FORM 10-Q
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SECURITIES AND EXCHANGE COMMISSION
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Washington, D.C. 20549
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
1934
FOR THE QUARTERLY PERIOD ENDED: SEPTEMBER 27, 2003
COMMISSION FILE NUMBER: 1-5555
WELLCO ENTERPRISES, INC.
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(Exact name of registrant as specified in charter)
NORTH CAROLINA 56-0769274
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(State of Incorporation) (I.R.S. Employer Identification No.)
150 Westwood Circle, P.O. Box 188, Waynesville, NC 28786
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(Address of Principal Executive Office)
Registrant's telephone number, including area code 828-456-3545
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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 .
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Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes No X . ----- -----
1,185,746 shares of $1 par value common stock were outstanding on November 11,
2003.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
WELLCO ENTERPRISES, INC.
CONSOLIDATED FINANCIAL STATEMENTS FILED WITH FORM 10-Q
FOR THE FISCAL QUARTER ENDED SEPTEMBER 27, 2003
The attached unaudited financial statements reflect all adjustments which are,
in the opinion of management, necessary to reflect a fair statement of the
financial position, results of operations, and cash flows for the interim
periods presented. All significant adjustments are of a normal recurring nature.
-2-
WELLCO ENTERPRISES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 27, 2003 AND JUNE 28, 2003
(in thousands)
ASSETS
(unaudited)
SEPTEMBER 27, JUNE 28,
2003 2003
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CURRENT ASSETS:
Cash and cash equivalents .................... $ 79 $ 133
Receivables, net ............................. 4,015 3,450
Inventories-
Finished goods ........................... 1,922 1,247
Work in process .......................... 2,180 1,753
Raw materials ............................ 3,807 4,001
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Total .................................... 7,909 7,001
Deferred taxes and prepaid expenses .......... 731 475
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Total ........................................ 12,734 11,059
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MACHINERY LEASED TO LICENSEES,
net of accumulated depreciation .............. 21 23
PROPERTY, PLANT AND EQUIPMENT:
Land ......................................... 107 107
Buildings .................................... 1,439 1,439
Machinery and equipment ...................... 8,263 7,559
Office equipment ............................. 778 763
Automobiles .................................. 188 188
Leasehold improvements ....................... 772 771
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Total cost ................................... 11,547 10,827
Less accumulated depreciation and
amortization .............................. (6,958) (6,708)
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Net Property Plant and Equipment ............. 4,589 4,119
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INTANGIBLE ASSETS:
Excess of cost over net assets of
subsidiary at acquisition (Note 2) ........ -- --
Intangible pension asset ..................... 29 29
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Total ........................................ 29 29
DEFERRED TAXES ..................................... 80 80
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TOTAL .............................................. $ 17,453 $ 15,310
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(continued on next page)
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WELLCO ENTERPRISES, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 27, 2003 AND JUNE 28, 2003
(in thousands except share data)
LIABILITIES AND STOCKHOLDERS' EQUITY
(unaudited)
SEPTEMBER 27, JUNE 28,
2003 2003
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CURRENT LIABILITIES:
Short-term borrowing from bank (Note 3) ...... $ 3,285 $ 590
Accounts payable ............................. 2,144 3,138
Accrued compensation ......................... 943 810
Accrued income taxes ......................... 796 722
Other liabilities ............................ 520 582
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Total ........................................ 7,688 5,842
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LONG-TERM LIABILITIES:
Pension obligation ........................... 1,672 1,672
Notes payable ................................ 215 213
Deferred revenues ............................ 85 87
STOCKHOLDERS' EQUITY:
Common stock, $1.00 par value ................ 1,186 1,186
Additional paid-in capital ................... 357 357
Retained earnings ............................ 7,893 7,596
Accumulated other comprehensive loss ......... (1,643) (1,643)
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Total ........................................ 7,793 7,496
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TOTAL .............................................. $ 17,453 $ 15,310
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See Notes to Consolidated Financial Statements .....
-4-
WELLCO ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE FISCAL THREE MONTHS ENDED
SEPTEMBER 27, 2003 AND SEPTEMBER 28, 2002
(in thousands except per share and number of shares)
(unaudited)
SEPTEMBER 27, SEPTEMBER 28,
2003 2002
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REVENUES ........................................... $ 8,617 $ 5,258
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COSTS AND EXPENSES:
Cost of sales and services ................... 7,490 4,250
General and administrative expenses .......... 634 556
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Total ........................................ 8,124 4,806
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GRANT INCOME ....................................... 20 20
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OPERATING INCOME ................................... 513 472
INTEREST EXPENSE ................................... (26) (4)
INTEREST INCOME .................................... 1 2
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INCOME BEFORE INCOME TAXES ......................... 488 470
PROVISION FOR INCOME TAXES ......................... 72 76
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INCOME BEFORE CUMULATIVE EFFECT
OF CHANGE IN ACCOUNTING PRINCIPLE ............ 416 394
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CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE (Note 2) ................ -- (228)
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NET INCOME ......................................... $ 416 $ 166
======= =======
EARNINGS PER SHARE (Note 4):
Basic, before cumulative effect .............. $ 0.35 $ 0.33
Cumulative effect ............................ -- (0.19)
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Basic, after cumulative effect ............... $ 0.35 $ 0.14
======= =======
Diluted, before cumulative effect ............ $ 0.35 $ 0.32
Cumulative effect ............................ -- (0.19)
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Diluted, after cumulative effect ............. $ 0.35 $ 0.13
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See Notes to Consolidated Financial Statements.
