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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended: March 29, 2003
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: 333-64180
PSF Group Holdings, Inc.
(Exact name of Registrant as specified in its charter)
Delaware 43-1818535
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
423 West 8th Street, Suite 200, Kansas City, Missouri 64105
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (816) 472-7675
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to 12(g) of the Act: None
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes [ ] No [X]
There is currently no established public trading market for the common
equity of the Registrant held by non-affiliates. As of April 30, 2003, there
were 100,000 shares of the Registrant's Class A Common Stock outstanding and
113,301 shares of the Registrant's Class B Common Stock outstanding.
EXPLANATORY NOTES
In this report on Form 10-K, the terms "we," "us" and "our" refer
collectively to PSF Group Holdings, Inc., Premium Standard Farms, Inc. and their
subsidiaries. Premium Standard Farms, Inc. is a wholly-owned subsidiary of PSF
Group Holdings, Inc.
Market and Industry Data and Forecasts
Market data and certain industry forecasts used throughout this report on
Form 10-K were obtained from internal surveys, market research, consultant
surveys, publicly available information and industry publications and surveys.
Reports prepared or published by Sparks Companies, Inc., the National Pork
Producers Council, Agrimetrics Associates Inc. and the United States Department
of Agriculture (USDA) were the primary sources for third-party industry data and
forecasts. Industry surveys, publications, consultant surveys and forecasts
generally state that the information contained therein has been obtained from
sources believed to be reliable, but that the accuracy and completeness of such
information is not guaranteed. We have not independently verified any of the
data from third-party sources nor have we ascertained the underlying economic
assumptions relied upon therein. Similarly, internal surveys, industry forecasts
and market research, which we believe to be reliable based upon our management's
knowledge of the industry, have not been independently verified. Forecasts are
particularly likely to be inaccurate, especially over long periods of time. In
addition, we do not know what assumptions regarding general economic growth were
used in preparing the forecasts we cite. We do not make any representation as to
the accuracy of information described in this paragraph.
TABLE OF CONTENTS
PART I.........................................................................3
Item 1. Business.......................................................3
Item 2. Properties....................................................13
Item 3. Legal Proceedings.............................................14
Item 4. Submission of Matters to a Vote of Security Holders...........15
PART II.......................................................................15
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters...........................................15
Item 6. Selected Financial Data.......................................15
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations...........................17
Item 7A. Quantitative and Qualitative Disclosures About Market Risk....25
Item 8. Financial Statements and Supplementary Data...................26
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure......................................26
PART III......................................................................26
Item 10. Directors and Executive Officers of Registrant................26
Item 11. Executive Compensation........................................29
Item 12. Security Ownership of Certain Beneficial Owners
and Management................................................32
Item 13. Certain Relationships and Related Transactions................34
Item 14. Controls and Procedures.......................................35
PART IV.......................................................................36
Item 15. Exhibits, Financial Statements Schedules, and Reports
on Form 8-K...................................................36
SIGNATURES....................................................................39
CERTIFICATIONS................................................................41
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PART I
Item 1. Business
Overview
We are a leading vertically integrated provider of pork products to the
wholesale and retail, food service and institutional markets in the United
States. By combining modern, efficient production and processing facilities,
sophisticated genetics, and strict control over the variables of health, diet
and environment, we produce value-added premium pork products. We are the second
largest owner of sows in North America, controlling over 255,000 sows, of which
approximately 212,000 are owned, producing approximately 4.5 million hogs per
year in production operations located on over 100,000 acres in Missouri, Texas
and North Carolina. We are also the seventh largest pork processor in the United
States, with two plants capable of processing approximately 4.5 million hogs per
year.
Competitive Strengths
We believe the following competitive strengths position us to enhance our
growth and profitability:
• Vertically Integrated Production and Processing. We have achieved a
substantial degree of vertical integration of our hog production and
processing operations. We measure our level of vertical integration in
terms of the percentage of hogs processed at our plants that are owned
by us and raised according to our controlled programs. In fiscal 2003,
99% of the hogs used by our Milan, Missouri processing plant were
sourced from our Missouri and Texas hog production operations. During
the same period, approximately 71% of hogs used by our Clinton, North
Carolina processing plant were supplied by our North Carolina hog
production operations, with the remaining 29% supplied through
contracts with independent producers. Vertical integration gives us
strict control over our process, from a hog's initial genetic makeup
to the pork product ultimately produced and shipped. This is in
contrast to non-integrated or less integrated processors who acquire
hogs from a large number of suppliers with varying production
standards and therefore find it difficult to ensure a consistent and
high quality product. This is a powerful advantage for competing
effectively in the rapidly consolidating pork industry because it
allows us to:
• Produce Premium and Specialty Products. By regulating the
variables of genetics, environment, health and diet, we can
produce a controlled supply of high quality, consistent pork
products along with specialty products, such as antibiotic free
pork and Premium 97 pork (certified as 97 percent fat-free by the
American Heart Association), as well as KenKo-Ton "healthy" pork
and Mugi Buta "barley-fed" pork for the Japanese market. Our
products typically command higher prices than commodity pork
products.
• Target Premium Customers. We are able to tailor our production
process to meet the exacting specifications of discriminating
customers in our target markets. These customers are willing to
pay premium prices for higher quality products and for the
assurance that their standards are met throughout a traceable
production process. Vertical integration provides the product
consistency necessary to satisfy these customers.
• Reduce Our Production Costs and Maximize Value. Vertical
integration allows us to significantly reduce our hog procurement
costs and to streamline our logistics, transportation and
production schedules, thus optimizing asset utilization and
reducing our cost structure. We are also able to capture more of
the value of our hogs through our own processing rather than
passing this value on to other processors.
• Strong Market Position with Large Scale Operations. Our large-scale
integrated operations, geographic dispersal and strong market position
allow us to serve a broad range of customers in our target market,
while maintaining economies of scale and marketing leverage.
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• Efficient, Modern Facilities and Operations. Our Missouri and North
Carolina processing plants are two of the most modern and technically
advanced facilities of their kind. Our hog production operations, most
of which were built in the past fifteen years, incorporate advanced
breeding, farrowing and finishing methods resulting in
industry-leading productivity statistics.
• Experienced Management Team. Most of our senior and operational
management personnel have been involved in farm production and/or the
fresh meat industry for most of their business careers. Senior and
operational management members, on average, have over fourteen years
of experience in those areas.
Business Strategy
We are pursuing a strategy designed to increase our sales margins and
returns on invested capital. Key elements of our strategy include:
• Further Develop Vertical Integration. We believe our integrated model
will be the proven approach to competing effectively in the rapidly
consolidating pork industry. We have achieved nearly 100% integration
of our Missouri hog production and processing operations and have
achieved substantial integration in our North Carolina operations. In
North Carolina, we have renovated our recently acquired processing
plant, upgraded the genetics of our breed stock, rationalized feed
manufacturing, increased supervision of contract growers and achieved
a USDA Process Verified program similar to the program that is in
place for our Missouri operations.
• Focus on High Quality and Value-Added Products. In fiscal 2003, we
implemented a strategy to increase the volume of value-added products.
Staffing, in the areas of customer development, food service, product
development and export coordination, was put in place in fiscal 2003
to support this strategy. Our value-added objectives are to move more
of our products up the value chain to improve sales margins, develop a
stronger brand, form stronger relationships with key customers, and
drive new product development. We intend to continue to focus on
producing high quality and value-added products for discriminating
customers in the retail, food service, export and further processing
markets, and to further differentiate ourselves from
commodity-oriented competitors. As part of these efforts, and in
conjunction with the modernization and renovation of our North
Carolina processing plant, we intend to market premium products from
this plant similar to those produced by our Missouri plant, as well as
smoked and processed pork products.
• Expand Production and Processing Capacity. In fiscal 2002, we
completed construction of a new 10,000 sow and wean-to-finish
operation in Texas. Our Texas production facilities are located on
approximately 54,000 acres with adequate space and all environmental
and land use permits required for further expansion in a manner that
could replicate our Missouri hog production facilities. Due to the
difficulty in obtaining such permits in the current regulatory
environment, we believe our existing permits in Texas could provide us
a competitive advantage if we expand these operations. In fiscal 2003,
through modernization and efficiency efforts, we completed expansion
of processing capacity at our North Carolina plant from 6,500 hogs per
day to up to 10,000 hogs per day on a ten-hour shift on a seasonal
basis.
• Acquisition Strategies. As an important part of our growth strategy,
we evaluate on an ongoing basis potential industry-related
acquisitions and joint ventures. We will continue to evaluate those
opportunities that fit strategically with our objective of producing
high quality, value added products.
• Maintain Position as a Low Cost Producer. We strive to produce
high-quality pork products at low cost by combining state-of-the-art
hog production with modern and efficient pork processing. We measure
our production and processing activities continually in an effort to
increase our hog production efficiencies, lower our break-even costs,
improve our processing yields and develop new value-added products.
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• Continue Expansion into International Markets. We believe that
international markets offer significant growth opportunities and
intend to continue our efforts to develop sales outside the United
States. Over the past seven years, we have established relationships
with trading partners in Japan, China, South Korea, Canada, Mexico,
Russia and Taiwan, and have exported product over that time period to
more than twenty countries. We also believe that our presence in these
markets allows us to achieve higher prices for certain pork products
than could be obtained domestically. In particular, we intend to
increase our export volumes to Japan, as this market ascribes
significant value to premium, process-controlled, traceable products.
We also intend to actively expand sales in other Asian and Mexican
markets.
• Manage Market Risks. We will continue to draw upon the strength of our
risk management team, which collectively has over twenty years
experience in the area. We will continue to monitor daily
opportunities to lock in favorable margins by hedging both feed and
energy costs as well as fresh meat sales.
• Environmental Stewardship. We will continue to be a leader in the pork
industry in researching, developing and implementing new waste
handling and environmental technologies and solutions. Those
technologies and solutions include source reduction, risk reduction,
improved manure treatment, beneficial reuse of waste products
(creating value-added products), energy generation, and water reuse.
Our History
The hog production business of Premium Standard Farms was originally
founded in 1988. In 1994, we completed construction of our Missouri processing
plant. Due primarily to start-up costs and the low level of initial production
at that plant, as well as the rapid expansion of our Missouri and Texas
operations, the corporation that previously ran our Missouri and Texas
operations filed Chapter 11 bankruptcy on July 2, 1996. In September 1996, the
reorganization became effective and our business emerged from Chapter 11.
Premium Standard Farms in its current corporate form resulted from this
restructuring.
Since emerging from bankruptcy, we have expanded our business in two
significant ways. On May 13, 1998, we expanded our Missouri operations in a
series of transactions with ContiGroup Companies, Inc. ("ContiGroup," formerly
known as Continental Grain Company). In these transactions, ContiGroup purchased
a 51.0 percent ownership interest in PSF Group Holdings for $182.3 million. In
exchange, we purchased the North Missouri Farms hog production operations then
owned by ContiGroup for $75.0 million. The financial data in this report relates
to operations since the ContiGroup transaction in May, 1998.
In fiscal 2001, we expanded our operations through two acquisitions in
North Carolina. We acquired The Lundy Packing Company and its subsidiaries
("Lundy"), which consisted of hog production and pork processing operations, on
August 25, 2000. On September 22, 2000, we then acquired Premium Standard Farms
of North Carolina ("PSFNC") from ContiGroup. In the latter transaction,
ContiGroup received cash and additional shares of PSF Group Holdings stock,
bringing its overall ownership of PSF Group Holdings' outstanding common stock
to 53.1 percent.
PSF Group Holdings is a Delaware company formed in 1998. Premium Standard
Farms is a Delaware company formed in 1996. Our principal executive offices are
located at 423 West 8th Street, Suite 200, Kansas City, Missouri and our
telephone number is (816) 472-7675.
Industry Overview
Historically, the United States pork industry has been divided into two
segments: pork processing and hog production. As a vertically integrated
supplier of pork products, we operate in both industry segments.
Pork Processing
The U.S. pork processing industry is highly concentrated, with the top ten
processors representing approximately 87% of total federally inspected industry
capacity, and the industry is highly competitive. Although
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customers in the retail, institutional, further processing and export markets
have different product specifications and service requirements, processors
generally compete on the basis of the price and quality of their product.
The processing industry is geographically concentrated in the hog producing
regions of the U.S., particularly the Midwest and portions of the Southeast. Due
to the high degree of fragmentation of the hog production industry, processing
operations are extremely large relative to the producers that supply them. As a
result, non-integrated processors must acquire each day's supply of hogs from a
large number of suppliers, many of whom use varying genetics, feeding programs
and growing environments. We believe that this dichotomy between the hog
requirements of processors and the fragmentation and variation of hog production
makes it relatively difficult for non-integrated pork processors to produce
consistent, high quality products.
Hog Production
The hog production industry, although consolidating, remains highly
fragmented and can be characterized by large variations in costs of production
and quality of hogs produced. In many smaller hog operations, the hogs are kept
outdoors in open lots or in less sophisticated buildings, bred in an
unscientific manner, increasing disease and death risk. As a result, a large
portion of the industry is generally characterized by fewer hogs per sow per
year, higher feed-to-gain conversion ratios, higher costs of production, lower
quality and less consistent hogs brought to market. In addition, the effects of
temperature and climate on breeding and farrowing encourage outdoor hog
producers to breed hogs in the spring and fall. This results in seasonal
production, which may result in lower prices when these producers bring their
hogs to market.
According to the USDA, the number of U.S. hog producers has declined by
more than 85% over the last twenty years. We believe that as the hog production
industry moves to more sophisticated production techniques, the pressures on
marginal producers will intensify. In the last several years, a number of
operations have emerged which are based on large-scale, scientific and
management-intensive production of hogs. These operations have grown rapidly. We
expect that the hog production industry will see continued consolidation and
integration in the future.
Products, Marketing and Customers
We market our pork products to a variety of customers in wholesale, retail,
food service and further processing in the U.S. and abroad. We focus on
discriminating customers in these markets. We primarily market our products as
chilled and frozen pork, sold:
• To retailers, retail distributors and wholesalers in the form of
chilled boxed bone-in and boneless loins, tenderloins, hams, picnics,
butts, ribs, marinated, case-ready, bacon, smoked hams and sausage;
• To further processors in the form of chilled bulk bone-in and boneless
hams, picnics and butts, bellies, trimmings, variety meats and other
products which are used by these customers to make processed pork
products;
• To food service customers in the form of chilled and frozen boxed
bone-in and boneless loins, ribs, picnics, butts and further processed
smoked meats; and
• To export customers in the form of chilled boneless loins,
tenderloins, frozen hams, shoulders, bellies, as well as frozen offal
items.
Our vertical integration and control also allows us to produce specialty
products. These include our antibiotic free pork and Premium 97 pork (certified
as 97 percent fat-free by the American Heart Association), as well as KenKo-Ton
"healthy" pork and Mugi Buta "barley-fed" pork for the Japanese market.
Our marketing strategy seeks to capitalize on the quality of the pork
produced by our controlled supply of high-quality consistent hogs and modern
processing operations allowing us to sell fresh and processed pork at prices
that reflect a premium to those received by competitors selling lower quality
products. Our pork processing facilities have been designed to enhance the
realization of this quality by converting standard pork cuts to value-added
6
products through boning, trimming and other further processing. Furthermore, we
target specialty, export and ethnic markets, in which there is a higher demand
for certain pork products. In order to take advantage of a differentiated
product, we have been certified to use the USDA Process Verified seal in
connection with our Missouri and North Carolina operations.
Our international marketing efforts are directed toward a number of
countries, but are predominantly focused on Japan, which ascribes significant
value to our premium, process-controlled products. In fiscal 2003, our sales to
Japanese customers represented about 7 percent of our total sales. We have
recently begun shipping fresh pork products to Japan from our North Carolina
plant. We are using our success in Japan to explore other opportunities in the
export markets in Asia, Europe, Mexico and Canada. Sales to international
markets other than Japan accounted for approximately 3 percent of our total
sales in fiscal 2003.
Though our sales and marketing efforts are primarily focused on sales of
pork products, we are to a lesser extent involved in the related markets for
live hogs, processed meat products and pork by-products. The excess live hogs of
our production facilities are sold to other pork processors. In this respect, we
have long-term contracts with two major pork processors, who purchase
substantially all of the hogs produced at our Texas facilities. The remainder of
our excess hog production is sold in privately negotiated transactions. With
respect to processed meats, our North Carolina plant includes further-processing
facilities that produce products such as cured hams, bacon and sausage. Finally,
all of our facilities sell the by-products of our processing activities to the
variety meat, feed processing and pet food industries.
Production and Processing Operations
Overview
Our production and processing operations are organized as three separate
pods located in Missouri, Texas and North Carolina. Our Missouri and North
Carolina pods each combine hog production farms and processing plants. Our Texas
pod has only hog production operations. The geographic separation of our pods
enhances biosecurity and puts us closer to our customers and feed grain
suppliers, allowing us to minimize shipping costs. Shipping, via truck, is
important in a number of aspects of hog production, particularly the delivery of
feed to hog production units, the shipment of feeder pigs to finishing units,
and the shipment of finished hogs to processing plants. To further reduce the
risk of disease and maximize the scheduling and process coordination that our
integrated approach provides, our pods incorporate transportation facilities
served by our own truck fleet for hauling feed and hogs. Please read note 12 to
our financial statements for financial information relating to our operating
segments.
Hog Production
Our sow production facilities house herds ranging from 1,100 to 3,300 sows
per unit. On average, a staff of five people is required for 1,100 sows. A
typical sow production unit consists of four connected buildings, each with a
specialized function -- breeding, gestation, farrowing and nursery.
The production process begins in the breeding barn, where sows are
artificially inseminated. Artificial insemination maximizes breeding efficiency
and productivity and allows us to utilize genetic stock that maximizes our
overall productivity and quality. After four weeks, conception is verified using
ultrasound technology. From the breeding barn, sows are moved to the gestation
barn where they are vaccinated and placed on a special diet. The gestation
period is 114-days. During this period, the sows must receive adequate nutrition
and careful attention to health and disease control in order to maximize the
size and health of their litters. In our gestation buildings, sows are carefully
monitored and individually fed according to body weight. A few days prior to
delivery, sows are moved to the farrowing barn where they give birth to an
average litter of approximately 10 offspring. Sows nurse their offspring for
three weeks before they are returned to the breeding barn. At approximately 12
to 15 pounds, the offspring are moved to the nursery for a six-to-seven week
period. This step requires high levels of nutrition, environmental control and
minimization of disease and health risks. An increasing portion of our
operations use the
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wean-to-finish production method where nursery pigs are transported directly to
a modified grow/finish site, skipping the traditional time spent in a nursery.
In the next phase of production, offspring are transferred in our sanitized
trailers to our grow/finish complexes or contract growers for growth from
approximately 50 pounds to a target market weight of 260 pounds. Our grow/finish
complexes are comprised of temperature-controlled barns, each housing 950 to
1,200 hogs. A manager in charge of the complex is responsible for monitoring hog
welfare and health, as well as equipment. Efficiency in finishing operations is
affected by the health and environment of the hogs and the formulation of the
feed. These factors, as well as the genetics of the hog, can have a substantial
impact on the feed-to-gain conversion ratio (the pounds of feed required to add
a pound of weight) and the average daily gain. Specialized crews support the
complex managers by assisting with loading and unloading hogs, health care, and
sanitation. Hogs generally remain at the grow/finish complexes for 18 to 19
weeks, gaining an average of approximately 1.7 pounds per day, until they reach
market weight and are transported to a processing facility.
Because diet is a critical factor in the efficient production of hogs and
affects the quality of the final products, where possible we have established
our own feed mills. Our Missouri and Texas pods are located in areas with access
to substantial corn and other feed grain production in excess of local demand.
As a result, we can typically access feed grains on a cost-effective basis and
manufacture and deliver feed to our facilities at a lower cost than we can buy
it from commercial feed mills. In North Carolina, where we rely to some extent
on commercial feed mills, we have established cost-effective toll milling
arrangements with select mills. Due to excess milling capacity in North
Carolina, we are generally able to purchase feed from these vendors on terms
that help us remain a low cost producer. Our feed mills and toll milling
arrangements allow us to optimize production of our customized diets to a
greater degree than would typical arrangements with third-party feed mills,
which operate on a cost plus basis and provide feeds for many types of customers
and animals. We achieve this through "least cost" formulations based on
available feed ingredients. For example, while corn is the primary ingredient in
hog feed, a large number of other grains, proteins, fats and supplements may be
added, and the content and mix of feed ingredients can be managed to improve
nutrition, feed-to-gain ratios and meat quality. We have five company-owned feed
mills in operation aggregating approximately 1.4 million tons of annual
capacity.
Biosecurity
We seek to reduce the risk of disease transmission through a number of
methods, including geographic separation of, and restricted access to,
production facilities, strict sanitation procedures, high health genetic stock
and constant monitoring and response. All units are restricted access, "shower
in/ shower out" facilities. If it is necessary for a manager or worker to enter
a unit other than their designated unit, a mandatory 24 to 96-hour layover
period is required. Feed purity and truck cleanliness are inspected and
monitored. Operating procedures within the facilities are designed to stop the
spread and lessen the viability of infection agents during all phases of the
production process.
The impact of disease is also controlled through the selection of healthy,
disease-resistant sows and through breeding procedures that help pass along
antibodies to the sow's offspring. When disease is found, treatment is
implemented to lessen its impact on the health-challenged hogs and to prevent
its spread to other facilities.
Pork Processing
We maintain pork processing facilities in Missouri and North Carolina.
