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FORM 10-Q

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


(Mark One)
[X]
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
     
For the quarterly period ended October 2, 2004
     
or
   
[_]
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
     
 
Commission File No. 1-9973
  
     
THE MIDDLEBY CORPORATION
(Exact Name of Registrant as Specified in its Charter)
 
     
Delaware
  
36-3352497
(State or Other Jurisdiction of Incorporation or Organization)
  
(I.R.S. Employer Identification No.)
     
     
1400 Toastmaster Drive, Elgin, Illinois
60120
(Address of Principal Executive Offices)
(Zip Code)
   
   
Registrant's Telephone No., including Area Code
(847) 741-3300


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 twelve (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 by Rule 12b-2 of the Exchange Act).
Yes [_] No [X]
 
As of November 5, 2004, there were 9,240,801 shares of the registrant's common stock outstanding.


 
     
 


THE MIDDLEBY CORPORATION AND SUBSIDIARIES

QUARTER ENDED OCTOBER 2, 2004

INDEX


DESCRIPTION
  
PAGE
     
PART I.
FINANCIAL INFORMATION
 
       
 
Item 1.
Condensed Consolidated Financial Statements (unaudited)
  
       
   
CONDENSED CONSOLIDATED BALANCE SHEETS October 2, 2004 and January 3, 2004
1
       
   
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS October 2, 2004 and September 27, 2003
2
       
   
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS October 2, 2004 and September 27, 2003
3
       
   
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
4
       
 
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
14
       
 
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
22
       
 
Item 4.
Controls and Procedures
24
     
PART II.
OTHER INFORMATION
  
       
 
Item 6.
Exhibits
25



 
     
 


PART I.   FINANCIAL INFORMATION
     
Item 1.   Condensed Consolidated Financial Statements
 
  THE MIDDLEBY CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Thousands, Except Share Amounts)
(Unaudited)

ASSETS
  
Oct. 2, 2004
  
Jan. 3, 2004
  
Current assets:
          
Cash and cash equivalents    
  
$
2,633
  
$
3,652
  
Accounts receivable, net of reserve for doubtful accounts of $3,252 and $3,146
    
29,520
    
23,318
  
Inventories, net    
    
31,087
    
25,382
  
Prepaid expenses and other    
    
1,497
    
1,776
  
Current deferred taxes    
    
11,810
    
12,839
  
Total current assets
    
76,547
    
66,967
  
Property, plant and equipment, net of accumulated depreciation of $31,360 and $29,146
    
23,106
    
24,921
  
Goodwill    
    
74,761
    
74,761
  
Other intangibles    
    
26,300
    
26,300
  
Other assets    
    
1,661
    
1,671
  
Total assets
  
$
202,375
  
$
194,620
  
 
LIABILITIES AND STOCKHOLDERS' EQUITY
              
Current liabilities:
              
Current maturities of long-term debt    
  
$
—
  
$
14,500
  
Accounts payable    
    
15,042
    
11,901
  
Accrued expenses    
    
41,148
    
37,076
  
Total current liabilities
    
56,190
    
63,477
  
Long-term debt    
    
40,615
    
42,000
  
Long-term deferred tax liability    
    
8,264
    
8,264
  
Other non-current liabilities    
    
14,132
    
18,789
  
Stockholders' equity:
              
Preferred stock, $0.01 par value; nonvoting; 2,000,000 shares authorized; none issued    
    
—
    
—
  
Common stock, $0.01 par value; 20,000,000 shares authorized; 11,288,371 and 11,257,021 shares issued in 2004 and 2003, respectively    
    
113
    
113
  
Paid-in capital    
    
55,486
   
55,279
 
Treasury stock at cost; 2,047,570 and 2,047,271 shares in 2004 and 2003, respectively
    
(12,481
)
  
(12,463
)
Retained earnings    
    
42,021
    
21,470
  
Accumulated other comprehensive loss    
    
(1,965
)
  
(2,309
)
Total stockholders' equity    
    
83,174
    
62,090
  
Total liabilities and stockholders' equity    
  
$
202,375
  
$
194,620
  
 
 
See accompanying notes
 

 
  1  
 

THE MIDDLEBY CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(In Thousands, Except Per Share Amounts)
(Unaudited)


   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
Net sales    
  
$
70,620
  
$
60,894
  
$
205,996
  
$
182,695
  
Cost of sales    
    
44,226
    
38,261
    
127,633
    
118,360
  
Gross profit    
    
26,394
    
22,633
    
78,363
    
64,335
  
                           
Selling expenses    
    
7,637
    
7,259
    
23,340
    
22,201
  
General and administrative expenses    
    
6,175
    
5,388
    
17,684
    
16,097
  
Income from operations    
    
12,582
    
9,986
    
37,339
    
26,037
  
Net interest expense and deferred financing amortization    
    
643
    
1,410
    
2,334
    
4,747
  
(Gain) loss on acquisition financing derivatives  
    
(96
)
  
32
    
(96
)
  
(79
)
Other expense (income), net    
    
45
    
(254
)
  
317
    
29
  
Earnings before income taxes    
    
11,990
    
8,798
    
34,784
    
21,340
  
Provision for income taxes    
    
1,622
    
3,147
    
10,536
    
8,483
  
Net earnings
  
$
10,368
  
$
5,651
  
$
24,248
  
$
12,857
  
                           
Net earnings per share:
          
             
Basic    
  
$
1.12
  
$
0.63
  
$
2.63
  
$
1.42
  
                           
Diluted    
  
$
1.03
  
$
0.59
  
$
2.42
  
$
1.37
  
                           
Weighted average number of shares
                          
Basic
    
9,241
    
9,036
    
9,232
    
9,032
  
Dilutive stock options1
    
799
    
469
    
787
    
369
  
Diluted
    
10,040
    
9,505
    
10,019
    
9,401
  
                           
 

1.  There were no anti-dilutive stock options excluded from common stock equivalents for any period presented.

See accompanying notes

  2  
 

THE MIDDLEBY CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
(Unaudited)


   
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Cash flows from operating activities-Net earnings
  
$
24,248
  
$
12,857
  
               
Adjustments to reconcile net earnings to cash provided by operating activities:
              
Depreciation and amortization
    
2,758
    
3,046
  
Deferred taxes
    
1,029
    
3,492
  
Unrealized gain on derivative financial instruments
    
(96
)
  
(80
)
Unpaid interest on seller notes(1)
    
—
    
567
  
Changes in assets and liabilities-              
Accounts receivable, net
    
(6,202
)
  
(236
)
Inventories, net
    
(5,705
)
  
1,895
  
Prepaid expenses and other assets
    
(55
)
  
(586
)
Accounts payable
    
3,141
    
137
  
Accrued expenses and other liabilities
    
(145
)
  
1,695
  
Net cash provided by operating activities
    
18,973
    
22,787
  
               
Cash flows from investing activities-
              
Net additions to property and equipment
    
(600
)
  
(739
)
Acquisition of Blodgett
    
(2,000
)
  
(16,129
)
Net cash (used in) investing activities
    
(2,600
)
  
(16,868
)
               
Cash flows from financing activities-
              
Proceeds under revolving credit facilities, net
    
39,115
    
1,150
  
Net repayments under senior secured bank notes
    
(53,000
)
  
(11,400
)
Payment of special dividend
    
(3,696
)
  
—
  
Other financing activities, net
    
189
   
43
  
               
Net cash (used in) financing activities
    
(17,392
)
  
(10,207
)
               
Changes in cash and cash equivalents-
              
               
Net (decrease) in cash and cash equivalents
    
(1,019
)
  
(4,288
)
               
Cash and cash equivalents at beginning of year
    
3,652
    
8,378
  
               
Cash and cash equivalents at end of quarter
  
$
2,633
  
$
4,090
  
               
Supplemental disclosure of cash flow information:
              
Interest paid
  
$
2,195
  
$
3,444
  
Income taxes paid
  
$
11,428
  
$
4,746
  
 
(1)   Represents an increase in principal balance of debt associated with interest paid in kind.


