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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal period ended April 1, 2005
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: 001-13403
AMERICAN ITALIAN PASTA COMPANY
------------------------------------------------------
(Exact name of Registrant as specified in its charter)
Delaware 84-1032638
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4100 N. Mulberry Drive, Suite 200, Kansas City, Missouri 64116
------------------------------------------------------------------
(Address of principal executive office and Zip Code)
(816) 584-5000
------------------------------------------------------------------
Registrant's telephone number, including area code:
Indicate by check mark whether the Registrant has (1) filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
The number of shares outstanding as of May 11, 2005 of the Registrant's Class A
Common Stock was 18,434,151 and there were no shares outstanding of the Class B
Common Stock.
1
AMERICAN ITALIAN PASTA COMPANY
Form 10-Q
Fiscal Quarter Ended April 1, 2005
Table of Contents
Part I - Financial Information Page
Item 1. Consolidated Financial Statements (unaudited) 3
Consolidated Balance Sheets at April 1, 2005 and October 1, 2004 3
Consolidated Statements of Operations for the three and six months ended 4
April 1, 2005 and April 2, 2004
Consolidated Statement of Stockholders' Equity for the
six months ended April 1, 2005 5
Consolidated Statements of Comprehensive Income for the
three and six months ended April 1, 2005 and April 2, 2004 6
Consolidated Statements of Cash Flows for the six months ended
April 1, 2005 and April 2, 2004 7
Notes to Consolidated Financial Statements 8-10
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10-17
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
Item 4. Controls and Procedures 18
Part II - Other Information
Item 1. Legal Proceedings 19
Item 2. Unregistered Sales of Equity Securities and Uses of Proceeds 19
Item 3. Defaults Upon Senior Securities 19
Item 4. Submission of Matters to a Vote of Security Holders 19
Item 5. Other Information 20
Item 6. Exhibits 20
Certifications and Signature Page 21-24
Exhibit Index 25
2
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
AMERICAN ITALIAN PASTA COMPANY
Consolidated Balance Sheets
(in thousands, except share amounts)
April 1, October 1,
2005 2004
------------- -------------
ASSETS (Unaudited)
Current assets:
Cash and temporary investments $ 3,371 $ 4,350
Trade and other receivables, net 38,357 45,704
Prepaid expenses and deposits 9,548 10,554
Inventory 63,805 60,704
Deferred income taxes 789 789
------------- -------------
Total current assets 115,870 122,101
Property, plant and equipment:
Land and improvements 15,187 15,050
Buildings 135,037 133,534
Plant and mill equipment 386,949 384,020
Furniture, fixtures and equipment 31,333 29,990
------------- -------------
568,506 562,594
Accumulated depreciation (157,739) (145,836)
------------- -------------
410,767 416,758
Construction in progress 15,794 10,833
------------- -------------
Total property, plant and equipment 426,561 427,591
Brands and trademarks 190,250 189,984
Other assets 8,291 8,734
------------- -------------
Total assets $ 740,972 $ 748,410
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 39,284 $ 36,264
Accrued expenses 17,690 17,134
Income tax payable 830 --
Current maturities of long-term debt 2,000 2,040
------------- -------------
Total current liabilities 59,804 55,438
Long-term debt, less current maturities 268,553 286,795
Deferred income taxes 63,412 63,691
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value:
Authorized shares - 10,000,000 -- --
Issued and outstanding shares - none
Class A common stock, $.001 par value:
Authorized shares - 75,000,000 21 20
Issued and outstanding shares - 20,559,997 and 18,430,811 at
April 1, 2005 and 20,233,855 and 18,108,139 at October 1, 2004
Class B common stock, $.001 par value:
Authorized shares - 25,000,000 -- --
Issued and outstanding shares - none
Additional paid-in capital 237,685 232,184
Treasury stock, 2,129,186 shares at April 1, 2005 and 2,125,696
shares at October 1, 2004, at cost (51,700) (51,657)
Unearned compensation (2,201) (2,556)
Retained earnings 158,350 160,720
Accumulated other comprehensive income 7,048 3,775
------------- -------------
Total stockholders' equity 349,203 342,486
------------- -------------
Total liabilities and stockholders' equity $740,972 $748,410
============= =============
See accompanying notes to consolidated financial statements.
3
AMERICAN ITALIAN PASTA COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
Three Months Ended Six Months Ended
April 1, April 2, April 1, April 2,
2005 2004 2005 2004
------------ ------------ ------------ ------------
Revenues: (unaudited) (unaudited)
Retail $74,746 $ 85,208 $ 150,431 $ 160,182
Institutional 25,313 28,139 48,749 54,764
------------ ------------ ------------ ------------
Total revenues 100,059 113,347 199,180 214,946
Cost of goods sold 75,685 78,542 152,101 148,287 `
New product development and start-up expenses -- 2,627 -- 2,627
------------ ------------ ------------ ------------
Gross profit 24,374 32,178 47,079 64,032
Percent of total revenues 24.4% 28.4% 23.6% 29.8%
Selling and marketing expense 11,923 14,384 24,171 27,962
General and administrative expense 3,907 3,691 7,224 6,710
------------ ------------ ------------ ------------
Operating profit 8,544 14,103 15,684 29,360
------------ ------------ ------------ ------------
Percent of total revenues 8.5% 12.4% 7.9% 13.7%
Interest expense, net 4,508 2,819 8,422 5,946
------------ ------------ ------------ ------------
Other income (expense):
Loss on disposition of fixed assets (551) -- (551) --
Other 172 -- 172 --
------------ ------------ ------------ ------------
Total other expense (379) -- (379) --
------------ ------------ ------------ ------------
Income before income tax expense 3,657 11,284 6,883 23,414
Income tax provision 1,280 3,723 2,409 7,726
------------ ------------ --- ------------ ------------
Net income $ 2,377 $ 7,561 $ 4,474 $ 15,688
============ ============ ============ ============
Percent of total revenues 2.4% 6.7% 2.2% 7.3%
Basic earnings per common share:
Net income per common share $ 0.13 $ 0.42 $ 0.25 $ 0.87
============ ============ ============ ============
Weighted average common shares outstanding
18,293 17,996 18,203 18,021
============ ============ ============ ============
Diluted earnings per common share:
Net income per common share $
$ 0.13 $ 0.41 $ 0.24 0.84
============ ============ ============ ============
Weighted average common shares outstanding
18,523 18,602 18,425 18,621
============ ============ ============ ============
Cash dividend declared per common share $0.1875 $ 0.1875 $0.3750 $ 0.1875
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
4
AMERICAN ITALIAN PASTA COMPANY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands)
Six Months Ended
April 1,
2005
-------------
(Unaudited)
Class A Common Shares
Balance, beginning of period 20,234
Issuance of shares of Class A Common stock to option holders and other issuances
326
---------
Balance, end of period 20,560
=========
Class A Common Stock
Balance, beginning and end of period $ 21
=========
Additional Paid-in Capital
Balance, beginning of period $ 232,184
Issuance of shares of Class A Common stock to option holders and other issuances 3,845
Tax benefit from stock compensation
1,656
---------
Balance, end of period $ 237,685
=========
Treasury Stock
Balance, beginning of period $ (51,657)
Purchase of treasury stock (43)
---------
Balance, end of period $ (51,700)
=========
Unearned Compensation
Balance, beginning of period $ (2,556)
Cancellation of common stock 77
Issuance of common stock (149)
Earned compensation 427
---------
Balance, end of period $ (2,201)
=========
Accumulated Other Comprehensive Income (Loss)
Foreign currency translation adjustment:
Balance, beginning of period $ 4,705
Change during the period 1,857
---------
Balance, end of period
6,562
---------
Interest rate swaps and forward exchange contract fair value adjustments:
Balance, beginning of period (930)
Change during the period 1,416
---------
Balance, end of period 486
---------
Total accumulated other comprehensive income $ 7,048
=========
Retained Earnings
Balance, beginning of period $ 160,720
Dividends declared (6,844)
Net income
4,474
---------
Balance, end of period $ 158,350
---------
Total Stockholders' Equity $ 349,203
=========
See accompanying notes to consolidated financial statements.
