WII Components, Inc. - 10-Q Quarterly Report

WII COMPONENTS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

(In thousands)

	September 30, 2004		December 31, 2003
ASSETS
Current Assets:
Cash	$	219	$	39
Accounts receivable, net	10,030		9,158
Inventories	14,335		13,327
Other current assets	3,775		4,848


Total current assets	28,359		27,372
Property, plant, and equipment, net	41,503		37,023
Goodwill	107,811		104,041
Customer relationship	7,544
Noncompete agreements	1,312		1,617
Other assets	7,158		3,872


TOTAL	$	193,687	$	173,925

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Current maturities of long-term debt	$		$	24,627
Accounts payable	4,518		6,071
Accrued payroll	3,815		2,626
Other current liabilities	7,487		8,180


Total current liabilities	15,820		41,504
Long-term debt, net of current maturities	123,500		70,321
Other noncurrent liabilities	7,375		7,966
Stockholders’ Equity:
Common stock—voting	206		148
Common stock—nonvoting	9		10
Additional paid-in capital	45,219		47,283
Retained earnings	1,558		6,552
Accumulated other comprehensive income			141


Total stockholders’ equity	46,992		54,134


TOTAL	$	193,687	$	173,925

See notes to condensed consolidated financial statements (unaudited).

WII COMPONENTS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(In thousands)

	Three Months Ended September 30, 2004			Three Months Ended September 30, 2003
NET SALES	$	52,274		$	43,958
COST OF SALES	42,981			35,434


Gross profit	9,293			8,524
OPERATING EXPENSES:
General and administrative	2,450			2,099
Selling and marketing	743			727
Stock compensation expense	261
Loss on sale of assets	10


Total operating expenses	3,464			2,826


OPERATING INCOME	5,829			5,698
OTHER INCOME (EXPENSE):
Interest income	9			20
Interest expense	(3,477		)	(2,019		)
Other income	1			13


Total other expense	(3,467		)	(1,986		)


INCOME BEFORE PROVISION FOR INCOME TAXES	2,362			3,712
PROVISION FOR INCOME TAXES	858			1,388


NET INCOME	$	1,504		$	2,324

See notes to condensed consolidated financial statements (unaudited).

WII COMPONENTS, INC. AND SUBSIDIARIES

(SUCCESSOR), AND WOODCRAFT INDUSTRIES, INC. AND

SUBSIDIARIES (PREDECESSOR)

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

(In thousands)

	Successor						Predecessor
	Nine Months Ended September 30, 2004			Six Months Ended September 30, 2003			Three Months Ended March 31, 2003
NET SALES	$	151,210		$	89,138		$	40,980
COST OF SALES	124,710			70,997			32,071


Gross profit	26,500			18,141			8,909
OPERATING EXPENSES:
General and administrative	7,264			4,151			1,396
Selling and marketing	2,242			1,467			733
Stock compensation expense	652						1,841
Loss (Gain) on sale of assets	11			(4		)	218


Total operating expenses	10,169			5,614			4,188


OPERATING INCOME	16,331			12,527			4,721
OTHER INCOME (EXPENSE):
Interest income	28			40			22
Interest expense	(9,394		)	(4,153		)	(835		)
Loss on modification of debt	(3,454		)
Other income	15			9			6


Total other expense	(12,805		)	(4,104		)	(807		)


INCOME BEFORE PROVISION FOR INCOME TAXES	3,526			8,423			3,914
PROVISION FOR INCOME TAXES	1,280			3,149			1,404


NET INCOME	$	2,246		$	5,274		$	2,510

See notes to condensed consolidated financial statements (unaudited).

WII COMPONENTS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(UNAUDITED)

(In thousands, except share amounts)

	Common Stock										Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income			Total
	Voting					Nonvoting
	Shares		Amount			Shares		Amount
BALANCE-December 31, 2003	14,813,827		$	148		1,000,000		$	10		$	47,283		$	6,552		$	141		$	54,134
Conversion of convertible note	6,950,000		69								20,781									20,850
Repurchase of common stock	(3,171,841	)	(32		)	(145,739	)	(1		)	(17,517		)							(17,550		)
Dividend distribution											(14,209		)	(7,240		)				(21,449		)
Stock compensation expense											652									652
Stock issued to fund acquisition	2,142,857		21								8,229									8,250

Net income														2,246						2,246
Derivative instrument																	(141		)	(141		)


Total comprehensive income																				2,105


BALANCE-September 30, 2004	20,734,843		$	206		854,261		$	9		$	45,219		$	1,558		$	—		$	46,992

See notes to condensed consolidated financial statements (unaudited).

WII COMPONENTS, INC. AND SUBSIDIARIES

(SUCCESSOR), AND WOODCRAFT INDUSTRIES, INC. AND SUBSIDIARIES

(PREDECESSOR) CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

(In thousands)

	Successor						Predecessor
	Nine Months Ended September 30, 2004			Six Months Ended September 30, 2003			Three Months Ended March 31, 2003
OPERATING ACTIVITIES:
Net income	$	2,246		$	5,274		$	2,510
Adjustments to reconcile net income to net cash provided by operating activities:
Loss on modification of debt	3,454
Depreciation and amortization	5,210			3,190			1,369
Deferred income taxes				(471		)	175
Loss on sale of assets	11			(4		)	218
Stock compensation expense	652						334
Change in operating assets and liabilities:
Accounts receivable	(657		)	1,619			(4,393		)
Inventories	(856		)	637			(1,593		)
Other current assets	1,081			5,799			37
Accounts payable	(2,101		)	12			686
Accrued payroll and other current liabilities	1,208			320			1,646


