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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
-----------
FORM 10-Q
/ X / QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the quarterly period ended December 31, 2004
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the transition period from to
--------------------- ------------------
Commission file number 0-27378
NUCO2 INC.
(Exact Name of Registrant as Specified in Its Charter)
Florida 65-0180800
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
2800 SE Market Place, Stuart, FL 34997
(Address of Principal Executive Offices) (Zip Code)
(772) 221-1754
(Registrant's Telephone Number, Including Area Code)
N/A
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)
Indicate by check /X/ 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 /X/ whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). Yes /X/ No / /
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date:
CLASS OUTSTANDING AT DECEMBER 31, 2004
----- --------------------------------
Common Stock, $.001 par value 12,755,431 shares
NUCO2 INC.
INDEX
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Balance Sheets as of December 31, 2004 and 3
June 30, 2004
Statements of Operations for the Three Months Ended 4
December 31, 2004 and December 31, 2003
Statements of Operations for the Six Months Ended 5
December 31, 2004 and December 31, 2003
Statement of Shareholders' Equity for the Six 6
Months Ended December 31, 2004
Statements of Cash Flows for the Six Months 7
Ended December 31, 2004 and December 31, 2003
Notes to Financial Statements 8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF 18
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES 32
ABOUT MARKET RISK
ITEM 4. CONTROLS AND PROCEDURES 32
PART II. OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND 33
USE OF PROCEEDS
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY 33
HOLDERS
ITEM 6. EXHIBITS 33
SIGNATURES 34
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NUCO2 INC.
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
ASSETS
------
December 31, 2004 June 30, 2004*
----------------- --------------
(unaudited)
Current assets:
Cash and cash equivalents $ 48 $ 505
Trade accounts receivable, net of allowance for doubtful
accounts of $2,068 and $2,095, respectively 8,952 6,141
Inventories 258 226
Prepaid insurance expense and deposits 2,840 2,193
Prepaid expenses and other current assets 1,201 719
----------- -----------
Total current assets 13,299 9,784
----------- -----------
Property and equipment, net 100,415 92,969
----------- -----------
Other assets:
Goodwill, net 21,871 19,222
Deferred financing costs, net 2,634 2,178
Customer lists, net 5,667 41
Non-competition agreements, net 1,066 703
Deferred lease acquisition costs, net 3,798 3,458
Other assets 174 181
----------- -----------
35,210 25,783
----------- -----------
Total assets $ 148,924 $ 128,536
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Current liabilities:
Current maturities of long-term debt $ 7,709 $ 6,048
Accounts payable 5,484 4,579
Accrued expenses 1,413 1,840
Accrued interest 477 440
Accrued payroll 418 1,137
Other current liabilities 413 343
----------- -----------
Total current liabilities 15,914 14,387
Long-term debt, excluding current maturities 43,046 30,962
Subordinated debt 30,047 29,163
Customer deposits 3,436 3,247
----------- -----------
Total liabilities 92,443 77,759
----------- -----------
Commitments and contingencies
Redeemable preferred stock -- 10,021
----------- -----------
Shareholders' equity:
Preferred stock; no par value; 5,000,000 shares authorized;
issued and outstanding 0 shares at December 31, 2004
and 7,500 shares at June 30, 2004 -- --
Common stock; par value $.001 per share; 30,000,000 shares authorized;
issued and outstanding 12,755,431 shares at December 31, 2004
and 10,840,831 shares at June 30, 2004 13 11
Additional paid-in capital 107,594 96,185
Accumulated deficit (51,413) (55,704)
Accumulated other comprehensive income 287 264
----------- -----------
Total shareholders' equity 56,481 40,756
----------- -----------
Total liabilities and shareholders' equity $ 148,924 $ 128,536
=========== ===========
See accompanying notes to financial statements.
*Restated to conform to current year presentation.
3
NUCO2 INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Three Months Ended December 31,
-------------------------------
2004 2003*
---- -----
Revenues:
Product sales $15,596 $11,646
Equipment rentals 9,084 7,808
------- -------
Total revenues 24,680 19,454
------- -------
Costs and expenses:
Cost of products sold, excluding depreciation and amortization 10,064 8,385
Cost of equipment rentals, excluding depreciation
and amortization 567 381
Selling, general and administrative expenses 4,639 3,767
Depreciation and amortization 4,197 3,793
Loss on asset disposals 496 304
------- -------
19,963 16,630
------- -------
Operating income 4,717 2,824
Interest expense 2,228 2,050
------- -------
Income before income taxes 2,489 774
Provision for income taxes 52 --
------- -------
Net income $ 2,437 $ 774
======= =======
Weighted average outstanding shares of common stock:
Basic 11,998 10,653
======= =======
Diluted 13,578 11,655
======= =======
Net income per basic share $ 0.20 $ 0.05
======= =======
Net income per diluted share $ 0.18 $ 0.05
======= =======
See accompanying notes to financial statements.
*Restated to conform to current year presentation.
4
NUCO2 INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Six Months Ended December 31,
-----------------------------
2004 2003*
---- -----
Revenues:
Product sales $ 29,141 $ 24,215
Equipment rentals 17,420 15,477
-------- --------
Total revenues 46,561 39,692
-------- --------
Costs and expenses:
Cost of products sold, excluding depreciation and amortization 19,471 17,011
Cost of equipment rentals, excluding depreciation
and amortization 1,120 1,209
Selling, general and administrative expenses 8,711 7,782
Depreciation and amortization 7,937 7,705
Loss on asset disposals 657 719
-------- --------
37,896 34,426
-------- --------
Operating income 8,665 5,266
Loss on early extinguishment of debt -- 1,964
Interest expense 4,268 3,947
-------- --------
Income (loss) before income taxes 4,397 (645)
Provision for income taxes 106 --
-------- --------
Net income (loss) $ 4,291 $ (645)
======== ========
Weighted average outstanding shares of common stock:
Basic 11,599 10,643
======== ========
Diluted 13,171 10,643
======== ========
Net income (loss) per basic share $ 0.35 $ (0.10)
======== ========
Net income (loss) per diluted share $ 0.31 $ (0.10)
======== ========
See accompanying notes to financial statements.
*Restated to conform to current year presentation.
5
NUCO2 INC.
STATEMENT OF SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
Accumulated
Common Stock Additional Other Total
--------------------- Paid-In Accumulated Comprehensive Shareholders'
Shares Amount Capital Deficit Income Equity
------ ------ ------- ------- ------ ------
Balance, June 30, 2004 10,840,831 $ 11 $ 96,185 $ (55,704) $ 264 $ 40,756
Comprehensive income:
Net income -- -- -- 4,291 -- 4,291
Other comprehensive income:
Interest rate swap transaction -- -- -- -- 23 23
----------
Total comprehensive income 4,314
Conversion of 5,000 shares of Redeemable
Preferred Stock 754,982 1 7,005 -- -- 7,006
Conversion of 2,500 shares of Redeemable
Preferred Stock 247,420 -- 3,196 -- -- 3,196
Issuance of 831,936 shares of common stock -
exercise of warrants 831,936 1 742 -- -- 743
Issuance of 80,262 shares of common stock -
exercise of options 80,262 -- 648 -- -- 648
Redeemable preferred stock dividend -- -- (182) -- -- (182)
---------- ---------- ---------- ---------- ---------- ----------
Balance, December 31, 2004 12,755,431 $ 13 $ 107,594 $ (51,413) $ 287 $ 56,481
========== ========== ========== ========== ========== ==========
See accompanying notes to financial statements.
6
NUCO2 INC.
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Six Months Ended December 31,
-----------------------------
2004 2003*
---- -----
Cash flows from operating activities:
Net income (loss) $ 4,291 $ (645)
Adjustments to reconcile net income (loss) to net cash provided
by operating activities:
Depreciation and amortization of property and equipment 6,682 6,690
Amortization of other assets 1,254 1,015
Amortization of original issue discount 212 193
Paid-in-kind interest 672 449
Loss on disposals 657 719
Loss on early extinguishment of debt -- 1,964
Changes in operating assets and liabilities:
Decrease (increase) in:
Trade accounts receivable (2,812) (541)
Inventories (32) (27)
Prepaid insurance expense and deposits (647) (976)
Prepaid expenses and other current assets (482) (289)
Increase (decrease) in:
Accounts payable 905 (620)
Accrued expenses (372) 431
Accrued payroll (719) (899)
Accrued interest 61 71
Other current liabilities 69 (34)
Customer deposits 189 (109)
-------- --------
Net cash provided by operating activities 9,928 7,392
-------- --------
Cash flows from investing activities:
Purchase of property and equipment (8,064) (6,924)
Increase in deferred lease acquisition costs (925) (767)
Acquisition of business (15,722) --
Decrease in other assets 9 7
-------- --------
Net cash used in investing activities (24,702) (7,684)
-------- --------
Cash flows from financing activities:
Repayment of long-term debt (9,005) (75,322)
Proceeds from issuance of long-term debt 22,750 78,000
Exercise of warrants 743 --
Exercise of stock options 649 104
Increase in deferred financing costs (820) (2,743)
-------- --------
Net cash provided by financing activities 14,317 39
-------- --------
Decrease in cash and cash equivalents (457) (253)
Cash and cash equivalents at the beginning of period 505 455
-------- --------
Cash and cash equivalents at the end of period $ 48 $ 202
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 3,324 $ 3,147
======== ========
Income taxes $ 96 $ -
======== ========
See accompanying notes to financial statements.
*Restated to conform to current year presentation.
7
NUCO2 INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared
in accordance with the instructions to Form 10-Q used for quarterly reports
under Section 13 or 15 (d) of the Securities Exchange Act of 1934, and
therefore, do not include all information and footnotes necessary for a fair
presentation of financial position, results of operations and cash flows in
conformity with generally accepted accounting principles.
The financial information included in this report has been prepared
in conformity with the accounting principles and methods of applying those
accounting principles, reflected in the Company's audited financial statements
for the fiscal year ended June 30, 2004 included in Form 10-K filed with the
Securities and Exchange Commission.
All adjustments necessary for a fair statement of the results for
the interim periods presented have been recorded. This quarterly report on Form
10-Q should be read in conjunction with the Company's audited financial
statements for the fiscal year ended June 30, 2004. The results of operations
for the periods presented are not necessarily indicative of the results to be
expected for the full fiscal year. As a result of the adoption of EITF 00-21
(see Note 2), the Company anticipates that reported revenue will fluctuate on a
quarterly basis due to seasonal variations. Based on historical data and
expected trends, the Company anticipates that revenue from the delivery of CO2
will be highest in the first quarter and lowest in the third quarter.
NOTE 2. ACCOUNTING PRONOUNCEMENTS
On July 1, 2003, the Company adopted EITF Issue No. 00-21, "REVENUE
ARRANGEMENTS WITH MULTIPLE DELIVERABLES" ("EITF 00-21"). EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which the
vendor will perform multiple revenue generating activities. The Company's bulk
CO2 budget plan agreements provide for a fixed monthly payment to cover the use
of a bulk CO2 system and a predetermined maximum quantity of CO2. As of December
31, 2004, approximately 61,000 of the Company's customer locations utilized this
plan. Prior to July 1, 2003, the Company, as lessor, recognized revenue under
its budget plan agreements on a straight-line basis over the life of the related
leases. The Company developed a methodology for the purpose of separating the
aggregate revenue stream between the rental of the equipment and the sale of the
CO2. Effective July 1, 2003, revenue attributable to the lease of equipment,
including equipment leased under the budget plan, is recorded on a straight-line
basis over the term of the lease and revenue attributable to the supply of CO2
and other gases, including CO2 provided under the budget plan, is recorded upon
delivery to the customer.
The Company has elected to apply EITF 00-21 retroactively to all
budget plan agreements in existence as of July 1, 2003. Based on the Company's
analysis, the aggregate amount of CO2 actually delivered under budget plans
during the quarter ended June 30, 2003 is not materially different than the
corresponding portion of the fixed charges attributable to CO2. Accordingly, the
Company believes the cumulative effect of the adoption of EITF 00-21 as of July
1, 2003 is not significant.
Under the budget plan, each customer has a maximum CO2 allowance
that is measured and reset on the contract anniversary date. At that date, it is
appropriate to record revenue for actual deliveries of CO2 in excess of contract
billings. Because of the large number of customers under the budget plan and the
fact that the anniversary dates for determining maximum quantities are spread
throughout the year, the Company's methodology necessarily involves the use of
estimates and assumptions to separate the aggregate revenue stream derived from
equipment rentals to budget plan customers, and also to approximate the
recognition of revenue from CO2 sales to budget plan customers upon delivery.
The Company believes that the adoption of EITF 00-21 has the most impact on the
recognition of revenue on a quarterly basis as CO2 usage fluctuates during a
fiscal year based on factors such as weather, and traditional summer and holiday
periods. Over a twelve-month period, the Company believes the effect is less
significant since seasonal variations are largely eliminated and CO2 allowances
under budget plan agreements are measured and reset annually.
