MONACO COACH CORP /DE/ - 10-Q Quarterly Report

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

ý		Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the period ended: July 3, 2004
or

o		Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the period from to

Commission File Number: 1-14725

MONACO COACH CORPORATION

Delaware		35-1880244
(State of Incorporation)		(I.R.S. Employer Identification No.)

91320 Industrial Way
Coburg, Oregon 97408

(Address of principal executive offices)

Registrant’s telephone number, including area code (541) 686-8011

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 ý NO o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

YES ý NO o

The number of shares outstanding of common stock, $.01 par value, as of July 3, 2004: 29,388,432

MONACO COACH CORPORATION

FORM 10-Q

July 3, 2004

INDEX

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements.

Condensed Consolidated Balance Sheets as of January 3, 2004 and July 3, 2004.

Condensed Consolidated Statements of Income for the quarters and six-month periods ended June 28, 2003 and July 3, 2004.

Condensed Consolidated Statements of Cash Flows for the six-month periods ended June 28, 2003 and July 3, 2004.

Notes to Condensed Consolidated Financial Statements.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Item 4. Controls and Procedures.

PART II - OTHER INFORMATION

Item 5. Submission of Matters to a Vote of Security Holders.

Item 6. Exhibits and Reports on Form 8-K.

Signatures.

Certifications under Section 302(a) and 906 of the Sarbanes-Oxley Act of 2002

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

MONACO COACH CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited: dollars in thousands, except share and per share data)

	January 3, 2004		July 3, 2004
ASSETS
Current assets:
Cash	$	13,398	$	11,985
Trade receivables, net	89,170		115,012
Inventories	127,746		158,631
Resort lot inventory	13,978		8,136
Prepaid expenses	3,029		6,877
Deferred income taxes	33,836		33,555
Total current assets	281,157		334,196

Property, plant, and equipment, net	141,662		140,459
Debt issuance costs net of accumulated amortization of $815, and $1,073, respectively	596		338
Goodwill	55,254		55,254
Total assets	$	478,669	$	530,247

LIABILITIES
Current liabilities:
Current portion of long-term note payable	$	15,000	$	15,000
Accounts payable	64,792		92,763
Product liability reserve	20,723		20,806
Product warranty reserve	29,643		33,225
Income taxes payable	3,395		3,369
Accrued expenses and other liabilities	26,373		31,495
Total current liabilities	159,926		196,658

Long-term note payable	15,000		7,500
Deferred income taxes	17,495		17,488
	192,421		221,646

STOCKHOLDERS’ EQUITY
Preferred stock, $.01 par, 1,934,783 shares authorized, no shares outstanding
Common stock, $.01 par value; 50,000,000 shares authorized, 29,246,143 and 29,388,432 issued and outstanding, respectively	292		294
Additional paid-in capital	54,919		56,333
Retained earnings	231,037		251,974
Total stockholders’ equity	286,248		308,601
Total liabilities and stockholders’ equity	$	478,669	$	530,247

See accompanying notes.

MONACO COACH CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited: dollars in thousands, except share and per share data)

	Quarter Ended						Six-Months Ended
	June 28, 2003			July 3, 2004			June 28, 2003			July 3, 2004

Net sales	$	268,456		$	357,774		$	542,217		$	712,750
Cost of sales	241,108			312,125			481,076			622,618
Gross profit	27,348			45,649			61,141			90,132

Selling, general, and administrative expenses	25,744			26,721			51,393			51,521
Operating income	1,604			18,928			9,748			38,611

Other income, net	137			127			156			213
Interest expense	(779		)	(372		)	(1,791		)	(777		)
Income before income taxes	962			18,683			8,113			38,047

Provision for income taxes	380			6,735			3,205			14,176

Net income	$	582		$	11,948		$	4,908		$	23,871

Earnings per common share:
Basic	$	.02		$	.41		$	.17		$	.81
Diluted	$	.02		$	.40		$	.17		$	.80

Weighted average common shares outstanding:
Basic	29,027,603			29,357,514			28,992,255			29,326,855
Diluted	29,469,777			30,013,014			29,405,286			29,990,241

See accompanying notes.

MONACO COACH CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited: dollars in thousands)

	Six-Months Ended
	June 28, 2003			July 3, 2004

Increase (Decrease) in Cash:

Cash flows from operating activities:
Net income	$	4,908		$	23,871
Adjustments to reconcile net income to net cash (used) provided by operating activities:
Loss on sale of assets	287			43
Depreciation and amortization	4,677			5,388
Deferred income taxes	2,158			274
Changes in working capital accounts:
Trade receivables, net	11,857			(25,842		)
Inventories	14,433			(30,885		)
Resort lot inventory	4,261			5,842
Prepaid expenses	80			(3,853		)
Accounts payable	(10,659		)	27,971
Product liability reserve	169			83
Product warranty reserve	(2,416		)	3,582
Income taxes payable	(4,536		)	(26		)
Accrued expenses and other liabilities	(1,088		)	5,122
Net cash provided by operating activities	24,131			11,570
Cash flows from investing activities:
Additions to property, plant, and equipment	(14,272		)	(4,110		)
Proceeds from sale of assets	1,789			145
Net cash used in investing activities	(12,483		)	(3,965		)
Cash flows from financing activities:
Book overdraft	5,968			0
Payments on lines of credit, net	(9,628		)	0
Payments on long-term notes payable	(8,666		)	(7,500		)
Debt issuance costs	(301		)	0
Dividends paid	0			(2,934		)
Issuance of common stock	979			1,416
Net cash used by financing activities	(11,648		)	(9,018		)
Net change in cash	0			(1,413		)
Cash at beginning of period	0			13,398
Cash at end of period	$	0		$	11,985

See accompanying notes.