Net cash provided by operating activities	10,248			16,376			989


INVESTING ACTIVITIES:
Purchases of property, plant, and equipment	(3,729		)	(2,667		)	(533		)
Proceeds from sale of assets	2			4			11
Change in other assets	(161		)	(23		)	79
Grand Valley acquisition	(15,937		)


Net cash used in investing activities	(19,825		)	(2,686		)	(443		)


FINANCING ACTIVITIES:
Principal payments under long-term financing agreements	(87,943		)	(15,760		)	(6,737		)
Borrowings of long-term debt	135,783			275			6,200
Dividend distribution	(21,450		)
Repurchase of common stock	(17,550		)
Issuance of common stock	8,250
Debt issue costs	(7,385		)
Termination of interest rate collar	52			63


Net cash (used in) provided by financing activities	9,757			(15,422		)	(537		)


NET (DECREASE) INCREASE IN CASH	180			(1,732		)	9
CASH—Beginning of period	39			1,888			2


CASH—End of period	$	219		$	156		$	11

SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest	$	8,950		$	2,493		$	681


Cash paid for income taxes—net	$	323		$	5,902		$	411

NONCASH ACTIVITY:
Accrued redeemable preferred stock cumulative dividends for Series A, B, and C	$			$			$	1,184


Conversion of subordinated convertible note and accrued interest to common stock	$	20,850		$			$

See notes to condensed consolidated financial statements (unaudited).

WII COMPONENTS, INC. AND SUBSIDIARIES

(SUCCESSOR), AND WOODCRAFT INDUSTRIES, INC. AND SUBSIDIARIES

(PREDECESSOR) NOTES TO CONDENSED

CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. NATURE OF BUSINESS

Company Background—WII Components, Inc. (formerly WII Holdings, Inc. and referred to herein as the “Successor” or the “Company”), a Delaware corporation, was formed to acquire 100% of the common stock of Woodcraft Industries, Inc. and Subsidiaries (the “Predecessor” or the “Company”) in a buyout (the “Acquisition”) from the former owners. On April 9, 2003, pursuant to a sale agreement between WII Components, Inc. and the former owners, WII Components, Inc. acquired the common stock of Woodcraft Industries, Inc. for a total of approximately $145 million. For accounting purposes, the acquisition date is considered to be April 1, 2003. WII Components, Inc. has no independent assets or operations separate from its consolidated subsidiaries.

The Acquisition was accounted for using the purchase method of accounting. Accordingly, the assets acquired and the liabilities assumed by WII Components, Inc. were recorded at fair value as of the date of the Acquisition. The excess of the purchase price over the fair value of the assets acquired and liabilities assumed totaling $104,040,961 was recorded as goodwill.

In February 2004, the Successor completed an equity restructuring using the proceeds from its $120 million 10% senior notes offering (Note 5) to pay off the outstanding term loans and revolving line of credit, to pay a dividend of approximately $21.5 million, to repurchase approximately $17.5 million of the Successor’s outstanding common stock, and to pay financing costs of approximately $7.4 million.

The Company acquired a cabinet door manufacturer operating under the name Grand Valley Door Co. (“Grand Valley”) on April 30, 2004 (Note 4).

Description of Business—The Company is one of the leading manufacturers of wood cabinet doors, hardwood components, and engineered wood products in the United States. Its products are sold principally to leading national and regional kitchen and bathroom cabinet manufacturers. Its reputation for high quality and reliable performance has enabled the Company to establish strong, long-standing relationships with its customers. Its customers, in turn, distribute products through various sales channels, including specialty kitchen and bathroom cabinetry dealers, home center retailers, and homebuilders.

Basis of Presentation—The Company prepared the accompanying unaudited condensed consolidated financial statements following the requirements of the Securities and Exchange Commission for interim reporting. As permitted under those rules, certain notes or other financial information normally required by accounting principles generally accepted in the United States of America have been condensed or omitted. Therefore, the Company suggests that these financial statements be read in conjunction with the consolidated financial statements and accompanying notes for the nine month period ended December 31, 2003 included in its Form S-4 as filed with the Securities and Exchange Commission on July 21, 2004. The condensed consolidated balance sheet as of December 31, 2003 has been derived from the audited consolidated financial statements at that date, but does not include all the information and notes required by accounting principles generally accepted in the United States of America for complete presentation.

In our opinion, the accompanying unaudited condensed consolidated financial statements include all adjustments (consisting of normal recurring items) considered necessary to present fairly, when read in conjunction with the consolidated financial statements and accompanying notes for the period ended December 31, 2003 included in our Form S-4 as filed with the Securities and Exchange Commission on July 21, 2004, our financial position, results of operations and cash flows for the periods presented.

Principles of Consolidation—The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. As described more fully in Note 4, the Company completed the acquisition of Woodcraft Industries, Inc. and its wholly owned subsidiaries, PrimeWood, Inc. (“PrimeWood”) and Brentwood Acquisition, Corp. (“Brentwood”) on April 9, 2003, and completed the acquisition of Grand Valley on April 30, 2004. All intercompany accounts and transactions have been eliminated in the preparation of the consolidated financial statements.

2. SIGNIFICANT ACCOUNTING POLICIES

Inventories—Inventories consisted of the following (in thousands):

	September 30, 2004			December 31, 2003
Raw materials	$	9,440		$	8,315
Work in process	3,645			3,116
Finished goods	1,980			2,039
LIFO adjustment	(730		)	(143		)


	$	14,335		$	13,327

The majority of inventory is valued at the lower of last-in, first-out (“LIFO”) cost or market. The remainder of the inventory is valued under the first-in, first-out method (“FIFO”). As of Sepember 30, 2004 and December 31, 2003, inventory on the LIFO method represented 53% and 61%, respectively, of consolidated inventories.

