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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
__________

FORM 10-Q
__________

                            (Mark One)

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

For the quarterly period ended July 3, 2004

OR

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

For the transition period from ______ to ______

1-6112
(Commission File Number)
__________


NORTEK HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
__________
 

 Delaware

  16-1638891

 (State or other jurisdiction of

 (I.R.S. Employer

 incorporation or organization)

 Identification No.)

 

 

 50 Kennedy Plaza, Providence, RI

 02903-2360

 (Address of principal executive offices)

  (Zip Code)

 

 
                      
(401) 751-1600
(Registrant's telephone number, including area code)
__________

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes­­­ ­­ No X

The number of shares of Common Stock outstanding as of July 30, 2004 was 8,527,822.

 

PART I – FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
 
 
 
 
July 3,
December 31,
 
 
2004
2003
Assets
 
(Unaudited)
Current Assets:
 
(Amounts in thousands)
Unrestricted:
 
 
 
Cash and cash equivalents
 
$
127,693
 
$
194,120
 
Marketable securities available for sale
   
5,011
   
-
 
Restricted:
   
 
   
 
 
Cash, investments and marketable securities at cost,
   
 
   
 
 
which approximates market
   
8,523
   
1,223
 
Accounts receivable, less allowances
   
 
   
 
 
of $6,334 and $5,880
   
263,156
   
214,267
 
Inventories:
   
 
   
 
 
Raw materials
   
67,716
   
54,144
 
Work in process
   
22,239
   
19,229
 
Finished goods
   
112,033
   
86,042
 
   
 
 
 
   
201,988
   
159,415
 
   
 
 
Prepaid expenses
   
11,463
   
6,765
 
Other current assets
   
16,742
   
14,868
 
Prepaid income taxes
   
20,700
   
17,826
 
Assets of discontinued operations
   
---
   
494,851
 
   
 
 
Total current assets
   
655,276
   
1,103,335
 
   
 
 
Property and Equipment, at Cost:
   
 
   
 
 
Land
   
12,475
   
12,578
 
Buildings and improvements
   
78,299
   
79,007
 
Machinery and equipment
   
127,711
   
120,589
 
   
 
 
 
   
218,485
   
212,174
 
Less accumulated depreciation
   
28,291
   
17,719
 
   
 
 
Total property and equipment, net
   
190,194
   
194,455
 
   
 
 
Other Assets:
   
 
   
 
 
Goodwill
   
686,897
   
678,063
 
Intangible assets, less accumulated amortization
   
 
   
 
 
of $16,074 and $9,122
   
89,043
   
94,645
 
Deferred debt expense
   
16,015
   
12,589
 
Other
   
17,239
   
16,893
 
   
 
 
 
   
809,194
   
802,190
 
   
 
 
Total Assets
 
$
1,654,664
 
$
2,099,980
 
   
 
 
Liabilities and Stockholders' Investment
   
 
 
 
 
 
 
   
 
   
 
 
Current Liabilities:
   
 
   
 
 
Notes payable and other short-term obligations
 
$
6,239
 
$
8,120
 
Current maturities of long-term debt
   
7,171
   
7,229
 
Accounts payable
   
159,678
   
112,772
 
Accrued expenses and taxes, net
   
168,019
   
151,048
 
Liabilities of discontinued operations
   
---
   
137,683
 
   
 
 
Total current liabilities
   
341,107
   
416,852
 
   
 
 
Other Liabilities:
   
 
   
 
 
Deferred income taxes
   
32,600
   
21,461
 
Other
   
150,313
   
136,833
 
   
 
 
 
   
182,913
   
158,294
 
   
 
 
Notes, Mortgage Notes and Obligations
   
 
   
 
 
Payable, Less Current Maturities
   
841,940
   
1,324,626
 
   
 
 
Stockholders' Investment:
   
 
   
 
 
Preference stock, $1.00 par value; authorized 7,000,000 shares;
   
 
   
 
 
    none issued
   
---
   
---
 
Series B Preference Stock, $1.00 par value; authorized
   
 
   
 
 
    19,000,000 shares; and 8,130,442 shares issued and outstanding
   
8,130
   
8,130
 
Class A Common Stock, $1.00 par value; authorized 19,000,000
   
 
   
 
 
    shares; 397,380 shares issued and outstanding
   
397
   
397
 
Class B Common Stock, $1.00 par value; authorized 14,000,000
   
 
   
 
 
    shares; none issued
   
---
   
---
 
Additional paid-in capital
   
177,486
   
172,244
 
Retained earnings
   
87,000
   
---
 
Accumulated other comprehensive income
   
15,691
   
19,437
 
   
 
 
Total stockholders' investment
   
288,704
   
200,208
 
   
 
 
Total liabilities and Stockholders' Investment:
 
$
1,654,664
 
$
2,099,980
 
   
 
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 
 
NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
 
 
 
For the Three Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Net Sales
 
$
448,393
 
$
390,029
 
   
 
 
Costs and Expenses:
   
 
   
 
 
Cost of products sold
   
316,409
   
280,737
 
Selling, general and administrative expense
   
81,854
   
63,425
 
Amortization of intangible assets
   
3,538
   
2,020
 
   
 
 
 
   
401,801
   
346,182
 
   
 
 
Operating earnings
   
46,592
   
43,847
 
Interest expense
   
(18,432
)
 
(12,636
)
Investment income
   
340
   
289
 
   
 
 
Earnings from continuing operations
   
 
   
 
 
before provision for income taxes
   
28,500
   
31,500
 
Provision for income taxes
   
11,800
   
13,000
 
   
 
 
Earnings from continuing operations
   
16,700
   
18,500
 
Earnings (loss) from discontinued operations
   
(800
)
 
7,400
 
   
 
 
Net earnings
 
$
15,900
 
$
25,900
 
   
 
 
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 
NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
 

 
 
For the Periods
   


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004
Jan. 10, 2003
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Net Sales
 
$
855,836
 
$
726,106
 
$
24,951
 
   
 
 
 
Costs and Expenses:
   
 
   
 
   
 
 
Cost of products sold
   
605,081
   
520,394
   
18,635
 
Selling, general and administrative expense
   
155,839
   
123,498
   
5,014
 
Amortization of intangible assets
   
6,849
   
3,843
   
67
 
Expenses and charges arising from the Recapitalization
   
---
   
---
   
83,000
 
   
 
 
 
 
   
767,769
   
647,735
   
106,716
 
   
 
 
 
Operating earnings (loss)
   
88,067
   
78,371
   
(81,765
)
Interest expense
   
(43,993
)
 
(29,427
)
 
(1,054
)
Loss from debt retirement
   
(11,958
)
 
---
   
---
 
Investment income
   
1,284
   
656
   
119
 
   
 
 
 
Earnings (loss) from continuing operations
   
 
   
 
   
 
 
before provision (benefit) for income taxes
   
33,400
   
49,600
   
(82,700
)
Provision (benefit) for income taxes
   
13,800
   
20,100
   
(21,800
)
   
 
 
 
Earnings (loss) from continuing operations
   
19,600
   
29,500
   
(60,900
)
Earnings (loss) from discontinued operations
   
67,400
   
1,900
   
(1,000
)
   
 
 
 
Net earnings (loss)
 
$
87,000
 
$
31,400
 
$
(61,900
)
   
 
 
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 
NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS


 
 
For the Periods
   


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004
Jan. 10, 2003
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Cash Flows from operating activities:
 
 
 
 
Net earnings (loss) from continuing operations
 
$
19,600
 
$
29,500
 
$
(60,900
)
Earnings (loss) from discontinued operations
   
67,400
   
1,900
   
(1,000
)
   
 
 
 
Net earnings (loss)
   
87,000
   
31,400
   
(61,900
)
   
 
 
 
Adjustments to reconcile net earnings (loss)
   
 
   
 
   
 
 
to net cash used in operating activities:
   
 
   
 
   
 
 
Depreciation and amortization expense, including
   
 
   
 
   
 
 
    amortization of purchase price allocated to inventory
   
19,908
   
16,521
   
653
 
Non-cash interest expense, net
   
18,340
   
3,438
   
125
 
Non-cash stock-based compensation
   
5,241
   
952
   
---
 
Loss from debt retirement
   
11,958
   
---
   
---
 
Gain on the sale of discontinued operations
   
(122,700
)
 
---
   
---
 
Deferred federal income tax provision (benefit) from
   
 
   
 
   
 
 
    continuing operations
   
9,800
   
(12,000
)
 
5,900
 
Deferred federal income tax benefit from
   
 
   
 
   
 
 
    discontinued operations
   
(18,500
)
 
---
   
---
 
Effect of the Recapitalization, net
   
---
   
---
   
62,397
 
Changes in certain assets and liabilities, net of
   
 
   
 
   
 
 
effects from acquisitions and dispositions:
   
 
   
 
   
 
 
Accounts receivable, net
   
(48,250
)
 
(33,784
)
 
4,298
 
Inventories
   
(38,165
)
 
(15,275
)
 
(4,457
)
Prepaids and other current assets
   
4,878
   
(726
)
 
268
 
Net assets of discontinued operations
   
(3,134
)
 
(28,769
)
 
1,717
 
Accounts payable
   
45,822
   
6,367
   
(777
)
Accrued expenses and taxes
   
(1,479
)
 
38,528
   
(19,766
)
Long-term assets, liabilities and other, net
   
(1,236
)
 
(12,284
)
 
5,837
 
   
 
 
 
Total adjustments to net earnings (loss)
   
(117,517
)
 
(37,032
)
 
56,195
 
   
 
 
 
Net cash used in operating activities
 
$
(30,517
)
$
(5,632
)
$
(5,705
)
   
 
 
 
Cash Flows from investing activities:
   
 
   
 
   
 
 
Capital expenditures
 
$
(9,648
)
$
(7,246
)
$
(207
)
Net cash paid for businesses acquired
   
(16,500
)
 
(17,237
)
 
---
 
Redemption of publicly held shares
   
---
   
(469,083
)
 
---
 
Purchase of investments and marketable securities
   
(5,000
)
 
(32,015
)
 
---
 
Payment of fees and Recapitalization expenses
   
---
   
(27,900
)
 
---
 
Proceeds from the sale of investments and
   
 
   
 
   
 
 
    marketable securities
   
---
   
9,947
   
 
 
Proceeds from the sale of discontinued businesses
   
520,138
   
---
   
---
 
Change in restricted cash and investments
   
(111
)
 
(7
)
 
(49
)
Other, net
   
(141
)
 
(551
)
 
109
 
   
 
 
 
Net cash provided by (used in) investing activities
   
488,738
   
(544,092
)
 
(147
)
   
 
 
 
Cash Flows from financing activities:
   
 
   
 
   
 
 
Change in borrowings, net
 
$
(4,011
)
$
835
 
$
(1,313
)
Sale of Floating Rate Notes
   
196,000
   
---
   
---
 
Redemption of Senior Notes
   
(716,700
)
 
---
   
---
 
Issuance of stock in connection with Recapitalization
   
---
   
359,185
   
---
 
Other, net
   
63
   
(1
)
 
(4,039
)
   
 
 
 
Net cash (used in) provided by financing activities
   
(524,648
)
 
360,019
   
(5,352
)
   
 
 
 
Net decrease in unrestricted cash and
   
 
   
 
   
 
 
    cash equivalents
   
(66,427
)
 
(189,705
)
 
(11,204
)
Unrestricted cash and cash equivalents at the
   
 
   
 
   
 
 
    beginning of the period
   
194,120
   
283,600
   
294,804
 
   
 
 
 
Unrestricted cash and cash equivalents at the
   
 
   
 
   
 
 
    end of the period
 
$
127,693
 
$
93,895
 
$
283,600
 
   
 
 
 
Supplemental disclosure of cash flow information:
   
 
   
 
   
 
 
 
   
 
   
 
   
 
 
Interest paid
 
$
47,816
 
$
46,130
 
$
---
 
   
 
 
 
Income taxes paid, net
 
$
41,634
 
$
4,557
 
$
281
 
   
 
 
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ INVESTMENT
FOR THE PERIOD FROM JANUARY 1, 2003 TO JANUARY 9, 2003
(Dollar amounts in thousands)
 
                                         

Accumulated 

       
 
   
Series B 
   
Class A

 

 

 

 

 

Special

 

 

Additional

 

 

 

 

 

Other

 

 

 

 

 

 

 

Preference 

 

 

Common

 

 

Common

 

 

Common

 

 

Paid in

 

 

Retained

 

 

Comprehensive

 

 

Comprehensive

 

 

 

 

Stock 

 

 

Stock

 

 

Stock

 

 

Stock

 

 

Capital

 

 

Earnings
   
Income (Loss)
 
 
Income (Loss)
 
 
 

 (Unaudited)

 
   
 
   
 
   
 
   
 
   
 
   
 
   
 
   
 
 
Balance, December 31, 2002
 
$
---
 
$
---
 
$
10,503
 
$
501
 
$
108,617
 
$
255,366
 
$
(57,482
)
$
---
 
Net loss
   
---
   
---
   
---
   
---
   
---
   
(61,900
)
 
---
   
(61,900
)
Other comprehensive income:
   
 
   
 
   
 
   
 
   
 
   
 
   
 
   
 
 
Currency translation adjustment
   
---
   
---
   
---
   
---
   
---
   
---
   
1,096
   
1,096
 
Minimum pension liability,
   
 
   
 
   
 
   
 
   
 
   
 
   
 
   
 
 
net of tax of $9,906
   
---
   
---
   
---
   
---
   
---
   
---
   
18,398
   
18,398
 
                                             
 
Comprehensive loss
   
 
   
 
   
 
   
 
   
 
   
 
   
 
 
$
(42,406
)
                                             
 
Settlement of stock options held by employees, net of
   
 
   
 
   
 
   
 
   
 
   
 
   
 
   
 
 
taxes of $1,710
   
---
   
---
   
---
   
---
   
(3,000
)
 
---
   
---
   
 
 
   
 
 
 
 
 
 
       
Subtotal
   
---
   
---
   
10,503
   
501
   
105,617
   
193,466
   
(37,988
)
 
 
 
Effect of the Recapitalization
   
8,130
   
365
   
(10,503
)
 
(501
)
 
328,857
   
(193,466
)
 
37,988
   
 
 
   
 
 
 
 
 
 
       
Balance, January 9, 2003
 
$
8,130
 
$
365
 
$
---
 
$
---
 
$
434,474
 
$
---
 
$
---
   
 
 
   
 
 
 
 
 
 
       
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 

NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ INVESTMENT
FOR THE THREE MONTHS ENDED JULY 5, 2003
(Dollar amounts in thousands)
 
                             

Accumulated 

       
 

 

 

Series B 

 

 

Class A

 

 

Additional

 

 

 

 

 

Other

 

 

 

 

 

 

 

Preference 

 

 

Common

 

 

Paid in

 

 

Retained

 

 

Comprehensive

 

 

Comprehensive

 

 

 

 

Stock 

 

 

Stock

 

 

Capital

 

 

Earnings

 

 

Income

 

 

Income

 

 
(Unaudited)
 
   
 
   
 
   
 
   
 
   
 
   
 
 
Balance, April 5, 2003
 
$
8,130
 
$
365
 
$
435,164
 
$
5,500
 
$
3,267
 
$
---
 
Net income
   
---
   
---
   
---
   
25,900
   
---
   
25,900
 
Other comprehensive income:
   
 
   
 
   
 
   
 
   
 
   
 
 
Currency translation adjustment
   
---
   
---
   
---
   
---
   
9,716
   
9,716
 
                                 
 
Comprehensive income
   
 
   
 
   
 
   
 
   
 
 
$
35,616
 
                                 
 
Stock based compensation
   
---
   
---
   
262
   
---
   
---
   
 
 
   
 
 
 
 
       
Balance, July 5, 2003
 
$
8,130
 
$
365
 
$
435,426
 
$
31,400
 
$
12,983
   
 
 
   
 
 
 
 
       

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ INVESTMENT
FOR THE PERIOD JANUARY 10, 2003 - JULY 5, 2003
(Dollar amounts in thousands)
 
 
 
 
 
 
 
Accumulated
 
 
 
Series B
Class A
Additional
 
Other
 
 
 
Preference
Common
Paid in
Retained
Comprehensive
Comprehensive
 
 
Stock
Stock
Capital
Earnings
Income
Income
 
 
(Unaudited)
 
 
 
 
 
 
 
 
Balance, January 9, 2003
 
$
8,130
 
$
365
 
$
434,474
 
$
---
 
$
---
 
$
---
 
Net income
   
---
   
---
   
---
   
31,400
   
---
   
31,400
 
Other comprehensive income:
   
 
   
 
   
 
   
 
   
 
   
 
 
Currency translation adjustment
   
---
   
---
   
---
   
---
   
12,953
   
12,953
 
Unrealized appreciation in the fair value
   
 
   
 
   
 
   
 
   
 
   
 
 
of marketable securities
   
---
   
---
   
---
   
---
   
30
   
30
 
                                 
 
Comprehensive income
   
 
   
 
   
 
   
 
   
 
 
$
44,383
 
                                 
 
Stock based compensation
   
---
   
---
   
952
   
---
   
---
   
 
 
   
 
 
 
 
       
Balance, July 5, 2003
 
$
8,130
 
$
365
 
$
435,426
 
$
31,400
 
$
12,983
   
 
 
   
 
 
 
 
       
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 
 

NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ INVESTMENT
FOR THE THREE MONTHS ENDED JULY 3, 2004
(Dollar amounts in thousands)


 
 
 
 
 
 
Accumulated
 
 
 
Series B
Class A
Additional
 
Other
 
 
 
Preference
Common
Paid in
Retained
Comprehensive
Comprehensive
 
 
Stock
Stock
Capital
Earnings
Income
Income
 
 
(Unaudited)
 
 
 
 
 
 
 
 
Balance, April 3, 2004
 
$
8,130
 
$
397
 
$
173,217
 
$
71,100
 
$
16,202
 
$
---
 
Net income
   
---
   
---
   
---
   
15,900
   
---
   
15,900
 
Other comprehensive income:
   
 
   
 
   
 
   
 
   
 
   
 
 
Currency translation adjustment
   
---
   
---
   
---
   
---
   
(511
)
 
(511
)
                                 
 
Comprehensive income
   
 
   
 
   
 
   
 
   
 
 
$
15,389
 
                                 
 
Stock based compensation
   
---
   
---
   
4,269
   
---
   
---
   
 
 
   
 
 
 
 
       
Balance, July 3, 2004
 
$
8,130
 
$
397
 
$
177,486
 
$
87,000
 
$
15,691
   
 
 
   
 
 
 
 
       

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 
NORTEK HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ INVESTMENT
FOR THE SIX MONTHS ENDED JULY 3, 2004
(Dollar amounts in thousands)


 
 
 
 
 
 
Accumulated
 
 
 
Series B
Class A
Additional
 
Other
 
 
 
Preference
Common
Paid in
Retained
Comprehensive
Comprehensive
 
 
Stock
Stock
Capital
Earnings
Income
Income
 

 (Unaudited)

 
 
 
 
 
 
 
 
Balance, December 31, 2003
 
$
8,130
 
$
397
 
$
172,244
 
$
---
 
$
19,437
 
$
---
 
Net income
   
---
   
---
   
---
   
87,000
   
---
   
87,000
 
Other comprehensive income:
   
 
   
 
   
 
   
 
   
 
   
 
 
Currency translation adjustment
   
---
   
---
   
---
   
---
   
(3,761
)
 
(3,761
)
Unrealized appreciation in the fair value
   
 
   
 
   
 
   
 
   
 
   
 
 
of marketable securities
   
---
   
---
   
---
   
---
   
(3
)
 
(3
)
Minimum pension liability, net of tax of $10
   
---
   
---
   
---
   
 
   
18
   
18
 
                                 
 
Comprehensive income
   
 
   
 
   
 
   
 
   
 
 
$
83,254
 
                                 
 
Stock based compensation
   
---
   
---
   
5,242
   
---
   
---
   
 
 
   
 
 
 
 
       
Balance, July 3, 2004
 
$
8,130
 
$
397
 
$
177,486
 
$
87,000
 
$
15,691
   
 
 
   
 
 
 
 
       
 
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
 

(A)    The unaudited condensed consolidated financial statements (the “Unaudited Financial Statements”) presented have been prepared by Nortek Holdings, Inc. and include the accounts of Nortek Holdings, Inc., and all of its wholly-owned subsidiaries (individually and collectively, the “Company” or “Holdings”) after elimination of intercompany accounts and transactions, without audit and, in the opinion of management, reflect all adjustments of a normal recurring nature necessary for a fair statement of the interim periods presented. Although certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been omitted, the Company believes that the disclosures included are adequate to make the information presented not misleading. Certain amounts in the prior year’s Unaudited Financial Statements have been reclassified to conform to the current year presentation. It is suggested that these Unaudited Financial Statements be read in conjunction with the consolidated financial statements and the notes included in the Company's latest annual report on Form 10-K and its latest Current Reports on Form 8-K as filed with the Securities and Exchange Commission (“SEC”).

      On November 20, 2002, Nortek, Inc. (“Nortek”), the predecessor company and Holdings reorganized into a holding company structure and each outstanding share of capital stock of Nortek was converted into an identical share of capital stock of Holdings, a Delaware corporation formed in 2002, with Holdings becoming the successor public company and Nortek becoming a wholly-owned subsidiary of Holdings (the “Holdings Reorganization”). Subsequent to November 20, 2002, the consolidated financial statements reflect the financial position, results of operations and cash flows of Holdings (the successor company). On January 9, 2003, Holdings was acquired by certain affiliates and designees of Kelso & Company L.P. (“Kelso”) and certain mem bers of Nortek’s management (the “Management Investors”) in accordance with the Agreement and Plan of Recapitalization by and among Nortek, Inc., Nortek Holdings, Inc. and K Holdings, Inc. (“K Holdings”) dated as of June 20, 2002, as amended, (the “Recapitalization Agreement”) in a transaction valued at approximately $1.6 billion, including all of the Company’s indebtedness (the “Recapitalization”) (see Note B).