Ninety-nine percent of the hogs used in fiscal 2003 by our Missouri processing
plant came from our Missouri and Texas hog production operations. During fiscal
2003, approximately 71% of hogs used by our North Carolina processing plant were
supplied by our North Carolina hog production operations, with the remaining 29%
supplied through contracts with independent producers. To ensure the safety and
quality of our products, we use the USDA's Hazard Analysis of Critical Control
Points methodology to identify food safety hazards in our operations. This
approach uses a team of technically trained individuals who are familiar with
the processes to be evaluated. Each separate point in the process is identified
and any hazards associated with them are assessed. Methods for monitoring the
quality and safety of products as they move through these points are then
developed and implemented.
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The quality management points listed below provide the basis for our
Process Verified Program. In November of 1998, we became the first company in
the pork industry to receive approval for this program from the
USDA-Agricultural Marketing Service. This approval gave accreditation to the
only program which extends from live animal production through processing. While
other pork companies have since received approval of their own Process Verified
programs, we believe ours is the most comprehensive, encompassing live animal
production through processing.
Process Verified is based on ISO-9000 requirements that are adapted for the
livestock industry, and is administered by the USDA Agricultural Marketing
Service, Livestock and Seed Division. We have designated six comprehensive
process points throughout our process to represent our program. These quality
management points are summarized as follows:
• Every order is traceable to source farms
• Every phase of production is managed using a food safety based control
system
• Production and processing systems are designed to continuously assess
the effect of farm and plant processes on meat quality traits,
including extensive genetic research
• Personnel are trained to handle all livestock according to proper
animal handling guidelines
• We are committed to environmental stewardship with the goal to protect
the quality of the environment by evaluating and improving the waste
management systems
• All antibiotic free products derive from market animals that have
never received antibiotics through feed, water, or via injection
Our automated processing operations have been designed to achieve the
benefits of vertical integration that are not available to non-integrated hog
producing or pork processing competitors. Some of these benefits are as follows:
• We capture more value from our hogs through further processing rather
than passing this value on to other processors
• We streamline logistics, transportation and production schedules to
enhance asset utilization and reduce our cost structure because of the
proximity and integrated management of production and processing
operations
• We improve the realizable value of our hogs through our control over
the key factors (genetics, nutrition and environment) that affect the
leanness and meat quality of each hog
• We believe we provide a higher level of quality and safety assurance
to our customers because of our control of both production and
processing
We believe that by controlling our own high quality, consistent hog supply,
we can be among the more efficient processors in the industry and produce a
consistent high-quality product whose value will be recognized in the market.
The design of our Missouri and North Carolina processing facilities reflect
four key objectives:
• Modern equipment and proven technology has been used to build two of
the highest quality facilities in the industry
• The facilities are designed to emphasize worker safety to ensure
compliance with all regulations and to reduce worker injury and
turnover
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• The facilities are designed to produce a product that is appealing to
further processors and consumers and will be brandable. They employ
identification and tracking technology to ensure quality control for
the final pork product
• The facilities are designed to reduce waste products and emissions and
dispose of waste in accordance with applicable environmental standards
Missouri
Our Missouri pod has both production and processing operations. The
Missouri production operation, based at Princeton, employs approximately 1,300
people. An 112,000-sow herd produces approximately 2.1 million market hogs per
year. Eighty-two sow units, five nursery units and ninety-one finishing units
are located on farms in five counties in Northwest Missouri. We also have grower
relationships with ContiGroup. See "Certain Relationships and Related
Transactions."
The Missouri processing facility is located at Milan and employs
approximately 950 people with the capacity to process 7,100 hogs daily (on an
eight hour shift) or about 1.9 million hogs per year. To ensure the safety and
quality of our products, the processing facility incorporates several innovative
systems, including a carbon dioxide anesthetizing system, which we believe was
the first carbon dioxide system of its kind in use in the United States. This
facility also has a large hog holding area that provides at least four hours of
rest to hogs upon arrival. The result is a less stressful environment for the
hogs, which results in better meat quality.
North Carolina
Our North Carolina pod has both production and processing operations. The
North Carolina production operation, based at Clinton, employs approximately 300
people. A 66,000-sow herd produces approximately 1.3 million market hogs per
year. Contractual arrangements for purchasing weaned pigs produce an additional
one-half million market hogs per year. Nine sow units, three nursery units and
four finishing units are located on farms in various counties throughout the
state. Most of the production operations in North Carolina are conducted on
farms that are not owned by us. Instead, we have contract grower agreements with
local farmers who provide the land, space and labor needed. These grower
arrangements are managed by our hog production field supervisors. The hogs
themselves are owned by us, are raised according to our specifications using our
genetics, feed and supplies, and are delivered to our North Carolina processing
facility. Since these arrangements allow us to control the process, from a hog's
initial genetic makeup to the pork product ultimately produced and shipped, we
consider them to be a part of our integrated operations notwithstanding the fact
that we do not own the farms themselves.
The North Carolina processing facility is located at Clinton and employs
approximately 1,200 people processing up to 10,000 hogs daily, depending on
seasonality and market conditions, or up to 2.6 million hogs per year. Now that
construction and renovation are complete at this recently acquired facility, we
believe the plant is one of the most advanced facilities of its kind. To obtain
the estimated 700,000 hogs annually used by the facility that are not supplied
by our production operations, we have established supply arrangements with
several external hog suppliers who have agreed to follow our Process Verified
requirements.
Texas
Our Texas pod has only production operations. These operations are
headquartered at Dalhart, Texas and employ approximately 300 people. A
34,000-sow herd produces approximately 600,000 market hogs per year.
Twenty-three sow units, six nursery units and eight finishing units are located
on farms in Dallam and Hartley counties. No contract finishing is used in the
Texas pod's production. A minor portion of the hogs produced in Texas are
transported to our Missouri processing facility. Substantially all are sold
under two long-term contracts with major processors.
In fiscal 2003, we completed the addition of a new 10,000 sow and
wean-to-finish operation at our Texas facilities. Our Texas production
facilities are located on approximately 54,000 acres with adequate space and all
environmental and land use permits required for further expansion in a manner
that could replicate our Missouri hog production facilities.
10
Research and Development
We use an applied research strategy which allows rapid and early
implementation of technologies in production, nutrition and processing. This
effort is driven by our technical team, many of whom have advanced degrees in
nutrition, meat science, and health assurance. This group also uses an extensive
network of outside scientists and other contacts to enable us to use the latest
technology.
We constantly seek to improve the genetics of our production herds and to
produce hogs that are the highest quality commercially available. Our female and
male breeding stock are purchased from several of the world's largest hog
genetics firms, which employ extensive research efforts in molecular genetics,
biosecurity, food safety and meat quality. We also have internal "multiplier"
herds, which are continually improved through the purchase of enhanced genetics
and provide an internal source of a majority of our sows at a substantially
reduced cost, and with greater control.
We routinely evaluate alternate genotypes to validate and compare them to
existing products. In addition, we conduct intense research trials to further
develop existing genotypes to meet economic and customer demands for composition
and quality. These arrangements enhance the quality of our genetics and
diversify our genetic sources. We also incorporate careful computer-based
monitoring of the breeding performance of all our breedstock to improve breeding
patterns and remove sub-optimal parents from the herd. These operations are
conducted at our Missouri, Texas and North Carolina genetic improvement
facilities.
We also have been a leader in the implementation of new technologies at our
processing facilities. For example, we believe that we were the first U.S.
company to introduce the use of European-designed carbon dioxide anesthesia
systems in pork processing to reduce livestock agitation and increase meat
quality. Specially designed trucks and holding areas also enhance the welfare
and handling of our hogs. In addition, we use extreme chilling technologies to
improve product quality traits like color, texture and moisture retention.
We also are ending our fourth year of a five-year, $25 million, research
program to develop improved waste processing methods and technologies. See
"Legal Proceedings."
Competition
The pork industry is highly competitive and we compete with many other pork
processors and hog producers of varying sizes. Our products also compete with a
large number of other protein sources, including beef, chicken, turkey and
seafood. However, our principal competition comes from other large pork
processors. We believe that the principal areas of competition in the pork
industry are price, quality, product distribution and brand loyalty. Some of our
competitors are larger, have correspondingly greater financial and other
resources and enjoy wider recognition for their branded products.
Intellectual Property
We hold several trademark and other intellectual property rights. For
example, we have registered the names "Premium Farms," "Natural Excellence,"
"Premium Standard Farms," "Premium Standard Certified," "Fresh from the Farm
Taste," "Carolinian," "Lundy's," "Tomahawk Farms," "Signature Cuisine" and "Gold
Banner" with the United States Patent and Trademark Office. We have also
registered "Premium Standard Farms" in some of the foreign countries to which we
sell our products. In addition to trademark protection, we attempt to protect
our unregistered marks and other proprietary information under trade secret
laws, employee and third-party non-disclosure agreements and other laws and
methods of protection. We have been issued a patent with the United States
Patent and Trademark Office for an animal waste management system designed for
some of our production facilities.
Employees
We have approximately 4,200 employees, of which approximately 2,100 are in
processing, approximately 1,900 are in production and approximately 200 are in
administration. None of our employees are subject to
11
collective bargaining arrangements, although there can be no assurance that
employees will not enter into such agreements in the future. We generally
consider our employee relations to be good.
Regulation
Various federal, state and local laws and regulations apply to our
operations, particularly in the health and environmental areas administered by
the Occupational Safety and Health Administration (OSHA), the USDA, the Food and
Drug Administration (FDA), the federal Environmental Protection Agency (EPA) and
corresponding state agencies such as the Missouri Department of Natural
Resources (MDNR), the Texas Natural Resource Conservation Commission and the
North Carolina Department of Environment and Natural Resources. We anticipate
increased regulation by these agencies, including the USDA concerning food
safety and the FDA regarding the use of medication in feed.
Current environmental regulations impose standards and limitations on,
among other things, our waste treatment lagoons, water treatment facilities and
new construction projects. Animal waste from our hog production facilities is
anaerobically digested and the resulting fluids are then applied to surrounding
farm land. This process uses lagoons in Missouri and North Carolina and a
combination of digesters, lagoons, solid separators and aeration tanks in Texas.
In North Carolina, the use of waste treatment lagoons and spray fields for
the disposal of swine waste continues to be controversial. Certain areas of that
state are prone to flooding, as well as exposed to hurricanes from time to time.
Due in part to damage caused to waste lagoons by recent hurricanes, the state
has extended a moratorium on construction of new hog lagoons and spray fields
until 2007. It is anticipated that this moratorium will be extended until such
time as more effective technologies are developed to protect the environment.
On September 29, 2000, we voluntarily entered into an agreement with the
Attorney General of North Carolina. Under this agreement, we committed to
implement "Environmentally Superior Technologies" for the management of swine
waste at our farms within three years after an independent panel has determined
that such technologies are both effective and economically feasible to construct
and operate. "Environmentally Superior Technologies" are generally identified as
waste treatment technologies that meet certain performance standards with
respect to release of materials into the environment. In addition, under the
agreement, we paid $2.5 million to a fund for the development of such
technologies, for environmental enhancement activities and for the defrayal of
costs incurred by the state related thereto. We have met all of our commitments
to date under this agreement and continue to work closely with the state's
designated representative at North Carolina State University in the development
of "Environmentally Superior Technologies." See also "Legal Proceedings."
The Country of Origin Labeling (COOL) requirements became law pursuant to
the Farm Security and Rural Investment Act of 2002. Due to our vertical
integration, we do not anticipate any material compliance problems. The EPA has
also issued its Concentrated Animal Feeding Operation (CAFO) effluent guideline
rules in December 2002. Our facilities and related operating procedures meet or
exceed most of the rules, and we do not anticipate any material problems
complying with these rules.
Based on information currently available, we believe that the cost of
achieving and maintaining compliance with these health and environmental laws
and regulations will not have a material adverse effect on our business or
financial position. However, future events, such as changes in existing laws and
regulations or enforcement policies, could give rise to additional compliance
costs which could have a material adverse effect on our financial condition.
In February 2002, the United States Senate initially passed a Farm Bill
that included a provision (the "Johnson Amendment") which would have prohibited
meat packers, like us, from owning or controlling livestock intended for
slaughter for more than fourteen days prior to slaughter. The United States
House of Representatives passed a different version of the Farm Bill that did
not contain any provision similar to the Johnson Amendment. A Conference
Committee was convened for the Farm Bill, composed of members of both the House
and the Senate. This Conference Committee rejected the Johnson Amendment and
approved a uniform Farm Bill without that Amendment or any similar provision.
12
If the Johnson Amendment had become law, it may have had a material adverse
effect on our vertically integrated business. It may have caused us to consider
a restructuring of our operations. We, along with industry groups, succeeded in
educating lawmakers as to the adverse effects and unintended consequences of the
Johnson Amendment, leading to its subsequent rejection by the Conference
Committee. We and others in the industry will continue efforts to educate
lawmakers, but the parties advocating passage of the Johnson Amendment continue
to propose similar legislation. If a provision like the Johnson Amendment became
law, it could have a material adverse effect on us.
Several states have enacted "corporate farming laws" that restrict the
ability of corporations to engage in farming activities. Missouri is among these
states, but Texas and North Carolina currently are not. Missouri's corporate
farming law in many cases bars corporations from owning agricultural land and
engaging in farming activities. Our operations have been structured to comply
with the Missouri corporate farming law and its existing exemptions. The
Missouri laws, however, could be subject to challenge or amendment by Missouri
governmental bodies in the future. Further, even with the exemptions, the
corporate farming laws restrict our ability to expand beyond the counties in
which we currently operate.
At the time of ContiGroup's acquisition of its interest in us in 1998,
ContiGroup submitted the proposed ownership structure to the Office of the
Attorney General of the State of Missouri for its review. At that time, the
Office of the Attorney General indicated that it had no objection to our current
structure under the corporate farming laws. There can be no assurance, however,
that this position will be maintained in the future as our operations continue
and develop.
Item 2. Properties
(a) Hog Production.
We have a combination of owned and leased hog production facilities which
support approximately 212,000 sows and their respective offspring. As detailed
below, there are three geographic areas where our pork production operations are
located.
The Missouri production operation has an 112,000-sow herd which produces
approximately 2.1 million market hogs per year. The production facilities are
located on approximately 45,000 acres and are supported by 3 owned feedmills
with a combined annual capacity of 960,000 tons per year. Of these 45,000 acres,
approximately 7,200 acres are owned by ContiGroup but the facilities located
thereon are owned by us. See "Certain Relationships and Related Transactions."
The Texas production operation has a 34,000-sow herd which produces
approximately 600,000 market hogs per year. The production facilities are
located on approximately 54,000 acres and are supported by one owned feedmill
with an annual capacity of 180,000 tons per year.
The North Carolina production operation has a 66,000-sow herd which
produces approximately 1.3 million market hogs per year. Most of the production
operations in North Carolina are conducted on farms that are not owned by us.
The hogs themselves, however, are owned by us. In addition, one nursing unit and
one finishing unit involved in our North Carolina production operations are
capital lease facilities. Our North Carolina production operations are supported
by one owned feedmill with an annual capacity of 224,000 tons per year and
through an arrangement with a large feedmill operator for the rest of our feed
requirements.
(b) Pork Processing.
We own two pork processing facilities located in Missouri and North
Carolina. Combined, these two facilities have the capacity to process
approximately 4.5 million market hogs per year.
The Missouri facility has a processing capacity of 7,100 market hogs per
day and is one of the most modern and technically advanced facilities of its
kind. Substantially all of the market hogs processed at this plant are produced
by our Missouri pork production operation.
13
In fiscal 2003, we completed a major renovation to our North Carolina
processing facility which increased its processing capacity. The facility is now
capable of processing up to 10,000 hogs daily, depending on seasonality and
market conditions, and we believe it is now, along with our Missouri processing
plant, one of the most advanced facilities of its kind in the United States. The
majority of the market hogs processed at the facility are provided by our North
Carolina pork production operations with the remainder being sourced from
outside suppliers.
Item 3. Legal Proceedings
We have settled two citizens' action suits which sought to enforce alleged
violations of the Clean Air Act, Clean Water Act and CERCLA against us and
ContiGroup Companies, Inc. ("ContiGroup"). The U.S. Environmental Protection
Agency (the "E.P.A.") had intervened in this action and filed a separate notice
of violation against us under the Clean Air Act. This settlement, in the form of
a consent decree ("EPA Consent Decree"), resolved all outstanding issues of
ContiGroup and us with the E.P.A. In 1998, we engaged in a series of
transactions with ContiGroup pursuant to which we purchased from ContiGroup its
North Missouri Farms hog production operations and ContiGroup purchased a 51.0%
ownership interest in us (the "1998 ContiGroup transaction"). To the extent that
ContiGroup incurred any liability in this litigation, we assumed that liability
pursuant to the terms of our 1998 ContiGroup transaction. The EPA Consent
Decree, built upon the 1999 consent decree with the State of Missouri referenced
below, requires us and ContiGroup to meet certain performance standards, such as
a 50 percent reduction in nitrogen concentration of the effluent applied to area
fields over a prescribed time period. Other key elements of the EPA Consent
Decree include: monitoring air emissions from lagoons and barns; compliance with
certain best management practices to reduce the risk of spills; testing of
selective lagoons to ensure integrity, and the payment of a $350,000 civil
penalty. The counsel for the citizen plaintiffs has submitted a petition for
recovery of attorneys' fees in connection with the lawsuits against both us and
ContiGroup. We believe the majority of these fees have been previously paid and
resolved. We believe the resolution of this matter will not have a material
adverse effect upon our financial position or results of operations.
In 1999, we settled a suit filed by the Attorney General of the State of
Missouri against us and ContiGroup. As referenced above, we assumed ContiGroup's
liability in this action in connection with the 1998 ContiGroup transaction. The
settlement required us and ContiGroup to enter into a consent judgment
("Missouri Consent Decree") pursuant to which we are obligated to invest $25
million on or before May 19, 2004, for researching, installing and operating
improved technology to control wastewater, air and odor emissions from our
Missouri farms. All such investments are subject to the approval of an expert
panel of independent university experts. To date, we have spent $11.9 million to
satisfy the settlement. We anticipate an extension of this expenditure deadline
because both the State of Missouri and the expert panel want further
confirmation of the efficacy of any chosen technology. In addition, pursuant to
the Missouri Consent Decree we and ContiGroup were issued a $1 million civil
penalty. Of this, $650,000 has been paid and $350,000 is suspended pending
certain conditions.
In addition to the suits discussed above, we have received notices of
violations from the Missouri Department of Natural Resources alleging releases
of wastewater. We have responded to these notices in an effort to resolve these
matters. The State of Missouri filed a lawsuit in June 2002 seeking penalties
and injunctive relief for these violations. We have filed an answer, believe we
have good defenses, and intend to vigorously defend this suit.
Two nuisance suits were filed against ContiGroup and us during the third
quarter of fiscal year 2003 in the Circuit Court of Jackson County, Kansas City,
Missouri. There are multiple plaintiffs in each suit, who claim to live near
swine farms owned by ContiGroup but under production contracts with us. The
primary allegation is that offensive odors from these farms interfered with the
plaintiffs' right to use and have quiet enjoyment of their respective
properties. We are obligated by contract to indemnify ContiGroup for any
liabilities arising from this litigation. We have filed an answer, believe we
have good defenses to these actions, and intend to vigorously defend these
suits.
In addition, we are involved from time to time in routine litigation
incidental to our business. Although no assurance can be given as to the outcome
or expense associated with any of these routine proceedings, we believe that
none of such proceedings currently pending should, individually or in the
aggregate, have a material adverse effect on our financial statements.
14
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders during the last
quarter of the fiscal year covered by this report.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
(a) Market Information. There is no established public trading market for
the common stock of PSF Group Holdings.
(b) Holders. As of April 30, 2003, there were approximately 150 record
holders of the Class A Common Stock of PSF Group Holdings and one record holder
of the Class B Common Stock of PSF Group Holdings.
(c) Dividends. PSF Group Holdings has not declared or paid any dividends
on its common stock since its issuance. Our current credit facility and the
Indenture related to our 9 1/4% Notes effectively limit our ability to declare
and pay dividends to shareholders. For more detailed information on our current
credit facility, the 9 1/4% Notes and the related Indenture, see "Management's
Discussion and Analysis of Financial Condition and Results of Operation -
Liquidity and Capital Resources" and Notes to our Consolidated Financial
Statements.
(d) Securities Authorized for Issuance Under Equity Compensation Plans.
The following table sets forth information regarding our equity compensation
plans as of March 29, 2003:
A B C
Number of Securities Remaining
Number of Securities Available for Future
to be Issued Upon Weighted Average Issuance Under Equity
Exercise of Outstanding Exercise Price of Outstanding Compensation Plans
Plan Category Options, Warrants and Rights Options,Warrants and Rights (Excluding Those in Column A)
------------- ---------------------------- ----------------------------- ------------------------------
Equity compensation plans
approved by security holders.... -- -- --
Equity compensation plans
not approved by security holders... 7,428 $ 1,666.48 7,572
------- ----------- -------
Total............................... 7,428 $ 1,666.48 7,572
======= =========== =======
For a description of our 1999 Equity Incentive Plan, see "Executive
Compensation" below.
Item 6. Selected Financial Data
The following table sets forth selected historical consolidated financial
information for PSF Group Holdings from inception (May 13, 1998, the date of the
ContiGroup acquisition) through the period ended March 27, 1999 and for the
fiscal years ended March 25, 2000, March 31, 2001 and March 30, 2002, which was
derived from our consolidated financial statements, which have been audited by
Arthur Andersen LLP, independent public accountants. The financial information
presented for the fiscal year ended March 29, 2003, was derived from our
consolidated financial statements, which have been audited by Deloitte & Touche
LLP, independent public accountants.
