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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 QUARTERLY PERIOD ENDED JUNE 30, 2003
COMMISSION FILE NUMBER 1-10367
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 71-0675758
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
914 N JEFFERSON STREET
SPRINGDALE, ARKANSAS 72764
(Address of Principal Executive Office) (Zip Code)
(479) 756-7400
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES: X NO:
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). YES: NO: X
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. As of August 11, 2003, the
number of shares outstanding of the Registrant's Class A common stock, which is
the class registered under the Securities Exchange Act of 1934, was 28,510,898
and the number of shares outstanding of the Registrant's Class B Common Stock
was 1,465,530.
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
Form 10-Q Index
Page
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
Balance Sheets, June 30, 2003 (unaudited)
and December 31, 2002 1-2
Statements of Operations, (unaudited)
Three Months and Six Months Ended June 30, 2003 and 2002 3
Statements of Cash Flows, (unaudited)
Six Months Ended June 30, 2003 and 2002 4
Notes to Financial Statements. 5-10
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations. 11-17
Item 3. Quantitative and Qualitative Disclosure about Market Risk. 17
Item 4. Control and Procedures. 18
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K. 18
Signatures. 19
Index to Exhibits. 20
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
BALANCE SHEETS
ASSETS
June 30, December 31,
2003 2002
--------------------------
(unaudited)
Current assets:
Cash $ 797,129 $ 504,365
Restricted bond escrow fund 16,540,022 16,565,549
Accounts receivable, net of allowance
of $98,207 at June 30, 2003 and
December 31, 2002 4,021,133 2,635,960
Inventories 3,681,673 2,684,336
Prepaid expenses 968,946 343,409
--------------------------
Total current assets 26,008,903 22,733,619
--------------------------
Land, buildings and equipment:
Land 889,528 889,528
Buildings and leasehold improvements 1,093,666 1,615,288
Machinery and equipment 23,285,292 24,400,913
Transportation equipment 621,774 548,959
Office equipment 678,675 645,012
Construction in progress 3,211,665 1,649,937
--------------------------
29,780,600 29,749,637
Less accumulated depreciation 12,957,316 15,223,727
--------------------------
Net land, buildings and equipment 16,823,284 14,525,910
--------------------------
Other assets, at cost less accumulated
amortization of $400,168 at June 30, 2003
and $385,881 at December 31, 2002 2,170,117 2,076,419
--------------------------
$45,002,304 $39,335,948
==========================
The accompanying notes are an integral part of these financial statements.
1
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
June 30, December 31,
2003 2002
-----------------------------
(unaudited)
Current liabilities:
Accounts payable - trade $ 7,030,175 $ 4,663,220
Accounts payable - related parties 2,634,861 2,234,699
Current maturities of long-term debt 311,070 312,050
Accrued liabilities 1,625,271 1,678,286
Notes payable - related parties 1,603,833 1,928,833
Notes payable - other 2,706,441 1,974,474
Bonds payable 16,500,000 16,500,000
-----------------------------
Total current liabilities 32,411,651 29,291,562
-----------------------------
Long-term debt, less current maturities 3,975,178 4,068,210
-----------------------------
Accrued premium on convertible preferred stock 138,000 214,709
-----------------------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $1 par value; 5,000,000 shares
authorized; 2,760 shares issued and outstanding 2,760 2,760
Class A common stock, $.01 par value; 75,000,000
shares authorized; 28,510,898 and 28,331,312
shares issued and outstanding at June 30, 2003
and December 31, 2002, respectively 285,109 283,313
Class B convertible common stock, $.01
par value; 7,500,000 shares authorized,
1,465,530 shares issued and outstanding 14,655 14,655
Warrants outstanding; 16,590,122 at June 30,
2003 and December 31, 2002 7,824,206 7,824,206
Additional paid-in capital 24,039,226 23,825,504
Accumulated deficit (23,688,481) (26,188,971)
-----------------------------
Total stockholders' equity 8,477,475 5,761,467
-----------------------------
$ 45,002,304 $ 39,335,948
=============================
The accompanying notes are an integral part of these financial statements.
2
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2003 2002 2003 2002
----------------------------- -----------------------------
Net sales $ 10,086,456 $ 10,289,049 $ 21,196,238 $ 19,571,728
Cost of goods sold 7,733,752 7,613,103 16,363,134 14,432,030
----------------------------- -----------------------------
Gross margin 2,352,704 2,675,946 4,833,104 5,139,698
Selling and administrative costs 2,265,826 1,924,200 4,297,151 3,575,393
Research and development 25,498 - 25,498 220,117
----------------------------- -----------------------------
Operating income 61,380 751,746 510,455 1,344,188
Other income (expense)
Insurance proceeds related to lost income 824,299 - 824,299 -
Interest income 48,932 70,933 104,477 184,772
Interest expense (351,575) (341,705) (678,962) (767,043)
----------------------------- -----------------------------
521,656 (270,772) 249,814 (582,271)
----------------------------- -----------------------------
Income before accrued premium on preferred
stock 583,036 480,974 760,269 761,917
Accrued premium on preferred stock (69,000) (67,583) (138,000) (140,083)
----------------------------- -----------------------------
Net income applicable to common stock before
extraordinary item 514,036 413,391 622,269 621,834
Extraordinary gain on involuntary conversion
of non-monetary assets due to fire 1,878,221 - 1,878,221 -
----------------------------- -----------------------------
Net income applicable to common stock
after extraordinary item $ 2,392,257 $ 413,391 $ 2,500,490 $ 621,834
============================= =============================
Income per share of common
stock before extraordinary item (Basic) $ 0.02 $ 0.01 $ 0.02 $ 0.02
============================= =============================
Income per share of common
stock before extraordinary item (Diluted) $ 0.01 $ 0.01 $ 0.02 $ 0.01
============================= =============================
Income per share of common
stock after extraordinary item (Basic) $ 0.08 $ 0.01 $ 0.08 $ 0.02
============================= =============================
Income per share of common
stock after extraordinary item (Diluted) $ 0.06 $ 0.01 $ 0.06 $ 0.01
============================= =============================
Weighted average number of common shares
outstanding - Basic 29,874,663 29,686,925 29,835,537 29,224,076
============================= =============================
Weighted average number of common shares
outstanding - Diluted 39,944,898 44,465,966 40,259,687 43,307,267
============================= =============================
The accompanying notes are an integral part of these financial statements.