      Beginning on January 9, 2003, the Company accounted for the Recapitalization as a purchase in accordance with the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations” (“SFAS No. 141”), which resulted in a new valuation for the assets and liabilities of the Company and its subsidiaries based upon fair values as of the date of the Recapitalization. SFAS No. 141 requires the Company to establish a new basis for its assets and liabilities based on the amount paid for its ownership at January 9, 2003. Accordingly, the Company’s ownership basis (including the fair value of options rolled over by the Management Investors) is reflected in the Company’s consolidated financial statemen ts beginning upon completion of the Recapitalization. The Company’s purchase price of approximately $586,266,000, including net dividends and distributions from Nortek of approximately $115,397,000 to fund the Recapitalization and fees and expenses of approximately $27,900,000 (see Note B), was allocated to the assets and liabilities based on their relative fair values and approximately $442,969,000 was reflected in Stockholders’ Investment as the value of the Company’s ownership upon completion of the Recapitalization. Immediately prior to the Recapitalization, Stockholders’ Investment was approximately $272,099,000.

      The Company completed the final allocation of purchase price as of October 5, 2003, which reflects the excess purchase price over the net assets acquired in the Recapitalization. The following table shows a comparison of the initial allocation of purchase price reflected in Nortek’s Form 10-Q for the quarter ended July 5, 2003 and the final allocation of purchase price included in the Company’s Consolidated Financial Statements for the year ended December 31, 2003, both of which include amounts allocated to discontinued operations which were sold subsequent to January 9, 2003 (see Note H):

 
 
Initial
Allocation
Final
Allocation
Inventories
 
$
13,234,000
 
$
12,908,000
 
Property, plant and equipment
   
102,474,000
   
38,035,000
 
Intangible assets
   
72,953,000
   
21,686,000
 
Indebtedness
   
(33,777,000
)
 
(33,777,000
)
Pension and post retirement health care benefits
   
(32,195,000
)
 
(23,781,000
)
Prepaid and deferred income taxes
   
(38,325,000
)
 
(11,370,000
)
Goodwill
   
227,671,000
   
310,240,000
 
Other
   
---
   
226,000
 
   
 
 
Total
 
$
312,035,000
 
$
314,167,000
 
   
 
 

The following is a summary of the material adjustments made to the initial allocation of purchase price and the final allocation of purchase price:
 
The following table shows a comparison of the initial allocation of purchase price reflected in the quarter ended July 5, 2003 and the final allocation of purchase price as of October 5, 2003 allocated to discontinued operations which were discontinued subsequent to January 9, 2003 (see Note H):

 
 
Initial
Allocation
Final
Allocation
Fair Value Adjustments:
 
 
 
Inventories
 
$
892,000
 
$
892,000
 
Property, plant and equipment
   
30,429,000
   
3,026,000
 
Intangible assets
   
(2,429,000
)
 
(18,429,000
)
Prepaid and deferred income taxes
   
(12,972,000
)
 
5,450,000
 
Goodwill
   
(11,513,000
)
 
(40,567,000
)
Other
   
90,000
   
542,000
 
   
 
 
Total
 
$
4,497,000
 
$
(49,086,000
)
   
 
 

 
    The following table presents a summary of the activity in goodwill for continuing operations and discontinued operations for the six months ended July 3, 2004, the period from January 10, 2003 to December 31, 2003 and the period from January 1, 2003 to January 9, 2003. Goodwill related to discontinued operations is included in assets of discontinued operations in the accompanying consolidated balance sheets as of December 31, 2003.

 
 
Continuing
Discontinued
 
 
 
Operations
Operations
Total
 
 
(Amounts in thousands)
 
 
 
 
 
Balance as of December 31, 2002
 
$
287,164
 
$
263,998
 
$
551,162
 
Impact of foreign currency translation
   
269
   
74
   
343
 
   
 
 
 
Balance as of January 9, 2003
   
287,433
   
264,072
   
551,505
 
Effect of Recapitalization
   
350,807
   
(40,567
)
 
310,240
 
Acquisitions during the period from January 10, 2003 to December 31, 2003    
46,248 
    ---     
46,248 
 
Purchase accounting adjustments
   
(11,979
)
 
(4,195
)
 
(16,174
)
Impact of foreign currency translation
   
5,554
   
667
   
6,221
 
   
 
 
 
Balance December 31, 2003
   
678,063
   
219,977
   
898,040
 
Acquisitions during the period from January 1, 2004 to July 3, 2004 (Note E)    
8,623 
    ---     
8,623 
 
Sale of Ply Gem (Note H)
   
---
   
(219,977
)
 
(219,977
)
Impact of foreign currency translation
   
211
   
---
   
211
 
   
 
 
 
Balance July 3, 2004
 
$
686,897
 
$
---
 
$
686,897
 
   
 
 
 

     Goodwill associated with the Recapitalization and acquisitions above will not be deductible for income tax purposes, with the exception of approximately $7,300,000 of the goodwill associated with acquisitions during the period from January 10, 2003 to December 31, 2003 which will be deductible for income tax purposes. Purchase accounting adjustments relate principally to final revisions resulting from the completion of fair value adjustments and adjustments to deferred income taxes that impact goodwill.

  During the three months ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, the Company reflected amortization of purchase price allocated to inventory of approximately $800,000 and $4,600,000, respectively, in continuing operations in cost of sales related to inventory acquired as part of the Recapitalization.

  In the fourth quarter of 2003, the Company adopted the fair value method of accounting for stock-based employee compensation in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”) and recorded pre-tax charges of approximately $1,400,000 in selling, general and administrative expense and $100,000 in earnings from discontinued operations in the Company’s consolidated statement of operations for the period January 10, 2003 to December 31, 2003 related to stock options issued during the period. No stock options were issued during the period from January 1, 2003 to January 9, 2003. The Company had previously accounted for stock-based employee compensation in accordance with Accounting Principles Board (“APB”) Opinion No. 25 , “Accounting for Stock Issued to Employees” (“APB 25”), including related interpretations, and followed the disclosure only provisions of SFAS No. 123. The Company adopted SFAS No. 123 using the prospective method of transition in accordance with SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure” (“SFAS No. 148”). The prospective method under SFAS No. 148 required the Company to adopt SFAS No. 123 effective January 1, 2003 for all employee awards granted, modified, or settled after January 1, 2003.

      The Company recorded stock-based compensation charges in continuing operations of approximately $3,100,000 and $3,300,000 for the second quarter and six months ended July 3, 2004, respectively, in accordance with SFAS No. 123. Included in these amounts are stock-based employee compensation charges of approximately $2,800,000 recorded in the second quarter of 2004 related to the accelerated vesting and achievement of the performance criteria for a portion of the Company’s outstanding Class B stock options due to the probable change of control of the Company in the third quarter of 2004 (see Note N). In addition, the Company recorded stock-based employee compensation charges in discontinued operations of approximately $1,200,000 and $1,900,000 in the second quarter and the first six months of 2004, respectively, including the achievement of the performan ce criteria for a portion of the Company’s outstanding Class B stock options, which were retained by employees of the discontinued operations (see Note H) due to the probable change of control of the Company in the third quarter of 2004 (see Note N).  The Company recorded stock-based employee compensation charges of approximately $300,000 and $1,000,000 for the second quarter ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, respectively, in accordance with SFAS No. 123. Of the $300,000 and $1,000,000 of stock-based employee compensation charges recorded during the second quarter ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, respectively, approximately $100,000 was recorded in earnings from discontinued operations. No compensation expense was required to be recorded under SFAS No. 123 for the period from January 1, 2003 to January 9, 2003.

     SFAS No. 148 did not require the Company to restate its historical quarterly reports on Form 10-Q for the 2003 quarterly periods but did require restatement of all quarterly reports subsequent to adoption, including this quarterly report. Accordingly, the amounts for the second quarter ended July 5, 2003 and the periods from January 1, 2003 to January 9, 2003 and from January 10, 2003 to July 5, 2003 included in the accompanying unaudited condensed consolidated statement of operations have been restated to reflect the adoption of SFAS No. 123 as of January 1, 2003. The following table provides a reconciliation of net income (loss) as reported in the Company’s Form 10-Q for the quarterly period ended July 5, 2003 to the corresponding amounts included in the accompanying unaudited condensed consolidated statement of operations for the indicated periods:
 

 
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Three Months Ended
 
Jan. 10, 2003 -
 
Jan. 1, 2003 -
 
 
July 5, 2003
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)

Net income (loss) as reported in the Company’s Form 10-Q for the quarterly period ended July 5, 2003

   $ 26,200     $ 32,400     $ (64,900   )
 Impact of the adoption of SFAS No. 123     (300   )   (1,000   )   3,000   
   
 
 
 
Net income (loss) as reported in the accompanying unaudited condensed consolidated statement of operations
   $ 25,900     $ 31,400     $ 31,400   )
   
 
 
 

   The impact of the adoption of SFAS No. 123 for the period from January 10, 2003 to July 5, 2003 reflects the impact of recording stock-based employee compensation for all stock options issued after January 1, 2003. The impact of the adoption of SFAS No. 123 for the period from January 1, 2003 to January 9, 2003 relates to the fact that the Company had previously recorded a pre-tax stock-based employee compensation charge of approximately $4,710,000 (approximately $3,000,000 net of tax) related to the cash settlement and cancellation of outstanding stock options that were tendered in connection with the Recapitalization in accordance with the provisions of APB 25. In connection with the adoption of SFAS No. 123, the compensation charge, net of tax, of approximately $3,000,000 was reclassified in accordance with the provisions of SFAS No. 123 to be reflected as an equity adjustment to additional paid-in capital in the accompanying unaudited condensed consolidated statement of stockholders' investment for the period from January 1, 2003 to January 9, 2003.

  The Company has historically used the Black-Scholes option pricing model to determine the fair value of stock options at the date of grant. There were no stock options granted during the first six months ended July 3, 2004, the second quarter ended July 5, 2003 or during the period from January 1, 2003 to January 9, 2003. The following table summarizes the weighted-average assumptions for stock options issued during the period from January 10, 2003 to July 5, 2003. As Nortek Holdings was no longer a public company during this period, the weighted-average assumptions reflect the use of the minimum value calculations permitted under SFAS No. 123 for non-public companies, whereby a volatility assumption is excluded from the calculation. The weighted-average assumptions for options granted prior to January 1, 2003 included in the pro forma information for the period from January 1, 2003 to January 9, 2003 presented below include a volatility assumption as Nortek Holdings was a public company during this period. The weighted average assumptions related to earnings (loss) from continuing operations exclude options issued to employees of discontinued operations (see Note H).
 

 
Post-Recapitalization
 
Jan. 10, 2003 -
 
July 5, 2003
Assumptions for Earnings (Loss) from Continuing Operations:  
Risk-free interest rate
Between 2.75% and 3.23%
Expected life
5 years
Expected volatility
N/A
Expected dividend yield
0%
Weighted average fair value at grant date of options granted
$7.26
 
 
Assumptions for Net Earnings (Loss):
 
Risk-free interest rate
Between 2.75% and 3.23%
Expected life
5 years
Expected volatility
N/A
Expected dividend yield
0%
Weighted average fair value at grant
date of options granted
 
$7.22

   Pro forma information is not required under SFAS No. 148 for the first six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003 as the unaudited condensed consolidated statement of operations for those periods include the actual stock-based employee compensation for stock options required under SFAS No. 123 for those periods.

Pro forma information for the period from January 1, 2003 to January 9, 2003 has been determined as if the Company had been accounting for its employee stock options under the fair value method of SFAS No. 123 for all stock options issued prior to January 1, 2003 and subsequent to the initial effective date of SFAS No. 123. The pro forma stock-based employee compensation charge for the period from January 1, 2003 to January 9, 2003 reflects the pro forma impact of the accelerated vesting associated with the immediate vesting of all unvested stock options in connection with the Recapitalization. No historical stock-based employee compensation is reflected for the period from January 1, 2003 to January 9, 2003 as no stock options were issued during the period. The pro forma amounts with respect to earnings (loss) from continuing operations exclude the pro forma impact of stock options issued to e mployees of Ply Gem Industries, Inc. (“Ply Gem”), which has been treated as a discontinued operation for the period from January 1, 2003 to January 9, 2003.
 

 
 
Pre-Recapitalization
 
 
Jan. 1, 2003 -
 
 
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
 
Loss from continuing operations, as reported
 
$
(60,900
)
 Less:  Total stock-based employee compensation expense determined under the fair value method for awards issued prior to January 1, 2003, net of related tax effects     (500   )
   
 
Pro forma loss from continuing operations
 
$
(61,400
)
   
 
Net loss, as reported
 
$
(61,900
)
 Less: Total stock-based employee compensation expense determined under the fair value method for awards issued prior to January 1, 2003, net of related tax effects     (600   )
   
 
Pro forma net loss
 
$
(62,500
)
   
 

(B)    On January 8, 2003, at a special meeting of stockholders of the Company, the stockholders approved the following amendments to the certificate of incorporation (the “Stockholder Approval”), which were required in order to complete the Recapitalization:
Following the Stockholder Approval, common stock and special common stock held by the Management Investors were exchanged for an equal number of newly created shares of Series B Preference Stock. In addition, certain options to purchase shares of common and special common stock held by the Management Investors were exchanged for fully vested options to purchase an equal number of shares of the newly created Class A Common Stock. The remaining outstanding options, including some held by Management Investors, were cancelled in exchange for the right to receive a single lump sum cash payment equal to the product of the number of shares of common stock or special common stock underlying the option and the amount by which the redemption price of $46 per share exceeded the per share exercise price of the option.

On January 9, 2003, in connection with the Recapitalization, Kelso purchased newly issued shares of Series B Preference Stock for approximately $355,923,000 and purchased shares of Series B Preference Stock held by the Management Investors for approximately $18,077,000. Newly issued Class A Common Stock of approximately $3,262,000 was purchased by designated third parties. Shares of Series B Preference Stock held by the Management Investors that were not purchased by Kelso were converted into an equal number of shares of Class A Common Stock. In addition, Nortek declared and distributed to the Company a dividend of approximately $120,000,000 and distributed approximately $27,900,000 for reimbursement of fees and expenses of Kelso, which were paid out of the Company’s unrestricted cash and cash equivalents on hand and were permissible under the most restrictive covenants with respect to the indentures of Nortek’s 8 7/8% Senior Notes due 2008, 9 1/4% Senior Notes due 2007, 9 1/8% Senior Notes due 2007 and 9 7/8% Senior Subordinated Notes due 2011 (the “Existing Notes”).

The Company used the proceeds from the purchase by Kelso and designated third parties of the newly issued Series B Preference Stock and Class A Common Stock and the dividend from Nortek to redeem the Company’s Class B Common Stock and to cash out options to purchase common and special common stock totaling approximately $479,185,000. Kelso also purchased from certain Management Investors 392,978 shares of Series B Preference Stock for approximately $18,077,000.

In connection with the Recapitalization, K Holdings received a bridge financing letter from a lender for a senior unsecured term loan facility not to exceed $955,000,000 (the “Bridge Facility”). The Bridge Facility was intended to be used to fund, if necessary, any change in control offers Nortek might have made in connection with the Recapitalization. Nortek did not use this Bridge Facility because the structure of the Recapitalization did not require Nortek to make any change of control offers. The commitment letter expired on January 31, 2003. As a result, the Company’s consolidated interest expense for the period from January 10, 2003 to April 5, 2003 includes approximately $4,100,000 of interest expense from the amortization of the Bridge Facility commitment fees and related expenses.

In January 2003, the Company filed for the deregistration of its shares of common and special common stock under the Securities Exchange Act of 1934. The Company’s shares of common and special common stock are no longer publicly traded. The Company will continue to file periodic reports with the SEC as required by the respective indentures of Nortek’s Existing Notes.

Under the terms of one of Nortek’s supplemental executive retirement plans (“SERP”), Nortek was required to make one-time cash payments to participants in such plan in satisfaction of obligations under that plan when the Recapitalization was completed. Accordingly, Nortek made a distribution of approximately $75,100,000 to the participants in the plan from funds included in the Company’s Consolidated Balance Sheet at December 31, 2002 and classified in long-term assets in restricted investments and marketable securities held by pension trusts and transferred to one of the participants a life insurance policy with approximately $10,300,000 of cash surrender value to satisfy a portion of the SERP’s obligation to such participant’s obligation upon the Stockholder Approval. The termination and settlement of the obligation of this SERP resulted in a curtailment loss on January 9, 2003 (see Note F).

The total amount of transaction fees and related costs incurred by Nortek and Kelso associated with the Recapitalization was approximately $47,300,000, including the $27,900,000 noted above, of which approximately $10,500,000 of advisory fees and expenses was paid to Kelso & Company L.P. A portion of these fees and expenses was recorded by Nortek in selling, general and administrative expense, since they were obligations of Nortek prior to the Recapitalization. Approximately $12,800,000 was recorded as expense on January 9, 2003 since these fees and expenses became obligations of Nortek upon consummation of the Recapitalization (see Note F).

The following reflects the unaudited pro forma effect of the Recapitalization on continuing operations for the period from January 1, 2003 to January 9, 2003:

 
 
Pro Forma
 
 
For the Period
 
 
Jan. 1, 2003 -
 
 
Jan. 9, 2003
 
 
 
Net sales
 
$
25,000
 
Operating earnings
 
$
300
 
Net loss
 
$
(3,400
)

The unaudited pro forma condensed consolidated summary of operations for the period from January 1, 2003 to January 9, 2003 presented above has been prepared by adjusting historical amounts for the period to give effect to the Recapitalization as if it had occurred on January 1, 2003. The pro forma adjustments to the historical results of operations for the period from January 1, 2003 to January 9, 2003 include the pro forma impact of the purchase accounting for such period and the elimination of approximately $83,000,000 of expenses and charges of the Recapitalization recorded during such period as the unaudited pro forma condensed consolidated summary of operations assumes that the Recapitalization occurred on January 1, 2003 (see Note A).
 
(C)     In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities – an Interpretation of ARB No. 51” (“FIN 46”). FIN 46 clarifies the application of ARB No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The consolidation requirements on FIN 46 apply to the Company immediately for all variable interest entities created after December 31, 2003 and begin on January 1, 2005 for all variable interest entities created prior to January 1, 2004. The adoption of FIN 46 on January 1, 2004 did not have any impact on the Company’s consolidated financial statements and is not expected to have a material impact in the future.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“SFAS No. 149”), which clarifies the financial accounting and reporting proscribed by SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”) for derivative instruments, including certain derivative instruments embedded in other contracts. Certain provisions of SFAS No. 149 related to implementation issues of SFAS No. 133 are already effective and other provisions related to forward purchases or sales are effective for both existing contracts and new contracts entered into after June 30, 2003. The Company has previously adopted SFAS No. 133, including the implementation issues addressed in SFAS No. 149, and the adoption of the new provisions of SFAS No. 149 on July 1, 2003 did not have an impact on the Company’s consolidated financial statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity” (“SFAS No. 150”), which addresses the accounting and reporting for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003 and for all existing financial instruments beginning in the first interim period after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities, which are subject to the provisions for the first fiscal period beginning after December 15, 2003. The Company adopted SFAS No. 150 on July 1, 2003. Adoption of this accounting standard did not have an impact on the Company’s consolidated financial statements.

In December 2003, the FASB reissued SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits” (“SFAS No. 132”) to require additional disclosures to those in the original SFAS No. 132 about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. The revised SFAS No. 132 provides only for additional disclosures and does not change the accounting for pension and postretirement plans. The Company has previously adopted SFAS No. 132 and has provided the required new interim disclosures of the revised SFAS No. 132 in Note M.

(D)    From January 1, 2004 through February 3, 2004, Nortek purchased approximately $14,800,000 of its 9 1/4% Senior Notes due 2007 (“9 1/4% Notes”) and approximately $10,700,000 of its 9 1/8% Senior Notes due 2007 (“9 1/8% Notes”) in open market transactions. On March 15, 2004, Nortek redeemed all its outstanding 9 1/4% Notes (approximately $160,200,000 in principal amount) and on March 14, 2004 redeemed all of its outstanding 9 1/8% Notes (approximately $299,300,000 in principal amount). The 9 1/4% Notes and 9 1/8% Notes were redeemed at a redemption price of 101.542% and 103.042%, respectively, of the principal amount thereof plus accrued and unpaid interest. The 9 1/4% Notes and 9 1/8% Notes ceased to accrue interest as of the respective redemption dates indicated above. The Company used the net afte r tax proceeds from the sale of Ply Gem of approximately $450,000,000, together with existing cash on hand, to fund the redemption of the 9 1/4% Notes and 9 1/8% Notes. On March 14, 2004, Nortek redeemed $60,000,000 of its outstanding 8 7/8% Senior Notes due 2008 (“8 7/8% Notes”). On March 31, 2004, Nortek redeemed the remaining $150,000,000 of its outstanding 8 7/8% Notes (see below). The 8 7/8% Notes were called at a redemption price of 104.438% of the principal amount thereof plus accrued and unpaid interest.

On March 1, 2004, Nortek completed the sale of $200,000,000 of Senior Floating Rate Notes due 2010 (the “Floating Rate Notes”). The Floating Rate Notes bear interest at a rate per annum equal to LIBOR, as defined, plus 3% (4.87% as of July 3, 2004). Interest on the Floating Rate Notes will be determined and payable semi-annually on June 30 and December 31 of each year commencing June 30, 2004. Nortek incurred fees and expenses, including the initial purchaser’s discount, of approximately $4,000,000 in connection with the sale, which will be amortized over the life of the Floating Rate Notes. The Floating Rate Notes are unsecured obligations of Nortek, which mature on December 31, 2010, and may be redeemed in whole or in part prior to December 31, 2010 at the redemption prices as defined in the indenture governing the Floating Rate Notes (the “Indenture”). The Indenture contains covenants that limit Nortek’s ability to engage in certain transactions, including incurring additional indebtedness and paying dividends or distributions. The terms of the Floating Rate Notes require Nortek to register notes having substantially identical terms (the “Nortek Exchange Notes”) with the SEC as part of an offer to exchange freely tradable Nortek Exchange Notes for the Floating Rate Notes (the “Nortek Exchange”) (see Note N). Approximately $60,000,000 principal amount of the 8 7/8% Notes ceased to accrue interest as of March 14, 2004 and approximately $150,000,000 principal amount of such Notes ceased to accrue interest as of March 31, 2004. Nortek used the net proceeds of approximately $196,000,000 from the sale of the Floating Rate Notes, together with existing cash on hand, to fund the redemption of the 8 7/8% Notes.