The financial information presented for the years ended March 31, 2001,
March 30, 2002, and March 29, 2003, reflect our acquisition of The Lundy Packing
Company on August 25, 2000 and our acquisition of Premium Standard Farms of
North Carolina, Inc. on September 22, 2000, both of which were accounted for in
accordance with the purchase method of accounting. This data should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the financial statements and the notes thereto.
15
For the period Fiscal years ended
--------------- ---------------------------------------------------
May 13, 1998 to March 25, March 31, March 30, March 29,
March 27, 1999 2000 2001 2002 2003
--------------- --------- --------- --------- ---------
(Dollars in thousands)
STATEMENT OF OPERATIONS DATA:
Net Sales $ 237,090 $ 306,266 $ 540,576 $ 674,946 $ 608,414
Operating income (loss) (35,321) 14,514 61,333 64,770 (39,430)
Net income (loss) (32,545) (5,287) 22,014 25,365 (38,600)
OTHER FINANCIAL DATA:
EBITDA (1) $ 2,330 $ 62,527 $ 112,292 $ 120,825 $ 22,078
Capital expenditures 22,126 23,669 43,224 96,232 35,505
Pounds of pork sales (millions) 296.79 345.84 603.88 675.02 737.95
Total hogs processed (million) 1.61 1.92 3.02 3.66 4.07
BALANCE SHEET DATA (AT PERIOD END):
Working capital $ 70,010 $ 51,698 $ 119,764 $ 120,097 $ 139,523
Total assets 617,455 584,498 773,440 807,639 779,062
Total long-term debt and capital leases
(including current portion) 211,384 175,997 267,216 272,782 305,184
- ----------
(1) EBITDA represents earnings before interest, taxes, depreciation,
amortization and impairment. EBITDA is presented because we believe it
is frequently used by securities analysts, investors and other
interested parties in the evaluation of companies in our industry.
EBITDA is also a covenant in our bank credit facility. However, other
companies in our industry may calculate EBITDA differently than we do.
Therefore, EBITDA is not necessarily comparable to similarly titled
measures of these companies. EBITDA is not a measurement of financial
performance under generally accepted accounting principles and should
not be considered as an alternative to cash flow from operating
activities or as a measure of liquidity or an alternative to net
income as indicators of our operating performance or any other
measures of performance derived in accordance with generally accepted
accounting principles. See the Statements of Cash Flow included in our
consolidated financial statements.
For the period Fiscal years ended
--------------- ------------------------------------------------------------
May 13, 1998 to March 25, March 31, March 30, March 29,
March 27, 1999 2000 2001 2002 2003
--------------- ------------ ------------ ------------ ------------
(Dollars in thousands)
Reconciliation of EBITDA to net cash (used in) provided by operating activities:
EBITDA $ 2,330 $ 62,527 $ 112,292 $ 120,825 $ 22,078
Plus (minus):
Interest expense, net (17,601) (21,500) (23,952) (20,404) (23,745)
Loss on early extinguishment of debt - - - (2,192) -
Tax benefit (expense) 20,377 1,699 (15,367) (16,809) 24,575
Amortization of deferred financing costs - - 738 1,209 1,546
Deferred income taxes (20,377) (1,874) 16,825 9,946 (19,164)
Net loss (gain) on sale of fixed assets 2,787 (1,433) (3,763) (4,950) 1,298
Senior note interest paid-in-kind 6,814 7,189 - - -
Changes in operating assets and liabilities, net (1,950) 9,028 (22,393) (7,110) (23,968)
------------ ------------ ----------- ------------ ------------
(9,950) (6,891) (47,912) (40,310) (39,458)
------------ ------------ ----------- ------------ ------------
Net cash (used in) provided by operating activities $ (7,620) $ 55,636 $ 64,380 $ 80,515 $ (17,380)
============ ============ ============ ============ ============
16
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the financial
statements, including the notes thereto, and the other financial information
appearing elsewhere in this report on Form 10-K.
Overview
As a vertically integrated provider of pork products, we operate in both
pork industry segments: hog production and pork processing. In fiscal 2001, we
made two strategic acquisitions to strengthen our position in the food
production industry. On August 25, 2000, we acquired The Lundy Packing Company
("Lundy") and its affiliated companies, which owned a processing plant in North
Carolina capable of processing 1.8 million hogs per year and owned approximately
41,000 sows. On September 22, 2000, we acquired, from ContiGroup, Premium
Standard Farms of North Carolina ("PSFNC"), which owned approximately 24,000
sows. As a result of these acquisitions and further enhancements to our
operations, we are the second largest owner of sows in North America,
controlling over 255,000 sows, of which approximately 212,000 are owned,
producing approximately 4.5 million hogs per year. We are also the seventh
largest pork processor in the United States, with two plants capable of
processing approximately 4.5 million hogs per year.
As an important part of our growth strategy, we evaluate on an ongoing
basis potential industry-related acquisitions and joint ventures. Other than a
recent joint venture in a small sow processing operation, we have not at the
present time entered into any definitive agreements contemplating such
acquisitions or joint ventures. Further, there can be no assurance as to whether
or when any negotiations will ultimately culminate in definitive agreements or,
if any definitive agreement is reached, whether any acquisition or joint venture
will ultimately be consummated. To complete any acquisition or joint venture, we
may use our revolving credit facility or other financing alternatives available
at the time.
Our fiscal year is the 52 or 53-week period, which ends on the last
Saturday in March. Our financial statements include activity from the fiscal
years ended March 29, 2003 (52 weeks), March 30, 2002 (52 weeks), and March 31,
2001 (53 weeks).
Net Sales
Our net sales are generated from the sale of pork products to retailers,
food service suppliers, further processors, export buyers, and to a lesser
extent the sale of market hogs to other pork processors. In fiscal 2003, sales
of pork products accounted for approximately 91% of our net sales, with the
remaining 9% coming from sales of market hogs.
Pork product sales are of primal cuts, such as hams, loins, bellies, butts,
picnics and ribs, and to a lesser extent of other by-products. Primal products
are also converted further into boneless items or, in our North Carolina
operations, further processed into items such as smoked hams, cured hams, and
sliced bacon. Our processing revenues are primarily driven by the operating rate
of our facilities and the value that we extract from the hogs that we process.
For our fiscal years ended March 29, 2003, March 30, 2002 and March 31, 2001, we
processed 4.1 million, 3.7 million and 3.0 million hogs, respectively. Our
Missouri processing plant is currently capable of processing 7,100 hogs per day
and our North Carolina processing plant is currently capable of processing up to
10,000 hogs per day, depending on seasonality and market conditions. The value
that we extract from hogs processed is primarily driven by pork prices,
processing yields and to a lesser extent, by product mix, as premium products
and boneless and further processed products generate higher prices and operating
margins.
Wholesale pork prices fluctuate seasonally and cyclically due to changes in
supply and demand for pork. We believe that our vertical integration allows us
to obtain higher prices for our products than our more commodity-driven
competitors. See "Market Risk."
Historically, live hog prices have experienced cyclical and seasonal supply
and demand fluctuations. Revenue from the sale of market hogs is driven by the
number of hogs sold (in excess of what our processing facilities require), the
average weight, and the current market price (including any quality premiums).
Our excess market hogs are sold to third party processors.
17
Cost of Goods Sold
Our cost of goods sold is driven primarily by several key factors. For our
pork processing operations, the main costs (excluding market hogs) are labor,
packaging, utilities, and facility expenses. Given the high fixed costs required
to build, maintain and operate a processing plant, unit costs are impacted
somewhat by processing volumes. For fiscal 2003, the costs associated with our
North Carolina pork processing facility reflected the fact that approximately
29% of the hogs processed at that facility were purchased at market price from
independent local farmers under supply contracts. For our hog production
operations, the main costs are feed, labor, utilities, and facility expenses
which include maintenance, depreciation and contract grower fees. The costs
associated with feed generally represent 50% to 60% of the total cost to raise a
market hog depending on the price of corn and soybean meal, which constantly
fluctuates. Increases in the price of these commodities result in increases in
our feed costs, while decreases reduce our feed costs. The relative impact of
price changes in these commodities varies based on the percentage that each
makes up in our feed composition. See "Market Risk." We are proactive in
recognizing opportunities to improve our cost structure and strive to be one of
the lowest cost producers in the industry.
Selling, General and Administrative Expenses
Sales and marketing expenses consist primarily of salaries for
company-employed sales people as well as trade promotions, advertising,
commissions and other marketing costs. General and administrative costs consist
primarily of general management, accounting and legal expenses.
Seasonality
Our quarterly operating results are influenced by seasonal fluctuations in
the price of our primary feed components, corn and soybean meal, and by seasonal
fluctuations in wholesale pork prices. The prices we pay for our feed components
are generally lowest in August, September and October, which corresponds with
the corn and soybean harvests. Generally, the prices for these commodities will
increase over the following months leading up to the next harvest due to the
increased storage costs. As a result, our costs in the production side of our
business tend to increase during this period.
Live hog and wholesale pork prices are similarly affected by seasonal
factors. It generally takes approximately 11 months from conception for a hog to
reach market weight, and because sows are generally less productive in summer
months as a result of seasonal conditions, there are generally fewer hogs
available in the months of April, May and June. This decrease in supply of live
hogs generally causes live hog and wholesale pork prices to be higher on average
during these months, and our revenues tend to increase accordingly. Conversely,
there are generally more hogs available in the months of October, November and
December, which generally causes live hog and wholesale pork prices to be lower
on average during these months and adversely affects our revenues.
Results of Operations
The following table presents selected historical financial information for
our production and processing segments for the fiscal years ended March 29,
2003, March 30, 2002 and March 31, 2001. Results of operations for the fiscal
year ended March 31, 2001 include information for The Lundy Packing Company
("Lundy") from August 25, 2000 and information for Premium Standard Farms of
North Carolina, Inc. ("PSFNC") from September 22, 2000, the respective dates of
acquisition. Net sales, gross profit and operating income by segment are also
presented as a percentage of their respective totals. The columns under
year-to-year change show the dollar and percentage change from the respective
years ended. Intersegment sales are based on market prices.
18
Fiscal Year Ended Year to Year Change
----------------------------------------------------------------------------------------------------------------
March 29, March 30, March 31, 2003 to 2002 to
2003 % 2002 % 2001 % 2002 % 2001 %
--------- - --------- - --------- - ------- - ------- -
(in millions except percentages)
Net Sales
Production $ 357.2 58.7% $ 440.8 65.3% $ 359.1 66.4% $ (83.6) (19.0)% $ 81.7 22.8%
Processing 558.3 91.8% 599.6 88.8% 475.7 88.0% (41.3) (6.9)% 123.9 26.0%
Intersegment (307.1) (50.5)% (365.4) (54.1)% (294.2) (54.4)% 58.3 16.0% (71.2) (24.2)%
--------- -------- --------- ------- -------- ------- -------- -------- ------- -------
Total Net Sales $ 608.4 100.0% $ 675.0 100.0% $ 540.6 100.0% $ (66.6) (9.9)% $ 134.4 24.9%
========= ======== ========= ======= ======== ======= ======== ======== ======= =======
Gross Profit
Production $ (63.3) 269.4% $ 59.8 69.7% $ 62.4 73.9% $(123.1) (205.9)% $ (2.6) (4.2)%
Processing 39.8 (169.4)% 26.0 30.3% 22.0 26.1% 13.8 53.1% 4.0 18.2%
--------- -------- --------- ------- -------- ------- -------- -------- ------- -------
Total Gross Profit $ (23.5) 100.0% $ 85.8 100.0% $ 84.4 100.0% $(109.3) (127.4)% $ 1.4 1.7%
========= ======== ========= ======= ======== ======= ======== ======== ======= =======
Operating (Loss) Income
Production $ (63.1) 160.2% $ 59.5 91.8% $ 62.7 102.3% $(122.6) (206.1)% $ (3.2) (5.1)%
Processing 34.4 (87.3)% 23.0 35.5% 16.2 26.4% 11.4 49.6% 6.8 42.0%
Corporate (10.7) 27.1% (17.7) (27.3)% (17.6) (28.7)% 7.0 39.5% (0.1) (0.6)%
--------- -------- --------- ------- -------- ------- -------- -------- ------- -------
Total Operating (Loss) Income $ (39.4) 100.0% $ 64.8 100.0% $ 61.3 100.0% $(104.2) (160.8)% $ 3.5 5.7%
========= ======== ========= ======= ======== ======= ========= ======== ======= =======
Fiscal year Ended March 29, 2003 Compared to the Fiscal Year Ended March 30, 2002
Consolidated
Net Sales. Net sales decreased by $66.6 million, or 9.9%, to $608.4 million in
fiscal year 2003 from $675.0 million in fiscal year 2002. The decrease was
attributed to a decrease of prices of $91.6 million, which was offset by an
increase in volume of $25.0 million. Wholesale pork prices were severely
impacted by several factors, including, an increased supply of pork industry
wide, compounded by an increased supply of all meat proteins. Much of the
increase in meat proteins was attributed to the Russian ban on poultry imports
from the United States, which was lifted in fiscal year 2003, but is subject to
current negotiations regarding import requirements. Although the ban has been
lifted, the effects of it as well as the increase in pork production
industry-wide for the year continued to have a negative impact on market hog and
wholesale pork prices during fiscal year 2003. See Segment Analysis below for
comments on changes in sales by business segment.
Gross Profit. Gross profit decreased by $109.3 million, or 127.4%, to a loss of
$23.5 million in fiscal year 2003 from a profit of $85.8 million in fiscal year
2002. As a percentage of net sales, gross profit decreased to (3.9)% from 12.7%.
This decrease was due to the decrease in sales prices mentioned above coupled
with a 3.4% increase in costs to produce our products. See Segment Analysis
below for comments on changes in gross profit by business segment.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses decreased as a percentage of net sales to 3.0% in fiscal
year 2003 from 3.2% in fiscal year 2002. In dollar terms, selling, general and
administrative expenses decreased by $3.2 million, or 14.9%, to $18.3 million in
fiscal year 2003 from $21.5 million in fiscal year 2002. The majority of the
decrease is attributable to decreased bonus and long-term incentive plan
accruals for fiscal year 2003.
Operating (Loss) Income. Operating income decreased by $104.2 million, or
160.8%, to an operating loss of $39.4 million in fiscal year 2003 from an
operating income of $64.8 million in fiscal year 2002. The decrease was
attributable to the factors mentioned above.
Interest Expense, net. Interest expense, net, increased by $3.3 million, or
16.2%, to $23.7 million in fiscal year 2003 from $20.4 million in fiscal year
2002. The increase was attributed to an increase in total interest-bearing debt
outstanding and increased amortization of deferred financing costs which are
charged to interest expense related to recent bank credit amendments, offset
slightly by lower interest rates on our variable rate debt. See Liquidity and
Capital Resources below for more information.
19
Income Tax Expense. Our effective tax rate was 38.9% in the fiscal year 2003
compared to an effective rate of 39.9% in fiscal year 2002. The difference was
primarily attributable to the utilization of state income tax credits.
Segment Analysis
Hog Production. Net sales decreased by $83.6 million, or 19.0%, to $357.2
million in fiscal year 2003 from $440.8 million in fiscal year 2002. The
decrease primarily resulted from a 22.0% decrease in net market hog sales
prices, partially offset by a 3.9% increase in volume attributable to the
effects of our Texas sow herd expansion and additional contract production.
Intersegment sales to our pork processing segment transferred at market prices
are eliminated in the Consolidated Statements of Operations.
Gross profit decreased by $123.1 million, or 205.9%, to a loss of $63.3
million in fiscal year 2003 from a gross profit of $59.8 million in fiscal year
2002. The decrease was a combination of the decrease in net market hog sales
prices mentioned above, coupled with an increase in costs of $39.5 million,
$14.7 million of which related to increased volume and $24.8 million of which
related to increased costs. Overall, hog production costs were 6.2% higher on a
per hundred weight basis in fiscal year 2003 compared to fiscal year 2002, with
the majority of the increase caused by higher feed costs, lower values on culled
animals and a lower weight per animal marketed.
Operating income decreased by $122.6 million, or 206.1%, to an operating
loss of $63.1 million fiscal year 2003 from an operating income of $59.5 million
in fiscal year 2002. The decrease is attributed to the factors mentioned above.
Pork Processing. Net sales decreased $41.3 million, or 6.9%, to $558.3 million
in fiscal year 2003 from $599.6 million in fiscal year 2002. The decrease
resulted from a 16.2% decrease in pork product sales prices, partially offset by
an 11.1% increase in volume processed compared to the same period last year. The
increase in volume was primarily attributable to the expansion at the North
Carolina plant completed in late fiscal year 2002, which increased capacity from
6,500 hogs per day to 10,000 hogs per day.
Gross profit increased by $13.8 million, or 53.1%, to $39.8 million in
fiscal year 2003 from $26.0 million in fiscal year 2002. The increase primarily
resulted from higher margins on pork products due to lower market hog prices
coupled with higher volume through the plants. Processing costs increased 1.2%
during fiscal year 2003 compared to fiscal year 2002, primarily the result of
increased depreciation expense related to the North Carolina processing plant
expansion and added emphasis on higher cost value-added products.
Operating income increased by $11.4 million, or 49.6%, to $34.4 million in
fiscal year 2003 from $23.0 million in fiscal year 2002. The increase was
attributed to the factors mentioned above.
Fiscal year Ended March 30, 2002 Compared to the Fiscal Year Ended March 31, 2001
Consolidated
Net Sales. Net sales increased by $134.4 million, or 24.9%, to $675.0 million in
fiscal year 2002 from $540.6 million in fiscal year 2001. The full year of
operations with Lundy and PSFNC accounted for $141.2 million of the increase in
net sales with increased volume accounting for another $10.4 million of the
increase offset by decreased prices of $17.2 million. See Segment Analysis below
for comments on changes in sales by business segment.
Gross Profit. Gross profit increased by $1.4 million, or 1.7%, to $85.8 million
in fiscal year 2002 from $84.4 million in fiscal year 2001. As a percentage of
net sales, gross profit decreased to 12.7% from 15.6%. This decrease was due to
the decrease in sales prices mentioned above coupled with a 2.7% increase in
costs to produce our products. When excluding the additional gross profit added
by Lundy and PSFNC for the period in fiscal year 2002 that they were not
included during fiscal year 2001, gross profit would have decreased by $15.8
million in fiscal year 2002 compared to fiscal year 2001. This decrease was a
combination of the decrease in net sales mentioned above, coupled with an
increase in costs of $11.7 million due to $8.7 million of increased volume and
$3.0 million of increased costs.
20
Selling, General and Administrative Expenses. Selling, general and
administrative expenses decreased as a percentage of net sales to 3.2% in fiscal
year 2002 from 3.6% in fiscal year 2001. This decrease was the result of an
increase in net sales with the full year of Lundy and PSFNC and integration
savings realized with the addition of Lundy and PSFNC. In dollar terms, selling,
general and administrative expenses increased by $2.1 million, or 11.0%, to
$21.5 million in fiscal year 2002 from $19.4 million in fiscal year 2001.
Operating Income. Operating income increased by $3.5 million, or 5.7%, to $64.8
million in fiscal year 2002 from $61.3 million in fiscal year 2001. The increase
is attributable to the factors mentioned above coupled with a decrease in
amortization expense associated with the early adoption of SFAS 142, which
discontinued our amortization of goodwill effective April 1, 2001.
Interest Expense, net. Interest expense, net, decreased by $3.5 million, or
14.8%, to $20.4 million in fiscal year 2002 from $23.9 million in fiscal year
2001. The decrease was caused primarily by a decrease in interest rates on our
variable rate debt.
Income Tax Expense. Our effective tax rate was 39.9% in the fiscal year 2002
compared to an effective rate of 41.1% in fiscal year 2001. The difference was
primarily attributable to the utilization of state income tax credits.
Segment Analysis
Hog Production. Net sales increased by $81.7 million, or 22.8%, to $440.8
million in fiscal year 2002 from $359.1 million in fiscal year 2001. The full
year inclusion of PSFNC accounted for $79.7 million of the increase in net
sales, with the remaining increase accounted for by a 5.2% increase in volume
offset by an average 4.4% decrease in net market hog sales prices. The increase
in volume was attributable to increased productivity, better growing conditions
and additional contract production. Intersegment sales to our pork processing
segment transferred at market prices are eliminated in the Consolidated
Statements of Operations.
Gross profit decreased by $2.6 million, or 4.2%, to $59.8 million in fiscal
year 2002 from $62.4 million in fiscal year 2001. Excluding the additional gross
profit added by PSFNC for the period in fiscal year 2002 that was not included
during fiscal year 2001, gross profit would have decreased by $19.8 million in
fiscal year 2002 compared to fiscal year 2001. The decrease was a combination of
the decrease in net market hog sales prices mentioned above, coupled with an
increase in costs of $21.8 million, $15.0 million of which related to increased
volume and $6.8 million of which related to increased costs. Overall, hog
production costs were 3.0% higher on a per hundred weight basis in fiscal year
2002 compared to fiscal year 2001, with the majority of the increase caused by
higher feed costs.
Operating income decreased by $3.2 million, or 5.1%, to $59.5 million
fiscal year 2002 from $62.7 million in fiscal year 2001. The decrease is
attributed to the factors mentioned above.
