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**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

** **

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| **x**                                                                                                                                                                              | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                               | ** ** | ** **                                                                                                   |
| **For the quarterly period ended June 30, 2008**                                                                                                                              |
| ** **                                                                                                                                                                         | ** ** | ** **                                                                                                   |
| **Or**                                                                                                                                                                             |
| ** **                                                                                                                                                                         | ** ** | ** **                                                                                                   |
| **o**                                                                                                                                                                              | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**     |
|                                                                                                                                                                               | ** ** | ** **                                                                                                   |
| **For the transition period from                  to         ** |

 

**Commission file number: 1-8681**

 

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**RUSS BERRIE AND COMPANY, INC.**

(Exact name of registrant as specified in its charter)

 

| **New Jersey**(State of or other jurisdiction of  incorporation or organization) | ** ** | **22-1815337**(I.R.S. Employer Identification Number) |
|----------------------------------------------------------------------------------|------------|-------------------------------------------------------|
| ** **                                                                       | ** ** | ** **                                            |
| **111 Bauer Drive, Oakland, New Jersey**(Address of principal executive offices) | ** ** | **07436**(Zip Code)                                   |

 

| **(201) 337-9000**(Registrant’s Telephone Number, including area code) |
|-----------------------------------------------------------------------------|

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days. Yes x              No o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, a non-accelerated filer, or a smaller reportingcompany.  See the definitions of “largeaccelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.  (Check one):

Largeaccelerated filer o     Acceleratedfiler x     Non-accelerated filer o     Smaller reporting company o

 

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

 

The number of sharesoutstanding of each of the registrant’s classes of common stock, as of August 5,2008 was as follows:

** **

| **CLASS**                         | ** ** | **OUTSTANDING  At August 5, 2008** |
|-----------------------------------|------------|-----------------------------------------|
| Common Stock,  $0.10 stated value |       | 21,299,643                              |

 

 

 

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**RUSS BERRIE AND COMPANY, INC.**

 

**INDEX**

 
| **PART I – FINANCIAL INFORMATION** |   |                                                                                                  |
|----------------------------------------------|--------|-------------------------------------------------------------------------------------------------------|
|                                         |   |                                                                                                  |   |
| Item 1.                                      |   | Financial Statements (unaudited)                                                                      |   |   |
|                                         |   |                                                                                                  |   |   |
| a)                                           |   | Consolidated Balance Sheets as of June 30,  2008 and December 31, 2007                      |   |   |
|                                         |   |                                                                                                  |   |   |
| b)                                           |   | Consolidated Statements of  Operations for the three and six months ended June 30, 2008 and 2007 |   |   |
|                                         |   |                                                                                                  |   |   |
| c)                                           |   | Consolidated Statements of  Cash Flows for the six months ended June 30, 2008 and 2007           |   |   |
|                                         |   |                                                                                                  |   |   |
| d)                                           |   | Notes to Unaudited  Consolidated Financial Statements                                                 |   |   |
|                                         |   |                                                                                                  |   |   |
| Item 2.                                      |   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations           |   |   |
|                                         |   |                                                                                                  |   |   |
| Item 3.                                      |   | Quantitative  and Qualitative Disclosures About Market Risk                                           |   |   |
|                                         |   |                                                                                                  |   |   |
| Item 4.                                      |   | Controls and  Procedures                                                                              |   |   |
|                                         |   |                                                                                                  |
| **PART II – OTHER  INFORMATION**   |   |                                                                                                  |
|                                         |   |                                                                                                  |   |
| Item 1A.                                     |   | Risk Factors                                                                                          |   |   |
|                                         |   |                                                                                                  |   |   |
| Item 5.                                      |   | Other Information                                                                                     |   |   |
|                                         |   |                                                                                                  |   |   |
| Item 6.                                      |   | Exhibits                                                                                              |   |   |
|                                         |   |                                                                                                  |   |
| Signatures                                   |   |                                                                                                  |
|                                         |   |                                                                                                  |
| Exhibit Index                           |   |                                                                                                  |

 

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**PART 1 - FINANCIAL INFORMATION**

 

**ITEM 1.  FINANCIAL STATEMENTS**

 

**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**CONSOLIDATED BALANCE SHEETS**

**(In Thousands, Except Share and Per ShareData)(UNAUDITED)**

 
| ** **                                                                                                                                 | ** ** | **June 30, 2008** | ** ** | **December 31, 2007** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| **Assets**                                                                                                                                 |       |                        |       |                            |       |
| Current assets:                                                                                                                            |       |                        |       |                            |       |
| Cash and cash equivalents                                                                                                                  |       | $                           | 16,919     |                            | $          | 21,925 |   |
| Accounts receivable, trade, less allowances of $2,212 in 2008 and  $2,289 in 2007                                                          |       | 64,354                      |       | 64,544                          |       |
| Inventories, net                                                                                                                           |       | 71,359                      |       | 59,069                          |       |
| Prepaid expenses and other current assets                                                                                                  |       | 3,339                       |       | 3,137                           |       |
| Income tax receivable                                                                                                                      |       | 1,009                       |       | 663                             |       |
| Deferred income taxes                                                                                                                      |       | 1,606                       |       | 1,619                           |       |
| **Total current assets**                                                                                                                   |       | 158,586                     |       | 150,957                         |       |
| Property, plant and equipment, net                                                                                                         |       | 4,819                       |       | 13,093                          |       |
| Goodwill                                                                                                                                   |       | 129,901                     |       | 120,777                         |       |
| Intangible assets                                                                                                                          |       | 96,001                      |       | 51,172                          |       |
| Restricted cash                                                                                                                            |       | 1,008                       |       | 916                             |       |
| Deferred income taxes                                                                                                                      |       | 868                         |       | 897                             |       |
| Other assets                                                                                                                               |       | 5,578                       |       | 4,163                           |       |
| **Total assets**                                                                                                                           |       | $                           | 396,761    |                            | $          | 341,975 |   |
| **Liabilities and Shareholders’ Equity**                                                                                              |       |                        |       |                            |       |
| Current liabilities:                                                                                                                       |       |                        |       |                            |       |
| Current portion of long-term debt                                                                                                          |       | $                           | 14,933     |                            | $          | 11,500 |   |
| Short-term debt                                                                                                                            |       | 31,894                      |       | 23,344                          |       |
| Accounts payable                                                                                                                           |       | 19,271                      |       | 19,822                          |       |
| Accrued expenses                                                                                                                           |       | 27,395                      |       | 31,289                          |       |
| Income taxes payable                                                                                                                       |       | 2,255                       |       | 1,869                           |       |
| **Total current liabilities**                                                                                                              |       | 95,748                      |       | 87,824                          |       |
| Income taxes payable long-term                                                                                                             |       | 9,406                       |       | 9,406                           |       |
| Deferred income taxes                                                                                                                      |       | 6,237                       |       | 3,736                           |       |
| Long-term debt, excluding current portion                                                                                                  |       | 82,925                      |       | 32,000                          |       |
| Other long-term liabilities                                                                                                                |       | 6,489                       |       | 4,370                           |       |
| **Total liabilities**                                                                                                                      |       | 200,805                     |       | 137,336                         |       |
| ** **                                                                                                                                 |       |                        |       |                            |       |
| Commitments and contingencies                                                                                                              |       |                        |       |                            |       |
| Shareholders’ equity:                                                                                                                 |       |                        |       |                            |       |
| Common stock: $0.10 stated value; authorized 50,000,000 shares;  issued 26,727,780 shares at June 30, 2008 and December 31, 2007 |       | 2,674                       |       | 2,674                           |       |
| Additional paid in capital                                                                                                                 |       | 91,748                      |       | 90,844                          |       |
| Retained earnings                                                                                                                          |       | 190,089                     |       | 200,228                         |       |
| Accumulated other comprehensive income                                                                                                     |       | 17,528                      |       | 16,976                          |       |
| Treasury stock, at cost, 5,428,137 shares at June 30, 2008 and  December 31, 2007                                                |       | (106,083                    | )          | (106,083                        | )          |
| **Total shareholders’ equity**                                                                                                        |       | 195,956                     |       | 204,639                         |       |
| **Total liabilities and shareholders’ equity**                                                                                        |       | $                           | 396,761    |                            | $          | 341,975 |   |

 

*The accompanying notes are an integral part ofthese unaudited consolidated financial statements.*

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

**(In Thousands, Except Share and PerShare Data)**

**(UNAUDITED)**

 
| ** **                                                           | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|----------------------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                           | ** ** | **2008**                                            | ** ** | **2007**                                          | ** ** | **2008** | ** ** | **2007** | ** ** |
| Net sales                                                            |       | $                                                   | 87,693     |                                              | $          | 70,714 |   | $ | 163,617 |   | $ | 145,787 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| Cost of sales                                                        |       | 59,190                                              |       | 42,346                                            |       | 104,556 |   | 86,092 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **Gross profit**                                                     |       | 28,503                                              |       | 28,368                                            |       | 59,061 |   | 59,695 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| Selling, general and administrative expenses                         |       | 36,297                                              |       | 25,680                                            |       | 63,281 |   | 52,138 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **Operating income**                                                 |       | (7,794                                              | )          | 2,688                                             |       | (4,220 | ) | 7,557 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| Other (expense) income:                                              |       |                                                |       |                                              |       |   |   |   |   |
| Interest expense, including amortization of deferred financing costs |       | (2,713                                              | )          | (1,277                                            | )          | (3,906 | ) | (2,512 | ) |
| Interest and investment income                                       |       | 115                                                 |       | 153                                               |       | 279 |   | 344 |   |
| Other, net                                                           |       | 220                                                 |       | (45                                               | )          | 650 |   | (123 | ) |
|                                                                 |       | (2,378                                              | )          | (1,169                                            | )          | (2,977 | ) | (2,291 | ) |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **(Loss) income before income tax provision**                        |       | (10,172                                             | )          | 1,519                                             |       | (7,197 | ) | 5,266 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| Income tax provision                                                 |       | 1,967                                               |       | 1,154                                             |       | 2,942 |   | 2,355 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **Net (loss) income**                                                |       | $                                                   | (12,139    | )                                                 | $          | 365 |   | $ | (10,139 | ) | $ | 2,911 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **Net (loss) income per share:**                                     |       |                                                |       |                                              |       |   |   |   |   |
| Basic                                                                |       | $                                                   | (0.57      | )                                                 | $          | 0.02 |   | $ | (0.48 | ) | $ | 0.14 |   |
| Diluted                                                              |       | $                                                   | (0.57      | )                                                 | $          | 0.02 |   | $ | (0.48 | ) | $ | 0.14 |   |
|                                                                 |       |                                                |       |                                              |       |   |   |   |   |
| **Weighted average shares:**                                         |       |                                                |       |                                              |       |   |   |   |   |
| Basic                                                                |       | 21,300,000                                          |       | 21,080,000                                        |       | 21,300,000 |   | 21,078,000 |   |
| Diluted                                                              |       | 21,300,000                                          |       | 21,228,000                                        |       | 21,300,000 |   | 21,191,000 |   |

 

*The accompanying notes are anintegral part of these unaudited consolidated financial statements.*

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(In Thousands)(UNAUDITED)**

 
| ** **                                                                                          | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                          | ** ** | **2008**                                          | ** ** | **2007** | ** ** |
| **Cash flows from operating activities:**                                                           |       |                                              |       |   |   |
| Net (loss) income                                                                                   |       | $                                                 | (10,139    | ) | $ | 2,911 |   |
| Adjustments to reconcile net (loss) income to net cash provided by  (used in) operating activities: |       |                                              |       |   |   |
| Depreciation and amortization                                                                       |       | 3,659                                             |       | 2,343 |   |
| Provision for impairment of fixed assets                                                            |       | 7,041                                             |       | — |   |
| Amortization of deferred financing costs                                                            |       | 383                                               |       | 316 |   |
| Accounts receivable allowance                                                                       |       | 496                                               |       | 1,093 |   |
| Provision for inventory reserve                                                                     |       | 1,996                                             |       | 1,689 |   |
| Deferred income taxes                                                                               |       | 2,512                                             |       | 1,937 |   |
| Share-based compensation expense                                                                    |       | 904                                               |       | 86 |   |
| Other                                                                                               |       | (355                                              | )          | 321 |   |
| Change in assets and liabilities, excluding the effect of  acquisitions:                            |       |                                              |       |   |   |
| Restricted cash                                                                                     |       | (4                                                | )          | 12 |   |
| Accounts receivable                                                                                 |       | 13,538                                            |       | (3,268 | ) |
| Income tax receivable                                                                               |       | (609                                              | )          | 1,848 |   |
| Inventories                                                                                         |       | (4,316                                            | )          | (11,513 | ) |
| Prepaid expenses and other current assets                                                           |       | 208                                               |       | 7,255 |   |
| Other assets                                                                                        |       | (246                                              | )          | (788 | ) |
| Accounts payable                                                                                    |       | (4,504                                            | )          | 1,502 |   |
| Accrued expenses                                                                                    |       | (2,214                                            | )          | (2,781 | ) |
| Accrued income taxes                                                                                |       | 72                                                |       | (394 | ) |
| Net cash provided by operating activities                                                           |       | 8,422                                             |       | 2,569 |   |
|                                                                                                |       |                                              |       |   |   |
| **Cash flows from investing activities:**                                                           |       |                                              |       |   |   |
| Capital expenditures                                                                                |       | (1,350                                            | )          | (1.149 | ) |
| Payment for purchase of LaJobi Industries, Inc., net of cash  acquired                         |       | (51,749                                           | )          | — |   |
| Payment for purchase of CoCaLo, Inc., net of cash acquired                                     |       | (16,624                                           | )          | — |   |
| Payment of Kids Line, LLC earnout consideration                                                     |       | (3,622                                            | )          | — |   |
| Net cash used in investing activities                                                               |       | (73,345                                           | )          | (1,149 | ) |
|                                                                                                |       |                                              |       |   |   |
| **Cash flows from financing activities:**                                                           |       |                                              |       |   |   |
| Proceeds from issuance of common stock                                                              |       | —                                            |       | 501 |   |
| Issuance of long-term debt                                                                          |       | 100,000                                           |       | 55 |   |
| Repayment of long-term debt                                                                         |       | (50,000                                           | )          | (5,500 | ) |
| Payment of financing fees                                                                           |       | (1,655                                            | )          | — |   |
| Net borrowing on revolving credit facility                                                          |       | 11,450                                            |       | 5,853 |   |
| Payment of capital lease obligations                                                                |       | (97                                               | )          | — |   |
| Net cash provided by financing activities                                                           |       | 59,698                                            |       | 909 |   |
|                                                                                                |       |                                              |       |   |   |
| Effect of exchange rate changes on cash and cash equivalents                                        |       | 219                                               |       | 423 |   |
| Net (decrease) increase in cash and cash equivalents                                                |       | (5,006                                            | )          | 2,752 |   |
| Cash and cash equivalents at beginning of period                                                    |       | 21,925                                            |       | 11,526 |   |
| Cash and cash equivalents at end of period                                                          |       | $                                                 | 16,919     |   | $ | 14,278 |   |
| **Cash paid during the period for:**                                                                |       |                                              |       |   |   |
| Interest expense                                                                                    |       | $                                                 | 2,777      |   | $ | 2,046 |   |
| Income taxes                                                                                        |       | $                                                 | 593        |   | $ | 538 |   |
|                                                                                                |       |                                              |       |   |   |
| Noncash items:                                                                                      |       |                                              |       |   |   |
|                                                                                                |       |                                              |       |   |   |
| Note Payable-CoCaLo purchase                                                                        |       | $                                                 | 1,  439    |   | — |   |

 

*The accompanying notes are anintegral part of these unaudited consolidated financial statements.*

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

 

**NOTE 1 -INTERIM CONSOLIDATED FINANCIAL STATEMENTS**

 

The accompanyingunaudited interim consolidated financial statements have been prepared by RussBerrie and Company, Inc. and its subsidiaries (the “Company”) in accordancewith accounting principles generally accepted in the United States of Americafor interim financial reporting and the instructions to the Quarterly Report onForm 10-Q and Rule 10-01 of Regulation S-X. Accordingly, certaininformation and footnote disclosures normally included in financial statementsprepared under generally accepted accounting principles have been condensed oromitted pursuant to such principles and regulations.  The informationfurnished reflects all adjustments, which are, in the opinion of management, ofa normal recurring nature and necessary for a fair presentation of the Company’sconsolidated financial position, results of operations and cash flows for theinterim periods presented.  Results for interim periods are notnecessarily an indication of results to be expected for the year.

 

The Companycurrently operates in two segments: (i) its infant and juvenile segmentand (ii) its gift segment. This segmentation of the Company’s operationsreflects how the chief operating decision makers currently view the results ofoperations.

 

The Company’s infant andjuvenile segment is currently composed of: Kids Line, LLC; Sassy, Inc.;LaJobi Inc.; and CoCaLo, Inc, all wholly-owned subsidiaries, whose productsfocus principally on children of the age group newborn to two years and aregenerally sold to national accounts and independent retailers.  Kids Line products consist primarily ofinfant bedding and related nursery accessories, such as blankets, rugs,mobiles, nightlights, hampers, lamps and wall art. Sassy has concept groupingssuch as bath toys and accessories, developmental toys, feeding utensils andbowls, bottles, bibs, soft toys, mobiles and feeders, and recently entered thebaby gear category.  LaJobi designs,imports and sells infant and juvenile furniture and related products (includingcribs, changing tables, dressers, hutches, armoires, bookcases and end tables,mattresses and changing pads).  CoCaLodesigns, outsources, markets and distributes infant bedding (including cribbumpers, blankets, crib sheets and dust ruffles) and related accessories(including wall hangings, musical mobiles, blankets, diaper stackers, valances,wall paper borders, lamps, shades, nightlights, switch plates, decorativepillows and rugs).

 

The Company’s giftsegment designs, manufactures through third parties and markets a wide varietyof gift products to mass market, toy, specialty, food, drug and independentretailers throughout the United States and throughout the world via the Company’sdomestic and international wholly-owned subsidiaries and independentdistributors.

 

This QuarterlyReport on Form 10-Q should be read in conjunction with the Company’sAnnual Report on Form 10-K for the year ended December 31, 2007, asamended (the “2007 10-K”).

 

**NOTE 2 –Acquisitions**

 

I. LaJobi

 

On April 1, 2008,LaJobi, Inc. (“LaJobi”), a newly-formed and indirect, wholly-ownedDelaware subsidiary of the Company entered into an Asset Purchase Agreement(the “Asset Agreement”) with LaJobi Industries, Inc., a New Jerseycorporation (“Seller”), and each of Lawrence Bivona and Joseph Bivona(collectively, the “Stockholders”), for the purchase of substantially all ofthe assets used in the business of Seller and specified obligations. Thetransactions contemplated by the Asset Agreement were consummated as of April 2,2008.

 

Theacquisition of LaJobi will enable us to significantly expand our infant andjuvenile segment and offer a more complete range of products for the babynursey.

 

The aggregate purchaseprice payable for the business of Seller was equal to: $47.0 million,reduced by the amount of assumed indebtedness (including capitalized leaseobligations) as adjusted pursuant to a working capital adjustment, plus theearnout consideration described below. At Closing, LaJobi paid $44.5 million incash to Seller, plus $3.2 million (the estimated amount of the working capitaladjustment). As the final working capital adjustment was $3.0 million, theSeller subsequently refunded $0.2 million. In addition liabilities assumed were further reduced by $0.3million.  The remaining $2.5 millionof the purchase price was deposited in escrow at Closing in respect ofpotential indemnification claims.  Asadditional consideration, if the following conditions have been satisfied,LaJobi will pay the earnout consideration described below:

 

(a)   Subjectto paragraph (b) below, provided that the EBITDA of Seller’s business(the “Business”) (determined as provided in the Asset Agreement) has grown at acompound annual growth rate (“CAGR”) of not less than 4% during the period fromJanuary 1, 2008 through December 31, 2010 (the “Measurement Date”),as compared to the specified EBITDA of the Business for calendar year 2007,LaJobi will pay to 

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

**(Continued)**

 

Seller a percentage ofthe Agreed Enterprise Value of LaJobi as of the Measurement Date or EarlyMeasurement Date (as defined in paragraph (b) below), as the case maybe. The amount of such payment will range from zero to a maximum amount of$15.0 million (the “LaJobi Earnout Consideration”). The “Agreed EnterpriseValue” will be the product of (i) the Business’s EBITDA during the twelve(12) months ending on the Measurement Date or Early Measurement Date (or,in the event an Early Measurement Date selected by Seller, as permitted by theAsset Agreement, is a date prior to January 1, 2009, the annualized EBITDAof the Business for such period), as the case may be, multiplied by (ii) anapplicable multiple (ranging from 5 to 9) depending on the specifiedlevels of CAGR achieved, subject to the $15.0 million cap described above.

 

(b)   In the event LaJobi, prior to the MeasurementDate, relocates the principal location of the Business beyond an agreeddistance, the calculation and payment of the LaJobi Earnout Consideration maybe accelerated upon election of Seller. For purposes of determining the LaJobiEarnout Consideration, the CAGR shall be based on the period from January 1,2008 through the last day of the month (the “Early Measurement Date”)immediately preceding the date of the relocation. In such event, any LaJobiEarnout Consideration payable will be discounted, at the Agreed Rate, from thescheduled payment date to, and including, the specified early payment date.

 

(c)    Any LaJobi Earnout Consideration will berecorded as additional goodwill when and if paid.

 

Under the AssetAgreement, LaJobi is entitled to indemnification from Seller and theStockholders for various matters, including, but not limited to, breaches ofrepresentations, warranties or covenants, and specified excluded obligations,subject, in the case of specified matters, to certain minimum thresholds and amaximum aggregate indemnification limit of $10.0 million. The right toindemnification (other than with respect to certain specified exceptions)terminates 18 months after the Closing Date.

