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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to _________________
Commission file number: 333-31282
O'Sullivan Industries, Inc.
(Exact name of registrant as specified in its charter)
Delaware 43-0923022
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
1900 Gulf Street, Lamar, Missouri 64759-1899
(Address of principal executive offices) (ZIP Code)
(417) 682-3322
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or
15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes X No
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the
Exchange Act). Yes No X
As of May 10, 2004, 100 shares of common stock of O'Sullivan Industries, Inc., par value $1.00 per share,
were outstanding.
The Index to Exhibits is on page 28.
Page 1 of 32
PART I
ITEM 1. FINANCIAL STATEMENTS.
O'SULLIVAN INDUSTRIES, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc.)
UNAUDITED CONSOLIDATED BALANCE SHEETS
(in thousands, except for share data)
March 31, June 30,
Assets 2004 2003
---------------- ------------
Current assets:
Cash and cash equivalents $ 17,623 $ 7,977
Trade receivables, net of allowance for doubtful accounts
of $2,755 and $2,978, respectively 27,577 25,032
Inventories, net 52,615 52,426
Prepaid expenses and other current assets 2,764 2,772
------------- ----------
Total current assets 100,579 88,207
Property, plant and equipment, net 64,083 71,867
Other assets 8,738 8,982
Goodwill, net of accumulated amortization 38,088 38,088
------------- ----------
Total assets $ 211,488 $ 207,144
============= ==========
Liabilities and Stockholder's Deficit
Current liabilities:
Accounts payable $ 14,959 $ 10,006
Current portion of long-term debt - 4,039
Accrued advertising 8,492 9,493
Accrued liabilities 16,304 11,463
Payable to parent-tax sharing agreement 4,076 6,798
------------- ----------
Total current liabilities 43,831 41,799
Long-term debt, less current portion 197,507 189,970
Other liabilities 3,498 2,439
Payable to parent-tax sharing agreement 67,991 65,269
Other payable to parent 1,976 1,190
------------- ----------
Total liabilities 314,803 300,667
Commitments and contingent liabilities (Notes 9, 10 and 11)
Stockholder's deficit:
Common stock, $1.00 par value; 100 shares authorized, issued and outstanding - -
Retained deficit (106,018) (93,819)
Accumulated other comprehensive income (loss) 2,703 296
------------- ------------
Total stockholder's deficit (103,315) (93,523)
------------- ------------
Total liabilities and stockholder's deficit $ 211,488 $ 207,144
============= ============
The accompanying notes are an integral part of these consolidated financial statements.
============= ============
O'SULLIVAN INDUSTRIES, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc.)
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands)
Three months ended Nine months ended
March 31, March 31,
------------------------- -------------------------
2004 2003 2004 2003
------------ ----------- ----------- -----------
Net sales $ 73,239 $ 86,866 $ 209,937 $ 237,534
Cost of sales 57,797 65,620 165,598 176,588
------------ ----------- ----------- -----------
Gross profit 15,442 21,246 44,339 60,946
Operating expenses:
Selling, marketing and administrative 12,024 11,940 33,860 35,476
Restructuring charge - 540 - 540
Casualty loss - - 250 -
------------ ----------- ----------- -----------
Total operating expenses 12,024 12,480 34,110 36,016
Operating income 3,418 8,766 10,229 24,930
Other income (expense):
Interest expense (6,728) (5,317) (19,785) (16,598)
Interest income 4 50 35 144
Other financing costs - - (2,678) -
------------ ----------- ----------- -----------
Income (loss) before income tax provision (3,306) 3,499 (12,199) 8,476
Income tax provision - - - -
------------ ----------- ----------- -----------
Net income (loss) $ (3,306)$ 3,499 $ (12,199) $ 8,476
============ =========== =========== ===========
The accompanying notes are an integral part of these consolidated financial statements.
O'SULLIVAN INDUSTRIES, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc.)
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Nine months ended
March 31,
----------------------------
2004 2003
------------ ------------
Cash flows provided by operating activities:
Net income (loss) $ (12,199) $ 8,476
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Depreciation and amortization 9,685 10,289
Amortization of debt issuance cost 1,234 1,178
Amortization of debt discount 705 289
Interest rate collar - (2,091)
Bad debt expense 101 732
Loss on disposal of assets (81) 113
Impairment of long-lived assets - 540
Debt extinguishment costs, net 2,678 -
Accrual of special payment on options to purchase Series A junior
preferred stock 1,053 919
Changes in assets and liabilities:
Trade receivables (2,646) (23)
Inventories (189) 10,388
Other assets 143 91
Accounts payable, accrued liabilities and other liabilities 11,209 (2,096)
Payable to parent-tax sharing agreement - (6,193)
------------ ------------
Net cash provided by operating activities 11,693 22,612
------------ ------------
Cash flows used for investing activities:
Capital expenditures (1,538) (4,827)
------------ ------------
Cash flows from financing activities:
Proceeds from borrowings 95,000 -
Repayment of borrowings (92,265) (16,739)
Debt issuance costs (4,030) -
Advances on intercompany loans 786 770
------------ ------------
Net cash flows used by financing activities (509) (15,969)
Net increase in cash and cash equivalents 9,646 1,816
Cash and cash equivalents, beginning of period 7,977 15,777
------------ ------------
Cash and cash equivalents, end of period $ 17,623 $ 17,593
============ ============
Non-cash investing activities:
Capital expenditures included in accounts payable $ 170 $ 166
The accompanying notes are an integral part of these consolidated financial statements.
O'SULLIVAN INDUSTRIES, INC. AND SUBSIDIARIES
(a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc.)
UNAUDITED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S DEFICIT
For the nine months ended March 31, 2004
(in thousands)
Accumulated
other Total
Retained comprehensive stockholder's Comprehensive
deficit income deficit income (loss)
--------------- ---------------- --------------- ----------------
Balance, June 30, 2003 $ (93,819) $ 296 $ (93,523)
Net loss (12,199) (12,199) $ (12,199)
Cumulative translation
adjustments 2,407 2,407 2,407
--------------- ---------------- --------------- ----------------
Balance, March 31, 2004 $ (106,018) $ 2,703 $ (103,315) $ (9,792)
=============== ================ =============== ================
The accompanying notes are an integral part of these consolidated financial statements.
=============== ================ =============== ================
O'SULLIVAN INDUSTRIES, INC.
(a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc.)
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2004
Note 1--Basis of Presentation
The unaudited consolidated financial statements of O'Sullivan Industries, Inc. and subsidiaries
("O'Sullivan"), a wholly owned subsidiary of O'Sullivan Industries Holdings, Inc. ("O'Sullivan Holdings"), included
herein have been prepared in accordance with generally accepted accounting principles for interim financial
information and with instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote
disclosures normally included in financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been
included. The financial statements should be read in conjunction with the audited financial statements and notes
thereto included in O'Sullivan's Annual Report on Form 10-K for the fiscal year ended June 30, 2003. The interim
results are not necessarily indicative of the results that may be expected for a full year.
Note 2--Refinancing of Long-Term Debt
On September 29, 2003, O'Sullivan issued $100.0 million of privately placed, 10.63% senior secured notes
maturing on October 1, 2008. The notes were issued at a price of 95%, providing $95.0 million in cash proceeds
before expenses related to the issuance, which were about $3.8 million. The proceeds were used to repay the term
loans under O'Sullivan's senior credit facility. The notes are secured by a first-priority security interest in and lien
on substantially all of O'Sullivan's assets (and on O'Sullivan's capital stock) other than accounts receivable,
inventory, capital stock of O'Sullivan's subsidiaries, deposit accounts, certain books and records and certain
licenses, and by a second-priority security interest in and lien on substantially all of O'Sullivan's accounts
receivable, inventory, deposit accounts, certain books and records and certain licenses. The notes are guaranteed by
O'Sullivan Holdings, O'Sullivan Industries - Virginia, Inc. ("O'Sullivan Industries - Virginia") and O'Sullivan
Furniture Factory Outlet, Inc. On December 23, 2003, O'Sullivan filed a registration statement with respect to an
offer to exchange the notes for a new issue of identical notes registered under the Securities Act of 1933, as
amended. The registration statement became effective on January 8, 2004, and the exchange offer closed on
February 25, 2004.