In December 2003, the Financial Accounting Standards Board ("FASB")
revised FASB Interpretation No. 46, "CONSOLIDATION OF VARIABLE INTEREST
ENTITIES." Application of FASB Interpretation No. 46 is required in a company's
financial statements for interests in variable interest entities that are
8
NUCO2 INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED)
considered special-purpose entities for reporting periods ending after March 15,
2004. FASB Interpretation No. 46 did not affect the Company's financial
position, results of operations, or cash flows.
In December 2003, the FASB revised SFAS No. 132, "EMPLOYER
DISCLOSURES ABOUT PENSIONS AND OTHER POSTRETIREMENT BENEFITS" ("SFAS 132"). SFAS
132 requires additional disclosures regarding the assets, obligations, cash
flows, and net periodic benefit cost of defined benefit plans and other defined
benefit postretirement plans. SFAS 132 requires that this information be
provided separately for pension plans and other postretirement benefit plans.
The adoption of the revised SFAS No. 132, effective January 1, 2004, did not
affect the Company's financial position, results of operations, or cash flows.
In December 2004, the FASB revised SFAS No. 123, "ACCOUNTING FOR
STOCK-BASED COMPENSATION" ("SFAS 123-R"). SFAS 123-R supersedes APB Opinion No.
25, "ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES," and its related implementation
guidance. SFAS 123-R requires all share-based payments to employees, including
grants of employee stock options, to be recognized in the statement of
operations based on their fair value and vesting schedule. However, SFAS 123-R
does not change the accounting guidance for share-based payment transactions
with parties other than employees provided in SFAS 123 as originally issued and
EITF Issue No. 96-18, "ACCOUNTING FOR EQUITY INSTRUMENTS THAT ARE ISSUED TO
OTHER THAN EMPLOYEES FOR ACQUIRING, OR IN CONJUNCTION WITH SELLING, GOODS OR
SERVICES." The Company will adopt SFAS 123-R effective with the fiscal quarter
beginning July 1, 2005, at which time, pro forma disclosure of net income and
earnings per share as provided in Note 7, will no longer be an alternative to
recognition in the statement of operations.
NOTE 3. EARNINGS (LOSS) PER COMMON SHARE
The Company calculates earnings per share in accordance with the
requirements of SFAS No. 128, "EARNINGS PER SHARE." The weighted average shares
outstanding used to calculate basic and diluted earnings (loss) per share were
calculated as follows (in thousands):
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
2004 2003 2004 2003
---- ---- ---- ----
Weighted average shares outstanding - basic 11,998 10,653 11,599 10,643
Outstanding options and warrants to purchase
shares of common stock - remaining shares
after assuming repurchase with proceeds
from exercise 1,580 1,002 1,572 -
------ ------ ------ ------
Weighted average shares outstanding - diluted 13,578 11,655 13,171 10,643
======= ====== ====== ======
The Company excluded the equivalent of 749,109 shares of common
stock for the six months ended December 31, 2003, as these options and warrants
to purchase common stock were anti-dilutive for that period. In addition, the
Company excluded the effects of the conversion of its outstanding redeemable
preferred stock using the "if converted" method, as the effect would be
anti-dilutive for all periods presented (Note 6). The Company's redeemable
preferred stock was convertible into 935,317 shares of common stock as of
December 31, 2003.
In August 2004, 5,000 shares of the Company's redeemable preferred
stock were converted into 754,982 shares of common stock. The remaining 2,500
shares of redeemable preferred stock were converted into 247,420 shares of
common stock in December 2004 (see Note 6).
The following table presents the Company's net income (loss)
available to common shareholders and income (loss) per share, basic and diluted
(in thousands, except per share amounts):
9
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
2004 2003 2004 2003
-------- -------- -------- -------
Net income (loss) $ 2,437 $ 774 $ 4,291 $ (645)
Redeemable preferred stock dividends (47) (189) (182) (374)
-------- -------- -------- --------
Net income (loss) -
available to common shareholders $ 2,390 $ 585 $ 4,109 $(1,019)
======== ======== ======== ========
Weighted average outstanding shares of
common stock:
Basic 11,998 10,653 11,599 10,643
Diluted 13,578 11,655 13,171 10,643
Basic income (loss) per share $ 0.20 $ 0.05 $ 0.35 $(0.10)
======= ======= ======= =======
Diluted income (loss) per share $ 0.18 $ 0.05 $ 0.31 $(0.10)
======= ======= ======= =======
NOTE 4. LONG-TERM DEBT
In September 2001, the Company entered into a $60.0 million second
amended and restated revolving credit facility with a syndicate of banks
("Amended Credit Facility"). The Amended Credit Facility contained interest
rates and an unused commitment fee based on a pricing grid calculated quarterly
on total debt to annualized EBITDA (as defined). The Company was entitled to
select the Base Rate (as defined) or LIBOR (as defined), plus applicable margin,
for principal drawings under the Amended Credit Facility. Interest only was
payable periodically until the termination of the Amended Credit Facility. The
Amended Credit Facility was collateralized by substantially all of the Company's
assets. Additionally, the Company was precluded from declaring or paying any
cash dividends, except the Company was permitted to accrue and accumulate, but
not pay, cash dividends on the redeemable preferred stock. The Company was also
required to meet certain affirmative and negative covenants including, but not
limited to, financial covenants.
Prior to June 30, 2002, the Amended Credit Facility was amended to
adjust certain financial covenants for the quarter ended March 31, 2002 and
prospectively, and non-compliance with the minimum EBITDA covenant for the three
months ended March 31, 2002 was waived. As of June 30, 2002, the Company was not
in compliance with certain of its financial covenants. On September 27, 2002,
the Amended Credit Facility was amended to adjust certain financial covenants
for the quarter ended June 30, 2002, and prospectively, and the maturity of the
Amended Credit Facility was extended to November 17, 2003. As of September 30,
2002, the Company was in compliance with all of the financial covenants under
the Amended Credit Facility. On February 7, 2003, the Amended Credit Facility
was amended to adjust certain financial covenants for the quarter ended December
31, 2002 and prospectively, non-compliance with the minimum EBITDA covenant for
the three months ended December 31, 2002 was waived, the maturity of the Amended
Credit Facility was extended to April 29, 2004, and the Amended Credit Facility
was reduced to $45.0 million. As of March 31, 2003 and June 30, 2003, the
Company was in compliance with all of the financial covenants under the Amended
Credit Facility.
On August 25, 2003, the Company terminated the Amended Credit
Facility and entered into a $50.0 million senior credit facility with a
syndicate of banks (the "Senior Credit Facility"). The Senior Credit Facility
initially consisted of a $30.0 million A term loan facility (the "A Term Loan"),
a $10.0 million B term loan facility (the "B Term Loan"), and a $10.0 million
revolving loan facility (the "Revolving Loan Facility"). On October 1, 2004, the
Senior Credit Facility was amended to, among other things, increase the B Term
Loan to $23.0 million and to modify certain financial covenants. The A Term Loan
and Revolving Loan Facility mature on August 25, 2007, while the B Term Loan
matures on August 25, 2008. The Company is entitled to select either Eurodollar
Loans (as defined) or Base Rate Loans (as defined), plus applicable margin, for
principal borrowings under the Senior Credit Facility. Applicable margin is
determined by a pricing grid based on the Company's Consolidated Total Leverage
Ratio (as defined) as follows:
10
B Term Revolving A Term B Term Revolving
Consolidated A Term Loans Loans Loans Loans Loans Loans
Total maintained as maintained maintained as maintained as maintained maintained
Leverage Base Rate as Base Rate Base Rate Eurodollar as Eurodollar as Eurodollar
Level Ratio Loans Loans Loans Loans Loans Loans
- ----- ----- ----- ----- ----- ----- ----- -----
Less than
1 2.50:1.00 2.50% 2.75% 2.50% 3.50% 3.75% 3.50%
Greater than or
equal to
2.50:1.00 but
less than
2 3.00:1.00 2.75% 3.00% 2.75% 3.75% 4.00% 3.75%
Greater than or
equal to
3 3.00:1.00 3.00% 3.25% 3.00% 4.00% 4.25% 4.00%
However, from October 1, 2004 until delivery to the lenders of the
Company's financial statements for the quarter ending December 31, 2004, Level 2
pricing applies. Interest is payable periodically on borrowings under the Senior
Credit Facility. In addition, on December 31, 2003 and on the last day of each
quarter thereafter, the Company is required to make principal repayments on the
A Term Loan in increasing amounts and on December 31, 2004 and on the last day
of each quarter thereafter, the Company is required to make principal payments
on the B Term Loan in the amount of $57,500 until August 25, 2008 when the
Company is required to make a payment in the amount of $22,137,500. The Senior
Credit Facility is collateralized by all of the Company's assets. Additionally,
the Company is precluded from declaring or paying any cash dividends, except it
may accrue and accumulate, but not pay, cash dividends on its outstanding
redeemable preferred stock. As of December 31, 2004, $24.0 million was
outstanding under the A Term Loan, $22.9 million was outstanding under the B
Term Loan and $3.7 million was outstanding under the Revolving Loan Facility
with a weighted average interest rate of 6.3% per annum.
The Company is also required to meet certain affirmative and
negative covenants, including but not limited to financial covenants. The
Company is required to assess its compliance with these financial covenants
under the Senior Credit Facility on a quarterly basis. These financial covenants
are based on a measure that is not consistent with accounting principles
generally accepted in the United States of America. Such measure is EBITDA (as
defined), which represents earnings before interest, taxes, depreciation and
amortization, as further modified by certain defined adjustments. The failure to
meet these covenants, absent a waiver or amendment, would place the Company in
default and cause the debt outstanding under the Senior Credit Facility to
immediately become due and payable. The Senior Credit Facility also includes
certain cross-default provisions to the Company's 16.3% Senior Subordinated
Notes due February 27, 2009. The Company was in compliance with all covenants
under the Senior Credit Facility as of September 30, 2003 and all subsequent
quarters up to and including December 31, 2004.
In connection with the termination of the Amended Credit Facility,
during the first quarter of fiscal 2004, the Company recognized a loss from the
write-off of $0.9 million in unamortized financing costs associated with the
Amended Credit Facility and recorded $2.2 million in financing costs associated
with the Senior Credit Facility. Such costs will be amortized over the life of
the Senior Credit Facility.
Effective July 1, 2000, the Company adopted SFAS No. 133 "ACCOUNTING
FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES," as amended, which, among
other things, establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities. All derivatives, whether designated in
hedging relationships or not, are required to be recorded on the balance sheet
at fair value. For a derivative designated as a cash flow hedge, the effective
portions of changes in the fair value of the derivative are recorded in other
comprehensive income and are recognized in the income statement when the hedged
item affects earnings. Ineffective portions of changes in the fair value of cash
flow hedges are recognized in earnings.
The Company uses derivative instruments to manage exposure to
interest rate risks. The Company's objectives for holding derivatives are to
minimize the risks using the most effective methods to eliminate or reduce the
impacts of this exposure. Prior to August 25, 2003, the Company was a party to
an interest rate swap agreement (the "Prior Swap") with a notional amount of
$12.5 million and a termination date of September 28, 2003. Under the Prior
11
Swap, the Company paid a fixed interest rate of 5.23% per annum and received a
LIBOR-based floating rate. In conjunction with the termination of the Prior Swap
prior to maturity, the Company paid $86,000, which represented the fair value of
the swap liability. The $86,000 was reclassified from other comprehensive income
and recognized as a component of the loss on early extinguishment of debt.
The Prior Swap, which was designated as a cash flow hedge, was
deemed to be a highly effective transaction, and accordingly the loss on the
derivative instrument was reported as a component of other comprehensive income
(loss). Prior to termination of the Prior Swap in August 2003, the Company
recorded $43,000, net of the reclassification adjustment of $86,000,
representing the change in fair value of the Prior Swap, as other comprehensive
income.
In order to reduce the Company's exposure to increases in Eurodollar
rates, and consequently to increases in interest payments, the Company entered
into an interest rate swap transaction (the "Swap") on October 2, 2003, in the
amount of $20.0 million ("Notional Amount") with an effective date of March 15,
2004 and a maturity date of September 15, 2005. Pursuant to the Swap, the
Company pays a fixed interest rate of 2.12% per annum and receives a
Eurodollar-based floating rate. The effect of the Swap is to neutralize any
changes in Eurodollar rates on the Notional Amount. As the Swap was not
effective until March 15, 2004 and no cash flows were exchanged prior to that
date, the Swap did not meet the requirements to be designated as a cash flow
hedge. As such, an unrealized loss of $177,000 was recognized in the Company's
results of operations for the fiscal year ended June 30, 2004, reflecting the
change in fair value of the Swap from inception to the effective date. As of
March 15, 2004, the Swap met the requirements to be designated as a cash flow
hedge and is deemed a highly effective transaction. Accordingly, the Company
recorded $264,000, representing the change in fair value of the Swap from March
15, 2004 through June 30, 2004, as other comprehensive income. The fair value of
the Swap increased by $23,000 during the first six months of fiscal 2005 to
$110,000.