-5-
WELLCO ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE FISCAL THREE MONTHS ENDED
SEPTEMBER 27, 2003 AND SEPTEMBER 28, 2002
(in thousands)
(unaudited)
SEPTEMBER 27, SEPTEMBER 28,
2003 2002
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CASH FLOWS FROM OPERATING
ACTIVITIES:
Net income .................................... $ 416 $ 394
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Adjustments to reconcile net income
to net cash provided by (used in)
operating activities:
Depreciation and amortization ........... 252 227
Non-cash asset impairment ............... -- 20
Non-cash grant income recognized ........ (20) (20)
Non-cash reduction in deferred revenue .. (2) (2)
Non-cash interest expense ............... 2 2
(Increase) decrease in-
Receivables ........................ (565) 63
Inventories ........................ (908) 750
Other current assets ............... (199) (152)
Increase (decrease) in-
Accounts payable ................... (994) (590)
Accrued compensation ............... 133 10
Accrued income taxes ............... 74 71
Pension obligation ................. (57) (45)
Other .............................. (42) (16)
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Total adjustments ............................. (2,326) 318
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NET CASH PROVIDED (USED) BY
OPERATING ACTIVITIES .......................... (1,910) 712
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CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of plant and equipment .............. (720) (144)
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CASH USED IN INVESTING ACTIVITIES .................. (720) (144)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from short-term borrowings ........... 2,695 --
Cash dividends paid ........................... (119) (118)
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NET CASH PROVIDED (USED) BY
FINANCING ACTIVITIES .......................... 2,576 (118)
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NET INCREASE (DECREASE) IN CASH .................... (54) 450
CASH AT BEGINNING OF PERIOD ........................ 133 270
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CASH AT END OF PERIOD .............................. $ 79 $ 720
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(continued on next page)
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WELLCO ENTERPRISES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE FISCAL THREE MONTHS ENDED
SEPTEMBER 27, 2003 AND SEPTEMBER 28, 2002
(in thousands)
(unaudited)
SEPTEMBER 27, SEPTEMBER 28,
2003 2002
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SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid for-
Interest ............................... $ 26 $ 4
Income taxes ........................... $ (2) $ 5
==== ====
See Notes to Consolidated Financial Statements.
-7-
WELLCO ENTERPRISES, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE FISCAL THREE MONTHS ENDED
SEPTEMBER 27, 2003
(in thousands except number of shares)
(unaudited)
Common Stock Additional
Par Paid-In Retained
Shares Value Capital Earnings
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BALANCE AT JUNE 28, 2003 1,185,746 $ 1,186 $ 357 $ 7,596
Net income for the fiscal three
months ended September 27, 2003 416
Exercise of stock options
Cash dividend ($.10 per share) (119)
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BALANCE AT SEPTEMBER 27, 2003 1,185,746 $ 1,186 $ 357 $ 7,893
===========================================
Accumulated
Other
Comprehensive
Loss
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ADDITIONAL PENSION LIABILITY,
NET OF TAX, BALANCE
AT JUNE 28, 2003 $ (1,643)
Change for the fiscal three
months ended September 27, 2003 -
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BALANCE AT SEPTEMBER 27, 2003 $ (1,643)
===============
See Notes to Consolidated Financial Statements.
-8-
WELLCO ENTERPRISES, INC.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
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FOR THE FISCAL THREE MONTHS ENDED SEPTEMBER 27, 2003
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1. BUSINESS AND ORGANIZATION:
Substantially all of the Company's operating activity is from the sale of
military and other rugged footwear, the sale of specialized machinery and
materials for the manufacture of this type of footwear and the rendering
of technical assistance and other services to licensees for the
manufacture of this type of footwear. The majority of revenues were from
sales to the U.S. government, primarily the Defense Supply Center
Philadelphia (DSCP), under contracts for the supply of boots used by the
United States Armed Forces. The loss of this customer would have a
material adverse effect on the Company.