On September 29, 2003, O'Sullivan, O'Sullivan Industries - Virginia and O'Sullivan Furniture Factory
Outlet, Inc. also entered into a new five-year asset-based credit agreement which permits revolving borrowings of up
to $40.0 million to the extent of availability under a collateral borrowing base. The borrowing base at March 31,
2004 was approximately $35.0 million. The credit agreement has a $25.0 million sub-limit for letters of credit, of
which O'Sullivan is currently utilizing approximately $14.0 million. The credit agreement is secured by a first-
priority security interest in and lien on substantially all of O'Sullivan's accounts receivable, inventory, deposit
accounts, certain books and records and certain licenses, and a second-priority security interest in and lien on
substantially all of O'Sullivan's assets other than accounts receivable, inventory, capital stock of O'Sullivan and its
subsidiaries, deposit accounts, certain books and records and certain licenses. O'Sullivan Holdings guaranteed the
obligations under the credit agreement. The interest rate on loans under the credit agreement is a LIBOR rate plus
2.5% or an index rate plus 1.0%. A fee equal to 0.5% per annum is paid on the unused commitment under the credit
agreement. No loans were outstanding under the revolving credit agreement as of March 31, 2004.
In connection with the repayment of the term loans and the termination of the revolving credit facility under
the previous senior credit facility, O'Sullivan expensed approximately $3.1 million of unamortized issuance costs
related to the previous senior credit facility in the first quarter of fiscal 2004. These costs are included in other
financing costs in the consolidated statement of operations.
Long term debt consisted of the following:
March 31, June 30,
2004 2003
------------- -------------
(in thousands)
--
Senior term loan, tranche A $ - $ 10,593
Senior term loan, tranche B - 77,673
Industrial revenue bonds 10,000 10,000
Senior secured notes 95,377 -
Senior subordinated notes 92,130 95,743
----------- -----------
Total debt 197,507 194,009
Less current portion - (4,039)
----------- -----------
Total long-term debt $ 197,507 $ 189,970
=========== ===========
Total debt, including the discount, net of accretion, of $4.6 million on the senior secured notes and $3.9
million on the senior subordinated notes, matures as follows (in thousands):
Fiscal year ending
June 30,
- ----------------------------
2004 $ -
2005 -
2006 -
2007 -
2008 -
Thereafter 206,000
----------
$ 206,000
==========
Note 3--Derivative Financial Instruments
As required under O'Sullivan's previous senior credit facility, O'Sullivan hedged one-half of its term loans
with an initial notional amount of $67.5 million with a three-year, costless interest rate collar. The collar, which
expired in March 2003, was based on three-month LIBOR and had a floor of 6.43% and a ceiling of 8.75%. For the
three months and nine months ended March 31, 2003, O'Sullivan recorded reduced interest expense of $783,000
and $2.1 million, respectively. These amounts represented the change in fair value of the interest rate collar.
Note 4--New Accounting Standards
In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, an
Interpretation of Accounting Research Bulletin No. 51 ("FIN 46"). FIN 46 establishes accounting guidance for
consolidation of variable interest entities that function to support the activities of the primary beneficiary. FIN 46
applies to any business enterprise, public or private, that has a controlling interest, contractual relationship or other
business relationship with a variable interest entity. In December 2003, the FASB issued Interpretation No. 46(R)
("FIN 46(R)") which supercedes FIN 46. FIN 46(R) is effective for all Special Purpose Entities ("SPE's") created
prior to February 1, 2003 at the end of the first interim or annual reporting period ending after December 15, 2003.
FIN 46(R) will be applicable to all non-SPE's created prior to February 1, 2003 by public entities at the end of the
first interim or annual reporting period ending after March 15, 2004. O'Sullivan has determined that it has no SPE's.
O'Sullivan reviewed the applicability of FIN 46(R) to entities other than SPE's and has determined that the adoption
of FIN 46(R) did not have a material effect on its consolidated financial statements.
Note 5--Stock Based Compensation
O'Sullivan accounts for stock-based compensation for employees under Accounting Principles Board
("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and has elected the disclosure-only alternative
under SFAS 123. No stock-based compensation cost is recorded, as all options granted have an exercise price equal
to the market value of the stock on the date of the grant. In accordance with SFAS 148, the following table presents
the effect on net income (loss) had compensation cost for O'Sullivan's stock plans been determined consistent with
SFAS 123:
Three months ended Nine months ended
March 31, March 31,
----------------------------- ------------------------
2004 2003 2004 2003
----------- ----------- ----------- -----------
(in thousands)
----------- ----------- -----------
Net income (loss) as reported $ (3,306) $ 3,499 $ (12,199$ 8,476
Less: total stock-based compensation expense
determined under fair value method for all stock
options, net of related income tax - (2) (3) (5)
----------- ----------- ----------- -----------
Pro forma net income (loss) $ (3,306) $ 3,497 $ (12,202$ 8,471
=========== =========== =========== ===========
For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over
the vesting period. O'Sullivan did not grant any options during the nine months ended March 31, 2004 and 2003.
Note 6--Shipping and Handling Costs
O'Sullivan reports amounts billed to customers as revenue, the cost for warehousing operations in cost of
sales and freight out costs as part of selling, marketing and administrative expenses. Freight out costs included in
selling, marketing and administrative expenses in the third quarters of fiscal 2004 and fiscal 2003 were
approximately $2.1 million and $1.3 million, respectively. Freight out costs in the nine months ended March 31,
2004 and 2003 were $5.3 million and $4.9 million, respectively.
Note 7--Inventory
Inventory, net, consists of the following:
March 31, June 30,
2004 2003
------------- ------------
(in thousands)
---
Finished goods $ 31,918 $ 37,744
Work in process 5,053 3,923
Raw materials 15,644 10,759
----------- ---------
$ 52,615 $ 52,426
=========== =========
Note 8--Condensed Consolidating Financial Information
In November 1999 O'Sullivan issued $100 million of 13.375% senior subordinated notes due 2009. These
notes were unsecured obligations of O'Sullivan; however, they were guaranteed on an unsecured basis by O'Sullivan
Industries - Virginia and any future subsidiaries created, including O'Sullivan Furniture Factory Outlet, Inc., which
commenced operations in April 2002. The guarantees are full and unconditional. In fiscal 2000, O'Sullivan
exchanged the notes issued in November 1999 for notes with substantially identical terms and associated guarantees.
The exchange notes have been registered under the Securities Act of 1933, as amended.
The accompanying condensed consolidating financial information has been prepared and presented
pursuant to SEC rules and regulations.
