UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2006
Commission file number 333-112714
MICHAEL FOODS, INC.
(Exact name of registrant as specified in its charter)
Delaware | 13-4151741 | ||
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(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification No.) |
301 Carlson Parkway Suite 400 Minnetonka, Minnesota | 55305 | ||
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(Address of principal executive offices) | (Zip Code) | ||
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Registrant’s telephone number, including area code (952) 258-4000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. ¨ Yes x No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 of Section 15(d) of the Act. x Yes ¨ No
Indicate by check mark whether the Registrantregistrant (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. ýx Yes o No
Indicate by checkmark whether the Registrant is an accelerated filer (as defined in exchange Act Rule 12b-2). o¨ Yes ý No No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Large accelerated filer o¨ Accelerated filer ¨ Non-accelerated filer x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes x Not applicable
No
The Registrant’sregistrant’s common stock is not publicly traded.
There were 3,000 shares of the registrant’s common stock outstanding as of March 15, 2007.
PART IDocuments incorporated by reference: None
PART I
ITEM 1 – 1—BUSINESS
FORWARD-LOOKING STATEMENTS
Forward-looking Statements
Certain items herein are “forward-looking statements.” Forward-looking statements include statements concerning our plans, objectives, goals, strategies, future events, future sales or performance, capital expenditures, financing needs, plans or intentions relating to acquisitions, our competitive strengths and weaknesses, our business strategy and the trends we anticipate in the industries and economies in which we operate and other information that is not historical information and, in particular, appear under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” When used herein, the words “estimates,” “expects,” “anticipates,” “projects,” “plans,” “intends,” “believes” and variations of such words or similar expressions are intended to identify forward-looking statements. All forward-looking statements including, without limitation, our examination of historical operating trends, are based upon our current expectations and various assumptions. Our expectations, beliefs and projections are expressed in good faith, and we believe there is a reasonable basis for them, but there can be no assurance that our expectations, beliefs and projections will be realized.
There are a number of risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements contained in this report.report (please see Item 1A—RISK FACTORS). Important factors that could cause our actual results to differ materially from the forward-looking statements we make in this Form 10-K include changes in domestic and international economic conditions. Additional risks and uncertainties include variances in the demand for our products due to consumer and industry developments, as well as variances in the costs to produce such products, including normal volatility in egg, feed, butter and dairy productscheese costs. If any of these risks or uncertainties materialize, or if any of our underlying assumptions are incorrect, our actual results may differ significantly from the results that we express in or imply by any of our forward-looking statements. We do not undertake any obligation to revise these forward-looking statements to reflect future events or circumstances.
GENERAL
General
Michael Foods, Inc. and its subsidiaries (the “Company”, “we”, “us”,(together, the “Company,” “we,” “us,” and “our”) is a diversified producer and distributor of food products in four areas - three areas—egg products, refrigerated distribution dairy products, and potato products. We believe, through our Egg Products Division, we are the largest producer of processed egg products in North America. TheOur Refrigerated Distribution Division distributes a broad line of refrigerated grocery products to retail grocery outlets, including cheese, shell eggs, bagels, butter, margarine, muffins, potato products juice and ethnic foods. The Dairy Products Division processes and distributes soft-serve mix, ice cream mix, and extended shelf-life ultrapasteurized milk, creamers and other specialty dairy products to domestic quick service businesses and other foodservice outlets, ice cream manufacturers and others. TheOur Potato Products Division processes and distributes refrigerated potato products sold to the foodservice and retail grocery markets in the United States. Please see Note JI to our consolidated financial statements for additional information about our business segments.
Our strategy is to growcreate value-added food product sales, primarily in the foodservice market, by focusing on developing, marketing and distributing innovative, refrigerated products. The keyservice solutions with our customers and suppliers to this strategy is “value-added”, whether that is in the product, the distribution channel or in the service provided to customers.
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deliver profitable and sustainable growth.
In April 2001,November 2003, we were acquired by an investor group comprised of a management group led by our Chairman, President and Chief Executive Officer, affiliates of Jeffrey Michael, a director of the Company, and two private equity investment firmsfirm and a management group through the merger of Michael Foods Acquisition Corp.THL Food Products Co. with and into the previous M-Foods Holdings, Inc. (the “Merger”), with old M-Foods Holdings, Inc. being the continuing entity. Old M-Foods Holdings, Inc. then merged with Michael Foods, Inc. Old M-Foods Holdings, Inc. continued as the surviving corporation and was immediately thereafter renamed Michael Foods, Inc. (the “Merger”“Company”). TheAny reference to the “Predecessor” refers to Michael Foods, Inc. prior to the Merger. Our current parent, as a result of the Merger, is M-Foods Holdings, Inc.
Egg Products Division
EGG PRODUCTS DIVISION
The Egg Products Division, comprised of our subsidiaries M. G. Waldbaum Company (“Waldbaum”), Papetti’s Hygrade Egg Products, Inc. (“Papetti’s”), and MFI Food Canada, Ltd. and Trilogy Egg Products, Inc., produces, processes and distributes numerous egg products and shell eggs. Collectively, the three subsidiariesentities are also knownreferred to as the Michael Foods Egg Products Company. We believe that theour Egg Products Division is the largest egg products producer and the thirdfourth largest egg producer in North America. Principal value-added egg products are ultrapasteurized, extended shelf-life liquid eggs (“Easy Eggs(R)Eggs®”, “Table Ready(TM)” and “Excell”), and "Excell."egg white-based egg substitutes (“Better ‘n Eggs(TM)Eggs™”, “Table Ready(TM)”, and “All Whites(TM)Whites™”), and hardcooked and precooked egg products.products (“Table Ready™”). Other egg products include frozen, liquid and dried egg whites, yolks and whole eggs. TheWe believe our Egg Products Division is the largest supplier of extended shelf-life liquid eggs, precooked egg patties and omelets, dried eggs and hardcooked eggs in the United StatesNorth America and is a leading supplier of frozen and liquid whole eggs, whites and yolks.
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Our Egg Products Division distributes its egg products to food processors and foodservice customers primarily throughout the United States,North America, with some international sales in the Far East, South America and Europe. The largest selling product line within the Division, which is extended shelf-life liquid eggs, and other egg products are marketed nationally to a wide variety of foodservice and industrialfood ingredients customers. The Division also is a leading supplier of egg white-based egg substitutes sold in the U.S. retail and foodservice markets. Most of the Division’s annual shell egg sales are made to our Refrigerated Distribution Division, which, in turn, distributes them throughout its 30 state territory.
Division.
In 2002,2006, the Division derived approximately 97%98% of net sales from egg products, with 3%2% of net sales coming from shell eggs. Pricing for shell eggs and certain egg products in the United States and Canada reflects levels reported by Urner Barry Spot Egg Market Quotations (“Urner Barry”), a recognized industry publication. Prices of certain higher valued-added products, such as extended shelf-life liquid eggs, egg substitutes, and hardcooked and pre-cookedprecooked egg products typically are not significantly affected by Urner Barry quoted price levels. Such products accounted for approximately 60%74% of the Division’s 20022006 sales. Prices for the Division’s other products, including frozen, short shelf-life liquid, certain dried and frozen products and, particularly, shell eggs, are significantly affected by frequently changing market levelsprices as reported by Urner Barry.
In 2002,2006, approximately 30% of the Division’s egg needs were satisfied by production from Company-ownedour owned hens, with the balance being purchased under growerthird-party egg procurement contracts and in the spot market. The cost of eggs from Company-ownedour owned facilities is largely dependent upon the cost of feed. Additionally, for an increasing proportion of eggs purchased under growerthird-party egg procurement contracts, the egg cost is determined by the cost of feed, as the contracts are priced using a formula based upon the underlying feed costs. For the larger proportionremaining portion of eggs purchased under growerthird-party egg procurement contracts plusand for eggs purchased in the spot market, the egg cost is determined by normal market forces. Such costs are largely determined by reference to Urner Barry quotations. Historically, feed costs have generally been less volatile than have egg market prices, and internally produced
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eggs generally arehave been lower in cost than are externally sourced eggs. Key feed costs, such as corn and soybean meal costs, are partially hedged through the use of futures and other purchase contracts. There is no market mechanism for hedging egg prices.
The Division has endeavored to moderate the effects of egg market commodity factors through an emphasis on value-added products and the internal production of eggs, where the egg cost is somewhat controllable. Further, the Division attempts to match market-affected egg sourcing with the production of egg products whose selling prices are also market-affected, and cost-affected egg sourcing, as best can be managed, with higher value-added products priced over longer terms, generally 6-12 months. The former allows the Division to typically realize a modest processing margin on such sales, even though there are notable commodity influences on both the egg sourcing costcosts and the egg products pricing, with each changing as frequently as daily. Shell eggs are essentially a commodity and are sold based upon reported egg prices. Egg prices are significantly influenced by modest shifts in supply and demand. Pricing of shell eggs is also typically affected by seasonal demand related to increased consumption during holiday periods.
The Division’s principal egg processing plants are located in New Jersey, Minnesota, Nebraska, Pennsylvania, Iowa, Manitoba and Ontario. We have decided that the St. Marys, Ontario plant will close in late March 2007 (see Note G to our consolidated financial statements for more information). Certain of the Division’s facilities are fully integrated from the production and maintenance of laying flocks through the processing of egg products. Fully automated laying barns, housing approximately 13,000,00013,500,000 producing hens, are located in Nebraska, Minnesota and South Dakota,Dakota. Approximately 1,900,000 of which approximately 1,600,000these hens are housed in contract facilities. Major laying facilities also maintain their own grain and feed storage facilities. Further, the production of approximately 7,500,00015,000,000 hens is under long-term supply agreements, with an additional 21,000,00017,000,000 hens under shorter-term agreements. The Division also maintains facilities with approximately 2,800,0003,000,000 pullets located in Nebraska and Minnesota.
Refrigerated Distribution Division
REFRIGERATED DISTRIBUTION DIVISION
TheOur Refrigerated Distribution Division, comprised of our wholly-owned subsidiaries Crystal Farms Refrigerated Distribution Company (“Crystal Farms”) and Wisco Farm Cooperative, distributes a wide range of refrigerated grocery products directly to retailers and to wholesale warehouses. The Division believesWe believe that itsthe Division’s strategy of offering quality branded products at a good value relative to national brands has contributed to itsthe Division’s growth. These distributed refrigerated products, which consist principally of cheese, shell eggs, bagels, butter, margarine, muffins, potato products juice and ethnic foods, are supplied by various vendors, or our other divisions, of the Company, to the Division’s specifications. Cheese accountsaccounted for approximately 61%68% of divisional annualthe Division’s 2006 sales. While we do not produce cheese, we operate a cheese packaging facility in Lake Mills, Wisconsin, which processes and packages various cheese products for our Crystal Farms brand cheese business and for various private label customers.
The Division has expanded its market area using both company-owned and leased resources and independent distributors. The Division’s market area includes 30 states primarilyis the United States, with a large customer concentration in the central United States. Retail locations carrying the Division’s products approximate 4,500exceed 10,000 stores. A majority of these retail stores though a majority are served via customers’ warehouses. In 2002, sales to the warehouse operations of SUPERVALU, Inc., and to its owned and franchised stores, represented approximately 41% of divisional sales. The Division maintains a fleet of refrigerated tractor-trailers to deliver products daily to its retail customers from ten distribution centers centrally located centrally in its key marketing areas.
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DAIRY PRODUCTS DIVISION
The DairyPotato Products Division comprised of Kohler Mix Specialties, Inc. (“Kohler”), Kohler Mix Specialties of Connecticut, Inc., Midwest Mix, Inc., M-Foods Dairy, LLC, and M-Foods Dairy TXCT, LLC, processes and sells soft-serve mix, ice cream mix, frozen yogurt mix, creamers, milk and specialty dairy products, many of which are ultra-high temperature (“UHT”) pasteurized products. The Division sells its products throughout much of the United States from processing facilities in Minnesota, Texas and Connecticut.
UHT processing is designed to produce bacteria-free products with delicate flavors, such as milk, ice cream mixes and specialty dairy products such as coffee creamers, whipping cream, half and half and cordials. Many of the Division’s products have an extended shelf-life of up to ninety days, which extends the trade territory that can be effectively served by the Division to include most of the United States.
Soft-serve, frozen yogurt and ice cream mixes are made to customers’ specifications. Currently, the Division produces approximately 100 different formulations. We believe the customization of high quality products and high customer service levels are critical to the Division's business.
The Division has approximately 500 customers, including branded ice cream manufacturers, quick service restaurants, other foodservice outlets and independent ice cream retailers. The Division’s top five customers represented approximately 60% of 2002 divisional sales volume. Most of the Division’s sales are to customers who purchase products on a cost-plus basis. This includes sales to most of the large quick service restaurant chains operating in its market areas. Sales of soft-serve, milk shake, and ice cream mixes are more seasonal than the Company’s other products, with higher sales volume occurring between April and October. The addition of other specialty dairy products in recent years, such as non-refrigerated dairy creamers and cartoned items, has somewhat offset the impact on the Division’s sales and earnings from this seasonality.
POTATO PRODUCTS DIVISION
Refrigerated potato products are produced and sold by our wholly-owned subsidiaries Northern Star Co. (“Northern Star”) and Farm Fresh Foods, Inc. (“Farm Fresh”) to both the foodservice and retail markets. ProductsThis division’s products consist of shredded hash browns and diced, sliced, mashed and other specialty potato products. In 2002,2006, approximately 61%55% of the Potato Products Division’s net sales were to the foodservice market, with the balance to the retail market.
The Division maintains its main processing facility in Minnesota, with a smaller facility located in Nevada. The Division typically purchases approximately 90%-95% of its annual potato requirements from contract producers. The balance of potato requirements are purchased on the spot market. The Division maintains a high percentage of its contracted supply from irrigated fields and also has geographical diversification of its potato sources. However, weather remains an important factor in determining raw potato prices and quality. Variations in the purchase price and/or quality of potatoes can affect the Potato Products Division’s operating results.
SALES, MARKETING AND CUSTOMER SERVICE
Sales, Marketing and Customer Service
Each of our fourthree divisions has developed a marketing strategy which emphasizes high quality products and customer service. Michael Foods Sales, an internal sales group, coordinates the foodservice and retail sales of the Egg Products Dairy Products and Potato Products divisions,Divisions, primarily for national and regional accounts,
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and is supported by a centralized order entry and customer service staff. The consolidations of the historically distinct egg products sales groups, and related customer service groups, were completed in 2001. A group of foodservice brokers is used by Michael Foods Sales to supplement its internal sales efforts. Further,Furthermore, the Egg Products Division utilizes a separate broker group for the retail market and maintains a small sales group which handles certain industrialfood ingredient egg product sales. We have aOur marketing staff which executes egg products and potato products marketing plans in the foodservice market and for related national retail brands, while the Refrigerated Distribution Division has a smallersmall marketing staff which handles that division’s retail marketing plans, along with additional resources available from outside agencies and consultants as needed.
The Refrigerated Distribution Division’s internal and external sales personnel obtain orders from retail stores which arefor next day delivery, and warehouse accounts for delivery usually placed no more than one day ahead of the requested delivery date. Thewithin 14 days. This Division’s marketing efforts are primarily focused on in-store and co-op advertising programs, which are executed with grocers on a market-by-market basis. During 2002, Crystal Farms increased its consumer support programs, with largely favorable sales volume results.
Customers
The Egg Products Division also has consumer support programs to support its egg products sold in the retail market.
ACQUISITIONS
We have made many acquisitions and anticipate that we will continue to make acquisitions as part of our strategic plan. We made one acquisition in 2002. We bought the egg products assets of Canadian Inovatech Inc. This acquisition, along with the effect of a consolidation of a previous joint venture, is expected to add approximately $60 million to our net sales in 2003. There were no acquisitions in 2001.
CUSTOMERS
Our foodservice sales are primarily made under long-standing preferred supplier relationships with a majoritymany of ourits customers. Our customers include eachmany of the major broad-line foodservice distributors and mostmany national restaurant chains that serve breakfast. As the largest processed egg producer in the industry, we offer our customers a broad product selection, large-scale manufacturing capabilities and specialized service. The Egg Products Division’s major customers in each of theits market channels include leading foodservice distributors, such as Sysco and U.S. Foodservice, (each more than 10% of our consolidated net sales), national restaurant chains, such as Burger King, and International House of Pancakes, Sonic Corp. and Dunkin’ Donuts, major retail grocery store chains, such as Costco, Wal-Mart and Ahold group stores, and major industrialfood ingredient customers, such as General Mills/PillsburyMills, Inc. and Unilever Bestfoods.Bestfoods North America.
The Refrigerated Distribution Division has customer relationships with large food store chains that rely on us to deliver a variety of dairy case products in a timely and efficient manner. For the year ended December 31, 2006, the Division served over 10,000 retail locations, inclusive of stores receiving products through warehouse delivery. SUPERVALU, the food industry’s largest distributor, is the Refrigerated Distribution Division’s largest customer. For the year ended December 31, 2006, sales to warehouse operations of SUPERVALU and SUPERVALU-owned and franchised stores accounted for approximately 41% of the Division’s net sales and another customer, Roundy’s Inc., accounted for 13% of the Division’s net sales. Other principal customers include Coborn’s Inc., Nash Finch Company, C & S Wholesale Grocers, Inc. and Wal-Mart Stores, Inc.
The Potato Products Division leverages existing relationships with national foodservice distributor customers of the Egg Products Division. Hence, many of the top Potato Products Division’s customers are also long-standing customers of the Egg Products Division. The Division provides foodservice distributors the convenience of centrally sourcing many different types of refrigerated potato and egg products. The Potato Products Division’s largest customers include major foodservice distributors, such as Sysco and U.S. Foodservice and major retail grocery store chains, such as Kroger, Publix, Wal-Mart and Albertsons.
COMPETITION4
Competition
All aspects of our businesses are extremely competitive. In general, food products are price sensitive and affected by many factors beyond our control, including changes in consumer tastes, fluctuating commodityinput prices, changes in supply due to weather, and production variances and feed costs.variances.
Our Egg Products DivisionThe egg processing industry is considered the largest egg products processor and the third largest egg producer in North America. The Egg Products Division competes with many suppliers of egg products and eggs. Whilecompetitive, especially when compared to the shell egg industryindustry. Sunny Fresh Foods, a subsidiary of Cargill, is highly fragmented, the Company’s largest higher value-added egg products sector is less fragmented, as there has been a trend toward consolidation in recent years and further consolidation in the industry is expected. Other majorcompetitor. The Company also competes with other egg producers include Cal-Maineproducts processors including Sonstegard Foods Inc. andCompany, Rose Acre Farms, Inc. We believe our Egg Products Division is among the lowest cost egg producers in the United States. We believe that Easy Eggs’ (R), Echo Lake Farm Produce, Golden Oval Eggs, LLC and Table Ready’s (TM) salmonella-negative aspects, extended shelf-lives and ease of use are significant competitive advantages in the foodservice and industrial food markets for eggs. We believe our largest competitor in egg products is the Sunny FreshConAgra Foods, Inc. subsidiary of Cargill, Inc.
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OurThe Refrigerated Distribution Division competes with the refrigerated products of otherlarger suppliers such as Beatrice Companies, Inc. (a subsidiary of ConAgra Foods, Inc.), Kraft Foods, Inc., Land O’ Lakes,Dairy Farmers of America, Sargento Foods, Inc., and Sargento Cheese Company, Incorporated.Sorrento Lactalis, Inc. We positionCrystal Farmsas an alternative mid-priced brand, operating at price points below national brands and above retail store brands. The Division believes that itsRefrigerated Distribution Division’s emphasis on a high level of service and lower-priced branded products has enabled it to compete effectively in its market area with much larger national brand companies.
Through our Potato Products Division, we were the first company to introduce nationally branded refrigerated potato products in the late 1980s to the United States’ foodservice and retail markets. We believe we are the Dairy Products Division provides a significant amountlargest processor and distributor of the soft-serve mix, and a significant percentage of ice cream mix, sold in Minnesota and Wisconsin. Kohler also has a large percentage of the UHT soft-serve mix and UHT fluid milk business with quick service restaurant chainsrefrigerated potato products in the central and eastern United States. Competitors mainly include local dairies utilizing conventional pasteurization and regional dairies with UHT products. In certain lines, we compete with Dean Foods Co., a national dairy products producer.
U.S. The Potato Products Division has a leading market share in refrigerated potato products sold in the United States foodservice andDivision’s major retail markets, where competitors are generally smaller, local or regional companies. One refrigerated potato products competitor,Unilever N. V. (Shedd’s Country Crock Side Dishes) and Reser’s Fine Foods Inc., has a national presence.producer of refrigerated products. Other competitors include Bob Evans Farms Inc. and smaller local and regional processors, including I&K Distributors, Inc. (Yoder’s) and Naturally Potatoes in the foodservice sector. Certain companies, in the frozen potato products business, such as Ore-Ida Foods, Inc. (a subsidiary of H. J. Heinz Co.) and Lamb-Weston, Inc. (a subsidiary of ConAgra Foods, Inc.), also sell frozen versions of potato products which are sold by the Division in refrigerated form.
PROPRIETARY TECHNOLOGIES AND TRADEMARKS
Proprietary Technologies and Trademarks
We use a combination of patents, trademarkspatent, trademark and trade secrets laws to protect the intellectual property for our products. We own proprietary patents and we have exclusive license agreements for several patents and technologies. In 1988, we entered intoobtained an exclusive license agreement to use patented processes developed and owned by North Carolina State University involving the ultra-pasteurizationultrapasteurization of liquid eggs. TheFour of the five patents licensed to us under this agreement expire between 2006 and 2010. Our license to use these patents will continue until the expiration of the patents. This patented processexpired in 2006. The technology produces liquid eggs that are salmonella and listeria-negative, as defined by federal law, and extendextends the shelf-life of liquid eggs from less than two weeks to over ten weeks.
We also own an exclusive license to use a patented process, owned and developed by the University of Missouri, to eliminate salmonella from shell eggs. This patent expiresThe licensed patents are set to expire in 2016.2014. Our license to use this patentthese patents will continue until the expiration of the patent.patents. We currently use this technology for processing in-shell pasteurized eggs sold through our refrigerated distribution division.Refrigerated Distribution Division. We also have acquired licenses to other patents and technology from other third parties, including the University of Nebraska.
We believe that certain of our competitors infringe upon some of our patents and the patents licensed to us. Along with North Carolina State University, we have initiatedInfringement litigation against several processors of competing liquid egg products claiming infringement of the original and subsequent related process and product patents licensed to us by North Carolina State Universityactions with respect to ultra-pasteurized liquidour egg production. In 1992, a juryultrapasteurization license agreement were settled in recent years with three egg processors—Nulaid Foods Inc., Rose Acre Farms and Cutler Egg Products (now owned by Golden Oval Eggs, LLC). Each party agreed that the United States District Court for the Middle District of Florida found the original patent to bepatents were valid and that a processor, Bartow Food Co., willfullyenforceable, and deliberately infringed onethey operated under sublicense agreements through the summer of the patents. In another action, the United States District Court for the District of New Jersey found in 1992 and 1993 that Papetti’s had infringed certain of2006, when the patents and that the licensed patents are valid and enforceable. In 1994, the United States Court of Appeals for the Federal Circuit upheld this judgment. In 1993, Nulaid Foods, Inc. sought a declaratory judgment that the licensed patents are invalid. This action was subsequently settled and, in 2000, Nulaid Foods conceded the validity and enforceability of the patents, as wellexpired.
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as their past infringement of the patents. Nulaid Foods is currently using the patented process by operating under a sublicense agreement. In 1996, reissue and reexamination proceedings were initiated by us and our competitors with the U.S. Patent and Trademark Office, or PTO, seeking to determine the scope and validity of some of the patents that we license from North Carolina State University. The PTO ruled that the claims in the licensed patents are valid and in full force and effect. In 2000, Sunny Fresh Foods, Inc., a division of Cargill, Inc., filed an action seeking declaratory judgment that Sunny Fresh Foods does not infringe upon the licensed patents and that the licensed patents are invalid. We have filed a counter claim alleging that Sunny Fresh Foods has infringed the patents. For more information, see Item 3—Legal Proceedings.
Although we actively pursue patent infringement litigation, we do not believe that the expiration of these patents will have a material adverse affect on our business or market share within these product segments because of our strong market position, combined with the fact that we believe our largest competitor is currently infringing on these patents.
The Egg Products Division maintains numerous trademarks and/or trade names for its products, including “Logan Valley,“Michael Foods,” “Wakefield,“Better ‘n Eggs,” “Sunny Side Up,“All Whites,” “Michael Foods,“Papetti’s,” “Deep Chill,” “MGW,” “Simply Eggs Brand,” “Better `n Eggs,” “All Whites,” “Chef’s Omelet Brand,” “Express Eggs,” “Quaker“Quaker State Farms,” “Broke“Broke N’ Ready,” “Canadian“Canadian Inovatech,” “Centromay” (trademark pending)“Centromay, “Centrova,” “Emulsa,“Emulsa,” and “Inovatech.“Inovatech.” Ultra-pasteurizedUltrapasteurized liquid eggs are marketed using the “Easy“Easy Eggs” “Table Ready,trade name. Refrigerated Distribution Division products are marketed principally under the “Crystal Farms” and “Excelle” trade names.name. Other Refrigerated Distribution Division trademarks include“Crescent Valley, “Westfield Farms”,and “David’s Deli.”
Within the Potato Products Division, Northern Star Co. markets itswe market our refrigerated potato products to foodservice customers under a variety of brands, including “Northern“Northern Star” “Farm Fresh” and “Quality Farms.“Farm Fresh.” The “Simply Potatoes”“Simply Potatoes” and “Diner’s Choice”“Diner’s Choice” brands are used for retail refrigerated products.
Food Safety
We believe that we take extensive precautions to ensure the safety of our products. In addition to routine inspections by state and federal regulatory agencies, including continuous United States Department of Agriculture (“USDA”) inspection of many facilities, we have instituted quality systems plans in each of our divisions which address topics such as supplier
Refrigerated Distribution Division products are marketed principally under the “Crystal Farms” trade name. The Dairy5
control, ingredient, packaging and product specifications, preventive maintenance, pest control and sanitation. Each of our facilities also has in place a hazard analysis critical control points plan which identifies critical pathways through which contaminants may enter our facilities and mandates control measures that must be used to prevent, eliminate or reduce all relevant food borne hazards. For example, at our Egg Products Division does not have significant trade names.facilities, sanitization steps are in place to eliminate the risk of microbial contamination of our employees entering certain facilities, including the use of foot baths to reduce the risk of product contamination. Each of our divisions has also instituted a product recall plan, including lot identifiability and traceability measures, that allows us to act quickly to reduce the risk of consumption of any product which we suspect may be a problem.
In December 2004, our Potato Products Division initiated a voluntary recall of certain hash brown potato products sold in the retail market. In February 2005, the recall matter, as it pertains to federal regulatory oversight, was closed. The financial impact of this recall was immaterial.
GOVERNMENT REGULATIONWe maintain general liability insurance, which includes product liability coverage, which we believe to be sufficient to cover potential product liabilities.
Government Regulation
All of our divisions are subject to federal, state and local government regulations relating to grading, quality control, product branding and labeling, waste disposal and other aspects of their operations. Our divisions are also subject to USDA and FDAFood and Drug Administration (“FDA”) regulation regarding grading, quality, labeling and sanitary control. The processing plants of ourOur Egg Products Division processing plants that break eggs, and some of our other egg processing operations, are subject to continuous on-site USDA inspection. All of our other processing plants are subject to periodic inspections by the USDA, FDA and state regulatory authorities.
Crystal Farms’Farms cheese and butter products and the Dairy Products Division’s various dairy products are affected by milk price supports established by the USDA. The support price serves as an artificial minimum price for these products, which may not be indicative of market conditions that would prevail if suchthese supports were abolished.
A substantial portion of the egg production operations of our Egg Products Division are located in the State of Nebraska. With certain exceptions, a provision of the Nebraska constitution generally prohibits corporations from engaging in farming or ranching in Nebraska. Although the constitutional provision contains an exemption for agricultural land operated by a corporation for the purpose of raising poultry, the Nebraska Attorney General has, in written opinions, taken the position that facilities devoted primarily to the production of eggs do not fall within such exemption and therefore are subject to the restrictions contained in the constitutional provision. We believe that our egg
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production facilities in Nebraska are part of integrated facilities for the production, processing and distribution of egg products, and therefore, that any agricultural land presently owned by us in Nebraska is being used for non-farming and non-ranching purposes.
The constitution empowers the Nebraska Attorney General, or if the Attorney General fails to act, a Nebraska citizen, to obtain a court order to, among other things, force a divestiture of land held in violation of this constitutional provision. If land subject to such a court order is not divested within a two-year period, the constitutional provision directs the court to declare the land escheated, or forfeited, to the State of Nebraska. We are not aware of any proceedings under this approximately 75 year-old constitutional provision pending or threatened against us or any other companies engaging in farming or ranching activities in Nebraska. We believe that we have adequate contingency arrangements in place in the event a determination is made that we engage in farming and/or ranching activities proscribed by the Nebraska constitution. Until the scope of such provision has been clarified by further judicial, legislative, or executive action, there can be no assurance as to the effect, if any, that it may have on our Egg Products Division.