 

In accordance with theAsset Agreement, LaJobi entered into (i) a transitional services agreementwith a Thailand affiliate of Seller, and (ii) a three year employmentagreement with Lawrence Bivona as President of LaJobi. Mr. Bivona wasformerly the President of Seller.

 

In connection with theAsset Agreement, the Company paid a finder’s fee to a financial institution inthe amount of $1.5 million at the closing of the transaction, and hasagreed to pay to such financial institution 1% of the Agreed Enterprise Valueof LaJobi, payable in the same manner and at the same time as the LaJobiEarnout Consideration is paid to Seller. Including the finder’s fee paid at closing, the Company incurredaggregate transaction expenses of approximately $2.0 million in connection withthe LaJobi acquisition.

 

Thepurchase price has been allocated to the net assets acquired based oninformation currently available with regard to the value of such assets.  The estimated fair values contained hereinare preliminary in nature, and may not be indicative of the final purchaseprice allocation, which will be based on an assessment of fair value performedby an independent appraiser. Accordingly, the final determination of value could result in asignificant increase or decrease in amortization expense in future periods fromthe amounts currently estimated.

 

Thefollowing table summarizes the preliminary allocation of the purchase pricebased upon the fair values of the assets acquired and liabilities assumed atthe date of the acquisition of the Business. This initial purchase priceallocation may be adjusted within one year of the purchase date for changes inthe estimated fair value of assets acquired and liabilities assumed. The fairvalues of certain intangibles are based upon a third-party valuation of suchassets:

 
| ** **                    | ** ** | **At April 2, 2008** | ** ** |
|-------------------------------|------------|-------------------------------------|------------|
| ** **                    | ** ** | **(in thousands)**             | ** ** |
| Current assets                |       | $                                   | 14,556     |   |
| Property, plant and equipment |       | 243                                 |       |
| Other assets                  |       | 61                                  |       |
| Goodwill                      |       | 9,129                               |       |
| Customer relationships        |       | 12,700                              |       |
| Trademarks                    |       | 18,700                              |       |
| Royalty agreements            |       | 2,673                               |       |
| Backlog                       |       | 600                                 |       |
| Total assets acquired         |       | 58,662                              |       |
| Liabilities assumed           |       |                                |       |
| Accounts payable              |       | 2,390                               |       |
| Accrued expenses              |       | 2,156                               |       |
| Other long term liabilities   |       | 2,367                               |       |
| Net assets acquired           |       | $                                   | 51,749     |   |

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

**(Continued)**

 

Goodwill of$9,129,000 was assigned to the Company’s infant and juvenile segment for theBusiness. The aggregate amount of goodwill and intangible assets expected to bedeductible for tax purposes is estimated to be $42,802,000.

 

 II.    CoCaLo

 

On April 1, 2008, anewly-formed, wholly-owned Delaware subsidiary of the Company, I&J Holdco, Inc.(the “CoCaLo Buyer”), entered into a Stock Purchase Agreement (the “StockAgreement”) with each of Renee Pepys Lowe and Stanley Lowe (collectively, the “Sellers”),for the purchase of all of the issued and outstanding capital stock of CoCaLo, Inc.,a California corporation (“CoCaLo”). The transactions contemplated by the StockAgreement were consummated as of April 2, 2008.

 

Theacquisition of CoCaLo will enable us to significantly expand our infant andjuvenile segment and offer a more complete range of products for the babynursey.

 

The aggregate basepurchase price payable for CoCaLo was equal to: (i) $16.0 million,minus (ii) the aggregate Debt of CoCaLo outstanding at Closing (includingaccrued interest) of $4.0 million, minus (iii) specified transactionexpenses ($0.3 million), plus (iv) a working capital adjustment of $1.5million paid by the CoCaLo Buyer. A portion of the purchase price($1.6 million) was evidenced by a non-interest bearing promissory note andwill be paid as additional consideration in equal annual installments over athree year period from the Closing Date. The CoCaLo Buyer will also pay theAdditional Earnout Payments, if payable as described below.

 

The Additional EarnoutPayments provide for a potential payment ranging from zero to a maximum of$4.0 million, payable with respect to performance on three metrics –sales, gross profit and combined Kids Line and CoCaLo EBITDA – as follows:

 
| (i)    |   | $666,667 will be paid  if CoCaLo’s aggregate net sales for the three years ending December 31,  2010 (the “Measurement Period”) exceeds a specified target, and up to an  additional $666,667 will be paid, on a straight line sliding scale basis, to  the extent that CoCaLo’s net sales for the Measurement Period are between the  initial performance target and a specified maximum target. |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                       |
| (ii)   |   | $666,667 will be paid  if CoCaLo’s aggregate gross profit for the Measurement Period exceeds a  specified target, and up to an additional $666,667 will be paid, on a  straight-line sliding scale basis, to the extent that CoCaLo’s aggregate  gross profit for the Measurement Period is between the initial performance  target and a specified maximum target.                                              |
|   |   |                                                                                                                                                                                                                                                                                                                                                                                                                       |
| (iii)  |   | $666,666 will be paid  if the aggregate EBITDA of Kids Line and CoCaLo for the Measurement Period  exceeds a specified target, and up to an additional $666,666 will be paid, on  a straight-line sliding scale basis, to the extent that the aggregate EBITDA  of Kids Line and CoCaLo is between the initial performance target and a  specified maximum target.                                                         |

 

Any Additional EarnoutPayments will be recorded as additional goodwill when and if paid.

 

Kids Line has guaranteedall of the obligations of the CoCaLo Buyer under the Stock Agreement.

 

Under the StockAgreement, the CoCaLo Buyer is entitled to indemnification from the Sellers forvarious matters, including, but not limited to, breaches of representations,warranties or covenants, and liabilities with respect to specified proceedingsand obligations, subject, in the case of specified matters, to certain minimumthresholds and a maximum aggregate indemnification limit of $3.0 million.The right to indemnification (other than with respect to certain specifiedexceptions) terminates on the third anniversary of the Closing Date.

 

In accordance with theStock Agreement, CoCaLo entered into a three year employment agreement withRenee Pepys Lowe as President and Chief Executive Officer. Ms. Pepys Lowewas formerly the President and Chief Executive Officer of CoCaLo.

 

Thepurchase price has been allocated to the net assets acquired based oninformation currently available with regard to the value of such assets.  The estimated fair values contained hereinare preliminary in nature, and may not be indicative of the final purchaseprice allocation, which will be based on an assessment of fair value performedby an independent appraiser. Accordingly, the final determination of value could result in a significantincrease or decrease in amortization expense in future periods from the amountscurrently estimated.

 

The followingtable summarizes the preliminary allocation of the purchase price based uponthe fair values of the assets acquired and liabilities assumed at the date ofthe CoCaLo acquisition. This initial purchase price allocation may be adjustedwithin one year of the purchase date for changes in the estimated fair value ofassets 

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

**(Continued)**

 

acquired and liabilitiesassumed. The fair values of certain intangibles are based upon a third-partyvaluation of such assets:

 
| ** **                    | ** ** | **At April 2, 2008** | ** ** |
|-------------------------------|------------|-------------------------------------|------------|
| ** **                    | ** ** | **(000’s)**                    | ** ** |
| Current assets                |       | $                                   | 9,272      |   |
| Property, plant and equipment |       | 164                                 |       |
| Customer relationships        |       | 2,700                               |       |
| Trademarks                    |       | 8,000                               |       |
| Backlog                       |       | 100                                 |       |
| Total assets acquired         |       | 20,236                              |       |
| Liabilities assumed           |       | 1,992                               |       |
| Net assets acquired           |       | $                                   | 18,244     |   |

 

The excess valuereceived of $457,000 above the purchase price was recorded in other long termliabilities.

 

The intangibleswere assigned to the Company’s infant and juvenile segment for the purchase ofCoCaLo. The aggregate amount of intangible assets expected to be deductible fortax purposes is estimated to be $10,800,000.

 

**ProForma Information**

 

The followingunaudited pro forma consolidated results of operations of the Company for thethree and six months ended June 30, 2007 and six months ended June 30,2008 assumes the acquisition of CoCaLo and LaJobi occurred as of January 1of each period (in thousands).

 
| ** **                   | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                   | ** ** | **2007**                                            | ** ** | **2007**                                          | ** ** | **2008** | ** ** |
| Net sales                    |       | $                                                   | 87,016     |                                              | $          | 178,187 |   | $ | 186,119 |   |
| Net (loss) income            |       | $                                                   | (118       | )                                                 | $          | 2,909 |   | $ | (9,489 | ) |
| Net (loss) income per share: |       |                                                |       |                                              |       |   |   |
| Basic                        |       | $                                                   | (0.01      | )                                                 | $          | 0.14 |   | $ | (0.45 | ) |
| Diluted                      |       | $                                                   | (0.01      | )                                                 | $          | 0.14 |   | $ | (0.45 | ) |

 

The above amountsare based upon certain assumptions and estimates, and do not reflect anybenefits from combined operations. The pro forma results have not been auditedand do not necessarily represent results which would have occurred if theacquisitions had taken place on the basis assumed above, and may not beindicative of the results of future combined operations.

 

**NOTE 3 -SHAREHOLDERS’ EQUITY**

 

Thecosts resulting from share-based payment transactions are recognized in thefinancial statements at their grant date fair value. The grant date fair valueof options granted under stock option plans (or otherwise) is estimated on thedate of grant using a Black-Scholes options pricing model using the assumptionsbelow. Expected volatilities are calculated based on the historical volatilityof the Company’s stock, management’s estimate of implied volatility of theCompany’s stock and other factors.  Theexpected term of options granted is derived from the vesting period of theaward, as well as historical exercise behavior, and represents the period oftime that options are expected to be outstanding. Management monitors stockoption exercises and employee termination patterns to estimate forfeiture rateswithin the valuation model. Separate groups of employees, directors andofficers that have similar historical exercise behavior are consideredseparately for valuation purposes. The risk-free interest rate is based on theTreasury note interest rate in effect on the date of grant for the expectedterm of the stock option.

 

***Stock Plans***

 

Asof June 30, 2008, the Company maintained the 2004 Stock Option, Restrictedand Non-Restricted Stock Plan (the “2004 Option Plan”) and the Amended andRestated 2004 Employee Stock Purchase Plan (the “2004 ESPP”).  As of June 30, 2008 there were anaggregate of 834,214 shares of common stock reserved for issuance under the2004 Option Plan and the 2004 ESPP.  TheCompany also continues to have options outstanding (although no further grantscan be made) under certain equity plans that it previously maintained,(collectively, the 

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS**

**(Continued)**

 

“PredecessorPlans”).  No awards may be made after July 10,2008 under the 2004 Option Plan.  Inaddition, the Company may issue stock options outside of the plans discussedabove. As of June 30, 2008 there were 370,000 stock options outstandingthat were granted outside these plans. The exercise price for options issued under the 2004 Option Plan, thePredecessor Plans or otherwise is generally equal to the closing price of theCompany’s common stock as of the date the option is granted. Generally, stockoptions under the 2004 Option Plan (or otherwise) and the Predecessor Plansvest over a period ranging from one to five years from the grant date unlessotherwise stated by the specific grant. Options generally expire 10 yearsfrom the date of grant.  See Notes 2 and17 of the Notes to Consolidated Financial Statements of the 2007 10-K forfurther details with respect to equity plans. See Note 16 of this QuarterlyReport on Form 10-Q for a description of the adoption of the Equity IncentivePlan, the termination of the 2004 Option Plan and the adoption of the 2009Employee Stock Purchase Plan.

 

***Stock Options***

 

Thefollowing table summarizes activity regarding outstanding options as of June 30,2008, and changes during the six months ended June 30, 2008:

 
| ** **                                    | ** ** | **Options** | ** ** | **Weighted  Average  Exercise Price  per Option** | ** ** | **Option Price per  Share** | ** **       | **Weighted  Average  Remaining  Contractual  Term (years)** | ** ** | **Aggregate  Intrinsic  Value $(000)** | ** ** |
|-----------------------------------------------|------------|-------------|------------|-------------------------------------------------------------|------------|---------------------------------------|------------------|------------------------------------------------------------------|------------|---------------------------------------------|------------|
| Options outstanding at December 31, 2007 |       | 1,775,417   |       | $                                                           | 18.20      |                                  | $11.19  - $34.80 |                                                             | 7.2        |                                        | $          | 1,400 |   |
| Granted                                       |       | 151,000     |       | $                                                           | 14.43      |                                  | $13.65-$14.83    |                                                             | 4.6        |                                        |       |   |
| Exercised                                     |       | —      |       | —                                                      |       | —                                |             |                                                             |       |                                        |       |
| Forfeited/cancelled                           |       | (24,653     | )          | $                                                           | 20.87      |                                  | $16.77-$34.05    |                                                             |       |                                        |       |   |
| Options outstanding at June 30, 2008     |       | 1,901,764   |       | $                                                           | 17.87      |                                  | $11.19-$34.05    |                                                             | 6.5        |                                        | $          | — |   |
| Vested and exercisable at June 30, 2008  |       | 1,167,164   |       | $                                                           | 19.09      |                                  | $11.19-$34.05    |                                                             | 5.8        |                                        | $          | — |   |

 

Duringthe three months ended March 31, 2008, 100,000 options were granted to ourChief Executive Officer pursuant to the terms of his employment agreement withthe Company, and during the three months ended June 30, 2008, 51,000additional stock options were granted to employees.  Grants of restricted stock of 7,900 shareswere granted during the three months ended June 30, 2008.  No options or shares of restricted stock weregranted during the six months ended June 30, 2007.  Subsequent to June 30, 2008, 105,000stock options were granted to directors under the Company’s new EquityIncentive Plan (see Note 16), each at an exercise price of $7.28.

 

Share-basedcompensation expense related to the Company’s stock options recorded inselling, general and administrative expense for the three and six months ended June 30,2008 was approximately $232,000 and $453,000, respectively. Share-basedcompensation expense related to the Company’s stock options recorded inselling, general and administrative expense for the three and six months ended June 30,2007 was approximately $(26,000) and $11,000, respectively. The credit of$26,000  for the three months ended June 30,2007 related to a change in estimated forfeitures for options granted in November 2006that were forfeited during the first six months of 2007. Share-basedcompensation expense related to the Company’s outstanding restricted stockrecorded in selling, general and administrative expense for the three and sixmonths ended June 30, 2008 was approximately $184,000 and $363,000,respectively. There was no share-based compensation expense related torestricted stock for the three and six months ended June 30, 2007 (as norestricted stock was outstanding).  Nocompensation cost related to equity grants was capitalized (in inventory or anyother assets) as of June 30, 2008 and 2007. For the three and six monthsended June 30, 2008 and 2007, there were no excess tax benefits recognizedas a result of share-based compensation exercises.

 

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**RUSSBERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

**(Continued)**

 

Theassumptions used to estimate the fair value of the stock options granted duringthe six months ended June 30, 2008 is estimated on the date of grant usingthe Black-Scholes option-pricing model with the following weighted averageassumptions:

 
| ** **              | ** ** | **Six Months Ended** | ** ** |
|-------------------------|------------|--------------------------------|------------|
| ** **              | ** ** | **June 30, 2008**    | ** ** |
| Dividend Yield          |       | —                         |       |
| Risk-free Interest Rate |       | 3.03                           | %          |
| Volatility              |       | 38.70                          | %          |
| Expected Life (years)   |       | 5                              |       |

 

***Non-vested Stock Options and Restricted Stock***

 

As of June 30, 2008, there was approximately $3.4 million of total unrecognized compensation costrelated to 734,600 non-vested stock options. This cost is expected to berecognized over a weighted-average period of 4.0 years.

 

A summary of theCompany’s non-vested stock options at June 30,2008 and changes during the six months ended June 30, 2008 are presented below:

 
| ** **                             | ** ** | ** ** | ** ** | **Weighted Average**     | ** ** |
|----------------------------------------|------------|------------|------------|-------------------------------|------------|
| ** **                             | ** ** | ** ** | ** ** | **Grant Date Fair** | ** ** |
| **Non-vested stock options** | ** ** | **Shares** | ** ** | **Value**                     | ** ** |
| Non-vested at December 31, 2007   |       | 618,600    |       | $                             | 16.41      |   |
| Granted                                |       | 151,000    |       | $                             | 14.43      |   |
| Vested                                 |       | (20,000    | )          | $                             | 16.05      |   |
| Forfeited                              |       | (15,000    | )          | $                             | 16.77      |   |
| Non-vested at June 30, 2008       |       | 734,600    |       | $                             | 16.00      |   |

 

During the yearended December 31, 2007, there were 170,675 shares of restricted stockissued under the 2004 Option Plan, all of which remain non-vested. Theserestricted stock grants have vesting periods ranging from three to five years,with fair values at date of grant ranging from $13.65 to $16.77 per share.Compensation expense is determined for the issuance of restricted stock byamortizing over the requisite service period, or the vesting period, theaggregate fair value of the restricted stock awarded based on the closing priceof the Company’s Common Stock on the date the award is made. There were 7,900shares of restricted stock granted during the second quarter of 2008 at fairvalue on the date of grant.

 

A summary of theCompany’s non-vested restricted stock grants at June 30, 2008 and changesduring the six months ended June 30, 2008 are presented below:

 
| ** **                            | ** ** | ** ** | ** ** | **Weighted Average**     | ** ** |
|---------------------------------------|------------|------------|------------|-------------------------------|------------|
| **Non-vested**                        | ** ** | ** ** | ** ** | **Grant Date Fair** | ** ** |
| **restricted stock grants** | ** ** | **Shares** | ** ** | **Value**                     | ** ** |
| Restricted at December 31, 2007  |       | 170,675    |       | $                             | 16.31      |   |
| Granted                               |       | 7,900      |       | $                             | 13.65      |   |
| Forfeited                             |       | —     |       | $                             | —     |   |
| Restricted at June 30, 2008      |       | 178,575    |       | $                             | 16.19      |   |

 

As of June 30,2008, the total remaining unrecognized compensation cost related to outstandingshares of restricted stock was approximately $2.4 million, and is expected tobe recognized over a weighted-average period of 3.4 years.

 

***EmployeeStock Purchase Plan***

 

Under the 2004 ESPP,eligible employees are provided the opportunity to purchase the Company’scommon stock at a discount.  Pursuant tothis plan, options are granted to participants as of the first trading day ofeach plan year, which is the calendar year, and may be exercised as of the lasttrading day of each plan year, to purchase from the Company the number ofshares of common stock that may be purchased at the relevant purchase pricewith the aggregate amount contributed by each participant.  In each plan year, an eligible employee mayelect to participate in the plan by filing a payroll deduction authorizationform for up to 10% (in whole percentages) of his or her compensation.  No employee shall have the right to purchasethe Company’s common stock under the 2004 ESPP which has a fair value in excessof $25,000 in any plan year.  Thepurchase price is the lesser of 85% of the 

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATED FINANCIALSTATEMENTS**

**(Continued)**

 

closing market price ofthe Company’s common stock on either the first trading day or the last tradingday of the plan year.  If an employeedoes not elect to exercise his or her option, the total amount credited to hisor her account during that plan year is returned to such employee, and his orher option expires.  As of June 30,2008, the 2004 ESPP had approximately 80,269 shares reserved for futureissuance. See Note 16 for a description of the adoption of the 2009 EmployeeStock Purchase Plan.

 

Total share-basedcompensation expense related to the 2004 ESPP was approximately $44,000 and$89,000 for the three and six months ended June 30, 2008, respectively.Total share-based compensation expense related to the 2004 ESPP wasapproximately $37,000 and $75,000 for the three months and six months ended June 30,2007, respectively.

 

The fair value of eachoption granted under the 2004 ESPP is estimated on the date of grant using theBlack-Scholes option-pricing model with the following assumptions:

 
| ** **              | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------|------------|-----------------------------------------------|------------|
| ** **              | ** ** | **2008**                                      | ** ** | **2007** | ** ** |
| Dividend yield          |       | —                                        |       | — |   |
| Risk-free interest rate |       | 3.17                                          | %          | 4.98 | % |
| Volatility              |       | 34.40                                         | %          | 36.70 | % |
| Expected life (years)   |       | 1                                             |       | 1 |   |

 

Expected volatilities arecalculated based on the historical volatility of the Company’s stock;management’s estimate of implied volatility of the Company’s stock and otherfactors. The risk-free interest rate is based on the U.S. Treasury yield with aterm that is consistent with the expected life of the options. The expectedlife of options under the 2004 ESPP is one year, or the equivalent of theannual plan year.

 

**NOTE 4 -WEIGHTED AVERAGE COMMON SHARES**

 

The weightedaverage common shares outstanding included in the computation of basic anddiluted net income/loss per share is set forth below (in thousands):

 
| ** **                                                                | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------------------------------------------------|------------|-------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                | ** ** | **2008**                                        | ** ** | **2007**                                      | ** ** | **2008** | ** ** | **2007** | ** ** |
| Weighted average common shares outstanding                                |       | 21,300                                          |       | 21,080                                        |       | 21,300 |   | 21,078 |   |
| Dilutive effect of common shares issuable upon exercise of stock  options |       | —                                          |       | 148                                           |       | — |   | 113 |   |
| Weighted average common shares outstanding assuming dilution              |       | 21,300                                          |       | 21,228                                        |       | 21,300 |   | 21,191 |   |

 

The computation ofdiluted net income (loss) per common share for the three and six months ended June 30,2008 did not include options to purchase approximately 1.9 million shares ofcommon stock because there was a net loss for each such period and inclusion ofsuch shares would have been anti-dilutive.

 

For the three andsix months ended June 30, 2007, approximately 0.8 million stock optionswere excluded from the computation of diluted earnings per share because theexercise prices were greater than the average market price of the common stockduring such period.