3
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
---------------------------
2003 2002
---------------------------
Cash flows from operating activities:
Net income applicable to common stock $ 2,500,490 $ 621,834
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,709,299 1,335,298
Premium accrued on preferred stock 138,000 140,083
Decrease in other assets 62,662 106,160
Changes in current assets and current liabilities 526,631 885,024
----------- -----------
Net cash provided by operating activities 4,937,082 3,088,399
----------- -----------
Cash flows from investing activities:
Purchases of land, buildings and equipment (4,077,565) (1,804,036)
----------- -----------
Cash flows from financing activities:
Proceeds from issuance of notes - 250,000
Payments on notes (656,023) (346,913)
Increase (decrease) in outstanding advances on
factored receivables 259,917 (973,232)
Debt acquisition costs (170,647) (108,488)
Proceeds from exercise of stock options and
warrants, net - 278,675
----------- -----------
Net cash used in financing activities (566,753) (899,958)
----------- -----------
Increase in cash 292,764 384,405
Cash, beginning of period 504,365 755,601
----------- -----------
Cash, end of period $ 797,129 $ 1,140,006
=========== ===========
The accompanying notes are an integral part of these financial statements.
4
NOTES TO FINANCIAL STATEMENTS
NOTE 1: UNAUDITED INFORMATION
Advanced Environmental Recycling Technologies, Inc. ("AERT" or "the
Company") has prepared the financial statements included herein without audit,
pursuant to the rules and regulations of the Securities and Exchange Commission
(SEC). However, all adjustments have been made to the accompanying financial
statements that are, in the opinion of the Company's management, of a normal
recurring nature and necessary for a fair presentation of the Company's
operating results. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with accounting
principles generally accepted in the United States have been condensed or
omitted pursuant to such rules and regulations, although the Company believes
that the disclosures are adequate to make the information presented herein not
misleading. It is recommended that these financial statements be read in
conjunction with the financial statements and the notes thereto included in the
Company's latest annual report on Form 10-K. The Company has reclassified
certain prior period amounts to conform to the current period presentation.
NOTE 2: DESCRIPTION OF THE COMPANY
AERT manufactures a line of composite building materials from reclaimed
plastic and wood fiber waste for certain specialized applications in the
construction industry. The Company markets this material as a substitute for
wood and plastic filler materials for standard door components, windowsills,
brick mould, fascia board, decking and heavy industrial flooring. The Company is
comprised of four manufacturing facilities which are located in Junction, Texas,
Springdale and Lowell, Arkansas and Alexandria, Louisiana. The Company's
customers primarily consist of a number of regional and national door and window
manufacturers, industrial flooring companies and Weyerhaeuser, the Company's
primary decking customer.
NOTE 3: CURRENT OPERATIONS
On March 28, 2003, the Company had an accidental fire at the Junction,
Texas plant. The Company was given permission to begin demolition and the
rebuilding of a portion of the production facility on April 16, 2003. One
extrusion line in the plant, which was partially damaged, was repaired, the
electrical system for the production facility was replaced and a portion of the
building covering the extrusion area has been replaced. The extrusion line was
rebuilt and became operational on May 20, 2003. The remaining portion of the
building to be rebuilt and remaining infrastructure will be completed by the end
of the fourth quarter. The Junction plant was, and is, fully insured for fire
damage and business interruption. As of June 30, 2003, we have received $3.0
million in insurance proceeds related to this incident. There is no assurance as
to the timing of the completion of the remaining extrusion line. Concurrently,
the Company installed another extrusion line in the Springdale, Arkansas plant.
This extrusion line became operational on June 9, 2003. With the completion of
these lines, the production capacity is the same as before the fire. At this
time, there has been minimal disruption in meeting the customers' needs although
several new product introductions were delayed.
Due to the Junction facility fire, gross assets were written down by
approximately $4.91 million, along with the associated accumulated depreciation
on those assets in the amount of $3.96 million, resulting in a net book value
decrease in assets of about $950,000. At June 30, 2003, approximately $2.04
million had been invested in reconstructing the Junction facility. Insurance
proceeds received to reimburse costs incurred to reconstruct the facility have
resulted in an extraordinary gain of $1,878,221 for the second quarter of 2003.
The gain was not tax affected due to the existence of significant net operating
loss carryforwards. Additionally, the Company recorded $978,156 in business
interruption insurance during the second quarter of 2003, which consists of
$824,299 to replace lost income and $153,857 to cover fixed expenses. At June
30, 2003, approximately $1.4 million is included in accounts receivable for
expected insurance reimbursements.