The open market purchases and the redemption of the 9 1/4% Notes, 9 1/8% Notes and 8 7/8% Notes noted above resulted in a pre-tax loss of approximately $11,958,000 in the first quarter of 2004, based upon the difference between the respective redemption prices indicated above and the estimated carrying values at the redemption dates.
 
Interest expense in the first six months ended July 3, 2004 includes duplicative interest arising during the waiting period from the call for redemption to the date of redemption of the 8 7/8% Senior Notes as during that period, the Floating Rate Notes, whose proceeds were used to refinance the 8 7/8% Senior Notes, were also outstanding.

On November 24, 2003, the Company completed the sale of $515,000,000 aggregate principal amount at maturity ($349,400,000 gross proceeds) of its 10% Senior Discount Notes due May 15, 2011 (“Senior Discount Notes”). The Senior Discount Notes, which are structurally subordinate to all debt and liabilities of the Company’s subsidiaries, were issued and sold in a private Rule 144A offering to institutional investors. The net proceeds of the offering were used to pay a dividend of approximately $298,474,000 to holders of the Company’s capital stock and approximately $41,000,000 of these proceeds were used by the Company to purchase additional capital stock of Nortek. Nortek used these proceeds to fund the majority of a cash distribution of approximately $41,600,000 to option holders of the Rollover Options in the fourth quarter of 2003. The accreted value of the Senior Discount N otes will increase from the date of issuance at a rate of 10% per annum compounded semi-annually such that the accreted value will equal the principal amount of $515,000,000 on November 15, 2007. No cash interest will accrue on the Senior Discount Notes prior to November 15, 2007 and, thereafter, cash interest will accrue at 10% per annum payable semi-annually in arrears on May 15 and November 15 of each year. The Senior Discount Notes are unsecured obligations of the Company, which mature on May 15, 2011, and may be redeemed in whole or in part at the redemption prices as defined in the indenture governing the Senior Discount Notes (the “Indenture”). The Indenture contains covenants that limit the Company’s ability to engage in certain transactions, including incurring additional indebtedness and paying dividends or distributions. The terms of the Senior Discount Notes require the Company to register notes having substantially identical terms (the “Holdings Exchange Notes”) with the SEC as part of an offer to exchange freely tradable Holdings Exchange Notes for the Senior Discount Notes (the “Holdings Exchange”) (see Note N). Under certain limited circumstances, Nortek may be required in the future to guarantee the Senior Discount Notes on a senior subordinated basis. This requirement will not apply if the terms of any of Nortek’s senior indebtedness restricts the issuance of such guarantee. Nortek’s Senior Secured Credit Facility does not permit such a guarantee. In addition the issuance of such a guarantee by Nortek would constitute a restricted payment under the terms of Nortek’s indentures.

The period from January 10, 2003 to July 5, 2003 includes approximately $4,100,000 of interest expense from the amortization of the Bridge Facility commitment entered into as part of the Recapitalization (see Note B).

(E)    On March 9, 2004, the Company acquired OmniMount Systems, Inc. (“OmniMount”) for approximately $16,500,000 in cash and contingent consideration payable 90 days after fiscal 2006 if certain fiscal 2006 financial results, as defined by the stock purchase agreement, are met. OmniMount is a manufacturer and designer of speaker mountings and other products to maximize the home theater experience.

On December 15, 2003, the Company acquired Operator Specialty Company, Inc. (“OSCO”), located in Casnovia, MI for approximately $2,500,000. OSCO is a manufacturer and designer of gate operators and access controls.

On July 11, 2003, the Company acquired SpeakerCraft, Inc. (“SPC”) for approximately $58,100,000 in cash. SPC is a leading designer and supplier of architectural loudspeakers and audio products used in residential custom applications.

On January 17, 2003, the Company acquired Elan Home Systems L.L.C. (“Elan”) for an aggregate purchase price of approximately $18,900,000 including a $1,500,000 note payable to the sellers. Elan manufactures and sells consumer electronic equipment that controls whole-house entertainment, communication and automation systems for new residential construction and retrofit markets.

Acquisitions accounted for approximately $21,900,000 and $37,300,000 of the increase to net sales for the second quarter and six months ended July 3, 2004, respectively, and accounted for approximately $4,000,000 and $5,900,000 of the increase to operating earnings for the second quarter and six months ended July 3, 2004, respectively, as compared to 2003. OmniMount, OSCO, SPC and Elan are included in the Residential Building Products Segment in the Company’s segment reporting. Pro forma results related to these acquisitions have not been presented, as the effect is not significant to the Company’s consolidated operating results.

Acquisitions are accounted for as purchases and, accordingly, have been included in the Company's consolidated results of operations since the acquisition date. Purchase price allocations are subject to refinement until all pertinent information regarding the acquisitions is obtained.

(F)     The operating results of the Air Conditioning and Heating Products Segment for the second quarter and first six months ended July 3, 2004 include approximately $600,000 and $1,900,000, respectively, of costs associated with the closure of certain manufacturing facilities (see Note L). During the three months ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, approximately $1,400,000 of costs associated with the closure of certain manufacturing facilities was recorded within the Air Conditioning and Heating Products Segment. There were no costs recorded in the period from January 1, 2003 to January 9, 2003 related to the closure of certain manufacturing facilities within the Air Conditioning and Heating Products Segment.

Operating results for the second quarter ended July 3, 2004 include a non-cash foreign exchange gain of approximately $100,000 and operating results for the first six months ended July 3, 2004 include a non-cash foreign exchange loss of approximately $500,000 on intercompany debt not permanently invested between the Company’s subsidiaries. For the second quarter ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, operating results include a non-cash foreign exchange gain of approximately $600,000 and $700,000, respectively, on intercompany debt not permanently invested.

During the second quarter and first six months ended July 3, 2004, the Company recorded a pre-tax charge to continuing operations of approximately $3,100,000 and $3,300,000, respectively, for compensation expense related to stock options issued to employees, officers and directors in accordance with SFAS No. 123. During the second quarter ended July 5, 2003 and the period from January 10, 2003 to July 5, 2003, the Company recorded a pre-tax charge to continuing operations of approximately $200,000 and $900,000, respectively, for compensation expense related to stock options issued to employees, officers and Directors in accordance with SFAS No. 123 (see Note A). A portion of this expense has been allocated to the Company’s reporting segments for all periods presented (see Note I).

During the second quarter ended July 5, 2003 and the periods from January 10, 2003 to July 5, 2003 and from January 1, 2003 to January 9, 2003, the Company incurred approximately $300,000, $1,700,000 and $100,000, respectively, of direct expenses and fees associated with the Company’s strategic sourcing software and systems development, which were recorded in Unallocated in the Company’s segment reporting.

For the nine days ended January 9, 2003, the Company incurred certain charges in connection with the Recapitalization. These charges were as follows:

Curtailment loss upon termination of a SERP
 
$
70,142,000
 
Recapitalization fees, expenses and other
   
12,848,000
 
Other
   
10,000
 
   
 
 
 
$
83,000,000
 
   
 

(G)    At July 30, 2004, approximately $51,500,000 was available for the payment of cash dividends, stock purchases or other restricted payments by the Company as defined under the terms of the Company's most restrictive indenture based on the redemption and refinancing of certain of Nortek’s existing notes (see Note D). Restricted payments to Holdings from Nortek are limited by the amount of cash available for payment under the terms of Nortek’s most restrictive indenture and approximately $110,100,000 were permitted at July 30, 2004.

(H)    On February 12, 2004, the Company sold the capital stock of its wholly-owned subsidiary Ply Gem for net cash proceeds of approximately $506,700,000, after excluding approximately $21,400,000 of proceeds provided to fund liabilities of Ply Gem indemnified by the Company, and recorded a net after-tax gain on the sale of approximately $72,300,000 in the first quarter of 2004. Ply Gem, through its operating subsidiaries, is a manufacturer and distributor of a range of products for use in the residential new construction, do-it-yourself and professional renovation markets, including vinyl siding, windows, patio doors, fencing, railing, decking and accessories. The results of operations of the operating subsidiaries of Ply Gem comprised the Company’s entire Windows, Doors and Siding Products (“WDS”) reporting segment and the corporate expenses of Ply Gem were previously included in Unallocated other, net in the Company’s segment reporting (see Note I).

The Company allocates interest to dispositions that qualify as a discontinued operation for debt instruments which are entered into specifically and solely with the entity disposed of and from debt which is settled with proceeds received from the disposition. For the six months ended July 3, 2004, interest allocated to discontinued operations, included in interest expense, net in the table below, was approximately $2,800,000 (net of taxes of approximately $1,600,000). For the second quarter ended July 5, 2003 and the periods from January 10, 2003 to July 5, 2003 and from January 1, 2003 to January 9, 2003, interest allocated to discontinued operations, included in interest expense, net in the table below, was approximately $6,000,000 (net of taxes of approximately $3,600,000), $11,400,000 (net of taxes of approximately $6,700,000) and $800,000 (net of taxes of approximately $400,000), respectiv ely.

The sale of Ply Gem and the related operating results have been excluded from earnings (loss) from continuing operations and are classified as discontinued operations for all periods presented.
 
The table that follows presents a summary of the results of discontinued operations for the three months ended July 3, 2004 and July 5, 2003:
 

 
 
Post-Recapitalization
 
 
For the Three
 
 
Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Net sales
 
$
---
 
$
154,500
 
   
 
 
Operating earnings (loss) of discontinued operations *
 
$
(1,200
)
$
21,581
 
 
   
 
   
 
 
Interest expense, net
   
---
   
(9,881
)
   
 
 
Earnings (loss) before income taxes
   
(1,200
)
 
11,700
 
Provision (benefit) for income taxes
   
(400
)
 
4,300
 
   
 
 
Earnings (loss) from discontinued operations
 
$
(800
)
$
7,400
 
   
 
 
Depreciation and amortization expense
 
$
---
 
$
3,731
 
   
 
 
 
*     Operating earnings of discontinued operations are net of Ply Gem corporate expenses previously included within Unallocated other, net in the Company’s segment reporting.

Operating earnings of discontinued operations for the three months ended July 5, 2003 include approximately $100,000 of severance and other costs associated with the closure of certain manufacturing facilities.

Operating earnings for the three months ended July 3, 2004 reflect the pre-tax impact of stock-based employee compensation charges of approximately $1,200,000 related to Nortek Holdings’ stock options retained by employees of Ply Gem subsequent to the sale of Ply Gem (see Note A).
 
The table that follows presents a summary of the results of discontinued operations for the periods presented:
 
 
 
For the Periods
   


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Net sales
 
$
40,600
 
$
253,600
 
$
8,800
 
   
 
 
 
Operating earnings (loss) of discontinued operations *
 
$
(3,244
)
$
21,771
 
$
(368
)
 
   
 
   
 
   
 
 
Interest expense, net
   
(4,556
)
 
(18,671
)
 
(1,232
)
   
 
 
 
Earnings (loss) before provision (benefit) for income taxes
   
(7,800
)
 
3,100
   
(1,600
)
Provision (benefit) for income taxes
   
(2,900
)
 
1,200
   
(600
)
   
 
 
 
Earnings (loss) from discontinued operations
   
(4,900
)
 
1,900
   
(1,000
)
   
 
 
 
Gain on sale of discontinued operations
   
122,700
   
---
   
---
 
Income tax provision on sale of discontinued operations
   
50,400
   
---
   
---
 
   
 
 
 
 
   
72,300
   
---
   
---
 
   
 
 
 
 
   
 
   
 
   
 
 
Earnings (loss) from discontinued operations
 
$
67,400
 
$
1,900
 
$
(1,000
)
   
 
 
 
Depreciation and amortization expense
 
$
1,359
 
$
8,478
 
$
315
 
   
 
 
 
 
    Operating earnings (loss) of discontinued operations are net of Ply Gem corporate expenses previously included within Unallocated other, net in the Company’s segment reporting.

Operating earnings (loss) of discontinued operations for the period from January 10, 2003 to July 5, 2003 include approximately $600,000 of severance and other costs associated with the closure of certain manufacturing facilities. Operating earnings (loss) of discontinued operations for the period from January 10, 2003 to July 5, 2003 also include approximately $1,300,000 of costs and expenses for expanded distribution including new customers.

Operating earnings for the six months ended July 3, 2004 reflect the pre-tax impact of stock-based employee compensation charges of approximately $1,900,000 recorded in the second quarter related to Nortek Holdings’ stock options retained by employees of Ply Gem subsequent to the sale of Ply Gem (see Note A).
 
The table that follows presents a breakdown of the major components of assets and liabilities of discontinued operations as of December 31, 2003:

 
 
December 31, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Assets:
 
 
Accounts receivable, less allowances of $8,695,000
 
$
45,236
 
Inventories
   
44,136
 
Prepaid income taxes
   
8,392
 
Property and equipment, net
   
122,816
 
Goodwill
   
219,977
 
Intangible assets, less accumulated amortization of $3,849,000
   
44,363
 
Other assets
   
9,931
 
   
 
Total assets of discontinued operations
 
$
494,851
 
   
 
Liabilities:
   
 
 
Accounts payable
 
$
18,876
 
Accrued expenses
   
33,803
 
Notes, mortgage notes and obligations payable
   
29,562
 
Deferred income taxes
   
25,323
 
Other liabilities
   
30,119
 
   
 
Total liabilities of discontinued operations
 
$
137,683
 
   
 

(I)    The Company has two reportable segments: the Residential Building Products Segment and the Air Conditioning and Heating Products Segment. In the tables below, Unallocated includes corporate related items, intersegment eliminations and certain income and expense items not allocated to reportable segments.

The Company evaluates segment performance based on operating earnings before allocations of corporate overhead costs. Intersegment net sales and intersegment eliminations were not material for any of the periods presented. The income statement impact of all purchase accounting adjustments, including goodwill and intangible asset amortization, is reflected in the operating earnings of the applicable operating segment.
 
Net sales, operating earnings and pre-tax earnings from continuing operations for the Company’s segments for the three months ended July 3, 2004 and July 5, 2003 were as follows:
 
 
 
Three Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Net sales:
 
 
 
Residential building products
 
$
245,627
 
$
194,928
 
Air conditioning and heating products
   
202,766
   
195,101
 
   
 
 
Consolidated net sales
 
$
448,393
 
$
390,029
 
   
 
 
Operating earnings:
   
 
   
 
 
Residential building products *
 
$
41,706
 
$
31,551
 
Air conditioning and heating products *
   
16,218
   
19,016
 
   
 
 
Subtotal
   
57,924
   
50,567
 
Unallocated:
   
 
   
 
 
Strategic sourcing software and
   
 
   
 
 
systems development expense
   
---
   
(300
)
Stock based compensation charges
   
(2,100
)
 
(200
)
Other, net
   
(9,232
)
 
(6,220
)
   
 
 
Consolidated operating earnings
   
46,592
   
43,847
 
Interest expense
   
(18,432
)
 
(12,636
)
Investment income
   
340
   
289
 
   
 
 
Earnings before provision for income taxes
 
$
28,500
 
$
31,500
 
   
 
 
 
*     The operating results of the Air Conditioning and Heating Products Segment for the three months ended July 3, 2004 and July 5, 2003 include approximately $600,000 and $1,400,000, respectively, of costs associated with the closure of certain manufacturing facilities (see Note L). The operating results of the Residential Building Products Segment and the Air Conditioning and Heating Products Segment for the three months ended July 3, 2004 include approximately $600,000 and $400,000, respectively, of compensation expense related to stock options issued to employees of such segments in accordance with SFAS No. 123.
 
Net sales, operating earnings (loss) and pre-tax earnings (loss) from continuing operations for the Company’s segments for the periods presented below were as follows:
 
 
 
For the Periods
   


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Net sales:
 
 
 
 
Residential building products
 
$
482,148
 
$
379,461
 
$
16,338
 
Air conditioning and heating products
   
373,688
   
346,645
   
8,613
 
   
 
 
 
Consolidated net sales
 
$
855,836
 
$
726,106
 
$
24,951
 
   
 
 
 
Operating earnings (loss):
   
 
   
 
   
 
 
Residential building products *
 
$
81,714
 
$
58,547
 
$
2,731
 
Air conditioning and heating products *
   
25,290
   
35,492
   
(1,258
)
   
 
 
 
Subtotal
   
107,004
   
94,039
   
1,473
 
Unallocated:
   
 
   
 
   
 
 
Expenses and charges arising from
   
 
   
 
   
 
 
the Recapitalization
   
---
   
---
   
(83,000
)
Strategic sourcing software and
   
 
   
 
   
 
 
systems development expense
   
---
   
(1,700
)
 
(100
)
Stock based compensation charges
   
(2,300
)
 
(800
)
 
---
 
Other, net
   
(16,637
)
 
(13,168
)
 
(138
)
   
 
 
 
Consolidated operating earnings (loss)
   
88,067
   
78,371
   
(81,765
)
Interest expense
   
(43,993
)
 
(29,427
)
 
(1,054
)
Loss from debt retirement
   
(11,958
)
 
---
   
---
 
Investment income
   
1,284
   
656
   
119
 
   
 
 
 
Earnings (loss) before provision (benefit)
   
 
   
 
   
 
 
for income taxes
 
$
33,400
 
$
49,600
 
$
(82,700
)
   
 
 
 

*   The operating results of the Air Conditioning and Heating Products Segment for the first six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003 include approximately $1,900,000 and $1,400,000, respectively, of costs associated with the closure of certain manufacturing facilities (see Note L). There were no costs recorded in the period from January 1, 2003 to January 9, 2003 related to the closure of certain manufacturing facilities within the Air Conditioning and Heating Products Segment.  The operating results of the Residential Building Products Segment for the six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003 include approximately $600,000 and $100,000, respectively, of compen sation expense related to stock options issued to employees of this segment in accordance with SFAS No. 123 and the operating results of he Air Conditioning and Heating Products Segment for the six months ended July 3, 2004 include approximately $400,000 of compensation expense related to stock options issued to employees of this segment in accordance with SFAS No. 123.
 
Depreciation expense, amortization of intangible assets and purchase price allocated to inventory and capital expenditures from continuing operations for the Company’s segments for the three months ended July 3, 2004 and July 5, 2003 were as follows:
 
 
 
Three Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Depreciation Expense:
 
 
 
Residential building products
 
$
3,679
 
$
1,888
 
Air conditioning and heating products
   
3,126
   
1,968
 
Other
   
223
   
83
 
   
 
 
Consolidated depreciation expense
 
$
7,028
 
$
3,939
 
   
 
 
Amortization of intangible assets and
   
 
   
 
 
purchase price allocated to inventory *:
   
 
   
 
 
Residential building products
 
$
2,728
 
$
2,277
 
Air conditioning and heating products
   
870
   
687
 
   
 
 
Consolidated amortization expense and
   
 
   
 
 
purchase price allocated to inventory
 
$
3,598
 
$
2,964
 
   
 
 
Capital Expenditures:
   
 
   
 
 
Residential building products
 
$
2,402
 
$
2,303
 
Air conditioning and heating products
   
2,318
   
1,962
 
Other
   
24
   
11
 
   
 
 
Consolidated capital expenditures
 
$
4,744
 
$
4,276
 
   
 
 
 
*     During the three months ended July 3, 2004 and July 5, 2003, the Company reflected approximately $200,000 and $900,000, respectively, of excess purchase price allocated to inventory as a non-cash charge to cost of products sold in the Residential Building Products Segment.
 
Depreciation expense, amortization of intangible assets and purchase price allocated to inventory and capital expenditures from continuing operations for the Company’s segments for the periods presented below were as follows:


 
 
For the Periods
   


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
Depreciation Expense:
 
 
 
 
Residential building products
 
$
6,503
 
$
3,731
 
$
295
 
Air conditioning and heating products
   
6,028
   
3,779
   
276
 
Other
   
305
   
193
   
15
 
   
 
 
 
Consolidated depreciation expense
 
$
12,836
 
$
7,703
 
$
586
 
   
 
 
 
Amortization of intangible assets and
   
 
   
 
   
 
 
purchase price allocated to inventory *:
   
 
   
 
   
 
 
Residential building products
 
$
5,378
 
$
6,852
 
$
53
 
Air conditioning and heating products
   
1,694
   
1,966
   
14
 
   
 
 
 
Consolidated amortization expense and
   
 
   
 
   
 
 
purchase price allocated to inventory
 
$
7,072
 
$
8,818
 
$
67
 
   
 
 
 
Capital Expenditures:
   
 
   
 
   
 
 
Residential building products
 
$
4,831
 
$
4,227
 
$
91
 
Air conditioning and heating products
   
4,475
   
2,764
   
116
 
Other
   
342
   
255
   
---
 
   
 
 
 
Consolidated capital expenditures
 
$
9,648
 
$
7,246
 
$
207
 
   
 
 
 

*     During the six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003, the Company reflected approximately $200,000 and $4,900,000, respectively, of excess purchase price allocated to inventory as a non-cash charge to cost of products sold. In the first six months ended July 3, 2004, all $200,000 was allocated to the Residential Buildings Products Segment and for the period from January 10, 2003 to July 5, 2003, approximately $4,300,000 was allocated to the Residential Building Products Segment and approximately $600,000 was allocated to the Air Conditioning and Heating Products Segment.
 
(J)    The Company provides income taxes on an interim basis based upon the estimated annual effective income tax rate. The following reconciles the federal statutory income tax rate to the estimated effective tax rate of approximately 41.3%, 40.5% and 26.4% for the periods presented:

 
 
For the Periods
   
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 Income tax provision (benefit) at the federal statutory rate     35.0 %   35.0 %   (35.0) %
Net change from federal statutory rate:
   
 
   
 
   
 
 
      State income tax provision, net of federal income tax effect      2.5      1.1    
---
 
Change in tax reserves, net
   
0.5
   
0.5
   
---
 
      Tax effect resulting from foreign activities      2.4      1.7      ---  
Tax effect of the Recapitalization
   
---
   
---
   
8.3
 
Non-deductible expenses
   
0.4
   
0.5
   
---
 
Other, net
   
0.5
   
1.7
   
0.3
 
   
 
 
 
 Income tax provision (benefit) at estimated effective rate    
41.3 
 %  
40.5 
 %  
(26.4) 
 %
   
 
 
 

(K)    As of July 3, 2004, the Company’s former subsidiary, Ply Gem, has guaranteed approximately $26,700,000 of third party obligations relating to rental payments through June 30, 2016 under a facility leased by SNE (a former subsidiary), which was sold on September 21, 2001. The Company has indemnified these guarantees in connection with the sale of Ply Gem on February 12, 2004 and has recorded an estimated liability related to this indemnified guarantee of approximately $1,000,000 at July 3, 2004 in accordance with Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others “ (“FIN 45”) (see Note H). The buyer of SNE has provided certain indemnifications and other rights to Nortek for any payments that it might be required to make pursuant to this guarantee. Should the buyer of SNE cease making payments then the Company may be required to make payments on its indemnification.