 

**NOTE 5 –DEBT**

 

Consolidatedlong-term debt at June 30, 2008 and December 31, 2007 consisted ofthe following (in thousands):

 
| ** **                              | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|-----------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
|                                    |       |                    |       |                        |       |
| Term Loan (Infantline Credit Agreement) |       | $                       | 96,400     |                        | $          | 43,500 |   |
| Note Payable(CoCaLo purchase)           |       | 1,458                   |       | —                      |       |
| Total                                   |       | 97,858                  |       | 43,500                      |       |
| Less current portion                    |       | 14,933                  |       | 11,500                      |       |
| Long-term debt                          |       | $                       | 82,925     |                        | $          | 32,000 |   |

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

** **

AtJune 30, 2008, there was approximately $25.8 million borrowed underthe New Revolving Loan, and approximately $6.1 million borrowed under theGiftline Revolver (each as defined below), all of which is classified asshort-term debt.  At December 31,2007, there was approximately $15.5 million borrowed under the OriginalRevolving Loan (as defined below) and approximately $7.8 million borrowed underthe Giftline Revolver, all of which is classified as short-term debt.

 

*A. The Infantline CreditAgreement*

 

On March 14, 2006(the “Closing Date”), Kids Line, LLC (“KL”) and Sassy, Inc. (“Sassy”)entered into a credit agreement as borrowers, on a joint and several basis,with LaSalle Bank National Association as administrative agent and arranger(the “Agent”), the lenders from time to time party thereto, Russ Berrie andCompany, Inc. (“RB”) as loan party representative, Sovereign Bank assyndication agent, and Bank of America, N.A. as documentation agent (as amendedon December 22, 2006, the “Infantline Credit Agreement”). The originalcommitments under the Infantline Credit Agreement consisted of (a) a $35.0million revolving credit facility (the “Original Revolving Loan”), with asubfacility for letters of credit in an amount not to exceed $5.0 million, and (b) aterm loan facility in the original amount of $60 million (the “Original TermLoan”).

 

As of December 22,2006 the Infantline Credit Agreement was amended (the “First Amendment”) topermit the repayment and subsequent reborrowing of up to $20 million under theOriginal Term Loan, which was intended to enable KL and Sassy to continue toutilize cash flows expected to be generated from operations to repay debt untilthe earnout consideration for the purchase of Kids Line, LLC (the “KL EarnoutConsideration”) became due.  Pursuant tothe First Amendment, KL and Sassy borrowed $20 million under the OriginalRevolving Loan, the outstanding balance of which had previously been reduced tozero, and utilized the proceeds of such draw to prepay $20 million of theOriginal Term Loan. The lenders then provided an additional term loanreborrowing commitment (the “TR Commitment”) of an aggregate maximum principalamount of $20 million, which amounts could only be reborrowed during specifiedperiods and only to fund the payment of the KL Earnout Consideration.  Pursuant to the First Amendment, KL and Sassypaid a non-use fee in respect of undrawn amounts of the TR Commitment at a perannum rate of 0.375% of the daily average of the undrawn amounts.  In December 2007, KL and Sassy paid$28.5 million of the KL Earnout Consideration, which amount was financed bydrawing the TR Commitment of $20 million and drawing an additional $8.5 millionon the Original Revolving Loan. The remaining portion of the KL EarnoutConsideration ($3.6 million) was paid by KL and Sassy in January of 2008,also through a draw on the Original Revolving Loan.

 

As of April 2, 2008,RB, KL, Sassy, the CoCaLo Buyer, LaJobi and CoCaLo (via a Joinder Agreement)entered into an Amended and Restated Credit Agreement (the “Amendment”) withcertain financial institutions party to the Infantline Credit Agreement ortheir assignees (the “Lenders”), LaSalle Bank National Association, as Agentand Fronting Bank, Sovereign Bank as Syndication Agent, Wachovia Bank, N.A. asDocumentation Agent and Banc of America Securities LLC as Lead Arranger.  KL, Sassy, the CoCaLo Buyer, LaJobi andCoCaLo are referred to herein collectively as the “Infantline Borrowers”, andthe CoCaLo Buyer, LaJobi and CoCaLo are referred to herein as the “NewBorrowers”.  The Amendment amends andrestates the Infantline Credit Agreement, and adds the New Borrowers as partiesthereto.  The Pledge Agreement dated asof March 14, 2006 between RB and the Agent (as amended on December 22,2006) was also amended and restated as of April 2, 2008, to provide, amongother things, for a pledge of the capital stock of the CoCaLo Buyer by RB.  In connection with the Amendment, 100% of theequity of each Infantline Borrower, including each New Borrower, has beenpledged as collateral to the Agent.  Inaddition, the Guaranty and Collateral Agreement (as defined in the Amendment)was also amended and restated as of April 2, 2008, to add the NewBorrowers as parties and to include substantially all of the existing andfuture assets and properties of the New Borrowers as security for thesatisfaction of the obligations of all Infantline Borrowers, including the NewBorrowers, under the Amendment and the other related loan documents.

 

The commitments under theAmendment consist of (a) a $75.0 million revolving credit facility (the “NewRevolving Loan”), with a subfacility for letters of credit in an amount not toexceed $5.0 million, and (b) a $100.0 million term loan facility (the “NewTerm Loan”). The Infantline Borrowers drew down $31.0 million under the NewRevolving Loan and the entire $100 million available under the New Term Loan onthe Closing Date, in order to finance the acquisitions of LaJobi and CoCaLo,and pay related transaction expenses of such acquisitions and the Amendment,and to reallocate the existing indebtedness among the bank syndicate.  The scheduled maturity date has been extendedfrom March 14, 2011 to April 1, 2013 (subject to customary earlytermination provisions).  The principalof the Original Term Loan was to be repaid on a monthly basis as follows: $9.0million for each of years 1-2; $12.0 million for year 3; and $15.0 million foreach of years 4-5.  Pursuant to theAmendment, the principal of the 

 

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**RUSSBERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

New Term Loan will berepaid, on a quarterly basis, at an annual rate of $14.4 million per year,commencing June 30, 2008 thru June 30, 2012 with $31.6 million due in2013.

 

The Infantline Loans bearinterest at a rate per annum equal to the Base Rate (for Base Rate Loans) orthe LIBOR Rate (for LIBOR Loans) at the option of the Infantline Borrowers,plus an applicable margin, in accordance with a pricing grid based on the mostrecent quarter-end Total Debt to EBITDA Ratio, which applicable margin, priorto the execution of the Amendment, ranged from 1.75% - 2.50% for LIBOR Loansand from 0.25% - 1.00% for Base Rate Loans. Pursuant to the Amendment, the margins now range from 2.0% - 3.0% forLIBOR Loans and from 0.50% - 1.50% for Base Rate Loans.

 

The applicable interestrate margins as of June 30, 2008 were: 2.75% for LIBOR Loans and 1.25% forBase Rate Loans. The weighted average interest rates for the outstanding loansas of June 30, 2008 were as follows:

 
| ** **           | ** ** | **At June 30, 2008** | ** ** |
|----------------------|------------|-------------------------------------|------------|
| ** **           | ** ** | **LIBOR Loans**                | ** ** | **Base Rate Loans** | ** ** |
| Infantline Revolver  |       | 5.36                                | %          | 6.48 | % |
| Infantline Term Loan |       | 5.38                                | %          | 6.48 | % |

 

In connection with the Amendment, the InfantlineBorrowers paid the Agent and Lenders a closing fee of approximately $1.5million, and the Company incurred $0.7 million of other third party costs.  Of the aggregate fees and costs, $0.4 millionwas expensed to interest expense in the three months ended June 30, 2008and the remainder was treated as deferred financing costs and will berecognized over the term of the respective types of indebtedness using theeffective interest method.   Inconnection with the Amendment, the Company also wrote-off during the secondquarter of 2008 $0.3 million of unamortized deferred financing costs.

 

In addition, pursuant to the Amendment, the followingfees are now applicable:  an agency feeof $35,000 per annum, an annual non-use fee (payable monthly, in arrears, andupon termination of the relevant obligations) of 0.40% to 0.60% of the unusedamounts under the Revolving Loan, an annual letter of credit fee (payablemonthly, in arrears, and upon termination of the relevant obligations) forundrawn amounts with respect to each letter of credit based on the most recentquarter-end Total Debt to EBITDA Ratio ranging from 2.75% - 3.25% and othercustomary letter of credit administration fees. On August 13, 2008, the Amendment was further amended (the “August Modification”)to clarify the definition of EBITDA as applied to, among other things, theTotal Debt to EBITDA Ratio for the last three quarters of 2008.

 

The Infantline Borrowersare required to make prepayments of the New Term Loan upon the occurrence ofcertain transactions, including most asset sales or debt or equity issuances,and pursuant to the Amendment, extraordinary receipts. Commencing in early 2008with respect to fiscal year 2007, annual mandatory prepayments of the OriginalTerm Loan would have been required in an amount equal to 50% of Excess CashFlow for each fiscal year unless the Total Debt to EBITDA Ratio for such fiscalyear was equal to or less than 2.00:1.00. For fiscal year 2007, no Excess CashFlow payment was required, and pursuant to the Amendment, this requirement hasbeen eliminated in its entirety.

 

The Amendment contains customary affirmative andnegative covenants.  as well as thefollowing financial covenants: (i) a minimum Fixed Charge Coverage Ratio, (ii) amaximum Total Debt to EBITDA Ratio and (iii) an annual capital expenditurelimitation.  Upon the occurrence of anevent of default under the Amendment, including a failure to remain incompliance with all applicable financial covenants, the lenders could elect todeclare all amounts outstanding under the Amendment to be immediately due andpayable.  If tested on such date, theInfantline Borrowers would have been non-compliant with the Total Debt toEBITDA Ratio on June 30, 2008.  The AugustModification, however, which clarified the definition of EBITDA (among otherthings, as it applies to such ratio for the last three quarters of 2008,including for the quarter ending June 30, 2008), was executed prior to anydefault with respect to such ratio.  As aresult, the Infantline Borrowers were in compliance with all applicablefinancial covenants in the Amendment as of June 30, 2008.

 

The Amendment containssignificant limitations on the ability of the Infantline Borrowers todistribute cash to RB, which became a corporate holding company by virtue ofthe Assignment, for the purpose of paying dividends to the shareholders of theCompany or for the purpose of paying their allocable portion of RB’s corporateoverhead expenses.  Prior to theeffectiveness of the Amendment, KL and Sassy were not permitted (except inspecified 

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

situations) to distributecash to RB to pay RB’s overhead expenses unless: (i) before and aftergiving effect to such distribution, no event of default would exist and (ii) beforeand after giving effect to such distribution, Excess Revolving LoanAvailability will equal or exceed $4.0 million; provided that the aggregateamount of such distributions could not exceed $2.0 million per year.  Pursuant to the Amendment, the $4.0 million availabilitythreshold was increased to $5.0 million, and the aggregate maximum amount ofsuch distributions was increased to $3.5 million, and apply in each case to allInfantline Borrowers.  Other restrictionson dividends and distributions to RB remain unchanged by the Amendment.

 

The Amendment alsoeffected the following additional changes, among others, to the InfantlineCredit Agreement:

 

(i)            The definition of Borrowing Base was amended from 85%of eligible receivables plus 55% of eligible inventory to 85% of eligiblereceivables plus the lesser of (x) $25.0 million and (y) 55% ofeligible inventory;

 

(ii)           Payment of the amounts outstanding under thepromissory note under the Stock Agreement is prohibited if before and aftergiving effect to any such repayment, a default or event of default would exist;

 

(iii)          Payment of the LaJobi Earnout Consideration or theCoCaLo Additional Earnout Payments is prohibited if before and after givingeffect to any such repayment, (a) a default or event of default wouldexist, (b) Excess Revolving Loan Availability will not equal or exceed$9.0 million, or (c) before and after giving effect to any such repayment,the Infantline Financial Covenants will not be satisfied (the “EarnoutConditions”);

 

(iv)          Specified defaults with respect to the LaJobi EarnoutConsideration and/or the CoCaLo Additional Earnout Payments have been added asevents of default (including failure to deliver to the Agent specifiedcertifications and calculations within a specified time period, the reasonabledetermination by the Agent that any Earnout Conditions will not be satisfied asof the applicable payment date, if any material information provided to theAgent with respect to the Earnout Conditions shall be incorrect in any materialrespect and remain unremedied prior to the relevant payment date, or any LaJobiEarnout Consideration or Additional Earnout Payments are paid at any time thatthe Earnout Conditions are not satisfied); and

 

(v)           The Infantline Borrowers are required to maintain ineffect Hedge Agreements that protect against potential fluctuations in interestrates with respect to a minimum of 50% of the outstanding amount of the NewTerm Loan.

 

The Revolving LoanAvailability at June 30, 2008 was $22.7 million.

 

Pursuant to the requirementto maintain Hedge Agreements discussed above, on May 2, 2008, theInfantline Borrowers entered into an interest rate swap agreement with anotional amount of $70 million as a risk management tool to lock the interestcash outflows on the floating rate debt. However, because the Company did not meet the criteria for hedgeaccounting under SFAS No. 133 for this instrument, changes in the fairvalue of the interest rate swap will be remeasured through operations eachperiod.  Changes between its cost and itsfair value as of June 30, 2008 resulted in income of approximately$158,000, and such amount is included in interest expense in the consolidatedstatements of operations for the three and six months ended June 30, 2008.

 

*B. TheGiftline Credit Agreement*

 

On March 14,2006, as amended on April 11, 2006, August 8, 2006, December 28,2006 and August 7, 2007, Russ Berrie U.S. Gift Inc. (“U.S. Gift”) andother specified wholly-owned domestic subsidiaries of RB (collectively, the “GiftlineBorrowers”), entered into a credit agreement as borrowers, on a joint andseveral basis, with LaSalle Bank National Association, as issuing bank (the “IssuingBank”), LaSalle Business Credit, LLC as administrative agent (the “AdministrativeAgent”), the lenders from time to time party thereto, and the Company, as loanparty representative (as amended, the “Giftline Credit Agreement”). Unlessotherwise specified herein, capitalized terms used but undefined in this Note5, Section B shall have the meanings ascribed to them in the GiftlineCredit Agreement.

 

Prior to the August 8,2007 amendment to the Giftline Credit Agreement (the “Fourth Amendment”), theGiftline Credit Agreement consisted of a maximum revolving credit loancommitment (the “Giftline Revolver”) in an amount equal to the lesser of (i) $15.0 million(with a maximum availability of $13.5 million) and (ii) thethen-current Borrowing Base, in each case minus amounts outstanding under theCanadian Credit Agreement (as defined below), with a sub-facility for letters ofcredit to be issued by the Issuing Bank in an amount not to exceed$8.0 million. The Fourth Amendment increased the aggregate totalCommitment under the Giftline Credit 

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

Agreement from$15.0 million to $25.0 million, and amended the definition of RevolvingLoan Availability so that it now equals the difference between (a) thelesser of (x) the Maximum Revolving Commitment in effect at such time and (y) theBorrowing Base at such time, minus (b) the sum of the aggregate principalamount of all “Loans”, “Specified Hedging Obligations” and the “Stated Amount”of all “Letters of Credit” outstanding or requested but not yet funded underthe Canadian Loan Agreement. The Borrowing Base is primarily a function of apercentage of eligible accounts receivable and eligible inventory. As of June 30,2008, the outstanding balance on the Giftline Revolver was $6.1 million,there was no outstanding balance on the Canadian Revolving Loan (see Section Cbelow), and there was $1.2 million utilized under the Canadian sub-facilityfor letters of credit. At June 30, 2008, based on available collateral,the unused amount available to be borrowed under the Giftline Revolver was$1.2 million.

 

All outstandingamounts under the Giftline Revolver are due and payable on March 14, 2011,subject to earlier termination in accordance with the terms of the GiftlineCredit Agreement.

 

The GiftlineRevolver bears interest at a rate per annum equal to the sum of the Base Rate(for Base Rate Loans) or the LIBOR Rate (for LIBOR Loans), at the Company’soption plus an applicable margin, which margin was originally 2.75% for LIBORLoans and 1.25% for Base Rate Loans. However, pursuant to the December 28,2006 amendment to the Giftline Credit Agreement (the “Third Amendment”), theinterest rates applicable to the Giftline Revolver were reduced such that theapplicable margin is now determined in accordance with a pricing grid based onthe most recent quarter-end Daily Average Excess Revolving Loan Availability,which applicable margins range from 2.00% - 2.75% for LIBOR Loans and from0% - 0.50% for Base Rate Loans. Interest is due and payable in the samemanner as with respect to the Infantline Loans. The applicable interest ratemargins as of June 30, 2008 were 2.25% for LIBOR Loans and 0.25% for BaseRate Loans. As of June 30, 2008, the interest rate was 5.25% for the oneoutstanding Base Rate loan ($1.6 million) and 4.73% for one outstandingLIBOR loan ($4.5 million).

 

In connection withthe execution of the Giftline Credit Agreement, the Infantline Borrowers paid(on behalf of the Giftline Borrowers) aggregate closing fees of$0.15 million and an aggregate agency fee of $20,000. Aggregate agencyfees of $20,000 will be payable by the Giftline Borrowers on each anniversaryof the Closing Date. Pursuant to the Third Amendment, the Giftline Revolver issubject to an annual non-use fee (payable monthly, in arrears, and upontermination of the relevant obligations), ranging from 0.375% to 0.50% forunused amounts under the Giftline Revolver, and an annual letter of credit feeranging from 2.00% to 2.75%. Other fees are as described in the Giftline CreditAgreement.

 

Receivable anddisbursement bank accounts of the Giftline Borrowers are required to be withthe Administrative Agent or its affiliates, and cash in such accounts is swepton a daily basis to pay down outstanding amounts under the Giftline Revolver.

 

The GiftlineCredit Agreement contains customary affirmative and negative covenantssubstantially similar to those applicable to the Amendment. The Giftline CreditAgreement originally contained the following financial covenants: (i) aminimum EBITDA test, (ii) a minimum Excess Revolving Loan Availabilityrequirement of $5.0 million, (iii) an annual capital expenditurelimitation and (iv) a minimum Fixed Charge Coverage Ratio (for quarterscommencing with the quarter ended June 30, 2008). On August 8, 2006,the Giftline Credit Agreement was amended to lower the threshold on the MinimumEBITDA covenant by $1.0 million per quarter for each of four consecutivequarters commencing with the quarter ending September 30, 2006. The ThirdAmendment (i) eliminated in their entirety both the minimum EBITDAfinancial covenant and the Fixed Charge Coverage Ratio financial covenant and (ii) reducedthe minimum Excess Revolving Loan Availability requirement from$5.0 million to $3.5 million. The Fourth Amendment eliminated theexisting Excess Revolving Loan Availability requirement, and re-instituted aFixed Charge Coverage Ratio covenant based on the last day of any month for theapplicable Computation Period (as defined in the Fourth Amendment) ending onsuch date. The Fixed Charge Coverage Ratio now specifies that the Fixed ChargeCoverage Ratio, as determined for the Computation Period ending on the last dayof any month, may not be less than 1.1:1.0. This covenant is only applicable,however, if during the three month period then ending on such date ofdetermination (the “Test Period”) Revolving Loan Availability (defined above)was less than $3.5 million for any three (3) consecutive business dayperiod (the “Test Condition”). If compliance is required because the TestCondition was not met, the Giftline Borrowers will be required to deliver aspecified compliance certificate to the Administrative Agent. In addition, theGiftline Borrowers must comply with the Fixed Charge Coverage Ratio covenantfor a period of three consecutive months after they fail to satisfy the TestCondition. The Company’s availability was not less than $3.5 million during thequarter ended June 30, 2008 and the Fixed Charge Coverage Ratio was notapplicable during the quarter. As of June 30, 2008, the Company was incompliance with the applicable financial covenants contained in the GiftlineCredit Agreement.

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

In addition to thechanges discussed above, the Fourth Amendment permits, subject to specifiedconditions, the mergers of specified inactive subsidiaries of RB with and intoRB (including certain Giftline Borrowers), and increases the amount ofin-transit inventory which may be deemed “Eligible Inventory” under specifiedcircumstances from $3.0 million to $8.0 million.

 

The GiftlineCredit Agreement contains significant limitations on the ability of theGiftline Borrowers to distribute cash to RB for the purpose of paying dividendsto the shareholders of the Company or for the purpose of paying RB’s corporateoverhead expenses, including a cap (subject to certain exceptions) on theamount that can be provided to RB to reimburse for its allocable portion ofcorporate overhead expenses equal to $5.0 million for each fiscal yearcommencing in 2008. The Third Amendment permits the Giftline Borrowers to paydividends or make distributions to RB if no default or event of default existsor would result therefrom and immediately after giving effect to such payments,there is at least $1.5 million available to be drawn under the GiftlineRevolver. The amount of any such payments to RB cannot exceed the amount ofcapital contributions made by RB to the Giftline Borrowers after December 28,2006, which are used by the Giftline Borrowers to pay down the GiftlineRevolver minus the total amount of dividends or other distributions made by theGiftline Borrowers to RB under this provision of the Giftline Credit Agreement.

 

In order to securethe obligations of the Giftline Borrowers, the Giftline Borrowers pledged andhave granted security interests to the Administrative Agent in substantiallyall of their existing and future personal property, and each Giftline Borrowerguaranteed the performance of the other Giftline Borrowers under the GiftlineCredit Agreement. In addition, RB provided a limited recourse guaranty of theobligations of the Giftline Borrowers under the Giftline Credit Agreement. Thisguarantee is secured by a lien on the assets intended to be assigned to U.S.Gift pursuant to the Assignment. RB also pledged 100% of the equity interestsof each of the Giftline Borrowers and 65% of its equity interests in certain ofits First Tier Foreign Subsidiaries to the Administrative Agent (the “GiftlinePledge Agreement”). The Giftline Pledge Agreement contains substantiallysimilar limitations on the activities of RB as is set forth in the InfantlinePledge Agreement.