5
NOTE 4: STATEMENTS OF CASH FLOWS
In order to determine net cash provided by operating activities, net
income has been adjusted by, among other things, changes in current assets and
current liabilities, excluding changes in cash, current maturities of long-term
debt and current notes payable. Those changes, shown as an (increase) decrease
in current assets and an increase (decrease) in current liabilities for the six
months ended June 30, are as follows:
2003 2002
(UNAUDITED) (UNAUDITED)
------------ -----------
Receivables ................................................ $ (440,161) $ 886,682
Inventories ................................................ (997,337) (287,522)
Prepaid expenses and other ................................. 304,108 80,658
Accounts payable -
Trade and related parties ................................ 1,713,036 (314,898)
Accrued liabilities ........................................ (53,015) 520,104
----------- -----------
$ 526,631 $ 885,024
=========== ===========
Cash paid for interest ..................................... $ 449,842 $ 587,796
=========== ===========
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
2003 2002
(UNAUDITED) (UNAUDITED)
----------- -----------
Notes payable for financing of insurance policies .......... $903,309 $346,619
Accounts / notes payable for equipment ..................... 859,833 300,943
Accrued premium paid with Class A common stock ............. 214,709 367,779
NOTE 5: SIGNIFICANT ACCOUNTING POLICIES
REVENUE RECOGNITION POLICY
The Company recognizes revenue in accordance with SEC Staff Accounting
Bulletin No. 101, REVENUE RECOGNITION IN FINANCIAL STATEMENTS (SAB 101). Under
SAB 101, revenue is recognized when the title and risk of loss have passed to
the customer, there is persuasive evidence of an arrangement, delivery has
occurred or services have been rendered, the sales price is determinable and
collectibility is reasonably assured. The Company typically recognizes revenue
at time of shipment. Sales are recorded net of discounts, rebates and returns.
6
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out
method) or market. Inventories consisted of the following:
JUNE 30, 2003 DECEMBER 31,
(UNAUDITED) 2002
------------- ------------
Raw materials .............................................. $3,096,315 $2,090,807
Work in process ............................................ 292,996 307,775
Finished goods ............................................. 292,362 285,754
---------- ----------
$3,681,673 $2,684,336
========== ==========
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires 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 the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
RESEARCH AND DEVELOPMENT
Expenditures relating to the development of new products and processes,
including significant improvements to existing products, are expensed as
incurred.
STOCK-BASED COMPENSATION
The Company adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION
(SFAS No. 123). The following table illustrates the effect on net income and
earnings per share if the Company had applied the fair value recognition
provisions of SFAS No. 123 to stock-based employee compensation for the quarter
and six months.
7
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
---------------------------------------------------------------------------------
2003 2002 2003 2002
---------------------------------------------------------------------------------
BEFORE AFTER BEFORE AFTER
EXTRA- EXTRA- EXTRA- EXTRA-
ORDINARY ORDINARY ORDINARY ORDINARY
ITEM ITEM ITEM ITEM
---------------------------------------------------------------------------------
Net income applicable to common stock,
as reported ................................. $ 514,036 $ 2,392,257 $ 413,391 $ 622,269 $ 2,500,490 $ 621,834
Deduct: Total stock-based
compensation expense determined
under fair value based method for
all awards .................................. 131,443 131,443 252,802 195,822 195,822 352,776
---------------------------------------------------------------------------------
Net income applicable to common stock,
pro forma ................................... $ 382,593 $ 2,260,814 $ 160,589 $ 426,447 $ 2,304,668 $ 269,058
Net income per share of common stock:
Basic - as reported ......................... $ 0.02 $ 0.08 $ 0.01 $ 0.02 $ 0.08 $ 0.02
Basic - pro forma ........................... $ 0.01 $ 0.06 $ 0.01 $ 0.01 $ 0.08 $ 0.01
Diluted - as reported ....................... $ 0.01 $ 0.06 $ 0.01 $ 0.02 $ 0.06 $ 0.01
Diluted - pro forma ......................... $ 0.01 $ 0.06 $ 0.00 $ 0.01 $ 0.06 $ 0.01
NOTE 6: INCOME TAXES
No income tax provision was recorded for the six months ended June 30,
2003 and 2002, due to the realization of previously unrecognized net operating
loss carryforwards.
NOTE 7: SEGMENT INFORMATION
SFAS NO. 131 DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED
INFORMATION (SFAS 131), establishes standards for the way that public business
enterprises report information about operating segments in annual financial
statements and requires that those enterprises report selected information about
operating segments in interim financial reports issued to shareholders. SFAS 131
requires that a public business enterprise report financial and descriptive
information about its reportable operating segments. Reportable operating
segments are defined as a component of an enterprise:
- That engages in business activities from which it may earn
revenues and expenses;
- Whose operating results are regularly reviewed by the
enterprise's chief operating decision-maker; and
- For which discrete financial information is available.