A former subsidiary of the Company is a defendant in a number of lawsuits alleging damage caused by alleged defects in certain pressure treated wood products. A subsidiary of the Company has indemnified Ply Gem for all known liabilities and future claims relating to such matters and retained the rights to all potential reimbursements related to insurance coverage. Many of the lawsuits have been resolved by dismissal or settlement with amounts being paid out of insurance proceeds or other recoveries. The Company and the former subsidiary continue to vigorously defend the remaining suits. Certain defense and indemnity costs are being paid out of insurance proceeds and proceeds from a settlement with suppliers of material used in the production of the treated wood products. The Company has recorded liabilities of approximately $3,800,000 at July 3, 2004 for the indemnification of the estimated cos ts to resolve these outstanding matters. The Company has indemnified the buyer of Ply Gem for these liabilities in connection with the sale of Ply Gem on February 12, 2004 (see Note H).

The Company has indemnified third parties for certain matters in a number of transactions involving dispositions of former subsidiaries. The Company has recorded liabilities in relation to these indemnifications, including the indemnified guarantee and litigation noted above, of approximately $21,300,000 at July 3, 2004 and $20,900,000 at December 31, 2003. Approximately $18,600,000 of these indemnifications as of July 3, 2004 relate to indemnifications provided to the buyer of Ply Gem in connection with the sale of Ply Gem. Accordingly, the Company has included approximately $4,700,000 of short-term liabilities from discontinued operations and approximately $13,900,000 of long-term liabilities from discontinued operations, respectively, in accrued expenses and other long-term liabilities in the accompanying unaudited condensed consolidated balance sheet at July 3, 2004. Approximately $18,200,0 00 of these indemnifications as of December 31, 2003 related to Ply Gem and were included in liabilities from discontinued operations in the accompanying unaudited condensed consolidated balance sheet prior to the sale of Ply Gem (see Note H).

The Company sells a number of products and offers a number of warranties including in some instances, extended warranties. The specific terms and conditions of these warranties vary depending on the product sold and country in which the product is sold. The Company estimates the costs that may be incurred under its warranties and, with the exception of extended warranties, records a liability for such costs at the time of sale. Proceeds received from extended warranties are amortized over the life of the warranty and reviewed to ensure that the liability recorded is equal to or greater than estimated future costs. Factors that affect the Company’s warranty liability include the number of units sold, historical and anticipated rates of warranty claims, cost per claim and new product introduction. The Company periodically assesses the adequacy of its recorded warranty claims and adjusts the amounts as necessary. Changes in the Company’s combined short-term and long-term warranty liabilities during the periods presented are as follows:

 
 
For the Three Months Ended
   
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Balance, beginning of period
 
$
29,378
 
$
26,743
 
Warranties provided during period
   
5,067
   
4,535
 
Settlements made during period
   
(4,240
)
 
(3,639
)
 Changes in liability estimates, including expirations     211      167   
   
 
 
Balance, end of period
 
$
30,416
 
$
27,806
 
   
 
 

 

 
 
For the Periods
   
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Balance, beginning of period
 
$
29,087
 
$
25,983
 
$
26,007
 
Warranties provided during period
   
9,262
   
8,762
   
234
 
Settlements made during period
   
(7,828
)
 
(7,025
)
 
(274
)
Changes in liability estimate, including acquisitions     (105    86      16   
   
 
 
 
Balance, end of period
 
$
30,416
 
$
27,806
 
$
25,983
 
   
 
 
 

The Company is subject to other contingencies, including legal proceedings and claims arising out of its businesses that cover a wide range of matters, including, among others, environmental matters, contract and employment claims, product liability, warranty and modification, adjustment or replacement of component parts of units sold, which may include product recalls. Product liability, environmental and other legal proceedings also include matters with respect to businesses previously owned. The Company has used various substances in its products and manufacturing operations which have been or may be deemed to be hazardous or dangerous, and the extent of its potential liability, if any, under environmental, product liability and workers’ compensation statutes, rules, regulations and case law is unclear. Further, due to the lack of adequate information and the potential impact of present regulations and any future regulations, there are certain circumstances in which no range of potential exposure may be reasonably estimated.

While it is impossible to ascertain the ultimate legal and financial liability with respect to contingent liabilities, including lawsuits, the Company believes that the aggregate amount of such liabilities, if any, in excess of amounts provided or covered by insurance, will not have a material adverse effect on the consolidated financial position or results of operations of the Company. It is possible, however, that future results of operations for any particular future period could be materially affected by changes in the Company’s assumptions or strategies related to these contingencies or changes out of the Company’s control.

(L)   The Company records restructuring costs primarily in connection with operations acquired or facility closings which management plans to eliminate in order to improve future operating results of the Company. During the six months ended July 3, 2004, the Company recognized restructuring charges primarily associated with plant closings in the Air Conditioning and Heating Products Segment.

In the second quarter of 2003, the Company initiated restructuring activities related to the closure of two facilities in St. Louis, Missouri, in order to relocate the operations to other facilities. Approximately 293 employees were terminated in 2003 and approximately 98 employees have been terminated to date during the first six months of 2004. Approximately 60 additional employees are expected to be terminated during the remaining six months of 2004. The facilities currently support warehousing and distribution activities of the segment’s residential HVAC products. During the three months and six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003, the Company provided approximately $600,000, $1,900,000 and $1,400,000, respectively, in cost of goods sold related to liabilities incurred as a result of the restructuring. The Company expects to provide an additio nal estimated $800,000 of costs through the end of 2004. The facilities to be closed are owned by the Company and are expected to be sold in 2004.

The following table sets forth restructuring activity in the accompanying unaudited condensed consolidated statement of operations for the periods presented. These costs are included in cost of goods sold and selling, general and administrative expenses in the accompanying unaudited condensed consolidated statement of operations of the Company.

 
 
Employee Separation Expenses
 
 
Other
Total
Restructuring
Costs
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Balance at December 31, 2002
 
$
820
 
$
645
 
$
1,465
 
Other adjustments
   
(90
)
 
(110
)
 
(200
)
   
 
 
 
Balance at January 9, 2003
   
730
   
535
   
1,265
 
Payments and asset write downs
   
(45
)
 
(205
)
 
(250
)
   
 
 
 
Balance at April 5, 2003
   
685
   
330
   
1,015
 
Provision
   
1,251
   
133
   
1,384
 
Payments and asset write downs
   
(143
)
 
(23
)
 
(166
)
   
 
 
 
Balance at July 5, 2003
 
$
1,793
 
$
440
 
$
2,233
 
   
  
 
  
 
  
 
         
Balance at December 31, 2003
 
$
1,638
 
$
205
 
$
1,843
 
Provision
   
71
   
1,219
   
1,290
 
Payments and asset write downs
   
(1,139
)
 
(1,420
)
 
(2,559
)
   
 
 
 
Balance at April 3, 2004
   
570
   
4
   
574
 
Provision
   
125
   
458
   
583
 
Payments and asset write downs
   
(202
)
 
(462
)
 
(664
)
   
 
 
 
Balance at July 3, 2004
 
$
493
 
$
---
 
$
493
 
   
 
 
 

Employee separation expenses are comprised of severance, vacation, outplacement and retention bonus payments. Other restructuring costs include expenses associated with terminating other contractual arrangements, costs to prepare facilities for closure, costs to move equipment and products to other facilities and write-offs related to equipment sales and disposals.
 
(M)  The Company and its subsidiaries have various pension, supplemental retirement plans for certain officers, profit sharing and other post retirement benefit plans requiring contributions to qualified trusts and union administered funds.

Pension and profit sharing expense charged to operations aggregated approximately $4,700,000 and $3,700,000 for the three months ended July 3, 2004 and July 5, 2003, respectively. Pension and profit sharing expense charged to operations aggregated approximately $8,100,000, $7,200,000 and $950,000 for the six months ended July 3, 2004 and the periods from January 10, 2003 to July 5, 2003 and from January 1, 2003 to January 9, 2003, respectively. The Company’s policy is to generally fund currently the minimum allowable annual contribution of its various qualified defined benefit plans. As previously disclosed in the Company’s latest annual report on Form 10-K as filed with the SEC, the Company expects to contribute approximately $7,600,000 to its defined benefit pension plans during 2004. As of July 3, 2004, approximately $3,800,000 of contributions have been made.

The Company’s net periodic benefit cost for its defined benefit plans for the three months ended July 3, 2004 and July 5, 2003 consists of the following components:

 
 
For the Three Months Ended
   
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Service cost
 
$
293
 
$
500
 
Interest cost
   
2,316
   
2,370
 
Expected return on plan assets
   
(1,999
)
 
(1,901
)
Amortization of prior service cost
   
47
   
54
 
Recognized actuarial loss
   
4
   
7
 
Curtailment loss
   
---
   
31
 
   
 
 
Net periodic benefit cost
 
$
661
 
$
1,061
 
   
 
 

 
The Company’s net periodic benefit cost for its defined benefit plans for the periods presented below consists of the following components:

 
 
For the Periods
   
 
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Service cost
 
$
595
 
$
972
 
$
80
 
Interest cost
   
4,708
   
4,609
   
385
 
Expected return on plan assets
   
(4,064
)
 
(3,698
)
 
(184
)
Amortization of prior service cost
   
96
   
104
   
70
 
Recognized actuarial loss
   
8
   
14
   
210
 
Curtailment loss
   
---
   
61
   
65,766
 
   
 
 
 
Net periodic benefit cost
 
$
1,343
 
$
2,062
 
$
66,327
 
   
 
 
 

The Company’s net periodic benefit cost for its subsidiary’s Post Retirement Health Benefit Plan for the three months ended July 3, 2004 and July 5, 2003 consists of the following components:

 
 
For the Three Months Ended
   
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Service cost
 
$
247
 
$
251
 
Interest cost
   
608
   
556
 
Amortization of prior service cost
   
---
   
2
 
Recognized actuarial gain
   
(5
)
 
(2
)
   
 
 
Net periodic post retirement health benefit cost
   
 
$ 850
   
 
$ 807
 
   
 
 

 
The Company’s net periodic benefit cost (income) for its subsidiary’s Post Retirement Health Benefit Plan for the periods presented consists of the following components:

 
 
For the periods
   
 
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Service cost
 
$
501
 
$
488
 
$
13
 
Interest cost
   
1,237
   
1,081
   
62
 
Amortization of prior service cost
   
---
   
4
   
2
 
Recognized actuarial (gain) loss
   
(11
)
 
(4
)
 
35
 
Curtailment gain
   
---
   
---
   
(355
)
   
 
 
 
Net periodic post retirement health benefit cost (income)
   
 
$ 1,727
   
 
$ 1,569
   
 
$ (243
)
   
 
 
 

On December 8, 2003, President Bush signed into law the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (“the Act”). The Act expanded Medicare to include, for the first time, coverage for prescription drugs. The Company sponsors a retiree medical program for certain of its locations and the Company expects that this legislation will eventually reduce the Company’s cost for the program. At this point, the Company’s investigation into its response to the legislation is preliminary, as the Company awaits guidance from various governmental and regulatory agencies concerning the requirements that must be met to obtain these cost reductions as well as the manner in which such savings should be measured. Because of various uncertainties related to the Company’s response to this legislation and the appropriate accounting methodology for this event, the Com pany has elected to defer financial recognition of this legislation until the FASB issues final accounting guidance. When issued, that final guidance could require the Company to change previously reported information. This deferral election is permitted under FASB Staff Position No. FAS 106-1 until the first interim or annual period beginning after June 15, 2004.

(N)  On July 15, 2004, THL Buildco Holdings, Inc. and THL Buildco, Inc. (“THL Buildco”), newly formed Delaware corporations affiliated with Thomas H. Lee Partners, L.P., together with certain members of Holdings’ management, entered into a stock purchase agreement with affiliates of Kelso and Company, L.P. and certain other parties, pursuant to which THL Buildco agreed to purchase all of the outstanding capital stock of Holdings in a transaction valued at approximately $1.74 billion before fees and expenses (the “THL Transaction”).

The THL Transaction is subject to customary closing conditions and is expected to be consummated during the third quarter of 2004. Upon closing of the THL Transaction, certain members of management have agreed to settlement or modification of their compensation and benefit arrangements. Management has also agreed to reinvest a substantial portion of their equity interest in Holdings into THL Buildco Holdings, Inc. (see below). No significant costs related to the THL Transaction have been incurred through July 3, 2004. Holdings and Nortek expect to account for the THL Transaction as a purchase in accordance with SFAS No. 141 and Push Down Accounting rules and regulations.

In connection with the THL Transaction, THL Buildco expects to partially finance the transaction, including the redemption of substantially all of Holdings and Nortek’s existing debt, via the issuance of a combination of a new senior secured term loan and new senior subordinated debt. It is expected that the new senior secured term loan will be secured by substantially all of the assets of Nortek and its subsidiaries. Nortek also expects to enter into a $100,000,000 revolving credit facility at the closing which will be available for seasonal working capital borrowing needs and other requirements. It is expected that no borrowings under the revolving credit facility will be necessary at the closing. A summary of the estimated cash sources and uses for the THL Transaction is as follows:

Sources:
 
 
Cash equity from the Buyer and its affiliates (1)
 
$
361,300,000
 
Senior secured term loan
   
700,000,000
 
Senior subordinated notes
   
625,000,000
 
Estimated cash of the Company
   
160,400,000
 
   
 
 
 
$
1,846,700,000
 
   
 
Uses:
   
 
 
Purchase price paid to sellers
 
$
803,200,000
 
Repayment of existing debt, including interest and redemption premiums
937,700,000
 
Transaction fees, expenses and other
   
105,800,000
 
   
 
 
 
$
1,846,700,000
 
   
 

(1)    It is expected that management will reinvest up to $109,700,000 of their equity interest in Holdings into THL Buildco Holdings, Inc.

On July 20, 2004, the Company announced that it has offered to purchase for cash all of its 10% Senior Discount Notes due 2011 (approximately $370,500,000 of accreted principal as of July 3, 2004) (the “Senior Discount Notes”) and Nortek announced that it has offered to purchase for cash all of its outstanding 9.875% Senior Subordinated Notes due 2011 ($250,000,000 in principal as of July 3, 2004) (the “9.875% Notes”) and all of its outstanding Floating Rate Notes ($200,000,000 in principal as of July 3, 2004), which are both subject to the successful closing of the THL Transaction. Based upon current estimates, Holdings expects to incur a pre-tax loss from debt retirement of approximately $125,000,000 related to the repurchase of the 9.875% Notes, the Floating Rate Notes and the Senior Discount Notes in the third quarter of 2004, of which approximately $66,000,000 relat es to the Senior Discount Notes.

 
NORTEK HOLDINGS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SECOND QUARTER AND FIRST SIX MONTHS ENDED JULY 3, 2004
AND THE SECOND QUARTER AND FIRST SIX MONTHS ENDED JULY 5, 2003
 

ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Company is a diversified manufacturer of residential and commercial building products, operating within two principal segments: the Residential Building Products Segment and the Air Conditioning and Heating Products Segment. In the results of operations presented below, Unallocated includes corporate related items, intersegment eliminations and certain income and expense not allocated to reportable segments. Through its principal segments, the Company manufactures and sells, primarily in the United States, Canada and Europe, a wide variety of products for the residential and commercial construction, manufactured housing and the do-it-yourself (“DIY”) and professional remodeling and renovation markets. (As used in this report, the terms “Company” and “Holdings” refer to Nortek Holdings, Inc., together with its subsidiaries, unless the context indicates otherwise. Such terms as “Company” and “Holdings” are used for convenience only and are not intended as a precise description of any of the separate corporations, each of which manages its own affairs.)

The Residential Building Products Segment manufactures and distributes built-in products primarily for the residential new construction and DIY and professional remodeling and renovation markets. The principal products sold by the segment include:

The Air Conditioning and Heating Products Segment manufactures and sells heating, ventilating and air conditioning systems (“HVAC”) for site-built residential and manufactured housing structures, custom-designed commercial applications and standard light commercial products.

On July 15, 2004, THL Buildco Holdings, Inc. and THL Buildco, Inc. (“THL Buildco”), newly formed Delaware corporations affiliated with Thomas H. Lee Partners, L.P., together with certain members of Holdings’ management, entered into a stock purchase agreement with affiliates of Kelso and Company, L.P. and certain other parties, pursuant to which THL Buildco agreed to purchase all of the outstanding capital stock of Holdings in a transaction valued at approximately $1.74 billion before fees and expenses (the “THL Transaction”). The THL Transaction is subject to customary closing conditions and is expected to be consummated during the third quarter of 2004. No significant costs related to the THL Transaction have been incurred through July 3, 2004. Holdings and Nortek expect to account for the THL Transaction as a purchase in accordance with SFAS No. 141 and the Push Down Accounting rules and regulations.  (See "Liquidity and Capital Resources" and Note N of the Notes to the unaudited condensed consolidated Financial Statements included elsewhere herein.)

On February 12, 2004, the Company’s wholly-owned subsidiary, WDS, LLC, sold all of the capital stock of Ply Gem Industries, Inc. (“Ply Gem”). The results of operations of the operating subsidiaries of Ply Gem comprised the Company’s entire Windows, Doors and Siding Products (“WDS”) reporting segment. The corporate expenses of Ply Gem were previously included in Unallocated other, net in the Company’s segment reporting. The results of Ply Gem have been excluded from earnings from continuing operations and are classified separately as discontinued operations for all periods presented. Accordingly, for purposes of this presentation of Management’s Discussion and Analysis of Financial Condition and Results of Operations, all discussion relates to the results from continuing operations. (See Notes A and H of the Notes to the Unaudited Condensed Consol idated Financial Statements included elsewhere herein.)

On November 20, 2002, the Company was reorganized into a holding company structure and each outstanding share of capital stock of Nortek, Inc. (“Nortek”) was converted into an identical share of capital stock of Holdings, a Delaware corporation formed in 2002, with Holdings becoming the successor public company and Nortek becoming a wholly-owned subsidiary of Holdings (the “Holdings Reorganization”). On January 9, 2003, the Company completed a recapitalization transaction, which resulted in the acquisition of the Company by certain affiliates and designees of Kelso & Company L.P. (“Kelso”) and certain members of Nortek’s management (the “Recapitalization”). (See Liquidity and Capital Resources and Notes A and B of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

On March 9, 2004, the Company through its wholly owned subsidiary, Linear Corporation (“Linear”), acquired OmniMount Systems, Inc. (“OmniMount”). OmniMount is located in Phoenix, AZ and manufacturers and designs speaker mountings and other products to maximize the home theater experience. On December 15, 2003, the Company, through Linear, acquired all of the capital stock of Operator Specialty Company, Inc. (“OSCO”). OSCO is located in Casnovia, MI and manufactures and sells gate operators and door openers. On July 11, 2003, the Company through Linear, acquired SpeakerCraft, Inc. (“SPC”). SPC is located in Riverside, CA and manufactures and sells in-wall and in-ceiling speakers, amplifiers and subwoofers. On January 17, 2003, the Company through its wholly owned subsidiary, Linear, acquired Elan Home Systems L.L.C. (“Elan”). Elan is located in Le xington, KY and manufactures and sells home automation and audio video distribution equipment. These acquisitions have been accounted for under the purchase method of accounting and are included in the Company’s Residential and Building Products Segment. Accordingly, the results of OmniMount, OSCO, SPC and Elan are included in the Company’s consolidated results since the date of their acquisition. (See “Liquidity and Capital Resources” and Notes E and I of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)
 
The Company’s discussion and analysis of its financial condition and results of operations are based upon the Company’s Unaudited Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States. Certain of the Company’s accounting policies require the application of judgment in selecting the appropriate assumptions for calculating financial estimates. By their nature, these judgments are subject to an inherent degree of uncertainty. The Company periodically evaluates the judgments and estimates used for its critical accounting policies to ensure that such judgments and estimates are reasonable for its interim and year-end reporting requirements. These judgments and estimates are based on the Company’s historical experience, current trends and information available from other sources, as appropriate. If different conditions result from those assumptions used in the Company’s judgments, the results could be materially different from the Company’s estimates. The Company’s critical accounting policies include:

Further detail regarding the Company’s critical accounting policies can be found in the consolidated financial statements and the notes included in the Company's latest annual report on Form 10-K as filed with the Securities and Exchange Commission (“SEC”).

The “Results of Operations” and “Liquidity and Capital Resources” sections which follow contain various tables that are intended to assist the reader in reconciling current results with the prior period.
 