MONACO COACH CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Basis of Presentation

The interim condensed consolidated financial statements have been prepared by Monaco Coach Corporation (the “Company”) without audit. In the opinion of management, the accompanying unaudited financial statements contain all adjustments necessary, consisting only of normal recurring adjustments, to present fairly the financial position of the Company as of January 3, 2004 and July 3, 2004, and the results of its operations for the quarters and six- month periods ended June 28, 2003 and July 3, 2004, and cash flows of the Company for the six-month periods ended June 28, 2003 and July 3, 2004. The condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, and all significant intercompany accounts and transactions have been eliminated in consolidation. The balance sheet data as of January 3, 2004 was derived from audited financial statements, but does not include all disclosures contained in the Company’s Annual Report to Stockholders. These interim condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto appearing in the Company’s Annual Report to Stockholders for the year ended January 3, 2004.

2. Inventories

Inventories are stated at lower of cost (first-in, first-out) or market. The composition of inventory is as follows:

	January 3, 2004		July 3, 2004
	(in thousands)
Raw materials	$	60,946	$	69,978
Work-in-process	60,604		67,666
Finished units	6,196		20,987
	$	127,746	$	158,631

3. Line of Credit

The Company’s line of credit facility consists of a revolving line of credit of up to $95.0 million (the “Revolving Loan”). At the election of the Company, the Revolving Loan bears interest at variable rates based on the Prime Rate or LIBOR. At July 3, 2004, the interest rate was 4.25%. The Revolving Loan is due and payable in full on June 30, 2005, and requires monthly interest payments. The balance outstanding under the Revolving Loan at July 3, 2004 was zero. The revolving line of credit is collateralized by all the assets of the Company. The agreement contains restrictive covenants as to the Company’s leverage ratio, current ratio, fixed charge coverage ratio, and tangible net worth. As of July 3, 2004, the Company was in compliance with these covenants.

4. Long-term Notes Payable

The Company has long-term notes payable of $22.5 million outstanding at July 3, 2004. The term notes bear interest at varying rates that fluctuate based on the Prime rate or LIBOR, and are determined based on the Company’s leverage ratio. The term notes require monthly interest payments and quarterly principal payments and are collateralized by all the assets of the Company. Additional prepayments for portions of the term notes are required in the event the Company sells substantially all or any motor coach resort locations. The term notes are due and payable in full on October 3, 2005.

The following table displays the scheduled future principal payments by fiscal year that will be due on the term loan.

Year	Amount of Payment Due
	(in thousands)
2004	$	7,500
2005	15,000
	$	22,500

5. Earnings Per Common Share

Basic earnings per common share is based on the weighted average number of shares outstanding during the period. Diluted earnings per common share is based on the weighted average number of shares outstanding during the period, after consideration of the dilutive effect of stock options. The weighted average number of common shares used in the computation of earnings per common share are as follows:

	Quarter Ended		Six-Months Ended
	June 28, 2003	July 3, 2004	June 28, 2003	July 3, 2004
Basic
Issued and outstanding shares (weighted average)	29,027,603	29,357,514	28,992,255	29,326,855

Effect of Dilutive Securities
Stock Options	442,174	655,500	413,031	663,386
Diluted	29,469,777	30,013,014	29,405,286	29,990,241

6. Stock Option Plans

At July 3, 2004, the Company had three stock-based employee compensation plans. The Company accounts for those plans under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. 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 123, Accounting for Stock-based Compensation, to stock-based employee compensation.

	Quarter Ended				Six-Months Ended
	June 28, 2003		July 3, 2004		June 28, 2003		July 3, 2004

Net income - as reported	$	582	$	11,948	$	4,908	$	23,871
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects	172		212		338		421
	$	410	$	11,736	$	4,570	$	23,450

Earnings per share:
Basic - as reported	$	0.02	$	0.41	$	0.17	$	0.81
Basic - pro forma	$	0.01	$	0.40	$	0.16	$	0.80

Diluted - as reported	$	0.02	$	0.40	$	0.17	$	0.80
Diluted - pro forma	$	0.01	$	0.39	$	0.16	$	0.78

7. Commitments and Contingencies

Repurchase Agreements

Many of the Company’s sales to independent dealers are made on a “floor plan” basis by a bank or finance company which lends the dealer all or substantially all of the wholesale purchase price and retains a security interest in the vehicles. Upon request of a lending institution financing a dealer’s purchases of the Company’s product, the Company will execute a repurchase agreement. These agreements provide that, for up to 18 months after a unit is shipped, the Company will repurchase a dealer’s inventory in the event of a default by a dealer to its lender.

The Company’s liability under repurchase agreements is limited to the unpaid balance owed to the lending institution by reason of its extending credit to the dealer to purchase its vehicles, reduced by the resale value of vehicles which may be repurchased. The risk of loss is spread over numerous dealers and financial institutions.

The approximate amount subject to contingent repurchase obligations arising from these agreements at July 3, 2004 is $539.6 million, with approximately 8.0% concentrated with one dealer. If the Company were obligated to repurchase a significant number of units under any repurchase agreement, its business, operating results, and financial condition could be adversely affected. The Company has included the disclosure requirements of FASB Interpretation No. 45 (FIN 45), “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” in its financial statements, and has determined that the recognition provisions of FIN 45 apply to certain guarantees routinely made by the Company including contingent repurchase obligations to third party lenders for inventory financing of dealer inventories. The Company has recorded a liability of approximately $750,000 for potential losses resulting from guarantees on repurchase obligations for products shipped to dealers. This estimated liability, is based on the Company’s experience of losses associated with the repurchase and resale of units in prior years. If the Company were obligated to repurchase a significant number of units under any repurchase agreement, its business, operating results, and financial condition could be adversely affected.