Bidding on DSCP boot solicitations is open to any qualified U. S.
manufacturer. Bidding on contracts is very competitive. U. S. footwear
manufacturers have been adversely affected by sales of footwear made in
low labor cost countries. This has significantly affected the competition
for contracts to supply boots to U. S. Armed Forces, which by law must
be made in the United States.
Most boot contracts are for multi-year periods. Therefore, a bidder not
receiving an award from a significant solicitation could be adversely
affected for several years. In addition, current boot contracts contain
options for additional pairs that are exercisable at the government's
discretion. The Company cannot predict with certainty its success in
receiving a contract from any solicitation.
In late March 2003, DSCP ordered the Company to accelerate its rate of
direct molded sole (DMS) boot production under a contract by exercising
the contract's surge option clause and surge on this production is
expected to last through the fiscal year 2004.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Accounting Changes
Statement of Financial Accounting Standards No. 142 (SFAS 142, "Goodwill
and Other Intangible Assets") was effective for the first quarter of
Company's 2003 fiscal year. SFAS No. 142 provides for a specific method to
determine if goodwill is impaired, and the application of this method
resulted in the determination that $228,000 of previously recorded
goodwill was impaired. Under SFAS 142, this $228,000 was measured as of
the beginning of the 2003 fiscal year and was charged against income in
fourth quarter of fiscal year 2003 as the cumulative effect of a change in
accounting principle.
SFAS provides that when presenting prior period information for interim
periods of the fiscal year in which the impairment loss was recorded, and
when that impairment loss was not recorded in the first quarter of that
fiscal year, prior period information shall be restated to reflect the
impairment loss in the first quarter of the fiscal year of adoption.
Accordingly, the Consolidated Statements of Operations for the fiscal
quarter ended September 28, 2002 have been restated to reflect as a
cumulative effect of change in accounting principle the goodwill
impairment.
The following table summarizes the impact of adopting SFAS 142 on the
Consolidated Statements of Operations at September 28, 2002:
-9-
September
28, 2002
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Net income as previously reported $ 394,000
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Cumulative effect of change in accounting principle (228,000)
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Net income as restated $ 166,000
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Per share:
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Basic earnings per share as reported $ 0.33
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Cumulative effect of change in accounting principle (0.19)
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Basic earnings per share as restated 0.14
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Diluted earnings per share as reported 0.32
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Cumulative effect of change in accounting principle (0.19)
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Diluted earnings per share as restated $ 0.13
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New Accounting Pronouncements
The Financial Accounting Standards Board is currently working on a new
standard related to employer accounting for stock options issued to
employees. The Company believes that the new standard may require
recording compensation expense for the granting, modifying or settling of
employee stock options. Although the final provisions of the new standard
are not known, the Company may be required to record compensation expense
for certain previously granted stock options. The Company understands that
the new standard will be effective for its 2006 fiscal year.
Other accounting standards that have been issued or proposed by the FASB
or other standards-setting bodies that do not require adoption until a
future date are not expected to have a material impact on our consolidated
financial statements upon adoption.
3. LINE OF CREDIT:
Due to the Company's increased accounts receivable from shipping DMS boots
under surge, and to increased inventories, caused by both surge and the
initial production of the ICB boot, the Company, on September 18, 2003,
increased its line of credit from $1,500,000 to $4,500,000. The line,
which expires December 31, 2003, can be renewed annually at the bank's
discretion. This line of credit is secured by a blanket lien on all
machinery and equipment (carrying value of $3,185,000) and all non-
governmental accounts receivable and inventory ($1,154,000). At September
27, 2003, borrowings on this line of credit were $3,285,000 with
$1,215,000 available in additional borrowings.
The bank credit agreement contains, among other provisions, defined levels
of net worth and current ratio requirements. The Company was in compliance
with the loan covenants at September 27, 2003.
-10-
4. EARNINGS PER SHARE:
The Company computes its basic and diluted earnings per share amounts in
accordance with Statement of Financial Accounting Standards No. 128 (SFAS
128), "Earnings per Share." Basic earnings per share is computed by
dividing net earnings by the weighted average number of common shares
outstanding during the period. Diluted earnings per share is computed by
dividing net earnings by the weighted average number of common shares
outstanding during the period plus the dilutive potential common shares
that would have been outstanding upon the assumed exercise of dilutive
stock options.