5
AMERICAN ITALIAN PASTA COMPANY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
Three Months Ended Six Months Ended
April 1, April 2, April 1, April 2,
2005 2004 2005 2004
------------ ------------ ------------ -------------
(unaudited) (unaudited)
Net income $ 2,377 $ 7,561 $ 4,474 $15,688
Other comprehensive income (loss):
Net unrealized gains (losses) on qualifying
cash flow hedges (net of income
tax benefit (expense) of ($275), $370, ($790)
and ($122), respectively) 494 (752) 1,416 248
Foreign currency translation adjustment (net of
income tax benefit (expense) of $990, $448,
$1,904, and ($1,179), respectively) (2,035) (910) 1,857 2,393
------------ ------------ ------------ -------------
Total other comprehensive income (loss) 1,541 (1,662) 3,273 2,641
------------ ------------ ------------ -------------
Comprehensive income $ 836 $ 5,899 $ 7,747 $18,329
============ ============ ============ =============
See accompanying notes to consolidated financial statements.
6
AMERICAN ITALIAN PASTA COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Six Months Ended
April 1, April 2,
2005 2004
------------ ------------
(Unaudited)
OPERATING ACTIVITIES:
Net income $ 4,474 $ 15,688
Adjustments to reconcile net income to net cash provided by operations:
Depreciation and amortization 14,451 12,939
Deferred income tax expense 1,499 5,990
Loss on disposition of fixed assets 666 --
Changes in operating assets and liabilities:
Trade and other receivables, net 8,203 2,861
Prepaid expenses and deposits 435 (2,963)
Inventory (2,873) (9,152)
Accounts payable and accrued expenses 5,160 (7,892)
Income taxes 830 549
Other (373) (664)
-------- --------
Net cash provided by operating activities 32,472 17,356
-------- --------
INVESTING ACTIVITIES:
Additions to property, plant and equipment (10,791) (14,296)
Purchase of pasta brands -- (4,280)
-------- --------
Net cash used in investing activities (10,791) (18,576)
-------- --------
FINANCING ACTIVITIES:
Proceeds from issuance of debt 10,953 10,223
Principal payments on debt and capital lease obligations (29,076) (9,041)
Proceeds from issuance of common stock, net of issuance costs 3,137 1,772
Dividends paid (6,844) --
Purchase of treasury stock (43) (1,013)
Other (834) (269)
-------- --------
Net cash (used in) provided by financing activities (22,707) 1,672
-------- --------
Effect of exchange rate changes on cash 47 (296)
-------- --------
Net increase (decrease) in cash and temporary investments (979) 156
Cash and temporary investments at beginning of period 4,350 6,465
-------- --------
Cash and temporary investments at end of period $ 3,371 $ 6,621
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Note payable exchanged for treasury stock $ -- $ 4,000
======== ========
See accompanying notes to consolidated financial statements.
7
AMERICAN ITALIAN PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the six months ended April 1, 2005 are not
necessarily indicative of the results that may be expected for the fiscal year
ended September 30, 2005. For further information, refer to the consolidated
financial statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the fiscal year ended October 1, 2004.
American Italian Pasta Company (the "Company" or "AIPC") uses a 52/53 week
financial reporting cycle with a fiscal year that ends on the last Friday of
September or the first Friday of October. The Company's first three fiscal
quarters end on the Friday last preceding December 31, March 31, and June 30 or
the first Friday of the following month. For purposes of this Form 10-Q, the
first and second fiscal quarters of fiscal years 2005 and 2004 included thirteen
weeks of activity.
Reclassifications - Certain amounts from the prior year have been reclassified
to conform to the current year's presentation. Deferred debt issuance cost
amortization expense totaling $230,000 and $460,000 has been reclassified from
general and administrative expense to interest expense for the three-month and
six-month periods ended April 2, 2004.
2. STOCK OPTIONS/EARNINGS PER SHARE
A summary of the Company's stock option activity is as follows:
Number
of Shares
-----------
Outstanding at October 1, 2004 2,810,562
Exercised (311,575)
Granted 264,800
Canceled/expired (76,897)
-----------
Outstanding at April 1, 2005 2,686,890
===========
Dilutive securities, consisting of options to purchase the Company's Class A
common stock, included in the calculation of diluted weighted average common
shares, were 230,000 and 222,000 shares for the three-month and six-month
periods ended April 1, 2005 and 606,000 and 600,000 shares for the three-month
and six-month periods ended April 2, 2004.
The following pro forma information regarding net income and earnings per share
has been determined as if the Company had accounted for its employee stock
options under the fair value method of SFAS No. 123, "Accounting for Stock-Based
Compensation."
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the vesting period of these options. The Company's
pro forma information follows (in thousands, except for earnings per share
information, as presented below):
Three Months Ended Six Months Ended
April 1, 2005 April 2, 2004 April 1, 2005 April 2, 2004
--------------- --------------- -------------- ---------------
Net income $ 2,377 $ 7,561 $ 4,474 $ 15,688
Compensation cost under the fair value method (643) (976) (1,091) (1,849)
--------------- --------------- -------------- --------------
Pro forma net income $ 1,734 $ 6,585 $ 3,383 $ 13,839
=============== =============== ============== ==============
Pro forma earnings per share:
Basic $ 0.09 $ 0 .37 $ 0.19 $ 0 .77
=============== =============== ============== ==============
Diluted $ 0.09 $ 0 .35 $ 0.18 $ 0 .74
=============== =============== ============== ==============
8
3. RESTRUCTURING AND RIGHTSIZING PROGRAM
The table below sets forth the significant cost components and related activity
in the restructuring program as discussed in our Annual Report on Form 10-K
filed on December 15, 2004. Certain non-cash adjustments have been made to
reflect severance and supply agreement costs that will not be incurred due to
the decision to partially reactivate the Kenosha facility during the fiscal year
2005. These non-cash adjustments are reflected in the accompanying 2005
Statement of Operations (in thousands):
Balances at Balance at
October 1, Non-Cash April 1,
2004 Adjustments Payments 2005
-------------- ------------- -------------- --------------
Employee severance and
termination benefits $ 279 $ (216) $ (63) $ --
Lease costs 559 17 (576) --
Supply agreement costs 700 (276) -- 424
Other 94 44 (138) --
-------------- ------------- -------------- --------------
Total $ 1,632 $ (431) $ (777) $ 424
============== ============= ============== ==============
As of April 1, 2005, the remaining liability related to the accrual of the
restructuring costs was $424,000 and is included in "Accrued expenses" on the
accompanying April 1, 2005 consolidated balance sheet.