Condensed Consolidating Statements of Income
Three months ended March 31, 2004
(in thousands)
-----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------- ------------- --------------- -----------------
Net sales $ 62,217$ 11,022 $ -$ 73,239
Cost of sales 47,685 10,112 - 57,797
------------- ------------- --------------- -----------------
Gross profit 14,532 910 - 15,442
Operating expenses:
Selling, marketing and administrative 10,840 1,184 - 12,024
------------- ------------- --------------- -----------------
Operating income 3,692 (274) - 3,418
Other income (expense):
Interest expense (6,504) (224) - (6,728)
Interest income 4 - - 4
Equity in loss of subsidiary (498) - 498 -
------------- ------------- --------------- -----------------
Loss before income tax provision (3,306) (498) 498 (3,306)
Income tax provision - - - -
------------- ------------- --------------- -----------------
Net loss $ (3,306$ (498) $ 498$ (3,306)
============= ============= =============== =================
Three months ended March 31, 2003
(in thousands)
----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ -------------- --------------- -----------------
Net sales $ 59,824 $ 27,042 $ - $ 86,866
Cost of sales 44,368 21,252 - 65,620
------------ -------------- --------------- -----------------
Gross profit 15,456 5,790 - 21,246
Operating expenses:
Selling, marketing and administrative 9,466 2,474 - 11,940
Restructuring charge 540 - 540
------------ -------------- --------------- -----------------
Op
Operating income 5,450 3,316 - 8,766
Other income (expense):
Interest expense (5,202) (115) - (5,317)
Interest income 50 - - 50
Equity in earnings of subsidiary 3,201 - (3,201) -
------------ -------------- --------------- -----------------
Income before income tax provision 3,499 3,201 (3,201) 3,499
Income tax provision - - - -
------------ -------------- --------------- -----------------
Net income $ 3,499 $ 3,201 $ (3,201)$ 3,499
============ ============== =============== =================
Nine months ended March 31, 2004
(in thousands)
----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ ------------- ---------------- -----------------
Net sales $ 169,899$ 40,038$ -$ 209,937
Cost of sales 129,849 35,749 - 165,598
------------ ------------- ---------------- -----------------
Gross profit 40,050 4,289 - 44,339
Operating expenses:
Selling, marketing and administrative 29,796 4,064 - 33,860
Casualty loss 250 - - 250
------------ ------------- ---------------- -----------------
Operating income 10,004 225 - 10,229
Other income (expense):
Interest expense (19,105) (680) - (19,785)
Interest income 35 - - 35
Other financing costs, net (2,678) - - (2,678)
Equity in loss of subsidiary (455) - 455 -
------------ ------------- ---------------- -----------------
Loss before income tax provision (12,199) (455) 455 (12,199)
Income tax provision - - - -
------------ ------------- ---------------- -----------------
Net loss $ (12,199$ (455$ 455$ (12,199)
============ ============= ================ =================
Nine months ended March 31, 2003
(in thousands)
---------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ -------------- --------------- ----------------
Net sales $ 167,965$ 69,569$ -$ 237,534
Cost of sales 122,145 54,443 - 176,588
------------ -------------- --------------- ----------------
Gross profit 45,820 15,126 - 60,946
Operating expenses:
Selling, marketing and administrative 28,788 6,688 - 35,476
Restructuring charge 540 - - 540
------------ -------------- --------------- ----------------
Op
Operating income 16,492 8,438 - 24,930
Other income (expense):
Interest expense (16,224) (374) - (16,598)
Interest income 144 - - 144
Equity in earnings of subsidiary 8,064 - (8,064) -
------------ -------------- --------------- ----------------
Income before income tax provision 8,476 8,064 (8,064) 8,476
Income tax provision - - - -
------------ -------------- --------------- ----------------
Net income $ 8,476$ 8,064$ (8,064)$ 8,476
============ ============== =============== ================
Condensed Consolidating Balance Sheets
March 31, 2004
(in thousands)
----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ -------------- ---------------- ----------------
ASSETS:
Current assets $ 93,127 $ 7,452$ - $ 100,579
Property, plant and equipment, net 35,674 28,409 - 64,083
Other assets 8,661 77 - 8,738
Investment in subsidiary 33,270 - (33,270) -
Goodwill 38,088 - - 38,088
Receivable from subsidiary-tax sharing
agreement - 41,305 (41,305) -
------------ -------------- ---------------- ----------------
Total assets $ 208,820 $ 77,243$ (74,575) $ 211,488
============ ============== ================ ================
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT):
Current liabilities $ 24,157 $ 19,674$ - $ 43,831
Long-term debt 187,507 10,000 - 197,507
Other liabilities 3,498 - - 3,498
Payable to parent-tax sharing agreement 53,692 14,299 - 67,991
Other payable to parent 43,281 - (41,305) 1,976
Stockholder's equity (deficit) (103,315) 33,270 (33,270) (103,315)
------------ -------------- ---------------- ----------------
Total liabilities and stockholder's $ 208,820 $ 77,243$ (74,575) $ 211,488
equity (deficit)
============ ============== ================ ================
June 30, 2003
(in thousands)
----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ -------------- --------------- -----------------
ASSETS:
Current assets $ 74,930 $ 13,277 $ - $ 88,207
Property, plant and equipment, net 40,356 31,511 - 71,867
Other assets 8,896 86 - 8,982
Investment in subsidiary 33,725 - (33,725) -
Goodwill 38,088 - - 38,088
Receivable from parent - 33,425 (33,425) -
------------ -------------- --------------- -----------------
Total assets $ 195,995 $ 78,299 $ (67,150)$ 207,144
============ ============== =============== =================
LIABILITIES AND STOCKHOLDER'S EQUITY (DEFICIT):
Current liabilities $ 20,951 $ 20,848 $ - $ 41,799
Long-term debt 179,970 10,000 - 189,970
Other liabilities 2,439 - - 2,439
Payable to parent-tax sharing agreement 51,543 13,726 - 65,269
Other payable to parent 34,615 - (33,425) 1,190
Stockholder's equity (deficit) (93,523) 33,725 (33,725) (93,523)
------------ -------------- --------------- -----------------
Total liabilities and stockholder's $ 195,995 $ 78,299 $ (67,150)$ 207,144
equity (deficit)
============ ============== =============== =================
Condensed Consolidating Statements of Cash Flows
Nine months ended March 31, 2004
(in thousands)
---------------------------------------------------------------
O'Sullivan Guarantor onsolidating
Industries Subsidiaries CAdjustments Consolidated
------------- ------------- -------------- -----------------
Net cash flows provided by operating
activities $ 3,682$ 8,011$ -$ 11,693
------------- ------------- -------------- -----------------
Investing activities:
Capital expenditures (1,388) (150) - (1,538)
Repayments of loans to affiliates 7,757 - (7,757) -
------------- ------------- -------------- -----------------
Net 6,369 (150) (7,757) (1,538)
------------- ------------- -------------- -----------------
Financing activities:
Advances (repayment) of loans from affiliates 786 (7,757) 7,757 786
Proceeds from borrowings 95,000 - - 95,000
Repayment of borrowings (92,265) - - (92,265)
Debt issuance costs (4,030) - - (4,030)
------------- ------------- -------------- -----------------
Net (509) (7,757) 7,757 (509)
------------- ------------- -------------- -----------------
Cash and cash equivalents:
Net increase in cash and cash equivalents 9,542 104 - 9,646
Cash and cash equivalents, beginning of
period 7,878 99 - 7,977
------------- ------------- -------------- -----------------
Cash and cash equivalents, end of period $ 17,420$ 203$ -$ 17,623
============= ============= ============== =================
Nine months ended March 31, 2003
(in thousands)
----------------------------------------------------------------
O'Sullivan Guarantor Consolidating
Industries Subsidiaries Adjustments Consolidated
------------ ------------ --------------- ------------------
Net cash flows provided by operating activities $ 6,631$ 15,981 $ -$ 22,612
------------ ------------ --------------- ------------------
Investing activities:
Capital expenditures (3,252) (1,575) - (4,827)
Repayment of loans to affiliates 14,358 - (14,358) -
------------ ------------ --------------- ------------------
Net 11,106 (1,575) (14,358) (4,827)
------------ ------------ --------------- ------------------
Op
Financing activities:
Advances (repayment) of loans from affiliates 770 (14,358) 14,358 770
Repayment of borrowings (16,739) - - (16,739)
------------ ------------ --------------- ------------------
Net (15,969) (14,358) 14,358 (15,969)
------------ ------------ --------------- ------------------
Cash and cash equivalents:
Net increase in cash and cash equivalents 1,768 48 - 1,816
Cash and cash equivalents, beginning of
period 15,648 129 - 15,777
------------ ------------ --------------- ------------------
Cash and cash equivalents, end of period $ 17,416$ 177 $ -$ 17,593
============ ============ =============== ==================
Note 9--Income Taxes
O'Sullivan recorded no tax expense for the three or nine months ended March 31, 2004 and 2003 because
of the valuation allowance recorded in the quarter ended March 31, 2002.
Note 10--Related Party Transactions
O'Sullivan entered into a management services agreement with Bruckmann, Rosser, Sherrill & Co., LLC
("BRS") for strategic and financial advisory services on November 30, 1999. BRS holds about 72% of O'Sullivan
Holdings' outstanding common stock. The fee for these services is the greater of (a) 1% of O'Sullivan's
consolidated cash flow (as defined in the indenture related to the O'Sullivan senior subordinated notes) or (b)
$300,000 per year. Under the management services agreement, BRS can also receive reimbursement for expenses.
The credit agreement, the indenture for the senior secured notes and the management services agreement all
contain certain restrictions on the payment of the management fee. The management services agreement provides
that no cash payment for the management fee can be made unless the fixed charge coverage ratio (as defined in the
indenture for the senior subordinated notes) for O'Sullivan's most recently ended four full fiscal quarters would have
been greater than 2.0 to 1.0. Similarly, the indenture for the senior secured notes provides that payments under the
management services agreement are conditional and contingent upon the fixed charge coverage ratio (as defined in
the indenture for the senior secured notes) for the four most recently ended full fiscal quarters immediately preceding
any payment date being at least 2.0 to 1. The credit agreement prevents O'Sullivan from paying fees and expenses
under the management services agreement if a default or event of default exists or if one would occur as a result of
the payment. All fees and expenses under the management services agreement are subordinated to the senior
subordinated notes.
The management fees and reimbursable expenses of $212,000 and $365,000 recognized in the first nine
months of fiscal years 2004 and 2003, respectively, are included in selling, marketing and administrative expense in
the accompanying consolidated statements of operations. O'Sullivan paid BRS $713,000 in the first quarter of fiscal
2003 for the balance owed through June 30, 2002 and $305,000 as a prepayment of the fiscal 2003 management fee.
