UNITED STATES SECURITIES AND EXCHANGE
COMMISSION
 Washington, D.C.
20549
 
 
 FORM 10-Q
 
 þQUARTERLY REPORT PURSUANT TO
SECTION 13 OR 15(d)
 OF
THE SECURITIES EXCHANGE ACT OF 1934
 
 For
the quarterly period ended:  September 13, 2009
 oTRANSITION REPORT PURSUANT TO SECTION
13 OR 15(d)
 OF
THE SECURITIES EXCHANGE ACT OF 1934
 
 For
the transition period from ____________ to _____________
 
 Commission
file number 333-134701
 
 
 NETWORK
COMMUNICATIONS, INC.
 
 Formed under the laws of the State of
Georgia
 I.R.S. Employer Identification
Number 58-1404355
 
 2305
Newpoint Parkway, Lawrenceville, GA 30043
 Telephone Number:
(770) 962-7220
  
 
 Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
 
 Yes þ          No o
 
 Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405
of this chapter) during the preceding 12 months (or for such shorter period
that the registrant was required to submit and post such files).
 
 Yes o          No o
 
 Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See definitions of “large accelerated filer, “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange
Act.
 Large
accelerated filer o                                                              Accelerated
filer  o                                    Non-accelerated
filer  þ Smaller
reporting company  o
 
 Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
 
 Yes o          No þ
 
 Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date.
 
 Class
              
              Outstanding
      at September 13, 2009Common
      Stock, $0.001 par value per share
              
              100
      shares
  
  
 TABLE OF
CONTENTS
 PART I:
      FINANCIAL INFORMATIONItem 1.
              Condensed Consolidated Financial Statements
      (Unaudited)
              PageCondensed Consolidated Balance Sheets as of September
      13, 2009 and March 29, 2009
              2Condensed Consolidated Statements
      of Operations for the three periods ended September 13, 2009 and September
      14, 2008
              3Condensed Consolidated Statements
      of Operations for the six periods ended September 13, 2009 and September
      14, 2008
              4Condensed Consolidated Statement of
      Stockholders’ Equity as of September 13, 2009
              5Condensed Consolidated Statements of Cash Flows for the
      six periods ended September 13, 2009 and September 14,
      2008
              6Notes to Condensed Consolidated
      Financial Statements
              7Item 2.
              Management’s Discussion and Analysis of
      Financial Condition and Results of Operations
              17Item 3.
              Quantitative and Qualitative Disclosures about Market
      Risk
              31Item
      4.
              Controls and Procedures
              31PART II:
      OTHER INFORMATIONItem 1.
              Legal Proceedings
              32Item
      1A.
              Risk Factors
              32Item
      2.
              Unregistered Sales of Equity Securities and Use
      of Proceeds
              32Item
      3.
              Defaults upon Senior Securities
              32Item
      4.
              Submission of Matters to a Vote of Security
      Holders
              32Item
      5.
              Other Information
              32Item
      6.
              Exhibits
              32SignaturesEX-31.1:
              CERTIFICATION OF CEOEX-31.2:
              CERTIFICATION OF CFOEX-32.1:
              CERTIFICATION OF CEOEX-32.2:
              CERTIFICATION OF CFO
  
  1
 Table of Contents
  PART I –FINANCIAL
INFORMATION
 
 Item 1.   Condensed Consolidated Financial
Statements
  NETWORK COMMUNICATIONS, INC. AND SUBSIDIARIES
 CONDENSED
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
  September
      13, 2009
                
                
                March
      29, 2009ASSETSCurrent
      assetsCash
      and cash equivalents
                
                $
                2,246,586
                
                
                $
                2,584,740Accounts
      receivable, net of allowance for doubtful accounts of $3,940,107 and
      $3,948,260, respectively
                
                
                15,657,083
                
                
                
                12,063,799Inventories
                
                
                2,011,475
                
                
                
                2,849,917Prepaid
      expenses and deferred charges
                
                
                2,446,432
                
                
                
                3,332,139Deferred
      tax assets
                
                
                1,547,737
                
                
                
                1,595,511Income
      tax receivable
                
                
                2,808,050
                
                
                
                3,292,455Other
      current assets
                
                
                111,196
                
                
                
                59,487Total
      current assets
                
                
                26,828,559
                
                
                
                25,778,048Property,
      equipment and computer software, net
                
                
                22,693,503
                
                
                
                23,658,481Goodwill
                
                
                188,758,153
                
                
                
                188,531,513Deferred
      financing costs, net
                
                
                5,246,064
                
                
                
                5,959,080Intangible
      assets, net
                
                
                121,675,551
                
                
                
                128,512,560Other
      assets
                
                
                370,579
                
                
                
                417,378Total
      noncurrent assets
                
                
                338,743,850
                
                
                
                347,079,012Total
      assets
                
                $
                365,572,409
                
                
                $
                372,857,060LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilitiesAccounts
      payable
                
                $
                7,165,482
                
                
                $
                6,459,301Accrued
      compensation and related taxes
                
                
                1,939,105
                
                
                
                1,503,679Customer
      deposits
                
                
                923,216
                
                
                
                964,022Unearned
      revenue
                
                
                1,765,046
                
                
                
                1,332,484Accrued
      interest
                
                
                5,638,361
                
                
                
                6,682,405Other
      current liabilities
                
                
                196,799
                
                
                
                383,004Current
      maturities of long-term debt
                
                
                766,359
                
                
                
                2,350,941Current
      maturities of capital lease obligations
                
                
                306,107
                
                
                
                342,192Total
      current liabilities
                
                
                18,700,475
                
                
                
                20,018,028Long-term
      debt, less current maturities
                
                
                284,705,221
                
                
                
                282,693,343Capital
      lease obligations, less current maturities
                
                
                218,156
                
                
                
                322,269Deferred
      tax liabilities
                
                
                25,999,459
                
                
                
                27,294,034Other
      long-term liabilities
                
                
                3,137
                
                
                
                —Total
      liabilities
                
                
                329,626,448
                
                
                
                330,327,674Commitments
      and contingencies (Note 9)Stockholders’
      EquityCommon
      stock, $0.001 par value; 100 shares authorized, issued and
      outstanding
                
                
                —
                
                
                
                —Additional
      paid-in capital (including warrants of $533,583 at September 13, 2009 and
      March 29, 2009)
                
                
                194,579,776
                
                
                
                194,579,776Accumulated
      deficit
                
                
                (158,595,009
                )
                
                
                (151,931,512
                )Accumulated
      other comprehensive loss, net of tax
                
                
                (38,806
                )
                
                
                (118,878
                )Total
      stockholders’ equity
                
                
                35,945,961
                
                
                
                42,529,386Total
      liabilities and stockholders’ equity
                
                $
                365,572,409
                
                
                $
                372,857,060
 
  See
      the accompanying notes to condensed consolidated financial
      statements.
 2
 Table of Contents
  NETWORK COMMUNICATIONS, INC. AND
SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
  
  
  Three
      Periods EndedSeptember
      13, 2009
                
                
                September
      14, 2008Sales
                
                $
                35,572,259
                
                
                $
                46,746,442Cost
      of sales (exclusive of production depreciation and software amortization
      expense shown separately below)
                
                
                23,922,929
                
                
                
                31,492,587Production
      depreciation and software amortization
                
                
                1,321,862
                
                
                
                1,193,699Gross
      profit
                
                
                10,327,468
                
                
                
                14,060,156Selling,
      general and administrative expenses (exclusive of nonproduction
      depreciation and software amortization expense shown separately
      below)
                
                
                4,717,287
                
                
                
                4,724,653Nonproduction
      depreciation and software amortization
                
                
                464,439
                
                
                
                419,408Amortization
      of intangibles
                
                
                3,492,659
                
                
                
                3,995,938Operating
      income
                
                
                1,653,083
                
                
                
                4,920,157Other
      income (expense)Interest
      and dividend income
                
                
                2,109
                
                
                
                29,778Interest
      expense
                
                
                (6,517,587
                )
                
                
                (6,699,379
                )Other
      (expense) income
                
                
                (1,858
                )
                
                
                14,845Total
      other expense
                
                
                (6,517,336
                )
                
                
                (6,654,756
                )Loss
      before benefit from income taxes
                
                
                (4,864,253
                )
                
                
                (1,734,599
                )Income
      tax benefit
                
                
                (1,650,405
                )
                
                
                (617,767
                )Net
      loss
                
                $
                (3,213,848
                )
                
                $
                (1,116,832
                )
 
  See
      the accompanying notes to condensed consolidated financial
      statements.
 3
 Table of Contents
  NETWORK COMMUNICATIONS, INC. AND
SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
  
  
  Six
      Periods EndedSeptember
      13, 2009
                
                
                September
      14, 2008Sales
                
                $
                71,420,909
                
                
                $
                95,196,491Cost
      of sales (exclusive of production depreciation and software amortization
      expense shown separately below)
                
                
                48,389,239
                
                
                
                64,208,310Production
      depreciation and software amortization
                
                
                2,597,880
                
                
                
                2,374,634Gross
      profit
                
                
                20,433,790
                
                
                
                28,613,547Selling,
      general and administrative expenses (exclusive of nonproduction
      depreciation and software amortization expense shown separately
      below)
                
                
                9,456,049
                
                
                
                10,502,741Nonproduction
      depreciation and software amortization
                
                
                912,769
                
                
                
                834,331Amortization
      of intangibles
                
                
                7,059,111
                
                
                
                8,027,340Operating
      income
                
                
                3,005,861
                
                
                
                9,249,135Other
      income (expense)Interest
      and dividend income
                
                
                12,017
                
                
                
                88,010Interest
      expense
                
                
                (13,273,996
                )
                
                
                (13,369,269
                )Other
      income
                
                
                19,507
                
                
                
                64,817Total
      other expense
                
                
                (13,242,472
                )
                
                
                (13,216,442
                )Loss
      before benefit from income taxes
                
                
                (10,236,611
                )
                
                
                (3,967,307
                )Income
      tax benefit
                
                
                (3,573,114
                )
                
                
                (1,284,236
                )Net
      loss
                
                $
                (6,663,497
                )
                
                $
                (2,683,071
                )
 
 
 
  See
      the accompanying notes to condensed consolidated financial
      statements.
 4
 Table of Contents
  NETWORK COMMUNICATIONS, INC. AND
SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY (UNAUDITED)
  
 
 
 
 Common Stock
                    Shares                                      
      Amount
                
                
                Additional
                    Paid-In
                    Capital
                
                
                Accumulated
                    Deficit
                
                
                Accumulated
                  Other
                  Comprehensive
                  (Loss)
      Income, net of tax
                
                
                TotalBalance
      at March 29, 2009
                
                
                100
                
                
                $
                —
                
                
                $
                194,579,776
                
                
                $
                (151,931,512
                )
                
                $
                (118,878
                )
                
                $
                42,529,386Comprehensive
      loss:Net
      loss
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (6,663,497
                )
                
                
                —
                
                
                
                (6,663,497
                )Foreign
      currency translation adjustments, net of tax
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                80,072
                
                
                
                80,072Comprehensive
      loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (6,583,425
                )Balance
      at September 13, 2009
                
                
                100
                
                
                $
                —
                
                
                $
                194,579,776
                
                
                $
                (158,595,009
                )
                
                $
                (38,806
                )
                
                $
                35,945,961
 
  See
      the accompanying notes to condensed consolidated financial
      statements.
 5
 Table of Contents
  NETWORK COMMUNICATIONS, INC. AND SUBSIDIARIES
 CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
 
 Six
      Periods EndedSeptember
      13, 2009
                
                
                September
      14, 2008Cash
      flows from operating activitiesNet
      loss
                
                $
                (6,663,497
                )
                
                $
                (2,683,071
                )Adjustments
      to reconcile net loss to net cash provided by operating
      activities:Deferred
      income taxes
                
                
                (1,246,801
                )
                
                
                (2,624,958
                )Depreciation
      and amortization
                
                
                11,607,060
                
                
                
                12,076,808Other
      non-cash adjustments
                
                
                2,226,769
                
                
                
                1,986,745Changes
      in operating assets and liabilities, net of acquired
      businesses
                
                
                (1,342,667
                )
                
                
                (264,097
                )Net
      cash provided by operating activities
                
                
                4,580,864
                
                
                
                8,491,427Cash
      flows from investing activitiesPurchase
      of property, equipment and computer software
                
                
                (2,620,894
                )
                
                
                (2,849,410
                )Payments
      for businesses acquired, net of cash
                
                
                —
                
                
                
                (1,336,499
                )Net
      cash used in investing activities
                
                
                (2,620,894
                )
                
                
                (4,185,909
                )Cash
      flows from financing activitiesProceeds
      from revolving facility
                
                
                6,000,000
                
                
                
                —Payments
      on revolving facility
                
                
                (6,000,000
                )
                
                
                —Payments
      on term loan facility
                
                
                (1,967,761
                )
                