The following is the reconciliation of the numerators and denominators of
the basic and diluted earnings per share computations:
For the Three Months Ended 9/27/03
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Net Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Basic EPS Available to Shareholders $ 416,000 1,185,746 $ 0.35
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Effect of Dilutive Stock-based Compensation
Arrangements 13,865
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Diluted EPS Available to Shareholders $ 416,000 1,199,611 $ 0.35
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For the Three Months Ended 9/28/02
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Net Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
Income Before Accounting Change $ 394,000 1,182,746 $ 0.33
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Cumulative Effect of Accounting Change (228,000) (0.19)
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Net Income Available to Shareholders 166,000 0.14
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Effect of Dilutive Stock-based Compensation
Arrangements 45,998
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Diluted EPS Available to Shareholders $ 166,000 1,228,744 $ 0.13
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5. STOCK-BASED COMPENSATION:
The Company uses Accounting Principles Board Opinion No. 25 (APB 25) to
account for stock options granted to employees. Under APB 25, no
compensation cost is reflected in net income for stock option awards as
all options granted had an exercise price equal to or in excess of the
market value of the underlying common stock on the date of grant.
Under SFAS No. 123 and No. 148, a company that uses APB 25 to account for
stock options must disclose the effect on reported net income of using a
fair value based method of accounting for stock- based employee
compensation.
The following table summarizes the effect on net income and earnings per
share had the accounting for employee stock options been based on the fair
value method.
-11-
For the Three Months Ended
September 27, September 28,
2003 2002
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Net income:
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As reported $ 416,000 $ 166,000
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Compensation expense, net of tax 6,000 6,000
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Pro forma $ 410,000 $ 160,000
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Basic earnings per share:
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As reported $ 0.35 $ 0.14
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Compensation expense, net of tax 0.01 0.01
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Pro forma $ 0.34 $ 0.13
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Diluted earnings per share:
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As reported $ 0.35 $ 0.13
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Compensation expense, net of tax 0.01 0.01
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Pro forma $ 0.34 $ 0.12
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6. GOVERNMENT BOOT CONTRACT REVENUES:
From time to time, the Company records estimates of revenues or costs
associated with certain contract actions before the amount of such actions
are settled with the DSCP. Any differences between these estimates and the
actual amounts agreed to are included in the period of settlement.
The Company has incurred certain contract material costs which are
reimbursable under a contract price adjustment clause. Under this contract
clause, the Company cannot, unless the amount exceeds a specified amount,
submit a claim to the government for these costs until the contract's end.
After a claim is filed, it is reviewed and audited by the government. It
has been several years since the Company has had a claim of this type, and
therefore the Company lacks any recent experience of government audits of
this type of claim. The Company has determined that under the Securities
and Exchange Commission Staff Accounting Bulletin No. 101, "Revenue
Recognition in Financial Statements", the claim amount is not fixed or
determinable, therefore the estimated amount should not be recorded at
this time. The amount of this claim will be recorded in revenues in the
period in which it becomes fixed or determinable.
In late March 2003, DSCP ordered the Company to accelerate its rate of
boot production by exercising a contract's surge option clause. The
Consolidated Statements of Operations for the quarter ended September 27,
2003 include surge related costs (overtime, new employee training, etc.),
totaling $143,000. In addition, the Consolidated Statements of Operations
and Comprehensive Income for the year ended June 28, 2003 include surge
related costs of $279,000. Wellco interprets the related surge option
-12-
contract clause to require its submitting and subsequently negotiating
with DSCP a proposal for reimbursement of these costs. DSCP has a
different understanding of this clause under which the Company would not
be reimbursed these costs. The Company's legal counsel has discussed with
DSCP's legal counsel this difference in contract clause interpretation,
without any resolution. The probability of successfully resolving this
issue, or the outcome of any legal action, cannot be reasonably predicted.
The reimbursement of surge costs will be recognized in revenues in the
period when and if DSCP acknowledges Wellco's right to reimbursement, or
when any ensuing legal action awards reimbursement.
-13-
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
RESULTS OF OPERATIONS
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Critical Accounting Policies:
- ----------------------------
The Consolidated Financial Statements have been prepared in accordance with
generally accepted accounting principles which require the Company to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the Consolidated Financial Statements, and revenues
and expenses during the periods reported. Actual results could differ from those
estimates. The Company believes the following are the critical accounting
policies which could have the most significant effect on the Company's reported
results and require the most difficult, subjective or complex judgements by
management.
o Impairment of Long-Lived Assets:
The Company reviews its long-lived assets for impairment whenever
events or circumstances indicate that the carrying amount of an
asset may not be recoverable. If the sum of the expected cash
flows, undiscounted and without interest, is less than the
carrying amount of the asset, an impairment loss is recognized as
the amount by which the carrying amount of the asset exceeds its
fair value. The Company makes estimates of its future cash flows
related to assets subject to impairment review. One of the most
critical estimates is future demand, primarily through U. S.
Department of Defense contracts, for the Company's products.
