Crocs, Inc. - Quarter Report: 2010 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2010

 

or

 

o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from               to              

 

Commission File No. 000-51754

 

 

Crocs, Inc.

(Exact name of registrant as specified in its charter)

 

 

6328 Monarch Park Place, Niwot Colorado 80503

(Address of registrant’s principal executive offices)

 

(303) 848-7000

(Registrant’s telephone number, including area code)

 

 

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 o

 

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

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

 

As of July 31, 2010, Crocs, Inc. had 86,630,707 shares of its $0.001 par value common stock outstanding.

 

 

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Crocs, Inc.

Form 10-Q

Quarter Ended June 30, 2010

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PART I—Financial Information
Item 1. Financial Statements
Unaudited Condensed Consolidated Statements of Operations for the Three Months and Six Months Ended June 30, 2010 and 2009
Unaudited Condensed Consolidated Balance Sheets at June 30, 2010 and December 31, 2009
Unaudited Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2010 and 2009
Notes to Unaudited Condensed Consolidated Financial Statements
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II—Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 6. Exhibits
Signatures

 

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PART I—FINANCIAL INFORMATION

 

ITEM 1.  Financial Statements

 

CROCS, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

(In thousands, except share and per share data)

 

(Unaudited)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2010			2009			2010			2009
Revenues		$	228,046		$	197,722		$	394,898		$	332,614
Cost of sales		96,127			96,610			176,275			181,771
Gross profit		131,919			101,112			218,623			150,843
Selling, general and administrative expenses		94,047			94,606			168,825			163,395
Foreign currency transaction losses (gains), net		(1,129		)	(3,623		)	(1,421		)	(214		)
Restructuring charges		—			5,915			2,539			5,953
Impairment charges		—			23,655			141			23,724
Charitable contributions		275			5,078			418			5,119
Income (loss) from operations		38,726			(24,519		)	48,121			(47,134		)
Interest expense		163			562			292			1,257
Gain on charitable contribution		(32		)	(2,024		)	(116		)	(2,024		)
Other expense (income), net		(291		)	(343		)	(50		)	(1,446		)
Income (loss) before income taxes		38,886			(22,714		)	47,995			(44,921		)
Income tax expense		6,602			7,567			9,994			7,777
Net income (loss)		$	32,284		$	(30,281	)	$	38,001		$	(52,698	)
Net income (loss) per common share:
Basic		$	0.38		$	(0.36	)	$	0.44		$	(0.62	)
Diluted		$	0.37		$	(0.36	)	$	0.43		$	(0.62	)

 

See notes to condensed consolidated financial statements.

 

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CROCS, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED BALANCE SHEETS

 

(In thousands, except share data)

 

(Unaudited)

 

		June 30, 2010			December 31, 2009
ASSETS
Current assets:
Cash and cash equivalents		$	96,867		$	77,343
Restricted cash		590			1,144
Accounts receivable, net		93,974			50,458
Inventories		113,553			93,329
Deferred tax assets, net		7,569			7,358
Income tax receivable		11,297			8,611
Other receivables		11,715			16,140
Prepaid expenses and other current assets		14,277			12,871
Total current assets		349,842			267,254
Property and equipment, net		66,731			71,084
Restricted cash		1,466			1,506
Intangible assets, net		41,335			35,984
Deferred tax assets, net		17,403			18,479
Marketable securities		5,444			866
Other assets		14,832			14,565
Total assets		$	497,053		$	409,738
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	51,841		$	23,434
Accrued expenses and other current liabilities		58,544			53,589
Accrued restructuring charges		3,977			2,616
Income taxes payable		20,120			6,377
Note payable, current portion of long-term debt and capital lease obligations		1,556			640
Total current liabilities		136,038			86,656
Long term debt and capital lease obligations		1,434			912
Deferred tax liabilities, net		1,867			2,192
Long term restructuring		103			520
Other liabilities		31,803			31,838
Total liabilities		171,245			122,118
Commitments and contingencies (note 15)
Stockholders’ equity:
Common shares, par value $0.001 per share; 250,000,000 shares authorized, 87,079,451 and 86,482,574 shares issued and outstanding, respectively, at June 30, 2010 and 86,224,760 and 85,659,581 shares issued and outstanding, respectively, at December 31, 2009		87			85
Treasury stock, at cost, 596,877 and 565,179 shares, respectively		(24,963		)	(25,260		)
Additional paid-in capital		272,146			266,472
Retained earnings		60,156			22,155
Accumulated other comprehensive income		18,382			24,168
Total stockholders’ equity		325,808			287,620
Total liabilities and stockholders’ equity		$	497,053		$	409,738

 

See notes to condensed consolidated financial statements.