Results of Operations
The tables that follow present the unaudited net sales from continuing operations, operating earnings from continuing operations and depreciation and amortization expense from continuing operations for the Company’s principal segments for the second quarter ended July 3, 2004 and July 5, 2003, the dollar amount and percentage change of such results as compared to the prior comparable period and the percentage to net sales of operating earnings and depreciation and amortization expense for the second quarter ended July 3, 2004 and July 5, 2003:


 
 
 
 
Change in Earnings in the
 
 
          Second Quarter Ended          
Second Quarter 2004
 
 
July 3,
July 5,
         as Compared to 2003         
 
 
     2004     
     2003     
          $          
          %          
 
 
(Dollar amounts in thousands)
Net sales:
 
 
 
 
 
Residential Building Products
 
$
245,627
 
$
194,928
 
$
50,699
   
26.0
%
Air Conditioning and Heating Products
   
202,766
   
195,101
   
7,665
   
3.9
 
   
 
 
       
Consolidated net sales
 
$
448,393
 
$
390,029
 
$
58,364
   
15.0
%
   
 
 
       
Operating earnings:
   
 
   
 
   
 
   
 
 
Residential Building Products *
 
$
41,706
 
$
31,551
 
$
10,155
   
32.2
%
Air Conditioning and Heating Products *
   
16,218
   
19,016
   
(2,798
)
 
(14.7
)
   
 
 
       
Subtotal
   
57,924
   
50,567
   
7,357
   
14.5
 
Unallocated:
   
 
   
 
   
 
   
 
 
Strategic sourcing software and
   
 
   
 
   
 
   
 
 
systems development expense
   
---
   
(300
)
 
300
   
100.0
 
Stock based compensation charges
   
(2,100
)
 
(200
)
 
(1,900
)
 
950.0
 
Other, net
   
(9,232
)
 
(6,220
)
 
(3,012
)
 
(48.4
)
   
 
 
       
Consolidated operating earnings
 
$
46,592
 
$
43,847
 
$
2,745
   
6.3
%
   
 
 
       
Depreciation and amortization expense **:
   
 
   
 
   
 
   
 
 
Residential Building Products
 
$
6,407
 
$
4,165
 
$
2,242
   
53.8
%
Air Conditioning and Heating Products
   
3,996
   
2,655
   
1,341
   
50.5
 
Other
   
223
   
83
   
140
   
168.7
 
   
 
 
       
 
 
$
10,626
 
$
6,903
 
$
3,723
   
53.9
%
   
 
 
       
Operating earnings margin:
   
 
   
 
   
 
   
 
 
Residential Building Products
   
17.0
%
 
16.2
%
 
 
   
 
 
Air Conditioning and Heating Products
   
8.0
   
9.7
   
 
   
 
 
Consolidated
   
10.4
%
 
11.2
%
 
 
   
 
 
 
   
 
   
 
   
 
   
 
 
Depreciation and amortization
   
 
   
 
   
 
   
 
 
expense as a % of net sales:
   
 
   
 
   
 
   
 
 
Residential Building Products
   
2.6
%
 
2.1
%
 
 
   
 
 
Air Conditioning and Heating Products
   
2.0
   
1.4
   
 
   
 
 
Consolidated
   
2.4
%
 
1.8
%
 
 
   
 
 
 
*   The operating results of the Air Conditioning and Heating Products Segment for the three months ended July 3, 2004 and July 5, 2003 include approximately $600,000 and $1,400,000, respectively, of costs associated with the closure of certain manufacturing facilities. The operating results of the Air Conditioning and Heating Products Segment for the three months ended July 3, 2004 and July 5, 2003 also include approximately $1,800,000 and $550,000, respectively, of estimated inefficient production costs and expenses associated with the start-up of a new manufacturing facility. The operating results of the Residential Building Products Segment for the three months ended July 3, 2004 and July 5, 2003 include approximately $600,000 and $100,000, respectively, and operating results the Air Conditioning and Heating Products Segment include for the three months ended July 3, 2004 approximately $400,000 of compensation expense related to stock options issued to employees of such segments in accordance with SFAS No. 123.

**     During the three months ended July 3, 2004 and July 5, 2003, the Company reflected approximately $200,000 and $900,000, respectively, of excess purchase price allocated to inventory as a non-cash charge to cost of products sold in the Residential Building Products Segment.
 
The first six months of 2004 have been compared to the combined first six months of 2003 pre- and post-Recapitalization periods for purposes of management’s discussion and analysis of the results of operations. Any references, below, to the first six months of 2003 shall refer to the combined periods. Material fluctuations in operations resulting from the effect of purchase accounting have been highlighted.
 
 
 
Pre-Recapitalization
Post-Recapitalization
Combined Six
 
 
January 1, 2003 -
January 10, 2003
Months Ended
 
 
January 9, 2003
July 5, 2003
July 5, 2003
 
 
(Dollar amounts in thousands)
Net sales:
 
(Unaudited)
Residential Building Products
 
$
16,338
 
$
379,461
 
$
395,799
 
Air Conditioning and Heating Products
   
8,613
   
346,645
   
355,258
 
   
 
 
 
Consolidated net sales
 
$
24,951
 
$
726,106
 
$
751,057
 
   
 
 
 
Operating earnings (loss):
   
 
   
 
   
 
 
Residential Building Products
 
$
2,731
 
$
58,547
 
$
61,278
 
Air Conditioning and Heating Products
   
(1,258
)
 
35,492
   
34,234
 
   
 
 
 
Subtotal
   
1,473
   
94,039
   
95,512
 
Unallocated:
   
 
   
 
   
 
 
Expenses and charges arising
   
 
   
 
   
 
 
from the Recapitalization
   
(83,000
)
 
---
   
(83,000
)
Strategic sourcing software and
   
 
   
 
   
 
 
systems development expense
   
(100
)
 
(1,700
)
 
(1,800
)
Stock based compensation charges
   
---
   
(800
)
 
(800
)
Other, net
   
(138
)
 
(13,168
)
 
(13,306
)
   
 
 
 
Consolidated operating earnings (loss)
 
$
(81,765
)
$
78,371
 
$
(3,394
)
   
 
 
 
Depreciation and amortization expense:
   
 
   
 
   
 
 
Residential Building Products
 
$
348
 
$
10,583
 
$
10,931
 
Air Conditioning and Heating Products
   
290
   
5,745
   
6,035
 
Other
   
15
   
193
   
208
 
   
 
 
 
 
 
$
653
 
$
16,521
 
$
17,174
 
   
 
 
 
Operating earnings (loss) margin:
   
 
   
 
   
 
 
Residential Building Products
   
16.7
%
 
15.4
%
 
15.5
%
Air Conditioning and Heating Products
   
(14.6
)
 
10.2
   
9.6
 
Consolidated
   
(327.7
)%
 
10.8
%
 
(0.5)
%
 
   
 
   
 
   
 
 
Depreciation and amortization
   
 
   
 
   
 
 
expense as a % of net sales:
   
 
   
 
   
 
 
Residential Building Products
   
2.1
%
 
2.8
%
 
2.8
%
Air Conditioning and Heating Products
   
3.4
   
1.7
   
1.7
 
Consolidated
   
2.6
%
 
2.3
%
 
2.3
%
 
The tables that follow present the unaudited net sales from continuing operations, operating earnings from continuing operations and depreciation and amortization expense from continuing operations for the Company’s principal segments for the first six months ended July 3, 2004 and the combined period ended July 5, 2003, the dollar amount and percentage change of such results as compared to the prior comparable period and the percentage to net sales of operating earnings and depreciation and amortization expense for the first six months ended July 3, 2004 and the combined period ended July 5, 2003:
 
 
 
 
 
Change in Earnings in the
 
 
          Six Months Ended          
First Six Months 2004
 
 
July 3,
July 5,
            as Compared to 2003            
 
 
          2004          
        2003 (1)         
               $               
               %               
 
 
(Dollar amounts in thousands)
Net sales:
 
 
 
 
 
Residential Building Products
 
$
482,148
 
$
395,799
 
$
86,349
   
21.8
%
Air Conditioning and Heating Products
   
373,688
   
355,258
   
18,430
   
5.2
 
   
 
 
       
Consolidated net sales
 
$
855,836
 
$
751,057
 
$
104,779
   
14.0
%
   
 
 
       
Operating earnings (loss):
   
 
   
 
   
 
   
 
 
Residential Building Products *
 
$
81,714
 
$
61,278
 
$
20,436
   
33.3
%
Air Conditioning and Heating Products *
   
25,290
   
34,234
   
(8,944
)
 
(26.1
)
   
 
 
       
Subtotal
   
107,004
   
95,512
   
11,492
   
12.0
 
Unallocated:
   
 
   
 
   
 
   
 
 
Expenses and charges arising
   
 
   
 
   
 
   
 
 
from the Recapitalization
   
---
   
(83,000
)
 
83,000
   
100.0
 
Strategic sourcing software and
   
 
   
 
   
 
   
 
 
systems development expense
   
---
   
(1,800
)
 
1,800
   
100.0
 
Stock based compensation charges
   
(2,300
)
 
(800
)
 
(1,500
)
 
187.5
 
Other, net
   
(16,637
)
 
(13,306
)
 
(3,331
)
 
(25.0
)
   
 
 
       
Consolidated operating earnings (loss)
 
$
88,067
 
$
(3,394
)
$
91,461
   
2,694.8
%
   
 
 
       
Depreciation and amortization expense: **
   
 
   
 
   
 
   
 
 
Residential Building Products
 
$
11,881
 
$
10,931
 
$
950
   
8.7
%
Air Conditioning and Heating Products
   
7,722
   
6,035
   
1,687
   
28.0
 
Other
   
305
   
208
   
97
   
46.6
 
   
 
 
       
 
 
$
19,908
 
$
17,174
 
$
2,734
   
15.9
%
   
 
 
       
Operating earnings margin:
   
 
   
 
   
 
   
 
 
Residential Building Products
   
16.9
%
 
15.5
%
 
 
   
 
 
Air Conditioning and Heating Products
   
6.8
   
9.6
   
 
   
 
 
Consolidated
   
10.3
%
 
(0.5
)%
 
 
   
 
 
 
   
 
   
 
   
 
   
 
 
Depreciation and amortization
   
 
   
 
   
 
   
 
 
expense as a % of net sales:
   
 
   
 
   
 
   
 
 
Residential Building Products
   
2.5
%
 
2.8
%
 
 
   
 
 
Air Conditioning and Heating Products
   
2.1
   
1.7
   
 
   
 
 
Consolidated
   
2.3
%
 
2.3
%
 
 
   
 
 
 
(1)    The six months ended July 5, 2003 represents the combined pre- and post-Recapitalization periods of January 1, 2003 through January 9, 2003 and January 10, 2003 through July 5, 2003, respectively.

*   The operating results of the Air Conditioning and Heating Products Segment for the first six months ended July 3, 2004 include approximately $1,900,000 of costs associated with the closure of certain manufacturing facilities and approximately $5,900,000 of estimated inefficient production costs and expenses associated with the start-up of a new manufacturing facility. The operating results of the Air Conditioning and Heating Products Segment for the period from January 10, 2003 to July 5, 2003 include approximately $1,400,000 of costs associated with the closure of certain manufacturing facilities and approximately $550,000 of costs and expenses associated with the startup of a new manufacturing facility. There were no costs recorded in the period from January 1, 2003 to January 9, 2003 related to the closure of certain manufacturing facilities within the Air Conditioning and Heating Products Segment. The operating results of the Residential Building Products Segment for the six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003 include approximately $600,000 and $100,000, respectively, of compensation expense related to stock options issued to employees of this segment in accordance with SFAS No. 123 and the operating results of the Air Conditioning and Heating Products Segment for the six months ended July 3, 2004 include approximately $400,000 of compensation expense related to stock options issued to employees of this segment in accordance with SFAS No. 123.

**   During the six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003, the Company reflected approximately $200,000 and $4,900,000, respectively, of excess purchase price allocated to inventory as a non-cash charge to cost of products sold. In the first six months ended July 3, 2004, all $200,000 was allocated to the Residential Buildings Products Segment and for the period from January 10, 2003 to July 5, 2003, approximately $4,300,000 was allocated to the Residential Building Products Segment and approximately $600,000 was allocated to the Air Conditioning and Heating Products Segment.
 
The tables that follow set forth, for the periods presented, (a) certain unaudited consolidated operating results, (b) the change in the amount and the percentage change of such results as compared to the prior comparable period, (c) the percentage which such results bear to net sales, and (d) the change of such percentages as compared to the prior comparable period. The results of operations for the second quarter ended July 3, 2004 are not necessarily indicative of the results of operations to be expected for any other interim period or the full year.
 
 
 
 
 
Change in Earnings in
 
 
        Second Quarter Ended        
the Second Quarter 2004
 
 
July 3,
July 5,
          as Compared to 2003          
 
 
          2004          
          2003          
                $               
               %               
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
Net sales
 
$
448.4
 
$
390.0
 
$
58.4
   
15.0
%
Cost of products sold
   
316.4
   
280.7
   
(35.7
)
 
(12.7
)
Selling, general and administrative expenses, net
   
81.9
   
63.4
   
(18.5
)
 
(29.2
)
Amortization of intangible assets
   
3.5
   
2.0
   
(1.5
)
 
(75.0
)
   
 
 
       
Operating earnings
   
46.6
   
43.9
   
2.7
   
(6.2
)
Interest expense
   
(18.4
)
 
(12.7
)
 
(5.7
)
 
(44.9
)
Investment income
   
0.3
   
0.3
   
---
   
---
 
   
 
 
       
Earnings from continuing operations
   
 
   
 
   
 
   
 
 
before provision for income taxes
   
28.5
   
31.5
   
(3.0
)
 
(9.5
)
Provision for income taxes
   
11.8
   
13.0
   
(1.2
)
 
(9.2
)
   
 
 
       
Earnings from continuing operations
   
16.7
   
18.5
   
(1.8
)
 
(9.7
)
Earnings (loss) from discontinued operations
   
(0.8
)
 
7.4
   
(8.2
)
 
*
 
   
 
 
       
Net earnings
 
$
15.9
 
$
25.9
 
$
(10.0
)
 
(38.6)
%
   
 
 
       


 
 
Percentage of Net Sales
Change in Percentage
 
 
Second Quarter Ended
for the Second
 
 
July 3,
July 5,
Quarter 2004
 
 
          2004          
        2003 (1)        
          as Compared to 2003          
Net sales
   
100.0
%
 
100.0
%
 
---
 
 
 
Cost of products sold
   
70.6
   
72.0
   
1.4
   
 
 
Selling, general and administrative expenses, net
   
18.3
   
16.3
   
(2.0
 
 
 
Amortization of intangible assets
   
0.8
   
0.5
   
(0.3
 )  
 
 
   
 
   
  
   
Operating earnings
   
10.3
   
11.2
   
(0.9
 
 
 
Interest expense
   
(4.1
)
 
(3.3
)
 
(0.8
 )  
 
 
Investment income
   
0.1
   
0.1
   
0.0
   
 
 
   
 
   
  
   
Earnings from continuing operations
   
 
   
 
   
 
   
 
 
before provision for income taxes
   
6.3
   
8.0
   
(1.7
 
 
 
Provision for income taxes
   
2.6
   
3.3
   
(0.7
 )  
 
 
   
 
   
  
   
Earnings from continuing operations
   
3.7
   
4.6
   
(0.9
 
 
 
Earnings (loss) from discontinued operations
   
(0.2
)
 
1.9
   
(2.1
 )  
 
 
   
 
   
  
   
Net earnings
   
3.5
%
 
6.5
%
 
(3.0
)%  
 
 
   
 
   
  
   
 
The first six months of 2004 have been compared to the combined first six months of 2003 pre- and post-Recapitalization periods for purposes of management’s discussion and analysis of the results of operations. Any references, below, to the first six months of 2003 shall refer to the combined periods. Material fluctuations in operations resulting from the effect of purchase accounting have been highlighted.
 
 
 
Pre-Recapitalization
Post-Recapitalization
Combined Six
 
 
Jan. 1, 2003 -
Jan. 10, 2003 -
Months Ended
 
 
Jan. 9, 2003
July 5, 2003
July 5, 2003
 
 
(Dollar amounts in millions)
 
 
(Unaudited)
 
 
 
 
 
Net sales
 
$
24.9
 
$
726.1
 
$
751.0
 
Cost of products sold
   
18.6
   
520.4
   
539.0
 
Selling, general and administrative expenses, net
   
5.0
   
123.5
   
128.5
 
Amortization of intangible assets
   
0.1
   
3.8
   
3.9
 
Expenses and charges arising from the
   
 
   
 
   
 
 
Recapitalization
   
83.0
   
---
   
83.0
 
   
 
 
 
Operating earnings (loss)
   
(81.8
)
 
78.4
   
(3.4
)
Interest expense
   
(1.0
)
 
(29.5
)
 
(30.5
)
Investment income
   
0.1
   
0.7
   
0.8
 
   
 
 
 
Earnings (loss) before provision (benefit) for
   
 
   
 
   
 
 
income taxes
   
(82.7
)
 
49.6
   
(33.1
)
Provision (benefit) for income taxes
   
(21.8
)
 
20.1
   
(1.7
)
   
 
 
 
Earnings (loss) from continuing operations
   
(60.9
)
 
29.5
   
(31.4
)
Earnings (loss) from discontinued operations
   
(1.0
)
 
1.9
   
0.9
 
   
 
 
 
Net earnings (loss)
 
$
(61.9
)
$
31.4
 
$
(30.5
)
   
 
 
 
 
 
 
 

                         Percentage of Net Sales                         

 
   
Pre-Recapitalization 
   
Post-Recapitalization
   
Combined Six
 
 
   
Jan. 1, 2003 -  
   
Jan. 10, 2003 -
   
Months Ended
 
 
   
Jan. 9, 2003 
   
July 5, 2003
   
July 5, 2003
 
 
   
 
   
 
   
 
 
Net sales
   
100.0
%
 
100.0
%
 
100.0
%
Cost of products sold
   
74.7
   
71.7
   
71.8
 
Selling, general and administrative expenses, net
   
20.1
   
17.0
   
17.1
 
Amortization of intangible assets
   
0.4
   
0.5
   
0.5
 
Expenses and charges arising from the
   
 
   
 
   
 
 
Recapitalization
   
333.3
   
-
   
11.1
 
   
 
 
 
Operating earnings (loss)
   
(328.5
)
 
10.8
   
(0.5
)
Interest expense
   
(4.0
)
 
(4.1
)
 
(4.0
)
Investment income
   
0.4
   
0.1
   
0.1
 
   
 
 
 
Earnings (loss) before provision (benefit) for
   
 
   
 
   
 
 
income taxes
   
(332.1
)
 
6.8
   
(4.4
)
Provision (benefit) for income taxes
   
(87.5
)
 
2.8
   
(0.2
)
   
 
 
 
Earnings (loss) from continuing operations
   
(244.6
)
 
4.0
   
(4.2
)
Earnings (loss) from discontinued operations
   
(4.0
)
 
0.3
   
0.1
 
   
 
 
 
Net earnings (loss)
   
(248.6
)%
 
4.3
%
 
(4.1
)%
   
 
 
 
 
The tables that follow set forth, for the periods presented, (a) certain unaudited consolidated operating results, (b) the change in the amount and the percentage change of such results as compared to the prior comparable period, (c) the percentage which such results bear to net sales, and (d) the change of such percentages as compared to the prior comparable period. The results of operations for the first six months ended July 3, 2004 are not necessarily indicative of the results of operations to be expected for any other interim period or the full year.
 
 
 
 
 
Change in Earnings in the
 
 
          First Six Months Ended          
First Six Months 2004
 
 
July 3,
July 5,
          as Compared to 2003          
 
 
          2004          
          2003 (1)         
                $               
               %               
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
Net sales
 
$
855.8
 
$
751.0
 
$
104.8
   
14.0
%
Cost of products sold
   
605.1
   
539.0
   
(66.1
)
 
(12.3
)
Selling, general and administrative expenses, net
   
155.8
   
128.5
   
(27.3
)
 
(21.2
)
Amortization of intangible assets
   
6.8
   
3.9
   
(2.9
)
 
(74.4
)
Expenses and charges arising from the
   
 
   
 
   
 
   
 
 
Recapitalization
   
---
   
83.0
   
83.0
   
100.0
 
   
 
 
       
Operating earnings (loss)
   
88.1
   
(3.4
)
 
91.5
   
 
Interest expense
   
(44.0
)
 
(30.5
)
 
(13.5
)
 
(44.3
)
Loss from debt retirement
   
(11.9
)
 
---
   
(11.9
)
 
*
 
Investment income
   
1.2
   
0.8
   
0.4
   
50.0
 
   
 
 
       
Earnings (loss) from continuing operations
   
 
   
 
   
 
   
 
 
before provision (benefit) for income taxes
   
33.4
   
(33.1
)
 
66.5
   
200.9
 
Provision (benefit) for income taxes
   
13.8
   
(1.7
)
 
15.5
   
 
   
 
 
       
Earnings (loss) from continuing operations
   
19.6
   
(31.4
)
 
51.0
   
162.4
 
Earnings from discontinued operations
   
67.4
   
0.9
   
66.5
   
*
 
   
 
 
       
Net earnings (loss)
 
$
87.0
 
$
(30.5
)
$
117.5
   
385.2
%
   
 
 
       
 

 
 
Percentage of Net Sales
Change in Percentage
 
 
         First Six Months Ended          
for the First
 
 
July 3,
July 5,
Six Months 2004
 
 
          2004          
       2003 (1)       
          as Compared to 2003          
 
 
 
 
 
 
Net sales
   
100.0
%
 
100.0
%
 
---
 
 
 
Cost of products sold
   
70.7
   
71.8
   
1.1
   
 
 
Selling, general and administrative expenses, net
   
18.2
   
17.1
   
(1.1
 
 
 
Amortization of intangible assets
   
0.8
   
0.5
   
(0.3
)  
 
 
Expense and charges arising from the
   
 
   
 
   
 
   
 
 
Recapitalization
   
---
   
11.1
   
11.1
   
 
 
   
 
   
  
   
Operating earnings (loss)
   
10.3
   
(0.5
)
 
10.8
   
 
 
Interest expense
   
(5.1
)
 
(4.0
)
 
(1.1
 
 
 
Loss from debt retirement
   
(1.4
)
 
---
   
(1.4
 
 
 
Investment income
   
0.1
   
0.1
   
-
   
 
 
   
 
   
  
   
Earnings (loss) from continuing operations
   
 
   
 
   
 
   
 
 
before provision (benefit) for income taxes
   
3.9
   
(4.4
)
 
8.3
   
 
 
Provision (benefit) for income taxes
   
1.6
   
(0.2
)
 
1.8
   
 
 
   
 
   
  
   
Earnings (loss) from continuing operations
   
2.3
   
(4.2
)
 
6.5
   
 
 
Earnings from discontinued operations
   
7.9
   
0.1
   
7.8
   
 
 
   
 
   
  
   
Net earnings (loss)
   
10.2
%
 
(4.1)
%
 
14.3
 
 
 
   
 
   
  
   
 
(1)    The six months ended July 5, 2003 represents the combined pre- and post-Recapitalization periods of January 1, 2003 through January 9, 2003 and January 10, 2003 through July 5, 2003, respectively.
 
