) ($) or Amendment - ------------------------------ -------- -------------- --------------- ---------- --------- ----------------- Stephen M. Dyott 01/16/98 1,761 -- 50 .01 8 yrs. 6 mo. Chairman, President, 01/16/98 380 -- 50 .01 7 yrs. 6 mo. Chief Executive Officer 01/16/98 859 -- 50 .01 6 yrs. 5 mo. and Director 01/16/98 2,300 -- 50 .01 5 yrs. 0 mo. Joseph M. Milano 01/16/98 760 -- 50 .01 8 yrs. 6 mo. Executive Vice President and 01/16/98 614 -- 50 .01 7 yrs. 6 mo. Chief Financial Officer 01/16/98 688 -- 50 .01 6 yrs. 5 mo. 01/16/98 102 -- 50 .01 5 yrs. 0 mo. Larry R. Williams 01/16/98 125 -- 50 .01 8 yrs. 6 mo. Executive Vice President 01/16/98 526 -- 50 .01 6 yrs. 5 mo. Purchasing of Graphics Timothy M. Davis 01/16/98 290 -- 50 .01 8 yrs. 6 mo. Senior Vice President - 01/16/98 535 -- 50 .01 6 yrs. 5 mo. Administration, Secretary 01/16/98 255 -- 50 .01 5 yrs. 0 mo. and General Counsel Malcolm J. Anderson 01/16/98 125 -- 50 .01 8 yrs. 6 mo. Executive Vice President 01/16/98 526 -- 50 .01 6 yrs. 5 mo. Operations of Graphics Patrick W. Kellick 01/16/98 257 -- 50 .01 8 yrs. 6 mo. Senior Vice President/ 01/16/98 105 -- 50 .01 6 yrs. 5 mo. Corporate Controller and Assistant Secretary
61 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth information, as of March 31, 1999, concerning the persons having beneficial ownership of more than five percent of the capital stock of Holdings and the beneficial ownership thereof by each director and Named Executive Officer of Holdings and by all directors and executive officers of Holdings as a group. Each holder below has sole voting power and sole investment power over the shares designated below.
Shares of Holdings Percent Shares of Holdings Percent Name Common Stock of Class Preferred Stock of Class - ---- ------------ -------- --------------- -------- The Morgan Stanley Leveraged Equity Fund II, L.P. 1221 Ave. of the Americas New York, NY 10020 59,450 44.3 2,727 52.2 MSCP III Entities (a) 1221 Ave. of the Americas New York, NY 10020 23,332 17.4 1,070 20.5 First Plaza Group Trust c/o Mellon Bank, N.A. 1 Mellon Bank Center Pittsburgh, PA 15258 17,000 12.7 780 14.9 Leeway & Co. c/o State Street Master Trust Div. W6 One Enterprise Drive North Quincy, MA 02171 10,667 8.0 489 9.4 Directors and Named Executive Officers: Stephen M. Dyott (b) 7,117 5.2 315 5.7 Joseph M. Milano (c) 2,898 2.1 175 3.2 Larry R. Williams (d) 878 0.7 -- -- Timothy M. Davis (e) 1,570 1.2 88 1.7 Malcolm J. Anderson (f) 878 0.7 -- -- Michael M. Janson -- -- -- -- Eric T. Fry -- -- -- -- All current directors and executive officers as a group (g) 16,492 11.6 583 10.1 (a) Includes Morgan Stanley Capital Partners III, L.P., Morgan Stanley Capital Investors, L.P. and MSCP III 892 Investors, L.P. (b) Includes 3,042 common stock options and 292 preferred stock options exercisable within 60 days. (c) Includes 1,783 common stock options and 175 preferred stock options exercisable within 60 days. (d) Includes 452 common stock options exercisable within 60 days. (e) Includes 841 common stock options and 88 preferred stock options exercisable within 60 days. (f) Includes 452 common stock options exercisable within 60 days. (g) Includes 7,999 common stock options and 555 preferred stock options exercisable within 60 days.
62 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The 1993 Acquisition On April 8, 1993 (the "Acquisition Date"), pursuant to an Agreement and Plan of Merger dated March 12, 1993, as amended (the "Merger Agreement"), between Communications and SGI Acquisition Corp. ("Acquisition Corp."), Acquisition Corp. was merged with and into Communications (the "1993 Acquisition"). Acquisition Corp. was formed by The Morgan Stanley Leveraged Equity Fund II, L.P. ("MSLEF II"), certain institutional investors and certain members of management (the "Purchasing Group") for the purpose of acquiring a majority interest in Communications. Acquisition Corp. acquired a substantial and controlling majority interest in Communications in exchange for $40 million in cash. In the 1993 Acquisition, Communications continued as the surviving corporation and the separate corporate existence of Acquisition Corp. was terminated. Pursuant to the Merger Agreement, (i) MSLEF II and the Purchasing Group made a $40 million equity investment in Holdings and acquired (a) 90% of the outstanding Holdings' common stock and (b) all the outstanding shares of the preferred stock of Holdings, with a total preference of $40 million and which, under certain circumstances, is convertible into shares of Holdings' common stock; and (ii) Golder, Thoma, & Cressey, an Illinois limited partnership ("GTC") and its affiliates received 4,987 shares of Holdings' common stock. MSLEF II is an investment fund affiliated with MSDW. MSDW is a holding company that, through its subsidiaries, is a major international financial services firm. In addition, two of the current directors of Holdings are employees of Morgan Stanley & Co. Incorporated, an affiliate of MSLEF II and also a subsidiary of MSDW. As a result of these relationships, MSDW may be deemed to control the management and policies of Graphics and Holdings. In addition, MSDW may be deemed to control matters requiring shareholders' approval, including the election of all directors, the adoption of amendments to the Certificates of Incorporation of Holdings and Graphics and the approval of mergers and sales of all or substantially all of Graphics' and Holdings' assets. Management Equity Participation. In connection with the 1993 Acquisition, certain members of our management at that time, including James T. Sullivan and Stephen M. Dyott (collectively, the "Management Investors"), invested an aggregate of approximately $2.3 million in Holdings and received an aggregate of 3,700 shares of Holdings Common Stock and 185 shares of Holdings' preferred stock. Each Management Investor also entered into a Management Equity Agreement, dated as of April 8, 1993, with Holdings (collectively, the "Management Agreements"), pursuant to which, if a Management Investor's employment with us terminates for any reason, Holdings has the right to repurchase any of the shares of Holdings' common stock and Holdings' preferred stock held by such Management Investor at a price per share equal to the "Series AA Threshold Amount" (as defined in section 4.02(e)(viii) of Holdings' Certificate of Incorporation) applicable to such shares at such time divided by the number of shares of Holdings' preferred stock outstanding at such time. In the case of shares of Holdings' common stock held by such Management Investor, the repurchase price will be equal to fair market value. The payment of the repurchase price may be deferred (with interest) if the making of such payment would cause Holdings to violate any debt covenant or provision of applicable law, or if the Board of Directors of Holdings determines that Holdings is not financially capable of making such payment. Stockholders' Agreement. In connection with the Shakopee Merger, Holdings, MSLEF II, other entities affiliated with MSDW and the other stockholders of Holdings entered into an amended and restated stockholders' agreement, dated as of August 14, 1995. The stockholders' agreement includes provisions requiring the delivery of certain shares of Holdings' common stock from the "Purchasers", as defined in the stockholders' agreement, which includes MSLEF II, certain institutional investors and members of management, to Holdings, depending upon the return realized by the Purchasers on their investment, and thereafter from Holdings to the "Existing Holders," as defined in the stockholders' agreement, which includes the stockholders' of Holdings immediately prior to the 1993 Acquisition. Depending upon the returns realized by the Purchasers on their investment, their interest in the Holdings' common stock could be reduced and the interest of the Existing Holders could be increased. The stockholders' agreement gives the Existing Holders, the right to designate a director of Holdings and the entities affiliated with MSDW also the right to designate a director. The stockholders' agreement contains rights of first refusal with regard to the issuance by Holdings of equity securities and sales by the stockholders of equity securities of Holdings owned by them, specified tag along and drag along provisions and registration rights. The stockholders' agreement also restricts our ability to enter into affiliate transactions unless the transaction is fair and reasonable, with terms no less favorable to us than if the transaction was completed on an arm's length basis. 63 Tax Sharing Agreement Holdings and Graphics are parties to a tax sharing agreement effective July 27, 1989. Under the terms of the agreement, Graphics (whose income is consolidated with that of Holdings for federal income tax purposes) is liable to Holdings for amounts representing federal income taxes calculated on a "stand-alone basis". Each year Graphics pays to Holdings the lesser of (i) Graphics' federal tax liability computed on a stand-alone basis and (ii) its allocable share of the federal tax liability of the consolidated group. Accordingly, Holdings is not currently reimbursed for the separate tax liability of Graphics to the extent Holdings' losses reduce consolidated tax liability. Reimbursement for the use of such Holdings' losses will occur when the losses may be used to offset Holdings' income computed on a stand-alone basis. Graphics has also agreed to reimburse Holdings in the event of any adjustment (including interest or penalties) to consolidated income tax returns based upon Graphics' obligations with respect thereto. No reimbursement obligation currently exists between Graphics and Holdings. Also under the terms of the tax sharing agreement, Holdings has agreed to reimburse Graphics for refundable federal income tax equal to an amount which would be refundable to Graphics had Graphics filed separate federal income tax returns for all years under the agreement. Graphics and Holdings have also agreed to treat foreign, state and local income and franchise taxes for which there is consolidated or combined reporting in a manner consistent with the treatment of federal income taxes as described above. Preferred Stock Option Plan In Fiscal Year 1998, we established the ACG Holdings, Inc. Preferred Stock Option Plan (the "Preferred Stock Option Plan"). This plan is administered by the Committee and provides for granting up to 583 shares of Holdings' preferred stock. Stock options may be granted under this Preferred Stock Option Plan to officers and other key employees at the exercise price per share of preferred stock, as determined at the time of grant by the Committee in its sole discretion. All options are fully vested and are 100% exercisable at the date of grant. All options expire 10 years from date of grant. In Fiscal Year 1999 and Fiscal Year 1998, we granted options to purchase 29 shares and 526 shares, respectively, of preferred stock to certain key executives, at an exercise price of $1,909/share. See note 10 to our consolidated financial statements appearing elsewhere in this Report. Other MS&Co. acted as placement agent in connection with the original private placement of the Notes and received a placement fee of $5.6 million in connection therewith. MS&Co. is affiliated with entities that beneficially own a substantial majority of the outstanding shares of capital stock of Holdings. MS&Co. had a $5 million participation in the Old Term Loan Facility and received fees of approximately $0.3 million in connection therewith. In addition, Morgan Stanley Senior Funding, Inc. originally had a participation of approximately $35 million in the Bank Credit Agreement and received gross fees of approximately $0.5 million in connection therewith. On June 8, 1998, Morgan Stanley Senior Funding, Inc. reduced its participation in such credit facility to $11.5 million. 64 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as a part of this Report: Reports of Independent Auditors 1 and 2. Financial Statements: The following Consolidated Financial Statements of Holdings are included in Part II, Item 8: Consolidated balance sheets - March 31, 1999 and 1998 For the Years Ended March 31, 1999, 1998 and 1997: Consolidated statements of operations Consolidated statements of stockholders' deficit Consolidated statements of cash flows Notes to Consolidated Financial Statements Financial Statement Schedules: The following financial statement schedules of Holdings are filed as a part of this Report. Schedules Page No. I. Condensed Financial Information of Registrant............. 67 Condensed Financial Statements (parent company only) for the years ended March 31, 1999, 1998, and 1997 and as of March 31, 1999 and 1998 II. Valuation and qualifying accounts........................ 74 Schedules not listed above have been omitted because they are not applicable or are not required, or the information required to be set-forth therein is included in the Consolidated Financial Statements or notes thereto. 