ENVIRONMENTAL REGULATION
We are subject to federal state and localstate environmental regulations and requirements, including those governing discharges to air and water, the management of hazardous substances, the disposal of solid and hazardous wastes, and the remediation of contamination.
We use Our environmental management and compliance programs are led by our Director of Environmental Engineering. Additionally, we have an ongoing relationship with an environmental consulting firm, to help us comply with environmental requirements. In addition,and we use other consultants as may be required. As a review was conducted by independent environmental consultants in connection with the Merger, and, as a result of our efforts, we believe we are currently in material compliance with all environmental regulations and requirements. Nonetheless, as
We have made, and will continue to make, expenditures to ensure environmental compliance. For example, in recent years, we have upgraded the wastewater treatment system at our Klingerstown, Pennsylvania facility, we have paid for construction of a wastewater treatment facility in Lenox, Iowa, and we have updated the wastewater system at our egg production facility in Bloomfield, Nebraska. Additionally, in 2005 we committed to constructing a new mechanical wastewater treatment facility in Wakefield, Nebraska and completed a financing with the City of Wakefield in 2005 to allow us to do so. We recently received lender approval to complete a related financing, which will address an increase in the project’s cost and which should be completed in mid-2007. The facility is the case with any business, if we do not fully comply with environmental regulations, or if a release of hazardous substances occurs at or from one of our facilities, we mayunder construction and is to be subject to penalties and/or held liable for the cost of remedying the condition.
operational in late 2007. For further information on Nebraska matters, please see Item 3.
Many of our facilities discharge wastewater pursuant to wastewater discharge permits. We dispose of our waste from our internal egg production primarily by providing it to farmers for use as fertilizer. We dispose of our solid waste from potato processing by selling the waste to a processor who converts it to animal feed.
We have made, and will continue to make, expenditures to maintain our compliance with environmental requirements. We have upgraded the wastewater treatment system at our Klingerstown, Pennsylvania facility and agreed to pay the city of Lenox, Iowa the cost to construct and operate a wastewater treatment plant used by our facility located there. We believe that these expenditures will reduce the risk of wastewater violations at these facilities. In addition, we updated our wastewater treatment system at our egg production facility in Bloomfield, Nebraska in 2002. Assessments of our wastewater treatment systems at the Egg Products Division’s facility in Gaylord, Minnesota and the Dairy Products Division’s facility in White Bear Lake, Minnesota are also underway. We may elect to upgrade the wastewater controls at these facilities or we may be required to upgrade such
8
controls at these or other facilities in the future. However, we do not anticipate making any material capital expenditures for environmental controls for the foreseeable future.
EMPLOYEES
At December 31, 2002,2006, we had approximately 4,3713,875 employees. Of this total, theThe Egg Products Division employed approximately 2,9752,512 full-time and 252250 part-time employees, with 17none of these employeeswhom are represented by the Teamsters Union.a union. The Potato Products Division employed approximately 262267 persons, approximately 180199 of whichwhom were represented by the Bakery, Laundry, Allied Sales Drivers and Warehousemen Union, which is affiliated with the Teamsters. The Dairy Products Division employed approximately 292 people, approximately 92 of which were represented by the Milk Drivers and Dairy Employees Union. The Refrigerated Distribution Division employed approximately 450437 employees, none of whom are represented by a union. The Michael FoodsOur corporate, sales, distribution and customer service and information systems groups collectively employed approximately 140 peoplehad 409 employees at December 31, 2002.2006. We believe our employee relations to be good.
EXECUTIVE OFFICERS OF THE REGISTRANT6
Executive Officers of the Registrant
See Item 10 — 10—Directors and Executive Officers of the Registrant.
ITEM 1A—RISK FACTORS
ITEM 2 – PROPERTIESOur operating results are significantly affected by egg, potato and cheese market prices and the prices of other raw materials, such as grain, which can fluctuate widely.
Our operating results are affected by egg, potato and cheese prices and the prices of corn and soybean meal, which are the primary feedstock used in the production of eggs. Historically, the prices of these raw materials have fluctuated widely. Changes in the price of such items may have a material adverse effect on our business, prospects, and results of operations or financial condition. In general, the pricing of eggs is affected by an inelasticity of supply and demand, resulting often times in small changes in production or demand having a large effect on prices. Historically, our operating profit has been, at times, adversely affected when egg and grain prices rise significantly. In addition, our operating profit has historically been negatively affected during extended periods of low egg prices. We also can experience similar negative effects on our results of operations because of increases in the price of potatoes and cheese. Although we can take steps to mitigate the effects of changes to our raw material costs, fluctuations in prices are outside of our control. For example, the price of corn has nearly doubled since the summer of 2006, due mainly to significant incremental demand from ethanol producers. It is unclear if we can adjust our egg products selling prices rapidly, and extensively, enough to offset this significant raw material cost increase.
We produce and distribute food products that are susceptible to microbial contamination.
Many of our food products, particularly egg products, are vulnerable to contamination by disease producing organisms, or pathogens, contained in food, such asSalmonella, which are found in the environment. Shipment of adulterated products, even if inadvertent, is a violation of law and may lead to an increased risk of exposure to product liability claims (as discussed below), product recalls and increased scrutiny by federal and state regulatory agencies. Any shipment of adulterated products may have a material adverse effect on our reputation, business, prospects, results of operations and financial condition. The risk may be controlled, but not eliminated, by adherence to good manufacturing practices and finished product testing. Also, products purchased from others for repacking or distribution may contain contaminants that may be inadvertently redistributed by us. Once contaminated products have been shipped for distribution, illness and death may result if the pathogens are not eliminated by processing at the foodservice or consumer level.
As a result of selling food products, we face the risk of exposure to product liability claims.
We face the risk of exposure to product liability claims and adverse public relations in the event that our quality control procedures fail and the consumption of our products cause injury or illness. If a product liability claim is successful, our insurance may not be adequate to cover all liabilities we may incur, and we may not be able to continue to maintain such insurance, or obtain comparable insurance at a reasonable cost, if at all. We generally seek contractual indemnification and insurance coverage from parties supplying us products, but this indemnification or insurance coverage is limited by the creditworthiness of the indemnifying party, and their insurance carriers, if any, as well as the insured limits of any insurance provided by suppliers. If we do not have adequate insurance or contractual indemnification available, product liability claims relating to defective products could have a material adverse effect on our business reputation and earnings. In addition, even if a product liability claim is not successful or is not fully pursued, the negative publicity surrounding any assertion that our products caused illness or injury could have a material adverse effect on our reputation with existing and potential customers and on our business, prospects, results of operations and financial condition.
A decline in egg consumption or in the consumption of processed food products could have a material adverse effect on our net sales and results of operations.
Adverse publicity relating to health concerns and the nutritional value of eggs and egg products could adversely affect egg consumption and consequently demand for our processed egg products, which could have a material adverse effect on our business, prospects, and results of operations or financial condition. In addition, as almost all of our operations consist of the production and distribution of processed food products, a change in consumer preferences relating to processed food products or in consumer perceptions regarding the nutritional value of processed food products could adversely affect demand, which would have a material adverse effect on our business, prospects, results of operations, liquidity and financial condition.
FACILITIES7
The categories of the food industry in which we operate are highly competitive, and our inability to compete successfully could adversely affect our business, prospects, results of operations and financial condition.
Competition in each of the categories of the food industry within which we operate is notable. Increased competition against any of our products could result in price reduction, reduced margins and loss of market share, which could negatively affect our business, prospects, results of operations and financial condition. In particular, we compete with major companies such as Cargill, Kraft Foods, Inc., Unilever N. V. and ConAgra Foods, Inc. Each of these companies has substantially greater financial resources, name recognition, research and development, marketing and human resources than we have. In addition, our competitors may succeed in developing new or enhanced products which could be superior to our products. These companies may also prove to be more successful than we are in marketing and selling these products. We may not be able to compete successfully with any or all of these companies.
Our largest customers have historically accounted for a significant portion of our net sales volume. Accordingly, our business may be adversely affected by the loss of, or reduced purchases by, one or more of our large customers.
Our largest customers have historically accounted for a significant portion of the net sales volume of each of our three divisions. If, for any reason, one of our key customers were to purchase significantly less of our products in the future or were to terminate its purchases from us altogether, and we are not able to sell our products to new customers at comparable or greater levels, our business, prospects, financial condition and results of operations may be materially adversely effected.
Patents and trademarks have historically been important to our business. The loss or expiration of a patent, whether licensed or owned, or the loss of any trademark could negatively impact our ability to produce and sell the products associated with such patent or trademark, which could have a material adverse effect on our sales volume and net income.
We utilize patents, trademarks, trade secrets and other intellectual property in our business, the loss or expiration of which could negatively impact our ability to produce and sell the associated products, which could have a material adverse effect on our results of operations. In 1988, we obtained an exclusive license to use patented processes developed and owned by North Carolina State University for the ultrapasteurization of liquid eggs. The patents under this license expired in 2006. We use the previously patented technology in the production of extended shelf-life liquid egg products. We have competitors in the extended shelf-life liquid egg market, plus parties to whom we had granted sublicenses to, and we believe additional parties may begin to produce and market processed egg products that are similar to ours because of the patents’ expiration. Such an increase in competitive activity would be expected to negatively affect selling prices, and margins, for certain higher value-added egg products.
We also own many registered and unregistered trademarks that are used in the marketing and sale of our products. We have invested a substantial amount of money in promoting our trademarked brands. However, the degree of protection that these trademarks afford us is uncertain.
Government regulation could increase our costs of production and increase our legal and regulatory expenses.
Our manufacturing, processing, packaging, storage, distribution and labeling of food products are subject to extensive federal, state and local regulation, including regulation by the FDA, the USDA, and various state and local health and agricultural agencies. Some of our facilities are subject to continuous on-site inspections. Applicable statutes and regulations governing food products include rules for identifying the content of specific types of foods, the nutritional value of that food and its serving size. Many jurisdictions also provide that food manufacturers adhere to good manufacturing practices (the definition of which may vary by jurisdiction) with respect to production processes, which include proper personal hygiene, wearing and proper handling of company-issued uniforms and footwear, using footbaths, proper hand washing procedures, proper storage of equipment, not wearing jewelry, not eating or drinking in production areas, and not carrying objects above the waist so as to prevent anything from falling into our products. In addition, our production and distribution facilities are subject to various federal, state and local environmental and workplace regulations. Failure to comply with all applicable laws and regulations could subject us to civil remedies, including fines, injunctions, recalls or seizures, and criminal sanctions, which could have a material adverse effect on our business, financial condition and results of operations. Furthermore, compliance with current or future laws or regulations could require us to make material expenditures or otherwise adversely affect the way we operate our business, our prospects, results of operations and financial condition.
We may incur unexpected costs associated with compliance with environmental regulations.
We are subject to federal, state, and local environmental requirements, including those governing discharges to air and water, the management of hazardous substances, the disposal of solid and hazardous wastes, and the remediation of contamination. If we do not fully comply with environmental regulations, or if a release of hazardous substances occurs at or from one of our facilities, we may be subject to penalties and fines, and/or be held liable for the cost of remedying the
CORPORATE.8
condition. The operational and financial effects associated with compliance with the variety of environmental regulations we are subject to could require us to make material expenditures or otherwise adversely affect the way we operate our business and our prospects, results of operations and financial condition. To address wastewater issues at our Wakefield, Nebraska location, we are constructing an approximate $16 million mechanical treatment plant, which is to be operational in late 2007. The financing to build and equip the plant was secured via the City of Wakefield. However, this debt is guaranteed by us.
Extreme weather conditions, disease (such as avian influenza) and pests could harm our business.
Many of our business activities are subject to a variety of agricultural risks. Unusual weather conditions, disease and pests can materially and adversely affect the quality and quantity of the food products we produce and distribute. In particular, avian influenza occasionally affects the domestic poultry industry, leading to hen deaths. A virulent form of avian influenza has emerged in Southeast Asia over the past several years and has spread elsewhere in the Eastern Hemisphere in the past two years. It has caused deaths in wild bird populations and, in limited instances, domesticated chicken and turkey flocks. It has also been linked to illness and death among some persons who have been in contact with diseased fowl. It is not clear if this form of avian influenza will manifest itself in North America, or if sheltered flocks, such as ours, have significant exposure risk. However, to protect against this risk, we have intensified biosecurity measures at our layer locations. Weather, disease and pest matters could affect a substantial portion of our production facilities in any year and could have a material adverse effect on our business, prospects, and results of operations or financial condition.
ITEM 1B—UNRESOLVED STAFF COMMENTS
Not applicable.
9
ITEM 2—PROPERTIES
FACILITIES
Corporate. We maintain leased space for our corporate headquarters in suburban Minneapolis, Minnesota. Leased space within the same building houses the headquarters, financial and administrative servicesservice staffs of the Egg Products Potato Products and DairyPotato Products divisions, as well as our customer service, distribution, sales, marketing and information services groups. We relocated all such staffs to our present locationThis lease expires in mid-2002 in order to enhance work flow2012 and communications among our foodservice businesses.the annual base rent is approximately $776,000.
EGG PRODUCTS DIVISION.Egg Products Division. The following table summarizes information relating to the primary facilities of our Egg Products Division:egg products division:
Location | Principal Use | Size (square feet) | Owned/Leased | Lease Expiration | Annual Payments | ||||||
Elizabeth, New Jersey (a) | Processing | 75,000 | Leased | 2012 | $ | 583,000 | |||||
Elizabeth, New Jersey (a) | Processing | 125,000 | Leased | 2012 | 911,000 | ||||||
Bloomfield, Nebraska | Processing | 80,000 | Owned | — | — | ||||||
LeSueur, Minnesota | Processing | 29,000 | Owned | — | — | ||||||
Wakefield, Nebraska | Processing | 380,000 | Owned | — | — | ||||||
Klingerstown, Pennsylvania (b) | Processing and Distribution | 158,000 | Leased | 2017 | 675,000 | ||||||
Lenox, Iowa | Processing and Distribution | 151,000 | Owned | — | — | ||||||
Gaylord, Minnesota | Processing and Distribution | 230,000 | Owned | — | — | ||||||
Elizabeth, New Jersey (a) | Distribution | 80,000 | Leased | 2012 | 648,000 | ||||||
Bloomfield, Nebraska | Egg Production | 619,000 | Owned | — | — | ||||||
Wakefield, Nebraska | Egg Production | 658,000 | Owned | — | — | ||||||
LeSueur, Minnesota | Egg Production | 345,000 | Owned | — | — | ||||||
Gaylord, Minnesota | Egg Production | 349,000 | Owned | — | — | ||||||
Gaylord, Minnesota | Pullet Houses | 130,000 | Owned | — | — | ||||||
Wakefield, Nebraska | Pullet Houses | 432,000 | Owned | — | — | ||||||
Plainview, Nebraska | Pullet Houses | 112,000 | Owned | — | — | ||||||
Winnipeg, Manitoba (c) | Processing | 102,000 | Capital Lease | 2012 | 470,000 | ||||||
Winnipeg, Manitoba | Processing | 32,000 | Leased | 2013 | 118,000 | ||||||
St. Mary’s, Ontario (c) | Processing | 42,000 | Capital Lease | 2012 | 266,000 | ||||||
Mississauga, Ontario (c) | Distribution | 8,000 | Leased | 2009 | 66,000 | ||||||
Abbotsford, British Columbia (d) | Sales Office | 2,000 | Leased | 2007 | 8,000 |
| There is a five year extension available on these leases. |
(b) |
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(c) | There are four five year extensions available on these leases. The St. Marys, Ontario plant is to be closed as of March 31, 2007. See Note G to the consolidated financial statements. |
(d) |
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910
The Egg Products Division also owns or leases, primarily for egg production operations, approximately 1,600 acres of land in Nebraska and Minnesota.
POTATO PRODUCTS DIVISION.Potato Products Division. The Potato Products Division owns a processing plant and land located in Minneapolis, Minnesota, consisting of approximately 175,000 square feet of production area. TheThis division leases a building in North Las Vegas, Nevada, consisting of approximately 31,000 square feet.
DAIRY PRODUCTS DIVISION. This lease expires in 2011 and we have the option to extend the lease for two successive five year periods. The Dairy Products Division’s facilities in White Bear Lake, Minnesota, consist of three owned buildings, with the main plant containing approximately 95,000 square feet. It also leases a dairy plant in Sulphur Springs, Texas, whichannual payment amount on this lease is approximately 40,000 square feet, and a dairy plant in Newington, Connecticut, which is approximately 70,000 square feet.$352,000.
REFRIGERATED DISTRIBUTION DIVISION.Refrigerated Distribution Division. The Refrigerated Distribution Division leases administrative and sales offices in suburban Minneapolis and several small warehouses across the United States. ItThe leases expire between 2007 and 2011. The administrative and sales office lease may be extended at our option for five years. The annual base rent for all of the leases is approximately $312,000. The Division owns a distribution center located near LeSueur, Minnesota, which is approximately 33,000 square feet. The refrigerated distribution divisionDivision also owns and operates a 48,200an 85,000 square foot refrigerated warehouse with offices and a 19,00030,000 square foot cheese packaging facility on a 19 acre13-acre site in Lake Mills, Wisconsin.
The total annual base rent oflease payments for the facilities described above is approximately $7$5.1 million. The leases for these facilities have varying length terms ranging from month-to-month to 2017. We believe that our owned and leased facilities, together with budgeted capital projects in each of our fourthree operating divisions, are adequate to meet anticipated requirements for our current lines of business for the foreseeable future. All of our owned property serves as collateral under the termsis pledged to secure repayment of our senior credit agreement.facility.
For additional information on contractual obligations relating to operating leases see “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.”
ITEM 3 – 3—LEGAL PROCEEDINGS
Four patentsIn May 2004, the U.S. Environmental Protection Agency (“EPA”) issued “Findings of Violation and Order for ultrapasteurizing liquid eggs licensed to us by North Carolina State University were involved in proceedings before the PTO. In 1996, an examiner rejected certain claims under these patents as a result of challenges from competitors. We and North Carolina State University appealed this rejectionCompliance” to the PTO’s BoardCompany in connection with its discharge of Patent Appealswastewater to the municipal treatment facility in Wakefield, Nebraska (“City”). The findings alleged that wastewater from the Wakefield egg processing operations caused interference or process upset at the City’s facility. EPA ordered the Company to identify interim measures and Interferences.a long-term proposal for addressing the issues that it had identified. In September 1999,June 2004, the PTO Board reversedCompany provided EPA with a proposal for improving the examiner’s rejection ofWakefield facility’s performance and compliance, and supplemented the claims made under the patents. As a result of these proceedings, process claims of all four patents continue to be validproposal in August 2004. Concurrently, and in full forceconnection with the same matter, the Nebraska Department of Environmental Quality (“NDEQ”) issued two enforcement documents:
(a) In June 2004, NDEQ issued a Notice of Violation alleging that Company wastewater had contributed to upset, interference and effect. Also,pass-through at the fourth patentCity’s wastewater treatment facility. We responded to the Notice of Violation in August 2004.
(b) In June 2004, NDEQ issued a Complaint and Notice for Opportunity for Hearing alleging that Company wastewater was reissued in 2001causing interference or process upset at our pretreatment facility. In October 2004, the Company entered into an Administrative Consent Order with NDEQ under which it agreed to include product claims.
land-apply certain egg solids rather than sending them to the City’s wastewater treatment facility.
In September 2000, Sunny Fresh Foods, Inc., a division of Cargill Inc., filed a declaratory judgment action inearly 2006, the United States District CourtDepartment of Justice notified us and the City that it intended to seek civil penalties and injunctive relief for the Districtviolation of Minnesota requesting the adjudication of the unenforceability and invalidity of those patents exclusively licensed to us by North Carolina State University. We have filed a counter-claim against Sunny Fresh Foods, claiming willful
10
infringement by Sunny Fresh Foods of these patents. This litigation is on-going and is expected to go to trial in June 2003.
Macartney Farms, a Canadian company that formerly distributed our egg productsvarious environmental laws relating to the Canadian market, has filedabove matters and other issues. A series of meetings were held during 2006 with the Department of Justice, EPA, NDEQ and the Nebraska attorney general. In early 2007, a complaint against us seeking damagessettlement among the parties was announced, under which we agreed to pay a $1,050,000 civil penalty, agreed to take certain environmentally proactive measures, and asserting wrongful terminationagreed to a specific schedule for completing construction of its alleged exclusive marketing and distribution rights of Easy Eggs, intentional interference with economic relations, breach of fiduciary duty and recoupment of monies invested for the benefit of Michael Foods. Macartney also seeks an injunction against Michael Foods from soliciting Macartney’s customers. The litigation, which is pendinga mechanical wastewater treatment facility in the Ontario Superior Court in Ottawa, is on-going and is expected to reach trial this fall.
City that we had previously voluntarily undertaken.
In addition, we are from time to time party to other litigation, administrative proceedings and union grievances that arise in the ordinary course of our business. We do not havebusiness, and occasionally pay small penalties to resolve alleged minor violations of regulatory requirements. There is no pending any litigation that, separately or in the aggregate, would in ourthe opinion of management have a material adverse effect on our results of operations liquidity, or financial condition.
ITEM 4 – 4—SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
11
PART II
ITEM 5 – 5—MARKET FOR REGISTRANT’S COMMON EQUITY, AND RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
None. As a result of the Merger, our stock ceased to be publicly traded.
(a) | Our common equity is not traded in any market. We had one holder of our common equity as of March 15, 2007. No securities are authorized for issuance under equity compensation plans. No unregistered sales of securities were made during 2006. |
(b) | Not applicable. |
(c) | Not applicable. |
ITEM 6 – 6—SELECTED FINANCIAL DATA
The following table sets forth selected consolidated historical financial data with respect to the Company and the Predecessor. The data presented below has beenwas derived from the Company’s and the Predecessor’s Consolidated Financial Statements. Due to the Merger, which was accounted for as a purchase, different bases of accounting have been used to prepare the Company and Predecessor Consolidated Financial Statements. The Merger resulted in additional interest expense for new debt incurred and higher depreciation and amortization of fixed assetsproperty, plant and equipment and other intangible assets recorded. The accompanying Predecessor Balance Sheet and Statements of Operations data as of and for the three months ended March 31, 2001, and for the years ended December 31, 2000, 1999 and 1998 were prepared from the historical books and records of the Predecessor. Such dataThis information should be read in conjunction with the Company’s Consolidated Financial Statements and Notes thereto included elsewhere herein and Item 7 – 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations.
11
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| COMPANY |
| PREDECESSOR |
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| YEAR ENDED 2002 |
| NINE MONTHS |
| THREE MONTHS |
| YEARS ENDED DECEMBER 31, |
| COMPANY | PREDECESSOR | |||||||||||||||||||||||||||||||
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| 2000 |
| 1999 |
| 1998 |
| Year Ended December 31, 2006 | Year Ended December 31, 2005 | Year Ended December 31, 2004 | One Month Ended December 31, 2003 | Eleven Months Ended November 30, 2003 | Year Ended December 31, 2002 | |||||||||||||||||||||||||||||
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STATEMENT OF OPERATIONS DATA |
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(In Thousands) | ||||||||||||||||||||||||||||||||||||||||||
Statement of Operations Data | ||||||||||||||||||||||||||||||||||||||||||
Net sales |
| $ | 1,168,160 |
| $ | 885,642 |
| $ | 275,627 |
| $ | 1,080,601 |
| $ | 1,053,272 |
| $ | 1,020,484 |
| $ | 1,247,348 | $ | 1,242,498 | $ | 1,313,504 | $ | 140,806 | $ | 1,184,357 | $ | 1,168,160 | |||||||||||
Cost of sales |
| 953,333 |
| 734,008 |
| 227,707 |
| 889,138 |
| 860,256 |
| 847,383 |
| 1,016,832 | 1,005,418 | 1,077,126 | 121,442 | 973,004 | 953,333 | |||||||||||||||||||||||
Gross profit |
| 214,827 |
| 151,634 |
| 47,920 |
| 191,463 |
| 193,016 |
| 173,101 |
| 230,516 | 237,080 | 236,378 | 19,364 | 211,353 | 214,827 | |||||||||||||||||||||||
Selling, general and administrative expenses |
| 116,444 |
| 87,484 |
| 27,376 |
| 104,657 |
| 106,686 |
| 93,548 |
| 133,287 | 130,833 | 137,798 | 14,676 | 105,857 | 116,577 | |||||||||||||||||||||||
Transaction expenses |
| — |
| — |
| 11,050 |
| — |
| — |
| — |
| — | — | 340 | 7,121 | 15,377 | — | |||||||||||||||||||||||
Operating profit |
| 98,383 |
| 64,150 |
| 9,494 |
| 86,806 |
| 86,330 |
| 79,553 |
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Interest expense |
| 50,179 |
| 42,335 |
| 3,293 |
| 13,206 |
| 11,664 |
| 10,136 |
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Earnings before other expense and income taxes |
| 48,204 |
| 21,815 |
| 6,201 |
| 73,600 |
| 74,666 |
| 69,417 |
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Other expense |
| — |
| — |
| 15,513 |
| — |
| — |
| — |
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Earnings (loss) before income taxes |
| 48,204 |
| 21,815 |
| (9,312 | ) | 73,600 |
| 74,666 |
| 69,417 |
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Income tax expense |
| 18,543 |
| 12,000 |
| (3,659 | ) | 28,890 |
| 30,610 |
| 29,160 |
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Plant closing expenses | 3,139 | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
Operating profit (loss) | 94,090 | 106,247 | 98,240 | (2,433 | ) | 90,119 | 98,250 | |||||||||||||||||||||||||||||||||||
Interest expense, net | 55,928 | 47,119 | 43,285 | 4,932 | 41,670 | 50,179 | ||||||||||||||||||||||||||||||||||||
Loss on early extinguishment of debt | — | 5,548 | — | — | 61,226 | — | ||||||||||||||||||||||||||||||||||||
Loss on Dairy disposition | — | — | — | — | 16,288 | — | ||||||||||||||||||||||||||||||||||||
Earnings (loss) before income taxes and equity in (losses) earnings of unconsolidated subsidiary | 38,162 | 53,580 | 54,955 | (7,365 | ) | (29,065 | ) | 48,071 | ||||||||||||||||||||||||||||||||||
Income tax expense (benefit) | 16,294 | 14,266 | 20,981 | (2,836 | ) | (11,397 | ) | 18,543 | ||||||||||||||||||||||||||||||||||
Earnings (loss) before equity in (losses) earnings of unconsolidated subsidiary | 21,868 | 39,314 | 33,974 | (4,529 | ) | (17,668 | ) | 29,528 | ||||||||||||||||||||||||||||||||||
Equity in (losses) earnings of unconsolidated subsidiary | (2,713 | ) | (455 | ) | (460 | ) | — | (482 | ) | 133 | ||||||||||||||||||||||||||||||||
Net earnings (loss) |
| $ | 29,661 |
| $ | 9,815 |
| $ | (5,653 | ) | $ | 44,710 |
| $ | 44,056 |
| $ | 40,257 |
| $ | 19,155 | $ | 38,859 | $ | 33,514 | $ | (4,529 | ) | $ | (18,150 | ) | $ | 29,661 | |||||||||
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AT PERIOD END BALANCE SHEET DATA |
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At Period End Balance Sheet Data | ||||||||||||||||||||||||||||||||||||||||||
Working capital |
| $ | 59,145 |
| $ | 65,477 |
| $ | 73,459 |
| $ | 78,628 |
| $ | 51,764 |
| $ | 61,297 |
| $ | 78,358 | $ | 79,923 | $ | 60,544 | $ | 108,876 | $ | 118,750 | $ | 59,145 | |||||||||||
Total assets |
| 893,022 |
| 897,133 |
| 619,721 |
| 612,904 |
| 597,917 |
| 551,516 |
| 1,263,763 | 1,333,576 | 1,341,555 | 1,416,682 | 844,635 | 893,022 | |||||||||||||||||||||||
Long-term debt, including current maturities |
| 511,389 |
| 553,094 |
| 192,200 |
| 198,809 |
| 178,534 |
| 166,107 |
| 645,794 | 709,723 | 750,783 | 790,076 | 307,998 | 511,389 | |||||||||||||||||||||||
Shareholder’s equity |
| 179,326 |
| 152,990 |
| 257,151 |
| 258,733 |
| 264,599 |
| 244,149 |
| 324,794 | 304,015 | 257,393 | 287,538 | 256,384 | 179,326 |
12
ITEM 7 – 7—MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE COMPANY’S CONSOLIDATED FINANCIAL STATEMENTS AND THE NOTES TO THOSE STATEMENTS APPEARING ELSEWHERE IN THIS FORM 10-K. THIS DISCUSSION CONTAINSMAY CONTAIN FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE INDICATED IN FORWARD-LOOKING STATEMENTS. SEE ITEM“ITEM 1—BUSINESS – FORWARD–LOOKINGBUSINESS—FORWARD-LOOKING STATEMENTS.”
General
GENERAL
Overview. We are a diversifiedleading producer and distributor of specialty egg potato and dairyrefrigerated potato products to the foodservice, retail and industrialfood ingredient markets. We also distribute refrigerated groceryfood items, primarily cheese and other dairy products, to the retail grocery market predominantly in the central United States. We focus our growth efforts on the specialty segments within our food categories and strive to be a market leader in product innovation and low-cost production. Our strategic focus on value-added processing of food products is designed to capitalize on key food industry trends, such as the desire for improved safety and convenience, reduced labor and waste, and growth of food consumption away from home. We believe our operational scale, product breadth and geographic scope make us an attractive and important strategic partner for our customers, which include foodservice distributors, major restaurant chains and food ingredient companies.