Pork Processing. Net sales increased $123.9 million, or 26.0%, to $599.6 million
in fiscal year 2002 from $475.7 million in fiscal year 2001. The acquisition of
Lundy accounted for $132.1 million of the increase in net sales. Net sales also
increased as a result of a 2.6% increase in pork product sales prices compared
to the same period last year offset by a decrease in processing volume and one
less week in fiscal year 2002.
Gross profit increased by $4.0 million, or 18.2%, to $26.0 million in
fiscal year 2002 from $22.0 million in fiscal year 2001. When excluding the
additional gross profit added by Lundy for the period in fiscal year 2002 that
was not included during fiscal year 2001, gross profit would have increased by
$3.0 million in fiscal year 2002 compared to fiscal year 2001. The increase
resulted from higher margins on pork products due to higher pork product sales
prices, partially offset by higher plant operating costs due to expansion
start-up costs.
Operating income increased by $6.8 million, or 42.0%, to $23.0 million in
fiscal year 2002 from $16.2 million in fiscal year 2001. The increase was
attributed to the factors mentioned above, as well as to a $2.0 million dollar
nonrecurring charge in fiscal year 2001 for certain benefit plan expenses and a
full year of earnings from an unconsolidated partnership at Lundy in fiscal
2002.
21
Liquidity and Capital Resources
Our primary source of financing has been cash flow from operations and bank
borrowings. Our ongoing operations will require the availability of funds to
service debt, fund working capital and make capital expenditures on our
facilities. We expect to finance these activities through cash flow from
operations and from amounts available under our revolving credit facility.
Net cash flow (used in) and provided by operating activities was ($17.4)
million, $80.5 million and $64.4 million in fiscal years 2003, 2002 and 2001,
respectively. The decrease in fiscal year 2003 was attributed to a decrease in
net income over fiscal year 2002, the change in deferred taxes and an increase
in working capital requirements partially offset by an increase in non-cash
depreciation charges and losses on the sales of fixed assets.
Net cash flow used in investing activities was $25.9 million, $81.3 million
and $146.0 million in fiscal years 2003, 2002 and 2001, respectively. In fiscal
year 2003, net cash used in investing activities was spent as follows:
• Approximately $5 million was spent for continuing improvements of our
pork processing facilities;
• Approximately $6 million was spent for continuing improvements of our
hog production facilities, and investments to develop and implement
new technologies for improved waste handling; and
• The remainder was spent for purchases of breedstock.
In fiscal year 2003 and 2002, we received proceeds from disposal of
property, plant, equipment and breeding stock of $11.7 million and $14.9
million, respectively. During both fiscal years 2003 and 2002, disposal of
property, plant, equipment and breeding stock consisted primarily of culled
breeding stock.
Net cash flow provided by (used in) financing activities was $36.1 million,
($0.6) million and $88.5 million in fiscal years 2003, 2002 and 2001,
respectively. In the first quarter of fiscal year 2002, Premium Standard Farms
issued $175 million of 9 1/4% senior unsecured notes due 2011 ("9 1/4% Notes"),
which were used to retire $137.9 million of 11% senior secured payment-in-kind
notes ("PIK Notes") on July 7, 2001. An associated 1% prepayment penalty on
these PIK Notes was also paid on July 7, 2001. With the remaining proceeds, we
also prepaid $25 million of bank term debt, made a $6.3 million quarterly
payment on bank term debt and paid down $4.0 million on our revolving credit
facility. The 9 1/4% Notes contain customary covenants and are redeemable by
Premium Standard Farms under certain circumstances.
Borrowings are provided under a Credit Agreement that provides for up to
$150 million of revolving credit (with actual credit limit determined monthly by
reference to a borrowing base formula), including up to $15 million of letters
of credit, and a term loan facility with $56.3 million outstanding at March 29,
2003. Obligations under the Credit Agreement are secured by liens on
substantially all of our assets. In addition to customary financial covenants,
the Credit Agreement contains customary restrictions on, among other things,
encumbrance or disposal of assets, acquisitions, additional indebtedness,
capital investment, payment of subordinated debt and construction of new hog
production facilities. In addition to customary fees payable under credit
facilities of this type, amounts borrowed under the Credit Agreement bear
interest at fluctuating rates selected by us. These rates are based on the agent
bank's prime rate (the Federal Funds Rate plus one half of one percent) or LIBOR
plus, in each case, an applicable margin, currently ranging from 1.5% to 3.125%,
determined by our leverage ratio. All borrowings under the revolving credit
facility mature on August 21, 2004, and all borrowings under the term debt
mature on August 21, 2005. Quarterly term loan payments have been deferred until
September 30, 2003.
Total indebtedness at March 29, 2003 was $305.2 million, as compared to
$272.8 million at March 30, 2002. At March 29, 2003, we had $69.8 million
outstanding under our revolving credit facility, $10.0 million in letters of
credit and $64.8 million available for borrowing under our revolving credit
facility.
22
In fiscal 2004, we expect to spend approximately $33 million on net capital
expenditures, of which we expect to spend:
• Approximately $13 million in upgrades and improvements in our
processing operations;
• Approximately $9 million in upgrades and improvements in our
production operations; and
• Approximately $11 million in net breedstock purchases.
We believe that available borrowings under our credit facility, available
cash and internally generated funds will be sufficient to support our working
capital, capital expenditures and debt service requirements for the foreseeable
future. Our ability to generate cash, however, is subject to a certain extent to
general economic, financial, competitive, legislative, regulatory and other
factors beyond our control. We cannot assure you that our business will generate
sufficient cash flow from operations or that future borrowings will be available
under our revolving credit facility in an amount sufficient to enable us to pay
our indebtedness, including the 9 1/4% Notes, or to fund our other liquidity
needs. If we consummate any material acquisitions or expand our operations, we
may need to seek additional sources of funding, which might potentially come
from the issuance of additional equity, debt or the pursuit of joint ventures to
the extent that such options are available.
The following table represents a summary of our contractual cash
obligations as of March 29, 2003.
Payments due by period
Contractual Cash Obligations Total Current 1-3 years 4-5 years Thereafter
(in thousands)
Long Term Debt $ 301,049 $ 12,500 $ 113,549 $ - $ 175,000
Capital Lease Obligations 4,135 773 1,740 1,528 94
Operating Leases 26,063 5,973 9,370 5,673 5,047
Unconditional Purchase
Obligations 11,074 11,074 - - -
Other Long Term Obligations 1,000 1,000 - - -
--------- -------- --------- -------- ----------
Total Contractual Cash
Obligations $343,321 $ 31,320 $ 124,659 $ 7,201 $ 180,141
========= ======== ========= ======== ==========
Amounts not included in above table
Most of our hog production is raised in company-owned facilities. Some of
the production, however, is raised under farrowing, nursery, or finishing
contracts with individual farmers. In these relationships, we typically own the
livestock and provide the necessary feed, genetics, and veterinary supplies,
while the contract producer provides the land, facilities, labor, utilities, and
other costs of production. These contracts vary from terms of less than one year
to up to twelve years. Payments under these agreements are included in cost of
goods sold. These payments represented approximately 11 percent of our hog
production segment's cost of goods sold for fiscal year 2003. All of these
contracts are cancelable by us if the producer fails to perform to an acceptable
level.
At our North Carolina pork processing facility, we have contracts with
producers to provide us with market hogs for the amount we don't produce at our
hog production facilities in order to meet our processing needs. These contracts
vary in length but are all based on a market price and grade and yield formula.
Over the next 5 years we are contracted to purchase approximately 1,750,000
market hogs under these contracts.
Under the Missouri Consent Decree with the Attorney General we are required
to spend $13.1 million on additional investments in research and development on
or before May 19, 2004. We anticipate an extension of this expenditure deadline
because both the State of Missouri and the expert panel want further
confirmation of the efficacy of any chosen technology.
23
Critical Accounting Policies
In preparing the consolidated financial statements in accordance with
generally accepted accounting principles, we are required to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues,
expenses, and related disclosures at the date of the consolidated financial
statements and during the reporting period. Actual results may differ from those
estimates due to the complexity and subjectivity of those estimates. Management
has identified the accounting policies it believes to be the most important as
inventory valuation of livestock, contingent liabilities, and accounting for
derivative instruments.
Inventory valuation of livestock is calculated based on a standard cost
model for each geographic hog production region. This model is based on the
current year's budgeted costs and inventory projections at each age and phase of
the production cycle, adjusted to actual costs and reduced to the lower of
actual cost or market when required. Management believes this method for valuing
livestock most accurately represents actual inventory costs.
Contingent liabilities, such as self-insured workers' compensation and
health insurance, bonuses, and legal obligations are estimated based on
information received from third parties and management estimates. These
obligations are provided for when the loss is probable and the amount is
reasonably estimable. Actual settlement costs may vary from estimates we made.
Management believes the estimates are reasonable based on current information.
Derivative instruments are accounted for in accordance with Financial
Standards Board Statement No. 133 (SFAS 133), "Accounting for Derivative
Instruments and Hedging Activities." Because of the complexity involved in
qualifying for hedge treatment for our commodity contracts, we mark these
exchange-traded contracts to market with the resulting gain or loss recorded in
sales for lean hog contracts or cost of sales for all other commodity contracts.
This may result in large fluctuations in our earnings depending on the volume of
commodity contracts and their corresponding volatility.
Market Risk
Our operating results are influenced by fluctuations in the price of our
primary feed components, corn and soybean meal, and by fluctuations in market
hog and wholesale pork sales prices. The cost and supply of feed components and
market hog and wholesale pork sales prices are determined by constantly changing
market forces of supply and demand, which are driven by matters over which we
have no control, including weather, current and projected worldwide grain stocks
and prices, grain export prices and supports, hog production and governmental
agricultural policies. In our hog production segment we use forward contracts,
as well as futures and options contracts, to establish adequate supplies of
future grain requirements, to secure margins and to reduce the risk of market
fluctuations. To secure margins and minimize earnings volatility in our pork
processing segment, we utilize lean hog futures to hedge future pork product
sales. While this may tend to limit our ability to participate in gains from
favorable commodity price fluctuation, it also tends to minimize earnings
volatility and secure future margins. For the fiscal year ended March 29, 2003,
we recognized income under SFAS 133 of $1.4 million in net sales for gains
related to lean hog futures and losses of $0.9 million in costs of goods sold
relating to the hedging of feed components. As of March 29, 2003, we had
deposits with brokers for outstanding futures contracts of $0.1 million,
included in prepaid expenses and other current assets. For open futures
contracts, we use a sensitivity analysis technique to evaluate the effect that
changes in the market value of commodities will have on these commodity
derivative instruments. As of March 29, 2003, the potential change in fair value
of exchange-traded contracts, assuming a 10% change in the underlying commodity
price, was $4.9 million.
We are exposed to changes in interest rates. Our term and revolving credit
facilities have variable interest rates. Interest rate changes therefore
generally do not affect the market value of such debt but do impact the amount
of our interest payments and, therefore, our future earnings and cash flows.
Assuming other factors are held constant, a 1% change in interest rates would
have an approximately $1.3 million impact on interest expense. Conversely, for
fixed rate debt, interest rate changes do not impact future cash flows and
earnings, but do impact the fair market value of such debt, assuming other
factors are held constant. During the fiscal year ended March 30, 2002, we
entered into an interest rate swap agreement to convert the variable base
interest rate of our bank term debt to a fixed rate of 3.0125% plus the agent
bank's applicable margin (currently 3.125% at March 29, 2003). The swap
24
is accounted for as a cash flow hedge under SFAS 133. During fiscal 2003, we
recognized a $0.7 million loss, net of tax, into Accumulated Other Comprehensive
Income for the market value of the swap.
The 9 1/4% Notes had a fair value of approximately $155.8 million as of
March 29, 2003 based on inter-dealer prices, as compared to the book value of
$175.0 million as of March 29, 2003.
Forward-Looking Statements
This report on Form 10-K contains "forward-looking statements" within the
meaning of Section 17A of the Securities Act of 1933, and Section 21E of the
Securities Exchange Act of 1934. When used in this report, the words
"anticipates," "believes," "expects," "intends," "may," "will" and similar
expressions identify such forward-looking statements. Although we believe that
such statements are based on reasonable assumptions, these forward-looking
statements are subject to numerous factors, risks and uncertainties that could
cause actual outcomes and results to be materially different from those
projected. These factors, risks and uncertainties include, among others, the
following:
• economic conditions generally and in our principal markets;
• competitive practices in the pork production and processing
industries;
• the impact of consolidation in the pork production and processing
industries;
• the impact of current and future laws, governmental regulations
and fiscal policies affecting our industry and operations,
including environmental laws and regulations, trade embargoes and
tariffs;
• domestic and international transportation disruptions;
• food safety;
• the availability of additional capital to fund future commitments
and expansion and the cost and terms of financing;
• outbreaks of disease in our herds;
• feed ingredient costs;
• fluctuations in live hog prices and the price of pork products;
• customer demands and preferences; and
• the occurrence of natural disasters and other occurrences beyond
our control.
Our actual results, performance or achievements could differ materially
from those expressed in, or implied by, the forward-looking statements. We can
give no assurances that any of the events anticipated by the forward-looking
statements will occur or, if any of them do, what impact they will have on our
results of operations and financial condition. Please review our Registration
Statement on Form S-4 filed on August 10, 2001 for other important factors that
could cause results to differ materially from those in any such forward-looking
statements. Information in these archived materials may not be current and may
be superceded by more recent information published by us.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The information required by this item is incorporated by reference to the
section entitled "Market Risk" in Item 7 to this Annual Report on Form 10-K.
25
Item 8. Financial Statements and Supplementary Data
Our consolidated financial statements are filed under this Item, beginning
on page F-1 of this Report. Our financial statement schedule is filed under
"Exhibits, Financial Statements Schedules and Reports on Form 8-K."
Selected quarterly financial data required under this Item is included in
Note 13 to the consolidated financial statements.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of Registrant
The following table sets forth certain information concerning the directors
and executive officers of PSF Group Holdings and Premium Standard Farms:
Name Age Position(s)
- ----------------------- ---------- ---------------------------------------------------------------
John M. Meyer............... 41 Chief Executive Officer and Director of PSF Group Holdings
and Premium Standard Farms
Robert W. Manly............. 50 President of PSF Group Holdings and Premium Standard Farms
Stephen A. Lightstone....... 57 Executive Vice President, Chief Financial Officer and
Treasurer of PSF Group Holdings and Premium Standard Farms
J. Michael Townsley......... 43 Senior Vice President, Sales and Marketing of Premium
Standard Farms
Jere Null................... 38 Vice President, Processing Operations of Premium Standard Farms
David H. James.............. 48 Vice President, Production Operations of Premium
Standard Farms
Gerard J. Schulte........... 53 General Counsel and Secretary of PSF Group Holdings and
Premium Standard Farms
Dennis D. Rippe............. 49 Vice President, Controller and Assistant Secretary of
PSF Group Holdings and Premium Standard Farms,
Michael J. Zimmerman........ 52 Chairman of the Board and Director of and PSF Group
Holdings and Premium Standard Farms
Ronald E. Justice........... 57 Director of PSF Group Holdings and Premium Standard Farms
Dean Mefford................ 62 Director of PSF Group Holdings and Premium Standard Farms
Maurice L. McGill........... 66 Director of PSF Group Holdings and Premium Standard Farms
Michael A. Petrick.......... 41 Director of PSF Group Holdings and Premium Standard Farms
Paul J. Fribourg............ 49 Director of PSF Group Holdings and Premium Standard Farms
Vart K. Adjemian............ 60 Director of PSF Group Holdings and Premium Standard Farms
John Rakestraw.............. 42 Director of Premium Standard Farms
Annabelle Lundy Fetterman... 82 Director of Premium Standard Farms
John M. Meyer has been a Director and the Chief Executive Officer of PSF
Group Holdings and Premium Standard Farms since May 1998. Prior to May 1998, he
spent 15 years with ContiGroup Companies, most recently as Vice President and
General Manager of ContiGroup's pork division. While with ContiGroup, Mr. Meyer
served in the sales, credit and financial services functions.
Robert W. Manly has been President of Premium Standard Farms since October
1996. He has been President of PSF Group Holdings since May 1998. From April
1986 to October 1996, Mr. Manly served as Executive Vice President of Smithfield
Foods, Inc. He also served as President and Chief Operating Officer of the
26
Smithfield Packing Company subsidiary from June 1994 to June 1995. Mr. Manly
held the position of Assistant to the President of IBP, Inc. from January 1981
to April 1986.
Stephen A. Lightstone has been Executive Vice President, Chief Financial
Officer and Treasurer of PSF Group Holdings and Premium Standard Farms since
August 1998. From 1983 to 1998, Mr. Lightstone was with Payless Cashways, Inc.,
a building materials retailer, most recently serving as Senior Vice President,
Chief Financial Officer and Treasurer.
J. Michael Townsley has been Senior Vice President, Sales and Marketing of
Premium Standard Farms since April 1997. From 1994 to 1997, Mr. Townsley served
as Vice President Sales and Marketing, Fresh Meat with Smithfield Packing
Company, Inc. Prior to that time, Mr. Townsley spent 11 years with IBP, Inc. in
various sales positions and concluded his career with IBP as Director of
Merchandising, Pork Division.
Jere Null has been Vice President, Processing Operations of Premium
Standard Farms since September 2000. For the eleven years prior to September
2000, Mr. Null was with Smithfield Foods, Inc., last serving in the position of
Senior Vice President of Smithfield Packing Company from June 1999 to August
2000. From June 1995 to May 1999, Mr. Null was Vice President and General
Manager of Smithfield Packing Company's Tar Heel Division.
David H. James is Vice President, Production Operations of Premium Standard
Farms, having served in this capacity for Missouri since April 1999, adding
North Carolina in August 2000, and adding Texas in March 2001. He is responsible
for all of Premium Standard Farms' hog production. From June 1992 to July 1998,
Mr. James served as Regional Manager for the 25,000-sow North Carolina operation
for ContiGroup Companies at which time he joined our Missouri hog production
operations team.
Gerard J. Schulte has been General Counsel and Secretary of PSF Group
Holdings and Premium Standard Farms since July 1998. Mr. Schulte has been Vice
President and Assistant General Counsel of ContiGroup Companies since February
2001 and previously served as Vice President and General Counsel of
ContiIndustries, an operating group of ContiGroup Companies, since 1990.
Dennis D. Rippe has been Vice President, Controller and Assistant Secretary
of Premium Standard Farms since January 1999. Prior to that date, Mr. Rippe had
been Vice President Finance and Administration-Operations (Missouri) of Premium
Standard Farms since February 1997.
Michael J. Zimmerman has been Chairman of the Board of Directors of PSF
Group Holdings and Premium Standard Farms since May 1998. Mr. Zimmerman has been
Executive Vice President and Chief Financial Officer of ContiGroup Companies
since 1999. From 1996 to 1999, he served as Senior Vice President -- Investments
and Strategy of ContiGroup Companies and President of its ContiInvestments
subsidiary. Prior to joining ContiGroup in 1996, he was a Managing Director of
Salomon Brothers.
Ronald E. Justice has been a Director of Premium Standard Farms since
September 1996. He has been a Director of PSF Group Holdings since May 1998. Mr.
Justice has been an Adjunct Professor in Business Studies at Brookhaven College
since April 2001. He served as Executive Vice President of Operations of
Consolidated Container Company from September 1998 to April 2000. Mr. Justice
was the Senior Vice President of Operations of Scotts Co. from July 1995 to
September 1998.
Dean Mefford has been a Director of Premium Standard Farms since September
1996. He has been a Director of PSF Group Holdings since May 1998. From January
1999 to February 2001, he served as Chairman of the Board of Doubletime
Corporation and from October 1999 to May 2000 he served as the Interim President
of Ocean Spray Corp. Mr. Mefford served as President and Chief Executive Officer
of Viskase Corporation, a manufacturer of flexible packaging and meat casings,
from 1994 to 1998.
Maurice L. McGill has been a Director of Premium Standard Farms since
September 1996. He has been a Director of PSF Group Holdings since May 1998. Mr.
McGill has served as the President of Wirmac Corp. since 1986 and as a general
partner of McGill Partners since 1989. Mr. McGill has also served as a director
of Bluebonnet Savings Bank since 1990.
27
Michael A. Petrick has been a Director of PSF Group Holdings and Premium
Standard Farms since May 1998. He is a Managing Director of Morgan Stanley & Co.
Incorporated, and has been with Morgan Stanley since 1989. Mr. Petrick also
serves as a Director of Sunbeam Corporation, DigitalGlobe Inc, V2 Music and TVN
Entertainment Corporation.
Paul J. Fribourg has been a Director of PSF Group Holdings and Premium
Standard Farms since May 1998. He has served as Chairman, President and Chief
Executive Officer of ContiGroup Companies since 1999. From 1997 to 1999, he
served as Chairman, President and Chief Executive Officer of Continental Grain
and, from 1996 to 1997, he served as Chief Operating Officer of Continental
Grain.
Vart K. Adjemian has been a Director of PSF Group Holdings and Premium
Standard Farms since September 1999. Mr. Adjemian has been Executive Vice
President and Chief Operating Officer of ContiGroup Companies since February
2001. From 1999 to February 2001 he served as Executive Vice President of
ContiGroup and as Chief Executive Officer of the ContiIndustries, an operating
group of ContiGroup Companies. From 1998 to 1999, he was Senior Vice President
of ContiGroup Companies, and from 1996 to 1998, he was President of the
Commodity Marketing Group of ContiGroup Companies.