See accompanying notes

  3  
 


THE MIDDLEBY CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

October 2, 2004
(Unaudited)

1) Summary of Significant Accounting Policies

A)    Basis of Presentation

The condensed consolidated financial statements have been prepared by The Middleby Corporation (the "company"), pursuant to the rules and regulations of the Securities and Exchange Commission. The financial statements are unaudited and certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the company believes that the disclosures are adequate to make the information not misleading. These financial statements should be read in conjunction with the financial statements and related notes contained in the company's 2003 Form 10-K/A (Amendment No. 2).

In the opinion of management, the financial statements contain all adjustments necessary to present fairly the financial position of the company as of October 2, 2004 and January 3, 2004, and the results of operations for the three and nine months ended October 2, 2004 and September 27, 2003 and cash flows for the nine months ended October 2, 2004 and September 27, 2003.

B)    Stock-Based Compensation

As permitted under SFAS No. 123: "Accounting for Stock-Based Compensation", the company has elected to follow APB Opinion No. 25: "Accounting for Stock Issued to Employees" in accounting for stock-based awards to employees and directors. Under APB No. 25, because the exercise price of the company’s stock options is equal to or greater than the market price of the underlying stock on the date of grant, no compensation expense is recognized in the company's financial statements for all periods presented.

Pro forma interim information regarding net earnings and earnings per share is required by SFAS No. 148. This information is required to be determined as if the company had accounted for its employee and director stock options granted subsequent to December 31, 1994 under the fair value method of SFAS No. 123. 

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. Because the company’s options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in the opinion of management, the existing models do not necessarily provide a reliable single measure of the fair value of its options.
 

 
  4  
 


For purposes of these interim pro forma disclosures, the estimated fair value of the options is amortized to expense over the options’ vesting period. The company’s pro forma net earnings and per share data utilizing a fair value based method is as follows:


   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
   
(in thousands, except per share data)
  
Net income - as reported
  
$
10,368
  
$
5,651
  
$
24,248
  
$
12,857
  
Less: Stock-based employee compensation expense, net of taxes
    
(276
)
  
(121
)
  
(841
)
  
(337
)
Net income - pro forma
  
$
10,092
  
$
5,530
  
$
23,407
  
$
12,520
  
                           
Earnings per share - as reported:
                          
Basic
  
$
1.12
  
$
0.63
  
$
2.63
  
$
1.42
  
Diluted
    
1.03
    
0.59
    
2.42
    
1.37
  
                           
Earnings per share - pro forma:
                          
Basic
  
$
1.09
  
$
0.61
  
$
2.54
  
$
1.39
  
Diluted
    
1.01
    
0.58
    
2.34
    
1.33
 


2) Litigation Matters
From time to time, the company is subject to proceedings, lawsuits and other claims related to products, suppliers, employees, customers and competitors. The company maintains insurance to cover product liability, workers compensation, property and casualty, and general liability matters.  The company is required to assess the likelihood of any adverse judgments or outcomes to these matters as well as potential ranges of probable losses.  A determination of the amount of accrual required, if any, for these contingencies is made after assessment of each matter and the related insurance coverage.  The required accrual may change in the future due to new developments or changes in approach such as a change in settlement strategy in dealing with these matters.  The company does not believe that any such matter will have a material adverse effect on its financial condition or results of operations.


3)   New Accounting Pronouncements

In December 2003, the Financial Accounting Standards Board ("FASB") issued a revision to Statement of Financial Accounting Standards ("SFAS") No. 132 "Employers' Disclosure about Pensions and Other Postretirement Benefits." This statement retains the disclosures previously required by SFAS No. 132 but adds additional disclosure requirements about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. It also calls for the required information to be provided separately for pension plans and for other postretirement benefit plans. The interim-period disclosures required by this statement are effective for interim periods beginning after December 15, 2003. The company has included the required interim period disclosures in footnote 12.


 
  5  
 


 
4)   Other Comprehensive Income

The company reports changes in equity during a period, except those resulting from investment by owners and distribution to owners, in accordance with SFAS No. 130, "Reporting Comprehensive Income."

Components of other comprehensive income were as follows (in thousands):

          
   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
Net earnings
  
$
10,368
  
$
5,651
  
$
24,248
  
$
12,857
  
Cumulative translation adjustment
    
(3
)
  
119
    
(15
)
  
267
  
Minimum pension liability
   
—
    
—
    
10
    
—
  
Unrealized gain on interest rate swap
    
8
    
285
    
349
    
3
  
Comprehensive income
  
$
10,373
  
$
6,055
  
$
24,592
  
$
13,127
  


Accumulated other comprehensive loss is comprised of minimum pension liability of $2.1 million as of October 2, 2004 and January 3, 2004, foreign currency translation adjustments of $0.1 million as of October 2, 2004 and January 3, 2004, and an unrealized gain on a interest rate swap of $0.2 million at October 2, 2004 and an unrealized loss of $0.2 million at January 3, 2004.
 
 
5) Inventories

Inventories are composed of material, labor and overhead and are stated at the lower of cost or market. Costs for inventory at the company's manufacturing facilities in New Hampshire and Vermont, amounting to $12.3 million and representing approximately 39% of the company's total inventory, have been determined using the last-in, first-out ("LIFO") method. Costs for all other inventory have been determined using the first-in, first-out ("FIFO") method. The company estimates reserves for inventory obsolescence and shrinkage based on its judgment of future realization. Inventories at October 2, 2004 and January 3, 2004 are as follows:
 

   
Oct. 2, 2004
  
Jan. 3, 2004
  
   
(in thousands)
  
Raw materials and parts
  
$
7,298
  
$
3,798
  
Work-in-process
    
4,830
    
5,288
  
Finished goods
    
18,780
    
15,667
  
     
30,908
    
24,753
  
LIFO adjustment
    
179
    
629
  
   
$
31,087
  
$
25,382
  


 
  6  
 


6) Accrued Expenses
    
Accrued expenses consist of the following:


   
Oct. 2, 2004
  
Jan. 3, 2004
  
   
(in thousands)
  
Accrued warranty
  
$
11,048
  
$
11,563
  
Accrued payroll and related expenses
    
9,983
    
7,094
  
Accrued customer rebates
    
7,751
    
6,935
  
Accrued product liability and workers comp
    
2,663
    
3,398
  
Accrued income taxes
    
718
    
524
  
Accrued commissions
    
1,435
    
1,466
  
Accrued severance and plant closures
    
999
    
1,092
  
Other accrued expenses
    
6,551
    
5,004
  
               
   
$
41,148
  
$
37,076
  
 

7) Warranty Costs
    
In the normal course of business the company issues product warranties for specific product lines and provides for the estimated future warranty cost in the period in which the sale is recorded.  The estimate of warranty cost is based on contract terms and historical warranty loss experience that is periodically adjusted for recent actual experience. Because warranty estimates are forecasts that are based on the best available information, claims costs may differ from amounts provided. Adjustments to initial obligations for warranties are made as changes in the obligations become reasonably estimable.