Capital Expenditures. From 1998 through 2006, we invested approximately $341 million in capital expenditures, excluding capital expenditures made in the Dairy Products Division, which was sold in late 2003. More than half of this cumulative amount was used for growth investments to expand our manufacturing capacity for value-added egg products, to upgrade our potato products operations, to improve and expand our distribution centers, to install a new company-wide management information system and to otherwise position ourselves for future growth. These expenditures included the installation of new precooked egg production lines, a new dried egg facility, automated packaging machines and quality control systems. We expect these investments to improve manufacturing efficiencies, customer service and product quality. The remainder of capital spending over the past nine years was on routine major equipment and facilities betterment activities, and rolling stock upgrades.
Acquisitions/Joint Ventures. We have grown both organically and through acquisitions. Since 1988, we have completed 17 acquisitions and three joint ventures, including the $106 million acquisition of Papetti’s in 1997. The acquisition of Papetti’s significantly increased our Egg Products Division’s market share, scale, geographic scope and product offerings. We have focused in recent years on making small acquisitions that expand our current product offerings and/or geographic scope and broaden our technological expertise. We continue to evaluate potential acquisitions and acquisitions remain a part of our growth plans.
13
Commodity Risk Management. Our principal exposure to market risks that may adversely affect our results of operations and financial condition include changes in future commodity prices and interest rates. We seek to minimize or manage these market risks through normal operating and financing activities and through the use of commodity contracts and interest rate cap agreements, where practicable. We do not trade or use instruments with the objective of earning financial gains on commodity prices or interest rate fluctuations, nor do we use instruments where there are not underlying exposures. See “—Market Risk —Commodity Hedging—Commodity Risk Management.”
Results of Operations
The following sets forth selectedtable summarizes the historical financialresults of our divisional operations and such data as a percentage of total net sales for the years ended December 31, 2006, 2005 and 2004. The information contained in this table should be read in conjunction with respect to the Company and its subsidiaries,“Item 6—Selected Financial Data” and the Predecessor. The data has been derived from the Company’sconsolidated financial statements and the Predecessor’s audited Consolidated Financial Statementsrelated notes included elsewhere in this document. It is suggested that readers combine 2001 three month (Predecessor) and 2001 nine month (Company) periods in order to compare full-year 2002 to full-year 2001.Form 10-K.
2006 | 2005 | 2004 | ||||||||||||||||
$ | % | $ | % | $ | % | |||||||||||||
(In Thousands) | ||||||||||||||||||
Statement of Earnings Data: | ||||||||||||||||||
External net sales: | ||||||||||||||||||
Egg products division | 858,352 | 68.8 | 860,925 | 69.3 | 941,381 | 71.7 | ||||||||||||
Potato products division | 113,980 | 9.1 | 102,245 | 8.2 | 83,838 | 6.4 | ||||||||||||
Refrigerated distribution division | 275,016 | 22.1 | 279,328 | 22.5 | 288,285 | 21.9 | ||||||||||||
Total net sales | 1,247,348 | 100.0 | 1,242,498 | 100.0 | 1,313,504 | 100.0 | ||||||||||||
Cost of sales | 1,016,832 | 81.5 | 1,005,418 | 80.9 | 1,077,126 | 82.0 | ||||||||||||
Gross profit | 230,516 | 18.5 | 237,080 | 19.1 | 236,378 | 18.0 | ||||||||||||
Selling, general and administrative expenses | 133,287 | 10.7 | 130,833 | 10.5 | 138,138 | 10.5 | ||||||||||||
Plant closing expenses | 3,139 | 0.3 | — | — | — | — | ||||||||||||
Operating profit (loss): | ||||||||||||||||||
Egg products division | 67,660 | 5.4 | 82,012 | 6.6 | 87,576 | 6.7 | ||||||||||||
Potato products division | 19,243 | 1.5 | 17,199 | 1.4 | 6,895 | 0.5 | ||||||||||||
Refrigerated distribution division | 18,604 | 1.5 | 15,707 | 1.3 | 13,171 | 1.0 | ||||||||||||
Corporate | (11,417 | ) | (0.9 | ) | (8,671 | ) | (0.7 | ) | (9,402 | ) | (0.7 | ) | ||||||
Total operating profit | 94,090 | 7.5 | 106,247 | 8.6 | 98,240 | 7.5 | ||||||||||||
Interest expense, net | 55,928 | 4.5 | 47,119 | 3.8 | 43,285 | 3.3 | ||||||||||||
Net earnings | 19,155 | 1.5 | 38,859 | 3.1 | 33,514 | 2.6 | ||||||||||||
12
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| Company |
| Predecessor |
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| 2002 |
| Nine Months |
| Three Months |
| Year ended December 31, |
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| % |
| $ |
| % |
| $ |
| % |
| $ |
| % |
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| ($ in thousands) |
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STATEMENT OF OPERATIONS DATA: |
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External net sales: |
|
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|
|
|
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|
|
|
|
|
|
|
|
|
|
Egg products division |
| 657,824 |
| 56.3 |
| 482,324 |
| 54.4 |
| 163,529 |
| 59.3 |
| 637,355 |
| 59.0 |
|
Potato products division |
| 72,170 |
| 6.2 |
| 51,268 |
| 5.8 |
| 15,585 |
| 5.7 |
| 60,731 |
| 5.6 |
|
Dairy products division |
| 190,578 |
| 16.3 |
| 150,554 |
| 17.0 |
| 35,328 |
| 12.8 |
| 141,401 |
| 13.1 |
|
Refrigerated distribution division |
| 247,588 |
| 21.2 |
| 201,496 |
| 22.8 |
| 61,185 |
| 22.2 |
| 241,114 |
| 22.3 |
|
Total net sales |
| 1,168,160 |
| 100.0 |
| 885,642 |
| 100.0 |
| 275,627 |
| 100.0 |
| 1,080,601 |
| 100.0 |
|
Cost of sales |
| 953,333 |
| 81.6 |
| 734,008 |
| 82.9 |
| 227,707 |
| 82.6 |
| 889,138 |
| 82.3 |
|
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|
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|
|
|
|
|
|
|
|
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Gross profit |
| 214,827 |
| 18.4 |
| 151,634 |
| 17.1 |
| 47,920 |
| 17.4 |
| 191,463 |
| 17.7 |
|
Selling, general and administrative expenses |
| 116,444 |
| 10.0 |
| 87,484 |
| 9.9 |
| 27,376 |
| 9.9 |
| 104,657 |
| 9.7 |
|
Transaction expenses |
| — |
| — |
| — |
| — |
| 11,050 |
| 4.0 |
| — |
| — |
|
|
|
|
|
|
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|
|
|
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|
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Operating profit: |
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
|
|
Egg products division |
| 71,717 |
| 6.1 |
| 48,648 |
| 5.5 |
| 12,915 |
| 4.7 |
| 67,658 |
| 6.2 |
|
Potato products division |
| 10,832 |
| 0.9 |
| 6,639 |
| 0.7 |
| 1,688 |
| 0.6 |
| 7,650 |
| 0.7 |
|
Dairy products division |
| 9,918 |
| 0.8 |
| 7,885 |
| 0.8 |
| 3,958 |
| 1.4 |
| 1,322 |
| 0.1 |
|
Refrigerated distribution division |
| 13,744 |
| 1.2 |
| 4,947 |
| 0.6 |
| 3,639 |
| 1.3 |
| 16,001 |
| 1.5 |
|
Corporate |
| (7,828 | ) | (0.6 | ) | (3,969 | ) | (0.4 | ) | (12,706 | ) | (4.6 | ) | (5,825 | ) | (0.5 | ) |
Total operating profit |
| 98,383 |
| 8.4 |
| 64,150 |
| 7.2 |
| 9,494 |
| 3.4 |
| 86,806 |
| 8.0 |
|
Interest expense, net |
| 50,179 |
| 4.3 |
| 42,335 |
| 4.8 |
| 3,293 |
| 1.2 |
| 13,206 |
| 1.2 |
|
Net earnings (loss) |
| 29,661 |
| 2.5 |
| 9,815 |
| 1.1 |
| (5,653 | ) | (2.1 | ) | 44,710 |
| 4.1 |
|
RESULTS OF OPERATIONS
RESULTS FOR THE YEAR ENDED DECEMBER 31, 2002 COMPARED TO THE COMBINED RESULTS FOR THE YEAR ENDED DECEMBER 31, 2001
NET SALES.Net Sales. Net sales for the year ended December 31, 20022006 increased $6.9less than 1%, or $4.8 million, approximately 1%, to $1,168.2$1,247.3 million from $1,161.3$1,242.5 million for the Company and the Predecessor for the year ended December 31, 2001. The strongest divisional2005, as a result of an increase in external net sales growth occurred in theour Potato Products Division, which recorded an 8%partially offset by decreases in external net sales increase. External net sales growth of 2% and 3% was recorded by theour Egg Products Division and Dairy Products divisions, respectively, with the former benefiting from an acquisition in August 2002. Refrigerated Distribution external net sales declined by 6% due to lower commodity prices for butter, lower unit sales, and customer store closings.Division.
EGG PRODUCTS DIVISION SALES.Egg Products Division Net Sales. Egg Products Division external net sales for the year ended December 31, 2002 increased $11.92006 decreased less than 1%, or $2.5 million, or 2%, to $657.8$858.4 million from $645.9$860.9 million for the Company and the Predecessor for year ended December 31, 2001. Sales rose2005. External net sales increased for most of our higher value-added products in total, including pre-cooked items, egg substitutes and hardcooked eggs,lines and declined for the commodity-sensitive lines, such as frozen and dried products. As partmost of our strategy to sell more further-processed eggs, shelllower value-added lines. The egg sales declined by 6%market was unusually volatile in 2002, while shell egg dozens sold decreased by over 12%. During 2002,2006, with low levels seen early in the year and very high levels seen later in the year. For the full year 2006, shell egg prices increased by approximately 3%10% from 2005 levels, as reported by Urner Barry, resulting
14
Barry. Our pricing year-over-year varied by product line, with the overall divisional selling price per pound declining slightly in somewhat better margins2006 from 2005 levels. We experienced a pricing decline for frozenhigher value-added products, reflecting increased competition. Unit sales increased for most product lines in 2006, and dried egg products. However, in some cases, we declinedall higher value-added lines, with an overall increase of 1.9% recorded for the Division as compared to renew contracts for frozen products last year because of a lack of margin contribution. The Canadian egg products business acquired in August 2002, and the related consolidation of a joint venture, added approximately 3% to 2002 divisional net sales.2005 levels. Sales of higher value-added egg products represented approximately 60%74% of the egg products division’sEgg Products Division’s external net sales in both 2002 and 2001.2006 compared with 72% in 2005.
13
POTATO PRODUCTS DIVISION SALES.Potato Products Division Net Sales. Potato Products Division external net sales for the year ended December 31, 20022006 increased $5.3$11.8 million, or 8%12%, to $72.2$114.0 million from $66.9$102.2 million for the Company and the Predecessor for the year ended December 31, 2001.2005. This increase was mainly dueprimarily attributable to strong unit sales growth for retail refrigerated potato products, which increased approximately 16%21% from 2001.2005 levels. Foodservice unit sales increased approximately 6%. Sales to new customers, growth in sales to existing customers and, particularly, growth in the retail category all contributed to the sales increase. Approximately 55% of the Division’s 2006 net sales were to the foodservice market, with 45% to the retail market. The retail component has grown significantly in recent years. Pricing for the Division in 2006 was comparable to 2005 levels.
Refrigerated Distribution Division Net Sales. Refrigerated Distribution Division external net sales for the year ended December 31, 2006 decreased $4.3 million, or 2%, to $275.0 million from $279.3 million for the year ended December 31, 2005. This decrease was mostly due to notable market deflation in cheese and butter prices year-over-year. The key distributed products business was strong, with branded cheese unit sales up 2% and butter unit sales up 11%. Overall, 2006 unit sales for the Division decreased 1% from 2005 levels, with core distributed products ahead 5% and shell egg unit sales down 14% .
Gross Profit. Gross profit for the year ended December 31, 2006 decreased $6.6 million to $230.5 million from $237.1 million for the year ended December 31, 2005. Our gross profit margin was 18.5% of net sales for 2006, compared with 19.1% for 2005. The decrease in gross profit margin was due to decreased gross profit margins from certain higher value-added egg products and negative gross profits from the sale of our lower value-added egg products collectively. Additionally, we experienced increases in energy, packaging and freight costs, which we were not able to fully offset with selective price increases.
Selling, General and Administrative Expenses. Selling, general and administrative expenses for the year ended December 31, 2006 increased $2.5 million, or 2%, to $133.3 million from $130.8 million for the year ended December 31, 2005. Selling, general and administrative expenses were 10.7% of net sales in 2006 as compared to 10.5% in 2005. The main reason for the increase in operating expenses during 2006 was approximately $3 million for officer severance and related stock option compensation expense (see Note F to the financial statements). Without such unexpected expenses, operating expenses in 2006 would have decreased compared to 2005, largely due to reduced incentive expense.
Operating Profit. Operating profit for the year ended December 31, 2006 decreased $12.1 million, or approximately 11%, to $94.1 million from $106.2 million for the year ended December 31, 2005. This decrease was due to a significant decrease in Egg Products gross profits, which increases from the other two divisions could not fully offset and the increase in selling, general and administrative expenses related to officer severance and related stock option compensation expense noted above.
Egg Products Division Operating Profit. Egg Products Division operating profit for the year ended December 31, 2006 decreased $14.3 million, or 17%, to $67.7 million from $82.0 million for the year ended December 31, 2005. Operating profit for higher value-added egg products decreased by approximately 4%$14 million, or 13%, from 2005 levels, mainly reflecting compressed margins due to the lower egg market early in the year, which then strengthened substantially during the fourth quarter. We also experienced a substantial run-up in corn costs in the fourth quarter. With the rapid increase in our costs, we were unable to offset the cost increases in a timely manner with selective price increases. Operating losses from other egg products increased from 2005 levels, reflecting unfavorable market-driven pricing during a period of increased costs.Shell eggs had a modest profit in 2006, as compared to a modest loss in 2005, reflecting improved market pricing.
Potato Products Division Operating Profit. Potato Products Division operating profit for the year ended December 31, 2006 increased $2.0 million, or 12% to $19.2 million from $17.2 million for the year ended December 31, 2005. This increase reflected significant volume growth in our more profitable retail operations, which resulted in an increase in that sector’s profitability. The foodservice business also had an increase in volume in 2006, compared to 2005 levels, which drove operating earnings growth.
Refrigerated Distribution Division Operating Profit. Refrigerated Distribution Division operating profit for the year ended December 31, 2006 increased $2.9 million, or 18%, to $18.6 million from $15.7 million for the year ended December 31, 2005. Operating profit increased mainly due to lower market prices for our key product line, cheese, and significant volume growth for that product line.
15
Interest Expense.Interest expense increased approximately $8.8 million in 2006 compared to 2005, reflecting higher interest rates and additional amortization of debt issuance costs.
Plant Closing Expenses. We announced in late November that, due to rising operating costs, we will be consolidating our Canadian egg processing operations of our Egg Products Division to our facility in Winnipeg, Manitoba. The result will be the closing of the egg processing facility located in St. Marys, Ontario in late March 2007. We recorded severance costs and asset impairment on the leased building and certain plant equipment as well as other plant assets which can not be transferred to other of our processing facilities.
Income Taxes.Our effective tax rate was 42.7% in 2006 compared to 26.6% in 2005. The increase in the effective tax rate was related to several factors, with the recording of a valuation allowance against the deferred tax assets of one of our foreign subsidiaries in 2006 being the most significant (see Note C to the financial statements). Also, the 2005 effective tax rate was lower than our historical effective tax rates mainly due to a change in the tax rate used to calculate the deferred tax benefit as a result of a reduction in our state income tax rate.
Equity in Losses of Unconsolidated Subsidiary. An equity loss of $2.7 million was recorded in 2006 compared to a loss of $0.5 million in 2005. The losses relate to our Belgian joint venture. In the third quarter of 2006, we recorded a $1.8 million valuation adjustment on the investment in the joint venture and $0.9 million of losses related to Belovo’s 2006 operations. We also recorded a tax valuation allowance of $1.0 million against the full amount of the deferred tax asset that resulted from the investment valuation adjustment taken. The tax valuation allowance was recorded because we believe it is more likely than not that the deferred tax asset that resulted from the investment valuation adjustment will not be realized.
Results for the Year Ended December 31, 2005 Compared to results for the Year Ended December 31, 2004
Net Sales. Net sales for the year ended December 31, 2005 decreased $71.0 million, or approximately 5%, to $1,242.5 million from $1,313.5 million for the year ended December 31, 2004, as a result of a decrease in external net sales in our Egg Products Division and our Refrigerated Distribution Division, partially offset by an increase in external net sales by our Potato Products Division.
Egg Products Division Net Sales. Egg Products Division external net sales for the year ended December 31, 2005 decreased $80.5 million, or 9%, to $860.9 million from $941.4 million for the year ended December 31, 2004. External net sales increased for most of our higher value-added products lines and declined for lower value-added lines. Egg market deflation had a notable impact in 2005, as the egg market declined from historically high levels in 2004 to a multi-decade low in mid-2005. During 2005, shell egg prices decreased by approximately 20% from 2004 levels, as reported by Urner Barry, resulting in weak pricing for market-sensitive (food ingredient) egg products. In late 2005 egg prices returned to more normal levels. Unit sales increased for most product lines in 2005, with an overall increase of 2.1% recorded for the Division as compared to 2004 levels. Sales of higher value-added egg products represented approximately 72% of the Egg Products Division’s external net sales in 2005 compared with 65% in 2004. Sales diminished for our most commodity-sensitive products—short shelf-life liquid and shell eggs.
Potato Products Division Net Sales. Potato Products Division external net sales for the year ended December 31, 2005 increased $18.4 million, or 22%, to $102.2 million from $83.8 million for the year ended December 31, 2004. This increase was primarily attributable to strong unit sales growth for retail potato products, which increased approximately 26% from 2004 levels. Foodservice unit sales increased approximately 8%. Sales to new customers, growth in sales to existing customers, increased marketing and, new product introductionsparticularly, growth in the retail category all contributed to the sales increase,increase. Approximately 57% of the Division’s 2005 net sales were to the foodservice market, with mashed products showing43% to the greatest growthretail market. Pricing in both business segments.market segments was higher in 2005 than in 2004.
DAIRY PRODUCTS DIVISION SALES. Dairy ProductsRefrigerated Distribution Division external net sales for the year ended December 31, 2002 increased $4.7 million, or 3%, to $190.6 million from $185.9 million for the Company and the Predecessor for the year ended December 31, 2001. This increase mainly was due to strong unit sales volumes for certain specialty cartoned items contract packed for other dairies and notable growth in non-refrigerated creamer sales. National dairy ingredient prices decreased during the year, resulting in a lower pricing environment of approximately 4%, on average, for the products sold by the Division. Hence, deflation was a factor in limiting divisional external net sales growth in 2002.
REFRIGERATED DISTRIBUTION DIVISION SALES.Net Sales. Refrigerated Distribution Division external net sales for the year ended December 31, 20022005 decreased $15.1$9.0 million, or 6%3%, to $247.6$279.3 million from $262.7$288.3 million for the Company and the Predecessor for the year ended December 31, 2001.2004. This decrease was mostly due in part, to notably lower market pricing for shell eggs. The key distributed products business was strong, with branded cheese unit sales for cheese, margarine and baked items. Customers’ store closings and a sluggish domestic groceryup approximately 6%. Dollar sales environment contributed to this sales decline. While dollar net sales declined 6%, quantities offor distributed products fell by less thanincreased over 1%. Further, shell egg dozens sold declined by 6%,In addition to eggs, deflation of markets was seen in cheese and butter sales, which was in line with our plans. Deflation also contributed significantly toare the divisional sales decline, with lower market prices prevailing for butter (down 34% in 2002) and margarine.Division’s largest product lines.
GROSS PROFIT.Gross Profit. Gross profit for the year ended December 31, 20022005 increased $15.2$0.7 million or approximately 7%, to $214.8$237.1 million from $199.6$236.4 million for the Company and Predecessor in the year ended December 31, 2001.2004. Our gross profit margin was 18.4%19.1% of net sales in 2002, whereas the combined gross profit margin was 17.2% in 2001.for 2005, compared with 18.0% for 2004. The increase in gross profit margin was due to increased gross profitsprofit margins from many products, including egg substitutes, precookedhigher value-added egg products cheese and specialty dairypotato products. In general, raw material costs were more favorable in 2002 than in 2001, and cost savings were realized from production efficiencies in several product categories.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES.16
Selling, General and Administrative Expenses. Selling, general and administrative expenses for the year ended December 31, 2002 increased $1.52005 decreased $7.3 million, or 1%5%, to $116.4$130.8 million from $114.9$138.1 million for the Company and the Predecessor for the year ended December 31, 2001.2004. Selling, general and administrative expenses were nearly consistent at 10%10.5% of net sales in 2002 versus 9.9% for2005 and 2004. The decrease in expenses was caused by a reduction in incentive accrual based on the Companylevel of achievement of the incentive plan target and Predecessoroverall expense management. Additionally, the decrease of expenses in 2001. Whereas 2002 expenses no longer included goodwill amortization, there were increases2005 was in depreciation and incentives accruals in 2002. The former reflected a full year of increased asset values (i.e.,part due to the purchase accounting at the timehigher levels of the Merger) being depreciated as comparedbad debt expense recorded in 2004. The increased bad debt expense recorded in 2004 related primarily to a partial yearspecific pasta company and bakery company customers that had filed for bankruptcy in 2001. Separate from selling, general and administrative expenses in 2001, the Predecessor recorded non-recurring expenses related to the Merger for financial, legal, advisory and regulatory filing fees. These expenses of approximately $11.1 million are reflected in the Predecessor’s Consolidated Statements of Earnings as transaction expenses.2004.
OPERATING PROFIT.Operating Profit. Operating profit for the year ended December 31, 20022005 increased $24.8$8.0 million, or approximately 34%8%, to $98.4$106.2 million from $73.6$98.2 million for the Company and the Predecessor for the year ended December 31, 2001.2004. This increase wasis due mainly to thea notable increase in gross profit, as described above. Also, 2001 results included one-time transaction expenses for the Predecessor,Potato Products operating profits and also described above.an increase in Refrigerated Distribution operating profits, which more than offset a decrease from Egg Products.
14
EGG PRODUCTS DIVISION OPERATING PROFIT.Egg Products Division Operating Profit. Egg Products Division operating profit for the year ended December 31, 2002 increased $10.12005 decreased $5.6 million, or 16%6%, to $71.7$82.0 million from $61.6$87.6 million for the Company and the Predecessor for the year ended December 31, 2001.2004. Operating profit for higher value-added egg products increased by $9.3approximately $27.0 million, or 15%39%, from 2001, while operating2004, mainly reflecting lower egg costs. Operating profits from other egg products were near break-evendeclined significantly from 2004 levels, collectively, as comparedreflecting unfavorable market-driven pricing. Shell egg profitability went from a profit in 2004 to modest profitabilitya loss in 2001.2005, reflecting substantially lower Urner Barry pricing levels in 2005. The increase2004 period included approximately $2.0 million in Divisionalincome related to amounts received under patent infringement settlements. The Division incurred unusual operating margin was due mainlyexpenses in 2004 related to increased gross profits from value-added items, resulting from favorable raw material costs and production efficiencies. The 2001 operating profit for the handling of wastewater, particularly at the Wakefield, Nebraska location (see Item 3).
Potato Products Division was affected by an approximate $1.6 million loss from the Division’s termination of a European joint venture.
POTATO PRODUCTS DIVISION OPERATING PROFIT.Operating Profit. Potato Products Division operating profit for the year ended December 31, 20022005 increased $2.5$10.3 million or 30%, to $10.8$17.2 million from $8.3$6.9 million for the Company and the Predecessor for the year ended December 31, 2001.2004. This increase reflected gross profit improvement tied tosignificant volume growth particularly from thein our more profitable retail segment, and continuing improvementsoperations which resulted in plant operations.an increase in that sector’s profitability. Also, there was significant profitability in the foodservice business in 2005, compared to break-even operations in 2004.
DAIRY PRODUCTS DIVISION OPERATING PROFIT. Dairy ProductsRefrigerated Distribution Division operating profit for the year ended December 31, 2002 decreased $1.9 million, or 16%, to $9.9 million from $11.8 million for the Company and the Predecessor for the year ended December 31, 2001. Divisional operating profit in 2001 included a $3.2 million final insurance settlement payment related to a 1999 recall. Exclusive of this settlement amount, the Division’s operating profit increased $1.3 million in 2002. This reflected more favorable ingredient costs, which more than offset higher than expected production costs at one of our three dairy plants.
REFRIGERATED DISTRIBUTION DIVISION OPERATING PROFIT.Operating Profit. Refrigerated Distribution Division operating profit for the year ended December 31, 20022005 increased $5.1$2.5 million, or 60%19%, to $13.7$15.7 million from $8.6 million for the Company and the Predecessor for the year ended December 31, 2001. Profit margin for our key product line, cheese, rose in 2002 due to more normalized product costs prevailing through much of the year. However, profit results for the first several months of 2002 were depressed due to cheese hedging, which resulted in cheese costs being in excess of market levels. When cheese inventory costs returned to more normal levels, due to a reduction in hedging, operating profits for the Division increased significantly in the latter part of the year.
15
COMBINED RESULTS FOR THE YEAR ENDED DECEMBER 31, 2001 COMPARED TO THE PREDECESSOR’S RESULTS FOR THE YEAR ENDED DECEMBER 31, 2000
NET SALES. Net sales for the year ended December 31, 2001 increased $80.7 million, or 7%, to $1,161.3 million from $1,080.6$13.2 million for the year ended December 31, 2000. Over one-half of this increase was the result of a 31% increase in net sales from the Dairy Products Division, with both volume growth and higher dairy market pricing contributing to this growth. External net sales growth of 9% and 10% was recorded by the Refrigerated Distribution and Potato Products divisions. Refrigerated Distribution sales growth was roughly half from unit sales growth and half from price inflation, particularly in the important cheese category. Potato Products sales growth was primarily from2004. Operating profit increased unit sales, with particularly strong growth seen in the retail category. Sales growth in the Egg Products Division was minimal due to fairly stable volume and pricing.
EGG PRODUCTS DIVISION SALES. Egg Products Division external net sales for the year ended December 31, 2001 increased $8.5 million, or 1%, to $645.9 million from $637.4 million for the year ended December 31, 2000. Sales growth for certain higher value-added products, such as pre-cooked patties and omelets, egg substitutes and hardcooked eggs, offset lower sales from commodity-sensitive lines such as dried products. During 2001, shell egg prices declined by approximately 3% as reported by Urner Barry, resulting in narrow margins for frozen, short-shelf life liquid and dried egg products. As a result, we limited sales volumes for frozen products, in particular, because of the adverse pricing and margin environment. Sales of higher value-added egg products represented approximately 60% of the egg products division’s sales in both 2001 and 2000.
POTATO PRODUCTS DIVISION SALES. Potato Products Division external net sales for the year ended December 31, 2001 increased $6.2 million, or 10%, to $66.9 million from $60.7 million for the year ended December 31, 2000. This increase was mainly due to a strong unit saleslower market prices for our key product line, cheese, and significant volume growth for retail refrigerated potato products, whichthat product line.
Interest Expense and Income Taxes.Interest expense increased approximately 25% from 2000. Also, foodservice unit sales increased by approximately 7%. Sales$3.8 million in 2005 compared to new customers, growth2004, reflecting higher interest rates. Our effective tax rate was 26.6% in sales2005 compared to existing customers, marketing spending and new product introductions all contributed to the sales increase.
DAIRY PRODUCTS DIVISION SALES. Dairy Products Division external net sales for the year ended December 31, 2001 increased by $44.5 million, or 31%, to $185.9 million from $141.4 million for the year ended December 31, 2000. This increase was mainly due to strong unit sales volumes for certain specialty cartoned items contract packed for other dairies and notable growth38.2% in non-refrigerated creamer sales. National dairy ingredient price increases during the year resulted in a higher pricing environment for the products sold by the Division. Hence, inflation was also a significant factor2004.The reduction in the higher divisional external net saleseffective tax rate for 2005 was related to several factors, with a change in 2001. Salesthe tax rate used to calculate the deferred tax benefit being the most meaningful factor. The change in 2000 were adversely impacted as a result of volume declines and operating inefficiencies associated with the aftermath of a 1999 recall of cartoned milk.
REFRIGERATED DISTRIBUTION DIVISION SALES. Refrigerated Distribution Division external net sales for the year ended December 31, 2001 increased $21.6 million, or 9%, to $262.7 million from $241.1 million for the year ended December 31, 2000. This increasetax rate was mainly due to unit sales growth in cheese, margarine and bagels. Cheese sales growth was somewhat constrained, and butter sales declined, as a result of high retail price points during much of the yearprimarily due to a high national butterfat market. Divisional volume growthreduction in 2001 resulted from sales to new customers, particularlyour state income tax rate.