4. INVENTORIES
Inventories are carried at standard costs adjusted for variances, which
approximates the lower of cost, determined on a first-in, first-out (FIFO)
basis, or market. The Company periodically reviews its inventory for
slow-moving, damaged or discontinued items and provides reserves to reduce such
items identified to their recoverable amount. Inventories consist of the
following (in thousands):
April 1, October 1,
2005 2004
------------ ------------
Finished goods $ 47,620 $ 43,564
Raw materials, additives, packaging materials and work-in-process 16,185 17,140
------------ ------------
$ 63,805 $ 60,704
============ ============
5. CONTINUED DUMPING AND SUBSIDY OFFSET ACT OF 2000
On October 28, 2000, the U.S. government enacted the "Continued Dumping and
Subsidy Offset Act of 2000" (the "Act"), commonly known as the Byrd Amendment,
which provides that assessed anti-dumping and subsidy duties liquidated by the
Department of Commerce on Italian and Turkish imported pasta after October 1,
2000 will be distributed to affected domestic producers. The legislation
creating the dumping and subsidy offset payment provides for annual payments
from the U.S. government. The Company recognizes the Byrd Amendment payment as
revenue in the quarter in which the amount, and the right to receive the
payment, can be reasonably determined.
In the first quarter of fiscal year 2005, the Company received notice from the
Department of Commerce of the amount to be received and recorded approximately
$1,000,000 as revenue. There was no revenue recorded in the second quarter of
2005 or the first quarter of fiscal year 2004. However, the Company received
notice from the Department of Commerce of the amount to be received and recorded
approximately $1,500,000 in the second quarter of 2004 and recorded the amount
as revenue. It is not possible to reasonably estimate the potential amount, if
any, to be received in future periods beyond fiscal year 2005.
6. AMENDMENT TO CREDIT FACILITY
On November 9, 2004, the Company's credit facility was amended to revise the
definitions of "Consolidated EBITDA" and "Fixed Charge Coverage Ratio" and to
increase the "Maximum Leverage Ratio" and to decrease the minimum required
Consolidated EBITDA, all related to certain financial covenants in effect in
fiscal year 2004. In addition, the lenders were granted a collateral interest in
substantially all of the Company's tangible and intangible domestic assets.
9
7. DIVIDENDS
The Company declared and paid dividends totaling $6,844,000 in the six-month
period ended April 1, 2005 ($0.3750 per share).
8. SUBSEQUENT EVENT
On April 27, 2005, the Company's Board of Directors declared a quarterly
dividend of $0.1875 per share, payable to shareholders of record as of May 20,
2005, to be paid on June 8, 2005.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The discussion set forth below, as well as other portions of this quarterly
report on Form 10-Q ("Quarterly Report"), contains statements concerning
potential future events. Such forward-looking statements are based upon
assumptions by our management, as of the date of this Quarterly Report,
including assumptions about risks and uncertainties faced by AIPC. Readers can
identify these forward-looking statements by their use of such verbs as expects,
anticipates, believes or similar verbs or conjugations of such verbs. If any of
our assumptions prove incorrect or should unanticipated circumstances arise, our
actual results could materially differ from those anticipated by such
forward-looking statements. The differences could be caused by a number of
factors or combination of factors including, but not limited to, those factors
identified in our Annual Report on Form 10-K filed on December 15, 2004. That
report has been filed with the Securities and Exchange Commission (the "SEC" or
the "Commission") in Washington, D.C. and can be obtained by contacting the
SEC's public reference operations or through the SEC's web site on the World
Wide Web at http://www.sec.gov. Readers are strongly encouraged to consider
those factors when evaluating any such forward-looking statements. We will not
update any forward-looking statements in this Quarterly Report to reflect future
events or developments.
In this Quarterly Report, we have provided information about our "free cash
flow". This is a non-GAAP financial measure which management believes provides
useful information about operating results and cash generation. These amounts
should be read in conjunction with our GAAP financial statements included in
this report.
Overview
We believe we are the largest producer of dry pasta in North America. We began
operations in 1988. We believe our singular focus on pasta, our
vertically-integrated facilities and highly efficient production facilities
focused primarily on specific market segments and our highly skilled workforce
make us a more efficient company and enable us to produce high-quality pasta at
historically very competitive costs. We believe that the combination of our low
cost structure, our product strategy of offering branded, private label,
imported and specialty products, our scalable production facilities and our key
customer relationships create competitive advantages.
We generate revenues in two customer markets: retail and institutional. Retail
market revenues include the sales of our pasta products to customers who resell
the pasta in retail channels (including sales to grocery, club, mass merchant
and discount stores) and encompass sales of our branded, private label, imported
and specialty products. These revenues represented 75.5% and 74.5% of our total
revenue for the six-month periods ended April 1, 2005 and April 2, 2004,
respectively. Institutional market revenues include revenues from product sales
to customers who use our pasta as an ingredient in food products or who resell
our pasta in the foodservice (meals away from home) market. It also includes
revenues from sales to government agencies and other customers that we pursue
periodically. The institutional market represented 24.5% and 25.5% of our total
revenue for the six-month periods ended April 1, 2005 and April 2, 2004,
respectively.
Average sales prices for our non-branded products vary depending on
customer-specific packaging and raw material requirements, product manufacturing
complexity and other service requirements. Average prices for our branded
products are also based on competitive market factors. Average retail and
institutional prices also vary due to changes in the relative share of customer
revenues and item specific sales volumes (i.e., product sales mix). Generally,
average retail sales prices are higher than institutional sales prices. Selling
prices of our branded products are significantly higher than selling prices in
our other business units, including private label. This results in higher
revenues and gross profits than our non-branded businesses. Revenues are
reported net of cash discounts, product returns, and certain promotional and
slotting allowances.
We seek to develop strategic customer relationships with food industry leaders
that have substantial pasta requirements. We have a long-term supply agreement
through December 31, 2006 with Sysco, and other non-contractual arrangements
with food industry leaders that provide for the "pass-through" of direct
material cost and certain other cost changes as pricing adjustments. The
pass-throughs are generally limited to actual changes in cost and, as a result,
impact margins in periods of changing costs and prices. The pass-throughs are
generally effective 30 to 90 days following such cost changes and thereby
significantly reduce the long-term exposure of our operating results to the
volatility of raw material costs. These pass-through arrangements also require
us to pass on the benefits of any price decreases in raw material and certain
other costs.
Our cost of goods sold consists primarily of raw materials, packaging,
manufacturing costs (including depreciation) and distribution costs. A
significant portion of our cost of goods sold is durum wheat. We purchase durum
wheat on the open market and, consequently, those
10
purchases are subject to fluctuations in cost. We manage our durum wheat cost
risk through durum wheat cost "pass-through" agreements in long-term contracts
and other non-contractual arrangements with our customers, as discussed above,
and advance purchase contracts for durum wheat which are generally less than
twelve months in duration.
Our transportation costs (including fuel costs) are now expected to be higher
than originally planned during the remainder of fiscal year 2005. Such costs are
anticipated to continue at, or above, the levels experienced during the first
two fiscal quarters, especially considering the recent escalation in fuel costs.