 

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CROCS, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

(In thousands)

 

(Unaudited)

 

		For the Six Months Ended June 30,
		2010			2009
Cash flows from operating activities:
Net income (loss)		$	38,001		$	(52,698	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		17,610			19,177
Loss (gain) on disposal of fixed assets		796			(753		)
Unrealized gain on foreign exchange rates		(3,309		)	(10,729		)
Deferred income taxes		1,089			1,342
Asset impairment		133			23,656
Inventory write down		—			2,568
Charitable contributions		435			5,075
Gain on charitable contributions		(124		)	(2,024		)
Non-cash restructuring charges		196			1,768
Share-based compensation		3,870			23,419
Bad debt expense		1,653			1,263
Changes in operating assets and liabilities:
Accounts receivable		(46,659		)	(31,650		)
Income tax receivable		(3,480		)	23,130
Inventories		(23,255		)	25,944
Prepaid expenses and other assets		1,304			(5,889		)
Accounts payable		30,063			225
Accrued restructuring charges		1,745			4,644
Accrued expenses and other liabilities		19,768			(2,351		)
Cash provided by operating activities		39,836			26,117
Cash flows from investing activities:
Cash paid for purchases of property and equipment		(13,281		)	(6,024		)
Proceeds from disposal of property and equipment		937			1,108
Cash paid for intangible assets		(6,985		)	(2,450		)
Purchases of marketable securities		(5,482		)	—
Maturities of marketable securities		1,701			—
Restricted cash		299			264
Cash used in investing activities		(22,811		)	(7,102		)
Cash flows from financing activities:
Proceeds from note payable		18,400			—
Repayment of note payable and capital lease obligations		(19,054		)	(5,130		)
Repurchase of stock for stock option exercise tax withholding		(421		)	—
Exercise of stock options		2,341			227
Cash provided by (used in) financing activities		1,266			(4,903		)
Effect of exchange rate changes on cash		1,233			11,700
Net increase in cash and cash equivalents		19,524			25,812
Cash and cash equivalents—beginning of period		77,343			51,665
Cash and cash equivalents—end of period		$	96,867		$	77,477
Supplemental disclosure of cash flow information—cash paid during the period for:
Interest		$	284		$	1,233
Income taxes		$	6,674		$	6,745
Non-cash investing and financing activities:
Assets acquired through capital leases		$	2,089		$	1,024

 

See notes to condensed consolidated financial statements.

 

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CROCS, INC. AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

(Unaudited)

 

1. BASIS OF PRESENTATION

 

Crocs, Inc. and its subsidiaries (collectively, “we,” “us,” or the “Company”) are engaged in the design, manufacture, worldwide marketing and brand management of footwear made for men, women and children.

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the rules and regulations for reporting on Form 10-Q. Accordingly, these statements do not include all of the information and disclosures required by GAAP or Securities and Exchange Commission (“SEC”) rules and regulations for complete financial statements. In the opinion of management, these financial statements reflect all adjustments considered necessary for a fair presentation of the results for the interim periods presented.  The results of operations for any interim period are not necessarily indicative of results for the full year.

 

These statements should be read in conjunction with the consolidated financial statements and footnotes included in our Annual Report on Form 10-K for the year ended December 31, 2009 (the “2009 Form 10-K”). The accounting policies used in preparing these unaudited condensed consolidated financial statements are the same as those described in Note 2 to the consolidated financial statements in the 2009 Form 10-K.

 

Certain reclassifications have been made to prior year amounts to conform to current year presentation as follows:  Foreign currency transaction losses (gains), net have been reclassified from selling, general, and administrative expenses and are now reported separately. There was no change to the Company’s loss from continuing operations as a result of these reclassifications.  Marketable securities of a long-term nature have been reclassified from long-term other assets and are now reported separately.

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period.  Management believes that the estimates, judgments and assumptions made when accounting for items and matters such as, but not limited to, the allowance for doubtful accounts, returns and discounts; impairment assessments and charges; recoverability of assets (including deferred tax assets); uncertain tax positions; share-based compensation expense; fair value of acquired intangibles; assessment of lower of cost or market on inventory; useful lives assigned to long-lived assets; depreciation; and provisions for contingencies; are reasonable based on information available at the time they are made. These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities as of the date of the consolidated financial statements as well as the reported amounts of revenue and expenses during the periods presented. Management also makes estimates in our assessments of potential losses in relation to threatened or pending legal and tax matters. See Note 18—Legal Proceedings. Actual results could materially differ from these estimates. For matters not related to income taxes, if a loss is considered probable and the amount can be reasonably estimated, the Company recognizes an expense for the estimated loss. If there is the potential to recover a portion of the estimated loss from a third party, the Company makes a separate assessment of recoverability and reduces the estimated loss if recovery is also deemed probable.

 

Change in Accounting Principle

 

Effective January 1, 2010, the Company changed its inventory valuation method for all inventories from the first-in, first-out (“FIFO”) cost method to the moving average cost method, which approximates FIFO.  The Company believes the change to the moving average cost method is preferable under the circumstances because the moving average methodology results in better alignment with the physical flow of inventory than the FIFO methodology, it is calculated by our inventory information system, which incorporates automated controls, and is also the method management uses when preparing budgets, reviewing actual and forecasted financial information, as well as the method used in determining incentive management compensation.  The moving average cost results in substantially the same results of operations per period.