NOTE 5. SUBORDINATED DEBT
In October 1997, the Company issued $30.0 million of its 12% Senior
Subordinated Promissory Notes (the "1997 Notes") with interest only payable
semi-annually on April 30 and October 31, due October 31, 2004. The 1997 Notes
were sold with detachable seven year warrants to purchase an aggregate of
655,738 shares of common stock at an exercise price of $16.40 per share. At the
date of issuance, in accordance with APB 14, "ACCOUNTING FOR CONVERTIBLE DEBT
AND DEBT ISSUED WITH PURCHASE WARRANTS," the Company allocated proceeds of $29.7
million to the debt and $0.3 million to warrants, with the resulting discount on
the debt referred to as the original issue discount. Prior to August 25, 2003,
the original issue discount was being amortized as interest expense over the
life of the debt, resulting in an effective interest rate on the 1997 Notes of
12.1% per annum. The amount allocated to the warrants was credited to additional
paid-in capital. In conjunction with the issuance of the 1997 Notes, the Company
was required to meet certain affirmative and negative covenants. In addition,
NationsBanc Montgomery Securities, Inc., the placement agent, received a warrant
to purchase an aggregate of 30,000 shares of common stock at an exercise price
of $14.64 per share.
On May 4, 1999, the Company sold an additional $10.0 million of its
12% Senior Subordinated Promissory Notes (the "1999 Notes"). Except for their
October 31, 2005 maturity date, the 1999 Notes were substantially identical to
the 1997 Notes described above. The 1999 Notes were sold with detachable 6-1/2
year warrants to purchase an aggregate of 372,892 shares of common stock at an
exercise price of $6.65 per share.
In return for modifying certain financial covenants governing the
1997 Notes, the exercise price of 612,053 of the warrants issued in connection
with the 1997 Notes was reduced to $6.65 per share. On May 4, 1999, the trading
range of the Company's common stock was $6.44 to $6.88 per share. To assist with
the valuation of the newly issued warrants and the repriced warrants, the
Company hired an outside consultant. Utilizing the Black-Scholes Model, the
warrants issued with the 1997 Notes were valued at $1.26 per warrant, or an
aggregate value of $773,702 and the warrants issued with the 1999 Notes at $1.47
per warrant, or an aggregate value of $549,032. Both amounts were recorded as
additional paid-in capital, offset by the original issue discount, which is
netted against the outstanding balance of the 1997 Notes and 1999 Notes. After
giving effect to the amortization of the original issue discount, the effective
interest rate on the 1999 Notes was 13.57% per annum.
As of December 31, 2002, the Company was in compliance with all of
the financial covenants under the 1997 Notes and 1999 Notes. On February 7,
2003, the interest coverage ratio governing the 1997 Notes and 1999 Notes was
amended for the quarter ending March 31, 2003 and prospectively. As of March 31,
2003 and June 30, 2003, the Company was in compliance with all of the financial
covenants under the 1997 Notes and 1999 Notes.
On August 25, 2003, concurrently with the closing of the Senior
Credit Facility, the Company prepaid the 1997 Notes and 1999 Notes and issued
$30.0 million of the Company's 16.3% Senior Subordinated Notes due February 27,
12
2009 (the "New Notes") with interest only payable quarterly in arrears on
February 28, May 31, August 31 and November 30 of each year, commencing November
30, 2003. Interest on the New Notes is 12% per annum payable in cash and 4.3%
per annum payable "in kind" by adding the amount of such interest to the
principal amount of the New Notes then outstanding. Ten year warrants to
purchase an aggregate of 425,000 shares of the Company's common stock at an
exercise price of $8.79 per share were issued in connection with the New Notes.
Utilizing the Black-Scholes Model, the warrants issued in connection with the
New Notes were valued at $3.70 per warrant, or an aggregate value of $1,573,000.
In addition, the maturity date of 665,403 existing warrants, 335,101 due to
expire in 2004 and 330,302 due to expire in 2005, was extended to February 2009,
resulting in additional value of $1.31 and $0.97 per warrant, respectively, or
an aggregate value of $760,090. At the date of issuance, in accordance with APB
14, "ACCOUNTING FOR CONVERTIBLE DEBT AND DEBT ISSUED WITH PURCHASE WARRANTS,"
the Company allocated proceeds of $27.7 million to the debt and $2.3 million to
the warrants, with the resulting discount on the debt referred to as the
original issue discount. The original issue discount is being amortized as
interest expense over the life of the debt.
In addition, in fiscal 2004 warrants to purchase 75,000 shares of
the Company's common stock issued in connection with the New Notes were
exercised for proceeds of $659,250, recorded as additional paid-in-capital on
the Company's balance sheet as of June 30, 2004.
During the fiscal year ended June 30, 2002, 65,574 of the warrants
issued in connection with the 1997 Notes were exercised and converted into
shares of the Company's common stock. On August 22, 2002, in conjunction with
the private placement of 1,663,846 shares of the Company's common stock, the
remaining warrants issued in conjunction with the 1997 Notes and the warrants
issued in connection with the 1999 Notes were adjusted pursuant to anti-dilution
provisions to provide for the purchase of an additional 21,906 shares of the
Company's common stock. During fiscal 2004, warrants to purchase 30,831 shares
of the Company's common stock issued in connection with the 1997 Notes and 1999
Notes were exercised pursuant to the cashless exercise provision contained in
the warrants. In connection with the cashless exercise, warrants to purchase
50,647 shares of the Company's common stock were canceled. In addition, during
the first six months of fiscal 2005, warrants to purchase 831,936 shares of the
Company's common stock issued in connection with the 1997 Notes, 1999 Notes and
New Notes were exercised for proceeds of $742,812. In connection with these
cashless exercises, warrants to purchase 306,869 shares of the Company's common
stock were canceled. As of December 31, 2004, warrants to purchase 100,000
shares of common stock issued in connection with the New Notes were outstanding
and no warrants issued in connection with the 1997 Notes or 1999 Notes were
outstanding.
As with the Senior Credit Facility, the Company is required to meet
certain affirmative and negative covenants under the New Notes, including but
not limited to financial covenants. In conjunction with the modification of the
Senior Credit Facility on October 1, 2004, certain financial covenants of the
New Notes were modified. The Company was in compliance with all covenants under
the New Notes as of September 30, 2003 and all subsequent quarters up to and
including the quarter ended December 31, 2004.
In connection with the early repayment of the 1997 Notes and 1999
Notes during the first quarter of fiscal 2004, the Company recognized a loss of
$1.0 million attributable to the unamortized financing costs and original issue
discount associated with the 1997 Notes and 1999 Notes, and recorded $0.6
million of financing costs associated with the New Notes. Such fees are being
amortized over the life of the New Notes. The weighted average effective
interest rate of the New Notes, including the amortization of original issue
discount, is 18.0% per annum.
NOTE 6. REDEEMABLE PREFERRED STOCK
In May 2000, the Company sold 5,000 shares of its Series A 8%
Cumulative Convertible Preferred Stock, no par value (the "Series A Preferred
Stock"), for $1,000 per share (the initial "Liquidation Preference"). Cumulative
dividends were payable quarterly in arrears at the rate of 8% per annum on the
Liquidation Preference, and, to the extent not paid in cash, were added to the
Liquidation Preference. Shares of the Series A Preferred Stock were convertible
into shares of common stock at any time at a conversion price of $9.28 per
share. In connection with the sale, costs in the amount of $65,000 were charged
to additional paid-in capital. In August 2004, the holder of the Series A
Preferred Stock converted its shares into 754,982 shares of common stock, and
$7,006,241, representing the Liquidation Preference, was reclassified to common
stock and additional paid-in capital on the Company's balance sheet.
In November 2001, the Company sold 2,500 shares of its Series B 8%
Cumulative Convertible Preferred Stock, no par value (the "Series B Preferred
Stock"), for $1,000 per share (the initial "Liquidation Preference"). Cumulative
dividends were payable quarterly in arrears at the rate of 8% per annum on the
Liquidation Preference, and, to the extent not paid in cash, were added to the
Liquidation Preference. Shares of the Series B Preferred Stock were convertible
into shares of common stock at any time at a conversion price of $12.92 per
share. In December 2004, the holder of the Series B Preferred Stock converted
its shares into 247,420 shares of common stock, and $3,196,674, representing the
13
Liquidation Preference, was reclassified to common stock and additional paid-in
capital on the Company's balance sheet.
During the six months ended December 31, 2004 and 2003, the carrying
amount (and Liquidation Preferences) of the Series A Preferred Stock and Series
B Preferred Stock ("Preferred Stock") was increased by $182,000 and $374,000,
respectively, for dividends accrued.
NOTE 7. STOCK OPTION PLANS
The Board of Directors of the Company adopted the 1995 Stock Option
Plan (the "1995 Plan"). Under the 1995 Plan, the Company has reserved 2,400,000
shares of common stock for employees of the Company. Under the terms of the 1995
Plan, options granted may be either incentive stock options or non-qualified
stock options. The exercise price of incentive options shall be at least equal
to 100% of the fair market value of the Company's common stock at the date of
the grant, and the exercise price of non-qualified stock options issued to
employees may not be less than 75% of the fair market value of the Company's
common stock at the date of the grant. The maximum term for all options is ten
years. Options granted to date generally vest in equal annual installments from
one to five years, though a limited number of grants were partially vested at
the grant date. The weighted-average fair value per share of options granted
during the six months ended December 31, 2004 and 2003 was $5.70 and $3.15,
respectively.
The following summarizes the transactions pursuant to the 1995 Plan:
Weighted Average
Options Exercise Price Options
Outstanding Options Exercisable
----------- ------- -----------
Outstanding at June 30, 2003 1,288,420 $ 9.13 640,373
Granted 82,250 8.77
Expired or canceled (70,250) 12.39
Exercised (13,675) 7.60
----------
Outstanding at December 31, 2003 1,286,745 $ 8.94 678,487
==========
Outstanding at June 30, 2004 1,504,523 $ 10.56 640,373
Granted 1,000 19.41
Expired or canceled (2,001) 12.16
Exercised (42,329) 9.57
-----------
Outstanding at December 31, 2004 1,461,193 $ 10.58 906,702
===========
The following table sets forth certain information as of December
31, 2004:
Options Outstanding Options Exercisable
------------------------------------------------------- ----------------------------------
Range of Exercise Options Weighted Average Weighted Average Options Weighted Average
Prices Outstanding Remaining Life Exercise Price Exercisable Exercise Price
- ----------------- ----------- -------------- -------------- ----------- --------------
$ 0.00 - $ 5.00 148,939 7.25 $ 4.83 95,126 $ 4.84
$ 5.01 - $ 10.00 579,889 6.37 7.55 417,985 7.40
$ 10.01 - $ 15.00 548,015 6.87 12.43 347,504 12.01
$ 15.01 - $ 20.00 184,350 9.48 19.29 46,088 19.29
--------- ----- -------- -------- -----------
1,461,193 7.04 $ 10.58 906,702 $ 9.50
========= ===== ======== ======== ===========
The Board of Directors of the Company adopted the Directors' Stock
Option Plan (the "Directors' Plan"). Under the Directors' Plan, each
non-employee director will receive options for 6,000 shares of common stock on
the date of his or her first election to the board of directors. In addition, on
the third anniversary of each director's first election to the Board, and on
each three year anniversary thereafter, each non-employee director will receive
an additional option to purchase 6,000 shares of common stock. The exercise
price per share for all options granted under the Directors' Plan will be equal
to the fair market value of the common stock as of the date of grant. All
options vest in three equal annual installments beginning on the first
anniversary of the date of grant. The maximum term for all options is ten years.
The weighted-average fair value per share of options granted during the six
months ended December 31, 2004 and 2003 was $5.94 and $3.58, respectively.