Goodwill—As discussed in Note 3, in 2002, the Company adopted and accounts for goodwill in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 142, Goodwill and Other Intangible Assets. In part, SFAS No. 142 states that companies are no longer required to amortize goodwill but instead must evaluate goodwill for impairment at least annually. Previously, goodwill was amortized over its estimated useful life. The Company has elected to perform its annual tests for goodwill impairment as of December 31 of each year. Fair value is measured using the present value of expected future cash flows.

Customer Relationship—Customer Relationship relates to an intangible asset recorded through the purchase price allocation of the Grand Valley acquisition (Note 4). The $7,872,000 intangible asset is being amortized over the estimated life of 10 years. Amortization for both the three-month period ended September 30, 2004 and the nine-month period ended September 30, 2004 was $328,000. Expected amortization is as follows for the years ended December 31 (in thousands):

2004	$	525
2005	787
2006	787
2007	787
2008	787
2009-2014	4,199

Noncompete Agreement—Noncompete agreements primarily relate to agreements with the former owners of PrimeWood, Brentwood, and Grand Valley. Noncompete rights are being amortized over the applicable terms of the agreements (6 years, 5 years, and 7 years, respectively), and are expected to be fully amortized by June 2004, July 2007, and April 2011, respectively. Amortization for the three-month period ended September 30, 2004, the three-month period ended September 30, 2003, the nine-month period ended September 30, 2004, the six-month period ended September 30, 2003, and the three-month period ended March 31, 2003 was $113,000, $149,000, $404,000, $298,000 and $150,000, respectively. Expected amortization is as follows for the years ended December 31 (in thousands):

2004	$	516
2005	444
2006	444
2007	265
2008	14
2009-2011	33

Stock Options—The Predecessor had a stock option plan that provided for the granting of up to 150,881 nonqualified stock options on the Predecessor’s common stock. Certain officers, directors, and key employees were granted options to purchase common stock of the Predecessor under these plans. There were 29,501 options that were canceled and reissued during 2001, resulting in the need to adopt variable accounting over the remaining vesting period of the repriced options. As of December 31, 2002, of the remaining options 6,250 shares were vested. The Predecessor recorded compensation expense related to options of $334,000 for the three-month period ended March 31, 2003.

In April 2003, the 2003 Stock Option and Grant Plan (“2003 Plan”) was approved by the stockholders of the Successor. The 2003 Plan allows the granting of both incentive stock options and nonqualified stock options. The 2003 Plan serves as the successor to the plans implemented by the Predecessor. Under the terms of the 2003 Plan, a maximum of 2,500,000 shares of stock, subject to adjustment, were made available for awards to officers, employees, directors, consultants, and other key persons of the Company. Awards may include, but are not limited to, stock options, restricted stock, unrestricted stock awards, and substitute performance awards.

At December 31, 2003, 1,617,000 options were outstanding with terms of 10 years from the date of grant, and 883,000 shares were available for future grants under the 2003 Plan. Issued options vest in equal annual installments over four years. All options outstanding at December 31, 2003 had an exercise price of $3.00 per share and a weighted average remaining contractual life of nine years. The fair value of options granted during the nine months ended December 31, 2003 was estimated on the date of the grant using the Black-Scholes option-pricing model with the following assumptions: a risk-free interest rate of 3.0%, an expected life of six years, and no volatility.

As a part of the February 2004 equity restructuring (Note 5), the Successor repriced the outstanding stock options. The Successor has adopted variable plan accounting for these options from the date of the repricing. Based on the fair value of the options as of the date of the repricing, the Successor will record approximately $3.4 million of compensation expense over the remaining vesting period of approximately three years. The Company recorded $261,000 and $652,000 of noncash compensation expense during the three and nine month periods ended September 30, 2004, respectively.

In April 2004, the Company granted 489,000 options under the 2003 Plan. The fair value of these options was estimated on the date of the grant using the Black-Scholes option-pricing model with the following assumptions: a risk-free interest rate of 3.9%, an expected life of six years, and no volatility.

The Company accounts for the options under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, under which no compensation cost has been recognized as of the original grant date. Had compensation cost for the options been determined consistent with SFAS No. 123, Accounting for Stock-Based Compensation, the Company’s net income would have been the following pro forma amounts for the indicated periods (in thousands):

	Successor								Predecessor
	Nine Months Ended September 30, 2004		Three Months Ended September 30, 2004		Three Months Ended September 30, 2003		Six Months Ended September 30, 2003		Three Months Ended March 31, 2003
Net income
As reported	$	2,246	$	1,504	$	2,324	$	5,274	$	2,510
Pro forma	2,176		1,477		2,275		$	5,192	2,510

3. GOODWILL

Effective January 1, 2002, the Company adopted and began accounting for goodwill in accordance with SFAS No. 142 which states that companies are no longer required to amortize goodwill but instead must evaluate goodwill for impairment annually, if not more frequently. The Company has elected to perform its annual tests for goodwill impairment as of December 31 of each year. Previously, goodwill was amortized over its estimated useful life. Based on the impairment tests performed on December 31, 2003, the Company’s fair value exceeds the carrying value, resulting in no goodwill impairment.