 

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Financial statements for periods ending on or before December 31, 2009 have not been retroactively adjusted due to immateriality. The impact of the change for the three and six month period ended June 30, 2010 is also immaterial.

 

2. RECENT ACCOUNTING PRONOUNCEMENTS

 

In December 2009, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2009-17, Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities. The amendments in ASU 2009-17 replace the quantitative-based risks-and-rewards calculation for determining which reporting entity, if any, has a controlling financial interest in a variable interest entity with an approach focused on identifying which reporting entity has (1) the power to direct the activities of a variable interest entity that most significantly affect the entity’s economic performance and (2) the obligation to absorb losses of, or the right to receive benefits from, the entity. The ASU also requires additional disclosures about a reporting entity’s involvement with variable interest entities and about any significant changes in risk exposure as a result of that involvement. The Company adopted the guidance at the beginning of 2010 and such adoption did not have a material impact on the Company’s unaudited condensed financial statements.  See Note 14 — Variable Interest Entities.

 

3. INVENTORIES

 

Inventories by major classification are as follows (in thousands):

 

		June 30, 2010			December 31, 2009
Finished goods		$	107,363		$	88,775
Work-in-progress		215			220
Raw materials		5,975			4,334
Net Inventory		$	113,553		$	93,329

 

4. PROPERTY AND EQUIPMENT

 

Property and equipment includes the following (in thousands):

 

		June 30, 2010			December 31, 2009
Machinery and equipment		$	85,059		$	82,733
Leasehold improvements		42,509			38,436
Subtotal		127,568			121,169
Less: Accumulated depreciation		(60,837		)	(50,085		)
Property and equipment, net		$	66,731		$	71,084

 

5. INTANGIBLE ASSETS

 

The following table summarizes the Company’s identifiable intangible assets as of June 30, 2010 and December 31, 2009 (in thousands):

 

		June 30, 2010									December 31, 2009
		Gross Carrying Amount			Accumulated Amortization			Net Carrying Amount			Gross Carrying Amount			Accumulated Amortization			Net Carrying Amount
Intangible assets:
Patents, copyrights, and trademarks		$	5,631		$	1,655		$	3,976		$	5,673		$	1,396		$	4,277
Customer relationships		5,633			4,947			686			5,928			4,912			1,016
Core technology		4,618			4,618			—			4,614			4,614			—
Non-competition agreement		636			636			—			636			594			42
Capitalized software		47,129			10,456			36,673			38,884			8,235			30,649
Total Intangible assets		$	63,647		$	22,312		$	41,335		$	55,735		$	19,751		$	35,984

 

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For amortizable intangible assets denominated in a foreign currency, the Company translates the gross asset and accumulated amortization at the balance sheet rate and records amortization expense using the weighted average rate of exchange for the applicable period causing a difference.  This difference between the recorded amortization expense and the change in accumulated amortization is reflected in the accumulated other comprehensive income line item on the Company’s unaudited condensed consolidated balance sheets.

 

6. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES

 

Accrued expenses and other current liabilities include the following (in thousands):

 

		June 30, 2010			December 31, 2009
Accrued compensation and benefits		$	16,941		$	21,007
Fulfillment and freight and duties		10,298			10,765
Professional services		5,152			4,329
Sales/Use and VAT taxes payable		7,171			4,330
Other		18,982			13,158
		$	58,544		$	53,589

 

7. RESTRUCTURING ACTIVITIES

 

During the three months ended June 30, 2010, the Company incurred $1.3 million in restructuring expenses reflected in cost of sales, resulting from a change in estimates related to lease termination costs for distribution facilities in North America and Europe.  These facilities were closed pursuant to cost-savings initiatives undertaken by the Company in 2008 and 2009.  During the six months ended June 30, 2010, in addition to the restructuring expenses discussed above, the Company incurred an additional $2.5 million in restructuring expenses reflected in income from operations, primarily consisting of severance pay and additional stock-based compensation related to the retirement of the Company’s former Chief Executive Officer.  See further discussion in Note 11 — Stock- Based Compensation.

 

Restructuring charges, for the six months ended June 30, 2010,  were recorded by segment as follows: $1.0 million in the Americas segment; $0.8 million in the Europe segment; and $2.0 million in the Corporate and other group.

 

Restructuring charges are included in the following line items: accrued restructuring charges and long-term restructuring in the Company’s unaudited condensed consolidated balance sheets and cost of sales and restructuring charges on the Company’s unaudited condensed consolidated statements of operations.

 

The following table details the changes in the restructuring accruals during the six months ended June 30, 2010 (in thousands):

 

Description		Year Ended December 31, 2009			Additions			Cash Payments			Adjustments			Six Months Ended June 30, 2010
Termination benefits		$	516		$	1,847		$	(534	)	$	(58	)	$	1,771
Operating lease exit costs		2,233			1,754			(1,509		)	(169		)	2,309
Other restructuring costs		387						(391		)	4			—
		$	3,136		$	3,601		$	(2,434	)	$	(223	)	$	4,080

 

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8. FAIR VALUE MEASUREMENTS

 

The Company performs fair value measurements in accordance with the guidance provided by fair value standards. The fair value standards define fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact and considers assumptions that market participants would use when pricing the asset or liability, such as inherent risk, transfer restrictions, and risk of nonperformance.