14
The following summarizes the transactions pursuant to the Directors'
Plan:
Weighted Average
Options Exercise Price Options
Outstanding Option Exercisable
----------- ------ -----------
Outstanding at June 30, 2003 66,000 $ 9.11 45,997
Granted 12,000 11.68
Expired or canceled - -
Exercised - -
---------
Outstanding at December 31, 2003 78,000 $ 9.50 53,998
=========
Outstanding at June 30, 2004 79,914 $ 10.54 53,994
Granted 6,000 22.70
Expired or canceled - -
Exercised (25,914) 9.13
---------
Outstanding at December 31, 2004 60,000 $ 12.38 43,992
=========
The following table sets forth certain information as of December
31, 2004:
Options Outstanding Options Exercisable
------------------------------------------------------- ----------------------------------
Range of Exercise Options Weighted Average Weighted Average Options Weighted Average
Prices Outstanding Remaining Life Exercise Price Exercisable Exercise Price
- ----------------- ----------- -------------- -------------- ----------- --------------
$ 5.01 - $ 10.00 18,000 3.11 $ 7.23 18,000 $ 7.23
$ 10.01 - $ 15.00 24,000 5.91 11.99 19,998 12.15
$ 15.01 - $ 20.00 12,000 9.19 15.74 3,996 15.74
$ 20.01 - $ 25.00 6,000 9.96 22.70 1,998 22.70
--------- ----- -------- -------- -----------
60,000 6.13 $ 12.38 43,992 $ 10.94
========= ===== ======== ======== ===========
Statement of Financial Accounting Standards No. 123, "ACCOUNTING FOR
STOCK-BASED COMPENSATION" ("SFAS 123"), defines a fair value based method of
accounting for stock options. SFAS 123 allows an entity to continue to measure
cost using the accounting method prescribed by APB Opinion No. 25, "ACCOUNTING
FOR STOCK ISSUED TO EMPLOYEES" ("APB 25") and to make pro forma disclosures of
net income and earnings per share as if the fair value based method of
accounting had been applied. The fair value of each option grant is estimated on
the date of grant using the Black-Scholes option pricing model with the
weighted-average assumptions, expected volatility and risk-free interest rate,
as listed in the table below. The following table (in thousands, except per
share amounts) illustrates the effect on net income and earnings per share if
the Company had applied the fair value recognition provisions of SFAS 123 to
stock-based compensation. However, no stock based compensation was recognized in
the financial statements pursuant to APB 25. See Note 2 regarding SFAS 123-R.
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
2004 2003 2004 2003
------- ------- ------- --------
Net income (loss), as reported $ 2,437 $ 774 $ 4,291 $ (645)
Less:
Stock-based compensation
- fair value measurement (335) (291) (697) (472)
------- ------- ------- -------
Net income (loss), pro forma 2,102 483 3,594 (1,117)
Preferred stock dividends (47) (189) (182) (374)
------- ------- ------- -------
Net income (loss) available to
common shareholders - pro forma $ 2,055 $ 294 $ 3,412 $(1,491)
======= ======= ======= =======
Basic income (loss) per share - reported $ 0.20 $ 0.05 $ 0.35 $ (0.10)
======= ======= ======= =======
Basic income (loss) per share - pro forma $ 0.17 $ 0.03 $ 0.29 $ (0.14)
======= ======= ======= =======
Diluted income (loss) per share - reported $ 0.18 $ 0.05 $ 0.31 $ (0.10)
======= ======= ======= =======
Diluted income (loss) per share - pro forma $ 0.15 $ 0.03 $ 0.26 $ (0.14)
======= ======= ======= =======
Expected volatility 28-40% 37-40% 28-40% 37-40%
Risk free interest rate 2.6-6.6% 2.6-6.6% 2.6-6.6% 2.6-6.6%
Expected dividend yield 0% 0% 0% 0%
Expected lives 3-5 years 3-5 years 3-5 years 3-5 years
15
NOTE 8. ACQUISITION
On October 1, 2004, the Company purchased the bulk CO2 beverage
carbonation business of privately owned Pain Enterprises, Inc., of Bloomington,
Indiana, for total cash consideration of $15.7 million. The Company acquired
approximately 9,400 customer accounts, including 6,500 tanks in service,
vehicles, parts, and supplies. The acquisition of Pain Enterprises' bulk CO2
beverage carbonation business, which operated in 12 Midwestern and Southeastern
states: Florida, Georgia, Illinois, Indiana, Iowa, Kentucky, Michigan, Missouri,
Minnesota, Ohio, Tennessee and Wisconsin, provides further penetration and
increased operating efficiencies in markets in which the Company operates.
The purchase price was allocated between tangible assets, intangible
assets, and goodwill as follows: $6.7 million for tangible assets, $6.4 million
for intangible assets and $2.6 million for goodwill. Tangible assets are being
depreciated over a weighted average life of 10 years, while intangible assets,
excluding goodwill, are being amortized over a weighted average life of eight
years.
Goodwill was recorded as the purchase price of the acquisition
exceeded the fair market value of the tangible and intangible assets acquired
and is a direct result of synergies arising from the transaction. Both the
purchase price allocation and the useful lives of purchased tangible and
intangible assets were derived with the assistance of an independent valuation
consultant and other independent sources as appropriate. The valuation analysis
provided by the independent valuation consultant is preliminary and subject to
completion, which should occur prior to March 31, 2005. As such, the allocation
of the purchase price is subject to change pending the final outcome of the
valuation analysis. Factors that could impact the allocation of the purchase
price are the final determination of the number of customers acquired and the
fair market value of certain tangible and intangible assets received as part of
the transaction. However, based on information currently available, the Company
does not anticipate significant changes to the purchase price allocation.
In conjunction with this transaction, the Senior Credit Facility was
amended to, among other things, increase the B Term Loan from $10.0 million to
$23.0 million and to modify certain covenants.
The results of operations for the acquisition are included in the
statement of operations for the period of October 1, 2004 through December 31,
2004. However, the following unaudited pro forma results of operations have been
prepared assuming the acquisition described above had occurred as of the
beginning of the periods presented in the Company's historical financial
statements, including adjustments to the financial statements for additional
depreciation of tangible assets, amortization of intangible assets, and
increased interest on borrowings to finance the acquisition. The unaudited pro
forma operating results are not necessarily indicative of operating results that
would have occurred had this acquisition been consummated as of the beginning of
the periods presented, or of future operating results. In certain cases, the
operating results for periods prior to the acquisition are based on (a)
unaudited financial data provided by the seller or (b) an estimate of revenues,
cost of revenues and/or selling, general and administrative expenses based on
information provided by the seller or otherwise available to the Company.
Inasmuch as the Company acquired customer accounts, tanks at customer sites and
other assets related to the beverage carbonation business, certain operational
and support costs provided for by the seller are not applicable to our cost of
servicing these customers and were therefore eliminated; however, the Company
incurred approximately $500,000 in non-recurring costs during the integration
phase that are included in the unaudited pro forma results presented below.
Unaudited Pro Forma:
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
2004 2003 2004 2003
-------- -------- -------- --------
Total Revenues $ 24,680 $ 21,877 $ 48,983 $ 44,356
Operating Income 4,717 3,602 9,426 6,259
Net income (loss) 2,437 1,324 4,824 (101)
Preferred stock dividends (47) (189) (182) (374)
-------- -------- -------- --------
Net income (loss) available to
common shareholders $ 2,390 $ 1,135 $ 4,642 $ (475)
======== ======== ======== ========
Basic income (loss) per share $ 0.20 $ 0.11 $ 0.40 $ (0.04)
======== ======== ======== ========
Diluted income (loss) per share $ 0.18 $ 0.10 $ 0.35 $ (0.04)
======== ======== ======== ========
16
NOTE 9. COMPREHENSIVE INCOME (LOSS)
The components of comprehensive income (loss) are as follows for the
periods presented (in thousands):
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
2004 2003 2004 2003
-------- -------- -------- --------
Net income (loss) $ 2,437 $ 774 $ 4,291 $ (645)
Interest rate swap transaction
(Note 4) 59 - 23 129
-------- -------- -------- --------
Comprehensive income (loss) $ 2,496 $ 774 $ 4,314 $ (516)
======== ======== ======== ========
NOTE 10. INCOME TAXES
As of December 31, 2004, the Company had net operating loss
carryforwards for federal income tax purposes of approximately $95 million and
for state purposes in varying amounts, which are available to offset future
federal taxable income, if any, in varying amounts through June 2024. The
Company is currently evaluating whether it has experienced one or more
"ownership changes" for federal income tax purposes. If an "ownership change"
has occurred or were to occur in the future, the Company's ability to use our
pre-ownership change federal and state net operating loss carryforwards (and
certain built-in losses, if any) would be subject to an annual usage limitation,
which under certain circumstances may prevent the Company from utilizing a
portion of such loss carryforwards in future tax periods and reduce its
after-tax cash flow. In addition, a portion of the Company's taxable income is
subject to the alternative minimum tax ("AMT"), which is reflected in its
statements of operations for 2004 along with a provision for state income taxes.
The Company continues to evaluate the deferred tax asset valuation
allowance. Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Substantially
all of the Company's deferred tax assets represent the benefit of loss
carryforwards that arose prior to fiscal year 2004. In assessing the
realizability of deferred tax assets, the Company considers whether it is more
likely than not that some portion or all of the deferred tax assets will not be
realized. Among other matters, realization of the entire deferred tax asset is
dependent on the Company's ability to generate sufficient taxable income prior
to the expiration of the carryforwards. While the Company attained profitability
during fiscal year 2004, based on the available objective evidence and the
recent history of losses, the Company cannot conclude that it is more likely
than not that the net deferred tax assets will be fully realizable. Accordingly,
the Company has recorded a valuation allowance equal to the amount of its net
deferred tax assets.
17
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS CONTAINS FORWARD-LOOKING STATEMENTS REGARDING FUTURE
EVENTS AND OUR FUTURE RESULTS THAT ARE BASED ON CURRENT EXPECTATIONS, ESTIMATES,
FORECASTS, AND PROJECTIONS ABOUT THE INDUSTRY IN WHICH WE OPERATE AND THE
BELIEFS AND ASSUMPTIONS OF OUR MANAGEMENT. WORDS SUCH AS "EXPECTS,"
"ANTICIPATES," "TARGETS," "GOALS," "PROJECTS," "INTENDS," "PLANS," "BELIEVES,"
"SEEKS," "ESTIMATES," VARIATIONS OF SUCH WORDS AND SIMILAR EXPRESSIONS ARE
INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. IN ADDITION, ANY
STATEMENTS THAT REFER TO PROJECTIONS OF OUR FUTURE FINANCIAL PERFORMANCE, OUR
ANTICIPATED GROWTH AND TRENDS IN OUR BUSINESS, AND OTHER CHARACTERIZATIONS OF
FUTURE EVENTS OR CIRCUMSTANCES, ARE FORWARD-LOOKING STATEMENTS. READERS ARE
CAUTIONED THAT THESE FORWARD-LOOKING STATEMENTS ARE ONLY PREDICTIONS AND ARE
SUBJECT TO RISKS, UNCERTAINTIES, AND ASSUMPTIONS THAT ARE DIFFICULT TO PREDICT.
THEREFORE, ACTUAL RESULTS MAY DIFFER MATERIALLY AND ADVERSELY FROM THOSE
EXPRESSED IN ANY FORWARD-LOOKING STATEMENTS.
OVERVIEW
We believe that we are the largest supplier in the United States of
bulk CO2 systems and bulk CO2 for carbonating fountain beverages based on the
number of bulk CO2 systems leased to customers. As of December 31, 2004, we
operated a national network of 114 service locations in 45 states servicing
approximately 94,000 bulk and high pressure CO2 customers. Currently, virtually
all fountain beverage users in the continental United States are within our
present service area. On October 1, 2004, we purchased the bulk CO2 beverage
carbonation business of privately owned Pain Enterprises, Inc., of Bloomington,
Indiana. The transaction involved the acquisition of approximately 9,400
customer accounts, including 6,500 tanks in service, vehicles, parts, and
supplies. The acquisition of Pain Enterprises' bulk CO2 beverage carbonation
business in 12 Midwestern and Southeastern states: Florida, Georgia, Illinois,
Indiana, Iowa, Kentucky, Michigan, Missouri, Minnesota, Ohio, Tennessee and
Wisconsin, provides further penetration into markets in which we operate.
We market our bulk CO2 products and services to large customers such
as restaurant and convenience store chains, movie theater operators, theme
parks, resorts and sports venues. Our customers include many of the major
national and regional chains throughout the United States. We approach large
chains on a corporate or regional level for approval to become the preferred
supplier of bulk CO2 products and services on a national basis or within a
designated territory. We then direct our sales efforts to the managers or owners
of the individual or franchised operating units. Our relationships with chain
customers in one geographic market frequently help us to establish service with
these same chains when we expand into new markets. After accessing the chain
accounts in a new market, we attempt to build route density by leasing bulk CO2
systems to independent restaurants, convenience stores and theaters.
We have entered into master service agreements with 34 of what we
believe to be the largest 100 restaurant and convenience store chains that
provide fountain beverages. These master service agreements generally provide
for a commitment on the part of the operator for all of its currently owned
locations and may also include future locations. In addition, the agreements may
also provide that the operator's franchisees can participate in the program. We
are actively working on expanding the number of master service agreements with
numerous restaurant chains, including some of the largest operators. During the
first six months of fiscal 2005, we signed 7,800 new customer locations, 3,700
of which were related to master service agreements.