A rollforward of the warranty reserve is as follows:

   
Nine Months Ended
  
   
Oct. 2, 2004
  
   
(in thousands)
  
       
Beginning balance
  
$
11,563
  
Warranty expense
    
6,542
  
Warranty claims
    
(7,057
)
Ending balance
  
$
11,048
  
 


 
  7  
 

8) Financing Arrangements
    
   
Oct. 2, 2004
  
Jan. 3, 2004
  
   
(in thousands)
  
           
Senior secured revolving credit line
  
$
40,615
  
$
1,500
  
Senior secured bank term loans
    
—
    
53,000
  
Notes to Maytag
    
—
   
2,000
  
Total debt
  
$
40,615
  
$
56,500
  
               
Less: Current maturities of long-term debt
    
—
   
14,500
  
Long-term debt
  
$
40,615
  
$
42,000
  


During the second quarter of 2004 the company amended its secured banking facility. Interest costs on borrowings under the amended facility were reduced to reflect improved market conditions and the improved credit profile of the company. Additionally, the company improved its borrowing flexibility under the banking facility by eliminating the term loan component of the facility and replacing it entirely with a $70.0 million revolving credit line. As of October 2, 2004, the company had borrowings of $40.6 million under this revolving credit facility. The interest rate on the credit facility may be adjusted quarterly based upon the company's defined  indebtedness ratio computed on a rolling four-quarter basis. Currently, borrowings under the credit facility are assessed interest at floating rates of 1.25% above LIBOR. At October 2, 2004, this interest rate was 3.08%. A variable commitment fee, based upon the indebtedness ratio is charged on the unused portion of the line of credit. This variable commitment fee amounted to 0.30% as of October 2, 2004.

The company maintains two interest rate swap agreements in connection with the secured credit facility. The first, taken out in January 2002, has a notional amount of $20.0 million, swaps one-month LIBOR for a fixed rate of 4.03% and is in effect through December 31, 2004. The second, taken out in February 2003, has a notional amount of $10.0 million, swaps one-month LIBOR for a fixed rate of 2.36% and is in effect through December 30, 2005.

The terms of the secured credit facility limit the paying of dividends, the incurrence of other debt, and require, among other things, a minimum amount, as defined, of stockholders’ equity, and certain ratios of indebtedness and fixed charge coverage. The credit agreement also provides that if a material adverse change in the company’s business operations or conditions occurs, the lender could declare an event of default. Under terms of the agreement a material adverse effect is defined as (a) a material adverse change in, or a material adverse effect upon, the business, assets, operations, condition (financial or otherwise) or prospects  of the company and its subsidiaries taken as a whole, or (b) a material adverse effect upon any substantial portion of the collateral or upon the legality, validity, binding effect or enforceability against the company of any loan document. A material adverse effect is determined on a subjective basis by the company's creditors. At October 2, 2004, the company was in compliance with all covenants pursuant to its borrowing agreements.



 
  8  
 

 
9) Acquisition Integration

On December 21, 2001 the company established reserves through purchase accounting associated with severance related obligations and facility exit costs related to the acquired Blodgett business operations.

Reserves for estimated severance obligations were established in conjunction with reorganization initiatives established during 2001 and completed during the first half of 2002. During the first quarter of 2002, the company reduced headcount at the acquired Blodgett operations by 123 employees. This headcount reduction included most functional areas of the company and included a reorganization of the executive management structure. During the second quarter of 2002, the company further reduced headcount at the Blodgett operations by 30 employees in conjunction with the consolidation and exit of two manufacturing facilities. Production for the Blodgett combi-oven, conveyor oven, and deck oven lines were moved from two facilities located in Williston and Shelburne, Vermont into existing manufacturing facilities in Burlington, Vermont and Elgin, Illinois. The second quarter headcount reductions predominately related to the manufacturing function.
 
Reserves for facility closure costs predominately relate to lease obligations for two manufacturing facilities that were exited in 2001 and 2002. During the second quarter of 2001, prior to the acquisition, reserves were established for lease obligations associated with a manufacturing facility in Quakertown, Pennsylvania that was exited when production at this facility was relocated to an existing facility in Bow, New Hampshire. The lease associated with the exited facility extends through December 11, 2014. The facility is currently subleased for a portion of the lease term through July 2006. During the second quarter of 2002, the company exited leased facilities in Shelburne, Vermont in conjunction with the company’s manufacturing consolidation initiatives. The lease associated with the exited facility extends through December 11, 2014. Future lease obligations under these facilities amount to approximately $11.5 million. The remaining reserve balance is reflected net of anticipated sublease income.

The forecast of sublease income could differ from actual amounts, which are subject to the occupancy by a subtenant and a negotiated sublease rental rate. If the company's estimates or underlying assumptions change in the future, the company would be required to adjust the reserve amount accordingly.

A summary of the reserve balance activity is as follows (in thousands):
 
   
Balance
  
Cash
  
Balance
  
   
Jan. 3, 2004
  
Payments
  
Oct. 2,2004
  
               
Severance obligations
  
$
15
  
$
(4
)
$
11
  
Facility closure and lease obligations
    
8,649
    
(721
)
  
7,928
  
Total
  
$
8,664
  
$
(725
)
$
7,939
  


All actions pertaining to the company’s integration initiatives have been completed. At this time, management believes the remaining reserve balance is adequate to cover the remaining costs identified at October 2, 2004.



 
  9  
 


10) Financial Instruments
    
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments. The statement requires an entity to recognize all derivatives as either assets or liabilities and measure those instruments at fair value. Derivatives that do not qualify as a hedge must be adjusted to fair value in earnings. If the derivative does qualify as a hedge under SFAS No. 133, changes in the fair value will either be offset against the change in fair value of the hedged assets, liabilities or firm commitments or recognized in other accumulated comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a hedge's change in fair value will be immediately recognized in earnings.

Foreign Exchange: The company has entered into derivative instruments, principally forward contracts to reduce exposures pertaining to fluctuations in foreign exchange rates. As of October 2, 2004 the company had forward contracts to purchase $6.0 million U.S. Dollars with various foreign currencies, all of which mature in the next fiscal quarter. The fair value of these forward contracts was less than $(0.1) million at the end of the quarter.

Interest Rate: On January 11, 2002, in accordance with the senior bank agreement, the company entered into an interest rate swap agreement with a notional amount of $20.0 million to fix the interest rate applicable to certain of its variable-rate debt. The agreement swaps one-month LIBOR for a fixed rate of 4.03% and is in effect through December 31, 2004. On June 30, 2002, the company designated this swap as a cash flow hedge. The changes in the fair value of the swap that are effectively hedged are recorded as a component of other comprehensive income, while the ineffective portion of the changes in fair value are recorded in earnings. As of October 2, 2004, the fair value of this instrument was $(0.1) million. The change in fair value of this swap agreement in the first nine months of 2004 was $(0.4) million and was recorded as a component of other comprehensive income. The ineffective portion of the swap recorded in earnings was $0.1 million for the nine-month period ended October 2, 2004.

On February 9, 2003 in accordance with the senior bank agreement, the company entered into another interest rate swap agreement with a notional amount of $10.0 million to fix the interest rate applicable to certain of its variable-rate debt. The agreement swaps one-month LIBOR for a fixed rate of 2.36% and is in effect through December 30, 2005. The company designated the swap as a cash flow hedge at its inception and all changes in the fair value of the swap are recognized in accumulated other comprehensive income. As of October 2, 2004, the fair value of this instrument was less than $0.1 million. The change in fair value of this swap agreement in the first nine months of 2004 was a gain of less than $0.1 million.


11) Segment Information
    
The company operates in two reportable operating segments defined by management reporting structure and operating activities.