 

The fair value standards establish a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The fair value standards establish three levels of inputs that may be used to measure fair value:

 

·                  Level 1 — Quoted prices for identical instruments in active markets.

 

·                  Level 2 — Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations, in which all significant inputs are observable in active market.

 

·                  Level 3 — Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

 

A summary of the Company’s financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2010 is as follows (in thousands):

 

		Fair Value as of June 30, 2010			Level 1			Level 2			Level 3			Balance Sheet Classification
Assets —
Certificates of deposit		$	5,444		—			$	5,444		—			Marketable securities
Foreign currency contracts		—			—			—			—			Other current assets and other long-term assets
Total Assets		$	5,444		$	—		$	5,444		$	—
Liabilities — Foreign currency contracts		$	119		$	—		$	119		$	—		Accrued liabilities and other long-term liabilities

 

Marketable securities consist of certificates of deposit with maturities greater than three months and up to three years at the time of purchase. These securities are carried at fair value and are held at financial institutions.

 

The Company did not have any derivative instruments as of December 31, 2009.

 

Foreign Currency

 

Sales in foreign countries, as well as certain expenses related to those sales, are transacted in currencies other than our reporting currency, the U.S. dollar. The Company’s foreign currency exchange rate risk is primarily limited to the Japanese Yen and the Euro. The Company may, from time to time, employ derivative financial instruments to manage our exposure to fluctuations in foreign currency rates or enter into forward currency exchange contracts to hedge its net investment and intercompany payable or receivable balances in foreign operations. The Company did not have any material outstanding foreign currency related financial instruments at June 30, 2010 and December 31, 2009.

 

9. RISK MANAGEMENT AND DERIVATIVES

 

The Company is exposed to certain risks relating to its ongoing business operations. The primary risk managed by using derivative instruments is foreign currency exchange rate risk. Forward contracts on various foreign currencies are entered into to manage the foreign currency exchange rate risk on forecasted revenue and inventory purchases denominated

 

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in foreign currencies. Other forward foreign exchange contracts are entered into to hedge against changes in the functional currency value of monetary assets and liabilities denominated in a non functional currency.

 

Accounting standards for derivative instruments and hedging activities requires the Company to recognize all of its derivative instruments as either assets or liabilities in its condensed unaudited consolidated balance sheet at fair value. The accounting for changes in the fair value of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship. At June 30, 2010 the Company did not designate any of our derivatives as hedges and, therefore, all changes in fair value are reflected in our results of operations.

 

The following table presents the fair values of derivative instruments included within the unaudited condensed consolidated balance sheet as of June 30, 2010 is as follows (in thousands):

 

Liability Derivatives

 

		June 30, 2010			Balance Sheet Location
Derivatives not designated as hedging instruments:
Foreign currency exchange forwards		$	119		Accrued liabilities

 

The Company did not have any derivative instruments as of December 31, 2009.

 

The following tables present the amounts affecting the unaudited condensed consolidated statements of operations for the three and six month periods ended June 30, 2010 (in thousands):

 

Amount of Loss (Gain) Recognized in Income on Derivatives

 

		Three months ended June 30, 2010			Six months ended June 30, 2010			Location of Loss (Gain) Recognized in Income on Derivatives
Derivatives not designated as hedging instruments:
Foreign currency exchange forwards		$	119		$	119		Other expense (income), net

 

The Company did not have any derivative instruments during the three and six months ended June 30, 2009.

 

Foreign Currency Exchange Forwards

 

The following table summarizes the Company’s outstanding foreign currency exchange forward contracts at June 30, 2010 (in thousands):

 

Currency Purchased Forward				Currency Sold Forward			Maturity Date
Peso		2,570		$	200		July 2010
$	1,210			€	1,000		July 2010
$	2,922			£	2,000		July 2010
$	2,000			¥	180,000		July 2010

 

10. NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS

 

Notes payable and capital lease obligations consist of the following (in thousands):

 

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		June 30, 2010			December 31, 2009
Capital Lease Obligations: Certain Capitalized Software at 9.97% weighted average interest, due through 2012		$	2,802		$	1,329
Capital Lease Obligations: Certain Equipment at 8.8% weighted average interest, due through 2014		188			223
Total notes payable and capital lease obligations		$	2,990		$	1,552

 

Capital Leases

 

The Company holds various capital leases for certain equipment with a gross value of $0.4 million, which is depreciated using the straight-line method over its useful life.  Depreciation of equipment under capitalized leases is included in cost of sales and selling, general and administrative expenses line items on the Company’s unaudited condensed consolidated statements of operations.  Certain software acquired under various capital leases for a gross value of $3.6 million is classified as capitalized software and amortized using the straight-line method over the useful life.  Amortization of capitalized software under capitalized leases is included in the cost of sales and selling, general and administrative expenses line items on the Company’s unaudited condensed consolidated statements of operations.