An additional prepayment of $285,000 for fiscal 2003 management fees was made in January 2003. The amount due
BRS under the management services agreement at March 31, 2004 was $65,000; this amount is included in accrued
liabilities on the consolidated balance sheet. At June 30, 2003 the prepaid balance under the management services
agreement was $147,000, which was included in prepaid expenses and other current assets on the consolidated
balance sheet.
Note 11--Commitments and Contingencies
Payment to Parent - Tax Sharing Agreement. Future payments to O'Sullivan Holdings with respect to the
tax sharing agreement between O'Sullivan Holdings and RadioShack Corporation are contingent on taxable income.
The maximum payments are fiscal 2004--$11.6 million; fiscal 2005--$10.5 million; fiscal 2006--$11.3 million;
and thereafter--$38.7 million. O'Sullivan estimates that its payments to O'Sullivan Holdings with respect to the tax
sharing agreement between O'Sullivan Holdings and RadioShack during fiscal 2004 will aggregate $1.7 million.
Litigation. There have been no significant changes in legal matters since June 30, 2003, except that the
preference claim filed by Montgomery Ward LLC against O'Sullivan in the Bankruptcy Court for the District of
Delaware has been settled. The settlement is not expected to have a material impact on O'Sullivan's results of
operations.
Note 12--Other Comprehensive Income:
O'Sullivan's comprehensive income is comprised of net income (loss) and foreign currency translation
adjustments. The components of comprehensive income for the three and nine month periods ended March 31 are:
Three months ended Nine months ended
March 31, March 31,
----------------------------- ------------------------
2004 2003 2004 2003
----------- ----------- ----------- -----------
(in thousands)
----------- ----------- -----------
Net income (loss) $ (3,306) $ 3,499 $ (12,199$ 8,476
Cumulative translation adjustments 1,429 304 2,407 391
----------- ----------- ----------- -----------
Comprehensive income (loss) $ (1,877) $ 3,803 $ (9,792$ 8,867
=========== =========== =========== ===========
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Overview
We are a leading ready-to-assemble furniture manufacturer in North America with over 45 years of
experience. We design, manufacture and distribute a broad range of RTA furniture products--computer
workcenters, desks, entertainment centers, audio stands, storage products, bookcases and cabinets.
Recent Trends
Our net sales for the third quarter of fiscal 2004 were down about 15.7% from sales for the same quarter in
fiscal 2003. For the first nine months of fiscal 2004, our sales declined about 11.6% from sales in the same period of
fiscal 2003. Our sales declined for several reasons:
o increasing competition from imported furniture, particularly from China;
o the slowdown of economic growth and consumer spending in the United States from 2001 into
2004;
o increased competition from domestic competition due to excess capacity in the RTA furniture
industry;
o a focus by several of our retail partners toward higher price point offerings, which include products
using materials other than our particleboard and laminate capabilities.
These factors will continue to affect our business throughout the remainder of fiscal 2004 and into fiscal 2005.
Market prices for particleboard, our largest raw material cost, increased about 20% during the quarter,
reducing our gross margins. Our product mix also changed slightly with more sales of lower priced, lower margin
products. In addition, we increased promotional activities with several of our major retail partners. As a result, our
operating income fell to $3.4 million for the quarter ended March 31, 2004, compared with $8.8 million for the
quarter ended March 31, 2003. For the first three quarters of fiscal 2004, our operating income was $10.2 million
compared to $24.9 million in the first three quarters of fiscal 2003. Net loss for the quarter ended March 31, 2004
was $3.3 million compared to a net income of $3.5 million in the comparable period of fiscal 2003. Net loss for the
nine months ended March 31, 2004 was $12.2 million, compared to a net income of $8.5 million for the nine months
ended March 31, 2003. The net loss for the fiscal 2004 quarter reflects lower sales, increasing particleboard prices
and the reduction in operating income. The net loss for the first nine months of fiscal 2004 reflects lower sales and
operating income, lower production levels which adversely impacted our fixed cost absorption, increased
particleboard prices and the write-off of unamortized debt issuance costs related to our previous senior credit facility.
Several manufacturers, including O'Sullivan, have excess manufacturing capacity due to the current decline
in sales in the RTA furniture segment and increasing imports. This excess capacity is causing increased competition
that is expected to continue, and perhaps to intensify, through the remainder of fiscal 2004 and into fiscal 2005.
Competition adversely affected our sales, margins and results of operations in fiscal 2004 and will continue to affect
our sales, margins and results of operations in fiscal 2005.
In December 2003, Best Buy informed us that they would be reducing orders of particleboard furniture. As
a result, our sales to Best Buy declined significantly in the third quarter of fiscal 2004. We expect sales to Best Buy
to continue at the lower level. We hope to partially offset this loss by increasing sales to other customers, but we can
not assure you that this will occur.
Refinancing Transactions
On September 29, 2003, O'Sullivan issued $100 million of senior secured notes and executed a new five-
year $40 million senior secured revolving credit agreement. The proceeds of the senior secured notes were used to
repay O'Sullivan's existing $88.3 million senior credit facility and related fees and expenses. The senior secured
notes were sold at 95% of their face value, bear interest at 10.63% and mature on October 1, 2008. As of March 31,
2004, we had no borrowings under the new credit agreement, although $14.0 million of letters of credit were
outstanding.
Raw Materials
We purchase large quantities of raw materials, including particleboard and fiberboard. We are dependent
on our outside suppliers for all of our raw materials. Therefore, we are subject to changes in the prices charged by
our suppliers.
Due to the nature of our product lines, we have material sensitivity to some commodities, including
particleboard, fiberboard, corrugated cardboard and hardware. We manage commodity price exposures primarily
through the duration and terms of our vendor agreements. A 1.0% change in our raw material prices would affect
our cost of sales by approximately $1.4 million annually.
In the third quarter of fiscal 2004, market prices for particleboard, our largest-cost raw material, increased
about 20%. We expect additional price increases in the last quarter of fiscal 2004, and perhaps beyond, as demand
for particleboard has increased and suppliers have reduced capacity. Because we utilize first-in, first-out accounting
for our inventory, not all of the price increases are reflected in our cost of goods sold for the first nine months of
fiscal 2004. These price increases will reduce our operating margins and operating income for the remainder of
fiscal 2004 and perhaps beyond.
We are endeavoring to reduce the impact of the price increases through our value analysis program and by
the eventual inclusion of the higher costs in the pricing of our products. We are in the process of negotiating higher
prices for our products with our customers; some of these negotiations have been concluded, while others are
ongoing. In our value analysis program, we endeavor to remove costs from the production of a product without
sacrificing utility or quality of the product. We cannot assure you that we will be successful in offsetting these or
future potential raw material price increases.
RadioShack Arbitration and Accounting for Tax Sharing Agreement with RadioShack
In 1994, RadioShack, then Tandy Corporation, completed an initial public offering of O'Sullivan Holdings.
In connection with the offering, O'Sullivan Holdings entered into a tax sharing and tax benefit reimbursement
agreement with RadioShack. RadioShack and O'Sullivan Holdings made elections under Sections 338(g) and
338(h)(10) of the Internal Revenue Code with the effect that the tax basis of our assets was increased to the deemed
purchase price of the assets, and an equal amount of such increase was included as taxable income in the
consolidated federal tax return of RadioShack. The result was that the tax basis of our assets exceeded the historical
book basis we used for financial reporting purposes.
The increased tax basis of our assets results in increased tax deductions and, accordingly, reduced our
taxable income or increased our net operating loss. Under the tax sharing agreement, O'Sullivan Holdings is
contractually obligated to pay RadioShack nearly all of the federal tax benefit expected to be realized with respect to
such additional basis. The payments under the agreement represent additional consideration for the stock of
O'Sullivan Industries, Inc. and further increase the tax basis of our assets from the 1994 initial public offering when
payments are made to RadioShack.
To the extent the benefit of these basis step-up deductions caused us to have a federal taxable loss,
O'Sullivan Holdings was only obligated to pay RadioShack to the extent that the benefits were used to reduce
taxable income to zero. Any additional tax deductions resulting from the step-up create a net operating loss ("NOL")
carryforward on O'Sullivan Holdings' federal income tax return. Under the terms of the tax sharing agreement, if we
utilized this NOL carryforward to generate future tax savings, O'Sullivan Holdings was also obligated to remit that
benefit received to RadioShack.