The worldwide manufacturing divisions operate through the Cooking Systems Group. This business segment has manufacturing facilities in Illinois, New Hampshire, North Carolina, Vermont and the Philippines. This business segment supports four major product groups, including conveyor oven equipment, core cooking equipment, counterline cooking equipment, and international specialty equipment. Principal product lines of the conveyor oven product group include Middleby Marshall ovens, Blodgett ovens and CTX ovens.  Principal product lines of the core cooking equipment product group include the Southbend product lines of ranges, convection ovens, broilers and steam cooking equipment, the Blodgett product lines of ranges, convection ovens, combi ovens and steam cooking equipment, MagiKitch'n charbroilers and catering equipment and the Pitco Frialator product line of fryers. The counterline cooking and warming equipment product group includes toasters, hot food servers, foodwarmers and griddles distributed under the Toastmaster brand name. The international specialty equipment product group is primarily comprised of food preparation tables, undercounter refrigeration systems, ventilation systems and component parts for the U.S. manufacturing operations.


 
  10  
 

The International Distribution Division provides integrated sales, export management, distribution and installation services through its operations in China, India, Korea, Mexico, Spain, Taiwan and the United Kingdom. The division sells the company’s product lines and certain non-competing complementary product lines throughout the world. For a local country distributor or dealer, the company is able to provide a centralized source of foodservice equipment with complete export management and product support services.

The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The company evaluates individual segment performance based on operating income. Management believes that intersegment sales are made at established arms-length transfer prices.


Net Sales Summary
(dollars in thousands)


   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
   
Sales
  
Percent
  
Sales
  
Percent
  
Sales
  
Percent
  
Sales
  
Percent
  
Business Divisions:
                                  
Cooking Systems Group:
                                  
Core cooking equipment
 
$
48,208
    
68.3
  
$
41,412
    
67.8
  
$
144,175
    
70.0
  
$
125,242
    
68.4
  
Conveyor oven equipment
    
13,657
    
19.3
    
11,598
    
19.2
    
40,504
    
19.7
    
35,787
    
19.8
  
Counterline cooking equipment
    
2,576
    
3.6
    
2,697
    
4.5
    
7,655
    
3.7
    
7,581
    
4.2
  
International specialty equipment
    
1,953
    
2.8
    
1,183
    
2.0
    
5,413
    
2.6
    
5,321
    
2.9
  
Cooking Systems Group
    
66,394
    
94.0
    
56,890
    
93.5
    
197,747
    
96.0
    
173,931
    
95.3
  
                                                   
International Distribution Division (1)    
    
12,102
    
17.1
    
10,782
    
17.9
    
32,833
    
15.9
    
31,017
    
17.2
  
Intercompany sales (2)
    
(7,876
)
  
(11.1
)
  
(6,778
)
  
(11.4
)
  
(24,584
)
  
(11.9
)
  
(22,253
)
  
(12.5
)
Total
  
$
70,620
    
100.0
%
$
60,894
    
100.0
%
$
205,996
    
100.0
%
$
182,695
    
100.0
%
 

(1)    Consists of sales of products manufactured by Middleby and products manufactured by third parties.
 
(2)    Represents the elimination of sales amongst the Cooking Systems Group and from the Cooking Systems Group to the International Distribution Division. 
 

 
  11  
 

 
The following table summarizes the results of operations for the company's business segments(1)(in thousands):

   
Cooking
                  
   
Systems
  
International
  
Corporate
          
   
Group
  
Distribution
  
and Other(2)
  
Eliminations(3)
  
Total
  
Three months ended October 2, 2004
                     
Net sales
 
$
66,394
  
$
12,102
  
$
—
  
$
(7,876
)
$
70,620
  
Operating income
   
14,296
    
735
    
(2,268
)
  
(181
)
  
12,582
  
Depreciation expense
    
719
    
46
    
(72
)
  
—
    
693
  
Net capital expenditures
   
87
    
38
    
66
    
—
    
191
  
                                 
Nine months ended October 2, 2004
                                
Net sales
 
$
197,747
  
$
32,833
  
$
—
  
$
(24,584
)
$
205,996
  
Operating income
   
42,501
    
1,556
    
(5,937
)
  
(781
)
  
37,339
  
Depreciation expense
    
2,498
    
117
    
(201
)
  
—
    
2,414
  
Net capital expenditures
   
341
    
136
    
123
    
—
    
600
  
                                 
Total assets
    
178,044
    
23,141
    
12,172
    
(10,982
)
  
202,375
  
Long-lived assets(4)
    
121,751
    
383
    
3,694
    
—
    
125,828
  
                                 
Three months ended September 27, 2003
                               
Net sales
 
$
56,890
  
$
10,782
  
$
—
  
$
(6,778
)
$
60,894
  
Operating income
   
11,387
    
689
    
(1,940
)
  
(150
)
  
9,986
  
Depreciation expense
    
896
    
36
    
(68
)
  
—
    
864
  
Net capital expenditures
   
59
    
1
    
5
    
—
    
65
  
                                 
Nine months ended September 27, 2003
                                
Net sales
 
$
173,931
  
$
31,017
  
$
—
  
$
(22,253
)
$
182,695
  
Operating income
   
31,241
    
1,591
    
(6,095
)
  
(700
)
  
26,037
  
Depreciation expense
    
2,830
    
110
    
(206
)
  
—
    
2,734
  
Net capital expenditures
   
763
    
(31
)
  
7
    
—
    
739
  
                                 
Total assets
    
177,409
    
21,126
    
9,581
    
(10,982
)
  
197,134
  
Long-lived assets(4)
    
124,688
    
485
    
3,159
    
—
    
128,332
  
 
 
(1) Non-operating expenses are not allocated to the operating segments. Non-operating expenses consist of interest expense and deferred financing amortization, gains and losses on acquisition financing derivatives, and other income and expenses items outside of income from operations.
     
(2) Includes corporate and other general company assets and operations.
     
(3) Includes elimination of intercompany sales, profit in inventory and intercompany receivables. Intercompany sale transactions are predominantly from the Cooking Systems Group to the International Distribution Division.
     
(4) Long-lived assets of the Cooking Systems Group includes assets located in the Philippines which amounted to $2,232 and $2,449 in 2004 and 2003, respectively.
 
Net sales by major geographic region, including those sales from the Cooking Systems Group direct to international customers, were as follows (in thousands):

   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
United States and Canada
  
$
57,060
  
$
48,648
  
$
169,316
  
$
147,890
  
Asia
    
5,637
    
5,321
    
14,225
    
14,687
  
Europe and Middle East
    
5,898
    
5,176
    
16,853
    
15,721
  
Latin America
    
2,025
    
1,749
    
5,602
    
4,397
  
Net sales
  
$
70,620
  
$
60,894
  
$
205,996
  
$
182,695
  
 


 
  12  
 


12) Employee Benefit Plans
    
The company maintains a non-contributory defined benefit plan for its union employees at the Elgin, Illinois facility. Benefits are determined based upon retirement age and years of service with the company. This defined benefit plan was frozen on April 30, 2002 and no further benefits accrue to the participants beyond this date. Plan participants will receive or continue to receive payments for benefits earned on or prior to April 30, 2002 upon reaching retirement age. The employees participating in the defined benefit plan were enrolled in a newly established 401K savings plan on July 1, 2002. The defined benefit plan continues to be funded in accordance with provisions of the Employee Retirement Income Security Act of 1974. Company funding contributions amounted to $280,000 in fiscal 2003 and $377,000 in fiscal 2002. The anticipated minimum funding requirement for fiscal 2004 is approximately $285,000 of which $162,000 was funded during the nine-month period ended October 2, 2004.