3. Exhibits: The exhibits listed on the accompanying Index to Exhibits immediately following the financial statement schedules are filed as part of, or incorporated by reference into, this Report. Exhibit No. Description - ---------- ------------ 3.1 Certificate of Incorporation of Graphics, as amended to date* 3.2 By-laws of Graphics, as amended to date* 3.3 Restated Certificate of Incorporation of Holdings, as amended to date 3.4 By-laws of Holdings, as amended to date* 4.1 Indenture (including the form of Note), dated as of August 15, 1995, among Graphics, Holdings and NationsBank of Georgia, National Association, as Trustee** 10.1 Credit Agreement, dated as of August 15, 1995 and Amended and Restated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties signatory thereto++++ 10.1(a) June 8, 1998, First Amendment to Amended and Restated Credit Agreement dated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties Signatory thereto++++ 10.1(b) February 3, 1999, Second Amendment to Amended and Restated Credit Agreement dated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties Signatory thereto**** 65 Exhibit No. Description - ----------- ----------- 10.2 Resignation letter, dated as of September 18, 1996, between Graphics and James T. Sullivan*** 10.3(a) Employment Agreement, dated as of April 8, 1993, between Graphics and Stephen M. Dyott* 10.3(b) Amendment to Employment Agreement, dated December 1, 1994, between Graphics and Stephen M. Dyott++ 10.3(c) Amendment to Employment Agreement, dated February 15, 1995, between Graphics and Stephen M. Dyott++ 10.3(d) Amendment to Employment Agreement, dated September 18, 1996, between Graphics and Stephen M. Dyott*** 10.4 Severance Letter, dated September 1, 1995, between Graphics and Larry R. Williams 10.5 Severance Letter, dated July 15, 1998, between Graphics and Joseph M. Milano 10.6 Severance Letter, dated July 15, 1998, between Graphics and Timothy M. Davis 10.7 Severance Letter, dated September 8, 1995, between Graphics and M. J. Anderson++++ 10.8 Amended and Restated Stockholders' Agreement, dated as of August 14, 1995, among Holdings, the Morgan Stanley Leveraged Equity Fund II, L.P., Morgan Stanley Capital Partners III, L.P. and the additional parties named therein** 10.8(a) Amendment No. 1, dated January 16, 1998, to Amended and Restated Stockholders' Agreement dated as of August 14, 1995 among Holdings, the Morgan Stanley Leveraged Equity Fund II, L.P., Morgan Stanley Capital Partners III, L.P., and the additional parties named herein++++ 10.9 Stock Option Plan of Holdings++ 10.10 Term Loan Agreement, dated as of June 30, 1997, among Holdings, Graphics, BT Commercial Corporation, as Agent, Bankers Trust Company, as Issuing Bank, and the parties signatory thereto++++ 10.11 Holdings Common Stock Option Plan++++ 10.12 Holdings Preferred Stock Option Plan++++ 12.1 Statement Re: Computation of Ratio of Earnings to Fixed Charges 21.1 List of Subsidiaries 27.0 Financial Data Schedule - ----------- * Incorporated by reference from Amendment No. 2 to Form S-1 filed on October 4, 1993 - Registration number 33-65702. ** Incorporated by reference from Form S-4 filed on September 19, 1995 - Registration number 33-97090. ++ Incorporated by reference from Amendment No. 2 to Form S-4 filed on November 22, 1995 - Registration number 33-97090. *** Incorporated by reference from the Quarterly Report on Form 10-Q for the quarter ended September 30, 1996 - Commission file number 33-97090. ++++ Incorporated by reference from the Annual Report on Form 10-K for fiscal year ended March 31, 1998 - Commission file number 33-97090. **** Incorporated by reference from the Quarterly Report on Form 10-Q for the quarter ended December 31, 1998 - Commission file number 33-97090. (b)Reports on Form 8-K: The following report on Form 8-K was filed during the fourth quarter of Fiscal Year 1999: 1. Form 8-K filed with the Securities and Exchange Commission on February 4, 1999 under Item 5 to announce ACG's EBITDA for the three months ended December 31, 1998. ACG did not file any other reports on Form 8-K during the three months ended March 31, 1999. 66 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Condensed Balance Sheets (Dollars in thousands, except par values) March 31, ------------------------------- 1999 1998 -------------- -------------- Assets Current assets: Receivable from subsidiary $ 601 676 -------------- -------------- Total assets $ 601 676 ============== ============== See accompanying notes to condensed financial statements. 67
SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Condensed Balance Sheets (Dollars in thousands, except par values) March 31, ------------------------------ 1999 1998 ------------- ----------- Liabilities and Stockholders' Deficit Current liabilities: Income taxes payable $ 128 53 ------------- ----------- Total current liabilities 128 53 Liabilities of subsidiary in excess of assets 119,779 106,708 ------------- ----------- Total liabilities 119,907 106,761 ------------- ----------- Stockholders' deficit: Common stock, voting, $.01 par value, 5,852,223 shares authorized, 134,250 shares and 134,812 shares issued and outstanding at March 31, 1999 and 1998, respectively 1 1 Preferred Stock, $.01 par value, 15,823 shares authorized, 3,622 shares and 3,631 shares series AA convertible preferred stock issued and outstanding at March 31, 1999 and 1998, respectively, $40,000,000 liquidation preference, 1,606 shares Series BB convertible preferred stock issued and outstanding at March 31, 1999 and 1998, $17,500,000 liquidation preference -- -- Additional paid-in capital 58,286 58,249 Accumulated deficit (174,905) (162,250) Other accumulated comprehensive loss, net of tax (2,688) (2,085) ------------- ----------- Total stockholders' deficit (119,306) (106,085) ------------- ----------- Commitments and contingencies Total liabilities and stockholders' deficit $ 601 676 ============= ===========
See accompanying notes to condensed financial statements. 68 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Condensed Statements of Operations (In thousands) Year Ended March 31, -------------------------------------------- 1999 1998 1997 -------------- ------------ ------------ Equity in loss of subsidiary $ (12,468) (29,895) (31,703) -------------- ------------ ------------ Net loss $ (12,468) (29,895) (31,703) ============== ============ ============ See accompanying notes to condensed financial statements. 69 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Condensed Statements of Cash Flows (In thousands) Year Ended March 31, --------------------------------------- 1999 1998 1997 ----------- ---------- ---------- Cash flows from operating activities -- -- -- Cash flows from investing activities -- -- -- Cash flows from financing activities -- -- -- ----------- ---------- ---------- Net change in cash -- -- -- =========== ========== ========== See accompanying notes to condensed financial statements. 70 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Notes to Condensed Financial Statements Description of ACG Holdings, Inc. Sullivan Communications, Inc. ("Communications"), together with its wholly-owned subsidiary, Sullivan Graphics, Inc., collectively the ("Company"), was formed in April 1989 under the name GBP Holdings, Inc. to effect the purchase of all the capital stock of GBP Industries, Inc. from its stockholders in a leveraged buyout transaction. In October 1989, GBP Holdings, Inc. changed its name to Sullivan Holdings, Inc. and GBP Industries, Inc. changed its name to Sullivan Graphics, Inc. Effective June 1993, Sullivan Holdings, Inc. changed its name to Sullivan Communications, Inc. Effective July 1997, Sullivan Communications, Inc. changed its name to ACG Holdings, Inc. ("Holdings") and Sullivan Graphics, Inc. changed its name to American Color Graphics, Inc. ("Graphics"). Holdings has no operations or significant assets other than its investment in Graphics. Holdings is dependent upon distributions from Graphics to fund its obligations. Under the terms of its debt agreements at March 31, 1999, Graphics' ability to pay dividends or lend to Holdings is either restricted or prohibited, except that Graphics may pay specified amounts to Holdings to fund the payment of Holdings' obligations pursuant to a tax sharing agreement (see note 4). On April 8, 1993 (the "Acquisition Date"), pursuant to an Agreement and Plan of Merger dated as of March 12, 1993, as amended (the "Merger Agreement"), between Holdings and SGI Acquisition Corp. ("Acquisition Corp."), Acquisition Corp. was merged with and into Holdings (the "Acquisition"). Acquisition Corp. was formed by The Morgan Stanley Leveraged Equity Fund II, L.P., certain institutional investors and certain members of management (the "Purchasing Group") for the purpose of acquiring a majority interest in Holdings. Acquisition Corp. acquired a substantial and controlling majority interest in Holdings in exchange for $40 million in cash. In the Acquisition, Holdings continued as the surviving corporation and the separate corporate existence of Acquisition Corp. was terminated. In connection with the Acquisition, the existing consulting agreement with the managing general partner of Holdings' majority stockholder was terminated and the related liabilities of Holdings were canceled. The agreement required Holdings to make minimum annual payments of $1 million for management advisory services subject to limitations in Graphics' debt agreements. No amounts were paid during the periods presented in these condensed financial statements. 1. Basis of Presentation The accompanying condensed financial statements (parent company only) include the accounts of Holdings and its investments in Graphics accounted for in accordance with the equity method, and do not present the financial statements of Holdings and its subsidiary on a consolidated basis. These parent company only financial statements should be read in conjunction with ACG's consolidated financial statements. The Acquisition was accounted for under the purchase method of accounting applying the provisions on Accounting Principles Boards Opinion No. 16 ("APB 16"). 2. Guarantees As set forth in ACG's consolidated financial statements, a substantial portion of Graphics' long-term obligations has been guaranteed by Holdings. Holdings has guaranteed Graphics' indebtedness under the Bank Credit Agreement, which guarantee is secured by a pledge of all of Graphics' stock. Borrowings under the Bank Credit Agreement are secured by substantially all assets of Graphics. Holdings is restricted under its guarantee of the Bank Credit Agreement from, among other things, entering into mergers, acquisitions, incurring additional debt, or paying cash dividends. 71 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Notes to Condensed Financial Statements On August 15, 1995, Graphics issued $185 million of Senior Subordinated Notes (the "Notes") bearing interest at 12 3/4% and maturing August 1, 2005. The Notes are guaranteed on a senior subordinated basis by Holdings and are subordinate to all existing and future senior indebtedness, as defined, of Graphics. On May 8, 1998, ACG refinanced all outstanding indebtedness under the Old Bank Credit Agreement and the Old Term Loan Facility (see note 5 below for a discussion of the terms of this refinancing transaction). 3. Dividends from Subsidiaries and Investees No cash dividends were paid to Holdings from any consolidated subsidiaries, unconsolidated subsidiaries or investees accounted for by the equity method during the periods reflected in these condensed financial statements. 4. Tax Sharing Agreement Holdings and Graphics are parties to a tax sharing agreement effective July 27, 1989. Under the terms of the agreement, Graphics (whose income is consolidated with that of Holdings for federal income tax purposes) is liable to Holdings for amounts representing federal income taxes calculated on a "stand-alone basis". Each year Graphics pays to Holdings the lesser of (i) Graphics' federal tax liability computed on a stand-alone basis and (ii) its allocable share of the federal tax liability of the consolidated group. Accordingly, Holdings is not currently reimbursed for the separate tax liability of Graphics to the extent Holdings' losses reduce consolidated tax liability. Reimbursement for the use of such Holdings' losses will occur when the losses may be used to offset Holdings' income computed on a stand-alone basis. Graphics has also agreed to reimburse Holdings in the event of any adjustment (including interest or penalties) to consolidated income tax returns based upon Graphics' obligations with respect thereto. Also, under the terms of the tax sharing agreement, Holdings has agreed to reimburse Graphics for refundable federal income taxes equal to an amount which would be refundable to Graphics had Graphics filed separate federal income tax returns for all years under the agreement. Graphics and Holdings have also agreed to treat foreign, state and local income and franchise taxes for which there is consolidated or combined reporting in a manner consistent with the treatment of federal income taxes as described above. 5. Refinancing Transaction On May 8, 1998, ACG completed a refinancing transaction (the "1998 Refinancing") which included the following: (1) ACG entered into a $145 million credit facility with a syndicate of lenders (the "Bank Credit Agreement") which includes an $11.5 million participation by Morgan Stanley Senior Funding, Inc., a related party, providing for a $70 million revolving credit facility which is not subject to a borrowing base limitation (the "Revolving Credit Facility") maturing on March 31, 2004, a $25 million amortizing term loan facility maturing on March 31, 2004 (the "A Term Loan Facility") and a $50 million amortizing term loan facility maturing on March 31, 2005 (the "B Term Loan Facility"); (2) the repayment of all $57.0 million of indebtedness outstanding under ACG's previous credit agreement, as amended (the "Old Bank Credit Agreement") (plus accrued interest to the date of repayment); (3) the repayment of all $25.0 million of indebtedness outstanding under the $25 million term loan facility which included a $5 million participation by Morgan Stanley Senior Funding, Inc., a related party, which was to mature on March 31, 2001 (the "Old Term Loan Facility") (plus accrued interest to the date of repayment) and (4) the payment of fees and expenses associated with the 1998 Refinancing. In addition, ACG recorded an extraordinary loss related to early extinguishment of debt of $4.1 million, net of zero taxes, associated with the write-off of deferred financing costs related to refinanced indebtedness in the quarter ended June 30, 1998. Interest under the Bank Credit Agreement is floating based upon existing market rates plus agreed upon margin levels. In addition, ACG is obligated to pay specific commitment and letter of credit fees. Such margin levels and fees reduce over the term of the agreement subject to the achievement of certain Leverage Ratio measures. 72 SCHEDULE I - CONDENSED FINANCIAL INFORMATION OF REGISTRANT ACG HOLDINGS, INC. Parent Company Only Notes to Condensed Financial Statements Borrowings under the Bank Credit Agreement are secured by substantially all of ACG's assets. In addition, Holdings has guaranteed the indebtedness under the Bank Credit Agreement, which guarantee is secured by a pledge of all of Graphics' and its subsidiaries' stock. The new agreement (1) requires satisfaction of certain financial covenants including Minimum Consolidated EBITDA, Consolidated Interest Coverage Ratio and Leverage Ratio requirements, (2) requires prepayments in certain circumstances including excess cash flows, proceeds from asset dispositions in excess of prescribed levels and certain capital structure transactions and (3) contains various restrictions and limitations on the following items: (a) the level of capital spending, (b) the incurrence of additional indebtedness, (c) mergers, acquisitions, investments and similar transactions and (d) dividends and other distributions. In addition, the agreement includes various other customary affirmative and negative covenants. Graphics' ability to pay dividends or lend funds to Holdings is restricted. 73 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS ACG HOLDINGS, INC.