Equity in new territories, promotional activityLosses of Unconsolidated Subsidiary. We had equity losses of approximately $0.5 million in both 2005 and increased consumer advertising. Inflation also contributed to divisional sales growth due to higher dairy prices.
16
GROSS PROFIT. Gross profit for the year ended December 31, 2001 increased $8.1 million, or approximately 4%, to $199.6 million from $191.5 million for the Predecessor in the year ended December 31, 2000. The combined gross profit margin was 17.2% of net sales for 2001, as compared to 17.7% of net sales for the Predecessor in 2000. The decrease in gross profit margin was mainly due to decreased gross profit from frozen egg products, resulting from market price pressures, and reduced gross margins from cheese and butter sales due to the significant rise in product costs in 2001, which outpaced our ability to adjust our selling prices for much of the year.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses for the year ended December 31, 2001 increased $10.2 million, or 10%, to $114.9 million from $104.7 million for the Predecessor for the year ended December 31, 2000. Selling, general and administrative expenses increased as a percent of sales in 2001, as compared to Predecessor results in 2000. Higher expenses were incurred in 2001 to support retail and foodservice marketing efforts and broadened sales efforts, and to establish a centralized purchasing department. Additionally, operating expenses reflected the impact of incremental amortization2004 related to the Merger, of approximately $3.0 million, which resulted in the slightly higher expense as a percentage of sales. Separate from selling, generalour Belgian joint venture.
Seasonality and administrative expenses in 2001, the Predecessor recorded non-recurring expenses related to the Merger for financial, legal, advisory and regulatory filing fees. These expenses of approximately $11.1 million are reflected in the Predecessor’s Consolidated Statements of Earnings as transaction expenses.Inflation
OPERATING PROFIT. Operating profit for the year ended December 31, 2001 decreased $13.2 million, or approximately 15%, to $73.6 million from $86.8 million for the Predecessor for the year ended December 31, 2000. This decrease was mainly due to the Merger transaction expenses incurred by the Predecessor in the first three months of 2001, as discussed above.
EGG PRODUCTS DIVISION OPERATING PROFIT. Egg Products Division operating profit for the year ended December 31, 2001 decreased $6.1 million, or 9%, to $61.6 million from $67.7 million for the year ended December 31, 2000. Operating profit for higher value-added egg products decreased by $5.5 million, or 8%, from 2000, while operating profits from other egg products remained relatively flat. The decrease in operating margins was mainly due to an approximately $4.0 million increase in amortization of goodwill and increased depreciation of approximately $6.2 million as a result of asset appraisals related to the Merger. The 2001 operating profit for the Division was also affected by an approximately $1.6 million loss from the Division’s termination of a European joint-venture. A break-even return was recorded from the same joint-venture in 2000.
POTATO PRODUCTS DIVISION OPERATING PROFIT. Potato Products Division operating profit for the year ended December 31, 2001 increased $0.7 million, or 9%, to $8.3 million from $7.6 million for the year ended December 31, 2000. This increase reflected benefits from volume growth, particularly from the more profitable retail segment, and continuing improvements in plant operations.
DAIRY PRODUCTS DIVISION OPERATING PROFIT. Dairy Products Division operating profit for the year ended December 31, 2001 increased significantly, up $10.5 million to $11.8 million from $1.3 million for the year ended December 31, 2000. Divisional operating profit increased substantially as a result of strong unit sales growth, particularly from specialty items such as non-refrigerated creamers, and improved plant operating costs. Operating profits were also favorably impacted by a $3.2 million final insurance settlement payment related to a 1999 recall and reduced amortization expense of $1.2 million resulting from the appraisal of a non-compete agreement due
17
to the Merger. Divisional operating profitability was depressed in 2000 due to the loss of a major industrial customer, increased bad debt expense resulting from a foodservice distributor’s bankruptcy filing, higher overhead expenses and above-average operating expenses as a result of a 1999 product recall.
REFRIGERATED DISTRIBUTION DIVISION OPERATING PROFIT. Refrigerated Distribution Division operating profit for the year ended December 31, 2001 decreased $7.4 million, or 46%, to $8.6 million from $16.0 million for the year ended December 31, 2000. Profit margins for key lines, such as cheese and butter, were depressed due to a rapid and sustained increase in dairy market-based ingredient costs through much of the year, without a comparable increase in retail selling prices. These market conditions were in sharp contrast to those which prevailed in 2000.
SEASONALITY AND INFLATION
ConsolidatedOur consolidated quarterly operating results are affected by the seasonalityseasonal fluctuations of our net sales and operating profits. Specifically, shell egg prices typically rise seasonally in the first and fourth quarters of the year due to increased demand during holiday periods. Consequently, net sales in the Egg Products Division may increase in the first and fourth quarter.quarters. Generally, the Refrigerated Distribution Division has higher net sales and operating profits in the fourth quarter, coinciding with incremental consumer demand during the holiday season. Net sales and operating profits from the Dairy Products Division typically are significantly higher in the second and third quarters due to increased consumption of ice cream products during the summer months. Operating profits from the Potato Products Division are less seasonal, but tend to be higher in the second half of the year coinciding with the potato harvest. In recent years,harvest and incremental consumer demand.
Generally, other than fluctuations in certain raw material costs, largely related to short-term supply and demand variances, inflation has not been a significant factor in our operations. Inflation is not expected to have a significant impact on theour business, financial condition or results of operations or financial condition since we can generally offset the impact of inflation through a combination of productivity gains and price increases. However, we had unusual inflationary impacts to our operations in 2004, 2005, and 2006, as we experienced notable inflation for key purchased items such as natural gas, diesel fuel and packaging materials. We were unable to fully offset these impacts through selective price increases to our customers.
LIQUIDITY AND CAPITAL RESOURCES17
Liquidity and Capital Resources
Historically, we have financed our liquidity requirements through internally generated funds, senior bank borrowings and the issuance of other indebtedness. We believe such sources remain viable financing alternatives to meet our anticipated needs. Our investments in acquisitions, joint ventures and capital expenditures have been a significant use of capital. We plan to continue to invest in state-of-the-artadvanced production facilities to enhance our competitive position.
Cash flow provided by operating activities was $83.0$76.8 million for the year ended December 31, 2002,2006, compared to $114.8$104.4 million combining Company and Predecessor results, for the year ended December 31, 2001, and $69.1 million for the Predecessor’s year ended December 31, 2000.2005. The decrease in our cash flow provided by operating activities from 2001was primarily attributable to 2002a decrease in net earnings of approximately $20 million. Cash flow provided by operating activities was due principally$104.4 million for the year ended December 31, 2005, compared to an increase$121.6 million for the year ended December 31, 2004. The decrease in operating working capital related to our Canadian acquisition. The increase in the Company’s and Predecessor’s cash flow provided by operating activities from 2000in 2005 was primarily attributable to 2001 was due principally to significantly reduced operating working capital.
Earnings before interest, taxes, depreciation and amortization (“EBITDA”) for the year ended December 31, 2002 were $155,487,000, an increase of 7% comparedin working capital, largely related to an increase in inventories, a tax receivable recorded at the Company’s and Predecessor’s combined $145,753,000 for the year ended December 31, 2001. EBITDA increased becausetime of the factors discussedMerger, and changes in the above results of operations divisional reviews. We believe that EBITDA isdeferred income taxes (see Note C to consolidated financial statements).
As a relevant measurement of our financial results, as it is indicativeresult of the relative strengthMerger, in 2003 we incurred approximately $780 million of our cash flows and is a key measurement contained in the financial covenantslong-term debt, including $495 million of our senior indebtedness. In addition, as a highly leveraged company, the holders of our debt
18
have a significant interest in our cash flows. We compute EBITDA as it is defined inborrowings under our senior credit agreement (see Exhibit 10.1facility, $135 million of our Amendment No. 1 to Form S-4 filedborrowings under a senior unsecured term loan facility and $150 million from the issuance of 8% senior subordinated notes due 2013. The senior credit facility that we entered into in connection with the SecuritiesMerger currently provides a $100 million revolving credit facility maturing in 2009 and Exchange Commission on Julya $540 million term loan facility maturing in 2010. The senior unsecured term loan facility of $135 million was to mature in 2011. The senior credit facility (“credit agreement”) and senior unsecured term loan agreement were amended as of September 17, 2004 (see our Form 8-K of September 22, 2004; incorporated by reference herein). The credit agreement was amended a second time as of May 18, 2001)2005 (see our Form 8-K of May 23, 2005; incorporated by reference herein) and a third time as of November 22, 2005 (see our Form 8-K of November 4, 2005; incorporated by reference herein). This definition may not be comparable to that used by other companies reporting similar financial information.
We believe EBITDA isAs a widely accepted financial indicator used to analyze and compare companies onresult of the basisthird amendment, which expanded the capacity of operating performance. It should not be considered in isolation or as a substitute for measures of performance prepared in accordancethe senior credit facility, the $135 million senior unsecured term loan agreement was terminated, with generally accepted accounting principles and is not indicative of operating profit or cash flow from operations as determined under generally accepted accounting principles. The following table reconciles our net earnings to EBITDA for the past two years:
|
| For the periods ended, |
| ||||
|
| December 31, |
| December 31, |
| ||
|
|
|
|
|
| ||
Net earnings |
| $ | 29,661,000 |
| $ | 4,162,000 |
|
|
|
|
|
|
| ||
Total interest expense, excluding amortization of debt issuance costs |
| 46,593,000 |
| 43,722,000 |
| ||
|
|
|
|
|
| ||
Income taxes |
| 18,543,000 |
| 8,341,000 |
| ||
|
|
|
|
|
| ||
Depreciation and amortization |
| 54,258,000 |
| 59,480,000 |
| ||
|
|
|
|
|
| ||
Amortization of debt issuance costs |
| 4,218,000 |
| 2,359,000 |
| ||
|
|
|
|
|
| ||
Transaction expenses |
| — |
| 26,563,000 |
| ||
|
|
|
|
|
| ||
Other |
| 2,214,000 |
| 1,126,000 |
| ||
EBITDA |
| $ | 155,487,000 |
| $ | 145,753,000 |
|
loan being paid-in-full.
As a result of the Merger, we incurred approximately $580 million of long-term debt, including $380 million of borrowings under ourcontinue to have substantial annual cash interest expense. Our senior credit agreementfacility requires us to meet a minimum interest coverage ratio and $200 million of indebtedness througha maximum leverage ratio. In addition, the issuance of 11.75%senior credit facility and the indenture relating to the 8% senior subordinated notes due 2011.2013 contain certain restrictive covenants which, among other things, limit the incurrence of additional indebtedness, investments, dividends, transactions with affiliates, asset sales, acquisitions, mergers and consolidations, prepayments of other indebtedness, liens and encumbrances and other matters customarily restricted in these agreements. Our total annual interest expense relatedfailure to comply with these covenants could result in an event of default, which if not cured or waived could have a material adverse effect on our results of operations, financial position and cash flow. In general, the term loans underdebt covenants limit our discretion in operating our businesses. We were in compliance with all of the covenants in the credit agreement and the notes wasindenture as of December 31, 2006.
M-Foods Holdings, Inc. has incurred $100 million 9.75% Senior Notes due October 1, 2013. As a wholly-owned subsidiary of M-Foods Holdings, Inc., we are responsible for servicing these notes.
The following is a calculation of our minimum interest coverage and maximum leverage ratios under our senior credit facility. The terms and related calculations are defined in excess of $50 million in 2002. In addition,our senior credit facility agreement, as amended, which agreement and amendments are included as exhibits to this Form 10-K.
Year Ended December 31, | ||||||||
2006 | 2005 | |||||||
(In Thousands) | ||||||||
Calculation of Interest Coverage Ratio: | ||||||||
Consolidated EBITDA (1) | $ | 180,865 | $ | 180,585 | ||||
Consolidated Cash Interest Expense (2) | 53,233 | 46,398 | ||||||
Actual Interest Coverage Ratio (Ratio of consolidated EBITDA to consolidated interest expense) | 3.40x | 3.89x | ||||||
Minimum Permitted Interest Coverage Ratio | 2.50x | 2.25x | ||||||
Calculation of Leverage Ratio: | ||||||||
Funded Indebtedness (3) | $ | 658,193 | $ | 722,432 | ||||
Less: Cash and equivalents | (21,576 | ) | (42,179 | ) | ||||
636,617 | 680,253 | |||||||
Consolidated EBITDA (1) | 180,865 | 180,585 | ||||||
Actual Leverage Ratio (Ratio of funded indebtedness less cash and equivalents to consolidated EBITDA) | 3.52x | 3.77x | ||||||
Maximum Permitted Leverage Ratio | 5.00x | 5.50x |
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(1) | Consolidated EBITDA (earnings before interest expense, taxes, depreciation and amortization) is defined in our senior credit facility as follows: |
Year Ended December 31, | |||||||
2006 | 2005 | ||||||
(In Thousands) | |||||||
Net earnings | $ | 19,155 | $ | 38,859 | |||
Interest expense, excluding amortization of debt issuance costs | 51,890 | 45,292 | |||||
Amortization of debt issuance costs | 4,743 | 1,993 | |||||
Income tax expense | 16,294 | 14,266 | |||||
Depreciation and amortization | 74,858 | 70,092 | |||||
Equity sponsor management fee | 1,809 | 2,036 | |||||
Expenses related to industrial revenue bonds guaranteed by certain of our subsidiaries | 996 | 964 | |||||
Other (a) | 10,271 | 7,457 | |||||
180,016 | 180,959 | ||||||
Less: Unrealized (losses) gains on swap contracts | (849 | ) | 374 | ||||
Consolidated EBITDA, as defined in our senior credit facility | $ | 180,865 | $ | 180,585 | |||
(a) | Other reflects the following: |
Year Ended December 31, | ||||||
2006 | 2005 | |||||
(In Thousands) | ||||||
Equity in losses of unconsolidated subsidiaries | $ | 2,713 | $ | 455 | ||
Losses from the disposition of assets not in the ordinary course of business | 2,862 | 350 | ||||
Non-cash compensation | 1,847 | 968 | ||||
Letter of credit fees | 139 | 138 | ||||
Debt extinguishment expenses which do not represent a cash item | — | 4,134 | ||||
Other non-recurring charges | 2,710 | 1,412 | ||||
$ | 10,271 | $ | 7,457 | |||
(2) | Consolidated cash interest expense, as calculated in our senior credit facility, was as follows: |
Year Ended December 31, | ||||||||
2006 | 2005 | |||||||
(In Thousands) | ||||||||
Interest expense, net | $ | 55,928 | $ | 47,119 | ||||
Interest income | 2,048 | 1,272 | ||||||
Gross interest expense | 57,976 | 48,391 | ||||||
minus: | ||||||||
Amortization of debt issuance costs | (4,743 | ) | (1,993 | ) | ||||
Consolidated cash interest expense | $ | 53,233 | $ | 46,398 | ||||
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(3) | Funded Indebtedness was as follows: |
December 31, | ||||||
2006 | 2005 | |||||
(In Thousands) | ||||||
Term loan facility | $ | 477,300 | $ | 540,000 | ||
8% senior subordinated notes | 150,000 | 150,000 | ||||
Insurance bonds | 404 | 201 | ||||
Guarantee obligations (see Debt Guarantees described below) | 15,781 | 16,097 | ||||
Capital leases | 5,657 | 6,454 | ||||
Standby letters of credit (primarily with our casualty insurance carrier, Liberty Mutual) | 6,464 | 6,661 | ||||
Funded indebtedness of Trilogy Egg Products, Inc. | 2,537 | 2,785 | ||||
Other | 50 | 234 | ||||
$ | 658,193 | $ | 722,432 | |||
The aggregate maturities of our long-term debt, our lease commitments and our long-term purchase commitments for the years subsequent to December 31, 2002,2006, are as follows:
|
| Long-term Debt |
| Lease Commitments |
| Long-term Purchase Commitments(1) |
| Total(2) |
| |||||||||
2003 |
|
| $ | 17,671,000 |
|
| $ | 6,901,000 |
| $ | 4,619,000 |
| $ | 29,191,000 |
| |||
2004 |
| 14,699,000 |
| 7,006,000 |
| 4,363,000 |
| 26,068,000 |
| |||||||||
2005 |
| 18,401,000 |
| 5,553,000 |
| — |
| 23,954,000 |
| |||||||||
2006 |
| 23,356,000 |
| 5,014,000 |
| — |
| 28,370,000 |
| |||||||||
2007 |
| 175,193,000 |
| 3,324,000 |
| — |
| 178,517,000 |
| |||||||||
2008 and thereafter |
| 262,069,000 |
| 16,079,000 |
| — |
| 278,148,000 |
| |||||||||
|
|
| $ | 511,389,000 |
|
| $ | 43,877,000 |
| $ | 8,982,000 |
| $ | 564,248,000 |
| |||
Payments Due by Period (In Thousands) | |||||||||||||||
Contractual Obligations | Total | Less Than 1 Year | 1-3 Years | 3-5 Years | More Than 5 Years | ||||||||||
Long-term debt (1) | $ | 640,137 | $ | — | $ | 9,066 | $ | 471,714 | $ | 159,357 | |||||
Capital lease obligations | 5,657 | 837 | 1,854 | 2,177 | 789 | ||||||||||
Operating lease obligations | 33,190 | 6,106 | 12,526 | 8,636 | 5,922 | ||||||||||
Purchase obligations (2) | 932,955 | 149,078 | 310,027 | 180,432 | 293,418 | ||||||||||
Deferred compensation | 16,252 | — | — | — | 16,252 | ||||||||||
Interest on fixed rate debt | 84,000 | 12,000 | 24,000 | 24,000 | 24,000 | ||||||||||
Total | $ | 1,712,191 | $ | 168,021 | $ | 357,473 | $ | 686,959 | $ | 499,738 | |||||
(1) | Does not include variable interest. |
(2) |
| |
|
|
We have entered into substantial purchase obligations to fulfill our egg, potato and cheese requirements. We maintain long-term egg procurement contracts with numerous cooperatives and egg producers throughout the Midwestern and Eastern United States and Canada, which supply approximately 45% of our annual egg requirements. Most of these contracts vary in length from 18 to 120 months. The egg prices are primarily indexed to grain or Urner Barry market indices. One egg supplier provides more than 10% of our annual egg requirements. Based upon the best estimates available to us for grain and egg prices, we project our purchases from our top five contracted egg suppliers will approximate $106 million in 2007, $104 million in 2008, $99 million in 2009, $80 million in 2010 and $17 million in 2011, and that the 2007 amount will account for approximately 34% of our total egg purchases this year. In addition, we have contracts to purchase potatoes that expire in 2007. These contracts will supply approximately 49% of the Potato Products Division’s raw potato needs in 2007. Two potato suppliers are each expected to provide more than 10% of our 2007 potato requirements. We had no forward buy cheese contracts at December 31, 2006. Please see our Contractual Obligations chart above for our estimated breakdown of these obligations during the coming year, one to three year, three to five year, and more than five year periods.
WeAs discussed above, we have a credit agreement with various lenders, including commercial banks, other financial institutions and investment groups, which expires in 20072009 and 20082010 and provides credit facilities which originally provided $470$595 million. As amended in 2005, the credit agreement provides $640 million. Within thesethe credit facilitiesagreement, there is a $100 million revolving line of credit. As of December 31, 2002, approximately $3002006, $477 million was outstanding
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under the credit agreement, withplus approximately $7.5$6.5 million securedwas used under the revolving line of credit for letters of credit. After paying our stockholder approximately $70.1 million in dividends in 2004, we made a voluntary repayment of $35 million under the credit agreement in December 2004. During 2005, we effectively made, as part of the credit agreement amendment process in November 2005, another voluntary repayment of approximately $49 million. In December 2006, we made another voluntary repayment of $60 million. At the time of the Merger, largely the same lender group provided us with a $135 million senior unsecured term loan agreement, which was to expire in 2011. The senior unsecured term loan was repaid in 2005, at which time the senior unsecured term loan was terminated.
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The weighted average interest rate for our borrowings under the credit agreement adjusted for the effects of hedging activities, was 6.76%approximately 7.35% at December 31, 2002.2006. Given our business trends and cash flow forecast, we do not anticipate a significantany use of the revolving line of credit during 2003.2007, except for letters of credit purposes. However, it is possible that one or more acquisitions could arise, which could result in much of the revolving line of credit being utilized at some point.
The credit agreement contains various restrictive covenants. It prohibits us from prepaying other indebtedness, including the notes, and it requires us to maintain specified financial ratios, such as a minimum ratio of EBITDA to interest expense, a minimum fixed charge coverage ratio, a maximum ratio of senior debt to EBITDA and a maximum ratio of total debt to EBITDA. In addition, the credit agreement prohibits us from declaring or paying any dividends and prohibits us from making any payments with respect to the notes if we fail to perform our obligations under, or fail to meet the conditions of, the credit agreement or if payment creates a default under the credit agreement. The indenture governing the subordinated notes, among other things: (i) restricts our ability and the ability of our subsidiaries to incur additional indebtedness, issue shares of preferred stock, incur liens, pay dividends or make certain other restricted payments and enter into certain transactions with affiliates; (ii) prohibits certain restrictions on the ability of certain of our subsidiaries to pay dividends or make certain payments to us; and (iii) places restrictions on our ability and the ability of our subsidiaries to merge or consolidate with any other person or sell, assign, transfer, lease, convey or otherwise dispose of all or substantially all of our assets. The indenture related to the notes and the credit agreement also contain various covenants which will limit our discretion in the operation of our businesses. We were in compliance with all of the covenants in the indenture and the credit agreement as of December 31, 2002.
We may repurchase from time to time a portion of our senior subordinated notes, subject to market conditions and other factors. No assurance can be given as to whether or when, or at what prices, such repurchases willmay occur. Any such repurchases would be limited by certain restrictions found in our credit agreement and in the indenture governing the subordinated notes.
The indenture requires the Company to pay certain amounts, as set forth in the indenture, if repurchases occur before the specified dates.
Our ability to make payments on and to refinance our debt, including the senior subordinated notes, and to fund planned capital expenditures and otherwise satisfy our obligations will depend on our ability to generate sufficient cash in the future. This, to some extent, is subject to general economic, financial, competitive and other factors that are beyond our control. We believe that, based on current levels of operations, we will be able to meet our debt service and other obligations when due. Significant assumptions underlie this belief, including, among other things, that we will continue to be successful in implementing our business strategy and that there will be no material adverse developments in our business, liquidity or capital requirements. If our future cash flows from operations and other capital resources are insufficient to pay our obligations as they mature or to fund our liquidity needs, we may be forced to reduce or delay our business activities and capital expenditures, sell assets, obtain additional debt or equity capital or restructure or refinance all or a portion of our debt, including the senior subordinated notes, on or before maturity. We can provide no assurances that we would be able to accomplish any of these alternatives on a timely basis or on satisfactory terms, if at all. In addition, the terms of our existing and future indebtedness, including the senior subordinated notes and our newsenior credit agreement,facility may limit our ability to pursue any of these alternatives.
Our longer-term planning is focused on growing our sales, earnings and cash flows primarily by focusing on our existing business lines, through expanding product offerings, increasing production capacity for value-added products and broadening customer bases. We believe our financial resources are sufficient to meet the working capital and capital spending necessary to execute our
20
longer-term plans. In executing these plans, we expect to reduce debt over the coming years. However, possible significant acquisition activity could result in us seeking additional financing resources, which we would expect would be available to us if they are sought.
CAPITAL SPENDING
Capital Spending
We invested approximately $27$33.8 million in capital expenditures during the year ended December 31, 2002, and the Company and Predecessor made capital investments of approximately $34in 2006, $40.7 million in 20012005, and approximately $37$37.7 million in 2000.2004. Capital expenditures each year mainly related to expanding capacity for value-added products, especially in the egg and dairy products divisions, to expandexpanding warehouse space for all of our divisions, and the upgrading of computer technology. Also, during 2002, we purchased substantially all of the egg-related assets of Canadian Inovatech Inc. for approximately $18 million.information technology systems. Capital expenditures in 2002, 20012006, 2005, and 20002004 were funded from cash flowflows from operations and borrowings under our credit facilities.
facility.
We plan to spend approximately $39.5$41.0 million in total capital expenditures for 2003,2007, which will be used to expand capacity for higher value-added egg products, maintain existing production facilities, expand refrigerated warehouse capacity,replace tractors and trailers, and to expand production capacity for value-added products, such as specialty potato and dairy products.upgrade information technology systems, among other projects. This spending willis expected to be funded from operating cash flow, plus available capacity under our revolving line of credit, if need be.flows.
DEBT GUARANTEES
Debt Guarantees
We have guaranteed, through our Waldbaum subsidiary, the repayment of certain industrial revenue bonds used for the expansion of the wastewater treatment facilities of severalthree municipalities where we have food processing facilities. The repayment of these bonds is funded through the wastewater treatment charges paid by the Company.us. However, should those charges not be sufficient to pay the bond payments as they become due, we have agreed to pay any shortfall. The remaining principal balance of these bonds at December 31, 20022006 was approximately $6,700,000.$15.8 million.
INSURANCE
Insurance
In general, our insurance costs have increaseddeclined over the past three years. TheRegarding our largest insurance industry trends toward significantly higher premiums were accelerated by global geo-political eventsprograms, in the fall of 2001. We anticipate2006 our 2003 property and casualty insurance premiums will rise by approximately 15%declined from 20022005 levels withand, due to an extended term, we did not have a change in premium for our property coverage in 2006. We expect a further premium increases likelydecline in 2004.our casualty insurance premiums in 2007 based upon counsel from our broker and we recently secured a decrease in property insurance rates for 2007. We have also experienced, and expect to continue to see,experience, rising premiums for the Company’sour portion of health and dental insurance benefits offered to our employees.employees, although the past three years we have succeeded in maintaining such increases below prevailing market rates.
CRITCIAL ACCOUNTING POLICIES AND ESTIMATES21
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations is based upon the consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate estimates, including those related to the allowance for doubtful accounts, goodwill and intangible assets, accrued promotion costs, accruals for insurance, accruals for environmental matters, financial instruments and income tax provision. We base these estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which 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.
21
We believe the following critical accounting policies reflect the significant judgments and estimates used in the preparation of our consolidated financial statements.
Allowance for doubtful accounts
Doubtful Accounts
We make estimates ofestimate the uncollectibility of our accounts receivable.receivable and record an allowance for uncollectible accounts. In determining the adequacy of the allowance, we analyze the value of our customer’s financial statements, historical collection experience, aging of receivables and other economic and industry factors. It is possible that the accuracy of the estimation process could be materially impacted by different judgments as to collectibility based on the information considered and further deterioration of accounts.
Goodwill, Customer Relationships and Other Intangibles
We assess the impairment of identifiable intangibles, long-lived assets and related goodwill whenever events or changes in circumstances indicate the carrying value may not be recoverable. Factors which could trigger an impairment review include significant under-performance relative to expected historical or projected future operating results, significant changes in the use of acquired assets or our strategy and significant negative industry or economic trends. For
We recognize the excess cost of an acquired entity over the net amount assigned to assets acquired, including intangible assets with indefinite lives, and long-livedliabilities assumed, as goodwill. Goodwill and intangible assets with indefinite lives (trademarks) are tested for impairment on an annual basis during the fourth quarter, and between annual tests whenever there is an impairment indicated. Fair values are estimated based on our best assessment may occur ifof market value compared with the corresponding carrying value of the reporting unit, including goodwill. Impairment losses will be recognized whenever the implied fair value is less then the carrying value of the asset exceeds the undiscounted cash flows from therelated asset.
When we determine that the carrying value of intangibles, long-lived assets and related goodwill may not be recoverable based upon the existence of an impairment, we measure any potential impairment based on a projected discounted cash flow method using a discount rate determined by management to be commensurate with the risk inherent in our current business model. On January 1, 2002, we adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” and were required to assess our goodwill for impairment issues upon adoption, and are required to do so at least annually now.
Accrued promotion costs
Promotion Costs
The amount and timing of expense recognition for customer promotion activities involve management judgment related to estimated participation, performance levels, and historical promotion data and trends. The vast majority of year-end liabilities associated with these activities are resolved within the following fiscal year and, therefore, do not require highly uncertain long-term estimates.
Customer incentive programs include customer rebates, volume discounts and allowance programs. We have contractual arrangements with our customers and utilize agreed-upon discounts to determine the accrued promotion costs related to these customers. In addition, we have contractual arrangements with end-user customers and utilize historical experience to determine this accrual.
Accruals for insurance
Insurance
We are primarily self-insured for our medical and dental liability costs. We maintain “high deductible”high deductible insurance policies for our workers compensation, and general liability and automobile liability costs. It is our policy to record our self-insurance liabilities based on claims filed and an estimate of claims incurred but not yet reported. Any projection of losses concerning medical, dental, workers compensation, and general liability and automobile liability is subject to a considerable degree of variability. Among the causes of this variability are unpredictable external factors affecting future inflation rates, litigation trends, legal interpretations, benefit level changes and claim settlement patterns.
22
Accruals for Environmental Matters
We review environmental matters on a quarterly basis. Accruals for environmental matters are recorded when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated, based on current law and existing technologies. Accruals are adjusted periodically as assessment and remediation efforts progress or when additional technical or legal information becomes available. Accruals for environmental liabilities are included in the balance sheet at undiscounted amounts and exclude claims for recoveries from insurance or other third parties.