O'Sullivan recorded the deferred tax asset created by the step-up in basis and the additional basis from the
probable future payments to RadioShack as of February 1994. At the same time, we recorded our obligation to
RadioShack. The amounts of the deferred tax asset and obligation to RadioShack were each $147.9 million at
February 1994. From 1994 through 2001, we reduced the amount of the deferred tax asset and the obligation to
RadioShack as we realized the benefits of the deferred tax asset and paid RadioShack amounts due under the tax
sharing agreement.
In November 1999, O'Sullivan Holdings completed a leveraged recapitalization and merger transaction
which significantly increased our debt. As a result of the higher debt levels, we also experienced increased interest
expense, which reduced our taxable income and also reduced the tax benefits used from the deductions arising from
the step-up in basis. O'Sullivan Holdings reduced its payments to RadioShack accordingly. RadioShack claimed
that the deductions arising from the increased interest payments should not impact tax benefit payments due
RadioShack under the tax agreement. RadioShack pursued this matter and prevailed in an arbitration ruling in
March 2002. O'Sullivan Holdings reached a settlement agreement with RadioShack in May 2002. Pursuant to the
settlement agreement, we paid RadioShack $24.6 million in May 2002 and an additional $3.1 million in June 2002.
The sum of these two payments ($27.7 million) represented the amount due RadioShack under the settlement
agreement through June 30, 2002. These amounts represent the calculation of what benefits we would have realized
had we not had the additional interest expense from the 1999 recapitalization and merger. The settlement agreement
requires calculations into the future and quarterly payments to RadioShack if our taxable income adjusted for the
additional interest expense shows that we would have realized the benefits had we not incurred the additional interest
expense. If on this basis, we could have used the deductions from the step-up in basis, O'Sullivan Holdings is
required to make a payment to RadioShack even though we may not be receiving any current tax benefit from these
deductions.
The remaining maximum obligation to RadioShack was $109.1 million at March 31, 2002. O'Sullivan
Holdings reduced the obligation by subsequent payments; the balance was $81.4 million at June 30, 2002 and $72.1
million at June 30, 2003 and March 31, 2004.
Under Statement of Financial Accounting Standards ("SFAS") 109, we must determine if it is more likely
than not that we will realize the net deferred tax asset as a reduction in our tax liabilities in the future. SFAS 109
requires objective evidence to support the more likely than not conclusion. The arbitration decision dramatically
affected our liquidity, which reduced the amounts we could invest in sales efforts or cost improvements, as most free
cash flow would now be used for O'Sullivan Holdings' payments to RadioShack or to repay our indebtedness. In
addition, it became evident to us by March 2002 that the prolonged economic slowdown that started prior to
September 11, 2001 was continuing. This, coupled with the adverse effect on our liquidity of the settlement, caused
us to lower our projections of future taxable income. Accordingly, we projected our expected future taxable income
utilizing operating performance we achieved in fiscal 2002 assuming our performance would be no better or worse
over an extended period of time. Such projections indicate that we would not have taxable income until 2009 when
substantially all the tax benefit deductions had been taken. At that point, the projections indicated that our net
operating losses existing at that time would be utilized before they expire. However, we currently have and expect to
have taxable losses for a number of years in the future. Projections over a long time are inherently uncertain, and we
cannot provide objective evidence that our operations in 2009 and beyond will produce sufficient taxable income.
As a result, we provided a full valuation allowance on our net deferred tax assets in fiscal 2002 with a corresponding
charge to income tax expense.
As a result of providing a full valuation allowance on our net deferred tax assets in fiscal 2002, we did not
record a tax provision in the first nine months of fiscal 2003 or 2004. We do not expect to record a tax provision or
benefit in the foreseeable future. If at a future date we determine that some or all of the deferred tax asset will more
likely than not be realized, we will reverse the appropriate portion of the valuation allowance and credit income tax
expense.
See "Cautionary Statement Regarding Forward Looking Information."
Results of Operations
Net Sales. Net sales for the quarter ended March 31, 2004 decreased by $13.6 million, or 15.7%, to
$73.2 million from $86.9 million for the quarter ended March 31, 2003. Net sales for the nine months ended
March 31, 2004 decreased by $27.6 million, or 11.6%, to $209.9 million from $237.5 million for the nine months
ended March 31, 2003. Our sales declined in every major channel due to extremely competitive conditions,
economic uncertainties and the other reasons cited above. For the quarter ended March 31, 2004, the decline in sales
from the prior year period was due to a decline in average price per unit sold. For the nine months ended March 31,
2004, the decline in sales from the first three quarters of fiscal 2003 was due to declines both in unit volume and in
the average price per unit sold.
Gross Profit. Gross profit decreased to $15.4 million, or 21.1% of sales, for the three month period ended
March 31, 2004, from $21.2 million, or 24.5% of sales, for the comparable prior year quarter. The gross margin
percentage for the third quarter of fiscal 2004 declined primarily because of lower sales, increased raw material
prices, changes in our customer mix and increasing promotional activities with several retail partners. For the nine
months ended March 31, 2004, gross profit declined to $44.3 million, or 21.1% of sales, from $60.9 million, or
25.7% of sales. Gross profit declined for the first nine months of fiscal 2004 due to lower sales levels, lower
production levels, increases in raw material prices, changes in our customer mix, increased promotional activities
and product sold at discounted pricing.
Selling, Marketing and Administrative Expenses. Selling, marketing and administrative expenses increased
slightly to $12.0 million for the three month period ended March 31, 2004, compared to $11.9 million during the
quarter ended March 31, 2003. Because of our lower sales in the fiscal 2004 period, selling, marketing and
administrative expenses increased to 16.4% of our net sales for the fiscal 2004 third quarter compared to 13.7% of
net sales in the third quarter of fiscal 2003. Freight out expense increased due to charges incurred to ship displays to
certain customers. Royalty expenses increased due to royalties paid in connection with our license agreement with
The Coleman Company, Inc. These charges were partially offset by decreased replacement parts expense and lower
incentive compensation and profit sharing costs.
For the nine months ended March 31, 2004, selling, marketing and administrative expenses decreased
$1.6 million from $35.5 million in fiscal 2003 to $33.9 million in fiscal 2004. The major factors contributing to the
decrease were decreased bad debt expense, decreased store display expense, decreased commission expense and
lower incentive compensation and profit sharing costs.
Casualty Loss. In November 2003, a fire destroyed certain of our manufacturing equipment. We recorded
a casualty loss of $250,000 in the quarter ended December 31, 2003. We deferred recognition of potential gains
resulting from estimated insurance recoveries until the insurance proceeds have been received or are realizable. In
the third quarter of fiscal 2004, we received a payment of $500,000 from our insurance carrier for facility cleanup
and additional expenses caused by the loss of the equipment which was recorded as an offset to the additional costs
incurred during the third quarter. We currently expect to record a gain of approximately $550,000 in the fourth
quarter of fiscal 2004 with respect to the casualty loss. Thus, for the year ending June 30, 2004, we expect to record
a net gain of approximately $300,000 related to the equipment destroyed by the fire. Replacement equipment will be
installed in the fourth quarter of fiscal 2004.
Depreciation and Amortization. Depreciation and amortization expenses of $3.1 million for the third
quarter of fiscal 2004 and $9.7 million year to date are lower compared to the third quarter and year to date for fiscal
2003 because of our reduced capital expenditure levels in recent years.
Operating Income. Operating income decreased $5.3 million to $3.4 million for the quarter ended
March 31, 2004 from $8.8 million in the quarter ended March 31, 2003 due to lower sales, higher raw material
prices and lower margins. For the nine months ended March 31, 2004, operating income decreased $14.7 million
over the nine months ended March 31, 2003. Our operating income declined because of our lower sales levels,
lower production levels which adversely affected our fixed cost absorption, increased raw material prices, changes in
customer mix and increased promotional activities with several of our major retail partners.
Net Interest Expense. Net interest expense increased from $5.3 million in the third quarter of fiscal 2003 to
$6.7 million in the third quarter of fiscal 2004. Net interest expense increased $3.3 million from $16.5 million for
the first nine months of fiscal 2003 to $19.8 million for the first nine months of fiscal 2004. Interest expense
increased due to the fiscal 2003 change in value of our interest rate collar that expired in March 2003. The following
table summarizes our net interest expense:
Three months ended Nine months ended
March 31, March 31,
----------------------------- ------------------------------
(in thousands) (in thousands)
2004 2003 2004 2003
----------- ----------- ----------- ------------
Interest expense on senior secured notes,
credit agreement, senior credit facility, industri $
revenue bonds and senior subordinated notes al 6,011 $ 5,600 $ 17,846 $ 17,222
Interest income (4) (50) (35) (144)
Non-cash items:
Interest rate collar - (783) - (2,091)
Amortization of debt discount 309 108 705 289
Amortization of loan fees 408 392 1,234 1,178
----------- ----------- ----------- ------------
Net interest expense $ 6,724 $ 5,267 $ 19,750 $ 16,454
=========== =========== =========== ============
Other Financing Income (Expense). We recorded a gain of $616,000 in the quarter ended December 31,
2003 in connection with the repurchase of $4.0 million of our senior subordinated notes, net of original issue
discount and capitalized loan fees. For the nine months ended March 31, 2004, we recorded other financing costs
expense of $2.7 million related to the write-off of capitalized loan fees for the old senior credit facility of about
$3.3 million in the September 2003 quarter, offset by the gain on the repurchase of the subordinated notes.