Product Liability

The Company is subject to regulations which may require the Company to recall products with design or safety defects, and such recall could have a material adverse effect on the Company’s business, results of operations, and financial condition.

The Company has from time to time been subject to product liability claims. To date, the Company has been successful in obtaining product liability insurance on terms the Company considers acceptable. The terms of the policy contain a self-insured retention amount of $500,000 per occurrence, with a maximum annual aggregate self-insured retention of $3.0 million. Overall product liability insurance, including umbrella coverage, is available to a maximum amount of $100.0 million for each occurrence, as well as in the aggregate. There can be no assurance that the Company will be able to obtain insurance coverage in the future at acceptable levels or that the cost of insurance will be reasonable. Furthermore, successful assertion against the Company of one or a series of large uninsured claims, or of one or a series of claims exceeding any insurance coverage, could have a material adverse effect on the Company’s business, results of operations, and financial condition.

Litigation

The Company is involved in various legal proceedings which are incidental to the industry and for which certain matters are covered in whole or in part by insurance or, otherwise, the Company has recorded accruals for estimated settlements. Management believes that any liability which may result from these proceedings will not have a material adverse effect on the Company’s consolidated financial statements.

Aircraft Lease Commitment

The Company has an aircraft under an operating lease, with annual renewals for up to three years. Currently the Company began its first year of renewal in February 2004, with two optional years remaining. If at the end of the initial lease period the Company elects to return the aircraft, the Company has guaranteed up to $16 million in the event the lessor’s net sales proceeds are less than $18.5 million.

2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These statements include, but are not limited to, those below that have been marked with an asterisk (*). In addition, statements containing words such as “anticipates,” “believes,” “estimates,” “expects,” “intends,” “plans,” “seeks,” and variations of such words and similar expressions are intended to identify forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to differ materially from those expressed or implied by such forward-looking statements, including those set forth below under the caption “Factors That May Affect Future Operating Results” and elsewhere in this Quarterly Report on Form 10-Q. The reader should carefully consider, together with the other matters referred to herein, the factors set forth under the caption “Factors That May Affect Future Operating Results.” We caution the reader, however, that these factors may not be exhaustive.

GENERAL

Monaco Coach Corporation is a leading manufacturer of premium Class A and Class C motor coaches and towable recreational vehicles (“towables”). Our product line currently consists of a broad line of motor coaches, fifth wheel trailers and travel trailers under the “Monaco,” “Holiday Rambler,” “Royale Coach,” “Beaver,” “Safari,” and “McKenzie” brand names. Our products, which are typically priced at the high end of their respective product categories, range in suggested retail price from $70,000 to $1.4 million for motor coaches and from $25,000 to $65,000 for towables.

RESULTS OF OPERATIONS

The following table illustrates the results of operations for the quarters ended June 28, 2003, and July 3, 2004. All dollars represented are in thousands.

	2003		% of Sales		2004		% of Sales		$ Change		% Change
Net sales	$	268,456	100.0	%	$	357,774	100.0	%	$	89,318	33.3	%
Cost of Sales	241,108		89.8	%	312,125		87.2	%	71,017		29.4	%
Gross Profit	27,348		10.2	%	45,649		12.8	%	18,301		66.9	%
Selling, general and administrative expenses	25,744		9.6	%	26,721		7.5	%	-977		-3.8	%

Operating income	$	1,604	0.6	%	$	18,928	5.3	%	$	17,324	1080.04	%

Performance in the second quarter of 2004

We are pleased with the record revenues generated for the second quarter of 2004. Profits for the second quarter of 2004 were significantly improved over that of the similar quarter of 2003. Reduced levels of sales discounting, improved labor and warranty expense, as well as improvements in indirect cost of sales, helped to fuel an increase in gross profit of $18 million. While gross margins have improved, there continues to be some pressure from commodity prices in the steel, lumber, petroleum based products, and other related industries. In response to these rising costs, we passed along proportional price increases in our products during the first and second quarters of 2004. Currently the rate of price increases in the commodities markets has slowed down. Accordingly, we do not anticipate further commodities related price increases in the near future in our own product.* Nevertheless, we will continue to monitor these, as well as other costs, and take appropriate actions to try and minimize the impact of additional commodity price increases as they present themselves.*

In addition to improved gross margins, we were also successful in reducing selling, general, and administrative (S,G&A) expenses. The decrease in S,G&A expenses was due to a lower level of retail sales promotions, as

well as lower show costs compared to the same period last year. These improvements were partially offset by slightly higher litigation settlement expense as a percentage of sales which were a result of new product liability cases filed against the Company during the quarter. We expect to see settlement expense to remain consistent with the second quarter of 2004 for the remainder of the year.* The reduction in retail sales promotions was due to improved demand for our product in the market place, while the show expense reduction was a result of a continuing effort to streamline show participation.

Quarter ended July 3, 2004 Compared to Quarter ended June 28, 2003

Second quarter net sales increased 33.3% to $357.8 million compared to $268.5 million for the same period last year. Gross diesel motorized revenues were up 27.4%, gas motorized were up 28.3% and towables were up 90.5%. Diesel products accounted for 75.2% of our second quarter revenues while gas products were 14.8%, and towables were 10.0%. The overall increase in revenues reflects improving market conditions, continued low interest rates, and increased interest in the recreational vehicle industry. Our overall unit sales were up 48.1% in the second quarter of 2004 to 3,347 units, with diesel motorized unit sales up 24.1% to 1,456 units, gas motorized unit sales up 25.0% to 669 units, and towable unit sales up 121.4% to 1,222 units. Our total average unit selling price decreased to $106,000 from $119,000 in the same period last year, reflecting our strong gains in the sale of lower priced gas motor homes and towable products.