Financial instruments
Instruments
We use derivative financial instruments to manage our cash flow exposure to various market risks, including certain interest rates,rate, cheese, grain and feed costs. The fair value of these derivative financial instruments is based on estimated amounts which may fluctuate with market conditions.
Income tax provision
Taxes
Income tax expense involves management judgment as to the ultimate resolution of any tax issues. Historically, our assessments of the ultimate resolution of tax issues have been reasonably accurate. The current open issues are not dissimilar from historical items.
22
RECENT ACCOUNTING PRONOUNCEMENTS
On January 1, 2002,In July 2006, the Financial Accounting Standards Board issued Interpretation No. 48,Accounting for Uncertainty in Income Taxes (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. While our analysis of the impact of FIN 48 is not yet complete, we adopted Emerging Issues Task Force (EITF) Issue No. 00-25, Vendor Income Statement Characterization of Consideration to a Reseller on the Vendors Products, effective January 1, 2002. The adoption of EITF Issue 00-25 diddo not anticipate it will have a material effectimpact on our consolidated financial statements. In addition, we adopted EITF Issue No. 01-09, Accounting for Consideration given by a Vendor to a Customer (including a Resellershareholder’s equity at the time of the Vendor’s Products),adoption. effective January 1, 2002. The adoption of EITF Issue No. 01-09 did not have a material effect on our consolidated financial statements.
In July 2001,September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 143, “Accounting for Asset Retirement Obligations” which provides accounting requirements for retirement obligations associated with tangible long-lived assets. 157, Fair Value Measurements (“SFAS No. 143157”). This standard clarifies the principle that fair value should be based on the assumptions that market participants would use when pricing an asset or liability. Additionally, it establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. This standard is effective for financial statements issued for fiscal years beginning after JuneNovember 15, 2002.2007. We are currently evaluating the impact of this statement. We believe the adoption of SFAS No. 143157 will not have a material impact on our consolidated financial position or results of operations.
In April 2002,September 2006, the FASBSEC staff issued SFASStaff Accounting Bulletin (“SAB”) No. 145, “Rescission108, “Considering the Effects of FASB Statement 4, 44, and 64, AmendmentPrior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB 108 was issued in order to eliminate the diversity of FASB Statement No. 13, and Technical Corrections”. SFAS No. 145 rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishmentpractice surrounding how public companies quantify financial statement misstatements. The Company adopted SAB 108 by using the cumulative effect transition method provided for in SAB 108 as of Debt” Under SFAS No. 4, all gains and losses from extinguishment of debt were required to be aggregated and, if material, classified as an extraordinary item, net of related income tax effect. SFAS No. 145 requires that gains and losses from extinguishment of debt be classified as an extraordinary item only if they are part of the entities recurring operations and not unusual or infrequent.January 1, 2006. The effectimpact of adopting this standard onSAB 108 reduced our financial statements was to reclassify our extraordinary loss in the three-month period ended March 31, 2001 to other expense in the statement of operations.retained earnings by $3.3 million effective January 1, 2006.
Market Risk
In June 2002, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized and measured initially at fair value only when the liability is incurred. Prior to the adoption of this Standard, a liability for an exit cost, as defined by Emerging Issues Task Force Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)”, was recognized at the date of an entity’s commitment to an exit plan. SFAS No. 146 was effective for the Company for exit plans or disposal activities initiated after December 31, 2002. Adoption is not expected to have a material impact on our financial position or results of operations.Commodity Hedging
In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others." This interpretation elaborates on the disclosure requirements in the financial statements concerning obligations under certain guarantees. It also clarifies the requirements related to the recognition of liabilities by a guarantor at the inception of certain guarantees. The disclosure requirements of this interpretation were effective for us on December 31, 2002, but did not require any additional disclosure. The recognition provisions of the interpretation are applicable only to guarantees issued or modified after December 31, 2002. We do not expect adoption of these recognition provisions to have a material impact on our financial position or results of operations.
In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities." This interpretation addresses the requirements for business enterprises to consolidate related entities in which they are the determined to be the primary beneficiary as a result of their variable economic interests. The interpretation is intended to provide guidance in judging multiple economic
23
interests in an entity and in determining the primary beneficiary. The interpretation outlines disclosure requirements for variable interest entities in existence prior to January 31, 2003 and outlines consolidation requirements for variable interest entities created after January 31, 2003. Adoption is not expected to have a material impact on our consolidated financial statements.
MARKET RISK
COMMODITY HEDGING
COMMODITY RISK MANAGEMENT.Commodity Risk Management. The principal market risks to which we are exposed that may adversely affect our results of operations and financial position include changes in future commodity prices and interest rates. We seek to minimize or manage these market risks through normal operating and financing activities and through the use of commodity contracts and interest rate swap agreements, where practicable. We believe that the use of these instruments to manage risk is in our best interest. We do not trade or use instruments with the objective of earning financial gains on the commodity price or interest rate fluctuations, nor do we use instruments where there are not underlying exposures.
The primary raw materials used in the production of eggs are corn and soybean meal. We purchase these materials to feed our approximately 1313.5 million hens, which produce approximately 30% of our annual egg requirements. Shell and liquid eggs are purchased from third-party suppliers and in the spot market for the remainder of the Egg Products Division’s needs. Eggs, corn and soybean meal are commodities that are subject to significant price fluctuations due to market conditions which, in certain circumstances, can adversely affect the results of operations.
In order to reduce the impact of changes in commodity prices on our operating results, we have developed a risk management strategy that includes the following elements has been developed:elements:
•We typically hedge a significant percentage of our grain commodity requirements, fortargeting to have, on average, any given forward 12 month period’s grain-for-feed needs 50% covered. This covers both internal egg production and third-party egg procurement contracts that are priced based on grain prices, which collectively account for approximately 65% of our egg requirements. This activity protects against unexpected increases in grain prices and provides predictability with respect to a portion of future raw materials costs. Hedging can diminish the opportunity to benefit from the improved margins that would result from an unanticipated decline in grain prices. The degree to which we are hedged varies based on our expectation of future commodity prices.
•23
We seek to align our procurement and sales volumes by matching the percentage of variable pricing contracts with our customers and the percentage of raw materials procured on a variable basis. This matching of our variable priced procurement contracts with that of variable priced sales contracts provides us with a natural hedge during times of grain and egg market volatility. As part of this effort, we are attempting to transition customers to variable pricing contracts that are priced off the same index used to purchase shell and liquid eggs. These efforts have generally been successful over the past twofew years.
•We have negotiated agreements with certain of our fixed price customers which allow us to raise prices by giving 30 to 60 days notice in response to increased commodity prices. The majority of
24
these contracts are with major broad-line foodservice distributorcustomersdistributor customers who are generally less sensitive to price increases because their customers purchase food products from them on a cost-plus basis.
•We are continuing to transition customers from lower value-added egg products to higher margin, higher value-added specialty products. These products are less sensitive to fluctuations in underlying commodity prices because the raw material component is a smaller percentage of total cost and we generally have the ability to pass through certain cost increases related to our higher value-added egg products to customers. This transition to higher value-added specialty products has taken place gradually over the last five to sixpast 10-15 years. These products represented
During 2006, we settled forward buy cheese contracts of approximately 60%20.0 million pounds, or 26% of our egg products sales in 2002, up fromCrystal Farms branded cheese purchases, at a premium to the market of approximately 52% in 1997.
The following table is a sensitivity analysis that estimates our exposure to market risk associated with corn and soybean meal futures contracts. The notional value of commodity positions represents the notional value of the corn and soybean meal futures$3.7 million. No forward buy cheese contracts for the year endedwere outstanding at December 31, 2002. Market risk is estimated as the potential loss in fair value resulting from a hypothetical 10% adverse change in commodity prices (amounts in thousands).2006.
|
| Notional |
| Market |
| |||
Corn futures contracts: |
|
|
|
|
| |||
|
|
|
|
|
|
|
|
|
| Highest position |
| $ | 40,255 |
| $ | 4,026 |
|
| Lowest position |
| 16,594 |
| 1,659 |
| ||
| Average position |
| 23,918 |
| 2,392 |
| ||
|
|
|
|
|
| |||
Soybean meal futures contracts: |
|
|
|
|
| |||
|
|
|
|
|
|
|
|
|
| Highest position |
| $ | 20,126 |
| $ | 2,013 |
|
| Lowest position |
| 13,696 |
| 1,370 |
| ||
| Average position |
| 14,995 |
| 1,500 |
|
During 2001, we began using futures contracts to cover a portion of our estimated cheese procurement needs. During 2002 we used such contracts to hedge a portion of our needs for a portion of the year. At December 31, 2002, there were no such contracts.
Additionally, we hedgeWe partially mitigate some of our natural gas requirements for producing our products by fixing the price for a portion of our natural gas usage. At December 31, 2002, the net fair value of such fixed priceThe monthly purchases was approximately $4.6 million. These monthly purchasesfor natural gas have been made throughfor January, February and March 20032007 and cover approximately 75% of our estimated usage requirements during that period. The potential loss in fair valueperiod, or approximately 21% of these contacts resulting from a 10% adverse change in the underlying commodity prices would be approximately $0.5 million.
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Additionally,our annual needs. Also, we partially mitigate the risk of variability of our transportation-related fuel costs through the use of home heating oil futures contracts.contracts from time to time. The monthly purchases for home heating oil are for January through December 2007 and cover approximately 52% of our estimated annual usage requirements. At December 31, 2002,2006 the net fairnotional value of such contractsthe combined fixed price purchases for natural gas and home heating oil was approximately $0.5$8.8 million, with a market risk of $0.8 million. These contracts expire at various times through March 2003 and cover approximately 25% of ourMarket risk is estimated usage and exposure during that period. Theas the potential loss in fair value of these contracts resulting from a hypothetical 10% adverse change in the underlying commodity prices would be approximately $0.05 million.
INTEREST RATES
price.
Interest Rates
Due to ourthe Merger, we have fixed rate debt of $200$150 million, which we believe hashad a fair value of approximately the same amount as of the end of 2002.2006. The market risk related to this fixed rate debt, which represents the impact on the fair value from a hypothetical 100 basis point change in interest rates, is $2$1.5 million. Our credit agreement debt obligations of approximately $300$477 million carry a variable rate of interest. We believe the fair value of this debt approximates $300approximated $477 million as of the end of 2002.2006. The interest paid on thosethese obligations floats with market changes in interest rates. As partrates, though a majority of our risk management strategy, we have entered into interest swap arrangements that correspond with the interest payment terms on $215 million borrowed under the variable portion of our credit agreement. As such, the market risk relatedagreement debt is presently tied to these interest rate swaps using the same assumption as above would be $2.15 million.six month Eurodollar rates.
ITEM 7A – 7A—QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations – Operations—Market Risk, above.
ITEM 8 - 8—FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements and related notes and schedules required by this Item are set forth in Part IV, Item 15 herein.
|
| QUARTER |
| ||||||||||
2002 |
| FIRST |
| SECOND |
| THIRD |
| FOURTH |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 278,429 |
| $ | 289,753 |
| $ | 293,954 |
| $ | 306,024 |
|
Gross profit |
| 51,116 |
| 54,204 |
| 54,177 |
| 55,330 |
| ||||
Net earnings |
| 5,359 |
| 7,316 |
| 7,366 |
| 9,620 |
| ||||
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2001 |
| Predecessor |
| Company |
| ||||||||
|
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 275,627 |
| $ | 295,109 |
| $ | 299,225 |
| $ | 291,308 |
|
Gross profit |
| 47,920 |
| 50,254 |
| 50,789 |
| 50,591 |
| ||||
Net earnings (loss) |
| (5,653 | ) | 1,669 |
| 3,297 |
| 4,849 |
| ||||
ITEM 9 – 9—CHANGES IN AND DISAGREEMENTSDISAGREEMENT WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
On August 23, 2002, we dismissed Grant Thornton LLP (“Grant Thornton”)ITEM 9A—CONTROLS AND PROCEDURES
(a) Our management evaluated, with the participation of the Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as our independent auditor and appointed PricewaterhouseCoopers LLP (“PricewaterhouseCoopers”amended (the “Exchange Act”)), as our new independent accountants for the fiscal year endingof December 31, 2002. This determination followed a decision2006. Based on their evaluation, our principal executive and principal financial officers concluded that our disclosure controls and procedures were effective as of December 31, 2006.
(b) There has been no change in our Audit Committee, upon recommendation ofinternal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during our equity sponsors, to seek proposals from other independent auditing firms to audit our financial statements for fiscal 2002. The decision not to renew the engagement of Grant Thornton and to retain PricewaterhouseCoopers as our independent auditor for fiscal 2002 was approved by our Board of Directors upon the recommendation of the Audit Committee. The decision not to retain Grant Thornton was not a reflection of Grant Thornton’s capabilities or quality of service. Grant Thornton provided quality service and demonstrated a high level of professionalism throughout its relationship with us.
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Grant Thornton’s reports on our consolidated financial statements for each of the fiscal yearsquarter ended December 31, 2001 and 2000 did2006, that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B—OTHER INFORMATION
We do not contain an adverse opinion or disclaimer of opinion, nor were they qualified or modified ashave any information that was required to uncertainty, audit scope or accounting principles.
During the fiscal years ended December 31, 2001 and 2000, to the date of dismissal of Grant Thornton, there were no disagreements with Grant Thornton on any matter of accounting principle or practice, financial statement disclosure, or auditing scope or procedure which, if not resolved to Grant Thornton’s satisfaction, would have caused it to make a reference to the subject matter in connection with its report for such years. None of the reportable events described under Item 304(a)(1)(v) of Regulation S-K occurred within our two most recent fiscal years and the subsequent interim period. Current Reportsbe reported on Form 8-K and Form 8-K/A were filed withduring the Commission on August 23, 2002 and September 25, 2002 regarding this dismissal.fourth quarter that was not reported.
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PART III
ITEM 10 – 10—DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Michael Foods, Inc. isWe are a wholly ownedwholly-owned subsidiary of M-Foods Holdings, Inc., a corporation owned by M-FoodsMichael Foods Investors, LLC, whose members include affiliates of Vestar CapitalThomas H. Lee Partners, L.P. and Goldner Hawn Johnson & Morrison, members of our senior management and affiliates of the Michael family.management. Each member of the management committee of M-FoodsMichael Foods Investors, LLC is also a director of the Company. Charles D. Weil is not on the management committee of Michael Foods and was elected pursuant to the terms of a securityholders agreement. For more information, see Item 13— Certain Relationships and Related Transactions.
Investors, LLC.
The names of the executive officers directors and key employeesdirectors of Michael Foods, and their ages and positions, are as follows:
| Age |
|
| |||
Gregg A. Ostrander (2) |
|
| ||||
John D. Reedy |
| Executive Vice President, Chief Financial Officer | ||||
James G. Mohr | 55 | Senior Vice President—Supply Chain | ||||
Mark W. Westphal | 41 | Senior Vice President—Finance | ||||
Mark D. Witmer |
|
| ||||
|
| President— | ||||
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|
| ||||
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|
| ||||
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|
| ||||
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| ||||
|
|
| ||||
|
| Director | ||||
Jerome J. Jenko |
| Director | ||||
|
| Director | ||||
|
|
| ||||
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| ||||
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|
| ||||
|
| Director |
(1) | Member of our audit committee |
(2) | Member of our compensation committee |
(1) Members of our Audit Committee
(2) Members of our Compensation Committee
(3) Members of our Risk Management Committee
(4) Members of our ad hoc Litigation Committee
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GREGGGregg A. OSTRANDEROstrander is our President andChairman, Chief Executive Officer and President. He has held these positionsthe office of Chief Executive Officer since 1994.1994, has been our Chairman since 2001, and was President from 1994 – January 2006 and since August 2006. Mr. Ostrander has also been Chairman since 2001. Mr. Ostrander had been a director of the Predecessor beginning inMichael Foods since 1994. In 1993, Mr. Ostrander served as the Predecessor’sour Chief Operating Officer. Mr. Ostrander is also a director of Arctic Cat Inc., a recreational vehicle manufacturer, and of Birds Eye Foods, Inc., a food company.
JOHNJohn D. REEDYReedy is our Executive Vice President and Chief Financial Officer and Treasurer and has held these dual positions since 2000. From 1988 to 2000, Mr. Reedy was the Predecessor’sour Vice President—Finance and Chief Financial Officer, and he has been Predecessor and Company Treasurer since 1990.Officer.
MARK D. WITMERJames G. Mohr is our AssistantSenior Vice President—Supply Chain and has held that position since 2004. From 1996 to 2003, Mr. Mohr was our Vice President—Supply Chain. Mr. Mohr has served us in various transportation and logistics management positions since 1994.
Mark W. Westphal is our Senior Vice President-Finance and has held that position since 2006. Mr. Westphal has served us in various financial positions since 1995, most recently as Vice President – Customer Accounting & Analysis.
Mark D. Witmer is our Treasurer and Secretary. HeMr. Witmer has held the former position with the Predecessorsince 2003 and the Company, since 1995 and has held the latter position since 2001. Mr. Witmer joined the Predecessorus as the Director of Corporate Communications in 1989.
JAMES D. CLARKSON is President of the Potato Products, Dairy Products and Refrigerated Distribution divisions, positions he has held since 1995, 2000 and 2002, respectively. Mr. Clarkson joined the Predecessor in 1994 as Vice President and General Manager of Crystal Farms.
BILL L. GOUCHERMark B. Anderson is the President of the Egg Productsour Refrigerated Distribution Division, a position he has held since 2000. He has also been President of Waldbaum since joining the Predecessor in 1993.
BRADLEY L. COOK is Executive Vice President of Corporate Development of our Egg Products Division. He has held this position since2004. From 2002 and previously was Executive Vice President and Chief Financial Officer for the Division, and previously Waldbaum, beginning in 1992.
MAX R. HOFFMANN is the Chief Financial Officer for our Potato Products, Dairy Products and Refrigerated Distribution divisions. He has held the Potato Products position since 1995, the Dairy Products position since 2000, and the Refrigerated Distribution position since early 2002. He previouslyto 2003, Mr. Anderson served as Controller of the Refrigerated Distribution Division from 1993 to 1995.
JAMES MOHR is our Vice President—Supply Chain Logistics, a position he has held with the Predecessor and the Company since 1996.
HAROLD D. (DEAN) SPRINKLE is our Vice President/General Manager of the Potato ProductsDivision. From 1998 – 2002, Mr. Anderson held various business development and Dairy Products Divisions,general manager positions within the Division.
Todd M. Abbrecht has been a director of Michael Foods since November 2003 following the consummation of the Merger. Mr. Abbrecht is a Managing Director of Thomas H. Lee Partners, L.P., where he has been employed since 1992. Prior to Thomas H. Lee Partners, L.P., Mr. Abbrecht held a position in the mergers and acquisitions department of Credit Suisse First Boston. Mr. Abbrecht is a director of Simmons Bedding Company, a bedding products manufacturer and distributor, and Warner Chilcott Corporation, a specialty pharmaceutical company.
Anthony J. DiNovi has been a director of Michael Foods since November 2003 following the consummation of the Merger. Mr. DiNovi is Co-President of Thomas H. Lee Partners, L.P., where he has heldbeen employed since 2002. Previously1988. Prior to Thomas H. Lee Partners, L.P., Mr. Sprinkle was Executive Vice President—Sales for the Predecessor and the Company. He joined the Predecessor in 1989 and hasDiNovi held various positions including Vice Presidentin the corporate finance departments of Foodservice Sales, National AccountsGoldman, Sachs & Co. and U.S. Business Development.Wertheim Schroder & Co., Inc. Mr. DiNovi is a director of American Media Operations, Inc., a consumer magazine
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publisher, Nortek, Inc., a manufacturer and distributor of building products, US LEC Corporation, a voice, data and Internet services provider, Dunkin’ Brands, Inc., a quick service restaurant franchisor, West Corporation, a provider of business process outsourcing solutions and voice-related services, and Vertis, Inc., a provider of advertising, media, and marketing solutions.
Jerome J. CHRISTOPHER HENDERSONJenko has been a director and a member of the management committee of M-FoodsMichael Foods Investors since 2001. Mr. Henderson is a Managing Director of Vestar Capital Partners. Prior to joining Vestar Capital Partners in 1993, Mr. Henderson was a member of the Mergers2001 and Acquisitions group at The First Boston Corporation. Mr. Henderson is also a director of St. John Knits International, Incorporated.
JEROME J. JENKO hasMichael Foods since 1998. Mr. Jenko had been a director and a member of the management committee of M-Foods Investors since 2001. Mr. Jenko had been a director ofInvestor LLC, our Predecessor’s parent, prior to the Predecessor beginning in 1998.2003 Merger. He has been a Senior Advisor with Goldsmith, Agio, Helms and Company, an investment banking firm, since 1997. Mr. Jenko is a director of Ocean Spray Cranberries, Inc., a cranberry growing and processing cooperative, DecoPak, Inc., a privately-held cake decorating company, and Commodity Specialists Co., Inc., a privately-held commodity trading company.
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JAMES P. KELLEYCharles D. Weil has been a director and a member of the management committee of M-Foods InvestorsMichael Foods since 2001. Mr. Kelley2004. He is President and Chief Executive Officer of Vestar Capital PartnersM. A. Gedney Company (“Gedney”). Previously, he was Acting President and Chief Executive Officer of Gedney from February 2003—October 2003. Prior to joining Gedney, Mr. Weil was founder and Chief Executive Officer of C.E.O. Advisors, Inc., a consulting company, from January 2001—February 2003, and was President and Chief Operating Officer of Young America Corporation, a founding partner of Vestar Capital Partners in 1988. Mr. Kelley is a director of Consolidated Container Company LLC, St. John Knits International, Incorporatedfulfillment and SAB Wabco.customer service company, from 1993—2000.
LEONARD LIEBERMANKent R. Weldon has been a director and a memberof Michael Foods since November 2003 following the consummation of the management committee of M-Foods Investors since 2001. Since 1988,Merger. Mr. Lieberman has served as a consultant to Vestar Capital Partners and its affiliates. Currently, Mr. Lieberman is a director of Sonic Corporation, Consolidated Container Company LLC, Nice-Pak Products, Inc. and Enterprise NewsMedia, Inc.
JEFFREY J. MICHAEL has been a director and a member of the management committee of M-Foods Investors since 2001. Mr. Michael had been a director of the Predecessor beginning in 1990. Mr. Michael is President, Chief Executive Officer and director of Corstar Holdings, Inc., a holding company owning businesses engaged in providing medical cost containment, managed care services, and voice and data connectivity products and services. Mr. Michael has held these positions since 1997. Mr. Michael is a director of CorVel Corporation.
JOHN L. MORRISON has been director and a member of the management committee of M-Foods Investors since 2001. Mr. MorrisonWeldon is a Managing Director of Goldner Hawn Johnson & Morrison, a private investment company,Thomas H. Lee Partners, L.P, where he has been employed since 1991. Prior to Thomas H. Lee Partners, L.P., Mr. Weldon held a position he has held since 1989.in the corporate finance department of Morgan Stanley & Co. Incorporated. Mr. MorrisonWeldon is a director of Claire-Sprayway,Nortek, Inc., Woodcraft Industries,a manufacturer and distributor of building products, Cumulus Media Partners LLC, a radio broadcasting firm, and THL-PMPL Holding Corp., a manufacturer of plastic interior subsystems for cars and light trucks.
Audit Committee
The Board of Directors has a standing audit committee established in accordance with section 3(a)(58)(A) of the Exchange Act (15 U.S.C. 78c(a)(58)(A)). The members of the audit committee are Jerome J. Jenko, Chairman, Todd M. Abbrecht and Charles D. Weil.
Audit Committee Financial Expert
The Board of Directors is satisfied that the members of our audit committee each have sufficient expertise and business and financial experience necessary to perform their duties as the Company’s audit committee effectively. As such, no one member of our audit committee has been named by our Board of Directors as an “audit committee financial expert” as that term is defined in Item 407(d)(5) of Regulation S-K.
Code of Ethics
We have a Business Conduct Policy that applies to all of our employees. We have determined that this policy complies with Item 406 of Regulation S-K. We will provide, without charge, a copy of the Business Conduct Policy to any person who so requests in writing. Written requests may be made to Michael Foods, Inc., Havco Wood Products, Inc., American Engineered Components, Inc.301 Carlson Parkway, Suite 400, Minnetonka, Minnesota 55305, attention: Secretary. Our Internet website atwww.michaelfoods.com also contains the Business Conduct Policy.
ITEM 11—EXECUTIVE COMPENSATION
Compensation Discussion and Andersen Windows Corporation.Analysis
The goal of our executive compensation program is to ensure that our executives are compensated effectively in a manner consistent with our strategy and competitive considerations and based on management’s performance in achieving our corporate goals and objectives. Our executive compensation program is overseen by the compensation committee of our Board of Directors, which is composed of three members, one of which is our Chief Executive Officer. The committee determines the compensation of our executive officers, reviews and approves our incentive, equity and other employee benefit plans and programs and administers their application to our executive officers. Some aspects of the compensation of our Chief Executive Officer and other of our executives are determined by their employment agreements with the Company, as further discussed below. When making final compensation decisions regarding our Chief Executive Officer, the compensation committee acts without his participation. The committee generally meets twice yearly.
KEVIN A. MUNDT has been27
Compensation Philosophy and Objectives
We believe that the skill, talent, judgment and dedication of our executive officers are critical factors affecting the long-term value of our company. Therefore, our goal is to maintain an executive compensation program that will fairly compensate our executives, attract and retain qualified executives who are able to contribute to our long-term success, induce performance consistent with clearly defined corporate goals and align our executives’ long-term interests with those of our equityholders. Our current executive compensation program is mainly focused on net sales and EBITDA (earnings before interest, taxes, depreciation and amortization, as defined in our senior credit facility) growth.
Our goal is to provide overall compensation (assuming that targeted levels of performance are achieved) that is at least above the median compensation of comparable companies. The elements of compensation included in any competitive analysis generally are base salaries, annual cash incentive opportunities, and long-term incentives in the form of stock options in our parent and direct equity ownership in our parent’s parent.
Each year, our management provides the compensation committee historical and prospective breakdowns of the total compensation components for each executive officer. Our decisions on compensation for our executive officers are based primarily upon our assessment of each individual’s performance and potential to enhance long-term equityholder value. We rely upon judgment and not upon rigid guidelines or formulas in determining the amount and mix of compensation elements for each executive officer. Factors affecting our judgment include performance compared to goals established for the individual and the company at the beginning of the year and/or over a directormulti-year period, the nature and scope of the executive’s responsibilities, and effectiveness in leading our initiatives to achieve corporate goals.
When we make executive compensation decisions, we review individual performance and corporate performance. The compensation committee measures our performance against the specific goals established at the beginning of the fiscal year and determines the overall budget and targeted compensation for our executive officers. Our Chief Executive Officer, as the manager of the members of the executive team, assesses the executives’ individual contributions to our goals, as well as achievement of their individual goals, and makes a recommendation to the compensation committee with respect to any merit increase in salary and stock option grants for each member of the managementexecutive team, other than himself. Annual incentive opportunity is set forth at the start of each year, with the actual payment determined upon the relative achievement of our annual EBITDA target. Incentive payments are formula-driven using a pre-established grid (i.e., percentages over or under the target EBITDA level for the year). The committee has discretion to adjust the formula-derived incentive payments to take into account unusual factors that may have inhibited, or enhanced, achievement of M-Foods Investors since 2001. Mr. Mundt isthe annual EBITDA, as defined, target. The compensation committee evaluates, discusses and modifies or approves these recommendations and conducts a similar evaluation of the Chief Executive Officer’s contributions to our corporate goals and achievement of his or her individual goals.
Role of Executive Officers and Compensation Consultants
Our Chief Executive Officer, Chief Financial Officer and Vice President of Human Resources support the compensation committee in its work by providing information relating to our financial plans, performance assessments of our executive officers and other personnel-related data. In addition, the committee has the authority under its charter to engage the services of outside advisors, experts and others to assist it, but has not done so in recent years.
Principal Elements of Executive Compensation
Our executive compensation program consists of the three components discussed below. In general, the compensation committee’s determination with regard to one component does not affect its determinations with regard to the other components.
Base Salaries. The minimum annual base salaries of our Chief Executive Officer and certain of our other executive officers are established under employment agreements, as described elsewhere herein. These agreements are negotiated with the compensation committee, but give consideration to the scope of each executive’s responsibilities, taking into account competitive market compensation based on occasional market surveys and salaries paid by comparable companies for similar positions. We conduct performance reviews of our employees, including our executive officers, annually. Based on the performance assessments, and considering changes in salaries provided comparable personnel of companies with whom we compete for management talent, any changes in job duties and responsibilities and our overall financial results, we make adjustments, usually on an annual basis, in base salary rates.
Annual Incentive Compensation.Annual cash incentives for our executive officers are designed to reward performance that furthers profitable growth. In 2006, the compensation committee approved an annual EBITDA target for the year. The annual incentive awards for executive officers are determined on the basis of our achievement of this target.
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Our executive officers participate in our executive officer incentive program which is designed to motivate management to achieve, or exceed, an EBITDA level relatively consistent with our annual operating plan. Incentive payments for the past fiscal year are made on, or before, March 15th of the subsequent year. Incentive payments for 2006 were made on March 9, 2007.
The compensation committee has at times exercised discretion to increase or reduce the incentive amounts that resulted from the application of the formula in our executive officer incentive plan. While the committee made no such adjustments relative to amounts paid for 2006 performance, it has the authority to do so in the future if it determines that an adjustment would serve our interests and the goals of the executive officer incentive plan.