Income Tax Provision. We recorded no tax expense for the first, second or third quarters of fiscal 2004 or
2003 because of the valuation allowance recorded in the quarter ended March 31, 2002. See "RadioShack
Arbitration and Accounting for Tax Sharing Agreement with RadioShack."
Net Income (Loss). We incurred a net loss of $3.3 million in the third quarter of fiscal 2004 compared to
net income of $3.5 million in fiscal 2003 due to lower sales and operating levels, increased raw material prices and
increased interest expense. Net income decreased $20.7 million from net income of $8.5 million in the first nine
months of fiscal 2003 to a net loss of $12.2 million in the first nine months of fiscal 2004 due to lower sales and
operating levels, increased raw material prices, promotional activities with our retail partners and increased interest
expense.
Liquidity and Capital Resources
We are highly leveraged and have a stockholder's deficit of approximately $103.3 million at March 31,
2004. Our primary sources of liquidity are cash flows from operations and borrowings under our senior credit
agreement, which is discussed below. Our liquidity requirements will be to pay our debt, including interest expense
under the senior credit agreement and notes, to provide for working capital and capital expenditures and to pay
RadioShack amounts due under the tax sharing agreement. Decreased demand for our products could decrease our
cash flow from operations and the availability of borrowings under our credit agreement.
Working Capital. As of March 31, 2004, cash and cash equivalents totaled $17.6 million compared to
$8.0 million at June 30, 2003. Net working capital was $56.7 million at March 31, 2004 compared to $46.4 million
at June 30, 2003.
Operating Activities. Net cash provided by operating activities for the nine months ended March 31, 2004
was $11.7 million compared to net cash provided of $22.6 million for the nine months ended March 31, 2003. Cash
flow from operations declined year-over-year for the following reasons.
o Net income in the first nine months of fiscal 2004 was about $20.7 million lower than in the first nine
months of fiscal 2003.
o Accounts payable and accrued liabilities increased $11.2 million in the first nine months of fiscal 2004
compared with a decline of $2.1 million in the first nine months of fiscal 2003. Profit sharing and
incentive compensation payments during the first nine months of fiscal 2003 were higher than in the first
nine months of fiscal 2004 because of the prior year financial results. Accrued interest was higher in
fiscal 2004 due to the refinancing of our old senior credit facility.
o Included in net loss for fiscal 2004 was a non-cash charge of $2.7 million of debt extinguishment costs,
net.
o In fiscal 2003, the liability associated with the interest rate collar declined by $2.1 million.
o Accounts receivable increased $2.6 million in the first nine months of fiscal 2004 compared with
essentially no change in the first nine months of fiscal 2003.
o In fiscal 2004, inventories increased $189,000 compared with a $10.4 million decrease in fiscal 2003.
o During the first nine months of fiscal 2004, no amounts were due to O'Sullivan Holdings with respect to
the tax sharing agreement between O'Sullivan Holdings and RadioShack; in the first nine months of fiscal
2003, we paid O'Sullivan Holdings $6.2 million.
Investing Activities. We invested $1.5 million for capital expenditures for the nine months ended March 31,
2003 compared to $4.8 million for the prior year nine month period. We currently estimate that the total capital
expenditure requirements for the remainder of the fiscal year will be approximately $500,000, which we expect to
fund from cash flow from operations or cash on hand. Our ability to make future capital expenditures is subject to
certain restrictions under our credit agreement.
Financing Activities. On September 29, 2003 we refinanced our old senior credit facility with
$100.0 million of new privately placed senior secured notes and an asset-based credit agreement.
The $100.0 million senior secured notes mature on October 1, 2008 and bear interest at 10.63%. The notes
were issued by O'Sullivan at a price of 95%, providing $95.0 million in cash proceeds before expenses related to the
issuance of about $3.8 million. The notes are secured by a first-priority security interest in and lien on substantially
all of our assets (and on O'Sullivan's capital stock) other than accounts receivable, inventory, capital stock of
O'Sullivan's subsidiaries, deposit accounts, certain books and records and certain licenses, and by a second-priority
security interest in and lien on substantially all of our accounts receivable, inventory, deposit accounts, certain books
and records and certain licenses. The notes are guaranteed by O'Sullivan Holdings, O'Sullivan Industries - Virginia
and O'Sullivan Furniture Factory Outlet, Inc. Pursuant to a registration rights agreement, we filed a registration
statement with the Securities and Exchange Commission with respect to an offer to exchange the notes for a new
issue of identical notes registered under the Securities Act of 1933, as amended. The registration statement became
effective on January 8, 2004, and the exchange offer closed on February 25, 2004.
The five-year asset-based credit agreement permits revolving borrowings of up to $40.0 million to the
extent of availability under a collateral borrowing base. The borrowing base at March 31, 2004 was approximately
$35.0 million, The credit agreement has a $25.0 million sub-limit for letters of credit, of which we are currently
utilizing approximately $14.0 million. The credit agreement is secured by a first-priority security interest in and lien
on substantially all of our accounts receivable, inventory, deposit accounts, certain books and records and certain
licenses, and a second-priority security interest in and lien on substantially all of our assets other than accounts
receivable, inventory, capital stock of our subsidiaries, deposit accounts, certain books and records and certain
licenses. The interest rate on loans under the credit agreement is a LIBOR rate plus 2.5% or an index rate plus 1.0%.
We also pay a quarterly fee equal to 0.5% per annum of the unused commitment under the credit agreement.
O'Sullivan Industries - Virginia and O'Sullivan Furniture Factory Outlet, Inc. are also parties to the credit
agreement. No loans were outstanding under the credit agreement as of March 31, 2004.
In connection with the repayment of the term loans and the termination of the revolving credit facility under
the senior credit facility, we expensed approximately $3.1 million of unamortized issuance costs related to the
facility in the first quarter of fiscal 2004.
Our consolidated indebtedness at March 31, 2004 was $206.0 million consisting of:
o a credit agreement providing for asset-based revolving credit of up to $40.0 million. The
borrowing base at March 31, 2004 was approximately $35.0 million. No borrowings were
outstanding under the credit agreement, although letters of credit aggregating approximately $14.0
million were outstanding under the credit agreement.
o $100.0 million in 10.63% senior secured notes due October 1, 2008. These notes were issued at a
price of 95% providing $95.0 million in cash proceeds before expenses related to the issuance.
o $96.0 million in 13-3/8% senior subordinated notes due 2009 issued with warrants to purchase
6.0% of our common and Series B junior preferred stock on a fully diluted basis. These warrants
were assigned a value of $3.5 million. These notes were issued at a price of 98.046% providing
$98.0 million in cash proceeds before expenses related to the issuance. In October 2003, we
repurchased $4.0 million of the notes and recorded other financing income of $616,000 net of
original issue discount and capitalized loan fees.
o $10.0 million in variable rate industrial revenue bonds.
The reconciliation of consolidated indebtedness to recorded book value at March 31, 2004 is as follows:
Consolidated Original
Indebtedness Issue
Discount Warrants
Net of Net of Recorded
Accretion Accretion Book Value
------------- ------------- ------------ ------------
(in thousands)
--- -- --
--- -- --
Senior secured notes $ 100,000 $ (4,623) $ - $ 95,377
Senior subordinated notes 96,000 (1,350) (2,520) 92,130
Industrial revenue bonds 10,000 - - 10,000
---------- ---------- ---------- ----------
Total $ 206,000 $ (5,973) $ (2,520) $ 197,507
========== ========== ========== ==========
With the refinancing of our old senior credit facility, we have no principal payments due on our debt until
October 2008. We expect to fund interest payments on our debt from cash flow from operations, cash on hand or
borrowings under our credit agreement. We expect our borrowing availability under our credit agreement will
approximate $35 million to $40 million reduced by any letters of credit outstanding. Decreased demand for our
products could decrease our inventory and accounts receivable levels and the availability of borrowings under our
credit facility.