Gross profit for the second quarter of 2004 increased to $45.6 million, up from $27.3 million in 2003, and gross margin increased from 10.2% in the second quarter of 2003 to 12.8% in the second quarter of 2004. The increase in gross margin over the prior year was due to a combination of factors, including a reduction in discounts off of wholesale invoices of approximately 0.10% of sales, as well as increases in wholesale selling prices of the Company’s products. Other direct costs, such as labor, with related benefits, and warranty improved by 1.3% of sales, and indirect costs related to factory overhead improved by 1.0% of sales. In addition, the Company also experienced improvements in other direct cost areas that respectively provided the remaining incremental margin improvements. These benefits were offset by a higher material usage rate of .2% due to increases in commodity prices, as well as shifts in product mix. Our overall gross margin may decline in future periods if the mix of products continues to shift from higher to lower gross margin units or if we encounter unexpected manufacturing difficulties or competitive pressures.*

Selling, general, and administrative expenses (S,G&A) increased by $977,000 to $26.7 million in the second quarter of 2004 and decreased as a percentage of sales from 9.6% in 2003 to 7.5% in 2004. S,G&A expenses in the second quarter of 2004 included decreases in retail promotions of 2.0% as a percentage of sales, and a decrease in show expense of 0.4% as a percentage of sales. These savings were partially offset by higher litigation settlement expense of 0.2% of sales. Other S,G&A expenses increased by 0.1%.

Operating income was $18.9 million, or 5.3% of sales, in the second quarter of 2004 compared to $1.6 million, or 0.6% of sales, in the similar 2003 period. The increase in operating margins reflects improved gross margin as well as reduced S,G&A as a percentage of sales.

Net interest expense was $372,000 in the second quarter of 2004 versus $779,000 in the comparable 2003 period, reflecting a lower level of borrowing during the second quarter of 2004.

We reported a provision for income taxes of $6.7 million, or an effective tax rate of 36.1%, in the second quarter of 2004, compared to $380,000, or an effective tax rate of 39.5%, for the comparable 2003 period. The decrease in the effective tax rate was due primarily to a reduction in the valuation allowance previously provided for certain net operating loss carryforward benefits that were not expected to be realized. Due to changes in federal income tax rules, the Company determined in second quarter 2004 that it would be able to fully realize the future tax benefits from these net operating loss carryforwards and that the related valuation allowance was no longer necessary. Further reductions in the effective tax rate resulted from increases in the Company’s extraterritorial income exclusion benefits on foreign sales and a change in state income tax law. The Company expects the current year’s effective tax rate to be 38.3% through the remainder of 2004.*

Net income for the second quarter of 2004 was $11.9 million compared to $582,000 in 2003 due to an increase in sales combined with a higher operating margin, a decrease in interest expense, and an improvement in the effective tax rate.

Six Months ended July 3, 2004 Compared to Six Months ended June 28, 2003

Net sales increased 31.3% to $712.8 million compared to $542.2 million for the same period last year. Gross diesel motorized revenues were up 27.7%, gas motorized revenues were up 39.5%, and towables were up 60.1%. Diesel products accounted for 76.4% of our first six months’ revenues while gas products were 14.3%, and towables were 9.3%. The overall increase in revenues was driven by improving market conditions, continued low interest rates, and continued interest in the recreational vehicle industry. Our overall unit sales were up 40.1% in the first six months of 2004 compared to the similar period in 2003 with diesel motorized unit sales up 23.6% to 2,962 units, gas motorized unit sales up 28.7% to 1,126 units, and towables units sales up 81.5% to 2,216 . Our average unit selling price decreased in the first six months of 2004 compared to the similar 2003 period to $109,000 from $116,000, reflecting our continued emphasis on increasing the sale of lower priced gas motor homes and towable products.

Gross profit for the six-month period ended July 3, 2004 increased to $90.1 million from $61.1 million in 2003, and gross margin increased to 12.7% in 2004 from 11.3% in 2003. The increase in gross margin over the prior year was due to a combination of factors, including a reduction in discounts off of wholesale invoices of approximately 0.1% of sales, as well as increases in wholesale selling prices of the Company’s products. In addition, other direct costs, such as labor, with related benefits, and warranty improved by 1.2% of sales, and indirect cost of sales related to factory overhead improved by 0.8% of sales. These benefits were offset by a higher material usage rate of 0.6% due to increases in commodity prices, as well as shifts in product mix. Additional margin pressure was experienced due to higher delivery costs of 0.2% of sales. Our overall gross margin may decline in future periods if the mix of products continues to shift from higher to lower gross margin units or if we encounter unexpected manufacturing difficulties or competitive pressures.*

S,G&A expenses increased by $128,000 to $51.5 million in the first six months of 2004 and decreased as a percentage of sales from 9.5% in 2003 to 7.2% in 2004. S,G&A in the first six months of 2004 included decreases in retail promotions of 2.3% of sales, as well as decreases in litigation settlement of 0.6% of sales. These decreases were offset by increased wages, salaries, and benefits of 0.6% of sales related to higher performance based compensation.

Operating income was $38.6 million, or 5.4% of sales, in the six-month period ended July 3, 2004 compared to $9.7 million, or 1.8% of sales, in the similar 2003 period. The increase in operating margins reflects improved gross margins as well as reduced S,G&A as a percentage of sales.