Long-Term Incentive Compensation.Generally, a membersignificant stock option grant (at the M-Foods Holdings level) is made in the year when an executive officer commences employment. The Chief Executive Officer and/or President make a recommendation relative to each individual under consideration for a stock option grant, other than for themselves. The size of each grant is generally set at a level that the compensation committee deems appropriate to create a meaningful opportunity for equity ownership based upon past grant guidelines, the individual’s position with us and the individual’s potential for future responsibility and promotion. The relative weight given to each of these factors will vary from individual to individual at the compensation committee’s discretion based upon past grant levels for comparable positions, the individual’s potential to contribute to the growth of the Company’s business, and the individual’s potential for future promotion or to otherwise take on additional management responsibilities, as well as to induce a candidate’s acceptance of a position given the competition for management talent.
When a new executive officer is hired, an option grant will be made at the first regularly scheduled meeting of the compensation committee after the officer commences employment or by the committee’s consent resolution. The exercise price of stock options is always equal to the price of our common stock as determined by a set formula at the most recent quarter’s end, as there is no public market for our equity.
Subsequent option grants may be made at varying times and in varying amounts at the discretion of the compensation committee. Historically, they have been made during our annual reviews in January or February. Changes in titles and responsibilities are considered when follow-on options are granted, as are other considerations taken into account in making grants when employment commences.
The Company’s policy is to have option awards vest over five years, on a pro rata basis, and for the number of shares for which options are awarded to be sufficient to provide the recipient with a meaningful incentive to remain in the Company’s employ on an on-going basis.
Executives are also given an opportunity to invest directly in our parent’s parent. This generally occurs at the time of hiring or at the time of a change-in-control. An opportunity is offered to buy units in Michael Foods Investors, LLC, with the determination of the equity opportunity based upon the executive’s responsibilities and value to the Company, and his or her perceived ability to enhance equity values over time. There are guidelines that have been used historically by our parent’s parent in considering the level of management co-investment, but there is discretion in determining the direct equity opportunity offered to any executive or other management team member. Generally, the individuals have agreed to fund the maximum equity amount they are offered.
Perquisites
Our executive officers participate in the same group insurance and employee benefit plans as our other employees. The Chief Executive Officer, President/Chief Operating Officer and Chief Financial Officer are offered a club membership, at the Company’s expense, to facilitate business development. Historically, the Chief Executive Officer and President/Chief Operating Officer have availed themselves of this perquisite, while the Chief Financial Officer has not. The same officers are offered reimbursement for an annual executive physical, the usage of which varies by officer and by year, and have their tax preparation expenses paid by us. Our use of perquisites as an element of compensation is limited and is largely based on the historical practices and policies of the Company. We do not view perquisites as a significant element of our comprehensive compensation structure, but do believe that they can be used in conjunction with our general compensation program to attract, motivate and retain desirable managers in a competitive environment.
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Compensation Committee Report
The compensation committee has discussed and reviewed the Compensation Discussion and Analysis with management. Based upon this review and discussion, the compensation committee recommended to the Board of Directors that the Compensation Discussion and head of the Retail and Consumer and Financial Services practices of Mercer Management Consulting. Mercer is a global management consulting firm which advises CEO’s on issues of strategy, operations and brand architecture. Since 1982, Mr. Mundt has served as a consultant to multinational corporations, working for Corporate Decisions, Inc. until its merger into Mercer Management Consulting. Mr. Mundt is a director of Remington Products Company, L.L.C. and Telephone and Data Systems.Analysis be included in this report.
The compensation committee,
Note: In February 2002 one of our directors, Daniel O’Connell, of Vestar Capital Partners, resigned from the Board of Directors due to other business time commitments.Anthony J. DiNovi, Chairman
Gregg A. Ostrander
ITEM 11 – EXECUTIVE COMPENSATIONKent R. Weldon
Compensation Table
The following table sets forth information concerning the compensation of our chief executive officerChief Executive Officer, Chief Financial Officer and each of our fourthree most highly compensated executive officers, referred to as the named executive officers, during each2006.
Summary Compensation Table
Name and Principal Position | Fiscal Year | Salary | Non-equity Incentive Plan Compensation (3) | Change in qualified | All Other Compensation (1) | Total | ||||||||||
Gregg A. Ostrander Chairman, Chief Executive Officer and President | 2006 | $ | 816,154 | $ | 102,019 | 176,588 | $ | 30,952 | $ | 1,125,713 | ||||||
John D. Reedy Executive Vice President and Chief Financial Officer | 2006 | 495,192 | 53,629 | 63,201 | 10,766 | 622,788 | ||||||||||
James D. Clarkson (2) Former President and Chief Operating Officer | 2006 | 389,423 | — | 50,187 | 2,426,375 | 2,865,985 | ||||||||||
Charles D. Bailey Vice President of Operations | 2006 | 225,000 | 17,595 | 6,750 | 9,708 | 259,053 | ||||||||||
James G. Mohr Senior Vice President—Supply Chain | 2006 | 215,961 | 16,888 | 16,729 | 9,257 | 258,835 | ||||||||||
Mark B. Anderson President—Refrigerated Distribution Division | 2006 | 201,846 | 21,860 | 19,532 | 9,059 | 252,297 |
(1) | Reflects the value of contributions made under the Retirement Savings Plan (a defined contribution plan), the value of life insurance premiums paid by us, and, in some instances, perquisites such as club memberships, executive physicals and tax preparation fees. |
(2) | Mr. Clarkson died in August 2006. Mr. Ostrander was re-appointed President at that time. Mr. Clarkson’s other compensation includes amounts paid to his estate as per his employment agreement of $2,400,000 and an air travel perquisite of $10,980. |
(3) | Payment for 2006 performance made in March 2007 under our incentive plans. |
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None of the last three fiscal years.
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SUMMARY COMPENSATION TABLE
|
| ANNUAL COMPENSATION |
| LONG-TERM COMPENSATION |
| |||||||||||||
NAME AND PRINCIPAL POSITION |
| FISCAL |
| SALARY |
| BONUS |
| SECURITIES |
| LTIP |
| ALL OTHER |
| |||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Gregg A. Ostrander |
| 2002 |
| $ | 650,000 |
| $ | 520,000 |
| — |
| $ | — |
| $ | 13,654 |
| |
Chairman, President and Chief Executive Officer |
| 2001 |
| 618,269 |
| 463,702 |
| — |
| 110,226 |
| 12,000 |
| |||||
| 2000 |
| 584,731 |
| 347,150 |
| 75,000 |
| — |
| 7,621 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
John D. Reedy |
| 2002 |
| 295,000 |
| 218,300 |
| — |
| — |
| 14,557 |
| |||||
Executive Vice President, Chief Financial Officer and Treasurer |
| 2001 |
| 283,462 |
| 184,250 |
| — |
| 53,157 |
| 12,909 |
| |||||
| 2000 |
| 273,269 |
| 167,593 |
| 23,000 |
| — |
| 7,780 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Bill L. Goucher |
| 2002 |
| 295,000 |
| 218,300 |
| — |
| — |
| 12,192 |
| |||||
President-Egg Products Division |
| 2001 |
| 283,462 |
| 184,250 |
| — |
| 49,153 |
| 10,706 |
| |||||
|
| 2000 |
| 258,269 |
| 145,240 |
| 30,000 |
| — |
| 7,090 |
| |||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
James D. Clarkson |
| 2002 |
| 295,000 |
| 218,300 |
| — |
| — |
| 10,580 |
| |||||
President - Potato Products, Dairy Products and Refrigerated Distribution Divisions |
| 2001 |
| 272,885 |
| 177,375 |
| — |
| 43,133 |
| 8,999 |
| |||||
| 2000 |
| 231,192 |
| 132,737 |
| 40,000 |
| — |
| 7,087 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Bradley L. Cook |
| 2002 |
| 208,846 |
| 113,550 |
| — |
| — |
| 8,270 |
| |||||
Executive Vice President-Egg Products Division |
| 2001 |
| 197,692 |
| 92,718 |
| — |
| 25,194 |
| 6,956 |
| |||||
| 2000 |
| 177,346 |
| 74,008 |
| 5,000 |
| — |
| 6,928 |
| ||||||
(1)named executive officers received stock option awards or stock awards in 2006. The estate of our deceased President and Chief Operating Officer, James D. Clarkson, exercised his vested stock options in November 2006. There were no Predecessorother stock option awards made to named executivesexercises in 2001. Pursuant to the Predecessor’s 1994 Executive Incentive Plan, as amended, stock option awards were made to certain executive officers2006.
(4) | The amounts in this column reflect amounts recorded by us for accounting purposes in connection with the M-Foods Holdings, Inc. 2003 Deferred Compensation Plan, but the amounts in this column are not currently receivable or accessible, nor do they necessarily reflect actual amounts that may become receivable. While an 8% return is recorded on funds contributed to the Deferred Compensation Plan for accounting purposes, the proceeds, if any, that the individuals listed in this table actually receive in the future in connection with the Deferred Compensation Plan will not necessarily track the recorded return and instead will depend on the amount of distributions to the holders of Class A Units of Michael Foods Investors, LLC. The amounts reflected in this column represent the difference between the 8% recorded return and 5.88%, which percentage is equal to 120% of the 4.9% federal long-term interest rate as of the adoption of the Deferred Compensation Plan. |
Option Exercises and Stock Vested in February 2000 based upon 1999 performance. The number of shares of common stock purchasable under such option awards made to named executive officers were: Mr. Ostrander – 4,500 shares; Mr. Reedy – 3,000 shares; Mr. Goucher –3,000 shares; Mr. Clarkson – 3,000 shares. Incentive Plan option grants are reflected in year earned, rather than year of grant. In addition, the following stock option grants were made under the discretionary authority of the Predecessor’s compensation committee in 2000: Mr. Ostrander – 75,000; Mr. Reedy – 23,000; Mr. Goucher – 30,000; Mr. Clarkson – 40,000; Mr. Cook – 5,000.2006
Option Awards (1) | Stock Awards | ||||||||
Name | Number of Shares Acquired on Exercise | Value Realized on Exercise | Number of Shares Acquired on Vesting | Value Realized on | |||||
Estate of James D. Clarkson | 1,215 | $ | 565,084 | — | — |
(2)Outstanding Equity Awards at December 31, 2006 Reflects the cash value of shares awarded under the Predecessor’s 1994 Executive Incentive Plan, as amended, which vested upon the Merger affecting a change in control. These Predecessor share awards had been provisionally earned in previous years, but were not vested prior to the Merger. Upon the Merger, the share awards were converted to cash based upon the Merger price of $30.10 per share.
Option Awards (1) | Stock Awards | ||||||||||||
Name | Number of Securities Underlying Unexercised Options Exercisable | Number of Securities Underlying Unexercised Options Unexercisable | Option Exercise Price | Option Expiration Date | Number of Shares or Units of Stock That Have Not Vested | Market Value or Units of Stock Not Vested | |||||||
Gregg A. Ostrander | 5,142 | 3,427 | $ | 626.99 | 11/20/2013 | — | — | ||||||
John D. Reedy | 1,825 | 1,214 | 626.99 | 11/20/2013 | — | — | |||||||
Estate of James D. Clarkson | — | — | — | — | — | — | |||||||
Charles D. Bailey | 321 | 214 | 626.99 | 11/20/2013 | — | — | |||||||
James G. Mohr | 622 | 412 | 626.99 | 11/20/2013 | — | — | |||||||
Mark B. Anderson | 321 | 214 | 626.99 | 11/20/2013 | — | — |
(1) | Stock options are with our parent, M-Foods Holdings, Inc., but are accounted for by us. All stock options vest ratably over a five year period from date of grant. |
(3)Employment Agreements Reflects the value of contributions made by Michael Foods under the retirement savings plan and the value of life insurance premiums paid by us.
Note: All the above amounts exclude stock options granted and any deferred compensation arrangements from M-Foods Holdings, Inc., our parent company.
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DIRECTOR COMPENSATION
All members of our board of directors are reimbursed for their usual and customary expenses incurred in connection with attending all board and other committee meetings. Members of the board of directors who are also our employees, employees of Vestar Capital Partners or Goldner Hawn Johnson & Morrison do not receive remuneration for serving as members of the board. Other non-employee directors receive an annual retainer of $24,000 and are paid $3,000 for each board meeting attended. Non-employee directors are paid $1,000 for each committee meeting attended, with committee chairs paid $1,500 per meeting. Non-employee directors are paid $500 for each telephonic committee or special board meeting attended, with committee chairs paid $1,000. Directors’ fees and travel expense reimbursements in 2002 totaled $145,052.
EMPLOYMENT AGREEMENTS
GENERAL PROVISIONS
General Provisions. The employment agreement with Gregg A. Ostrander provides for a term of two years, subject to certain termination rights, and automatic one year extensionsrenewals beginning with the firstsecond anniversary of the closing of the Merger. The Ostrander employment agreement provides that Mr. Ostrander’s employment (i) shall terminate automatically upon his death or disability, (ii) may terminate at the option of the Company with or without cause and (iii) may terminate at the option of Mr. Ostrander for good reason. The Ostrander employment agreement provides that Mr. Ostrander will receive an annual base salary of at least $595,000$715,000 and that he will participate in certain bonus arrangements, long-term incentive plans and employee benefit plans of Michael Foods on a basis no less favorable than available to any other executive officer. The Ostrander employment agreement provides that Mr.
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Ostrander’s annual base salary is subject to periodic review, and once increased, the increased base salary becomes a minimum. For 2006, Mr. Ostrander was eligible to receive up to 100% of his salary as an incentive bonus under the Michael Foods, Inc. Executive Officers Incentive Plan. Mr. Ostrander is subject to a noncompetition covenant and a nonsolicitation provision.
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The employment agreement with John D. Reedy provides for automatic one year renewals beginning with the second anniversary of the closing of the Merger. The Reedy employment agreement provides that Mr. Reedy’s employment (i) shall terminate automatically upon his death or disability, (ii) may terminate at the option of the Company with or without cause and (iii) may terminate at the option of Mr. Reedy for good reason. The Reedy employment agreement provides that Mr. Reedy will receive an annual base salary of at least $400,000 and that he will participate in certain bonus arrangements, long-term incentive plans and employee benefit plans of Michael Foods. For 2006, Mr. Ostrander would beReedy was eligible to receive up to 100% of his salary as an incentive bonus under the Michael Foods, Inc. Executive Officers Incentive Plan. Mr. Reedy is subject to a noncompetition covenant with respect to the businesses of the production, distribution or sales of eggs or egg products, and a nonsolicitation provision through the second anniversary of his termination. As of August 1, 2001, Mr. Ostrander’s annual base salary was adjusted to $650,000.provision.
The employment agreement with John Reedy provides for a term of two years, subject to certain termination rights and automatic one year extensions beginning with the first anniversary of the closing of the Merger. The Reedy employment agreement provides that Mr. Reedy will receive an annual base salary of at least $275,000 and that he will participate in certain bonus arrangements, long-term incentive plans and employee benefit plans of Michael Foods. Mr. Reedy would be subject to a noncompetition covenant with respect to the businesses of the production, distribution or sales of eggs or egg products, and a nonsolicitation provision through the second anniversary of his termination. As of August 1, 2001, Mr. Reedy’s annual base salary was adjusted to $295,000.
The employment agreement with Bill Goucher provides for a term beginning with the closing of the Merger through the second anniversary of a change in control, as defined in the Goucher employment agreement, subject to certain termination rights. Mr. Goucher’s annual base salary will be at least $275,000, and he will participate in certain bonus arrangements and employee benefit plans of Michael Foods. Mr. Goucher would be subject to a noncompetition covenant with respect to the businesses of the production, distribution or sales of eggs or egg products, and a nonsolicitation provision through the second anniversary of Mr. Goucher’s termination. As of August 1, 2001, Mr. Goucher’s annual base salary was adjusted to $295,000.
The employment agreement with James Clarkson provides for a term beginning with the close of the Merger through the second anniversary of a change in control, as defined in the Clarkson employment agreement, subject to certain termination rights. Mr. Clarkson’s annual base salary will be at least $250,000, and he will participate in certain bonus arrangements and employee benefit plans of Michael Foods. Mr. Clarkson would be subject to a noncompetition covenant with respect to the businesses of the production, distribution or sales of refrigerated potato products or specialty dairy products and mixes, and a nonsolicitation provision
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through the second anniversary of his termination. As of August 1, 2001, Mr. Clarkson’s annual base salary was adjusted to $295,000.
TERMINATION PROVISIONS
Termination Provisions. The Ostrander employment agreement provides that if Mr. Ostrander’s employment is terminated by his death or disability, Mr. Ostrander, or his estate or beneficiaries, will receive within 30 days, a payment equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year prorated for the months of employment in that year, plus any eligible unpaid other benefits, plus three times the total of Mr. Ostrander’s current annual base salary and target bonus.
In addition, Mr. Ostrander will receive for three years following the termination date, or until such earlier time as Mr. Ostrander becomes eligible to receive comparable benefits, certain medical, dental and life insurance benefits for himself and his family.
If Mr. Ostrander’s employment is terminated for cause or he terminates without good reason, as described below, Mr. Ostrander will receive his annual base salary through the date of termination and other benefits not yet paid under any plan, program, policy, contract or agreement with or practice of Michael Foods. “Good reason” includes, among other things, any diminution in position, authority, duties and responsibilities or any requirement to relocate or travel extensively. If Mr. Ostrander terminates his employment for good reason or if Michael Foods terminates his employment other than for cause, death or disability, Mr. Ostrander will receive a lump sum within 30 days, in an amount equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year prorated for the months of employment in that year, plus any eligible unpaid other benefits, plus three times the total of Mr. Ostrander’s current annual base salary and target bonus. In addition, Mr. Ostrander will receive for three years following the termination date, or until such earlier time as Mr. Ostrander becomes eligible to receive comparable benefits, certain medical, dental and life insurance benefits for himself and his family.
Solely as such may be applicable to any severance payments deemed made in the context of the change in ownership resulting from the acquisition, Mr. Ostrander may also be eligible to receive an additional payment of any excise tax imposed by Section 4999 of the Internal Revenue Code in connection with payments made in connection with the Merger and any future transactions, as well as a gross-upan additional payment to cover any applicable taxes such that he will retain an amount equal to the excise taxes, after all income taxes, interest and penalties associated with all such payments. In no event shall the Company be obligated to make any such payments in connection with the acquisition in excess, in the aggregate, of $6,300,000. With respect to any such payments in connection with any future transactions, the Company shall not be obligated to pay any amount in excess, in the aggregate, of $16,300,000.
Our President and Chief Operating Officer, James D. Clarkson, died in August 2006. His family/estate received, in 2006, the amounts payable per his employment agreement’s termination provisions. See Summary Compensation Table.
The Reedy employment agreement provides that if Mr. Reedy’s employment is terminated by his death or disability, Mr. Reedy, or his estate or beneficiaries, will receive within 30 days a payment equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year prorated for the months of employment in that year, plus any eligible unpaid other benefits, plus two times the total of Mr. Reedy’s current annual base salary and target bonus.
In addition, Mr. Reedy will receive for two years following the termination date, or until such earlier time as Mr. Reedy becomes eligible to receive comparable benefits, certain medical, dental and life insurance benefits for himself and his family.
If Mr. Reedy’s employment is terminated for cause or he terminates without good reason, such term having a meaning substantially similar to the meaning given such term in the Ostrander employment agreement, Mr. Reedy will receive his annual base salary through the date of termination and other benefits not yet paid under any plan, program, policy, contract or agreement with or practice of Michael Foods. If Mr. Reedy terminates his employment for good reason or if Michael Foods terminates his employment other than for cause, death or disability, Mr. Reedy will receive a lump sum within 30 days in an amount equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year prorated for the months of employment in that year, plus any eligible unpaid other benefits, plus two times the total of Mr. Reedy’s current annual base salary and target bonus. In addition, Mr. Reedy will receive for two years following the termination date, or until such earlier time as Mr. Reedy becomes eligible to receive comparable benefits, certain medical, dental and life insurance benefits for himself and his family.
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Solely as such may be applicable to any severance payments deemed made in the context of the change in ownership resulting from the acquisition,
Mr. Reedy may, under certain circumstances, also be eligible to receive an additional payment of any excise tax imposed by Section 4999 of the Internal Revenue Code in connection with payments made in connection with the Merger and any future transactions, as well as a gross-upan additional payment to cover any applicable taxes such that he will retain an amount equal to the excise taxes, after all income taxes, interest and penalties associated with all such payments.
In no event shall the Company be obligated to make any such payments in connection with the acquisition in excess, in the aggregate, of $6,300,000. With respect to any such payments in connection with any future transactions, the Company shall not be obligated to pay any amount in excess, in the aggregate, of $16,300,000.
The GoucherMohr employment agreement provides that if Mr. GoucherMohr is terminated by his death or disability, Mr. Goucher,Mohr, or his estate or beneficiaries, will receive within 30 days, a payment equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year proratedpro rated for the months of employment in that year, plus any eligible unpaid other benefits, plus an amount equal to Mr. Goucher’sMohr’s current annual base salary.
If Mr. GoucherMohr’s employment is terminated for cause or he terminates without good reason, as definedsuch term having a meaning substantially similar to the meaning given such term in the GoucherOstrander employment agreement, Mr. GoucherMohr will receive his annual base salary through the date of termination and other benefits not yet paid under any plan, program, policy, contract or agreement with or practice of Michael Foods. If Mr. Goucher’sMohr terminates his employment is terminated prior to a change in control, as described below, byfor good reason or if Michael Foods terminates his employment other than for cause, death or disability, Mr. GoucherMohr will receive a lump sum within 30 days equal to any annual base salary through the date of termination not yet paid, plus any eligible unpaid other benefits, plusin an amount equal to Mr. Goucher’s current annual base salary.
If Mr. Goucher is terminated by Michael Foods other than for cause, or if Mr. Goucher terminates his employment for good reason, in anticipation of or within two years following a change in control, Mr. Goucher will receive within 30 days a payment equal to any annual base salary through the date of termination not yet paid, plus the target bonus for the year prorated for the months of employment in that year, plus any eligible unpaid other benefits, plus two timesa payment equal to Mr. Goucher’sMohr’s current annual base salary. A change in control refers to a transaction where another party acquires voting control of Michael Foods, another party acquires substantially all of the assets of Michael Foods, or, prior to an initial public offering of Michael Foods, Vestar and its affiliates cease to have the ability to elect a majority of the board of directors of Michael Foods.
The Clarkson employment agreement contains severance provisions substantially identical to the severance provisions contained in the Goucher employment agreement.
BENEFIT PLANS, SEVERANCE PLANS AND DEFERRED COMPENSATION ARRANGEMENTS
The severance plan of the Predecessor remains effective until the second anniversary of the Merger and each of Messrs. Witmer, Cook, Sprinkle,In addition, Mr. Mohr and Hoffmann has rights under the severance plan pursuant to his respective severance and deferred compensation agreement.
33
Participants in the Predecessor’s severance plan are eligiblewill receive for certain severance arrangements should they be terminated without cause within twenty-four monthsone year following the Merger. Undertermination date, or until such earlier time as Mr. Mohr becomes eligible to receive comparable benefits, certain medical, dental and life insurance benefits for himself and his family.
Mr. Anderson has a severance agreement which provides for payment of his pro rated compensation through the plan, certain key employees are entitled to receivedate of termination, a lump sum payment equal to one times theirof two years’ total annual compensation, with some key employees beingand the continuation of certain benefits should he be terminated under certain conditions within two years of a change in control of our Crystal Farms subsidiary.
Mr. Westphal, Mr. Bailey and Mr. Witmer are not subject to any severance agreement.
Compensation Committee Interlocks and Insider Participation
The members of the compensation committee are Gregg A. Ostrander, Anthony J. DiNovi and Kent R. Weldon. The compensation arrangements for our Chief Executive Officer and certain of our executive officers were established pursuant to the terms of the respective employment agreements between us and each executive officer. The terms of the employment agreements were established pursuant to arms-length negotiations between representatives of Thomas H. Lee Partners, L.P. and each executive officer. Mr. Ostrander is also our Chief Executive Officer. No compensation committee interlock relationships existed in 2006.
Deferred Compensation Plan
Upon the closing of the Merger, certain members of management became participants in the M-Foods Holdings, Inc. (“Holdings”) 2003 Deferred Compensation Plan. Each participant contributed certain proceeds to the Deferred Compensation Plan. The Deferred Compensation Plan is a nonqualified, unfunded obligation of Holdings. Each participant’s deferred compensation account under the plan will track certain distributions to be made to the Class A Units of Michael Foods Investors, LLC, however, the plan will not hold actual Class A Units of Michael Foods Investors, LLC. Participants in the plan will be entitled to a paymentdistribution from their deferred compensation account upon the earlier of two times total annual compensation. Annual compensation is defined as(i) a change of control of Holdings (ii) the employee’s highest annual ratetenth anniversary of salary, excluding bonuses, benefits, allowances, etc., within the three calendar year periods prior to the date of terminationthe plan and (iii) upon the exercise of employment. However, if an employee has been employed byany put or call of the participants Class B Units of Michael Foods Investors, LLC. All payments made under the plan shall be made in cash by Holdings. There were distributions of deferred compensation totaling $13.1 million in 2004 coinciding with the dividends issued by Holdings to Michael Foods Investors, LLC.
Incentive Plans
Each of the named executive officers is a participant in the Michael Foods, Inc. Executive Officers Incentive Plan or a predecessorthe Michael Foods, Inc. Senior Management, Officers and Key Employee Incentive Plan, which provide for less than three years, total annualcash bonuses of up to 100% of base salary, subject to our achieving certain financial performance objectives in any given fiscal year. The target goals set forth in these incentive plans change from year to year and are determined by our compensation equals the highest annualized salary during the period of employment.committee.
M–FOODS HOLDINGS STOCK OPTION PLAN34
Director Compensation
All members of our Board of Directors are reimbursed for their usual and customary expenses incurred in connection with attending all Board and other committee meetings. Members of the Board of Directors who are also our employees, or employees of Thomas H. Lee Partners, L.P., do not receive remuneration for serving as members of the board. Other non-employee directors receive a quarterly retainer of $4,000 and are paid $3,000 for each Board meeting attended, or $500 for a meeting held telephonically.
For all committees except the audit committee, non-employee outside directors (excludes affiliates of Thomas H. Lee Partners, L.P.) are paid $1,000 for each regular committee meeting they attend, except for committee chairs who are paid $1,500 for each committee meeting they attend and chair. Non-employee outside directors are paid $1,500 for each regular audit committee meeting they attend, and the audit committee chair is paid $2,000 for each audit committee meeting they attend and chair.
For all committees except the audit committee, non-employee outside directors are paid $500 for each telephonic committee meeting in which they participate, except for committee chairs who are paid $1,000 for each telephonic committee meeting in which they participate and chair. Non-employee outside directors are paid $1,000 for each telephonic audit committee meeting in which they participate, except for the audit committee chair who is paid $1,500 for each telephonic audit committee meeting in which they participate and chair.
Directors’ fees and travel and reimbursed meeting expenses incurred by us in 2006 totaled $143,994. Fees paid by us to non-employee directors in 2006 were as follows:
Name | Fees Earned or Paid in Cash | Other Compensation | Total | ||||||
Mr. Abbrecht | $ | — | $ | — | $ | — | |||
Mr. DiNovi | — | — | — | ||||||
Mr. Jenko | 35,000 | — | 35,000 | ||||||
Mr. Weil | 33,000 | — | 33,000 | ||||||
Mr. Weldon | — | — | — |
M-Foods Holdings, Inc. Amended and Restated 2003 Stock Option Plan
In order to provide additional financial incentives to our management, certain members of our management and other key employees may be granted stock options to, collectively, purchase up to five percent6.36% of the common stock of M-Foods Holdings, Inc., our parent company. The exercise price of options granted reflects the fair market value of the underlying shares, as determined by the compensation committee in its best judgment.
Fifty percent of the optionsthen 25,000 option shares initially reserved for issuance under this stock option plan were issued to Messrs. Ostrander, Reedy, Goucher, Clarkson, Cook,Mohr and Max Hoffmann Sprinkle(Vice President and MohrChief Financial Officer for Refrigerated Distribution Division) in July 2001.2003. As amended in 2004, the plan provides for a total of 32,277 shares being reserved (including the 25,000 initially reserved). The plan provides that the exercise price is payable (1) in cash, (2) after an initial public offering of Michael Foods’ common stock, through simultaneous sales of underlying shares by brokers or (3) through the exchange of M-Foods Holdings, Inc. securities held by the optionee for longer than six months.
Options vest ratably over a five-year period starting at the Merger date for those grants made in 2001,2003 and for certain grants made in 2004, or the date of grant for subsequentother grants. On termination of employment for any reason, all unvested options of the terminated employee are cancelled. Vested options not exercised within 90 days after termination are cancelled, unless such employee is terminated for cause or leaves without good reason, in which case such vested options shall be cancelled upon termination. If employment is terminated for any reason other than for cause or a termination without good reason, M-Foods Holdings will provide a notice setting forth the fair market value of the common stock within 90 days of such termination. In the event of a change in control of M-Foods Holdings, Inc. or M-FoodsMichael Foods Investors, LLC, all options which have not become vested will automatically become vested. The options are subject to other customary restrictions and repurchase rights. Accounting for these stock options is recorded in our financial statements.