 

*C.Canadian Credit Agreement*

 

As contemplated bya previous credit facility with LaSalle Bank National Association, on June 28,2005, the Company’s Canadian subsidiary, Amram’s Distributing Ltd. (“Amrams”),executed a separate Credit Agreement (acknowledged by RB) with the financialinstitutions party thereto and LaSalle Business Credit, a division of ABN AMROBank, N.V., Canada Branch, a Canadian branch of a Netherlands bank, asissuing bank and administrative agent (the “Canadian Credit Agreement”), andrelated loan documents with respect to a maximum U.S. $10.0 millionrevolving loan (the “Canadian Revolving Loan”). RB executed an unsecuredGuarantee (the “Canadian Guarantee”) to guarantee the obligations of Amramsunder the Canadian Credit Agreement. In connection with the execution of theGiftline Credit Agreement, on March 14, 2006, the Canadian CreditAgreement was amended to (i) replace references to the previous credit facilitywith the Giftline Credit Agreement (such that, among other conforming changes,a default under the Giftline Credit Agreement will be a default under theCanadian Credit Agreement), (ii) release RB from the Canadian Guaranty and(iii) provide for a maximum U.S. $5.0 million revolving loan. Inconnection with the release of the Company from the Canadian Guaranty, U.S.Gift executed an unsecured Guarantee to guarantee the obligations of Amramsunder the Canadian Credit Agreement. A default under the Infantline CreditAgreement will not constitute a default under the Canadian Credit Agreement.There were no borrowings under the Canadian Revolving Loan as of June 30,2008 and December 31, 2007.

 

The Commitmentsunder the Canadian Credit Agreement bear interest at a rate per annum equal tothe sum of the Base Rate (for Base Rate Loans) or the LIBOR Rate (for LIBORLoans) plus an applicable margin. As of June 30, 2008 and December 31,2007, there were no Base Rate or Libor Loans outstanding.

 

*D. RussBerrie (UK) Limited Business Overdraft Facility*

 

On March 19,2007, Russ Berrie UK Limited entered into a Business Overdraft Facility (the “Facility”)with National Westminster Bank PLC (the “Bank”) and The Royal Bank ofScotland plc (“RBS”), acting as agent for the Bank. The Facility, asamended, consists of a maximum credit line of £1.5 million. Interest ischarged on amounts outstanding under the Facility at an annual rate of 1.5%over the Bank’s Base Rate, which interest rate spread will be increased to 3.5%for any amounts outstanding in excess of the maximum limit. The Facility issecured by a lien on substantially all of the assets of Russ Berrie UK Limited.The Facility was established to assist in meeting the working capitalrequirements of Russ Berrie UK Limited. As of June 30, 2008, there were noborrowings outstanding under the Facility.

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

**NOTE 6 –GOODWILL AND INTANGIBLE ASSETS**

 

As of June 30,2008, all of the Company’s goodwill (approximately $129.9 million) was recordedin the infant and juvenile segment and results from the acquisitions of: LaJobiInc. and CoCaLo, Inc. in April 2008; Kids Line, LLC in 2004; andSassy in 2002. As a result of the acquisitions of LaJobi and CoCaLo, thecarrying amount of goodwill increased by $9.1 million during the six monthsended June 30, 2008.

 

The significantcomponents of intangible assets consist of the following (in thousands):

 
| ** **                       | ** ** | **Weighted  Average  Amortization  Period** | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|----------------------------------|------------|---------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| Sassy trade name                 |       | Indefinite  life                            |       | $                       | 7,100      |                        | $          | 7,100 |   |
| Applause trade name              |       | Indefinite  life                            |       | 7,646                   |       | 7,646                       |       |
| Kids Line customer relationships |       | Indefinite  life                            |       | 31,100                  |       | 31,100                      |       |
| Kids Line trade name             |       | Indefinite  life                            |       | 5,300                   |       | 5,300                       |       |
| LaJobi trade name                |       | Indefinite  life                            |       | 18,700                  |       | —                      |       |
| LaJobi customer relationships    |       | 20  years                                   |       | 12,541                  |       | —                      |       |
| LaJobi royalty agreements        |       | 4.2  years                                  |       | 2,465                   |       | —                      |       |
| CoCaLo trade name                |       | Indefinite  life                            |       | 8,000                   |       | —                      |       |
| CoCaLo customer relationships    |       | 20  years                                   |       | 2,666                   |       | —                      |       |
| Other intangible assets          |       | 0.83  years                                 |       | 483                     |       | 26                          |       |
|                             |       |                                        |       | $                       | 96,001     |                        | $          | 51,172 |   |

 

Other intangibleassets as of June 30, 2008 and December 31, 2007 include Kids Linenon-compete agreements, which are being amortized over four years, a patentand, for the quarter ended June 30, 2008, backlog for LaJobi and CoCaLowhich are being amortized over nine months. Amortization expense of $159,000 and $34,000 was recorded in the quarterended June 30, 2008 for the customer relationships of LaJobi and CoCaLo,respectively, based upon a preliminary valuation report. Upon finalization ofsuch valuation report, any adjustment to the amortization expense will beadjusted in subsequent periods. Aggregate amortization expense, which includesLaJobi and CoCaLo for the second quarter of 2008, was approximately $643,000and $18,000 for the first six months of 2008 and 2007, respectively.

 

**NOTE 7 – IMPAIRMENT**

 

In connection with the preparation of the Company’sfinancial statements for the second quarter of 2008, stemming fromdeteriorating macro-economic factors and declining revenues in our gift segmentduring the first half of 2008, as well as current and projected shortfalls ofcash flows from the Gift Segment, we conducted an impairment test of our GiftSegment, in accordance with SFAS No. 144, Accounting for the Impairment orDisposal of Long-Lived Assets.  As aresult of this review, we determined that the fixed assets in our Gift Segmentwere impaired and, accordingly, we recorded an aggregate impairment charge ofapproximately $7.0 million in the second quarter of 2008.   Also during the second quarter of 2008, werecorded a non-cash charge of $1.0 million related to the write-off of ShiningStar website development expenses, resulting from the Company’s agreement withthe licensor to return to the licensor the operational responsibility of thewebsite in exchange for reduced future royalties and the elimination of futureweb-site responsibility.

 

**NOTE 8 –SEGMENTS OF THE COMPANY AND RELATED INFORMATION**

 

The Company operates in two segments: (i) the infant and juvenilesegment, which as of June 30, 2008 is comprised of Kids Line, Sassy,LaJobi and CoCaLo and (ii) the Company’s gift segment. This segmentation of the Company’s operations reflects how the Company’schief operating decision makers currently view the results of operations.  There are no inter-segment revenues toeliminate.  Corporate assets and overheadexpenses are included in the gift segment. See Note 2 for a description of the recent acquisitions of LaJobi andCoCaLo in the infant and juvenile segment.

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 
| ** **                                       | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| **(in thousands)**                          | ** ** | **2008**                                            | ** ** | **2007**                                          | ** ** | **2008** | ** ** | **2007** | ** ** |
| **Infant and juvenile: (A)**                     |       |                                                |       |                                              |       |   |   |   |   |
| Net sales                                        |       | $                                                   | 62,231     |                                              | $          | 36,871 |   | $ | 103,843 |   | $ | 75,553 |   |
| Selling, general and administrative expenses     |       | 12,704                                              |       | 6,787                                             |       | 20,021 |   | 13,479 |   |
| Operating income (loss)                          |       | 7,500                                               |       | 7,277                                             |       | 15,337 |   | 15,462 |   |
| Other income (expense)                           |       | (2,296                                              | )          | (1,124                                            | )          | (3,325 | ) | (2,326 | ) |
| Depreciation and amortization                    |       | 843                                                 |       | 190                                               |       | 994 |   | 363 |   |
| Income before income taxes                       |       | $                                                   | 5,203      |                                              | $          | 6,153 |   | $ | 12,012 |   | $ | 13,136 |   |
| **Gift:**                                        |       |                                                |       |                                              |       |   |   |   |   |
| Net sales                                        |       | $                                                   | 25,462     |                                              | $          | 33,843 |   | $ | 59,774 |   | $ | 70,234 |   |
| Selling, general and administrative expenses(B)  |       | 23,593                                              |       | 18,893                                            |       | 43,260 |   | 38,659 |   |
| Operating (loss) (B) (D)                         |       | (15,294                                             | )          | (4,589                                            | )          | (19,557 | ) | (7,905 | ) |
| Other income(expense)                            |       | (82                                                 | )          | (45                                               | )          | 348 |   | 35 |   |
| Depreciation and amortization (C)                |       | 1,762                                               |       | 995                                               |       | 2,664 |   | 1,980 |   |
| Loss before income taxes                         |       | $                                                   | (15,375    | )                                                 | $          | (4,634 | ) | $ | (19,209 | ) | $ | (7,870 | ) |
| **Consolidated:**                                |       |                                                |       |                                              |       |   |   |   |   |
| Net sales                                        |       | $                                                   | 87,693     |                                              | $          | 70,714 |   | $ | 163,617 |   | $ | 145,787 |   |
| Selling, general and administrative expenses (B) |       | 36,297                                              |       | 25,680                                            |       | 63,281 |   | 52,138 |   |
| Operating (loss) income (B) (D)                  |       | (7,794                                              | )          | 2,688                                             |       | (4,220 | ) | 7,557 |   |
| Other income (expense)                           |       | (2,378                                              | )          | (1,169                                            | )          | (2,977 | ) | (2,291 | ) |
| Depreciation and amortization (C)                |       | 2,605                                               |       | 1,185                                             |       | 3,658 |   | 2,343 |   |
| (Loss) income before income taxes                |       | $                                                   | (10,172    | )                                                 | $          | 1,519 |   | $ | (7,197 | ) | $ | 5,266 |   |

 

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(A)  LaJobi and CoCaLo were acquired on April 2, 2008and, accordingly, only three months of activity are included in this summary.

 

(B)   For the three and six months ended June 30, 2008,contains an impairment charge of $6.7 million related to the write-down offixed assets. The total impairment charge was $7.0 million. Of this amount $6.7million was recorded in selling, general and administrative expense and $0.3million was recorded in cost of sales.

 

(C)   Includes a $1.0 million charge, recorded in cost ofgoods sold, related to the write-off of Shining Stars website developmentexpenses.

 

(D)  Includes a $1.6 million inventory charge in connectionwith the unfavorable results of a voluntary quality safety test on a certaingift segment product.

 

Total assets of eachsegment were as follows:

 
| **(Dollars in thousands)** | ** ** | **June 30, 2008** | ** ** | **December 31, 2007** | ** ** |
|--------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| Infant and juvenile                  |       | $                           | 319,154    |                            | $          | 237,064 |   |
| Gift                                 |       | 77,607                      |       | 104,911                         |       |
| Total                                |       | $                           | 396,761    |                            | $          | 341,975 |   |

 

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**RUSS BERRIE AND COMPANY, INC. ANDSUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

**Concentrationof Risk**

 

As disclosed inthe notes to the consolidated financial statements included in the 2007 10-K,approximately 82% of the Company’s purchases are attributable to manufacturersin the People’s Republic of China.  Thesupplier accounting for the greatest dollar volume of purchases in 2007accounted for approximately 19% and the five largest suppliers accounted forapproximately 44% in the aggregate.  The Company utilizes approximately 75manufacturers in Eastern Asia and believes that there are many alternativemanufacturers for the Company’s products and sources of raw materials.  Asa result, the Company does not believe there is a concentration of riskassociated with any significant manufacturing relationship.

 

With respect tocustomers, Toys “R” Us, Inc. and Babies “R” Us, Inc., in theaggregate, accounted for 36.0% and 30.5% of the Company’s consolidated netsales during the three and six month periods ended June 30, 2008,respectively, and 25.2% and 24.5% for the three and six month periods ended June 30,2007, respectively.

 

**NOTE 9 -FOREIGN CURRENCY FORWARD EXCHANGE CONTRACTS**

 

Certain of theCompany’s subsidiaries periodically enter into foreign currency forwardexchange contracts to hedge inventory purchases, both anticipated and firmcommitments, denominated in the United States dollar. These contracts reduceforeign currency risk caused by changes in exchange rates and are used tooffset the currency impact of these inventory purchases, generally for periodsup to 13 months. At June 30, 2008, the Company’s forward contractshad expiration dates which ranged from one to six months.

 

The Companyaccounts for its forward exchange contracts as an economic hedge, withsubsequent changes in fair value recorded in the Consolidated Statements ofOperations.  Unrealized gains of $0.1million relating to forward contracts are included in other current assets onthe balance sheet at June 30, 2008 and December 31, 2007. Unrealizedlosses of $0.1 million are included in other current liabilities at December 31,2007.

 

The Company hasforward contracts to exchange British pounds, Canadian dollars and Australiandollars for United States dollars with notional amounts of $5.0 million and$9.7 million as of June 30, 2008 and December 31, 2007, respectively.The Company has forward contracts to exchange United States dollars to Euroswith notional amounts of $2.0 million and $2.8 million as of June 30, 2008and December 31, 2007, respectively. The Company does not anticipate anymaterial adverse impact on its results of operations or financial position fromthese contracts.  See Note 10 below for information withrespect to the fair value of financial instruments, including our forwardexchange contracts.

 

**NOTE 10 –FINANCIAL INSTRUMENTS**

 

We adopted SFAS No. 157on January 1, 2008, the first day of our 2008 fiscal year, for ourfinancial assets and liabilities that are remeasured and reported at fair valueat each reporting period.  SFAS No. 157 defines fair value of assetsand liabilities as the price that would be received to sell an asset or paid totransfer a liability in an orderly transaction between market participants atthe measurement date (an exit price). The standard outlines a valuationframework and creates a fair value hierarchy in order to increase theconsistency and comparability of fair value measurements and the relateddisclosures. Under generally accepted accounting principles, certain assets andliabilities must be measured at fair value, and SFAS No. 157 details thedisclosures that are required for items measured at fair value.

 

Financial assetsand liabilities are measured using inputs from the three levels of the SFAS No. 157fair value hierarchy. The three levels are as follows:

 

Level 1—Inputs areunadjusted quoted prices in active markets for identical assets or liabilities.

 

Level 2—Inputs includequoted prices for similar assets and liabilities in active markets, quotedprices for identical or similar assets or liabilities in markets that are notactive, inputs other than quoted prices that are observable for the asset orliability (i.e., interest rates, yield curves, etc.), and inputs that are derivedprincipally from or corroborated by observable market data by correlation orother means (market corroborated inputs). Most of our assets and liabilitiesfall within Level 2 and include foreign exchange contracts and interest rateswap agreements. The fair value of foreign currency and interest rate swapcontracts are based on third-party market maker valuation models that discountcash flows resulting from the differential between the contract rate and themarket-based forward rate or curve capturing volatility and establishingintrinsic and carrying values.

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

Level 3—Unobservableinputs that reflect our assumptions about the assumptions that marketparticipants would use in pricing the asset or liability. The Company currentlyhas no Level 3 assets or liabilities that are measured at a fair value on arecurring basis.

 

This hierarchy requiresthe Company to minimize the use of unobservable inputs and to use observablemarket data, if available, when determining fair value.  Observable inputs are based on market dataobtained from independent sources, while unobservable inputs are based on theCompany’s market assumptions. Unobservable inputs require significantmanagement judgment or estimation. In some cases, the inputs used to measure anasset or liability may fall into different levels of the fair value hierarchy.In those instances, the fair value measurement is required to be classifiedusing the lowest level of input that is significant to the fair valuemeasurement.  In accordance with SFAS No. 157,the Company is not permitted to adjust quoted market prices in an active market.

 

In accordance withthe fair value hierarchy described above, the following table shows the fairvalue of our foreign exchange contracts and interest rate swap agreement as of June 30,2008 (in thousands):

 
| ** **                   | ** ** | ** **                  | ** ** | **Fair Value Measurements as of June 30, 2008** | ** ** |
|------------------------------|------------|-----------------------------|------------|------------------------------------------------------------------------------------|------------|
| ** **                   | ** ** | **June 30, 2008** | ** ** | **Level 1**                                                                   | ** ** | **Level 2** | ** ** | **Level 3** | ** ** |
| Forward exchange contracts   |       | $                           | 7,033      |                                                                               | $          | — |   | $ | 7,136 |   | $ | — |   |
| Interest Rate Swap Agreement |       | $                           | 158        |                                                                               | $          | — |   | $ | 158 |   | $ | — |   |

 

Cash and cashequivalents, trade accounts receivable, inventory, income tax receivable, tradeaccounts payable and accrued expenses are reflected in the consolidated balancesheets at carrying value, which approximates fair value due to the short-termnature of these instruments.

 

The carrying valueof our term loan borrowings approximates fair value because interest ratesunder the term loan borrowings are variable, based on prevailing market rates.

 

There have been nomaterial changes to our valuation techniques during the six months ended June 30,2008.

 

**NOTE 11- COMPREHENSIVE INCOME (LOSS)**

 

ComprehensiveIncome, representing all changes in Shareholders’ Equity during the periodother than changes resulting from the issuance or repurchase of the Company’scommon stock and payment of dividends, is reconciled to net income for thethree and six months ended June 30, 2008 and 2007 as follows (inthousands):

 
| ** **                               | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                               | ** ** | **2008**                                            | ** ** | **2007**                                          | ** ** | **2008** | ** ** | **2007** | ** ** |
| Net (loss) income                        |       | $                                                   | (12,139    | )                                                 | $          | 365 |   | $ | (10,139 | ) | $ | 2,911 |   |
| Other comprehensive income:              |       |                                                |       |                                              |       |   |   |   |   |
| Foreign currency translation adjustments |       | 340                                                 |       | 1,225                                             |       | 552 |   | 1,514 |   |
| Comprehensive (loss) income              |       | $                                                   | (11,799    | )                                                 | $          | 1,590 |   | $ | (9,587 | ) | $ | 4,425 |   |

 

**NOTE 12 –INCOME TAXES**

 

In July 2006 theFinancial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48,“Accounting for Uncertainty in Income Taxes” (“FIN 48”) and in May 2007issued FASB Staff Position (“FSP”) FSP FIN 48-1.  FIN 48 prescribes a comprehensive model forhow a company should recognize, measure, present and disclose in its financialstatements uncertain tax positions that the company has taken or expects totake on a tax return.  FIN 48 states thata tax benefit from an uncertain tax position may be recognized only if it ismore “likely than not” that the position is sustainable, based on its technicalmerits.  The tax benefit of a qualifyingposition is the largest amount of tax benefit that is greater than 50% likelyof being realized upon settlement with a taxing authority having full knowledgeof all relevant information.  A taxbenefit from an uncertain position was previously

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

recognized if it wasprobable of being sustained.  Under FIN48, the liability for unrecognized tax benefits is classified as noncurrentunless the liability is expected to be settled in cash within twelve months ofthe reporting date.  The Company adoptedthe provisions of FIN 48 on January 1, 2007.  The Company did not make any additionaladjustments to its opening balance sheet related to the implementation of FIN48, other than to reclassify the portion of its tax liabilities to non-currentwhich the Company did not anticipate will settle, or for which the statute oflimitations will not close, in the next twelve months, and the Company did notmake any adjustments to its opening retained earnings related to theimplementation of FIN 48.

 

The Company operates inmultiple tax jurisdictions, both within the United States and outside of theUnited States, and faces audits from various tax authorities regarding theinclusion of certain items in taxable income, the deductibility of certainexpenses, transfer pricing, the utilization and carryforward of various taxcredits, and the utilization of various carryforward items such as charitablecontributions and net operating loss carryforwards (“NOLS”).  At June 30, 2008, the amount ofliability for unrecognized tax benefits related to federal, state, and foreigntaxes was approximately $13.5 million, including approximately $0.7 million ofaccrued interest.  The Company hasvarious tax attributes such as NOL’s, charitable contribution carryovers, andforeign tax credit carryovers which could be utilized to offset these uncertaintax positions.

 
| ** **                                                  | ** ** | **(in thousands)** | ** ** |
|-------------------------------------------------------------|------------|-------------------------|------------|
| Balance at January 1, 2008                             |       | $                       | 13,394     |   |
| Increases related to prior year tax positions               |       | 146                     |       |
| Decreases related to prior year tax positions               |       | 0                       |       |
| Increases related to current year tax positions/settlements |       | 0                       |       |
| Lapse of statute of limitations                             |       | 0                       |       |
| Balance at June 30, 2008                               |       | $                       | 13,540     |   |

 

The Company is currentlyunder examination in several tax jurisdictions and remains subject toexamination until the statute of limitations expires for the respective taxjurisdiction.  Based upon the expirationof statutes of limitations and/or the conclusion of tax examinations in severaljurisdictions, the Company believes it is reasonably possible that the totalamount of previously unrecognized tax benefits discussed above may decrease byup to $4.1 million within twelve months of June 30, 2008.  If recognized, approximately $1.6 million ofthe decrease would impact the Company’s effective tax rate.  For the remaining amounts, the Companyanticipates that the deferred tax assets associated with various tax attributessuch as foreign tax credit carryforwards and charitable contributioncarryforwards would be increased.

 

The Company’s policy isto classify interest and penalties related to unrecognized tax benefits asincome tax expense.

 

**NOTE 13 –LITIGATION; COMMITMENTS AND CONTINGENCIES**

 

In the ordinarycourse of its business, the Company is party to various copyright, patent andtrademark infringement, unfair competition, breach of contract, customs,employment and other legal actions incidental to its business, as plaintiff ordefendant.  In the opinion of management,the amount of ultimate liability with respect to such actions that arecurrently pending will not materially adversely affect the consolidated resultsof operations, financial condition or cash flows of the Company.