*    not meaningful
 
The Company’s segments have a significant number of different products across a wide range of price points and numerous distribution channels that do not always allow meaningful quantitative analysis to be performed with respect to the effect on net sales of changes in units sold or the price per unit sold. The Company however, does ensure that whenever the underlying causes of material increases or decreases in consolidated net sales can be adequately analyzed and quantified, that appropriate disclosure of such reasons, including changes in price, volume and the mix of products sold is made.

Consolidated net sales from continuing operations increased approximately $58,400,000 or 15.0% for the second quarter of 2004 as compared to the second quarter of 2003 and increased approximately $104,800,000 or 14.0% for the first six months of 2004 as compared to the first six months of 2003. Net sales increased for the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 as a result of the effect of changes in foreign currency exchange rates, the acquisitions of Elan, SPC, OSCO and OmniMount in the Residential Building Products Segment, as well as, price increases and higher net sales volume.

In the Residential Building Products Segment, net sales increased approximately $50,700,000 or 26.0% for the second quarter of 2004 as compared to the second quarter of 2003 and increased approximately $86,300,000 or 21.8% for the first six months of 2004 as compared to the first six months of 2003. The second quarter and first six months of 2004 include increases of approximately $3,200,000 and $11,000,000, respectively, attributable to the effect of changes in foreign currency exchange rates and approximately $21,900,000 and $37,300,000, respectively, attributable to the acquisitions of Elan in January of 2003, SPC in July of 2003, OSCO in December of 2003 and OmniMount in March of 2004. The increase in net sales volume in the Residential Building Products Segment in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 was primarily due to increased volume of bathroom exhaust fans and range hoods as a result of the ongoing stability in the residential housing construction and remodeling markets and from the introduction of new products. To a lesser extent, net sales increased due to sales price increases.

In the Air Conditioning and Heating Products Segment, net sales increased approximately $7,700,000 or 3.9% for the second quarter of 2004 as compared to the second quarter of 2003 and increased approximately $18,500,000 or 5.2% for the first six months of 2004 as compared to the first six months of 2003. The second quarter and first six months of 2004 include increases of approximately $1,900,000 and $5,800,000, respectively, attributable to the effect of changes in foreign currency exchange rates. Net sales in the Air Conditioning and Heating Products Segment for HVAC products sold to residential site-built customers constituted the largest category of product sold to a particular group of customers within this segment in the second quarter and first six months of 2004 and increased approximately 4.2% over the second quarter of 2003 and increased approximately 7.1% over the first six months of 2003. The increase in net sales in this Segment in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 was due principally to continued growth from this segment's brand-name strategy of HVAC products sold to customers serving the residential site built market. To a lesser extent, net sales increased due to sales price increases. These increases were partially offset by the general slowdown in commercial construction activity, which reduced sales of the Company’s commercial HVAC products by less than 1% before considering the effect of foreign exchange as continued softness is being experienced by this industry. The Company does not believe that it will see any meaningful recovery in the manufactured housing and commercial HVAC markets in 2004.

Overall, increases in sales levels in the second quarter and first six months of 2004 reflect the ongoing stability of the housing construction and remodeling markets and our expanded branding effort in our line of air conditioning and heating products, partially offset by a slight decrease in net sales of certain products affected by the general slowdown in commercial construction activity and the continued softness in the manufactured housing market. For the second quarter of 2004 and 2003, the Company’s net sales to customers serving the manufactured housing markets, principally consisting of air conditioners and furnaces, constituted approximately 6.9% and 7.3%, respectively, of the Company’s consolidated net sales and for the first six months of 2004 and 2003, the Company’s net sales to customers serving the manufactured housing markets, principally consisting of air conditio ners and furnaces, constituted approximately 6.5% and 7.1%, respectively, of the Company’s consolidated net sales.

Cost of products sold was approximately $316,400,000 and $605,100,000 for the second quarter and first six months of 2004, respectively, as compared to approximately $280,700,000 and $539,000,000 for the second quarter and first six months of 2003, respectively. Cost of products sold, as a percentage of net sales, decreased from approximately 72.0% in the second quarter of 2003 to approximately 70.6% in the second quarter of 2004 and decreased from approximately 71.8% in the first six months of 2003 to approximately 70.7% in the first six months of 2004. Cost of products sold for the second quarter and first six months of 2004 includes (1) approximately $12,400,000 and $20,900,000, respectively, of cost of products sold from the acquisitions of Elan, SPC, OSCO and OmniMount, (2) approximately $600,000 and $1,900,000, respectively, of severance and other costs associated with the closure of certa in manufacturing facilities, (3) approximately $1,800,000 and $5,900,000, respectively, of estimated inefficient production costs and expenses associated with the start-up of a new manufacturing facility, (4) approximately $3,300,000 and $4,900,000, respectively, of increased depreciation expense of property, plant and equipment in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 arising from finalizing the fair value adjustments in the fourth quarter of 2003 as a result of the Recapitalization, (5) an increase of approximately $4,000,000 and $13,100,000, respectively, related to the effect of changes in foreign currency exchange rates and (6) a non-cash charge of approximately $200,000 for the second quarter and first six months of 2004 related to the amortization of purchase price allocated to inventory as a result of the OmniMount acquisition. Cost of products sold for the second quarter and first six months of 2003 include a non-cash charge of approximately $900,000 and $4,900,000, respectively, primarily related to the amortization of purchase price allocated to inventory as a result of the Recapitalization, approximately $1,400,000 of severance and other costs associated with the closure of certain manufacturing facilities and approximately $550,000 of costs and expenses associated with the startup of a new manufacturing facility.
 
In the Residential Building Products Segment, cost of products sold for the second quarter and first six months of 2004 was approximately $156,700,000 and $306,000,000, respectively, as compared to approximately $129,000,000 and $264,800,00 in the second quarter and first six months of 2003, respectively. Cost of products sold in this segment for the second quarter and first six months of 2004 includes (1) approximately $12,400,000 and $20,900,000, respectively, of cost of products sold from the acquisitions of Elan, SPC, OSCO and OmniMount, (2) approximately $2,100,000 and $2,700,000, respectively, of increased depreciation expense of property, plant and equipment in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 arising from finalizing the fair value adjustments in the fourth quarter of 2003 as a result of the Recapitalization, (3 ) an increase of approximately $2,500,000 and $8,300,000, respectively, related to the effect of changes in foreign currency exchange rates and (4) a non-cash charge of approximately $200,000 for the second quarter and first six months of 2004 related to the amortization of purchase price allocated to inventory as a result of the OmniMount acquisition. Cost of products sold in this segment for the second quarter and first six months of 2003 include approximately $900,000 and $4,300,000, respectively, related to the amortization of purchase price allocated to inventory related primarily to the Recapitalization.

In the Air Conditioning and Heating Products Segment cost of products sold in the second quarter and first six months of 2004 was approximately $159,800,000 and $299,100,000, respectively, as compared to approximately $151,700,000 and $274,200,000, respectively, in the second quarter and first six months of 2003. Cost of products sold in this segment in the second quarter and first six months of 2004 includes (1) an increase of approximately $1,500,000 and $4,800,000, respectively, related to the effect of changes in foreign currency exchange rates, (2) approximately $600,000 and $1,900,000, respectively, of costs associated with the closure of certain manufacturing facilities, (3) approximately $1,800,000 and $5,900,000, respectively, of estimated inefficient production costs and expenses associated with the start-up of a new manufacturing facility and (4) approximately $1,200,000 and $2,200,00 0, respectively, of increased depreciation expense of property, plant and equipment in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 arising from finalizing the fair value adjustments in the fourth quarter of 2003 as a result of the Recapitalization. Cost of products sold in this segment for the second quarter and first six months of 2003 include approximately $1,400,000 of severance and other costs associated with the closure of certain manufacturing facilities, approximately $550,000 of costs and expenses associated with the startup of a new manufacturing facility and also includes in the first six months of 2003 a non-cash charge of approximately $600,000 related to the amortization of purchase price allocated to inventory related to the Recapitalization. There were no additional charges to cost of products sold in this segment related to the amortization of purchase price allocated to inventory related to the Recapitalization in 2004 and th e second quarter of 2003.

Material costs were approximately 44.7% and 45.4% of net sales for the second quarter of 2004 and 2003, respectively and were approximately 44.0% and 44.5% of net sales for the first six months of 2004 and 2003, respectively. Both of the Company’s segments experienced material cost increases related primarily to purchases of steel, copper and aluminum in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003. These cost increases were offset by the effect of increased sales prices of certain of the Company’s products and material cost improvements due to the Company’s strategic sourcing initiatives.

Overall, changes in the cost of products sold as a percentage of net sales for one period as compared to another period may reflect a number of factors including changes in the relative mix of products sold, the effect of changes in sales prices, material costs and changes in productivity levels.

Selling, general and administrative expense (“SG&A”) was approximately $81,900,000 and $155,800,000 for the second quarter and first six months of 2004, respectively, as compared to approximately $63,400,000 and $128,500,000 for the second quarter and first six months of 2003, respectively. SG&A as a percentage of net sales increased from approximately 16.3% in the second quarter of 2003 to approximately 18.2% in the second quarter of 2004 and from approximately 17.1% in the first six months of 2003 to approximately 18.2% in the first six months of 2004. SG&A in the second quarter and first six months of 2004 includes (1) approximately $5,600,000 and $10,600,000, respectively, of SG&A from the acquisitions of Elan, SPC, OSCO and OmniMount in the Residential Building Products Segment, (2) approximately $3,100,000 (of which approximately $2,100,000 is included in unalloca ted) and $3,300,000 (of which approximately $2,300,000 is included in unallocated), respectively, of stock based compensation expense and (3) increases of approximately $700,000 and $2,600,000, respectively, related to the effect of changes in foreign currency exchange rates. Approximately $400,000 and $1,600,000 of the increase in SG&A related to the effect of changes in foreign currency exchange is included in the Residential Building Products Segment in the second quarter and first six months of 2004, respectively, and approximately $300,000 and $1,000,000 of the increase in SG&A related to the effect of foreign currency exchange rates is included in the Air Conditioning and Heating Products Segment for the second quarter and first six months of 2004, respectively. SG&A in the second quarter of 2004 includes a non-cash foreign exchange gain of approximately $100,000, included in the Residential Building Products Segment and in the first six months of 2004 includes a non-cash foreign exchange l oss of approximately $500,000 on intercompany debt not permanently invested between the Company’s subsidiaries, of which approximately $300,000 is included in the Residential Building Products Segment and $200,000 is included in unallocated. SG&A in the second quarter and first six months of 2003 includes approximately $300,000 and $1,800,000, respectively, of direct expenses and fees associated with the Company’s strategic sourcing software and systems development and approximately $200,000 and $900,000 (of which approximately $800,000 is included in unallocated), respectively, of stock based compensation from adopting SFAS No. 123. The direct expenses and fees associated with the Company’s strategic sourcing software and systems development, as well as the stock based compensation charges for the second quarter of 2003, are set-forth separately in the segment data. The second quarter and first six months of 2003 includes a non-cash foreign exchange loss of approximately $600,000 and $700 ,000, respectively, on intercompany debt not permanently invested between the Company’s subsidiaries, all of which is included in unallocated. The increase in the percentage in the second quarter and first six months of 2004 is principally due to acquisitions in the Residential Building Products Segment, which have a substantially higher level of SG&A than the overall segment.

Amortization of intangible assets, as a percentage of net sales from continuing operations, increased from approximately 0.5% in the second quarter and first six months of 2003 to approximately 0.8% in the second quarter and first six months of 2004. This increase in the second quarter and first six months of 2004 is principally as a result of approximately $1,600,000 and $3,200,000, respectively, of increased amortization of intangible assets in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 arising from finalizing the fair value adjustments in the fourth quarter of 2003 related to the Recapitalization. Approximately $1,300,000 and $2,600,000 of this increase relates to the Residential Building Products Segment in the second quarter and first six months of 2004, respectively, and approximately $300,000 and $600,000 of this increase relates to the Air Conditioning and Heating Products Segment in the second quarter and first six months of 2004, respectively. (See Note A of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

Expenses and charges arising from the Recapitalization were approximately $83,000,000 in the first six months of 2003. See Liquidity and Capital Resources and Notes A, B and F of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein, for further discussion of these expenses and charges.

Consolidated operating earnings increased by approximately $2,700,000 from approximately $43,900,000, or 11.2% as a percent of net sales, in the second quarter of 2003 to approximately $46,600,000, or 10.4% as a percent of net sales, in the second quarter of 2004 and increased by approximately $91,500,000 from a loss of approximately $3,400,000, or 0.5% as a percent of net sales, in the first six months of 2003 to earnings of approximately $88,100,000, or 10.3% as a percent of net sales, in the first six months of 2004 as a result of the factors discussed above.

Consolidated operating earnings have been reduced by depreciation and amortization expense (other than amortization of deferred debt expense and debt premium and discount) of approximately $10,600,000 and $6,900,000 for the second quarter of 2004 and 2003, respectively and by approximately $19,900,000 and $17,200,000 for the first six months of 2004 and 2003, respectively. Acquisitions accounted for approximately $200,000 and $300,000 of the increase in such depreciation and amortization expense in the second quarter and first six months of 2004, respectively. Consolidated operating earnings in the second quarter and first six months of 2004 include approximately $3,300,000 and $4,900,000, respectively, of increased depreciation expense of property, plant and equipment and approximately $1,600,000 and $3,200,000, respectively, of increased amortization of intangible assets in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 arising from finalizing the fair value adjustments of each in the fourth quarter of 2003 related to the Recapitalization. Consolidated operating earnings for the second quarter and first six months of 2004 include approximately $200,000 of amortization expense from purchase price allocated to inventory as a result of the OmniMount acquisition and consolidated operating earnings for the second quarter and first six months of 2003 include approximately $900,000 and $4,900,000, respectively, of amortization expense from purchase price allocated to inventory. Consolidated operating earnings for the second quarter of 2004 include a non-cash foreign exchange gain of approximately $100,000 and operating earnings for the first six months of 2004 include a non-cash foreign exchange loss of approximately $500,000 on intercompany debt not permanently invested between the Company’s subsidiaries. For the second quarter and first six months of 2003 operating earnings include a non-cash foreign exchange gain of approximately $600,000 and $700,000, respectively, on intercompany debt not permanently invested.

Operating earnings of the Residential Building Products Segment in the second quarter and first six months of 2004 were approximately $41,700,000 and $81,700,000, respectively, as compared to approximately $31,600,000 and $61,300,000 in the second quarter and first six months of 2003, respectively. Operating earnings of this segment in the second quarter and first six months of 2004 include (1) an increase of approximately $300,000 and $1,100,000, respectively, from the effect of foreign currency exchange rates, (2) approximately $4,000,000 and $5,900,000, respectively, of operating earnings contributed by the acquisitions of Elan, SPC, OSCO and OmniMount, (3) approximately $2,100,000 and $2,700,000, respectively, of increased depreciation expense of property, plant and equipment and approximately $1,300,000 and $2,600,000, respectively, of increased amortization of intangible assets in the seco nd quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 from finalizing the fair value adjustments of each in the fourth quarter of 2003 as a result of the Recapitalization, (4) approximately $600,000 in the second quarter and first six months of 2004 of stock-based compensation charges, (5) a non-cash charge of approximately $200,000 for the second quarter and first six months of 2004 related to the amortization of purchase price allocated to inventory as a result of the OmniMount acquisition and (6) a non-cash foreign exchange gain of approximately $100,000 and a non-cash foreign exchange loss of approximately $300,000, for the second quarter and first six months of 2004, respectively, on intercompany debt not permanently invested between the Company’s subsidiaries. Operating earnings of this segment in the second quarter and first six months of 2003 include approximately $900,000 and $4,300,000, respectively, of amortization expense from purchase price a llocated to inventory related to the Recapitalization and approximately $100,000 of stock-based compensation charge in the second quarter and first six months of 2003. The increase in operating earnings in the Residential Building Products Segment in the second quarter and first six months of 2004 was primarily as a result of increased sales volume, principally bathroom exhaust fans and kitchen range hoods, due to the continued stability of new home construction and remodeling markets.

Operating earnings of the Air Conditioning and Heating Products Segment were approximately $16,200,000 and $25,300,000 in the second quarter and first six months of 2004, respectively, as compared to approximately $19,000,000 and $34,200,000 in the second quarter and first six months of 2003, respectively. Operating earnings of this segment in the second quarter and first six months of 2004 include (1) approximately $600,000 and $1,900,000, respectively, of costs associated with the closure of certain manufacturing facilities, (2) approximately $1,800,000 and $5,900,000, respectively, of estimated inefficient production costs and expenses associated with the start-up of a new manufacturing facility, (3) a decrease of approximately $100,000 from the effect of foreign currency exchange rates in the first six months of 2004, (4) approximately $1,200,000 and $2,200,000, respectively, of increased de preciation expense of property, plant and equipment and approximately $300,000 and $600,000, respectively, of increased amortization of intangible assets in the second quarter and first six months of 2004 as compared to the second quarter and first six months of 2003 from finalizing the fair value adjustments of each in the fourth quarter of 2003 related to the Recapitalization and (5) approximately $400,000 in the second quarter and first six months of 2004 of stock-based compensation charges. Operating earnings of this segment in the second quarter and first six months of 2003 include approximately $1,400,000 of costs associated with the closure of certain manufacturing facilities, approximately $550,000 of costs and expenses associated with the startup of a new manufacturing facility and in the first six months of 2004 include approximately $600,000 of amortization expense from purchase price allocated to inventory related to the Recapitalization. The decrease in operating earnings in the Air Conditioning and Heating Products Segment in the second quarter and first six months of 2004 was principally due to the general slowdown in the manufactured housing markets of certain product lines, as well as, costs in the residential sector related to the relocation of production to new manufacturing facilities and lower levels of efficiency and productivity related to the ramp up of production, partially offset by increased shipments of products to customers serving the residential site built market.

The operating expense in Unallocated was approximately $11,300,000 and $18,900,000 for the second quarter and first six months of 2004, respectively, as compared to approximately $6,700,000 and $98,900,000 in the second quarter and first six months of 2003, respectively. Operating expense in Unallocated for the second quarter and first six months of 2004 includes approximately $2,100,000 and $2,300,000, respectively, of stock-based compensation charges and a non-cash foreign exchange loss of approximately $200,000 in the first six months of 2004 on intercompany debt not permanently invested between the Company’s subsidiaries. Operating expense in Unallocated for the second quarter and first six months of 2003 includes approximately $200,000 and $800,000, respectively, of stock-based compensation charges, approximately $300,000 and $1,800,000, respectively, of direct expenses and fees associ ated with the Company’s strategic sourcing software and systems development. The second quarter and first six months of 2003 includes a non-cash foreign exchange loss of approximately $600,000 and $700,000, respectively, on intercompany debt not permanently invested between the Company’s subsidiaries. Operating expense in Unallocated for the first six months of 2003 also includes approximately $83,000,000 of fees and expenses associated with the Recapitalization.

Operating earnings of foreign operations, consisting primarily of the results of operations of the Company's Canadian and European subsidiaries were approximately 9.6% and 4.8% of operating earnings (before unallocated and corporate expense) in the second quarter of 2004 and 2003, respectively, and were approximately 10.2% and 4.6% in the first six months of 2004 and 2003, respectively. Sales and earnings derived from international markets are subject to, among others, the risks of currency fluctuations.

Interest expense increased approximately $5,700,000 or approximately 44.9% in the second quarter of 2004 as compared to the second quarter of 2003 and increased approximately $13,500,000 or approximately 44.3% in the first six months of 2004 as compared to the first six months of 2003. The increase in interest expense in the second quarter and first six months is primarily due to approximately $9,100,000 and $18,100,000 related to the Company’s $515,000,000 aggregate principal amount at maturity ($340,000,000 gross proceeds) of its 10% Senior Discount Notes due May 15, 2011 (“Senior Discount Notes”) that were issued in the fourth quarter of 2003, duplicative interest arising during the waiting period from the call for redemption to the date of redemption of the 8 7/8% Senior Notes and interest allocated to discontinued operations of approximately $9,600,000 for the second quarter of 2003 and approximately $4,400,000 and $19,300,000 for the first six months of 2004 and 2003, respectively, partially offset by the effect of approximately $4,100,000 of interest expense in the first quarter of 2003 from the amortization of the Bridge Facility, a reduction of indebtedness from the debt redemptions and open market purchases and lower interest rates from the sale of Floating Rate Notes used to refinance the 8 7/8% Senior Notes. (See Liquidity and Capital Resources and Notes B, D and H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

During the first quarter of 2004, the Company called for redemption all of the Company’s outstanding 9 1/4% Senior Notes due 2007 (“9 1/4% Notes”), all of its outstanding 9 1/8% Senior Notes due 2007 (“9 1/8% Notes”) and all of its outstanding 8 7/8% Senior Notes due 2008 (“8 7/8% Notes”). The redemption of the 9 1/4% Notes, 9 1/8% Notes and 8 7/8% Notes resulted in a pre-tax loss of approximately $11,958,000 in the first quarter of 2004, based upon the difference between the respective redemption prices and the estimated carrying values at the redemption dates of the 9 1/4% Notes, 9 1/8% Notes and 8 7/8% Notes, which include the principal amount redeemed and the estimated remaining unamortized premium recorded in connection with the Recapitalization. (See Note D of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein .)

Investment income was approximately $300,000 in the second quarter of 2004 and 2003 and increased approximately $400,000 or 50.0% in the first six months of 2004 as compared to the first six months of 2003 primarily as a result of higher average invested balances.
 
