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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2006
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ______ to ______
Commission File Number: 001-14498
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BLUEFLY, INC.
(Name of registrant as specified in its charter)
Delaware 13-3612110
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
42 West 39th Street, New York, NY 10018
(Address of principal executive offices) (Zip Code)
Registrant's telephone number: (212) 944-8000
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Securities registered under Section 12(b) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which Registered
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Common Stock, par value The Nasdaq Stock Market LLC
$.01 per share Boston Stock Exchange
Securities registered under Section 12(g) of the Exchange None
Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act.
Yes [ ] No [X]
Indicate by check mark if the registrant is not required to file reports
pursuant to Section 13 or Section 15(d) of the Act.
Yes [ ] No [X]
Indicate by check mark whether the registrant (1) filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act during the past 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 whether disclosure of delinquent filers in response to
Item 405 of Regulation S-K is not contained in this form, and will not be
contained, to the best of the registrant's 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]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes [ ] No [X]
Indicate by check mark if the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of "accelerated
filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [X]
As of February 23, 2007, there were 130,494,214 shares of Common Stock, $.01 par
value, of the registrant outstanding. The aggregate market value of the voting
and non-voting common equity held by non-affiliates as of June 30, 2006, based
upon the last sale price of such equity reported on the Nasdaq Capital Market,
was approximately $22,064,000.
DOCUMENTS INCORPORATED BY REFERENCE
Certain information required by Part III of Form 10-K is incorporated by
reference to the Registrant's proxy statement for the 2007 Annual Stockholders
Meeting, which will be filed with the Securities Exchange Commission.
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BLUEFLY, INC.
ANNUAL REPORT ON FORM 10-K
INDEX
PAGE
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PART I.
Special Note Regarding Forward-Looking Statements 3
Item 1 Business 3
Item 1A Risk Factors 7
Item 2 Properties 13
Item 3 Legal Proceedings 13
Item 4 Submission of Matters to a Vote of Security Holders 13
PART II.
Item 5 Market for the Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities 14
Item 6 Selected Financial Data 15
Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations 16
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 25
Item 9A. Controls and Procedures 25
Item 9B. Other Information 25
PART III.
Item 10. Directors and Executive Officers and Corporate Governance 25
Item 11. Executive Compensation 25
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 25
Item 13. Certain Relationships and Related Transactions, and Director Independence 25
Item 14. Principal Accounting Fees and Services 26
PART IV.
Item 15. Exhibits, Financial Statement Schedules 26
SIGNATURES 29
FINANCIAL STATEMENTS F-1
2
PART I
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND ASSOCIATED RISKS
This Annual Report contains "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. Forward-looking statements include, without limitation,
any statement that may predict, forecast, indicate, or imply future results,
performance, or achievements, and may contain the words "believe," "anticipate,"
"expect," "estimate," "project," "will be," "will continue," "will likely
result," or words or phrases of similar meaning. Forward-looking statements
involve risks and uncertainties that may cause actual results to differ
materially from the forward-looking statements ("Cautionary Statements"). The
risks and uncertainties include, but are not limited to those matters addressed
herein under "Risk Factors." All subsequent written and oral forward-looking
statements attributable to us or persons acting on our behalf are expressly
qualified in their entirety by the Cautionary Statements. Readers are cautioned
not to place undue reliance on these forward-looking statements, which speak
only as of their dates. We undertake no obligation to publicly update or revise
any forward-looking statements, whether as a result of new information, future
events or otherwise.
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
Bluefly, Inc. is a leading online retailer of designer brands, fashion trends
and superior value. During 2006, we offered over 50,000 different styles for
sale in categories such as men's, women's and accessories as well as house and
home accessories from over 350 brands at discounts up to 75% off retail value.
We launched the Bluefly.com Web site (the "Web site") in September 1998. Since
its inception, www.bluefly.com has served over 960,000 customers and shipped to
over 14 countries.
Our common stock is listed on the Nasdaq Capital Market under the symbol "BFLY"
and on the Boston Stock Exchange under the symbol "BFL" and we are incorporated
in Delaware. Our executive offices are located at 42 West 39th Street, New York,
New York 10018, and our telephone number is (212) 944-8000. Our Internet address
is www.bluefly.com. We make available, free of charge, through our Web site, our
annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, and amendments to those reports filed or furnished pursuant to Section
13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after we
electronically file such material with, or furnish it to, the SEC.
In this report, the terms "we," "us," "Bluefly" and the "Company" refer to
Bluefly, Inc. and its predecessors and subsidiaries, unless the context
indicates otherwise.
BUSINESS STRATEGY
Our goal is to offer our customers the best designer brands and latest fashion
trends at superior values. We offer the same types of on-trend and in-season
designer merchandise as are sold in luxury department stores at discounts
normally found only at outlet stores and off-price stores. Similarly, we are
able to offer an upscale shopping experience not available at off-price stores
or outlet malls because of our merchandise selection and the presentation and
product search capabilities offered by our Web site. The frequent addition of
new on-trend products to our site is also key to our marketing strategy, as it
gives our shoppers reason to visit the site and encourages them to be loyal and
active.
Our business is also designed to provide a compelling value proposition for our
suppliers and, in particular, the more than 350 top designer brands that we
offer on our Web site. Because we work with our suppliers both at the beginning
and throughout the season, we are able to help them manage inventory and cash
flow. We also create an environment that is respectful of the brands we sell.
Our buyers all have backgrounds in a full price branded retail environment. Our
Web site creates a high-end retail environment that offers only the best
designer brands and the most current trends. In doing so, we support our
vendors' brands, rather than diluting them as traditional off-price channels do.
We do not believe that we can accomplish these goals without using the Internet
as a platform. The direct marketing of products that are available in limited
quantities and sizes, and that are not replenishable, requires a cost-effective
medium that can display a large number of products. We believe print catalogs
are not well suited to this task. The paper, printing, mailing and other
production costs of a print catalog can be significant and the lead times
required to print a catalog make them significantly inflexible in addressing
inventory sell outs, price changes and new styles. To work around these
limitations, a
3
traditional cataloger typically requires products that are replenishable,
available in a full range of sizes and in substantial quantities. Similarly,
retailing on television is costly and requires substantial quantities of
products that are available in all sizes in order for it to be an economical
medium. In addition, the number of items that can be displayed on television is
limited, and television does not allow viewers to search for products that
interest them.
The Internet, however, can be a far less expensive and far more effective
medium. By using the Internet as our platform, the number of items that we offer
is not limited by the high costs of printing and mailing catalogs. With the
Internet, we can automatically update product images as new products arrive and
other items sell out. By using a real-time inventory database, we can create a
personalized shopping environment and allow our customers to search for the
products that specifically interest them and are available in their size. In
addition, we believe that we are able to more economically and consistently
maintain an upscale environment through the design of a single online
storefront.
We believe that we have created a customer experience that is fundamentally
better than that offered by traditional off-price retailers. Similarly, we
believe that our upscale atmosphere, professional photography and premium
merchandise offering create a superior distribution channel for designers who
wish to liquidate their end-of-season and excess merchandise without suffering
the brand dilution inherent in traditional off-price channels. Our customer
research suggests that this strategy has been successful. For example,
respondents to a recent third party study that we commissioned rated us at the
level of, or higher than, luxury department stores for assortment, quality and
service and rated us much higher for value.
E-COMMERCE AND THE ONLINE APPAREL MARKET
The dramatic growth of e-commerce has been widely reported and is expected to
continue. According to the ComScore Networks, e-commerce non travel retail
spending (excluding auctions and large corporate purchases) eclipsed $100
billion in 2006 for the first time, while growth remained strong 24 percent
increase compared to 2005. During the holiday shopping season alone, consumers
spent $24.6 billion, a 26% increase over the $19.6 billion spent in the previous
year, according to ComScore.
According to the Annual E- Commerce Survey performed by Cowen and Company, 41%
of consumers plan to increase e-commerce spending in 2007, primarily due to the
convenience of online shopping. The survey also states that underlying trends in
e-commerce remain strong and Cowen and Company expect that US e-commerce sales
will grow 20% in 2007.
MARKETING
Our marketing efforts are focused both on acquiring new customers and retaining
existing customers. Active Bluefly customers visit the site frequently and
purchase from one season to the next at high levels with great predictability. A
significant portion of our sales to existing customers are driven by our
customer emails, which highlight new promotions and products, and provide
special previews to customers who have asked to be included in our email list.
In addition, we believe that our sales to existing customers are driven by all
aspects of our customer experience, including our Web site design, packaging,
delivery and customer service.
From 2001 through 2005, we acquired new customers primarily through online
advertising, word-of-mouth, sweepstakes and our affiliate program. Although we
had not allocated significant resources to branding or to more traditional
advertising channels such as print during this time, our customer file continued
to grow. In September 2005, we began a national advertising campaign that
featured both print and television, and we have expanded that campaign over the
past 18 months.
MERCHANDISING
We buy merchandise directly from designers as well as from other third party
indirect resources. Currently, we offer products from more than 350 name brand
designers. We believe that we have been successful in opening up more than 200
direct supply relationships, in part because we have devoted substantial
resources to establishing Bluefly.com as a high-end retail environment. We are
committed to displaying all of our merchandise in an attractive manner, offering
superior customer service and gearing all aspects of our business towards
creating a better channel for top designers.
4
During 2004, we re-focused our merchandising strategy to offer more in-season
merchandise and to cover the latest trends, while continuing to offer a premium
selection of brands. We continue to refine this strategy. As a result of this
merchandise strategy, we were able to increase our gross margins to their
highest levels ever - 40.1% in 2006 from 29.9% in 2003.
WAREHOUSING AND FULFILLMENT
When we receive an order, the information is transmitted to our third party
warehouse and fulfillment center located in Virginia, where the items included
in the order are picked, packed and shipped directly to the customer. Our
inventory database is updated on a real-time basis, allowing us to display on
our Web site only those styles, sizes and colors of product available for sale.
We focus on customer satisfaction throughout our organization. In December 2006,
during our peak weeks of the holiday season, the vast majority of our orders
were shipped within one business day from receipt of the customer's order.
CUSTOMER SERVICE
We believe that a high level of customer service and support is critical to
differentiating ourselves from traditional off-price retailers and maximizing
customer acquisition and retention efforts. Our customer service effort starts
with our Web site, which is designed to provide an intuitive shopping
experience. An easy-to-use help center is available on the Web site and is
designed to answer many of our customers' most frequently asked questions. For
customers who prefer e-mail or telephone assistance, customer service
representatives are available seven days a week to provide assistance. We
utilize customer representatives from third party call centers that have teams
dedicated to our business. We also maintain a team of premiere representatives
in our New York office, who provide special services and assist in the training
and management of the other representatives. To ensure that customers are
satisfied with their shopping experience, we generally allow returns for any
reason within 90 days of the sale for a full refund.
In January 2007, we were awarded the "E-tailing Excellence Award" from the
e-tailing group for the second consecutive year. This Award recognizes on-line
merchants who excel in customer service.
TECHNOLOGY
We have implemented a broad array of state-of-the-art technologies that
facilitate Web site management, complex database search functionality, customer
interaction and personalization, transaction processing, fulfillment and
customer service functionality. Such technologies include a combination of
proprietary technology and commercially available, licensed technology. To
address the critical issues of privacy and security on the Internet, we
incorporate, for transmission of confidential personal information between
customers and our Web server, Secure Socket Layer Technology ("SSL") such that
all data is transmitted via a 128-bit encrypted session. The computer and
communications equipment on which our Web site is hosted are currently located
at a third party co-location facility in New York.
In September 2006, we entered into agreements with Art Technology Group, Inc.
("ATG"), pursuant to which we will license certain technology from ATG to be
used as a platform for future versions of our Web site. We are in the process of
developing an improved version of our Web site based on ATG software. The new
version of our Web site is expected to launch in the third quarter of 2007 and
will replace the older version. The launch of the new Web site will involve the
use of significant internal and external resources. Certain costs related to the
development of the new Web site will be capitalized and amortized over a
36-month period.
We expect that the more robust tools provided by the upgraded Web site will
allow us to better create and manage, and measure the performance of, on-site
marketing promotions. In addition, we believe that the new Web site will provide
a more efficient platform from which to scale our technology infrastructure
should any future growth in our business dictate such a need. There can be no
assurance that the new Web site will have a positive effect on our business.
See, "Risk Factor - The Implementation Of A New Web site May Place A Significant
Strain On Certain Key Personnel."
5
COMPETITION
E-commerce generally, and, in particular, the online retail apparel and fashion
accessories market, is a relatively dynamic, high-growth market. Our competition
for online customers comes from a variety of sources, including existing
land-based retailers that are using the Internet to expand their channels of
distribution, established Internet companies and less established companies. In
addition, our competition for customers comes from traditional direct marketers,
designer brands that may attempt to sell their products directly to consumers
through the Internet and land-based off-price retail stores, which may or may
not use the Internet in the future to grow their customer base. Many of these
competitors have longer operating histories, significantly greater resources,
greater brand recognition and more firmly established supply relationships.
Moreover, we expect additional competitors to emerge in the future.
We believe that the principal competitive factors in our market include: brand
recognition, merchandise selection, price, convenience, customer service, order
delivery performance and site features. Although we believe that we compare
favorably with our competitors, we recognize that this market is relatively new
and is evolving rapidly, and, accordingly, there can be no assurance that this
will continue to be the case.
INTELLECTUAL PROPERTY
We rely on various intellectual property laws and contractual restrictions to
protect our proprietary rights in services and technology, including
confidentiality, invention assignment and nondisclosure agreements with
employees and contractors. Despite these precautions, it may be possible for a
third party to copy or otherwise obtain and use our intellectual property
without our authorization. In addition, we pursue the registration of our
trademarks and service marks in the U.S. and internationally and the
registration of our domain name and variations thereon. However, effective
intellectual property protection may not be available in every country in which
the services are made available online.
We rely on technologies that we license from third parties. These licenses may
not continue to be available to us on commercially reasonable terms in the
future. As a result, we may be required to obtain substitute technology of lower
quality or at greater cost, which could materially adversely affect our
business, financial condition, results of operations and cash flows.
We do not believe that our business, sales policies or technologies infringe the
proprietary rights of third parties. However, third parties have in the past and
may in the future claim that our business, sales policies or technologies
infringe their rights. We expect that participants in the e-commerce market will
be increasingly subject to infringement claims as the number of services and
competitors in the industry grows. Any such claim, with or without merit, could
be time consuming, result in costly litigation or require us to enter into
royalty or licensing agreements. Such royalty or licensing agreements might not
be available on terms acceptable to us, or at all. As a result, any such claim
of infringement against us could have a material adverse effect upon our
business, financial condition, results of operations and cash flows.
GOVERNMENTAL APPROVALS AND REGULATIONS
We are not currently subject to direct regulation by any domestic or foreign
governmental agency, other than regulations applicable to businesses generally,
and laws or regulations directly applicable to online commerce. We are not aware
of any permits or licenses that are required in order for us, generally, to sell
apparel and fashion accessories on the Internet, although licenses are sometimes
required to sell products made from specific materials. In addition, permits or
licenses may be required from international, federal, state or local
governmental authorities to operate or to sell certain other products on the
Internet in the future. No assurances can be given that we will be able to
obtain such permits or licenses. We may be required to comply with future
national and/or international legislation and statutes regarding conducting
commerce on the Internet in all or specific countries throughout the world. No
assurance can be made that we will be able to comply with such legislation or
statutes. Our Internet operations are not currently impacted by federal, state,
local and foreign environmental protection laws and regulations.
EMPLOYEES
As of February 23, 2007, we had 95 full-time employees and 1 part-time employee,
as compared to 84 full-time and 2 part-time employees as of February 23, 2006.
None of our employees are represented by a labor union, and we consider our
relations with our employees to be good.
6
ITEM 1A. RISK FACTORS
We Have A History Of Losses And Expect That Losses Will Continue In The Future.
As of December 31, 2006, we had an accumulated deficit of $115,997,000. We
incurred net losses of $12,193,000, $3,820,000 and $3,791,000 for the years
ended December 31, 2006, 2005 and 2004, respectively. We have incurred
substantial costs to develop our Web site and infrastructure. In order to expand
our business, we intend to invest in sales, marketing, merchandising,
operations, information systems, site development and additional personnel to
support these activities. We therefore may continue to incur substantial
operating losses for the next year. Our ability to become profitable depends on
our ability to generate and sustain substantially higher net sales while
maintaining reasonable expense levels, both of which are uncertain. If we do
achieve profitability, we cannot be certain that we would be able to sustain or
increase profitability on a quarterly or annual basis in the future.
Soros, Maverick And Prentice Each Own A Large Amount Of Our Stock And Therefore
Can Exert Significant Influence Over Our Management And Policies. As of February
23, 2007, affiliates of Soros Fund Management LLC ("Soros") beneficially owned,
in the aggregate, approximately 39% of our Common Stock. Private funds
associated with Maverick Capital, Ltd. ("Maverick"), and investment entities and
accounts managed and advised by Prentice Capital Management, LP ("Prentice")
each owned approximately 24% of our Common Stock. We entered into a voting
agreement with Soros, Maverick and Prentice (the "Voting Agreement"), pursuant
to which Soros has the right to designate three designees to our Board of
Directors, and Maverick and Prentice each have the right to designate one
designee. The Voting Agreement also provides that one designee of Soros and the
designee of each of Maverick and Prentice have the right to serve on the
Compensation Committee and the Governance and Nominating Committee of the Board
of Directors. If we establish an Executive Committee, the designees of Soros,
Maverick and Prentice will be entitled to serve on such committee. Soros,
Maverick and Prentice also have a right of first refusal (the "Right of First
Refusal") to provide the financing in any private placement of our Common Stock
that we seek to consummate within on or prior to June 15, 2007 on a pro rata
basis.
In view of their large percentage of ownership, Soros, Maverick and Prentice
each have the ability to exert significant influence over our management and
policies, such as the election of our directors, the appointment of new
management and the approval of any other action requiring the approval of our
stockholders, including any amendments to our certificate of incorporation, a
sale of all or substantially all of our assets or a merger.
Our Lenders Have Liens On Substantially All Of Our Assets And Could Foreclose In
The Event That We Default Under Our Loan Facility. Under the terms of our loan
facility, our lender has a first priority lien on substantially all of our
assets, including our cash balances. If we default under the loan facility, our
lender would be entitled, among other things, to foreclose on our assets in
order to satisfy our obligations under the loan facility.
If Our Co-Location Facility, Third Party Distribution Center Or Third Party Call
Centers Fail, Our Business Could Be Interrupted For A Significant Period Of
Time. Our ability to receive and fulfill orders successfully and provide
high-quality customer service, largely depends on the efficient and
uninterrupted operation of our computer and communications hardware systems and
fulfillment center. Substantially all of our computer and communications
hardware is located at a single co-location facility owned by a third party in
New York City. Primarily all of our inventory is held, and our customer orders
are filled, at a third party distribution center located in Virginia, and a
large majority of our customer service representatives are employees of third
party call centers in Ohio and Maine. These operations are vulnerable to damage
or interruption from fire, flood, storms, power loss, telecommunications
failure, terrorist attacks, acts of war, break-ins, earthquake and similar
events. We do not presently have redundant systems in multiple locations or a
formal disaster recovery plan. Accordingly, a failure at one of these facilities
could interrupt our business for a significant period of time, and our business
interruption insurance may be insufficient to compensate us for losses that may
occur. Any such interruption would negatively impact our sales, results of
operations and cash flows for the period in which it occurred, and could have a
long-term adverse effect on our relationships with our customers and suppliers.
Our Ability To Maintain Our Minimum Availability Requirement and Pay Our
Indebtedness Under Our Loan Facility Is Dependent Upon Meeting Our Business
Plan. We are required to pay interest under our loan facility on a monthly
basis. Assuming we meet our business plan, we will be able to pay our interest
as required. To a certain extent, however, our ability to meet our business
plan, is subject to general economic, financial, competitive, legislative,
regulatory and other factors that are beyond our control, and therefore we
cannot assure you that based on our business plan we will generate sufficient
cash flow from operations to enable us to pay our indebtedness under the loan
facility and maintain our minimum availability requirement throughout the term
of the agreement. If we fall short of our business plan and are unable to raise
additional capital, we could
7
default under our loan facility. In the event of a default under the loan
facility, our lender would be entitled, among other things, to foreclose on our
assets (whether inside or outside a bankruptcy proceeding) in order to satisfy
our obligations under the loan facility. See "Risk Factors - Our Lenders Have
Liens On Substantially All Of Our Assets And Could Foreclose In The Event That
We Default Under Our Loan Facility."