Changes to this and other estimates could result in an impairment
charge in future periods.
o Inventory Valuation:
Raw materials and supplies are valued at the lower of first-in,
first-out cost or market. Finished goods and work in process are
valued at the lower of actual cost, determined on a specific
identification basis, or market. The Company estimates which
materials may be obsolete and which products in work in process
or finished goods may be sold at less than cost, and adjusts its
inventory value accordingly. Future periods could include either
income or expense items if estimates change and for differences
between the estimated and actual amount realized from the sale of
inventory.
o Income Taxes:
The Company records a liability for potential tax assessments
based on its estimate of the potential exposure. Due to the
subjectivity and complex nature of the underlying issues, actual
payments or assessments may differ from estimates. Income tax
expense in future periods could be adjusted for the difference
between actual payments and the Company's recorded liability
based on its assessments and estimates.
The Company has recorded a valuation allowance equal to a
significant part of its deferred tax assets. The valuation
allowance is based on an evaluation of the uncertainty of future
taxable income from certain jurisdictions. An adjustment could be
required if circumstances and events cause the Company to change
these estimates.
Since June 28, 2003, the end of the 2003 fiscal year, there have been no changes
in the nature of the estimates and assumptions related to these critical
accounting policies.
-14-
Comparing the Three Months Ended September 27, 2003 and September 28, 2002:
- --------------------------------------------------------------------------
For the three months ended September 27, 2003 (current period), Wellco had net
income of $416,000 compared to a net income of $166,000 in the prior year three
month period ended September 28, 2002 (prior period). For the three months ended
September 28, 2002, income before cumulative effect of change in accounting
principle was $394,000. The major reasons for the increase in net income are:
o Compared to the prior period, total revenues in the current
period increased by $3,359,000. In late March, 2003, the Defense
Supply Center Philadelphia (DSCP, the Department of Defense
Agency with whom the Company contracts for the manufacture of
combat boots) invoked its surge option under a contract. Invoked
in response to the need for desert boots used by U. S. Armed
Forces personnel in Iraq, the surge option requires Wellco to
significantly increase its rate of boot production. In the
current period the Company shipped 44,000 more pairs of combat
boots than in the prior period. In addition, current period
revenues include $404,000 of sales under a small contract with
DSCP to supply the Extreme Cold Weather (Mukluk) boots. The prior
period did not contain Mukluk sales.
Revenues from technical assistance fees and equipment rentals
from licensees were greater in the current period because of
increased licensee shipments. However, revenues from sales of
boot manufacturing equipment and materials to licensees decreased
and offset the increase in technical assistance fees and
equipment rentals. Revenues from sales of boot manufacturing
equipment and materials can vary with the needs of licensees.
o Cost of Sales and Services in the current year increased by
$3,240,000, which resulted in an increase in gross profit of only
$119,000.
In late March, 2003, DSCP invoked its surge option under this
contract. Under surge, a contractor is to make as many boots as
fast as reasonably possible. Since the start of surge, the
Company, in response to surge, has increased its rate of boot
production to 265% of the pre-surge level. This increase was only
possible by adding work shifts, hiring new employees, working
overtime and paying premium freight cost for air shipments.
Simultaneously with the surge option being invoked, the Company
was awarded a contract to supply the U. S. Army's new Infantry
Combat Boot (ICB). About two years ago, the Army decided to
replace its all leather combat boot, one of the three DMS boots
manufactured by Wellco which represents about half of Wellco's
historical sales to DSCP, with the ICB boot. Wellco, along with
two other manufacturers, was awarded a contract to supply this
boot. During the current period, the Company incurred significant
costs (new employee training costs, materials for production
trials, boot testing, plant infrastructure costs, etc.) to
integrate this new boot into the Company's factories. During the
current period, sales of the ICB boot to DSCP were insignificant.
The combination of cost increases from surge and the integration
of ICB boot manufacturing caused significant increases in several
costs.
For the current period, the Company has identified $143,000 of
additional cost incurred because of the DSCP surge. Wellco
interprets the related surge option contract clause to require
its submitting and subsequently negotiating with DSCP a proposal
for reimbursement of these costs. DSCP has a different
interpretation of this clause. Based on the advice of its legal
counsel, Wellco has notified DSCP that when total additional
costs incurred because of surge are known, a request for
reimbursement of these costs will be submitted.
-15-
o During the current period, a senior management person was added
to the Company's Puerto Rico factory staff. In addition, other
administrative personnel made several trips to the factory to
assist in surge and ICB boot production start-up. The $78,000
increase in general and administrative expenses was primarily
caused by increases in administrative compensation and travel.
o The Consolidated Statements of Operations for the current period
and the prior period include grant income of $20,000. This grant
requires the Company to maintain operations in Puerto Rico for
its five fiscal years 2000 through 2004, and the grant income is
being recognized on a straight line basis over this five year
period.
o Interest expense increased $22,000 primarily because the bank
line of credit was used in the current period to purchase
equipment and increase inventory because of surge and integration
of the ICB boot production.