The provision for income taxes from continuing operations was approximately $11,800,000 and $13,000,000 for the second quarter of 2004 and 2003, respectively, and the provision for income taxes from continuing operations was approximately $13,800,000 for the first six months of 2004 as compared to a benefit for income taxes from continuing operations of approximately $1,700,000 for the first six months of 2003. The income tax rates in both the second quarter and first six months of 2004 and 2003 differed from the United States Federal statutory rate of 35% principally as a result of the effect of non-deductible expenses, foreign income tax on foreign source income, state income tax provisions, and in 2003 due to the Recapitalization. (See Notes A, B and J of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

The table that follows presents a summary of the results of discontinued operations for the three months ended July 3, 2004 and July 5, 2003. (See Note H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)


 
 
Post-Recapitalization
 
 
For the Three
 
 
Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
Net sales
 
$
---
 
$
154,500
 
   
 
 
Operating earnings (loss) of discontinued operations *
 
$
(1,200
)
$
21,581
 
 
   
 
   
 
 
Interest expense, net
   
---
   
(9,881
)
   
 
 
Earnings (loss) before income taxes
   
(1,200
)
 
11,700
 
Provision (benefit) for income taxes
   
(400
)
 
4,300
 
   
 
 
Earnings (loss) from discontinued operations
 
$
(800
)
$
7,400
 
   
 
 
Depreciation and amortization expense
 
$
---
 
$
3,731
 
   
 
 
 
*     Operating earnings of discontinued operations are net of Ply Gem corporate expenses previously included within Unallocated other, net in the Company’s segment reporting.

Operating earnings of discontinued operations for the three months ended July 5, 2003 include approximately $100,000 of severance and other costs associated with the closure of certain manufacturing facilities.

Operating earnings for the three months ended July 3, 2004 reflect the pre-tax impact of stock-based employee compensation charges of approximately $1,200,000 related to Nortek Holdings’ stock options retained by employees of Ply Gem subsequent to the sale of Ply Gem (see Note A of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein).
 
The table that follows presents a summary of the operating results of discontinued operations for the periods presented. (See Note H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)
 
 
 
For the Periods
 
 


 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004 -
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
(Unaudited)
 
 
 
 
 
Net sales
 
$
40,600
 
$
253,600
 
$
8,800
 
   
 
 
 
Operating earnings (loss) of discontinued operations *
 
$
(3,244
)
$
21,771
 
$
(368
)
 
   
 
   
 
   
 
 
Interest expense, net
   
(4,556
)
 
(18,671
)
 
(1,232
)
   
 
 
 
Earnings (loss) before provision (benefit) for income taxes
   
(7,800
)
 
3,100
   
(1,600
)
Provision (benefit) for income taxes
   
(2,900
)
 
1,200
   
(600
)
   
 
 
 
Earnings (loss) from discontinued operations
   
(4,900
)
 
1,900
   
(1,000
)
   
 
 
 
Gain on sale of discontinued operations
   
122,700
   
---
   
---
 
Income tax provision on sale of discontinued operations
   
50,400
   
---
   
---
 
   
 
 
 
 
   
72,300
   
---
   
---
 
   
 
 
 
 
   
 
   
 
   
 
 
Earnings (loss) from discontinued operations
 
$
67,400
 
$
1,900
 
$
(1,000
)
   
 
 
 
Depreciation and amortization expense
 
$
1,359
 
$
8,478
 
$
315
 
   
 
 

*   Operating earnings (loss) of discontinued operations are net of Ply Gem corporate expenses previously included within Unallocated other, net in the Company’s segment reporting.

Operating earnings (loss) of discontinued operations for the period from January 10, 2003 to July 5, 2003 include approximately $600,000 of severance and other costs associated with the closure of certain manufacturing facilities. Operating earnings (loss) of discontinued operations for the period from January 10, 2003 to July 5, 2003 also include approximately $1,300,000 of costs and expenses for expanded distribution including new customers.

Operating earnings for the six months ended July 3, 2004 reflect the pre-tax impact of stock-based employee compensation charges of approximately $1,900,000 related to Nortek Holdings’ stock options retained by employees of Ply Gem subsequent to the sale of Ply Gem (see Note A of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein).
 
In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities – an Interpretation of ARB No. 51” (“FIN 46”). FIN 46 clarifies the application of ARB No. 51, “Consolidated Financial Statements,” to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The consolidation requirements on FIN 46 apply to the Company immediately for all variable interest entities created after December 31, 2003 and begin on January 1, 2005 for all variable interest entities created prior to January 1, 2004. The adoption of FIN 46 on January 1, 2004 did not have any impact on the Company’s consolidated financial statements and is not expected to have a material impact in the future.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“SFAS No. 149”), which clarifies the financial accounting and reporting proscribed by SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS No. 133”) for derivative instruments, including certain derivative instruments embedded in other contracts. Certain provisions of SFAS No. 149 related to implementation issues of SFAS No. 133 are already effective and other provisions related to forward purchases or sales are effective for both existing contracts and new contracts entered into after June 30, 2003. The Company has previously adopted SFAS No. 133, including the implementation issues addressed in SFAS No. 149, and the adoption of the new provisions of SFAS No. 149 on July 1, 2003 did not hav e an impact on the Company’s consolidated financial Statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity” (“SFAS No. 150”), which addresses the accounting and reporting for the classification and measurement of certain financial instruments with characteristics of both liabilities and equity. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003 and for all existing financial instruments beginning in the first interim period after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities, which are subject to the provisions for the first fiscal period beginning after December 15, 2003. The Company adopted SFAS No. 150 on July 1, 2003. Adoption of this accounting standard did not have an impact on the Company& #146;s consolidated financial statements.

In December 2003, the FASB reissued SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits” (“SFAS No. 132”) to require additional disclosures to those in the original SFAS No. 132 about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. The revised SFAS No. 132 provides only for additional disclosures and does not change the accounting for pension and postretirement plans. The Company has previously adopted SFAS No. 132 and has provided the required new disclosures of the revised SFAS No. 132 in Note M of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.

The Company uses EBITDA as both an operating performance and liquidity measure. Operating performance measure disclosures with respect to EBITDA are provided below. Refer to the Liquidity and Capital Resources section for liquidity measure disclosures with respect to EBITDA and a reconciliation from net cash flows from operating activities to EBITDA.

EBITDA is defined as net earnings (loss) before interest, taxes, depreciation and amortization expense. EBITDA is not a measure of operating performance under generally accepted accounting principles in the United States (“GAAP”) and should not be considered as an alternative or substitute for GAAP profitability measures such as operating earnings (loss) from continuing operations, discontinued operations, extraordinary items and net income (loss). EBITDA as an operating performance measure has material limitations since it excludes, among other things, the statement of operations impact of depreciation and amortization expense, interest expense and the provision (benefit) for income taxes and therefore does not necessarily represent an accurate measure of profitability, particularly in situations where a company is hig hly leveraged or has a disadvantageous tax structure. The Company uses a significant amount of capital assets and depreciation and amortization expense is a necessary element of the Company’s costs and ability to generate revenue and therefore its exclusion from EBITDA is a material limitation. The Company has a significant amount of debt and interest expense is a necessary element of the Company’s costs and ability to generate revenue and therefore its exclusion from EBITDA is a material limitation. The Company generally incurs significant U.S federal, state and foreign income taxes each year and the provision (benefit) for income taxes is a necessary element of the Company’s costs and therefore its exclusion from EBITDA is a material limitation. As a result, EBITDA should be evaluated in conjunction with net income (loss) for a more complete analysis of the Company’s profitability, as net income (loss) includes the financial statement impact of these items and is the most directly compa rable GAAP operating performance measure to EBITDA. As EBITDA is not defined by GAAP, the Company’s definition of EBITDA may differ from and therefore may not be comparable to similarly titled measures used by other companies, thereby limiting its usefulness as a comparative measure. Because of the limitations that EBITDA has as an analytical tool, investors should not consider it in isolation, or as a substitute for analysis of the Company’s operating results as reported under GAAP.

Company management uses EBITDA as a supplementary non-GAAP operating performance measure to assist with its overall evaluation of Company and subsidiary operating performance (including the performance of subsidiary management) relative to outside peer group companies. In addition, the Company uses EBITDA as an operating performance measure in financial presentations to the Company’s Board of Directors, shareholders, various banks participating in the Company’s Credit Facility, note holders and Bond Rating agencies, among others, as a supplemental non-GAAP operating measure to assist them in their evaluation of the Company’s performance. The Company is also active in mergers, acquisitions and divestitures and uses EBITDA as an additional operating performance measure to assess Company, subsidiary and potential acquisition target enterprise value and to assist in the o verall evaluation of Company, subsidiary and potential acquisition target performance on an internal basis and relative to peer group companies. The Company uses EBITDA in conjunction with traditional GAAP operating performance measures as part of its overall assessment of potential valuation and relative performance and therefore does not place undue reliance on EBITDA as its only measure of operating performance. The Company believes EBITDA is useful for both the Company and investors as it is a commonly used analytical measurement for comparing company profitability, which eliminates the effects of financing, differing valuations of fixed and intangible assets and tax structure decisions. The Company believes that EBITDA is specifically relevant to the Company, due to the different degrees of leverage among its competitors, the impact of purchase accounting associated with the Recapitalization, which impacts comparability with its competitors who may or may not have recently revalued their fixed and intan gible assets, and the differing tax structures and tax jurisdictions of certain of the Company’s competitors. The Company has included EBITDA as a supplemental operating performance measure, which should be evaluated by investors in conjunction with the traditional GAAP performance measures discussed earlier in this Results of Operations section for a complete evaluation of the Company’s operating performance.

The following table presents a reconciliation from net earnings, which is the most directly comparable GAAP operating performance measure, to EBITDA for the second quarter ended July 3, 2004 and July 5, 2003:

 
 
For the Three
 
 
Months Ended
 
 
July 3, 2004
July 5, 2003
 
 
(Amounts in thousands)
 
 
 
 
Net earnings *
 
$
15,900
 
$
25,900
 
Provision for income taxes
   
 
   
 
 
from continuing operations
   
11,800
   
13,000
 
Provision (benefit) for income taxes
   
 
   
 
 
from discontinued operations
   
(400
)
 
4,300
 
Interest expense from continuing operations
   
18,432
   
12,636
 
Interest expense from discontinued operations
   
---
   
9,916
 
Investment income from continuing operations
   
(340
)
 
(289
)
Investment income from discontinued operations
   
---
   
(35
)
Depreciation expense from continuing operations
   
7,028
   
3,939
 
Depreciation expense from discontinued operations
   
---
   
2,646
 
Amortization expense from continuing operations
   
3,598
   
2,964
 
Amortization expense from discontinued operations
   
---
   
1,085
 
   
 
 
EBITDA
 
$
56,018
 
$
76,062
 
   
 
 
 
*      Includes approximately $800,000 of loss and approximately $7,400,000 of earnings from discontinued operations for the three months ended July 3, 2004 and July 5, 2003, respectively. (See Note H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

EBITDA includes approximately $4,300,000 and $300,000 of stock based compensation from adopting SFAS No. 123 recorded in the three months ended July 3, 2004 and July 5, 2003, respectively. (See Notes A and I of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)
 
The following table presents a reconciliation from net earnings (loss), which is the most directly comparable GAAP operating performance measure, to EBITDA for the periods presented:
 
 
 
                            For the Periods                        
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
 
 
 
Net earnings (loss) *
 
$
87,000
 
$
31,400
 
$
(61,900
)
Provision (benefit) for income taxes
   
 
   
 
   
 
 
from continuing operations
   
13,800
   
20,100
   
(21,800
)
Provision (benefit) for income taxes
   
 
   
 
   
 
 
from discontinued operations
   
47,500
   
1,200
   
(600
)
Interest expense from continuing operations
   
43,993
   
29,427
   
1,054
 
Interest expense from discontinued operations
   
4,585
   
18,774
   
1,234
 
Investment income from continuing operations
   
(1,284
)
 
(656
)
 
(119
)
Investment income from discontinued operations
   
(29
)
 
(103
)
 
(2
)
Depreciation expense from continuing operations
   
12,836
   
7,703
   
586
 
Depreciation expense from discontinued operations
   
1,158
   
5,033
   
245
 
Amortization expense from continuing operations
   
7,072
   
8,818
   
67
 
Amortization expense from discontinued operations
   
201
   
3,445
   
70
 
   
 
 
 
EBITDA
 
$
216,832
 
$
125,141
 
$
(81,165
)
   
 
 
 

*     Includes approximately $67,400,000, $1,900,000 and $(1,000,000) of earnings (loss) from discontinued operations for the first six months ended July 3, 2004 and the periods from January 10, 2003 to July 5, 2003 and from January 1, 2003 to January 9, 2003, respectively. (See Note H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

EBITDA includes approximately $83,000,000 of expenses and charges arising from the Recapitalization recorded in the period from January 1, 2003 to January 9, 2003 and approximately $5,200,000 and $1,000,000 of stock based compensation from adopting SFAS No. 123 recorded in the first six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003, respectively. (See Notes A, F and I of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

Liquidity and Capital Resources

On July 15, 2004, THL Buildco Holdings, Inc. and THL Buildco, Inc. (“THL Buildco”), newly formed Delaware corporations affiliated with Thomas H. Lee Partners, L.P., together with certain members of Holdings’ management, entered into a stock purchase agreement with affiliates of Kelso and Company, L.P. and certain other parties, pursuant to which THL Buildco agreed to purchase all of the outstanding capital stock of Holdings in a transaction valued at approximately $1.74 billion before fees and expenses (the “THL Transaction”).

The THL Transaction is subject to customary closing conditions and is expected to be consummated during the third quarter of 2004. Upon closing of the THL Transaction, certain members of management have agreed to settlement or modification of their compensation and benefit arrangements. Management has also agreed to reinvest a substantial portion of their equity interest in Holdings into THL Buildco Holdings, Inc. (see below). No significant costs related to the THL Transaction have been incurred through July 3, 2004. Holdings and Nortek expect to account for the THL Transaction as a purchase in accordance with SFAS No. 141 and the Push Down Accounting rules and regulations.  (See Note N of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

In connection with the THL Transaction, THL Buildco expects to partially finance the transaction, including the redemption of substantially all of Holdings and Nortek’s existing debt, via the issuance of a combination of a new senior secured term loan and new senior subordinated debt. It is expected that the new senior secured term loan will be secured by substantially all of the assets of Nortek and its subsidiaries. Nortek also expects to enter into a $100,000,000 revolving credit facility at the closing which will be available for seasonal working capital borrowing needs and other requirements. It is expected that no borrowings under the revolving credit facility will be necessary at the closing. A summary of the estimated cash sources and uses for the THL Transaction is as follows:

Sources:
 
 
Cash equity from the Buyer and its affiliates (1)
 
$
361,300,000
 
Senior secured term loan
   
700,000,000
 
Senior subordinated notes
   
625,000,000
 
Estimated cash of the Company
   
160,400,000
 
   
 
 
 
$
1,846,700,000
 
   
 
Uses:
   
 
 
Purchase price paid to sellers
 
$
803,200,000
 
Repayment of existing debt, including interest
   
 
 
and redemption premiums
   
937,700,000
 
Transaction fees, expenses and other
   
105,800,000
 
   
 
 
 
$
1,846,700,000
 
   
 
 
(1)   It is expected that management will reinvest up to $109,700,000 of their equity interest in Holdings into THL Buildco Holdings, Inc.

On July 20, 2004, the Company announced that is has offered to purchase for cash all of its 10% Senior Discount Notes due 2011 (approximately $370.5 million of accreted principal as of July 3, 2004) (the “Senior Discount Notes”) and Nortek announced that it has offered to purchase for cash all of its outstanding 9.875% Senior Subordinated Notes due 2011 ($250 million in principal as of July 3, 2004) (the “9.875% Notes”) and all of its outstanding Floating Rate Notes ($200 million in principal as of July 3, 2004), which are both subject to the successful closing of the THL Transaction. Based upon current estimates, Holdings expects to incur a pre-tax loss from debt retirement of approximately $125,000,000 related to the repurchase of the 9.875% Notes, the Floating Rate Notes and the Senior Discount Notes in the third quarter of 2004, of which approximately $66,000,000 rela tes to the Senior Discount Notes.

From January 1, 2004 through February 3, 2004, Nortek purchased approximately $14,800,000 of its 9 1/4% Senior Notes due 2007 (“9 1/4% Notes”) and approximately $10,700,000 of its 9 1/8% Senior Notes due 2007 (“9 1/8% Notes”) in open market transactions. On March 15, 2004, Nortek redeemed all its outstanding 9 1/4% Notes (approximately $160,200,000 in principal amount) and on March 14, 2004 redeemed all of its outstanding 9 1/8% Notes (approximately $299,300,000 in principal amount). The 9 1/4% Notes and 9 1/8% Notes were redeemed at a redemption price of 101.542% and 103.042%, respectively, of the principal amount thereof plus accrued and unpaid interest. The 9 1/4% Notes and 9 1/8% Notes ceased to accrue interest as of the respective redemption dates indicated above. The Company used the net after tax proceeds from the sale of Ply Gem of approximately $450,000,000, together with existing cash on hand, to fund the redemption of the 9 1/4% Notes and 9 1/8% Notes. On March 14, 2004, Nortek redeemed $60,000,000 of its outstanding 8 7/8% Senior Notes due 2008 (“8 7/8% Notes”). On March 31, 2004, Nortek redeemed the remaining $150,000,000 of its outstanding 8 7/8% Notes (see below). The 8 7/8% Notes were called at a redemption price of 104.438% of the principal amount thereof plus accrued and unpaid interest.

On March 1, 2004, Nortek completed the sale of $200,000,000 of Senior Floating Rate Notes due 2010 (the “Floating Rate Notes”). The Floating Rate Notes bear interest at a rate per annum equal to LIBOR, as defined, plus 3% (4.87% as of July 30, 2004). Interest on the Floating Rate Notes will be determined and payable semi-annually on June 30 and December 31 of each year commencing June 30, 2004. Nortek incurred fees and expenses, including the initial purchaser’s discount, of approximately $4,000,000 in connection with the sale, which will be amortized over the life of the Floating Rate Notes. The Floating Rate Notes are unsecured obligations of Nortek, which mature on December 31, 2010, and may be redeemed in whole or in part prior to December 31, 2010 at the redemption prices as defined in the indenture governing the Floating Rate Notes (the “Indenture”). The Indenture contains covenants that limit Nortek’s ability to engage in certain transactions, including incurring additional indebtedness and paying dividends or distributions. The terms of the Floating Rate Notes require Nortek to register notes having substantially identical terms (the “Nortek Exchange Notes”) with the SEC as part of an offer to exchange freely tradable Nortek Exchange Notes for the Floating Rate Notes (the “Nortek Exchange”) (see Notes D and N of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein). Approximately $60,000,000 principal amount of the 8 7/8% Notes ceased to accrue interest as of March 14, 2004 and approximately $150,000,000 principal amount of such Notes ceased to accrue interest as of March 31, 2004. Nortek used the net proceeds of approximately $196,000,000 from the sale of the Floating Rate Notes, together with existing cash on hand, to fund the redemption of the 8 7/8% Notes.

The open market purchases and the redemption of the 9 1/4% Notes, 9 1/8% Notes and 8 7/8% Notes noted above resulted in a pre-tax loss of approximately $11,958,000 in the first quarter of 2004, based upon the difference between the respective redemption prices indicated above and the estimated carrying values at the redemption dates.
 
The Company has a $175,000,000 Senior Secured Credit Facility, as amended, (the “Senior Secured Credit Facility”), which is syndicated among several banks. The Senior Secured Credit Facility is secured by substantially all of the Company’s accounts receivable and inventory, as well as certain intellectual property rights, and, as amended, permits borrowings up to the lesser of $175,000,000 or the total of 85% of eligible accounts receivable, as defined, and 50% of eligible inventory, as defined. The outstanding principal balances under the Senior Secured Credit Facility accrue interest at the Company’s option at either LIBOR plus a margin ranging from 2.0% to 2.5% or the banks’ prime rate plus a margin ranging from 0.5% to 1.0% depending upon the excess available borrowing base, as defined, and the timing of the borrowing as the margin rates will be adjusted quarterly. I n addition, the Company pays an unused line fee of between 0.375% and 0.5% on the excess available borrowing capacity, as defined. The Senior Secured Credit Facility includes customary limitations and covenants, but does not require the Company to maintain any financial covenant unless the excess available borrowing base, as defined, is less than $30,000,000 in which case the Company would be required to maintain, on a trailing four quarter basis, a minimum level of $155,000,000 of earnings before interest, taxes, depreciation and amortization, as defined. At July 3, 2004 there were no outstanding borrowings under the Senior Secured Credit Facility.

On November 24, 2003, the Company completed the sale of $515,000,000 aggregate principal amount at maturity ($349,400,000 gross proceeds) of its 10% Senior Discount Notes due May 15, 2011 (“Senior Discount Notes”). The Senior Discount Notes, which are structurally subordinate to all debt and liabilities of the Company’s subsidiaries, were issued and sold in a private Rule 144A offering to institutional investors. The net proceeds of the offering were used to pay a dividend of approximately $298,474,000 to holders of the Company’s capital stock and approximately $41,000,000 of these proceeds were used by the Company to purchase additional capital stock of Nortek. Nortek used these proceeds to fund the majority of a cash distribution of approximately $41,600,000 to option holders of the Rollover Options in the fourth quarter of 2003. The accreted value of the Senior Discount No tes will increase from the date of issuance at a rate of 10% per annum compounded semi-annually such that the accreted value will equal the principal amount of $515,000,000 on November 15, 2007. No cash interest will accrue on the Senior Discount Notes prior to November 15, 2007 and, thereafter, cash interest will accrue at 10% per annum payable semi-annually in arrears on May 15 and November 15 of each year. The Senior Discount Notes are unsecured obligations of the Company, which mature on May 15, 2011, and may be redeemed in whole or in part at the redemption prices as defined in the indenture governing the Senior Discount Notes (the “Indenture”). The Indenture contains covenants that limit the Company’s ability to engage in certain transactions, including incurring additional indebtedness and paying dividends or distributions. The terms of the Senior Discount Notes require the Company to register notes having substantially identical terms (the “Holdings Exchange Notes”) with the SEC as part of an offer to exchange freely tradable Holdings Exchange Notes for the Senior Discount Notes (the “Holdings Exchange”) (see Notes D and N of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein). Under certain limited circumstances, Nortek may be required in the future to guarantee the Senior Discount Notes on a senior subordinated basis. This requirement will not apply if the terms of any of Nortek’s senior indebtedness restricts the issuance of such guarantee. Nortek’s Senior Secured Credit Facility does not permit such a guarantee. In addition the issuance of such a guarantee by Nortek would constitute a restricted payment under the terms of Nortek’s indentures.