If We Are Not Accurate In Forecasting Our Revenues, We May Be Unable To Adjust
Our Operating Plans In A Timely Manner. Because our business has not yet reached
a mature stage, it is difficult for us to forecast our revenues accurately. We
base our current and future expense levels and operating plans on expected
revenues, but in the short-term a significant portion of our expenses are fixed.
Accordingly, we may be unable to adjust our spending in a timely manner to
compensate for any unexpected revenue shortfall. This inability could cause our
operating results in some future quarter to fall below the expectations of
securities analysts and investors. In that event, the trading price of our
Common Stock could decline significantly. In addition, any such unexpected
revenue shortfall could significantly affect our short-term cash flow and our
net worth, which could require us to seek additional financing and/or cause a
default under our loan facility. See "Risk Factors - Our Ability To Comply With
Our Financial Covenants And Pay Our Indebtedness Under Our Loan Facility Is
Dependent Upon Meeting Our Business Plan."
Our National Advertising Campaign and Other Marketing Initiatives May Not Be
Successful. Our success depends on our ability to attract customers on
cost-effective terms. We have relationships with online services, search
engines, and other Web sites and e-commerce businesses to provide other links
that direct customers to our Web site. In addition, during 2005 we launched our
first national television and advertising campaign, and we have continued and
expanded on that campaign since that time. Such campaigns are expensive and may
not result in the cost effective acquisition of customers. We are relying on the
campaign as a significant source of traffic to our Web site and new customers.
If these campaigns and initiatives are not successful, our results of operations
will be adversely affected.
We Purchase a Substantial Portion of Our Inventory from One Supplier. In 2006,
we purchased approximately 28% of our inventory from one supplier. Should our
relationship with this supplier deteriorate or terminate, or should this
supplier lose some or all of its access to the products that we purchase from
it, our performance could be adversely affected. Under such circumstances, we
would be required to seek alternative sources of supply for these products, and
there can be no assurance that we would be able to obtain such products from
alternative sources on the same terms, or at all. A failure to obtain such
products on as favorable terms could have an adverse effect on our revenue
and/or gross margin.
The Implementation Of The New Web Site May Place A Significant Strain On Our Key
Personnel. During 2006, we entered into a Master License Agreement with ATG,
pursuant to which we will license certain technology from ATG to be used as a
platform for future versions of our Web site, and ATG will provide certain
support and consulting services in connection therewith. The new version of our
Web site is expected to launch in the third quarter of 2007 and will replace the
older version. The launch of the new Web site will involve the use of
significant internal and external resources. We will need to develop new
internal procedures to operate the new Web site and to make the most effective
use of the improvements available on the new Web site. As with any new
technology, we may experience instability and performance issues upon launch,
and such issues could have a material adverse effect on our revenue and,
therefore, our results of operations. While we believe that this project is a
prudent investment for our future growth prospects, the return on this
investment is not certain and the time and attention required to build out and
learn how to best use the new Web site could result in our inability to
undertake certain initiatives that could have a more immediate, positive impact
on our business and/or distract us from other areas of our business that require
the time and attention of those involved in the continued development of the new
Web site.
Unexpected Changes In Fashion Trends Could Cause Us To Have Either Excess or
Insufficient Inventory. Fashion trends can change rapidly, and our business is
sensitive to such changes. There can be no assurance that we will accurately
anticipate shifts in fashion trends and adjust our merchandise mix to appeal to
changing consumer tastes in a timely manner. If we misjudge the market for our
products or are unsuccessful in responding to changes in fashion trends or in
market demand, we could experience insufficient or excess inventory levels or
higher markdowns, either of which would have a material adverse effect on our
business, financial condition and results of operations.
We Will Be Subject To Cyclical Variations In The Apparel And E-Commerce Markets.
The apparel industry historically has been subject to substantial cyclical
variations. Furthermore, Internet usage slows down in the summer months. We and
other apparel vendors rely on the expenditure of discretionary income for most,
if not all, sales. Economic downturns, whether real or perceived, in economic
conditions or prospects could adversely affect consumer spending habits and,
therefore, have a material adverse effect on our revenue, cash flow and results
of operations. Alternatively, any improvement, whether real or perceived, in
economic conditions or prospects could adversely impact our ability to acquire
merchandise and, therefore, have a
8
material adverse effect on our business, prospects, financial condition and
results of operations, as our supply of merchandise is dependent on the
inability of designers and retailers to sell their merchandise in full-price
venues. See "Risk Factors - We Do Not Have Long Term Contracts With The Majority
Of Our Vendors And Therefore The Availability of Merchandise Is At Risk."
We Purchase Product From Some Indirect Supply Sources, Which Increases Our Risk
of Litigation Involving The Sale Of Non-Authentic Or Damaged Goods. We purchase
merchandise both directly from brand owners and indirectly from retailers and
third party distributors. The purchase of merchandise from parties other than
the brand owners increases the risk that we will mistakenly purchase and sell
non-authentic or damaged goods, which could result in potential liability under
applicable laws, regulations, agreements and orders. Moreover, any claims by a
brand owner, with or without merit, could be time consuming, result in costly
litigation, generate bad publicity for us, and have a material adverse impact on
our business, prospects, financial condition and results of operations.
Security Breaches To Our Systems And Database Could Cause Interruptions to Our
Business And Impact Our Reputation With Customers, And We May Incur Significant
Expenses to Protect Against Such Breaches. A fundamental requirement for online
commerce and communications is the secure transmission of confidential
information over public networks. There can be no assurance that advances in
computer capabilities, new discoveries in the field of cryptography, or other
events or developments will not result in a compromise or breach of the
algorithms we use to protect customer transaction and personal data contained in
our customer database. A party who is able to circumvent our security measures
could misappropriate proprietary information or cause interruptions in our
operations. If any such compromise of our security were to occur, it could have
a material adverse effect on our reputation with customers, thereby affecting
our long-term growth prospects. In addition, we may be required to expend
significant capital and other resources to protect against such security
breaches or to alleviate problems caused by such breaches.
Brand Owners Could Establish Procedures To Limit Our Ability To Purchase
Products Indirectly. Brand owners have implemented, and are likely to continue
to implement, procedures to limit or control off-price retailers' ability to
purchase products indirectly. In addition, several brand owners in the U.S. have
distinctive legal rights rendering them the only legal importer of their
respective brands into the U.S. If we acquire such product indirectly from
distributors and other third parties who may not have complied with applicable
customs laws and regulations, such goods could be subject to seizure from our
inventory by U.S. Customs Service, and the importer may have a civil action for
damages against us. See "Risk Factors - We Do Not Have Long Term Contracts With
The Majority of Our Vendors And Therefore The Availability Of Merchandise Is At
Risk."
Our Growth May Place A Significant Strain On Our Management And Administrative
Resources And Cause Disruptions In Our Business. Historically, our growth has
placed, and any further growth is likely to continue to place, a significant
strain on our management and administrative resources. To be successful, we must
continue to implement information management systems and improve our operating,
administrative, financial and accounting systems and controls. We will also need
to train new employees and maintain close coordination among our executive,
accounting, finance, marketing, merchandising, operations and technology
functions. Any failure to implement such systems and training, and to maintain
such coordination, could affect our ability to plan for, and react quickly to,
changes in our business and, accordingly, could cause an adverse impact on our
cash flow and results of operations in the periods during which such changes
occur. In addition, as our workforce grows, our exposure to potential employment
liability issues increases, and we will need to continue to improve our human
resources functions in order to protect against such increased exposure.
Moreover, our business is dependent upon our ability to expand our third-party
fulfillment operations, customer service operations, technology infrastructure,
and inventory levels to accommodate increases in demand, particularly during the
peak holiday selling season. Our planned expansion efforts in these areas could
cause disruptions in our business. Any failure to expand our third-party
fulfillment operations, customer service operations, technology infrastructure
or inventory levels at the pace needed to support customer demand could have a
material adverse effect on our cash flow and results of operations during the
period in which such failures occur and could have a long-term effect on our
reputation with our customers.
We Are Heavily Dependent On Third-Party Relationships, And Failures By A Third
Party Could Cause Interruptions To Our Business. We are heavily dependent upon
our relationships with our fulfillment operations provider, third party call
center and Web hosting provider, delivery companies like UPS, DHL and the United
States Postal Service, and credit card processing companies such as Paymentech
and Cybersource to service our customers' needs. To the extent that there is a
slowdown in mail service or package delivery services, whether as a result of
labor difficulties, terrorist activity or otherwise,
9
our cash flow and results of operations would be negatively impacted during such
slowdown, and the results of such slowdown could have a long-term negative
effect on our reputation with our customers. The failure of our fulfillment
operations provider, third party call center, credit card processors or Web
hosting provider to properly perform their services for us could cause similar
effects. Our business is also generally dependent upon our ability to obtain the
services of other persons and entities necessary for the development and
maintenance of our business. If we fail to obtain the services of any such
person or entities upon which we are dependent on satisfactory terms, or we are
unable to replace such relationship, we would have to expend additional
resources to develop such capabilities ourselves, which could have a material
adverse impact on our short-term cash flow and results of operations and our
long-term prospects.
We Are In Competition With Companies Much Larger Than Ourselves. E-commerce
generally and, in particular, the online retail apparel and fashion accessories
market, is a new, dynamic, high-growth market and is rapidly changing and
intensely competitive. Our competition for customers comes from a variety of
sources including:
o existing land-based, full price retailers, that are using the Internet
to expand their channels of distribution;
o less established online companies;
o internet sites;
o traditional direct marketers; and
o traditional off-price retail stores, which may or may not use the
Internet to grow their customer base.
Competition in our industry has intensified, and we expect this trend to
continue as the list of our competitors grows. Many of our competitors and
potential competitors have longer operating histories, significantly greater
resources, greater brand name recognition and more firmly established supply
relationships. We believe that the principal competitive factors in our market
include:
o brand recognition;
o merchandise selection;
o price;
o convenience;
o customer service;
o order delivery performance; and
o site features.
There can be no assurance that we will be able to compete successfully against
competitors and future competitors, and competitive pressures faced by us could
force us to increase expenses and/or decrease our prices at some point in the
future.
We Do Not Have Long Term Contracts With Our Vendors And Therefore The
Availability Of Merchandise Is At Risk. We do not have any agreements
controlling the long-term availability of merchandise or the continuation of
particular pricing practices. Our contracts with suppliers typically do not
restrict such suppliers from selling products to other buyers. There can be no
assurance that our current suppliers will continue to sell products to us on
current terms or that we will be able to establish new or otherwise extend
current supply relationships to ensure product acquisitions in a timely and
efficient manner and on acceptable commercial terms. In addition, in order to
entice new vendors to open up relationships with us, we sometimes are required
to either make prepayments or agree to shortened payment terms. Our ability to
develop and maintain relationships with reputable suppliers and obtain high
quality merchandise is critical to our success. If we are unable to develop and
maintain relationships with suppliers that would allow us to obtain a sufficient
amount and variety of quality merchandise on acceptable commercial terms, our
ability to satisfy our customers' needs, and therefore our long-term growth
prospects, would be materially adversely affected. See "Risk Factors - Brand
Owners Could Establish Procedures to Limit Our Ability to Purchase Products
Indirectly."
10
We Need To Further Establish Brand Name Recognition. We believe that further
establishing, maintaining and enhancing our brand is a critical aspect of our
efforts to attract and expand our online traffic. The number of Internet sites
that offer competing services, many of which already have well established
brands in online services or the retail apparel industry generally, increases
the importance of establishing and maintaining brand name recognition. Promotion
of Bluefly.com will depend largely on our success in providing a high quality
online experience supported by a high level of customer service, which cannot be
assured. In addition, to attract and retain online users, and to promote and
maintain Bluefly.com in response to competitive pressures, we may find it
necessary to increase substantially our advertising and marketing expenditures.
If we are unable to provide high quality online services or customer support, or
otherwise fail to promote and maintain Bluefly.com, or if we incur excessive
expenses in an attempt to promote and maintain Bluefly.com, our long-term growth
prospects would be materially adversely affected.
There Can Be No Assurance That Our Technology Systems Will Be Able To Handle
Increased Traffic; Implementation Of Changes To Web Site. A key element of our
strategy is to generate a high volume of traffic on, and use of, Bluefly.com.
Accordingly, the satisfactory performance, reliability and availability of
Bluefly.com, transaction processing systems and network infrastructure are
critical to our reputation and our ability to attract and retain customers, as
well as maintain adequate customer service levels. Our revenues will depend on
the number of visitors who shop on Bluefly.com and the volume of orders we can
handle. Unavailability of our Web site or reduced order fulfillment performance
would reduce the volume of goods sold and could also adversely affect consumer
perception of our brand name. We may experience periodic system interruptions
from time to time. If there is a substantial increase in the volume of traffic
on Bluefly.com or the number of orders placed by customers, we will be required
to expand and upgrade further our technology, transaction processing systems and
network infrastructure. There can be no assurance that we will be able to
accurately project the rate or timing of increases, if any, in the use of
Bluefly.com or expand and upgrade our systems and infrastructure to accommodate
such increases on a timely basis. In order to remain competitive, we must
continue to enhance and improve the responsiveness, functionality and features
of Bluefly.com, which is particularly challenging given the rapid rate at which
new technologies, customer preferences and expectations and industry standards
and practices are evolving in the online commerce industry. Accordingly, we
redesign and enhance various functions on our Web site on a regular basis, and
we may experience instability and performance issues as a result of these
changes. See "Risk Factors - The Implementation Of The New Web Site May Place A
Significant Strain On Our Key Personnel."
We May Be Subject To Higher Return Rates. We recognize that purchases of apparel
and fashion accessories over the Internet may be subject to higher return rates
than traditional store bought merchandise. We have established a liberal return
policy in order to accommodate our customers and overcome any hesitancy they may
have with shopping via the Internet. As a result, our reserve for returns and
credit card chargebacks for fiscal 2006, 2005 and 2004 has been 39.6%, 37.8% and
36.6%, respectively. If return rates are higher than expected, our business,
prospects, financial condition, cash flows and results of operations could be
materially adversely affected.
Our Success Is Largely Dependent Upon Our Executive Personnel. We believe our
success will depend to a significant extent on the efforts and abilities of our
executive personnel. In particular, we rely upon their strategic guidance, their
relationships and credibility in the vendor and financial communities and their
ability to recruit key operating personnel. Our current employment agreements
with our Chief Executive Officer, Chief Financial Officer and Chief Marketing
Officer run through July 2009, July 2009 and September 2008, respectively,
however there can be no assurance that any of them will not terminate their
employment earlier. The loss of the services of any of our executive officers
could have a material adverse effect on our credibility in the vendor
communities and our ability to recruit new key operating personnel.
Our Success Is Dependent Upon Our Ability To Attract New Key Personnel. Our
operations will also depend to a great extent on our ability to attract new key
personnel with relevant experience and retain existing key personnel in the
future. The market for qualified personnel is extremely competitive. Our failure
to attract additional qualified employees could have a material adverse effect
on our prospects for long-term growth.
There Are Inherent Risks Involved In Expanding Our Operations. We may choose to
expand our operations by developing new Web sites, promoting new or
complementary products or sales formats, expanding the breadth and depth of
products and services offered, expanding our market presence through
relationships with third parties, adopting non-Internet based channels for
distributing our products, or consummating acquisitions or investments.
Expansion of our operations in this manner would require significant additional
expenses and development, operations and editorial resources and would strain
our management, financial and operational resources. For example, we have
historically expended significant internal resources in connection
11
with the redesign of our Web site and the implementation of our online strategic
alliances. Moreover, in the event that we expand upon our efforts to open
brick-and-mortar outlet stores, we will be required to devote significant
internal resources and capital to such efforts. There can be no assurance that
we would be able to expand our efforts and operations in a cost-effective or
timely manner or that any such efforts would increase overall market acceptance.
Furthermore, any new business or Web site that is not favorably received by
consumer or trade customers could damage our reputation.
We May Be Liable For Infringing The Intellectual Property Rights Of Others.
Third parties may assert infringement claims against us. From time to time in
the ordinary course of business we have been, and we expect to continue to be,
subject to claims alleging infringement of the trademarks and other intellectual
property rights of third parties. These claims and any resulting litigation, if
it occurs, could subject us to significant liability for damages. In addition,
even if we prevail, litigation could be time-consuming and expensive and could
result in the diversion of our time and attention. Any claims from third parties
may also result in limitations on our ability to use the intellectual property
subject to these claims unless we are able to enter into agreements with the
third parties making these claims.
We May Be Liable for Product Liability Claims. We sell products manufactured by
third parties, some of which may be defective. If any product that we sell were
to cause physical injury or injury to property, the injured party or parties
could bring claims against us as the retailer of the product. Our insurance
coverage may not be adequate to cover every claim that could be asserted. If a
successful claim were brought against us in excess of our insurance coverage, it
could have a material adverse effect on our cash flow and on our reputation with
customers. Unsuccessful claims could result in the expenditure of funds and
management time and could have a negative impact on our business.
We Cannot Guarantee The Protection Of Our Intellectual Property. Our
intellectual property is critical to our success, and we rely on trademark,
copyright, domain names and trade secret protection to protect our proprietary
rights. Third parties may infringe or misappropriate our trademarks or other
proprietary rights, which could have a material adverse effect on our business,
prospects, results of operations or financial condition. While we enter into
confidentiality agreements with our employees, consultants and strategic
partners and generally control access to and distribution of our proprietary
information, the steps we have taken to protect our proprietary rights may not
prevent misappropriation. We are pursuing registration of various trademarks,
service marks and domain names in the United States and abroad. Effective
trademark, copyright and trade secret protection may not be available in every
country, and there can be no assurance that the United States or foreign
jurisdictions will afford us any protection for our intellectual property. There
also can be no assurance that any of our intellectual property rights will not
be challenged, invalidated or circumvented. In addition, we do not know whether
we will be able to defend our proprietary rights since the validity,
enforceability and scope of protection of proprietary rights in Internet-related
industries is uncertain and still evolving. Moreover, even to the extent that we
are successful in defending our rights, we could incur substantial costs in
doing so.
Our Business Could Be Harmed By Consumers' Concerns About The Security Of
Transactions Over The Internet. Concerns over the security of transactions
conducted on the Internet and commercial online services, the increase in
identity theft and the privacy of users may also inhibit the growth of the
Internet and commercial online services, especially as a means of conducting
commercial transactions. Moreover, although we have developed systems and
processes that are designed to protect consumer information and prevent
fraudulent credit card transactions and other security breaches, failure to
mitigate such fraud or breaches could have a material adverse effect on our
business, prospects, financial condition and results of operations.
We Face Legal Uncertainties Relating To The Internet In General And To Our
Industry In Particular And May Become Subject To Costly Government Regulation.
We are not currently subject to direct regulation by any domestic or foreign
governmental agency, other than regulations applicable to businesses generally,
and laws or regulations directly applicable to online commerce. However, it is
possible that laws and regulations may be adopted that would apply to the
Internet and other online services. Furthermore, the growth and development of
the market for online commerce may prompt calls for more stringent consumer
protection laws that may impose additional burdens on those companies conducting
business online. The adoption of any additional laws or regulations may increase
our cost of doing business and/or decrease the demand for our products and
services and increase our cost of doing business.
The applicability to the Internet of existing laws in various jurisdictions
governing issues such as property ownership, sales and other taxes, libel and
personal privacy is uncertain and may take years to resolve. Any such new
legislation or regulation, the application of laws and regulations from
jurisdictions whose laws do not currently apply to our business, or the
application of
12
existing laws and regulations to the Internet and online commerce could also
increase our cost of doing business. In addition, if we were alleged to have
violated federal, state or foreign, civil or criminal law, we could face
material liability and damage to our reputation and, even if we successfully
defend any such claim, we would incur significant costs in connection with such
defense.
We Face Uncertainties Relating To Sales And Other Taxes. We are not currently
required to pay sales or other similar taxes in respect of shipments of goods
into states other than Virginia, Ohio, New Jersey, Maine and New York. However,
state taxation laws and regulations may change in the future, and one or more
states may seek to impose sales tax collection obligations on out-of-state
companies, such as our company, that engage in online commerce. In addition, any
new operation in states outside Virginia, Ohio, New Jersey, Maine and New York
could subject shipments into such states to state sales taxes under current or
future laws. A successful assertion by one or more states or any foreign country
that the sale of merchandise by us is subject to sales or other taxes, could
subject us to material liabilities and, to the extent that we pass such costs on
to our customers, could decrease our sales.