 

The Company enters intovarious license and distribution agreements relating to trademarks, copyrights,designs, and products which enable the Company to market items compatible withits product line.  Substantially all ofthese agreements, other than the agreement with MAM Babyartikel GmbH (which wasterminated March 26, 2008), are for three year terms with extensions ifagreed to by both parties.  Several ofthese agreements require prepayments of certain minimum guaranteed royaltyamounts.  The amount of minimum guaranteedroyalty payments with respect to all license agreements through the end oftheir current terms aggregates approximately $9.0 million, of whichapproximately $5.2 million remained unpaid at June 30, 2008, substantiallyall of which is due prior to December 31, 2009. Royalty Expense for thethree and six months ended June 30, 2008 was $1.94 million and $3.35million, respectively, as compared to $2.0 million and $3.2 million for thethree and six months ended June 30, 2007, respectively.

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

In connection with theCompany’s purchase of the LaJobi Business and CoCaLo, the aggregate purchaseprice with respect to each such purchase includes a potential payment ofearnout consideration as more fully described in Note 2.  The Company cannot currently determine theamount of such earnout consideration, if any, that may be required to be paidpursuant to the either the Asset Agreement or Stock Agreement.

 

**NOTE 14 –RECENTLY ISSUED ACCOUNTING STANDARDS**

 

In September 2006,the FASB issued SFAS No. 157, “Fair Value Measurements” (SFAS No. 157),which defines fair value, establishes a framework for measuring fair value andexpands disclosures about fair value measurements.   In February 2008,the FASB issued FASB Staff Position SFAS No. 157-2, “Effective Date of FASBStatement No. 157”, which delayed the effective date of SFAS No. 157for all non-financial assets and liabilities, except those that are recognizedor disclosed at fair value in the financial statements on a recurring basis,until January 1, 2009.  On January 1,2008, we adopted SFAS 157 for financial assets and liabilities, as well as forany other assets and liabilities that are carried at fair value on a recurringbasis in financial statements.  As of June 30,2008, we did not have any non-financial assets and liabilities that are carriedat fair value on a recurring basis in the financial statements. The impact ofthe adoption of SFAS No. 157 for financial assets and liabilities was notmaterial to our consolidated interim financial statements.  The expandeddisclosures about fair value measurements for financial assets and liabilitieson a recurring basis are presented in Note 10.  We have not yet determinedthe impact that the adoption of SFAS No. 157 will have on ournon-financial assets and liabilities which are not recognized on a recurringbasis; however we do not anticipate it to materially impact on its consolidatedfinancial position, results of operations and cash flows.

 

In February 2007,the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assetsand Financial Liabilities.” SFAS No. 159 provides companies with an optionto report selected financial assets and liabilities at fair value andestablishes presentation and disclosure requirements designed to facilitatecomparisons between companies that choose different measurement attributes forsimilar types of assets and liabilities. SFAS No. 159 is effective forfiscal years beginning after November 15, 2007. The Company adopted SFAS No. 159effective January 1, 2008 and there was no impact on its consolidatedfinancial position, results of operations and cash flows, resulting therefrom.

 

In December 2007,SFAS No. 141R (revised 2007), “Business Combinations,” was issued.  This statement requires an acquirer torecognize assets acquired, the liabilities assumed, and any noncontrollinginterest in the acquiree at their fair values on the acquisition date, withgoodwill being the excess value over the net identifiable assets acquired.  This statement is effective for businesscombinations for which the acquisition date is on or after the beginning of thefirst annual reporting period beginning on or after December 15,2008.  The Company is evaluating theeffect the adoption of this standard will have on any potential futureacquisitions that may occur on or after January 1, 2009.

 

In December 2007,SFAS No. 160, “Noncontrolling Interests in Consolidated FinancialStatements,” was issued.  This statementestablishes accounting and reporting standards for the noncontrolling interestin a subsidiary and for the deconsolidation of a subsidiary.  It clarifies that a noncontrolling interestin a subsidiary is an ownership interest in the consolidated entity that shouldbe reported as equity in the consolidated financial statements.  This statement is effective for fiscal years,and interim periods within those fiscal years, beginning on or after December 15,2008.  The Company is evaluating theeffect the adoption of this standard will have on its consolidated financialposition, results of operations and cash flows.

 

In March 2008,SFAS No. 161, “Disclosures about Derivative Instruments and HedgingActivities,” was issued.  This statementrequires enhanced disclosures about an entity’s derivative and hedgingactivities.  This statement is effectivefor financial statements issued for fiscal years and interim periods beginningafter November 15, 2008.  TheCompany is evaluating the effect the adoption of this standard will have on itsconsolidated financial position, results of operations and cash flows.

 

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**RUSS BERRIE AND COMPANY, INC. AND SUBSIDIARIES**

**NOTES TO UNAUDITED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Continued)**

 

In April 2008, theFASB issued Staff Position No. 142-3, “Determination of the Useful Life ofIntangible Assets” (“FSP 142-3”). FSP 142-3 amends the factors that should beconsidered in developing renewal or extension assumptions used to determine theuseful life of a recognized intangible asset under SFAS No. 142, “Goodwilland Other Intangible Assets.” FSP 142-3 is effective for fiscal years beginningafter December 15, 2008 and interim periods within those fiscal years,requiring prospective application to intangible assets acquired after theeffective date. The Company will be required to adopt the principles of FSP142-3 with respect to intangible assets acquired on or after January 1,2009. Due to the prospective application requirement, the Company is unable todetermine what effect, if any, the adoption of FSP 142-3 will have on itsconsolidated financial position, results of operations and cash flows.

 

In June 2008,the FASB issued FSP No. EITF 03-6-1, “Determining Whether Instruments Grantedin Share-Based Payment Transactions Are Participating Securities” (“FSP EITF03-6-1”). FSP EITF 03-6-1 concludes that unvested share-based payment awardsthat contain rights to receive nonforfeitable dividends or dividend equivalentsare participating securities, and thus, should be included in the two-classmethod of computing earnings per share (“EPS”). FSP EITF 03-6-1 is effectivefor fiscal years beginning after December 15, 2008, and interim periodswithin those years. Early application of EITF 03-6-1 is prohibited. This FSPalso requires that all prior-period EPS data be adjusted retrospectively. TheCompany is currently evaluating the impact FSP EITF 03-6-1 will have on itsconsolidated financial position, results of operations and cash flows.

 

In June 2008,the FASB ratified EITF Issue No. 08-3, “Accounting by Lessees forNonrefundable Maintenance Deposits” (“EITF No. 08-3”).  EITF No. 08-3 requires that allnonrefundable maintenance deposits be accounted for as a deposit with thedeposit expensed or capitalized in accordance with the lessee’s maintenanceaccounting policy when the underlying maintenance is performed. Once it isdetermined that an amount on deposit is not probable of being used to fundfuture maintenance expense, it is to be recognized as additional expense at thetime such determination is made. EITF No. 08-3 is effective beginningafter January 1, 2009.  The Companyis currently evaluating the effect of adopting EITF No. 08-3 on itsconsolidated financial position, results of operations and cash flows.

 

**NOTE 15 –RELATED PARTY TRANSACTIONS**

 

An employee of theCompany, along with various family members, established L&J Industries, inAsia. The purpose of the entity is to provide quality control services to theCompany for goods being shipped from Asian ports. The Company used this servicesince April 2008. For the three months and six months ended June 30,2008, the Company incurred costs totaling approximately $206,000, related tothe services provided.

 

The same employeeof the Company has utilized since April 2008 a portion of one of theCompany’s warehouses to store and ship merchandise unrelated to the Company’sbusiness. The employee reimburses the Company for expenses incurred inconnection with this arrangement. For the three months and six months ended June 30,2008, the Company received reimbursements totaling approximately $36,000, forthe space and services provided.

 

**NOTE 16 –SUBSEQUENT EVENT**

 

The Board ofDirectors (the “Board”) adopted the Russ Berrie and Company, Inc. EquityIncentive Plan (the “EI Plan”) on June 3, 2008, subject to approval by itsshareholders, which was obtained at the 2008 Annual Meeting of Shareholdersheld on July 10, 2008 (the “2008 Meeting”).  The 2004 Option Plan was terminated as of thedate of the 2008 Meeting, and no further awards under the 2004 Option Plan maybe made thereafter.  The EI Plan providesfor awards in any one or a combination of: (a) Stock Options, (b) Stock Appreciation Rights, (c) RestrictedStock, (d) Stock Units, (e) Non-Restricted Stock, and/or (f) DividendEquivalent Rights.  Any award under theEI Plan may, as determined by the committee administering the EI Plan (the “PlanCommittee”) in its sole discretion, constitute a “Performance-Based Award” (anaward that qualifies for the performance-based compensation exemption of Section 162(m) ofthe Internal Revenue Code of 1986, as amended). All awards granted under the EI Plan will be evidenced by a writtenagreement between the Company and each participant (which need not be identicalwith respect to each grant or participant) that will provide the terms andconditions, not inconsistent with the requirements of the EI Plan, associatedwith such awards, as determined by the Plan Committee in its sole discretion.  Award agreements must be executed by theCompany and a participant in order for the award covered by such agreement tobe effective.  A total of 1,500,000shares of Common Stock have been reserved for issuance under the EI Plan.  Options to purchase an aggregate of 105,000shares of the Company’s Common Stock were granted to directors under the EIPlan as of July 10, 2008.

 

The Board adopted theRuss Berrie and Company, Inc. 2009 Employee Stock Purchase Plan (the “2009ESPP”) on June 3, 2008, subject to approval by holders of a majority ofthe shares of Common Stock voting at the 2008 Meeting.  The 2009 ESPP, which is similar to the 2004ESPP, will become effective on January 1, 2009, immediately after the 2004ESPP terminates by its terms on December 31, 2008.  A total of 200,000 shares of Common Stockhave been reserved for issuance for grants of options under the 2009 ESPP.

 

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**ITEM 2.  MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

 

The financial and business analysis below provides information whichthe Company believes is relevant to an assessment and understanding of theCompany’s consolidated financial condition, changes in financial condition andresults of operations. This financial and business analysis should be read inconjunction with the Company’s unaudited consolidated financial statements andaccompanying Notes to Unaudited Consolidated Financial Statements set forth in Part I,Financial Information, Item 1, “Financial Statements” of this QuarterlyReport on Form 10-Q, the Company’s Annual Report on Form 10-K for theyear ended December 31, 2007, as amended (the “2007 10-K”), and theCompany’s Quarterly Report on Form 10-Q for the quarter ended March 31,2008, in each case including the consolidated financial statements and notesthereto.

 

**OVERVIEW**

 

The Company is a leader in the infant and juvenile and gift industries.The Company’s infant and juvenile segment is currently composed of: Kids Line,LLC; Sassy, Inc.; LaJobi Inc.; and CoCaLo, Inc, all wholly-ownedsubsidiaries, whose products focus principally on children of the age groupnewborn to two years and are generally sold to national accounts andindependent retailers.  Kids Lineproducts consist primarily of infant bedding and related nursery accessoriessuch as blankets, rugs, mobiles, nightlights, hampers, lamps and wall art.Sassy has concept groupings such as bath toys and accessories, developmentaltoys, feeding utensils and bowls, bottles, bibs, soft toys, mobiles andfeeders, and recently entered the baby gear category.  LaJobi designs, imports and sells infant andjuvenile furniture and related products (including cribs, changing tables,dressers, hutches, armoires, bookcases and end tables, mattresses and changingpads).  CoCaLo designs, outsources,markets and distributes infant bedding (including crib bumpers, blankets, cribsheets and dust ruffles) and related accessories (including wall hangings,musical mobiles, blankets, diaper stackers, valances, wall paper borders,lamps, shades, nightlights, switch plates, decorative pillows and rugs). TheCompany’s gift segment designs, manufactures through third parties and marketsa wide variety of gift products to mass market, toy, specialty, food, drug andindependent retailers throughout the United States and throughout the world viathe Company’s domestic and international wholly-owned subsidiaries andindependent distributors.

 

The Company’s revenues are primarily derived from sales of itsproducts.  For the three months ended June 30,2008, 71.0% of revenues were generated by the infant and juvenile segment and29.0% of revenues were generated by the gift segment, as compared to 52.1% and47.9%, respectively, for the same period in the prior year.

 

The principal elements of our global business strategy include:

 

·                  focusingon design-led and branded product development in each of our segments, toenable us to continue to introduce compelling new products, with the intentionof increasing our market share;

 

·                  pursuingorganic growth opportunities, including:

 

(i)            expanding our product offerings into relatedcategories; and

 

(ii)           expanding and diversifying of ourdistribution channels, with particular emphasis on further extending the infantand juvenile segment into international markets and further expanding our saleschannels to include business-to-business and web-based offerings;

 

·                  growingthrough licensing, distribution or other strategic alliances, includingpursuing acquisition opportunities in businesses complementary to ours;

 

·                  implementingstrategies to further capture synergies within our segments, throughcross-marketing opportunities and consolidation of back-office activities; and

 

·                  continuingefforts to manage costs within each of our segments, with particular focus onfurther streamlining our gift segment by concentrating on more profitableproduct lines and creating additional operational efficiencies.

 

We believe that we continue to make progress in successfullyimplementing this strategy. Specifically, as a result of our renewed focus on growth through theexploration of strategic acquisitions, on April 2, 2008, we consummatedthe acquisitions of each of: (i) the assets of LaJobi Industries, Inc.and (ii) CoCaLo, Inc.  We 

 

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anticipate that theseacquisitions will significantly expand our infant and juvenile segment, andwill enable us to offer a more complete range of products for the babynursery.  In connection with suchacquisitions, the Company amended and restated the Infantline Credit Agreement(defined below) to amend such agreement in order to, among other things,increase the facilities available thereunder and to permit the acquisitions ofLaJobi and CoCaLo. See “Liquidity and Capital Resources” below under the sectionscaptioned “*Recent Acquisitions and**Financings*”.

 

With respect to our gift business, we continue to focus on productcategories where we believe we can command an authoritative position.  However, largely as a result of deterioratingmacro-economic conditions and various competitive factors, including thedecline in Shining Stars revenues that was anticipated and previously disclosedby the Company resulting in part from the popularity of other dimensionalproducts that include a virtual play component, revenues in our gift segmenthave declined during the first half of 2008. The Company believes that this decline is consistent with overall trendsin gift industry product sales.  Wecontinue our focus on creating compelling new products, and our 2008 productofferings include, among other new products, a new product range that isintended to capitalize on the popularity of dimensional products that include avirtual play component. However, as a result of current and projected cashflowshortfalls in the gift segment and other gift industry trends, the Companyinitiated an analysis of the carrying value of certain long-lived assets in thegift segment, which analysis resulted in the non-cash impairment chargedescribed in “Results of Operations” below. See “Note 7 of Notes to UnauditedConsolidated Financial Statements for a discussion of the impairment charge and“Liquidity and Capital Resources” below for a discussion of the liquidity ofthe gift segment for future periods.

 

In addition, like many companies in the industries in which we operate,we continue to experience margin pressure in both segments of our business,primarily as a result of rising raw material prices, higher expenses associatedwith manufacturing in Asia and currency fluctuations between the U.S. dollarand the Chinese yuan.  We continue toseek to mitigate this pressure, including through the development of newproducts that can command higher pricing, the identification of alternative,lower-cost sources of supply and, where possible, price increases.  Particularly in the mass market, our abilityto increase prices is limited by market and competitive factors, and, while wehave implemented selective price increases, we have generally focused onmaintaining (or increasing) shelf space at retailers and, as a result  our market share.  We believe that the market ultimately willaccept broader price increases, although there can be no assurance of whetheror when this will occur.

 

**SEGMENTS**

 

The Company currently operates in two segments:  (i) itsinfant and juvenile segment and (ii) its gift segment.

 

**RESULTS OF OPERATIONS—THREE MONTHS ENDED JUNE 30, 2008 AND2007**

 

The Company’s consolidated net sales for the three months ended June 30,2008 increased 24.0% to $87.7 million compared to $70.7 million for the threemonths ended June 30, 2007, as a result of an increase in infant andjuvenile segment net sales of $25.4 million, primarily from the inclusion ofsales generated by LaJobi and CoCaLo in the second quarter of 2008 and salesgrowth at both Kids Line and Sassy, partially offset by a decrease in giftsegment net sales of $8.4 million as compared to the second quarter of 2007.

 

Net sales for the infant and juvenile segment for the three monthsended June 30, 2008 increased 68.8% to $62.2 million, compared to $36.9million for the three months ended June 30, 2007, primarily resulting fromsales generated by LaJobi and CoCaLo as well as sales increases at both Sassyand Kids Line (which accounted for an 8.7% increase in the infant and juvenilesegment during the second quarter of 2008 compared to the same period in theprior year and was generated primarily by, new product introductions and growthin international sales).  The Company’sgift segment net sales for the three months ended June 30, 2008 decreased24.8% to $25.5 million compared to $33.8 million for the three months ended June 30,2007, primarily as a result of decreases in sales of Shining Star products ascompared to the second quarter of 2007, and weakness in the gift market as aresult of the economic slowdown.  Netsales in the Company’s gift segment were favorably impacted by approximately$0.7 million for the three months ended June 30, 2008 as a result offoreign exchange rates.

 

Consolidated gross profit was 32.5% of consolidated net sales for thethree months ended June 30, 2008 as compared to 40.1% for the three monthsended June 30, 2007, which was the result of decreases in both segments,as well as the impact of certain unusual charges in the gift segmentdescribed below.  Gross profit for theCompany’s infant and juvenile segment decreased from 38.1% of net sales for thethree months ended June 30, 2007 to 32.5% of net sales for the threemonths ended June 30, 2008, primarily as a result of competitive pricingpressure, increased raw material costs and product mix. Gross profit for theCompany’s gift segment decreased to 32.6% of net sales for the three monthsended June 30, 2008 as compared to 42.3% of net sales for the three monthsended 

 

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June 30, 2007.  The decrease in the gift segment gross profitas a percentage of sales was primarily attributable to (i) the impact of a$1.6 million inventory charge in connection with unfavorable results of avoluntary quality test on a certain gift-segment product, (ii) a non-cashcharge of $1.0 million related  to thewrite-off of Shining Star website development expenses, resulting from theCompany’s agreement with the licensor to return to the licensor the operationalresponsibility of the website in exchange for reduced future royalties and theelimination of future website responsibility, and (iii) a non-cashimpairment charge of $0.3 million in connection with a gift segment assetimpairment described in the following paragraph.

 

Consolidated selling, general and administrative expense was $36.3million, or 41.4% of consolidated net sales, for the three months ended June 30,2008, compared to $25.7 million, or 36.3% of consolidated net sales, for thethree months ended June 30, 2007.  The primary reason for thisincrease in both absolute and relative terms was an impairment charge of $7.0million in the gift segment attributable to the write-down of fixed assets, ofwhich $6.7 million was recorded in selling, general and administrative expensefor the quarter ended June 30, 2008. Selling, general and administrative expense in the Company’s infant andjuvenile segment increased from $6.8 million, or 18.4% of net sales in thesecond quarter of 2007, to $12.7 million, or 20.4% of net sales, in the secondquarter of 2008, primarily as a result of the acquisitions of LaJobi andCoCaLo, increased product development costs and advertising expense incurred tosupport growth in this segment. Selling, general and administrative expense inthe Company’s gift segment was $23.6 million, or 92.7% of net sales, in thesecond quarter of 2008 as compared to $18.9 million, or 55.8% of net sales, inthe prior year period primarily for the reasons set forth above.

 

Consolidated other expense was $2.4 million for the three months ended June 30,2008 compared to $1.2 million for the three months ended June 30, 2007, oran increase of $1.2 million. Other expense in the Company’s infant and juvenilesegment increased by $1.2 million to $2.3 million compared to $1.1 million inthe prior year period as a result of additional borrowing costs related to theexpanded infant and juvenile credit facility and the non-cash write-off of $0.3million of deferred financing costs originally incurred in March 2006 and$0.4 million of costs associated with the debt modification charged directly tointerest expense. Other expense in the Company’s gift segment for the threemonths ended June 30, 2008 was unchanged at $0.1 million for each period.

 

TheCompany recorded consolidated tax expense of approximately $2.0 million and$1.2 million for the three months ended June 30, 2008 and 2007,respectively primarily related to the deferred tax liability associated withthe tax amortization of intangible assets relating to the Kids Line, Sassy, andApplause acquisitions.  These deferredtax liabilities are indefinite in nature for accounting purposes, and thereforecannot be offset by the Company’s deferred tax assets.  The Company recorded full valuationallowances against those deferred tax assets as management believed it was morelikely than not that those deferred tax assets would not be realized.

 

As a result of the foregoing, consolidated net loss for the threemonths ended June 30, 2008 was $12.1 million, or ($0.57) per dilutedshare, compared to consolidated net income of $365,000, or $0.02 per dilutedshare, for the three months ended June 30, 2007.

 

**RESULTS OF OPERATIONS—SIX MONTHS ENDED JUNE 30, 2008 AND 2007**

 

The Company’s consolidated net sales for the six months ended June 30,2008 increased 12.2% to $163.6 million compared to $145.8 million for the sixmonths ended June 30, 2007, as a result of an increase in the infant and juvenilesegment net sales of $28.3 million, primarily from the acquisition of LaJobiand CoCaLo and sales growth at both  KidsLine and Sassy, partially offset by a decrease in gift segment net sales of$10.5 million.

 

Net sales for the infant and juvenile segment for the six months ended June 30,2008 increased 37.4% to $103.8 million, compared to $75.6 million for the sixmonths ended June 30, 2007, primarily resulting from the acquisitions ofLaJobi and CoCaLo, as well as sales increases at both Sassy and Kids Line(which accounted for an 8.1% increase in the infant and juvenile segment duringthe first half of 2008 compared to the same period in the prior year, and wasgenerated primarily by new product introductions and growth in internationalsales). The Company’s gift segment net sales for the six months ended June 30,2008 decreased 14.9% to $59.8 million compared to $70.2 million for the sixmonths ended June 30, 2007, primarily as a result of (i) decreases insales of Shining Star products as compared to the six months ended June 2007and (ii) weakness in the gift market as a result of the economicslowdown.  Net sales in the Company’sgift segment were favorably impacted by approximately $2.0 million for the sixmonths ended June 30, 2008 as a result of foreign exchange rates.