8
As of June 30, 2003, the Company does not have available discrete
financial information to disclose gross margin by product line. All operating
expenses are allocated primarily on capacity. Corporate overhead is not
allocated by product line; neither are selected assets. Net sales segregated by
product line and gross margin by plant location are as follows:
NET SALES -THREE MONTHS ENDED JUNE 30, 2003 2002
- ----------------------------------------------------------------------------------------------
Commercial and residential decking surface components ...... $ 8,128,731 $ 8,160,258
Exterior door, window and housing trim components .......... 1,859,826 2,079,383
Industrial flooring ........................................ 97,899 49,408
----------------------------
$10,086,456 $10,289,049
============================
NET SALES -SIX MONTHS ENDED JUNE 30, 2003 2002
- ----------------------------------------------------------------------------------------------
Commercial and residential decking surface components ...... $17,479,188 $15,939,531
Exterior door, window and housing trim components .......... 3,505,087 3,481,868
Industrial flooring ........................................ 211,963 150,329
----------------------------
$21,196,238 $19,571,728
============================
GROSS MARGIN - THREE MONTHS ENDED JUNE 30,
2003 2002
SPRINGDALE JUNCTION SPRINGDALE JUNCTION
-------------------------- --------------------------
Net revenues ............ $9,281,256 $ 805,200 $6,646,898 $3,642,151
Cost of goods sold ...... 7,129,657 604,095 4,783,129 2,829,974
-------------------------- --------------------------
Gross margin ............ $2,151,599 $ 201,105 $1,863,769 $ 812,177
========================== ==========================
GROSS MARGIN - SIX MONTHS ENDED JUNE 30,
2003 2002
SPRINGDALE JUNCTION SPRINGDALE JUNCTION
---------------------------- ----------------------------
Net revenues ............ $16,954,773 $ 4,241,465 $12,723,411 $ 6,848,317
Cost of goods sold ...... 13,069,434 3,293,700 8,929,687 5,502,343
---------------------------- ----------------------------
Gross margin ............ $ 3,885,339 $ 947,765 $ 3,793,724 $ 1,345,974
============================ ============================
NOTE 8: EARNINGS PER SHARE
The Company calculates and discloses earnings per share (EPS) in
accordance with SFAS No. 128, EARNINGS PER SHARE (SFAS 128). SFAS 128 replaces
the presentation of Primary EPS with Basic EPS and requires dual presentation of
Basic and Diluted EPS on the face of the statements of operations and requires a
reconciliation of the numerator and denominator of the Basic EPS computation to
the numerator and denominator of the Diluted EPS computation. Basic EPS excludes
dilution and is computed by dividing income available to common stockholders by
the weighted-average number of common shares outstanding for the period. Diluted
EPS reflects the potential dilution that could occur if securities or other
contracts to issue
9
common stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the earnings of the Company.
Diluted EPS is computed similarly to Fully Diluted EPS pursuant to Accounting
Principles Board Opinion No. 15, EARNINGS PER SHARE.
In computing Diluted EPS, only potential common shares that are
dilutive--those that reduce earnings per share or increase loss per share--are
included. Exercise of options and warrants or conversion of convertible
securities is not assumed if the result would be antidilutive, such as when a
loss from continuing operations is reported. The "control number" for
determining whether including potential common shares in the Diluted EPS
computation would be antidilutive is income from continuing operations. As a
result, if there was a loss from continuing operations, Diluted EPS would be
computed in the same manner as Basic EPS is computed, even if an entity had net
income after adjusting for discontinued operations, an extraordinary item or the
cumulative effect of an accounting change.
THREE MONTHS ENDED JUNE 30,
---------------------------------------------------
2003 2002
---------------------------------------------------
BEFORE AFTER
EXTRA- EXTRA-
ORDINARY ORDINARY
ITEM ITEM
---------------------------------------------------
Net income (A) $ 514,036 $ 2,392,257 $ 413,391
===================================================
Assumed exercise of stock options
and warrants ................................ 18,256,137 18,256,137 20,887,319
Application of assumed proceeds
toward repurchase of
stock ....................................... (8,185,902) (8,185,902) (6,185,791)
---------------------------------------------------
Net additional shares issuable .............. 10,070,235 10,070,235 14,701,528
===================================================
Adjustment of shares outstanding:
Weighted average common shares
outstanding ................................. 29,874,663 29,874,663 29,686,925
Net additional shares issuable .............. 10,070,235 10,070,235 14,701,528
---------------------------------------------------
Adjusted shares outstanding (B) 39,944,898 39,944,898 44,388,453
===================================================
Net income per common share -
Diluted (A) divided by (B) $ 0.01 $ 0.06 $ 0.01
===================================================
SIX MONTHS ENDED JUNE 30,
--------------------------------------------------
2003 2002
--------------------------------------------------
BEFORE AFTER
EXTRA- EXTRA-
ORDINARY ORDINARY
ITEM ITEM
--------------------------------------------------
Net income (A) $ 622,269 $ 2,500,490 $ 621,834
==================================================
Assumed exercise of stock options
and warrants ................................ 20,707,819 20,707,819 20,837,319
Application of assumed proceeds
toward repurchase of
stock ....................................... (10,283,669) (10,283,669) (6,787,462)
--------------------------------------------------
Net additional shares issuable .............. 10,424,150 10,424,150 14,049,857
==================================================
Adjustment of shares outstanding:
Weighted average common shares
outstanding ................................. 29,835,537 29,835,537 29,224,076
Net additional shares issuable .............. 10,424,150 10,424,150 14,049,857
--------------------------------------------------
Adjusted shares outstanding (B) 40,259,687 40,259,687 43,273,933
==================================================
Net income per common share -
Diluted (A) divided by (B) $ 0.02 $ 0.06 $ 0.01
==================================================
The Company has additional options and warrants that were not included
in the calculation of diluted earnings per share (EPS). Those options (for
1,606,000 shares and for 1,531,000 shares) and warrants (for 4,749,598 shares
and for 2,333,933 shares) were either antidilutive and/or not exercisable during
the three and six months ended June 30, 2003, respectively. Although the above
financial instruments were not included due to being antidilutive and/or not
exercisable, such financial instruments may become dilutive and would then need
to be included in future calculations of Diluted EPS.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
AERT develops, manufactures and markets composite building materials
that are used in place of traditional wood products for exterior applications in
building and remodeling homes. The Company's products are made from
approximately equal amounts of waste wood fiber and reclaimed polyethylene
plastics, have been extensively tested, and are sold by leading national
companies such as the Weyerhaeuser Company (Weyerhaeuser), Lowe's Companies,
Inc. (Lowe's) and Therma-Tru Corporation. The Company's products are marketed
under the trade names LifeCycle(R), MoistureShield(R), Weyerhaeuser ChoiceDek(R)
Classic, Weyerhaeuser ChoiceDek(R) Plus and Weyerhaeuser ChoiceDek(R) Premium.