 

Notes Payable

 

On September 25, 2009, the Company entered into a Revolving Credit and Security Agreement (the “Credit Agreement”) with PNC Bank, N.A. (“PNC”), which matures on September 25, 2012.  The Credit Agreement provides for an asset-backed revolving credit facility of up to $30 million in total, which includes a $17.5 million sublimit for borrowings against the Company’s eligible inventory, a $2 million sublimit for borrowings against the Company’s eligible inventory in-transit, and a $4 million sublimit for letters of credit.  The total borrowings available under the Credit Agreement at any given time are subject to customary reserves and reductions to the extent the Company’s asset borrowing base changes.  Borrowings under the Credit Agreement are secured by all of the assets of the Company, including all receivables, equipment, general intangibles, inventory, investment property, subsidiary stock and leasehold interests.  The Credit Agreement requires the Company to prepay borrowings under the Credit Agreement in the event of certain dispositions of property.

 

With respect to domestic rate loans, principal amounts outstanding under the Credit Agreement bear interest at a two percent (2%) premium over a rate that is the greater of either (i) PNC’s published reference rate, (ii) the Federal Funds Open Rate (as defined in the Credit Agreement) in effect on such day plus one half of one percent (0.5%) or, (iii) the sum of the daily LIBOR rate and one percent (1.0%).  Eurodollar denominated principal amounts outstanding under the Credit Agreement bear interest at the sum of three and one half percent (3.50%) premium over a rate that is the greater of (i) the Eurodollar rate, or (ii) one and one half percent (1.50%) with respect to Eurodollar loans, as applicable.   The Credit Agreement requires monthly interest payments with respect to domestic rate loans and at the end of each period with respect to Eurodollar rate loans.

 

The Credit Agreement contains certain customary restrictive and financial covenants.  The Company was in compliance with these financial covenants as of June 30, 2010.

 

As of June 30, 2010 and December 31, 2009, the Company had no outstanding borrowings under the Credit Agreement and at June 30, 2010 had issued and outstanding letters of credit of $1.0 million which were reserved against the borrowing base.

 

11. STOCK-BASED COMPENSATION

 

Options granted generally vest ratably over four years with the first year vesting on a “cliff” basis followed by monthly vesting for the remaining three years.  Compensation expense is recognized ratably over the four-year vesting period.  Stock-based compensation expense recognized, including options and non-vested shares, was $2.2 million and $3.9 million in the three and six months ended June 30, 2010, respectively.  For the three and six months ended June 30, 2009,

 

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stock-based compensation expense, including options and non-vested shares, was $19.4 million and $25.1 million.  Stock-based compensation is recognized in the cost of sales and selling, general and administrative expenses line item in the Company’s unaudited condensed statement of operations.

 

Stock Options

 

A summary of stock option activity for the three and six months ended June 30, 2010 is as follows:

 

		Three Months Ended June 30, 2010					Six Months Ended June 30, 2010
Options		Shares		Weighted Average Exercise Price			Shares		Weighted Average Exercise Price
Outstanding at March 31, 2010 and December 31, 2009, respectively		7,054,554		$	7.82		7,755,254		$	7.67
Granted		100,000		$	10.70		149,750		$	9.58
Exercised		(575,447	)	$	3.04		(876,730	)	$	2.67
Forfeited or expired		(228,771	)	$	18.21		(677,938	)	$	12.15
Outstanding at June 30, 2010		6,350,336		$	7.93		6,350,336		$	7.93

 

Restricted Stock Awards

 

A summary of restricted stock award activity for the three and six months ended June 30, 2010 is as follows:

 

		Three Months Ended June 30, 2010					Six Months Ended June 30, 2010
Non- vested		Shares		Weighted Average Grant Date Fair Value			Shares		Weighted Average Grant Date Fair Value
Non-vested at March 31, 2010 and December 31, 2009, respectively		839,298		$	3.04		1,322,240		$	3.04
Granted		218,357		$	11.31		218,357		$	11.31
Vested		(250,803	)	$	10.66		(508,411	)	$	9.82
Forfeited or expired		—		—			(225,334	)	$	1.34
Non-vested at June 30, 2010		806,852		$	4.92		806,852		$	4.92

 

Separation Agreement.

 

On March 31, 2010, the Company entered into a separation agreement with its former Chief Executive Officer.  Pursuant to the separation agreement, the vesting of options to purchase 100,000 shares of Company common stock, which were exercised, and 100,000 shares of restricted stock were accelerated as of March 31, 2010.  Additionally, pursuant to the terms of the separation agreement, the Company’s former Chief Executive Officer forfeited options to purchase 200,000 shares of Company common stock and 200,000 shares of restricted stock.  The Company recorded an insignificant amount to restructuring charges related to the acceleration of the vesting of these options and restricted stock awards.