Accordingly, our operating profit and margins for the remainder of fiscal year
2005 are likely to be negatively impacted by transportation costs, as compared
to earlier expectations.
While we considered projected transportation cost increases in determining our
price increases over the last two quarters, expected future costs will be higher
than planned and will not be fully absorbed by such price increases when
incurred. Additional price increases may be implemented in the future to reflect
the additional transportation costs; however, the timing and extent of such
future adjustments has not yet been determined.
Our capital asset strategy is to achieve low-cost production through vertical
integration and investment in the most current pasta-making assets and
technologies. The manufacturing and distribution related capital assets that
have been, or will be, acquired to support this strategy are depreciated over
their respective economic lives. Because of the capital-intensive nature of our
business, we believe our depreciation expense for production and distribution
assets may be higher than that of many of our competitors. Depreciation expense
is a component of inventory cost and cost of goods sold.
Selling and marketing costs constituted 12.1% and 13.0% of revenues for the
six-month periods ended April 1, 2005 and April 2, 2004, respectively.
Our interest costs are expected to be higher in the second half of the fiscal
2005 year than in the first half of fiscal 2005.
Critical Accounting Policies
This discussion and analysis discusses our results of operations and financial
condition as reflected in our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States. As discussed in Note 1 to our October 1, 2004 consolidated
financial statements included in our Annual Report on Form 10-K filed on
December 15, 2004, the preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires our
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and reported amounts of revenues and
expenses during the reporting periods. On an ongoing basis, our management
evaluates its estimates and judgments, including those related to the impairment
of long-lived and intangible assets, the method of accounting for stock options,
and the estimates used to record allowances for doubtful accounts, reserves for
slow-moving, damaged and discontinued inventory and derivatives. Our management
bases its estimates and judgments on its substantial historical experience and
other relevant factors, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. See Note 1 to our October 1, 2004 consolidated
financial statements included in our Annual Report on Form 10-K filed on
December 15, 2004, for a complete listing of our significant accounting
policies. Our most critical accounting policies are described below.
Impairment Testing of Intangible Assets: In accordance with Statement of
Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible
Assets," we do not amortize the cost of intangible assets with indefinite lives,
such as our brands and trademarks. SFAS No. 142 requires that we perform certain
fair value based tests of the carrying value of indefinite lived intangible
assets at least annually and more frequently should events or changes in
circumstances indicate that the carrying amount of an asset may not be fully
recoverable. We completed our impairment testing at the end of fiscal year 2004
and determined that no material impairment existed. These impairment tests are
impacted by judgments as to future cash flows and other considerations. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell. Future events or trends
could cause our management to conclude that impairment indicators exist and that
the value of intangible assets is impaired.
Long Lived Assets: In accordance with SFAS No. 144, "Accounting For Impairment
or Disposal of Long-lived Assets," we review long-lived assets for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. We evaluate recoverability of assets to be held
and used by comparing the carrying amount of an 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 amount of the assets exceeds the fair value of the assets. Assets to be
disposed of are reported at the lower of the carrying amount or fair value less
costs to sell.
In conjunction with our restructuring and rightsizing program, we suspended full
operations at our Kenosha, Wisconsin manufacturing facility. Although we
partially reactivated this facility in October 2004, for a temporary period, and
the plant will continue to be available for production requirements as we deem
necessary, we currently anticipate operations to be substantially suspended into
fiscal 2006. We have
11
reviewed this facility for impairment and have determined that this asset is not
impaired. Future events could cause our management to conclude that impairment
indicators exist and that the value of intangible assets is impaired.
Stock Options: We have elected to follow Accounting Principles Board Opinion
(APB) No. 25, "Accounting for Stock Issued to Employees," and related
Interpretations in accounting for our employee stock options and have adopted
the pro forma disclosure requirements under SFAS No. 123 "Accounting for
Stock-Based Compensation." Under APB No. 25, because the exercise price of our
employee stock options is equal to the market price of the underlying stock on
the date of grant, no compensation expense is recognized.
Pro forma information regarding net income and earnings per share is required by
SFAS No. 123 and has been determined as if we had accounted for our employee
stock options under the fair value method of SFAS No. 123. The fair value for
these options was estimated at the date of grant using a Black-Scholes option
pricing model with the following weighted-average assumptions: risk-free
interest rate of 1.33% for fiscal years 2004 and 2005; dividend yield of 2.0%
for fiscal years 2004 and 2005; a volatility factor of the expected market price
of our common stock of .35 for fiscal year 2004 and 2005; and a weighted-average
expected life of the options of five years.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options, which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
our employee stock options have characteristics significantly different from
those traded options, and because changes in the subjective input assumptions
can materially affect the fair value estimate, in management's opinion, the
existing models do not necessarily provide a reliable single measure of the fair
value of our employee stock options.
In December 2004, the Financial Accounting Standards Board issued SFAS No. 123R,
"Share-Based Payment," which is a revision of SFAS No. 123, "Accounting for
Stock-Based Compensation" and is applicable to fiscal years beginning after June
15, 2005. SFAS No. 123R requires all share-based payments to employees,
including grants of employee stock options, to be recognized in the income
statement based on their fair values. Pro forma disclosure is no longer an
alternative.
We currently expect to adopt SFAS No. 123R at the beginning of our 2006 fiscal
year. The adoption of SFAS No. 123R will have a significant impact on our
reported results of operations, although it will have no impact on our cash flow
or overall financial position. Had we adopted SFAS No. 123R in prior periods,
the impact of that Statement, net of taxes, would have been approximately $3.3
million, $5.2 million, and $2.9 million in fiscal years 2004, 2003 and 2002,
respectively, assuming we continue to use the Black-Scholes option valuation
model. The full impact of adoption of the Statement cannot be predicted at this
time as it will depend, in part, on the levels and value of share-based payments
granted in the future.
Prior to the adoption of SFAS 123R, we are considering accelerating the vesting
of certain unvested options awarded to employees and officers that have exercise
prices significantly greater than the current share price of the stock and
vesting periods ending in fiscal years 2005 and 2006. The accelerated vesting
would result in our not being required to recognize any compensation expense
associated with these option grants in future periods included in the above
disclosure.
Accounts Receivable - Significant Customers: During the six-month period ended
April 1, 2005, we generated approximately 26% of our revenues and corresponding
accounts receivable from sales to two multi-national customers. If these primary
customers experience significant adverse conditions in their industry or
operations, they may not be able to meet their ongoing financial obligations to
us for prior sales or complete the purchase of additional products from us under
the terms of our existing purchase and sale commitments.
Allowance for Doubtful Accounts: We evaluate the collectibility of our accounts
receivable based on a combination of factors. In circumstances where we are
aware of a specific customer's inability to meet its financial obligations to us
(e.g. bankruptcy filings, and substantial down-grading of credit scores), we
record a specific reserve for bad debts against amounts due to reduce the net
recognized receivable to the amount we reasonably believe will be collected. For
all other customers, we recognize reserves for bad debts based on the length of
time the receivables are past due, and our historical experience. If
circumstances change (i.e., higher than expected defaults or an unexpected
material adverse change in a major customer's ability to meet its financial
obligations to us), our estimates of the recoverability of amounts due us could
be reduced by a material amount.