Net interest expense was $777,000 in the first six months of 2004 versus $1.8 million in the comparable 2003 period, reflecting a lower level of borrowing during the first half of 2004.

We reported a provision for income taxes of $14.2 million, or an effective tax rate of 37.3%, for the first six months of 2004, compared to $3.2 million, or an effective tax rate of 39.5%, for the comparable 2003 period. The decrease in the effective tax rate was due primarily to a reduction in the valuation allowance previously provided for certain net operating loss carryforward benefits that were not expected to be realized. Due to changes in federal income tax rules, the Company determined in second quarter 2004 that it would be able to fully realize the future tax benefits from these net operating loss carryforwards and that the related valuation allowance was no longer necessary. Further reductions in the effective tax rate resulted from increases in the Company’s extraterritorial income exclusion benefits on foreign sales and a change in state income tax law. The Company expects the current year’s effective tax rate to be 38.3% through the remainder of 2004.*

Net income for the first half of 2004 was $23.9 million compared to $4.9 million in 2003 due to the increase in sales combined with higher gross margins.

LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity are internally generated cash from operations and available borrowings under our credit facilities. During the first six months of 2004, we generated cash of $11.6 million from operating activities. We generated $29.3 million from net income and non-cash expenses such as depreciation and amortization. Other sources of cash included a $28.0 million increase in trade payables, $5.1 million increase in

accrued liabilities, a $5.8 million decrease in resort lot inventory, and a $3.6 million increase in warranty reserve. Trade payables increased primarily due to increased production levels as well as timing associated with the regularly scheduled shut down of the plants that occurs at quarter end. Other liabilities increased due to increases in various reserves related to employee benefits and performance based compensation. Reduced resort lot inventories reflect strong lot sales for the six month period, and the increase in warranty reserve is the result of the strong increase in recreational vehicles sold . These sources of cash were mostly offset by a $25.8 million increase in receivables, a $30.9 million increase in inventories, and a $3.9 million increase in prepaid expenses. Trade receivables increased due to lower shipment levels occurring at the end of the fourth quarter 2003, which were a result of scheduled plant shut downs, versus shipment levels at the end of the second quarter 2004. Inventory increases are the result of increased production, as well as the below normal finished good levels that existed at the end of 2003. Prepaid expenses were up due to the renewal of certain liability insurance policies that expired during the six month period.

We have credit facilities consisting of a revolving line of credit of up to $95.0 million of which no borrowings were outstanding at July 3, 2004 (the “Revolving Loan”) and term loans with balances of $22.5 million at July 3, 2004 (the “Term Loans”). At our election, the Revolving Loan and Term Loans bear interest at varying rates that fluctuate based on the Prime rate or LIBOR, and are determined based on our leverage ratio. We also pay interest monthly on the unused available portion of the Revolving Loan at varying rates, determined by our leverage ratio. The Revolving loan is due and payable in full on June 30, 2005, and requires monthly interest payments. Additional prepayments for portions of the term notes are required in the event we sell substantially all, or any, motor coach resort location. The Term Loans require monthly interest payments and principal payments that total $3.75 million per quarter. The Revolving Loan and Term Loans are collateralized by all of our assets and include various restrictions and financial covenants. We utilize “zero balance” bank disbursement accounts in which an advance on the line of credit is automatically made for checks clearing each day. Since the balance of the disbursement account at the bank returns to zero at the end of each day, our outstanding checks are reflected as a liability. The outstanding check liability is combined with our positive cash balance accounts to reflect a net cash balance for financial reporting.

Our principal working capital requirements are for purchases of inventory and financing of trade receivables. Many of our dealers finance product purchases under wholesale floor plan arrangements with third parties as described below. At July 3, 2004, we had working capital of approximately $137.5 million, an increase of $16.3 million from working capital of $121.2 million at January 3, 2004. We have been using cash flow from operations to finance our capital expenditures.

We believe that cash flow from operations and funds available under our credit facilities will be sufficient to meet our liquidity requirements for the next 12 months.* Our capital expenditures were $4.1 million in the first six months of 2004, which included costs related to installation of certain automated machinery, enhancements to the Company’s information system infrastructure, as well as various other routine capital expenditures. We anticipate that capital expenditures for all of 2004 will be approximately $12 to $15 million, which includes expenditures to purchase additional machinery and equipment in both our Oregon and Indiana facilities, as well as upgrades to existing information systems infrastructures.* We may require additional equity or debt financing to address working capital and facilities expansion needs, particularly if we significantly increase the level of working capital assets such as inventory and accounts receivable. We may also from time to time seek to acquire businesses that would complement our current business, and any such acquisition could require additional financing. There can be no assurance that additional financing will be available if required or on terms deemed favorable by us.

As is typical in the recreational vehicle industry, many of our retail dealers utilize wholesale floor plan financing arrangements with third party lending institutions to finance their purchases of our products. Under the terms of these floor plan arrangements, institutional lenders customarily require the recreational vehicle manufacturer to agree to repurchase any unsold units if the dealer fails to meet its commitments to the lender, subject to certain conditions. We have agreements with several institutional lenders under which we currently have repurchase obligations. Our contingent obligations under these repurchase agreements are reduced by the proceeds received upon the sale of any repurchased units. Our obligations under these repurchase agreements vary from period to period, up to 18 months. At July 3, 2004, approximately $539.6 million of products sold by us to independent dealers were subject to potential repurchase under existing floor plan financing agreements with approximately 8.0% concentrated with one dealer. Historically, we have been successful in mitigating losses associated with repurchase obligations. During the first six months of 2004, the losses associated with the exercise of repurchase agreements were less than $100,000. If we were obligated to repurchase a significant number of units under any repurchase agreement, our business, operating results, and financial condition could be adversely affected.