                
                (5,343,610
                )Payments
      on capital leases
                
                
                (184,625
                )
                
                
                (224,888
                )Payments
      of debt issuance costs
                
                
                (145,738
                )
                
                
                —Net
      cash used in financing activities
                
                
                (2,298,124
                )
                
                
                (5,568,498
                )Net
      decrease in cash
                
                
                (338,154
                )
                
                
                (1,262,980
                )Cash
      at beginning of fiscal year
                
                
                2,584,740
                
                
                
                6,715,837Cash
      at end of period
                
                $
                2,246,586
                
                
                $
                5,452,857Supplemental
      disclosurePayments
      for businesses acquired:Fair
      value of assets acquired
                
                $
                —
                
                
                $
                —Less
      liabilities assumed
                
                
                —
                
                
                
                —Total
      purchase price
                
                
                —
                
                
                
                —Deferred
      purchase price
                
                
                —
                
                
                
                1,336,499Cash
      paid for acquired businesses
                
                $
                —
                
                
                $
                1,336,499Noncash
      investing and financing activitiesAssets
      acquired through capital lease
                
                $
                44,426
                
                
                $
                94,976
 
 
 
  See
      the accompanying notes to condensed consolidated financial
      statements.
 6
 Table of Contents
 NETWORK COMMUNICATIONS, INC. AND
SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  
  1.
              Organization
      and Basis of Presentation
  Network Communications, Inc. (“NCI’’),
and its wholly-owned subsidiaries, NCID, LLC and other entities and Network
Publications Canada, Inc. (“NCI-Canada’’) (collectively “the Company’’) has its
principal management, administrative and production facilities in Lawrenceville,
GA.  The Company is a publisher, producing The Real Estate Book
(“TREB”), which is distributed in over 375 markets, the District of
Columbia, Puerto Rico, Virgin Islands, and Canada.  It also produces
the Apartment Finder, New Home
Finder, Mature Living Choices, Unique Homes Magazine, Black’s Guide, Kansas City
Homes and Gardens, New
England Home, Home by Design, Homes and Lifestyles
magazines,regional home
improvement magazines, and other publications.  The Company also
provides its customers the opportunity to purchase related marketing services,
such as custom publishing and direct mail marketing.  Revenue is
primarily generated from advertising displayed in the Company’s print
publications and online versions of such publications.  The combined
online and print distribution provide a unique advantage in reaching real estate
and home design consumers.  Advertisers may also purchase enhanced
print or online listings for an additional fee.  Each market is
operated either by an Independent Distributor (“ID”) assigned a particular
market or by the Company.  NCI is a wholly-owned subsidiary of
Gallarus Media Holdings, Inc. (“GMH’’), and effective January 7, 2005, a
wholly-owned subsidiary of our ultimate parent, GMH Holding Company
(“GMHC’’).  On January 7, 2005, the majority of GMHC stock was
acquired by Citigroup Venture Capital Equity Partners, L.P. and its affiliated
funds (“CVC Fund”).  As a result of their stock acquisition of GMHC,
CVC Fund owns approximately 89% of GMHC’s outstanding capital
stock.  By virtue of their stock ownership, CVC Fund has significant
influence over our management and will be able to determine the outcome of all
matters required to be submitted to the stockholders for
approval.  CVC subsequently spun off from its former owner, Citigroup,
and the new entity was renamed Court Square Capital Partners (“Court
Square”).
  2.
              Summary
      of Significant Accounting Policies
  Basis
of Presentation
  The
accompanying financial statements represent the condensed consolidated
statements of the Company and its wholly-owned subsidiaries.  The
Company reports on a 52-53 week accounting year which ends on the last Sunday of
March of that year and includes 13 four-week periods.  Fiscal quarters
1, 2 and 3 each include 12 weeks; fiscal quarter 4 includes 16 or 17
weeks.  The accompanying condensed consolidated financial statements
include the financial statements of the Company for the three periods and six
periods ended September 13, 2009 and the three periods and six periods ended
September 14, 2008.  All significant intercompany balances and
transactions have been eliminated in consolidation.
  The
year-end condensed consolidated balance sheet data was derived from audited
financial statements, but does not include all disclosures required by
accounting principles generally accepted in the United States of
America.
  The
accompanying interim condensed consolidated financial statements for the three
periods and six periods ended September 13, 2009 and the three periods and six
periods ended September 14, 2008 are unaudited.  Certain information
and note disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United States of
America for financial information have been condensed or omitted pursuant to the
rules and regulations of Article 10 of SEC Regulation S-X.  In the
opinion of management, these condensed consolidated financial statements contain
all adjustments, consisting of normal recurring adjustments, necessary to state
fairly the financial position, results of operations and cash flows for the
periods indicated.  Operating results for the three periods and six
periods ended September 13, 2009 are not necessarily indicative of results that
may be expected for any other future interim period or for the fiscal year
ending March 28, 2010.  You should read the unaudited condensed
consolidated financial statements in conjunction with the Company’s consolidated
financial statements and accompanying notes included in its Annual Report on
Form 10-K for the fiscal year ended March 29, 2009 filed with the SEC
on June 19, 2009.
   7
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  Fair
Value of Financial Instruments
 
 The fair
values of the Company’s financial assets and liabilities at September 13, 2009
and March 29, 2009, equal the carrying values reported on the Consolidated
Balance Sheets except for the new senior secured term loan facility entered into
on July 20, 2007 (the “new term loan facility”), the10 3⁄4% senior notes
(“senior notes”) and the senior subordinated note. The fair values of the new
term loan facility and senior notes are based on quoted market values. The fair
value of the new term loan facility was $48.1 million and $42.4 million as
compared to the carrying values of $68.7 million and $70.7 million as of
September 13, 2009 and March 29, 2009, respectively. The fair value of the
senior notes was $34.8 million and $24.7 million as compared to the
carrying amounts of $175.0 million and $175.0 million as of September
13, 2009 and March 29, 2009, respectively.  The senior
subordinated note does not trade in a market so the fair value is based on
appropriate valuation methodologies including option model and liquidation
analyses.  The fair value of the senior subordinated note was $6.0
million and $6.0 million as compared to the carrying amounts of $43.2 million
and $40.9 million as of September 13, 2009 and
March 29, 2009, respectively.
 
 Derivative
Instruments
 
 Statement
of Financial Accounting Standard (“SFAS”) No. 133, Accounting for Derivative
Instruments and Hedging Activities(“SFAS 133”), establishes accounting
and reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities. This
statement requires the recognition of all derivative instruments as either
assets or liabilities in the balance sheet measured at fair value. The changes
in fair value of derivative instruments are recognized as gains or losses in the
period of change. SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities”,which was effective for the Company
in the fourth quarter of fiscal year 2009, requires enhanced disclosures about
(a) how and why an entity uses derivative instruments, (b) how derivative
instruments and related hedged items are accounted for under SFAS 133 and its
related interpretations, and (c) how derivative instruments and related hedged
items affect an entity's financial position, financial performance, and cash
flows.
 
 Occasionally,
the Company enters into foreign currency forward contracts whereby the Company
agrees to sell on a certain date Canadian Dollars in exchange of US Dollars at a
pre-determined foreign exchange rate. The Company has not elected to use hedge
accounting to record these contracts. The Company executes the contract on or
prior to the expiry date and the related gain or loss is recorded in its
statement of operations under the selling, general and administrative expenses
during the period the contract is executed. The Company uses these contracts to
minimize the foreign currency fluctuation risk resulting from activities of its
subsidiary, Network Publications Canada, Inc (NCI-Canada). At September 13,
2009, the Company had two forward contracts outstanding consisting of CAD $0.2
million and CAD $0.5 million expiring on October 1, 2009 and
December 31, 2009, respectively. At March 29, 2009, the Company had
one forward contract outstanding of CAD $0.3 million expiring on July 1,
2009.  In addition, the Company recorded a loss of US $0.06 million
versus a gain of US $0.02 million related to foreign currency forward contracts
executed during the six periods ending September 13, 2009 and September 14,
2008, respectively in its statements of operations for the periods indicated
under the selling, general and administrative expenses line.
 
 Subsequent
events
 
 In
the first quarter of fiscal year 2010, the Company adopted the provisions of
SFAS 165, “Subsequent
Events” which require entities to disclose the date through which
subsequent events have been evaluated, as well as whether that date is the date
the financial statements were issued or the date the financial statements were
available to be issued. Accordingly, the Company evaluated, for potential
recognition and disclosure, events that occurred prior to the filing of the
Company’s Quarterly Report on Form 10-Q for the six periods ended September 13,
2009 on October 26, 2009.
  8
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  
 Recent
Accounting Pronouncements
 
 In May
2009, The Financial Accounting Standards Board (“FASB”) issued SFAS No. 165,
Subsequent Events(“SFAS 165”).
This statement establishes general standards of accounting for and disclosures
of events that occur after the balance sheet date but before financial
statements are issued or are available to be issued.  It requires the
disclosure of the date through which an entity has evaluated subsequent events
and whether that evaluation date is the date of issuance or the date the
financial statements were available to be issued. SFAS 165 is effective for
interim and annual periods ending after June 15, 2009 and as such, the
Company adopted this standard in the first quarter of fiscal year 2010 and the
adoption had no impact on its financial position, results of operations or cash
flows.
 
 In April
2009, the FASB issued FASB staff position (“FSP”) FAS 107-1, “Disclosures about Fair Value of
Financial Instruments”(“FSP 107-1”). The staff position increases the
frequency of the disclosures related to the fair value of financial instruments
required by public entities to a quarterly basis rather than just annually. The
quarterly disclosures are intended to provide financial statement users with
more timely information about the effects of current market conditions on an
entity’s financial instruments that are not otherwise reported at fair value.
FSP 107-1 is effective for interim and annual periods ending after June 15,
2009, with early adoption permitted in certain circumstances for periods ending
after March 15, 2009. The Company adopted FSP 107-1 in the first quarter of
fiscal year 2010 and the adoption had no impact on its financial position,
results of operations, or cash flows.
 
 In April
2008, the FASB issued FSP FAS 142-3, Determination of the Useful Life of
Intangible Assets (“FSP 142-3”). FSP 142-3 amends the factors an entity
should consider in developing renewal or extension assumptions used in
determining the useful life of recognized intangible assets under SFAS 142,
“Goodwill and Other Intangible
Assets”. The new guidance applies prospectively to intangible assets that
are acquired individually or with a group of other assets in business
combinations and asset acquisitions. FSP 142-3 is effective for financial
statements issued for fiscal years and interim periods beginning after December
15, 2008.  Early adoption is prohibited.  The Company
adopted FSP 142-3 in the first quarter of fiscal year 2010 and the adoption had
no material impact on its financial position, results of operations, or cash
flows.
 
 In
March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities” (“SFAS 161”), which amends the
disclosure requirements of SFAS 133 “Accounting for Derivative
Instruments and Hedging Activities”. SFAS 161 provides an enhanced
understanding about how and why derivative instruments are used, how they are
accounted for and their effect on an entity’s financial position, performance
and cash flows. SFAS 161, which is effective for the first interim period
beginning after November 15, 2008, requires additional disclosure in future
filings. The Company adopted this standard in the fourth quarter of fiscal year
2009 and the adoption did not have any material impact on its financial
position, results of operations, or cash flows.
 
 In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements — an Amendment of ARB No. 51(“SFAS 160”). SFAS 160 amends ARB No. 51 to establish accounting and
reporting standards for the noncontrolling interest in a subsidiary and for the
deconsolidation of a subsidiary. SFAS 160 also clarifies that a noncontrolling
interest in a subsidiary is an ownership interest in the consolidated entity
that should be reported as equity in the consolidated financial statements. SFAS
160 is effective for fiscal years beginning on or after December 15, 2008
and as such, the Company adopted this standard in the first quarter of fiscal
year 2010 and the adoption did not have any material impact on its financial
position, results of operations, or cash flows.
 
 In
December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations(“SFAS 141R”). SFAS 141R will significantly change the accounting
for business combinations in a number of areas including the treatment of
contingent consideration, contingencies, acquisition costs, IPR&D and
restructuring costs. In addition, under SFAS 141R, changes in deferred tax
asset valuation allowances and acquired income tax uncertainties in a business
combination after the measurement period will impact income
taxes.  SFAS 141R is effective for fiscal years beginning after
December 15, 2008 and, as such, the Company adopted this standard in the
first quarter of fiscal year 2010. The provisions are effective for the Company
for business combinations on or after March 30, 2009.
  9
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  Effective
March 26, 2007, the Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income
Taxes—an Interpretation of FASB Statement 109(“FIN 48”). FIN 48 requires
that a position taken or expected to be taken in a tax return be recognized in
the financial statements when it is more likely than not (i.e. a likelihood of
more than fifty percent) that the position would be sustained upon examination
by tax authorities. A recognized tax position is then measured at the largest
amount of benefit that is greater than fifty percent likely of being realized
upon ultimate settlements. Upon adoption, the Company did not have any material
uncertain tax positions to account for as an adjustment to its opening balance
of retained earnings on March 26, 2007. In addition, as of September 13,
2009 and March 29, 2009, the Company did not have any material unrecognized tax
benefits.
 