PRODUCTS
Using the same basic material, the Company manufactures three product
lines:
- Commercial and residential decking planks and accessories such
as balusters and handrails (ChoiceDek);
- Exterior door, window and housing trim components
(MoistureShield); and
- Industrial flooring.
The wood fiber content of the Company's products gives them many
properties similar to all-wood products, but the Company believes the plastic
content makes the products superior to either all-wood or all-plastic
alternatives because:
- They are less subject to thermal contraction or expansion and
have greater dimensional stability than competing all-plastic
products;
- They are engineered for superior moisture-resistance and will
not swell or expand like wood;
- Unlike wood, they do not require preservatives or treatment
with toxic chemicals such as chromated copper arsenic (CCA),
nor do they require yearly water sealing or staining;
- They can be designed and extruded through dies to a desired
shape in accordance with customer specifications, which helps
the customer to minimize waste;
- They are less subject to rotting, cracking, warping,
splintering, insect infestation and water absorption than
conventional wood materials; and
- When combined with our unique tie coat primer, the life of
exterior paint can be greatly enhanced, thus creating a
low-maintenance non-wood trim and fascia system designed to
enhance and complement fiber cement siding.
11
The Company's composites manufacturing process involves proprietary
technologies, certain of which are patented. The Company also uses manufacturing
equipment that has been custom-built or modified to the Company's
specifications. The Company's composite building material became a patented
product in June 1998 under U.S. Patent No. 5,759,680.
MANUFACTURING
During the second quarter of 2003, the following developments with
respect to the Company's manufacturing facilities occurred:
- On March 28, 2003, the Company had an accidental fire at the
Junction plant. The Company was given permission to begin
demolition and the rebuilding of a portion of the production
facility on April 16, 2003. One extrusion line in the plant,
which was partially damaged, was repaired, the electrical
system for the production facility was replaced and a portion
of the building covering the extrusion area has been replaced.
The extrusion line was operational on May 20, 2003. The
remaining portion of the building to be rebuilt and remaining
infrastructure will be completed by the end of the fourth
quarter. There is no assurance as to the timing of the
completion of the remaining extrusion line.
- The Company installed a fifth extrusion line in Springdale,
Arkansas which became operational on June 9, 2003. Springdale
now has five extrusion lines and a plastic recycling facility.
- In late 2002, the Company acquired another plastics recycling
facility in Northwest Arkansas. The Company is nearing
completion of the upgrade of this facility and it is expected
to be in production by the end of the third quarter of 2003.
- The Company entered into a lease for plastic recycling
equipment and a facility in Alexandria, Louisiana on May 27,
2003, and commenced operations on June 23, 2003. This will
increase the Company's in-house capacity for processing
plastic, and
- The Company recently initiated work on the road and bridge
infrastructure on an adjoining 18.6-acre tract that is south
of the existing Springdale, Arkansas facility. This effort
will join the two properties into a larger complex. The
building on the south property will include manufacturing and
warehousing and is anticipated to be completed during the
first half of 2004.
The Company is constantly upgrading and improving the Company's
facilities to expand capacities and improve efficiencies. Expansion plans are
prioritized around increasing plastic recycling capacity and lowering raw
material costs. There is no assurance funds will be available on a timely basis
complete such projects or to prevent some construction projects from being
delayed (see Liquidity and Capital Resources).
12
RESULTS OF OPERATIONS
QUARTER ENDED JUNE 30, 2003 COMPARED TO QUARTER ENDED JUNE 30, 2002
Net sales decreased to $10,086,456 for the quarter ended June 30, 2003,
which represented a decrease of $202,593 or 2% from the quarter ended June 30,
2002. The second quarter 2003 composite net sales consisted of decking product
(ChoiceDek) sales of $8,128,731; and door, window and housing trim component
(MoistureShield) and industrial flooring sales of $1,957,725. These figures
compare with second quarter 2002 ChoiceDek sales of $8,160,258 and
MoistureShield and industrial flooring sales of $2,128,791. The main reason for
the lack of sales growth in ChoiceDek is attributable to the fire at Junction,
whose major product is ChoiceDek. The Junction plant produced $2,836,951 less
ChoiceDek in the second quarter of 2003 as compared to the second quarter of
2002. The loss of this Junction revenue also partially contributed to the
increase in expense percentages when compared to expense data from 2002 to 2003.
The Springdale plant reported composite net sales of $9,281,256 in the
second quarter of 2003, compared to $6,646,898 in the second quarter of 2002, a
40% increase. The Junction, Texas plant net sales were $805,200 in the second
quarter of 2003, a 78% decrease from $3,642,151 in the second quarter of 2002.
Cost of goods sold increased $120,649, from $7,613,103 for the quarter
ended June 30, 2002, to $7,733,752 in 2003. As a percentage of sales, cost of
goods sold increased 2.7% to 76.7% for the quarter ended June 30, 2003, as
compared to 74.0% for the same period in 2002. The major changes in cost of
goods sold were as follows: raw materials, as a percentage of sales, increased
5.3% to 26.1% in 2003 from 20.8% in the second quarter of 2002; direct labor
remained constant at 17.3%; and manufacturing overhead decreased 2.8% as a
percentage of sales to 33.2% in 2003 from 36% for the second quarter of 2002.