The change in the carrying amount of goodwill was as follows (in thousands):

Balance at December 31, 2003	$	104,041
Goodwill acquired (Note 4)	3,770


Balance at September 30, 2004	$	107,811

4. ACQUISITIONS

As stated in Note 1, the Successor was formed to acquire 100% of the common stock of the Predecessor in a buyout from the former owners. On April 9, 2003, pursuant to a sale agreement between the Successor and the former owners, the Successor acquired the common stock of the Predecessor for a total of approximately $145 million. For accounting purposes, the acquisition date is considered to be April 1, 2003. The Successor has no independent assets or operations separate from its consolidated subsidiaries.

The Acquisition was accounted for using the purchase method of accounting. Accordingly, the assets acquired and the liabilities assumed by the Successor were recorded at fair value as of the date of the Acquisition. The excess of the purchase price over the fair value of the assets acquired and liabilities assumed totaling $104,041,000 was recorded as goodwill.

The components of the purchase price allocation are as follows (in thousands):

Current assets	$	34,531
Property, plant, and equipment	35,622
Other assets	4,280
Noncompete agreements	2,065
Goodwill	104,041


Assets acquired	180,539
Liabilities assumed	133,098


Net assets acquired	$	47,441

The Company obtained various forms of debt totaling approximately $97,559,000 at the date of acquisition to fund the acquisitions and future operations.

Pro forma operating results of the Predecessor, assuming the acquisition of Woodcraft occurred on January 1, 2003, are as follows (in thousands):

	Three Months Ended March 31, 2003
Net sales	$	40,980
Net income	1,660

Pro forma financial information is provided for informational purposes only and is not necessarily indicative of the Company’s operating results that would have occurred had the acquisitions been consummated on the dates for which the consummation of the acquisitions are being given effect, nor is it necessarily indicative of the Company’s future operating results. The pro forma amounts do not reflect any operating efficiencies and cost savings that the Company believes are achievable.

On April 30, 2004, the Company acquired a cabinet door manufacturer operating under the name of Grand Valley Door Co. The acquisition was accomplished through the acquisition of substantially all of the assets of Ohio Door Company and certain land and improvements from Grand Valley Investment LLC. The Company paid a cash purchase price at closing of $16 million and, if the business acquired achieves certain sales and profit margin targets, an additional $1 million will be payable prior to June 30, 2006. Approximately half of the purchase price was funded with borrowings under the senior secured revolving credit facility and the remainder was funded from the proceeds of an equity contribution from existing stockholders. The acquired company is a 100% owned subsidiary of the Successor and, on June 25, 2004, agreed to fully and unconditionally guarantee the senior notes on a joint and several basis with the Successor’s existing subsidiary guarantors.

The Acquisition of Grand Valley was accounted for using the purchase method of accounting. Accordingly, the assets acquired and the liabilities assumed by the Successor were recorded at fair value as of the date of the Acquisition. The excess of the purchase price over the fair value of the assets acquired and liabilities assumed totaling $3,770,000 was recorded as goodwill. Based upon the Company's final purchase price allocation, $7,872,000 of the purchase price was recorded as another intangible asset, Customer Relationship (Note 2). The pro forma effects of this transaction are not material to the Company’s results of operations. The components of the preliminary purchase price allocation are as follows (in thousands):

Current assets	$	386
Property, plant, and equipment	4,491
Other assets	125
Goodwill	3,770
Customer Relationship	7,872
Noncompete agreement	100


Assets acquired	16,744
Liabilities assumed	808


Net assets acquired	$	15,936

5. FINANCING ARRANGEMENTS

Long-term debt consists of the following (in thousands):

	September 30, 2004		December 31, 2003
Senior notes (10%) due 2012	$	120,000	$
Revolver (5.15% and 6.63% at September 30, 2004 and December 31, 2003, respectively)	3,500		1,800
Subordinated convertible notes, due April 2004, 5% interest payable			20,000
Senior term loan A, interest at LIBOR plus 3.88% (5.01% at December 31, 2003) due in varying installments through March 31, 2008			33,150
Senior term loan B, interest at LIBOR plus 4.25% (5.36% at December 31, 2003) interest-only payments until June 2008 with balance due September 2009			20,500
Senior term loan C, interest at 15%, interest-only payments until December 2009, balance due March 2010			19,421
Other due 2004			77


Total debt	123,500		94,948
Less current maturities			24,627


	$	123,500	$	70,321

Senior Notes—On February 18, 2004, the Company completed the offering of $120 million of 10% senior notes due 2012. The net proceeds of the offering of the senior notes were used to pay off the outstanding term loans and revolving line of credit, to pay a dividend of approximately $21.5 million, to repurchase approximately $17.5 million of the Company’s outstanding common stock, and to pay financing costs of $7.4 million. Additionally in February 2004, the Company entered into a new $25 million revolving line of credit.

Each of the Company’s subsidiaries, which are all 100% owned subsidiaries of the Company, have fully and unconditionally guaranteed the senior notes on a joint and several basis. The Company has no independent assets or operations. As a result, the Company has not presented separate financial statements of the subsidiary guarantors.

Subordinated Convertible Debt—The Company issued approximately $20 million of 5% Convertible Subordinated Notes due April 9, 2004 in April 2003. These notes were convertible at any time prior to maturity, unless previously redeemed, at the option of the holders into shares of the Company’s common stock at a conversion price of $3.00 per share, subject to certain adjustments. The notes are subordinated to the Company’s senior indebtedness. The notes were not subordinated to the Company’s trade payables or other general creditors of the Company. On February 9, 2004, these notes, along with approximately $0.9 million of related accrued interest, were converted into approximately 7.0 million shares of the Company’s $0.01 par value common stock.