The Holders Of Our Common Stock May Be Adversely Affected By The Rights Of
Holders Of Preferred Stock That May Be Issued In The Future. Our certificate of
incorporation and by-laws, as amended, contain certain provisions that may
delay, defer or prevent a takeover. Our Board of Directors has the authority to
issue up to 15,479,250 additional shares of preferred stock, and to determine
the price, rights, preferences and restrictions, including voting rights, of
those shares, without any further vote or action by the stockholders.
Accordingly, our Board of Directors is empowered, without approval of the
holders of Common Stock, to issue preferred stock, for any reason and at any
time, with such rates of dividends, redemption provisions, liquidation
preferences, voting rights, conversion privileges and other characteristics as
it may deem necessary or appropriate. The rights of holders of Common Stock will
be subject to, and may be adversely affected by, the rights of holders of any
preferred stock that may be issued in the future.
We Rely On The Effectiveness Of Our Internal Controls. Section 404 of the
Sarbanes-Oxley Act of 2002 requires that we establish and maintain an adequate
internal control structure and procedures for financial reporting and assess on
an on-going basis the design and operating effectiveness of our internal control
structure and procedures for financial reporting. Management will be responsible
for assessing the design and the effectiveness of our internal controls for the
year ending December 31, 2007. Our independent registered accounting firm will
be required to audit the design and operating effectiveness of our internal
controls and attest to management's assessment of the design and the
effectiveness of our internal controls. The first such audit will be required
for our fiscal year ending December 31, 2008. It is possible that, as we prepare
for this audit, we could discover certain deficiencies in the design and/or
operation of our internal controls that could adversely affect our ability to
record, process, summarize and report financial data. We have invested and will
continue to invest significant resources in this process. Because management's
assessment of internal controls has not been required to be reported in the
past, we are uncertain as to what impact a conclusion that deficiencies exist in
our internal controls over financial reporting would have on the trading price
of our Common Stock.
ITEM 2. PROPERTIES
We lease approximately 26,000 square feet of office space in New York City. The
property is in good operating condition. The leases expire in 2008 through 2010.
Our total lease expense for the current office space during 2006 was
approximately $457,000.
ITEM 3. LEGAL PROCEEDINGS
We currently, and from time to time, are involved in litigation incidental to
the conduct of our business. However, we are not party to any lawsuit or
proceeding which in the opinion of management is likely to have a material
adverse effect on us.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of stockholders of the Company during the
fourth quarter of 2006.
13
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
MARKET INFORMATION
The Company's common stock, par value $.01 per share ("Common Stock"), is quoted
on The Nasdaq Capital Market and the Boston Stock Exchange. The following table
sets forth the high and low bid prices for the Common Stock for the periods
indicated, as reported by the Nasdaq Capital Market:
FISCAL 2006 HIGH LOW
-------------------------------------- ------- -------
First Quarter $ 1.49 $ 0.96
Second Quarter $ 1.23 $ 0.68
Third Quarter $ 1.20 $ 0.93
Fourth Quarter $ 1.59 $ 0.79
FISCAL 2005 HIGH LOW
-------------------------------------- ------- -------
First Quarter $ 2.34 $ 1.22
Second Quarter $ 2.24 $ 1.20
Third Quarter $ 1.88 $ 1.40
Fourth Quarter $ 1.87 $ 0.97
HOLDERS
As of February 23, 2007, there were approximately 115 holders of record of the
Common Stock. We believe that there were more than 5,000 beneficial holders of
the Common Stock as of such date.
DIVIDENDS
We have never declared or paid cash dividends on our Common Stock. In addition,
the terms of our credit facility contain restrictions on our ability to declare
or pay dividends. We currently intend to retain any future earnings to finance
future growth and, therefore, do not anticipate paying any cash dividends in the
foreseeable future.
PERFORMANCE GRAPH
Comparison of Five-Year Cumulative Total Returns
Performance Report for
BLUEFLY INC
Produced on 02/20/2007 including data to 12/29/2006
[Performance Graph Appears Here]
Company Index: BLUEFLY INC
Market Index: Nasdaq Stock Market (US Companies)
Peer Index: Nasdaq Retail Trade Stocks
SIC 5200-5599, 5700-5799, 5900-5999 US & Foreign
Date Company Index Market Index Peer Index
---------------------------- -------------- -------------- --------------
12/31/2001 100.000 100.000 100.000
01/31/2002 95.789 99.239 101.593
02/28/2002 78.684 88.920 98.443
03/28/2002 94.737 94.751 100.313
04/30/2002 76.316 86.879 105.119
05/31/2002 91.579 83.047 104.808
06/28/2002 68.421 75.525 102.677
07/31/2002 47.895 68.628 88.398
08/30/2002 52.632 67.899 85.127
09/30/2002 44.737 60.597 82.364
10/31/2002 36.842 68.875 89.156
11/29/2002 62.105 76.553 92.289
12/31/2002 86.316 69.131 84.968
01/31/2003 51.053 68.383 81.658
02/28/2003 41.579 69.344 81.585
03/31/2003 43.158 69.544 82.668
04/30/2003 43.158 75.865 91.890
05/30/2003 71.053 82.526 96.778
06/30/2003 58.947 83.850 97.721
07/31/2003 56.316 89.627 103.696
08/29/2003 52.632 93.536 110.968
09/30/2003 77.895 92.320 105.508
10/31/2003 136.842 99.753 118.094
11/28/2003 251.579 101.232 119.593
12/31/2003 213.158 103.365 118.315
01/30/2004 215.263 106.429 119.724
02/27/2004 195.789 104.426 123.573
03/31/2004 168.421 102.648 124.074
04/30/2004 142.105 99.246 122.562
05/28/2004 142.158 102.543 126.344
06/30/2004 113.158 105.693 133.772
07/30/2004 95.263 97.626 128.665
08/31/2004 109.474 95.235 126.442
09/30/2004 90.526 98.077 131.420
10/29/2004 150.474 102.053 139.122
11/30/2004 131.579 108.341 146.381
12/31/2004 122.105 112.489 150.068
01/31/2005 86.842 106.636 144.848
02/28/2005 68.421 106.030 145.142
03/31/2005 75.789 103.334 147.157
04/29/2005 67.895 99.574 140.770
05/31/2005 86.316 107.273 153.690
06/30/2005 94.737 106.838 154.571
07/29/2005 84.737 113.656 163.304
08/31/2005 82.632 111.853 150.690
09/30/2005 80.526 111.942 146.235
10/31/2005 85.789 110.504 150.102
11/30/2005 76.316 116.531 153.877
12/30/2005 58.947 114.881 151.492
01/31/2006 57.368 119.953 154.954
02/28/2006 56.842 118.760 156.671
03/31/2006 58.421 121.855 165.355
04/28/2006 58.947 120.896 166.116
05/31/2006 36.853 113.603 160.218
06/30/2006 63.684 113.602 161.553
07/31/2006 54.737 109.270 149.288
08/31/2006 55.263 114.122 148.436
09/29/2006 52.105 118.051 160.496
10/31/2006 47.368 123.832 170.228
11/30/2006 46.316 127.068 165.849
12/29/2006 67.368 126.212 165.445
This performance graph shall not be deemed "filed" for purposes of Section 18 of
the Securities Exchange Act of 1934, as amended (the "Exchange Act") or
otherwise subject to the liabilities under that Section and shall not be deemed
to be incorporated by reference into any filing of Bluefly under the Securities
Act of 1933, as amended or the Exchange Act.
14
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial data should be read in conjunction
with the consolidated financial statements and the notes thereto and the
information contained in Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations." Historical results are not
necessarily indicative of future results. The selected financial data for the
years ended December 31, 2003 and 2002 and at December 31, 2004, 2003 and 2002
are derived from our audited financial statements not included in this report.
In January 2006, the start of the first quarter of fiscal 2006, the Company
adopted the provisions of Statement of Financial Accounting Standards No. 123
(revised 2004), "Share-Based Payment" ("SFAS No. 123(R)"), which requires that
the costs resulting from all stock-based payment transactions be recognized in
the financial statements at their fair values. Results for prior periods have
not been restated. All data is in thousands, except share data:
Year Ended December 31,
------------------------------------------------------------------------------
2006 2005 2004 2003 2002
------------ ------------ ------------ ------------ ------------
Statement of Operations Data:
Net sales $ 77,062 $ 58,811 $ 43,799 $ 37,928 $ 30,606
Cost of sales 46,153 35,816 27,393 26,603 20,571
------------ ------------ ------------ ------------ ------------
Gross profit 30,909 22,995 16,406 11,325 10,035
Selling and fulfillment expenses 15,808 12,880 11,783 10,163 9,272
Marketing expenses 14,196 6,961 2,120 1,898 2,275
General and administrative expenses 13,001 6,299 6,408 5,207 4,686
------------ ------------ ------------ ------------ ------------
Total operating expenses 43,005 26,140 20,311 17,268 16,233
Operating loss (12,096)(3) (3,145) (3,905) (5,943) (6,198)
Interest expense (599) (856) (733) (464) (349)
Interest/other income 502 181 847 38 68
------------ ------------ ------------ ------------ ------------
Net loss (12,193) (3,820) (3,791) (6,369) (6,479)
Basic and diluted loss per share: $ (0.23) $ (0.54) $ (0.55) $ (0.88) $ (2.44)
Basic and diluted weighted average number of
common shares outstanding available to common
stockholders(2) 80,170,532 16,153,020 14,586,752 11,171,018 9,927,027
As of December 31,
------------------------------------------------------------------------------
2006 2005 2004 2003 2002
------------ ------------ ------------ ------------ ------------
Balance Sheet Data:
Cash and cash equivalents $ 20,188 $ 9,408 $ 7,938(1) $ 7,721 $ 1,749
Inventories, net 24,189 16,893 12,958 11,340 10,868
Other current assets 4,229 3,536 2,559 1,863 1,159
Total assets 52,430 33,045 25,541 22,998 16,595
Current liabilities 14,603 11,936 9,413 8,459 7,072
Long term liabilities -- 5,244 4,739 4,260 2,439
Shareholders' equity 37,827 15,865 11,389 10,279 7,084
(1) Includes restricted cash of $1,253
(2) Weighted average shares increased to 80.2 million in 2006 as a result of
the June 2006 financing and the conversion of the Company's preferred stock
into common stock in connection with the financing.
(3) This amount includes non-cash expense of approximately $4.5 million related
to stock-based compensation, recorded in accordance with SFAS 123R.
15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This discussion and analysis of our financial condition and results of
operations contains forward-looking statements that involve risks and
uncertainties. We have based these forward-looking statements on our current
expectations and projections of future events. However, our actual results could
differ materially from those discussed herein as a result of the risks that we
face, including but not limited to those risks stated in "Risk Factors," or
faulty assumptions on our part. In addition, the following discussion should be
read in conjunction with the audited consolidated financial statements and the
related notes thereto included elsewhere in this report.
OVERVIEW
Bluefly, Inc. is a leading Internet retailer that sells over 350 brands of
designer apparel, accessories and home furnishings at discounts of up to 75% off
of retail value. We launched our Web site in September 1998. Over the past five
years our sales have grown at a compounded annual growth rate of more than 28%,
while our gross margin percentage has increased from 30.5% in 2001 to 40.1% in
2006.
The recent increase in our margin and sales is the direct result of a new
merchandise strategy that we began to implement in spring 2004. As part of that
strategy we are bringing current season merchandise and the latest fashion
trends to our customer for great value. While there will be some fluctuation in
our gross margin percentage from quarter to quarter as we further develop our
merchandising and marketing strategy, we believe that we will be able to
maintain margins at the current levels.
We believe that there is an opportunity to accelerate the growth of our business
while continuing to provide our customers with the great values that they have
become accustomed to. In an effort to take advantage of this opportunity, we
launched a national advertising campaign in 2005, and have continued and
expanded upon it in the last eighteen months. We intend to continuously review
the results of the campaign and use the learnings to refine and improve upon our
marketing strategy.
Our net sales increased over 31% to $77,062,000 for the year ended December 31,
2006 from $58,811,000 for the year ended December 31, 2005. Our gross margin
increased to 40.1% in 2006 from 39.1% in 2005, 37.5% in 2004, 29.9% in 2003 and
32.8% in 2002. Our gross profit increased by more than 34% to $30,909,000 for
the year ended December 31, 2006 from $22,995,000 for the year ended December
31, 2005. This growth in gross profit was driven by the increase in net sales,
and by the increase in gross margins. Our operating loss increased by over 284%,
to $12,096,000 in 2006, from $3,145,000 in 2005.
Total marketing expenses increased by 104% to $14,196,000 for the full year
2006, from $6,961,000 for the full year 2005. We increased our spending in
marketing (excluding staff related costs) by 102% to $12,602,000 for the full
year 2006, from $6,250,000 for the full year 2005. The primary goal of our
marketing campaign is to build upon the awareness created by the initial launch
of the campaign in fall 2005, both with new customers as well as with our
existing customers. A large portion of the increased marketing expense was a
result of the costs associated with our national advertising campaign. For the
first three quarters of 2006, our net sales increased by approximately 25%, 40%
and 36%, respectively, as compared to the same periods in 2005. In general, we
intend to market our business more aggressively than we have in previous years.
This more aggressive growth strategy will cause our marketing expense as a
percentage of revenue to increase in the short-term; however, we believe that it
is a prudent investment in our business given that our margin structure and
average order size have historically resulted in a relatively high positive
contribution to overhead and marketing on a customer's first order.
Our reserve for returns and credit card chargebacks increased to 39.6% of gross
sales for the year ended December 31, 2006 compared to 37.8% in 2005. The
increase was primarily caused by a shift in our merchandise mix towards certain
product categories that historically have generated higher return rates.
However, we believe that this increase in return rates has been more than offset
by the higher gross margins and average order sizes that have been generated by
this shift in merchandise mix.
A portion of our inventory includes merchandise that we either purchased with
the intention of holding for the appropriate season or were unable to sell in a
prior season and have determined to hold for the next selling season, subject
(in some cases) to appropriate mark-downs. In recent years we have increased the
amount of inventory purchased on a pack and hold basis in order to take
advantage of opportunities in the market.
16
On January 1, 2006, we adopted SFAS No. 123(R), which requires expensing of
stock options. As a result, we recorded total share-based compensation expenses
of $4,454,000 for the year ended December 31, 2006. Results for prior periods
have not been restated due to the adoption based on the modified prospective
approach.
At December 31, 2006, we had an accumulated deficit of $115,997,000. The net
losses and accumulated deficit resulted primarily from the costs associated with
developing and marketing our Web site and building our infrastructure, as well
as non-cash beneficial conversion charges resulting from decreases in the
conversion price of our Preferred Stock of approximately $33.0 million, and
non-cash charges of approximately $4.5 million in connection with the adoption
of SFAS 123(R). In order to expand our business, we intend to invest in sales,
marketing, merchandising, operations, information systems, site development and
additional personnel to support these activities. Therefore, we may continue to
incur substantial operating losses. Although we have experienced revenue growth
in recent years, this growth may not be sustainable and therefore should not be
considered indicative of future performance.
CRITICAL ACCOUNTING POLICIES
Management Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the dates of the financial statements and
the reported amounts of revenues and expenses during the reporting periods. The
most significant estimates and assumptions relate to the adequacy of the
allowances for sales returns, recoverability of inventories, useful lives of
property and equipment, the realization of deferred tax assets, and the
calculations related to stock-based compensation. Actual amounts could differ
significantly from these estimates.
Revenue Recognition
We recognize revenue in accordance with Staff Accounting Bulletin ("SAB") No.
104 "Revenue Recognition". Gross sales consists primarily of revenue from
product sales and shipping and handling charges and is net of promotional
discounts. Net sales represent gross sales, less provisions for returns, credit
card chargebacks, and adjustments for uncollected sales taxes. Revenue is
recognized when all the following criteria are met:
o A customer executes an order.
o The product price and the shipping and handling fee have been
determined.
o Credit card authorization has occurred and collection is reasonably
assured.
o The product has been shipped and received by the customer.
Shipping and handling billed to customers are classified as revenue in
accordance with Financial Accounting Standards Board ("FASB") Task Force's
Emerging Issues Task Force ("EITF") No. 00-10, "Accounting for Shipping and
Handling Fees and Costs" ("EITF No. 00-10").
Provision for Returns and Doubtful Accounts
We generally permit returns for any reason within 90 days of the sale.
Accordingly, we establish a reserve for estimated future returns and bad debt at
the time of shipment based primarily on historical data. We perform credit card
authorizations and check the verification of our customers prior to shipment of
merchandise. However, our future return and bad debt rates could differ from
historical patterns, and, to the extent that these rates increase significantly,
it could have a material adverse effect on our business, prospects, cash flows,
financial condition and results of operations.
Inventory Valuation
Inventories, which consist of finished goods, are stated at the lower of cost or
market value. Cost is determined by the first-in, first-out ("FIFO") method.
This valuation requires us to make judgements based on currently available
information, about the
17
saleability of such merchandise, the selling price, etc. Based upon this
evaluation, we review our inventory levels in order to identify slow-moving
merchandise and establish a reserve for such merchandise.
Deferred Tax Valuation Allowance
We recognize deferred income tax assets and liabilities on the differences
between the financial statement and tax bases of assets and liabilities using
enacted statutory rates in effect for the years in which the differences are
expected to reverse. The effect on deferred taxes of a change in tax rates is
realized in income or loss in the period that included the enactment date. We
have assessed the future taxable income and determined that a 100% deferred tax
valuation allowance is deemed necessary. In the event that we were to determine
that we would be able to realize our deferred tax assets, an adjustment to the
deferred tax valuation allowance would increase income in the period such
determination is made.
Stock-Based Compensation
As of January 1, 2006, we adopted SFAS 123(R) which requires us to measure
compensation cost for stock awards at fair value and recognize compensation over
the service period for awards expected to vest. Determining the fair value of
stock-based awards at the grant date requires considerable judgment, including
estimating expected volatility, expected term, risk-free interest rate and
expected forfeitures. If factors change and we employ different assumptions,
stock-based compensation expense may differ significantly from what we have
recorded in the past.
RESULTS OF OPERATIONS
The following table sets forth our statement of operations data for the years
ended December 31st. All data is in thousands except as indicated below:
2006 2005 2004
-------------------- -------------------- --------------------
As a % of As a % of As a % of
Net Sales Net Sales Net Sales
--------- --------- ---------
Net sales $ 77,062 100.0% $ 58,811 100.0% $ 43,799 100.0%
Cost of sales 46,153 59.9% 35,816 60.9% 27,393 62.5%
-------- -------- --------
Gross profit 30,909 40.1% 22,995 39.1% 16,406 37.5%
Marketing expenses 14,196 18.4% 6,961 11.8% 2,120 4.9%
Selling and fulfillment expenses 15,808 20.5% 12,880 21.9% 11,783 26.9%
General and administrative expenses 13,001 16.9% 6,299 10.7% 6,408 14.6%
-------- -------- --------
Total operating expenses 43,005 55.8% 26,140 44.4% 20,311 46.4%
Operating loss (12,096) (15.7)% (3,145) (5.3)% (3,905) (8.9)%
Interest (expense) other income (97) (0.1)% (675) (1.2)% 114 0.3%
-------- -------- --------
Net loss $(12,193) (15.8)% $ (3,820) (6.5)% $ (3,791) (8.6)%
We also measure and evaluate ourselves against certain other key operational
metrics. The following table sets forth our actual results based on these other
metrics for the years ended December 31st, as indicated below:
2006 2005 2004
------------ ------------ ------------
Average Order Size (including shipping & handling) $ 257.64 $ 220.17 $ 188.51
New Customers Added during the Year* 177,213 148,975 127,177
* Based on unique email addresses
18
FOR THE YEAR ENDED DECEMBER 31, 2006 COMPARED TO THE YEAR ENDED DECEMBER 31,
2005
Net sales: Gross sales for the year ended December 31, 2006 increased by
approximately 35% to $127,556,000 from $94,586,000 for the year ended December
31, 2005. The provision for returns and credit card chargebacks and other
credits was approximately 40% for 2006 and 38% for 2005, resulting in a
provision of $50,494,000 for the year ended December 31, 2006 and $35,775,000
for the year ended December 31, 2005.