John Rakestraw has been a Director of Premium Standard Farms since February
2001. He had previously served as director of PSF Group Holdings and Premium
Standard Farms between May 1998 and October 1999. Mr. Rakestraw has been
President and Chief Executive Officer of ContiBeef, LLC since 2000 and served as
Vice President and General Manager of the Cattle Feeding Division of ContiGroup
Companies from 1995 to 2000.
Annabelle Lundy Fetterman has been a Director of Premium Standard Farms
since August 2000. From 1985 to August 2000, she served as Chairman of the Board
and Chief Executive Officer of The Lundy Packing Company and was employed by
that company from its inception in 1950.
Committees of the Board of Directors
The Board of Directors of PSF Group Holdings has not established any
committees. The Board of Directors of Premium Standard Farms has established two
committees: a Compensation Committee and an Audit Committee. Each such committee
has three or more members, who serve at the pleasure of the Board of Directors.
The Compensation Committee is responsible for reviewing and making
recommendations to the Board of Directors with respect to compensation of
executive officers, other compensation matters and awards under the Equity
Incentive Plan. Currently, Messrs. Zimmerman, Fribourg and Mefford serve on the
Compensation Committee. Mr. Fribourg is chairman of the committee.
The Audit Committee is responsible for reviewing our financial statements,
audit reports, internal financial controls and the services performed by Premium
Standard Farms' independent public accountants, and for making recommendations
with respect to those matters to the Board of Directors. Currently, Messrs.
McGill, Adjemian and Justice serve on the Audit Committee. Mr. McGill is
chairman of the committee.
Terms of Directors and Officers
Directors of Premium Standard Farms are elected annually by PSF Group
Holdings, as sole stockholder, to hold office for one-year terms and until their
successors are duly elected and qualified.
The officers of PSF Group Holdings and Premium Standard Farms are appointed
by the respective Boards of Directors and serve at the pleasure of such Boards.
Directors of PSF Group Holdings are nominated and placed for election at
the annual meeting of stockholders to hold office for a one-year term and until
their successors are duly elected and qualified. There are two classes of
Directors. Four Class A Directors are elected by holders of Class A Common Stock
voting as a separate class. Messrs. Justice, McGill, Mefford and Petrick are the
current Class A Directors. Five Class B Directors are elected by holders of
Class B Common Stock voting as a separate class. Messrs. Fribourg, Meyer,
28
Adjemian and Zimmerman are the current Class B Directors, with one vacancy
currently unfilled among the Class B Directors.
Item 11. Executive Compensation
Compensation of Directors
Premium Standard Farms has agreed to pay each person who is a member of its
Board of Directors $1,000 per meeting, plus reimbursement of reasonable
out-of-pocket expenses incurred in connection with the performance of duties as
a Director. In addition, each director who is not affiliated with ContiGroup
Companies or Morgan Stanley receives $20,000 per year in exchange for his or her
services. Members of the Audit and Compensation Committees of Premium Standard
Farms receive an additional $1,000 per meeting.
Directors of PSF Group Holdings receive no separate compensation for
service on that company's Boards of Directors.
PSF Group Holdings has adopted an Equity Incentive Plan that permits
options, stock appreciation rights, restricted stock, performance units and
performance shares to be granted to the employees, non-employee directors and
consultants of PSF Group Holdings and its affiliates (including Premium Standard
Farms). As of the date of this report, there have been no grants to non-employee
directors of Premium Standard Farms or its affiliates under the Equity Incentive
Plan.
Executive Compensation
The following summary compensation table summarizes compensation
information with respect to our Chief Executive Officer and our four other most
highly compensated executive officers for our three most recent fiscal years.
Summary Compensation Table
Long-Term Compensation
--------------------------
Annual Number of
Compensation Securities Long-Term
Fiscal ------------------------ Underlying Incentive All Other
Name and Principal Position Year Salary($)(1) Bonus($) Options(2) Payouts($) Compensation($)(3)
- ------------------------------- ------ ------------ --------- ---------- ----------- ------------------
John M. Meyer.................. 2003 $ 315,082 $ - - $ - $ 9,562
Chief Executive Officer 2002 308,846 314,000 - - 6,903
2001 283,269 340,600 2,142.86 471,260 7,565
Robert W. Manly................ 2003 300,336 - - - 9,400
President 2002 293,846 265,170 - - 6,954
2001 265,385 311,000 1,714.29 428,130 7,517
Stephen A. Lightstone.......... 2003 260,639 - - - 8,969
Executive Vice President, 2002 256,923 212,139 - - 7,154
Chief Financial Officer and 2001 245,769 259,000 1,571.43 373,090 7,464
Treasurer
Jere Null...................... 2003 209,136 - - - 4,692
Vice President, Processing 2002 204,231 74,995 - - 106,540
Operations 2001 112,709 56,000 571.43 - 205,877
David H. James................. 2003 199,019 - - - 8,323
Vice President, 2002 195,000 81,423 - - 6,974
Production Operations 2001 165,289 130,020 571.43 209,820 7,246
- ----------
(1) Messrs. Meyer, Manly and Lightstone have not received salary increases
since June 2001 as part of the plan for senior executives to have a larger
percentage of their total compensation based on company performance through
annual bonus opportunities.
29
(2) Options to acquire shares of Class B Common Stock of PSF Group Holdings.
(3) Consists of employer contributions to the 401(k) plan and premiums for
group-term life and accidental death and dismemberment insurance. In the
case of Mr. Null only, the amounts listed also include $100,000 in fiscal
year 2002 and $200,000 in fiscal year 2001 related to non-recurring
payments which were payable over two years in recognition of benefits
forfeited from a former employer.
No options or stock appreciation rights were granted to, or exercised by,
the named executive officers during fiscal year 2003. The following table sets
forth information regarding exercisable and unexercisable options held as of
March 29, 2003, by each of the named executive officers:
Aggregated Option Exercises in Last Fiscal Year and Year-End Option Values
Number of Securities
Underlying Unexercised
Options at March 29, 2003(1)
--------------------------------
Name Exercisable Unexercisable
-------------------- -------------- ----------------
John M. Meyer............. 2,142.86 --
Robert W. Manly........... 1,714.29 --
Stephen A. Lightstone..... 1,571.43 --
Jere Null................. 377.14 194.29
David H. James............ 522.86 48.57
- ----------
(1) All options are options to acquire shares of Class B Common Stock of PSF
Group Holdings.
PSF Group Holdings adopted its 1999 Equity Incentive Plan in April 2000.
The plan was established to attract, motivate and retain employees of that
company and its affiliates, including Premium Standard Farms, and to further the
growth and financial success of that company and its affiliates by aligning the
interests of participants with the interests of the company's stockholders.
The plan is administered by a committee of non-employee directors appointed
by the Board. The plan provides for awards in the form of stock options, stock
appreciation rights, restricted stock, performance units and performance shares,
as determined by the committee. All employees and non-employee directors, as
well as certain non-employee advisors and consultants, are eligible to receive
awards under the plan. A total of 15,000 shares of PSF Group Holdings Class A or
Class B Common Stock may be issued pursuant to the plan. Awards vest upon a
change in control of PSF Group Holdings, as defined in the plan.
Options granted under the 1999 Equity Incentive Plan may be either
incentive stock options or nonqualified stock options, as determined by the
committee. No participant can be granted options with respect to more than 3,000
shares in any fiscal year. The terms of any option will be determined by the
committee, but no stock option may be exercised later than 10 years after the
date of grant. The award agreement may provide that PSF Group Holdings has the
right to repurchase the stock if the grantee terminates employment.
The committee may also grant stock appreciation rights, restricted stock,
performance units, or performance shares to eligible individuals, from time to
time, in amounts as it may determine. Each stock appreciation right or
performance share relates to one share of PSF Group Holdings Class A or Class B
Common Stock. No participant can be granted stock appreciation rights covering
more than 3,000 shares in any fiscal year, and no participant can be awarded
more than 3,000 performance shares or restricted shares, or performance units
with an initial value of more than $500,000 in any fiscal year. The value of a
performance unit will be at the discretion of the committee.
30
Long-Term Incentive Plan
For the four year period commencing April 1, 2001, we have established a
long-term incentive plan. Those generally eligible for the plan are senior
managers with responsibility for leadership and accountability for long-term
growth and earnings as determined by the Compensation Committee. The plan
established both a formula-based incentive pool and a discretionary awards pool.
Incentive pool awards were determined at the plan's inception, and discretionary
pool awards will be determined at the end of the performance period. Awards will
be made in cash. Participants will have the option to defer awards into the
Deferred Compensation Plan discussed below. The plan will be administered by the
Compensation Committee.
Deferred Compensation Plan
The Deferred Compensation Plan for executives was adopted by our Board of
Directors in January 2001. Participation in the plan is restricted to a select
group of management employees. Under this plan, participating executives are
allowed to defer payment of compensation awarded as long-term incentive plan
compensation until a date elected by the executive in accordance with the plan.
The plan generally allows payment in the form of a single lump sum or ten
substantially equal annual installments following the date of payment. A.G.
Edwards Trust Company acts as trustee for the plan, which is administered by the
Compensation Committee.
401(k) Plan
We have established a 401(k) plan covering substantially all employees
meeting certain minimum service requirements. The plan allows all qualifying
employees to contribute up to 20 percent of employee compensation limited to the
tax deferred contribution allowable by the Internal Revenue Code. We match 100
percent of the employee's contribution up to three percent of employee
compensation and 50 percent of the employee's next two percent of employee
compensation, for a maximum company match of four percent of employee
compensation. Effective January 1, 2000, the 401(k) plan was amended from a
three-year cliff-vesting period to a 100 percent immediate vesting.
Severance Plan
We have established an Executive Level Severance Pay Plan covering our
executive employees, which can be terminated by our Board at any time. The
purpose of the Plan is to provide eligible employees with base severance pay,
supplemental severance pay and supplemental severance benefits for a specified
period of time in the event that their employment is involuntarily terminated
other than for good reason. Under the Plan dated December 1, 1999, those persons
serving as Chief Executive Officer, President and Chief Financial Officer are
entitled to receive the following benefits upon termination of the employment:
• Base severance pay equal to two weeks pay
• Supplemental severance pay equal to fifty weeks of pay
• Continuation of health benefits coverage for fifty-two weeks following
termination.
Severance pay under the Plan is generally payable in a lump sum following
the date of termination. Supplemental severance pay and continuation of health
benefits, however, are conditioned upon the employee's execution of a general
waiver and release agreement, and supplemental severance pay will be paid only
after execution of that agreement.
Special Executive Retirement Plan
We have adopted a nonqualified, unfunded special executive retirement plan.
The following table shows the approximate annual retirement benefits that Mr.
James and Mr. Null are expected to receive based on their pay and years of
credited service. Mr. Meyer, Mr. Manly and Mr. Lightstone are expected to
receive approximately twice the annual retirement benefits shown below based on
their pay and years of credited service.
31
Special Executive Retirement Plan Table
Years of Service
-----------------------------------------------------
Remuneration 15 20 25 30 35
-------------- --------- --------- --------- --------- ---------
$ 125,000 $ 37,500 $ 50,000 $ 62,500 $ 75,000 $ 87,500
150,000 45,000 60,000 75,000 90,000 105,000
175,000 52,500 70,000 87,500 105,000 122,500
200,000 60,000 80,000 100,000 120,000 140,000
225,000 67,500 90,000 112,500 135,000 157,500
250,000 75,000 100,000 125,000 150,000 175,000
300,000 90,000 120,000 150,000 180,000 210,000
400,000 120,000 160,000 200,000 240,000 280,000
The benefits in the above table are annual amounts payable in monthly
installments as single life annuities starting at age 62, the plan's normal
retirement age. Benefits are payable as an annuity or a lump sum. Benefits are
based on the executive's final three calendar years' base salary, including
amounts deferred to the 401(k) plan or cafeteria plan. An executive must
complete five years of service after January 1, 2000, to be entitled to a
benefit. Benefits vest upon a change in control of Premium Standard Farms.
Benefits shown above are offset by one-half of the Social Security benefits paid
or payable at age 62 attributable to years of service with us and by any
retirement benefits paid or payable under any ContiGroup qualified defined
benefit pension plan.
Credited service for benefit determination purposes as of March 29, 2003,
is shown below for each of the executive officers named in the summary
compensation table above:
Years of
Name Service
----------------------- --------
John M. Meyer................. 4
Robert W. Manly............... 6
Stephen A. Lightstone......... 4
David H. James................ 4
Jere Null..................... 2
Item 12. Security Ownership of Certain Beneficial Owners and Management
All of the issued and outstanding capital stock of Premium Standard Farms
is owned by PSF Group Holdings.
The following table sets forth certain information regarding ownership of
the common stock of PSF Group Holdings as of April 30, 2003 by (i) each person
who is known by us to own beneficially more than 5% of the outstanding shares of
each class of stock, (ii) each of our directors, (iii) each of the executive
officers set forth in the Summary Compensation table above and (iv) all of our
directors and named executive officers as a group.
32
Shares Beneficially Owned(3)
--------------------------------------
Percent Percent
Title of Class(1) Name and Address of Beneficial Owner(2) Number of Class of Total
- ------------------ ------------------------------------------ ------------- --------- --------
Class B Common ContiGroup Companies, Inc................. 113,300.64 100.0 53.1
277 Park Avenue
New York, NY 10172
Class A Common Putnam Investments........................ 37,741.5389(4) 37.7 17.7
One Post Office Square
Boston, MA 02109
Class A Common Morgan Stanley Dean Witter & Co........... 40,341.2161(5) 34.8 17.6
1221 Avenue of the Americas
New York, NY 10020
Class A Common Oaktree Capital Management, LLC........... 16,491.49(6) 16.4 7.7
550 South Hope Street, 22nd Floor
Los Angeles, CA 90071
Class A Common Prudential Funds.......................... 10,016.66(7) 10.0 4.7
c/o State Street Bank & Trust
1 Heritage Drive
Quincy, MA 02171
Class A Common Continental Assurance Company
Investment Fund........................... 7,422.47 7.4 3.5
CNA Plaza, 235
Chicago, IL 60685
Class B Common John M. Meyer............................. 2,142.86(8) 2.1 *
Class B Common Robert W. Manly........................... 1,714.29(8) 1.7 *
Class B Common Stephen A. Lightstone..................... 1,571.43(8) 1.5 *
Class B Common David H. James............................ 571.43(8) * *
Class B Common Jere Null................................. 571.43(8) * *
Michael J. Zimmerman...................... 0 * *
Ronald E. Justice......................... 0 * *
Dean Mefford.............................. 0 * *
Maurice L. McGill......................... 0 * *
Michael A. Petrick........................ 0 * *
Paul J. Fribourg.......................... 0(9) * *
Vart K. Adjemian.......................... 0 * *
John Rakestraw............................ 0 * *
Annabelle Lundy Fetterman................. 0 * *
All directors and executive officers as
a group (17 persons)...................... 6,571.44(9) 6.0 2.9
- ----------
* Signifies less than 1%.
(1) PSF Group Holdings is authorized by its certificate of incorporation to
issue 250,000 shares of Class A Common Stock, 300,000 shares of Class B
Common Stock and 10,000 shares of preferred stock. Each class of stock has
a par value of $0.01 per share. As of the date of this report on Form 10-K,
PSF Group Holdings has issued 100,000 shares of Class A Common Stock,
113,300.64 shares of Class B Common Stock and no shares of preferred stock.
Holders of Class A Common Stock and Class B Common Stock participate
equally in all distributions. With the exception of electing Directors,
holders of Class A Common Stock and Class B Common Stock vote together as a
single class on all matters presented for a stockholder vote. The holders
of Class A Common Stock vote as a separate class to elect four of the nine
members of the Board of Directors of PSF Group Holdings. The holders of
Class B Common Stock vote as a separate class to elect five of the nine
members of the Board of Directors. PSF Group Holdings cannot take a number
of actions without the approval of a "supermajority" of the Board. A
"supermajority" is defined as a majority that includes at least one
Director elected by holders of Class A Common Stock and one Director
elected by holders of Class B Common Stock.
33
(2) Unless otherwise indicated, the business address of the persons named in
the above table is care of Premium Standard Farms, Inc., 423 West 8th
Street, Suite 200, Kansas City, Missouri 64105.
(3) Unless otherwise indicated, each person has sole investment and voting
power with respect to the shares listed in the table, subject to applicable
community property laws. For purposes of this table, a person or group of
persons is deemed to have "beneficial ownership" of any shares which such
person has the right to acquire within 60 days. For purposes of computing
the percentage of outstanding shares held by each person or group of
persons named above, any security which such person or group of persons has
the right to acquire within 60 days is deemed to be outstanding for the
purpose of computing the percentage ownership for such person or persons,
but is not deemed to be outstanding for the purpose of computing the
percentage ownership of any other person. As a result, the denominator used
in calculating the beneficial ownership among our shareholders may differ.
(4) Consists of Class A Common Stock beneficially owned by the following Putnam
funds and trusts: (a) Asset Allocation Funds -- Balanced Portfolio
(128.85), Asset Allocation Funds -- Growth Portfolio (33.05), Asset
Allocation Funds -- Conservative Portfolio (41.86), Diversified Income
Portfolio/Smith Barney/ Travelers Series Fund (22.03), and High Yield
Managed Trust (305.29), (b) by Gerlach & Co., as Nominee for Capital
Management Trust -- PCM Diversified Income Fund (528.10), Equity Income
Fund (11.01), High Yield Advantage Fund (7,071.86), Global Governmental
Income Trust (113.27), Premier Income Trust (2,502.48), Convertible
Opportunities and Income Trust (220.25), High Income Convertible and Bond
Fund (334.30), Master Intermediate Income Trust (715.33), The George Fund
of Boston (220.25), Managed High Yield Trust (575.79), Diversified Income
Trust (9,799.68), Master Income Trust (1,003.86), Capital Management Trust
-- PCM High Yield Fund (1,578.53), High Yield Trust (11,857.08), Income
Fund (440.51), Balanced Retirement Fund (110.13), and High Yield Managed
Trust (49.00), (c) by Bost & Co., Nominee for the High Yield Fixed Income
Trust (77.6489) and Ameritech Pension Trust (1.38).
(5) Consists of 24,260.6961 shares of Class A Common Stock and 16,080.52 shares
of Class A Common Stock issuable upon exercise of presently exercisable
warrants. The shares of Class A Common Stock are held by: Morgan Stanley
Dean Witter & Co. (21,126.64), Morgan Stanley & Co., Inc. (778.73), the
Morgan Stanley Leveraged Equity Fund II, L.P. (1,056.8054), Morgan Stanley
Capital Investors, L.P. (44.4981), Morgan Stanley Capital Partners III,
L.P. (1,113.1667), MSCP III 892 Investors, L.P. (140.8559). The warrants
are held by Morgan Stanley Leveraged Equity Funds and Morgan Stanley
Capital III Partners.
(6) Consists of shares of Class A Common Stock held by OCM Opportunities Fund,
L.P. (11,210.87), Hare & Co. (4,697.52), Columbia/HCA Master Retirement
Trust (467.10) and Jefco (116.00).
(7) Consists of shares of Class A Common Stock held by Gimlet & Co. (9,517.17),
Deerway & Co. (279.24) and IFTCO (220.25).
(8) Consists of shares of Class B Common Stock issuable upon exercise of
presently exercisable options.
(9) Excludes shares owned by ContiGroup Companies, Inc.
For information concerning securities authorized for issuance under our
equity compensation plans, see "Market for Registrant's Common Equity and
Related Stockholder Matters" and "Executive Compensation."
Item 13. Certain Relationships and Related Transactions
In connection with our acquisition of The Lundy Packing Company, we lease
farm land and hog production buildings from Goshen Ridge Farms, LLC, a company
owned by Annabelle Lundy Fetterman, who is one of our directors, and members of
her family, under a capital lease agreement. The capital lease obligation as of
March 29, 2003 was $2.0 million.
We have entered into a contract grower agreement with ContiGroup related to
approximately 7,200 acres of farms used in our Missouri operations. Under that
agreement, ContiGroup owns the real property at the farms. ContiGroup serves as
an independent contractor in breeding and growing our hogs to market weight. In
exchange,
34
we pay to ContiGroup a fee for labor and services incurred by ContiGroup in
performing its obligations under the agreement. During the fiscal year ended
March 29, 2003, the amount paid for obligations under this agreement was
approximately $4.0 million. The agreement will generally continue in effect so
long as ContiGroup continues to own an equity interest in our company. Upon
termination of the agreement, we have an option to acquire the real property at
the farms from ContiGroup, which can be assigned to third parties.
We receive the services of Mr. Schulte and other personnel through an
agreement with ContiGroup. Mr. Schulte, as well as other personnel, are
employees of ContiGroup but provide services to us as well as other affiliates
of ContiGroup. Other services from ContiGroup include the assistance of
purchasing and risk management staff, environmental consulting, treasury and
strategic planning. We pay ContiGroup a monthly fee for these services. We
negotiate the fee annually. In addition, we reimburse ContiGroup for a portion
of Mr. Schulte's annual bonus and long-term incentive payment. For the fiscal
year ended March 29, 2003, the amount paid for all services was $1.3 million. We
also provide Mr. Schulte with the use of a rental car, and since July 2000, we
provide him with an annual allowance of approximately $15,000 for travel and
housing.
Item 14. Controls & Procedures
(a) Evaluation of disclosure controls and procedures.
Within 90 days prior to the filing date of this report (the "Evaluation
Date"), the Company carried out an evaluation, under the supervision and with
the participation of the Company's management, including the Company's chief
executive officer and its chief financial officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures
pursuant to Rule 13a-14 of the Securities Exchange Act of 1934 (the "Exchange
Act"). Based upon that evaluation, the chief executive officer and chief
financial officer concluded that as of the Evaluation Date, the Company's
disclosure controls and procedures (as defined in Rule 13a-14(c) under the
Exchange Act) are effective to ensure that information required to be disclosed
by the Company in reports that it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in Securities and Exchange Commission rules and forms.