We believe that our future revenue growth, gains in gross margin and
profitability will be dependent upon (i) increases in route density in existing
markets and the expansion and penetration of bulk CO2 system installations in
new market regions, both resulting from successful ongoing marketing, (ii)
improved operating efficiencies and (iii) price increases. New multi-unit
placement agreements combined with single-unit placements will drive
improvements in achieving route density. Our success in reaching multi-placement
agreements is due in part to our national delivery system. We maintain a "hub
and spoke" route structure and establish additional stationary bulk CO2 service
locations as service areas expand through geographic growth. Our entry into many
states was accomplished largely through the acquisition of businesses having
thinly developed route networks. We expect to benefit from route efficiencies
18
and other economies of scale as we build our customer base in these states
through intensive regional and local marketing initiatives. Greater density
should also lead to enhanced utilization of vehicles and other fixed assets and
the ability to spread fixed marketing and administrative costs over a broader
revenue base.
Generally, our experience has been that as our service locations
mature their gross profit margins improve as a result of their volume growing
while fixed costs remain essentially unchanged. New service locations typically
operate at low or negative gross margins in the early stages and detract from
our highly profitable service locations in more mature markets. During the last
two years, we have experienced a significant improvement in gross margin due to
net new customer activations and operating improvements, including efficiencies
in delivery of product to our customers, such as reductions in unscheduled
deliveries, total miles driven, and miles driven between stops and improvements
to our safety record. Accordingly, we believe that we are in position to build
our customer base while maintaining and improving upon our superior levels of
customer service, with minimal changes required to our support infrastructure.
We continue to be focused on improving operating effectiveness, increasing
prices for our services and strengthening our workforce, and anticipate that
these initiatives will contribute positively to all areas of our company.
GENERAL
Substantially all of our revenues have been derived from the rental
of bulk CO2 systems installed at customers' sites, the sale of CO2, and high
pressure cylinder revenues. Revenues have grown from $58.0 million in fiscal
2000 to $80.8 million in fiscal 2004. We believe that our revenue base is stable
due to the existence of long-term contracts with our customers which generally
rollover with a limited number expiring without renewal in any one year. Revenue
growth is largely dependent on (1) the rate of new bulk CO2 system
installations, (2) the growth in bulk CO2 sales and (3) price increases.
Cost of products sold is comprised of purchased CO2, employee,
vehicle, and service location costs associated with the storage and delivery of
CO2. Cost of equipment rentals is comprised of costs associated with customer
equipment leases. Selling, general and administrative expenses consist of wages
and benefits, dispatch and communications costs, as well as expenses associated
with marketing, administration, accounting and administrative employee training.
Consistent with the capital intensive nature of our business, we incur
significant depreciation and amortization expenses. These stem from the
depreciation of our bulk CO2 systems and related installation costs,
amortization of deferred lease acquisition costs, and amortization of deferred
financing costs and other intangible assets. With respect to bulk CO2 systems,
we capitalize costs based on a standard amount per installation that is
associated with specific installations of such systems with customers under
non-cancelable contracts and which would not be incurred but for a successful
placement. Costs incurred in excess of the standard amount per installation, if
any, are expensed in the statement of operations. All other service, marketing
and administrative costs are expensed as incurred.
Since 1990, we have devoted significant resources to building a
sales and marketing organization, adding administrative personnel and developing
a national infrastructure to support the rapid growth in the number of our
installed base of bulk CO2 systems. The costs of this expansion and the
significant depreciation expense recognized on our installed network have
resulted in accumulated net losses of $51.4 million at December 31, 2004.
19
RESULTS OF OPERATIONS
Three Months Ended December 31, Six Months Ended December 31,
------------------------------- -----------------------------
Income Statement Data: 2004 2003 2004 2003
---- ---- ---- ----
Product sales 63.2% 59.9% 62.6% 61.0%
Equipment rentals 36.8 40.1 37.4 39.0
----- ----- ----- -----
Total revenues 100.0 100.0 100.0 100.0
Cost of products sold, excluding
depreciation and amortization 40.8 43.1 41.8 42.9
Cost of equipment rentals, excluding
depreciation and amortization 2.3 2.0 2.4 3.0
Selling, general and administrative expenses 18.7 19.4 18.7 19.6
Depreciation and amortization 17.0 19.5 17.0 19.4
Loss on asset disposal 2.1 1.5 1.5 1.8
----- ----- ----- -----
Operating income 19.1 14.5 18.6 13.3
Loss on early extinguishment of debt -- -- -- 4.9
Interest expense 9.0 10.5 9.2 9.9
----- ----- ----- -----
Income (loss) before income taxes 10.1 4.0 9.4 (1.6)
Provision for income taxes 0.2 -- 0.2 --
----- ----- ----- -----
Net income (loss) 9.9% 4.0% 9.2% (1.6)%
===== ===== ===== =====
THREE MONTHS ENDED DECEMBER 31, 2004 COMPARED TO THREE MONTHS ENDED DECEMBER 31,
2003
TOTAL REVENUES
Total revenues increased by $5.2 million, or 26.9%, from $19.5
million in 2003 to $24.7 million in 2004. Revenues derived from our bulk CO2
service plans increased by $4.1 million, of which $3.5 million was due to an
increase in the number of customer locations and $0.6 million was primarily due
to an increase in CO2 sold to the average customer. During the quarter, the
number of customer locations utilizing our bulk CO2 services increased from a
period average of 77,000 customers in 2003 to 93,000 in 2004, due to strong
organic growth and the purchase of approximately 9,400 customer locations from
Pain Enterprises, Inc. effective October 1, 2004 which generated revenues of
$2.4 million in 2004. In addition, revenues derived from the sale of high
pressure cylinder products, fuel surcharges, and other revenues increased by
$1.2 million.
The following table sets forth, for the periods indicated, the
percentage relationship which our service plans bear to total revenues:
Three Months Ended September 30,
--------------------------------
Service Plan 2004 2003
-------- --------
Bulk budget plan(1) 55.5% 62.3%
Equipment lease/product purchase plan(2) 16.0 12.0
Product purchase plan(3) 9.9 8.6
High pressure cylinder(4) 6.1 6.1
Other revenues(5) 12.5 11.0
------ ------
100.0% 100.0%
====== ======
(1) Combined fee for bulk CO2 tank and bulk CO2.
(2) Fee for bulk CO2 tank and, separately, bulk CO2 usage.
(3) Bulk CO2 only.
(4) High pressure CO2 cylinders and non-CO2 gases.
(5) Surcharges and other charges.
During fiscal 2002, we adopted a plan to phase out those customers that
use only high pressure cylinders and who do not utilize one of our bulk
CO2 service plans. Revenues derived from our stand-alone high pressure
cylinder customers may not be fully eliminated from our ongoing revenues
inasmuch as our goal is to convert these customers to a bulk CO2 service
plan. Accordingly, the expected declining revenues derived from
stand-alone high pressure cylinder customers is not expected to have a
material impact on our results of operations.
20
PRODUCT SALES - Revenues derived from the product sales portion of
our service plans increased by $4.0 million, or 33.9%, from $11.6 million in
2003 to $15.6 million in 2004. The increase in revenues is primarily due to a
21.3% increase in the average number of customer locations serviced combined
with an increase in CO2 sold to the average customer. In addition, the sales of
products and services other than bulk CO2 increased by $1.2 million due in large
part to an increase in revenues derived from cylinder products, fuel surcharges
and other revenues.
EQUIPMENT RENTALS - Revenues derived from the lease portion of our
service plans increased by $1.3 million, or 16.3%, from $7.8 million in 2003 to
$9.1 million in 2004, primarily due to a 19.9% increase in the average number of
customer locations leasing equipment from us and price increases to a
significant number of our customers consistent with the Consumer Price Index,
partially offset by incentive pricing provided to multiple national restaurant
organizations utilizing our equipment under the bulk budget plan and equipment
lease/product purchase plans pursuant to master service agreements. The average
number of customer locations renting equipment from us increased from 64,000 in
2003 to 77,000 in 2004, 6,500 of which were acquired as part of the transaction
with Pain Enterprises, Inc. effective on October 1, 2004.
COST OF PRODUCTS SOLD, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of products sold, excluding depreciation and amortization,
increased from $8.4 million in 2003 to $10.1 million in 2004, while decreasing
as a percentage of product sales revenue from 72.0% to 64.5%. Product costs
increased by $0.8 million from $3.0 million in 2003 to $3.8 million in 2004. The
base price with our primary supplier of CO2 increased by the Producer Price
Index, while the volume of CO2 sold by us increased by 31.3%, primarily due to
an 21.3% increase in our average customer base and a 7.8% increase in CO2 sold
these customers.
Operational costs, primarily wages and benefits related to cost of
products sold, increased from $3.4 million in 2003 to $3.9 million in 2004,
primarily due to an increase in route driver costs associated with an increased
customer base. As of December 31, 2004, we had 321 drivers as compared to 267 at
the same point last year. However, some of the headcount increase in drivers was
offset by a reduction in depot and regional management headcount. In addition,
while we have realized savings in workers' compensation costs, we continue to
experience higher health care costs, generally due to market conditions.
Truck delivery expenses increased from $1.2 million in 2003 to $1.5
million in 2004 primarily due to the increased customer base and fuel costs. We
have been able to minimize the impact of increased fuel costs and variable lease
costs associated with truck usage by continuing to improve efficiencies in the
timing and routing of deliveries. While total miles driven increased by 16.9% on
an average customer base that increased by 21.3%, miles driven per average
customer decreased 4.0%. In addition, we have maintained improvements in our
safety record over the past year which continues to impact workers' compensation
and vehicle accident claims expense.
Occupancy and shop costs related to cost of products sold increased
from $0.7 million in 2003 to $0.8 million in 2004.
COST OF EQUIPMENT RENTALS, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of equipment rentals, excluding depreciation and amortization,
increased by $0.2 million from $0.4 million in 2003 to $0.6 million in 2004,
while increasing as a percentage of equipment rentals revenue from 4.9% to 6.2%.
During the quarter ended December 31, 2003, we reviewed our estimates of
installations and direct costs anticipated to be incurred for the fiscal year
ending June 30, 2004 and our accounting for direct costs. As a result, at that
time we capitalized approximately $190,000 of direct costs that had been
expensed in the three months ended September 30, 2003.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses increased by $0.9
million from $3.8 million in 2003 to $4.6 million in 2004, while decreasing as a
percentage of total revenues from 19.4% in 2003 to 18.7% in 2004.
Selling related expenses increased by $0.1 million, from $0.8
million in 2003 to $0.9 million in 2004, primarily the result of an increase in
expenses directed towards training, marketing and growth opportunities.
General and administrative expenses increased by $0.7 million, or
24.5%, from $3.0 million in 2003 to $3.7 million in 2004. This increase was the
result of acquisition integration, incentive plans, wage increases, and a
non-recurring increase in public company expense.
21
DEPRECIATION AND AMORTIZATION
Depreciation and amortization increased from $3.8 million in 2003 to
$4.2 million in 2004. As a percentage of total revenues, depreciation and
amortization expense decreased from 19.5% in 2003 to 17.0% in 2004.
Depreciation expense increased from $3.3 million in 2003 to $3.4
million in 2004. Depreciation increased by approximately $0.2 million due to the
purchase of tanks and equipment from Pain Enterprises, Inc., offset by a $0.1
million decrease in depreciation associated with the shortened lives of certain
small tanks that were partially impaired and scheduled to be phased out over a
three to four year period commencing June 30, 2002.
Amortization expense increased from $0.5 million in 2003 to $0.8
million in 2004. This increase is due in large part to a $0.2 million increase
in amortization associated with the acquisition of customer accounts and other
intangible assets associated with the Pain Enterprises, Inc. transaction.
LOSS ON ASSET DISPOSAL
Loss on asset disposal increased from $0.3 million in 2003 to $0.5
million in 2004, while increasing as a percentage of total revenues from 1.5% to
2.1%.
OPERATING INCOME
For the reasons previously discussed, operating income increased by
$1.9 million from $2.8 million in 2003 to $4.7 million in 2004. As a percentage
of total revenues, operating income improved from 14.5% in 2003 to 19.1% in
2004.
INTEREST EXPENSE
Interest expense increased from $2.1 million in 2003 to $2.2 million
in 2004, while decreasing as a percentage of total revenues from 10.5% in 2003
to 9.0% in 2004. The effective interest rate of our debt decreased from 11.4% to
10.8% per annum.
INCOME BEFORE INCOME TAXES
See discussion of Net Income.