The Company had consolidated debt at July 3, 2004, of approximately $855,350,000 consisting of (i) $13,410,000 of short-term borrowings and current maturities of long-term debt, (ii) $20,853,000 of long-term notes, mortgage notes and other indebtedness, (iii) $250,549,000 of  9 7/8% Senior Subordinated Notes, (iv) $200,000,000 of Floating Rate Notes, and (v) $370,538,000 of Senior Discount Notes. During the six months ended July 3, 2004, the Company had a net decrease in its consolidated debt of approximately $484,625,000 which represented $710,875,000 of principal payments including the Senior Note redemptions previously discussed net of additional borrowing of approximately $208,628,000 including the Floating Rate Notes and debt accretion of $17,622,000 related to the Senior Discount Notes.
 
The indentures and other agreements governing the Company and its subsidiaries’ indebtedness (including the indentures for the 9 7/8% Senor Subordinated Notes and the Floating Rate Notes, as well as, the credit agreement for the Senior Secured Credit Facility) contain certain restrictive financial and operating covenants including covenants that restrict the ability of the Company and its subsidiaries to complete acquisitions, pay dividends, incur indebtedness, make investments, sell assets and take certain other corporate actions.

At July 30, 2004, approximately $51,500,000 was available for the payment of cash dividends, stock purchases or other restricted payments by the Company as defined under the terms of the Company's most restrictive indenture based on the redemption and refinancing of certain of Nortek’s existing notes (see Note D of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein). Restricted payments to Holdings from Nortek are limited by the amount of cash available for payment under the terms of Nortek’s most restrictive indenture and approximately $110,100,000 were permitted at May 14, 2004 (see Note G of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein).

At July 3, 2004, the Company had consolidated unrestricted cash, cash equivalents and marketable securities of approximately $132,704,000 as compared to approximately $194,120,000 at December 31, 2003. It is expected that substantially all of available cash at the closing date will be utilized as part of the THL transaction (see Note N of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein). The Company’s debt to equity ratio was approximately 3.0:1 at July 3, 2004 as compared to approximately 6.7:1 at December 31, 2003. The change in the ratio was primarily due to a net decrease in indebtedness and an increase in stockholder’s investment, primarily as a result of net earnings for the first six months of 2004.

The Company’s ability to pay interest on or to refinance its indebtedness depends on the Company’s future performance, working capital levels and capital structure, which are subject to general economic, financial, competitive, legislative, regulatory and other factors which may be beyond its control. There can be no assurance that the Company will generate sufficient cash flow from the operation of its subsidiaries or that future financings will be available on acceptable terms or in amounts sufficient to enable the Company to service or refinance its indebtedness, or to make necessary capital expenditures.

The Company has evaluated and expects to continue to evaluate possible acquisition transactions and possible dispositions of certain of its businesses on an ongoing basis and at any given time may be engaged in discussions or negotiations with respect to possible acquisitions or dispositions.

As of July 3, 2004, approximately $3,500,000 of letters of credit have been issued as additional security for approximately $13,400,000 of capital leases outstanding (included in notes, mortgage notes and obligations payable in the accompanying condensed consolidated balance sheet at July 3, 2004) relating to one of the Company’s manufacturing facilities, approximately $11,000,000 of letters of credit have been issued as additional security for certain of the Company's insurance programs and approximately $1,200,000 of letters of credit have been issued as additional security for certain of the subsidiaries purchases and other requirements.

The Company and its subsidiaries have entered into a number of operating lease obligations, purchase obligations and have guaranteed certain obligations of various third parties. No significant changes in these obligations have occurred since December 31, 2003.

Unrestricted cash and cash equivalents and marketable securities decreased from approximately $194,120,000 at December 31, 2003 to approximately $132,704,000 at July 3, 2004. The Company has classified as restricted in the accompanying unaudited condensed consolidated balance sheet certain investments that are not fully available for use in its operations. At July 3, 2004, approximately $10,480,000 (of which $8,523,000 is included in current assets) of cash, investments and marketable securities is held primarily as collateral to fund construction costs of an addition to a facility within the Company’s Air Conditioning and Heating Products Segment, as well as for insurance and letter of credit requirements.

Capital expenditures were approximately $9,648,000 in the first six months of 2004 as compared to approximately $7,453,000 in the first six months of 2003. Capital expenditures were approximately $17,400,000 for the year ended December 31, 2003 and are expected to be between $30,000,000 and $35,000,000 in 2004.

The Company's working capital and current ratio decreased from approximately $686,400,000 and 2.6:1, respectively, at December 31, 2003 to approximately $314,200,000 and 1.9:1, respectively, at July 3, 2004, principally as a result of the sale of Ply Gem on February 12, 2004 reducing the amount of assets and liabilities of discontinued operations.

Accounts receivable increased approximately $48,889,000 or approximately 22.8%, between December 31, 2003 and July 3, 2004, while net sales increased approximately $82,979,000 or approximately 22.7% in the second quarter of 2004 as compared to the fourth quarter of 2003. These increases are primarily a result of increased sales levels, timing of cash collections and acquisitions which contributed approximately $8,100,000 to net sales in the second quarter of 2004 and approximately $4,200,000 to accounts receivable at July 3, 2004. The rate of change in accounts receivable in certain periods may be different than the rate of change in sales in such periods principally due to the timing of net sales. Increases or decreases in net sales near the end of any period generally result in significant changes in the amount of accounts receivable on the date of the balance sheet at the end of such period, as was the situation on July 3, 2004 as compared to December 31, 2003. The Company did not experience any significant overall changes in credit terms, collection efforts, credit utilization or delinquency in accounts receivable in the first six months of 2004.

Inventories increased approximately $42,573,000 or approximately 26.7%, between December 31, 2003 and July 3, 2004, primarily as a result of seasonality related to products sold to customers serving the residential site built market within the HVAC segment, increases in inventory levels in the Residential Building Products Segment, in part, due to strong demand and the acquisitions which contributed approximately $6,600,000 to the increase in inventories.

Accounts payable increased approximately $46,914,000 or approximately 41.6%, between December 31, 2003 and July 3, 2004 due primarily to increased inventory levels and timing of payments. The acquisitions contributed approximately $2,200,000 to this increase.

Changes in certain working capital accounts, as noted above, between December 31, 2003 and July 3, 2004, differ from the changes reflected in the Company’s Unaudited Condensed Consolidated Statement of Cash Flows for such period as a result of the specific items mentioned in the three preceding paragraphs and from other non-cash items, including among others, the effect of changes in foreign currency exchange rates.
 
Unrestricted cash and cash equivalents decreased approximately $66,427,000 from December 31, 2003 to July 3, 2004, principally as a result of the following:
 
 
 
Condensed Consolidated Cash 
     Flows (*)   
Operating Activities:
 
 
Cash flow from operations, net
 
$
11,047,000
 
Increase in accounts receivable, net
   
(48,250,000
)
Increase in inventories
   
(38,165,000
)
Decrease in prepaids and other current assets
   
4,878,000
 
Increase in net assets of discontinued operations
   
(3,134,000
)
Increase in accounts payable
   
45,822,000
 
Decrease in accrued expenses and taxes
   
(1,479,000
)
Investing Activities:
   
 
 
Net cash paid for acquisitions
   
(16,500,000
)
Proceeds from the sale of discontinued businesses
   
520,138,000
 
Purchase of investments and marketable securities
   
(5,000,000
)
Capital expenditures
   
(9,648,000
)
Increase in restricted cash and investments
   
(111,000
)
Financing Activities:
   
 
 
Decrease in borrowings, net
   
(4,011,000
)
Sale of Floating Rate Notes
   
196,000,000
 
Redemption of Senior Notes
   
(716,700,000
)
Other, net
   
(1,314,000
)
   
 
 
 
$
(66,427,000
)
   
 
 
    (*)   Summarized from the Company’s Condensed Consolidated Statement of Cash Flows for the first half ended July 3, 2004. (See the Unaudited Financial Statements included elsewhere herein.)

The impact of changes in foreign currency exchange rates on cash was not material and has been included in Other, net.

The Company uses EBITDA as both a liquidity and operating performance measure. Liquidity measure disclosures with respect to EBITDA are provided below. Refer to the Results of Operations section for operating performance measure disclosures with respect to EBITDA and a reconciliation from net income (loss) to EBITDA.

EBITDA is defined as net earnings (loss) before interest, taxes, depreciation and amortization expense. EBITDA is not a measure of cash flow under generally accepted accounting principles in the United States (“GAAP”) and should not be considered as an alternative or substitute for GAAP cash flow measures such as cash flows from operating, investing and financing activities. EBITDA does not necessarily represent an accurate measure of cash flow performance because it excludes, among other things, capital expenditures, working capital requirements, significant debt service for principal and interest payments, income tax payments and other contractual obligations, which may have a significant adverse impact on a company’s cash flow performance thereby limiting its usefulness when evaluating the Company’s cash flow performance. The Company uses a significant amount of capital as sets and capital expenditures are a significant component of the Company’s annual cash expenditures and therefore their exclusion from EBITDA is a material limitation. The Company has significant working capital requirements during the year due to the seasonality of its business, which require significant cash expenditures and therefore its exclusion from EBITDA is a material limitation. The Company has a significant amount of debt and the Company has significant cash expenditures during the year related to principal and interest payments and therefore their exclusion from EBITDA is a material limitation. The Company generally pays significant U.S federal, state and foreign income taxes each year and therefore its exclusion from EBITDA is a material limitation. As a result, EBITDA should be evaluated in conjunction with net cash from operating, investing and financing activities for a more complete analysis of the Company’s cash flow performance, as they include the financial statement impact of th ese items. Although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future and EBITDA does not reflect any cash requirements for replacements. As EBITDA is not defined by GAAP, the Company’s definition of EBITDA may differ from and therefore may not be comparable to similarly titled measures used by other companies thereby limiting its usefulness as a comparative measure. Because of the limitations that EBITDA has as an analytical tool, investors should not consider it in isolation, or as a substitute for analysis of the Company’s cash flows as reported under GAAP.

Company management uses EBITDA as a supplementary non-GAAP liquidity measure to allow the Company to evaluate its operating units cash-generating ability to fund income tax payments, corporate overhead, capital expenditures and increases in working capital. EBITDA is also used by management to allocate resources for growth among its businesses, to identify possible impairment charges, to evaluate the Company’s ability to service its debt and to raise capital for growth opportunities, including acquisitions. In addition, the Company uses EBITDA as a liquidity measure in financial presentations to the Company’s Board of Directors, shareholders, various banks participating in the Company’s Credit Facility, note holders and Bond Rating agencies, among others, as a supplemental non-GAAP liquidity measure to assist them in their evaluation of the Company’s cash flow performance. Th e Company uses EBITDA in conjunction with traditional GAAP liquidity measures as part of its overall assessment and therefore does not place undue reliance on EBITDA as its only measure of cash flow performance. The Company believes EBITDA is useful for both the Company and investors as it is a commonly used analytical measurement for assessing a company’s cash flow ability to service and/or incur additional indebtedness, which eliminates the impact of certain non-cash items such as depreciation and amortization. The Company believes that EBITDA is specifically relevant to the Company due to the Company’s leveraged position as well as the common use of EBITDA as a liquidity measure within the Company’s industries by lenders, investors, others in the financial community and peer group companies. The Company has included EBITDA as a supplemental liquidity measure, which should be evaluated by investors in conjunction with the traditional GAAP liquidity measures discussed earlier in this Liquidit y and Capital Resources section for a complete evaluation of the Company’s cash flow performance.
 
The following table presents a reconciliation from net cash provided by (used in) operating activities, which is the most directly comparable GAAP liquidity measure, to EBITDA for the periods presented:
 
 
 
                                 For the Periods                             
 
 
Post-Recapitalization
Pre-Recapitalization
 
 
Jan. 1, 2004
Jan. 10, 2003 -
Jan. 1, 2003 -
 
 
July 3, 2004
July 5, 2003
Jan. 9, 2003
 
 
(Amounts in thousands)
 
 
 
 
 
Net cash used in operating activities *
 
$
(30,517
)
$
(5,632
)
$
(5,705
)
Cash used by working capital and
   
 
   
 
   
 
 
other long-term asset and liability changes
   
41,564
   
45,943
   
12,880
 
Effect of the Recapitalization, net
   
---
   
---
   
(62,397
)
Non-cash stock and stock option expense
   
(5,241
)
 
(952
)
 
---
 
Deferred federal income tax provision
   
 
   
 
   
 
 
from continuing operations
   
(9,800
)
 
12,000
   
(5,900
)
Deferred federal income tax credit
   
 
   
 
   
 
 
from discontinued operations
   
18,500
   
---
   
---
 
Gain on sale of discontinued operations
   
122,700
   
---
   
---
 
Non-cash interest expense, net
   
(18,340
)
 
(3,438
)
 
(125
)
Loss from debt retirement
   
(11,958
)
 
---
   
---
 
Provision (benefit) for income taxes
   
 
   
 
   
 
 
from continuing operations
   
13,800
   
20,100
   
(21,800
)
Provision (benefit) for income taxes
   
 
   
 
   
 
 
from discontinued operations
   
47,500
   
1,200
   
(600
)
Interest expense from continuing operations
   
43,993
   
29,427
   
1,054
 
Interest expense from discontinued operations
   
4,585
   
18,774
   
1,234
 
Investment income from continuing operations
   
(1,284
)
 
(656
)
 
(119
)
Investment income from discontinued operations
   
(29
)
 
(103
)
 
(2
)
Depreciation expense from discontinued operations
   
1,158
   
5,033
   
245
 
Amortization expense from discontinued operations
   
201
   
3,445
   
70
 
   
 
 
 
EBITDA
 
$
216,832
 
$
125,141
 
$
(81,165
)
   
 
 
 
 
*     Includes approximately $67,400,000, $1,900,000 and $(1,000,000) of earnings (loss) from discontinued operations for the first six months ended July 3, 2004 and the periods from January 10, 2003 to July 5, 2003 and from January 1, 2003 to January 9, 2003, respectively. (See Note H of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)

EBITDA includes approximately $83,000,000 of expenses and charges arising from the Recapitalization recorded in the period from January 1, 2003 to January 9, 2003 and approximately $5,200,000 and $1,000,000 of stock based compensation from adopting SFAS No. 123 recorded in the first six months ended July 3, 2004 and the period from January 10, 2003 to July 5, 2003, respectively. (See Notes A, F and I of the Notes to the Unaudited Condensed Consolidated Financial Statements included elsewhere herein.)
 
Inflation, Trends and General Considerations

The Company has evaluated and expects to continue to evaluate possible acquisition transactions and the possible dispositions of certain of its businesses on an ongoing basis and at any given time may be engaged in discussions or negotiations with respect to possible acquisitions or dispositions.

The Company's performance is dependent to a significant extent upon the levels of new residential construction, residential replacement and remodeling and non-residential construction, all of which are affected by such factors as interest rates, inflation, consumer confidence and unemployment.

The demand for the Company's products is seasonal, particularly in the Northeast and Midwest regions of the United States where inclement weather during the winter months usually reduces the level of building and remodeling activity in both the home improvement and new construction markets. The Company's lower sales levels usually occur during the first and fourth quarters. Since a high percentage of the Company's manufacturing overhead and operating expenses are relatively fixed throughout the year, operating income and net earnings tend to be lower in quarters with lower sales levels. In addition, the demand for cash to fund the working capital of the Company's subsidiaries is greater from late in the first quarter until early in the fourth quarter.

The Department of Energy announced on April 2, 2004 that effective January 26, 2006, the minimum seasonal energy efficiency rating for residential central air conditioners (“SEER”) will be raised to 13 SEER. The current minimum is 10 SEER. Approximately 97% of the Company’s residential central air conditioner sales are currently below the 13 SEER efficiency rating. The Company’s Air Conditioning and Heating Products Segment currently produces residential central air conditioners with a 13 SEER efficiency rating and continues to focus on product improvements including energy efficiency as part of its engineering and manufacturing planning.

As of July 3, 2004, approximately 13.2% of the Company’s workforce was subject to various collective bargaining agreements. Collective bargaining agreements covering approximately 2.5% of the Company’s workforce will expire through the end of 2004 and those covering an additional 7.5% will expire through the end of 2005. As agreements expire, until negotiations are completed, it is not known whether the Company will be able to negotiate collective bargaining agreements on the same or more favorable terms as the current agreements or at all and without production interruptions, including labor stoppages.

Market Risk

As discussed more specifically below, the Company is exposed to market risks related to changes in interest rates, foreign currencies and commodity pricing. The Company does not use derivative financial instruments, except on a limited basis, to periodically mitigate certain economic exposures. The Company does not enter into derivative financial instruments or other financial instruments for trading purposes.

There have been no significant changes in market risk from the December 31, 2003 disclosures included in the Company’s annual report on Form 10-K.
 
A.   Interest Rate Risk

The Company is exposed to market risk from changes in interest rates primarily through its investing and borrowing activities. In addition, the Company’s ability to finance future acquisition transactions may be impacted if the Company is unable to obtain appropriate financing at acceptable interest rates.

The Company’s investing strategy, to manage interest rate exposure, is to invest in short-term, highly liquid investments and marketable securities. Short-term investments primarily consist of federal agency discount notes, treasury bills and bank issued money market instruments with original maturities of 90 days or less.

The Company has historically managed its borrowing exposure to changes in interest rates by optimizing the use of fixed rate debt with extended maturities. During the first quarter of 2004, Nortek sold $200,000,000 of Floating Rate Notes with a variable interest rate (4.87% at July 3, 2004) and redeemed $695,000,000 of Senior Notes which had fixed interest rates. Of the Company’s total outstanding debt, approximately 24.2% have variable interest rates at July 3, 2004.

B.   Foreign Currency Risk

Sales and earnings derived from international markets and net assets within international markets are subject to, among others, the risks of currency fluctuations primarily related to changes in the Euro, the Canadian Dollar and the British Pound. In the first half of 2004, the net impact of foreign currency changes was not material to the Company’s financial condition or results of operations, but may not be indicative of future results. The impact of foreign currency changes related to translation resulted in a decrease in stockholder’s investment of approximately $511,000 and $3,761,000 for the second quarter and first six months of 2004, respectively. The Company manages its exposure to foreign currency exchange risk principally by trying to minimize the Company’s net investment in foreign assets through the use of strategic short and long-term borrowings at the f oreign subsidiary level. The Company generally does not enter into derivative financial instruments to manage foreign currency exposure. At July 3, 2004, the Company did not have any significant outstanding foreign currency hedging contracts.

C.   Commodity Pricing Risk

The Company is subject to significant market risk with respect to the pricing of its principal raw materials, which include, among others, steel, copper, packaging material, plastics and aluminum. If prices of these raw materials were to increase dramatically, the Company may not be able to pass such increases on to its customers and, as a result, gross margins could decline significantly. The Company manages its exposure to commodity pricing risk by continuing to diversify its product mix, strategic buying programs and vendor partnering.

The Company generally does not enter into derivative financial instruments to manage commodity pricing exposure. At July 3, 2004, the Company did not have any material outstanding commodity forward contracts.
 
Forward-Looking Statements

This document contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this discussion and throughout this document, words, such as “intends”, “plans”, “estimates”, “believes”, “anticipates” and “expects” or similar expressions are intended to identify forward-looking statements. These statements are based on the Company’s current plans and expectations and involve risks and uncertainties, over which the Company has no control, that could cause actual future activities and results of operations to be materially different from those set forth in the forward-looking statements. Important factors that could cause actual future activities and operating results to differ include the availability and cost of certain raw materials, (including, among others, s teel, copper, packaging materials, plastics, resins, glass, wood and aluminum) and purchased components, the level of domestic and foreign construction and remodeling activity affecting residential and commercial markets, interest rates, employment, inflation, foreign currency fluctuations, consumer spending levels, exposure to foreign economies, the rate of sales growth, price, and product and warranty liability claims. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by these cautionary statements. Readers are also urged to carefully review and consider the various disclosures made by the Company, in this document, as well as the Company's periodic reports on Forms 10-K, 10-Q and 8-K, filed with the SEC.

Item 3.   Quantitative and Qualitative Disclosures about Market Risk

Quantitative and qualitative disclosure about market risk is set forth in Management’s Discussion and Analysis of Financial Condition and Results of Operations – Market Risk.

Item 4.   Controls and Procedures

As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chairman and Chief Executive Officer along with the Company’s Vice President and Chief Financial Officer and the Company’s Corporate Disclosure and Controls Committee, of the effectiveness of the Company’s disclosure controls and procedures as defined in Rule 13a–15e and 15d-15e under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, the Company’s Chairman and Chief Executive Officer along with the Company’s Vice President and Chief Financial Officer concluded that as of the end of such period, the Company’s disclosure controls and procedures are effective to ensure that information relating to the Company (including its c onsolidated subsidiaries) required to be disclosed in the Company’s periodic SEC filings is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms. There have been no significant changes in the Company’s internal control over financial reporting that occurred during the period covered by this report that have materially affected, or that are reasonably likely to materially affect the Company’s internal control over financial reporting.


PART II. OTHER INFORMATION

Item 6.   Exhibits and Reports on Form 8-K
 
(a)    Exhibits

The items marked with an asterisk are filed herewith.
 
*   31.1    Certificate of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
 
*   31.2    Certificate of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
 
*   32.1    Certificate of Chief Executive Officer Pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
*   32.2    Certificate of Chief Financial Officer Pursuant to Section 1350, Chapter 63 of Title 18, United States Code, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
(b)    Reports on Form 8-K
 
May 18, 2004,    Item 7, Financial Statements and Exhibits

Item 12, Results of Operations and Financial Condition

July 16, 2004,     Item 5, Other Events

Item 7, Financial Statements and Exhibits
 
            August 3, 2004    Item 7, Financial Statements and Exhibits
 
                            Item 12, Results of Operations and Financial Condition
 
            August 3, 2004    Item 5, Other Events
 
Item 7, Financial Statements and Exhibits
 
 
SIGNATURE




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.

 
     
   NORTEK HOLDINGS, INC.
 

(Registrant)

 
 
 
 
 
 
By:   /s/ Almon C. Hall
 
  Title : Vice President and Chief Financial Officer



August 5, 2004