The Springdale plant cost of goods sold increased as a percentage of sales by
4.8% to 76.8% in 2003, from 72.0% in 2002. The Texas plant cost of goods sold
decreased 2.7% to 75.0% in 2003, from 77.7% in 2002. The raw material cost
increase was attributed to the rising prices of raw material.
Significant cost categories were as follows for the quarter ended June
30:
2003 2002
---------- ----------
Payroll and payroll taxes .... $2,560,286 $2,538,106
Depreciation ................. 750,435 659,579
Raw materials ................ 2,632,764 2,138,902
Other ........................ 1,790,267 2,276,516
---------- ----------
Total ........................ $7,733,752 $7,613,103
========== ==========
Selling, general and administrative expenses increased $341,626 in the
second quarter of 2003 to $2,265,826, compared to $1,924,200 for 2002. As a
percentage of sales, selling and administrative expenses increased to 22.5% from
18.7% in 2002. The increase in the costs is primarily due to the increase in our
sales staffing and related customer services expense.
As is shown in the statement of operations after operating income there
is a contribution of $824,299 in business interruption insurance proceeds,
related to the Junction fire, to the second quarter net income.
13
Net income before the extraordinary item for the quarter ended June 30,
2003 was $514,036. This is an earnings increase of $100,645 when compared to the
net income of $413,391 for the second quarter of 2002. The net income for the
quarter ended June 30, 2003 after the extraordinary gain of $1,878,221 on the
disposition of assets was $2,392,257.
Due to the Junction facility fire, gross assets were written down by
approximately $4.91 million, along with the associated accumulated depreciation
on those assets in the amount of $3.96 million, resulting in a net book value
decrease in assets of about $950,000. At June 30, 2003, approximately $2.04
million had been invested in reconstructing the Junction facility. Insurance
proceeds received to reimburse costs incurred to reconstruct the facility have
resulted in an extraordinary gain of $1,878,221 for the second quarter of 2003.
The gain was not tax affected due to the existence of significant net operating
loss carryforwards. Additionally, the Company recorded $978,156 in business
interruption insurance during the second quarter of 2003, which consists of
$824,299 to replace lost income and $153,857 to cover fixed expenses. At June
30, 2003 approximately $1.4 million is included in accounts receivable for
expected insurance reimbursements.
There can be no assurance that the Company can attain its anticipated
continued operating improvements, that raw material costs will not increase,
that sales price increases will be possible or that its additional production
efficiencies and resultant unit cost reductions required for sustained
profitability will occur.
SIX MONTHS ENDED JUNE 30, 2003 COMPARED TO SIX MONTHS ENDED JUNE 30, 2002
Net sales increased to $21,196,238 for the six months ended June 30,
2003, which represented an increase of $1,624,510 or 8.3% over the same period a
year ago. The six months composite net sales consisted of decking product
(ChoiceDek) net sales of $17,479,188, and door, window and housing trim
components (MoistureShield) and industrial flooring net sales of $3,717,050.
These figures compare to the same period a year ago of ChoiceDek net sales of
$15,939,531 and MoistureShield and industrial flooring net sales of $3,632,197.
The main reason for slower growth in ChoiceDek sales is attributable to
the fire at Junction, whose major product is ChoiceDek. Junction produced
$2,836,951 less ChoiceDek in the six months in 2003 than in the comparable six
months in 2002. The loss of the Junction revenue also partially contributed to
the increase in expense percentages when comparing data from 2002 to 2003.
The Springdale, Arkansas plant reported composite net sales of
$16,954,773 for the six month period ended June 30, 2003, compared to
$12,723,411 for the same period a year ago, which represented a 33% increase.
The Junction, Texas plant net sales decreased to $4,241,465 for the six month
period ended June 30, 2003, from $6,848,317 for the same period a year ago, a
38% decrease. The decrease in sales was attributed to a slow start at the
beginning of 2003, as operational improvements were being implemented, and the
fire in Junction on March 28, 2003.
Cost of goods sold increased $1,931,104 from $14,432,030 for the six
month period ended June 30, 2002, to $16,363,134. As a percentage of sales, cost
of goods sold increased 3.5% to 77.2% for the six month period ended June 30,
2003, as compared to 73.7% for the same period a year ago. The major changes in
cost of goods sold were as follows: as a percentage of sales, raw material
increased 5.5%, direct labor decreased 0.1%, and manufacturing overhead
decreased 1.9%. The Springdale plant cost of goods sold increased 6.9% as a
percentage of sales to 77.1% for the six month period in 2003, from 70.2% for
the same period in 2002. The Junction plant cost of goods sold decreased 2.6%
for the six month period in 2003, from 80.3% for the same period in 2002. The
raw material cost increase was attributed to the rising prices of raw material.
14
Significant cost categories were as follows for the six months ended
June 30:
2003 2002
----------- -----------
Payroll and payroll taxes .... $ 5,172,308 $ 4,745,344
Depreciation ................. 1,590,546 1,338,949
Raw materials ................ 5,686,053 4,176,298
Other ........................ 3,914,227 4,171,439
----------- -----------
Total ........................ $16,363,134 $14,432,030
=========== ===========
Selling, general and administrative expenses increased $721,758 for the
six month period ended June 30, 2003 to $4,297,151 when compared to $3,575,393.
However, this was an increase of 2.0% as a percentage of sales to 20.3% for the
six month period in 2003 from 18.3% for the same period in 2002. The increase in
the costs is primarily due to the increase in our sales staffing and related
customer services expense.