The company also maintains a retirement benefit agreement with its Chairman. The retirement benefits are based upon a percentage of the Chairman’s final base salary. Additionally, the company maintains a retirement plan for non-employee directors. The plan provides for an annual benefit upon retirement from the Board of Directors at age 70, equal to 100% of the director’s last annual retainer, payable for a number of years equal to the director’s years of service up to a maximum of 10 years. Company funding contributions are made at the discretion of the board of directors in consideration of the plan requirements and company's cash flows. Funding contributions amounted to $1,007,000 in fiscal 2003 and $16,000 in fiscal 2002. Funding in the nine-month period ended October 2, 2004 amounted to $1,550,000.

The net pension expense for the first nine months of 2004 for these plans was as follows :


   
Union
  
Directors
  
   
  Plan
  
Plans
  
           
Service cost
  
$
—
  
$
215,090
  
Interest on benefit obligations
    
182,449
    
255,387
  
Return on assets
    
(210,476
)
  
—
  
Net amortization and deferral
    
98,868
    
300,444
  
Net pension expense
  
$
70,841
  
$
770,921
  


13) Subsequent Event
    
On November 10, 2004, subsequent to the end of the third quarter, the company entered into an agreement with Pizzagalli Properties, LLC, to terminate the company’s lease obligations related to a manufacturing facility in Shelburne, Vermont. This transaction occurred simultaneously with a sale of the property from Pizzagalli Properties, LLC to an unrelated third party. The company had exited this facility in the second quarter of 2002 as operations in that location were moved and consolidated within other existing manufacturing facilities. The original lease had a term extending through December 11, 2014. Under terms of the lease termination agreement the company will pay the lessor $600,000 in cash and enter into an interest bearing note in the amount of $2,513,884. The company had existing reserves of approximately $5.7 million representing the future lease obligations under the facility net of estimated sublease income. As a result, the company anticipates recording a gain, net of transaction related costs, of approximately $2.4 million in the fourth quarter of 2004 on this transaction.

  13  
 

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

Informational Note

This report contains forward-looking statements subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995. The company cautions readers that these projections are based upon future results or events and are highly dependent upon a variety of important factors which could cause such results or events to differ materially from any forward-looking statements which may be deemed to have been made in this report, or which are otherwise made by or on behalf of the company. Such factors include, but are not limited to, volatility in earnings resulting from goodwill impairment losses which may occur irregularly and in varying amounts; variability in financing costs; quarterly variations in operating results; dependence on key customers; international exposure; foreign exchange and political risks affecting international sales; changing market conditions; the impact of competitive products and pricing; the timely development and market acceptance of the company’s products; the availability and cost of raw materials; and other risks detailed herein and from time-to-time in the company’s SEC filings, including the 2003 report on Form 10-K/A (Amendment No. 2).
 


 
  14  
 

 
Net Sales Summary
(dollars in thousands)


   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
   
Sales
  
Percent
  
Sales
  
Percent
  
Sales
  
Percent
  
Sales
  
Percent
  
Business Divisions:
                                                  
Cooking Systems Group:
                                                  
Core cooking equipment
 
$
48,208
    
68.3
  
$
41,412
    
67.8
  
$
144,175
    
70.0
  
$
125,242
    
68.4
  
Conveyor oven equipment
    
13,657
    
19.3
    
11,598
    
19.2
    
40,504
    
19.7
    
35,787
    
19.8
  
Counterline cooking equipment
    
2,576
    
3.6
    
2,697
    
4.5
    
7,655
    
3.7
    
7,581
    
4.2
  
International specialty equipment
    
1,953
    
2.8
    
1,183
    
2.0
    
5,413
    
2.6
    
5,321
    
2.9
  
Cooking Systems Group
    
66,394
    
94.0
    
56,890
    
93.5
    
197,747
    
96.0
    
173,931
    
95.3
  
International Distribution Division (1)    
    
12,102
    
17.1
    
10,782
    
17.9
    
32,833
    
15.9
    
31,017
    
17.2
  
Intercompany sales (2)
    
(7,876
)
  
(11.1
)
  
(6,778
)
  
(11.4
)
  
(24,584
)
  
(11.9
)
  
(22,253
)
  
(12.5
)
Total
  
$
70,620
    
100.0
%
$
60,894
    
100.0
%
$
205,996
    
100.0
%
$
182,695
    
100.0
%

(1)    Consists of sales of products manufactured by Middleby and products manufactured by third parties.
 
(2)    Represents the elimination of sales amongst the Cooking Systems Group and from the Cooking Systems Group to the International Distribution Division.
 

Results of Operations

The following table sets forth certain consolidated statements of earnings items as a percentage of net sales for the periods.


   
Three Months Ended
  
Nine Months Ended
  
   
Oct. 2, 2004
  
Sep. 27, 2003
  
Oct. 2, 2004
  
Sep. 27, 2003
  
Net sales    
    
100.0
%
  
100.0
%
  
100.0
%
  
100.0
%
Cost of sales    
    
62.6
    
62.8
    
62.0
   
64.8
 
Gross profit    
    
37.4
    
37.2
    
38.0
   
35.2
 
Selling, general and administrative expenses    
    
19.6
    
20.8
    
19.9
   
21.0
  
Income from operations    
    
17.8
    
16.4
    
18.1
   
14.2
 
Interest expense and deferred financing amortization, net
    
0.9
    
2.3
    
1.1
   
2.6
 
Loss (gain) on acquisition financings derivatives    
    
(0.1
)
  
—
    
—
    
—
  
Other expense, net    
    
—
    
(0.4
)
  
0.1
   
— 
  
Earnings before income taxes    
    
17.0
    
14.5
    
16.9
    
11.6
  
Provision for income taxes    
    
2.3
    
5.2
    
5.1
   
4.6
 
Net earnings
    
14.7
%
  
9.3
%
  
11.8
%
  
7.0
%
 


 
  15  
 


Three Months Ended October 2, 2004 Compared to Three Months Ended September 27, 2003

NET SALES. Net sales for the third quarter of fiscal 2004 were $70.6 million as compared to $60.9 million in the third quarter of 2003.

Net sales at the Cooking Systems Group amounted to $66.4 million in the third quarter of 2004 as compared to $56.9 million in the prior year quarter.

·   Core cooking equipment sales increased by $6.8 million to $48.2 million from $41.4 million, primarily due to increased fryer, convection oven, and cooking range sales resulting from new product introductions and improved market conditions.
 
·   Conveyor oven equipment sales increased $2.1 million to $13.7 million from $11.6 million in the prior year quarter, reflecting an increase in sales of ovens replacing older equipment and higher parts sales.

·   Counterline cooking equipment sales decreased slightly to $2.6 million from $2.7 million in the prior year quarter due to reduced toaster sales resulting from competitive pricing pressures.

·   International specialty equipment sales increased to $2.0 million compared to $1.2 million in the prior year quarter due to the introduction of a new product line of counter griddles and charbroilers.

Net sales at the International Distribution Division increased by $1.3 million to $12.1 million, reflecting higher sales in Asia, Latin America and Europe. International sales benefited from expansion of the U.S. chains overseas.

GROSS PROFIT. Gross profit increased to $26.4 million from $22.6 million in the prior year period, reflecting the impact of higher sales volumes. The gross margin rate was 37.4% in the quarter as compared to 37.2% in the prior year quarter. The net increase in the gross margin rate reflects:

·   Increased sales volumes that benefited manufacturing efficiencies and provided for greater leverage of fixed manufacturing costs.

·   Improved sales mix of products driven by higher margins on newly introduced products which generally are more cost efficient to manufacture due to standardization of product platforms and improvement in product design resulting in lower warranty costs.