 

12. INCOME TAXES

 

During the three months ended June 30, 2010, the Company recognized an income tax expense of $6.6 million on pre-tax income of $38.9 million, representing an effective income tax rate of 17.0% compared to an income tax expense of $7.6 million on a pre-tax loss of $22.7 million, representing an effective income tax rate of (33.3%) for the three months ended June 30, 2009.  During the six months ended June 30, 2010, the Company recognized an income tax expense of $10.0 million on a pre-tax income of $48.0 million, representing an effective income tax rate of 20.8% compared to an income tax expense of $7.8 million on a pre-tax loss of $44.9 million, representing an effective income tax rate of (17.3%) for the six months ended June 30, 2009.  The change in effective tax rate is primarily the result of the Company restructuring its international

 

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operations, cost sharing arrangements and release of valuation allowances related to net operating losses in various international entities.  The Company had unrecognized tax benefits of $29.2 million at January 1, 2010 and $29.5 million at June 30, 2010.

 

13. EARNINGS (LOSS) PER SHARE

 

Basic income (loss) per share (“EPS”) is computed by dividing net income (loss) by the weighted average number of shares outstanding for the period.  Diluted EPS reflects the potential dilution from securities that could share in the earnings of the Company.  Anti-dilutive securities are excluded from diluted EPS.  The Company has a small number of participating securities and consequently is computing basic income (loss) per share by dividing net income or loss attributable to common stockholders by the weighted average common shares outstanding during the period.

 

 

EPS for the three and six months ended June 30, 2010 and 2009 is as follows (in thousands, except share and per share data):

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2010			2009			2010			2009
Net income (loss) attributable to common stockholders		$	32,284		$	(30,281	)	$	38,001		$	(52,698	)
Income allocated to participating securities		(303		)	—			(358		)	—
Net income (loss) attributable to common stockholders – basic		$	31,981		$	(30,281	)	$	37,643		$	(52,698	)
Weighted average common shares outstanding – basic		85,179,948			84,882,241			84,834,756			84,638,783
Dilutive effect of stock options		1,552,295			—			1,771,269			—
Dilutive effect of unvested shares		806,852			—			806,852			—
Weighted average common shares outstanding - diluted		87,539,095			84,882,241			87,412,877			84,638,783
Net income (loss) per common share:
Basic		$	0.38		$	(0.36	)	$	0.44		$	(0.62	)
Diluted		$	0.37		$	(0.36	)	$	0.43		$	(0.62	)

 

For all periods presented above, there were options outstanding which could potentially dilute basic EPS in the future but were not included in diluted income (loss) per share as their effect would have been anti-dilutive.  Due to the Company’s net loss for the three and six months ended June 30, 2009, the dilutive effect of stock options and unvested restricted stock awards were not included in the computation of diluted EPS, as their inclusion would have been anti-dilutive.  During 2009 the Company had participating securities that were not allocated net loss nor included in the computation of diluted EPS due to the Company’s net loss for the three and six months ended June 30, 2009.  The weighted average exercise price per share of the options that were anti-dilutive was $13.77 for both the three and six months ended June 30, 2010, and $5.65 and $10.84 for the three and six months ended June 30, 2009, respectively.  The total number of anti-dilutive options was 3,093,432 for both the three and six months ended June 30, 2010, and 4,869,628 for both the three and six months ended June 30, 2009.

 

14. VARIABLE INTEREST ENTITIES

 

In 2007, the Company established a relationship with Shanghai Shengyiguan Trade, Ltd Co (“ST”) for the purpose of serving as a distributor of the Company’s products in the People’s Republic of China. The Company has determined that ST is a variable interest entity for which it is the primary beneficiary and there are no other non-controlling interests. The Company currently controls all business activities and absorbs substantially all of the expected residual returns and substantially all of the expected losses of ST based on agreements with ST. The Company determined that it is the primary beneficiary of ST by virtue of its variable interest in the equity of ST. All voting rights have been assigned to the Company and there is a transfer agreement between ST and the Company under which all of the equity, assets, and liabilities are to be

 

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transferred to the Company at the Company’s sole discretion, subject to certain conditions. Accordingly, the Company’s consolidation of ST does not reflect a non-controlling interest.

 

The Company did not provide material financial support during the six months ended June 30, 2010 for the funding of ST’s operations. The condensed consolidated financial statements include $5.8 million in total assets as of June 30, 2010, primarily consisting of cash, inventory and receivables, partially offset by $0.2 million in liabilities as of June 30, 2010, primarily consisting of accounts payable and accrued expenses, excluding liabilities related to the support provided by the Company.  ST carries cash assets which are restricted to the extent that the monetary laws of the People’s Republic of China may limit the Company’s ability to utilize ST’s cash.