6. RELATED-PARTY TRANSACTIONS

The Company has a management services agreement with an affiliate of the primary investor whereby the Company pays a transaction fee to the affiliate for services provided for each financing, refinancing, acquisition, or similar nonrecurring transaction. The Company paid $1,740,000 to this affiliate for services related to the Acquisition which is recorded as goodwill and $1,160,000 for financing services which was recorded in other assets as deferred financing costs and was written off as discussed in Note 2. In addition, the Company paid $2,400,000 to this affiliate related to the February financing transaction, which is recorded in other assets as deferred financing costs. The Company paid $320,000 to this affiliate for services related to the acquisition of Grand Valley, $224,000 of which is recorded as goodwill and $96,000 of which is recorded in other assets as financing costs.

The Predecessor had a management services agreement with an affiliate of its former primary investor, whereby the Predecessor paid an annual base fee of $300,000 plus a percentage fee based on annual net operating cash flow. The total fee was $81,370 for the three-month period ended March 31, 2003.

The Predecessor entered into a noncompete agreement on July 31, 2002 with the former majority stockholder of Brentwood (Note 2).

The Predecessor entered into consulting and noncompete agreements on June 16, 1998 with the former majority stockholder of PrimeWood. The agreements require aggregate payments of approximately $4,600,000 in equal annual installments over a six-year period. The fee under these agreements was $0 and $191,750 for each of the three-month periods ended September 30, 2004 and September 30, 2003, respectively (Note 2).

The Company entered into a noncompete agreement on April 30, 2004 with the former owners of Grand Valley (Notes 2 and 4).

Overview

We are one of the leading manufacturers of hardwood cabinet doors and components and engineered wood products in the United States. Our products include (1) hardwood cabinet door components, face frames and drawer fronts, (2) fully assembled hardwood cabinet doors, (3) rigid thermofoil, or RTF, cabinet doors and components, (4) veneer raised panels, or VRPs, and (5) a variety of laminated and profile-wrapped components. We generate approximately 90% of our sales from the kitchen and bath cabinet manufacturing industry. Our customers, in turn, distribute their products through various sales channels, including specialty kitchen and bath cabinet dealers, home center retailers and homebuilders. We conduct all of our operations through our Woodcraft, PrimeWood, Grand Valley and Brentwood subsidiaries and we operate seven manufacturing facilities located in Minnesota, North Dakota, Oregon, Ohio and Kentucky that allow us to distribute our products nationwide.

We consummated three strategic acquisitions that have substantially enhanced our market position, product breadth and geographic reach. In June 1998, we acquired our PrimeWood subsidiary, or PrimeWood, a manufacturer of RTF, VRP and profile-wrapped engineered wood products based in North Dakota. In July 2002, we acquired our Brentwood subsidiary, or Brentwood, a manufacturer of solid wood and RTF cabinet doors located in Oregon. In April 2004, we acquired our Grand Valley subsidiary, or Grand Valley, a manufacturer of cabinet doors located in Ohio.

WII Components, Inc. (formerly known as WII Holdings, Inc.), a Delaware corporation, which we refer to as the Company, was formed to acquire Woodcraft Industries, Inc. and its subsidiaries, or the Predecessor, through a stock purchase on April 9, 2003, which we refer to as the Acquisition. For accounting purposes, the Acquisition was recorded with an effective date of April 1, 2003. The Acquisition was accounted for using the purchase method of accounting. Accordingly, the assets acquired and the liabilities assumed by WII Components, Inc. were recorded at fair value as of April 1, 2003 and included $104.0 million for goodwill. The financial information for periods after April 1, 2003 may not be comparable to financial information for periods prior to April 1, 2003.

In February 2004, we entered into a new senior secured revolving credit facility and used the proceeds from the sale of our 10% Senior Notes due 2012 to pay off the term loans and revolving line of credit under our old senior credit facility, pay a dividend of approximately $21.5 million, to repurchase an aggregate of 3,317,580 shares of our voting and non-voting common stock from all of our existing stockholders on a proportionate basis for an aggregate purchase price of approximately $17.5 million or $5.29 per share and to pay financing costs of $7.4 million.

Results of Operations

Three Months Ended September 30, 2004 Compared to the Three Months Ended September 30, 2003

The following table outlines, for the three months ended September 30, 2004 and for the three months ended September 30, 2003, selected operating data derived from our consolidated statements of operations and presents this information as a percentage of net sales:

	WII Components, Inc.
	Three Months Ended September 30, 2004			Three Months Ended September 30, 2003
	(dollars in thousands)
Net sales	$	52,274		$	43,958
% of net sales	100.0		%	100.0		%
Cost of sales	42,981			35,434
% of net sales	82.2		%	80.6		%


Gross profit	9,293			8,524
% of net sales	17.8		%	19.4		%
Operating expenses	3,464			2,826
% of net sales	6.6		%	6.4		%


Operating income	5,829			5,698
% of net sales	11.2		%	13.0		%
Other expenses:
Interest expense	3,477			2,019
% of net sales	6.7		%	4.6		%
Other income, net	(10		)	(33		)
% of net sales	0.0		%	-0.1		%
Income taxes	858			1,388
% of net sales	1.6		%	3.2		%


Net income	1,504			2,324
% of net sales	2.9		%	5.3		%

	WII Components, Inc.			Combined			Predecessor			WII Components, Inc.
	Nine Months Ended September 30, 2004			Nine Months Ended September 30, 2003			Three Months Ended March 31, 2003			Six Months Ended September 30, 2003
Net sales	$	151,210		$	130,118		$	40,980		$	89,138
% of net sales	100.0		%	100.0		%	100.0		%	100.0		%
Cost of sales	124,710			103,068			32,071			70,997
% of net sales	82.5		%	79.2		%	78.3		%	79.6		%