Balance Additions Balance at Charged at Beginning to Other End of of Period Expense Write-offs Adjustments Period --------- -------- ---------- ----------- ------- (in thousands) Fiscal Year ended March 31, 1999 Allowance for doubtful accounts $ 2,112 2,510 (1,762) -- $ 2,860 Reserve for inventory obsolescence $ 265 374 (51) -- $ 588 Income tax valuation allowance $37,222 -- -- (a) 4,238 $ 41,460 Fiscal Year ended March 31, 1998 Allowance for doubtful accounts $ 5,879 908 (4,675) -- $ 2,112 Reserve for inventory obsolescence $ 169 184 (47) (41) $ 265 Income tax valuation allowance $30,138 -- --(a) 7,084 $ 37,222 Fiscal Year ended March 31, 1997 Allowance for doubtful accounts $ 4,830 4,847 (3,798) -- $ 5,879 Reserve for inventory obsolescence $ 711 318 (45) (815) $ 169 Income tax valuation allowance $ 21,210 -- -- (a) 8,928 $ 30,138
(a) The increase in the valuation allowance primarily relates to current year losses for which no tax benefit has been recorded. 74 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrants have duly caused this Report to be signed on their behalf by the undersigned thereunto duly authorized. ACG Holdings, Inc. American Color Graphics, Inc. Date /s/ Stephen M. Dyott June 29, 1999 ----------------------------------- Stephen M. Dyott Chairman, President and Chief Executive Officer ACG Holdings, Inc. Chairman, President and Chief Executive Officer American Color Graphics, Inc. Director of ACG Holdings, Inc. and American Color Graphics, Inc. Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons in the capacities and on the dates indicated. Signature Title Date /s/ Joseph M. Milano - --------------------------- Executive Vice President June 29, 1999 (Joseph M. Milano) Chief Financial Officer /s/ Patrick W. Kellick - --------------------------- Senior Vice President June 29, 1999 (Patrick W. Kellick) Corporate Controller Assistant Secretary (Principal Accounting Officer) /s/ Michael M. Janson - --------------------------- Director June 29, 1999 (Michael M. Janson) /s/ Eric T. Fry - --------------------------- Director June 29, 1999 (Eric T. Fry) 75 ACG HOLDINGS, INC. Annual Report on Form 10-K Fiscal Year Ended March 31, 1999 Index to Exhibits Exhibit No. Description - ---------- ------------ 3.1 Certificate of Incorporation of Graphics, as amended to date* 3.2 By-laws of Graphics, as amended to date* 3.3 Restated Certificate of Incorporation of Holdings, as amended to date 3.4 By-laws of Holdings, as amended to date* 4.1 Indenture (including the form of Note), dated as of August 15, 1995, among Graphics, Holdings and NationsBank of Georgia, National Association, as Trustee** 10.1 Credit Agreement, dated as of August 15, 1995 and Amended and Restated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties signatory thereto++++ 10.1(a) June 8, 1998, First Amendment to Amended and Restated Credit Agreement dated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties signatory thereto++++ 10.1(b) February 3, 1999, Second Amendment to Amended and Restated Credit Agreement dated as of May 8, 1998, among Holdings, Graphics, GE Capital Corporation as Documentation Agent, Morgan Stanley Senior Funding, Inc. as Syndication Agent, Bankers Trust Company as Administrative Agent and the parties Signatory thereto**** 10.2 Resignation letter, dated as of September 18, 1996, between Graphics and James T. Sullivan*** 10.3(a) Employment Agreement, dated as of April 8, 1993, between Graphics and Stephen M. Dyott* 10.3(b) Amendment to Employment Agreement, dated December 1, 1994, between Graphics and Stephen M. Dyott++ 10.3(c) Amendment to Employment Agreement, dated February 15, 1995, between Graphics and Stephen M. Dyott++ 10.3(d) Amendment to Employment Agreement, dated September 18, 1996, between Graphics and Stephen M. Dyott*** 10.4 Severance Letter, dated September 1, 1995, between Graphics and Larry R. Williams 10.5 Severance Letter, dated July 15, 1998, between Graphics and Joseph M. Milano 10.6 Severance Letter, dated July 15, 1998, between Graphics and Timothy M. Davis 10.7 Severance Letter, dated September 8, 1995, between Graphics and M. J. Anderson++++ 10.8 Amended and Restated Stockholders' Agreement, dated as of August 14, 1995, among Holdings, the Morgan Stanley Leveraged Equity Fund II, L.P., Morgan Stanley Capital Partners III, L.P. and the additional parties named therein** 10.8(a) Amendment No. 1, dated January 16, 1998, to Amended and Restated Stockholders' Agreement dated as of August 14, 1995 among Holdings, the Morgan Stanley Leveraged Equity Fund II, L.P., Morgan Stanley Capital Partners III, L.P., and the additional parties named herein++++ 10.9 Stock Option Plan of Holdings++ 10.10 Term Loan Agreement, dated as of June 30, 1997, among Holdings, Graphics, BT Commercial Corporation, as Agent, Bankers Trust Company, as Issuing Bank, and the parties signatory thereto++++ 10.11 Holdings Common Stock Option Plan++++ 10.12 Holdings Preferred Stock Option Plan++++ 12.1 Statement Re: Computation of Ratio of Earnings to Fixed Charges 21.1 List of Subsidiaries 27.0 Financial Data Schedule - ----------- * Incorporated by reference from Amendment No. 2 to Form S-1 filed on October 4, 1993 - Registration number 33-65702. ** Incorporated by reference from Form S-4 filed on September 19, 1995 - Registration number 33-97090. ++ Incorporated by reference from Amendment No. 2 to Form S-4 filed on November 22, 1995 - Registration number 33-97090. *** Incorporated by reference from the Quarterly Report on Form 10-Q for the quarter ended September 30, 1996 - Commission file number 33-97090. ++++ Incorporated by reference from the Annual Report on Form 10-K for fiscal year ended March 31, 1998 - Commission file number 33-97090. **** Incorporated by reference from the Quarterly Report on Form 10-Q for the quarter ended December 31, 1998 - Commission file number 33-97090. EX-3.3 2 CERTIFICATE OF INCORPORATION AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF ACG HOLDINGS, INC. ARTICLE 1 NAME SECTION 1.01. Name. The name of the corporation is ACG Holdings, Inc. (the "Corporation"). ARTICLE 2 REGISTERED OFFICE AND REGISTERED AGENT SECTION 2.01. Office and Agent. The address of the registered office of the Corporation in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle. The name of the registered agent of the Corporation at such address is The Corporation Trust Company. ARTICLE 3 CORPORATE PURPOSE SECTION 3.01. Purpose. The purpose of the Corporation is to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware (the "General Corporation Law"). ARTICLE 4 CAPITALIZATION SECTION 4.01. Authorized Capital. The total number of shares of capital stock that the Corporation shall have authority to issue is five million eight hundred sixty eight thousand forty six (5,868,046), of which five million eight hundred fifty two thousand two hundred twenty three (5,852,223) shall be shares of Common Stock, par value $.01 per share (the "Common Stock"), and fifteen thousand eight hundred twenty three (15,823) shall be shares of preferred stock, par value $.01 per share (the "Preferred Stock"). Shares of the Preferred Stock may be issued from time to time in one or more classes or series, each of which class or series shall have such distinctive designation or title as shall be fixed by the board of directors of the Corporation (the "Board of Directors") prior to the issuance of any shares thereof. Each such class or series of the Preferred Stock shall have such voting powers, full or limited, or no voting powers, and such other relative rights, powers and preferences, including, without limitation, the dividend rate, conversion rights, if any, redemption price and liquidation preference, and such qualifications, limitations or restrictions thereof, as shall be stated in such resolution or resolutions providing for the issuance of such class or series of the Preferred Stock as may be adopted from time to time by the Board of Directors prior to the issuance of any shares thereof pursuant to the authority hereby expressly vested in the Board of Directors, all in accordance with the laws of the State of Delaware. The number of authorized shares of Preferred Stock may be increased or decreased (but not below the number of shares thereof then outstanding) by the affirmative vote of the holders of a majority of the stock of the Corporation entitled to vote irrespective of the provisions of Section 242(b)(2) of the General Corporation Law. Effective upon filing of this Amended and Restated Certificate of Incorporation with the Secretary of State of the State of Delaware ("Effective Time"): (i) each outstanding share of Series A Preferred Stock, par value $.01 per share of the Corporation (the "Series A Preferred Stock"), shall, without any action on the part of the holder thereof, be reclassified as, and converted into, 0.9175131 fully paid and nonassessable shares of Series AA Preferred Stock, par value $.01 of the Corporation; and (ii) each outstanding share of Series B Preferred Stock, par value $.01 per share of the Corporation (the "Series B Preferred Stock"), shall, without any action on the part of the holder thereof, be reclassified as, and 2 converted into, 0.9175131 fully paid and nonassessable shares of Series BB Preferred Stock, par value $.01 of the Corporation. For purposes of this Amended and Restated Certificate of Incorporation, the Series A Preferred Stock and the Series B Preferred Stock are sometimes hereafter collectively referred to as the "Previously Issued Preferred Stock". As of the Effective Time, each holder of shares of Previously Issued Preferred Stock shall, upon surrender to the Corporation of a certificate or certificates representing such shares, be entitled to receive from the Corporation that number of shares of Series AA Preferred Stock or Series BB Preferred Stock (as the case may be) calculated as set forth in paragraphs (i) and (ii) above. Until so surrendered, each such certificate shall, after the date hereof, represent for all purposes, only the right to receive that number of shares of Preferred Stock as so calculated. After the date hereof, there shall be no further registration of transfers of shares of Previously Issued Preferred Stock. SECTION 4.02. Stock. The following is a description of each of the classes of capital stock which the Corporation shall have authority to issue, with the designations, preferences, voting powers and participating, optional or other special rights and the qualifications, limitations or restrictions thereof: (a) Series AA Preferred Stock. Four thousand thirty eight (4,038) shares of the Preferred Stock of the Corporation shall be designated "Series AA Preferred Stock". (i) Dividends. (A) The holders of outstanding shares of Series AA Preferred Stock, as a group, shall be entitled to receive, when, as and if declared by the Board of Directors, at its sole discretion, out of assets legally available for such purpose, cash distributions equal, in the aggregate, to the Series AA Initial Investment. Upon the payment of all distributions required by this Section 4.02(a)(i)(A), the holders of shares of Series AA Preferred Stock shall not be entitled to receive any further dividends or distributions from the Corporation. (B) So long as any shares of Series AA Preferred Stock are outstanding, the Corporation shall not pay or declare or set aside for payment any dividend or distribution payable in cash, evidences of indebtedness, assets or property other than cash, or capital stock of the Corporation ranking equally with or senior to 3 the Series AA Preferred Stock in respect of dividends or distributions, or make any other distribution on any Common Stock or any other class or series of stock of the Corporation ranking junior to the Series AA Preferred Stock in respect of dividends or distributions, unless the Corporation has paid, or at the same time pays or provides for the payment of, all distributions on the outstanding shares of Series AA Preferred Stock required by Section 4.02(a)(i)(A). Until all such distributions have been paid in full, all dividends declared and paid on the shares of Series AA Preferred Stock and Series BB Preferred Stock shall be declared and paid pro rata based on the then applicable Series AA Threshold Amount and Series BB Threshold Amount. (C) All distributions made to the holders of Series AA Preferred Stock pursuant to this Section 4.02(a)(i) shall be evenly divided among all outstanding shares of Series AA Preferred Stock at the time each such distribution is made. (ii) Conversion. (A) Each outstanding share of Series AA Preferred Stock may be converted, at the option of the holder thereof, into fully paid and nonassessable shares of Common Stock, at the times, using the conversion ratios and subject to the conditions set forth in Sections 4.02(a)(ii)(B) and 4.02(a)(ii)(C), subject to, and upon compliance with, the provisions of this Section 4.02(a)(ii). (B) In the event the Corporation effects an Initial Public Offering, the holders of the Series AA Preferred Stock shall have the right, at any time and from time to time thereafter, to convert any or all of their outstanding shares of Series AA Preferred Stock into such number of shares of Common Stock per share of Series AA Preferred Stock as is obtained by dividing (x) the number obtained by dividing (I) the then applicable Series AA Threshold Amount by (II) the price per share of the Common Stock sold by the Corporation in the Initial Public Offering as set forth in the final amendment to the registration statement therefor by (y) the number of shares of Series AA Preferred Stock outstanding immediately prior to the Initial Public Offering. (C) In the event that MSLEF II and the MSCP Entities shall, collectively, exercise their rights under Section 3.08 of the Stockholders' Agreement, the holders of the Series AA Preferred 4 Stock shall have the right, at the time of the sale contemplated by Section 3.08 of the Stockholders' Agreement, to convert any or all of their outstanding shares of Series AA Preferred Stock into such number of shares of Common Stock per share of Series AA Preferred Stock as is obtained by dividing (x) the number obtained by dividing (I) the then applicable Series AA Threshold Amount by (II) the per share price received by MSLEF II and the MSCP Entities for their Common Stock in the sale contemplated by Section 3.08 of the Stockholders' Agreement by (y) the number of shares of Series AA Preferred Stock outstanding immediately prior to the sale contemplated by Section 3.08 of the Stockholders' Agreement. (D) Each conversion of a share or shares of Series AA Preferred Stock into a share or shares of Common Stock shall be effected by the surrender of the certificate or certificates evidencing the share or shares of Series AA Preferred Stock to be converted (for purposes of this Section 4.02(a)(ii)(D), the "Converting Shares"), duly assigned to the Corporation or endorsed in blank, at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate by written notice to the holders of Series AA Preferred Stock) at any time during its usual business hours, together with written notice by the holder of such Converting Shares, stating that such holder desires to convert the Converting Shares, or a stated number of the shares evidenced by such certificate or certificates, into the number of shares of Common Stock into which such shares may be converted (for purposes of this Section 4.02(a)(ii)(D), the "Converted Shares"). Such notice shall also state the name or names (with addresses) and denominations in which the certificate or certificates evidencing Converted Shares are to be issued and shall include instructions for the delivery thereof. Promptly after such surrender and the receipt of such written notice, the Corporation shall issue and deliver, in accordance with the surrendering holder's instructions, the certificate or certificates evidencing the Converted Shares issuable upon such conversion, and the Corporation shall