The income tax rate (the percent of Provision for Income Taxes to the Income
Before Income Taxes) for the current period was 15% compared to 16% for the
prior period.
Forward Looking Information:
- ---------------------------
Based on information supplied by DSCP, surge is expected to last at least
through fiscal year 2004, which will end July 3, 2004.
On September 30, 2003, DSCP awarded Wellco a new contract for DMS combat boots.
Wellco's award is for 30% of DSCP total DMS boot purchases. The contract is for
a base period of one year, with two one- year options. Four contracts were
awarded and the quantities to be purchased from each contractor are 35%, 30%,
20% and 15% of DSCP total boot purchases. Under the old DMS contract mentioned
above, Wellco supplied 25% of total DSCP purchases. The total pairs DSCP will
buy under these new contracts will be lower than in the past because of the
Army's replacement of its all-leather DMS combat boot with the Infantry Combat
Boot (ICB). In addition, the new contract, as compared to the old contract, has
lower prices which will result in a lower profit margin per pair of boots.
The ICB boot contract is for a one year period, with four one year options which
are exercisable at the government's discretion. The Company expects shipments of
this boot to gradually increase in the second fiscal quarter of the 2004 fiscal
year which will end on January 3, 2004.
If Wellco's future operating results and liquidity would be adversely affected
by the decreased prices in the new DMS contract; use of the bank line of credit
would likely increase; and, the bank line of credit may be cancelled or may not
be renewed (see further discussion in the Liquidity and Capital Resources
section).
In November, 2003, the Company found a buyer for certain beret manufacturing
machinery that was purchased in anticipation of DSCP awarding a beret contract.
The Company did not receive the beret contract, and wrote-off this equipment's
total cost in fiscal years 2002 and 2003. The sales price of this equipment is
$40,000, which will be included in Cost of Sales for the fiscal quarter ending
January 3, 2004 as a reversal of previous years write-off.
The Company has received machinery orders from a customer totaling $370,000. The
Company estimates that delivery will be in the second and third quarters of
fiscal year 2004.
-16-
Except for historical information, this form 10-Q includes forward looking
statements that involve risks and uncertainties, including, but not limited to,
the receipt of contracts from the DSCP and the performance thereunder, the
ability to control costs under fixed price contracts, the cancellation of
contracts, and other risks detailed from time to time in the Company's
Securities and Exchange Commission filings, including Form 10-K for the year
ended June 28, 2003. Those statements include, but may not be limited to, all
statements regarding intent, beliefs, expectations, projections, forecasts, and
plans of the Company and its management. Actual results may differ materially
from management expectations. The Company assumes no obligation to update any
forward-looking statements.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
Wellco uses cash from operations and a bank line of credit to supply most of its
liquidity needs.
The following table summarizes, at the end of the most recent fiscal quarter and
the last fiscal year, the amounts of cash and unused line of credit:
(in thousands)
September 27, 2003 June 28, 2003
- ---------------------------------------------------------------------------
Cash and Cash Equivalents $79 $133
- ---------------------------------------------------------------------------
Unused Line of Credit * 1,215 910
- ---------------------------------------------------------------------------
Total $1,294 $1,043
- ---------------------------------------------------------------------------
*On September 18, 2003 the bank line of credit was increased to $4.5 million.
The increase in cash available at September 27, 2003 resulted primarily from the
increased limit under the bank line of credit.
The following table summarizes the major sources (uses) of cash for the three
months ended September 27, 2003:
(in thousands)
September 27, 2003
- ----------------------------------------------------------------------------
Income Before Depreciation and Other Non-cash
Adjustments $648
- ----------------------------------------------------------------------------
Net Change in Accounts Receivable, Inventories,
Accounts Payable, and Accrued Compensation (2,334)
- ----------------------------------------------------------------------------
Net Change in Income Taxes, Pension Obligation,
and Other (224)
- ----------------------------------------------------------------------------
Net Cash Used by Operations (1,910)
- ----------------------------------------------------------------------------
Cash Used to Purchase Plant
and Equipment (720)
- ----------------------------------------------------------------------------
Cash Provided by Line of Credit 2,695
- ----------------------------------------------------------------------------
Cash Dividends Paid (119)
- ----------------------------------------------------------------------------
Net Decrease in Cash and Cash Equivalents ($54)
- ----------------------------------------------------------------------------
-17-
In the three months ended September 27, 2003, cash used by operations was
$1,910,000. Net income of $416,000 and depreciation and amortization of $252,000
were the main sources of cash provided by operations. The main uses of operating
cash were an increase in inventories of $908,000 and an increase in accounts
receivable of $565,000, an increase in prepaid expenses of $256,000 and a
decrease in accounts payable of $994,000.
Cash from operations and borrowings from the line of credit was primarily used
to purchase equipment, pay cash dividends, and fund the increase in raw
materials and work in process inventories for the higher production required by
surge.