(b) Changes in internal controls.
There were no significant changes in the Company's internal controls or in
other factors that could significantly affect these controls subsequent to the
date of their most recent evaluation nor were there any significant deficiencies
or material weaknesses in the Company's internal controls.
35
PART IV
Item 15. Exhibits, Financial Statements Schedules, and Reports on Form 8-K.
(a) Financial Statements and Schedules
(1) The following financial statements are filed as a part of this
Report on Form 10-K:
Report of Independent Public Accountants
Consolidated Balance Sheets as of March 29, 2003 and March 30,
2002
Consolidated Statements of Operations and Comprehensive Income
for the three years ended March 29, 2003, March 30, 2002 and
March 31, 2001
Consolidated Statements of Shareholders' Equity for the three
years ended March 29, 2003, March 30, 2002 and March 31,
2001
Consolidated Statements of Cash Flows for the three years ended
March 29, 2003, March 30, 2002 and March 31, 2001
Notes to the Consolidated Financial Statements
(2) The following financial statement schedule is filed as a part of
this Report on Form 10-K:
Schedule II
Valuation and Qualifying Accounts
(Dollars in thousands)
Balance at
beginning of Charged to Less: Balance at end
Description year earnings Other Deduction of year
- -------------------------------- ------------------------------------------------------------------------
Allowance for Losses
on Accounts Receivable:
2003 $680.5 $ 137.2 $ - $ 277.4 $ 540.3
2002 663.6 129.3 - 112.4 680.5
2001 183.5 180.2 416.9 117.0 663.6
(b) Reports on Form 8-K
A Current Report on Form 8-K was filed with the SEC on February
11, 2003, to report, under Item 5, our third quarter earnings.
The earnings release, including the registrant's Unaudited
Condensed Consolidated Statements of Operations for the 13 and 39
weeks ended December 28, 2002 and December 29, 2001, was filed as
Exhibit 99.1 to the Current Report on Form 8-K.
(c) Exhibits
The following exhibits are filed as a part of this Report on Form
10-K or incorporated herein by reference as indicated below:
36
Exhibit
Number Description of Exhibit
------- ------------------------------------------------------------
2.1 Articles of Merger of PSF Acquisition Corp. into The Lundy
Packing Company, filed August 25, 2000. (1)
2.2 Stock Purchase Agreement, dated September 22, 2000, by and
among Premium Standard Farms, Inc., PSF Group Holdings, Inc.
and ContiGroup Companies, Inc. (1)
3.1(a) Certificate of Incorporation of PSF Group Holdings, Inc.,
filed May 8, 1998. (1)
3.1(b) Certificate of Amendment of Certificate of Incorporation of
PSF Group Holdings, Inc., filed September 16, 1994. (1)
3.2 Amended and Restated By-laws of PSF Group Holdings, Inc. (1)
4.1(a) Indenture, dated as of June 4, 2001, among Premium Standard
Farms, Inc., PSF Group Holdings, Inc., The Lundy Packing
Company, Lundy International, Inc., Premium Standard Farms
of North Carolina, Inc., and Wilmington Trust Company. (1)
4.1(b) Specimen certificate of 91/4% Senior Notes due 2011. (1)
4.1(c) First Supplemental Indenture dated as of March 31, 2002. (3)
4.2 Registration Rights Agreement, dated June 4, 2001, among PSF
Group Holdings, Inc., Premium Standard Farms, Inc., The
Lundy Packing Company, Lundy International, Inc., Premium
Standard Farms of North Carolina, Inc., Morgan Stanley & Co.
Incorporated and J.P. Morgan Securities Inc. (1)
4.3(a) Credit Agreement, dated August 27, 1997, by and between
Premium Standard Farms, Inc. and FBS Ag Credit, Inc., as
Agent for Itself and Certain Other Lenders. (1)
4.3(b) First Amendment to Credit Agreement dated May 13, 1998. (1)
4.3(c) Second Amendment to Credit Agreement, dated February 26,
1999. (1)
4.3(d) Third Amendment to Credit Agreement, dated August 1, 2000.
(1)
4.3(e) Fourth Amendment to Credit Agreement, dated August 21, 2000.
(1)
4.3(f) Fifth Amendment to Credit Agreement, dated September 22,
2000. (1)
4.3(g) Sixth Amendment to Credit Agreement, dated as of March 31,
2002. (3)
4.3(h) Guaranty Agreement, dated May 13, 1998, by and between PSF
Group Holdings, Inc. and U.S. Bancorp Ag Credit, Inc. as
Agent for Itself and Certain Other Lenders. (1)
4.3(i) Seventh Amendment to Credit Agreement, dated June 28, 2002.
(4)
37
4.3(j) Eighth Amendment to Credit Agreement, dated as of September
27, 2002. (5)
10.1* PSF Group Holdings, Inc. 1999 Equity Incentive Plan, dated
December 1, 1999. (1)
10.2* Premium Standard Farms, Inc. Long-Term Incentive Plan,
effective April 1, 2001 through March 31, 2005. (2)
10.3* Premium Standard Farms, Inc. Executive Level Severance Plan,
dated December 1, 1999. (1)
10.4* Premium Standard Farms, Inc. Vice President Level Severance
Plan, dated December 1, 1999. (1)
10.5* Premium Standard Farms, Inc. Special Executive Retirement
Plan, dated January 1, 2000. (1)
10.6(a)* Premium Standard Farms, Inc. Deferred Compensation Plan,
dated December 29, 2000. (1)
10.6(b)* Amendment No. 1 to the Deferred Compensation Plan, dated
June 8, 2001. (1)
10.7* Services Agreement, dated October, 1998, by and between
Premium Standard Farms, Inc. and Continental Grain Company.
(1)
10.8 Consulting Agreement, dated December 9, 1999, by and between
ContiGroup Companies, Inc. and Premium Standard Farms, Inc.
(1)
10.9 Market Hog Contract Grower Agreement, dated May 3, 1998, by
and between Continental Grain Company and CGC Asset
Acquisition Corp. (1)
21.1 Subsidiaries of the Registrant.
24.1 Power of Attorney (see signature page).
- ----------
* Indicates management or compensatory plan or contract.
(1) Incorporated by reference to the Registration Statement on Form S-4
(Commission File No. 333-64180), filed by the Registrant with the SEC
on June 29, 2001.
(2) Incorporated by reference to Amendment No. 1 to the Registration
Statement on Form S-4 (Commission File No. 333-64180), filed by the
Registrant with the SEC on August 10, 2001.
(3) Incorporated by reference to the Form 10-K for the year ended March
30, 2002 filed by the Registrant with the SEC on May 14, 2002.
(4) Incorporated by reference to the Form 10-Q for the quarter ended June
29, 2002 filed by the Registrant with the SEC on August 8, 2002.
(5) Incorporated by reference to the Form 8-K filed by the Registrant with
the SEC on October 1, 2002.
38
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
PSF GROUP HOLDINGS, INC.
June 3, 2003 /s/ John M. Meyer
- ---------------------- -----------------------------------
Date John M. Meyer,
Chief Executive Officer
(Principal Executive Officer)
39
Each individual whose signature appears below hereby designates and
appoints John M. Meyer, Stephen A. Lightstone and Gerard J. Schulte, and each of
them, for him or her and in his or her name, place and stead, in any and all
capacities, to file on behalf of PSF Group Holdings, Inc., a Delaware
corporation (the "Company"), the Company's Annual Report on Form 10-K for the
fiscal year ended March 29, 2003 (the "Annual Report"), with the Securities and
Exchange Commission (the "Commission"), to sign any and all subsequent
amendments to the Annual Report (the "Amendments"), to file any and all such
Amendments with the Commission, with all exhibits to the Annual Report and such
Amendments, together with any and all other documents in connection therewith,
and to appear before the Commission in connection with any matter relating to
such Annual Report and such Amendments, hereby granting to the attorneys-in-fact
and agents, and each of them, full power and authority to do and perform any and
all acts and things requisite and necessary to be done in and about the premises
as fully and to all intents and purposes as he or she might or could do in
person, hereby ratifying and confirming all that such attorneys-in-fact and
agents, or any of them, may lawfully do or cause to be done by virtue hereof.
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.
Signature Title Date
/s/ John M. Meyer Chief Executive Officer and Director June 3, 2003
- --------------------------------- (Principal Executive Officer)
John M. Meyer
/s/ Stephen A. Lightstone Chief Financial Officer June 3, 2003
- --------------------------------- (Principal Financial Officer)
Stephen A. Lightstone
/s/ Michael J. Zimmerman Director June 3, 2003
- ---------------------------------
Michael J. Zimmerman
/s/ Ronald E. Justice Director June 3, 2003
- ---------------------------------
Ronald E. Justice
/s/ Dean Mefford Director June 3, 2003
- ---------------------------------
Dean Mefford
/s/ Vart K. Adjemian Director June 3, 2003
- ---------------------------------
Vart K. Adjemian
/s/ Maurice L. McGill Director June 3, 2003
- ---------------------------------
Maurice L. McGill
/s/ Michael A. Petrick Director June 3, 2003
- ---------------------------------
Michael A. Petrick
/s/ Paul J. Fribourg Director June 3, 2003
- ---------------------------------
Paul J. Fribourg
40
CERTIFICATIONS
I, John M. Meyer, certify that:
1. I have reviewed this annual report on Form 10-K of PSF Group Holdings,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: June 3, 2003
/s/ John M. Meyer
-----------------------------------
John M. Meyer
Chief Executive Officer
(Principal Executive Officer)
41
I, Stephen A. Lightstone, certify that:
1. I have reviewed this annual report on Form 10-K of PSF Group Holdings,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Date: June 3, 2003
/s/ Stephen A. Lightstone
-----------------------------------
Stephen A. Lightstone
Chief Financial Officer
(Principal Financial Officer)
42
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Independent Public Accountants.....................................F-2
Consolidated Balance Sheets as of March 29, 2003 and March 30, 2002..........F-4
Consolidated Statements of Operations and Comprehensive Income for the
three years ended March 29, 2003, March 30, 2002 and March 31, 2001.......F-6
Consolidated Statements of Shareholders' Equity for the three years
ended March 29, 2003, March 30, 2002 and March 31, 2001...................F-7
Consolidated Statements of Cash Flows for the three years ended
March 29, 2003, March 30, 2002 and March 31, 2001.........................F-8
Notes to the Consolidated Financial Statements...............................F-9
F-1
Report of independent public accountants
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of
PSF Group Holdings, Inc.
Kansas City, Missouri
We have audited the accompanying consolidated balance sheet of PSF Group
Holdings, Inc. and subsidiaries (the "Company") as of March 29, 2003, and the
related consolidated statements of operations and comprehensive income,
shareholders' equity, and cash flows for the year then ended. Our audit also
included the financial statement schedule, as of and for the year ended March
29, 2003 listed at Item 15. These financial statements and financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on the financial statements and financial statement
schedule based on our audit. The consolidated financial statements and financial
statement schedule of the Company as of March 30, 2002 and March 31, 2001, and
for the years ended March 30, 2002 and March 31, 2001, before the inclusion of
the reclassifications discussed in Note 1 to the consolidated financial
statements, were audited by other auditors who have ceased operations. Those
auditors expressed an unqualified opinion on those financial statements and
stated that such March 30, 2002 and March 31, 2001 financial statement schedule,
when considered in relation to the March 30, 2002 and March 31, 2001 basic
consolidated financial statements taken as a whole, present fairly, in all
material respects, the information set forth therein, in their report dated May
3, 2002 which included an explanatory paragraph for the change in method of
accounting for derivative financial instruments and goodwill.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Company as of
March 29, 2003, and the results of their operations and their cash flows for the
year then ended, in conformity with accounting principles generally accepted in
the United States of America. Also, in our opinion, the March 29, 2003 financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole presents fairly, in all material respects,
the information set forth therein.
As discussed above, the consolidated financial statements of the Company for the
years ended March 30, 2002 and March 31, 2001 were audited by other auditors who
have ceased operations. As described in Note 1, the financial statements for the
year ended March 30, 2002 have been reclassified to give effect to Statement of
Financial Accounting Standards No. 145, "Rescission of FASB Statements No. 4,
44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections"
("SFAS 145"), which was adopted by the Company on March 29, 2003. We audited the
adjustments described in Note 1 that were applied to conform the March 30, 2002
financial statements to the presentation required by SFAS 145. Our audit
procedures with respect to the March 30, 2002 disclosures in Note 1 included (1)
comparing the amounts shown as loss on early extinguishment of debt, net of tax
in the Company's consolidated statements of operations to the Company's
underlying accounting analysis obtained from management, (2) comparing the
amounts comprising the loss on early extinguishment of debt and related income
tax benefit to independent supporting documentation obtained from management,
and (3) testing the mathematical accuracy of the underlying analysis. In our
opinion, such reclassifications have been properly applied. However, we were not
engaged to audit, review, or apply any procedures to the March 30, 2002 and
March 31, 2001 financial statements of the Company other than with respect to
such reclassifications and, accordingly, we do not express an opinion or any
form of assurance on the March 30, 2002 and March 31, 2001 financial statements
taken as a whole.
/s/ DELOITTE & TOUCHE LLP
Kansas City, Missouri
May 12, 2003
F-2
Report of independent public accountants
To the Shareholders of
PSF Group Holdings, Inc.:
We have audited the accompanying consolidated balance sheets of PSF Group
Holdings, Inc. (a Delaware corporation) and Subsidiaries (the Company), as of
March 30, 2002 and March 31, 2001, and the related consolidated statements of
operations and comprehensive income, shareholders' equity and cash flows for
each of the three years in the period ended March 30, 2002. These financial
statements and schedule referred to below are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of PSF Group Holdings, Inc. and
Subsidiaries, as of March 30, 2002, and March 31, 2001, and the results of their
operations and their cash flows for each of the three years in the period ended
March 30, 2002, in conformity with accounting principles generally accepted in
the United States.
As explained in Note 13 to the financial statements, effective April 1, 2001,
the Company changed its methods of accounting for derivatives and goodwill.
Our audit was made for the purpose of forming an opinion on the basic financial
statements taken as a whole. The schedule of valuation and qualifying accounts
included in Item 14 is presented for purposes of complying with the Securities
and Exchange Commission's rules and is not part of the basic financial
statements. This schedule has been subjected to the auditing procedures applied
in the audit of the basic financial statements and, in our opinion, fairly
states in all material respects the financial data required to be set forth
therein in relation to the basic financial statements taken as a whole.
/s/ ARTHUR ANDERSEN LLP(1)
Kansas City, Missouri,
May 3, 2002
(1) This report is a copy of the previously issued report covering fiscal years
2002, 2001 and 2000. The predecessor auditors have not reissued their report.
F-3
PSF Group Holdings, Inc. and Subsidiaries
Consolidated balance sheets
March 29, 2003, and March 30, 2002
(in thousands, except share information)
2003 2002
---------- ---------
ASSETS
- ------
CURRENT ASSETS:
Cash and cash equivalents $ - $ 7,182
Accounts receivable, less allowance of $540 and $680 in
2003 and 2002, respectively 21,907 21,332
Inventories 158,402 141,165
Federal income tax receivable 4,525 3,319
Deferred income taxes 13,064 15,680
Prepaid expenses and other 2,341 2,158
--------- ---------
Total current assets 200,239 190,836
PROPERTY, PLANT, EQUIPMENT AND BREEDING STOCK:
Land and improvements 100,510 95,349
Buildings 293,538 292,154
Machinery and equipment 266,268 251,664
Breeding stock 36,672 38,126
Construction in progress 4,287 16,306
--------- ---------
701,275 693,599
Less- Accumulated depreciation 213,314 166,591
--------- ---------
Total property, plant, equipment and breeding stock 487,961 527,008
GOODWILL 75,998 75,998
OTHER LONG-TERM ASSETS:
Deferred financing costs, net 7,085 7,241
Other 7,779 6,556
--------- ---------
Total other long-term assets 14,864 13,797
--------- ---------
Total assets $ 779,062 $ 807,639
========= =========
(continued)
F-4
PSF Group Holdings, Inc. and Subsidiaries
Consolidated balance sheets
March 29, 2003, and March 30, 2002
(in thousands, except share information)
(continued)
2003 2002
--------------- ---------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Checks issued against future deposits $ 5,129 $ -
Accounts payable 6,581 8,385
Accrued expenses 28,576 29,494
Due to related party 979 1,317
Accrued interest 6,178 4,914
Current maturities of long-term debt and capital leases 13,273 26,629
--------------- ---------------
Total current liabilities 60,716 70,739
LONG-TERM LIABILITIES:
Long-term debt and capital leases, less current maturities 291,911 246,153
Other long-term liabilities 6,345 8,243
Due to related party - 921
Deferred income taxes 75,795 98,016
--------------- ---------------
Total long-term liabilities 374,051 353,333
--------------- ---------------
Total liabilities 434,767 424,072
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value, 10,000 shares authorized,
no shares issued or outstanding - -
Class A common stock, $.01 par value; 250,000 shares authorized, 100,000
shares issued and outstanding 1 1
Class B common stock, $.01 par value; 300,000 shares authorized, 113,301
shares issued and outstanding 1 1
Additional paid-in capital 373,693 373,673
Accumulated other comprehensive income, net of tax (347) 345
Retained earnings (deficit) (29,053) 9,547
--------------- ---------------
Total shareholders' equity 344,295 383,567
--------------- ---------------
Total liabilities and shareholders' equity $ 779,062 $ 807,639
=============== ===============
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
PSF Group Holdings, Inc. and Subsidiaries
Consolidated statements of operations and comprehensive income
For the fiscal years ended
March 29, 2003, March 30, 2002 and March 31, 2001
(in thousands)
2003 2002 2001
-------------- -------------- ------------
NET SALES $ 608,414 $ 674,946 $ 540,576
COST OF GOODS SOLD 631,870 589,183 456,184
-------------- -------------- ------------
Gross profit (23,456) 85,763 84,392
OPERATING EXPENSES:
Selling, general and administrative expenses 18,267 21,551 19,413
Amortization expense - - 2,436
Other (income) expense, net (2,293) (558) 1,210
-------------- -------------- ------------
Total operating expenses 15,974 20,993 23,059
-------------- -------------- ------------
Operating (loss) income (39,430) 64,770 61,333
OTHER (EXPENSE) INCOME:
Interest expense (24,000) (20,835) (24,885)
Interest income 255 431 933
Loss on early extinguishment of debt - (2,192) -
-------------- -------------- ------------
Other expense, net (23,745) (22,596) (23,952)
-------------- -------------- ------------
(Loss) income before income taxes (63,175) 42,174 37,381
INCOME TAX BENEFIT (EXPENSE):
Current tax provision 5,411 (4,965) 1,458
Deferred tax provision 19,164 (11,844) (16,825)
-------------- -------------- ------------
Income tax benefit (expense) 24,575 (16,809) (15,367)
-------------- -------------- ------------
NET (LOSS) INCOME $ (38,600) $ 25,365 $ 22,014
-------------- -------------- ------------
Unrealized (loss) gain on interest rate swap, net of tax (692) 345 -
-------------------------------------------
COMPREHENSIVE (LOSS) INCOME $ (39,292) $ 25,710 $ 22,014
===========================================
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
PSF Group Holdings, Inc. and Subsidiaries
Consolidated statements of shareholders' equity
For the fiscal years ended
March 29, 2003, March 30, 2002 and March 31, 2001
(in thousands)
Accumulated
Additional Other Retained
Common Paid-In Comprehensive Earnings
Stock Capital Income (Loss) (Deficit) Total
--------- ----------- --------------- ------------ --------------
BALANCE, March 25, 2000 $ 2 $ 357,498 $ - $ (37,832) $ 319,668
Issuance of common stock - 16,155 - - 16,155
Net income - - - 22,014 22,014
--------- ----------- --------------- ------------ --------------
BALANCE, March 31, 2001 $ 2 $ 373,653 $ - $ (15,818) $ 357,837
Net income - - - 25,365 25,365
Unrealized gain on interest rate swap - - 345 - 345
Other - 20 - - 20
--------- ----------- --------------- ------------ --------------
BALANCE, March 30, 2002 $ 2 $ 373,673 $ 345 $ 9,547 $ 383,567
Net loss - - - (38,600) (38,600)
Unrealized loss on interest rate swap - - (692) - (692)
Other - 20 - - 20
--------- ----------- --------------- ------------ --------------
BALANCE, March 29, 2003 $ 2 $ 373,693 $ (347) $ (29,053) $ 344,295
========= =========== =============== ============ ==============
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
PSF Group Holdings, Inc. and Subsidiaries
Consolidated statements of cash flows
For the fiscal years ended
March 29, 2003, March 30, 2002 and March 31, 2001
(in thousands)
2003 2002 2001
------------- ------------ -------------
OPERATING ACTIVITIES:
Net (loss) income $ (38,600) $ 25,365 $ 22,014
Adjustments to reconcile net (loss) income to net cash
provided by operating activities-
Depreciation and amortization 61,508 56,054 50,959
Amortization of deferred financing costs 1,546 1,209 738
Deferred income taxes (19,164) 9,946 16,825
Net loss (gain) on sale of fixed assets 1,298 (4,950) (3,763)
Changes in operating assets and liabilities, net-
Accounts receivable (575) 4,417 (2,084)
Inventories (17,237) (13,337) (6,463)
Prepaid expenses and other assets (1,559) 10,066 (13,271)
Accounts payable, accrued expenses and other liabilities (4,597) (8,255) (575)
------------- ------------ --------------
Net cash (used in) provided by operating activities (17,380) 80,515 64,380
------------- ------------ --------------
INVESTING ACTIVITIES:
Acquisition of Lundy, net of cash acquired - - (98,206)
Acquisition of PSFNC, net of cash acquired - - (16,239)
Investment in joint venture (2,184) - -
Purchases of property, plant, equipment and breeding stock (35,505) (96,232) (43,224)
Proceeds from disposal of property, plant, equipment and breeding stock 11,745 14,931 11,677
------------- ------------ --------------
Net cash used in investing activities (25,944) (81,301) (145,992)
------------- ------------ --------------
FINANCING ACTIVITIES:
Checks issued against future deposits 5,129 - -
Proceeds from long-term debt - 173,591 125,000
Proceeds from (payments on) revolving debt, net 46,530 13,269 (7,205)
Payments for deferred financing costs (1,390) (4,749) (2,701)
Repayments on long-term debt (14,127) (182,703) (26,576)
------------- ------------ --------------
Net cash provided by (used in) financing activities 36,142 (592) 88,518
------------- ------------ --------------
Net (decrease) increase in cash and
cash equivalents (7,182) (1,378) 6,906
CASH AND CASH EQUIVALENTS, beginning of period 7,182 8,560 1,654
------------- ------------ --------------
CASH AND CASH EQUIVALENTS, end of period $ - $ 7,182 $ 8,560
============= ============ ==============
SUPPLEMENTAL DISCLOSURES:
Interest paid $ 18,699 $ 20,462 $ 21,980
Income tax (received) paid (4,205) 7,890 716
The accompanying notes are an integral part of these consolidated financial
statements.