deliver to the converting holder a certificate (which shall bear such legends as were set forth on the surrendered certificate or certificates) evidencing any shares of Series AA Preferred Stock which were evidenced by the certificate or certificates that were delivered to the Corporation in connection with such conversion, but which were not converted. Such conversion, to the extent permitted by law, shall be deemed to have 5 been effected as of the close of business on the date on which such certificate or certificates shall have been surrendered and such notice shall have been received by the Corporation (for purposes of this Section 4.02(a)(ii), the "Conversion Date"), and at such time the rights of the holder of Converting Shares as such holder shall cease, and the person or persons in whose name or names the certificate or certificates evidencing the Converted Shares are to be issued upon such conversion shall be deemed to have become the holder or holders of record of the Converted Shares. Upon issuance of Converted Shares in accordance with this Section 4.02(a)(ii)(D), such Converted Shares shall be deemed to be duly authorized, validly issued, fully paid and nonassessable. (E) Upon each conversion of shares of Series AA Preferred Stock into shares of Common Stock pursuant to the provisions of Sections 4.02(a)(ii)(B) and 4.02(a)(ii)(C) the following adjustments shall also be made: (1) The Series AA Initial Investment shall be reduced by an amount equal to the product of (x) the Series AA Initial Investment as of the applicable Conversion Date and (y) a fraction, the numerator of which shall be the total number of shares of Series AA Preferred Stock which shall have been converted into Common Stock on such Conversion Date and the denominator of which shall be the total number of shares of Series AA Preferred Stock outstanding immediately prior to such conversion; and (2) the Series AA Threshold Amount shall be reduced by an amount equal to the product of (x) the Series AA Threshold Amount as of the applicable Conversion Date and (y) a fraction, the numerator of which shall be the total number of shares of Series AA Preferred Stock which shall have been converted into Common Stock on such Conversion Date and the denominator of which shall be the total number of shares of Series AA Preferred Stock outstanding immediately prior to such conversion. (F) The Corporation shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock or its treasury shares, solely for the purpose of issuance upon the conversion of shares of Series AA Preferred Stock, four million thirty eight thousand (4,038,000) shares of Common Stock. The 6 Corporation shall take all such corporate and other actions as from time to time may be necessary to insure that there is an adequate number of shares of Common Stock authorized but unissued or held as treasury shares to allow the conversion of all outstanding shares of Series AA Preferred Stock. (iii) Liquidation. Until such time as the holders of shares of Series AA Preferred Stock shall have received an amount equal to the Series AA Initial Investment from the distributions provided for in Section 4.02(a)(i)(A), upon the occurrence of a Liquidation Event, all amounts available for payment or distribution to Stockholders shall, subject to the right of the holders of shares of Series BB Preferred Stock to the prior payment in full of an amount equal to the Series BB Threshold Amount as of the date of such Liquidation Event, be paid to the holders of shares of Series AA Preferred Stock in an amount equal to the Series AA Threshold Amount as of the date of such Liquidation Event. After payment in cash to holders of shares of Series AA Preferred Stock of the full preferential amount as aforesaid, holders of the shares of Series AA Preferred Stock shall, as such, have no right or claim to any of the remaining assets of the Corporation. (iv) Voting Rights. Except as otherwise required by law, the shares of Series AA Preferred Stock shall not have any voting powers, either general or special. (v) Redemption. (A) At such time as the Corporation shall have made all of the distributions required by Section 4.02(a)(i)(A), the Board of Directors may at any time thereafter and from time to time thereafter, redeem, in whole or in part, the outstanding shares of Series AA Preferred Stock at a redemption price per share equal to the par value per share of the Series AA Preferred Stock. In the event fewer than all the outstanding shares of Series AA Preferred Stock are to be redeemed at any one time pursuant to this Section 4.02(a)(v), the number of shares of Series AA Preferred Stock to be redeemed shall be determined by the Board of Directors and the shares to be redeemed shall be selected pro rata or by lot, as may be determined by the Board of Directors. From and after the date fixed for each such redemption, the shares of Series AA Preferred Stock so redeemed shall no longer be deemed to be outstanding and all rights of the holders of such shares of Series AA Preferred Stock as such holders shall cease, except for the right to receive 7 from the Corporation the amount payable upon redemption of the shares to be redeemed, without interest. (B) As soon as reasonably practicable after the date of redemption of the Series AA Preferred Stock, the Corporation shall provide each holder of record of certificates evidencing shares of Series AA Preferred Stock to be redeemed (1) a letter of transmittal (which shall specify that delivery shall be effected, and risk of loss and title to the certificates formerly evidencing shares of Series AA Preferred Stock shall pass, only upon proper delivery of such certificates to the Corporation and shall be in customary form) and (2) instructions for use in effecting the surrender of the certificates formerly evidencing shares of Series AA Preferred Stock in exchange for the redemption price. Each holder of certificates evidencing shares of Series AA Preferred Stock to be redeemed shall surrender such certificate or certificates, duly assigned to the Corporation or endorsed in blank and accompanied by the letter of transmittal, at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate in the letter of transmittal) at the times specified in the letter of transmittal, together with written notice by the holder of such certificate, stating the name or names (with addresses) to whom payment for the shares of Series AA Preferred Stock to be redeemed shall be made. Promptly after such surrender and the receipt of such written notice, the Corporation shall pay the redemption price for the shares of Series AA Preferred Stock to be redeemed and, in the event that fewer than all of the shares of Series AA Preferred Stock evidenced by any certificate are redeemed, issue and deliver, in accordance with the surrendering holder's instructions, a new certificate or certificates evidencing the shares of Series AA Preferred Stock not so redeemed. (vi) Ranking. Until such time as the Corporation has made all of the distributions required by Section 4.02(a)(i)(A), the Series AA Preferred Stock shall rank (A) junior as to liquidation rights to the Series BB Preferred Stock; (B) pari passu with the Series BB Preferred Stock as to dividends and distributions; and (C) senior as to dividends and distributions to any other class or series of capital stock of the Corporation other than the Series BB Preferred Stock. At such time as the Corporation has made all of the distributions required by Section 4.02(a)(i)(A), the Series AA Preferred Stock shall have no further preferences and shall rank pari passu with the Series BB Preferred Stock and junior to all other classes and series of capital stock of the Corporation. 8 (vii) No Other Rights. The shares of the Series AA Preferred Stock shall not have any relative, participating, optional or other special rights other than as set forth in this Certificate of Incorporation. (b) Series BB Preferred Stock. One thousand seven hundred eighty five (1,785) shares of the Preferred Stock of the Corporation shall be designated "Series BB Preferred Stock". (i) Dividends. (A) The holders of outstanding shares of Series BB Preferred Stock, as a group, shall be entitled to receive, when, as and if declared by the Board of Directors, at its sole discretion, out of assets legally available for such purpose, cash distributions equal, in the aggregate, to the Series BB Initial Investment. Upon the payment of all distributions required by this Section 4.02(b)(i)(A), the holders of shares of Series BB Preferred Stock shall not be entitled to receive any further dividends or distributions from the Corporation. (B) So long as any shares of Series BB Preferred Stock are outstanding, the Corporation shall not pay or declare or set aside for payment any dividend or distribution payable in cash, evidences of indebtedness, assets or property other than cash, or capital stock of the Corporation ranking equally with or senior to the Series BB Preferred Stock in respect of dividends or distributions, or make any other distribution on any Common Stock or any other class or series of stock of the Corporation ranking junior to the Series BB Preferred Stock in respect of dividends or distributions, unless the Corporation has paid, or at the same time pays or provides for the payment of, all distributions on the outstanding shares of Series BB Preferred Stock required by Section 4.02(b)(i)(A). Until all such distributions have been paid in full, all dividends declared and paid on the shares of Series AA Preferred Stock and Series BB Preferred Stock shall be declared and paid pro rata based on the then applicable Series AA Threshold Amount and Series BB Threshold Amount. (C) All distributions made to the holders of Series BB Preferred Stock pursuant to this Section 4.02(b)(i) shall be evenly divided among all outstanding shares of Series BB Preferred Stock at the time each such distribution is made. 9 (ii) Conversion. (A) Each outstanding share of Series BB Preferred Stock may be converted, at the option of the holder thereof, into fully paid and nonassessable shares of Common Stock, at the times, using the conversion ratios and subject to the conditions set forth in Sections 4.02(b)(ii)(B) and 4.02(b)(ii)(C), subject to, and upon compliance with, the provisions of this Section 4.02(b)(ii). (B) In the event the Corporation effects an Initial Public Offering, the holders of Series BB Preferred Stock shall have the right, at any time and from time to time thereafter, to convert any or all of their outstanding shares of Series BB Preferred Stock into such number of shares of Common Stock per share of Series BB Preferred Stock as is obtained by dividing (x) the number obtained by dividing (I) the then applicable Series BB Threshold Amount by (II) the price per share of the Common Stock sold by the Corporation in the Initial Public Offering as set forth in the final amendment to the registration statement therefor by (y) the number of shares of Series BB Preferred Stock outstanding immediately prior to the Initial Public Offering. (C) In the event that MSLEF II and the MSCP Entities shall, collectively, exercise their rights under Section 3.08 of the Stockholders' Agreement, the holders of the Series BB Preferred Stock shall have the right, at the time of the sale contemplated by Section 3.08 of the Stockholders' Agreement, to convert any or all of their outstanding shares of Series BB Preferred Stock into such number of shares of Common Stock per share of Series BB Preferred Stock as is obtained by dividing (x) the number obtained by dividing (I) the then applicable Series BB Threshold Amount by (II) the per share price received by MSLEF II and the MSCP Entities for their Common Stock in the sale contemplated by Section 3.08 of the Stockholders' Agreement by (y) the number of shares of Series BB Preferred Stock outstanding immediately prior to the sale contemplated by Section 3.08 of the Stockholders' Agreement. (D) Each conversion of a share or shares of Series BB Preferred Stock into a share or shares of Common Stock shall be effected by the surrender of the certificate or certificates evidencing the share or shares of Series BB Preferred Stock to be converted 10 (for purposes of this Section 4.02(b)(ii)(D), the "Converting Shares"), duly assigned to the Corporation or endorsed in blank, at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate by written notice to the holders of Series BB Preferred Stock) at any time during its usual business hours, together with written notice by the holder of such Converting Shares, stating that such holder desires to convert the Converting Shares, or a stated number of the shares evidenced by such certificate or certificates, into the number of shares of Common Stock into which such shares may be converted (for purposes of this Section 4.02(b)(ii)(D), the "Converted Shares"). Such notice shall also state the name or names (with addresses) and denominations in which the certificate or certificates evidencing Converted Shares are to be issued and shall include instructions for the delivery thereof. Promptly after such surrender and the receipt of such written notice, the Corporation shall issue and deliver, in accordance with the surrendering holder's instructions, the certificate or certificates evidencing the Converted Shares issuable upon such conversion, and the Corporation shall deliver to the converting holder a certificate (which shall bear such legends as were set forth on the surrendered certificate or certificates) evidencing any shares of Series BB Preferred Stock which were evidenced by the certificate or certificates that were delivered to the Corporation in connection with such conversion, but which were not converted. Such conversion, to the extent permitted by law, shall be deemed to have been effected as of the close of business on the date on which such certificate or certificates shall have been surrendered and such notice shall have been received by the Corporation (for purposes of this Section 4.02(b)(ii), the "Conversion Date"), and at such time the rights of the holder of Converting Shares as such holder shall cease, and the person or persons in whose name or names the certificate or certificates evidencing the Converted Shares are to be issued upon such conversion shall be deemed to have become the holder or holders of record of the Converted Shares. Upon issuance of Converted Shares in accordance with this Section 4.02(b)(ii)(D), such Converted Shares shall be deemed to be duly authorized, validly issued, fully paid and nonassessable. (E) Upon each conversion of shares of Series BB Preferred Stock into shares of Common Stock pursuant to the provisions of Sections 4.02(b)(ii)(B) and 4.02(b)(ii)(C) the following adjustments shall also be made: 11 (1) the Series BB Initial Investment shall be reduced by an amount equal to the product of (x) the Series BB Initial Investment as of the applicable Conversion Date and (y) a fraction, the numerator of which shall be the total number of shares of Series BB Preferred Stock which shall have been converted into Common Stock on such Conversion Date and the denominator of which shall be the total number of shares of Series BB Preferred Stock outstanding immediately prior to such conversion; and (2) the Series BB Threshold Amount shall be reduced by an amount equal to the product of (x) the Series BB Threshold Amount as of the applicable Conversion Date and (y) a fraction, the numerator of which shall be the total number of shares of Series BB Preferred Stock which shall have been converted into Common Stock on such Conversion Date and the denominator of which shall be the total number of shares of Series BB Preferred Stock outstanding immediately prior to such conversion. (F) The Corporation shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock or its treasury shares, solely for the purpose of issuance upon the conversion of shares of Series BB Preferred Stock, one million seven hundred eighty five thousand (1,785,000) shares of Common Stock. The Corporation shall take all such corporate and other actions as from time to time may be necessary to insure that there is an adequate number of shares of Common Stock authorized but unissued or held as treasury shares to allow the conversion of all outstanding shares of Series BB Preferred Stock. (iii) Liquidation. Until such time as the holders of shares of Series BB Preferred Stock shall have received an amount equal to the Series BB Initial Investment from the distributions provided for in Section 4.02(b)(i)(A), upon the occurrence of a Liquidation Event, all amounts available for payment or distribution to Stockholders shall first be paid to the holders of shares of Series BB Preferred Stock in an amount equal to the Series BB Threshold Amount as of the date of such Liquidation Event. After payment in cash to holders of shares of Series BB Preferred Stock of the full preferential amount as aforesaid, holders of the shares of Series BB Preferred Stock shall, as such, have no right or claim to any of the remaining assets of the Corporation. 