PROVISION FOR INCOME TAXES
As of December 31, 2004, we had net operating loss carryforwards for
federal income tax purposes of approximately $95.0 million and for state
purposes in varying amounts, which are available to offset future federal
taxable income, if any, in varying amounts through June 2024. We are currently
evaluating whether we have experienced one or more "ownership changes" for
federal income tax purposes. If an "ownership change" has occurred or were to
occur in the future, our ability to use our pre-ownership change federal and
state net operating loss carryforwards (and certain built-in losses, if any)
would be subject to an annual usage limitation, which under certain
circumstances may prevent us from being able to utilize a portion of such loss
carryforwards in future tax periods and reduce our after-tax cash flow. In
addition, a portion of our taxable income is subject to the alternative minimum
tax ("AMT"), which is reflected in our statements of operations for 2004 along
with a provision for state income taxes. Our provision for income taxes in 2004
was $0.1 million. No provision was made for income tax expense in 2003 due to
our net loss.
We continue to evaluate the deferred tax asset valuation allowance.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Substantially all of our
deferred tax assets represent the benefit of loss carryforwards that arose prior
to fiscal year 2004. In assessing the realizability of deferred tax assets, we
consider whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. Among other matters, realization of
the entire deferred tax asset is dependent on our ability to generate sufficient
taxable income prior to the expiration of the carryforwards. While we attained
profitability during fiscal year 2004, based on the available objective evidence
and the recent history of losses, we cannot conclude that it is more likely than
not that the net deferred tax assets will be fully realizable. Accordingly, we
have recorded a valuation allowance equal to the amount of our net deferred tax
assets.
22
NET INCOME
For the reasons described above, net income improved by $1.7 million
from $0.7 million in 2003 to $2.4 million in 2004.
EBITDA
Earnings before interest, taxes, depreciation and amortization
("EBITDA") is one of the principal financial measures by which we measure our
financial performance. EBITDA is a widely accepted financial indicator used by
many investors, lenders and analysts to analyze and compare companies on the
basis of operating performance, and we believe that EBITDA provides useful
information regarding our ability to service our debt and other obligations.
However, EBITDA does not represent cash flow from operations, nor has it been
presented as a substitute to operating income or net income as indicators of our
operating performance. EBITDA excludes significant costs of doing business and
should not be considered in isolation or as a substitute for measures of
performance prepared in accordance with accounting principles generally accepted
in the United States of America. In addition, our calculation of EBITDA may be
different from the calculation used by our competitors, and therefore
comparability may be affected. In addition, our lenders also use EBITDA to
assess our compliance with debt covenants. These financial covenants are based
on a measure that is not consistent with accounting principles generally
accepted in the United States of America. Such measure is EBITDA (as defined) as
modified by certain defined adjustments.
EBITDA, as set forth in the table below (in thousands), increased by
$2.3 million, or 34.7%, from $6.6 million in 2003 to $8.9 million in 2004 and
increased as a percentage of total revenues from 34.0% to 36.1%.
Three Months Ended December 31,
-------------------------------
2004 2003
-------- ---------
Net income $ 2,437 $ 774
Interest expense 2,228 2,050
Depreciation and amortization 4,197 3,793
Provision for income taxes 52 --
-------- --------
EBITDA $ 8,914 $ 6,617
======== ========
Cash flows provided by (used in):
Operating activities $ 6,651 $ 3,894
Investing activities $(20,261) $ (4,108)
Financing activities $ 10,466 $ 262
SIX MONTHS ENDED DECEMBER 31, 2004 COMPARED TO SIX MONTHS ENDED DECEMBER 31,
2003
TOTAL REVENUES
Total revenues increased by $6.9 million, or 17.3%, from $39.7
million in 2003 to $46.6 million in 2004. Revenues derived from our bulk CO2
service plans increased by $5.8 million, of which $5.1 million was due to an
increase in the number of customer locations and $0.7 million was primarily due
to an increase in CO2 sold to the average customer. During the year, the number
of customer locations utilizing our bulk CO2 services increased from a period
average of 76,000 customers in 2003 to 88,000 in 2004, due to strong organic
growth and the purchase of approximately 9,400 customer locations from Pain
Enterprises, Inc. on October 1, 2004 which generated revenues of $2.4 million in
2004. In addition, revenues derived from the sale of high pressure cylinder
products, fuel surcharges, and other revenues increased by $1.1 million.
The following table sets forth, for the periods indicated, the
percentage relationship which our service plans bear to total revenues:
Six Months Ended December 31,
-----------------------------
Service Plan 2004 2003
-------- ---------
Bulk budget plan(1) 58.3% 62.2%
Equipment lease/product purchase plan(2) 14.6 11.6
Product purchase plan(3) 9.4 8.6
High pressure cylinder(4) 5.8 6.1
Other revenues(5) 11.9 11.5
------ ----
100.0% 100.0%
====== ======
(1) Combined fee for bulk CO2 tank and bulk CO2.
(2) Fee for bulk CO2 tank and, separately, bulk CO2 usage.
(3) Bulk CO2 only.
(4) High pressure CO2 cylinders and non-CO2 gases.
(5) Surcharges and other charges.
23
During fiscal 2002, we adopted a plan to phase out those customers that
use only high pressure cylinders and who do not utilize one of our bulk
CO2 service plans. Revenues derived from our stand-alone high pressure
cylinder customers may not be fully eliminated from our ongoing revenues
inasmuch as our goal is to convert these customers to a bulk CO2 service
plan. Accordingly, the expected declining revenues derived from
stand-alone high pressure cylinder customers is not expected to have a
material impact on our results of operations.
PRODUCT SALES - Revenues derived from the product sales portion of
our service plans increased by $4.9 million, or 20.3%, from $24.2 million in
2003 to $29.1 million in 2004. The increase in revenues is primarily due to a
15.2% increase in the average number of customer locations serviced combined
with an increase in CO2 sold to the average customer. In addition, the sales of
products and services other than bulk CO2 increased by $1.1 million due in large
part to an increase in revenues derived from cylinder products, fuel surcharges
and other revenues.
EQUIPMENT RENTALS - Revenues derived from the lease portion of our
service plans increased by $1.9 million, or 12.6%, from $15.5 million in 2003 to
$17.4 million in 2004, primarily due to a 14.6% increase in the average number
of customer locations leasing equipment from us and price increases to a
significant number of our customers consistent with the Consumer Price Index,
partially offset by incentive pricing provided to multiple national restaurant
organizations utilizing our equipment under the bulk budget plan and equipment
lease/product purchase plans pursuant to master service agreements. The average
number of customer locations renting equipment from us increased from 64,000 in
2003 to 73,000 in 2004, due to strong organic growth and the purchase of
approximately 6,500 customer locations utilizing equipment rental plans from
Pain Enterprises, Inc. on October 1, 2004.
COST OF PRODUCTS SOLD, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of products sold, excluding depreciation and amortization,
increased from $17.0 million in 2003 to $19.5 million in 2004, while decreasing
as a percentage of product sales revenue from 70.3% to 66.8%. Product costs
increased by $1.2 million from $6.2 million in 2003 to $7.4 million in 2004. The
base price with our primary supplier of CO2 increased by the Producer Price
Index, while the volume of CO2 sold by us increased by 21.7%, primarily due to a
15.2% increase in our average customer base and a 5.3% increase in CO2 sold
these customers.
Operational costs, primarily wages and benefits related to cost of
products sold, increased from $6.7 million in 2003 to $7.5 million in 2004,
primarily due to an increase in route driver costs associated with an increased
customer base. As of December 31, 2004, we had 321 drivers as compared to 267 at
the same point last year. However, some of the headcount increase in drivers was
offset by a reduction in depot and regional management headcount. In addition,
while we have realized savings in workers' compensation costs, we continue to
experience higher health care costs, generally due to market conditions.
Truck delivery expenses increased from $2.5 million in 2003 to $3.0
million in 2004 primarily due to the increased customer base and fuel costs. We
have been able to minimize the impact of increased fuel costs and variable lease
costs associated with truck usage by continuing to improve efficiencies in the
timing and routing of deliveries. While total miles driven increased by 11.2% on
an average customer base that increased by 15.2%, miles driven per average
customer decreased 3.6%. In addition, we have maintained improvements in our
safety record the past year which continues to impact workers' compensation and
vehicle accident claims expense.
Occupancy and shop costs related to cost of products sold increased
from $1.5 million in 2003 to $1.6 million in 2004.
COST OF EQUIPMENT RENTALS, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of equipment rentals, excluding depreciation and amortization,
decreased by $0.1 million from $1.2 million in 2003 to $1.1 million in 2004,
while decreasing as a percentage of equipment rentals revenue from 7.8% to 6.4%.
The reduction in cost of equipment rentals reflected in expense is primarily
attributable to the increased efficiency of our technical installers and the
number of new activations.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses increased by $0.9
million from $7.8 million in 2003 to $8.7 million in 2004, while decreasing as a
percentage of total revenues from 19.6% in 2003 to 18.7% in 2004.
24
Selling related expenses increased by $0.3 million, from $1.5
million in 2003 to $1.8 million in 2004, primarily the result of expenses
directed towards training, marketing and growth opportunities.
General and administrative expenses increased by $0.6 million, or
10.3%, from $6.3 million in 2003 to $6.9 million in 2004. This increase was the
result of acquisition integration, incentive plans, wage increases, a
non-recurring increase in public company expense, and expenses associated with
the four hurricanes that impacted the southeastern United States in August and
September. These increased costs were partially offset by improvement in
workers' compensation costs.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization increased from $7.7 million in 2003 to
$7.9 million in 2004. As a percentage of total revenues, depreciation and
amortization expense decreased from 19.4% in 2003 to 17.0% in 2004.
Depreciation expense remained constant at $6.7 million in both 2003
and 2004. An increase of approximately $0.2 million due to the purchase of tanks
and equipment from Pain Enterprises, Inc., was offset by a $0.2 million decrease
in depreciation associated with the shortened lives of certain small tanks that
were partially impaired and scheduled to be phased out over a three to your year
period commencing June 30, 2002.
Amortization expense increased from $1.0 million in 2003 to $1.2
million in 2004. This increase is due in large part to a $0.2 million increase
in amortization associated with the acquisition of customer accounts and other
intangible assets associated with the Pain Enterprises, Inc. transaction.
LOSS ON ASSET DISPOSAL
Loss on asset disposal remained constant at $0.7 million in both
2003 and 2004, while decreasing as a percentage of total revenues from 1.8% to
1.5%.
OPERATING INCOME
For the reasons previously discussed, operating income increased by
$3.4 million from $5.3 million in 2003 to $8.7 million in 2004. As a percentage
of total revenues, operating income improved from 13.3% in 2003 to 18.6% in
2004.
LOSS ON EARLY EXTINGUISHMENT OF DEBT
In 2003, we accelerated the recognition of $1.5 million in deferred
financing costs associated with the refinancing of our long-term debt. In
addition, we accelerated the recognition of the unamortized portion of the
original issue discount associated with our 12% Senior Subordinated Promissory
Notes, $0.4 million, and paid $0.1 million in conjunction with the early
termination of an interest rate swap agreement.
INTEREST EXPENSE
Interest expense increased from $3.9 million in 2003 to $4.3 million
in 2004, while decreasing as a percentage of total revenues from 9.9% in 2003 to
9.2% in 2004. The effective interest rate of our debt increased from 11.0% to
11.3% per annum.
INCOME (LOSS) BEFORE INCOME TAXES
See discussion of Net Income (Loss).
25
PROVISION FOR INCOME TAXES
As of December 31, 2004, we had net operating loss carryforwards for
federal income tax purposes of approximately $95.0 million and for state
purposes in varying amounts, which are available to offset future federal
taxable income, if any, in varying amounts through June 2024. We are currently
evaluating whether we have experienced one or more "ownership changes" for
federal income tax purposes. If an "ownership change" has occurred or were to
occur in the future, our ability to use our pre-ownership change federal and
state net operating loss carryforwards (and certain built-in losses, if any)
would be subject to an annual usage limitation, which under certain
circumstances may prevent us from being able to utilize a portion of such loss
carryforwards in future tax periods and reduce our after-tax cash flow. In
addition, a portion of our taxable income is subject to the alternative minimum
tax ("AMT"), which is reflected in our statements of operations for 2004 along
with a provision for state income taxes. Our provision for income taxes in 2004
was $0.1 million. No provision was made for income tax expense in 2003 due to
our net loss.
We continue to evaluate the deferred tax asset valuation allowance.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Substantially all of our
deferred tax assets represent the benefit of loss carryforwards that arose prior
to fiscal year 2004. In assessing the realizability of deferred tax assets, we
consider whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. Among other matters, realization of
the entire deferred tax asset is dependent on our ability to generate sufficient
taxable income prior to the expiration of the carryforwards. While we attained
profitability during fiscal year 2004, based on the available objective evidence
and the recent history of losses, we cannot conclude that it is more likely than
not that the net deferred tax assets will be fully realizable. Accordingly, we
have recorded a valuation allowance equal to the amount of our net deferred tax
assets.