 

Consolidated gross profit was 36.1% of consolidated net sales for thesix months ended June 30, 2008 as compared to 40.9% for the six monthsended June 30, 2007, which was the result of decreases in both segments aswell as the impact of certain unusual charges in the gift segment describedbelow.   Gross profit for theCompany’s infant and juvenile segment decreased from 38.3% of net sales for thesix months ended June 30, 2007 to 34.0% of net sales for the six monthsended June 30, 2008, primarily as a result of competitive pricingpressure, increased raw material costs and product mix. Gross profit for theCompany’s gift segment decreased to 39.7% of net sales for the six months endedJune 30, 2008 as compared to 43.8% of net sales for the six months ended June 30,2007. The 

 

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decrease in the gift segmentgross profit as a percentage of sales was primarily attributable to (i) theimpact of a $1.6 million  inventorycharge in connection with unfavorable results of a voluntary quality test on acertain gift-segment product, (ii) a $1.0 million non-cash chargerelated  to the write-off of Shining Starwebsite development expenses, resulting from the Company’s agreement with thelicensor to  return to the licensor theoperational responsibility of the website in exchange for reduced futureroyalties and the elimination of future web-site responsibility, and (iii) anon-cash impairment charge of $0.3 million in connection with a gift segmentasset impairment described in the next paragraph.

 

Consolidated selling, general and administrative expense was $63.3million, or 38.7% of consolidated net sales, for the six months ended June 30,2008, compared to $52.1 million, or 35.8% of consolidated net sales, for thesix months ended June 30, 2007.  Theprimary reason for this increase in both absolute and relative terms was animpairment charge of $7.0 million in the gift segment attributable to the writedown of fixed assets, of which $6.7 million was recorded in selling, generaland administrative expense for the quarter ended June 30, 2008.  Selling, general and administrative expensein the Company’s infant and juvenile segment increased from $13.5 million, or17.8% of net sales in the same period of 2007, to $20.0 million, or 19.3% ofnet sales, in the six months ended June 30, 2008, primarily as a result ofthe acquisitions of LaJobi and CoCaLo, increased product development costs andadvertising expenses incurred to support growth in this segment. Selling,general and administrative expense in the Company’s gift segment increased to$43.3 million, or 72.4% of net sales, in the six month quarter of 2008 ascompared to $38.7 million, or 55.0% of net sales, in the prior yearperiod.  As noted above, this increasewas primarily the result of a $6.7 impairment charge recorded in selling,general and administrative expense from the write-down of fixed assets.

 

Consolidated other expense was $3.0 million for the six months ended June 30,2008 compared to $2.3 million for the six months ended June 30, 2007, oran increase of $0.7 million. Other expense in the Company’s infant and juvenilesegment increased by $1.0 million to $3.3 million compared to $2.3 million inthe prior year period as a result of additional borrowing costs and thewrite-off of $0.3 million of deferred financing costs incurred in March 2006and $0.4 million of costs associated with the debt modification chargeddirectly to interest expense. Other income in the Company’s gift segment forthe six months ended June 30, 2008 increased to $0.3 million from $35,000in the prior year period due to foreign exchange gains.

 

TheCompany recorded consolidated tax expense of approximately $2.9 million and$2.4 million for the six months ended June 30, 2008 and 2007, respectivelyprimarily related to the deferred tax liability associated with the taxamortization of intangible assets relating to the Kids Line, Sassy, LaJobi,CoCaLo and Applause acquisitions.  Thesedeferred tax liabilities are indefinite in nature for accounting purposes, andtherefore cannot be offset by the Company’s deferred tax assets.  The Company recorded full valuation allowancesagainst those deferred tax assets as management believed it was more likelythan not that those deferred tax assets would not be realized.  The Company recorded approximately $106,000of foreign tax expense for the six months ended June 30, 2008 related toprofitable operations in Australia.

 

As a result of the foregoing, consolidated net loss for the six monthsended June 30, 2008 was $10.1 million, or a loss of ($0.48) per dilutedshare, compared to consolidated net income of $2.9 million, or $0.14 perdiluted share, for the six months ended June 30, 2007.

 

**Liquidity and Capital Resources**

 

The Company’s principalsources of liquidity are cash and cash equivalents, funds from operations, andavailability under its bank facilities. The Company believes that cash flowsfrom operations and future borrowings will be sufficient to fund its operatingneeds and capital requirements for at least the next 12 months on aconsolidated basis and segment basis. However, depending on the performance ofthe gift segment in future years, the Company likely will be required to takeadditional measures, including without limitation additional financing oroperational measures, to ensure sufficient liquidity for the gift segment incoming periods and future years.  See “Ourdebt covenants may affect our liquidity or limit our ability to completeacquisitions, incur debt, make investments, sell assets, merge or completeother significant transactions”, and “Our cash flows and capital resources maybe insufficient to make required payment on our indebtedness” in the “RiskFactors” section of the 2007 Form 10-K.

 

As of June 30, 2008,the Company had cash and cash equivalents of $16.9 million compared to $21.9million at December 31, 2007. The decrease in cash and cash equivalentsprimarily reflect the use of excess cash to maintain debt levels, whichotherwise would have increased as a result of losses incurred in the giftsegment. As of June 30, 2008 and December 31, 2007, working capitalwas $62.8 million and $63.1 million, respectively.

 

Cash and cash equivalents decreased by $5.0 million during the sixmonths ending June 30, 2008 compared to an increase of $2.8 million duringthe six months ending June 30, 2007. Net cash provided by operating activities was approximately $8.4 millionduring the six months ended June 30, 2008 compared to net cash provided byoperating activities of approximately $2.6 million during the six months ended June 30,2007. The cash provided by operating activities for the six months ended June 30,2008 was primarily the result of a reduction in accounts receivable offset by areduction in accounts payable and accrued expenses and an increase ininventory.  Net cash used in investingactivities was approximately $73.3 million for the six months ended June 30,2008 compared to net cash used of approximately $1.1 million for the six monthsended June 30, 2007. The increased usage was primarily 

 

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related to: (i) thepurchase of LaJobi ($51.7 million), (ii) the purchase of CoCaLo ($18.2million), (iii) the $3.6 million payment of the Kids Line Earnoutconsideration and (iv) increased capital expenditures.  Net cash provided by financing activities wasapproximately $61.0 million for the six months ended June 30, 2008compared to net cash provided by financing activities of $0.9 million for thesix months ended June 30, 2007.  Theincrease was due primarily the refinancing of the infant and juvenile creditfacility to  fund the Company’s recentacquisitions.

 

***Recent Acquisitions***

 

I.         LaJobi

 

OnApril 1, 2008, LaJobi, Inc. (“LaJobi”), a newly-formed and indirect,wholly-owned Delaware subsidiary of the Company entered into an Asset PurchaseAgreement (the “Asset Agreement”) with LaJobi Industries, Inc., a NewJersey corporation (“Seller”), and each of Lawrence Bivona and Joseph Bivona(collectively, the “Stockholders”), for the purchase of substantially all ofthe assets used in the business of Seller and specified obligations.  The transactions contemplated by the AssetAgreement were consummated as of April 2, 2008.  All capitalized terms used in this Section Ibut undefined herein shall have the meanings ascribed to them in the AssetAgreement, which is filed as Exhibit 2.3 to the 2007 10-K.

 

Theaggregate purchase price payable for the business of Seller was equal to:$47.0 million, reduced by the amount of assumed indebtedness (includingcapitalized lease obligations) as adjusted pursuant to a working capitaladjustment, plus the earnout consideration described below. At Closing, LaJobipaid $44.5 million in cash to Seller, plus $3.2 million (the estimated amountof the working capital adjustment). As the final working capital adjustment was$3.0 million, the Seller subsequently refunded $0.2 million in additionliabilities assumed were further reduced by $0.3 million.  The remaining $2.5 million of thepurchase price was deposited in escrow at Closing in respect of potentialindemnification claims.  As additionalconsideration, if the following conditions have been satisfied, LaJobi will paythe earnout consideration described below:

 

(a)   Subjectto paragraph (b) below, provided that the EBITDA of Seller’s business(the “Business”) (determined as provided in the Asset Agreement) has grown at acompound annual growth rate (“CAGR”) of not less than 4% during the period fromJanuary 1, 2008 through December 31, 2010 (the “Measurement Date”),as compared to the specified EBITDA of the Business for calendar year 2007,LaJobi will pay to Seller a percentage of the Agreed Enterprise Value of LaJobias of the Measurement Date or Early Measurement Date (as defined inparagraph (b) below), as the case may be. The amount of such paymentwill range from zero to a maximum amount of $15.0 million (the “LaJobi EarnoutConsideration”). The “Agreed Enterprise Value” will be the product of (i) theBusiness’s EBITDA during the twelve (12) months ending on the MeasurementDate or Early Measurement Date (or, in the event an Early Measurement Dateselected by Seller, as permitted by the Asset Agreement, is a date prior to January 1,2009, the annualized EBITDA of the Business for such period), as the case maybe, multiplied by (ii) an applicable multiple (ranging from 5 to9) depending on the specified levels of CAGR achieved, subject to the$15.0 million cap described above.

 

(b)   In the event LaJobi, prior to the MeasurementDate, relocates the principal location of the Business beyond an agreeddistance, the calculation of the LaJobi Earnout Consideration may beaccelerated upon election of Seller. For purposes of determining the LaJobiEarnout Consideration, the CAGR shall be based on the period from January 1,2008 through the last day of the month (the “Early Measurement Date”)immediately preceding the date of the relocation. In such event, any LaJobiEarnout Consideration payable will be discounted, at the Agreed Rate, from thescheduled payment date to, and including, the specified  early payment date.

 

(c)    Any LaJobi Earnout Consideration will berecorded as additional goodwill when and if paid.

 

Underthe Asset Agreement, LaJobi is entitled to indemnification from Seller and theStockholders for various matters, including, but not limited to, breaches ofrepresentations, warranties or covenants, and specified excluded obligations,subject, in the case of specified matters, to certain minimum thresholds and amaximum aggregate indemnification limit of $10.0 million. The right toindemnification (other than with respect to certain specified exceptions)terminates 18 months after the Closing Date.

 

Inaccordance with the Asset Agreement, LaJobi entered into (i) atransitional services agreement with a Thailand affiliate of Seller, and (ii) athree year employment agreement with Lawrence Bivona as President of LaJobi. Mr. Bivonawas formerly the President of Seller.

 

Inconnection with the Asset Agreement, the Company paid a finder’s fee to afinancial institution in the amount of $1.5 million at the closing of thetransaction, and has agreed to pay to such financial institution 1% of theAgreed Enterprise Value of LaJobi, payable in the same manner and at the sametime as the LaJobi Earnout Consideration is paid to Seller.

 

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II.       CoCaLo

 

OnApril 1, 2008, a newly-formed, wholly-owned Delaware subsidiary of theCompany, I&J Holdco, Inc. (the “CoCaLo Buyer”), entered into a StockPurchase Agreement (the “Stock Agreement”) with each of Renee Pepys Lowe andStanley Lowe (collectively, the “Sellers”), for the purchase of all of theissued and outstanding capital stock of CoCaLo, Inc., a Californiacorporation (“CoCaLo”). The transactions contemplated by the Stock Agreementwere consummated as of April 2, 2008. All capitalized terms used in this Section I but undefined herein shallhave the meanings ascribed to them in the Stock Agreement, which is filed asExhibit 2.4 to the 2007 10-K.

 

Theaggregate base purchase price payable for CoCaLo was equal to: (i) $16.0 million,minus (ii) the aggregate Debt of CoCaLo outstanding at Closing (includingaccrued interest) of $4.0 million, minus (iii) specified transactionexpenses ($0.4 million), plus (iv) a working capital adjustment of $1.5million paid by the CoCaLo Buyer. A portion of the purchase price($1.6 million) was evidenced by a non-interest bearing promissory note andwill be paid as additional consideration in equal annual installments over athree year period from the Closing Date. The CoCaLo Buyer will also pay theAdditional Earnout Payments, if payable as described below.

 

TheAdditional Earnout Payments provide for a potential payment ranging from zeroto a maximum of $4.0 million, payable with respect to performance on threemetrics – sales, gross profit and combined Kids Line and CoCaLo EBITDA — asfollows:

 

(i)            $666,667 will be paid if CoCaLo’s aggregatenet sales for the three years ending December 31, 2010 (the “MeasurementPeriod”) exceeds a specified target, and up to an additional $666,667 will bepaid, on a straight line sliding scale basis, to the extent that CoCaLo’s netsales for the Measurement Period are between the initial performance target anda specified maximum target.

 

(ii)           $666,667 will be paid if CoCaLo’s aggregategross profit for the Measurement Period exceeds a specified target, and up toan additional $666,667 will be paid, on a straight-line sliding scale basis, tothe extent that CoCaLo’s aggregate gross profit for the Measurement Period isbetween the initial performance target and a specified maximum target.

 

(iii)          $666,666 will be paid if the aggregate EBITDAof Kids Line and CoCaLo for the Measurement Period exceeds a specified target,and up to an additional $666,666 will be paid, on a straight-line sliding scalebasis, to the extent that the aggregate EBITDA of Kids Line and CoCaLo isbetween the initial performance target and a specified maximum target.

 

AnyAdditional Earnout payments will be recorded as additional goodwill when and ifpaid.

 

KidsLine has guaranteed all of the obligations of the CoCaLo Buyer under the StockAgreement.

 

Underthe Stock Agreement, the CoCaLo Buyer is entitled to indemnification from theSellers for various matters, including, but not limited to, breaches ofrepresentations, warranties or covenants, and liabilities with respect tospecified proceedings and obligations, subject, in the case of specifiedmatters, to certain minimum thresholds and a maximum aggregate indemnificationlimit of $3.0 million. The right to indemnification (other than withrespect to certain specified exceptions) terminates on the third anniversary ofthe Closing Date.

 

Inaccordance with the Stock Agreement, CoCaLo entered into a three yearemployment agreement with Renee Pepys Lowe as President and Chief ExecutiveOfficer. Ms. Pepys Lowe was formerly the President and Chief ExecutiveOfficer of CoCaLo.

 

***Financings***

 

*Background*

 

InDecember 2004, Russ Berrie and Company, Inc. (“RB”) purchased all ofthe outstanding equity interests and warrants in Kids Line (the “Purchase”) inaccordance with the terms and provisions of a Membership Interest PurchaseAgreement (the “Purchase Agreement”). The aggregate purchase price under thePurchase Agreement included the payment of contingent consideration (the “KLEarnout Consideration”).  Kids Line LLC (“KL”)and 

 

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Sassy Inc. (“Sassy”), who were responsiblefor such payment, paid an aggregate of $32.1 million in respect of the KLEarnout Consideration, as discussed below. To secure the obligations of KL and Sassy to pay the KL EarnoutConsideration, KL and Sassy had previously granted a subordinated lien onsubstantially all of their assets, on a joint and several basis, and RB granteda subordinated lien (to the senior indebtedness of KL and Sassy) on the equityinterests of each of them to the payees thereof.  As a result of the payment in full of the KLEarnout Consideration, all such subordinated security interests and liens werereleased as of February 29, 2008.

 

ThePurchase was originally financed with the proceeds of a term loan, which wassubsequently replaced by a $105.0 million credit facility with LaSalle Bank asagent (the “2005 Credit Agreement”) and the 2005 Canadian Credit Agreement(defined below). In order to reduce overall interest expense and gain increasedflexibility with respect to the financial covenant structure of the Company’ssenior financing, on March 14, 2006, the 2005 Credit Agreement wasterminated and the obligations thereunder were refinanced (the “LaSalleRefinancing”) with the execution of separate credit agreements for each of theCompany’s infant and juvenile segment and domestic gift segment. For a detaileddescription of such credit agreements, which are summarized below, see Note 5of Notes to Unaudited Consolidated Financial Statements herein. In connectionwith the LaSalle Refinancing, all outstanding obligations under the 2005 CreditAgreement (approximately $76.3 million) were repaid using proceeds from thesenior credit facility of the infant and juvenile segment executed inconnection with the LaSalle Refinancing.

 

Aspart of the LaSalle Refinancing, RB formed a wholly-owned Delaware subsidiary,Russ Berrie U.S. Gift Inc. (“U.S. Gift”) to which it assigned (the “Assignment”)substantially all of its assets and liabilities which pertain primarily to itsdomestic gift business, such that separate loan facilities could be madedirectly available to each of the Company’s infant and juvenile business anddomestic gift business. The Assignment transaction reinforced the operation ofthe Company as two separate segments, and the credit facilities that have beenextended to each segment are separate and distinct. There are no cross-defaultprovisions between the loan facilities extended to the infant and juvenilesegment and gift segment, respectively.

 

Pursuantto the Assignment, RB, our parent company, is now organized as a holdingcompany, with all of its operations being conducted through itssubsidiaries.  RB, however, hascontinuing cash needs for corporate overhead expenses, taxes and other purposes(collectively, the “Requirements”). Our current credit agreements containsignificant limitations on the ability of RB’s domestic subsidiaries, todistribute cash, including in the form of dividends, loans or other advances,to RB to pay for its Requirements (such limitations are described in moredetail below). Management believes that the amounts permitted to be distributedto RB by its domestic subsidiaries will be sufficient to fund the Requirements,although there can be no assurance that such Requirements will not exceedcurrent estimates. Although there are no restrictions in our current creditagreements on the ability of RB’s foreign subsidiaries to distribute cash toRB, available cash therefrom may be insufficient to cover the Requirementswithout additional distributions from RB’s domestic subsidiaries. Because RB isdependent upon cash distributions from its domestic subsidiaries, if suchdomestic subsidiaries are unable to distribute sufficient cash to RB to meetits Requirements without triggering a default under our current creditagreements, this could have a material adverse impact on the Company’sliquidity.

 

Inconnection with the purchases of LaJobi and CoCaLo (described above under thesection captioned “Recent Acquisitions”), the credit agreement applicable tothe Company’s infant and juvenile segment was amended and restated to, amongother things, increase the facilities available thereunder and permit suchacquisitions, all as described below.

 

AtJune 30, 2008, there was approximately $25.8 million borrowed under theNew Revolving Loan and approximately $6.1 million borrowed under the GiftlineRevolver (each as defined below), all of which is classified as short-termdebt. At December 31, 2007, there was approximately $15.5 million borrowedunder the Original Revolving Loan (as defined below) and approximately $7.8million borrowed under the Giftline Revolver, all of which is classified asshort-term debt.

 

*A. TheInfantline Credit Agreement*

 

OnMarch 14, 2006 (the “Closing Date”), Kids Line, LLC. (“KL”) and Sassy, Inc.(“Sassy”) entered into a credit agreement as borrowers, on a joint and severalbasis, with LaSalle Bank National Association as administrative agent andarranger (the “Agent”), the lenders from time to time party thereto, RussBerrie and Company, Inc. (“RB”) as loan party representative, SovereignBank as syndication agent, and Bank of America, N.A. as documentation agent (asamended on December 22, 2006, the “Infantline Credit Agreement”). Theoriginal commitments under the Infantline Credit Agreement consisted of (a) a$35.0 million revolving credit facility (the “Original Revolving Loan”), with asubfacility for letters of credit in an amount not to exceed $5.0 million, and (b) aterm loan facility in the original amount of $60 million (the “Original TermLoan”).

 

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Asof December 22, 2006 the Infantline Credit Agreement was amended (the “FirstAmendment”) to permit the repayment and subsequent reborrowing of up to $20million under the Original Term Loan, which was intended to enable KL and Sassyto continue to utilize cash flows expected to be generated from operations to repaydebt until the earnout consideration for the purchase of Kids Line, LLC (the “KLEarnout Consideration”) became due. Pursuant to the First Amendment, KL and Sassy borrowed $20 million underthe Original Revolving Loan, the outstanding balance of which had previouslybeen reduced to zero, and utilized the proceeds of such draw to prepay $20million of the Original Term Loan. The lenders then provided an additional termloan reborrowing commitment (the “TR Commitment”) of an aggregate maximumprincipal amount of $20 million, which amounts could only be reborrowed duringspecified periods and only to fund the payment of the KL EarnoutConsideration.  Pursuant to the FirstAmendment, KL and Sassy paid a non-use fee in respect of undrawn amounts of theTR Commitment at a per annum rate of 0.375% of the daily average of the undrawnamounts.  In December 2007, KL andSassy paid $28.5 million of the KL Earnout Consideration, which amount wasfinanced by drawing the TR Commitment of $20 million and drawing an additional$8.5 million on the Original Revolving Loan. The remaining portion of the KLEarnout Consideration ($3.6 million) was paid by KL and Sassy in January of2008, also through a draw on the Original Revolving Loan.

 

Asof April 2, 2008, RB, KL, Sassy, the CoCaLo Buyer, LaJobi and CoCaLo (viaa Joinder Agreement) entered into an Amended and Restated Credit Agreement (the“Amendment”) with certain financial institutions party to the Infantline CreditAgreement or their assignees (the “Lenders”), LaSalle Bank NationalAssociation, as Agent and Fronting Bank, Sovereign Bank as Syndication Agent,Wachovia Bank, N.A. as Documentation Agent and Banc of America Securities LLCas Lead Arranger.  KL, Sassy, the CoCaLoBuyer, LaJobi and CoCaLo are referred to herein collectively as the “InfantlineBorrowers”, and the CoCaLo Buyer, LaJobi and CoCaLo are referred to herein asthe “New Borrowers”.  The Amendmentamends and restates the Infantline Credit Agreement, and adds the New Borrowersas parties thereto.  The Pledge Agreementdated as of March 14, 2006 between RB and the Agent (as amended on December 22,2006) was also amended and restated as of April 2, 2008, to provide, amongother things, for a pledge of the capital stock of the CoCaLo Buyer by RB.  In connection with the Amendment, 100% of theequity of each Infantline Borrower, including each New Borrower, has beenpledged as collateral to the Agent.  Inaddition, the Guaranty and Collateral Agreement (as defined in the Amendment)was also amended and restated as of April 2, 2008, to add the NewBorrowers as parties and to include substantially all of the existing andfuture assets and properties of the New Borrowers as security for thesatisfaction of the obligations of all Infantline Borrowers, including the NewBorrowers, under the Amendment and the other related loan documents.