As is shown in the statement of operations, after operating income
there is a contribution of $824,299 in business interruption insurance proceeds
to the second quarter net income.
Net income before the extraordinary item for the six month period ended
June 30, 2003 was $622,269. This is an earnings increase of $435 when
compared to net income of $621,834 for the same period in 2002. The net income
for the six months ended June 30, 2003 after the extraordinary gain of
$1,878,221 on the disposition of assets was $2,500,490.
Due to the Junction facility fire, gross assets were written down by
approximately $4.91 million, along with the associated accumulated depreciation
on those assets in the amount of $3.96 million, resulting in a net book value
decrease in assets of about $950,000. At June 30, 2003, approximately $2.04
million had been invested in reconstructing the Junction facility. Insurance
proceeds received to reimburse costs incurred to reconstruct the facility have
resulted in an extraordinary gain of $1,878,221 for the second quarter of 2003.
The gain was not tax affected due to the existence of significant net operating
loss carryforwards. Additionally, the Company recorded $978,156 in business
interruption insurance during the second quarter of 2003, which consists of
$824,299 to replace lost income and $153,857 to cover fixed expenses. At June
30, 2003 approximately $1.4 million is included in accounts receivable for
expected insurance reimbursements.
There can be no assurance that the Company can attain its anticipated
continued operating improvements, that the raw material costs will not increase
and that sales price increases will be possible, or that its additional
production efficiencies and resultant unit cost reductions required for
sustained profitability will occur.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2003, the Company had a working capital deficit of $6.4
million compared to a working capital deficit of $6.6 million at December 31,
2002. The Company expended approximately $6.0 million on capital expansion
during the year ended 2002, primarily on improving our equipment at both
production facilities in the areas of extrusion, raw material processing and
plastic production. The reduction in the working capital deficit is primarily
attributable to the Company's improving its production processes, reducing
costs, paying down the notes payable and making a profit. The Company's
continued capital expansion for customer
15
requirements contributed to the deficit not being further reduced during the
period. Excluding $2.04 million spent to reconstruct the Junction facility, the
Company expended approximately $2.08 million on capital projects during the
quarter ended June 30, 2003. The $6.4 million working capital deficit reflects
management's decision to enter into short-term debt financing, while the Company
has expanded, built and improved its production and sales capacities to increase
cash flows from operations. The Company's plan was to issue short-term debt and
refinance in the future, rather than enter into what it felt would have been
more expensive and dilutive equity financing at that time. The Company generated
sufficient cash flow to more than cover debt service.
The Company closed a $16.5 million tax-exempt bond financing during the
fourth quarter of 1999, which was intended to refinance existing obligations,
shift construction and expansion related accounts payable into long-term
financing and provide additional financing of capital expenditures. The bonds
were subject to mandatory tender for purchase by the Company in whole on October
13, 2000 (the Reset Date), at which time the bonds were repurchased by the
bondholder and a new reset date of October 13, 2001 was established. Just prior
to that date, the tragedy of September 11, 2001 occurred, and the bond markets
were unsettled. While we were seeking to remarket the bonds, we continued to
invest additional short-term funds into the Company, and used our cash flow to
continue to grow and expand our production capabilities. The bonds were reset on
July 16, 2003. The terms and covenants of the bonds in regard to the Company's
financing needs are being reexamined and negotiated with potential buyers. The
final reset date for the issuance of the bonds is October 16, 2003. At that
time, the bonds will have to be repurchased and retired. Currently, due to the
circumstances in the industrial revenue bond market, the slowing economy, low
interest rates and the uncertainty concerning Iraq and the Middle Eastern
region, it is questionable if the bonds will be rolled over past October 16,
2003, or if alternative financing at more competitive rates can be acquired.
Therefore, the bonds could be repurchased with its escrowed funds and retired on
October 16, 2003. If the bonds are retired, we will have to take a one-time
write-off of approximately $1.2 million for costs associated with the initial
marketing of the bonds and the rollover attempts to reissue the bonds, over the
past four years. Because of our increased production capacity, strong customer
commitments and the ability to generate sufficient cash flow to cover debt
service, we are exploring several financing alternatives of bond and non-bond
resources to continue our expansion and to refinance some of our short-term
debt. This financing could allow us to complete the projects that are underway
in a more timely manner and commence additional projects.
Cash increased $292,764 in the first six months of 2003. Significant
components of that increase were: (i) cash provided by operating activities of
$4,937,082, which consisted of the net income for the period of $2,500,490,
increased by depreciation and amortization of $1,709,299 and increased by other
sources of cash of $727,293; (ii) cash used in investing activities of
$4,077,565, and (iii) cash used in financing activities of $566,753. Payments on
notes during the period were $656,023. At June 30, 2003, the Company had bonds
and notes payable in the amount of $25.1 million, of which $21.1 million was
current bonds and notes payable and the
16
current portion of long-term debt. Of the current bonds and notes payable, $3.5
million or 17% was payable to Marjorie S. Brooks, a major shareholder, and other
investors closely associated with the Company. The Company intends to pay down
the remaining $1.96 million in bridge notes upon successful completion of
additional financing.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.
The Company has no material exposures relating to its long-term debt,
due to virtually all of the Company's long-term debt bearing interest at fixed
rates. The Company depends on the market for favorable long-term mortgage rates
to help generate sales of its product to its customers for use in the
residential construction industry. Should mortgage rates increase substantially,
the Company could be impacted by a reduction in the residential construction
industry. Important raw materials purchased by the Company are recycled plastic
and wood fiber, which are subject to price fluctuations. The Company attempts to
limit the impact of price increases on these materials by negotiating with
certain of its principal suppliers on a term basis.