 In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial
Assets and Financial Liabilities — Including an Amendment of FASB Statement
No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to
measure many financial instruments and certain other items at fair value. This
provides entities with the opportunity to mitigate volatility in reported
earnings caused by measuring related assets and liabilities differently without
being required to apply complex hedge accounting provisions. The provisions of
SFAS 159 are effective as of the beginning of fiscal years that start after
November 15, 2007. The Company adopted SFAS 159 on March 31, 2008 and the
adoption did not have any material impact on its financial position, results of
operations, or cash flows.
 
 In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements
(“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring
fair value under generally accepted accounting principles, and expands
disclosures about fair value measurements. SFAS 157 emphasizes that fair value
is a market-based measurement, not an entity-specific measurement, and states
that a fair value measurement should be determined based on the assumptions that
market participants would use in pricing the asset or liability.  SFAS
157 applies under other accounting pronouncements that require or permit fair
value measurements.
 
 SFAS 157,
among other things, requires companies to maximize the use of observable inputs
and minimize the use of unobservable inputs when measuring fair value, and
specifies a hierarchy of valuation techniques based on whether the inputs to
those valuation techniques are observable or unobservable. Observable inputs
reflect market data obtained from independent sources, while unobservable inputs
reflect the company’s market assumptions. The effective date is for fiscal years
beginning after November 15, 2007.
  SFAS 157
establishes a three-tiered hierarchy to prioritize inputs used to measure fair
value. Those tiers are defined as follows:
  -
              Level
      1 inputs are quoted prices (unadjusted) in active markets for identical
      assets or liabilities that the reporting entity has the ability to access
      at the measurement date.
  -
              Level
      2 inputs are inputs, other than quoted prices included within Level 1,
      that are observable for the asset or liability, either directly or
      indirectly. If the asset or liability has a specified (contractual) term,
      a Level 2 input must be observable for substantially the full term of the
      asset or liability.
  -
              Level
      3 inputs are unobservable inputs for the asset or
    liability.
 
 The
highest priority in measuring assets and liabilities at fair value is placed on
the use of Level 1 inputs, while the lowest priority is placed on the use of
Level 3 inputs.
  This
statement also expands the related disclosure requirements in an effort to
provide greater transparency around fair value measures.
 
 At March
31, 2008, the Company adopted SFAS 157, and the adoption had no material impact
on the Company’s financial position, results of operations, or cash
flows.
 
 In
February 2008, the FASB issued FSP FAS 157-2, which delays the effective date of
SFAS 157 to fiscal years beginning after November 15, 2008, and interim
periods within those fiscal years, for all nonfinancial assets and nonfinancial
liabilities, except those that are recognized or disclosed at fair value in the
financial statements on a recurring basis (at least annually).  The
Company adopted FSP FAS 157-2 in the first quarter of fiscal year 2010 and the
adoption had no material impact on its financial position, results of operations
or cash flows.
 
  10
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  3.
              Inventories
  At
September 13, 2009 and March 29, 2009, inventories consisted of the
following:
 
 September
      13, 2009
                  
                  
                  March
      29, 2009Distribution
      products and marketing aids for resale
                  
                  $
                  239,371
                  
                  
                  $
                  274,683Production,
      paper and ink
                  
                  
                  1,155,101
                  
                  
                  
                  2,057,004Work-in-process
                  
                  
                  617,003
                  
                  
                  
                  518,230Total
                  
                  $
                  2,011,475
                  
                  
                  $
                  2,849,917
 
  4.
              Acquisitions
  Generally,
whenever an acquisition is completed, the Company pays a premium over the fair
value of the net tangible and identified intangible assets acquired to fulfill
the Company’s strategic initiatives and to ensure strategic fit with its current
publications.  The majority of the Company’s transactions are asset
based in which the Company acquires the publishing assets associated with the
products purchased that fit our predetermined criteria as an expansion of our
geographical footprint, addition to market share in certain areas or
complementary services to our existing customers.  The Company
evaluates each asset purchased on an individual basis for fit with our
organization based on its historical performance along with our expectations for
growth.  The strength of each criteria and the expected return on our
investment are evaluated in developing the purchase price.
  Allocation
of Purchase Price
  The
application of purchase accounting under SFAS 141 requires that the total
purchase price be allocated to the fair value of assets acquired and liabilities
assumed based on their fair values at the acquisition date.  The
allocation process requires an analysis of acquired contracts, customer
relationships, contractual commitments and legal contingencies to identify and
record the fair value of all assets acquired and liabilities
assumed.  In valuing acquired assets and assumed liabilities, fair
values are based on, but not limited to: future expected cash flows; current
replacement cost for similar capacity for certain fixed assets; market rate
assumptions for contractual obligations; settlement plans for litigation and
contingencies; and appropriate discount rates and growth
rates.  Goodwill represents the excess of the purchase price over the
fair value of the net assets of the acquired business.  Goodwill,
which is tax deductible, resulting from the acquisitions is assigned to the
Company’s one business segment.  The Company adopted SFAS 141R in the
first quarter of fiscal year 2010 and will apply the provisions on acquisitions
completed in the future.
  On May 1,
2009, the Company acquired the publishing assets of The Real Estate Book in the
Mid-Atlantic region for which consideration did not involve cash.  The
total purchase price was $0.4 million of which $0.2 million was recorded to
goodwill.  In addition, the Company did not complete any acquisitions
in the second quarter ended September 13, 2009.
  On July
29, 2008, the Company paid $1.3 million for earn-outs related to the New England Home acquisition
completed on March 28, 2007.  The earn-out payment was charged to
goodwill and shown under supplemental disclosure in the consolidated statements
of cash flows for the six periods ended September 14, 2008.
  5.
              Goodwill
  As
disclosed in its Annual Report on Form 10-K filed with the SEC on June 19, 2009,
the Company had a triggering event under SFAS 142 in the third quarter of fiscal
year 2009.  As a result, the Company performed an impairment test of
its goodwill and indefinite-lived intangible assets under SFAS 142 and recorded
during the third and fourth quarters of fiscal year 2009 a total impairment loss
of $119.5 million. For further details, refer to the Company’s Annual Report on
Form 10-K for fiscal year 2009 filed with the SEC on June 19,
2009.  In addition, the Company does not believe that a triggering
event has occurred during the six periods ended September 13, 2009.
 
  11
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  The total
amounts of goodwill on the Company’s books at September 13, 2009 and March 29,
2009 were $188.8 million and $188.5 million,
respectively.
 
 Balance,
      March 30, 2008
                  
                  $
                  306,518,991Fiscal
      year 2009 additions
                  
                  
                  1,534,555Impairment
      loss
                  
                  
                  (119,522,033
                  )Balance,
      March 29, 2009
                  
                  
                  188,531,513Current
      year additions
                  
                  
                  226,640Balance,
      September 13, 2009
                  
                  $
                  188,758,153
 
  6.
              Comprehensive
      Loss
  Comprehensive
loss includes reported net loss, and foreign currency translation adjustments,
net of tax. The following table shows NCI’s comprehensive loss for the three
periods and six periods ended September 13, 2009 and September 14,
2008:
 
 Three
      Periods Ended
                  
                  
                  Six
      Periods Ended(Dollars
      in thousands)
                  
                  September 13, 2009
                  
                  
                  September 14, 2008
                  
                  
                  September 13, 2009
                  
                  
                  September 14, 2008Net
      loss
                  
                  $
                  (3,214
                  )
                  
                  $
                  (1,117
                  )
                  
                  $
                  (6,663
                  )
                  
                  $
                  (2,683
                  )Foreign
      currency translation adjustments, net of tax
                  
                  
                  22
                  
                  
                  
                  (18
                  )
                  
                  
                  80
                  
                  
                  
                  (21
                  )Comprehensive
      loss
                  
                  $
                  (3,192
                  )
                  
                  $
                  (1,135
                  )
                  
                  $
                  (6,583
                  )
                  
                  $
                  (2,704
                  )
 
  7.
              Income
      Taxes
  The
following table sets forth the income tax benefit and effective tax rate for the
three periods and six periods ended September 13, 2009 and September 14,
2008:
 
 Three
      Periods Ended
                  
                  
                  Six
      Periods Ended(Dollars
      in thousands)
                  
                  September 13, 2009
                  
                  
                  September 14, 2008
                  
                  
                  September 13, 2009
                  
                  
                  September 14, 2008Income
      tax benefit
                  
                  $
                  (1,650
                  )
                  
                  $
                  (618
                  )
                  
                  $
                  (3,573
                  )
                  
                  $
                  (1,284
                  )Effective
      tax rate
                  
                  
                  33.9
                  %
                  
                  
                  35.6
                  %
                  
                  
                  34.9
                  %
                  
                  
                  32.4
                  %
 
  Income
tax benefit consists of current and deferred income taxes.  The
difference in effective income tax rates is due primarily to the impact of
nondeductible expenses relative to the level of net loss before taxes between
the two periods.  Also, the Company has nondeductible expenses related
to meals and entertainment and certain interest expenses related to senior
subordinated debt.  The Company is subject to taxation in the United
States of America (for federal and state) and Canada.
   12
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  8.
              Long-Term
      Debt
  At
September 13, 2009 and March 29, 2009, long-term debt consisted of the
following:
  September
      13, 2009
                
                
                March
      29, 200910
      3⁄4% Senior Notes, due December 1, 2013
                
                $
                175,000,000
                
                
                $
                175,000,000New
      Senior Term loan facility, due November 30, 2012
                
                
                68,749,762
                
                
                
                70,717,523Senior
      Subordinated Note, due June 30, 2013
                
                
                43,169,503
                
                
                
                40,937,992Total
      long-term debt
                
                
                286,919,265
                
                
                
                286,655,515Less:Unamortized
      discount on Senior Notes and SeniorSubordinated
      Note
                
                
                (1,447,685
                )
                
                
                (1,611,231
                )Current
      maturities
                
                
                (766,359
                )
                
                
                (2,350,941
                )Long-term
      debt, less current maturities
                
                $
                284,705,221
                
                
                $
                282,693,343
 
  For a
discussion of certain of our debt characteristics, see “Note 13. Long-term
Debt”of
the Notes to Consolidated Financial Statements section of the Company's Annual
Report on Form 10-K for the fiscal year ended March 29, 2009. Other
than the items noted below, there have been no significant developments since
March 29, 2009.
 
 New
Senior Credit Facility
 
 On July
20, 2007, the Company entered into a new term loan facility for an aggregate
principal amount of $76.6 million (“the new term loan facility”) and a senior
secured revolving loan facility (the “new revolving loan facility”) for an
amount up to $35.0 million (the new term loan facility together with the new
revolving loan facility; the “new credit facility”). The proceeds of the new
credit facility were used to repay all amounts outstanding under the Company’s
prior credit facility (dated as of November 30, 2005) and fund acquisitions
during the Company’s second quarter of fiscal year 2008. In connection with the
new credit facility, the Company recorded $0.5 million of deferred charges
during the second quarter of fiscal year 2008 for transaction fees and other
related debt issuance costs.  Additionally, approximately $3.7 million
of debt issuance costs associated with the extinguishment of the existing term
loan facility were written off and charged to interest expense during the second
quarter of fiscal year 2008.
 
 On June
10, 2008, the Company amended the new revolving loan facility dated July 20,
2007.  The amendment adjusted the interest coverage ratios over the
term of the new revolving loan facility.
 
 On
December 4, 2008, the Company amended the new revolving loan facility dated July
20, 2007.  The amendment adjusted the amount payable to employees and
other individuals in connection with the repurchase of equity interests held by
such individuals or upon the termination of employment of an individual in
connection with the repurchase of stock appreciation rights or other similar
interests, adjusted the interest coverage ratio and the senior secured leverage
ratio and eliminated the Company’s ability to carry forward any unused permitted
investments in respect of unrestricted subsidiaries.
 
 On May 4,
2009, the Company amended the new revolving loan facility dated
July 20, 2007 (the “amended revolving loan facility”). The amendment
restated the applicable percentage as defined in the revolving credit agreement,
increased the commitment fee from 0.50% to 0.75%, decreased the revolving credit
commitment from $35.0 million to $15.0 million, decreased the
permitted annual capital expenditures from $10.0 million to $6.0 million, and
adjusted the interest coverage ratio and the senior secured coverage ratio on
the revolving facility. In connection with the amendment, the Company wrote off
$0.2 million for debt issuance costs associated with the prior revolving
facility dated July 20, 2007 and recorded $0.2 million for debt issuance costs
associated with the new amended facility, of which $0.1 million was paid as of
September 13, 2009.
 