After the necessary provisions for returns, credit card chargebacks and
adjustments for uncollected sales taxes, our net sales for the year ended
December 31, 2006 were $77,062,000. This represents an increase of over 31%
compared to the year ended December 31, 2005, in which net sales totaled
$58,811,000. The growth in net sales was largely driven by the increase in gross
average order size (approximately 17% higher than the full year 2005) and an
increase in the number of new customers acquired (approximately 19% higher than
the full year 2005). Shipping and handling revenue (which is included in net
sales) increased by 14% to $4,403,000 for the year ended December 31, 2006, from
$3,874,000 for the year ended December 31, 2005. Revenue from shipping and
handling increased at a lower rate than overall revenue, due to the increase in
our average order size.
Cost of sales: Cost of sales consists of the cost of product sold to customers,
in-bound and out-bound shipping costs, inventory reserves, commissions and
packing materials. Cost of sales for the year ended December 31, 2006 totaled
$46,153,000, resulting in a gross margin of approximately 40.1%. Cost of sales
for the year ended December 31, 2005 totaled $35,816,000, resulting in a gross
margin of 39.1%. The increase in gross margin was driven by our focus on
negotiating better prices with vendors as well as our strategy of selling more
in-season product, which has more value to our customer and therefore demands
higher margins, and the timing of our promotions. While we believe that we can
continue to generate gross margin at or near these levels in the future, we
believe that it may be difficult for us to continue to increase the gross margin
level at the rate that we have over the past few years.
Gross Profit: As a result of the increases in net sales and gross margin, gross
profit increased by over 34%, to $30,909,000 for the year ended December 31,
2006, from $22,995,000 for the year ended December 31, 2005.
Marketing expenses: Marketing expenses increased by 104% to $14,196,000 for the
year ended December 31, 2006 from $6,961,000 for the year ended December 31,
2005.
As a percentage of net sales, our marketing expenses increased to 18.4% for the
year ended December 31, 2006 from 11.8% for the year ended December 31, 2005.
The increase in marketing expenses as a percentage of net sales resulted
primarily from costs associated with our national advertising campaign (which
was launched in September 2005). We significantly increased our national
advertising campaign during 2006, and we plan to continue to grow our national
advertising campaign during the next 12-months. We spent approximately $7.1
million and $3.2 million on our national advertising campaign in 2006 and 2005,
respectively, and we expect to spend approximately $7.2 million in 2007.
Marketing expenses include expenses related to our national ad campaign, online
and print advertising, "sweepstakes" promotions as well as staff related costs.
Marketing expenses increased by a higher percentage than revenue as a result of
the costs associated with our national marketing campaign. Costs in connection
with this campaign are being recorded as the magazines and commercials are being
released. As a result, we expect marketing expense as a percentage of revenue to
increase in the short-term. We believe that this is a prudent investment in our
business given that our margin structure and average order size have
historically resulted in a relatively high positive contribution to overhead on
a customer's first order.
Selling and fulfillment expenses: Selling and fulfillment expenses increased by
approximately 23% for the year 2006 compared to the year ended 2005. The selling
and fulfillment expenses were comprised of the following:
Year Ended Year Ended Percentage Difference
December 31, 2006 December 31, 2005 increase (decrease)
--------------------- --------------------- ---------------------
Operating 8,353,000 6,925,000 21%
Technology 4,203,000 3,567,000 18%
E-Commerce 3,252,000 2,388,000 36%
--------------------- ---------------------
$ 15,808,000 $ 12,880,000 23%
19
Operating expenses include all costs related to inventory management,
fulfillment, customer service, and credit card processing. Operating expenses
increased in 2006 by 21% compared to 2005 as a result of variable costs
associated with the increased sales volume (e.g., picking and packing orders,
processing returns and credit card fees), and an increase in customer service
and salary related expenses. Operating costs as a percentage of sales decreased
as a result of economies of scale. Variable expenses related to picking and
packing orders increased by 24% to $2.1 million from $1.7 million. Credit card
fees remained relatively unchanged at $1.8 million, as the current year fees
were partially offset by a refund of approximately $274,000 from one of our
credit card processors. Both expenses remained relatively constant as a
percentage of gross sales at 2% for 2006 and 2005.
Technology expenses consist primarily of staff related costs, amortization of
capitalized costs and Web site hosting. For the year ended December 31, 2006,
technology expenses increased by approximately 18% compared to the year ended
December 31, 2005. This increase resulted from an increase in headcount and
salary related expenses, consulting expenses and costs associated with software
support and was partially offset by a decrease in depreciation expense and a
decrease in web hosting expense.
E-Commerce expenses include expenses related to our photo studio, image
processing, third party software and Web site design. For the year ended
December 31, 2006, this amount increased by approximately 36% as compared to the
year ended December 31, 2005, primarily due to an increase in salary related
expenses as well as increased expenses related to photo shoots. These amounts
were partially offset by a decrease in expenses associated with analytic tools.
The increase was offset partially from economies of scale in our operations and
technology expenses, as some of the fixed costs involved in maintaining our Web
site and processing orders were allocated over a larger number of orders. One of
our goals is to achieve greater economies of scale as our business grows,
although there can be no assurance that we will be successful in doing so. We
plan to continue to invest in all of these areas in the near term in order to
grow our business.
General and administrative expenses: General and administrative expenses include
merchandising, finance and administrative salaries and related expenses,
insurance costs, accounting and legal fees, depreciation and other office
related expenses. General and administrative expenses for the year ended
December 31, 2006 increased to $13,001,000 as compared to $6,299,000 for the
year ended December 31, 2005. The increase in general and administrative
expenses was primarily the result of the recording of $3,895,000 of expense
related to restricted stock, restricted stock units and employee stock options,
an increase of $379,000 in bad debt expense related to a receivable due from a
third party service provider that purchased inventory from us to be distributed
internationally, increased consulting and professional fees of $392,000,
increased public company expenses of $301,000 and increased depreciation expense
of $278,000. In June 2006, we paid approximately $650,000 of executive bonuses
in connection with the financing that closed during the second quarter 2006.
Most of these bonuses are included in general and administrative expenses. In
addition, in November 2006, in connection with their new employment agreements,
the company paid bonuses in the aggregate amount of $517,890 to the CEO and CFO
intended to compensate them for the income taxes payable on restricted stock
awards, received in exchange for their forfeiting their right to certain fully
vested and out-of-the-money stock options that would have been exercisable.
In January 2007, we commenced an exchange offer pursuant to which we offered to
exchange certain outstanding stock options issued to employees and non-employee
directors for restricted stock awards and/or deferred stock unit awards. See
Footnote 15 "Subsequent Events" to our financial statements for additional
information regarding the exchange offer.
As a percentage of net sales, general and administrative expenses increased to
16.9% in 2006 from 10.7% in 2005.
Loss from operations: Operating loss increased by over 284% in 2006, to
$12,096,000 from $3,145,000 in 2005.
Interest expense and interest and other income, net: Interest and other income
for the year ended December 31, 2006 increased to $502,000 from $181,000 for the
year ended December 31, 2005. Interest and other income was higher in 2006,
compared to 2005 primarily due to an increase in interest income earned on our
cash balances.
20
Interest expense, which is comprised primarily of interest paid on our loan
facility and convertible notes held by Soros. For the year ended 2006 interest
expense decreased to $599,000 compared to $856,000 for the year ended 2005. The
convertible notes were repaid in June 2006, which resulted in the decrease in
interest expense for 2006 compared to 2005.
Net loss per share: Net loss per share decreased to $0.23 per share from $0.54
per share, as the number of weighted average shares outstanding increased to
80.2 million in 2006 as a result of the June 2006 financing and the conversion
of the Company's preferred stock into common stock in connection with the
financing.
FOR THE YEAR ENDED DECEMBER 31, 2005 COMPARED TO THE YEAR ENDED DECEMBER 31,
2004
Net sales: Gross sales for the year ended December 31, 2005 increased by
approximately 37% to $94,586,000 from $69,032,000 for the year ended December
31, 2004. The provision for returns and credit card chargebacks and other
credits was approximately 38% for 2005 and 37% for 2004, resulting in a
provision of $35,775,000 for the year ended December 31, 2005 and $25,233,000
for the year ended December 31, 2004.
After the necessary provisions for returns, credit card chargebacks and
adjustments for uncollected sales taxes, our net sales for the year ended
December 31, 2005 were $58,811,000. This represents an increase of over 34%
compared to the year ended December 31, 2004, in which net sales totaled
$43,799,000. The growth in net sales was largely driven by the increase in gross
average order size (approximately 17% higher than the full year 2004) and an
increase in the number of new customers acquired (approximately 17% higher than
the full year 2004). Shipping and handling revenue (which is included in net
sales) increased by 16% to $3,874,000 for the year ended December 31, 2005, from
$3,353,000 for the year ended December 31, 2004. Revenue from shipping and
handling increased at a lower rate than overall revenue, due to the increase in
our average order size.
Cost of sales: Cost of sales consists of the cost of product sold to customers,
in-bound and out-bound shipping costs, inventory reserves, commissions and
packing materials. Cost of sales for the year ended December 31, 2005 totaled
$35,816,000, resulting in gross margin of approximately 39.1%. Cost of sales for
the year ended December 31, 2004 totaled $27,393,000, resulting in gross margin
of 37.5%. The increase in gross margin was driven by our focus on negotiating
better prices with vendors as well as our strategy of selling more in-season
product, which has more value to our customer and therefore demands higher
margins, and the timing of our promotions. As our inventory composition was
heavily weighted with newer higher margin product there was less lower margin
inventory to negatively affect the margins than there was in 2004.
Gross Profit: As a result of the increases in net sales and gross margin, gross
profit increased by over 40%, to $22,995,000 for the year ended December 31,
2005, from $16,406,000 for the year ended December 31, 2004.
Selling, marketing and fulfillment expenses: Selling, marketing and fulfillment
expenses increased by approximately 42% for the year 2005 compared to the year
ended 2004. The selling, marketing and fulfillment expenses were comprised of
the following:
Year Ended Year Ended Percentage Difference
December 31, 2005 December 31, 2004 increase (decrease)
--------------------- --------------------- ---------------------
Marketing $ 6,961,000 $ 2,120,000 228.3%
Operating 6,925,000 5,848,000 18.4%
Technology 3,567,000 4,086,000 (12.7)%
E-Commerce 2,388,000 1,849,000 29.1%
--------------------- ---------------------
$ 19,841,000 $ 13,903,000 42.7%
As a percentage of net sales, our selling, marketing and fulfillment expenses
increased to 33.7% for the year ended December 31, 2005 from 31.7% for the year
ended December 31, 2004. The increase in selling, marketing and fulfillment
expenses as a percentage of net sales resulted primarily from costs associated
with our national advertising campaign (which was launched in September 2005).
The increase was offset partially from economies of scale in our operations and
technology expenses, as some of the fixed costs involved in maintaining our Web
site and processing orders were allocated over a larger number of orders
Marketing expenses include expenses related to our national ad campaign, online
and print advertising, "sweepstakes" promotions as well as staff related costs.
Marketing expenses increased by a higher percentage than revenue as a result of
the
21
costs associated with our national marketing campaign. Costs in connection with
this campaign are being recorded as the magazines and commercials are being
released. For the year ended December 31, 2005, approximately $3.2 million was
expensed in connection with this campaign.
Operating expenses include all costs related to inventory management,
fulfillment, customer service, and credit card processing. Operating expenses
increased in 2005 by over 18% compared to 2004 as a result of variable costs
associated with the increased sales volume (e.g., picking and packing orders,
processing returns and credit card fees), and was offset by costs associated
with our 2004 temporary clearance store, which closed in April 2005. Operating
costs as a percentage of sales decreased as a result of economies of scale.
Variable expenses related to picking and packing orders increased by 30% to $1.7
million from $1.3 million and credit card fees increased by over 29% to $1.8
million from $1.4 million. Both expenses remained relatively constant as a
percentage of gross sales at 2% for 2005 and 2004.
Technology expenses consist primarily of staff related costs, amortization of
capitalized costs and Web site hosting. For the year ended December 31, 2005,
technology expenses decreased by approximately 13% compared to the year ended
December 31, 2004. This decrease resulted from a decrease in headcount and
salary related expenses, a decrease in depreciation expense, and a decrease in
web hosting expense. These factors were partially offset by an increase in the
costs associated with software support. Depreciation expense for the year ended
December 31, 2005 was lower than depreciation for the year ended December 31,
2004 due to the fact that costs associated with our current platform as well as
certain computer equipment was fully depreciated during 2004.
E-Commerce expenses include expenses related to our photo studio, image
processing, third party software and Web site design. For the year ended
December 31, 2005, this amount increased by approximately 29% as compared to the
year ended December 31, 2004, primarily due to an increase in salary related
expenses as well as an increase in expenses associated with third party
software, third party analytics services and our increased use of outside models
for photo shoots.
General and administrative expenses: General and administrative expenses include
merchandising, finance and administrative salaries and related expenses,
insurance costs, accounting and legal fees, depreciation and other office
related expenses. General and administrative expenses for the year ended
December 31, 2005 decreased slightly to $6,299,000 for the year ended December
2005 as compared to $6,408,000 for the year ended December 31, 2004. The slight
decrease in general and administrative expenses was the result of decreased
salary and benefit expenses, offset by an increase in public company expenses,
and increases in consulting and accounting fees.
As a percentage of net sales, general and administrative expenses decreased to
10.7% in 2005 from 14.6% in 2004.
Loss from operations: Operating loss decreased by over 19% in 2005, to
$3,145,000 from $3,905,000 in 2004 as a result of the increase in gross profit.
Interest expense and interest and other income, net: Interest and other income
for year ended December 31, 2005 decreased to $181,000 from $847,000 for the
year ended December 31, 2004. Interest and other income was higher in 2004
primarily because of $564,000 in non-cash income recognized in 2004 to adjust a
liability associated with warrants issued by us to their fair value as of June
17, 2004 (at which time the warrants were re-classified as equity as described
in Note 6 to our financial statements), as well as $169,000 realized in 2004 in
connection with the judgment we received in the Breider Moore litigation.
Interest expense for the year ended 2005 totaled $856,000 compared to $733,000
for the year ended 2004, and related primarily to fees paid in connection with
the Loan Facility and interest expense on Convertible Notes held by Soros.
LIQUIDITY AND CAPITAL RESOURCES
General
At December 31, 2006, we had approximately $20.2 million in the form of cash and
cash equivalents. Working capital at December 31, 2006 and 2005 was $34.0
million and $17.9 million, respectively. In addition, as of December 31, 2006,
we had approximately $3.2 million committed under the Credit Facility, leaving
approximately $4.3 million of availability, compared to availability of $3.75
million at December 31, 2005.
22
We fund our operations through cash on hand, operating cash flow, as well as the
proceeds of any equity or debt financing. Operating cash flow is affected by
revenue and gross margin levels, as well as return rates. Any deterioration in
any of these financial measures would have a negative impact on our liquidity.
Total availability under the Credit Facility is based primarily upon our
inventory levels. In addition, both availability under the Credit Facility and
our operating cash flows are affected by the payment terms that we receive from
suppliers and service providers, and the extent to which suppliers require us to
request Wells Fargo to provide credit support under the Credit Facility. In some
instances, new vendors may require prepayments. We may also make prepayments in
order to open up these new relationships, or to gain access to inventory that
would not otherwise be available to us. In addition, we sometimes make
prepayments in connection with our advertising campaign, as in some
circumstances we need to pay in advance of production. As of December 31, 2006,
we had approximately $616,000 of prepaid inventory and $102,000 of prepaid
marketing expense on our balance sheet.
Our inventory levels as of December 31, 2006 were approximately $7.3 million
higher than at December 31, 2005. The increase in inventory generally reflects a
ramp up in connection with our sales growth as well as opportunistic buying of
fresh inventory that has not previously been available to us However, the
increased inventory level could adversely affect our flexibility in taking
advantage of other buying opportunities that may become available in the near
term.
On June 15, 2006, we raised $50 million of additional capital through the sale
of 60,975,610 shares of our Common Stock. We used $25 million of the proceeds
from such sale to pay all accrued but unpaid dividends on the Preferred Stock
converted by Soros in connection with such sale and to payoff the convertible
promissory notes held by Soros. The remaining proceeds from the sale will be
used for general corporate purposes. We believe that our current funds, together
with working capital, and operating cash flow, and availability under our
existing Credit Facility will be sufficient to enable us to meet our planned
expenditures through at least the next twelve months.
Credit Facility
In July 2005, we entered into a new three year revolving credit facility
("Credit Facility") with Wells Fargo Retail Finance, LLC ("Wells Fargo").
Pursuant to the Credit Facility, Wells Fargo provides us with a revolving loan
and issues letters of credit in favor of suppliers or factors. The Credit
Facility is secured by a lien on all of our assets. Historically, the Credit
Facility had also been secured by a letter of credit issued by Soros ("the Soros
LC"). In August 2006, Wells Fargo agreed to release the Soros LC, and that it
would no longer require an availability reserve (although it has the right under
the Credit Facility to establish reserves in the future, as it deems
appropriate). In return, we agreed to maintain a minimum cash balance of
$5,000,000. Availability under the Credit Facility is determined by a formula
that takes into account the amount of our inventory and accounts receivable. The
maximum availability is currently $7,500,000, but can be increased to
$12,500,000 at our request, subject to certain conditions. As of December 31,
2006, total availability under the Credit Facility was approximately $7,500,000
of which $3,200,000 was committed, leaving approximately $4,300,000 available
for further borrowings.
Interest accrues monthly on the average daily amount outstanding under the
Credit Facility during the preceding month at a per annum rate equal to the
prime rate plus 0.75% or LIBOR plus 2.75%. We also pay a monthly commitment fee
on the unused portion of the facility (i.e., $7,500,000 less the amount of loans
outstanding) equal to 0.35%. We also pay Wells Fargo certain fees to open
letters of credit and guarantees in an amount equal to a certain specified
percentage of the face amount of the letter of credit for each thirty (30) days
such letter of credit, or a portion thereof, remains open.
Under the terms of the Credit Facility, Soros has the right to purchase all of
our obligations from Wells Fargo at any time if we are then in default under the
Credit Facility.
Commitments and Long Term Obligations
As of December 31, 2006, we had the following commitments and long term
obligations:
More
Less than 1-3 3-5 than 5
Total 1 year years years years
------------- ------------- ------------- -------- --------
Marketing and Advertising 1,068,000 1,068,000 -- -- --
Purchase Orders 6,010,000 6,010,00 -- -- --
Operating Leases 1,421,000 381,000 1,040,000 -- --
Capital Leases 13,000 13,000 -- -- --
Employment Contracts 3,778,000 1,990,000 1,788,000 -- --
Technology 208,000 208,000 -- -- --
------------- ------------- ------------- -------- --------
Grand total $ 12,498,000 $ 9,670,000 $ 2,828,000 -- --
23
We believe that in order to grow our business, we will need to make additional
marketing and advertising commitments in the future. In addition, we expect to
hire and train additional employees for the operations and development of
Bluefly.com. However, our marketing budget and our ability to hire such
employees is subject to a number of factors, including our results of operations
as well as the amount of additional capital that we raise.
Off Balance Sheet Arrangements
Certain warrants issued in conjunction with certain preferred stock financing
transactions are equity linked derivatives and accordingly represent an off
balance sheet arrangement. Each of these warrants meet the scope exception in
paragraph 11(a) of FAS 133 and are accordingly not accounted for as derivatives
for purposes of FAS 133, but instead included as a component of equity. See
Footnote 9 to the financial statements and the Statement of Shareholders' Equity
for more information.
RECENT ACCOUNTING PRONOUNCEMENTS
In September 2006, the Financial Accounting Standards Board ("FASB") issued FASB
Statement No. 157, Fair Value Measurements ("SFAS 157"), which defines fair
value, establishes a framework for measuring fair value in generally accepted
accounting principles, and expands disclosures about fair value measurements.
SFAS 157 is effective for financial statements issued for fiscal years beginning
after November 15, 2007, and interim periods within those fiscal years. Earlier
application is encouraged, provided that the reporting entity has not yet issued
financial statements for that fiscal year, including financial statements for an
interim period within that fiscal year. The Company is evaluating the potential
effects of adopting SFAS 157, and does not expect the adoption to have a
material impact on its financial condition and results of operations.
In September 2006 the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 108 ("SAB 108") which provides interpretive guidance on
how the effects of the carryover or reversal of prior year misstatements should
be considered in quantifying a current year misstatement. SAB 108 is effective
for fiscal years ending after November 15, 2006. The adoption of this
pronouncement will not have an impact on the Company's financial statements.