 

Thecommitments under the Amendment consist of (a) a $75.0 million revolvingcredit facility (the “New Revolving Loan”), with a subfacility for letters ofcredit in an amount not to exceed $5.0 million, and (b) a $100.0 millionterm loan facility (the “New Term Loan”). The Infantline Borrowers drew down$31.0 million under the New Revolving Loan and the entire $100 millionavailable under the New Term Loan on the Closing Date, in order to finance theacquisitions of LaJobi and CoCaLo, and pay related transaction expenses of suchacquisitions and the Amendment, and to reallocate the existing indebtednessamong the bank syndicate.  The scheduled maturitydate has been extended from March 14, 2011 to April 1, 2013 (subjectto customary early termination provisions). The principal of the Original Term Loan was to be repaid on a monthlybasis as follows: $9.0 million for each of years 1-2; $12.0 million for year 3;and $15.0 million for each of years 4-5. Pursuant to the Amendment, the principal of the New Term Loan will berepaid, on a quarterly basis, at an annual rate of $14.4 million per year,commencing June 30, 2008 thru June 30, 2012 and $31.6 million due in2013.

 

TheInfantline Loans bear interest at a rate per annum equal to the Base Rate (forBase Rate Loans) or the LIBOR Rate (for LIBOR Loans) at the option of theInfantline Borrowers, plus an applicable margin, in accordance with a pricinggrid based on the most recent quarter-end Total Debt to EBITDA Ratio, whichapplicable margin, prior to the execution of the Amendment ranged from 1.75% -2.50% for LIBOR Loans and from 0.25% - 1.00% for Base Rate Loans.  Pursuant to the Amendment, the margins nowrange from 2.0% - 3.0% for LIBOR Loans and from 0.50% - 1.50% for Base RateLoans.

 

Theapplicable interest rate margins as of June 30, 2008 were: 2.75% for LIBORLoans and 1.25% for Base Rate Loans. The weighted average interest rates forthe outstanding loans as of June 30, 2008 were as follows:

 
| ** **           | ** ** | **At June 30, 2008** | ** ** |
|----------------------|------------|-------------------------------------|------------|
| ** **           | ** ** | **LIBOR Loans**                | ** ** | **Base Rate Loans** | ** ** |
| Infantline Revolver  |       | 5.36                                | %          | 6.48 | % |
| Infantline Term Loan |       | 5.38                                | %          | 6.48 | % |

 

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In connection with theAmendment, the Infantline Borrowers paid the Agent and Lenders a closing fee ofapproximately $1.5 million, and the Company incurred $0.7 million of otherthird party costs.  Of the aggregate feesand costs, $0.4 million was expensed to interest expense in the three monthsended June 30, 2008 and the remainder was treated as deferred financingcosts and will be recognized over the term of respective types of indebtednessusing the effective interest method.   Inconnection with the Amendment, the Company also wrote-off during the secondquarter of 2008 $0.3 million of unamortized deferred financing costs.

 

In addition, pursuant to theAmendment, the following fees are now applicable:  an agency fee of $35,000 per annum, an annualnon-use fee (payable monthly, in arrears, and upon termination of the relevantobligations) of 0.40% to 0.60% of the unused amounts under the Revolving Loan,an annual letter of credit fee (payable monthly, in arrears, and upon terminationof the relevant obligations) for undrawn amounts with respect to each letter ofcredit based on the most recent quarter-end Total Debt to EBITDA Ratio rangingfrom 2.75% - 3.25% and other customary letter of credit administration fees.  On August 13, 2008, the Amendment wasfurther amended (the “August Modification”) to clarify the definition ofEBITDA as applied to, among other things, the Total Debt to EBITDA Ratio forthe last three quarters of 2008.

 

TheInfantline Borrowers are required to make prepayments of the New Term Loan uponthe occurrence of certain transactions, including most asset sales or debt orequity issuances, and pursuant to the Amendment, extraordinary receipts.Commencing in early 2008 with respect to fiscal year 2007, annual mandatoryprepayments of the Original Term Loan would have been required in an amountequal to 50% of Excess Cash Flow for each fiscal year unless the Total Debt toEBITDA Ratio for such fiscal year was equal to or less than 2.00:1.00. Forfiscal year 2007, no Excess Cash Flow payment was required, and pursuant to theAmendment, this requirement has been eliminated in its entirety.

 

The Amendment containscustomary affirmative and negative covenants. as well as the following financial covenants: (i) a minimum FixedCharge Coverage Ratio, (ii) a maximum Total Debt to EBITDA Ratio and (iii) anannual capital expenditure limitation. Upon the occurrence of an event of default under the Amendment,including a failure to remain in compliance with all applicable financialcovenants, the lenders could elect to declare all amounts outstanding under theAmendment to be immediately due and payable. If tested on such date, the Infantline Borrowers would have beennon-compliant with the Total Debt to EBITDA Ratio on June 30, 2008.  The August Modification, however, whichclarified the definition of EBITDA (among other things, as it applies to suchratio for the last three quarters of 2008, including for the quarter ending June 30,2008), was executed prior to any default with respect to such ratio.  As a result, the Infantline Borrowers were incompliance with all applicable financial covenants in the Amendment as of June 30,2008.

 

TheAmendment contains significant limitations on the ability of the InfantlineBorrowers to distribute cash to RB, which became a corporate holding company byvirtue of the Assignment, for the purpose of paying dividends to theshareholders of the Company or for the purpose of paying their allocableportion of RB’s corporate overhead expenses. Prior to the effectiveness of the Amendment, KL and Sassy were notpermitted (except in specified situations) to distribute cash to RB to pay RB’soverhead expenses unless: (i) before and after giving effect to suchdistribution, no event of default would exist and (ii) before and aftergiving effect to such distribution, Excess Revolving Loan Availability willequal or exceed $4.0 million; provided that the aggregate amount of suchdistributions could not exceed $2.0 million per year.  Pursuant to the Amendment, the $4.0 millionavailability threshold was increased to $5.0 million, and the aggregate maximumamount of such distributions was increased to $3.5 million, and apply in eachcase to all Infantline Borrowers.  Otherrestrictions on dividends and distributions to RB remain unchanged by theAmendment.

 

TheAmendment also effected the following additional changes, among others, to theInfantline Credit Agreement:

 

(i)            The definition of Borrowing Base wasamended from 85% of eligible receivables plus 55% of eligible inventory to 85%of eligible receivables plus the lesser of (x) $25.0 million and (y) 55%of eligible inventory;

 

(ii)           Payment of the amounts outstandingunder the promissory note under the Stock Agreement is prohibited if before andafter giving effect to any such repayment, a default or event of default wouldexist;

 

(iii)          Payment of the LaJobi EarnoutConsideration or the CoCaLo Additional Earnout Payments is prohibited if beforeand after giving effect to any such repayment, (a) a default or event ofdefault would exist, (b) Excess 

 

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RevolvingLoan Availability will not equal or exceed $9.0 million, or (c) before andafter giving effect to any such repayment, the Infantline Financial Covenantswill not be satisfied (the “Earnout Conditions”);

 

(iv)          Specified defaults with respect to the LaJobiEarnout Consideration and/or the CoCaLo Additional Earnout Payments have beenadded as events of default (including failure to deliver to the Agent specifiedcertifications and calculations within a specified time period, the reasonabledetermination by the Agent that any Earnout Conditions will not be satisfied asof the applicable payment date, if any material information provided to theAgent with respect to the Earnout Conditions shall be incorrect in any materialrespect and remain unremedied prior to the relevant payment date, or any LaJobiEarnout Consideration or Additional Earnout Payments are paid at any time thatthe Earnout Conditions are not satisfied); and

 

(v)           The Infantline Borrowers are required tomaintain in effect Hedge Agreements that protect against potential fluctuationsin interest rates with respect to a minimum of 50% of the outstanding amount ofthe New Term Loan.

 

The Revolving LoanAvailability at June 30, 2008 was $22.7 million.

 

Pursuant tothe requirement to maintain Hedge Agreements discussed above, on May 2,2008, the Infantline Borrowers entered into an interest rate swap agreementwith a notional amount of $70 million as a risk management tool to lock theinterest cash outflows on the floating rate debt.  However, because the Company did not meet thecriteria for hedge accounting under SFAS No. 133 for this instrument, changesin the fair value of the interest rate swap will be remeasured throughoperations each period.  Changes betweenits cost and its fair value as of June 30, 2008 resulted in income ofapproximately $158,000, and such amount is included in interest expense in theconsolidated statements of operations for the three and six months ended June 30,2008.

 

*B. The Giftline Credit Agreement*

 

OnMarch 14, 2006, as amended on April 11, 2006, August 8, 2006, December 28,2006 and August 7, 2007, Russ Berrie U.S. Gift Inc. (“U.S. Gift”) andother specified wholly-owned domestic subsidiaries of RB (collectively, the “GiftlineBorrowers”), entered into a credit agreement as borrowers, on a joint andseveral basis, with LaSalle Bank National Association, as issuing bank (the “IssuingBank”), LaSalle Business Credit, LLC as administrative agent (the “AdministrativeAgent”), the lenders from time to time party thereto, and the Company, as loanparty representative (as amended, the “Giftline Credit Agreement”). Unlessotherwise specified herein, capitalized terms used but undefined in this, Section Bshall have the meanings ascribed to them in the Giftline Credit Agreement.

 

Priorto the August 8, 2007 amendment to the Giftline Credit Agreement (the “FourthAmendment”), the Giftline Credit Agreement consisted of a maximum revolvingcredit loan commitment (the “Giftline Revolver”) in an amount equal to thelesser of (i) $15.0 million (with a maximum availability of$13.5 million) and (ii) the then-current Borrowing Base, in each caseminus amounts outstanding under the Canadian Credit Agreement (as definedbelow), with a sub-facility for letters of credit to be issued by the IssuingBank in an amount not to exceed $8.0 million. The Fourth Amendmentincreased the aggregate total Commitment under the Giftline Credit Agreementfrom $15.0 million to $25.0 million, and amended the definition ofRevolving Loan Availability so that it now equals the difference between (a) thelesser of (x) the Maximum Revolving Commitment in effect at such time and (y) theBorrowing Base at such time, minus (b) the sum of the aggregate principalamount of all “Loans”, “Specified Hedging Obligations” and the “Stated Amount”of all “Letters of Credit” outstanding or requested but not yet funded underthe Canadian Loan Agreement. The Borrowing Base is primarily a function of apercentage of eligible accounts receivable and eligible inventory. As of June 30,2008, the outstanding balance on the Giftline Revolver was $6.1 million,there was no outstanding balance on the Canadian Revolving Loan (see Section Cbelow), and there was $1.2 million utilized under the Canadiansub-facility for letters of credit. At June 30, 2008, based on availablecollateral, the unused amount available to be borrowed under the GiftlineRevolver was $1.2 million.

 

Alloutstanding amounts under the Giftline Revolver are due and payable on March 14,2011, subject to earlier termination in accordance with the terms of theGiftline Credit Agreement.

 

TheGiftline Revolver bears interest at a rate per annum equal to the sum of theBase Rate (for Base Rate Loans) or the LIBOR Rate (for LIBOR Loans), at theCompany’s option plus an applicable margin, which margin was originally 2.75%for LIBOR Loans and 1.25% for Base Rate Loans. However, pursuant to the December 28,2006 amendment to the Giftline Credit Agreement (the “Third Amendment”), theinterest rates applicable to the Giftline Revolver were reduced such that theapplicable margin is now determined in accordance with a pricing grid based onthe most recent quarter-end Daily Average Excess Revolving Loan Availability,which applicable margins 

 

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shall range from 2.00% - 2.75% for LIBORLoans and from 0% - 0.50% for Base Rate Loans. Interest is due and payablein the same manner as with respect to the Infantline Loans. The applicableinterest rate margins as of June 30, 2008 were 2.25% for LIBOR Loans and0.25% for Base Rate Loans. As of June 30, 2008, the interest rate was5.25% for the one outstanding Base Rate loan ($1.6 million) and 4.73% for oneoutstanding LIBOR loan ($4.5 million).

 

Inconnection with the execution of the Giftline Credit Agreement, the InfantlineBorrowers paid (on behalf of the Giftline Borrowers) aggregate closing fees of $0.15million and an aggregate agency fee of $20,000. Aggregate agency fees of $20,000 will be payable by the GiftlineBorrowers on each anniversary of the Closing Date. Pursuant to the ThirdAmendment, the Giftline Revolver is subject to an annual non-use fee (payablemonthly, in arrears, and upon termination of the relevant obligations), rangingfrom 0.375% to 0.50% for unused amounts under the Giftline Revolver, and anannual letter of credit fee ranging from 2.00% to 2.75%. Other fees are asdescribed in the Giftline Credit Agreement.

 

Receivableand disbursement bank accounts of the Giftline Borrowers are required to bewith the Administrative Agent or its affiliates, and cash in such accounts isswept on a daily basis to pay down outstanding amounts under the GiftlineRevolver.

 

TheGiftline Credit Agreement contains customary affirmative and negative covenantssubstantially similar to those applicable to the Amendment. The Giftline CreditAgreement originally contained the following financial covenants: (i) aminimum EBITDA test, (ii) a minimum Excess Revolving Loan Availabilityrequirement of $5.0 million, (iii) an annual capital expenditurelimitation and (iv) a minimum Fixed Charge Coverage Ratio (for quarterscommencing with the quarter ended March 31, 2008). On August 8, 2006,the Giftline Credit Agreement was amended to lower the threshold on the MinimumEBITDA covenant by $1.0 million per quarter for each of four consecutivequarters commencing with the quarter ending September 30, 2006. The ThirdAmendment (i) eliminated in their entirety both the minimum EBITDAfinancial covenant and the Fixed Charge Coverage Ratio financial covenant and (ii) reducedthe minimum Excess Revolving Loan Availability requirement from$5.0 million to $3.5 million. The Fourth Amendment eliminated theexisting Excess Revolving Loan Availability requirement, and re-instituted aFixed Charge Coverage Ratio covenant based on the last day of any month for theapplicable Computation Period (as defined in the Fourth Amendment) ending onsuch date. The Fixed Charge Coverage Ratio now specifies that the Fixed ChargeCoverage Ratio, as determined for the Computation Period ending on the last dayof any month, may not be less than 1.1:1.0. This covenant is only applicable,however, if during the three month period then ending on such date ofdetermination (the “Test Period”) Revolving Loan Availability (defined above)was less than $3.5 million for any three (3) consecutive business dayperiod (the “Test Condition”). If compliance is required because the TestCondition was not met, the Giftline Borrowers will be required to deliver a specifiedcompliance certificate to the Administrative Agent. In addition, the GiftlineBorrowers must comply with the Fixed Charge Coverage Ratio covenant for aperiod of three consecutive months after they fail to satisfy the TestCondition. The Company’s availability was not less than $3.5 million during thequarter ended June 30, 2008 and the Fixed Charge Coverage Ratio was notapplicable during the quarter.  As of June 30,2008, the Company was in compliance with the remaining financial covenantscontained in the Giftline Credit Agreement.

 

Inaddition to the changes discussed above, the Fourth Amendment permits, subjectto specified conditions, the mergers of specified inactive subsidiaries of RBwith and into RB (including certain Giftline Borrowers), and increases theamount of in-transit inventory which may be deemed “Eligible Inventory” underspecified circumstances from $3.0 million to $8.0 million.

 

TheGiftline Credit Agreement contains significant limitations on the ability ofthe Giftline Borrowers to distribute cash to RB for the purpose of payingdividends to the shareholders of the Company or for the purpose of paying theirallocable portion of RB’s corporate overhead expenses, including a cap (subjectto certain exceptions) on the amount that can be provided to RB for corporateoverhead expenses equal to $5.0 million for each fiscal year commencing in2008. The Third Amendment permits the Giftline Borrowers to pay dividends ormake distributions to RB if no default or event of default exists or wouldresult therefrom and immediately after giving effect to such payments, there isat least $1.5 million available to be drawn under the Giftline Revolver.The amount of any such payments to RB cannot exceed the amount of capitalcontributions made by RB to the Giftline Borrowers after December 28,2006, which are used by the Giftline Borrowers to pay down the GiftlineRevolver minus the total amount of dividends or other distributions made by theGiftline Borrowers to RB under this provision of the Giftline Credit Agreement.

 

In order to secure the obligations of the Giftline Borrowers, theGiftline Borrowers pledged and have granted security interests to theAdministrative Agent in substantially all of their existing and future personalproperty, and each Giftline Borrower guaranteed the performance of the otherGiftline Borrowers under the Giftline 

 

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Credit Agreement. Inaddition, RB provided a limited recourse guaranty of the obligations of theGiftline Borrowers under the Giftline Credit Agreement. This guarantee issecured by a lien on the assets intended to be assigned to U.S. Gift pursuantto the Assignment. RB also pledged 100% of the equity interests of each of theGiftline Borrowers and 65% of its equity interests in certain of its First TierForeign Subsidiaries to the Administrative Agent (the “Giftline PledgeAgreement”). The Giftline Pledge Agreement contains substantially similarlimitations on the activities of RB as is set forth in the Infantline PledgeAgreement.

 

*C. Canadian Credit Agreement*

 

Ascontemplated by the 2005 Credit Agreement, on June 28, 2005, the Company’sCanadian subsidiary, Amram’s Distributing Ltd. (“Amrams”), executed aseparate Credit Agreement (acknowledged by the Company) with the financialinstitutions party thereto and LaSalle Business Credit, a division of ABN AMROBank, N.V., Canada Branch, a Canadian branch of a Netherlands bank, asissuing bank and administrative agent (as amended on August 4, 2005, December 7,2005 and March 14, 2006, the “Canadian Credit Agreement”), and relatedloan documents with respect to a maximum U.S. $10.0 million revolving loan(the “Canadian Revolving Loan”). RB executed an unsecured Guarantee (the “CanadianGuarantee”) to guarantee the obligations of Amrams under the Canadian CreditAgreement. In connection with the LaSalle Refinancing, on March 14, 2006,the Canadian Credit Agreement was amended to (i) replace references to the2005 Credit Agreement with the Giftline Credit Agreement (such that, amongother conforming changes, a default under the Giftline Credit Agreement will bea default under the Canadian Credit Agreement), (ii) release RB from theCanadian Guaranty and (iii) provide for a maximum U.S. $5.0 millionrevolving loan. In connection with the release of the Company from the CanadianGuaranty, U.S. Gift executed an unsecured Guarantee to guarantee theobligations of Amrams under the Canadian Credit Agreement. A default under theAmendment will not constitute a default under the Canadian Credit Agreement.There were no borrowings under the Canadian Revolving Loan as of June 30,2008 and December 31, 2007.

 

TheCommitments under the Canadian Credit Agreement bear interest at a rate perannum equal to the sum of the Base Rate (for Base Rate Loans) or the LIBOR Rate(for LIBOR Loans) plus an applicable margin. As of June 30, 2008 and December 31,2007, there were no Base Rate or Libor Loans outstanding under the Canadianagreement.

 

*D.  Russ Berrie (UK) Limited Business OverdraftFacility*

 

On March 19, 2007, Russ Berrie UK Limited entered into a BusinessOverdraft Facility (the “Facility”) with National Westminster Bank PLC(the “Bank”) and The Royal Bank of Scotland plc (“RBS”), acting as agentfor the Bank. The Facility, as amended, consists of a maximum credit line of£1.5 million. Interest is charged on amounts outstanding under theFacility at an annual rate of 1.5% over the Bank’s Base Rate, which interestrate spread will be increased to 3.5% for any amounts outstanding in excess ofthe maximum limit. The Facility is secured by a lien on substantially all ofthe assets of Russ Berrie UK Limited. The Facility was established to assist inmeeting the working capital requirements of Russ Berrie UK Limited. As of June 30,2008, there were no borrowings outstanding under the Facility.

 

**Other Events and Circumstances Pertaining to Liquidity**

 

In the event that additionalinitiatives related to the previously completed Profit Improvement Program (“PIP”)are implemented, certain significant restructuring charges may berecognized.  As the determination toimplement any or all such initiatives has not yet been made, estimates of therange of any additional charges or other related expenditures cannot bedetermined at this time.  See our AnnualReport on Form 10-K for the year ended December 31, 2006 for adetailed description of the PIP. Depending on the performance of the giftsegment in future years, the Company likely will be required to take additionalmeasures, including without limitation additional financing or operationalmeasures, to ensure sufficient liquidity for the gift segment.

 

During the quarter ended June 30,2008, the gift segment recorded a $1.6 million inventory charge in connectionwith unfavorable results of a voluntary quality test on a certain product. See “Resultsof Operations” above.

 

Sassyhas operated under a distribution agreement with MAM Babyartikel GmbH ofVienna, Austria (the “MAM Agreement”) prior to and after the acquisition ofSassy by the Company in 2002. Based on several factors, including the views ofthe Company’s new chief executive officer (in consultation with seniormanagement), the 

 

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inability to obtain concessions from MAMduring discussions in December 2007, the decreasing profitability of theproducts sold under the MAM Agreement and specified restrictions containedtherein limiting the Company’s ability to enter into competitive productcategories, the Company exercised its right to terminate the MAM Agreement andrecognized an impairment charge for $6.4 million, effective as of March 26,2008. The Company expects to continue to distribute MAM products throughout2008 pursuant to contractual transition procedures, but anticipates that itwill experience a sales decline of approximately $20-25 million (although,as noted above, the agreement generates only limited profitability), until suchtime as the Company can generate replacement or alternate product sales.Pursuant to the MAM Agreement, the Company will be restricted from sellingproducts competitive with the MAM products for a period of one year followingthe termination of the MAM Agreement.