Reserve for Slow-Moving, Damaged and Discontinued Inventory: We carry our
inventory at standard costs, adjusted for capitalized variances, which
approximate the lower of cost, determined on a first in, first-out (FIFO) basis,
or market. We periodically review our inventory for slow-moving, damaged and
discontinued items and provide reserves to reduce such items identified to our
estimate of their future recoverable amounts.
Promotional Allowances: Promotional allowances related to our sales are recorded
at the time revenue is recognized. Such allowances, where applicable, are
estimated based on anticipated volume and promotional spending with specific
customers.
Derivatives: We hold derivative financial instruments to hedge a variety of risk
exposures including interest rate risks associated with variable rate long-term
debt and foreign currency risks associated with our Italian operations. These
derivatives qualify for hedge accounting as discussed in detail in Note 1 to our
October 1, 2004 consolidated financial statements included in our Annual Report
on Form 10-K filed on December 15, 2004. We do not participate in speculative
derivatives trading. Hedge accounting results when we designate and document the
hedging
12
relationships involving these derivative instruments. While we intend to
continue to meet the conditions for hedge accounting, if hedges did not qualify
as highly effective or if we did not believe that forecasted transactions would
occur, the changes in the fair value of the derivatives used as hedges would be
reflected in earnings.
To hedge foreign currency risks, we use futures contracts. The fair values of
these instruments are determined from market quotes. These forward contracts are
valued in a manner similar to that used by the market to value exchange-traded
contracts; that is, using standard valuation formulas with assumptions about
future foreign currency exchange rates derived from existing exchange rates, and
interest rates observed in the market. To hedge interest rate risks, an interest
rate swap is used to effectively convert a portion of variable rate debt to
fixed rate. This instrument is valued using the market standard methodology of
netting the discounted future fixed cash receipts and the discounted expected
variable cash payments. The variable cash payments are based on an expectation
of future interest rates derived from observed market interest rate curves. We
have not changed our methods of calculating these fair values or developing the
underlying assumptions. The values of these derivatives will change over time as
cash receipts and payments are made and as market conditions change. Our
derivative instruments are not subject to multiples or leverage on the
underlying commodity or price index. Information about the fair values, notional
amounts, and contractual terms of these instruments can be found in Note 1 to
our October 1, 2004 consolidated financial statements included in our Annual
Report on Form 10-K filed on December 15, 2004, and the section titled
"Quantitative and Qualitative Disclosures About Market Risk."
We consider our historical business patterns and our regularly updated forecasts
in determining the amounts of our foreign inventory purchases to hedge. We
combine the forecasts with historical observations to establish the percentage
of our forecast we are assuming to be probable of occurring, and therefore
eligible to be hedged. The purchases are hedged for exposures to fluctuations in
foreign currency exchange rates.
We do not believe we are exposed to more than a nominal amount of credit risk in
our interest rate and foreign currency hedges as the counter parties are
established, well-capitalized financial institutions. Our exposure is in liquid
currency (Euros), so there is minimal risk that appropriate derivatives to
maintain our hedging program would not be available in the future.
Restructuring and Rightsizing Program
The Company implemented a restructuring and rightsizing program in the fourth
quarter of fiscal 2004, as discussed in the Company's Annual Report on Form 10-K
filed on December 15, 2004. During the fourth quarter of fiscal 2004, production
and manufacturing cost inefficiencies were experienced in the transition period
after the Company's restructuring program changes were implemented. This
resulted in higher than projected operating costs due to product waste,
production inefficiencies and incremental distribution costs. At the beginning
of the 2005 fiscal year, the Company expected that these operating processes and
the related cost inefficiencies would come into line during the first two fiscal
quarters. As anticipated, improvements in operating costs per unit manufactured
were achieved during the first six months of fiscal year 2005 and continued
improvements are expected during the remaining six months. These improvements
should allow the Company to achieve its planned levels of production and cost
efficiency in the last half of the fiscal year.
The operational factors surrounding the implementation of the restructuring and
the concurrent reductions in inventory levels resulted in some specific product
availability issues during the fourth quarter of 2004, which continued into the
first six months of fiscal 2005. To regain higher levels of customer service, in
mid-October 2004, the Company partially re-activated the Kenosha, Wisconsin
facility that was idled as part of the restructuring and rightsizing program. In
addition, the plant has been utilized to balance product needs that have
resulted from higher levels of private label and ingredient business retained
subsequent to the implementation of the Company's pricing strategy. Consistent
with the Company's strategy outlined at the time the facility was idled, the
plant will continue to be available for production requirements as the Company
deems necessary. By the end of the second quarter 2005, service levels had again
reached our overall historical standards.
QUARTER ENDED APRIL 1, 2005, COMPARED TO QUARTER ENDED APRIL 2, 2004
Results of Operations
Revenues. Total revenues decreased $13.3 million, or 11.7%, to $100.1 million
for the three-month period ended April 1, 2005, from $113.3 million for the
three-month period ended April 2, 2004. Revenues decreased $9.2 million, or
8.1%, due to volume declines and decreased $4.1 million, or 3.6%, due to lower
average selling prices and changes in sales mix.
Revenues for the Retail market decreased $10.5 million, or 12.3%, to $74.7
million for the three-month period ended April 1, 2005 from $85.2 million for
the three-month period ended April 2, 2004. Revenues decreased $5.3 million, or
6.2%, due to volume declines and decreased $5.2 million, or 6.1%, due to lower
average selling prices and changes in the sales mix. Our branded business
revenues decreased by approximately 26.7%, offset by an increase of 5.7% for our
private label business. Also impacting the comparability of revenue is the $1.5
million recognized in the three-month period ended April 2, 2004, related to the
payment received from the U.S. Government under the Continued Dumping and
Subsidy Offset Act of 2000, while no such amount was recognized in the
three-month period ended April 1, 2005. The sales of our low and reduced carb
product lines continued at our lower level of expectation. Total revenues from
these product lines were $800,000 in the three-month period ended April 1, 2005,
$7.3 million lower than the prior year's quarter, due to the higher introductory
sales of reduced carb products last year.
13
Significant brand volume decreases of 21.6% (mainly driven by lower reduced carb
sales, decreased Mueller's brand promotions and Golden Grain-Mission brand
declines of 41.6%) were offset by increases for private label/club of 2.6%.
Actual volume declines were higher than originally anticipated, primarily due to
the Golden Grain-Mission re-positioning and the loss of certain key seasonal
promotional events in the second quarter because of recent service issues. We
expect that promotional events will generally return to original planned levels
at our major accounts in the last six months of fiscal year 2005.
We believe that the market performance of the Golden Grain-Mission brand will
significantly improve during the remainder of the year based on more promotional
support and increased customer acceptance. We will continue to closely watch the
performance of our brands as it relates to specific customers and markets, as
well as low price competitive events. We will tactically defend our market share
where appropriate, but will not change our overall strategy of improving
profits.
Revenues for the Institutional market decreased $2.8 million, or 10.0%, to $25.3
million for the three-month period ended April 1, 2005, from $28.1 million for
the three-month period ended April 2, 2004. Revenues decreased $3.4 million, or
11.9%, due to volume declines, and increased $600,000, or 1.9% due to higher
average selling prices and changes in sales mix. The volume decline was due to
planned reductions in certain high volume, low margin ingredient and contract
business that has been discontinued. Food Service volumes also decreased from
the prior year quarter, which benefited from significant one-time military sales
by a major customer.