F-8
PSF Group Holdings, Inc. and Subsidiaries
Notes to consolidated financial statements
March 29, 2003, March 30, 2002 and March 31, 2001
1. Summary of significant accounting policies:
Nature of operations
PSF Group Holdings, Inc. (Group) is incorporated in the state of Delaware. Group
has a wholly owned subsidiary, Premium Standard Farms, Inc. (PSF, Inc.). PSF,
Inc., and its subsidiaries are an integrated business engaged principally in the
business of hog production and pork processing and selling to domestic and
international markets. Group and PSF, Inc., collectively referred to as the
Company, succeeded the Continental Grain Company North Missouri Pork Operations
and PSF Holdings L.L.C. (Holdings) on May 13, 1998, pursuant to a stock purchase
transaction.
Fiscal year
The Company's fiscal year is the 52 or 53-week period, which ends on the last
Saturday in March. The accompanying consolidated statements of operations and
comprehensive income, statements of shareholders' equity and cash flows include
activity from the period of March 31, 2002, through March 29, 2003 (52 weeks),
April 1, 2001, through March 30, 2002 (52 weeks), and the period March 26, 2000,
through March 31, 2001 (53 weeks).
Principles of consolidation
The consolidated financial statements include the accounts of the Company and
its majority-owned subsidiaries. Entities in which the Company has ownership of
20 percent to 50 percent and does not control are accounted for using the equity
method. All significant intercompany balances and transactions have been
eliminated in consolidation.
Use of estimates
The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes. Actual results
could differ from those estimates.
Revenue recognition
Revenues from product sales are recorded when title to the goods and risks of
ownership has transferred to the customer, generally upon shipment. Net sales
reflect units shipped at selling prices reduced by certain sales allowances.
Cash and cash equivalents
The Company considers all highly liquid investments with a maturity of three
months or less to be cash equivalents. The carrying value of cash equivalents
approximates market value.
F-9
Inventories
Inventories are valued at the lower of cost, determined on a first-in, first-out
(FIFO) basis, or market.
Inventories consist of the following at March 29 and March 30 (in thousands):
2003 2002
--------- ---------
Hogs $142,675 $124,449
Processed pork products 9,568 10,704
Packaging and supplies 2,822 2,762
Grain, feed additives and other 3,337 3,250
--------- ---------
$158,402 $141,165
========= =========
Property, plant, equipment and breeding stock
Depreciation of property, plant, equipment and breeding stock is computed using
the straight-line method over the estimated useful lives of the assets as
follows:
Years
--------
Land improvements 15 to 20
Buildings 20 to 40
Machinery and equipment 3 to 10
Breeding stock 3
Assets held under capital leases are classified as property, plant, equipment
and breeding stock and amortized over the lease terms. Lease amortization is
included in depreciation expense.
Maintenance, repairs and minor renewals are charged to operations while major
renewals and improvements are capitalized.
Depreciation expense relating to the Company's property, plant, equipment and
breeding stock amounted to $61,508,000, $56,054,000 and $48,523,000 for fiscal
years ended March 29, 2003, March 30, 2002, and March 31, 2001, respectively.
Impairment of fixed assets
Long-lived assets, primarily property, plant and equipment, are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying value may not be recoverable. Recoverability of assets to be held and
used is measured by a comparison of the carrying value of the asset to future
net cash flows expected to be generated by the asset. If such assets are
considered to be impaired, the impairment to be recognized is measured by the
amount by which the carrying value of the assets exceeds the fair value of the
assets. Assets to be disposed of are reported at the lower of the carrying value
or fair value less costs to sell.
Market-risk management instruments
The Company uses price-risk management techniques to enhance sales and reduce
the effect of adverse price changes on the Company's profitability. The
Company's price-risk management and hedging activities currently are utilized in
the areas of forward grain sales and hog production margin management. The
Company's currently held commodity contracts do not qualify as hedges for
financial reporting purposes. These instruments are marked to market and
included in revenue or cost of goods sold in the consolidated statements of
operations and comprehensive income.
F-10
The Company has entered into an interest rate swap agreement. The swap has been
designated as a cash flow hedge and qualifies for hedge accounting with the
changes in fair value recorded in other comprehensive income. See "Derivative
instruments and hedging activities" below.
Self-insurance programs
The Company is self-insured for certain levels of general and vehicle liability,
workers' compensation and health care coverage. The cost of these self-insurance
programs is accrued based upon estimated settlements for known and anticipated
claims incurred through the balance sheet date. Any resulting adjustments to
previously recorded reserves are reflected in current operating results.
Income taxes
The Company uses the liability method of accounting for income taxes. Under this
method, deferred income tax assets and liabilities are determined based on the
difference between financial reporting and income tax basis of assets and
liabilities using the enacted tax rates. The deferred income tax provision or
benefit is based on changes in the asset or liability from period to period.
Fair value of financial instruments
The fair value of long-term debt and capital leases is determined using quoted
market prices from interdealers. At March 29, 2003, and March 30, 2002, the fair
value of the Company's debt was $285,934,000 and $277,284,000, respectively,
with a carrying value of $305,184,000 and $272,782,000, respectively.
Accounts receivable, accounts payable and cash equivalents are carried at
historical cost, which approximates fair value.
Goodwill
Costs in excess of net assets acquired are classified as goodwill. The carrying
value of goodwill is reviewed annually for possible impairment. Beginning April
1, 2001, the Company used an estimate of fair value to determine whether
goodwill is impaired rather than an undiscounted cash flow approach adopted
under prior standards. See "Business combination, goodwill and intangible
assets" below.
Deferred financing costs
Costs associated with debt issuance and amendments of debt facilities are
capitalized and amortized using the interest method over the related debt
facility life. Accumulated amortization on deferred financing costs at March 29,
2003 and March 30, 2002 was $4,071,000 and $2,525,000, respectively.
Derivative instruments and hedging activities
On April 1, 2001, the Company adopted Financial Accounting Standards Board
Statement No. 133 (SFAS 133), "Accounting for Derivative Instruments and Hedging
Activities" requiring every derivative instrument be recorded in the balance
sheet as either an asset or liability at its fair value, and changes in a
derivative's fair value be recognized in current earnings or other comprehensive
income.
The Company believes that its exchange traded commodity contracts serve as
economic hedges, however, management has elected not to designate and account
for these contracts as hedges. Effective as of April 1, 2001, these contracts
were marked to market through earnings. On April 1, 2001, the Company recorded a
transition adjustment reflecting an unrealized loss on commodity contracts of
approximately $7,271,000 as a liability and a decrease to accumulated other
comprehensive income of $4,380,000, net of $2,920,000 in deferred taxes. For the
fiscal year ended March 30, 2002, the Company recorded $7,271,000 of this
liability as a reduction to gross profit as the related commodity contracts
expired during this period. Changes in the fair value of the existing commodity
contracts and those commodity contracts entered into subsequent to April 1,
2001, are recorded in the period in which they occur. For the fiscal years ended
March 29, 2003, March 30, 2002, and March 31, 2001, gains (losses) marked to
F-11
market on commodity contracts recognized in revenue and cost of goods sold were
$524,000, ($13,625,000), and $1,720,000 respectively. At March 29, 2003, and
March 30, 2002, the fair value of the outstanding commodity contracts was
$1,509,000 and ($322,000), respectively.
During the fiscal year ended March 30, 2002, the Company entered into an
interest rate swap agreement in order to effectively convert the base interest
rate on the bank term note from variable to a fixed rate. The Company has
designated the interest rate swap as a cash flow hedge and for the fiscal years
ended March 29, 2003, and March 30, 2002, recorded ($567,000) and $565,000,
respectively, in the consolidated balance sheet relating to the fair value of
the swap. For the fiscal year ended March 29, 2003, the Company decreased
accumulated other comprehensive income by ($692,000), net of $440,000 in
deferred taxes and for the fiscal year ended March 30, 2002, increased
accumulated other comprehensive income by $345,000, net of $220,000 in deferred
taxes. The interest rate swap will mature on September 30, 2004.
Business combination, goodwill and intangible assets
On June 30, 2001, the Financial Accounting Standards Board issued its Statements
of Financial Accounting Standards Nos. 141 (SFAS 141), "Business Combinations"
and 142 (SFAS 142), "Goodwill and Intangible Assets," which establish reporting
and accounting standards for business combinations, goodwill and intangible
assets. SFAS 141 requires all business combinations after June 30, 2001, to be
accounted for using the purchase method. Under SFAS 142, companies no longer
amortize goodwill over the estimated useful life. Goodwill is assessed each year
for impairment by applying a fair value based test.
The Company early adopted these rules effective April 1, 2001. Assessment of the
fair value of the relevant reporting units was completed during the second
quarter, resulting in no impairment of recorded goodwill. Prior to April 1,
2001, goodwill was amortized over 30 years. The effect of discontinuing goodwill
amortization increased income before income taxes by approximately $2,741,000
for the fiscal years ended March 29, 2003 and March 30, 2002. Had SFAS 142 been
applied retroactively, the effect of discontinuing amortization of goodwill
would have resulted in adjusted net income (loss) of $24,450,000 for the fiscal
year ended March 31, 2001.
Stock-based compensation
The Company adopted the disclosure provisions of Statement of Financial
Accounting Standards No. 148 (SFAS 148), "Accounting for Stock-Based
Compensation - Transition and Disclosure, and amendment of FASB Statement No.
123." SFAS 148 requires prominent disclosures in both annual and interim
financial statements regarding the method of accounting for stock-based employee
compensation and the effect of the method used on report results.
In the fiscal year ended March 31, 2001, the Company's board of directors
authorized an equity incentive plan whereby options have been granted to senior
management for the purchase of 7,428 shares of Class B common stock at an
exercise price of $1,666.48 per share. Substantially all of the options are
fully exercisable at March 29, 2003. At December 31, 2005, 6,714 shares expire
and at December 31, 2007, 714 shares expire. No options have been exercised as
of March 29, 2003.
The Company records stock compensation in accordance with Accounting Principles
Board Opinion No. 25 (APB 25). For fiscal years ending March 29, 2003, March 30,
2002 and March 31, 2001, the Company recorded compensation expense of $20,000,
$20,000 and $5,000, respectively, in accordance with APB 25. The fair value of
stock options granted was calculated using the minimum value method as defined
in the Statement of Financial Accounting Standards No. 123 (SFAS 123). Under
SFAS 123, the pro forma net income is disclosed as if it reflected the estimated
fair value of options as compensation at the date of grant or issue over the
vesting period. For the fiscal years ended March 29, 2003, and March 30, 2002,
there was no pro forma expense as the effect of option grants are recorded in
the year of grant. For the fiscal year ended March 31, 2001, on a pro forma
basis, net income would have been reduced by approximately $2,683,000.
New accounting pronouncements
On June 30, 2001, the Financial Accounting Standards Board (FASB) issued its
Statement of Financial Accounting Standards No. 143 (SFAS 143), "Accounting for
Asset Retirement Obligations." SFAS 143 applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction,
F-12
development, and the normal operation of long-lived assets. This
statement requires that the fair value of a liability for an asset retirement
obligation be recognized in the period in which it is incurred if a reasonable
estimate of fair value can be made. The associated asset retirement costs are
capitalized as part of the carrying amount of the long-lived asset. This
statement is effective for financial statements issued for fiscal years
beginning after June 15, 2002, and earlier application is encouraged. The
Company has determined that it has a legal obligation to close lagoons in the
future should the Company ever cease operations or plan to close lagoons
voluntarily in accordance with a changed operating plan. Based on estimates and
assumptions as to the cost and timing of any potential lagoon closure, the
Company has determined that the present value of the projected costs are not
considered material to the consolidated financial statements. However, should
laws, assumptions or other circumstances change which require lagoon closure
before the periods assumed in the present value calculations, the costs could
have a material impact on the consolidated financial statements in the period
the change occurs.
In April 2002, the FASB issued SFAS No. 145 (SFAS 145), "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." SFAS Nos. 4 and 64 required gains and losses from extinguishment
of debt to be classified as extraordinary items. SFAS 145 rescinds this
requirement and stipulates that gains or losses on extinguishment of debt would
have to meet the criteria of APB Opinion No. 30 to be classified as an
extraordinary item. In addition, any extraordinary gains or losses on
extinguishment of debt in prior periods presented would require
reclassification. SFAS 145 is required, with early adoption encouraged, for
fiscal years beginning after May 15, 2002. The Company early adopted SFAS 145
during the fourth quarter of fiscal 2002 and as a result, reclassified the
$1,315,000 (net of a related tax benefit of $877,000) extraordinary loss from
the extinguishment of debt in the fiscal year 2002 consolidated statements of
earnings to other expense and income taxes.
In November 2002, the FASB issued Interpretation No. 45 (FIN 45), "Guarantor's
Accounting and Disclosure Requirements for Guarantees, including Indirect
Guarantees of Indebtedness of Others." FIN 45 supersedes Interpretation No. 34,
"Disclosure of Indirect Guarantees of Indebtedness of Others," and provides
guidance to guarantors on the recognition and disclosure concerning obligations
under certain guarantees in interim and annual financial statements. The initial
recognition and measurement provisions of FIN 45 are effective for guarantees
issued or modified after December 31, 2002, and are to be applied prospectively.
The disclosure requirements are effective for financial statements for interim
or annual periods ending after December 15, 2002. The adoption of FIN 45 did not
have a material impact on the Company's consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46 (FIN 46),
"Consolidation of Variable Interest Entities". FIN 46 applies to entities if its
total equity at risk is not sufficient to permit the entity to finance its
activities without additional subordinated support or if the equity investors
lack certain characteristics of a controlling financial interest. If an entity
is determined to meet those certain characteristics, FIN 46 requires a test to
identify the primary beneficiary based on expected losses and expected returns
associated with the variable interest. The primary beneficiary is then required
to consolidate the entity. The consolidation requirements apply to all variable
interest entities (VIEs) created after January 31, 2003. The Company must apply
the consolidation requirements for VIEs that existed prior to February 1, 2003
and remain in existence as of July 1, 2003. Management does not believe the
adoption of FIN 46 will have a material impact on the Company's consolidated
financial statements.
Risk factors
There are certain risk factors that can materially impact the Company's
business, financial condition and results of operations. These risks include
sensitivity to pork and hog prices, sensitivity to grain commodity prices,
environmental factors and legislation, changes in herd productivity and feed
efficiency, impact of disease, international market risks, competition,
restrictions under corporate farming laws, dependence on favorable labor
relations, pork product contamination and product liability claims, distribution
channels and consumer preferences.
2. Business acquisitions
On August 25, 2000, the Company completed the stock acquisition of The Lundy
Packing Company and its affiliated companies (Lundy) for $67,200,000 in cash and
the assumption of approximately $31,000,000 in debt. Lundy is located in
Clinton, North Carolina, and operated a 6,500-head per day processing plant and
owned approximately 41,000 sows, the offspring of which are finished in a
combination of company-owned, contract and joint venture facilities.
F-13
On September 22, 2000, the Company completed the stock acquisition of Premium
Standard Farms of North Carolina, Inc. (PSFNC) for a total purchase price of
$32,300,000, of which $16,150,000 was payable in cash and $16,150,000 was
payable by delivery of 9,219 shares of Class B common stock. A fairness opinion
was received from a third party related to the value of the transaction. PSFNC
was formerly a division of ContiGroup Companies, Inc. (CGC or ContiGroup), a
53.1 percent owner of Group, and owned approximately 25,000 sows, the offspring
of which are finished in company-owned, contract and joint venture facilities.
This stock issuance increased CGC's ownership in Group from 51.0 percent to 53.1
percent. Subsequent to the PSFNC acquisition, Lundy contributed its production
operations to PSFNC.
Both the Lundy and PSFNC transactions were accounted for under the purchase
accounting method with the corresponding assets and liabilities recorded at fair
value. Excess purchase price over the fair value of net assets acquired of
$21,036,000 for the transactions have been recorded as goodwill. As of March 30,
2002, and March 29, 2003, net goodwill associated with the Lundy and PSFNC
transactions amounted to $20,679,000.
Pro forma operating results
The following unaudited pro forma financial information assumes that both the
Lundy and PSFNC acquisitions described above occurred at the beginning of the
year ended March 31, 2001 (in thousands):
Unaudited Year-End
----------------------
March 31, 2001
----------------------
Net sales $680,076
Net income 19,260
The pro forma results are not necessarily indicative of the actual results that
would have been obtained had the acquisitions been made at the beginning of the
respective period or of results which may occur in the future.
3. Shareholders' equity
Common stock
There are two classes of common stock which Group can issue. Class A common
stock was issued to the holders of the outstanding units of Holdings. Class B
common stock was issued to CGC. Class A holders have the sole right to vote in
the election or for removal, without cause, of four Class A directors. Class B
holders have the sole right to vote in the election or for removal, without
cause, of five Class B directors. All distributions, dividends and liquidation
preferences are equal between the two classes of stock.
Preferred stock
The Company has authorized 10,000 shares at $.01 par value of preferred stock.
No shares have been issued or are outstanding. Terms of the preferred stock
including voting rights, dividend preference and other limitations or
restrictions have yet to be assigned.
Stockholder warrants
The Company has warrants outstanding entitling the holders to purchase 20,481.92
shares of Class A common stock at an exercise price of $2,205 per share. As of
March 29, 2003, all warrants were exercisable and none have been exercised. All
unexercised warrants expire on September 17, 2006. Warrant holders are entitled
to certain registration rights associated with their ownership.
F-14
4. Accrued expenses
Accrued expenses are comprised of the following at March 29 and March 30 (in
thousands):
2003 2002
--------- ---------
Salaries and benefits payable $ 8,304 $13,238
Workers' compensation payable 4,133 3,314
Grain and feed 816 2,287
Claims reserves 4,271 1,846
Accrued payables and other 11,052 8,809
-------- ---------
$28,576 $29,494
======= =======
5. Long-term debt and capital leases
Long-term debt consists of the following at March 29 and March 30 (in
thousands):
2003 2002
----------- -----------
Senior unsecured notes, due on June 15, 2011,
interest at 9.25%, interest payable semiannually $175,000 $175,000
Revolving loan, due on August 21, 2004,
interest at variable rates (ranging from 4.375%
to 5.75% at March 29, 2003) 69,799 23,269
Term loan, due on August 21, 2005, interest based
on LIBOR rates plus 3.125% ($43,750 fixed with a
swap agreement for 6.1375%, $12,500 at 4.5675% at
March 29, 2003), payable in quarterly
installments of $6,250 beginning September 30,
2003 56,250 68,750
Note payable, due December 31, 2002, interest
at prime rate plus 1.5% per annum (6.25% at
March 30, 2002) - 898
Capital leases 4,135 4,865
----------- -----------
Total debt and capital leases 305,184 272,782
Less- Current portion 13,273 26,629
----------- -----------
Long-term debt and capital leases $291,911 $246,153
=========== ===========
Future maturities of long-term debt and capital leases are as follows (in
thousands):
Fiscal Year
-----------
2004 $ 13,273
2005 95,631
2006 19,657
2007 1,079
2008 449
Thereafter 175,095
---------
$305,184
The indenture associated with the $175,000,000 senior notes limits the Company's
ability, among other things, to incur additional debt, pay dividends, acquire
shares of capital stock, make payments on subordinated debt or make certain
investments. In addition, the indenture places limitations on the Company's
ability to: make distributions from subsidiaries, issue or sell capital stock of
subsidiaries, issue guarantees, sell or exchange assets, enter into transactions
with shareholders and affiliates, create liens, and effect mergers.
F-15
The senior notes may be redeemed beginning on June 15, 2006, at an initial
redemption price of 104.625 percent of their principal amount plus accrued
interest, declining to 100 percent on and after June 15, 2009. In addition,
before June 15, 2004, up to 35 percent of the notes may be redeemed at a price
of 109.25 percent of principal plus accrued interest, using proceeds from the
sale of capital stock.