As part of the normal course of business, we incur certain contractual obligations and commitments which will require future cash payments. The following tables summarize the significant obligations and commitments.

PAYMENTS DUE BY PERIOD

Contractual obligations (in thousands)	1 year or less		1 to 3 years		4 to 5 years		Thereafter		Total
Long-term Debt (1)	$	15,000	$	7,500	$	0	$	0	$	22,500
Operating Leases (2)	1,469		2,479		1,957		3,599		9,504
Total Contractual Cash Obligations	$	16,469	$	9,979	$	1,957	$	3,599	$	32,004

AMOUNT OF COMMITMENT EXPIRATION BY PERIOD

Other commitments (in thousands)	1 year or less		1 to 3 years			4 to 5 years		Thereafter		Total
Lines of Credit (3)	$	0	$	95,000		$	0	$	0	$	95,000
Guarantees			16,000		(2)	0		0		16,000
Repurchase Obligations (4)	0		539,600			0		0		539,600
Total Commitments	$	0	$	650,600		$	0	$	0	$	650,600

(1) See Note 4 to the financials.

(2) Various leases including manufacturing facilities, aircraft, and machinery and equipment. See Note 7 to the financials.

(3) See Note 3 to the financials. The amount listed represents available borrowings on the line of credit at July 3, 2004.

(4) Reflects obligations under manufacturer repurchase commitments. See Note 7 to the financials.

INFLATION

In the first half of 2004, we experienced significant increases in the prices of certain commodity items that we use in the manufacturing of our products. These include, but are not limited to, steel, copper, aluminum, petroleum, and wood. While these raw materials are not necessarily indicative of widespread inflationary trends, they have had a material impact on our production costs, and accordingly, we have passed along price increases to offset these increased costs. However, even though we have been able to pass along past price increases, there is no guarantee that we will be able to pass along future increases. While we have seen some of these costs begin to level off, potential future increases in raw material costs could have a material adverse impact on our business going forward.

CRITICAL ACCOUNTING POLICIES

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to warranty costs, product liability, and impairment of goodwill. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions. We believe the following critical accounting policies and related judgments and estimates affect the preparation of our consolidated financial statements.

WARRANTY COSTS Estimated warranty costs are provided for at the time of sale of products with warranties covering the products for up to one year from the date of retail sale (five years for the front and sidewall frame structure, and three years on the Roadmaster chassis). These estimates are based on historical average repair costs, as well as other reasonable assumptions as have been deemed appropriate by management.

PRODUCT LIABILITY We provide an estimate for accrued product liability based on current pending cases, as well as for those cases which are incurred but not reported. This estimate is developed by legal counsel based on professional judgment, as well as historical experience.

IMPAIRMENT OF GOODWILL We assess the potential impairment of goodwill in accordance with Financial Accounting Standards Board (FASB) Statement No. 142. This initial test involves management comparing our market capitalization, to the carrying amount, including goodwill, of our net book value, to determine if goodwill has been impaired.

INVENTORY RESERVES We write down our inventory for obsolescence, and the difference between the cost of inventory and its estimated market value. These write-downs are based on assumptions about future sales demand and market conditions. If actual sales demand or market conditions change from those projected by management, additional inventory write-downs may be required.

INCOME TAXES In conjunction with preparing our consolidated financial statements, we must estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating actual current tax expense together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included in the consolidated balance sheets. We must then assess the likelihood that the deferred tax assets will be recovered from future taxable income, and to the extent management believes that recovery is not likely, a valuation allowance must be established. Significant management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities, and any valuation allowance recorded against net deferred tax assets.

FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

WE MAY EXPERIENCE UNANTICIPATED FLUCTUATIONS IN OUR OPERATING RESULTS FOR A VARIETY OF REASONS Our net sales, gross margin, and operating results may fluctuate significantly from period to period due to a number of factors, many of which are not readily predictable. These factors include the following:

• The margins associated with the mix of products we sell in any particular period.

• Our ability to utilize and expand our manufacturing resources efficiently.

• Shortages of materials used in our products.

• A determination by us that goodwill or other intangible assets are impaired and have to be written down to their fair values, resulting in a charge to our results of operations.

• Our ability to introduce new models that achieve consumer acceptance.

• The introduction, marketing and sale of competing products by others, including significant discounting offered by our competitors.

• The addition or loss of our dealers.

• The timing of trade shows and rallies, which we use to market and sell our products.

• The impact of inflation on the cost of our raw materials.

• Factors affecting the recreational vehicle industry as a whole, including economic and seasonal factors.

Our overall gross margin may decline in future periods to the extent that we increase the percentage of sales of lower gross margin towable products or if the mix of motor coaches we sell shifts to lower gross margin units. In addition, a relatively small variation in the number of recreational vehicles we sell in any quarter can have a significant impact on total sales and operating results for that quarter.

Demand in the recreational vehicle industry generally declines during the winter months, while sales are generally higher during the spring and summer months. With the broader range of products we now offer, seasonal factors could have a significant impact on our operating results in the future. Additionally, unusually severe weather conditions in certain markets could delay the timing of shipments from one quarter to another.

We attempt to forecast orders for our products accurately and commence purchasing and manufacturing prior to receipt of such orders. However, it is highly unlikely that we will consistently and accurately forecast the timing, rate, and mix of orders. This aspect of our business makes our planning inexact and, in turn, affects our shipments, costs, inventories, operating results, and cash flow for any given quarter.