NET INCOME (LOSS)
For the reasons described above, net income improved by $4.9 million
from a net loss of $0.6 million in 2003 to a net income of $4.3 million in
2004.
EBITDA
Earnings before interest, taxes, depreciation and amortization
("EBITDA") is one of the principal financial measures by which we measure our
financial performance. EBITDA is a widely accepted financial indicator used by
many investors, lenders and analysts to analyze and compare companies on the
basis of operating performance, and we believe that EBITDA provides useful
information regarding our ability to service our debt and other obligations.
However, EBITDA does not represent cash flow from operations, nor has it been
presented as a substitute to operating income or net income as indicators of our
operating performance. EBITDA excludes significant costs of doing business and
should not be considered in isolation or as a substitute for measures of
performance prepared in accordance with accounting principles generally accepted
in the United States of America. In addition, our calculation of EBITDA may be
different from the calculation used by our competitors, and therefore
comparability may be affected. In addition, our lenders also use EBITDA to
assess our compliance with debt covenants. These financial covenants are based
on a measure that is not consistent with accounting principles generally
accepted in the United States of America. Such measure is EBITDA (as defined) as
modified by certain defined adjustments.
EBITDA, as set forth in the table below (in thousands), increased by
$3.6 million, or 28.0%, from $13.0 million in 2003 to $16.6 million in 2004 and
increased as a percentage of total revenues from 32.7 % to 35.7%.
26
Six Months Ended December 31,
-----------------------------
2004 2003
--------- ---------
Net income (loss) $ 4,291 $ (645)
Interest expense 4,268 3,947
Depreciation and amortization 7,937 7,705
Provision for income taxes 106 -
Loss on early extinguishment of debt - 1,964
-------- ---------
EBITDA $ 16,602 $12,971
========= ========
Cash flows provided by (used in):
Operating activities $ 9,928 $ 7,392
Investing activities $(24,702) $(7,685)
Financing activities $ 14,317 $ 39
LIQUIDITY AND CAPITAL RESOURCES
Our cash requirements consist principally of (1) capital
expenditures associated with purchasing and placing new bulk CO2 systems into
service at customers' sites; (2) payments of principal and interest on
outstanding indebtedness; and (3) working capital. Whenever possible, we seek to
obtain the use of vehicles, land, buildings, and other office and service
equipment under operating leases as a means of conserving capital. As of
December 31, 2004, we anticipate making cash capital expenditures of
approximately $20.0 million for internal growth over the next twelve months,
primarily for purchases of bulk CO2 systems for new customers, the replacement
with larger bulk CO2 systems of 50 and 100 lb. bulk CO2 systems in service at
existing customers and replacement units for our truck fleet. In June 2002, we
adopted a plan to replace all 50 and 100 lb. bulk CO2 systems in service at
customers over a three to four year period. While this decision may not increase
revenues generated from these customers, it is expected to improve operating
efficiencies, gross margins and profitability. Once bulk CO2 systems are placed
into service, we generally experience positive cash flows on a per-unit basis,
as there are minimal additional capital expenditures required for ordinary
operations.
27
In addition to capital expenditures related to internal growth, we
review opportunities to acquire bulk CO2 service accounts, and may require cash
in an amount dictated by the scale and terms of any such transactions
successfully concluded. On October 1, 2004, we purchased the bulk CO2 beverage
carbonation business of privately-owned Pain Enterprises, Inc., of Bloomington,
Indiana, for total cash consideration of $15.7 million. The transaction involved
the acquisition of approximately 9,400 customer accounts, including 6,500 tanks
in service, vehicles, parts, and supplies. Pain Enterprises' bulk CO2 beverage
carbonation business operated in 12 Midwestern and Southeastern states: Florida,
Georgia, Illinois, Indiana, Iowa, Kentucky, Michigan, Missouri, Minnesota, Ohio,
Tennessee and Wisconsin.
On September 24, 2001, we entered into a $60.0 million second
amended and restated revolving credit facility with a syndicate of banks
("Amended Credit Facility"). Prior to June 30, 2002, the Amended Credit Facility
was amended to adjust certain financial covenants for the quarter ended March
31, 2002 and prospectively, and non-compliance with the minimum EBITDA covenant
for the three months ended March 31, 2002 was waived. As of June 30, 2002, we
were not in compliance with certain of the financial covenants. On September 27,
2002, the Amended Credit Facility was amended to adjust certain financial
covenants for the quarter ended June 30, 2002, and prospectively, and the
maturity of the Amended Credit Facility was extended to November 17, 2003. As of
September 30, 2002, we were in compliance with all of the financial covenants
under the Amended Credit Facility. On February 7, 2003, the Amended Credit
Facility was amended to adjust certain financial covenants for the quarter ended
December 31, 2002 and prospectively, non-compliance with the minimum EBITDA
covenant for the three months ended December 31, 2002 was waived, the maturity
of the Amended Credit Facility was extended to April 29, 2004, and the Amended
Credit Facility was reduced to $45.0 million. As of March 31, 2003 and June 30,
2003, we were in compliance with all of the financial covenants under the
Amended Credit Facility.
On August 25, 2003, we terminated the Amended Credit Facility and
entered into a $50.0 million senior credit facility with a syndicate of banks
(the "Senior Credit Facility"). The Senior Credit Facility initially consisted
of a $30.0 million A term loan facility (the "A Term Loan"), a $10.0 million B
term loan facility (the "B Term Loan"), and a $10.0 million revolving loan
facility (the "Revolving Loan Facility"). On October 1, 2004, in conjunction
with the Pain Enterprises, Inc. transaction, the Senior Credit Facility was
amended to, among other things, increase the B Term Loan to $23.0 million and to
modify certain financial covenants. The A Term Loan and Revolving Loan Facility
mature on August 25, 2007, while the B Term Loan matures on August 25, 2008. The
Company is entitled to select either Eurodollar Loans (as defined) or Base Rate
Loans (as defined), plus applicable margin, for principal borrowings under the
Senior Credit Facility. Applicable margin is determined by a pricing grid based
on our Consolidated Total Leverage Ratio (as defined) as follows:
A Term B Term
Loans B Term Revolving A Term Loans Revolving
Consolidated maintained Loans Loans Loans maintained Loans
Total as maintained maintained as maintained as as maintained as
Leverage Base Rate as Base Rate Base Rate Eurodollar Eurodollar Eurodollar
Level Ratio Loans Loans Loans Loans Loans Loans
- ----- ----- ----- ----- ----- ----- ----- -----
Less than
1 2.50:1.00 2.50% 2.75% 2.50% 3.50% 3.75% 3.50%
Greater than or
equal to
2.50:1.00 but
less than
2 3.00:1.00 2.75% 3.00% 2.75% 3.75% 4.00% 3.75%
Greater than or
equal to
3 3.00:1.00 3.00% 3.25% 3.00% 4.00% 4.25% 4.00%
However, from October 1, 2004 until delivery to the lenders of our
financial statements for the quarter ending December 31, 2004, Level 2 pricing
applies. Interest is payable periodically on borrowings under the Senior Credit
Facility. In addition, on December 31, 2003 and on the last day of each quarter
thereafter, we are required to make principal repayments of the A Term Loan in
increasing amounts and on December 31, 2004 and on the last day of each quarter
thereafter, we are required to make principal payments on the B Term Loan in the
28
amount of $57,500 until August 25, 2008 when we will be required to make a final
payment of $22,137,500. The Senior Credit Facility is collateralized by all of
our assets. Additionally, we are precluded from declaring or paying any cash
dividends, except we may accrue and accumulate, but not pay, cash dividends on
our outstanding redeemable preferred stock. As of December 31, 2004, $24.0
million was outstanding under the A Term Loan, $22.9 million was outstanding
under the B Term Loan and $3.7 million was outstanding under the Revolving Loan
Facility with a weighted average interest rate of 6.3% per annum.
We are also required to meet certain affirmative and negative
covenants, including but not limited to financial covenants. We are required to
assess our compliance with these financial covenants under the Senior Credit
Facility on a quarterly basis. These financial covenants are based on a measure
that is not consistent with accounting principles generally accepted in the
United States of America. Such measure is EBITDA (as defined), which represents
earnings before interest, taxes, depreciation and amortization, as further
modified by certain defined adjustments. The failure to meet these covenants,
absent a waiver or amendment, would place us in default and cause the debt
outstanding under the Senior Credit Facility to immediately become due and
payable. The Senior Credit Facility also includes certain cross-default
provisions to our 16.3% Senior Subordinated Notes Due February 27, 2009. We were
in compliance with all covenants under the Senior Credit Facility as of
September 30, 2003 and all subsequent quarters up to and including December 31,
2004.
In connection with the termination of the Amended Credit Facility,
during the first quarter of fiscal 2004, we recognized a loss of $0.9 million
from the write-off of unamortized financing costs associated with the Amended
Credit Facility and recorded $2.2 million in financing costs associated with the
Senior Credit Facility. Such costs are being amortized over the life of the
Senior Credit Facility.
In October 1997, we issued $30.0 million of our 12% Senior
Subordinated Promissory Notes ("1997 Notes") with interest only payable
semi-annually on April 30 and October 31, due October 31, 2004. On May 4, 1999,
we sold an additional $10.0 million of our 12% Senior Subordinated Promissory
Notes ("1999 Notes"). Except for their October 31, 2005 maturity date, the 1999
Notes were substantially identical to the 1997 Notes. As of June 30, 2002 and at
various dates in the past we have been unable to meet certain covenants under
the 1997 Notes and 1999 Notes and have had to obtain waivers or modifications.
On September 27, 2002, concurrently with the amendment to the Amended Credit
Facility, certain financial covenants of the 1997 Notes and 1999 Notes were
amended to adjust certain financial covenants for the quarter ended June 30,
2002, and prospectively. As of December 31, 2002, we were in compliance with all
of the financial covenants under the 1997 Notes and 1999 Notes. On February 7,
2003, the interest coverage ratio governing the 1997 Notes and 1999 Notes was
amended for the quarter ending March 31, 2003 and prospectively. As of March 31,
2003 and June 30, 2003, we were in compliance with all of the financial
covenants under the 1997 Notes and 1999 Notes.
On August 25, 2003, concurrently with the closing of the Senior
Credit Facility, we prepaid the 1997 Notes and 1999 Notes and issued $30.0
million of our 16.3% Senior Subordinated Notes Due February 27, 2009 (the "New
Notes") with interest only payable quarterly in arrears on February 28, May 31,
August 31 and November 30 of each year, commencing November 30, 2003. Interest
on the New Notes is 12% per annum payable in cash and 4.3% per annum payable "in
kind" by adding the amount of such interest to the principal amount of the New
Notes then outstanding. Ten year warrants to purchase an aggregate of 425,000
shares of our common stock at an exercise price of $8.79 per share were issued
in connection with the New Notes. Utilizing the Black-Scholes Model, the
warrants issued in connection with the New Notes were valued at $3.70 per
warrant, or an aggregate value of $1,573,000. In addition, the maturity date of
665,403 existing warrants, 335,101 due to expire in 2004 and 330,302 due to
expire in 2005, was extended to February 2009, resulting in additional value of
$1.31 and $0.97 per warrant, respectively, or an aggregate value of $760,090. At
the date of issuance, in accordance with APB 14, "ACCOUNTING FOR CONVERTIBLE
DEBT AND DEBT ISSUED WITH PURCHASE WARRANTS," we allocated proceeds of $27.7
million to the debt and $2.3 million to the warrants, with the resulting
discount on the debt referred to as the original issue discount. The original
issue discount is being amortized as interest expense over the life of the debt.
As with the Senior Credit Facility, we are required to meet certain affirmative
and negative covenants under the New Notes, including but not limited to
financial covenants. We were in compliance with all covenants under the New
Notes as of September 30, 2003 and all subsequent quarters up to and including
December 31, 2004.
29
In connection with the early repayment of the 1997 Notes and 1999
Notes, during the first quarter of fiscal 2004, we recognized a loss of $1.0
million attributable to the unamortized financing costs and original issue
discount associated with the 1997 Notes and 1999 Notes, and recorded $0.6
million of financing costs and original issue discount associated with New
Notes. Such fees are being amortized over the life of the New Notes. The
weighted average effective interest rate of the New Notes, including the
amortization of deferred financing costs and original issue discount, is 18.0%
per annum.
In May 2000, we sold 5,000 shares of Series A 8% Cumulative
Convertible Preferred Stock, no par value (the "Series A Preferred Stock"), for
$1,000 per share. Shares of the Series A Preferred Stock were convertible into
shares of common stock at any time at a conversion price of $9.28 per share. In
addition, in November 2001, we sold 2,500 shares of Series B 8% Cumulative
Convertible Preferred Stock, no par value (the "Series B Preferred Stock"), for
$1,000 per share. Shares of the Series B Preferred Stock were convertible into
shares of common stock at any time at a conversion price of $12.92 per share.