OPTION GRANTS IN LAST YEAR
There were no stock option grants to the named executive officers in 2002.
34
OPTION EXERCISES IN LAST YEAR AND YEAR-END OPTION VALUES
There were no shares exercised under options in 2002 by the named executive officers. The number of shares of common stock of M-Foods Holdings represented by options held at December 31, 2002 by the named executive officers follows.
NAME |
| SHARES ACQ. |
| VALUE |
| NUMBER OF UNEXERCISED |
| VALUE OF UNEXERCISED | ||||
EXERCISABLE |
| UNEXERCISABLE | EXERCISABLE |
| UNEXERCISABLE | |||||||
Gregg A. Ostrander |
| — |
| — |
| 1,050 |
| 4,200 |
| — |
| — |
John D. Reedy |
| — |
| — |
| 375 |
| 1,500 |
| — |
| — |
Bill L. Goucher |
| — |
| — |
| 375 |
| 1,500 |
| — |
| — |
James D. Clarkson |
| — |
| — |
| 300 |
| 1,200 |
| — |
| — |
Bradley L. Cook |
| — |
| — |
| 100 |
| 400 |
| — |
| — |
(1) There is no public market for M-Foods Holdings’ common stock. Hence, the value of options granted is not readily available.
ITEM 12 - 12—SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
Michael Foods, Inc. is a wholly owned subsidiary of M-Foods Holdings, Inc., is a corporation owned, in part, by M-FoodsMichael Foods Investors, LLC, whose members include affiliates of Vestar CapitalThomas H. Lee Partners, L.P. and Goldner Hawn Johnson & Morrison, certain members of our management and affiliates of the Michael family. After giving effect to the exercise of all options reserved for issuance in connection with M-Foods Holdings’ stock option plan, M-Foods Investors owns approximately 95% of M-Foods Holdings’ common stock.management.
35
The following table sets forth certain information, as of March 15, 2007, regarding beneficial ownership of M-FoodsMichael Foods Investors, LLC by: (i) each person or entity known to us to own more than 5% ofowning any class of M-Foods Investors’Michael Foods Investors, LLC’s outstanding securities and (ii) each member of M-Foods Investors’Michael Foods Investors, LLC’s management committee (which, functions as didwith the Predecessor’sexception of Charles Weil, is identical to the board of directors)directors of Michael Foods), each of our currently serving named executive officers and all members of the management committee and executive officers as a group. M-Foods Investors’Michael Foods Investors, LLC’s outstanding securities consist of approximately 2,134,9972,966,818.01 Class A Units, 99,078263,681.99 Class B Units and 100,000330,000 Class C Units. The Class A Units, Class B Units and Class C Units generally have identical rights and preferences, except that the Class C Units are nonvoting asnon-voting and have different rights with respect to certain distributions. The Amended and Restated Limited Liability Company Agreement of M-Foods Investors was fileddistributions as Exhibit 10.13 todescribed in our Registration Statement on Form S-4, filed July 18, 2001, and is incorporated by reference.10-K for the year ended December 31, 2003. To our knowledge, each of suchthese securityholders has sole voting and investment power as to the units shown unless otherwise noted. Beneficial ownership of the securities listed in the table has been determined in accordance with the applicable rules and regulations promulgated under the Securities Exchange Act.Act of 1934.
35
Securities Beneficially Owned | ||||||||||||
Name and Address | Number of Class A Units | Number of Class B Units | Percentage of Class A and B Units | Number of Class C Units | Percentage of Class C Units | |||||||
Principal Security holders: | ||||||||||||
Thomas H. Lee Partners L.P. and affiliates (1) | 2,900,000.00 | — | 89.8 | % | — | — | ||||||
Management Committee Members and Executive Officers: | ||||||||||||
Gregg A. Ostrander (2)(3) | 22,806.09 | 70,916.91 | 2.9 | % | 84,600 | 25.6 | % | |||||
John D. Reedy (2)(4) | 7,707.96 | 17,292.04 | 0.8 | % | 25,000 | 7.6 | % | |||||
Estate of James D. Clarkson (5) | 16,206.50 | 23,653.50 | 1.2 | % | 35,000 | 10.6 | % | |||||
Charles D. Bailey (2) | — | 4,500.00 | 0.1 | % | 4,500.00 | 1.4 | % | |||||
James G. Mohr (2) | 5,728.70 | 11,271.30 | 0.5 | % | 17,000 | 5.2 | % | |||||
Mark Westphal (2) | 84.18 | 1,915.82 | 0.1 | % | 2,000 | 0.6 | % | |||||
Mark D. Witmer (2) | 13.68 | 4,986.32 | 0.2 | % | 5,000 | 1.5 | % | |||||
Mark B. Anderson (2) | 10.95 | 3,989.05 | 0.1 | % | 4,000 | 1.2 | % | |||||
Anthony J. DiNovi (1) | — | — | — | — | — | |||||||
Kent R. Weldon (1) | — | — | — | — | — | |||||||
Todd M. Abbrecht (1) | — | — | — | — | — | |||||||
Charles D. Weil (6) | — | — | — | — | — | |||||||
Jerome J. Jenko (7) | 500.00 | — | 0.0 | % | — | — | ||||||
All management committee members and named executive officers as a group (13 persons) | 53,058.06 | 138,524.94 | 5.9 | % | 177,100 | 53.7 | % |
(1) | Includes interests owned by each of Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P., Thomas H. Lee Equity (Cayman) Fund V, L.P., Thomas H. Lee Investors Limited Partnership, 1997 Thomas H. Lee Nominee Trust, Putnam Investments Holdings, LLC, Putnam Investments Employees’ Securities Company I, LLC, and Putnam Investments Employees’ Securities Company II, LLC. Thomas H. Lee Equity Fund V, L.P. and Thomas H. Lee Parallel Fund V, L.P. are Delaware limited partnerships, whose general partner is THL Equity Advisors V, LLC, a Delaware limited liability company. Thomas H. Lee Equity (Cayman) Fund V, L.P. is an exempted limited partnership formed under the laws of the Cayman Islands, whose general partner is THL Equity Advisors V, LLC, a Delaware limited liability company registered in the Cayman Islands as a foreign company. Thomas H. Lee Advisors, LLC, a Delaware limited liability company, is the general partner of Thomas H. Lee Partners, L.P., a Delaware limited partnership, which is the sole member of THL Equity Advisors V, LLC. Thomas H. Lee Investors Limited Partnership (f/k/a THL-CCI Limited Partnership) is a Massachusetts limited partnership, whose general partner is THL Investment Management Corp., a Massachusetts corporation. The 1997 Thomas H. Lee Nominee Trust is a trust with U.S. Bank, N.A. serving as Trustee. Thomas H. Lee has voting and investment control over common shares owned of record by the 1997 Thomas H. Lee Nominee Trust. Each of Anthony J. DiNovi, Kent R. Weldon and Todd M. Abbrecht is a managing director of Thomas H. Lee Advisors, LLC. As managing directors of Thomas H. Lee Advisors, LLC, each of Mr. DiNovi, Mr. Weldon and Mr. Abbrecht has shared voting and investment power over, and therefore, may be deemed to beneficially own member units of Michael Foods Investors, LLC held of record by Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P. and Thomas H. Lee Equity (Cayman) Fund V, L.P. Each of these individuals disclaims beneficial ownership of these units except to the extent of their pecuniary interest therein. The address of Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P., Thomas H. Lee Equity (Cayman) Fund V, L.P., Thomas H. Lee Investors Limited Partnership, the 1997 Thomas H. Lee Nominee Trust, Anthony J. DiNovi, Todd M. Abbrecht and Kent R. Weldon is 100 Federal Street, 35th Floor, Boston, MA 02110. Putnam Investments Holdings LLC, Putnam |
|
| SECURITIES BENEFICIALLY OWNED |
| |||||||||
NAME AND ADDRESS |
| NUMBER OF |
| NUMBER OF |
| PERCENTAGE OF |
| NUMBER OF |
| PERCENTAGE OF |
| |
PRINCIPAL SECURITYHOLDERS: |
|
|
|
|
|
|
|
|
|
|
|
|
Vestar Capital Partners IV, L.P. (1) |
| 1,364,976 | .81 |
| — |
| 61.1 |
| — |
| — |
|
Vestar/Michael, LLC (1) |
| 35,023 | .19 |
|
|
| 1.6 |
|
|
|
|
|
Marathon Fund Limited Partnership IV (2) |
| 350,000 |
|
| — |
| 15.7 |
| — |
| — |
|
4J2R1C Limited Partnership (3) |
| 195,650 |
|
| — |
| 8.8 |
| — |
| — |
|
3J2R Limited Partnership (3) |
| 188,125 |
|
| — |
| 8.4 |
| — |
| — |
|
MANAGEMENT COMMITTEE MEMBERS AND EXECUTIVE OFFICERS: |
|
|
|
|
|
|
|
|
|
|
|
|
Jeffrey J. Michael (3) |
| 383,775 |
|
| — |
| 17.2 |
| — |
| — |
|
Gregg A. Ostrander (4) |
| — |
|
| 42,000 |
| 1.9 |
| 42,000 |
| 42.0 |
|
John D. Reedy (4) |
| — |
|
| 15,000 |
| * |
| 15,000 |
| 15.0 |
|
Bill L. Goucher (4) |
| — |
|
| 15,000 |
| * |
| 15,000 |
| 15.0 |
|
James D. Clarkson (4) |
| — |
|
| 12,000 |
| * |
| 12,000 |
| 12.0 |
|
Bradley L. Cook (4) |
| — |
|
| 4,000 |
| * |
| 4,000 |
| 4.0 |
|
Jerome J. Jenko (5) |
| 300 |
|
| — |
| * |
| — |
| — |
|
All management committee members and named executive officers as a group (12 persons) |
| 384,075 |
|
| 88,000 |
| 21.1 |
| 88,000 |
| 88.0 |
|
36
Investments Employees’ Securities Company I, LLC and Putnam Investments Employees’ Securities Company II, LLC are co-investment entities of Thomas H. Lee Partners and each disclaims beneficial ownership of any securities other than the securities held directly by such entity. The address for the Putnam entities is One Post Office Square, Boston, MA 02109. |
(2) | The address for Messrs. Ostrander, Reedy, Bailey, Mohr, Westphal, Witmer and Anderson is c/o Michael Foods, Inc., 301 Carlson Parkway, Suite 400, Minnetonka, MN 55305. |
(3) | In 2004, Mr. Ostrander placed 47,277 Class B units and 56,400 Class C units into irrevocable trusts for two adult children and one minor child. Mr. Ostrander disclaims beneficial ownership of these units. |
(4) | In 2003, Mr. Reedy gifted 15,000 Class B units and 15,000 Class C units to his two adult children. In 2004, Mr. Reedy gifted 10,000 Class B units and 10,000 Class C units to his two adult children. Mr. Reedy disclaims beneficial ownership of these units. |
(5) | In 2004, Mr. Clarkson gifted 10,140 Class B units and 15,000 Class C units to his four adult children. Mr. Clarkson died in August 2006. |
(6) | The address for Mr. Weil is c/o M.A. Gedney Company, 2100 Stoughton Ave., Chaska, MN 55318. |
(7) | The address for Mr. Jenko is c/o Goldsmith, Agio, Helms and Company, First Bank Place, Suite 4600, 601 Second Avenue South, Minneapolis, MN 55402. |
* Less than 1%.Securities Authorized for Issuance Under Equity Compensation Plans
The following table sets forth information as of December 31, 2006.
(1) The address for the Vestar entities is c/o Vestar Capital Partners, 245 Park Avenue, 41st Floor, New York, New York 10167.
Plan Category | Number of Securities to be | Weighted- Average Exercise Price of Outstanding Options, Warrants and Rights | Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding Securities Reflected in Column (a)) | ||||
(a) | (b) | (c) | |||||
Equity compensation plans approved by securityholders (1) | 27,781 | $ | 662.05 | 3,279 | |||
Equity compensation plans not approved by securityholders | — | — | — | ||||
Total | 27,781 | $ | 662.05 | 3,279 | |||
(1) | Stock options are granted by our parent, M-Foods Holdings, Inc. |
(2) The address for Marathon Fund Limited Partnership IV is c/o Goldner Hawn Johnson & Morrison, 5250 Wells Fargo Center, Minneapolis, Minnesota 55402.37
(3) Both 4J2R1C and 3J2R are Minnesota limited partnerships. The general partners of 4J2R1C are James H. Michael, Jeffrey J. Michael and 2JM Enterprises, Inc., a Minnesota corporation. The directors of 2JM Enterprises are James H. Michael and Jeffrey J. Michael, and the officers of 2JM Enterprises are Jeffrey J. Michael, President and Treasurer, and James H. Michael, Vice President and Secretary. The general partners of 3J2R are Jeffrey J. Michael, as managing general partner, and 2JM Enterprises. As a general partner of 4J2R1C and 3J2R, Mr. Michael may be deemed to beneficially own the securities held by such partnerships. Mr. Michael disclaims beneficial ownership except to the extent of his pecuniary interest as a partner in the limited partnerships’ assets. The address for each of 4J2R1C Limited Partnership, 3J2R Limited Partnership and Jeffrey J. Michael is 10851 Louisiana Avenue South, Bloomington, Minnesota 55438.
(4) The address for each of the named executive officers is c/o Michael Foods, Inc., 401 Carlson Parkway, Suite 300, Minnetonka, Minnesota 55305.
(5) The address for Mr. Jenko is 44818 Oro Grande Circle, Indian Wells, California 92210.
ITEM 13 – 13—CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE
Director Independence Statement
Pursuant toWe are not a management agreement with Vestar Capital Partnerslisted issuer, but have evaluated the independence of our Board of Directors and Goldner Hawn Johnson & Morrison,committee members using the Company pays them a combined annual feeindependence standards of $1,000,000 or .75%the New York Stock Exchange. Our Board has determined that Jerome J. Jenko and Charles D. Weil are independent directors within the meaning of consolidated earnings before interest, taxes, depreciationthe rules of the New York Stock Exchange. Messrs. Jenko and amortization, whichever is greater. The management fee for 2002 was approximately $1,166,000 (see MANAGEMENT AGREEMENT).Weil are members of our audit committee. In addition, these affiliates were paid approximately $10,500,000 by us for services renderedMr. Abbrecht is a member of our audit committee, but is not independent within the meaning of the rules of the New York Stock Exchange as a result of his position with Thomas H. Lee Partners, L. P. Messrs. DiNovi and expenses incurred in connectionWeldon are non-management members of our compensation committee, but are not independent within the meaning of the rules of the New York Stock Exchange as a result of their positions with Thomas H. Lee Partners, L. P.
Certain Agreements Relating to the Merger.Merger
36
CERTAIN AGREEMENTS RELATING TO THE MERGER
SECURITYHOLDERS AGREEMENT
Pursuant to the securityholders agreement entered into in connection with the acquisition,Merger, units of M-FoodsMichael Foods Investors, LLC (or common stock following a change in corporate form) beneficially owned by certain of our executives and any other employees of M-FoodsMichael Foods Investors and its subsidiaries, which we collectively refer to as the management investors, Marathon Fund Limited Partnership IV, a limited partnership associated with Goldner Hawn Johnson & Morrison, and 4J2R1C Limited Partnership and 3J2R Limited Partnership, each of which are associated with the Michael family, are subject to certain restrictions on transfer, other than certain exempt transfers as defined in the securityholders agreement, as well as the other provisions described below. When reference is made to “units” of M-FoodsMichael Foods Investors in the discussion that follows, it includesthat reference is deemed to include common stock of M-FoodsMichael Foods Investors following a change in corporate form, whether in preparation for an initial public offering or otherwise.
The securityholders agreement provides that Vestar CapitalThomas H. Lee Partners, IV, L.P., Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership, 3J2R Limited Partnership, the management investors and all other parties to the agreement will vote all of their units to elect and continue in office management committees or boards of directors of M-FoodsMichael Foods Investors and each of its subsidiaries, other than subsidiaries of Michael Foods,the Company, consisting of up to ninefive members or directors composed of:
• five (5) persons designated by Vestar Capital Partners IV, L.P.;
•one (1) person designated by MarathonThomas H. Lee Equity Fund Limited Partnership IV;V, L.P.;
•one (1) person designated by 4J2R1C Limited Partnership and 3J2R Limited Partnership, which are associated with the Michael family;Thomas H. Lee Parallel Fund V, L.P.;
•one person designated by Thomas H. Lee Cayman Fund V, L.P.;
the chief executive officer of Michael Foods;Foods Investors; and
•one (1) independent person designated by the chief executive officer of Michael Foods.Foods Investors.
The securityholders agreement also provides:
• Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership, 3J2R Limited Partnership and the management investors with customary “tag-along” rights with respectthe right to participate proportionally in transfers of M-FoodsMichael Foods Investors units beneficially owned by Vestar CapitalThomas H. Lee Partners, IV, L.P., its partners or their transferees;transferees, except in connection with transfers (i) in a public sale, (ii) among the partners of Thomas H. Lee Partners, L.P. and the partners, securityholders and employees of such partners, (iii) incidental to the conversion of securities or any recapitalization or reorganization, (iv) to employees, directors and/or consultants of Michael Foods Investors and its subsidiaries, (v) that are exempt individual transfers and (vi) pursuant to a pledge of securities to an unaffiliated financial institution;
• Vestar CapitalThomas H. Lee Partners, IV, L.P. with “drag-along” rightsthe right to notify management investors that it shall cause Michael Foods Investors to effect a sale and the management investors shall consent to and raise no objection with respect to M-FoodsMichael Foods Investors units owned by Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership, 3J2R Limited Partnership and the management investors in a sale of M-Foods Investors. In addition, Vestar CapitalMichael Foods Investors; and
Thomas H. Lee Partners, IV, L.P., and, after M-Foods Investors’ first public offering, Marathon Fund Limited Partnership IV and 4J2R1C Limited Partnership and 3J2R Limited Partnership, have certain with registration rights to require M-FoodsMichael Foods Investors to register units held by them under the Securities Act, up to four, two and two times, respectively.Act.
In addition, Vestar Capital Partners IV, L.P., Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership, 3J2R Limited Partnership and the management
37
investors have certain rights to participate in publicly registered offerings of common equity of M-Foods Investors initiated by it or other third parties. For example, each of Vestar Capital Partners IV, L.P., Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership, 3J2R Limited Partnership and the management investors may elect to participate in a demand registration initiated by another party to the securityholders agreement. If M-FoodsMichael Foods Investors issues or sells any new units to Vestar CapitalThomas H. Lee Partners, IV, L.P., subject to certain exceptions, each management investor and each of Marathon Fund Limited Partnership IV, 4J2R1C Limited Partnership and 3J2R Limited Partnership shall have the right to subscribe for a sufficient number of new M-FoodsMichael Foods Investors units to maintain its respective ownership percentage in M-FoodsMichael Foods Investors.
MANAGEMENT AGREEMENT38
Management Unit Subscription Agreements
Under the management unit subscription agreements, management, immediately prior to the Merger, contributed to Michael Foods Investors shares of prior M-Foods Holdings common stock for Class A Units, Class B Units and Class C Units of MF Investors based on a $100 per Class A Unit price and a $2.00 per Class B and Class C Unit price. Following the Merger, the executives held approximately 10% of the outstanding Class A and Class B units combined, and 100% of the outstanding Class C units.
Upon the death, disability or retirement of the executive prior to the earlier of a public offering or sale of Michael Foods Investors, Michael Foods Investors may be required to purchase all of an executive’s units. However, with respect to Mr. Reedy, if Mr. Reedy’s employment is terminated due to his retirement, Mr. Reedy may require Michael Foods Investors to purchase his units after he turns age 65. Michael Foods Investors has the right to purchase all or a portion of an executive’s units if an executive’s employment is terminated or that executive is deemed to be engaging in certain competitive activities. However, with respect to Mr. Reedy, if Mr. Reedy’s employment is terminated due to retirement, Michael Foods Investors will have the right to purchase his units only after Mr. Reedy turns 65. However, if Michael Foods Investors elects or is required to purchase any units pursuant to the call and put options described in the preceding sentences, and that payment would result in a violation of law applicable to Michael Foods Investors or a default under certain of its financing arrangements, Investors may make the portion of the cash payment so affected by the delivery of preferred units of Michael Foods Investors with a liquidation preference equal to the amount of the cash payment affected.
In addition, each management stock purchase and unit subscription agreement contains customary representations, warranties and covenants made by the respective executive or party thereto.
Management Agreement
Pursuant to the management agreement entered into in connection with the acquisition, Vestar Capitaltransactions, THL Managers V, LLC, an affiliate of Thomas H. Lee Partners, and Goldner Hawn Johnson & Morrison Incorporated will renderL.P., renders to each of M-Foods Investors, M-Foods Holdings and Michael Foods and each of theirits subsidiaries, certain advisory and consulting services. In consideration of those services, M-Foods Investors, M-Foods Holdings and Michael Foods jointly and severally willwe pay to Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated,THL Managers V, LLC semi-annually in advance, an aggregate per annum management fee equal to the greater of:
• $1,000,000$1,500,000; and
• anAn amount equal to 0.75%1.0% of theour consolidated earnings before interest, taxes, depreciation and amortization of M-Foods Investors and its subsidiaries for suchthat fiscal year, but before deduction of any such fee, determined as set forth in documents related to the proposed senior credit facility.fee.
M-Foods Investors, M-Foods HoldingsWe also indemnify THL Managers V, LLC and the Predecessor also jointly and severally agreed to pay Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated at the closing of the acquisition an aggregate transaction fee equal to 1.25% of total transaction value plus all out-of-pocket expenses incurred by Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated prior to the closing of the acquisition for services rendered by them in connection with the acquisition.
M-Foods Investors, M-Foods Holdings and Michael Foods also jointly and severally agreed to indemnify Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated and their respectiveits affiliates from and against all losses, claims, damages and liabilities arising out of, or related to, the performance by Vestar Capital Partners and Goldner Hawn Johnson & Morrison IncorporatedTHL Managers V, LLC of theirthe services pursuant to the management agreement.
Policies and Procedures for Reviewing Related Party Transactions
We have not adopted any written policies or procedures governing the review, approval or ratification of related party transactions. However, our Board of Directors reviews, approves or ratifies, when necessary, all transactions with related parties. The management agreement will terminate at such timerelated party transactions described herein were entered into as Vestar Capital Partners IV, L.P. and Marathon Fund Limited Partnership IV and their respective partners and the respective affiliates thereof hold, directly or indirectly in the aggregate, less than 20%part of the voting powerMerger. Such agreements have not been amended since the Merger. We did not enter into any new related party transactions during 2006.
ITEM 14—PRINCIPAL ACCOUNTANT FEES AND SERVICES.
Audit Fees
PricewaterhouseCoopers LLP (“PricewaterhouseCoopers”) was our principal accountant for the years ended December 31, 2006 and 2005. Total fees paid to PricewaterhouseCoopers for audit services rendered during 2006 and 2005 were $354,000 and $326,500, respectively.
Audit-Related Fees
Total fees paid to PricewaterhouseCoopers for audit-related services rendered during 2006 and 2005 were $170,149 and $102,392, respectively, consisting primarily of our outstanding voting stock.consultation on matters related to proposed transactions, employee benefit plans, potential acquisitions and accounting consultation.
ITEM 14 - CONTROLS AND PROCEDURES.39
Tax Fees
a. Evaluation of Disclosure ControlsTotal fees paid to PricewaterhouseCoopers for tax services rendered during 2006 and Procedures.2005 were $116,250 and $153,045, respectively, related primarily to tax planning, compliance and consultation.
Under the supervision, and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-14(c)/15d-14(c) under the Exchange Act) as of a date (the “Evaluation Date”) within 90 days prior to the filing date of this report. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of the
38
Evaluation Date, our disclosure controls and procedures are effective in timely alerting them to the material information relating to us (or our consolidated subsidiaries) required to be included in our periodic SEC filings.
b. Changes in Internal Controls.
There were no significant changes made infees paid to PricewaterhouseCoopers under this category during 2006 or 2005.
Audit Committee Pre-Approval Policy
Under policies and procedures adopted by the audit committee of our internal controls duringBoard of Directors, our principal accountant may not be engaged to provide non-audit services that are prohibited by law or regulation to be provided by it, nor may our principal accountant be engaged to provide any other non-audit service unless the period covered by thisaudit committee or its Chairman pre-approve the engagement of our accountant to provide both audit and permissible non-audit services. If the Chairman pre-approves any engagement or fees, he is to make a report or, to our knowledge, in other factors that could significantly affect these controls subsequent to the datefull audit committee at its next meeting. One hundred percent (100%) of their evaluation.all services provided by our principal accountant in 2006 were pre-approved by the audit committee or its Chairman.
40
PART IV
ITEM 15 - 15—EXHIBITS AND FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following consolidated financial statements of the Company, and the Predecessor, the financial statements of the Company’s non-wholly-owned guarantor subsidiaries, and the related ReportsReport of Independent Accountants,Registered Public Accounting Firm, are included in this report:
1. Financial Statements
MICHAEL FOODS, INC.
Report of Independent Registered Public Accounting Firm Consolidated Balance Sheets Consolidated Statements of Earnings Consolidated Statements of Shareholder’s Equity Consolidated Statements of Cash Flows
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2. Financial Statement Schedules
The following financial statement schedules are included in this report and should be read in conjunction with the financial statements referred to above:
and Report of Independent Accountants on Financial Statement SchedulesRegistered Public Accounting Firm referred to above:
Michael Foods, Inc. and Subsidiaries – Subsidiaries—Valuation and Qualifying Accounts
M-Foods Dairy, LLC – Valuation and Qualifying Accounts
All other schedules are omitted, as the required information is not applicable or the information is presented in the financial statements or related notes.
39
3. Exhibits
Reference is made to Item 15 (c) footnote (2)(b) for exhibits filed with this form. Exhibits 10.3, 10.4, 10.5, 10.6, 10.7 and 10.19 are management contracts. Exhibits 10.13, 10.14, 10.15, 10.16, 10.17, 10.18, 10.28, 10.29, 10.30 and 10.31 are compensatory plans.
(b) Reports on Form 8-K
Reference is made to reports filed on Form 8-K dated February 21, 2002, April 25, 2002, July 25, 2002, and November 8, 2002, regarding news releases to our debtholders pertaining to our interim financial results. Reference is also made to reports filed on Form 8-K or Form 8-K/A dated August 14, 2002, August 23, 2002, September 24, 2002, and September 25, 2002, regarding other corporate developments.