THE RECREATIONAL VEHICLE INDUSTRY IS CYCLICAL AND SUSCEPTIBLE TO SLOWDOWNS IN THE GENERAL ECONOMY The recreational vehicle industry has been characterized by cycles of growth and contraction in consumer demand, reflecting prevailing economic, demographic, and political conditions that affect disposable income for leisure-time activities. For example, unit sales of recreational vehicles (excluding conversion vehicles) peaked at approximately 259,000 units in 1994 and declined to approximately 247,000 units in 1996. The industry peaked again in 1999 at approximately 321,000 units and declined in 2001 to 257,000 units. In 2003, the industry rebounded up to approximately 321,000 units. Our business is subject to the cyclical nature of this industry. Some of the factors that contribute to this cyclicality include fuel availability and costs, interest rate levels, the level of discretionary spending, and availability of credit and overall consumer confidence. The recent decline in consumer confidence and slowing of the overall economy has adversely affected the recreational vehicle market. An extended continuation of these conditions would materially affect our business, results of operations, and financial condition.

WE RELY ON A RELATIVELY SMALL NUMBER OF DEALERS FOR A SIGNIFICANT PERCENTAGE OF OUR SALES Although our products were offered by 339 dealerships located primarily in the United States and Canada as of July 3, 2004, a significant percentage of our sales are concentrated among a relatively small number of independent dealers. For the quarter ended July 3, 2004, sales to one dealer, Lazy Days RV Center, accounted for 10.3% of total sales compared to 13.6% of sales in the same period ended last year. For quarters ended June 28, 2003 and July 3, 2004, sales to our 10 largest dealers, including Lazy Days RV Center, accounted for a total of 40.0% and 39.6% of total sales, respectively. The loss of a significant dealer or a substantial decrease in sales by any of these dealers could have a material impact on our business, results of operations, and financial condition.

WE MAY HAVE TO REPURCHASE A DEALER’S INVENTORY OF OUR PRODUCTS IN THE EVENT THAT THE DEALER DOES NOT REPAY ITS LENDER As is common in the recreational vehicle industry, we enter into repurchase agreements with the financing institutions used by our dealers to finance their purchases of our products. These agreements require us to repurchase the dealer’s inventory in the event that the dealer does not repay its lender. Obligations under these agreements vary from period to period, but totaled approximately $539.6 million as of July 3, 2004, with approximately 8.0% concentrated with one dealer. If we were obligated to repurchase a significant number of units under any repurchase agreement, our business, operating results, and financial condition could be adversely affected.

OUR ACCOUNTS RECEIVABLE BALANCE IS SUBJECT TO CONCENTRATION RISK We sell our product to dealers who are predominantly located in the United States and Canada. The terms and conditions of payment are a combination of open trade receivables, and commitments from dealer floor plan lending institutions. As of July 3, 2004, total trade receivables were $115.0 million, with approximately $86.7 million, or 75.4% of the outstanding accounts receivable balance concentrated among floor plan lenders. The remaining $28.3 million of trade receivables were concentrated substantially all with one dealer.

WE MAY EXPERIENCE A DECREASE IN SALES OF OUR PRODUCTS DUE TO AN INCREASE IN THE PRICE OR A DECREASE IN THE SUPPLY OF FUEL An interruption in the supply, or a significant increase in the price or tax on the sale, of diesel fuel or gasoline on a regional or national basis could significantly affect our business. Diesel fuel and gasoline have, at various times in the past, been either expensive or difficult to obtain.

WE DEPEND ON SINGLE OR LIMITED SOURCES TO PROVIDE US WITH CERTAIN IMPORTANT COMPONENTS THAT WE USE IN THE PRODUCTION OF OUR PRODUCTS A number of important components for certain of our products are purchased from single or a limited number of sources. These include turbo diesel engines (Cummins and Caterpillar), substantially all of our transmissions (Allison), axles (Dana and Meritor) for all diesel motor coaches and chassis (Workhorse and Ford) for gas motor coaches. We have no long-term supply contracts with these suppliers or their distributors, and we cannot be certain that these suppliers will be able to meet our future requirements. Consequently, we have periodically been placed on allocation of these

and other key components. The last significant allocation occurred in 1997 from Allison, and in 1999 from Ford. An extended delay or interruption in the supply of any components that we obtain from a single supplier or from a limited number of suppliers could adversely affect our business, results of operations, and financial condition.

OUR INDUSTRY IS VERY COMPETITIVE. WE MUST CONTINUE TO INTRODUCE NEW MODELS AND NEW FEATURES TO REMAIN COMPETITIVE The market for our products is very competitive. We currently compete with a number of manufacturers of motor coaches, fifth wheel trailers, and travel trailers. Some of these companies have greater financial resources than we have and extensive distribution networks. These companies, or new competitors in the industry, may develop products that customers in the industry prefer over our products.

We believe that the introduction of new products and new features is critical to our success. Delays in the introduction of new models or product features, quality problems associated with these introductions, or a lack of market acceptance of new models or features could affect us adversely. For example, unexpected costs associated with model changes have affected our gross margin in the past. Further, new product introductions can divert revenues from existing models and result in fewer sales of existing products.

OUR PRODUCTS COULD FAIL TO PERFORM ACCORDING TO SPECIFICATIONS OR PROVE TO BE UNRELIABLE, CAUSING DAMAGE TO OUR CUSTOMER RELATIONSHIPS AND OUR REPUTATION AND RESULTING IN LOSS OF SALES Our customers require demanding specifications for product performance and reliability. Because our products are complex and often use advanced components, processes and techniques, undetected errors and design flaws may occur. Product defects result in higher product service and warranty and replacement costs and may cause serious damage to our customer relationships and industry reputation, all of which will negatively affect our sales and business.