  13
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  Under the
new credit facility, the Company has the option to borrow funds at an interest
rate equal to the London Interbank Offered Rate (“LIBOR”) plus a margin or at
the lender’s base rate (which approximates the Prime rate) plus a margin.
Interest rates under the new term loan facility are base rate plus a margin of
1.0% or LIBOR plus a margin of 2.00%. Interest rates under the new revolving
loan facility are base rate plus a margin ranging from 2.50% to 1.75% or LIBOR
plus a margin ranging from 3.50% to 2.75%. The applicable margin payable on the
amended revolving loan facility is subject to adjustments based upon a
leverage-based pricing grid.  The new credit facility requires the
Company to meet maximum leverage ratios and minimum interest coverage ratios and
includes a maximum annual capital expenditures limitation.  In
addition, the new credit facility contains certain restrictive covenants which,
among other things, limit our ability to incur additional indebtedness, pay
dividends, incur liens, prepay subordinated debt, make loans and investments,
merge or consolidate, sell assets, change our business, amend the terms of our
subordinated debt and engage in certain other activities customarily restricted
in such agreements.  It also contains certain customary events of
defaults, subject to grace periods, as appropriate.
 
 The new
revolving facility contains a cross default provision to other indebtedness in
excess of $5.0 million whereby payment defaults on such other indebtedness
result in cross default under the new revolving facility.  Covenant
defaults under such other indebtedness do not result in a cross default under
the new revolving facility until expiration of any relevant grace periods as set
forth under such other indebtedness.
 
 The new
term loan facility contains a cross default provision to other indebtedness in
excess of $7.5 million whereby payment defaults or covenant defaults on such
other indebtedness are, subject to certain exceptions, cure periods and grace
periods as set forth in the new term loan facility agreement, cross defaults
under the new term loan facility.
 
 The new
credit facility is collateralized by substantially all of the assets of NCI and
its subsidiaries. In addition, NCI’s subsidiaries are joint and several
guarantors of the obligations. The new credit facility loan agreements contain
certain restrictive provisions which include, but are not limited to, requiring
the Company to maintain certain financial ratios and limits upon the Company’s
ability to incur additional indebtedness, make certain acquisitions or
investments, sell assets or make other restricted payments, including dividends
(as defined in the new term loan credit facility agreement).
 
 The
Company’s new credit facility contains a subjective acceleration clause in which
certain events of default, as detailed in the new credit facility agreement,
will result in acceleration of the call date of the new credit facility.
Management reviews these events on a regular basis and believes that the Company
currently has not triggered any of these events.
 
 As of
September 13, 2009, under the most restrictive covenants as defined in the new
revolving loan facility, the Company was required to maintain a minimum interest
coverage ratio, as defined in the amended revolving loan facility agreement, of
1.10 to 1.00.  The maximum allowable senior secured debt leverage
ratio, as defined in the amended revolving loan agreement, is 3.00 to
1.00.  As of September 13, 2009, the Company was in compliance with
all of the financial covenants of its amended revolving loan facility
agreement.
 
 The
Company had $68.7 million outstanding under the new term loan facility with
no availability to borrow at September 13, 2009.  Also, as of the
fiscal quarter end, the Company had no outstanding balance under the amended
revolving loan facility with $15.0 million available to borrow, subject to the
Company maintaining compliance with the facility covenants.  The
interest rate at September 13, 2009 for the amended revolving loan facility was
at a rate of base plus 2.50% and/or LIBOR plus 3.50%. The effective interest
rate on the balances outstanding under the new term loan facility was 3.0% at
September 13, 2009.
 
 The final
repayment of any outstanding amounts under the amended revolving loan facility
is due November 30, 2010. The new term loan facility commenced
amortization in quarterly installments of $0.192 million beginning
December 31, 2007 through September 30, 2012. The final settlement of any
outstanding amounts under the new term loan facility is due November 30,
2012.
 
  14
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  Under the
new credit facility, the Company may obtain additional funding through
incremental loan commitments in an amount not to exceed $75.0 million
provided that the Company remains in compliance with its financial covenants on
a pro forma basis. As of September 13, 2009, there were no borrowings against
the incremental loan facility.
 
 In
addition to providing fixed principal payment schedules for the new credit
facility, the loan agreement also includes an Excess Cash Flow Repayment
Provision that requires repayment of principal based on the Company’s leverage
ratio, EBITDA, working capital, debt service and tax payments. The excess cash
flow amount is calculated and paid annually with the repayment of principal
allocated on a pro rata basis to the new term and revolving loan
facilities.  The Company is also required to pay an annual
non-utilization fee equal to 0.75% of the unused portion of the revolving credit
facility.
 
 On June
29, 2009, the Company made a payment of approximately $1.6 million under the
Excess Cash Flow Repayment Provision of the new term loan facility based on the
fiscal year ended March 29, 2009 financial results.  Accordingly, the
payment was included in the current maturities of long-term debt at March 29,
2009.
  9.
              Commitments
      and Contingencies
  Operating
Leases
  The
Company is obligated under noncancellable operating leases and leases for office
space which expire at various dates through 2015.  Certain of the
leases require additional payments for real estate taxes, water and common
maintenance costs.
  Employment
Agreements
  Two
senior executives of the Company have employment agreements which terminate in
January 2010.  Pursuant to the agreements, the executives are entitled
to annual base salaries and annual bonuses based on the Company’s EBITDA for
each year.  These agreements also provide for severance benefits equal
to two years’ base salary and benefits upon termination of employment by the
Company without cause.
  Other
 
 The
Company is involved in various claims and lawsuits which arise in the normal
course of its business. Management does not believe that any of these actions
will have a material adverse effect on the Company's financial position, results
of operations, or cash flows.
 
 10.
              Related
      Party Transactions
  In
December 2004, the Company entered into a 10-year advisory agreement with CVC
Management LLC (“CVC”), an affiliate of CVC Fund, now known as Court Square
Capital Partners (“Court Square”), whereby the Company pays an annual advisory
fee to Court Square.  The advisory fee is equal to the greater of
$0.21 million or 0.016% of the prior fiscal year consolidated
revenue.  On July 31, 2006, Court Square Advisor, LLC, was assigned
the right to receive the fees payable by the Company pursuant to the advisory
agreement between CVC Management LLC, and NCI.  Under this agreement,
the Company made no payments during the six periods ended September 13, 2009 and
paid $0.05 million in the six periods ended September 14,
2008.  The Company accrued $0.31 million and $0.21 million
for management fees as of September 13, 2009 and March 29, 2009,
respectively.  Court Square Advisor suspended collection of all
advisory fees effective September 2008.  The Company continues to
accrue the advisory fees.
   15
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
  The
Company has retained TMG Public Relations (“TMG”) to perform public relations
and marketing services on its behalf on a project-by-project
basis.  TMG is owned by the spouse of Daniel McCarthy, NCI’s Chairman
and Chief Executive Officer.  The Company made payments to TMG of
$0.13 million and $0.07 million during the six periods ended September
13, 2009 and September 14, 2008, respectively.  The Company accrued
$0.06 million and $0.02 million for services rendered as of September
13, 2009 and March 29, 2009, respectively.  The Company expects to
continue to use the services of TMG during the remainder of fiscal year
2010.
  Effective
July 31, 2007, the Company entered into an agreement with L&S Graphics,
which is a digital printing company owned by Brandon Lee, one of the Company’s
employees who performed the role of the general manager of By Design. The
Company agreed to utilize L&S Graphics for all digitally printed materials
related to the “By Design” products. L&S Graphics was later renamed “Digital
Lizard”.  Under this agreement, the Company made payments of
$0.68 million and $0.88 million during the six periods ended September
13, 2009 and September 14, 2008 and accrued for $0.14 million and
$0.04 million as of September 13, 2009 and March 29, 2009,
respectively.  Brandon Lee was hired on a two-year employment contract
with an expiration date of July 31, 2009.  As a result, effective that
date, Digital Lizard ceased to be a related party.
 
 Effective
July 31, 2007, the Company entered into an office lease agreement with
MB&K, LLC which is owned by Brandon Lee, one of the Company’s employees who
performed the role of the general manager of By Design.  Under this
agreement, the Company made payments of $0.07 million and $0.05 million
during the six periods ended September 13, 2009 and September 14, 2008,
respectively and recorded no accruals as of September 13, 2009 and March 29,
2009, as the Company had met all its financial obligations under this
agreement.  Brandon Lee was hired on a two-year employment contract
with an expiration date of July 31, 2009.  As a result, effective that
date, MB&K, LLC ceased to be a related party.
 
 
 
  16
 Table of Contents
 NETWORK COMMUNICATIONS, INC. AND
SUBSIDIARIES
 PART I –FINANCIAL INFORMATION
 
 Item
2.   Management’s Discussion and Analysis of Financial Condition
and Results of Operations
 Cautionary
Statement Regarding Forward-Looking Information
  The
following Management’s Discussion and Analysis of our Financial Condition and
Results of Operations should be read in conjunction with the condensed
consolidated financial statements and notes thereto included as part of this
Quarterly Report on Form 10-Q. This report contains forward-looking statements
that are based upon current expectations. We sometimes identify forward-looking
statements with such words as “may”, “will”, “expect”, “anticipate”, “estimate”,
“seek”, “intend”, “believe” or similar words concerning future events. The
forward-looking statements contained herein, include, without limitation,
statements concerning future revenue sources and concentration, gross profit
margins, selling, general and administrative expenses, capital resources,
additional financings or borrowings and the effects of general industry and
economic conditions; and are subject to risks and uncertainties including, but
not limited to, those discussed below and elsewhere in this Quarterly Report on
Form 10-Q that could cause actual results to differ materially from the results
contemplated by these forward-looking statements. We also urge you to carefully
review the risk factors set forth in other documents we file from time to time
with the SEC.
  Overview
of Operations
  We are a
Georgia corporation that was formed in 1980.  The following discussion
and analysis is based upon our unaudited interim condensed consolidated
financial statements and our review of our business and
operations.  Furthermore, we believe the discussion and analysis of
our financial condition, results of operations, and cash flows as set forth
below are not indicative nor should they be relied upon as an indicator of our
future performance.  The following discussion includes a comparison of
our results of operations for the three periods ended September 13, 2009 to the
three periods ended September 14, 2008 and the six periods ended
September 13, 2009 to the six periods ended
September 14, 2008.
  We have
13 four-week reporting periods in each fiscal year.  Our fiscal year
refers to the 52-53 week accounting year ended on the last Sunday of March of
that year.  The first, second and third quarters each contain 3
periods, or 12 weeks each, and the fourth quarter contains 4 periods, or 16
weeks.  In the 53-week accounting year, the fourth quarter contains 17
weeks.
  We are
one of the largest and most diversified publishers of information for the local
real estate market in North America.  Through our extensive
proprietary network of online and print distribution points, we provide critical
local information to consumers involved in buying, leasing and renovating a
home.  Our reader base selects our print and online publications
almost exclusively for the extensive advertisements, and, as a result, we are
able to provide high quality leads at an effective cost to our advertisers,
which are comprised of real estate agents, property management companies, new
home builders and home renovation product and service providers.  In
fiscal year 2009, we believe that we generated over ten million leads for our
advertisers.  We operate in over 550 targeted markets which may
overlap geographically across the U.S. and Canada.  The predominant
content in our publications is advertisements, and our two largest publications
are 100% advertisement based.  In the resale and new sales home
market, our flagship brand, The Real Estate Book
(“TREB”), is the largest real estate advertising publication in North
America.  In the rental and leasing market, we provide residential and
commercial leasing listings, primarily through Apartment Finder and Black’s Guide.  In
the home design and home improvement market, we are the largest publisher of
local and regional design magazines for the luxury market, including Kansas City Homes &
Gardens, Atlanta Homes
& Lifestyles, Colorado Homes & Lifestyles,
Mountain Living and New
England Home.
   17
 Table of Contents
  We
distribute our printed publications through an extensive rack distribution
network, comprised of  high traffic locations in areas frequented by
our target consumers.  In addition, we maintain more than 30,000
uniquely shaped proprietary sidewalk distribution boxes.  For those
products targeting affluent consumers and businesses, we utilize sophisticated
database management and customer acquisition tools in order to develop highly
targeted direct mail distribution.  We also distribute all of our
content — including our database of more than 1.8 million homes and apartments —
online to our advertisers.  We maintain a proprietary online network
which has over two million unique visitors each month.  In addition,
we distribute our content to over twenty online distribution partners, including
Trulia and BobVila.com with a monthly reach of over 47 million online
users.  We believe our combined online and print distribution network,
which is provided to advertisers at one all-inclusive cost, drives exceptional
results for our advertisers.
  We have
two marketing channels through which we generate revenue, the Independent
Distributor (“ ID”) channel and the Direct channel.  In our ID
channel, the independent distributor is responsible for selling the advertising,
collecting listings from agents/brokers and distributing publications in a
specific geographic market.  In our Direct channel, we sell the
advertising, collect the listings from the agents/brokers and create, print and
distribute the publications.
  As of
September 13, 2009, we had 805 employees, 391 of which were located at our
corporate headquarters and production facility in Lawrenceville, Georgia, a
suburb of Atlanta.
  We
believe the key drivers of financial performance are:
  ·
              advertising
      volume;
  ·
              expansion
      into other local real estate
markets;
  ·
              strong
      brand recognition; and
  ·
              per
      unit cost to produce our
publications.
  Business
Trends
 
 Real
estate market conditions continue to change. Our management team focuses on
several key indicators – annual sales volume of existing homes and the months of
supply of unsold homes; the market tightness index compiled by the National
Multi Housing Council; the Remodeling Market Index compiled by the National
Association of Home Builders; interest rates and consumer
confidence.
 