 

15. COMMITMENTS AND CONTINGENCIES

 

On July 26, 2005, the Company entered into an amended and restated four-year supply agreement with Finproject S.P.A., the former majority owner of Crocs Canada, pursuant to which the Company has the exclusive right to purchase the material for the manufacture of finished shoe products, except for certain current customer dealings (including boot manufacturers). The supply agreement was extended through June 30, 2010, and provides that the Company meet minimum purchase requirements to maintain exclusivity throughout the term of the agreement. The pricing is to be agreed upon each quarter and fluctuates based on order volume, currency fluctuations, and raw material prices.  The Company is currently in negotiations to extend the supply agreement.  The Company guarantees the payment to one of its raw material suppliers for purchases of material used by one of its third-party manufactures of finished shoe products. The maximum potential amount of future payments the Company could be required to make under the guarantee is €2.1 million (approximately $2.6 million at June 30, 2010). The Company evaluates the estimated loss for the guarantee under ASC Topic 450, Contingencies, and Topic 460, Guarantees.  The Company considers such factors as the degree of probability of an unfavorable outcome and the ability to make a reasonable estimate of the amount of loss. The Company has recourse as a matter of common law. To date, the Company has not made any payments under the guarantee and, as of June 30, 2010, has not recorded a liability related to the guarantee in its unaudited condensed consolidated financial statements, as the Company does not believe the potential obligation under this guarantee is material.

 

The Company leases space for certain of its offices, warehouses, vehicles and equipment under leases expiring at various dates through 2026. Certain leases also contain rent escalation clauses (step rents) that require additional rental amounts in the later years of the term. Rent expense for leases with step rents is recognized on a straight-line basis over the minimum lease term. Step rents, tenant improvement allowances, rent holidays and other items are factored into the minimum lease payment and recognized on a straight-line basis over the minimum lease term.  Deferred rent is included in the unaudited condensed consolidated balance sheets in the accrued expenses and other current liabilities line item.

 

The Company indemnifies certain of its vendors and its directors and executive officers for specified claims. To date, the Company has not paid or been required to defend any indemnification claims, and accordingly, has not accrued any amounts for its indemnification obligations.

 

The Company has other various immaterial commitments and contingencies that are not discussed above.

 

16. OPERATING SEGMENTS AND RELATED INFORMATION

 

The Company operates in the consumer products industry internationally in which the Company principally designs, manufactures, markets and sells its branded footwear for men, women and children.  During 2009, the Company changed the information that was presented to the chief operating decision maker and has restated its revenues, depreciation and amortization, operating income and assets by segment as shown below.  The Company identifies its reportable segments as those geographic regions that represent 10% or more of its revenue, operating income (as defined below), or total assets.  The Company has three reportable segments: Americas, Europe and Asia. All of the reportable segments derive their revenue from the sale of footwear, apparel and accessories.  The Company evaluates performance and makes decisions about allocating resources to its operating segments based on financial measures such as revenue and operating income.

 

Operating income is the primary measure used by the Company’s chief operating decision maker to evaluate segment operating performance and to decide how to allocate resources to segments.  Operating income is defined as operating income before asset impairment charges and restructuring charges.  The Company evaluates the performance of its segments based primarily on the results of the segment without allocating corporate expenses, or indirect general, administrative and

 

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other expenses.  The corporate and other category includes (i) Ocean Minded, (ii) Colorado Footwear CV, and (iii) corporate category, which maintains corporate costs such as stock-based compensation, research and development, brand marketing, legal expenses, depreciation on global long-lived assets such as molds, tooling, IT systems, and other global costs that are not allocated to the regions.

 

Segment profits or losses include adjustments to eliminate intercompany profit or losses on intercompany sales.  Segment assets include the elimination of any intersegment profits or losses in inventory and the elimination of intercompany receivables.  Segment assets, primarily in the Americas segment, include certain long-lived assets that are depreciated in the corporate category due to their global functionality.  Negative assets within the Corporate and other category primarily include eliminations of investments made from the Americas segment in the other reportable segments.  Net revenues as shown below represent sales to external customers for each segment.

 

		Three Months Ended June 30						Six Months Ended June 30,
		2010			2009			2010			2009
		(in thousands)						(in thousands)
Revenues:
Americas		$	103,473		$	84,128		$	175,623		$	150,540
Europe		34,556			32,224			72,498			60,496
Asia		88,681			79,968			143,351			118,966
Total segments		226,710			196,320			391,472			330,002
Corporate and other		1,336			1,402			3,426			2,612
Total consolidated revenues		$	228,046		$	197,722		$	394,898		$	332,614
Operating Income:
Americas		$	23,423		$	5,697		$	34,657		$	7,923
Europe		8,049			11,241			17,675			12,224
Asia		31,742			33,708			44,278			29,877
Total segments		63,214			50,646			96,610			50,024
SG&A restructuring		—			(5,915		)	(2,539		)	(5,953		)
Asset impairment		—			(23,655		)	(141		)	(23,724		)
Corporate and other		(24,488		)	(45,595		)	(45,809		)	(67,481		)
Total consolidated operating income (loss)		38,726			(24,519		)	48,121			(47,134		)
Interest expense		163			562			292			1,257
Gain on charitable contributions		(32		)	(2,024		)	(116		)	(2,024		)
Other expense (income), net		(291		)	(343		)	(50		)	(1,446		)
Income (loss) before income taxes		$	38,886		$	(22,714	)	$	47,995		$	(44,921	)
Depreciation and Amortization:
Americas		$	2,406		$	2,048		$	4,591		$	4,524
Europe		680			1,717			1,453			3,280
Asia		1,358			902			2,943			1,722
Total segments		4,444			4,667			8,987			9,526
Corporate and other		4,367			5,006			8,623			9,651
Total consolidated depreciation and amortization		$	8,811		$	9,673		$	17,610		$	19,177