The following table shows aggregated information about contractual obligations
as of September 27, 2003:
Payments Due by Period
Total Less Than 1 1-3 Years 4-5 Years After 5 Years
Year
- -------------------------------------------------------------------------------
Notes Payable $300,000 $300,000
- -------------------------------------------------------------------------------
Building Lease 953,000 $113,000 $318,000 $342,000 180,000
- -------------------------------------------------------------------------------
Total $1,253,000 $113,000 $318,000 $342,000 $480,000
- -------------------------------------------------------------------------------
Wellco does not know of any demands, commitments, uncertainties, or trends that
will result in or that are reasonablely likely to result in its liquidity
increasing or decreasing in any material way.
Due to increased accounts receivable from shipping DMS boots under surge, and to
increased inventories, caused by both surge and the initial production of the
ICB boot, the Company increased its line of credit to $4,500,000 on September
18, 2003. The bank line of credit, which provides for total borrowing of
$4,500,000, will expire on December 31, 2003 and will then be subject to renewal
at the discretion of the bank. Historically, the bank has always renewed the
line of credit. Under conditions of substantial reduction in operations, with
little basis for projecting a reversal of such reduction, it is possible that
the bank would cancel the line of credit. Events that would cause a substantial
reduction in operations include: cancellation of existing government contracts;
and, receiving government contracts that do not provide enough revenues to
provide adequate liquidity.
There was borrowing of $3,285,000 under the line of credit at September 27, 2003
and the Company was in compliance with the loan covenants on that date. Because
of surge and the investment in inventory for manufacture of the ICB boot, the
Company expects significant use of the line of credit in the next few months.
Since the Company's first source of liquidity is cash from operations, a
decrease in sales of the Company's products would reduce this source of
liquidity and result in increased use of the bank line of credit. Based on
information available to date, the Company believes that such events should not
occur in its fiscal year 2004.
The Promissory Note, Loan Agreement and Security Agreement documenting the bank
line of credit provide that:
o All amounts borrowed shall become due and immediately payable upon
demand of the bank.
o The bank's obligation to make advances under the note shall
terminate: if the bank makes a demand for payment; if a default
under any loan document occurs; or, in any event, on December 31,
-18-
2003, unless the Note is extended by the bank under terms
satisfactory to the bank.
o All amounts borrowed shall become immediately payable if Wellco
commences or has commenced against it a bankruptcy or insolvency
proceeding, or in the event of default.
Events of default include:
o Having a current ratio less than that prescribed by the bank.
o Having tangible net worth less than that prescribed by the bank.
o Any failure to meet requirements under the Note, Loan Agreement
or Security Agreement.
Other than the above, Wellco does not know of any other demands, commitments,
uncertainties, or trends that will result in or that are reasonablely likely to
result in its liquidity increasing or decreasing in any material way.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company does not have any derivative financial instruments, other financial
instruments, or derivative commodity instruments that require disclosures.
Item 4. Controls and Procedures.
(a) Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures are controls and other procedures that are
designed to ensure that information required to be disclosed in the reports that
are filed or submitted under the Exchange Act is recorded, processed, summarized
and reported, within the time periods specified in the Securities and Exchange
Commissions's rules and forms. Disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that information
required to be disclosed in the reports that are filed under the Exchange Act is
accumulated and communicated to management, including the chief executive
officer and chief financial officer, as appropriate to allow timely decisions
regarding required disclosure. Under the supervision of and with the
participation of management, including the chief executive officer and chief
financial officer, the Company has evaluated the effectiveness of the design and
operation of its disclosure controls and procedures as of September 27, 2003,
and based on its evaluation, our chief executive officer and chief financial
officer have concluded that these controls and procedures are effective.
(b) Changes in Internal Controls
There have been no significant changes in internal controls or in other factors
that could significantly affect these controls subsequent to the date of the
evaluation described above, including any corrective actions with regard to
significant deficiencies and material weaknesses.
-19-
PART II. OTHER INFORMATION
--------------------------
Item 1. Legal Proceedings. N/A
Item 2. Changes in Securities. N/A
Item 3. Defaults Upon Senior Securities. N/A
Item 4. Submission of Matters to a Vote of Security Holders. N/A
Item 5. Other Information. N/A
Item 6. Exhibits and Reports on Form 8-K.
a). Exhibits:
(31) Certifications of the Chief Executive Officer and
Chief Financial Officer under Section 302 of the
Sarbanes-Oxley Act of 2002, filed herewith.
(32) Certifications of the Chief Executive Officer and
Chief Financial Officer under Section 906 of the
Sarbanes-Oxley Act of 2002, filed herewith.
b). Reports on Form 8-K:
On October14, 2003, the Company filed a current report on
Form 8-K reporting under Item 9.