Management believes O'Sullivan has sufficient liquidity to meet its short-term needs and obligations. In
addition, management is considering various alternatives to increase sales, reduce costs and improve profitability.
As required under our old senior credit facility, we hedged one-half of our term loans with an initial
notional amount of $67.5 million with a costless interest rate collar. The collar, which expired on March 31, 2003,
was based on three-month LIBOR with a floor of 6.43% and a ceiling of 8.75%. The counter-party to our interest
rate collar provided us with the payment amount that would have been required to terminate the collar as of the end
of each quarter. We recorded the change in fair value of the collar as increased or decreased interest expense in the
consolidated statements of operations and included the resulting liability in accrued liabilities on the consolidated
balance sheets.
See the overview section of this Management's Discussion and Analysis of Financial Condition and Results
of Operations for a discussion of the impact of the Settlement Agreement with RadioShack on our liquidity and
financial condition.
Off-balance Sheet Arrangements. At March 31, 2004, we had no off-balance sheet arrangements that have
or are likely to have a material current or future effect on our financial condition, changes in financial condition,
revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
As of March 31, 2004, our contractual obligations due in the future mature as follows:
Payments Due by Period
---------------------------------------------------------------
(in thousands)
Less
than 12 12-36 36-60 After
Contractual Obligations Total months months months 60 months
- ------------------------------------- ----------- ------------ ------------ ----------- ------------
Long-term debt $ 206,000 $ - $ - $ 110,000 $ 96,000
Tax Benefit payments to
RadioShack1 72,067 16,699 20,904 27,629 6,835
Capital lease obligations - - - - -
Operating leases--unconditional 4,891 1,852 2,473 309 257
Other long-term obligations2 802 367 345 90 -
----------- ------------ ------------ ----------- ------------
Total contractual cash obligations $ 283,760 $ 18,918 $ 23,722 $ 138,028 $ 103,092
=========== ============ ============ =========== ============
1Timing and amounts of payments to RadioShack are contingent on actual taxable income adjusted to
exclude the increased interest expense arising from the 1999 recapitalization and merger. The amounts in the table
above represent the maximum amounts payable to RadioShack.
=========== ============ ============ =========== ============
2Represents payments due under retirement agreements.
=========== ============ ============ =========== ============
Critical Accounting Policies and Estimates
Our 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 U.S. 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 on-going basis, we evaluate our estimates, including those related to customer programs and
incentives, bad debts, inventories, intangible assets, income taxes, restructuring, asset impairments, contingencies
and litigation. We base our estimates on historical experience and on various other assumptions that we believe are
reasonable under the circumstances. The results of these estimates form the basis for making judgments about the
carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ
from these estimates under different assumptions or conditions.
We believe the following critical accounting policies affect our more significant judgments and estimates
used in the preparation of our consolidated financial statements.
o We derive our revenue from product sales. We recognize revenue from the sale of products when
persuasive evidence of an arrangement exists, the product has been delivered, the price is fixed or
determinable and collection of the resulting receivable is reasonably assured. For all sales, we use
purchase orders from the customer, whether written or electronically transmitted, as evidence that a
sales arrangement exists. Generally, delivery occurs when product is delivered to a common carrier or
private carrier, with standard terms being FOB shipping point. We assess whether the price is fixed or
determinable based upon the payment terms associated with the transaction. We assess collection based
on a number of factors, including past transaction history with the customer and the creditworthiness of
the customer. Collateral generally is not requested from customers.
o We record estimated reductions to revenue for customer programs and incentive offerings including
special pricing agreements, price protection, promotions and other volume-based incentives. Market
conditions could require us to take actions to increase customer incentive offerings. These offerings
could result in our estimates being too small and reduce our revenues when the incentive is offered.
o We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our
customers to make required payments. If the financial condition of our customers were to deteriorate,
resulting in an impairment of their ability to make payments, additional allowances may be required.
o We write down our inventory for estimated obsolescence or unmarketable inventory equal to the
difference between the cost of inventory and its estimated market value based upon assumptions about
future demand and market conditions. If actual market conditions are less favorable than those
projected by us, additional inventory write-downs may be required. Obsolete and slow-moving
inventory reserves were approximately $2.3 million and $4.3 million at March 31, 2004 and June 30,
2003, respectively.
o We record our deferred tax assets at the amount that the asset is more likely than not to be realized. As
of March 31, 2004, we have provided a valuation allowance against our total net deferred tax asset.
While we have considered future taxable income and ongoing prudent and feasible tax planning
strategies in assessing the need for a valuation allowance, our determinations can change. If we
objectively determine it was more likely than not we would be able to realize our deferred tax assets in
the future in excess of our recorded amount, we would reduce our valuation allowance, increasing
income in the period such determination was made.
o We periodically review our long-lived assets, including property and equipment, for impairment and
determine whether an event or change in facts and circumstances indicates their carrying amount may
not be recoverable. We determine recoverability of the assets by comparing the carrying amount of the
assets to the net future undiscounted cash flows expected to be generated by those assets. Future cash
flows are estimated using revenue growth projections that take into consideration the estimated life of
our various products. If the sum of the undiscounted cash flows is less than the carrying value of the
assets, an impairment charge is recognized. Adverse economic conditions could cause us to record
impairment charges in the future.
o We assess goodwill at least annually for impairment by applying a fair-value-based test, using the
enterprise as the reporting unit. If the book value of the reporting unit is below the fair value of the
reporting unit, there is no impairment loss. Adverse economic conditions could cause us to record
impairment charges in the future.
Legal Proceedings
On September 24, 2002, Montgomery Ward, LLC filed suit against O'Sullivan in the U.S. Bankruptcy
Court, District of Delaware, alleging that payments made by Montgomery Ward within 90 days prior to its
bankruptcy constituted preferential transfers under the Bankruptcy Code that should be recovered from O'Sullivan
by Montgomery Ward, together with interest. The alleged payments aggregate $3.7 million. We responded to the
suit denying we received any preferential payments. This litigation has been settled.. The settlement is not expected
to have a material impact on our results of operations.
In August 2002, Ames decided to close all of its stores and liquidate. Actual net sales to Ames in fiscal
2003 were minimal. In August 2003, Ames Department Stores, Inc. filed suit against O'Sullivan in the U.S.
Bankruptcy Court, Southern District of New York, alleging that payments made by Ames within 90 days prior to its
bankruptcy constituted preferential transfers under the Bankruptcy Code that should be recovered from O'Sullivan
by Ames, together with interest. The alleged payments aggregate $2.1 million. We received the summons in this
action on September 22, 2003. We responded to the suit denying we received any preferential payments. We are
contesting this lawsuit vigorously.
In November 2001 House2Home filed for bankruptcy and eventually liquidated. In January 2004, we
received notice of a November 2003 suit against O'Sullivan in the U.S. Bankruptcy Court, Central District of
California, alleging that payments made by House2Home within 90 days prior to its bankruptcy constituted
preferential transfers under the Bankruptcy Code that should be recovered from O'Sullivan by House2Home together
with interest. The alleged payments aggregate $700,000. We responded to the suit denying we received any
preferential payments. We are contesting this lawsuit vigorously.
Cautionary Statement Regarding Forward Looking Information
Certain portions of this Report, and particularly the Notes to the Consolidated Financial Statements and the
Management's Discussion and Analysis of Financial Condition and Results of Operations, contain forward-looking
statements. These statements can be identified by the use of future tense or dates or terms such as "believe,"
"would," "expect," "anticipate" or "plan." These forward-looking statements involve risks and uncertainties. Actual
results may differ materially from those predicted by the forward-looking statements. Factors and possible events
which could cause results to differ include:
o changes from anticipated levels of sales, whether due to future national or regional economic and
competitive conditions, including new domestic or foreign entrants into the industry, customer
acceptance of existing and new products, terrorist attacks or otherwise, as we are experiencing now;
o loss of liquidity due to the arbitration panel's opinion in RadioShack Corporation v. O'Sullivan
Industries Holdings, Inc.;
o significant indebtedness that may limit our financial and operational flexibility;
o raw material cost increases, particularly in particleboard and fiberboard, as are occurring now and have
previously occurred in 1994 and 1995 and to a lesser extent in fiscal 2000;
o pricing pressures due to excess capacity in the ready-to-assemble furniture industry, as is occurring
again now, or customer demand in excess of our ability to supply product;
o transportation cost increases, due to higher fuel costs or otherwise;
o loss of or reduced sales to significant customers as a result of bankruptcy, liquidation, merger,
acquisition or any other reason, as occurred with the liquidation of Montgomery Ward in fiscal 2001,
the liquidation of Ames in fiscal 2003 and with the reorganization of Kmart beginning in fiscal 2002;
o actions of current or new competitors, foreign or domestic, that increase competition with our products
or prices;
o the consolidation of manufacturers in the ready-to-assemble furniture industry;
o increased advertising costs associated with promotional efforts;
o increased interest rates;
o pending or new litigation or governmental regulations such as the arbitration involving RadioShack;
o other uncertainties which are difficult to predict or beyond our control; and
o the risk that we incorrectly analyze these risks and forces, or that the strategies we develop to address
them could be unsuccessful.