Gross Profit. Gross profit decreased $7.8 million, or 24.3%, to $24.4 million
for the three-month period ended April 1, 2005, from $32.2 million for the
three-month period ended April 2, 2004. Gross profit was impacted by a number of
factors compared to the prior year's second quarter; primarily lower revenues
described above, combined with significantly higher transportation costs. In
addition, certain operating costs continued at higher levels resulting from
inefficiencies following the restructuring. Higher transportation costs have
been experienced primarily due to the continued transportation industry
environment and significantly higher fuel costs. Transportation costs during the
second quarter, as a percentage of revenues, increased from the prior year's
quarter by approximately 180 basis points (6.9% of revenues this year, as
compared to 5.1% of revenues last year).
Gross profit, as a percentage of revenues, decreased to 24.4% for the
three-month period ended April 1, 2005 from 28.4% for the three-month period
ended April 2, 2004 due to the factors discussed above.
Selling and Marketing Expense. Selling and marketing expense decreased $2.5
million, or 17.1%, to $11.9 million for the three-month period ended April 1,
2005, from $14.4 million for the three-month period ended April 2, 2004. This
decrease is primarily related to higher costs recognized in the prior year
relating to the introduction of our reduced carb product line. In addition, such
costs decreased in the second quarter due to lower branded promotional spending,
reduced consumer marketing spending and lower payroll costs. Selling and
marketing expense, as a percentage of revenue, decreased to 11.9% for the
three-month period ended April 1, 2005, from 12.7% for the comparable prior year
period due to the reductions discussed above.
General and Administrative Expense. General and administrative expenses
increased $200,000, or 5.9%, to $3.9 million for the three-month period ended
April 1, 2005, from $3.7 million for the three-month period ended April 2, 2004.
The increase is primarily attributable to increased costs of regulatory
compliance costs (Sarbanes-Oxley) and additional reserves for doubtful accounts
related to specifically identified uncollectible accounts and customer
deductions. General and administrative expense, as a percentage of revenues,
increased to 3.9% for the three-month period ended April 1, 2005, from 3.3% for
the comparable prior year period due to the relatively fixed nature of these
costs, combined with decreasing revenue in the quarter.
Operating Profit. Operating profit for the three-month period ended April 1,
2005, was $8.5 million, decreasing $5.6 million or 39.4% from the $14.1 million
reported for the three-month period ended April 2, 2004. Operating profit
decreased, as a percentage of revenues, to 8.5% for the three-month period ended
April 1, 2005, from 12.4% for the three-month period ended April 2, 2004, as a
result of the factors discussed above.
Interest Expense. Interest expense for the three-month period ended April 1,
2005, was $4.5 million, increasing $1.7 million from the $2.8 million reported
for the three-month period ended April 2, 2004. The increase is attributable to
higher average borrowing rates, a higher interest rate spread under our lending
agreement and increased amortization of deferred debt issuance costs. These
increases were offset, in part, by lower average outstanding debt.
Other Income (Expense). Other expense for the three-month period ended April 1,
2005 was $400,000, consisting of a $600,000 loss on disposition of fixed assets
offset by $200,000 in other income.
Income Tax. Income tax expense for the three-month period ended April 1,
2005, was $1.3 million, decreasing $2.4 million from the $3.7 million reported
for the three-month period ended April 2, 2004, and reflects effective income
tax rates of approximately 35.0% and 33.0%, respectively. The increase in
effective tax rates is a result of the expiration of certain tax incentives
utilized in prior years.
Net Income. Net income decreased $5.2 million, or 68.6%, to $2.4 million for the
three-month period ended April 1, 2005 from $7.6 million for the three-month
period ended April 2, 2004 due to the lower revenue and related decreased
margins and decreased operating profits, as discussed above.
14
Diluted earnings per common share were $0.13 per share for the three-month
period ended April 1, 2005, compared to $0.41 per share for the three-month
period ended April 2, 2004. Net income, as a percentage of net revenues, was
2.4% for the three-month period ended April 1, 2005, as compared to 6.7% in the
same period of the prior year.
SIX MONTHS ENDED APRIL 1, 2005, COMPARED TO SIX MONTHS ENDED APRIL 2, 2004.
Results of Operations
Revenues. Revenues decreased $15.8 million, or 7.3%, to $199.2 million for the
six-month period ended April 1, 2005, from $214.9 million for the six-month
period ended April 2, 2004. Revenues decreased $12.9 million, or 6.0% due to
volume declines and decreased $2.9 million, or 1.3%, due to lower average
selling prices and changes in sales mix. Overall revenues were affected by
declining category sales due in part to reduced carbohydrate awareness trends in
the American diet.
Revenues for the Retail market decreased $9.8 million, or 6.1%, to $150.4
million for the six-month period ended April 1, 2005, from $160.2 million for
the six-month period ended April 2, 2004. Revenues decreased $1.4 million, or
0.9%, due to volume declines and decreased $8.4 million, or 5.2%, due to lower
average selling prices and changes in sales mix. Our branded business revenues
decreased by approximately 15.7%, offset by an increase of 5.5% for our private
label business. The sales of our low and reduced carb product lines continued at
our lower level of expectation. Total revenues from these product lines were
$1.9 million in the six-month period ended April 1, 2005, $8.8 million lower
than the prior year's six-month period, due to the higher introductory sales of
reduced carb products last year.
Brand volume decreases of 12.0% (mainly driven by lower reduced carb sales,
decreased Mueller's brand promotions and Golden Grain-Mission brand declines of
36.1%) were offset by increases for private label/club of 6.0%. Actual volume
declines were higher than anticipated, primarily due to the Golden Grain-Mission
re-positioning and the loss of certain key seasonal promotional events in the
six-month period because of recent service issues. We expect that promotional
events will generally return to original planned levels at our major accounts in
the last six months of fiscal year 2005.
We believe that the market performance of the Golden Grain-Mission brand will
significantly improve during the remainder of the year based on more promotional
support and increased customer acceptance. We will continue to closely watch the
performance of our brands as it relates to specific customers and markets, as
well as low price competitive events. We will tactically defend our market share
where appropriate, but will not change our overall strategy of improving
profits.
Revenues for the Institutional market decreased $6.0 million, or 11.0%, to $48.7
million for the six-month period ended April 1, 2005, from $54.8 million for the
six-month period ended April 2, 2004. Revenues decreased $8.6 million, or 15.7%,
due to volume declines and increased $2.6 million, or 4.7%, due to higher
average selling prices and changes in sales mix. The volume decline was due to
planned reductions in certain high-volume, low-margin ingredient and contract
business that has been discontinued.
New Product Development and Start-up Costs. The new product development and
start-up costs of $2.6 million for the six-month period ended April 2, 2004
related to our reduced carb products. These costs included: formulation
development and product testing of a portfolio of low and reduced carb products;
incremental manufacturing and logistics costs including unplanned downtime on
dedicated lines, efficiency losses, and excess product waste; overcoming limited
short-term raw material availability and sourcing issues (blending,
transportation, etc.); and quality assurance, outside testing and other direct
product development costs.