 ·
              Sales volume of existing homes
      and months of supply of unsold homes – Indicators for the resale
      home market showed a positive trend line in the April 2009 to July 2009
      timeframe before falling back in the month of August.  Existing
      home sales experienced monthly sequential gains in April, May, June and
      July of the current year.  The annualized rate of sales in
      August 2009 was 5.1 million units which was up 3.5% from August
      2008.  The median home price in August 2009 was $177,700, a
      decrease of 12.5% from the prior year.  The recent pick-up in
      home sale transactions has skewed toward the lower priced segment of the
      market, bolstered by the first time home buyer tax
      credit.  Foreclosures remained a factor as foreclosure filings
      were reported on over 358,000 properties in August 2009, an increase of
      18% compared to the prior year.  The total inventory of unsold
      existing homes in August 2009 stood at 3.6 million units or 8.5 months of
      inventory based on the current sales pace.  This compares
      favorably to August 2008 when the number of unsold homes was 4.4 million
      or 10.6 months of inventory.
  18
 Table of Contents
  
 ·
              The Market Tightness Index– The National Multi Housing Council’s (“NMHC”) market tightness
      index in August 2009 stood at 20.  A reading above 50 indicates
      that markets are experiencing higher occupancy rates and higher rental
      rates.  Apartment vacancy rates were at record levels in the
      second quarter of 2009 as the national vacancy rate for investment-grade
      apartments reached 8.1%.  Same store rents for professionally
      managed apartments declined by 3.4%, the biggest drop on
      record.  Multifamily construction continued to fall with permits
      and starts down compared to prior year by 72.1% and 67.1%,
      respectively.  Multifamily housing trends have historically been
      correlated to the employment market and job growth.  The
      increase in vacancy rates and the drop in rents are being driven by the
      increasing rate of unemployment.
 
 ·
              The Remodeling Market
      Index (“RMI”) - The RMI rose
      to 38.1 in the second quarter of 2009 from a 34.5 reading in the first
      quarter of 2009.  This signaled a sequential improvement in the
      home remodeling market, however the index needs to register a reading of
      over 50 to signal that the majority of remodelers view market conditions
      as improving.  A positive signal for future activity was that
      remodelers reported growth in both calls for bids and appointments for
      proposals in the second quarter.  Mortgage interest rates during
      the July 2009 to September 2009 period remained at favorable levels,
      however the main challenges as they relate to home remodeling business
      levels continue to be the availability of credit and the shrinking amount
      of home equity resulting from declining home
  prices.
  Revenue
  Our
principal revenue earning activity is related to the sale of online and print
advertising by both ID as well as direct sales to customers through
Company-managed distribution territories.  Independent Distributors
are contracted to manage certain distribution territories on behalf of
NCI.  We maintain ownership of all magazines and distribution
territories.  Prepaid subscriptions are recorded as unearned revenue
when received and recognized as revenue over the term of the
subscription.
  Costs
  Operating
expenses include cost of sales; depreciation and amortization; and selling,
general and administrative expenses (“SG&A”).  Cost of sales
include all costs associated with our Georgia production facility, our
outsourced printing, which are the costs we pay to third party printers to print
books not printed in our Georgia production facility, our field sales
operations, field distribution operations, online operations and bad debt
expense.  SG&A expenses include all corporate departments,
corporate headquarters, and the management of the publications.
  Our
operating expense base consists of almost 75% fixed costs.  These
expenses relate to our production facility in Georgia, our national distribution
network and our sales management infrastructure.  The remaining 25% of
operating expenses are variable and relate to paper, ink, sales commissions,
performance-based bonuses, bad debt expense and third party production
expenses.  Costs related to our workforce are the largest single
expense item, accounting for almost 38% of our total operating expense
base.  The second largest expense item, which accounts for
approximately 18% of our total operating expense base, is the cost associated
with producing our publications.  We expect to be able to continue to
manage our expense growth to levels consistent with past years.
   19
 Table of Contents
  Depreciation
and Amortization
  Depreciation
costs of computer, equipment and software relate primarily to the depreciation
of our computer hardware and software developed for internal use or purchased,
as well as property, plant and equipment.  The depreciation and
amortization of equipment and software associated with production is shown
separately from our cost of sales in our statement of operations.  The
amounts of depreciation and amortization expense related to production equipment
and software for the six periods ended September 13, 2009 and September 14, 2008
were $2.6 million and $2.4 million, respectively.  Depreciation and
amortization expense related to nonproduction equipment and software is shown
separately from the selling, general and administrative expenses in our
statement of operations.  The amounts of depreciation and amortization
expense related to nonproduction equipment and software for the six periods
ended September 13, 2009 and September 14, 2008 were $0.9 million and $0.8
million, respectively.  Depreciation for computer, equipment and
software as well as property, plant and equipment is calculated on a
straight-line basis over the expected useful life of the related asset
class.  Leasehold improvements and leased assets are amortized over
the shorter of their estimated useful lives or lease terms.
  Amortization
costs relate to the amortization of intangible assets.  Our two
largest intangible assets are our independent distributor agreements and
trademarks/trade names.  The valuation and lives of our larger
intangible assets (trademarks, trade names, independent distributors and
advertiser lists) were determined by identifying the remaining useful life of
the components of each asset combined with a reasonable attrition rate and a
reasonable expectation for increase in revenue by each
component.  Certain markets experience a lower attrition
rate.  This has contributed to intangible assets with lives in excess
of 15 years.  The related amortization is calculated on a
straight-line basis over the expected useful life of the intangible
asset.
  Interest
Income and Interest Expense
  Interest
income consists primarily of interest income earned on our cash balances and
interest earned on notes receivable.  Interest expense consists
primarily of interest on outstanding indebtedness, interest on capital leases,
amortization of deferred financing costs and amortization of debt
discounts.
  Income
Taxes
  The
following table sets forth the income tax benefit and effective tax rate for the
three periods and six periods ended September 13, 2009 and September 14,
2008:
 
 Three
      Periods Ended
                  
                  
                  Six
      Periods Ended(Dollars
      in thousands)
                  
                  September 13, 2009
                  
                  
                  September 14, 2008
                  
                  
                  September 13, 2009
                  
                  
                  September 14, 2008Income
      tax benefit
                  
                  $
                  (1,650
                  )
                  
                  $
                  (618
                  )
                  
                  $
                  (3,573
                  )
                  
                  $
                  (1,284
                  )Effective
      tax rate
                  
                  
                  33.9
                  %
                  
                  
                  35.6
                  %
                  
                  
                  34.9
                  %
                  
                  
                  32.4
                  %
 
 Income
tax benefit consists of current and deferred income taxes.  The
difference in effective income tax rates is due primarily to the impact of
nondeductible expenses relative to the level of net loss before taxes between
the two periods. Also, the Company has nondeductible expenses related to meals
and entertainment and certain interest expenses related to senior subordinated
debt.  We are subject to taxation in the United States of America (for
federal and state) and Canada.
   20
 Table of Contents
  Results
of Operations
  The
following table sets forth a summary of our operations and percentages of total
consolidated revenue for the three periods and six periods ended September 13,
2009 and September 14, 2008.  Our three revenue areas
are:  (i) resale and new sales; (ii) rental and leasing; and (iii)
remodeling and home improvement.  The resale and new sales area
includes The Real Estate
Book (“TREB”),
New Home Finder, Unique Homes,andBy Design.  Our
rental/leasing area includes Apartment Finder, Mature Living Choices, and
Black’s
Guide.  Our remodeling and home improvement area includes all
of our home and design and home improvement publications.
 
 Three
      Periods Ended
                
                
                Six
      Periods EndedSeptember
      13, 2009
                
                
                September
      14, 2008
                
                
                September
      13, 2009
                
                
                September
      14, 2008(Dollars in
      thousands)
                
                Amount
                
                
                %
                
                
                Amount
                
                
                %
                
                
                Amount
                
                
                %
                
                
                Amount
                
                
                %Resale
      and new sales
                
                $
                11,705
                
                
                
                32.9
                %
                
                $
                19,980
                
                
                
                42.7
                %
                
                $
                24,454
                
                
                
                34.2
                %
                
                $
                42,387
                
                
                
                44.5
                %Rental
      and leasing
                
                
                19,325
                
                
                
                54.3
                %
                
                
                19,623
                
                
                
                42.0
                %
                
                
                38,436
                
                
                
                53.8
                %
                
                
                38,950
                
                
                
                40.9
                %Remodeling
      and home improvement
                
                
                4,542
                
                
                
                12.8
                %
                
                
                7,143
                
                
                
                15.3
                %
                
                
                8,531
                
                
                
                12.0
                %
                
                
                13,859
                
                
                
                14.6
                %Total
      revenue
                
                
                35,572
                
                
                
                100.0
                %
                
                
                46,746
                
                
                
                100.0
                %
                
                
                71,421
                
                
                
                100.0
                %
                
                
                95,196
                
                
                
                100.0
                %Costs
      and expenses:Cost
      of sales (including production
                  depreciation and software amortization)
                
                
                25,245
                
                
                
                71.0
                %
                
                
                32,686
                
                
                
                69.9
                %
                
                
                50,987
                
                
                
                71.4
                %
                
                
                66,583
                
                
                
                69.9
                %Selling,
      general and administrative (including
                  nonproduction depreciation and software
                  amortization)
                
                
                5,182
                
                
                
                14.6
                %
                
                
                5,144
                
                
                
                11.0
                %
                
                
                10,369
                
                
                
                14.5
                %
                
                
                11,337
                
                
                
                11.9
                %Amortization
      of intangibles
                
                
                3,492
                
                
                
                9.8
                %
                
                
                3,996
                
                
                
                8.6
                %
                
                
                7,059
                
                
                
                9.9
                %
                
                
                8,027
                
                
                
                8.5
                %Income
      from operations
                
                $
                1,653
                
                
                
                4.6
                %
                
                $
                4,920
                
                
                
                10.5
                %
                
                $
                3,006
                
                
                
                4.2
                %
                
                $
                9,249
                
                
                
                9.7
                %
 
 
 Three
Periods Ended September 13, 2009 Compared to Three Periods Ended September 14,
2008
  Revenue.  For the
three periods ended September 13, 2009, total consolidated revenue was $35.6
million compared to $46.7 million for the three periods ended September 14,
2008.  This was a decrease of $11.1 million or 23.8%.  Our
resale and new sales area declined by $8.3 million or 41.5% from $20.0 million
in the three periods ended September 14, 2008 to $11.7 million in the three
periods ended September 13, 2009. Our rental and leasing showed a
year-over-year revenue decline of $0.3 million or 1.5% from $19.6 million in the
three periods ended September 14, 2008 to $19.3 million in the three
periods ended September 13, 2009.  Our remodeling and home
improvement area decreased by $2.6 million or 36.6% from $7.1 million in the
three periods ended September 14, 2008 to $4.5 million in the three periods
ended September 13, 2009.  The revenue declines in the resale and new
sales area and the remodeling and home improvement areas were due to the weak
economic conditions in the real estate market. The revenue decline in the rental
and leasing area was attributable to the decline in the ad page volume for Black’s Guide and Mature Living Choices as a
result of the slowdowns in the commercial real estate and new home markets,
respectively.
 