FORWARD-LOOKING INFORMATION
The foregoing discussion contains certain estimates, predictions,
projections and other forward-looking statements (within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934) that involve various risks and uncertainties. While these
forward-looking statements, and any assumptions upon which they are based, are
made in good faith and reflect the Company's current judgment regarding the
direction of its business, actual results will almost always vary, sometimes
materially, from any estimates, predictions, projections, or other future
performance suggested herein. Some important factors (but not necessarily all
factors) that could affect the Company's sales volumes, growth strategies,
future profitability and operating results, or that otherwise could cause actual
results to differ materially from those expressed in any forward-looking
statement include the following: market, not breaking the bonds from escrow,
political or other forces affecting the pricing and availability of plastics and
other raw materials; accidents or other unscheduled shutdowns affecting the
Company's, its suppliers' or its customers' plants, machinery, or equipment;
competition from products and services offered by other enterprises; state and
federal environmental, economic, safety and other policies and regulations, any
changes therein, and any legal or regulatory delays or other factors beyond the
Company's control; execution of planned capital projects; weather conditions
affecting the Company's operations or the areas in which the Company's products
are marketed; adverse rulings, judgments, or settlements in litigation or other
legal matters. The Company undertakes no obligation to publicly release the
result of any revisions to any such forward-looking statements that may be made
to reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
In addition, this Form 10-Q contains certain "forward-looking
statements" within the meaning of Section 27A of the Securities Act and Section
21E of the Exchange Act. Such forward-looking statements, which
17
are often identified by words such as "believes," "anticipates," "expects",
"estimates," "should," "may," "will" and similar expressions, represent the
Company's expectations or beliefs concerning future events. Numerous
assumptions, risks and uncertainties, could cause actual results to differ
materially from the results discussed in the forward-looking statements.
Prospective purchasers of the Shares should carefully consider the information
contained herein or in the documents incorporated herein by reference.
ITEM 4. CONTROL AND PROCEDURES.
Each of our Co-Chief Executive Officers, Joe G. Brooks and Stephen W.
Brooks, and our Chief Financial Officer, Edward J. Lysen, have reviewed and
evaluated the disclosure controls and procedures (as defined in Rules 13a -
15(e) and 15d - 15(e) under the Securities Exchange Act of 1934) that we have in
place with respect to, among other things, the timely accumulation and
communication of information to management and the recording, processing,
summarizing and reporting thereof for the purpose of preparing and filing this
quarterly report on Form 10-Q. Such review was conducted as of the end of the
period covered by this Form 10-Q. Based upon their review, these executive
officers have concluded that we have an effective system of disclosure controls
and procedures and an effective means for timely communication of information
required to be disclosed in this Report. Subsequent to this evaluation, there
have been no significant changes in our internal controls or in other factors
that could significantly affect such controls.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
No reports on Form 8-K were filed during the second quarter of 2003.
The Company files herewith the following exhibits:
EXHIBIT
NUMBER DESCRIPTION
3.1 Certificate of Incorporation, including Certificate of Amendment
filed on June 12, 1989(a) and Certificate of Amendment filed on August
22, 1989(b).
3.2 Certificate of Designation of Class B common stock(a).
3.3 Certificate of Designation of Series A Preferred Convertible Stock(c).
3.4 Certificate of Designation of Series B Preferred Convertible Stock(c).
3.5 Certificate of Designation of Series C Preferred Convertible Stock(c).
3.6 Bylaws of Registrant(a).
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chairman, co-chief
executive officer and president
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's co-chief executive
officer
31.3 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chief financial officer
32.1 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chairman, co-chief
executive officer and president
32.2 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's co-chief executive
officer
32.3 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chief financial officer
- --------
(a) Contained in Exhibits to Registration Statement on Form S-1, No. 33-29595,
filed June 28, 1989.
(b) Contained in Exhibits to Amendment No. 1 to Registration Statement on Form
S-1, No. 33-29595, filed August 24, 1989.
(c) Filed with Form 10-K for December 31, 1998.
18
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
BY: /s/ Joe G. Brooks /s/ Edward J. Lysen
- ---------------------------- -----------------------------
JOE G. BROOKS EDWARD J. LYSEN
Chairman Chief Financial Officer
Date: August 14, 2003 Date: August 14, 2003
19
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
3.1 Certificate of Incorporation, including Certificate of Amendment
filed on June 12, 1989(a) and Certificate of Amendment filed on August
22, 1989(b).
3.2 Certificate of Designation of Class B common stock(a).
3.3 Certificate of Designation of Series A Preferred Convertible Stock(c).
3.4 Certificate of Designation of Series B Preferred Convertible Stock(c).
3.5 Certificate of Designation of Series C Preferred Convertible Stock(c).
3.6 Bylaws of Registrant(a).
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chairman, co-chief
executive officer and president,
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's co-chief executive
officer
31.3 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chief financial officer
32.1 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chairman, co-chief
executive officer and president
32.2 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's co-chief executive
officer
32.3 Certification pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, 18 U.S.C. Section 1350, by the Company's chief financial officer
- --------
(a) Contained in Exhibits to Registration Statement on Form S-1, No. 33-29595,
filed June 28, 1989.
(b) Contained in Exhibits to Amendment No. 1 to Registration Statement on Form
S-1, No. 33-29595, filed August 24, 1989.
(c) Filed with Form 10-K for December 31, 1998.
20