·   The adverse impact from rising steel prices.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Combined selling, general, and administrative expenses increased from $12.6 million in the third quarter of 2003 to $13.8 million in the third quarter of 2004. As a percentage of net sales operating expenses amounted to 19.6% in the third quarter of 2004 versus 20.8% in the third quarter of 2003 reflecting greater leverage on higher sales volumes. Selling expenses increased from $7.3 million to $7.6 million, reflecting higher commission costs associated with the increased sales volumes. General and administrative expenses increased from $5.4 to $6.2 million due to higher incentive compensation and general corporate administrative costs.


 
  16  
 


NON-OPERATING EXPENSES. Interest and deferred financing amortization costs decreased to $0.6 million from $1.4 million in the prior year as a result of lower debt balances and lower average interest rates. The gain on financing derivatives was $0.1 million in the current year quarter compared to a loss of less than $0.1 million in the prior year quarter. Other expense was less than $0.1 million in the current year compared to other income of $0.3 million in the prior year and primarily consists of foreign exchange losses.

INCOME TAXES. A tax provision of $1.6 million, at an effective rate of 13.5%, was recorded during the quarter as compared to a $3.1 million provision at a 36% effective rate in the prior year quarter. The 2004 third quarter included a $3.2 million tax benefit for reserve adjustments associated with closed tax years.


Nine Months Ended October 2, 2004 Compared to Nine Months Ended September 27, 2003

NET SALES. Net sales for the nine-month period ended October 2, 2004 were $206.0 million as compared to $182.7 million in the nine-month period ended September 27, 2003.

Net sales at the Cooking Systems Group amounted to $197.7 million in the nine-month period ended October 2, 2004 as compared to $173.9 million in the prior year nine-month period.

·   Core cooking equipment sales increased by $19.0 million to $144.2 million from $125.2 million, primarily due to increased fryer, cooking range and convection oven sales resulting from new product introductions and improved market conditions.
 
·   Conveyor oven equipment sales increased $4.7 million to $40.5 million from $35.8 million in the prior year nine-month period. The increase in sales reflects higher equipment sales to U.S. chain customers expanding internationally and increased sales of service parts.

·   Counterline cooking equipment increased to $7.7 million from $7.6 million in the prior year period.

·   International specialty equipment sales increased to $5.4 million compared to $5.3 million in the prior year.

Net sales at the International Distribution Division increased by $1.8 million to $32.8 million, driven by increased sales into Latin America and Europe, resulting from improved market conditions and expansion of U.S. regional chains. This increase was partly offset by reduced sales into Asia, which had slowed in the first half of the year due to a delay in store openings by certain major chain customers. These customers resumed purchases in the third quarter.


 
  17  
 


GROSS PROFIT. Gross profit increased to $78.4 million from $64.3 million in the prior year period, reflecting the impact of higher sales volumes. The gross margin rate was 38.0% in the nine-month period as compared to 35.2% in the prior year period. The net increase in the overall gross margin rate reflects:

·   Increased sales volumes that benefited manufacturing efficiencies and provided for greater leverage of fixed manufacturing costs.

·   Improved sales mix of products driven by higher margins on newly introduced products which tend to be more cost efficient to manufacture due to standardization of product platforms and improvement in product design resulting in lower warranty costs.

·   The adverse impact from rising steel prices.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Combined selling, general, and administrative expenses increased from $38.3 million in the nine-month period ended September 27, 2003 to $41.0 million in the nine-month period ended October 2, 2004. As a percentage of net sales operating expenses amounted to 19.9% in the nine-month period ended October 2, 2004 versus 21.0% in the nine-month period ended September 27, 2003 reflecting greater leverage on higher sales volumes. Selling expenses increased from $22.2 million to $23.3 million, reflecting higher commissions cost associated with the increased sales volumes. General and administrative expenses increased from $16.1 million to $17.7 million due to higher incentive compensation and general corporate administrative costs.

NON-OPERATING EXPENSES. Interest and deferred financing amortization costs decreased to $2.3 million from $4.7 million in the prior year as a result of lower debt balances and lower average interest rates. The gain on financing derivatives of $0.1 million remained consistent with the prior year period. Other expense increased from less than $0.1 million in the prior year to $0.3 million in the current year and primarily consists of foreign exchange losses.

INCOME TAXES. A tax provision of $10.5 million, at an effective rate of 30%, was recorded for the nine-month period of 2004 as compared to an $8.5 million provision at a 40% effective rate in the prior year comparative period. The 2004 tax provision included a $3.2 million tax benefit for reserve adjustments associated with closed tax years.

Financial Condition and Liquidity

During the nine months ended October 2, 2004, cash and cash equivalents decreased by $1.0 million to $2.7 million at October 2, 2004 from $3.7 million at January 3, 2004. Net borrowings decreased from $56.5 million at January 3, 2004 to $40.6 million at October 2, 2004.

OPERATING ACTIVITIES. Net cash provided by operating activities after changes in assets and liabilities was $19.0 million as compared to $22.8 million in the prior year period.

During the nine months ended October 2, 2004, working capital levels increased due to the higher sales volumes and increased seasonal working capital needs, which historically peak in the second quarter. The changes in working capital included a $6.2 million increase in accounts receivable, a $5.7 million increase in inventory and a $3.1 million increase in accounts payable. Accrued expenses increased by $4.5 million due to an increase in sales rebate reserves resulting from higher sales volumes and increased incentive compensation accruals. Other liabilities decreased by $4.6 million due to funding of pension obligations, payments on lease obligations and adjustments to tax reserves.


 
  18  
 

INVESTING ACTIVITIES. During the nine months ending October 2, 2004, net cash used in investing activities was $2.6 million. This included $0.6 million of property additions and $2.0 in repayments of principal associated with seller notes due to Maytag related to the 2001 Blodgett acquisition.

FINANCING ACTIVITIES. Net cash flows used in financing activities were $17.4 million during the nine months ending October 2, 2004. During the second quarter the company amending its secured banking facility to reduce interest costs on borrowings under the facility to reflect improved market conditions and the improved credit profile of the company. Additionally, the company improved its borrowing flexibility under the banking facility by eliminating the term loan component of the facility and replacing it entirely with a $70.0 million revolving credit line. As a result, the company utilized proceeds from borrowings under the revolving credit facility during the first six months of 2004 to fund the repayment of $53.0 million in term loans under the senior credit facility. During the nine-month period ending October 2, 2004 total borrowings under the secured credit facility were reduced by $13.9 million from $54.5 million at January 3, 2004 to $40.6 million at October 2, 2004.

In July 2004, the company issued a $0.40 per share dividend, which amounted to $3.7 million.

At October 2, 2004, the company was in compliance with all covenants pursuant to its borrowing agreements. Management believes that future cash flows from operating activities and borrowing availability under the revolving credit facility will provide the company with sufficient financial resources to meet its anticipated requirements for working capital, capital expenditures and debt amortization for the foreseeable future.


New Accounting Pronouncements

In December 2003, the Financial Accounting Standards Board ("FASB") issued a revision to Statement of Financial Accounting Standards ("SFAS") No. 132 "Employers' Disclosure about Pensions and Other Postretirement Benefits." This statement retains the disclosures previously required by SFAS No. 132 but adds additional disclosure requirements about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. It also calls for the required information to be provided separately for pension plans and for other postretirement benefit plans. The interim-period disclosures required by this statement are effective for interim periods beginning after December 15, 2003. The company has included the required interim period disclosures in footnote 12.


Critical Accounting Policies and Estimates

Management's discussion and analysis of financial condition and results of operations are based upon the company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires the company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses as well as related disclosures. On an ongoing basis, the company evaluates its estimates and judgments based on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.