  21
 Table of Contents
  TREB posted revenue of $8.8
million in the second quarter of fiscal year 2010 compared to $14.6 million
during the same period in fiscal year 2009 which was a decrease of $5.8 million,
or 39.7%.  The TREB ID sales channel had
revenue of $6.0 million in the second quarter of fiscal year 2010 compared to
$10.0 million during the same period of fiscal year 2009, a decrease of $4.0
million or 40.0%.  The decline was related to continued softness in
the real estate market and some market consolidations.  The TREB Direct sales channel had
a revenue decrease of $1.8 million or 39.1% from $4.6 million in the second
quarter of fiscal year 2009 to $2.8 million during the same period of fiscal
year 2010.  Unique
Homes had revenue of $0.9 million in the second quarter of fiscal year
2010 compared to $1.0 million in the same period of fiscal year 2009, a decrease
of $0.1 million or 10.0%.  The decrease correlates with the decline in
the turnover of luxury home sales.
  Apartment Finder revenue for
the three periods ended September 13, 2009 was $18.7 million compared to $18.5
million during the three periods ended September 14, 2008, an increase of $0.2
million or 1.1%.  We have increased ad pages in some of our existing
markets and grown our sales of online products.  Black’s Guide revenue
decreased $0.4 million or 50.0% from $0.8 million in the second quarter of
fiscal year 2009 to $0.4 million during the same period of fiscal year 2010 due
to the contraction in the commercial real estate market.
  Our
remodeling and home improvement area produced revenue of $4.5 million in the
three periods ended September 13, 2009 compared to $7.1 million during the three
periods ended September 14, 2008, a decrease of $2.6 million or
36.6%.  The decrease was the result of advertisers reducing their
marketing expenditures in response to the continued weak conditions in the job
market, falling home prices and reduced availability of consumer
credit.  Our publications in this area include: Kansas City Homes & Gardens, At
Home In Arkansas, Relocating in Las Vegas, New England Home, Relocating in St.
Louis,regional home improvement magazines, and the Homes & Lifestyles
magazines.
  Cost of
sales.  Cost of sales for the three periods ended September 13,
2009 was $23.9 million, a decrease of $7.6 million, or 24.1%, from $31.5 million
during the three periods ended September 14, 2008.  Labor expense,
which is our largest cost component, was $10.5 million in the three periods
ended September 13, 2009 compared to $13.5 million during the three periods
ended September 14, 2008, a decrease of $3.0 million, or 22.2%.  The
decrease reflects a reduction in headcount.  Total commission and
bonus expense decreased by $0.5 million or 19.2% from $2.6 million in the second
quarter of fiscal year 2009 to $2.1 million during the same period of fiscal
year 2010 due to our revenue decline.  Paper expense decreased by $1.2
million or 29.3%, from $4.1 million in the three periods ended September 14,
2008 to $2.9 million in the three periods ended September 13,
2009.  Our outsource production expense for the current quarter was
$1.3 million, a decrease of $0.5 million or 27.8% from the second quarter of
fiscal year 2009 expense of $1.8 million.  The decrease in outsource
production expense was attributable to bringing outsourced books back in-house
and the decrease in our revenue.  Distribution expense decreased in
the current fiscal quarter by approximately $1.0 million or 37.0% compared to
the same period in the prior year primarily due to reduced spend with third
party distribution companies.  The expense of our E-business and
online operations decreased by $0.7 million or 43.8% from $1.6 million in the
second quarter of fiscal year 2009 to $0.9 million in the current
quarter.  We were able to achieve savings by restructuring our
operations while continuing to invest in online distribution.
 Production depreciation and software
amortization expense.  Production depreciation and software
amortization expense in the three periods ended September 13, 2009 and September
14, 2008 were $1.3 million and $1.2 million, respectively, which was an increase
of $0.1 million or 8.3%.  The increase was the result of equipment and
software purchased during the prior four fiscal quarters partially offset by
software assets being fully depreciated during the same period.
  Gross Profit.Our gross
profit decreased by $3.8 million or 27.0% from $14.1 million in the second
quarter of fiscal year 2009 to $10.3 million in the second quarter of fiscal
year 2010. The decrease was mainly related to the decline in revenues of $11.1
million in the current quarter compared to the same period of the prior year
partially offset by a decrease in the cost of sales of $7.6 million. The gross
profit percentage for the current quarter was 29.0% compared to 30.1% in the
same period of the prior year. The decrease was mainly attributable to lower
revenues and the fact that some of our cost of sales expenses are
fixed.
   22
 Table of Contents
  Selling, general and administrative
expenses (“SG&A”).  SG&A expenses for the three periods
ended September 13, 2009 were $4.7 million, flat compared to the three periods
ended September 14, 2008.  Labor and related expenses in the three
periods ended September 13, 2009 were $2.5 million, an increase of $0.1 million,
or 4.2%, from $2.4 million during the same period in fiscal year
2008.
  Nonproduction depreciation and
software amortization expense.Nonproduction depreciation and
software amortization expense increased by $0.1 million or 25.0% from $0.4
million in the second quarter of fiscal year 2009 to $0.5 million in the same
period off fiscal year 2010.
  Amortization of
intangibles.  Amortization expense was $3.5 million in the
three periods ended September 13, 2009, compared to $4.0 million for the three
periods ended September 14, 2008, a decrease of $0.5 million or
12.5%.  The decrease was related to intangible assets being fully
depreciated during the prior four fiscal quarters.
  Net interest
expense.  Net interest expense for the three periods ended
September 13, 2009 was $6.5 million compared to the net interest expense of $6.7
million during the three periods ended September 14, 2008.  The
decrease was related to lower interest rates on our new senior term loan
facility in addition to a lower senior term loan balance partially offset by the
write off of deferred financing fees in connection with the amendment of May 4,
2009 of the new revolving loan agreement, and a higher balance on our senior
subordinated note.
  Net loss.  Due to
the factors described above, we reported a net loss of $3.2 million during the
three periods ended September 13, 2009, compared to a net loss of $1.1 million
during the three periods ended September 14, 2008.
  Six
Periods Ended September 13, 2009 Compared to Six Periods Ended September 14,
2008
  Revenue.  For the
six periods ended September 13, 2009, total consolidated revenue was $71.4
million compared to $95.2 million for the six periods ended September 14,
2008.  This was a decrease of $23.8 million or 25.0%. Our resale and
new sales area declined by $17.9 million or 42.2% from $42.4 million in the six
periods ended September 14, 2008 to $24.5 million in the six periods ended
September 13, 2009. Our rental and leasing showed a year-over-year revenue
decrease of $0.5 million or 1.3% from $38.9 million in the six periods ended
September 14, 2008 to $38.4 million in the six periods ended
September 13, 2009.  Our remodeling and home improvement area
decreased by $5.4 million or 38.8% from $13.9 million in the six periods ended
September 14, 2008 to $8.5 million in the six periods ended September 13,
2009.  The revenue declines in the resale and new sales area and the
remodeling and home improvement areas were due to the weak economic conditions
in the real estate market. The decline in revenue in the rental and leasing area
was attributable to the decline in the ad page volume for Black’s Guide and Mature Living Choices as a
result of the slowdowns in the commercial real estate and new home markets,
respectively.
  TREB posted revenue of $18.0
million in the six periods ended September 13, 2009 compared to $30.5 million
during the six periods ended September 14, 2008 which was a decrease of $12.5
million, or 41.0%.  The decline was attributable to the slowdown in
the real estate market.  The TREB ID sales channel had
revenue of $12.3 million in the six periods ended September 13, 2009 compared to
$20.9 million during the six periods ended September 14, 2008, a decrease of
$8.6 million or 41.1%.  The TREB Direct sales channel had
a revenue decrease of $4.0 million or 41.7% from $9.6 million in the six periods
ended September 14, 2008 to $5.6 million during the six periods ended September
13, 2009.  Unique
Homes had revenue of $2.1 million in the six periods ended September 13,
2009 compared to $2.8 million in the six periods ended September 14, 2008, a
decrease of $0.7 million or 25.0%.  The decrease correlates with the
decline in the turnover of luxury home sales.
  Apartment Finder revenue for
the six periods ended September 13, 2009 was $37.0 million compared to $36.6
million during the six periods ended September 14, 2008, an increase of $0.4
million or 1.1%.  We have increased ad pages in some of our existing
markets and grown our sales of online products.  Black’s Guide revenue
decreased by $0.6 million or 40.0% from $1.5 million in the six periods ended
September 14, 2008 to $0.9 million during the six periods ended September 13,
2009 due to the downturn in the commercial real estate market.
   23
 Table of Contents
  Our
remodeling and home improvement area produced revenue of $8.5 million in the six
periods ended September 13, 2009 compared to $13.9 million during the six
periods ended September 14, 2008, a decrease of $5.4 million or
38.8%.  The decrease was the result of advertisers reducing their
marketing expenditures in response to the continued weak conditions in the job
market, falling home prices and reduced availability of consumer
credit.  Our publications in this area include: Kansas City Homes & Gardens, At
Home In Arkansas, Relocating in Las Vegas, New England Home, Relocating in St.
Louis,regional home improvement magazines, and the Homes & Lifestyles
magazines.
  Cost of
sales.  Cost of sales for the six periods ended September 13,
2009 was $48.4 million, a decrease of $15.8 million, or 24.6%, from $64.2
million during the six periods ended September 14, 2008.  Labor
expense, which is our largest cost component, was $21.0 million in the six
periods ended September 13, 2009 compared to $27.6 million during the six
periods ended September 14, 2008, a decrease of $6.6 million, or
23.9%.  The decrease reflects a reduction in
headcount.  Total commission and bonus expense decreased by $1.4
million or 25.5% from $5.5 million in the six periods ended September 14, 2008
to $4.1 million during the six periods ended September 13, 2009 due to our
revenue decline.  Paper expense decreased by $2.3 million or 27.7%,
from $8.3 million in the six periods ended September 14, 2008 to $6.0 million in
the six periods ended September 13, 2009.  The decrease was related to
lower ad page volumes and more favorable paper prices.  Our outsource
production expense for the six periods ended September 13, 2009 was $2.7
million, a decrease of $1.1 million or 28.9% from the six periods ended
September 14, 2008 expense of $3.8 million as a result of bringing outsourced
books back in-house and lower page volume.  Distribution expense
decreased in the first and second quarters of fiscal year 2010 by approximately
$1.8 million or 32.7% compared to the same period in the prior year as we
reduced our spend with third party distribution companies and re-negotiated
rates on our retail distribution contracts.  The expense of our
E-business and online operations decreased by $1.3 million or 40.6% from $3.2
million in the six periods ended September 14, 2008 to $1.9 million in the six
periods ended September 13, 2009.  We achieved savings by
restructuring operations while increasing our online distribution
investment.
 Production depreciation and software
amortization expense.  Production depreciation and software
amortization expense in the six periods ended September 13, 2009 was $2.6
million.  This was an increase of $0.2 million, or 8.3%, compared to
$2.4 million for the six periods ended September 14, 2008.  The
increase was the result of equipment and software purchased during the last two
quarters of fiscal year 2009 and the first and second quarters of fiscal year
2010.
  Selling, general and administrative
expenses (“SG&A”).  SG&A expenses for the six periods
ended September 13, 2009 were $9.5 million compared to $10.5 million for the six
periods ended September 14, 2008, which was a decrease of $1.0 million or
9.5%.  Labor and related expenses in the six periods ended September
13, 2009 was $5.0 million, a decrease of $0.4 million, or 7.4%, from $5.4
million during the same period in fiscal year 2009.  The decrease
reflects a reduction in headcount.
  Nonproduction depreciation and
software amortization expense.Nonproduction depreciation and
software amortization expense increased by $0.1 million or 12.5% from $0.8
million in the six periods ended September 14, 2008 to $0.9 million in the six
periods ended September 13, 2009.  The increase was the result of
equipment and software purchased during the last two quarters of fiscal year
2009 and the first and second quarters of fiscal year 2010.
  Amortization of
intangibles.  Amortization expense was $7.1 million in the six
periods ended September 13, 2009, compared to $8.0 million for the six periods
ended September 14, 2008, a decrease of $0.9 million or 11.3%.  The
decrease in amortization expense was related to intangible assets being fully
depreciated during the last two quarters of fiscal year 2009 and first and
second quarters of fiscal year 2010.
  Net interest
expense.  Net interest expense for the six periods ended
September 13, 2009 was $13.3 million, flat compared to the six periods ended
September 14, 2008.  Interest expense for the six periods ended
September 13, 2009 reflected a lower debt balance and lower interest rates on
our new senior term loan facility offset by the write off of deferred financing
costs in connection with the amendment of May 4, 2009 of the new revolving
agreement and a higher balance on our senior subordinated note.
   24
 Table of Contents
  Net loss.  Due to
the factors set forth above, we reported a net loss of $6.7 million during the
six periods ended September 13, 2009, compared to a net loss of $2.7 million
during the six periods ended September 14, 2008.
  Liquidity
and Capital Resources
  Historically,
our primary source of liquidity has been cash flow from
operations.  We also have the ability to incur indebtedness under our
new senior secured revolving loan facility. At September 13, 2009, our cash on
hand was $2.2 million compared to $2.6 million and $5.5 million at March 29,
2009 and September 14, 2008, respectively.
  The
following table summarizes our net decrease in cash and cash equivalents as of
September 13, 2009 and September 14, 2008:
  Six
      Periods EndedSeptember
      13, 2009
                
                
                September
      14, 2008(Dollars
      in thousands)Net
      cash provided by operating activities
                
                $
                4,581
                
                
                $
                8,491Net
      cash used in investing activities
                
                
                (2,621
                )
                
                
                (4,186
                )Net
      cash used in financing activities
                
                
                (2,298
                )
                
                
                (5,568
                )Net
      decrease in cash
                
                
                (338
                )
                
                
                (1,263
                )Cash
      at beginning of fiscal year
                
                
                2,585
                
                
                
                6,716Cash
      at end of period
                
                $
                2,247
                
                
                $
                5,453
 
  Our net
cash provided by operating activities in the six periods ended September 13,
2009 was $4.6 million compared to $8.5 million in the six periods ended
September 14, 2008, a decrease of $3.9 million. The decrease was primarily due
to the decline in our operating income.
  During
the six periods ended September 13, 2009, net cash used in investing activities
was $2.6 million spent on the purchase of property, equipment and
software.  During the six periods ended September 14, 2008, net cash
used in investing activities was $4.2 million consisting of $2.9 million for the
purchase of property, equipment and software, and $1.3 million for earn-out
payments related to acquisitions completed in fiscal year 2008.
  For the
six periods ended September 13, 2009, the net cash used in financing activities
was $2.3 million versus a use of $5.6 million for the six periods ended
September 14, 2008.  The cash used in the six periods ended September
13, 2009 and September 14, 2008 were mainly related to the excess cash flow
payments of $1.6 million and $5.0 million made on our new term loan facility in
the second quarter of fiscal years 2010 and 2009, respectively.
  Senior
Notes and Credit Agreement
  We intend
to fund ongoing operations through cash generated by operations and borrowings
under our revolving loan facility.  On November 30, 2005, the Company
refinanced its capital structure. The objective of the refinancing was to
provide the Company with a long-term capital structure that was consistent with
its strategy and to preserve acquisition flexibility. The refinancing was
completed through an offering of $175.0 million of Senior Notes and a senior
secured credit facility.
 