Gross profit	26,500			27,050			8,909			18,141
% of net sales	17.5		%	20.8		%	21.7		%	20.4		%
Operating expenses	10,169			9,802			4,188			5,614
% of net sales	6.7		%	7.5		%	10.2		%	6.3		%


Operating income	16,331			17,248			4,721			12,527
% of net sales	10.8		%	13.3		%	11.5		%	14.1		%
Other expenses:
Interest expense	9,394			4,987			835			4,152
% of net sales	6.2		%	3.8		%	2.0		%	4.7		%
Other loss (income), net	3,411			(76		)	(28		)	(48		)
% of net sales	2.3		%	-0.1		%	-0.1		%	-0.1		%
Income tax expense	1,280			4,553			1,404			3,149
% of net sales	0.8		%	3.5		%	3.4		%	3.5		%


Net income	2,246			7,784			2,510			5,274
% of net sales	1.5		%	6.0		%	6.1		%	5.9		%

Net sales. Net sales increased $21.1 million, or 16.2%, from $130.1 million for the nine months ended September 30, 2003 to $151.2 million for the nine months ended September 30, 2004. Our hardwood product line increased $21.9 million and is attributable to a combination of (i) increases in volume due in part to overall industry growth and in part to market share gain, and (ii) price adjustments due to increases in raw material costs. This increase is partially offset by a $0.8 million decrease in sales in our engineered wood products line due to a partial loss of market share by some of our customers and a softening in this market sector.

Cost of sales. Cost of sales increased $21.6 million, or 21.0%, from $103.1 million for the nine months ended September 30, 2003 to $124.7 million for the nine months ended September 30, 2004. This increase in cost of sales is attributable to (i) increased material, labor and overhead costs related to volume growth, (ii) inflation, primarily in respect of raw material costs, in each case related to both our hardwood and engineered wood product lines, and (iii) inefficiencies in material and labor utilization in the hardwood product line due to the increased demand and the importance of on-time deliveries to our customers. These costs were partially offset by gains in operational efficiency in the engineered wood product line and by spreading our fixed costs over a larger sales base.

Gross profit. Gross profit decreased $0.5 million, or 1.9%, from $27.0 million for the nine months ended September 30, 2003 to $26.5 million for the same period in 2004 as a result of the factors described above. As a percentage of net sales, our gross profit decreased 330 basis points from 20.8% for the nine months ended September 30, 2003 to 17.5% for the same period in 2004. This decrease reflects (i) increases in our raw material costs compared to the same period in 2003 and (ii) inefficiencies in material and labor utilization in the hardwood product line, offset in part by (iii) the spreading of our fixed costs over a larger sales base.

Operating expenses. Operating expenses increased $0.4 million, or 4.1%, from $9.8 million for the nine month period ended September 30, 2003 to $10.2 million for the same period in 2004. The increase consists of (i) $0.8 million of additional incentive compensation paid to certain key employees in February 2004 in recognition of our improved financial performance and the successful completion of the offering of the old notes, (ii) a $0.5 million increase in bad debt expense due to a reversal of an allowance for doubtful account reserve in 2003, (iii) $0.8 million due to the inclusion of five full months of operations of Grand Valley in 2004, and ( iv) approximately $0.4 million of inflation on wages, insurance and additional headcount needed to support sales growth. This increase was offset partially by (i) $0.2 million in lower stock compensation expense, (ii) $1.5 million in cash payments to holders of the

predecessors capital stock for certain tax liabilities incurred upon the sale of capital stock in April 2003, (iii) $0.2 million write-down of an impaired asset in 2003, (iv) $0.1 million of periodic fees paid to the private equity firm which managed the equity fund that owned the predecessor and (v) $0.1 million of professional fees.

Operating income. Operating income decreased by $0.9 million, or 5.2%, from $17.2 million for the nine months ended September 30, 2003 to $16.3 million for the nine months ended September 30, 2004 as a result of the net effect of the factors described above.

Interest expense. Interest expense increased $4.4 million, or 88.0%, from $5.0 million for the nine months ended September 30, 2003 to $9.4 million for the nine months ended September 30, 2004. Amortization of deferred financing fees accounted for $0.2 million of the increase. The remaining increase related to the increase in debt and the higher interest rate on the senior credit facility established in connection with the Acquisition in April 2003 and the issuance of $120.0 million senior notes in February 2004.

Other loss (income). Other loss (income) changed from $76,000 of other income for the nine months ended September 30, 2003 to $3.4 million of other loss for the nine months ended September 30, 2004 resulting from the write-off of financing fees related to the senior credit facility from April 2003 which was subsequently paid-off in February 2004.

Income tax expense. Income tax expense decreased $3.2 million, or 71.1% from $4.5 million for the nine months ended September 30, 2003 to $1.3 million for the nine months ended September 30, 2004 as a result of lower earnings. The effective tax rate decreased 60 basis points from 36.9% in 2003 to 36.3% in 2004 due to permanent differences.

Net income. Net income decreased $5.6 million, or 71.8%, from $7.8 million for the nine months ended September 30, 2003 to $2.2 million for the nine months ended September 30, 2004 as a result of the factors described above.

Liquidity and Capital Resources

Our primary cash needs are working capital, capital expenditures and debt service. We have historically financed these cash requirements through internally generated cash flow and funds borrowed under our prior and existing senior secured credit facilities.