In July 2006, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 48, "Accounting for Uncertainty in Income Taxes--an
interpretation of FASB Statement No. 109" ("FIN 48"), which clarifies the
accounting for uncertainty in tax positions. This Interpretation requires an
entity to recognize the impact of a tax position in its financial statements if
that position is more likely than not to be sustained on audit based on the
technical merits of the position. The provisions of FIN 48 are effective as of
the beginning of fiscal year 2007, with the cumulative effect of the change in
accounting principle recorded as an adjustment to opening retained earnings.
Early application of FIN 48 is encouraged. The Company is still evaluating the
timing of its adoption of FIN 48 and the potential effects of implementing this
Interpretation on its financial condition and results of operations but does not
expect its adoption to have a material effect on its results of operations due
to the fact that the Company has significant historical losses.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have assessed our vulnerability to certain market risks, including interest
rate risk associated with financial instruments included in cash and cash
equivalents. Due to the short-term nature of these investments we have
determined that the risks associated with interest rate fluctuations related to
these financial instruments do not pose a material risk to us.
24
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary data required by this item are
included in Part IV, Item 15 of this Form 10-K and are presented beginning on
page F-1.
25
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
ITEM 9A. CONTROLS AND PROCEDURES
DISCLOSURE CONTROLS AND PROCEDURES
As of the end of the period covered by this Form 10-K, we carried out an
evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer along with our Chief Financial Officer, of
the effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). Based
upon that evaluation, our Chief Executive Officer along with our Chief Financial
Officer concluded that our disclosure controls and procedures are effective in
ensuring that information required to be disclosed by us in the reports that we
file or submit under the Exchange Act are recorded, processed, summarized and
reported, within the time periods specified in the Securities and Exchange
Commission's rules and forms.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
There have been no changes in our internal control over financial reporting that
occurred during the Company's most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
ITEM 9B. OTHER INFORMATION
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this Item is incorporated by reference to the
Company's definitive proxy statement for the 2007 annual meeting of
stockholders.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference to the
Company's definitive proxy statement for the 2007 annual meeting of
stockholders.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by this Item is incorporated by reference to the
Company's definitive proxy statement for the 2007 annual meeting of
stockholders.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR
INDEPENDENCE
The information required by this Item is incorporated by reference to the
Company's definitive proxy statement for the 2007 annual meeting of
stockholders.
26
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information required by this Item is incorporated by reference to the
Company's definitive proxy statement for the 2007 annual meeting of
stockholders.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) 1. Financial Statements:
Report of Independent Registered Public Accounting Firm
Balance Sheets as of December 31, 2006 and 2005
Statements of Operations for the three years ended December 31, 2006,
2005 and 2004
Statements of Changes in Shareholders' Equity for the three years ended
December 31, 2006, 2005 and 2004 Statements of Cash Flows for the three
years ended December 31, 2006, 2005 and 2004 Notes to Financial
Statements
2. Financial Statement Schedules:
Schedule II - Valuation and Qualifying Accounts
3. Exhibits:
EXHIBIT NO. DESCRIPTION
----------- ------------------------------------------------------------------
3.1 (e) Certificate of Incorporation of the Company.
3.2 (e) By-Laws of the Company.
3.6 (n) Certificate of Powers, Designations, Preferences and rights of
Series F Preferred Stock of the Company.
10.1 (c) Amended and Restated 1997 Stock Option Plan.
10.2 (a) Lease Agreement by and between the Company and John R. Perlman,
et al., dated as of May 5, 1997.
10.3 (b) Lease by and between the Company and Adams & Co. Real Estate,
Inc., dated March 22, 1999.
10.4 (c) Lease by and between the Company and Adams & Co. Real Estate,
Inc., dated May 4, 2000.
10.5 (d) Bluefly, Inc. 2000 Stock Option Plan.
10.6 (d) Investment Agreement, dated November 13, 2000, by and among the
Company, Bluefly Merger Sub, Inc., Quantum Industrial Partners
LDC and SFM Domestic Investments LLC.
*10.7 (e) Software License and Services Agreement, dated March 12, 2002, by
and among the Company and Blue Martini Software, Inc.
10.8 (f) Warrant No. 1 dated March 27, 2002, issued to Quantum Industrial
Partners LDC.
10.9 (f) Warrant No. 2 dated March 27, 2002, issued to SFM Domestic
Investments LLC.
10.10 (f) Warrant No. 3 dated March 30, 2002, issued to Quantum Industrial
Partners LDC.
10.11 (f) Warrant No. 4 dated March 30, 2002, issued to SFM Domestic
Investments LLC.
10.12 (g) Common Stock and Warrant Purchase Agreement, dated May 24,
2002, by and between the Registrant and the investors listed
on Schedule 1 thereto.
10.13 Employment Agreement, dated as of November 14, 2006, by and between
the Company and Patrick Barry.
10.14 (h) Note and Warrant Purchase Agreement, dated January 28, 2003, by and
between the Registrant and the investors listed on Schedule 1
thereto.
27
10.15 (h) Warrant No. 1 dated January 28, 2003, issued to Quantum Industrial
Partners LDC.
10.16 (h) Warrant No. 2 dated January 28, 2003, issued to SFM Domestic
Investments LLC.
10.17 (h) Warrant No. 4 dated March 17, 2003, issued to Quantum Industrial
Partners LDC.
10.18 (h) Warrant No. 5 dated March 17, 2003, issued to SFM Domestic
Investments LLC.
10.19 Employment Agreement dated as of November 14, 2006 by and between
Bluefly, Inc. and Melissa Payner-Gregor.
10.20 (i) Common Stock and Warrant Purchase Agreement dated January 9,
2004 by and among the Company and the Investors listed on
Schedule 1 thereto.
*10.21 (j) CallTech Master Agreement for Outsourcing Contact Center Support,
dated as of August 5, 2004, by and between the Registrant and
CallTech Communications, LLC.
10.22 (k) Bluefly, Inc. 2005 Stock Incentive Plan.
*10.23 (l) Master Service Agreement, dated as of February 28, 2005, by and
between the Company and Level 3 Communications, LLC.
*10.24 (l) Customer Order Addendum, dated as of February 28, 2005, by and
between the Company and Level 3 Communications, LLC.
*10.25 (m) Master Services Agreement, dated as of March 21, 2005, by and
between the Company and NewRoads, Inc.
*10.26 (m) Statement of Work 1 by and between the Company and NewRoads, Inc.
10.27 (n) Preferred Stock and Warrant Purchase Agreement, dated as of
June 24, 2005, by and among the Company and the Investors listed
on the signature page thereto.
10.28 (o) Loan and Security Agreement, dated July 26, 2005, by and between
the Company and Wells Fargo Retail Finance, LLC.
10.29 (p) Employment Agreement, dated as of September 19, 2005, by and
between the Company and Bradford Matson.
10.30 (q) Stock Purchase Agreement, dated as of June 5, 2006, by and among
Bluefly, Inc., Quantum Industrial Partners LDC, SFM Domestic
Investments, LLC and the investors listed on the signature pages
attached thereto.
10.31 (q) Form of Voting Agreement by and among Bluefly, Inc., Quantum
Industrial Partners LDC, SFM Domestic Investments, LLC, Maverick
Fund USA, Ltd., Maverick Fund, L.D.C., Maverick Fund II, Ltd. And
Prentice-Bluefly, LLC.
10.32 (q) Fee Letter, dated June 5, 2006, by and among Bluefly, Inc.,
Quantum Industrial Partners LDC and SFM Domestic Investments,
LLC.
10.33 (q) Waiver Letter, dated June 5, 2006, by and between Bluefly, Inc.
and Wells Fargo Retail Finance, LLC.
10.34 (r) First Amendment to Loan and Security Agreement, dated as of
August 14, 2006, by and between the Company and Wells Fargo
Retail Finance, LLC
10.35 (s) Master License Agreement, dated as of September 28, 2006, by and
between the Company and Art Technology Group, Inc.
28
23.1 Consent of PricewaterhouseCoopers LLP.
31.1 Certification Pursuant to Rule 13a-14(a)/15d-14(a).
31.2 Certification Pursuant to Rule 13a-14(a)/15d-14(a).
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
* Confidential treatment has been granted as to certain portions of this
Exhibit. Such portions have been redacted.
(a) Incorporated by reference to the Company's Quarterly report filed on Form
10-QSB for the quarterly period ended March 31, 1997.
(b) Incorporated by reference to the Company's Quarterly report filed on Form
10-QSB for the quarterly period ended June 30, 1999.
(c) Incorporated by reference to the Company's Quarterly report filed on Form
10-Q for the quarterly period ended June 30, 2000.
(d) Incorporated by reference to the Company's Quarterly report filed on Form
10-Q for the quarterly period ended September 30, 2000.
(e) Incorporated by reference to the Company's Annual report filed on Form 10-K
for the year ended December 31, 2000.
(f) Incorporated by reference to the Company's Annual report filed on Form 10-K
for the year ended December 31, 2001.
(g) Incorporated by reference to the Company's Quarterly report filed on Form
10-Q for the quarterly period ended June 30, 2002.
(h) Incorporated by reference to the Company's Annual Report filed on Form 10-K
for the year ended December 31, 2002.
(i) Incorporated by reference to the Company's current report on Form 8-K,
dated January 13, 2004.
(j) Incorporated by reference to the Company's quarterly report on Form 10-Q
for the quarterly period ended June 30, 2004.
(k) Incorporated by reference to the Company's annual report on Form 10-K for
the year ended December 31, 2005.
(l) Incorporated by reference to the Company's current report on Form 8-K,
dated March 4, 2005.
(m) Incorporated by reference to the Company's current report on Form 8-K,
dated March 23, 2005.
(n) Incorporated by reference to the Company's current report on Form 8-K,
dated June 28, 2005.
(o) Incorporated by reference to the Company's current report on Form 8-K,
dated July 29, 2005.
(p) Incorporated by reference to the Company's current report on Form 8-K,
dated September 22, 2005.
(q) Incorporated by reference to the Company's current report on Form 8-K,
dated June 7, 2006.
(r) Incorporated by reference to the Company's current report on Form 8-K,
dated August 14, 2006.
(s) Incorporated by reference to the Company's current report on Form 8-K,
dated October 3, 2006.
29
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
BLUEFLY, INC.
By: /s/ Melissa Payner-Gregor
---------------------------
Melissa Payner-Gregor
Chief Executive Officer and
President
February 28, 2007
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
------------------------- ------------------------------------------------------ -----------------
/s/ David Wassong Interim Chairman of Board February 28, 2007
-------------------------
David Wassong
/s/ Melissa Payner-Gregor Chief Executive Officer (Principal Executive Officer), February 28, 2007
------------------------- President and Director
Melissa Payner-Gregor
/s/ Patrick C. Barry Chief Financial Officer and Chief Operating February 28, 2007
------------------------- Officer (Principal Accounting Officer)
Patrick C. Barry
/s/ Barry Erdos
------------------------- Director February 28, 2007
Barry Erdos
s/Michael Gross
------------------------- Director February 28, 2007
Michael Gross
/s/ Ann Jackson
------------------------- Director February 28, 2007
Ann Jackson
/s/ Martin Miller
------------------------- Director February 28, 2007
Martin Miller
/s/ Neal Moszkowski
------------------------- Director February 28, 2007
Neal Moszkowski
/s/Christopher McCann
------------------------- Director February 28,2007
Christopher McCann
/s/ Alex Rafal
------------------------- Director February 28, 2007
Alex Rafal
30
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
of Bluefly, Inc.:
In our opinion, the financial statements listed in the accompanying index
present fairly, in all material respects, the financial position of Bluefly,
Inc. at December 31, 2006 and December 31, 2005, and the results of its
operations and its cash flows for each of the three years in the period ended
December 31, 2006 in conformity with accounting principles generally accepted in
the United States of America. In addition, in our opinion, the financial
statement schedule listed in the accompanying index presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related financial statements. These financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
financial statement schedule based on our audits. We conducted our audits of
these statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). 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, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
As discussed in Note 2 to the financial statements, the Company changed the
manner in which it accounts for stock-based compensation in 2006.
/s/ PricewaterhouseCoopers LLP
New York, New York
February 26, 2007
F-1
BLUEFLY, INC.
BALANCE SHEETS
DECEMBER 31, 2006 AND 2005
(dollars rounded to the nearest thousand)
--------------------------------------------------------------------------------
2006 2005
-------------- --------------
ASSETS
Current assets
Cash and cash equivalents $ 20,188,000 $ 9,408,000
Inventories, net 24,189,000 16,893,000
Accounts receivable, net of allowance for doubtful accounts 2,719,000 1,717,000
Prepaid expenses and other current assets 1,510,000 1,819,000
-------------- --------------
Total current assets 48,606,000 29,837,000
Property and equipment, net 3,573,000 2,895,000
Other assets 251,000 313,000
-------------- --------------
Total assets $ 52,430,000 $ 33,045,000
============== ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 4,822,000 $ 5,662,000
Allowance for sales returns 5,043,000 3,407,000
Accrued expenses and other current liabilities 1,908,000 1,083,000
Deferred revenue 2,830,000 1,784,000
-------------- --------------
Total current liabilities 14,603,000 11,936,000
Notes payable to related party shareholders - 4,000,000
Long-term interest payable to related party shareholders - 1,217,000
Long-term obligations under capital lease - 27,000
-------------- --------------
Total liabilities 14,603,000 17,180,000
============== ==============
Commitments and contingencies (Note 8)
Shareholders' equity
Series A Preferred Stock - $.01 par value; 500,000 shares authorized, 0 and
460,000 shares issued and outstanding as of December 31, 2006 and 2005,
respectively (liquidation preference at December 31, 2005: $9.2 million plus
$5.9 million of accrued dividends) - 5,000
Series B Preferred Stock - $.01 par value; 9,000,000 shares authorized, 0 and
8,889,414 shares issued and outstanding as of December 31, 2006 and 2005,
respectively (liquidation preference at December 31, 2005: $30 million plus
$9.5 million of accrued dividends) - 89,000
Series C Preferred Stock - $.01 par value; 3,500 shares authorized, 0 and 1,000
shares issued and outstanding as of December 31, 2006 and 2005, respectively
(liquidation preference at December 31, 2005: $1 million plus $286,000 of
accrued dividends) - -
Series D Preferred Stock - $.01 par value; 7,150 shares authorized, 0 and
6,313.43 shares issued and outstanding as of December 31, 2006 and 2005,
respectively (liquidation preference at December 31, 2005: $6.3 million plus
$2.4 million of accrued dividends) - -
Series E Preferred Stock - $.01 par value; 1,000 shares authorized, 0 and 1,000
issued and outstanding as of December 31, 2006 and 2005, respectively
(liquidation preference at December 31, 2005: $1.0 million plus $347,000 of
accrued dividends) - -
Series F Preferred Stock - $.01 par value; 7,000 shares authorized, 571.43 and
5,279.714 issued and outstanding as of December 31, 2006 and 2005,
respectively (liquidation preference at December 31, 2006: $571,000 plus
$62,000 of accrued dividends, at December 31, 2005: $5.3 million plus accrued
dividends of $192,000) - -
Common Stock - $.01 par value; 152,000,000 and 92,000,000 shares authorized,
130,484,854 and 19,059,166 shares issued and outstanding as of December 31,
2006 and 2005, respectively 1,305,000 191,000
Additional paid-in capital 152,519,000 115,527,000
Accumulated deficit (115,997,000) (99,947,000)
-------------- --------------
Total shareholders' equity 37,827,000 15,865,000
-------------- --------------
Total liabilities and shareholders' equity $ 52,430,000 $ 33,045,000
============== ==============
The accompanying notes are an integral part of these financial statements.
F-2
BLUEFLY, INC.
STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004
(dollars rounded to the nearest thousand)
--------------------------------------------------------------------------------
2006 2005 2004
------------- ------------- -------------
Net sales $ 77,062,000 $ 58,811,000 $ 43,799,000
Cost of sales 46,153,000 35,816,000 27,393,000
------------- ------------- -------------
Gross profit 30,909,000 22,995,000 16,406,000
Marketing expenses 14,196,000 6,961,000 2,120,000
Selling and fulfillment expenses 15,808,000 12,880,000 11,783,000
General and administrative expenses 13,001,000 6,299,000 6,408,000
------------- ------------- -------------
Total operating expenses 43,005,000 26,140,000 20,311,000
------------- ------------- -------------
Operating loss (12,096,000) (3,145,000) (3,905,000)
Interest expense (599,000) (856,000) (733,000)
Interest income 502,000 181,000 114,000
Other income (Note 6) - - 733,000
------------- ------------- -------------
Net loss (12,193,000) (3,820,000) (3,791,000)
------------- ------------- -------------
Preferred stock dividends (2,252,000) (4,958,000) (4,275,000)
Deemed dividend related to beneficial conversion
feature on Series F Preferred Stock (3,857,000) - -
------------- ------------- -------------
Net loss available to common shareholders $ (18,302,000) $ (8,778,000) $ (8,066,000)
============= ============= =============
Basic and diluted loss per common share $ (0.23) $ (0.54) $ (0.55)
============= ============= =============
Weighted average number of shares outstanding used in
calculating basic and diluted loss per common share 80,170,532 16,153,020 14,586,752
============= ============= =============
The accompanying notes are an integral part of these financial statements.
F-3
BLUEFLY, INC.
STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004
(Dollars rounded to the nearest thousand)
--------------------------------------------------------------------------------
SERIES A SERIES B
PREFERRED STOCK PREFERRED STOCK
$.01 PAR VALUE $.01 PAR VALUE
------------------------------- -------------------------------
NUMBER OF NUMBER OF
SHARES AMOUNT SHARES AMOUNT
-------------- -------------- -------------- --------------
Balance at January 1, 2004 460,000 $ 5,000 8,889,414 $ 89,000
-------------- -------------- -------------- --------------
Sale of Common Stock and Warrants in
connection with the January 2004 financing
(net of issuance costs of $423,000) - - - -
Change in Value of Warrants - - - -
Exercise of Employee Stock Options - - - -
Expense recognized in connection with
Issuance of Options - - - -
Net loss - - - -
-------------- -------------- -------------- --------------
Balance at December 31, 2004 460,000 $ 5,000 8,889,414 $ 89,000
-------------- -------------- -------------- --------------
Sale of Series F Preferred Stock
($1,000 per share net of expenses of $249,000) - - - -
Shares Of Series D Preferred Stock
Converted into Common Stock - - - -
Shares Of Series F Preferred Stock
Converted into Common Stock - - - -
Expense recognized in connection with
Issuance of Options - - - -
Exercise of Employee Options - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2005 460,000 5,000 8,889,414 89,000
============== ============== ============== ==============
Conversion of Preferred Stock (460,000) (5,000) (8,889,414) (89,000)
Stock based compensation - - - -
Sale of Common Stock, net of issuance
expenses of approximately $2.0 million - - - -
Issuance of Common Stock to Placement Agent - - - -
Warrants Issued to Third-Party - - - -
Dividends Paid to Related Party Shareholders - - - -
Deemed Dividends related to beneficial
conversion on Series F Preferred Stock - - - -
Exercise of Employee Options - - - -
Issuance of Restricted Stock - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2006 - $ - - $ -
============== ============== ============== ==============
SERIES C SERIES D
PREFERRED STOCK PREFERRED STOCK
$.01 PAR VALUE $.01 PAR VALUE
------------------------------- -------------------------------
NUMBER OF NUMBER OF
SHARES AMOUNT SHARES AMOUNT
-------------- -------------- -------------- --------------
Balance at January 1, 2004 1,000 $ - 7,136 $ -
-------------- -------------- -------------- --------------
Sale of Common Stock and Warrants in
connection with the January 2004 financing
(net of issuance costs of $423,000) - - - -
Change in Value of Warrants - - - -
Exercise of Employee Stock Options - - - -
Expense recognized in connection with
Issuance of Options - - - -
Net loss - - - -
-------------- -------------- -------------- --------------
Balance at December 31, 2004 1,000 $ - 7,136 $ -
-------------- -------------- -------------- --------------
Sale of Series F Preferred Stock
($1,000 per share net of expenses of $249,000) - - - -
Shares Of Series D Preferred Stock
Converted into Common Stock - - (823) $ -
Shares Of Series F Preferred Stock
Converted into Common Stock - - - -
Expense recognized in connection with
Issuance of Options - - - -
Exercise of Employee Options - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2005 1,000 - 6,313 $ -
============== ============== ============== ==============
Conversion of Preferred Stock (1,000) - (6,313) -
Stock based compensation - - - -
Sale of Common Stock, net of issuance
expenses of approximately $2.0 million - - - -
Issuance of Common Stock to Placement Agent - - - -
Warrants Issued to Third-Party - - - -
Dividends Paid to Related Party Shareholders - - - -
Deemed Dividends related to beneficial
conversion on Series F Preferred Stock - - - -
Exercise of Employee Options - - - -
Issuance of Restricted Stock - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2006 - $ - - $ -
============== ============== ============== ==============
SERIES E SERIES F
PREFERRED STOCK PREFERRED STOCK
$.01 PAR VALUE $.01 PAR VALUE
------------------------------- -------------------------------
NUMBER OF NUMBER OF
SHARES AMOUNT SHARES AMOUNT
-------------- -------------- -------------- --------------
Balance at January 1, 2004 1,000 $ - - $ -
-------------- -------------- -------------- --------------
Sale of Common Stock and Warrants in
connection with the January 2004 financing
(net of issuance costs of $423,000) - - - -
Change in Value of Warrants - - - -
Exercise of Employee Stock Options - - - -
Expense recognized in connection with
Issuance of Options - - - -
Net loss - - - -
-------------- --------------- -------------- --------------
Balance at December 31, 2004 1,000 $ - - $ -
-------------- --------------- -------------- --------------
Sale of Series F Preferred Stock
($1,000 per share net of expenses of $249,000) - - 7,000 -
Shares Of Series D Preferred Stock
Converted into Common Stock - - - -
Shares Of Series F Preferred Stock
Converted into Common Stock - - (1,720) $ -
Expense recognized in connection with
Issuance of Options - - - -
Exercise of Employee Options - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2005 1,000 - 5,280 -
============== ============== ============== ==============
Conversion of Preferred Stock (1,000) - (4,709) -
Stock based compensation - - - -
Sale of Common Stock, net of issuance
expenses of approximately $2.0 million - - - -
Issuance of Common Stock to Placement Agent - - - -
Warrants Issued to Third-Party - - - -
Dividends Paid to Related Party Shareholders - - - -
Deemed Dividends related to beneficial
conversion on Series F Preferred Stock - - - -
Exercise of Employee Options - - - -
Issuance of Restricted Stock - - - -
Net Loss - - - -
============== ============== ============== ==============
Balance at December 31, 2006 - $ - 571 $ -
============== ============== ============== ==============
COMMON STOCK
$.01 PAR VALUE
------------------------------- ADDITIONAL TOTAL
NUMBER OF PAID-IN ACCUMULATED SHAREHOLDERS'
SHARES AMOUNT CAPITAL DEFICIT EQUITY
-------------- -------------- -------------- -------------- --------------
Balance at January 1, 2004 12,894,166 $ 129,000 $ 102,392,000 $ (92,336,000) $ 10,279,000
-------------- -------------- -------------- -------------- --------------
Sale of Common Stock and Warrants in
connection with the January 2004 financing
(net of issuance costs of $423,000) 1,543,209 15,000 4,562,000 - 4,577,000
Change in Value of Warrants - - (564,000) - (564,000)
Exercise of Employee Stock Options 804,381 8,000 733,000 - 741,000
Expense recognized in connection with
Issuance of Options - - 147,000 - 147,000
Net loss - - - (3,791,000) (3,791,000)
-------------- -------------- -------------- -------------- --------------
Balance at December 31, 2004 15,241,756 $ 152,000 $ 107,270,000 $ (96,127,000) $ 11,389,000
-------------- -------------- -------------- -------------- --------------
Sale of Series F Preferred Stock
($1,000 per share net of expenses of $249,000) - - 6,751,000 - 6,751,000
Shares Of Series D Preferred Stock
Converted into Common Stock 1,454,645 15,000 (15,000) - -
Shares Of Series F Preferred Stock
Converted into Common Stock 765,481 8,000 (8,000) - -
Expense recognized in connection with
Issuance of Options - - 41,000 - 41,000
Exercise of Employee Options 1,597,284 16,000 1,488,000 - 1,504,000
Net Loss - - - (3,820,000) (3,820,000)
============== ============== ============== ============== ==============
Balance at December 31, 2005 19,059,166 $ 191,000 $ 115,527,000 $ (99,947,000) $ 15,865,000
============== ============== ============== ============== ==============
Conversion of Preferred Stock 48,545,527 485,000 (391,000) - -
Stock based compensation 4,454,000 - 4,454,000
Sale of Common Stock, net of issuance
expenses of approximately $2.0 million 60,975,610 610,000 47,420,000 - 48,030,000
Issuance of Common Stock to Placement Agent 1,000,000 10,000 1,070,000 - 1,080,000
Warrants Issued to Third-Party - - 67,000 - 67,000
Dividends Paid to Related Party Shareholders - - (19,512,000) - (19,512,000)
Deemed Dividends related to beneficial
conversion on Series F Preferred Stock - - 3,857,000 (3,857,000) -
Exercise of Employee Options 43,330 - 36,000 - 36,000
Issuance of Restricted Stock 861,221 9,000 (9,000) - -
Net Loss - - - (12,193,000) (12,193,000)
============== ============== ============== ============== ==============
Balance at December 31, 2006 130,484,854 $ 1,305,000 $ 152,519,000 $ (115,997,000) $ 37,827,000
============== ============== ============== ============== ==============
The accompanying notes are an integral part of these financial statements.
F-4
BLUEFLY, INC.
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004
--------------------------------------------------------------------------------
2006 2005 2004
------------- ------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (12,193,000) $ (3,820,000) $ (3,791,000)
Adjustments to reconcile net loss to net cash used in
operating activities
Depreciation and amortization 1,532,000 1,259,000 1,342,000
Loss on disposal of assets - - 35,000
Non-cash expense related to warrants issued to supplier 153,000 347,000 264,000
Change in value of warrants - - (564,000)
Provision for returns 1,636,000 1,233,000 (354,000)
Bad debt expense 643,000 270,000 237,000
Reserve for inventory obsolesence 1,000,000 659,000 100,000
Stock based compensation 4,454,000 41,000 147,000
Warrant issued to consultant 67,000 - -
Changes in operating assets and liabilities
(Increase) decrease in
Inventories (8,449,000) (4,941,000) (1,982,000)
Accounts receivable (1,645,000) (778,000) (289,000)
Other current assets (134,000) 554,000 (269,000)
Prepaid expenses 443,000 (1,020,000) (127,000)
Other assets - (187,000) -
(Decrease) increase in:
Accounts payable (840,000) 1,472,000 1,068,000
Accrued expenses 1,932,000 (171,000) 186,000
Interest payable to related party shareholders (1,217,000) 559,000 519,000
Deferred revenue 1,046,000 87,000 445,000
------------- ------------- -------------
Net cash used in operating activities (11,572,000) (4,436,000) (3,033,000)
------------- ------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Cash collateral in connection with Rosenthal
Pledge Agreement - 1,250,000 (1,250,000)
Purchase of property and equipment (2,148,000) (2,194,000) (1,486,000)
------------- ------------- -------------
Net cash used in investing activities (2,148,000) (944,000) (2,736,000)
------------- ------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds from June 2006 financing 48,030,000 - -
Net proceeds from June 2005 financing - 6,751,000 -
Net proceeds from January 2004 financing - - 4,577,000
Net proceeds from exercise of Stock Options 36,000 1,504,000 741,000
Payments of capital lease obligation (54,000) (152,000) (349,000)
Dividends paid to related party shareholders (19,512,000)
Repayment of related party notes (4,000,000) - (236,000)
------------- ------------- -------------
Net cash provided by financing activities 24,500,000 8,103,000 4,733,000
------------- ------------- -------------
Net increase (decrease) in cash and
cash equivalents 10,780,000 2,723,000 (1,036,000)
CASH AND CASH EQUIVALENTS
Beginning of year 9,408,000 6,685,000 7,721,000
------------- ------------- -------------
End of year $ 20,188,000 $ 9,408,000 $ 6,685,000
------------- ------------- -------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for interest $ 1,658,000 $ 147,000 $ 175,000
============= ============= =============
Non-cash investing and financing activites
Deemed dividend related to beneficial
conversion feature on Series F Preferred Stock $ 3,857,000 - -
============= ============= =============
Issuance of Common Stock to placement agent $ 1,080,000 - -
============= ============= =============
Conversion of Preferred Stock to Common Stock $ 391,000 - -
============= ============= =============
Equipment acquired under capital lease $ - - 153,000
============= ============= =============
The accompanying notes are an integral part of these financial statements.
F-5
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
1. THE COMPANY
Bluefly, Inc., a Delaware corporation, (the "Company"), is a leading
Internet retailer that sells over 350 brands of designer apparel,
accessories and home products at discount prices. The Company's e-commerce
Web site ("Bluefly.com" or "Web site") was launched in September 1998. The
Company operates in one business segment that has no operations outside the
United States.
The Company has sustained net losses and negative cash flows from
operations since the formation of Bluefly.com. The Company's ability to
meet its obligations in the ordinary course of business is dependent upon
its ability to establish profitable operations or raise additional
financing through public or private debt or equity financing, or other
sources of financing to fund operations. The Company believes that its
existing resources, together with working capital should be sufficient to
satisfy its cash requirements through at least December 31, 2007. The
Company may seek additional equity or debt financings to maximize the
growth of its business or if anticipated operating results are not
achieved.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
REVENUE RECOGNITION
The Company recognizes revenue in accordance with Staff Accounting Bulletin
("SAB 104") No. 104 "Revenue Recognition." Gross sales consists primarily
of revenue from product sales and shipping and handling charges and is net
of promotional discounts. Net sales represent gross sales, less provisions
for returns, credit card chargebacks and adjustments for uncollected sales
tax. Revenue is recognized when all the following criteria are met:
o A customer executes an order.
o The product price and the shipping and handling fee have been
determined.
o Credit card authorization has occurred and collection is reasonably
assured.
o The product has been shipped and received by the customer.
Shipping and handling billed to customers is classified as revenue in
accordance with Financial Accounting Standards Board ("FASB") Task Force's
Emerging Issues Task Force ("EITF") No. 00-10, "Accounting for Shipping and
Handling Fees and Costs" ("EITF No. 00-10").
PROVISIONS FOR SALES RETURNS AND DOUBTFUL ACCOUNTS
The Company generally permits returns for any reason within 90 days of the
sale. The Company performs credit card authorizations and checks the
verifications of its customers prior to shipment of merchandise.
Accordingly, the Company establishes a reserve for estimated future sales
returns and allowance for doubtful accounts at the time of shipment based
primarily on historical data. Accounts receivable is presented on the
consolidated balance sheet net of the allowance for doubtful accounts. As
of December 31, 2006 and 2005, the allowance for doubtful accounts was
$397,000 and $78,000, respectively, and the allowance for sales returns was
$5,043,000 and $3,407,000, respectively.
F-6
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
Deferred revenue, which consists primarily of goods shipped to customers
but not yet received and customer credits, totaled approximately $2,830,000
and $1,784,000 as of December 31, 2006 and 2005, respectively.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with an original
maturity of three months or less to be cash and cash equivalents.
INVENTORIES
Inventories, which consist of finished goods, are stated at the lower of
cost or market. Cost is determined by the first-in, first-out ("FIFO")
method. The Company reviews its inventory levels in order to identify
slow-moving merchandise and establishes a reserve for such merchandise.
Inventory reserves are established based on historical data and
management's best estimate of excess inventory. Inventory may be marked
down below cost if management determines that the inventory stock will not
sell at its currently marked price. Inventory is presented net of reserves
on the consolidated balance sheet.
As of December 31, 2006 and 2005, inventories, net consists of the
following:
2006 2005
------------ ------------
Inventory on hand $ 23,150,000 $ 15,811,000
Inventory to be received due to returns 2,094,000 1,864,000
Inventory reserves (1,055,000) (782,000)
------------ ------------
Total inventories, net $ 24,189,000 $ 16,893,000
============ ============
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost net of depreciation. Equipment
and software are depreciated on a straight-line basis over two to seven
years. Leasehold improvements are amortized over the shorter of their
estimated useful lives or the term of the lease. Lease amortization is
included in depreciation expense. Maintenance and repairs are expensed as
incurred.
Certain equipment held under capital leases is classified as property and
equipment and amortized using the straight-line method over the lease terms
and the related obligations are recorded as liabilities.
Costs related to the upgrade and development of the Web Site are accounted
for in accordance with EITF Issue No. 00-02 "Accounting for Website
Development Costs", and to the extent they are capitalized, are amortized
over 36 months.
LONG-LIVED ASSETS
The Company's policy is to evaluate long-lived assets for possible
impairment whenever events or changes in circumstances indicate that the
carrying amount of such assets may not be recoverable. This evaluation is
based on a number of factors, including expectations for operating income
and undiscounted cash flows that will result from the use of such assets.
The Company has not identified any such impairment of assets.
F-7
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
INCOME TAXES
The Company recognizes deferred income tax assets and liabilities on the
differences between the financial statement and tax bases of assets and
liabilities using enacted statutory tax rates in effect for the years in
which the differences are expected to reverse. The effect on deferred taxes
of a change in tax rates is realized in income or loss in the period that
includes the enactment date. In addition, valuation allowances are
established when it is more likely than not that deferred tax assets will
not be realized.
STOCK-BASED COMPENSATION
The Company's Board of Directors has adopted three stock based employee
compensation plans, one in April 2005, one in July 2000 and the other in
May 1997 (collectively the "Plans"), which are described more fully in Note
9. The Plans, which provide for the granting of restricted stock, deferred
stock unit awards and stock options, and other equity and cash awards, were
adopted for the purpose of encouraging key employees, consultants and
directors who are not employees to acquire a proprietary interest in the
growth and performance of the Company, and are similar in nature. Vesting
term for restricted stock generally range from one quarter to one year,
while deferred stock unit awards vest quarterly over one to three years.
Options are granted in terms not to exceed ten years and become exercisable
as specified when the option is granted and vesting terms range from
immediately to a ratable vesting period of four years. The Plans have an
aggregate of 15,700,000 shares authorized for issuance.
Before January 1, 2006, the Company accounted for stock-based compensation
under the recognition and measurement principles of Accounting Principles
Board Opinion ("APB") No. 25, "Accounting for Stock Issued to Employees"
("APB 25"), and related interpretations. The Company did not recognize
compensation expense related to stock options granted to employees and
directors where the exercise price was at or above fair value at the date
of grant. Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation," established accounting and disclosure
requirements using a fair-value-based method of accounting for stock-based
employee compensation plans. As permitted by SFAS No. 123, the Company
elected to continue to apply the intrinsic-value-based method of APB No. 25
described above, and adopted only the disclosure requirements of SFAS No.
123, as amended by SFAS No. 148, "Accounting For Stock-Based Compensation -
Transition and Disclosure."
On January 1, 2006, the start of the first quarter of fiscal 2006, the
Company adopted the provisions of Statement of Financial Accounting
Standards No. 123 (revised 2004), "Share-Based Payment" ("SFAS No.
123(R)"), which requires that the costs resulting from all share-based
payment transactions be recognized in the financial statements at their
fair values. The Company adopted SFAS No. 123(R) using the modified
prospective application method under which the provisions of SFAS No.
123(R) apply to new awards and to awards modified, repurchased, or
cancelled after the adoption date. Additionally, compensation cost for the
portion of the awards for which the requisite service has not been rendered
that are outstanding as of the adoption date is recognized in the Statement
of Operations over the remaining service period after the adoption date
based on the award's original estimate of fair value. Results for prior
periods have not been restated. Total share-based compensation expense
recorded in the Statement of Operations for the year ended December 31,
2006 is $4,454,000.
On March 29, 2005, the SEC published Staff Accounting Bulletin ("SAB") No.
107, which provides the Staff's views on a variety of matters relating to
stock-based payments. SAB No. 107 requires stock-based compensation be
classified in the same expense line items as cash
F-8
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
compensation. The application of SFAS No. 123(R) had an effect on full year
2006 reported amounts relative to amounts that would have been reported
using the intrinsic value method under previous accounting. As a result of
adopting SFAS No. 123(R), the Company's operating loss and net loss for the
year ended December 31, 2006 was $4,424,000 higher than if it had continued
to account for share-based compensation under APB No. 25. Basic and diluted
loss per share for the year ended December 31, 2006 would have been $0.06
per share, lower, respectively, if the Company had not adopted SFAS
No.123(R). There was no effect on the Company's operating cash flows.
The following table illustrates the effect on net loss and net loss per
common share applicable to common stockholders for the years ended December
31, 2005 and 2004 as if the Company had applied the fair value recognition
provisions for stock-based employee compensation of SFAS No. 123, as
amended. For the year ended December 31, 2005, and 2004 compensation
expense of $30,000 and $17,000, respectively, was recorded in connection
with certain options issued below market value to the Company's Chief
Executive Officer in accordance with the terms of her employment agreement.
In addition, for the year ended December 31, 2004, $113,000 in compensation
expense was recorded in connection with certain options issued to the
Company's former Chief Executive Officer pursuant to his separation
agreement. Except for these options, no compensation expense has been
recorded for the year ended December 31, 2005 and December 31, 2004 in
connection with stock option grants to employees, because the exercise
price of employee stock options equals or exceeds the market price of the
underlying stock on the date of grant. For purposes of the pro forma
presentation, option forfeitures are accounted for as they occurred and no
amounts of compensation expense have been capitalized into inventory or
other assets, but instead were considered as period expenses (in thousands,
except per share data):
YEAR ENDED DECEMBER 31,
-------------------------------
2005 2004
-------------- --------------
Net loss, as reported (3,820,000) $ (3,791,000)
Deduct: total stock-based employee
compensation expense determined
under fair value based methods for all
awards, net of related tax effects (2,731,000) (4,617,000)
Add: Stock-based employee compensation
expense included in reported net loss 30,000 130,000
Adjusted for Preferred Stock Dividends (4,958,000) (4,275,000)
-------------- --------------
Pro forma net loss available to
common shareholders (11,479,000) (12,553,000)
Loss per share
Basic and diluted, as reported $ (0.54) $ (0.55)
Basic and diluted, pro forma $ (0.71) $ (0.86)
NET LOSS PER SHARE
The Company calculated net loss per share in accordance with SFAS No. 128,
"Earnings Per Share." Basic loss per share excludes dilution and is
computed by dividing loss available to common shareholders by the weighted
average number of common shares outstanding for the period. For purposes of
calculating basic and diluted loss per share, the Company presents the
amount of dividends earned but unpaid on the face of the statement of
operations.
F-9
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
Diluted loss per share is computed by dividing loss available to common
shareholders by the weighted average number of common shares outstanding
for the period, adjusted to reflect potentially dilutive securities. Due to
the loss, the following shares of Common Stock issuable pursuant to
options, warrants, Preferred Stock and Convertible Notes were not included
in the computation of diluted earnings per share because the result of such
inclusion would be antidilutive:
COMMON STOCK ISSUABLE
--------------------------------------------------- EXERCISE
2006 2005 2004 PRICES
-------------- -------------- -------------- --------------
SECURITY
Options 5,417,116 8,038,528 9,813,379 $0.69- $16.47
Restricted Stock Awards 10,723,488 (3) - - n/a
Warrants 1,695,893 1,883,393 1,704,945 $0.78 - $3.96
Preferred stock 758,620 (1) 44,516,119 43,323,430
Convertible Notes(2) - - -
(1) At December 31, 2006, there were 571 shares of Series F Convertible
Preferred Stock outstanding that are convertible into approximately
696,341 shares of Common Stock (excluding dividends).
(2) Represents debt issued in connection with the July 2003 financing and
October 2003 financing, which is convertible into equity securities of
the Company sold in any subsequent round of financing, at the holder's
at a price that is equal to the lowest price per share accepted by any
investor in such subsequent round of financing. Until such financing
occurs, such debt is not convertible into Common Stock. At December
31, 2005, such debt was not convertible into Common Stock. In June
2006, all of the convertible notes were repaid.
(3) Includes both Restricted Stock and Restricted Stock Units
MARKETING EXPENSES
In addition to marketing salaries, marketing expenses consist primarily of
online advertising, print and media advertising, costs associated with
sweepstakes, direct mail campaigns as well as the related external
production costs. The costs associated with online and print advertising
are expensed as incurred, while the costs associated with direct mail
campaigns are capitalized and charged to expense over the expected future
revenue stream. There were no amounts associated with direct mail campaigns
capitalized at December 31, 2006 and 2005. Production costs related to
print and television are capitalized until they are released.