12 (iv) Voting Rights. Except as otherwise required by law, the shares of Series BB Preferred Stock shall not have any voting powers, either general or special. (v) Redemption. (A) At such time as the Corporation shall have made all of the distributions required by Section 4.02(b)(i)(A), the Board of Directors may at any time thereafter and from time to time thereafter, redeem, in whole or in part, the outstanding shares of Series BB Preferred Stock at a redemption price per share equal to the par value per share of the Series BB Preferred Stock. In the event fewer than all the outstanding shares of Series BB Preferred Stock are to be redeemed at any one time pursuant to this Section 4.02(b)(v), the number of shares of Series BB Preferred Stock to be redeemed shall be determined by the Board of Directors and the shares to be redeemed shall be selected pro rata or by lot, as may be determined by the Board of Directors. From and after the date fixed for each such redemption, the shares of Series BB Preferred Stock so redeemed shall no longer be deemed to be outstanding and all rights of the holders of such shares of Series BB Preferred Stock as such holders shall cease, except for the right to receive from the Corporation the amount payable upon redemption of the shares to be redeemed, without interest. (B) As soon as reasonably practicable after the date of redemption of the Series BB Preferred Stock, the Corporation shall provide each holder of record of certificates evidencing shares of Series BB Preferred Stock to be redeemed (1) a letter of transmittal (which shall specify that delivery shall be effected, and risk of loss and title to the certificates formerly evidencing shares of Series BB Preferred Stock shall pass, only upon proper delivery of such certificates to the Corporation and shall be in customary form) and (2) instructions for use in effecting the surrender of the certificates formerly evidencing shares of Series BB Preferred Stock in exchange for the redemption price. Each holder of certificates evidencing shares of Series BB Preferred Stock to be redeemed shall surrender such certificate or certificates, duly assigned to the Corporation or endorsed in blank and accompanied by the letter of transmittal, at the principal office of the Corporation (or such other office or agency of the Corporation as the Corporation may designate in the letter of transmittal) at the times specified in the 13 letter of transmittal, together with written notice by the holder of such certificate, stating the name or names (with addresses) to whom payment for the shares of Series BB Preferred Stock to be redeemed shall be made. Promptly after such surrender and the receipt of such written notice, the Corporation shall pay the redemption price for the shares of Series BB Preferred Stock to be redeemed and, in the event that fewer than all of the shares of Series BB Preferred Stock evidenced by any certificate are redeemed, issue and deliver, in accordance with the surrendering holder's instructions, a new certificate or certificates evidencing the shares of Series BB Preferred Stock not so redeemed. (vi) Ranking. Until such time as the Corporation has made all of the distributions required by Section 4.02(b)(i)(A), the Series BB Preferred Stock shall rank (A) senior as to liquidation rights to any other class or series of capital stock of the Corporation; (B) pari passu with the Series AA Preferred Stock as to dividends and distributions; and (C) senior as to dividends and distributions to any other class or series of capital stock of the Corporation other than the Series AA Preferred Stock. At such time as the Corporation has made all of the distributions required by Section 4.02(b)(i)(A), the Series BB Preferred Stock shall have no further preferences and shall rank pari passu with the Series AA Preferred Stock and junior to all other classes and series of capital stock of the Corporation. (vii) No Other Rights. The shares of the Series BB Preferred Stock shall not have any relative, participating, optional or other special rights other than as set forth in this Certificate of Incorporation. (c) Common Stock. (i) Dividends. Subject to all the rights of the holders of shares of Series AA Preferred Stock, Series BB Preferred Stock and the rights, as determined by the Board of Directors, of any other series or class of Preferred Stock that may hereafter be issued, such dividends or distributions as may be determined by the Board of Directors, at its sole discretion, may from time to time be declared and paid or made upon the Common Stock out of assets legally available for such purpose. (ii) Liquidation. The holders of shares of the Common Stock shall be entitled to share ratably upon the occurrence of a Liquidation Event in all assets of the Corporation, if any, remaining after payment in turn to the holders of shares of the Series BB Preferred Stock, the Series 14 AA Preferred Stock and of any other series or class of Preferred Stock that may hereafter be issued of any preferential amounts to which they may be entitled. (iii) Voting. Except as otherwise required by law, each outstanding share of Common Stock shall be entitled to one vote on each matter on which Stockholders of the Corporation or the holders of Common Stock shall be entitled to vote. (d) No New Issuances. To the extent that shares of Series AA Preferred Stock or Series BB Preferred Stock have been converted into shares of Common Stock pursuant to Section 4.02(a)(ii) or 4.02(b)(ii), respectively, or redeemed pursuant to Section 4.02(a)(v) or 4.02(b)(v), respectively, the Corporation shall be prohibited from issuing additional shares of Series AA Preferred Stock or Series BB Preferred Stock, as the case may be, without the consent of Stockholders holding at least a majority of the then outstanding shares of Common Stock. (e) Definitions. For purposes of this Section 4.02: (i) "Initial Public Offering" means an initial public offering of Common Stock by the Corporation pursuant to an effective registration statement under the Securities Act of 1933, as amended. (ii) "Liquidation Event" means any payment or distribution of assets or securities of the Corporation, as the case may be, of any kind or character, whether in cash, property or securities, upon any dissolution or winding up or total or partial liquidation, reorganization or marshalling of assets of the Corporation, whether voluntary or involuntary or in bankruptcy, insolvency, receivership or other proceedings, except that neither the consolidation nor the merger of the Corporation with or into any other corporation or corporations, nor the sale or transfer by the Corporation of all or any part of its assets, shall be deemed to be a Liquidation Event. (iii) "Management Agreements" means the Management Equity Agreements, dated as of April 8, 1993, as amended from time to time, between the Corporation and each of the following individuals: James T. Sullivan, Stephen Dyott, Bryan Richardson, Paul Moschetti, John Hendrickson and Marshall Johns. (iv) "MSCP Entities" means, collectively, Morgan Stanley Capital Partners III, L.P., Morgan Stanley Capital Investors, L.P. and MSCP III 892 Investors, L.P., each a Delaware limited partnership. 15 (v) "MSLEF II" means The Morgan Stanley Leveraged Equity Fund II, L.P., a Delaware limited partnership. (vi) "Preferred Stock Option Plan" means the Company's Preferred Stock Option Plan. (vii) "Series AA Initial Investment" means $40,000,000 plus any amounts received by the Company upon the exercise of options on Series AA Preferred Stock from time to time through the date of determination of such amount less (i) the aggregate cash distributions made on the shares of Series AA Preferred Stock in connection with partial liquidations of the Corporation and (ii) the aggregate cash amount of any repurchases of shares of Series AA Preferred Stock by the Corporation pursuant to Section 4 of the Management Agreements or Section 9 of the Preferred Stock Option Plan, as adjusted pursuant to Section 4.02(a)(ii)(E). (viii) "Series AA Threshold Amount" means $40,000,000 plus any amounts received by the Company upon the exercise of options on Series AA Preferred Stock from time to time through the date of determination of such amount less an amount equal to (i) aggregate cash distributions made on the shares of Series AA Preferred Stock pursuant to Section 4.02(a)(i)(A), (ii) aggregate cash distributions made on the shares of Series AA Preferred Stock in connection with partial liquidations of the Corporation and (iii) the aggregate cash amount of any repurchases of shares of Series AA Preferred Stock by the Corporation pursuant to Section 4 of the Management Agreements or Section 9 of the Preferred Stock Option Plan, as adjusted pursuant to Section 4.02(a)(ii)(E); provided that the Series AA Threshold Amount shall never be a negative amount. (ix) "Series BB Initial Investment" means $17,500,000 plus any amounts received by the Company upon the exercise of options on Series BB Preferred Stock from time to time through the date of determination of such amount less (i) the aggregate cash distributions made on the shares of Series BB Preferred Stock in connection with partial liquidations of the Corporation and (ii) the aggregate cash amount of any repurchases of shares of Series BB Preferred Stock by the Corporation pursuant to Section 9 of the Preferred Stock Option Plan, as adjusted pursuant to Section 4.02(b)(ii)(E). (x) "Series BB Threshold Amount" means $17,500,000 plus any amounts received by the Company upon the exercise of options on 16 Series BB Preferred Stock from time to time through the date of determination of such amount less an amount equal to (i) aggregate cash distributions made on the shares of Series BB Preferred Stock pursuant to Section 4.02(b)(i)(A), (ii) aggregate cash distributions made on the shares of Series BB Preferred Stock in connection with partial liquidations of the Corporation and (iii) the aggregate cash amount of any repurchases of shares of Series BB Preferred Stock by the Corporation pursuant to Section 9 of the Preferred Stock Option Plan, as adjusted pursuant to Section 4.02(b)(ii)(E); provided that the Series BB Threshold Amount shall never be a negative amount. (xi) "Stockholder" means any holder of record of any share of Series AA Preferred Stock, Series BB Preferred Stock, Common Stock or other class or series of common stock or Preferred Stock of the Corporation. (xii) "Stockholders' Agreement" means the Amended and Restated Stockholders' Agreement, dated as of August 14, 1995, as amended from time to time, among the Corporation and the stockholders named therein. ARTICLE 5 DIRECTORS SECTION 5.01. Directors. (a) Elections of directors of the Corporation need not be by written ballot, except and to the extent provided in the By-laws of the Corporation. (b) To the fullest extent permitted by the General Corporation Law as it now exists and as it may hereafter be amended, no director of the Corporation shall be personally liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director. ARTICLE 6 INDEMNIFICATION SECTION 6.01. Indemnification. (a) The Corporation shall indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the Corporation) by reason of the fact that he is or was a director, officer, employee or 17 agent of the Corporation, or is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him in connection with such action, suit or proceeding if he acted in good faith and in a manner he reasonably believed to be in, or not opposed to, the best interests of the Corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent, shall not, of itself, create a presumption that the person seeking indemnification did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the Corporation, and, with respect to any criminal action or proceeding, had reasonable cause to believe that his conduct was unlawful. (b) The Corporation shall indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action or suit by or in the right of the Corporation to procure a judgment in its favor by reason of the fact that he is or was a director, officer, employee or agent of the Corporation, or is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise against expenses (including attorneys' fees) actually and reasonably incurred by him in connection with the defense or settlement of such action or suit if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Corporation and except that no indemnification shall be made in respect of any claim, issue or matter as to which such person shall have been adjudged to be liable to the Corporation unless and only to the extent that the Court of Chancery of the State of Delaware or the court in which such action or suit was brought shall determine upon application that, despite the adjudication of liability but in view of all the circumstances of the case, such person is fairly and reasonably entitled to indemnity for such expenses which the Court of Chancery or such other court shall deem proper. (c) To the extent that a director, officer, employee or agent of the Corporation has been successful on the merits or otherwise in defense of any action, suit or proceeding referred to Sections 6.01(a) and 6.01(b), or in defense of any claim, issue or matter therein, he shall be indemnified against expenses (including attorneys' fees) actually and reasonably incurred by him in connection therewith. If such director, officer, employee or agent is not wholly successful on the merits or otherwise in defense of any action, suit or proceeding referred to in Sections 6.01(a) and 6.01(b), but is successful, on the merits or otherwise, as to one or more but less than all claims, issues or matters in such action, suit or proceeding, he shall be indemnified against expenses (including attorneys' fees) 18 actually and reasonably incurred by him in connection with each successfully resolved claim, issue or matter. For purposes of this Section 6.01, and without limitation, the termination of any claim, issue or matter in any action, suit or proceeding by dismissal, with or without prejudice, shall be deemed to be a successful result as to such claim, action or matter. (d) Any indemnification under Sections 6.01(a) and 6.01(b) (unless ordered by a court) shall be made by the Corporation only as authorized in the specific case upon a determination that indemnification of the director, officer, employee or agent is proper in the circumstances because he has met the applicable standard of conduct set forth in such Sections 6.01(a) and 6.01(b). Such determination shall be made (i) by the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to such action, suit or proceeding, or (ii) if such a quorum is not obtainable, or, even if obtainable, a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, or (iii) by the stockholders of the Corporation. (e) Expenses (including attorneys' fees) incurred by an officer or director in defending any civil, criminal, administrative or investigative action, suit or proceeding may be paid by the Corporation in advance of the final disposition of such action, suit or proceeding upon receipt of an undertaking by or on behalf of such director or officer to repay such amount if it shall ultimately be determined that he is not entitled to be indemnified by the Corporation authorized in this Article 6. Such expenses (including attorneys' fees) incurred by other employees and agents may be so paid upon such terms and conditions, if any, as the Board of Directors deems appropriate. (f) The indemnification and advancement of expenses provided by, or granted pursuant to, the other sections of this Article 6 shall not be deemed exclusive of any other rights to which those seeking indemnification or advancement of expenses may be entitled under any law, by-law, agreement, vote of stockholders or disinterested directors or otherwise, both as to action in an official capacity and as to action in another capacity while holding such office. (g) The Corporation may purchase and maintain insurance on behalf of any person who is or was a director, officer, employee or agent of the Corporation, or is or was serving the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise against any liability asserted against him and incurred by him in any such capacity, or arising out of his status as such, whether or not the Corporation would have the power to indemnify him against such liability under the provisions of Section 145 of the General Corporation Law. The Corporation shall not be liable under this Article 6 to make any payment of amounts otherwise indemnifiable 19 hereunder if and to the extent that a person indemnified hereunder has otherwise actually received any payment under any such insurance policy. (h) Notwithstanding any other provision of this Article 6, to the extent that any director, officer, employee or agent of the Corporation is, by reason of his being a director, officer, employee or agent of the Corporation or a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise and is serving in such capacity at the request of the Corporation, a witness in any action, suit or proceeding, he shall be indemnified against all expenses (including attorneys' fees) actually and reasonably incurred by him in connection therewith. (i) For purposes of this Article 6, references to "the Corporation" shall include, in addition to the resulting corporation, any constituent corporation (including any constituent of a constituent) absorbed in a consolidation or merger which, if its separate existence had continued, would have had power and authority to indemnify its directors, officers, employees or agents so that any person who is or was a director, officer, employee or agent of such constituent corporation, or is or was serving at the request of such constituent corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, shall stand in the same position under the provisions of this Article 6 with respect to the resulting or surviving corporation as he would have with respect to such constituent corporation if its separate existence had continued. (j) For purposes of this Article 6, references to "other enterprises" shall include employee benefit plans; references to "fines" shall include any excise taxes assessed on a person with respect to an employee benefit plan; and references to "serving at the request of the Corporation" shall include any services as a director, officer, employee or agent of the Corporation which imposes duties on, or involves service by, such director, officer, employee or agent with respect to any employee benefit plan, its participants or beneficiaries; and a person who acted in good faith and in a manner he reasonably believed to be in the interest of the participants and beneficiaries of an employee benefit plan shall be deemed to have acted in a manner "not opposed to the best interests of the Corporation" as referred to in this Article 6. (k) The indemnification and advancement of expenses provided by, or granted pursuant to, this Article 6 shall, unless otherwise provided when authorized or ratified, continue as to a person who has ceased to be a director, officer, employee or agent and shall inure to the benefit of the heirs, executors and administrators of such a person. 20 (l) In the event of any payment by the Corporation under this Article 6, the Corporation shall be subrogated to the extent of such payment to all of the rights of recovery of any person indemnified hereunder, who shall execute all papers required and take all action necessary to secure such rights, including, without limitation, execution of such documents as are necessary to enable the Corporation to bring suit to enforce such rights. (m) The rights of indemnification and for any person indemnified hereunder to receive advancement of any expenses as provided by this Article 6 shall not be deemed exclusive of any other rights to which such indemnified person may at any time be entitled under applicable law, this Certificate of Incorporation, the By-laws of the Corporation, any agreement, a vote of the stockholders of the Corporation, a resolution of the Board of Directors or otherwise. No amendment, alteration or repeal of this Article 6 or of any provision hereof shall be effective as to any person indemnified hereunder with respect to any action taken or omitted to be taken by such indemnified person in his capacity as a director, officer, employee or agent of the Corporation, or as a director, officer, employee or agent of any other corporation, partnership, joint venture, trust or other enterprise that he is serving at the request of the Corporation, prior to such amendment, alteration or repeal. (n) If any provision of this Article 6 shall be held to be invalid, illegal or unenforceable for any reason whatsoever: (a) the validity, legality and enforceability of the remaining provisions of this Article 6 (including, without limitation, each portion of any Section of this Article 6 containing any such provision held to be invalid, illegal or unenforceable, that is not itself invalid, illegal or unenforceable) shall not in any way be affected or impaired thereby; and (b) to the fullest extent possible, the provisions of this Article 6 (including, without limitation, each portion of any Section of this Article 6 containing any such provision held to be invalid, illegal or unenforceable) shall be construed so as to give effect to the intent manifested by the provision held invalid, illegal or unenforceable. (o) Notwithstanding any provision of this Article 6 to the contrary, no person shall be entitled to indemnification or advancement of expenses under this Article 6 with respect to any action, suit or proceeding, or any claim therein, brought or made by him against the Corporation. 21 ARTICLE 7 REORGANIZATION SECTION 7.01. Compromise or Arrangement. Whenever a compromise or arrangement is proposed between this Corporation and its creditors or any class of them and/or between this Corporation and its stockholders or any class of them, any court of equitable jurisdiction within the State of Delaware may, on the application in a summary way of this Corporation or of any creditor or stockholder thereof or on the application of any receiver or receivers appointed for this Corporation under the provisions of section 291 of Title 8 of the Delaware Code or on the application of trustees in dissolution or of any receiver or receivers appointed for this Corporation under the provisions of section 279 of Title 8 of the Delaware Code, order a meeting of the creditors or class of creditors, and/or of the stockholders or class of stockholders of this Corporation, as the case may be, to be summoned in such manner as the said court directs. If a majority in number representing three-fourths in value of the creditors or class of creditors, and/or of the stockholders or class of stockholders of this Corporation, as the case may be, agree to any compromise or arrangement and to any reorganization of this Corporation as a consequence of such compromise or arrangement, the said compromise or arrangement and the said reorganization shall, if sanctioned by the court to which the said application has been made, be binding on all the creditors or class of creditors, and/or on all the stockholders or class of stockholders, of this Corporation, as the case may be, and also on this Corporation. ARTICLE 8 AMENDMENT SECTION 8.01. Amendment. The Corporation reserves the right to amend, alter, change or repeal any provision of this Certificate of Incorporation, in the manner now or hereafter prescribed by law, and all rights conferred on stockholders in this Certificate of Incorporation are subject to this reservation. This Amended and Restated Certificate of Incorporation was duly adopted in accordance with the provisions of Section 242 and 245 of the General Corporation Law of the State of Delaware. The Board of Directors of the Corporation approved the Corporation's Amended and Restated Certificate of Incorporation as set forth herein pursuant to resolutions of the Board of Directors effective as of December 15, 1997. 22 The holders of the outstanding shares of Series A Preferred Stock, Series B Preferred Stock and Common Stock, voting together and each such class voting separately as a class, having at least a majority of all votes attributable to such shares and entitled to be voted, acting by written consent pursuant to Section 228(a) of the General Corporation Law of the State of Delaware, approved the Amended and Restated Certificate of Incorporation as set forth herein as of January 16, 1998 and prompt notice of the taking of such corporate action without a meeting by less than unanimous written consent was given to those stockholders that did not consent in writing as required by Section 228(d) of the General Corporation Law of the State of Delaware. ACG HOLDINGS, INC. By: /s/ Timothy M. Davis --------------------------------- Name: Timothy M. Davis Title: Senior Vice President and General Counsel 23 EX-10.4 3 WILLIAMS EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT dated as of April 1, 1997 (the "Agreement"), between AMERICAN COLOR GRAPHICS, INC., a New York corporation (the "Company") and LARRY R. WILLIAMS (the "Executive"). WHEREAS, the Executive is currently employed by the Company under an employment agreement dated as of September 1, 1995 (the "Prior Agreement"); WHEREAS, the parties hereto desire to replace the Prior Agreement with this Agreement, to be effective as of the date set forth above; NOW, THEREFORE, in consideration of the covenants and agreements hereinafter set forth, the parties hereto agree as follows: 1. EFFECTIVENESS OF AGREEMENT This Agreement shall become effective, and shall supersede the Prior Agreement, as of April 1, 1997 (the "Effective Time"). 2. EMPLOYMENT AND DUTIES 2.1. General. The Company hereby employs the Executive, and the Executive agrees to serve, as Executive Vice President, Purchasing/Transportation of the American Color Graphics Division ("ACG") of the Company, upon the terms and conditions contained herein. In addition, the Executive shall serve as General Manager of the Company's Materials Management Division and as General Manager of the Company's Paper Sales Division (collectively, the "Divisions"). With respect to his duties as Executive Vice President, the Executive shall report directly to the President of ACG. With respect to his duties as General Manager of the Divisions, the Executive shall report directly to the Chief Executive Officer of ACG. The Executive shall perform such other duties and services for the Company, commensurate with the Executive's position, as may be designated from time to time by the President of ACG. The Executive agrees to serve the Company faithfully and to the best of his ability under the direction of the Chief Executive Officer and President of ACG as provided above. 2.2. Exclusive Services. Except as may otherwise be approved in advance by the Chief Executive Officer of the Company, and except during vacation periods and reasonable periods of absence due to sickness, personal injury or other disability, the Executive shall devote his full working time throughout the Employment Term (as defined in Section 2.3) to the services required of him hereunder. The Executive shall render his services exclusively to the Company during the Employment Term, and shall use his best efforts, judgment and energy to improve and advance the business and interests of the Company in a manner consistent with the duties of his position. 2.3. Term of Employment. The Executive's employment under this Agreement shall commence as of the Effective Time and shall terminate on the earlier of (i) the fifth anniversary of the Effective Time, or (ii) termination of the Executive's employment pursuant to this Agreement; provided, however, that the term of the Executive's employment shall be automatically extended without further action of either party for additional one year periods, unless written notice of either party's intention not to extend has been given to the other party hereto at least two years prior to the expiration of the then effective term. The period commencing as of the Effective Time and ending on the fifth anniversary of the Effective Time or such later date to which the term of the Executive's employment under this Agreement shall have been extended is hereinafter referred to as the "Employment Term". 2 2.4. Reimbursement of Expenses. The Company shall reimburse the Executive for reasonable travel and other business expenses incurred by him in the fulfillment of his duties hereunder upon presentation by the Executive of an itemized account of such expenditures, in accordance with Company practices consistently applied. 3. SALARY 3.1. Base Salary. From the Effective Time, the Executive shall be entitled to receive a base salary ("Base Salary") as follows, payable in arrears in equal installments not less frequently than biweekly in accordance with the Company's payroll practices, with such increases as may be provided in accordance with the terms hereof: Per Annum Title Base Salary ----- ----------- Executive Vice President $ 230,000 General Manager, Materials Management 35,000 General Manager, Paper Sales 35,000 3.2 Division Change. In the event that one or both of the Divisions ceases operations, either by mutual agreement or because they fail to meet budgeted earnings targets two years in a row, the Executive's Base Salary will be reduced by the then current portion of his Base Salary allocated to such Division(s). 3.3 Annual Review. The Executive's Base Salary shall be reviewed by the Chief Executive Officer with regard to his role with the Divisions and by the President with regard to his role as Executive Vice President of the Company based upon the Executive's performance, not less often than annually, and may be increased but not decreased. 3.4 Bonus. During his employment under this Agreement, the Executive shall be entitled to participate in the Company's bonus plan for senior executives, under which the Executive shall be entitled to receive a bonus of up to 45% of his Base Salary as Executive Vice President if the budget performance criteria are satisfied. On each anniversary of the Effective Time during the term of this Agreement, the Executive shall receive additional incentive payments equal to the following: (A) 10% of the net income for the preceding fiscal year of the Paper Sales Division. (B) 20% of the net income for the preceding fiscal year of the Materials Management Division, provided that such percentage shall be increased to 25% of such net income on the fourth and fifth anniversaries and 30% on each anniversary thereafter. A copy of the 1998 Budget for ACGPaper Sales and ACG Materials Management is attached as Exhibit A hereto. 