 
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Property and equipment: Property and equipment are depreciated or amortized on a straight-line basis over their useful lives based on management's estimates of the period over which the assets will be utilized to benefit the operations of the company. The useful lives are estimated based on historical experience with similar assets, taking into account anticipated technological or other changes.  The company periodically reviews these lives relative to physical factors, economic factors and industry trends. If there are changes in the planned use of property and equipment or if technological changes were to occur more rapidly than anticipated, the useful lives assigned to these assets may need to be shortened, resulting in the recognition of increased depreciation and amortization expense in future periods.

Long-lived assets: Long-lived assets (including goodwill and other intangibles) are reviewed for impairment on the last day of the fiscal year and whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In assessing the recoverability of the company's long-lived assets, the company considers changes in economic conditions and makes assumptions regarding estimated future cash flows and other factors.  Estimates of future cash flows are judgments based on the company's experience and knowledge of operations.  These estimates can be significantly impacted by many factors including changes in global and local business and economic conditions, operating costs, inflation, competition, and consumer and demographic trends.  If the company's estimates or the underlying assumptions change in the future, the company may be required to record impairment charges.

Warranty: In the normal course of business the company issues product warranties for specific product lines and provides for the estimated future warranty cost in the period in which the sale is recorded.  The estimate of warranty cost is based on contract terms and historical warranty loss experience that is periodically adjusted for recent actual experience. Because warranty estimates are forecasts that are based on the best available information, claims costs may differ from amounts provided. Adjustments to initial obligations for warranties are made as changes in the obligations become reasonably estimable.

Lease obligations: In 2002 and 2001, the company established reserves associated with lease obligations for manufacturing facilities that were exited in conjunction with manufacturing consolidation efforts related to the acquisition of Blodgett.  The term of the leases associated with the two facilities in Shelburne, Vermont and Quakertown, Pennsylvania extends through December 2014.  The company currently has a subtenant for the Quakertown, Pennsylvania facility for a portion of the lease term. The recorded reserves are established for the future lease obligations net of an estimate for anticipated sublease income.  The forecast of sublease income could differ from actual amounts, which are subject to the occupancy by a subtenant and a negotiated sublease rental rate.  If the company's estimates or underlying assumptions change in the future, the company would be required to adjust the reserve amount accordingly.

Litigation: From time to time, the company is subject to proceedings, lawsuits and other claims related to products, suppliers, employees, customers and competitors. The company maintains insurance to cover product liability, workers compensation, property and casualty, and general liability matters.  The company is required to assess the likelihood of any adverse judgments or outcomes to these matters as well as potential ranges of probable losses.  A determination of the amount of accrual required, if any, for these contingencies is made after assessment of each matter and the related insurance coverage.  The required accrual may change in the future due to new developments or changes in approach such as a change in settlement strategy in dealing with these matters.  The company does not believe that any such matter will have a material adverse effect on its financial condition or results of operations.

Income taxes: The company operates in numerous taxing jurisdictions where it is subject to various types of tax, including sales tax and income tax.  The company's tax filings are subject to audits and adjustments. Because of the nature of the company’s operations, the nature of the audit items can be complex, and the objectives of the government auditors can result in a tax on the same transaction or income in more than one state or country.  As part of the company's calculation of the provision for taxes, the company establishes reserves for the amount that it expects to incur as a result of audits. The reserves may change in the future due to new developments related to the various tax matters.


 
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Contractual Obligations

The company's contractual cash payment obligations are set forth below (in thousands):

               
Total
  
           
Idle
  
Contractual
  
   
Long-term
  
Operating
  
Facility
  
Cash
  
   
Debt
  
Leases
  
Leases
  
Obligations
  
                   
Less than 1 year
  
$
—
  
$
658
  
$
1,181
  
$
1,839
  
1-3 years
    
—
    
889
    
2,189
    
3,078
  
4-5 years
    
40,615
    
394
    
2,390
    
43,399
  
After 5 years
    
—
    
29
   
5,787
    
5,816
  
   
$
40,615
  
$
1,970
  
$
11,547
  
$
54,132
  

Idle facility leases consist of obligations for two manufacturing locations that were exited in conjunction with the company's manufacturing consolidation efforts. The lease obligations continue through December 2014. The obligations presented above do not reflect any anticipated sublease income from the facilities.
 
On November 10, 2004, subsequent to the end of the third quarter, the company entered into an agreement with Pizzagalli Properties, LLC, to terminate the company’s lease obligations related to a manufacturing facility in Shelburne, Vermont. This transaction occurred simultaneously with a sale of the property from Pizzagalli Properties, LLC to an unrelated third party. The original lease had a contractual payment obligation that amounted to approximately $7.8 million. Under terms of the lease termination agreement the company will pay the lessor $600,000 in cash and enter into an interest bearing note in the amount of $2,513,884.

The company maintains a non-contributory defined benefit plan for its union employees at the Elgin, Illinois facility. Benefits are determined based upon retirement age and years of service with the company. This defined benefit plan was frozen on April 30, 2002 and no further benefits accrue to the participants beyond this date. Plan participants will receive or continue to receive payments for benefits earned on or prior to April 30, 2002 upon reaching retirement age. The employees participating in the defined benefit plan were enrolled in a newly established 401K savings plan on July 1, 2002. As of January 3, 2004, the unfunded benefit obligation under the pension plan was $0.7 million. The defined benefit plan continues to be funded in accordance with provisions of the Employee Retirement Income Security Act of 1974. Company funding contributions amounted to $280,000 in fiscal 2003 and $377,000 in fiscal 2002. The anticipated minimum funding requirement for fiscal 2004 is approximately $285,000 of which $162,000 was funded during the nine-month period ending October 2, 2004.

The company also maintains a retirement benefit agreement with its Chairman. The retirement benefits are based upon a percentage of the Chairman’s final base salary. Additionally, the company maintains a retirement plan for non-employee directors. The plan provides for an annual benefit upon retirement from the Board of Directors at age 70, equal to 100% of the director’s last annual retainer, payable for a number of years equal to the director’s years of service up to a maximum of 10 years. As of January 3, 2004, the unfunded benefit obligation under these plans amounted to $3.4 million. Company funding contributions are made at the discretion of the board of directors in consideration of the plan requirements and company's cash flows. Funding contributions amounted to $1,007,000 in fiscal 2003 and $16,000 in fiscal 2002. Funding in the nine-month period ending October 2, 2004 amounted to $1,550,000.

The company has $1.8 million in outstanding letters of credit, which expire on March 30, 2005 with an automatic one-year renewal, to secure potential obligations under insurance programs.

The company places purchase orders with its suppliers in the ordinary course of business. These purchase orders are generally to fulfill short-term manufacturing requirements of less than 90 days and most are cancelable with a restocking penalty. The company has no long-term purchase contracts or minimum purchase obligations with any supplier.

The company has no activities, obligations or exposures associated with off-balance sheet arrangements.



 
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
Interest Rate Risk

The company is exposed to market risk related to changes in interest rates. The following table summarizes the maturity of the company’s debt obligations.

   
Fixed
  
Variable
  
   
Rate
  
Rate
  
 
  
Debt
  
Debt
  
Twelve Month Period Ending  
(in thousands)
  
           
September 30, 2005
  
$
—
  
$
—
  
September 30, 2006
    
—
    
—
  
September 30, 2007
    
—
   
—
  
September 30, 2008
    
—
   
—
  
September 30, 2009
    
—
    
40,615
  
   
   $ —  
$
40,615
  


The company maintains a $70.0 million revolving credit facility under a secured credit agreement. As of October 2, 2004, the company had borrowings of $40.6 million under this facility. The interest rate on the credit facility may be adjusted quarterly based upon the company's defined indebtedness ratio computed on a rolling four-quarter basis. Currently, borrowings under the credit facility are assessed interest at floating rates of 1.25% above LIBOR. At October 2, 2004, this interest rate was 3.08%. A variable commitment fee, based upon the indebtedness ratio is charged on the unused portion of the line of credit. This variable commitment fee amounted to 0.30% as of October 2, 2004.