Effective August 18, 2004, the holder of the Series A Preferred Stock converted
its shares into 754,982 shares of our common stock. Effective December 7, 2004,
the holder of the Series B Preferred Stock converted its shares into 247,420
shares of our common stock.
During the six months ended December 31, 2004, our capital resources
included cash flows from operations and available borrowing capacity under the
Senior Credit Facility. We believe that cash flows from operations and available
borrowings under the Senior Credit Facility will be sufficient to fund proposed
operations for at least the next twelve months.
The table below sets forth our contractual obligations as of
December 31, 2004 (in thousands):
Less than
Contractual obligations Total 1 Year 2-3 Years 4-5 Years Thereafter
- ----------------------- ---------------------------------------------------------------
Senior Credit Facility
Principal $ 50,569 $ 7,659 $ 20,657 $ 22,253 $ --
Interest 7,233 2,688 3,748 797 --
-------- -------- -------- -------- --------
Total Senior Credit Facility 57,802 10,347 24,405 23,050 --
-------- -------- -------- -------- --------
Subordinated debt
Principal 30,000 -- -- 30,000 --
Interest* 25,510 3,862 8,237 13,411 --
-------- -------- -------- -------- --------
Total subordinated debt 55,510 3,862 8,237 43,411 --
-------- -------- -------- -------- --------
Other debt, including interest 217 65 130 22 --
Employment agreements 1,894 950 944 -- --
Operating leases 14,407 4,372 6,541 3,097 397
-------- -------- -------- -------- --------
Total obligations $129,430 $ 19,596 $ 40,257 $ 69,580 $ 397
======== ======== ======== ======== ========
*includes paid-in-kind interest paid upon loan termination.
As previously discussed, on October 1, 2004, we purchased the bulk
CO2 beverage carbonation business of Pain Enterprises, Inc. for cash
consideration of $15.7 million. Concurrent with the acquisition, the B Term Loan
of our Senior Credit Facility was increased by $13.0 million from $10.0 million
to $23.0 million.
In addition, in May 1997 we entered into an exclusive bulk CO2
requirements contract with The BOC Group, Inc.
WORKING CAPITAL. At December 31, 2004 and June 30, 2004, we had a
working capital deficit of $2.6 million and $4.6 million, respectively.
CASH FLOWS FROM OPERATING ACTIVITIES. Cash flows provided by
operations increased by $2.5 million from $7.4 million in 2003 to $9.9 million
in 2004. The improvement derived from net income (excluding non-cash charges) of
$3.4 million was offset by a $0.9 million reduction in cash generated by the
working capital components of our balance sheet, due in large part to the
extension of credit associated with customers acquired through the transaction
with Pain Enterprises, Inc. in October 2004.
30
CASH FLOWS FROM INVESTING ACTIVITIES. During 2004 and 2003, net cash
used in investing activities was $24.7 million and $7.7 million, respectively.
Investing activities in 2004 included $15.7 million paid for the acquisition of
the bulk CO2 beverage carbonation business of Pain Enterprises, Inc. and related
acquisition expenses. Such purchase price was allocated among tangible assets,
intangible assets, and goodwill as follows: $6.7 million for tangible assets,
$6.4 million for intangible assets and $2.6 million for goodwill. Exclusive of
acquisition purchases, investing activities are primarily attributable to the
acquisition, installation and direct placement costs of bulk CO2 systems.
CASH FLOWS FROM FINANCING ACTIVITIES. During 2004, cash flows
provided by financing activities was $14.3 million compared to $39,000 in 2003.
In October 2004, concurrent with the acquisition of the bulk CO2 beverage
carbonation business of Pain Enterprises, Inc., the B Term Loan of our Senior
Credit Facility was increased by $13.0 million from $10.0 million to $23.0
million. Excluding the extension of credit associated with the acquisition
purchase price and fees related to the changes in our Senior Credit Facility, we
repaid debt of approximately $2.8 million. During 2003, we refinanced our debt,
as previously discussed, receiving proceeds of $73.2 million, paying fees
associated with the refinancing of $2.7 million, while simultaneously paying off
our previous financing facilities.
INFLATION
The modest levels of inflation in the general economy have not
affected our results of operations. Additionally, our customer contracts
generally provide for annual increases in the monthly rental rate based on
increases in the consumer price index. We believe that inflation will not have a
material adverse effect on our future results of operations.
Our bulk CO2 exclusive requirements contract with The BOC Group,
Inc. ("BOC") provides for annual adjustments in the purchase price for bulk CO2
based upon increases or decreases in the Producer Price Index for Chemical and
Allied Products or the average percentage increase in the selling price of bulk
merchant carbon dioxide purchased by BOC's large, multi-location beverage
customers in the United States.
RECENT ACCOUNTING PRONOUNCEMENTS
On July 1, 2003, we adopted EITF Issue No. 00-21, "REVENUE
ARRANGEMENTS WITH MULTIPLE DELIVERABLES" ("EITF 00-21"). EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which the
vendor will perform multiple revenue generating activities. As of December 31,
2004, approximately 61,000 of our customer locations utilized a plan agreement
that provides for a fixed monthly payment to cover the use of a bulk CO2 system
and a predetermined maximum quantity of CO2 ("budget plan"). Prior to July 1,
2003, as lessor, we recognized revenue under our budget plan agreements on a
straight-line basis over the life of the related leases. We have developed a
methodology for the purpose of separating the aggregate revenue stream between
the rental of the equipment and the sale of the CO2. Effective July 1, 2003,
revenue attributable to the lease of equipment, including equipment leased under
the budget plan, is recorded on a straight-line basis over the term of the lease
and revenue attributable to the supply of CO2 and other gases, including CO2
provided under the budget plan, is recorded upon delivery to the customer.
We have elected to apply EITF 00-21 retroactively to all budget plan
agreements in existence as of July 1, 2003. Based on our analysis, the aggregate
amount of CO2 actually delivered under budget plans during the quarter ended
June 30, 2003 is not materially different than the corresponding portion of the
fixed charges attributable to CO2. Accordingly, we believe the cumulative effect
of the adoption of EITF 00-21 as of July 1, 2003 is not significant.
Under the budget plan, each customer has a maximum CO2 allowance
that is measured and reset on the contract anniversary date. At that date, it is
appropriate to record revenue for actual deliveries of CO2 in excess of contract
billings. Because of the large number of customers under the budget plan and the
fact that the anniversary dates for determining maximum quantities are spread
throughout the year, our methodology involves the use of estimates and
assumptions to separate the aggregate revenue stream derived from equipment
rentals to budget plan customers, and also to approximate the recognition of
revenue from CO2 sales to budget plan customers upon delivery. We believe that
the adoption of EITF 00-21 has the most impact on the recognition of revenue on
a quarterly basis as CO2 usage fluctuates during a fiscal year based on factors
such as weather, and traditional summer and holiday periods. Over a twelve-month
period, we believe that the effect is less significant since seasonal variations
are largely eliminated and CO2 allowances under budget plan agreements are
measured and reset annually.
31
In December 2003, the Financial Accounting Standards Board ("FASB")
revised FASB Interpretation No. 46, "CONSOLIDATION OF VARIABLE INTEREST
ENTITIES." Application of FASB Interpretation No. 46 is required in a company's
financial statements for interests in variable interest entities that are
considered special-purpose entities for reporting periods ending after March 15,
2004. FASB Interpretation No. 46 did not affect our financial position, results
of operations, or cash flows.
In December 2003, the FASB revised SFAS No. 132, "EMPLOYER
DISCLOSURES ABOUT PENSIONS AND OTHER POSTRETIREMENT BENEFITS" (SFAS 132). SFAS
132 requires additional disclosures regarding the assets, obligations, cash
flows, and net periodic benefit cost of defined benefit plans and other defined
benefit postretirement plans. SFAS 132 requires that this information be
provided separately for pension plans and other postretirement benefit plans.
The adoption of the revised SFAS No. 132, effective January 1, 2004, did not
affect our financial position, results of operations, or cash flows.
In December 2004, the FASB revised SFAS No. 123, "ACCOUNTING FOR
STOCK-BASED COMPENSATION" ("SFAS 123-R"). SFAS 123-R supersedes APB Opinion No.
25, "ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES," and its related implementation
guidance. SFAS 123-R requires all share-based payments to employees, including
grants of employee stock options, to be recognized in the statement of
operations based on their fair value and vesting schedule. However, SFAS 123-R
does not change the accounting guidance for share-based payment transactions
with parties other than employees provided in SFAS 123 as originally issued and
EITF Issue No. 96-18, "ACCOUNTING FOR EQUITY INSTRUMENTS THAT ARE ISSUED TO
OTHER THAN EMPLOYEES FOR ACQUIRING, OR IN CONJUNCTION WITH SELLING, GOODS OR
SERVICES." We will adopt SFAS 123-R effective with the fiscal quarter beginning
July 1, 2005, at which time, pro forma disclosure of net income and earnings per
share as provided in Note 7, will no longer be an alternative to recognition in
our statement of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As discussed under "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital Resources"
above, as of December 31, 2004, a total of $50.6 million was outstanding under
the Senior Credit Facility with a weighted average interest rate of 6.3% per
annum. Based upon the $50.6 million outstanding under the Senior Credit Facility
at December 31, 2004, our annual interest cost under the Senior Credit Facility
would increase by $0.5 million for each 1% increase in Eurodollar interest
rates.
In order to reduce our exposure to increases in Eurodollar interest
rates, and consequently to increases in interest payments, on October 2, 2003,
we entered into an interest rate swap transaction (the "Swap") in the amount of
$20.0 million (the "Notional Amount") with an effective date of March 15, 2004.
Pursuant to the Swap, we pay a fixed interest rate of 2.12% per annum and
receive a Eurodollar-based floating rate. The effect of the Swap is to
neutralize any changes in Eurodollar rates on the Notional Amount. We do not, on
a routine basis, enter into speculative derivative transactions or leveraged
swap transactions, except as disclosed. As the Swap was not effective until
March 15, 2004 and no cash flows were exchanged prior to that date, the Swap did
not meet the requirements to be designated as a cash flow hedge. As such, an
unrealized loss of $177,000 was recognized in our results of operations for the
fiscal year ended June 30, 2004, reflecting the change in fair value of the Swap
from inception to the effective date. As of March 15, 2004, the Swap met the
requirements to be designated as a cash flow hedge and is deemed a highly
effective transaction. Accordingly, we recorded $264,000 representing the change
in fair value of the Swap from March 15, 2004 through June 30, 2004, as other
comprehensive income. The fair value of the Swap increased by $23,000 during the
first six months of fiscal 2005 to $110,000.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Based on our
management's evaluation (with the participation of our principal executive
officer and principal financial officer), as of the end of the period covered
by this report, our principal executive officer and principal financial officer
have concluded that our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended,
(the "Exchange Act") are effective to ensure that information required to be
disclosed by us in reports that we file or submit under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in SEC rules and forms.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING. There was no
change in our internal control over financial reporting during our second
fiscal quarter that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
32
PART II. OTHER INFORMATION.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
On October 26, 2004, DK Acquisition Partners, L.P., the holder of
warrants to purchase 156,380 shares of our common stock, pursuant to the
cashless exercise provision contained in the warrants, exercised such warrants
in their entirety for 84,993 shares of our common stock without registration
under the Securities Act of 1933, as amended ("Securities Act"), in reliance
upon the exemption from registration provided by Section 4(2) of the Securities
Act. In connection with the cashless exercise, warrants to purchase 71,387
shares of our common stock were cancelled.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
(a) Our 2004 Annual Meeting of Shareholders was held on December
9, 2004.
(b) Robert L. Frome was elected as a Class I director of the
Company to serve until our 2007 Annual Meeting of
Shareholders. The terms of Michael E. DeDomenico and Daniel
Raynor, Class II directors of the Company, and J. Robert
Vipond, Class III director of the Company, continue until our
2005 and 2006 Annual Meetings of Shareholders, respectively.
(c) (1) Election of Director:
Nominee Number of Votes For Number of Votes Against
Robert L. Frome 9,646,930 1,636,300
(2) Ratification of the Grant of Stock Option to Certain
Directors:
Number of Number of Number of Votes Number of Broker
Votes For Votes Against Abstaining Non-Votes
--------- ------------- ---------- ---------
8,678,314 563,742 8,935 2,032,239
ITEM 6. EXHIBITS.
(a) Exhibit No. Exhibit
31.1 Section 302 Certification of Principal Executive
Officer.
31.2 Section 302 Certification of Principal Financial
Officer.
32.1 Section 906 Certification of Principal Executive
Officer.
32.2 Section 906 Certification of Principal Financial
Officer.
33
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NuCO2 Inc.
Dated: February 9, 2005 By: /s/ Robert R. Galvin
----------------------------
Robert R. Galvin
Chief Financial Officer
34