CRITICAL ACCOUNTING POLICIES
The consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
The significant accounting policies of the Company are described in the notes to the consolidated financial statements included in the Annual Report on Form 10-K for the fiscal year ended March 31, 2009. Judgments and estimates of uncertainties are required in applying the Company's accounting policies in many areas. Following are some of the areas requiring significant judgments and estimates: revenue; cash flow and valuation assumptions in performing asset impairment tests of long-lived assets and goodwill; valuation reserves for inventory and accounts receivable; income tax accounting and the valuation of share-based awards. There have been no material changes to the critical accounting policies affecting the application of those accounting policies as noted in the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 2009.
RESULTS OF OPERATIONS
Seasonality
The seasonal nature of CSS' business has historically resulted in lower sales levels and operating losses in the first and fourth quarters and comparatively higher sales levels and operating profits in the second and third quarters of the Company's fiscal year, which ends March 31, thereby causing significant fluctuations in the quarterly results of operations of the Company. Three Months Ended June 30, 2009 Compared to Three Months Ended June 30, 2008 Sales for the three months ended June 30, 2009 decreased 2% to $53,677,000 from $54,647,000 in the three months ended June 30, 2008 primarily due to lower sales of all occasion products, primarily everyday ribbon and school products. The sales decline was impacted by various factors, including the continuing slowness or reduction in order patterns related to the current economic downturn. Partially offsetting the sales decline were sales of acquired businesses, primarily Hampshire Paper, which was acquired on August 5, 2008, as well as increased sales of C. R. Gibson branded infant products. Excluding sales of acquired businesses, sales for the quarter declined 7% compared to the same quarter in the prior year.
Cost of sales, as a percentage of sales, was 73% in 2009 and 69% in 2008. The increase was primarily due to the mix of everyday product shipped and the impact of increased returns and allowances during the quarter compared to the same quarter in the prior year.
Selling, general and administrative ("SG&A") expenses decreased $2,189,000, or 9%, over the prior year period primarily as a result of initiatives to reduce spending, including the impact of a reduction in workforce initiated in March 2009.
Interest expense, net of $368,000 in 2009 increased over interest expense, net of $284,000 in 2008 due to higher borrowing levels during the three months ended June 30, 2009 compared to the same period in the prior year.
Income taxes, as a percentage of income before taxes, were 36% in 2009 and 34% in 2008. The increase in the effective tax rate (resulting in a higher tax benefit) was primarily due to a higher state tax effective rate and the absence of a provision recorded in the first quarter of fiscal 2009 in settlement of an outstanding tax audit that reduced the overall tax benefit in that quarter.

The net loss for the three months ended June 30, 2009 was $4,490,000, or $.47 per diluted share compared to $4,496,000, or $.44 per diluted share in 2008. The net loss for the quarter ended June 30, 2009 was in line with the first quarter of the prior year due to lower sales and margins which were substantially offset by decreased selling, general and administrative expenses, primarily as a result of initiatives to reduce spending, including the impact of a reduction in workforce initiated in March 2009. The net loss per diluted share of $.47 for the quarter ended June 30, 2009 increased from a net loss of $.44 per diluted share in the prior year as a result of lower shares outstanding due to stock repurchases in the prior fiscal year.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2009, the Company had working capital of $109,786,000 and stockholders' equity of $253,912,000. The increase in inventories and other current liabilities from March 31, 2009 was primarily a result of the normal seasonal inventory build necessary for the fiscal 2010 shipping season. Inventory levels decreased compared to the same period in the prior year as a result of improved inventory management and the absence of advanced paper purchases which occurred in the prior year in anticipation of scheduled price increases from vendors. The decrease in stockholders' equity from March 31, 2009 was primarily attributable to the first quarter net loss and payments of cash dividends.
The Company relies primarily on cash generated from its operations and seasonal borrowings to meet its liquidity requirements. Historically, a significant portion of the Company's revenues have been seasonal with approximately 80% of sales recognized in the second and third quarters. As payment for sales of Christmas related products is usually not received until just before or just after the holiday selling season in accordance with general industry practice, short-term borrowing needs increase throughout the second and third quarters, peaking prior to Christmas and dropping thereafter. Seasonal financing requirements are met under a $110,000,000 revolving credit facility with four banks and an accounts receivable securitization facility with an issuer of receivables-backed commercial paper. This facility has a funding limit of $75,000,000 during peak seasonal periods and $25,000,000 during off-peak seasonal periods. In addition, the Company has outstanding $10,000,000 of 4.48% senior notes due in December 2009. These financing facilities are available to fund the Company's seasonal borrowing needs and to provide the Company with sources of capital for general corporate purposes, including acquisitions as permitted under the revolving credit facility. At June 30, 2009, the Company's borrowings consisted of $10,000,000 outstanding under the senior notes and $36,700,000 outstanding under the Company's short-term credit facilities. In addition, the Company has approximately $758,000 of capital leases outstanding at June 30, 2009. Based on its current operating plan, the Company believes its sources of available capital are adequate to meet its future cash needs for at least the next 12 months.
As of June 30, 2009, the Company's letter of credit commitments are as follows (in thousands):