FULFILLMENT EXPENSES
The Company utilizes a third party to perform all of its order fulfillment
including warehousing, administrative support, returns processing and
receiving labor. For the years ended December 31, 2006, 2005 and 2004,
fulfillment expenses totaled $4,409,000, $3,642,000 and $2,914,000,
respectively. These amounts are included in selling, marketing and
fulfillment expenses in the statement of operations.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments, including cash
and cash equivalents, other assets, accounts payable, and accrued
liabilities, approximate fair value due to their short maturities.
RECENT ACCOUNTING PRONOUNCEMENTS
In September 2006, the Financial Accounting Standards Board ("FASB") issued
FASB Statement No. 157, Fair Value Measurements ("SFAS 157"), which defines
fair value, establishes a
F-10
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
framework for measuring fair value in generally accepted accounting
principles, and expands disclosures about fair value measurements. SFAS 157
is effective for financial statements issued for fiscal years beginning
after November 15, 2007, and interim periods within those fiscal years.
Earlier application is encouraged, provided that the reporting entity has
not yet issued financial statements for that fiscal year, including
financial statements for an interim period within that fiscal year. The
Company is evaluating the potential effects of adopting SFAS 157, and does
not expect the adoption to have a material impact on its financial
condition and results of operations.
In September 2006 the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 108 ("SAB 108") which provides interpretive
guidance on how the effects of the carryover or reversal of prior year
misstatements should be considered in quantifying a current year
misstatement. SAB 108 is effective for fiscal years ending after November
15, 2006. The adoption of this pronouncement will not have a material
impact on the Company's financial statements.
In July 2006, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 48, "Accounting for Uncertainty in Income Taxes--an
interpretation of FASB Statement No. 109" ("FIN 48"), which clarifies the
accounting for uncertainty in tax positions. This Interpretation requires
an entity to recognize the impact of a tax position in its financial
statements if that position is more likely than not to be sustained on
audit based on the technical merits of the position. The provisions of FIN
48 are effective as of the beginning of fiscal year 2007, with the
cumulative effect of the change in accounting principle recorded as an
adjustment to opening retained earnings. Early application of FIN 48 is
encouraged. The Company is still evaluating the timing of its adoption of
FIN 48 and the potential effects of implementing this Interpretation, but
does not expect its adoption to have a material effect on its financial
condition and results of operations due to the fact the Company has
incurred significant losses.
CONCENTRATION
The Company acquired approximately 27.5% and 13.5% of its inventory from
one supplier for fiscal 2006 and 2005, respectively.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Significant estimates and assumptions include
the adequacy of the allowances for sales returns, recoverability of
inventories, useful lives of property and equipment, realization of
deferred tax assets, and the calculations related to
stock-basedcompensation. Actual results could differ from those estimates.
3. PROPERTY AND EQUIPMENT
As of December 31, 2006 and 2005, property and equipment consists of the
following:
F-11
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
2006 2005
-------------- --------------
Leasehold improvements $ 1,814,000 $ 1,658,000
Office equipment 594,000 574,000
Computer equipment and software 9,101,000 7,129,000
-------------- --------------
11,509,000 9,361,000
Less: Accumulated depreciation (7,936,000) (6,466,000)
-------------- --------------
$ 3,573,000 $ 2,895,000
============== ==============
Depreciation and amortization of property and equipment was approximately
$1,419,000, $1,145,000 and $1,331,000, for the years ended December 31,
2006, 2005 and 2004, respectively.
4. PREPAID EXPENSES AND OTHER CURRENT ASSETS
As of December 31, 2006 and 2005, prepaid expenses and other current assets
consist of the following:
2006 2005
-------------- --------------
Prepaid expenses $ 341,000 $ 915,000
Prepaid inventory 616,000 485,000
Other current assets 553,000 419,000
-------------- --------------
$ 1,510,000 $ 1,819,000
============== ==============
5. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
As of December 31, 2006 and 2005, accrued expenses and other current
liabilities consist of the following:
2006 2005
-------------- --------------
Salary, vacation and bonus accrual $ 763,000 $ 574,000
Current portion of capital
lease liability 13,000 40,000
Accrued media expenses 667,000 328,000
Other accrued expenses 465,000 141,000
-------------- --------------
$ 1,908,000 $ 1,083,000
============== ==============
6. OTHER INCOME
In June 2002, the Company entered into an agreement with a third party
investor pursuant to which the investor committed to purchase approximately
$7 million of Common Stock and warrants from the Company. The investor
breached the contract by failing to consummate the investment, although it
did provide the Company with $169,000 as a good faith deposit. In October
2002, the Company filed an action against the investor based on its failure
to consummate the investment, and in December 2003, the court entered
judgment in the Company's favor against the third party investor in the
amount of $3,793,688. In the first quarter of 2004, following the
expiration of all
F-12
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
applicable appeal periods, the Company recognized the good faith deposit of
$169,000 as other income, as a partial recognition of litigation
settlement. Based on the information currently available to it regarding
the investor's finances, the Company does not believe that it will be
successful in collecting a material amount of additional funds as a result
of the damages award.
In addition, as discussed in Note 9, the Company recognized $564,000 of
other income for the year ended December 31, 2004 to adjust a liability
associated with warrants issued by the Company to its fair value as of June
17, 2004 (at which point the liability was reclassified as equity in
accordance with EITF 00-19 and described in Note 9).
7. INCOME TAXES
Significant components of the Company's deferred tax assets and liabilities
as of December 31, are summarized as follows:
2006 2005
-------------- --------------
DEFERRED TAX ASSETS
Net operating losses $ 33,437,000 $ 29,252,000
Depreciation and amortization 285,000 (137,000)
Accounts receivable and inventory reserves 587,000 348,000
Other accruals 313,000 528,000
Stock options (2,201,000) -
Deferred revenue - 721,000
Returns reserve 2,038,000 -
-------------- --------------
34,459,000 30,712,000
Valuation Allowance (34,459,000) (30,712,000)
-------------- --------------
Net deferred tax asset (liability) $ - $ -
============== ==============
The Company is in an accumulated loss position for both financial and
income tax reporting purposes. The Company has U.S. Federal net operating
loss carryforwards of approximately $82,744,000 at December 31, 2006 which
have expiration dates from 2018 through 2025. Approximately $6.4 million of
these net operating loss carryforwards relate to the exercise of employee
stock options. Pursuant to Section 382 of the Internal Revenue Code, the
usage of these net operating loss carryforwards may be limited due to
changes in ownership that have occurred or that may occur in the future.
The Company has not yet determined the impact, if any, that changes in
ownership have had on net operating loss carryforwards. The Company
provided a full valuation allowance on the entire deferred tax asset
balance to reflect the uncertainty regarding the realizability of these
assets due to operating losses incurred since inception.
F-13
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
The Company's effective tax rate differs from the U.S. Federal Statutory
income tax rate of 35% as follows:
2006 2005 2004
------------ ------------ -----------
Statutory federal income tax rate (35.00)% (35.00)% (35.00)%
State tax benefit, net of federal taxes (5.41)% (5.41)% (5.41)%
Other 2.23% 0.27% 0.34%
Valuation allowance on deferred tax asset 38.18% 40.14% 40.07%
------------ ------------ ------------
Effective tax rate 0.00% 0.00% 0.00%
============ ============ ============
8. COMMITMENTS AND CONTINGENCIES
EMPLOYMENT CONTRACTS
During 2006, the Company entered into thirty-six month employment
agreements with its Chief Executive Officer ("CEO ") and Chief Financial
Officer ("CFO"). These employment agreements along with certain other
employment agreements, have terms expiring through July 2009. As of
December 31, 2006, the Company's aggregate cash commitment for future base
salary under these employment contracts is:
2007 $ 1,990,000
2008 1,363,000
2009 425,000
------------
$ 3,778,000
============
LEASES
The Company leases equipment and space under various capital and operating
leases that expire at various dates through 2011. Future minimum lease
payments under capital and operating leases, excluding utilities, that have
initial or remaining non-cancelable terms in excess of one year are as
follows:
Rent expense (including amounts related to commercial rent tax) aggregated
approximately $566,000, $450,000 and $442,000 for the years ended December
31, 2006, 2005, and 2004, respectively.
MARKETING AND TECHNOLOGY COMMITMENTS
As of December 31, 2006, the Company has advertising and marketing
commitments in connection with email services, agency fees and costs in
connection with a national ad campaign of approximately $1,068,000 through
December 31, 2007.
In September 2006, the Company entered into a Master License Agreement (the
"Master License Agreement") with a service provider, pursuant to which the
Company will license certain technology to be used as a platform for future
versions of the Company's Web site. The service provider will provide
certain support and consulting services in connection with this project.
Beginning in January 2007, the Company will develop an improved version of
its Web site based
F-14
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
on the new software. The new version of Bluefly's Web site is expected to
launch in the third quarter of 2007 and will replace the older version. In
connection with this Master License Agreement, the Company has committed to
spend $1,207,000, of which $999,000 was incurred during the fourth quarter
of 2006 and the balance of $208,000 will be paid during 2007.
LEGAL PROCEEDINGS
The Company is, from time to time, involved in litigation incidental to the
conduct of its business. However, the Company is not party to any lawsuit
or proceeding which, in the opinion of management is likely to have a
material adverse effect on its financial condition.
9. SHAREHOLDERS' EQUITY
AUTHORIZED SHARES
The Company is incorporated in Delaware and has 152,000,000 authorized
shares of common stock, $.01 par value per share ("Common Stock"), and
25,000,000 authorized shares of preferred stock, $.01 par value per share
(the "Preferred Stock"). The Preferred Stock is designated as follows:
500,000 shares of Series A Convertible Preferred Stock (the "Series A
Preferred Stock"); 9,000,000 shares of Series B Convertible Preferred Stock
(the "Series B Preferred Stock"); 3,500 shares of Series C Convertible
Preferred Stock (the "Series C Preferred Stock"); 2,100 shares of Series
2002 Convertible Preferred Stock (the "Series 2002 Convertible Preferred
Stock"); 7,150 shares of Series D Convertible Preferred Stock (the "Series
D Preferred Stock"); 1,000 shares of Series E Convertible Preferred Stock
(the "Series E Preferred Stock"); 7,000 shares of Series F Convertible
Preferred Stock (the "Series F Preferred Stock"); and 15,479,250 shares
undesignated and available for issuance.
PREFERRED STOCK
OUTSTANDING SHARES
The Company's currently has 571.43 shares of Series F Preferred Stock
outstanding with a stated value of approximately $571,430. In June 2006,
all of the Series A, B, C, D and E shares of Preferred Stock, as well as a
significant portion of the Series F Preferred Stock, were converted in to
shares of Common Stock, as more fully discussed in the "June 2006
Financing" below.
DIVIDENDS
Each share of Series F Preferred Stock bears a cumulative compounding
dividend, payable upon conversion in cash or Common Stock, at the Company's
option, at the rate of 7% per annum.
RANKING
The Series F Preferred Stock ranks senior to the Common Stock, with respect
to the payment of distributions on liquidation, dissolution or winding up
of the Company and with respect to the payment of dividends.
CONVERSION
The Series F Preferred Stock is convertible into Common Stock at the rate
of $2.32 in stated value per share of Common Stock.
The Series F Preferred Stock contains anti-dilution provisions pursuant to
which, subject to certain exceptions, in the event that the Company issues
or sells its Common Stock or new securities convertible into its Common
Stock in the future for less than the conversion price of the Series F
Preferred Stock, the conversion price of the Series F preferred stock would
be decreased to the
F-15
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
price at which such Common Stock or other new securities are sold. As more
fully described below, the conversion price of the Series F Preferred Stock
was reduced from $2.32 per share to $0.82 per share in connection with the
June 2006 Financing as a result of these anti-dilution provisions.
VOTING RIGHTS
The Series F Preferred Stock votes with the Common Stock on an as-converted
basis.
REDEMPTION
The Company is entitled to redeem the shares of Series F Preferred Stock
for cash at a price equal to the stated value, plus accrued and unpaid
dividends.
JUNE 2006 FINANCING
On June 15, 2006 (the "Closing Date"), the Company completed a private
placement (the "Private Placement") through the sale of 60,975,610 shares
of its common stock, par value $0.01 per share (the "Common Stock"), at a
price of $0.82 per share. The Private Placement was made to affiliates of
Maverick Capital, Ltd. ("Maverick") and Prentice Capital Management, LP
("Prentice"). The aggregate proceeds from the Private Placement were $50
million, almost half of which was purchased by each of Maverick and
Prentice. The purchase price of $0.82 per share represented an 11% premium
to the closing bid price of the Common Stock on June 5, 2006, the date of
signing of the definitive stock purchase agreement. The shares purchased in
the Private Placement included 203,016 shares of Common Stock that were
purchased by a holder of Series D Convertible Preferred Stock in connection
with the exercise of such holder's preemptive rights. The amount purchased
by Maverick and Prentice in the Private Placement was reduced on a pro rata
basis as a result of the exercise of such holder's preemptive rights.
Concurrent with the closing of the Private Placement, affiliates of Soros
Fund Management LLC ("Soros") converted all of their outstanding Preferred
Stock into 44,729,960 shares of the Company's Common Stock. The remaining
shares of Series D Convertible Preferred Stock, which were held by
investors other than Soros, automatically converted into an aggregate of
1,073,936 shares of Common Stock. The placement agent for the Private
Placement was paid a commission of 5% of the gross proceeds, half of which
was paid by the Company and the other half by Soros. Of the commission paid
by the Company, $1 million was paid through the issuance of Common Stock
and the remainder was paid in cash.
On the Closing Date, the Company paid Soros $25 million in cash, which
represented $4,000,000 of the principal and $1,488,376 of accrued but
unpaid interest on the outstanding convertible notes (the "Notes") held by
Soros and the majority of the accrued but unpaid dividends on the shares of
Preferred Stock that were converted by Soros in connection with the Private
Placement, with the remaining accrued but unpaid dividends on such shares
of Preferred Stock paid in shares of Common Stock. The remaining proceeds
are being used by the Company for general corporate purposes. As a result
of the Private Placement and the conversion of the Preferred Stock, Soros
collectively owns approximately 39% of the Company's Common Stock, and each
of Maverick and Prentice own approximately 24% of the Company's Common
Stock.
As a result of the Private Placement, the conversion price of the Company's
Series F Convertible Preferred Stock, the majority of which was held by
Soros, automatically decreased from $2.32 to $0.82. In accordance with FASB
Emerging Issue Task Force Issue No. 00-27, "Application of Issue No. 98-5
to Certain Convertible Instruments," this reduction in the conversion price
of the Company's Series F Preferred Stock resulted in the Company recording
a beneficial conversion
F-16
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
feature in the approximate amount of approximately $3.9 million as part of
its second quarter financial results. This non-cash charge, which is
analogous to a dividend, resulted in an adjustment to the Company's
computation of Loss Per Share.
The Company agreed to use its commercially reasonable efforts to (i)
prepare and file with the Securities and Exchange Commission (the
"Commission") a registration statement (the "Registration Statement") to
register the shares of Common Stock sold in the Private Placement within
120 days of the Closing Date and (ii) cause the Registration Statement to
be declared effective by the Commission within 180 days of the Closing
Date. The Registration Statement has since been filed and declared
effective.
JUNE 2005 FINANCING
The Company raised over $7,000,000 in equity financing in June 2005. The
financing was effected through a private placement (the "June 2005
Financing") that closed on June 24, 2005. The Company raised $7,075,431
through the sale of 7,000 shares of newly designated Series F Preferred
Stock for an aggregate purchase price of $7,000,000 and warrants to
purchase an additional 603,448 shares of its common stock at an exercise
price of $2.87 per share. The warrants have an expiration date of June 24,
2008. The aggregate purchase price for the warrants was $75,431, or $0.125
per warrant, and all of the warrants were purchased by the New Investors
described below. The investors participating in the June 2005 Financing
included eight private equity funds that had not previously participated in
the Company's financing transactions (the "New Investors"), and two private
equity funds affiliated with Soros. In connection with the June 2005
Financing, the New Investors also purchased from Soros previously issued
shares of the Company's Series D Preferred Stock with an aggregate
liquidation preference and accrued dividends of $3,000,000.
JANUARY 2004 FINANCING
In January 2004, the Company completed a private placement pursuant to
which it raised $5,000,000 (the "January 2004 Financing"). Under the terms
of the deal, the Company issued 1,543,209 shares of Common Stock at $3.24
per share, which was 90% of the trailing five-day average of the Company's
volume-weighted stock price as of December 29, 2003, the date that a
preliminary agreement was reached as to the pricing of the deal. The
Company also issued to the new investors warrants to purchase 385,801
shares of Common Stock at any time during the next five years at an
exercise price equal to $3.96 per share. After professional fees and
finders fees paid to brokers, the net proceeds from the transaction were
approximately $4,577,000.
WARRANTS TO PURCHASE COMMON STOCK
WARRANTS TO SOROS
The Company has issued warrants to Soros in connection with past and recent
financings as well as in connection with the Rosenthal Loan Facility (which
has since been refinanced). Warrants issued in connection with the
Company's Loan Facility are included in the table below and are described
more fully in Note 11.
In connection with the January 2003 Financing, the Company issued warrants
to purchase 25,000 shares of its common stock, exercisable at any time on
or prior to January 28, 2007 at $1.12 per share to Soros. Subsequent to
year end the warrants were exercised.
The Company valued the warrants using the Black Scholes option pricing
model using the following assumptions: risk free interest rate: 3.54%,
volatility 113%, expected life 4 years, zero dividend yield. Using these
factors the warrants were valued at $21,000 and were expensed over the life
of the note. The full amount was expensed in the first quarter of 2003.
F-17
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
In exchange for the March 2002 Standby Agreement, the Company issued to
Soros warrants to purchase 100,000 shares of Common Stock at an exercise
price of $1.68 per share (the 20 day trailing average of the closing sale
price of the Company's Common Stock on the date of issuance), exercisable
at any time until March 27, 2007. The Company valued the warrants using the
Black Scholes option pricing model using the following assumptions: risk
free interest rate: 5.22%, volatility 183%, expected life 3 years, zero
dividend yield. The Company accounted for the warrants by crediting
additional paid in capital for approximately $157,000 and capitalizing the
amount on the balance sheet. This amount was then netted against the
proceeds from the subsequent May 2003 Financing and July 2003 Financing
described above, on a pro rata basis.
WARRANTS ISSUED TO CONSULTANT
In February 2006, the Company issued a warrant to a consultant in exchange
for investor relations services. The Company used the Black-Scholes option
pricing method (assumption: volatility 118%, risk free rate 4.49%, five
years expected life and zero dividend yield) to calculate the value of the
100,000 warrants issued in connection with a warrant issued to a
consultant. Using those assumptions a value of approximately $67,000 was
assigned to the warrant and charged to general and administrative expenses.
These warrants expire in February 2011.
WARRANTS ISSUED TO INVESTORS
The Company used the Black-Scholes option pricing method (assumption:
volatility 79%, risk free rate 3.86% one and a half year expected life and
zero dividend yield) to calculate the value of the 603,448 warrants issued
in connection with the June 2005 Financing. Using those assumptions a value
of approximately $423,000 was assigned to the warrant. In accordance with
EITF 00-27, Application of EITF Issue No. 98-5, "Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios" the Company evaluated the total value ascribed to the
warrants under Black-Scholes and compared that to the total proceeds
raised. In connection with that the Company recognized a beneficial
conversion feature of approximately $87,000.
In accordance with EITF 00-19, the Company accounted for the 385,801
warrants issued in connection with the January 2004 Financing at fair
market value and classified the warrants as a liability because the Company
may have been required to make cash payments to the investors who purchased
the warrants in the event that the registration statement covering the
offer and sale of the shares underlying the warrants were to no longer be
effective. The Company used the Black-Scholes option pricing method
(assumption: volatility 147%, risk free rate 3.76% two year expected life
and zero dividend yield) to calculate the value of the warrants. At January
12, 2004, the date of transaction (the "Transaction Date"), the warrants
had a value of $1,096,000. The value of the warrants was marked to market
in each subsequent reporting period as a derivative gain or loss until June
17, 2004 (the "End Date"), at which time EITF 00-19 called for the warrants
to be re-classified as equity because the maximum potential cash amount
payable to the investors had decreased to the point where it was no longer
considered significant.
During the period beginning on the Transaction Date and ending on the End
Date, the value of the warrants decreased from $1,096,000 to $532,000, and,
accordingly the Company recognized $564,000 of other income for the year
ended December 31, 2004.