3 4. EMPLOYEE BENEFITS The Executive shall, during his employment under this Agreement, be included to the extent eligible thereunder in employee benefit plans, programs or arrangements providing for retirement benefits, incentive compensation, profit sharing, bonuses, disability benefits, life insurance, vacation and paid holidays. 5. TERMINATION OF EMPLOYMENT 5.1. Termination without Cause; Resignation for Good Reason. 5.1.1. General. Subject to the provisions of Sections 5.1.2 and 5.1.3, if, prior to the expiration of the Employment Term, the Executive's employment is terminated by the Company without Cause (as defined in Section 5.3), or if the Executive terminates his employment hereunder for Good Reason (as defined in Section 5.4), the Company shall (x) continue to pay the Executive the Base Salary (at the rate in effect on the date of such termination) for the greater of (i) the remainder of the Employment Term and (ii) a period of two years beginning as of the date of termination (such period being referred to hereinafter as the "Severance Period"), at such intervals as the same would have been paid had the Executive remained in the active service of the Company, and (y) pay the Executive a pro rata portion of the bonus to which the Executive would have been entitled for the year of termination pursuant to Section 3.3 had the Executive remained employed for the entire year, which bonus shall be payable at the time bonuses under the applicable bonus plan are paid to the Company's executives generally. In addition, the Executive shall be entitled to continue to participate during the Severance Period in employee benefit plans specified in Section 4 (other than equity-based plans, except to the extent otherwise provided therein, or bonus plans), provided that the Executive is entitled to continue to participate in such plans under the terms thereof. The Executive shall have no further right to receive any other compensation or benefits after such termination or resignation of employment except as determined in accordance with the terms of the employee benefit plans or programs of the Company. 5.1.2. Conditions Applicable to the Severance Period. If, during the Severance Period, the Executive materially breaches his obligations under Section 8 of this Agreement, the Company may, upon written notice to the Executive, terminate the Severance Period and cease to make any further payments or provide any benefits described in Section 5.1.1. 5.1.3. Death During Severance Period. In the event of the Executive's death during the Severance Period, payments of Base Salary under this Section 5 shall continue to be made during the remainder of the Severance Period to the beneficiary designated in writing for this purpose by the Executive or, if no such beneficiary is specifically designated, to the Executive's estate. 5.1.4. Date of Termination. The date of termination of employment without Cause shall be the date specified in a written notice of termination to the Executive. The date of resignation for Good Reason shall be the date specified in the written notice of resignation from the Executive to the Company; provided, however, that no such written notice shall be effective unless the cure period specified in Section 5.4 has expired without the Company having corrected, to the reasonable satisfaction of the Executive, the event or events subject to cure. If no date of resignation is specified in the written notice from the Executive to the Company, the date of termination shall be the first day following such expiration of such cure period. 4 5.2. Termination for Cause; Resignation Without Good Reason. 5.2.1. General. If, prior to the expiration of the Employment Term, the Executive's employment is terminated by the Company for Cause, or the Executive resigns from his employment hereunder other than for Good Reason, the Executive shall be entitled only to payment of his Base Salary as then in effect through and including the date of termination or resignation. The Executive shall have no further right to receive any other compensation or benefits after such termination or resignation of employment, except as determined in accordance with the terms of the employee benefit plans or programs of the Company. 5.2.2. Date of Termination. Subject to the proviso to Section 5.3, the date of termination for Cause shall be the date specified in a written notice of termination to the Executive. The date of resignation without Good Reason shall be the date specified in the written notice of resignation from the Executive to the Company, or if no date is specified therein, 10 business days after receipt by the Company of written notice of resignation from the Executive. 5.3. Cause. Termination for "Cause" shall mean termination of the Executive's employment because of: (i) any act or omission that constitutes a material breach by the Executive of any of his obligations under this Agreement; (ii) the continued failure or refusal of the Executive to substantially perform the duties reasonably required of him as an employee of the Company; (iii)any willful and material violation by the Executive of any Federal or state law or regulation applicable to the business of the Company, Parent or any of their respective subsidiaries, or the Executive's conviction of a felony, or any willful perpetration by the Executive of a common law fraud; or (iv) any other willful misconduct by the Executive which is materially injurious to the financial condition or business reputation of, or is otherwise materially injurious to, the Company, Parent or any of their respective subsidiaries or affiliates (it being understood that the good faith performance by the Executive of the duties required of him pursuant to Section 2.1 shall not constitute "misconduct" for purposes of this clause (iv)); provided, however, that if any such Cause relates to the Executive's obligations under this Agreement, the Company shall not terminate the Executive's employment hereunder unless the Company first gives the Executive notice of its intention to terminate and of the grounds for such termination, and the Executive has not, within 20 business days following receipt of the notice, cured such Cause, or in the event such Cause is not susceptible to cure within such 20 business day period, the Executive has not taken all reasonable steps within such 20 business day period to cure such Cause as promptly as practicable thereafter. 5 5.4. Good Reason. For purposes of this Agreement, "Good Reason" shall mean any of the following (without the Executive's prior written consent): (i) a decrease in the Executive's base rate of compensation or a failure by the Company to pay material compensation due and payable to the Executive in connection with his employment; (ii) a material diminution of the responsibilities or title of the Executive with the Company; (iii)the Company's requiring the Executive to be based at any office or location more than 20 miles from either Nashville, Tennessee or Boca Raton, Florida; (iv) a material breach by the Company of any term or provision of this Agreement; provided, however, that no event or condition described in clauses (i) through (iv) of this Section 5.4 shall constitute Good Reason unless (X) the Executive gives the Company written notice of his objection to such event or condition, (Y) such event or condition is not corrected by the Company within 20 business days of its receipt of such notice (or in the event that such event or condition is not susceptible to correction within such 20 business day period, the Company has not taken all reasonable steps within such 20 business day period to correct such event or condition as promptly as practicable thereafter) and (Z) the Executive resigns his employment with the Company and its subsidiaries not more than 60 days following the expiration of the 20 business day period described in the foregoing clause (Y); or (v) a change in control of the Company, other than in connection with an ESOP or management led purchase of the Company, provided that the Executive notify the Company, as provided in Section 5.1.4 above, within 90 days after such change of control and provided further that in no event shall the effective date of such resignation under this subsection be earlier than the third anniversary of the Effective Time. 6. DEATH, DISABILITY OR RETIREMENT In the event of termination of employment by reason of death, Permanent Disability (as hereinafter defined) or retirement, the Executive (or his estate, as applicable) shall be entitled to Base Salary and benefits determined under Sections 3 and 4 hereof through the date of termination. Other benefits shall be determined in accordance with the benefit plans maintained by the Company, and the Company shall have no further obligation hereunder. For purposes of this Agreement, "Permanent Disability" means a physical or mental disability or infirmity of the Executive that prevents the normal performance of substantially all his duties as an employee of the Company, which disability or infirmity shall exist for any continuous period of 180 days. 7. MITIGATION OF DAMAGES The Executive shall mitigate the amount of any payment provided for in Section 5.1 by seeking other employment, and any such payment will be reduced in the event such other employment is obtained. The Executive acknowledges it is his duty to seek other employment permitted by the terms of this Agreement. 6 8. NON-SOLICITATION; CONFIDENTIALITY; NON-COMPETITION 8.1. Non-solicitation. For so long as the Executive is employed by the Company and continuing for two years thereafter (or if the Executive is entitled to a continuation of his Base Salary under Section 5.1.1, the period during which such Base Salary is continued), the Executive shall not, without the prior written consent of the Company, directly or indirectly, as a sole proprietor, member of a partnership, stockholder or investor, officer or director of a corporation, or as an employee, associate, consultant or agent of any person, partnership, corporation or other business organization or entity other than the Company: (x) solicit or endeavor to entice away from the Company, Parent or any of their respective subsidiaries any person or entity who is, or, during the then most recent 12-month period, was employed by, or had served as an agent or key consultant of, the Company, Parent or any of their respective subsidiaries; or (y) solicit or endeavor to entice away from the Company, Parent or any of their respective subsidiaries any person or entity who is, or was within the then most recent 12-month period, a customer or client (or reasonably anticipated (to the general knowledge of the Executive or the public) to become a customer or client) of the Company, Parent or any of their respective subsidiaries. 8.2. Confidentiality. The Executive covenants and agrees with the Company that he will not at any time, except in performance of his obligations to the Company hereunder or with the prior written consent of the Company, directly or indirectly, disclose any secret or confidential information that he may learn or has learned by reason of his association with the Company, Parent or any of their respective subsidiaries and affiliates. The term "confidential information" includes information not previously disclosed to the public or to the trade by the Company's management, or otherwise in the public domain, with respect to the Company's, Parent's or any of their respective affiliates' or subsidiaries' products, facilities, applications and methods, trade secrets and other intellectual property, systems, procedures, manuals, confidential reports, product price lists, customer lists, technical information, financial information (including the revenues, costs or profits associated with any of the Company's products), business plans, prospects or opportunities, but shall exclude any information which (i) is or becomes available to the public or is generally known in the industry or industries in which the Company operates other than as a result of disclosure by the Executive in violation of his agreements under this Section 8.2 or (ii) the Executive is required to disclose under any applicable laws, regulations or directives of any government agency, tribunal or authority having jurisdiction in the matter or under subpoena or other process of law. 8.3. No Competing Employment. For so long as the Executive is employed by the Company and continuing for two years thereafter (or, if the Executive is entitled to a continuation of his Base Salary under Section 5.1.1, the period during which such Base Salary is continued), the Executive shall not, directly or indirectly, as a sole proprietor, member of a partnership, stockholder or investor (other than a stockholder or investor owning not more than a 5% interest), officer or director of a corporation, or as an employee, associate, consultant or agent of any person, partnership, corporation or other business organization or entity other than the Company, Parent, or any of their respective subsidiaries, render any service to or in any way be affiliated with a competitor (or any person or entity that is reasonably anticipated (to the general knowledge of the Executive or the public) to become a competitor) of the Company, Parent or any of their respective subsidiaries; provided, however, that if (x) the Company exercises its right not to extend the Employment Term pursuant to Section 2.3 and (y) the Executive's employment is terminated for any reason following the expiration of the Employment Term, the Executive's obligations under this Section 8.3 shall terminate as of the date of termination of employment. 8.4. Exclusive Property. The Executive confirms that all confidential information is and shall remain the exclusive property of the Company. All business records, papers and documents kept or made by the Executive relating to the business of the Company shall be and remain the property of the Company, except for such papers customarily deemed to be the personal copies of the Executive. 7 8.5. Injunctive Relief. Without intending to limit the remedies available to the Company, the Executive acknowledges that a breach of any of the covenants contained in this Section 8 may result in material and irreparable injury to the Company, Parent or their respective affiliates or subsidiaries for which there is no adequate remedy at law, that it will not be possible to measure damages for such injuries precisely and that, in the event of such a breach or threat thereof, the Company shall be entitled to seek a temporary restraining order and/or a preliminary or permanent injunction restraining the Executive from engaging in activities prohibited by this Section 8 or such other relief as may be required specifically to enforce any of the covenants in this Section 8. If for any reason, it is held that the restrictions under this Section 8 are not reasonable or that consideration therefor is inadequate, such restrictions shall be interpreted or modified to include as much of the duration and scope identified in this Section 8 as will render such restrictions valid and enforceable. 9. ENFORCEMENT OF AGREEMENT In the event that legal action is undertaken by either party to enforce any provision of this Agreement, the Company shall reimburse the Executive for any related reasonable legal fees and out-of-pocket expenses directly attributable to such action, provided that such legal fees are calculated on an hourly, and not on a contingency fee, basis and provided, further, that the Executive shall bear all such fees and out-of-pocket expenses (and reimburse the Company for its portion of such expenses) if the relevant trier-of-fact determines that the Executive's claim or position was frivolous and without reasonable foundation. 