Refinancing. On February 18, 2004, we repaid the entire outstanding balance of our old senior secured credit facility and terminated the related credit agreement. Under that credit facility, we had three outstanding term loans and a $15.0 million revolving credit facility. As of December 31, 2003, we had a $1.8 million outstanding balance under the revolving credit facility and $73.1 million outstanding under our term loans. Two of our term loans, Term Loan A and Term Loan B, accrued interest at variable rates and our third term loan, Term Loan C, accrued interest at the fixed rates of 12% cash interest and 3% payment in kind, or PIK, interest. The interest rates on Term Loan A, Term Loan B and Term Loan C were 5.0%, 5.4% and 15.0% (including 3.0% PIK interest), respectively, as of December 31, 2003. Borrowings under our old credit facility were secured by substantially all of our assets. Under our old credit facility we were required to comply with certain financial covenants, including maintenance of financial ratios and limitations on some of our business transactions. As of December 31, 2003, we were in compliance with these covenants. On February 18, 2004 we replaced our old credit facility with a new senior secured revolving credit facility. Our existing credit facility provides for revolving credit of up to $25.0 million subject to a borrowing base and outstanding principal bears interest at a fluctuating rate equal to, at our option, either the base rate plus 2 1¤4% per annum or LIBOR plus 3 1¤2% per annum for the first twelve months the facility is in place and thereafter either the base rate plus 2% per annum or LIBOR plus 3 1¤4% per annum when the ratio of total debt to trailing twelve month EBITDA is less than 4.0 to 1.0. As of September 30, 2004, we had $3.5 million outstanding under our credit facility. We must comply with certain financial covenants under our credit facility including maintenance of a minimum fixed charge coverage ratio, a maximum total leverage ratio and an EBITDA minimum. As of December 31, 2003, we also had $4.4 million of capital lease debt obligations unrelated to the credit facility, of which $0.9 million was current and as of September 30, 2004 we had $3.8 million of capital lease obligations, of which $0.8 million was current.

In April 2003, in connection with the Acquisition, we issued approximately $20 million of our Convertible Subordinated Notes due April 9, 2004, which bore PIK interest at the rate of 5%. The notes, along with any accrued and unpaid interest, were convertible, at the option of the holders, at any time prior to maturity, unless previously redeemed, into shares of our voting common stock at a conversion price of $3.00 per share, subject to certain adjustments. The notes were subordinated to our senior indebtedness. On February 9, 2004, the notes were converted into 6,950,000 shares of our common stock.

In July 2003, we entered into an interest rate collar transaction with respect to the variable interest rates on a portion of the debt described above for an approximate notional amount of $55.6 million in order to fix the LIBOR index rate between 1.2% and 6.0%. To the extent that the index rate was below the 1.2% floor, we were required to pay the difference between the floor and the actual rate. To the extent that the index rate was above the 6.0% cap, we were entitled to receive the difference between the cap and the actual rate. The index rate at December 31, 2003 was 1.16% and we accrued an associated liability. At December 31, 2003, the value of the asset related to the interest rate collar was approximately $148,000. The related asset is classified in other assets. We discontinued this interest rate hedge in connection with the repayment of our old credit facility as described above.

Our existing senior secured revolving credit facility and the indenture for the notes imposes certain restrictions on us, including restrictions on our ability to incur indebtedness, pay dividends, make investments, grant liens, sell our assets and engage in certain other activities. Indebtedness under our existing senior secured revolving credit facility is secured by substantially all of our assets, including our real and personal property, inventory, accounts receivable, intellectual property and other intangibles.

Cash flow from operating activities. As of December 31, 2003, we had approximately $40,000 of cash and cash equivalents available for working capital purposes. As of September 30, 2004, we had approximately $0.2 million of cash and cash equivalents available for working capital purposes. Cash provided by operating activities for the nine months ended September 30, 2004 was $10.2 million compared to $17.4 million for the same period in 2003.

Cash flow from investing activities. Net cash used in investing activities was $19.8 million for the first nine months of 2004 compared to $3.1 million used in the same period in 2003. Capital expenditures were $3.7 million for the nine months ended September 30, 2004 compared to $3.2 million for the same period in 2003. Cash flow from investing activities includes $15.9 million for our Grand Valley acquisition for the nine month period ended September 30, 2004.

Cash flow from financing activities. Net cash provided by financing activities for the nine months ended September 30, 2004 totaled $9.8 million and includes cash inflows for the $120.0 million offering of senior notes, an increase in the new credit facility of $1.2 million in conjunction with the offering of our 10% senior notes, issuance of common stock of $8.3 million in conjunction with the Grand Valley acquisition, and an increase in the revolver of approximately $1.7 million. Net cash used by financing activities for the nine months ended September 30, 2004 includes the payment to extinguish the old credit facility of $75.0 million, a dividend distribution of $21.5 million, a repurchase of common stock of $17.5 million and $7.4 million of debt issuance cost in connection with the offering of $120.0 million of our 10% senior notes due 2012.

Net cash used by financing activities in the nine month period ended September 30, 2003 totaled $16.0 million and consisted primarily of required principal payments on fixed term debt obligations, payment of $6.9 million to satisfy the full obligation under the Industrial Revenue Bonds and a reduction in the revolver.

Dividends. In the three months ended March 31, 2003, the predecessor paid a dividend in the amount of $11.4 million to its preferred shareholders. We are limited by our current debt covenants regarding the payment of dividends. On February 24, 2004, we used $39.0 million of the net proceeds from the offering of the old notes to make payments to our stockholders through a combination of dividends and redemptions of common stock. The payment of the dividend and the stock redemption could result in impairment of goodwill on the balance sheet. The goodwill impairment would affect net income and may result in negative net worth on the balance sheet. As of September 30, 2004, there was no goodwill impairment charge associated with these payments.