See also the Risk Factors section in our annual report on Form 10-K for the year ended June 30, 2003.
Because these forward-looking statements involve risks and uncertainties, actual results may differ
significantly from those predicted in these forward-looking statements. You should not place a lot of weight on these
statements. These statements speak only as of the date of this document or, in the case of any document incorporated
by reference, the date of that document.
All subsequent written and oral forward-looking statements attributable to O'Sullivan or any person acting
on our behalf are qualified by the cautionary statements in this section. We will have no obligation to revise these
forward-looking statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our market risk is affected by changes in interest rates, foreign currency exchange rates and certain
commodity prices. Under our policies, we may use natural hedging techniques and derivative financial instruments
to reduce the impact of adverse changes in market prices. We do not hold or issue derivative instruments for trading
purposes. We believe that our foreign exchange risk is not material.
We have market risk in interest rate exposure, primarily in the United States. We manage interest rate
exposure through our mix of fixed and floating rate debt. Interest rate instruments may be used to adjust interest rate
exposures when appropriate based on market conditions. Our interest rate collar expired on March 31, 2003. At
March 31, 2004, $10.0 million of our debt was subject to variable interest rates. A change in interest rates of one
percentage point would change our cash interest by about $100,000 annually.
Due to the nature of our product lines, we have material sensitivity to some commodities, including
particleboard, fiberboard, corrugated cardboard and hardware. We manage commodity price exposures primarily
through the duration and terms of our vendor agreements. A 1.0% change in our raw material prices would affect
our cost of sales by approximately $1.4 million annually.
In the third quarter of fiscal 2004, market prices for particleboard, our largest-cost raw material, increased
about 20%. We expect additional price increases in the last quarter of fiscal 2004, and perhaps beyond, as demand
for particleboard has increased and suppliers have reduced capacity. Because we utilize first-in, first-out accounting
for our inventory, not all of the price increases are reflected in our cost of goods sold for the first nine months of
fiscal 2004. These price increases will reduce our operating margins and operating income for the remainder of
fiscal 2004 and perhaps beyond.
We are endeavoring to reduce the impact of the price increases through our value analysis program and by
the eventual inclusion of the higher costs in the pricing of our products. We are in the process of negotiating higher
prices for our products with our customers; some of these negotiations have been concluded, while others are
ongoing. In our value analysis program, we endeavor to remove costs from the production of a product without
sacrificing utility or quality of the product. We cannot assure you that we will be successful in offsetting these or
future potential price increases.
ITEM 4. CONTROLS AND PROCEDURES.
(a) O'Sullivan carried out an evaluation as of the end of the period covered by this report, under the
supervision and with the participation of O'Sullivan's management, including O'Sullivan's Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design and operation of O'Sullivan's disclosure controls and
procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended
(the "Exchange Act")). Based on that evaluation, O'Sullivan's Chief Executive Officer and Chief Financial Officer
concluded that O'Sullivan's disclosure controls and procedures (1) were effective in alerting them, in a timely
manner, to material information relating to O'Sullivan required to be included in O'Sullivan's periodic SEC filings
and (2) were adequate to ensure that information required to be disclosed by O'Sullivan in the reports filed or
submitted by O'Sullivan under the Exchange Act is recorded, processed and summarized and reported within the
time periods specified in the SEC's rules and forms.
(b) There have been no significant changes in O'Sullivan's internal controls over financial reporting
subsequent to December 31, 2003 that have materially affected or are reasonably likely to materially affect,
O'Sullivan's internal control over financial reporting.
PART II -- OTHER INFORMATION
ITEM 1.
On September 24, 2002, Montgomery Ward, LLC, et al., Debtor in Possession, filed suit against O'Sullivan
in the United States Bankruptcy Court, District of Delaware, alleging that payments made by Montgomery Ward
within 90 days prior to its bankruptcy constituted preferential transfers under the Bankruptcy Code that should be
recovered from O'Sullivan by Montgomery Ward, together with interest. The alleged payments aggregate $3.7
million. We responded to the suit denying we received any preferential payments. We have settled this litigation.
The settlement is not expected to have a material impact on our results of operations.
ITEM 5. OTHER INFORMATION.
O'Sullivan Holdings is a guarantor of our 10.63% senior secured notes due 2008. O'Sullivan Holdings files
quarterly reports on Form 10-Q and annual reports on Form 10-K with the Securities and Exchange Commission.
These reports are available from the SEC's web site at http://www.sec.gov or through our web site at
www.osullivan.com.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
A list of exhibits required to be filed as part of this Report is set forth in the Index to Exhibits, which
immediately precedes such exhibits, and is incorporated herein by reference.
(b) Reports on Form 8-K:
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this
amended report to be signed on its behalf by the undersigned, thereunto duly authorized.
O'SULLIVAN INDUSTRIES , INC.
Date: May 14, 2004 By: /s/ Richard D. Davidson
--------------------------------------------------
Richard D. Davidson
President and
Chief Executive Officer
Date: May 14, 2004 By: /s/ Stuart D. Schotte
-------------------------------------------------------------------------------------------------------------------
Stuart D. Schotte
Senior Vice President of Operations and
Acting Chief Financial Officer
(Principal Financial and Accounting Officer)
INDEX TO EXHIBITS
Page
Exhibit No. Description No.
3.1 & 4.1 Certificate of Incorporation of O'Sullivan (incorporated by reference from Exhibit 3.1 to
Registration Statement on Form S-4 (File No. 333-31282) filed on February 28, 2000)
3.2 & 4.2 Bylaws of O'Sullivan (incorporated by reference from Exhibit 3.3 to Registration Statement on
Form S-1 (File No. 333-32182) filed on February 28, 2000)
4.3 Indenture dated as of November 30, 1999, by O'Sullivan Industries, Inc., as Issuer, O'Sullivan
Industries - Virginia, Inc., as Guarantor, and Norwest Bank Minnesota, National Association,
as Trustee, relating to O'Sullivan Industries, Inc.'s $100,000,000 principal amount of 13.375%
senior subordinated notes (incorporated by reference to Exhibit 4.4 to Quarterly Report on
Form 10-Q of O'Sullivan Holdings for the quarter ended December 31, 1999
(File No. 0 28493) February 14, 2000)
4.4 Warrant Agreement dated as of November 30, 1999 between O'Sullivan Industries Holdings,
Inc. and Norwest Bank Minnesota, National Association, as Warrant Agent, relating to
warrants to purchase 39,273 shares of O'Sullivan Industries Holdings, Inc. Series B junior
preferred stock, including form of warrant certificate (incorporated by reference to Exhibit 4.5
to Quarterly Report on Form 10-Q of O'Sullivan Holdings for the quarter ended December 31,
1999 (File No. 0-28493) February 14, 2000)
4.5 Warrant Agreement dated as of November 30, 1999 between O'Sullivan Industries Holdings,
Inc. and Norwest Bank Minnesota, National Association, as Warrant Agent, relating to
warrants to purchase 93,273 shares of O'Sullivan Industries Holdings, Inc. common stock,
including form of warrant certificate (incorporated by reference to Exhibit 4.6 to Quarterly
Report on Form 10-Q of O'Sullivan Holdings for the quarter ended December 31, 1999
(File No. 0-28493) February 14, 2000)
4.6 Indenture dated as of September 29, 2003 between O'Sullivan Industries, Inc. And each of the
guarantors party thereto and The Bank of New York, as Trustee, including form of Notes
(incorporated by reference to Exhibit 4 to Current Report on Fomr 8-K dated September 29,
2003 (File No. 333-31282 ) filed on October 2, 2003)
31.1 Certificate of chief executive officer under Section 302 of the Sarbanes-Oxley Act of 2002 29
31.2 Certificate of chief financial officer under Section 302 of the Sarbanes-Oxley Act of 2002 30
32.1 Certificate of chief executive officer under 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 31
32.2 Certificate of chief financial officer under 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 32