 

		June 30, 2010			December 31, 2009
		(in thousands)
Assets:
Americas		$	241,646		$	277,454
Europe		63,919			66,838
Asia		73,983			151,052
Total segments		379,548			495,344
Corporate and other		117,505			(85,606		)
Total consolidated assets		$	497,053		$	409,738

 

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17. COMPREHENSIVE INCOME (LOSS)

 

Comprehensive income (loss) for the three and six months ended June 30, 2010 and 2009 was as follows (in thousands):

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2010			2009			2010			2009
Net income (loss)		$	32,284		$	(30,281	)	$	38,001		$	(52,698	)
Foreign currency translation		(4,087		)	6,236			(5,786		)	2,306
Comprehensive income (loss)		$	28,197		$	(24,045	)	$	32,215		$	(50,392	)

 

18. LEGAL PROCEEDINGS

 

On March 31, 2006, the Company filed a complaint with the International Trade Commission (“ITC”) against Acme Ex-Im, Inc., Australia Unlimited, Inc., Cheng’s Enterprises, Inc., Collective Licensing International, LLC, D. Myers & Sons, Inc., Double Diamond Distribution, Ltd., Effervescent, Inc., Gen-X Sports, Inc., Holey Soles Holdings, Ltd., Inter-Pacific Trading Corporation, and Shaka Holdings, Inc., alleging patent and trade dress infringement and seeking an exclusion order banning the importation and sale of infringing products. On August 10, 2006, the Company filed a motion to voluntarily remove its trade dress claim from the investigation to focus on the patent claims. The Company’s motion was granted by Order No. 20 on August 24, 2006. The utility and design patents asserted in the complaint were issued to the Company on February 7, 2006 and March 28, 2006 respectively, by the United States Patent and Trademark Office. The ITC has issued final determinations terminating Shaka Holdings, Inc., Inter-Pacific Trading Corporation, Acme Ex-Im, Inc., D. Myers & Sons, Inc., Australia Unlimited, Inc. and Gen-X Sports, Inc. from the ITC investigation No. 337-TA-567 on the basis of settlement and Cheng’s Enterprises, Inc. on the suspension of accused activities. The ITC Administrative Law Judge (“ALJ”) issued an Initial Determination of non-infringement related to one of the patents at issue. The Company filed a petition with the Commission to review this determination. The Commission granted the Company’s petition and on February 15, 2007, after briefing by the parties, the Commission vacated the ALJ’s determination of non-infringement with respect to the remaining respondents and remanded it to the ALJ for further proceedings consistent with the Commission’s order. In light of the Commission’s Order, the procedural schedule and hearing date were reset pursuant to Order No. 38. A trial was held before the ALJ from September 7 to 14, 2007. The ALJ issued an Initial Determination on April 11, 2008 with a finding of no violation, finding infringement of the utility patent by certain accused products, but also finding that the utility patent was invalid as obvious. The ALJ also found that the design patent was valid, but not infringed by the accused products. The Company filed a Petition for Review of the Initial Determination which was due on April 24, 2008. On June 18, 2008, the Commission issued a Notice that it would review the ALJ’s findings in the Initial Determination with respect to the determination of non-infringement of the design patent and the determination of invalidity of the utility patent. On July 25, 2008, the Commission issued a Notice of its decision to terminate the Investigation with a finding of no violation as to either patent. The Company filed a Petition for Review of the decision with the United States Court of Appeals for the Federal Circuit on September 22, 2008, and filed its initial brief on January 21, 2009. Briefing before the Federal Circuit was completed in April 2009 and oral arguments were heard on July 10, 2009. On October 4, 2009, the Company and Collective Licensing International, LLC reached a settlement. Collective Licensing International, LLC agreed to cease and desist infringing on the Company’s patents and to pay the Company certain monetary damages, which was recorded upon receipt. On February 24, 2010, the Federal Circuit found that the Commission erred in finding that the utility patent was obvious and reversed the Commission’s determination of non-infringement of the design patent.  On April 12, 2010, one of the remaining parties, Effervescent, Inc., filed a request for a panel or en banc hearing with the Federal Circuit of the February 24, 2010 decision to which the Company responded on April 28, 2010.  The Federal Circuit denied the petition on May 20, 2010 and the matter has been remanded to the ITC.  On July 6, 2010, the Commission ordered the matter to be assigned to an ALJ for a determination on enforceability.

 

On April 3, 2006, the Company filed a complaint in the U.S. District Court for the District of Colorado alleging patent and trade dress infringement and seeking injunctive relief against Acme EX-IM, Inc., Australia Unlimited, Inc., Cheng’s Enterprises, Inc., Collective Licensing International, LLC, D. Myers & Sons, Inc., Double Diamond Distribution, Ltd., Effervescent, Inc., Gen-X Sports, Inc., Holey Soles Holdings, Ltd, Inter-Pacific Trading Corporation, Shaka Holdings, 

 

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