Gross Profit. Gross profit decreased $17.0 million, or 26.5%, to $47.1 million
for the six-month period ended April 1, 2005, from $64.0 million for the
six-month period ended April 2, 2004. Gross profit was impacted by a number of
factors compared to the prior year's six months; primarily lower revenues
described above, combined with significantly higher transportation costs. In
addition, certain operating costs continued at higher levels resulting from
inefficiencies following the restructuring. Higher transportation costs have
been experienced primarily due to the continued transportation industry
environment and significantly higher fuel costs. Transportation costs during the
second quarter, as a percentage of revenues, increased from the prior year's
quarter by approximately 170 basis points (6.9% of revenues this year, as
compared to 5.2% of revenues last year).
Gross profit, as a percentage of revenues, decreased to 23.6% for the six-month
period ended April 1, 2005, from 29.8% for the six-month period ended April 2,
2004, due to the factors discussed above.
Selling and Marketing Expense. Selling and marketing expense decreased
$3.8 million, or 13.6%, to $24.2 million for the six-month period ended April 1,
2005, from $28.0 million for the six-month period ended April 2, 2004. This
decrease is primarily related to higher costs recognized in the prior year
relating to the introduction of our reduced carb product line. In addition, such
costs decreased in the second quarter due to lower branded promotional spending,
reduced consumer marketing spending and lower payroll costs. Selling and
marketing expense, as a percentage of revenues, decreased to 12.1% for the
six-month period ended April 1, 2005, from 13.0% for the comparable prior year
period due to the reductions discussed above.
15
General and Administrative Expense. General and administrative expense
increased $500,000, or 7.7%, to $7.2 million for the six-month period ended
April 1, 2005, from $6.7 million for the comparable prior period. This increase
is primarily attributable to increased regulatory compliance costs and
additional reserves for doubtful accounts related to specifically identified
uncollectible accounts and customer deductions. Such costs, as a percentage of
revenues, were 3.6% and 3.1% for the six-month periods ended April 1, 2005 and
April 2, 2004, respectively, due to the relatively fixed nature of these costs,
combined with decreased revenue in the six-month period.
Operating Profit. Operating profit for the six-month period ended April 1, 2005,
was $15.7 million, a decrease of $13.7 million, or 46.6%, from the $29.4 million
reported for the six-month period ended April 2, 2004. Operating profit
decreased, as a percentage of revenues, to 7.9% for the six-month period ended
April 1, 2005, from 13.7% for the six-month period ended April 2, 2004 as a
result of the factors discussed above.
Interest Expense. Interest expense for the six-month period ended April 1, 2005,
was $8.4 million, increasing $2.5 million or 41.6%, from the $5.9 million
reported for the six-month period ended April 2, 2004. The increase is
attributable to higher average borrowing rates, a higher interest rate spread
under our lending agreement, and increased amortization of deferred debt
issuance costs. These increases were offset, in part, by lower average
outstanding debt.
Other Income (Expense). Other expense for the six-month period ended April 1,
2005 was $400,000, consisting of a $600,000 loss on disposition of fixed assets
offset by $200,000 in other income.
Income Tax. Income tax expense for the six-month period ended April 1, 2005, was
$2.4 million, decreasing $5.3 million from the $7.7 million reported for the
six-month period ended April 2, 2004, and reflects an effective income tax rate
of approximately 35.0% and 33.0%, respectively. The increase in effective tax
rates is a result of the expiration of certain tax incentives utilized in prior
years.
Net Income. Net income for the six-month period ended April 1, 2005, was $4.5
million, decreasing $11.2 million or approximately 71.5% from the $15.7 million
reported for the six months ended April 2, 2004 due to the lower revenue and
related decreased margins and operating profits, as discussed above. Diluted
earnings per common share were $0.24 per share for the six-month period ended
April 1, 2005 compared to $0.84 per share for the six-month period ended April
2, 2004. Net income, as a percentage of net revenues, was 2.2% for the six-month
period ended April 1, 2005, as compared to 7.3% in the same period of the prior
year.
Financial Condition and Liquidity
Our primary sources of liquidity are cash provided by operations and borrowings
under our credit facility. Cash and temporary investments totaled $3.4 million
and net working capital totaled $56.1 million at April 1, 2005.
Our net cash provided by operating activities totaled $32.5 million and free
cash flow (operating cash flow less capital expenditures, as discussed below)
was $21.7 million, for the six-month period ended April 1, 2005, compared to
$17.4 million, and $3.1 million for the six-month period ended April 2, 2004,
respectively. These increases relate to improved working capital management,
which considerably more than offset the effects of reduced profitability.
Cash used in investing activities principally relates to investments in
production and distribution, milling and management information system assets.
Capital expenditures were $10.8 million for the six-month period ended April 1,
2005, and $14.3 million for the six-month period ended April 2, 2004. There were
no brand acquisition costs incurred in the six-month period ended April 1, 2005,
compared to $4.3 million spent in the comparable prior period.
Net cash used by financing activities was $22.7 million for the six-month period
ended April 1, 2005 compared to net cash provided by financing activities of
$1.7 million for the six-month period ended April 2, 2004. The $22.7 million of
cash used in the six-month period ended April 1, 2005, is primarily the result
of $29.1 million in principal payments on debt and capital lease obligations,
and the payment of $6.8 million in dividends, partially offset by $11.0 million
proceeds from issuance of debt used to finance operating and capital expenditure
needs and $3.1 million of proceeds received from the exercise of common stock
options. The $1.7 million of cash provided in the six-month period ended April
2, 2004, is primarily a result of $1.8 million in proceeds from issuance of
common stock with little net change in long-term debt levels.
We currently use cash generated from operations to fund capital expenditures,
repayment of debt, working capital requirements and dividend payments. We expect
that future cash requirements will principally be the same.
At April 1, 2005, we had a $400 million secured credit facility consisting of a
$300 million revolving credit facility (including availability for issuance of
letters of credit) and a $100 million term loan facility. The $400 million
facility includes $100 million dual currency availability in Euros or U.S.
dollars to finance our international business in Italy.
The facility provides for annual commitment reductions between October 1, 2002
and October 2, 2005 totaling $110 million. The credit facility matures on
October 2, 2006. The total capacity of the credit facility was $320 million as
of April 1, 2005, and there were approximately $50.9 million of borrowings
available at that time. At April 1, 2005, we had $500,000 of outstanding letters
of credit.
16
The principal maturity terms of our $400 million revolving credit facility are
as follows (in thousands):
Amount Date
------ ----
Scheduled Commitment Reduction $25,000 October 1, 2002
Scheduled Commitment Reduction 25,000 October 1, 2003
Scheduled Commitment Reduction 30,000 October 1, 2004
Scheduled Commitment Reduction 30,000 October 1, 2005
Final Maturity 290,000 October 2, 2006
-------------
$400,000
=============
Interest is charged at LIBOR/Euribor plus an applicable margin based on a
sliding scale of the ratio of the Company's total indebtedness divided by
earnings before interest, taxes, depreciation and amortization ("EBITDA"). In
addition, a commitment fee is charged on the unused facility balance based on
the sliding scale of the Company's total indebtedness divided by EBITDA. The
stated interest per the credit facility plus the commitment fee is classified as
interest expense.