 

The Company enters into foreign currency forward exchange contracts,principally to manage the economic currency risks associated with the purchaseof inventory by its European, Canadian and Australian subsidiaries in the giftsegment and by Sassy Inc. in the infant and juvenile segment.  As of June 30, 2008, the Company hadoutstanding forward contracts with a notional amount totaling approximately$7.0 million.  See Note 9 of Notes toUnaudited Consolidated Financial Statements.

 

The Company is dependent upon information technology systems in manyaspects of its business. In 2002, the Company commenced a global implementationof an Enterprise Resource Planning (“ERP”) system for its gift businesses.  During 2003 and continuing into 2004, certainof the Company’s international gift subsidiaries began to phase in aspects ofthe new ERP system.  In late 2005, theCompany began to explore alternative global information technology systems forits gift business that could provide greater efficiencies, lower costs andgreater reporting capabilities than those provided by the current ERPsystem.  As a result of this review, allremaining international implementations were placed on hold pending a decisionon whether or not to replace the current ERP system.  The Company has not yet made a decision onwhether to replace its current ERP system and will continue to explore whethersuch replacement is advisable.

 

The Company is subject to legal proceedings and claims arising in theordinary course of its business that the Company believes will not have amaterial adverse impact on the Company’s consolidated financial condition,results of operations or cash flows.

 

Consistent with its past practices and in the normal course of itsbusiness, the Company regularly reviews acquisition opportunities of varyingsizes.  See Note 2 of Notes to UnauditedConsolidated Financial Statements and “Recent Acquisitions” above for adescription of our recent acquisitions of LaJobi and CoCaLo.  The Company may consider the use of debt orequity financing to fund potential future acquisitions.  Our currentcredit agreements impose restrictions on the Company that could limit itsability to respond to market conditions or to take advantage of acquisitions orother business opportunities.  See “Financings”above.

 

The Company has entered into certain transactions with certain partieswho are considered related parties, and these transactions are disclosed inNote 15 of Notes to Consolidated Financial Statements and Item 13, “CertainRelationships and Related Transactions and Director Independence” of the 200710-K and Note 15 to Unaudited Consolidated Financial Statement herein.

 

**Contractual Obligations**

 

The following table summaries the Company’s significant knowncontractual obligations as of June 30, 2008 and the future periods inwhich such obligations are expected to be settled in cash (in thousands):

 
| ** **                                | ** ** | **Total** | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **2012** | ** ** | **Thereafter** | ** ** |
|-------------------------------------------|------------|-----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|
| Operating Lease Obligations               |       | $         | 46,851     |     | $          | 4,188    |       | $        | 7,793      |     | $          | 6,999    |       | $              | 6,284      |   | $ | 6,294 |   | $ | 15,293 |   |
| Capitalized Leases                        |       | 785       |       | 206      |       | 367      |       | 211      |       | 1        |       | —   |       | —         |       |
| Purchase Obligations(1)                   |       | 58,826    |       | 58,826   |       | —   |       | —   |       | —   |       | —   |       | —         |       |
| Debt Repayment Obligations(2)             |       | 96,400    |       | 7,200    |       | 14,400   |       | 14,400   |       | 14,400   |       | 14,400   |       | 31,600         |       |
| Note Payable – (3)                   |       | 1,600     |       | —   |       | 533      |       | 533      |       | 534      |       | —   |       | —         |       |
| Interest on Debt Repayment Obligations(4) |       | 16,275    |       | 2,552    |       | 4,510    |       | 3,718    |       | 2,926    |       | 2,134    |       | 435            |       |
| Royalty Obligations                       |       | 5,160     |       | 1,100    |       | 2,355    |       | 555      |       | 500      |       | 650      |       | —         |       |
| Total Contractual Obligations             |       | $         | 225,897    |     | $          | 74,072   |       | $        | 29,958     |     | $          | 26,416   |       | $              | 24,645     |   | $ | 23,478 |   | $ | 47,328 |   |

 

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(1)           The Company’s purchase obligationsconsist primarily of purchase orders for inventory.

 

(2)           Reflects repayment obligations underthe Amendment effective as of April 2, 2008. See Note 5 of Notes toUnaudited Consolidated Financial Statements for a description of the Amendment,including amounts and dates of repayment obligations and provisions thatcreate, increase and/or accelerate obligations thereunder. Excludes revolvingloan facilities which as of June 30, 2008 there was approximately$25.8 million borrowed under the New Revolving Loan and approximately$6.1 million borrowed under the Giftline Revolver. The estimated interestpayment for these Revolving Loans using a 5.5% interest rate for 2008 is $0.9million.  The revolving loan facilities matureon March 2011 at which time any amounts outstanding are due and payable.

 

(3)           Reflects note payable with respect toCoCaLo purchase. The present value of the note is $1,439,000 and the aggregate imputedinterest at 5.5% is $161,000. Upon the occurrence of an event of default underthe note, the holder could elect to declare all amounts outstanding to beimmediately due and payable.

 

(4)           This amount reflects estimatedinterest payments on the long-term debt repayment obligation as of June 30,2008 calculated using an interest rate of 5.5% and then- current levels ofoutstanding long-term debt. Such amounts are estimates only and actual interestpayments could differ materially.

 

Of the total income tax payable of $11.7 million,the Company has classified $2.3 million as current, as such amount isexpected to be resolved within one year. The remaining amount has beenclassified as a long-term liability. These amounts are not included in theabove table as the timing of their potential settlement is not reasonablyestimable.

 

Inconnection with the acquisitions of LaJobi and CoCaLo, the Company has agreedto make certain potential earnout payments based on the performance of theacquired businesses.  See “Management’sDiscussion and Analysis of Results of Operations and Financial Condition —Recent Acquisitions.”

 

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**Off Balance Sheet Arrangements**

 

As of June 30, 2008, there have been nomaterial changes in the information provided under the caption “Off BalanceSheet Arrangements” of Item 7 of the 2007 10-K.

 

**CRITICAL ACCOUNTING POLICIES**

 

The SEC has issued disclosure advice regarding “critical accountingpolicies”, defined as accounting policies that management believes are bothmost important to the portrayal of the Company’s financial condition andresults and require application of management’s most difficult, subjective orcomplex judgments, often as a result of the need to make estimates about theeffects of matters that are inherently uncertain.

 

Management is required to make certain estimates and assumptions duringthe preparation of its consolidated financial statements that affect thereported amounts of assets, liabilities, revenue and expenses, and relateddisclosure of contingent assets and liabilities. Estimates and assumptions arereviewed periodically, and revisions made as determined to be necessary bymanagement.  There have been no materialchanges to the Company’s significant accounting estimates and assumptions orthe judgments affecting the application of such estimates and assumptionsduring the period covered by this report from those described in  the Company’s 2007 10-K.

 

Also see Note 2 of Notes to Consolidated Financial Statements of the2007 10-K for a summary of the significant accounting policies used in thepreparation of the Company’s consolidated financial statements.  See Note 3 of Notes to Unaudited ConsolidatedFinancial Statements herein for a discussion of the assumptions used inshare-based payment valuations.

 

**Recently Issued Accounting Standards**

 

In September 2006, the FASB issued SFAS No. 157, “Fair ValueMeasurements” (SFAS No. 157), which defines fair value, establishes aframework for measuring fair value and expands disclosures about fair valuemeasurements.  In February 2008, the FASB issued FASB Staff PositionSFAS No. 157-2, “Effective Date of FASB Statement No. 157”, whichdelayed the effective date of SFAS No. 157 for all non-financial assetsand liabilities, except those that are recognized or disclosed at fair value inthe financial statements on a recurring basis, until January 1,2009.  The impact of the adoption of SFAS No. 157 for financialassets and liabilities on a recurring basis was not material to ourconsolidated interim financial statements.  The expanded disclosures aboutfair value measurements for financial assets and liabilities are presented inNote 8 of Notes to Unaudited Consolidated Financial Statements herein.  OnJanuary 1, 2008, we adopted SFAS 157 for financial assets and liabilities,as well as for any other assets and liabilities that are carried at fair valueon a recurring basis in financial statements. As of June 30, 2008, we did not have any non-financial assets andliabilities that are carried at fair value on a recurring basis in thefinancial statements.  The Company hasnot yet determined the impact that the adoption of SFAS No. 157 will haveon its non-financial assets and liabilities which are not recognized on arecurring basis; however it does not anticipate it to materially impact on itsconsolidated financial position, results of operations and cash flows.

 

In February 2007, the FASB issued SFAS No. 159, “The FairValue Option for Financial Assets and Financial Liabilities.” SFAS No. 159provides companies with an option to report selected financial assets andliabilities at fair value and establishes presentation and disclosurerequirements designed to facilitate comparisons between companies that choosedifferent measurement attributes for similar types of assets and liabilities.SFAS No. 159 is effective for fiscal years beginning after November 15,2007. The Company adopted this standard on 

 

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January 1,2008 and there was no effect on its consolidated financial position, results ofoperations and cashflows resulting therefrom.

 

In December 2007, SFAS No. 141R (revised 2007), “BusinessCombinations,” was issued.  Thisstatement requires an acquirer to recognize assets acquired, the liabilitiesassumed, and any noncontrolling interest in the acquiree at their fair valueson the acquisition date, with goodwill being the excess value over the netidentifiable assets acquired.  Thisstatement is effective for business combinations for which the acquisition dateis on or after the beginning of the first annual reporting period beginning onor after December 15, 2008.  TheCompany is currently evaluating the effect the adoption of this standard willhave on any potential future acquisitions that may occur on or after January 1,2009.

 

In December 2007, SFAS No. 160, “Noncontrolling Interests inConsolidated Financial Statements,” was issued. This statement establishes accounting and reporting standards for thenoncontrolling interest in a subsidiary and for the deconsolidation of asubsidiary.  It clarifies that anoncontrolling interest in a subsidiary is an ownership interest in theconsolidated entity that should be reported as equity in the consolidatedfinancial statements.  This statement iseffective for fiscal years, and interim periods within those fiscal years,beginning on or after December 15, 2008. The Company is evaluating the effect the adoption of this standard willhave on its consolidated financial position, results of operations and cashflows.

 

In March 2008, SFAS No. 161, “Disclosures about DerivativeInstruments and Hedging Activities,” was issued.  This statement requires enhanced disclosuresabout an entity’s derivative and hedging activities.  This statement is effective for financialstatements issued for fiscal years and interim periods beginning after November 15,2008.  The Company is evaluating theeffect the adoption of this standard will have on its consolidated financialposition, results of operations and cash flows.

 

InApril 2008, the FASB issued Staff Position No. 142-3, “Determinationof the Useful Life of Intangible Assets” (“FSP 142-3”). FSP 142-3 amends thefactors that should be considered in developing renewal or extensionassumptions used to determine the useful life of a recognized intangible assetunder SFAS No. 142, “Goodwill and Other Intangible Assets.” FSP 142-3 iseffective for fiscal years beginning after December 15, 2008 and interimperiods within those fiscal years, requiring prospective application tointangible assets acquired after the effective date. The Company will berequired to adopt the principles of FSP 142-3 with respect to intangible assetsacquired on or after January 1, 2009. Due to the prospective applicationrequirement, the Company is unable to determine what effect, if any, theadoption of FSP 142-3 will have on its consolidated financial position, resultsof operations and cash flows.

 

InJune 2008, the FASB issued FSP No. EITF 03-6-1, “Determining WhetherInstruments Granted in Share-Based Payment Transactions Are ParticipatingSecurities” (“FSP EITF 03-6-1”). FSP EITF 03-6-1 concludes that unvestedshare-based payment awards that contain rights to receive nonforfeitabledividends or dividend equivalents are participating securities, and thus,should be included in the two-class method of computing earnings per share (“EPS”).FSP EITF 03-6-1 is effective for fiscal years beginning after December 15,2008, and interim periods within those years. Early application of EITF 03-6-1is prohibited. This FSP also requires that all prior-period EPS data beadjusted retrospectively. The Company is currently evaluating the impact FSPEITF 03-6-1 will have on its consolidated financial position, results ofoperations and cash flows.

 

InJune 2008, FASB ratified EITF Issue No. 08-3, “Accounting by Lesseesfor Nonrefundable Maintenance Deposits” (“EITF No. 08-3”).  EITF No. 08-3 requires that allnonrefundable maintenance deposits be accounted for as a deposit with thedeposit expensed or capitalized in accordance with the lessee’s maintenanceaccounting policy when the underlying maintenance is performed. Once it isdetermined that an amount on deposit is not probable of being used to fundfuture maintenance expense, it is to be recognized as additional expense at thetime such determination is made. EITF No. 08-3 is effective beginningafter January 1, 2009.  We areevaluating the effect of adopting EITF No. 08-3 on our consolidatedfinancial position, results of operations and cash flows`.

 

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**Forward-Looking Statements**

 

This Quarterly Report on Form 10-Qcontains certain forward-looking statements.  Additional written and oralforward-looking statements may be made by the Company from time to time inSecurities and Exchange Commission (SEC) filings and otherwise.  ThePrivate Securities Litigation Reform Act of 1995 provides a safe-harbor forforward-looking statements.  These statements may be identified by the useof forward-looking words or phrases including, but not limited to, “anticipate”,“project”, “believe”, “expect”, “intend”, “may”, “planned”, “potential”, “should”,“will” or “would”.  The Company cautions readers that results predicted byforward-looking statements, including, without limitation, those relating tothe Company’s future business prospects, revenues, working capital, liquidity,capital needs, interest costs and income are subject to certain risks anduncertainties that could cause actual results to differ materially from thoseindicated in the forward-looking statements.   Specificrisks and uncertainties include, but are not limited to, those set forth underItem 1A, “Risk Factors”, of the 2007 10-K. The Company undertakes no obligation to publicly update anyforward-looking statement, whether as a result of new information, futureevents or otherwise.

 

**ITEM 3.  QUANTITATIVE ANDQUALITATIVE DISCLOSURES****ABOUT MARKET RISK**

 

As of June 30, 2008, there have been no material changes in theCompany’s market risks associated with marketable securities and foreigncurrency exchange rates, as described in Item 7A of the 2007 10-K.  The interest applicable to the Company’scredit facilities as of June 30, 2008 was based upon (i) the LIBORRate and (ii) the Base Rate (each as defined in the Amendment and theGiftline Credit Agreement), plus an applicable margin.  At June 30, 2008, a sensitivity analysisto measure potential changes in applicable interest rates indicates that a onepercentage point increase in interest rates would increase the Company’sinterest expense by approximately $1.3 million annually, based upon the levelof debt at June 30, 2008. See Note 5 of Notes to Unaudited ConsolidatedFinancial Statements for a description of the interest rates applicable to theloans under the Company’s current credit facilities.  On May 2, 2008, the Company entered into aninterest rate swap agreement with a notional amount of $70 million as a riskmanagement tool to lock the interest cash outflows on the floating ratedebt.  As noted in Note 5 of Notes toUnaudited Consolidated Financial Statements.

 

**ITEM 4.  CONTROLS ANDPROCEDURES**

 

***Evaluation of Disclosure Controlsand Procedures***

 

We maintain disclosure controls andprocedures as defined in Rules 13a-15(e) or 15d-15(e) of theSecurities Exchange Act of 1934, as amended (the “Exchange Act”) that aredesigned to ensure that information required to be disclosed in our ExchangeAct reports is recorded, processed, summarized and reported within the timeperiods specified in the Securities and Exchange Commission’s rules andforms and that such information is accumulated and communicated to ourmanagement, including our principal executive officer and principal financialofficer (together, the “Certifying Officers”), to allow for timely decisionsregarding required disclosure.

 

In designing and evaluating disclosurecontrols and procedures, management recognizes that any controls andprocedures, no matter how well designed and operated, can provide onlyreasonable, not absolute assurance of achieving the desired objectives.

 

Under the supervision and with theparticipation of management, including the Certifying Officers, we carried outan evaluation of the effectiveness of the design and operation of ourdisclosure controls and procedures pursuant to paragraph (b) of ExchangeAct Rules 13a-15 or 15d-15 as of June 30, 2008.  Based upon that evaluation, the Certifying Officershave concluded that our disclosure controls and procedures are effective at thereasonable assurance level as of June 30, 2008.

 

***Changes in Internal Control overFinancial Reporting***

 

There was no change in our internal controlover financial reporting identified in connection with the evaluation requiredby paragraph (d) of Exchange Act Rule 13a-15 or 15d-15 that occurredduring the fiscal quarter ended June 30, 2008 that has materiallyaffected, or is reasonably likely to materially affect, our internal controlover financial reporting.

 

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**PART II- OTHER INFORMATION**

 

**ITEM 1A.  RISK FACTORS**

 

Therehave been no material changes to the risk factors set forth in Part I,Item 1A, “Risk Factors”, of the Company’s 2007 10-K.

 

**ITEM 5.  OTHER INFORMATION**

 

On August 13, 2008, RBand the parties to the Amendment further amended the Amendment (the “August Modification”)to clarify that for the second, third and fourth quarters of 2008 (the onlyapplicable periods), the multiplier effect in the definition of EBITDA for thepurpose of calculating the Total Debt to EBITDA Ratio does not apply to KL,Sassy or their consolidated subsidiaries (and using the actual trailing twelvemonth EBITDA of such entities for such calculation instead).  The August Modification is applicable tothe remainder of 2008 (the only applicable periods), including the secondquarter thereof.  

 

Inconnection with the preparation of the Company’s financial statements for thesecond quarter of 2008, stemming from deteriorating macro-economic factors anddeclining revenues in our gift segment during the first half of 2008 as well ascurrent and projected cash shortfalls in the gift segment, we conducted animpairment test of our gift segment, specifically the long-lived assets of thegift segment, in accordance with SFAS No. 144, Accounting for theImpairment or Disposal of Long-Lived Assets. As a result of this review, we determined that the fixed assets in ourgift segment were impaired and, accordingly, we recorded an aggregateimpairment charge of approximately $7.0 million in the second quarter of 2008,$6.7 million of which was charged to selling, administrative and generalexpenses of the gift segment and $0.3 million of which was charged to grossprofit of the gift segment.

 

Inaddition, also in connection with the preparation of the Company’s financialstatements for the second quarter of 2008, the Company recorded (i) a $1.6million inventory charge in connection with unfavorable results of a voluntary qualitytest on a certain gift-segment product in gross profit of the gift segment forthe quarter ended June 30, 2008, and (ii) a $1.0 million inventorycharge in gross profit of the gift segment during the second quarter of 2008resulting from the Company’s agreement with the Shining Stars® licensor torelinquish operation of the Shining Stars website to a third party in exchangefor reduced future royalties and the elimination of future Company web-siteresponsibility.

 

SeeNote 7 of Notes to Unaudited Consolidated Financial Statements, and “Results ofOperations” in Item 2. “Management’s Discussion and Analysis of FinancialCondition and Results of Operations”.

 

**ITEM 6.  EXHIBITS**

 
|   |   | Exhibits  to this Quarterly Report on Form 10-Q. |
|--------|--------|-------------------------------------------------------|
|   |   |                                                  |
|   |   | 4.23                                                  | First  Amendment to Credit Agreement, dated as of August 13, 2008, among Kids  Line, LLC, Sassy, Inc, LaJobi, Inc., I & J Holdco, Inc.  CoCalo, Inc., Russ Berrie and Company, Inc. , the lenders party thereto  and LaSalle Bank National Association. |
|   |   |                                                  |
|   |   | 10.111                                                | Bruce  G. Crain Incentive Compensation Letter. |
|   |   |                                                  |   |
|   |   | 31.1                                                  | Certification  of CEO required by Section 302 of the Sarbanes Oxley Act of 2002. |
|   |   |                                                  |   |
|   |   | 31.2                                                  | Certification  of CFO required by Section 302 of the Sarbanes Oxley Act of 2002. |
|   |   |                                                  |   |
|   |   | 32.1                                                  | Certification  of CEO required by Section 906 of the Sarbanes Oxley Act of 2002. |
|   |   |                                                  |   |
|   |   | 32.2                                                  | Certification  of CFO required by Section 906 of the Sarbanes Oxley Act of 2002. |

 

**Items 1, 2, 3 and  4are not applicable and have been omitted.**

 

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**SIGNATURES**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 
|   | RUSS  BERRIE AND COMPANY, INC. |
|--------|--------------------------------|
|   | (Registrant)                   |
|   |                           |
|   |                           |
|   | By                             | /s/ Anthony Cappiello |
| Date:  | August 18,  2008          |   |   | Anthony  Cappiello |
|   |                           | Executive  Vice President and Chief  Administrative Officer (Principal Financial  Officer) |
|        |                                |  |  |  |

 

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**EXHIBIT INDEX**

 
| 4.23   |   | First  Amendment to Credit Agreement, dated as of August 13, 2008, among Kids  Line, LLC, Sassy, Inc, LaJobi, Inc., I & J Holdco, Inc.  CoCalo, Inc., Russ Berrie and Company, Inc., the lenders party thereto  and LaSalle Bank National Association. |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                |
| 10.111 |   | Bruce  G. Crain Incentive Compensation Letter.                                                                                                                                                                                                                                      |
|   |   |                                                                                                                                                                                                                                                                                |
| 31.1   |   | Certification  of CEO required by Section 302 of the Sarbanes Oxley Act of 2002.                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                |
| 31.2   |   | Certification  of CFO required by Section 302 of the Sarbanes Oxley Act of 2002.                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                |
| 32.1   |   | Certification  of CEO required by Section 906 of the Sarbanes Oxley Act of 2002.                                                                                                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                |
| 32.2   |   | Certification  of CFO required by Section 906 of the Sarbanes Oxley Act of 2002.                                                                                                                                                                                               |

 

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