                             Less than 1       1-3        4-5        After 5
                                Year          Years      Years        Years        Total
        Letters of credit   $       5,932          -          -             -     $ 5,932

The Company has a reimbursement obligation with respect to stand-by letters of credit that guarantee the funding of workers compensation claims and guarantee the funding of obligations to certain vendors. The Company has no financial guarantees with any third parties or related parties other than its subsidiaries.
As of June 30, 2009, the Company is committed to purchase approximately $1,200,000 of certain paper raw material products from a vendor over a one year term expiring December 31, 2009. The Company believes the minimum product purchases under this agreement are well within the Company's annual product requirements.
In the ordinary course of business, the Company enters into arrangements with vendors to purchase merchandise in advance of expected delivery. These purchase orders do not contain any significant termination payments or other penalties if cancelled.

LABOR RELATIONS
With the exception of the bargaining units at the gift wrap facilities in Memphis, Tennessee and the ribbon manufacturing facilities in Hagerstown, Maryland, which totaled approximately 700 employees as of June 30, 2009, CSS employees are not represented by labor unions. Because of the seasonal nature of certain of its businesses, the number of production employees fluctuates during the year. The collective bargaining agreement with the labor union representing Cleo's production and maintenance employees at the Cleo gift wrap plant and warehouses in Memphis, Tennessee remains in effect until December 31, 2010. The collective bargaining agreement with the labor union representing the Hagerstown-based production and maintenance employees remains in effect until December 31, 2009.
ACCOUNTING PRONOUNCEMENTS
See Note 2 to the consolidated financial statements for information concerning recent accounting pronouncements and the impact of those standards.
FORWARD-LOOKING STATEMENTS
This report includes "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding continued use of acquisitions to stimulate further growth; the expected future impact of legal proceedings and changes in accounting principles; the anticipated effects of measures taken by the Company to respond to sales volume, cost and price pressures; and strengthened product lines and new product initiatives. Forward-looking statements are based on the beliefs of the Company's management as well as assumptions made by and information currently available to the Company's management as to future events and financial performance with respect to the Company's operations. Forward-looking statements speak only as of the date made. The Company undertakes no obligation to update any forward-looking statements to reflect the events or circumstances arising after the date as of which they were made. Actual events or results may differ materially from those discussed in forward-looking statements as a result of various factors, including without limitation, general market and economic conditions; increased competition (including competition from foreign products which may be imported at less than fair value and from foreign products which may benefit from foreign governmental subsidies); increased operating costs, including labor-related and energy costs and costs relating to the imposition or retrospective application of duties on imported products; currency risks and other risks associated with international markets; risks associated with acquisitions, including acquisition integration costs and the risk that the Company may not be able to integrate and derive the expected benefits from such acquisitions; risks associated with the Company's ERP systems standardization project, including the risk that the cost of the project will exceed expectations, the risk that the expected benefits of the project will not be realized and the risk that implementation of the project will interfere with and adversely affect the Company's operations and financial performance; the risk that customers may become insolvent, may delay payments or may impose deductions or penalties on amounts owed on the Company; costs of compliance with governmental regulations and government investigations; liability associated with non-compliance with governmental regulations, including regulations pertaining to the environment, Federal and state employment laws, and import and export controls and customs laws; and other factors described more fully in the Company's annual report on Form 10-K for the fiscal year ended March 31, 2009 and elsewhere in the Company's filings with the Securities and Exchange Commission. As a result of these factors, readers are cautioned not to place undue reliance on any forward-looking statements included herein or that may be made elsewhere from time to time by, or on behalf of, the Company.