The company maintains two interest rate swap agreements in connection with the secured credit facility. The first, taken out in January 2002, has a notional amount of $20.0 million, swaps one-month LIBOR for a fixed rate of 4.03% and is in effect through December 31, 2004. The second, taken out in February 2003, has a notional amount of $10.0 million, swaps one-month LIBOR for a fixed rate of 2.36% and is in effect through December 30, 2005.

The terms of the secured credit facility limit the paying of dividends, the incurrence of other debt, and require, among other things, a minimum amount, as defined, of stockholders’ equity, and certain ratios of indebtedness and fixed charge coverage. The credit agreement also provides that if a material adverse change in the company’s business operations or conditions occurs, the lender could declare an event of default. Under terms of the agreement a material adverse effect is defined as (a) a material adverse change in, or a material adverse effect upon, the business, assets, operations, condition (financial or otherwise) or prospects of the company and its subsidiaries taken as a whole, or (b) a material adverse effect upon any substantial portion of the collateral or upon the legality, validity, binding effect or enforceability against the company of any loan document. A material adverse effect is determined on a subjective basis by the company's creditors. At October 2, 2004, the company was in compliance with all covenants pursuant to its borrowing agreements.


 
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Financing Derivative Instruments

On January 11, 2002 the company entered into an interest rate swap agreement with a notional amount of $20.0 million to fix the interest rate applicable to certain of its variable-rate debt. The agreement swaps one-month LIBOR for a fixed rate of 4.03% and is in effect through December 31, 2004. On June 30, 2002, the company designated this swap as a cash flow hedge. The changes in the fair value of the swap that are effectively hedged are recorded as a component of other comprehensive income, while the ineffective portion of the changes in fair value are recorded in earnings. As of October 2, 2004, the fair value of this instrument was $(0.1) million. The change in fair value of this swap agreement in the nine-month period ended October 2, 2004 was $(0.4) million and was recorded as a component of other comprehensive income. The ineffective portion of the swap recorded in earnings was $0.1 million for the nine-month period ended October 2, 2004.

On February 9, 2003 the company entered into another interest rate swap agreement with a notional amount of $10.0 million to fix the interest rate applicable to certain of its variable-rate debt. The agreement swaps one-month LIBOR for a fixed rate of 2.36% and is in effect through December 30, 2005. The company designated the swap as a cash flow hedge at its inception and all changes in the fair value of the swap are recognized in accumulated other comprehensive income. As of October 2, 2004, the fair value of this instrument was less than $0.1 million. The change in fair value of this swap agreement in the first nine months of 2004 was a gain of less than $0.1 million.


Foreign Exchange Derivative Financial Instruments

The company uses foreign currency forward purchase and sale contracts with terms of less than one year, to hedge its exposure to changes in foreign currency exchange rates. The company’s primary hedging activities are to mitigate its exposure to changes in exchange rates on intercompany and third party trade receivables and payables. The company does not currently enter into derivative financial instruments for speculative purposes. In managing its foreign currency exposures, the company identifies and aggregates naturally occurring offsetting positions and then hedges residual balance sheet exposures. The following table summarizes the forward and option purchase contracts outstanding at October 2, 2004, the fair value of these forward contracts were approximately $(0.1) million at the end of the quarter:


Sell
  
Purchase
  
Maturity
  
1,400,000
    
Euro
  
$
1,714,200
    
U.S. Dollars
    
October 22, 2004
  
1,000,000
    
British Pounds
  
$
1,788,300
    
U.S. Dollars
    
October 22, 2004
  
12,700,000
    
Mexican Pesos
  
$
1,107,100
    
U.S. Dollars
    
October 22, 2004
  
17,250,000
    
Taiwan Dollars
  
$
509,100
    
U.S. Dollars
    
October 22, 2004
  
1,000,000,000
    
Korean Won
  
$
868,100
    
U.S. Dollars
    
October 22, 2004
  
 


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Item 4. Controls and Procedures
 
The company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the company's Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the company's management, including its Chief Executive Officer, Chief Financial Officer and Chief Administrative Officer, as appropriate, to allow timely decisions regarding required disclosure.

As of October 2, 2004, the company carried out an evaluation, under the supervision and with the participation of the company's management, including the company's Chief Executive Officer, Chief Financial Officer and Chief Administrative Officer, of the effectiveness of the design and operation of the company's disclosure controls and procedures. Based on the foregoing, the company's Chief Executive Officer, Chief Financial Officer and Chief Administrative Officer concluded that the company's disclosure controls and procedures were effective as of the end of this period.
 
During the quarter ended October 2, 2004, there have been no significant changes in the company's internal controls over financial reporting or in other factors that could significantly affect the internal controls subsequent to the date the company completed its evaluation.


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PART II. OTHER INFORMATION

The company was not required to report the information pursuant to Items 1 through 6 of Part II of Form 10-Q for the three months ended October 2, 2004, except as follows:

 
Item 6. Exhibits

Exhibits -
The following exhibits are filed herewith:
   
Exhibit 10.1 -
Amendment No. 6 to Employment Agreement of William F. Whitman, Jr., dated September 13, 2004, incorporated by reference to the company’s Form 8-K, Exhibit 10, dated September 13, 2004, filed on September 17, 2004.
   
Exhibit 10.2 -
Retention Agreement of Timothy J. FitzGerald, dated July 22, 2004.
   
Exhibit 10.3 -
Lease Termination Agreement between The Middleby Corporation, Cloverleaf Properties, Inc., Blodgett Holdings, Inc., and Pizzagalli Properties, LLC, dated November 10, 2004.
   
Exhibit 10.4 -
Certificate of Lease Termination between Cloverleaf Properties, Inc., and Pizzagalli Properties, LLC, dated November 10, 2004.
   
Exhibit 10.5 -
Commercial Promissory Note between The Middleby Corporation and Pizzagalli Properties, LLC, dated November 10, 2004.
   
Exhibit 31.1 -
Rule 13a-14(a)/15d-14(a) Certification of the Chief Executive Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
  
Exhibit 31.2 -
Rule 13a-14(a)/15d-14(a) Certification of the Chief Financial Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
Exhibit 31.3 -
Rule 13a-14(a)/15d-14 Certification of the Chief Administrative Officer as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
Exhibit 32.1 - 
Certification by the Principal Executive Officer of The Middleby Corporation Pursuant to Rule 13A-14(b) under the Exchange Act and Section 906 of the Sarbanes-Oxley Act of 2002(18 U.S.C. 1350).
   
Exhibit 32.2 - 
Certification by the Principal Financial Officer of The Middleby Corporation Pursuant to Rule 13A-14(b) under the Exchange Act and Section 906 of the Sarbanes-Oxley Act of 2002(18 U.S.C. 1350).
   
Exhibit 32.3 -
Certification by the Principal Administrative Officer of The Middleby Corporation Pursuant to Rule 13A-14(b) under the Exchange Act and Section 906 of the Sarbanes-Oxley Act of 2002(18 U.S.C. 1350).
   



 
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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


     
  THE MIDDLEBY CORPORATION
(Registrant)
 
 		  
 		  
 
Date: November 16, 2004 By:   /s/ Timothy J. FitzGerald
 
  Timothy J. FitzGerald
Vice President
Chief Financial Officer
 
 
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