 The
Senior Notes will mature in December 2013.  Interest is payable
semi-annually.  The notes will be redeemable in the circumstances and
at the redemption prices described in the Senior Notes indenture.  The
indenture governing the notes also contains numerous covenants including, among
other things, restrictions on our ability to: incur or guarantee additional
indebtedness or issue disqualified or preferred stock; pay dividends or make
other equity distributions; repurchase or redeem capital stock; make investments
or other restricted payments; sell assets or consolidate or merge with or into
other companies; incur liens; enter into sale/leaseback transactions; create
limitations on the ability of our restricted subsidiaries to make dividends or
distributions to us; and engage in transactions with
affiliates.
  25
 Table of Contents
  New senior credit facility.On July 20, 2007, we entered into a senior secured term loan facility
(the “new term loan facility”) for an aggregate principal amount of $76.6
million and a senior secured revolving loan facility (the “new revolving loan
facility”) for an amount up to $35.0 million (the new term loan facility
together with the new revolving loan facility, the “new credit facility”). The
proceeds of the new loan were used to repay all amounts outstanding under the
existing credit facility (dated as of November 30, 2005) and fund acquisitions
completed during the Company’s second quarter of fiscal year 2008.  In
connection with the new credit facility, the Company recorded $0.5 million of
deferred charges during the second quarter of fiscal year 2008 for transaction
fees and other related debt issuance costs.  Additionally,
approximately $3.7 million of debt issuance costs associated with the
extinguishment of the existing term loan facility were written off and charged
to interest expense during the second quarter of fiscal year 2008.
 
 On June
10, 2008 we entered into an amendment of the new revolving loan
facility.  The amendment adjusted the interest coverage ratios over
the term of the new revolving loan facility.
 
 On
December 4, 2008, we amended the new revolving loan facility dated July 20,
2007.  The amendment reduced the amount payable to employees and other
individuals in connection with the repurchase of equity interests held by such
individuals or upon the termination of employment of an individual in connection
with the repurchase of stock appreciation rights or other similar interests,
adjusted the interest coverage ratio and the senior secured leverage ratio and
eliminated our ability to carry forward any unused permitted investments in
respect of unrestricted subsidiaries.
 
 On May 4,
2009, we amended the new revolving loan facility dated July 20, 2007 (“the
amended revolving loan facility”). The amendment restated the applicable
percentage as defined in the revolving credit agreement, increased the
commitment fee from 0.50% to 0.75%, decreased the revolving credit commitment
from $35.0 million to $15.0 million, decreased the permitted annual capital
expenditures from $10.0 million to $6.0 million, and adjusted the interest
coverage ratio and the senior secured coverage ratio on the revolving facility.
In connection with the amendment, we wrote off $0.2 million for debt issuance
costs associated with the prior revolving facility dated July 20, 2007 and
recorded $0.2 million for debt issuance costs associated with the new amended
facility of which $0.1 million was paid as of September 13, 2009.
 
 Our new
term loan facility matures in November 2012.  Additionally, we have
the ability to obtain up to $75.0 million under our incremental term loan
subject to compliance with our affirmative and negative
covenants.  Borrowings are also available under our amended
revolving loan facility maturing in November 2010.
  Borrowings
under our new credit facility bear interest, at our option, at either adjusted
LIBOR plus an applicable margin or the alternate base rate plus an applicable
margin.  The applicable margin with respect to borrowings under our
amended revolving loan facility is subject to adjustments based upon a
leverage-based pricing grid.  Our amended revolving credit facility
requires us to meet maximum leverage ratios and minimum interest coverage ratios
and includes a maximum annual capital expenditures limitation.  In
addition, the amended revolving credit facility contains certain restrictive
covenants which, among other things, limit our ability to incur additional
indebtedness, pay dividends, incur liens, prepay subordinated debt, make loans
and investments, merge or consolidate, sell assets, change our business, amend
the terms of our subordinated debt and engage in certain other activities
customarily restricted in such agreements.  It also contains certain
customary events of defaults, subject to grace periods, as
appropriate.  As of September 13, 2009, the Company was in compliance
with all debt covenant requirements. In addition to providing fixed principal
payment schedules for the new credit facility, the loan agreement also includes
an Excess Cash Flow Repayment provision that requires repayment of principal
based on the Company’s leverage ratio, EBITDA, working capital, debt service and
tax payments. The Excess Cash Flow amount is calculated and paid annually with
the repayment of principal allocated on a pro rata basis to the term and
revolving loans. Based on the Company’s financial results for the fiscal year
ended March 29, 2009, the Company made a payment of $1.6 million on June 29,
2009 under the Excess Cash Flow Repayment Provision of the new credit facility.
Accordingly, the liability was included in the current maturities on long-term
debt as of March 29, 2009. The Company is also required to pay an annual
non-utilization fee equal to 0.75% of the unused portion of the revolving credit
facility.
   26
 Table of Contents
  Our
ability to make scheduled payments of principal, or to pay the interest or
additional interest, if any, on, or to refinance our indebtedness, or to fund
planned capital expenditures will depend on our future performance, which, to a
certain extent, is subject to general economic, financial, competitive,
legislative, regulatory and other factors that are beyond our
control.  Based upon the current level of operations, we believe that
cash flow from operations and available cash, together with borrowings available
under our new credit facility, will be adequate to meet our future liquidity
needs through September 12, 2010.  Our assumptions with respect to
future costs may not be correct, and funds available to us from the sources
discussed above may not be sufficient to enable us to service our indebtedness,
including the Senior Notes, or cover any shortfall in funding for any
unanticipated expenses.  In addition, to the extent we make future
acquisitions, we may require new sources of funding including additional debt,
equity financing or some combination thereof.  We may not be able to
secure additional sources of funding on favorable terms.
  Critical
Accounting Policies and Estimates
  The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the amounts reflected in the condensed consolidated
financial statements and accompanying notes.  We base our estimates on
historical experience, where applicable and other assumptions that we believe
are reasonable under the circumstances. Actual results may differ from those
estimates under different assumptions or conditions.
 
 Principles
of Consolidation and Fiscal Year End
  We and
our consolidated entities report on a 52-53 week accounting year.  The
condensed consolidated financial statements included elsewhere in this report
include our financial statements and our wholly-owned subsidiaries for the three
periods and six periods ended September 13, 2009 and September 14, 2008,
respectively and the fiscal year ended March 29, 2009.  All
significant intercompany balances and transactions have been eliminated in
consolidation.
  Revenue
Recognition and Unearned Revenue
  Our
principal revenue earning activity of the Company is related to the sale of
online and print advertising.  Revenue recognition for print and
online products are consistently applied within Company-managed (Direct) and
ID-managed distribution territories as described below.  These revenue
arrangements are typically sold as a bundled product to customers and include a
print ad in a publication as well as online advertisement.  The
Company bills the customer a single negotiated price for both
elements.  In accordance with EITF 00-21, “Accounting for Revenue Arrangements
with Multiple Deliverables”, the Company separates its deliverables into
units of accounting and allocates consideration to each unit based on relative
fair values.  The Company recognizes revenue for each unit of
accounting in accordance with SEC Staff Accounting Bulletin Number 104, “Revenue
Recognition”.
  Print
  Print
revenues are derived from sale of advertising pages in our
publications.  We sell a bundled product to our customers that
includes a print advertisement as well as a standard online
advertisement.  The customer can also purchase premium placement
advertising pages such as front cover and back cover.  Revenue for
print advertisement sales, including the premium placement advertising pages, is
recognized when the publications are delivered and available for consumer
access.
  Online
  Online
revenues are derived from the sale of advertising on our various
websites.  We sell a bundled product to our customers that includes a
print advertisement in our publications as well as a standard online
advertisement.  The customer is permitted to purchase premium online
advertisements whereby it can include additional data items such as floor plans,
multiple photos and neighborhood information, and also secure premium placement
in search results.  In addition, we have started selling an online
only product to our customers.  Revenue for online sales, including
the premium online advertisements, is recognized ratably over the period the
online advertisements are maintained on the website.
   27
 Table of Contents
  Unearned
revenue
  We have
historically billed our customers a few days before shipment. At both interim
and fiscal year end, we reverse the revenue and the pre-billings completed to
properly account for the timing differences and properly recognize revenue in
the proper period. Prepaid orders are recorded in unearned revenue if
pre-billed. Prepaid subscriptions are recorded as unearned revenue when received
and recognized as revenue over the term of the subscription.
 
 Trade
      Accounts Receivable
 Accounts
receivable consist primarily of amounts due from advertisers in our operated
markets and independent distributors.
 We grant
credit without collateral to many of our customers. Substantially all trade
accounts receivable are comprised of accounts related to advertising displayed
in our various real estate publications. Management believes credit risk with
respect to those receivables is limited due to the large number of customers and
their dispersion across geographic areas, as well as the distribution of those
receivables among our various publication products.
 We use
the allowance method of reserving for accounts receivable estimated to be
uncollectible. The allowance is calculated by applying a risk factor to each
aging category.
 Customer
      Deposits
 We
receive cash deposits from customers for certain publications prior to printing
and upload of online advertising.  These deposits are recorded as a
liability and reflected accordingly in the condensed consolidated financial
statements.
 
 Goodwill
 As
disclosed in our Annual Report on Form 10-K for the fiscal year ended March 29,
2009, we had a triggering event under SFAS No. 142 in the third quarter of
fiscal year 2009.  As a result, we performed an impairment test of our
goodwill and indefinite-lived intangible assets under SFAS 142 and recorded
during the third and fourth quarters of fiscal year 2009 a total impairment loss
of $119.5 million. For further details, refer to our Annual Report on Form 10-K
for fiscal year 2009 filed with the SEC on June 19, 2009.
 
 We did
not recognize any impairment loss during the six periods ended
September 13, 2009 and September 14, 2008.
 
 Impairment
      of Long-Lived Assets
 We assess
the recoverability of long-lived assets in accordance with SFAS No. 144,
Accounting for the Impairment
or Disposal of Long-Lived Assets, whenever adverse events or changes in
circumstances indicate that impairment may have occurred. If the future,
undiscounted cash flows expected to result from the use of the related assets
are less than the carrying value of such assets, an impairment has been incurred
and a loss is recognized to reduce the carrying value of the long-lived assets
to fair value, which is determined by discounting estimated future cash
flows.  The Company did not recognize any impairment loss in any of
the periods presented in this report.
 Intangible
      Assets
 Intangible
assets consist of the values assigned to consumer databases, independent
distributor agreements, advertising lists, subscriber lists, trade names,
trademarks, and other intangible assets. Amortization of intangible assets is
provided utilizing the straight-line method over the estimated useful
lives.  We have one intangible asset, which is a trademark, that has
an indefinite life.
  28
 Table of Contents
  
 Recent
Accounting Pronouncements
  In May
2009, The Financial Accounting Standards Board (“FASB”) issued Statement of
Financial Accounting Standard (“SFAS”) No. 165, Subsequent Events(“SFAS
165”). This Statement
establishes general standards of accounting for and disclosures of events that
occur after the balance sheet date but before financial statements are issued or
are available to be issued.  It requires the disclosure of the date through
which an entity has evaluated subsequent events and whether that evaluation date
is the date of issuance or the date the financial statements were available to
be issued. This Statement is effective for interim and annual periods ending
after June 15, 2009 and as such, we adopted this standard in the first quarter
of fiscal year 2010 and the adoption had no impact on our financial position,
results of operations or cash flows.
 