10. MISCELLANEOUS 10.1. Notices. All notices or communications hereunder shall be in writing, addressed as follows: To the Company: American Color Graphics, Inc. 100 Winner's Circle Brentwood, Tennessee 37027 Telecopier No.: (615) 377-0372 Attention: Timothy M. Davis Senior Vice President, General Counsel & Secretary To the Executive: Larry R. Williams 2664 N.W. 63rd Street Boca Raton, FL 33496 All such notices shall be conclusively deemed to be received and shall be effective, (i) if sent by hand delivery, upon receipt, (ii) if sent by telecopy or facsimile transmission, upon confirmation of receipt by the sender of such transmission or (iii) if sent by registered or certified mail, on the fifth day after the day on which such notice is mailed. 10.2. Severability. Each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement is held to be prohibited by or invalid under applicable law, such provision will be ineffective only to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement. 8 10.3. Assignment. The Company's rights and obligations under this Agreement shall not be assignable by the Company except as incident to a reorganization, merger or consolidation, or transfer of all or substantially all of the Company's business and properties (or portion thereof in which the Executive is employed). Neither this Agreement nor any rights hereunder shall be assignable or otherwise subject to hypothecation by the Executive. 10.4. Entire Agreement. Except as expressly set forth in Section 1, this Agreement represents the entire agreement of the parties and shall supersede any and all previous contracts, arrangements or understandings between the Company and the Executive including, without limitation, the Prior Agreement. This Agreement may be amended at any time by mutual written agreement of the parties hereto. 10.5. Withholding. The payment of any amount pursuant to this Agreement shall be subject to applicable withholding and payroll taxes, and such other deductions as may be required under the Company's employee benefit plans, if any. 10.6. Governing Law. This Agreement shall be construed, interpreted, and governed in accordance with the laws of New York without reference to rules relating to conflict of law. IN WITNESS WHEREOF, the Company has caused this Agreement to be duly executed and the Executive has hereunto set his hand, as of the day and year first above written. AMERICAN COLOR GRAPHICS, INC. By: /s/ Stephen M. Dyott -------------------------------- Name (printed): Stephen M. Dyott Title: EXECUTIVE /s/ Larry R. Williams ----------------------------------- Larry R. Williams EX-10.5 4 MILANO SEVERANCE AGREEMENT July 15, 1998 Mr. Joseph M. Milano 253 Thornwood Drive Stamford, CT 06903 Dear Joe: This will confirm that if American Color Graphics, Inc. ("ACG") terminates your employment without cause, ACG shall continue to pay you your then current base salary and maintain all your then current benefits (to the extent allowed under the applicable benefit plans) for a period of three years following your termination. In such event, ACG shall also pay you a pro rata portion of the bonus to which you would have been entitled for the year of termination had you been employed for the entire year, which bonus shall be payable at the time bonuses are paid to ACG executives generally. You shall not be required to mitigate the amount of any payment provided for above and such payments will not be reduced in the event you obtain other employment The term "Cause" shall mean the termination of your employment hereunder in the event of your (i) conviction of any crime or offense involving money or other property of ACG or any felony, (ii) willful and unreasonable refusal to substantially perform your duties hereunder, (iii) competition with ACG, or (iv) gross negligence in the conduct of your duties; provided, however, no termination shall be deemed for "Cause" under clauses (ii), (iii) or (iv) unless you shall have first received written notice from ACG advising you of the acts or omissions that constitute the basis for termination and you fail to correct the acts or omissions complained of within 20 business days following receipt of such notice. Your employment shall be deemed to have been terminated "without cause" if you terminate your employment after ACG causes any of the following events to occur: (i) a decrease in your base salary or a failure to pay you material compensation due and payable to you in connection with your employment; (ii) a material diminution of your responsibilities or title; or (iii) you are required to be based at any office or location more than 25 miles from your current principal employment location. For so long as you are employed by ACG, and continuing for three years thereafter, you shall not, without the prior written consent of ACG, directly or indirectly, as a sole proprietor, member of a partnership, stockholder or investor, officer or director of a corporation, or as an employee, associate, consultant or agent of any person, partnership, corporation or other business organization or entity other than ACG: (i) render any service to or in any way be affiliated with a competitor (or any person or entity that is reasonably anticipated (to the general knowledge of you or the public) to become a competitor) of ACG; (ii) solicit or endeavor to entice away from ACG any person or entity who is, or, during the then most recent 12-month period, was employed by, or had served as an agent or key consultant of, ACG; or (iii) solicit or endeavor to entice away from ACG any person or entity who is, or was within the then most recent 12-month period, a customer or client (or reasonably anticipated (to the general knowledge of you or the public) to become a customer or client) of ACG. July 15, 1998 Page 2 You covenant and agree with ACG that you will not at any time, except in performance of your obligations to ACG hereunder or with the prior written consent of ACG, directly or indirectly, disclose any secret or confidential information that you may learn or have learned by reason of your association with ACG. The term "confidential information" includes information not previously disclosed to the public or to the trade by ACG's management, or otherwise in the public domain, with respect to ACG's products, facilities, applications and methods, trade secrets and other intellectual property, systems, procedures manuals, confidential reports, product price lists, customer lists, technical information, financial information (including the revenues, costs or profits associated with any of ACG's products), business plans, prospects or opportunities, but shall exclude any information which (i) is or becomes available to the public or is generally known in the industry or industries in which ACG operates other than as a result of disclosure by you in violation of your agreements under this paragraph or (ii) you are required to disclose under any applicable laws, regulations or directives of any government agency, tribunal or authority having jurisdiction in the matter or under subpoena or other process of law. All references to "ACG" include its divisions, subsidiaries and affiliates. If the foregoing meets with your approval, please sign and return the enclosed copy of this letter to the undersigned. Sincerely, AMERICAN COLOR GRAPHICS, INC. By: /s/ Stephen M. Dyott --------------------------------------------- Stephen M. Dyott Chairman & Chief Executive Officer & President ACCEPTED AND AGREED TO: /s/ Joseph M. Milano - ------------------------------- Joseph M. Milano EX-10.6 5 DAVIS SEVERANCE AGREEMENT July 15, 1998 Mr. Timothy M. Davis 334 Pine Creek Avenue Fairfield, CT 06430 Dear Tim: This will confirm that if American Color Graphics, Inc. ("ACG") terminates your employment without cause, ACG shall continue to pay you your then current base salary and maintain all your then current benefits (to the extent allowed under the applicable benefit plans) for a period of three years following your termination. In such event, ACG shall also pay you a pro rata portion of the bonus to which you would have been entitled for the year of termination had you been employed for the entire year, which bonus shall be payable at the time bonuses are paid to ACG executives generally. You shall not be required to mitigate the amount of any payment provided for above and such payments will not be reduced in the event you obtain other employment The term "Cause" shall mean the termination of your employment hereunder in the event of your (i) conviction of any crime or offense involving money or other property of ACG or any felony, (ii) willful and unreasonable refusal to substantially perform your duties hereunder, (iii) competition with ACG, or (iv) gross negligence in the conduct of your duties; provided, however, no termination shall be deemed for "Cause" under clauses (ii), (iii) or (iv) unless you shall have first received written notice from ACG advising you of the acts or omissions that constitute the basis for termination and you fail to correct the acts or omissions complained of within 20 business days following receipt of such notice. Your employment shall be deemed to have been terminated "without cause" if you terminate your employment after ACG causes any of the following events to occur: (i) a decrease in your base salary or a failure to pay you material compensation due and payable to you in connection with your employment; (ii) a material diminution of your responsibilities or title; or (iii) you are required to be based at any office or location more than 25 miles from your current principal employment location. For so long as you are employed by ACG, and continuing for three years thereafter, you shall not, without the prior written consent of ACG, directly or indirectly, as a sole proprietor, member of a partnership, stockholder or investor, officer or director of a corporation, or as an employee, associate, consultant or agent of any person, partnership, corporation or other business organization or entity other than ACG: (i) render any service to or in any way be affiliated with a competitor (or any person or entity that is reasonably anticipated (to the general knowledge of you or the public) to become a competitor) of ACG; (ii) solicit or endeavor to entice away from ACG any person or entity who is, or, during the then most recent 12-month period, was employed by, or had served as an agent or key consultant of, ACG; or (iii) solicit or endeavor to entice away from ACG any person or entity who is, or was within the then most recent 12-month period, a customer or client (or reasonably anticipated (to the general knowledge of you or the public) to become a customer or client) of ACG. July 15, 1998 Page 2 You covenant and agree with ACG that you will not at any time, except in performance of your obligations to ACG hereunder or with the prior written consent of ACG, directly or indirectly, disclose any secret or confidential information that you may learn or have learned by reason of your association with ACG. The term "confidential information" includes information not previously disclosed to the public or to the trade by ACG's management, or otherwise in the public domain, with respect to ACG's products, facilities, applications and methods, trade secrets and other intellectual property, systems, procedures manuals, confidential reports, product price lists, customer lists, technical information, financial information (including the revenues, costs or profits associated with any of ACG's products), business plans, prospects or opportunities, but shall exclude any information which (i) is or becomes available to the public or is generally known in the industry or industries in which ACG operates other than as a result of disclosure by you in violation of your agreements under this paragraph or (ii) you are required to disclose under any applicable laws, regulations or directives of any government agency, tribunal or authority having jurisdiction in the matter or under subpoena or other process of law. All references to "ACG" include its divisions, subsidiaries and affiliates. If the foregoing meets with your approval, please sign and return the enclosed copy of this letter to the undersigned. Sincerely, AMERICAN COLOR GRAPHICS, INC. By: /s/ Stephen M. Dyott --------------------------------------------- Stephen M. Dyott Chairman & Chief Executive Officer & President ACCEPTED AND AGREED TO: /s/ Timothy M. Davis - -------------------------------- Timothy M. Davis EX-12.1 6 COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES STATEMENT RE: COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES (Dollars in Thousands)
Year Ended Year Ended Year Ended Year Ended Year Ended March 31, March 31, March 31, March 31, March 31, 1999 1998 1997 1996 1995 ------------ ------------ ------------ ------------ ------------ Consolidated pretax loss from continuing operations $ (7,839) (27,122) (26,005) (21,431) (1,869) Net amortization of debt issuance expense 1,412 2,292 1,784 2,139 2,174 Interest expense 34,830 36,664 34,505 30,549 23,578 Interest portion of rental expense 2,301 2,130 1,799 1,618 1,392 ------------ ------------ ------------ ------------ ------------ Earnings $ 30,704 13,964 12,083 12,875 25,275 ============ ============ ============ ============ ============ Interest expense $ 34,830 36,664 34,505 30,549 23,578 Net amortization of debt issuance expense 1,412 2,292 1,784 2,139 2,174 Interest portion of rental expense 2,301 2,130 1,799 1,618 1,392 ------------ ------------ ------------ ------------ ------------ Fixed Charges $ 38,543 41,086 38,088 34,306 27,144 ============ ============ ============ ============ ============ Ratio of Earnings to Fixed Charges (a) (a) (a) (a) (a) ============ ============ ============ ============ ============
(a) The deficiency in earnings required to cover fixed charges for the fiscal years ended March 31, 1999, 1998, 1997, 1996, and 1995 was $7,839, $27,122, $26,005, $21,431 and $1,869, respectively. The deficiency in earnings to cover fixed charges is computed by subtracting earnings before fixed charges, income taxes, discounted operations and extraordinary items from fixed charges. Fixed charges consist of interest expense and one-third of operating lease rental expense, which is deemed to be representative of the interest factor. The deficiency in earnings required to cover fixed charges includes depreciation of property, plant and equipment and amortization of goodwill and other assets and non-cash charges which are reflected in cost of sales and selling, general and administrative expenses, in the following amounts (in thousands): Fiscal Year Ended March 31, ------------------------------------------------------- 1999 1998 1997 1996 1995 -------- ------- -------- ------- --------- Depreciation $ 29,651 $ 28,124 $ 25,282 $ 21,385 $ 18,327 Amortization 4,025 10,413 9,374 9,311 8,941 Non-cash charges(gain) 1,150 2,301 1,944 3,435 (3,311) -------- ------- -------- ------- -------- Total $ 34,826 $ 40,838 $ 36,600 $ 34,131 $ 23,957 ======== ======= ======== ======= ======== EX-21.1 7 LIST OF SUBSIDIARIES LIST OF SUBSIDIARIES Subsidiary of ACG Holdings, Inc.: State of Incorporation: - --------------------------------- ----------------------- American Color Graphics, Inc. New York Subsidiaries of American Color Graphics, Inc.: - ---------------------------------------------- Sullivan Marketing, Inc. Delaware American Images of North America, Inc. New York Sullivan Media Corporation Delaware EX-27 8 FDS --
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM ACG HOLDINGS, INC.'S CONSOLIDATED FINANCIAL STATEMENTS FOR THE TWELVE MONTH PERIOD ENDED MARCH 31, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000856710 ACG Holdings, Inc. 1,000 U.S. Dollars 12-MOS MAR-31-1999 APR-01-1998 MAR-31-1999 1 0 0 62,837 2,860 8,343 71,591 263,191 119,576 299,000 77,042 185,000 0 0 1 (119,307) 299,000 520,343 520,343 439,091 439,091 0 2,510 36,242 (7,839) 523 (8,362) 0 (4,106) 0 (12,468) 0 0
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