-20-
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.
Wellco Enterprises, Inc., Registrant
\s\ \s\
- ----------------------------------- -----------------------------------
David Lutz, Chief Executive Officer Tammy Francis, Controller and Chief
and President Financial Officer
(Principal Executive Officer)
November 11, 2003
-21-
Exhibit 31
----------
WELLCO ENTERPRISES, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 27, 2003
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, David Lutz, certify that:
1. I have reviewed this report on Form 10-Q of Wellco Enterprises, Inc.(the
registrant);
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this
report;
3 Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d- 15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during
the period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's
internal controls over financial reporting that occurred during
the registrant's first fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting,
to the registrant's auditors and the audit committee of the registrant's
board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
-22-
ability to record, process, summarize and report financial
information; and
(b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal control over financial reporting.
Date: November 11, 2003
/s/ David Lutz
- -----------------------------------------------------
By: David Lutz, Chief Executive Officer and President
(Chief Executive Officer)
-23-
WELLCO ENTERPRISES, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 27, 2003
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, Tammy Francis, certify that:
1. I have reviewed this report on Form 10-Q of Wellco Enterprises, Inc.(the
registrant);
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this
report;
3 Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d- 15(e)) for the registrant
and have:
(a) Designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during
the period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
(c) Disclosed in this report any change in the registrant's
internal controls over financial reporting that occurred during
the registrant's first fiscal quarter that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting,
to the registrant's auditors and the audit committee of the registrant's
board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
-24-
ability to record, process, summarize and report financial
information; and (b) Any fraud, whether or not material, that
involves management or other employees who have a significant
role in the registrant's internal control over financial
reporting.
Date: November 11, 2003
/s/ Tammy Francis
- -------------------------------------------
By: Tammy Francis, Controller and Treasurer
(Chief Financial Officer)
-25-
Exhibit 32
----------
WELLCO ENTERPRISES, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 27, 2003
CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE
SARBANES-OXLEY ACT OF 2002
I, David Lutz, certify that:
1. I am the chief executive officer of Wellco Enterprises, Inc.
2. Attached to this certification is Form 10-Q for the three months ended
September 27, 2003, a periodic report (the "periodic report") filed by the
issuer with the Securities Exchange Commission pursuant to Section 13(a)
or 15(d) of the Securities Exchange Act of 1934 (the "Exchange Act:),
which contains financial statements.
3. I hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, that
o the periodic report containing the financial statements
fully complies with the requirements of Section 13(a) or
15(d) of the Exchange Act, and
o the information in the periodic report fairly presents,
in all material respects, the financial condition and
results of operations of the issuer for the periods
presented.
Date: November 11, 2003
/s/ David Lutz
- -----------------------------------------------------
By: David Lutz, Chief Executive Officer and President
(Chief Executive Officer)
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by Wellco Enterprises Inc. and
furnished to the Securities and Exchange Commission or its staff upon request.
This certification will not be deemed "filed" for purposes of Section 18 of the
Securities Exchange Act of 1934, or otherwise subject to the liability of that
section. This certification will not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933 or the Securities Exchange Act
of 1934 even if the document with which it is submitted to the Securities and
Exchange Commission is so incorporated by reference.
-26-
WELLCO ENTERPRISES, INC.
FORM 10-Q FOR THE THREE MONTHS ENDED SEPTEMBER 27, 2003
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO
18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE
SARBANES-OXLEY ACT OF 2002
I, Tammy Francis, certify that:
1. I am the chief financial officer of Wellco Enterprises, Inc.
2. Attached to this certification is Form 10-Q for the three months ended
September 27, 2003, a periodic report (the "periodic report") filed by the
issuer with the Securities Exchange Commission pursuant to Section 13(a)
or 15(d) of the Securities Exchange Act of 1934 (the "Exchange Act:),
which contains financial statements.
3 I hereby certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002, that
o the periodic report containing the financial statements
fully complies with the requirements of Section 13(a) or
15(d) of the Exchange Act, and
o the information in the periodic report fairly presents,
in all material respects, the financial condition and
results of operations of the issuer for the periods
presented.
Date: November 11, 2003
/s/ Tammy Francis
- -------------------------------------------
By: Tammy Francis, Controller and Treasurer
(Chief Financial Officer)
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by Wellco Enterprises Inc. and
furnished to the Securities and Exchange Commission or its staff upon request.
This certification will not be deemed "filed" for purposes of Section 18 of the
Securities Exchange Act of 1934, or otherwise subject to the liability of that
section. This certification will not be deemed to be incorporated by reference
into any filing under the Securities Act of 1933 or the Securities Exchange Act
of 1934 even if the document with which it is submitted to the Securities and
Exchange Commission is so incorporated by reference.
-27-