Our credit agreement contains restrictive covenants which include, among other
things, financial covenants requiring minimum and cumulative earnings levels and
limitations on the payment of dividends, stock purchases and our ability to
enter into certain contractual arrangements. We do not currently expect these
limitations to have a material effect on our business or results of operations.
The Company was in compliance with the restrictive covenants as of April 1,
2005.
We utilize interest rate swap agreements and foreign exchange contracts to
manage interest rate and foreign currency exposures. The principal objective of
such financial derivative contracts is to moderate the effect of fluctuations in
interest rates and foreign exchange rates. We, as a matter of policy, do not
speculate in financial markets and therefore do not hold these contracts for
trading purposes. We utilize what are considered simple instruments, such as
forward foreign exchange contracts and non-leveraged interest rate swaps, to
accomplish our objectives.
At this time, the current and projected borrowings under our credit facility do
not exceed the facility's available commitment. The facility matures on October
2, 2006 and we anticipate that any borrowings outstanding at that time will be
refinanced. We have no other material borrowing commitments.
We believe that net cash expected to be provided by operating activities and the
cash available through our existing credit facility will be sufficient to meet
our expected capital and liquidity needs for the foreseeable future.
Impact of Recent Accounting Pronouncements - In November 2004, the FASB issued
SFAS No. 151, "Inventory Costs, an amendment of ARB 43, Chapter 4". This
Statement amends the guidance in ARB No. 43, Chapter 4, "Inventory Pricing," to
clarify the accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage) so as to require such costs to be
treated as current period charges. In addition, this Statement requires that the
allocation of fixed overhead costs to the inventoriable production costs be
based on the normal capacity of the production facilities. The provisions of
this Statement are effective for inventory costs incurred during fiscal years
beginning after June 15, 2005. The Company is currently assessing the effect
adopting SFAS No. 151 will have on its consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal exposure to market risk associated with financial instruments
relates to interest rate risk associated with variable rate borrowings and
foreign currency exchange rate risk associated with borrowings and purchases
from foreign subsidiaries denominated in a foreign currency. We occasionally
utilize simple derivative instruments such as interest rate swaps to manage our
mix of fixed and floating rate debt. We had various fixed interest rate swap
agreements with an aggregate notional amount of $110 million outstanding at
April 1, 2005. The estimated fair value of the interest rate swap agreements was
$500,000 and approximates the amount we would receive due to the termination of
the swap agreements at April 1, 2005. If interest rates for our long-term debt
under our credit facility had averaged 10% more and the full amount available
under our credit facility had been outstanding for the entire quarter, our
interest expense would have increased, and income before taxes would have
decreased by $300,000 for the three-month period ended April 1, 2005.
At April 1, 2005, we had a net investment in our Italy operations of (euro)43.6
million ($55.7 million). We hedge our net investment in our foreign subsidiaries
with Euro borrowings under our credit facility in the U.S. At April 1, 2005,
long-term debt includes obligations of (euro)40.9 million ($53.0 million).
Interest on our Euro debt is at variable rates and based on Euribor market
rates. Changes in the U.S. dollar equivalent of Euro-based borrowings are
recorded as a component of the net foreign currency translation adjustment in
the consolidated statement of stockholders' equity.
The functional currency for our Italy operations is the Euro. Our net annual
transactional exposure is approximately (euro)16.4 million ($21.3 million). We
have transactional exposure to various other European currencies, primarily the
British pound. We frequently use forward purchase contracts to hedge this
exposure. At April 1, 2005, we have outstanding forward contracts of (euro)8.5
million and (pound)1.0 million.
17
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, Mr. Webster, our CEO, and
Mr. Shadid, our CFO, evaluated our disclosure controls and procedures. During
fiscal year 2005, management has been working diligently to identify and assess
the Company's disclosure controls and internal controls over financial reporting
in preparation to fulfill the requirements of Section 404 of the Sarbanes-Oxley
Act. Through this process, we currently have identified three material
weaknesses in internal control. These weaknesses involve the business processes
and controls over trade promotional allowances and related customer accounts
receivable, spare parts inventory, and the valuation reserves related to
inventory. We are developing and will implement procedures to remediate these
weaknesses. As a result, we are evaluating the financial statement impact, if
any, of these weaknesses. There have been no changes in our internal control
over financial reporting that has materially affected or is reasonably likely to
materially affect our internal control over financial reporting.
18
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
(c) The following table provides the information with respect to purchases made
by the Company of shares of its common stock during the second fiscal quarter of
2005:
Total Number of Approximate Dollar
Shares Purchased
as Part of Value of Shares that
Period Total Number Average Price Publicly Announced May Yet Be Purchased
- ------ Shares Purchased Paid per Share Plan Under the Plan (1)
---------------- -------------- ---- -----------------
January 1 - January 14 451(2) $ 21.35 -- $7,881,000
January 15 - January 19 1,539(2) 21.45 -- $7,881,000
January 20 - April 1
------------- ------------- -----------------
-- -- -- $7,881,000
Total 1,990 $ 21.43 --
============== ============== =================
(1) On October 4, 2002 the Company's Board of Directors authorized up to $20
million to implement a common stock repurchase plan.
(2) Shares received as payment for taxes related to vesting of restricted
stock.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Annual Meeting of Shareholders was held on February 17,
2005. There were three matters submitted to a vote of
security holders.
The first matter was the election of directors. Each of the
persons named in the Proxy Statement as a nominee for
director was elected to a three-year term ending in 2008.
Following are the voting results on each of the nominees for
director:
Nominees Votes For Votes Withheld
-------- --------- --------------
Jonathan Baum 16,535,338 528,763
Robert Niehaus 11,146,366 5,917,735
Richard Thompson 16,564,505 499,596
The following directors continued in office:
Serving Until 2006: Serving Until 2007:
------------------- -------------------
Horst Schroeder Tim M. Pollak
Mark Demetree William R. Patterson
Timothy S. Webster Terence C. O'Brien
James A. Heeter
The second matter was the amendment to the Company's
Employee Stock Purchase Plan to increase the shares
available under the Plan from 50,000 to 100,000. The
shareholder's cast 14,281,443 votes in the affirmative and
124,099 votes in the negative, shareholders holding 37,130
votes abstained from voting and there were 2,621,428 broker
non-votes on the amendment to the Employee Stock Purchase
Plan.
The third matter was the ratification of the Board of
Directors' selection of Ernst & Young LLP to serve as the
Company's independent auditors for the fiscal year 2005. The
shareholders cast 14,301,913 votes in the affirmative and
19
2,726,084 votes in the negative and shareholders holding
36,103 votes abstained from voting on the ratification of
Ernst & Young LLP as the Company's independent auditors for
the fiscal year 2005.
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS
31.1 Certification of CEO Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of CFO Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32. Certification of the CEO and CFO Pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
American Italian Pasta Company
May 11, 2005 /s/ Timothy S. Webster
- --------------------------- -----------------------------------------------------
Date Timothy S. Webster
President and Chief Executive Officer
(Principal Executive Officer)
May 11, 2005 /s/ George D. Shadid
- --------------------------- -----------------------------------------------------
Date George D. Shadid
Executive Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
21
AMERICAN ITALIAN PASTA COMPANY
EXHIBIT INDEX
Exhibit
Number Description of Exhibit
- ------- ----------------------------------------------------------------------`
31.1 Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
31.2 Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
32. Certification of the CEO and CFO Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
22