 In April
2009, the FASB issued FASB staff position (“FSP”) FAS 107-1, “Disclosures about Fair Value of
Financial Instruments”(“FSP 107-1”). The staff position increases the
frequency of the disclosures related to the fair value of financial instruments
required by public entities to a quarterly basis rather than just annually. The
quarterly disclosures are intended to provide financial statement users with
more timely information about the effects of current market conditions on an
entity’s financial instruments that are not otherwise reported at fair value.
FSP 107-1 is effective for interim and annual periods ending after June 15,
2009, with early adoption permitted in certain circumstances for periods ending
after March 15, 2009. We adopted FSP 107-1 in the first quarter of fiscal year
2010 and the adoption had no impact on our financial position, results of
operations, or cash flows.
 
 In April
2008, the FASB issued FSP FAS 142-3, Determination of the Useful Life of
Intangible Assets (“FSP 142-3”). FSP 142-3 amends the factors an entity
should consider in developing renewal or extension assumptions used in
determining the useful life of recognized intangible assets under SFAS 142,
“Goodwill and Other Intangible
Assets”. The new guidance applies prospectively to intangible assets that
are acquired individually or with a group of other assets in business
combinations and asset acquisitions. FSP 142-3 is effective for financial
statements issued for fiscal years and interim periods beginning after December
15, 2008.  Early adoption is prohibited.  We adopted FSP
142-3 in the first quarter of fiscal year 2010 and the adoption had no material
impact on our financial position, results of operations, or
cashflows.
 
 In
March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities” (“SFAS 161”), which amends the
disclosure requirements of SFAS 133 “Accounting for Derivative
Instruments and Hedging Activities”. SFAS 161 provides an enhanced
understanding about how and why derivative instruments are used, how they are
accounted for and their effect on an entity’s financial position, performance
and cash flows. SFAS 161, which is effective for the first interim period
beginning after November 15, 2008, requires additional disclosure in future
filings.  We adopted this standard in the fourth quarter of fiscal
year 2009 and the adoption did not have any material impact on our financial
position, results of operations, or cash flows.
 
 In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements — an Amendment of ARB No. 51(“SFAS 160”). SFAS 160 amends ARB No. 51 to establish accounting and
reporting standards for the noncontrolling interest in a subsidiary and for the
deconsolidation of a subsidiary. SFAS 160 also clarifies that a noncontrolling
interest in a subsidiary is an ownership interest in the consolidated entity
that should be reported as equity in the consolidated financial statements. SFAS
160 is effective for fiscal years beginning on or after December 15, 2008
and as such, we adopted this standard in the first quarter of fiscal year 2010
and the adoption did not have any material impact on our financial position,
results of operations, or cash flows.
 
 In
December 2007, the FASB issued SFAS No. 141(revised 2007), Business Combinations(“SFAS 141R”). SFAS 141R will significantly change the
accounting for business combinations in a number of areas including the
treatment of contingent consideration, contingencies, acquisition costs,
IPR&D and restructuring costs. In addition, under SFAS 141R, changes in
deferred tax asset valuation allowances and acquired income tax uncertainties in
a business combination after the measurement period will impact income taxes.
SFAS 141R is effective for fiscal years beginning after December 15,
2008 and, as such, we adopted this standard in the first quarter of fiscal year
2010.  The provisions are effective for us for business combinations
on or after March 30, 2009.
  29
 Table of Contents
  Effective
March 26, 2007, we adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income
Taxes—an Interpretation of FASB Statement 109(“FIN 48”). FIN 48 requires
that a position taken or expected to be taken in a tax return be recognized in
the financial statements when it is more likely than not (i.e. a likelihood of
more than fifty percent) that the position would be sustained upon examination
by tax authorities. A recognized tax position is then measured at the largest
amount of benefit that is greater than fifty percent likely of being realized
upon ultimate settlements. Upon adoption, we did not have any material uncertain
tax positions to account for as an adjustment to our opening balance of retained
earnings on March 26, 2007. In addition, as of September 13, 2009 and March
29, 2009, we did not have any material unrecognized tax benefits.
 
 In
February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial
Assets and Financial Liabilities — Including an Amendment of FASB Statement
No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to
measure many financial instruments and certain other items at fair value. This
provides entities with the opportunity to mitigate volatility in reported
earnings caused by measuring related assets and liabilities differently without
being required to apply complex hedge accounting provisions. The provisions of
SFAS 159 are effective as of the beginning of fiscal years that start after
November 15, 2007.  We have adopted SFAS 159 on March 31, 2008
and the adoption did not have any impact on our financial position, results of
operations, or cash flows.
 
 In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements(“SFAS 157”). SFAS 157 defines fair value, establishes a framework for
measuring fair value under generally accepted accounting principles, and expands
disclosures about fair value measurements.  SFAS 157 emphasizes that
fair value is a market-based measurement, not an entity-specific measurement,
and states that a fair value measurement should be determined based on the
assumptions that market participants would use in pricing the asset or
liability.  SFAS 157 applies under other accounting pronouncements
that require or permit fair value measurements.
 
 SFAS 157,
among other things, requires companies to maximize the use of observable inputs
and minimize the use of unobservable inputs when measuring fair value, and
specifies a hierarchy of valuation techniques based on whether the inputs to
those valuation techniques are observable or unobservable. Observable inputs
reflect market data obtained from independent sources, while unobservable inputs
reflect the company’s market assumptions. The effective date is for fiscal years
beginning after November 15, 2007.
  SFAS 157
establishes a three-tiered hierarchy to prioritize inputs used to measure fair
value. Those tiers are defined as follows:
  -
              Level
      1 inputs are quoted prices (unadjusted) in active markets for identical
      assets or liabilities that the reporting entity has the ability to access
      at the measurement date.
  -
              Level
      2 inputs are inputs, other than quoted prices included within Level 1,
      that are observable for the asset or liability, either directly or
      indirectly. If the asset or liability has a specified (contractual) term,
      a Level 2 input must be observable for substantially the full term of the
      asset or liability.
  -
              Level
      3 inputs are unobservable inputs for the asset or
    liability.
 
 The
highest priority in measuring assets and liabilities at fair value is placed on
the use of Level 1 inputs, while the lowest priority is placed on the use of
Level 3 inputs.
  This
statement also expands the related disclosure requirements in an effort to
provide greater transparency around fair value measures.
 
 At March
31, 2008, we adopted SFAS 157 and the adoption had no material impact on our
financial position, results of operations or cash flows.
 
 In
February 2008, the FASB issued FSP FAS 157-2, which delays the effective date of
SFAS 157 to fiscal years beginning after November 15, 2008, and interim
periods within those fiscal years, for all nonfinancial assets and nonfinancial
liabilities, except those that are recognized or disclosed at fair value in the
financial statements on a recurring basis (at least annually).  We
adopted FSP FAS 157-2 in the first quarter of fiscal year 2010 and the adoption
had no material impact on our financial position, results of operations or cash
flows.
  30
 Table of Contents
  
 Off-Balance
Sheet Arrangements
  At
September 13, 2009, we did not have any relationships with unconsolidated
entities or financial partnerships, such as entities often referred to as
structured finance or special purpose entities, which would have been
established for the purpose of facilitating off-balance sheet arrangements or
other contractually narrow or limited purposes.
  Contractual
Obligations
  For a
discussion of our contractual obligations, see the “Management’s Discussion and
Analysis of Financial Condition and Results of Operations – Liquidity and
Capital Resources – Contractual Obligations” section in our Annual Report on
Form 10-K for the fiscal year ended March 29, 2009.  There have been
no material developments with respect to contractual obligations since March 29,
2009.
  Item 3.      Quantitative and
Qualitative Disclosures About Market Risk
  For a
discussion of certain of the market risks to which we are exposed, see the
“Quantitative and Qualitative Disclosures About Market Risk”section in our Annual Report on Form 10-K for the fiscal year ended March
29, 2009.  There have been no material changes with respect to
quantitative and qualitative disclosures about market risk since March 29,
2009.
 
 Item 4.     Controls and
Procedures
 
 Evaluation
of Disclosure Controls and Procedures
  As of the
end of the period covered by this Quarterly Report on Form 10-Q, our management
performed an evaluation, under the supervision and with the participation of our
Chief Executive Officer and Chief Financial Officer, of the effectiveness of our
disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Exchange Act of 1934 (the Exchange
Act)).  Based upon that evaluation, our Chief Executive Officer and
Chief Financial Officer have identified the material weaknesses in internal
control over financial reporting discussed below and as a result, have concluded
that, as of the end of the quarterly period covered by this report, our
disclosure controls and procedures were not effective as of
September 13, 2009.
  Based on
the evaluation performed by management under the supervision and with the
participation of our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of our internal control over financial reporting, as defined in
Rules 13a-15(f) and 15d-15(f) of the Exchange Act, our management
identified the following material weaknesses in our internal control over
financial reporting as of the quarterly period ended
September 13, 2009:
 
 1.
              
              Deficiencies
      in our IT environment due to untimely removal of network access for
      terminated employees.2.
              
              Deficiencies
      in maintaining adequate controls over certain key spreadsheets used in our
      financial reporting process including review of these
      spreadsheets.
 Since the
discovery of the material weaknesses in internal controls described above,
management is strengthening the Company’s internal controls over financial
reporting and is taking various actions to improve our internal controls
including, but not limited to the following:
 
 1.
              
              Remediation
      efforts were made to ensure notification of IT upon the departure of
      employees for purposes of terminating their network access. The Company is
      currently reviewing the access eligibility of the current users of its
      network. Testing of these remediation efforts is
  pending.2.
              
              Remediation
      efforts were made to ensure adequate controls over key spreadsheets by
      implementing review and password protection on the spreadsheets and
      formulas and maintaining historic data in a read only access as well as a
      formal review process. Testing of these remediation efforts is
      pending.
  Changes
in Internal Control Over Financial Reporting
 
 Other
than the items noted above, there has been no change in our internal control
over financial reporting that occurred during the quarterly period ended
September 13, 2009 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial
reporting.
 
   31
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 PART II –OTHER INFORMATION
  Item 1.
              Legal
      Proceedings
  From time to time, we are involved in legal proceedings arising in the
ordinary course of our business. We are not currently a party to any litigation
that management believes, if determined adversely to us, would have a material
adverse effect on our financial condition, results of operations, or cash
flows.
 
 Item 1A.
              Risk
      Factors
 
 For a
discussion of risk factors, see “Item 1A. – Risk Factors” section in our Annual
Report on Form 10-K for the fiscal year ended March 29, 2009.  There
have been no material changes from the risk factors previously disclosed in our
Annual Report on Form 10-K for the fiscal year ended March 29,
2009.
 
 Item 2.
              Unregistered
      Sales of Equity Securities and Use of
Proceeds
 
 None.
 Item 3.
              Defaults
      upon Senior Securities
 
 None.
 Item 4.
              Submission
      of Matters to a Vote of Security
Holders
 
 None.
 Item 5.
              Other
      Information
 
 There
were no disclosures of any information required to be filed on Form 8-K during
the quarterly period covered by this report that were not
filed.
 Item 6.
              Exhibit
 
 
 Exhibits
are filed or furnished with this report as set forth in the Exhibits Index
hereof.
 
 
  32
 Table of Contents
     
   SIGNATURES
   Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
  Network
      Communications, Inc.Date:  October
      26, 2009
                              
                              By:
                              /s/  Daniel R. McCarthy
                                Chairman
      and Chief Executive Officer
                                (Principal
      Executive Officer)Date:
      October 26, 2009
                              
                              By:
                              /s/  Gerard P.
      Parker
                                Senior
      Vice President and Chief Financial Officer
                                (Principal
      Financial and Accounting Officer)
 
  
  33
 Table of Contents
 NETWORK
COMMUNICATIONS, INC. AND SUBSIDIARIES
 PART II –OTHER INFORMATION
  Exhibit Index
 
 
 Number
              
              Title31
              .1
              
              Certification
      of the Chairman and Chief Executive Officer pursuant to Section 302
      of the Sarbanes-Oxley Act of 2002.31
              .2
              
              Certification
      of the Senior Vice President and Chief Financial Officer pursuant to
      Section 302 of the Sarbanes-Oxley Act of 2002.32
              .1*
              
              Certification
      of Chairman and Chief Executive Officer pursuant to Title 18 of the United
      States Code Section 1350, as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32
              .2*
              
              Certification
      of Senior Vice President and Chief Financial Officer pursuant to Title 18
      of the United States Code Section 1350, as adopted pursuant to Section 906
      of the Sarbanes-Oxley Act of 2002.
 
 *
              This
      exhibit is hereby furnished to the SEC as an accompanying document and is
      not to be deemed “filed” for purposes of Section 18 of the Securities
      Exchange Act of 1934 or otherwise subject to the liabilities of that
      Section, nor shall it be deemed incorporated by reference into any filing
      under the Securities Act of 1933 or the Securities Exchange Act of
      1934.
 
 
  34