F-18
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
The following table represents warrants issued to purchase Common Stock as
of December 31, 2006:
NUMBER OF EXERCISE
PARTY WARRANTS PRICE RANGE EXPIRATION DATES
------------ -------------- -------------- -------------------------
Investors 989,249 $2.87 - $3.96 June 2008 - January 2009
Soros 606,644 $0.78 - $2.34 January 2007 - March 2013
Consultant 100,000 $1.00 February 2011
--------------
1,695,893
==============
STOCK-BASED COMPENSATION PLANS
The Company's Board of Directors has adopted three stock based employee
compensation plans. The Plans, which provide for the granting of restricted
stock, restricted stock units, stock options and other equity and cash
awards, were adopted for the purpose of encouraging key employees,
consultants and directors who are not employees to acquire a proprietary
interest in the growth and performance of the Company.
In November 2006, the Company entered into three year employment contracts
with its CEO and CFO. In connection with these agreements, the CEO and CFO
were entitled to, among other things, (i) restricted stock awards under our
Plans for a total of 861,221 shares of our Common Stock, (which vested in
full on January 1, 2007) plus cash bonuses of $517,890 (intended to
compensate them for the income taxes payable on such restricted stock
awards) in exchange for the forfeiting of their right to certain fully
vested and out-of-the-money stock options that would have been exercisable
to purchase an aggregate of 2,518,458 shares of Common Stock; (ii) deferred
stock unit awards under the Plan for 172,741 underlying shares of Common
Stock (which vest quarterly over a two year period), in exchange for the
forfeiting of their right to certain unvested and out-of-the-money stock
options that would have been exercisable to purchase an aggregate of
326,454 shares of Common Stock; and (iii) subject to the approval of the
Company's stockholders of certain amendments to the Plans, deferred stock
unit awards representing 8,264,524 shares of Common Stock with one-third of
such deferred stock units vesting quarterly, in equal amounts, over a
twelve month period, one-third vesting quarterly, in equal amounts, over a
twenty-four month period, and one-third vesting quarterly, in equal
amounts, over a thirty-six month period. The vesting period for all awards
commences on October 1, 2006.
The Company recorded the exchange of the options for restricted stock and
deferred stock unit awards as replacement awards, and therefore under SFAS
No. 123R treated the exchange as a modification of the original option
grant and recorded incremental compensation cost measured as the excess of
the fair value of the replacement awards, measured immediately after
modification, over the fair value of the cancelled award, measured
immediately before modification, at the modification date. Total
incremental compensation expense was approximately $507,000. In connection
with these new awards, the Company will recognize an expense of $9.3
million over three years. Approximately $2.1 million of this expense was
recognized in 2006.
RESTRICTED STOCK AND DEFERRED STOCK UNIT AWARDS
The following table is a summary of activity related to restricted stock
and deferred stock units grants for key employees at December 31, 2006:
F-19
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
RESTRICTED DEFERRED STOCK
STOCK UNIT AWARDS
--------------- ---------------
Balance at January 1, 2006 -- --
Shares/Units Granted 861,221 9,862,267
Shares/Units Forfeited -- --
Balance at December 31, 2006 861,221 9,862,267
Weighted Average Grant Date Fair Value Per share $0.95 $0.94
Aggregate Grant Date Fair Value $818,160 $9,270,531
Vesting Service Period of Shares Granted 3 months 12 - 36 months
Number of shares/units vested at December 31, 2006 -- --
Number of shares/units unvested at December 31, 2006 861,221 9,862,267
For the year ended December 31, 2006 the Company recognized an expense of
approximately $2,159,000 in connection with these awards.
As of December 31, 2006 the total compensation cost related to non-vested
restricted stock and deferred stock units not yet recognized was $8.3
million. Total compensation cost is expected to be recognized over a three
year period beginning on October 1, 2006.
STOCK OPTIONS
The following table summarizes the Company's stock option activity:
NUMBER WEIGHTED
OF AVERAGE
SHARES EXERCISE PRICE
--------------- ---------------
Balance at January 1, 2004 8,508,370 $ 2.04
Options granted 2,629,750 $ 2.74
Options canceled (534,360) $ 2.57
Options exercised (790,381) $ 0.95
---------------
Balance at December 31, 2004 9,813,379 $ 2.28
Options granted 2,039,000 $ 1.39
Options canceled (2,216,567) $ 3.56
Options exercised (1,597,284) $ 0.94
---------------
Balance at December 31, 2005 8,038,528 $ 1.97
---------------
Options granted 521,000 $ 0.96
Options canceled (3,099,082) $ 2.32
Options exercised (43,330) $ 0.82
---------------
Balance at December 31, 2006 5,417,116 $ 1.68
---------------
Vested at December 31, 2004 6,512,125 $ 2.44
Vested at December 31, 2005 4,969,929 $ 2.15
Vested at December 31, 2006 3,682,877 $ 1.83
F-20
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
The stock options are exercisable in different periods through 2016.
Additional information with respect to the outstanding options as of
December 31, 2006, is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------- ------------------------
WEIGHTED WEIGHTED WEIGHTED
RANGE OF AVERAGE AVERAGE AVERAGE
EXERCISE OPTIONS REMAINING EXERCISE OPTIONS EXERCISE
PRICES OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE
--------------- ------------- ---------------- ---------- ----------- ----------
$0.00 - $1.66 3,985,116 7.2 Years $1.09 2,645,881 $1.06
$1.66 - $3.32 1,192,500 7.2 Years $2.30 819,091 $2.43
$3.32 - $4.98 75,000 7.1 Years $3.92 53,405 $3.92
$4.98 - $6.64 22,250 2.0 Years $5.11 22,250 $5.11
$6.64 - $9.96 52,750 2.6 Years $9.17 52,750 $9.17
$9.96 - $11.62 54,250 3.0 Years $11.18 54,250 $11.18
$11.62 - $14.94 6,250 2.9 Years $14.04 6,250 $14.04
$14.94 - $16.60 29,000 2.1 Years $15.19 29,000 $15.19
$0.69 - $16.60 5,417,116 7.0 YEARS $1.68 3,682,877 $1.83
The total fair value of the 1,427,008 options that vested during the year
was approximately $2,198,000. At December 31, 2006, the aggregate intrinsic
value of the fully vested options was $683,000 and the weighted average
remaining contractual life of the options was 6.2 years. The Company has
not capitalized any compensation cost, or modified any of its stock option
grants for the years ended December 31, 2006 and 2005. Other selected
information is as follows:
2006 2005 2004
------------- ------------- -------------
Aggregate intrinsic value of outstanding options $ 881,000 $ 399,000 $ 6,573,000
Aggregate intrinsic value of options exercised $ 7,000 $ 1,088,000 $ 1,210,000
Weighted average fair value of options granted $ 0.79 $ 1.24 $ 2.60
As of December 31, 2006 the total compensation cost related to non-vested
stock option awards not yet recognized was $2,252,000. Total compensation
cost is expected to be recognized over 1.5 years on a weighted average
basis.
The fair value of options granted is estimated on the date of grant using a
Black-Scholes option pricing model. Expected volatilities are calculated
based on the historical volatility of the Company's stock. Management
monitors share option exercise and employee termination patterns to
estimate forfeiture rates within the valuation model. The expected holding
period of options represents the period of time that options granted are
expected to be outstanding. The risk-free interest rate for periods within
the expected life of the option is based on the interest rate of U.S.
Treasury note in effect on the date of the grant. The Company had
previously recorded expense in accordance with APB No. 25 for certain
options issued to its CEO and President that were issued below market.
Prior to the adoption of FAS 123(R), the Company recognized actual
forfeitures when they occurred but has not recorded a cumulative effect
adjustment to record estimated forfeitures related to these below market
options as the balance was immaterial.
The table below presents the assumptions used to calculate the fair value
of options granted for the year ended December 31, 2006, 2005 and 2004
respectively:
F-21
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
------------------------------
2006 2005 2004
-------- -------- --------
Risk-free interest rates 4.65% 4.22% 3.63%
Expected life (in years) 6 6 6
Dividend yield 0% 0% 0%
Expected volatility 101% 138% 139%
In January 2007, the Company commenced an exchange offer pursuant to which
it is offering to exchange certain outstanding stock options issued to
employees and non-employee directors for restricted stock awards and/or
deferred stock unit awards. See Note 15.
10. NOTES PAYABLE TO RELATED PARTY SHAREHOLDERS
In connection with the June 2006 Financing described above, the Company
repaid the Convertible Promissory Notes issued to Soros in July and October
2003 (the "Notes"). The Company paid $4,000,000 of principal and $1,488,376
of interest. The Notes were set to mature in May 2007 and bore interest at
12% per annum.
In addition to the $4,000,000 of promissory notes issued in connection with
the July 2003 Financing and October 2003 Financing (see Note 9 ), on
December 15, 2001, the Company issued promissory notes in the amount of
$182,000 to affiliates of Soros in exchange for legal services provided
during the course of the year. The notes bore interest at 9% per annum and
had a maturity date of December 15, 2004. In December 2004 the Company
repaid the notes with accrued interest of $54,000 for a total of $236,000.
11. FINANCING AGREEMENT
In July 2005, the Company entered into a new three year revolving credit
facility ("Credit Facility") with Wells Fargo Retail Finance, LLC ("Wells
Fargo"). The Credit Facility refinanced the Company's previous credit
facility (the "Rosenthal Facility") with Rosenthal & Rosenthal, Inc.
("Rosenthal"). Under the terms of the Credit Facility, Wells Fargo provides
the Company with a revolving credit facility and issues letters of credit
in favor of suppliers or factors. The Credit Facility is secured by a lien
on all of the Company's assets. Historically, the Credit Facility has also
been secured by a $2,000,000 letter of credit issued by Soros in favor of
Wells Fargo (the "Soros LC"). In August 2006, Wells Fargo agreed to release
the Soros LC, and no longer requires an availability reserve (although it
has the right under the Credit Facility to establish reserves in the
future, as it deems appropriate). In return, the Company, agreed to
maintain a minimum cash balance of $5,000,000. Availability under the
Credit Facility is determined by a formula that takes into account the
amount of the Company's inventory and accounts receivable, as well as the
Soros LC. The maximum availability is currently $7,500,000, but can be
increased to $12,500,000 at the Company's request, subject to certain
conditions. As of December 31, 2006, total availability under the Credit
Facility, was approximately $7,500,000 of which $3,200,000 was committed,
leaving approximately $4,300,000 available for further borrowings.
Interest accrues monthly on the average daily amount outstanding under the
Credit Facility during the preceding month at a per annum rate equal to the
prime rate plus 0.75% or LIBOR plus 2.75%. The Company also pays a monthly
commitment fee on the unused portion of the facility (i.e., $7,500,000 less
the amount of loans outstanding) equal to 0.35%. We also pay Wells Fargo
certain
F-22
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
fees to open letters of credit and guarantees in an amount equal to a
certain percentage of the face amount of the letter of credit for each
thirty (30) days such letter of credit, or a portion thereof, remains open.
For the years ended December 31, 2006, 2005 and 2004 total interest expense
and fees related to the credit facilities totaled approximately $170,000,
$196,000 and $112,000, respectively.
Under the terms of the Credit Facility, Soros has the right to purchase all
of our obligations from Wells Fargo at any time if we are then in default
under the Credit Facility.
SOROS WARRANTS IN CONNECTION WITH ROSENTHAL LOAN FACILITY
Prior to April 2004, Soros guaranteed repayment of the Rosenthal Loan
Facility (the "Soros Guarantee"). The Company issued warrants to Soros in
consideration for the establishment and continuance of the Soros Guarantee
as described below.
The following table represents the warrants issued to Soros in connection
with the Loan Facility:
Number of Date Exercise Expiration Assumptions Under
Warrants Issued Price Date Black-Scholes Reason
--------- ----------- --------- --------------- ---------------------- ----------------
100,000 March 31, $0.88(1) September 11, Risk Free Rate - 4.86% As consideration
2001 2011 Volatility - 117% for Soros
Term - 5 years establishing the
Soros Guarantee
60,000 March 22, $1.66(1) March 22, Risk Free Rate - 5.25% In consideration
2002 2007 Volatility - 184% for Soros
Term - 3 years extending the
Soros Guarantee
until 11/15/2003
25,000 March 17, $0.78(2) March 17, Risk Free Rate - 3.31% In consideration
2003 2013 Volatility - 123% for Soros
Term - 4 years extending the
Soros Guarantee
until 11/15/2004
(1) represents the 20 day trailing average of the closing sale price of
the Company's Common Stock on the date of issuance
(2) represents the 10 day trailing average of the closing sale price of
the Company's Common Stock on the date of issuance
The Company accounted for the warrants in accordance with Accounting
Principles Board Opinion No. 14 ("APB No. 14") by valuing the warrants
using the Black-Scholes option pricing model and crediting additional paid
in capital for $74,000, $98,000 and $21,000, during the years 2001, 2002
and 2003, respectively. These amounts were amortized to interest expense
over the life of the Loan Facility.
F-23
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
12. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Amounts in thousands, except per share data:
QUARTER ENDED
---------------------------------------------------------
2006 MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
--------------------------------------------- ------------ ------------ ------------ ------------
Net Sales $ 16,876 $ 16,793 $ 16,322 $ 27,071
============ ============ ============ ============
Gross Profit $ 6,839 $ 7,046 $ 6,111 $ 10,913
============ ============ ============ ============
Net Loss (1) $ (3,264) $ (1,901) $ (3,485) $ (3,543)
============ ============ ============ ============
Preferred stock dividends $ (1,231) $ (990) $ (16) $ (15)
============ ============ ============ ============
Net loss available to common shareholders $ (4,495) $ (6,748) $ (3,501) $ (3,558)
============ ============ ============ ============
Loss per common share - basic and diluted (2) $ (0.22) $ (0.17) $ (0.03) $ (0.03)
============ ============ ============ ============
QUARTER ENDED
---------------------------------------------------------
2005 MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
--------------------------------------------- ------------ ------------ ------------ ------------
Net Sales $ 13,502 $ 12,029 $ 12,045 $ 21,235
============ ============ ============ ============
Gross Profit $ 4,885 $ 4,651 $ 4,575 $ 8,884
============ ============ ============ ============
Net loss $ (893) $ (1,169) $ (1,703) $ (55)
============ ============ ============ ============
Preferred stock dividends $ (1,115) $ (1,169) $ (1,387) $ (1,287)
============ ============ ============ ============
Net loss available to common shareholders $ (2,008) $ (2,338) $ (3,090) $ (1,342)
============ ============ ============ ============
Loss per common share - basic and diluted $ (0.13) $ (0.15) $ (0.20) $ (0.07)
============ ============ ============ ============
(1) Included in net loss is a non-cash charge of approximately $4.5
million for the year ended December 31, 2006 to stock-based
compensation recorded in accordance with SFAS No. 123( R), this amount
was recorded as follows: $612, $611, $597 and $2.6 million in the
first, second, third and fourth quarter, respectively
(2) Weighted average shares increased to 80.2 million for the year ended
December 31, 2006 as a result of the June 2006 financing and the
conversion of the Company's preferred stock into common stock in
connection with the financing.
13. RELATED PARTY TRANSACTION
In August 2004, the Company entered into a Separation Agreement with its
former Chief Executive Officer in connection with his resignation. Under
the terms of the agreement, he agreed to remain employed by the Company in
a non-executive capacity through November 30, 2004 (the "Termination Date")
at his then-current salary and to extend the period of the non-competition
and non-solicitation covenants contained in his employment agreement from
one year to two years after the Termination Date. In consideration for
these agreements, the Company, among other things, agreed to (i) to make
salary continuation payments equal to his salary until June 30, 2005, (ii)
to continue to provide his then-current employee benefits for a period of
one year following the Termination Date, and (iii) to issue him an option
to purchase 100,000 shares of Common Stock at an exercise price equal to
the fair market value of the Common Stock on the date of grant and (iv)
that all outstanding stock options held by him would vest upon the
Termination Date. The Company valued the warrants using the Black Scholes
option pricing model using the following assumptions: risk free interest
rate: 3.88%, volatility 137%, expected life 1 year, zero dividend
F-24
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
yield, and charged $113,000 for the options and $212,000 related to
severance and benefits to general and administrative expense in the third
quarter of 2004.
14. NASDAQ COMPLIANCE
In November 9, 2006, the Company was notified by Nasdaq Staff that it was
not in compliance with the continued listing requirements for the Nasdaq
Capital Market (the "Listing Requirements") because shares of its Common
Stock had closed at a per share bid price of less than $1.00 for at least
30 trading days. On December 21, 2006, the Company was advised by Nasdaq
that, because the closing bid price of the Company's common stock has been
at $1.00 per share or greater for at least 10 consecutive trading days, the
Company has regained compliance with the Listing Requirements.
15. SUBSEQUENT EVENTS
In January 2007, the Company commenced an exchange offer (the "Offer")
pursuant to which it is offering to exchange certain outstanding stock
options issued to employees and non-employee directors for restricted stock
awards and/or deferred stock unit awards.
Employees (other than the CEO and CFO, who already had exchanged certain of
their options pursuant to their employment agreements) and non-employee
directors who held stock options with an exercise price greater than $1.50
were eligible to participate in the Offer. Eligible options that were
vested as of August 31, 2006 could be exchanged for restricted stock
awards, and eligible options that were not vested as of that date could be
exchanged for deferred stock unit awards. Both the restricted stock awards
and the deferred stock unit awards are subject to vesting provisions. The
number of restricted stock awards and/or deferred stock unit awards issued
in exchanged for an eligible option grant was determined by the exchange
ratio applicable to that particular option.
The Company has instituted the exchange offer because a considerable number
of its employees are holding options that have exercise prices higher than
the current and recent trading prices of its common stock. The purpose of
the exchange offer is to promote the interests of the Company's
stockholders by strengthening its ability to motivate and retain valued
employees.
The exchange offer began on January 25, 2007 and ended on February 23,
2007. In connection with the Offer, an aggregate of 1,562,000 options were
tendered in exchange for an aggregate of 472,471 shares of restricted stock
and 394,405 shares of deferred stock unit awards. This represented
approximately 95% of the total options that were eligible for exchange. The
Company will account for the exchange of Options for restricted stock and
deferred stock unit awards as replacement awards in accordance with SFAS
No. 123(R).
F-25
BLUEFLY, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2006
--------------------------------------------------------------------------------
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR THE THREE YEARS ENDED DECEMBER 31, 2006
Column C
-----------------------------------
Column A Column B (1) (2) Column D Column E
----------------------------------------------------------------------------------------------------------------------------
Beginning Balance Charged to Costs Charged to other Balance end of Period
Description at January 1, 2006 and Expenses Accounts Deductions December 31, 2006
--------------------------- ------------------ ---------------- ---------------- ----------- ---------------------
Allowance for Sales Returns (3,407,000) (50,126,000) -- 48,490,000 (5,043,000)
Allowance for Doubtful
Accounts (78,000) (643,000) -- 324,000 (397,000)
Inventory Reserves (782,000) (1,000,000) -- 727,000 (1,055,000)
Deferred Tax Valuation
Allowance (30,712,000) (4,656,000) 909,000 -- (34,459,000)
Column C
-----------------------------------
Column A Column B (1) (2) Column D Column E
----------------------------------------------------------------------------------------------------------------------------
Beginning Balance Charged to Costs Charged to other Balance end of Period
Description at January 1, 2005 and Expenses Accounts Deductions December 31, 2005
--------------------------- ------------------ ---------------- ---------------- ----------- ---------------------
Allowance for Sales Returns (2,174,000) (34,820,000) - 33,587,000 (3,407,000)
Allowance for Doubtful
Accounts (44,000) (270,000) - 236,000 (78,000)
Inventory Reserves (835,000) (659,000) - 712,000 (782,000)
Deferred Tax Valuation
Allowance (28,738,000) (1,533,000) (441,000) - (30,712,000)
Column C
-----------------------------------
Column A Column B (1) (2) Column D Column E
----------------------------------------------------------------------------------------------------------------------------
Beginning Balance Charged to Costs Charged to other Balance end of Period
Description at January 1, 2004 and Expenses Accounts Deductions December 31, 2004
--------------------------- ------------------ ---------------- ---------------- ----------- ---------------------
Allowance for Sales Returns (2,528,000) (24,186,000) - 24,540,000 (2,174,000)
Allowance for Doubtful
Accounts (40,000) (237,000) - 233,000 (44,000)
Inventory Reserves (673,000) (100,000) - (62,000) (835,000)
Deferred Tax Valuation
Allowance (26,872,000) (1,518,000) (348,000) - (28,738,000)
S-1