The Company has a bank credit agreement that includes a term loan and revolving
loans. Effective June 28, 2002, the Company and its bank group amended the
credit agreement to extend the revolving credit facility one year, increase the
letter of credit commitment from $10,000,000 to $15,000,000, and amend certain
financial covenants and pricing terms.
Effective September 27, 2002, the Company and its bank group amended the credit
agreement to increase the Company's revolving credit facility by $50,000,000 to
$150,000,000 in total availability subject to a borrowing base calculation,
among other things. The amendment also defers quarterly principal payments on
the Company's term debt for a one year period and amends certain financial
covenants. Obligations under the Credit Agreement are secured by liens on
substantially all of the Company's assets. In addition to customary financial
covenants, the Credit Agreement contains customary restrictions on, among other
things, encumbrance or disposal of assets, acquisitions, additional
indebtedness, capital investment, payment of subordinated debt and construction
of new hog production facilities. In addition to customary fees payable under
credit facilities of this type, amounts borrowed under the Credit Agreement bear
interest at fluctuating rates selected by the Company. These rates are based on
the agent bank's base rate (the greater of the agent bank's prime rate or the
federal funds rate plus one half of one percent) or LIBOR plus, in each case, an
applicable margin, currently ranging from 1.5% to 3.125%, determined by the
Company's leverage ratio. All borrowings under the revolving credit facility
mature on August 21, 2004 and the term debt matures on August 21, 2005.
Financing costs associated with the amendment have been capitalized and are
being amortized over the life of the amended Credit Agreement.
The revolving loans are not to exceed $150,000,000 of total borrowings,
including up to $15,000,000 in letters of credit. Fees of 1.75 percent per annum
are paid quarterly only on outstanding letter-of-credit amounts. At March 29,
2003, and March 30, 2002, the Company had $10,034,000 and $8,510,000 of
outstanding letters of credit, respectively.
The bank credit agreement is secured by virtually all of the Company's assets.
The amount available under the revolving credit facility is determined by a
borrowing base formula determined from the sum of eligible accounts receivable
and a formula value for inventory based on current book value. The borrowing
base at March 29, 2003, was approximately $144,675,000 and at March 30, 2002, it
was approximately $100,000,000, and accordingly, unused available borrowing was
$64,841,000 and $68,221,000, respectively (net of outstanding letters of credit
and revolving loans). The agreement contains various restrictive covenants
which, among others, substantially limit additional borrowings, prohibit payment
of dividends and restrict capital additions and sale of assets. The agreement
also contains covenants, among others, regarding earnings before interest,
taxes, depreciation and amortization (EBITDA) and a cash interest coverage
ratio. Annual EBITDA, as defined in the bank credit agreement (calculated on a
rolling four-quarter basis), cannot be less than ($3,000,000) as of the end of
the first quarter in fiscal year 2004, increasing to $45,000,000 as of the end
of the fourth quarter in fiscal year 2004, and $75,000,000 as of the end of each
fiscal quarter thereafter. The cash interest coverage ratio (calculated on a
rolling four-quarter basis) as of the end of each fiscal quarter cannot be less
than 1.25-to-1.0 as of the end of the third quarter in fiscal year 2004,
1.75-to-1.0 as of the end of the fourth quarter in fiscal year 2004, and
2.5-to-1.0 as of the end of each fiscal quarter thereafter. As of March 29,
2003, the Company was in compliance with all covenants relating to the bank
credit agreement.
During November 2001, the Company entered into an interest rate swap agreement
to convert the variable base interest rate of its bank term debt to a fixed rate
of 3.0125 percent plus the agent bank's applicable margin (currently 3.125
percent at March 29, 2003). The swap has a lower notional amount and matures
more quickly than the term debt.
F-16
6. Income taxes
A reconciliation of statutory federal income tax and income tax expense is shown
below (in thousands):
2003 2002 2001
----------- ---------- ----------
Amount based on federal statutory rate $ 5,419 $(4,215) $1,276
State income taxes, net of federal (8) (750) 182
Other - - -
----------- ---------- ----------
Current income tax benefit (expense) 5,411 (4,965) 1,458
----------- ---------- ----------
Amount based on federal statutory rate 15,365 (10,547) (14,039)
State income taxes, net of federal 3,799 (1,297) (2,005)
Other - - (781)
----------- ---------- ----------
Deferred income tax benefit (expense) 19,164 (11,844) (16,825)
----------- ---------- ----------
Total income tax benefit (expense) $24,575 $(16,809) $15,367
=========== ========== ==========
Components of the net deferred tax balances at March 29 and March 30, are as
follows (in thousands):
2003 2002
------------ ------------
Net current deferred tax assets-
Goodwill $ 221 $ 221
Inventory 1,454 1,201
Other accruals and reserves 7,034 7,099
Alternative minimum tax credits - 5,687
Net operating loss carryforwards 4,355 1,472
------------ ------------
Net current deferred tax assets $ 13,064 $ 15,680
============ ============
Net long-term deferred tax liabilities-
Fixed assets $(99,652) $ (102,142)
Net operating loss carryforwards 21,479 -
Goodwill 1,072 1,293
Other 1,306 2,833
------------ ------------
Net long-term deferred tax liability $ (75,795) $ (98,016)
============ ============
At March 29, 2003, the Company has operating loss carryforwards of $64,584,000
available to offset future taxable income. The operating loss carryforwards will
expire as follows; $3,558,000 in 2020 and $61,026,000 in 2023. The Company
believes that its future taxable income will be sufficient for full realization
of the deferred tax assets.
7. Investments in partnerships
The Company has a 50 percent ownership interest in the L&H Farms partnership.
L&H Farms partnership is in the business of breeding and raising hogs in rural
North Carolina. The Company accounts for the earnings and losses of the
partnership using the equity method of accounting. As of March 29, 2003, and
March 30, 2002, the investment in the L&H Farms partnership was $893,000 and
$1,383,000, respectively, and is included in other long-term assets in the
consolidated balance sheets. The Company's share of the partnership's (losses)
earnings was ($240,000) for fiscal year ended March 29, 2003, $732,000 for
fiscal year ended March 30, 2002, and $340,000 from August 25, 2000 (date of
acquisition), through March 31, 2001. These amounts are included in other
expense (income) in the consolidated statements of operations and comprehensive
income.
In addition, the Company has a 60 percent ownership in L&S Farms, LLC, a limited
liability company, in the business of breeding and raising hogs in rural North
Carolina. The Company consolidates this operation for financial reporting
purposes. Minority interest of $113,000 for fiscal year ended March 29, 2003,
$394,000 for fiscal year ended March 30, 2002, and $99,000 from August 25, 2000
(date of acquisition), through March 31, 2001, was charged to other
F-17
expense (income) in the consolidated statements of operations and comprehensive
income. As of March 29, 2003, and March 30, 2002, the minority interest
obligation was $629,000 and $394,000, respectively, recorded in other long-term
liabilities in the consolidated balance sheets.
On March 28, 2003, the Company funded a 50 percent ownership interest in
Oldham's LLC for $2,184,000, which subsequently was finalized on April 4, 2003.
Oldham's LLC is in the business of processing sows and producing raw materials
for sausage products. The Company will account for the earnings and losses of
Oldham's using the equity method of accounting.
8. Related parties
The Company has contracted with ContiGroup to provide certain services pursuant
to an amended and restated services agreement and a contract grower finish
agreement. Under these agreements, ContiGroup provides purchasing assistance,
legal services, employee benefits, payroll and grow finishing services to the
Company. For fiscal years ended March 29, 2003, March 30, 2002, and March 31,
2001, the total amount of these expenses and other related-party expenses with
CGC were $5,331,000, $6,788,000, and $6,523,000, respectively. At March 29,
2003, and March 30, 2002, the Company recorded amounts due to related party for
these items of $58,000 and $469,000, respectively, included in the consolidated
balance sheets.
The Company provided ContiGroup management and human resources services with
respect to ContiGroup's prior pork operations, hog and feed production services
and environmental and other business consulting services. The total billings for
the fiscal years ended March 30, 2002, and March 31, 2001, amounted to $112,000,
and $568,000, respectively.
During fiscal year ended March 25, 2000, an agreement was entered into with CGC
to pay $1,000,000 annually for five years, in consulting fees to CGC for work
done in the settlement agreement with the attorney general of Missouri (Note
11). The Company paid the first four of five annual installments in fiscal years
2003, 2002, 2001, and 2000, respectively. The Company discounted the liability
at its current borrowing rate and as of March 29, 2003, has recorded a liability
of $921,000, of which all is classified as current. Liabilities are reflected in
the due to related party in the consolidated balance sheets.
The Company leases farmland and hog production buildings from the former owners
of Lundy, one of which is currently a board member of PSF, Inc., under a capital
lease agreement that existed prior to the acquisition. The capital lease
obligation as of March 29, 2003, and March 30, 2002 was $2,031,000 and
$2,296,000, respectively, and is included in long-term debt and capital leases
in the consolidated balance sheet.
Morgan Stanley & Co. Incorporated and certain funds owned, controlled and
managed by it and its affiliates, beneficially own approximately 17.6 percent of
the outstanding common stock of Group and is represented on the board of
directors. Morgan Stanley & Co. Incorporated served as placement agent for the
Company's $175,000,000 senior unsecured notes.
9. Commitments
The Company enters into forward grain purchase contracts with market risk in the
ordinary course of business. In the opinion of management, settlement of such
commitments, which were open at March 29, 2003, and March 30, 2002, will have no
adverse impact on the financial position or results of operations of the
Company.
The Company utilizes forward contracts, as well as exchange traded futures and
options contracts, to establish adequate supplies of future grain purchasing
requirements and minimize the risk of market fluctuations. These contracts are
dependent on fluctuations in the grain, lean hog, and natural gas commodity
markets. Market risk resulting from a position in a particular contract may be
offset by other on or off-balance-sheet transactions. The Company continually
monitors its overall market position. Fair values of futures and options, and
gross contract or notional amounts of forward contracts, in place as of March
29, 2003 are as follows (in thousands except wtd.-avg. price/unit):
F-18
Contract Volumes Wtd.-avg. Fair
Quantity Units Price/Unit Value
-------------------------------------------------------
Futures Contracts
-----------------
Corn purchases - long 11,380 bushels $ 2.37 $ (859)
Corn sales - short 1,600 bushels 2.38 117
Soybean meal purchases - long 17 tons 153.54 14
Soybean meal sales - short 1 tons 171.60 (2)
Lean hog sales - short 26,120 pounds 0.61 939
Lean hog purchases - long 5,400 pounds 0.57 (228)
Wheat sales - short 130 bushels 3.43 55
Pork belly purchases - long 520 pounds 0.83 31
Option Contracts
----------------
Corn puts - short 505 bushels $ 2.20 $ (28)
Corn calls - short 505 bushels 3.00 (16)
Corn calls - long 505 bushels 2.60 43
Lean hog calls - long 4,000 pounds 0.46 176
Lean hog puts - short 42,680 pounds 0.53 (622)
Lean hog puts - long 37,600 pounds 0.61 1,889
Contract Volumes Wtd.-avg. Notional
Quantity Units Price/Unit Amount
-------------------------------------------------------
Forward Contracts
-----------------
Corn 3,922 bushels $ 2.78 $10,914
Meal 1 tons 180.52 159
Substantially all these contracts expire within one year.
The Company leases rolling stock and certain equipment under noncancelable
operating leases. Rental expense under operating leases was approximately
$6,861,000, $5,435,000 and $3,656,000 in the fiscal years ended March 29, 2003,
March 30, 2002, and March 31, 2001, respectively. Future minimum rental
commitments at March 29, 2003, are as follows (in thousands):
2004 $ 5,973
2005 5,054
2006 4,316
2007 3,282
2008 2,391
Thereafter 5,047
-----
$26,063
=======
At the Company's Clinton, North Carolina pork processing facility, the Company
has contracts with producers to provide this facility with market hogs for the
amount the Company's hog production operations can't provide in order to meet
this facility's processing needs. These contracts vary in length but are all
based on a market price and grade and yield formula. Over the next 5 years the
Company is contracted to purchase approximately 1,750,000 market hogs under
these contracts.
The Company also has contracts with two large processors to sell the Company's
hogs produced from its Texas hog production operations. Over the next 5 years we
are to provide approximately 1,500,000 market hogs to these processors under
these contracts.
10. Employee benefit plans
The Company has a 401(k) plan covering substantially all employees meeting
certain minimum service requirements. The plan allows all qualifying employees
to contribute up to 20 percent of employee compensation limited to the tax
deferred contribution allowable by the Internal Revenue Code. The Company
matches 100 percent of the employee's contribution up to 3 percent of employee
compensation and 50 percent of the employee's next 2 percent of employee
compensation, for a maximum company match of 4 percent of employee compensation.
Effective January 1, 2000, the Company amended its 401(k) plan from a three-year
cliff-vesting period to a 100 percent immediate vesting. Employer contribution
expense related to the plan was approximately $1,870,000, $1,816,000 and
$1,407,000 for the fiscal years ended March 29, 2003, March 30, 2002, and March
31, 2001, respectively.
F-19
The Company has a long-term incentive plan with performance thresholds tied to
return on net assets in place for key executives selected by the compensation
committee. At March 29, 2003, the Company had no liability recorded for the
long-term incentive plan. At March 30, 2002, the Company had a liability
recorded of $1,507,000 in other long-term liabilities toward the long-term
incentive plan. The Company expensed $1,500,000, and $2,106,000 in the fiscal
years ended March 30, 2002, and March 31, 2001, respectively. In fiscal year
ended March 29, 2003, the Company credited the amount accrued for the year ended
March 30, 2002, due to the probability of the Company not meeting its minimum
requirement for payout because of its fiscal year 2003 performance.
The Company has a nonqualified, unfunded special executive retirement plan for
certain key executives. Benefits generally accrue based on pay and years of
credited service. As of March 29, 2003, and March 30, 2002, the Company has
recorded in other long-term liabilities $1,354,000 and $834,000 relating to this
plan, respectively. For the fiscal years ended March 29, 2003, March 30, 2002,
and March 31, 2001, the Company expensed $520,000, $480,000 and $354,000 related
to this plan, respectively. The actuarial assumptions used in calculating the
liability were:
March 29, 2003 March 30, 2002
-------------- --------------
Discount rate 6.25% 7.50%
Salary Increases 4.00% 4.50%
11. Litigation
Environmental matters
The Company has settled two citizens' action suits which sought to enforce
alleged violations of the Clean Air Act, Clean Water Act and CERCLA against the
Company and ContiGroup Companies, Inc. ("ContiGroup"). The U.S. Environmental
Protection Agency (the "E.P.A.") had intervened in this action and filed a
separate notice of violation against the Company under the Clean Air Act. This
settlement, in the form of a consent decree ("EPA Consent Decree"), resolved all
outstanding issues of ContiGroup and the Company with the E.P.A. In 1998, the
Company engaged in a series of transactions with ContiGroup pursuant to which it
purchased from ContiGroup its North Missouri Farms hog production operations and
ContiGroup purchased a 51.0% ownership interest in the Company (the "1998
ContiGroup transaction"). To the extent that ContiGroup incurred any liability
in this litigation, the Company assumed that liability pursuant to the terms of
the 1998 ContiGroup transaction. The EPA Consent Decree, built upon the 1999
consent decree with the State of Missouri referenced below, requires the Company
and ContiGroup to meet certain performance standards, such as a 50 percent
reduction in nitrogen concentration of the effluent applied to area fields over
a prescribed time period. Other key elements of the EPA Consent Decree include:
monitoring air emissions from lagoons and barns; compliance with certain best
management practices to reduce the risk of spills; testing of selective lagoons
to ensure integrity; and the payment of a $350,000 civil penalty. The counsel
for the citizen plaintiffs has submitted a petition for recovery of attorneys'
fees in connection with the lawsuits against both the Company and ContiGroup.
The Company believes the majority of these fees have been previously paid and
resolved. The Company believes the resolution of this matter will not have a
material adverse effect upon its financial position or results of operations.
In 1999, the Company settled a suit filed by the Attorney General of the State
of Missouri against the Company and ContiGroup. As referenced above, the Company
assumed ContiGroup's liability in this action in connection with the 1998
ContiGroup transaction. The settlement required the Company and ContiGroup to
enter into a consent judgment ("Missouri Consent Decree") pursuant to which the
Company is obligated to invest $25 million on or before May 19, 2004, for
researching, installing and operating improved technology to control wastewater,
air and odor emissions from its Missouri farms. All such investments are subject
to the approval of an expert panel of independent university experts. To date
the Company has spent $11.9 million to satisfy the settlement. The Company
anticipates an extension of this expenditure deadline because both the State of
Missouri and the expert panel want further confirmation of the efficacy of any
chosen technology. In addition, pursuant to the Missouri Consent Decree the
Company and ContiGroup were issued a $1 million civil penalty. Of this, $650,000
has been paid and $350,000 is suspended pending certain conditions.
In addition to the suits discussed above, the Company has received notices of
violations from the Missouri Department of Natural Resources alleging releases
of wastewater. The Company has responded to these notices in an effort to
resolve these matters. The State of Missouri filed a lawsuit in June 2002
seeking penalties and injunctive
F-20
relief for these violations. The Company has filed an answer, believes it has
good defenses, and intends to vigorously defend the suit.
Two nuisance suits were filed against ContiGroup and the Company during the
second quarter of fiscal year 2003 in the Circuit Court of Jackson County,
Kansas City, Missouri. There are multiple plaintiffs in each suit, who claim to
live near swine farms owned by ContiGroup but under production contracts with
the Company. The primary allegation is that offensive odors from these farms
interfered with the plaintiffs' right to use and have quiet enjoyment of their
respective properties. The Company is obligated by contract to indemnify
ContiGroup for any liabilities arising from this litigation. The Company has
filed an answer, believes it has good defenses to these actions, and intends to
vigorously defend these suits.
Other legal matters
In addition, the Company is involved from time to time in routine litigation
incidental to its business. Although no assurance can be given as to the outcome
or expense associated with any of these routine proceedings, the Company
believes that none of such proceedings currently pending should, individually or
in the aggregate, have a material adverse effect on its financial statements.
12. Segment information
The Company operates a vertically integrated business with two operating
segments, Pork Processing and Hog Production. The Pork Processing segment sells
fresh and value-added pork products to food retailers, distributors,
wholesalers, further processors, pharmaceutical and animal feed manufacturers in
both domestic and international markets. The Hog Production segment supplies a
majority of the live hogs used in the Pork Processing segment and sells the
excess production to other hog processing operations. Intersegment live hog
sales are based on market prices. The following tables present specific
financial information about each segment as reviewed by the Company's
management. The Corporate and Other classification in the following tables
represent unallocated corporate expenses and assets, deferred and current taxes,
Group's goodwill and goodwill amortization, interest expense and intersegment
elimination (in thousands):
Corporate
Pork and
Processing Hog Production Other Total
---------- -------------- ----- -----
Fiscal 2003-
Net sales $558,329 $357,154 $(307,069) $608,414
Intersegment sales (7,976) (299,093) - -
Operating income 34,444 (63,134) (10,740) (39,430)
Assets 186,164 504,972 87,926 779,062
Depreciation and
amortization 15,278 45,270 960 61,508
Capital expenditures 5,076 29,903 526 35,505
Fiscal 2002-
Net sales $599,565 $440,825 $(365,444) $674,946
Intersegment sales (4,005) (361,439) - -
Operating income 23,011 59,440 (17,681) 64,770
Assets 199,714 514,787 93,138 807,639
Depreciation and
amortization 11,787 43,462 805 56,054
Capital expenditures 37,806 57,671 755 96,232
F-21
Corporate
Pork and
Processing Hog Production Other Total
---------- -------------- ----- -----
Fiscal 2001-
Net sales $475,673 $359,149 $(294,246) $540,576
Intersegment sales (1,857) (292,389) - -
Operating income 16,276 62,681 (17,624) 61,333
Assets 179,126 502,371 91,943 773,440
Depreciation and
amortization 9,476 38,715 2,768 50,959
Capital expenditures 12,213 30,343 668 43,224
Geographic information
No individual foreign country or customer accounts for 10 percent or more of
sales to external customers. The following table provides a geographic summary
of the Company's net sales based on the location of product delivery (in
thousands):
2003 2002 2001
---------- ---------- ----------
United States $557,764 $626,245 $496,461
Far East 37,013 35,913 33,815
Europe and Russia 139 1,474 1,758
Canada 8,544 9,366 7,056
Mexico and South America 4,954 1,948 1,486
----------- ----------- -----------
Totals $608,414 $674,946 $540,576
======== ======== ========
All of the Company's assets are located within the United States.
13. Quarterly results of operations (unaudited in thousands):
The following represents the unaudited quarterly results of operations for
fiscal years 2003 and 2002. All amounts are expressed in thousands.
First Second Third Fourth
----- ------ ----- ------
Fiscal 2003-
Net sales $149,049 $145,735 $154,090 $159,540
Gross profit 2,900 (7,541) (9,303) (9,512)
Net (loss) (4,274) (10,492) (12,253) (11,581)
Fiscal 2002-
Net sales $171,162 $176,567 $173,278 $153,939
Gross profit 29,786 37,223 11,006 7,748
Net income (loss) 9,098 15,942 1,028 (703)
F-22
EXHIBIT INDEX
Exhibit
Number Description of Exhibit
------ ----------------------
21.1 Subsidiaries of the Registrant.
24.1 Power of Attorney (see signature page).