We anticipate that the funds generated by operations and funds available under the senior secured revolving credit facility will be sufficient to meet working capital requirements and to finance capital expenditures over the next twelve months. We cannot provide assurances that our business will generate sufficient cash flow from operations, that anticipated net sales growth and operating improvements will be realized or that future borrowings will be available under our senior secured revolving credit facility in an amount sufficient to enable us to service our indebtedness, including the notes, or to fund our other liquidity needs. In addition, we cannot provide assurances that we will be able to refinance any of our indebtedness, including our senior secured revolving credit facility and the notes, on commercially reasonable terms, if at all.

Inflation

Our cost of sales is subject to inflationary pressures on labor costs, prices of the raw materials we use and various overhead costs. We generally have been able over time to offset the effects of inflation and price fluctuations through a combination of sales price increases and operational efficiencies.

Seasonality

Our sales historically have been moderately seasonal, reflecting the temporary slow down in consumer purchasing activity during the winter holiday season and the summer months.

Critical Accounting Policies

The preparation of financial statements in conformity with GAAP requires management to make estimates, assumptions and judgments 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. Because of the uncertainty inherent in these matters, actual results could differ from those estimates. We believe that the estimates, assumptions and judgments involved in the accounting policies below have the greatest potential impact on our financial statements.

Revenue recognition. We recognize revenues and related cost of sales when title passes, which is usually upon shipment of product under FOB shipping point terms. Returns are estimated and provided for at the time of sale based on historical experience and current trends.

Allowance for doubtful accounts. We make estimates of potentially uncollectible accounts receivable. Our reserves are based on an analysis of customers’ accounts and historical write-off experience. Our analysis includes the age of the receivable, customer creditworthiness and general economic conditions. We believe the results could be materially different if historical trends do not reflect actual results or if economic conditions worsened.

Goodwill. We adopted Statement of Financial Accounting Standards, or SFAS, No. 142, Goodwill and Other Intangible Assets, and accordingly have discontinued the amortization of goodwill. We evaluate goodwill for impairment annually or whenever an indicator of impairment occurs. If events or circumstances change, including reductions in anticipated cash flows generated by operations, goodwill could become impaired and result in a charge to earnings.

Impairment of long-lived assets. We evaluate the carrying value of long-lived assets, such as property, plant and equipment, for impairment when events or changes in circumstances indicate that the carrying amount of an asset or group of assets may not be recoverable. Assets are grouped and evaluated for impairment at the lowest level for which there are identifiable cash flows. If impairment indicators are present and the estimated future undiscounted cash flows are less than the carrying value of the asset or group of assets, the carrying value is reduced to its estimated fair value. Fair value is estimated based on the best information available, including prices for similar assets or results of valuation techniques such as discounting estimated future cash flows.

Insurance benefit accruals. Each accounting period, we estimate an amount to accrue for medical costs incurred but not yet reported under our self-funded employee medical and workers compensation insurance plans. We base our determination on an evaluation of past rates of claim payouts and trends in the amount of payouts. This determination requires significant judgment and assumes past patterns are representative of future payment patterns. A significant shift in usage and payment patterns within these plans could necessitate significant adjustments to these accruals in future accounting periods.

Purchase accounting. We accounted for our acquisitions under the purchase method of accounting and, accordingly, the acquired assets and liabilities assumed are recorded at their respective fair values. The recorded values of assets and liabilities are based on third-party estimates and valuations when available. The remaining values are based on management’s judgments and estimates. Our financial position and results from operations may be affected by changes in estimates and judgments.

Income taxes. As part of the process of preparing our consolidated financial statements, we are required to estimate our income in each of the jurisdictions in which we operate. This process involves estimating our actual current tax exposure along with assessing temporary differences resulting from differing treatment of items, such as capital assets, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets. We also must assess the likelihood that our deferred tax asset will be recovered from taxable income and, to the extent we believe recovery is not likely, we must establish a valuation allowance.

Delaware		No. 73-1662631
(State of Incorporation)		(I.R.S. Employer Identification No.)

Part I—Financial Information
Item 1. Financial Statements
Condensed Consolidated Balance Sheets at September 30, 2004 and December 31, 2003 (unaudited)	3
Condensed Consolidated Statements of Operations for the Three Months Ended September 30, 2004 and the Three Months Ended September 30, 2003 (unaudited)	4
Condensed Consolidated Statements of Operations for the Nine Months Ended September 30, 2004, the Six Months Ended September 30, 2003, and the Three Months Ended March 31, 2003 (unaudited)	5
Condensed Consolidated Statement of Stockholders’ Equity for the Nine Months Ended September 30, 2004 (unaudited)	6
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2004, the Six Months Ended September 30, 2003, and the Three Months Ended March 31, 2003 (unaudited)	7
Notes to Condensed Consolidated Financial Statements (unaudited)	8
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	13
Item 3. Quantitative and Qualitative Disclosures about Market Risk	20
Item 4. Controls and Procedures	20

Part II-Other Information
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	21
Item 6. Exhibits	21
(a) Exhibits	21
Signatures	22

	WII COMPONENTS, INC.

Dated: November 12, 2004	By:
		/s/ John Fitzpatrick
		John Fitzpatrick
		Chief Executive Officer
		(Principal Executive Officer)
Dated: November 12, 2004
		/s/ Dale B. Herbst
		Dale B. Herbst
		Chief Financial Officer
		(Principal Financial and Accounting Officer)