OUR BUSINESS IS SUBJECT TO VARIOUS TYPES OF LITIGATION, INCLUDING PRODUCT LIABILITY AND WARRANTY CLAIMS We are subject to litigation arising in the ordinary course of our business, typically for product liability and warranty claims that are common in the recreational vehicle industry. While we do not believe that the outcome of any pending litigation, net of insurance coverage, will materially adversely affect our business, results of operations, or financial condition, we cannot provide assurances in this regard because litigation is an inherently uncertain process.*

To date, we have been successful in obtaining product liability insurance on terms that we consider acceptable. The terms of the policy contain a self-insured retention amount of $500,000 per occurrence, with a maximum annual aggregate self-insured retention of $3.0 million. Overall product liability insurance, including umbrella coverage, is available to a maximum amount of $100.0 million for each occurrence, as well as in the aggregate. We cannot be certain we will be able to obtain insurance coverage in the future at acceptable levels or that the costs of such insurance will be reasonable. Further, successful assertion against us of one or a series of large uninsured claims, or of a series of claims exceeding our insurance coverage, could have a material adverse effect on our business, results of operations, and financial condition.

WE MAY BE UNABLE TO ATTRACT AND RETAIN KEY EMPLOYEES, DELAYING PRODUCT DEVELOPMENT AND MANUFACTURING Our success depends in part upon attracting and retaining highly skilled professionals. A number of our employees are highly skilled engineers and other technical professionals, and our failure to continue to attract and retain such individuals could adversely affect our ability to compete in the industry.

OUR RECENT GROWTH HAS PUT PRESSURE ON THE CAPABILITIES OF OUR OPERATING, FINANCIAL, AND MANAGEMENT INFORMATION SYSTEMS In the past few years, we have significantly expanded the size and scope of our business, which has required us to hire additional employees. Some of these new employees include new management personnel. In addition, our current management personnel have assumed additional responsibilities. The increase in our size over a relatively short period of time has put pressure on our operating, financial, and management information systems. If we continue to expand, such growth would put additional pressure on these systems and may cause such systems to malfunction or to experience significant delays.

WE MAY EXPERIENCE UNEXPECTED PROBLEMS AND EXPENSES ASSOCIATED WITH OUR MANUFACTURING EQUIPMENT AUTOMATION PLAN As we continue to work towards involving automated machinery and equipment to improve efficiencies and quality, we will be subject to certain risks involving implementing new technologies into our facilities.

The expansion into new machinery and equipment technologies involves risks, including the following:

• We must rely on timely performance by contractors, subcontractors, and government agencies, whose performance we may be unable to control.

• The development of new processes involves costs associated with new machinery, training of employees, and compliance with environmental, health, and other government regulations.

• The newly developed products may not be successful in the marketplace.

• We may be unable to complete a planned machinery and equipment implementation in a timely manner, which could result in lower production levels and an inability to satisfy customer demand for our products.

NEWLY ISSUED FINANCIAL REPORTING PRONOUNCEMENTS

None.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Not applicable.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms.

Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures will prevent all error and all fraud. Because of inherent limitations in any system of disclosure controls and procedures, no evaluation of controls can provide absolute assurance that all instances of error or fraud, if any, within the Company may be detected. However, our management, including our Chief Executive Officer and our Chief Financial Officer, have designed our disclosure controls and procedures to provide reasonable assurance of achieving their objectives and have, pursuant to the evaluation discussed above, concluded that our disclosure controls and procedures are, in fact, effective at this reasonable assurance level.

Changes in Internal Controls Over Financial Reporting

There was no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

Item 5. Submission of Matters to a Vote of Security Holders

At the Annual Meeting of Stockholders of the Company, held on May 19, 2004 in Coburg, Oregon, the Stockholders (i) elected four Class I directors to serve on the Company’s Board of Directors, (ii) re-approved the Amendment of the Company’s Executive Compensation Plan, (iii) ratified the Company’s appointment of PricewaterhouseCoopers LLP as independent auditors.

The vote for the election of the four Class I directors was as follows:

Nominee	For	Withheld
Kay L. Toolson	26,761,098	837,592
L. Ben Lytle	26,666,476	932,214
Richard A. Rouse	26,285,951	1,312,739
Daniel C. Ustian	27,170,841	427,849

The vote for re-approval of the Amendment of the Company’s Executive Variable Compensation Plan was as follows:

For		Against		Abstained
22,307,380		1,336,466	+	684,038

The vote for ratifying the appointment of PricewaterhouseCoopers LLP was as follows:

For		Against		Abstained
27,163,104		425,299		10,287

+ Includes 3,270,806 broker nonvotes

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits

31.1 Sarbanes-Oxley Section 302(a) Certification.

31.2 Sarbanes-Oxley Section 302(a) Certification.

32.1 Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section

1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(b) Reports on Form 8-K

On April 28, 2004, the Company filed a Form 8-K which furnished a copy of a press release announcing the Company’s results of operations for the first quarter ended April 3, 2004.

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.

		MONACO COACH CORPORATION


Dated:	August 10, 2004	/s/ P. Martin Daley
		P. Martin Daley
		Vice President and Chief Financial Officer (Duly Authorized Officer and Principal Financial Officer)

EXHIBITS INDEX

Exhibit Number		Description of Document

31.1		Sarbanes-Oxley Section 302(a) Certification.

31.2		Sarbanes-Oxley Section 302(a) Certification.

32.1		Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, and Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.