(c) Exhibits and Exhibit Index
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Exhibit No. | Description | |
2.1 | Agreement and Plan of Merger, dated | |
2.2 | Letter Agreement, Amending Merger Agreement dated October 17, 2003, by and among M-Foods Investors, LLC, THL Food Products Holdings Co., THL Food Products Co. and M-Foods Holdings, Inc. (6) | |
2.3 | Letter Agreement, Amending Merger Agreement dated October 24, 2003, by and among M-Foods Investors, LLC, THL Food Products Holdings Co., THL Food Products Co. and M-Foods Holdings, Inc. (6) | |
| Letter Agreement, Amending Merger Agreement dated November 17, 2003, by and among M-Foods Investors, LLC, THL Food Products Holdings Co., THL Food Products Co. and M-Foods Holdings, Inc. (6) | |
3.1 | Amended and Restated Certificate of Incorporation of Michael Foods, Inc. (f/k/a M-Foods Holdings, Inc.) (2) |
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Exhibit No. | Description | |
3.2 | Certificate of Merger of THL Food Products Co. with and into M-Foods Holdings, Inc., dated November 20, 2003 (2) | |
3.3 | Agreement and Plan of Merger, dated | |
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| Bylaws of Michael Foods, Inc. | |
4.1 |
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| Indenture, dated March 27, 2001, between Michael Foods Acquisition Corp. and BNY Midwest Trust Company, as | |
| Supplemental Indenture, dated as of April 10, 2001, by and among Michael Foods, Inc., M-Foods Holdings, Inc., Michael Foods of Delaware, Inc., Northern Star Co., Minnesota Products, Inc., Farm Fresh Foods of Nevada, Inc., Crystal Farms Refrigerated Distribution Company, WFC, Inc., Wisco Farm Cooperative, M. G. Waldbaum Company, Papetti’s Hygrade Egg Products, Inc., Casa Trucking, Inc., Papetti Electroheating Corporation, Kohler Mix Specialties, Inc., Midwest Mix, Inc., Kohler Mix Specialties of Connecticut, Inc. and | |
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| Collateral Pledge and Security Agreement, dated March 27, 2001, between Michael Foods Acquisition Corp., and Banc of America Securities, LLC and Bear, Stearns & Co. and BNY Midwest Trust Company as collateral agent and securities | |
4.5 | Indenture, dated November 20, 2003, among Michael Foods, Inc., the Guarantors party thereto and Wells Fargo Bank Minnesota, National Association, as trustee (2) | |
4.6 | Registration Rights Agreement, dated November 20, 2003, among Michael Foods, Inc., the Subsidiary Guarantors party thereto and Banc of America Securities LLC, Deutsche Bank Securities Inc. and UBS Securities LLC (2) | |
10.1 | Credit Agreement dated | |
10.2 | Senior Unsecured Term Loan Agreement dated as of November 20, 2003, among THL Food Products Co., as Borrower, THL Food Products Holding Co., Bank of America, N.A., as Administrative Agent, the lenders party thereto, Bank of America Securities LLC and Deutsche Bank Securities, Inc., as Joint Lead Arrangers and Joint Book Managers, and Deutsche Bank Securities Inc. and UBS Securities LLC, as Co-Syndication Agents (2) | |
10.3 | Employment Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and Gregg A. Ostrander (6) | |
10.4 | Employment Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and John D. Reedy (6) | |
10.5 | Employment Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and James D. Clarkson (6) |
42
Exhibit No. | Description | |
10.6 | Employment Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and James Mohr (6) | |
10.7 | Employment Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and Max R. Hoffmann (6) | |
10.8 | Senior Management Unit Subscription Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and Gregg A. Ostrander (6) | |
10.9 | Senior Management Unit Subscription Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and John D. Reedy (6) | |
10.10 | Senior Management Unit Subscription Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and James D. Clarkson (6) | |
10.11 | Senior Management Unit Subscription Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and James Mohr (6) | |
10.12 | Senior Management Unit Subscription Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and Max R. Hoffmann (6) | |
10.13 | Stock Option Agreement, dated November 20, 2003, between Gregg A. Ostrander and M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) (6) | |
10.14 | Stock Option Agreement, dated November 20, 2003, between John D. Reedy and M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) (6) | |
10.15 | Stock Option Agreement, dated November 20, 2003, between James D. Clarkson and M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) (6) | |
10.16 | Stock Option Agreement, dated November 20, 2003, between James Mohr and M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) (6) | |
10.17 | Stock Option Agreement, dated November 20, 2003, between Max R. Hoffmann and M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) (6) | |
10.18 | M-Foods Holdings, Inc. Amended and Restated 2003 Stock Option Plan (9) | |
10.19 | Management Agreement, dated November 20, 2003, by and among Michael Foods, Inc. and THL Managers V, LLC (6) | |
10.20 | Securityholders Agreement, dated November 20, 2003, between Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) and the other parties thereto (6) | |
10.21 | Amended and Restated Limited Liability Company Agreement of Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC), dated November 20, 2003, between THL-MF Investors, LLC and the other parties thereto (6) | |
10.22 | Subscription and Share Purchase Agreement, dated November 20, 2003, between M-Foods Holdings, Inc. (formerly known as THL Food Products Holding Co.) and Michael Foods Investors, LLC, (f/k/a THL-MF Investors, LLC) (6) | |
10.23 | Lease, dated as of February 26, 1997, by and between Michael Foods of Delaware, Inc., as successor to Michael Foods, Inc., a Delaware corporation and A&A Urban Renewal, relating to the lease of a facility located at 100 Trumbull St., Elizabeth, NJ (4) | |
10.24 | Lease, dated as of February 26, 1997, by and between Michael Foods of Delaware, Inc., as successor to Michael Foods, Inc., a Delaware corporation, and Papetti Holding Company, et al., relating to the lease of a facility located at 877-879 E. North Ave., Elizabeth, NJ (4) | |
10.25 | Lease, dated as of February 26, 1997, by and between Michael Foods of Delaware, Inc., as successor to Michael Foods, Inc., a Delaware corporation, and Papetti Holding Company, relating to the lease of a facility located at 847-855 E. North Ave., Elizabeth, NJ (4) |
43
Exhibit No. | Description | |
10.26 | Lease, dated as of February 26, 1997, by and between Michael Foods of Delaware, Inc. as successor to Michael Foods, Inc., a Delaware corporation, and Jersey Pride Urban Renewal, relating to the lease of a facility located at One Papetti Plaza, Elizabeth, NJ (4) | |
10.27 | North Carolina State University Consolidated, Restated and Amended License Agreement, dated June 9, 2000, by and between North Carolina State University and the Company (5) | |
10.28 | Form of Stock Option Agreement pursuant to the M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) 2003 Stock Option Plan (6) | |
10.29 | M-Foods Holdings, Inc. (f/k/a THL Food Products Holding Co.) Deferred Compensation Plan, dated November 20, 2003 (6) | |
10.30 | Michael Foods, Inc. Executive Officers Incentive Plan (6) | |
10.31 | Michael Foods, Inc. Senior Management, Officers and Key Employees Incentive Plan (6) | |
10.32 | Amendment No. 1 to the Senior Unsecured Term Loan Agreement dated as of September 17, 2004, among Michael Foods, Inc., M-Foods Holdings, Inc., the | |
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12.1 | Computation of | ||
14.1 | Business Conduct Policy (10) | ||
21.1 | Subsidiaries of Michael Foods, Inc. | ||
31.1 | Certification of Chief Executive Officer | ||
31.2 | Certification of Chief Financial Officer |
(1) | Incorporated by reference from the Predecessor’s current report on Form 8-K filed with the Commission on October 16, 2003. |
(2) | Incorporated by reference from the Company’s Form S-4 Registration Statement (Registration No. 333-112714) filed with the Commission on February 11, 2004. |
(3) | Incorporated by reference from Amendment No. 1 to the Predecessor’s Form S-4 Registration Statement (Registration No. 333-63722) filed with the Commission on July 18, 2001. |
4144
* Management Contract or Compensation Plan Arrangement
(4) | Incorporated by reference from the 2001 predecessor’s current report on Form 8-K filed with the Commission on November 22, 2000. |
(5) | Incorporated by reference from the 2001 predecessor’s quarterly report on Form 10-Q filed with the Commission on November 22, 2000. |
(6) | Incorporated by reference from the Company’s report on Form 10-K filed with the Commission on March 30, 2004. |
(7) | Incorporated by reference from the Company’s current report on Form 8-K filed with the Commission on September 22, 2004. |
(8) | Incorporated by reference from the Company’s current report on Form 8-K filed with the Commission on May 23, |
(1) Incorporated by reference from the Company’s Registration Statement on Form S-4 filed July 18, 2001.
(2) Filed as an exhibit to this Form 10-K.
42
Report of Independent Accountants onFinancial Statement Schedules
To the Board of Directorsof Michael Foods, Inc.
Our audit of the 2002 consolidatedfinancial statements referred to in our report dated February 18, 2003 appearing in the 2002 Annual Report on Form 10-K of Michael Foods, Inc. also included an audit of the 2002 financial statement schedules listed in Item 15(a)(2) of this Form 10-K. In our opinion, these financial statement schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements.
2005.
| Incorporated by reference from the Company’s report on Form 10-K filed with the Commission on March 23, 2006. |
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4345
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SCHEDULE II
MICHAEL FOODS, INC. AND SUBSIDIARIES
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
Col. A |
| Col. B |
| Col. C |
| Col. D |
| Col. E | |||||||
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| Additions |
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Description |
| Balance at |
| (1) |
| (2) |
| Deductions |
| Balance at | |||||
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Allowance for Doubtful Accounts |
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PREDECESSOR |
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For the Year ended December 31, 2000 |
| $ | 2,051,000 |
| $ | 2,360,000 |
| $ | 0 |
| $ | 2,179,000 |
| $ | 2,232,000 |
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For the Three Months ended March 31, 2001 |
| $ | 2,232,000 |
| $ | 239,000 |
| $ | 0 |
| $ | 0 |
| $ | 2,471,000 |
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COMPANY |
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For the Nine Months ended December 31, 2001 |
| $ | 2,471,000 |
| $ | 679,000 |
| $ | 0 |
| $ | 500,000 |
| $ | 2,650,000 |
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For the Year ended December 31, 2002 |
| $ | 2,650,000 |
| $ | 636,000 |
| $ | 0 |
| $ | 176,000 |
| $ | 3,110,000 |
(a) Write-offs of accounts deemed uncollectible
Column A | Column B | Column C | Column D | Column E | ||||||||
Description | Balance at Beginning of Period | Additions | Deductions | Balance at End of Period | ||||||||
Allowance for Doubtful Accounts | ||||||||||||
For the Year Ended December 31, 2004 | $ | 2,975 | $ | 2,590 | $ | 883 | $ | 4,682 | ||||
For the Year Ended December 31, 2005 | $ | 4,682 | $ | 0 | $ | 358 | $ | 4,324 | ||||
For the Year Ended December 31, 2006 | $ | 4,324 | $ | 0 | $ | 174 | $ | 4,150 |
4446
SCHEDULE II
M-FOODS DAIRY, LLC
(A majority owned subsidiary of Michael Foods, Inc.)
VALUATION AND QUALIFYING ACCOUNTS
Col. A |
| Col. B |
| Col. C |
| Col. D |
| Col. E |
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Description |
| Balance at |
| (1) |
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| Deductions |
| Balance at |
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Allowance for Doubtful Accounts |
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PREDECESSOR |
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For the Year ended December 31, 2000 |
| $ | 138,000 |
| $ | 853,000 |
| $ | 0 |
| $ | 838,000 |
| $ | 153,000 |
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For the Three Months ended March 31, 2001 |
| $ | 153,000 |
| $ | 15,000 |
| $ | 0 |
| $ | 0 |
| $ | 168,000 |
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COMPANY |
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For the Nine Months ended December 31, 2001 |
| $ | 168,000 |
| $ | 46,000 |
| $ | 0 |
| $ | 14,000 |
| $ | 200,000 |
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For the Year ended December 31, 2002 |
| $ | 200,000 |
| $ | 57,000 |
| $ | 0 |
| $ | 2,000 |
| $ | 255,000 |
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(a)SIGNATURES Write-offs of accounts deemed uncollectible
45
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
MICHAEL FOODS, INC. | |||||
Date: March 29, 2007 | By: | /s/ GREGG A. OSTRANDER | |||
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Gregg A. Ostrander | |||||
(Chairman, | |||||
Date: March 29, 2007 | By: | /s/ JOHN D. REEDY | |||
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John D. Reedy | |||||
(Executive Vice President, Chief Financial |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated:
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| March 29, 2007 | |||
Todd M. Abbrecht (Director) | ||||
/s/ | March 29, 2007 | |||
Anthony J. DiNovi (Director) | ||||
/s/ JEROME J. JENKO | March | |||
Jerome J. Jenko (Director) | ||||
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/s/ CHARLES D. WEIL | March 29, 2007 | |||
Charles D. Weil (Director) | ||||
/s/ KENT R. WELDON | March 29, 2007 | |||
Kent R. Weldon (Director) |
4647
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Gregg A. Ostrander, certify that:
1. I have reviewed this annual report on Form 10-K of Michael Foods, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and
c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
6. The registrant’s other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: March 20, 2003
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47
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, John D. Reedy, certify that:
1. I have reviewed this annual report on Form 10-K of Michael Foods, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the “Evaluation Date”); and
c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
6. The registrant’s other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: March 20, 2003
| ||
|
48
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO SECTION 12 OF THE ACT.
No annual report or proxy statement has been sent to securityholders during the Registrant’s last fiscal year.
EXHIBIT INDEX
| ||
|
| |
|
|
49
MICHAEL FOODS, INC.INC.
(A wholly owned subsidiaryWholly Owned Subsidiary of M-Foods Holdings, Inc.)
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
ReportTo the Board of Independent AccountantsDirectors and Shareholder
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
of Michael Foods, Inc.:
In our opinion, the accompanying consolidated balance sheet andfinancial statements listed in the related consolidated statements of operations, of shareholder’s equity and of cash flowsindex appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of Michael Foods, Inc. and its subsidiaries (the Company), a wholly owned subsidiary of M-Foods Holdings, Inc., at December 31, 2002,2006 and 2005, and the results of their operations and their cash flows for each of the year thenthree years in the period ended December 31, 2006, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company’s management; ourmanagement. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audit.audits. We conducted our auditaudits of these statements in accordance with auditingthe standards generally accepted inof the United States of America, whichPublic Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
The financial statements of the Company as of December 31, 2001 and for the nine months then ended were audited by other independent certified public accountants whose report, dated February 8, 2002, expressed an unqualified opinion on those statements.
The financial statements of Michael Foods, Inc. and subsidiaries (the Predecessor) for the three months ended March 31, 2001 and for the year ended December 31, 2000 were audited by other independent certified public accountants whose report, dated May 15, 2001, expressed an unqualified opinion on those statements.
As discussed in Note C to the financial statements, the Company adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets” and Statement of Financial Accounting Standards No. 145, “Rescission of FASB Statement 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections” on January 1, 2002.
| |
| |
|
50
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the accompanying consolidated balance sheet of Michael Foods, Inc. and subsidiaries (a wholly-owned subsidiary of M-Foods Holdings, Inc.) as of December 31, 2001 and the related consolidated statements of earnings, shareholder’s equity, and cash flows for the nine months then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Michael Foods, Inc. and subsidiaries (a wholly-owned subsidiary of M-Foods Holdings, Inc.) as of December 31, 2001, and the results of its operations and its cash flows for the nine months then ended in conformity with accounting principles generally accepted in the United States of America.
We have also audited Schedule II for the nine months ended December 31, 2001. In our opinion, this schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information therein.
| |
| |
| |
51
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the consolidated statements of operations, shareholder’s equity, and cash flows of Michael Foods, Inc. and subsidiaries (the Predecessor") for the year ended December 31, 2000 and the three months ended March 31, 2001. These financial statements are the responsibility of the Predecessor's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Michael Foods, Inc. and subsidiaries for the year ended December 31, 2000 and for the three months ended Minneapolis, MN
March 31, 2001, in conformity with accounting principles generally accepted in the United States of America.20, 2007
We have also audited Schedule II for the year ended December 31, 2000 and for the three months ended March 31, 2001. In our opinion, this schedule, when considered in relation to the basic financial statement taken as a whole, presents fairly, in all material respects, the information therein.48
| |
| |
|
52
MICHAEL FOODS, INC.
(A wholly owned subsidiaryWholly Owned Subsidiary of M-Foods Holdings, Inc.)
(In Thousands, Except Share and Per Share Data)
|
| December 31, |
| ||||
|
| 2002 |
| 2001 |
| ||
ASSETS |
|
|
|
|
| ||
CURRENT ASSETS |
|
|
|
|
| ||
Cash and equivalents |
| $ | 20,572,000 |
| $ | 27,660,000 |
|
Accounts receivable, less allowances |
| 101,579,000 |
| 102,317,000 |
| ||
Inventories |
| 95,807,000 |
| 78,941,000 |
| ||
Prepaid expenses and other |
| 13,571,000 |
| 11,370,000 |
| ||
Total current assets |
| 231,529,000 |
| 220,288,000 |
| ||
PROPERTY, PLANT AND EQUIPMENT |
|
|
|
|
| ||
Land |
| 3,873,000 |
| 3,873,000 |
| ||
Buildings and improvements |
| 110,702,000 |
| 99,561,000 |
| ||
Machinery and equipment |
| 259,501,000 |
| 226,759,000 |
| ||
|
| 374,076,000 |
| 330,193,000 |
| ||
Less accumulated depreciation |
| 91,723,000 |
| 39,039,000 |
| ||
|
| 282,353,000 |
| 291,154,000 |
| ||
OTHER ASSETS |
|
|
|
|
| ||
Goodwill |
| 341,028,000 |
| 341,021,000 |
| ||
Joint ventures and other assets |
| 38,112,000 |
| 44,670,000 |
| ||
|
| 379,140,000 |
| 385,691,000 |
| ||
|
| $ | 893,022,000 |
| $ | 897,133,000 |
|
LIABILITIES AND SHAREHOLDER’S EQUITY |
|
|
|
|
| ||
CURRENT LIABILITIES |
|
|
|
|
| ||
Current maturities of long-term debt |
| $ | 17,671,000 |
| $ | 12,962,000 |
|
Accounts payable |
| 65,990,000 |
| 64,492,000 |
| ||
Accrued liabilities |
|
|
|
|
| ||
Compensation |
| 15,251,000 |
| 12,582,000 |
| ||
Insurance |
| 7,855,000 |
| 8,191,000 |
| ||
Customer programs |
| 26,484,000 |
| 21,996,000 |
| ||
Income taxes |
| 7,403,000 |
| 9,853,000 |
| ||
Interest |
| 9,336,000 |
| 10,619,000 |
| ||
Hedging derivative liability |
| 11,001,000 |
| 4,186,000 |
| ||
Other |
| 11,393,000 |
| 9,930,000 |
| ||
Total current liabilities |
| 172,384,000 |
| 154,811,000 |
| ||
LONG-TERM DEBT, less current maturities |
| 493,718,000 |
| 540,132,000 |
| ||
DEFERRED INCOME TAXES |
| 47,119,000 |
| 48,725,000 |
| ||
COMMITMENTS AND CONTINGENCIES |
| — |
| — |
| ||
NON-CONTROLLING INTEREST |
| 475,000 |
| 475,000 |
| ||
SHAREHOLDER’S EQUITY |
|
|
|
|
| ||
Common stock, $0.01 par value, 1,000 shares authorized, issued and outstanding |
| — |
| — |
| ||
Additional paid-in capital |
| 147,498,000 |
| 146,792,000 |
| ||
Retained earnings |
| 39,476,000 |
| 9,815,000 |
| ||
Accumulated other comprehensive loss |
| (7,648,000 | ) | (3,617,000 | ) | ||
|
| 179,326,000 |
| 152,990,000 |
| ||
|
| $ | 893,022,000 |
| $ | 897,133,000 |
|
December 31, | ||||||
2006 | 2005 | |||||
ASSETS | ||||||
Current Assets | ||||||
Cash and equivalents | $ | 21,576 | $ | 42,179 | ||
Accounts receivable, less allowances | 105,305 | 103,108 | ||||
Inventories | 103,420 | 97,879 | ||||
Prepaid expenses and other | 8,201 | 8,703 | ||||
Total Current Assets | 238,502 | 251,869 | ||||
Property, Plant And Equipment | ||||||
Land | 4,044 | 4,044 | ||||
Buildings and improvements | 118,890 | 114,793 | ||||
Machinery and equipment | 301,656 | 277,856 | ||||
424,590 | 396,693 | |||||
Less accumulated depreciation | 165,527 | 109,406 | ||||
259,063 | 287,287 | |||||
Other Assets | ||||||
Goodwill | 521,435 | 521,435 | ||||
Intangible assets, net | 216,680 | 232,233 | ||||
Other assets | 28,083 | 40,752 | ||||
766,198 | 794,420 | |||||
$ | 1,263,763 | $ | 1,333,576 | |||
LIABILITIES AND SHAREHOLDER’S EQUITY | ||||||
Current Liabilities | ||||||
Current maturities of long-term debt | $ | 837 | $ | 3,484 | ||
Accounts payable | 72,246 | 69,475 | ||||
Accrued liabilities | ||||||
Compensation | 11,894 | 18,006 | ||||
Customer programs | 39,766 | 43,750 | ||||
Other | 35,401 | 37,231 | ||||
Total Current Liabilities | 160,144 | 171,946 | ||||
Long-term debt, less current maturities | 644,957 | 706,239 | ||||
Deferred income taxes and other | 117,616 | 136,328 | ||||
Deferred compensation | 16,252 | 15,048 | ||||
Shareholder’s Equity | ||||||
Common stock, $0.01 par value, 3,000 shares authorized, issued and outstanding in 2006 and 2005 | — | — | ||||
Additional paid-in capital | 260,935 | 254,617 | ||||
Retained earnings | 61,466 | 45,610 | ||||
Accumulated other comprehensive income | 2,393 | 3,788 | ||||
324,794 | 304,015 | |||||
$ | 1,263,763 | $ | 1,333,576 | |||
The accompanying notes are an integral part of these financial statements.
5349
MICHAEL FOODS, INC.
(A wholly owned subsidiaryWholly Owned Subsidiary of M-Foods Holdings, Inc.)
CONSOLIDATED STATEMENTS OF OPERATIONSEARNINGS
For the Years Ended December 31,
(In Thousands)
Company |
| Predecessor | |||||||||||
Year |
| Nine Months |
| Three Months |
| Year | |||||||
|
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 1,168,160,000 |
| $ | 885,642,000 |
| $ | 275,627,000 |
| $ | 1,080,601,000 |
|
Cost of sales |
| 953,333,000 |
| 734,008,000 |
| 227,707,000 |
| 889,138,000 |
| ||||
Gross profit |
| 214,827,000 |
| 151,634,000 |
| 47,920,000 |
| 191,463,000 |
| ||||
Selling, general and administrative expenses |
| 116,444,000 |
| 87,484,000 |
| 27,376,000 |
| 104,657,000 |
| ||||
Transaction expenses |
| — |
| — |
| 11,050,000 |
| — |
| ||||
Operating profit |
| 98,383,000 |
| 64,150,000 |
| 9,494,000 |
| 86,806,000 |
| ||||
Interest expense, net |
| 50,179,000 |
| 42,335,000 |
| 3,293,000 |
| 13,206,000 |
| ||||
Earnings before other expense and income taxes |
| 48,204,000 |
| 21,815,000 |
| 6,201,000 |
| 73,600,000 |
| ||||
Other expense-early extinguishment of debt |
| — |
| — |
| 15,513,000 |
| — |
| ||||
Earnings (loss) before income taxes |
| 48,204,000 |
| 21,815,000 |
| (9,312,000 | ) | 73,600,000 |
| ||||
Income tax expense (benefit) |
| 18,543,000 |
| 12,000,000 |
| (3,659,000 | ) | 28,890,000 |
| ||||
NET EARNINGS (LOSS) |
| $ | 29,661,000 |
| $ | 9,815,000 |
| $ | (5,653,000 | ) | $ | 44,710,000 |
|
2006 | 2005 | 2004 | |||||||
Net sales | $ | 1,247,348 | $ | 1,242,498 | $ | 1,313,504 | |||
Cost of sales | 1,016,832 | 1,005,418 | 1,077,126 | ||||||
Gross profit | 230,516 | 237,080 | 236,378 | ||||||
Selling, general and administrative expenses | 133,287 | 130,833 | 138,138 | ||||||
Plant closing expenses | 3,139 | — | — | ||||||
Operating profit | 94,090 | 106,247 | 98,240 | ||||||
Interest expense, net | 55,928 | 47,119 | 43,285 | ||||||
Loss on early extinguishment of debt | — | 5,548 | — | ||||||
Earnings before income taxes and equity in losses of unconsolidated subsidiary | 38,162 | 53,580 | 54,955 | ||||||
Income tax expense | 16,294 | 14,266 | 20,981 | ||||||
Earnings before equity in losses of unconsolidated subsidiary | 21,868 | 39,314 | 33,974 | ||||||
Equity in losses of unconsolidated subsidiary | 2,713 | 455 | 460 | ||||||
Net earnings | $ | 19,155 | $ | 38,859 | $ | 33,514 | |||
The accompanying notes are an integral part of these financial statements.
5450
MICHAEL FOODS, INC.
(A wholly owned subsidiaryWholly Owned Subsidiary of M-Foods Holdings, Inc.)
CONSOLIDATED STATEMENTS OF SHAREHOLDER’S EQUITY
(In Thousands)
|
|
|
| ADDITIONAL |
| RETAINED |
| ACCUMULATED |
| TOTAL |
| |||||||
SHARES |
| AMOUNT | ||||||||||||||||
Predecessor |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Balance at January 1, 2000 |
| 20,301,624 |
| $ | 203,000 |
| $ | 102,777,000 |
| $ | 162,577,000 |
| $ | (958,000 | ) | $ | 264,599,000 |
|
Repurchase of common stock |
| (2,109,400 | ) | (21,000 | ) | (46,104,000 | ) | — |
| — |
| (46,125,000 | ) | |||||
Incentive plan stock compensation |
| 40,890 |
| — |
| 876,000 |
| — |
| — |
| 876,000 |
| |||||
Stock options exercised, net of shares surrendered for exercise price and income taxes |
| 56,370 |
| 1,000 |
| 650,000 |
| — |
| — |
| 651,000 |
| |||||
Tax benefit from stock options exercised |
| — |
| — |
| 307,000 |
| — |
| — |
| 307,000 |
| |||||
Net earnings |
| — |
| — |
| — |
| 44,710,000 |
| — |
| 44,710,000 |
| |||||
Foreign currency translation adjustment loss |
| — |
| — |
| — |
| — |
| (359,000 | ) | (359,000 | ) | |||||
Comprehensive income |
| — |
| — |
| — |
| — |
| — |
| 44,351,000 |
| |||||
Dividends ($.31 per share) |
| — |
| — |
| — |
| (5,926,000 | ) | — |
| (5,926,000 | ) | |||||
Balance at December 31, 2000 |
| 18,289,484 |
| 183,000 |
| 58,506,000 |
| 201,361,000 |
| (1,317,000 | ) | 258,733,000 |
| |||||
Incentive plan stock compensation |
| 39,703 |
| — |
| 1,169,000 |
| — |
| — |
| 1,169,000 |
| |||||
Stock options exercised, net of shares surrendered for exercise price and income taxes |
| 36,543 |
| 1,000 |
| 545,000 |
| — |
| — |
| 546,000 |
| |||||
Tax benefit from stock options exercised |
| — |
| — |
| 4,055,000 |
| — |
| — |
| 4,055,000 |
| |||||
Stock options extended |
| — |
| — |
| 310,000 |
| — |
| — |
| 310,000 |
| |||||
Net loss |
| — |
| — |
| — |
| (5,653,000 | ) | — |
| (5,653,000 | ) | |||||
Foreign currency translation adjustment income |
| — |
| — |
| — |
| — |
| 1,088,000 |
| 1,088,000 |
| |||||
Futures loss |
| — |
| — |
| — |
| — |
| (1,632,000 | ) | (1,632,000 | ) | |||||
Comprehensive income (loss) |
| — |
| — |
| — |
| — |
| — |
| (6,197,000 | ) | |||||
Dividends ($.08 per share) |
| — |
| — |
| — |
| (1,465,000 | ) | — |
| (1,465,000 | ) | |||||
Balance at March 31, 2001 |
| 18,365,730 |
| $ | 184,000 |
| $ | 64,585,000 |
| $ | 194,243,000 |
| $ | (1,861,000 | ) | $ | 257,151,000 |
|
Company |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Balance at March 31, 2001 |
| 18,365,730 |
| $ | 184,000 |
| $ | 64,585,000 |
| $ | 194,243,000 |
| $ | (1,861,000 | ) | $ | 257,151,000 |
|
Merger with M-Foods Holdings, Inc. |
| (18,365,730 | ) | (184,000 | ) | (64,585,000 | ) | (194,243,000 | ) | 1,861,000 |
| (257,151,000 | ) | |||||
Proceeds from issuance of common stock, $0.01 par |
| 1,000 |
| — |
| 213,393,000 |
| — |
| — |
| 213,393,000 |
| |||||
Deemed dividend to continuing shareholders |
| — |
| — |
| (66,631,000 | ) | — |
| — |
| (66,631,000 | ) | |||||
Allocation of deemed dividend to accumulated other comprehensive loss |
| — |
| — |
| — |
| — |
| (577,000 | ) | (577,000 | ) | |||||
Balance at April 1, 2001 |
| 1,000 |
| — |
| 146,762,000 |
| — |
| (577,000 | ) | 146,185,000 |
| |||||
Additional capital invested by parent |
| — |
| — |
| 30,000 |
| — |
| — |
| 30,000 |
| |||||
Net earnings |
| — |
| — |
| — |
| 9,815,000 |
| — |
| 9,815,000 |
| |||||
Foreign currency translation adjustment income |
| — |
| — |
| — |
| — |
| 10,000 |
| 10,000 |
| |||||
Interest rate swap |
| — |
| — |
| — |
| — |
| (1,206,000 | ) | (1,206,000 | ) | |||||
Futures loss |
| — |
| — |
| — |
| — |
| (1,844,000 | ) | (1,844,000 | ) | |||||
Comprehensive income |
| — |
| — |
| — |
| — |
| — |
| 6,775,000 |
| |||||
Balance at December 31, 2001 |
| 1,000 |
| — |
| 146,792,000 |
| 9,815,000 |
| (3,617,000 | ) | 152,990,000 |
| |||||
Additional capital invested by parent |
| — |
| — |
| 706,000 |
| — |
| — |
| 706,000 |
| |||||
Net earnings |
| — |
| — |
| — |
| 29,661,000 |
| — |
| 29,661,000 |
| |||||
Foreign currency translation adjustment income |
| — |
| — |
| — |
| — |
| 141,000 |
| 141,000 |
| |||||
Interest rate swap |
| — |
| — |
| — |
| — |
| (5,384,000 | ) | (5,384,000 | ) | |||||
Futures gain |
| — |
| — |
| — |
| — |
| 1,212,000 |
| 1,212,000 |
| |||||
Comprehensive income |
| — |
| — |
| — |
| — |
| — |
| 25,630,000 |
| |||||
Balance at December 31, 2002 |
| 1,000 |
| $ | — |
| $ | 147,498,000 |
| $ | 39,476,000 |
| $ | (7,648,000 | ) | $ | 179,326,000 |
|
Common Stock | |||||||||||||||||||||||||
Shares Issued | Amount | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Comprehensive Income | Total Shareholder’s Equity | |||||||||||||||||||
Balance at January 1, 2004 | 3 | $ | — | $ | 289,308 | $ | (4,529 | ) | $ | 2,759 | $ | 287,538 | |||||||||||||
Additional capital invested by parent | — | — | 13,159 | — | — | — | 13,159 | ||||||||||||||||||
Dividend to parent | — | — | (47,850 | ) | (22,234 | ) | — | — | (70,084 | ) | |||||||||||||||
Net earnings | — | — | — | 33,514 | — | $ | 33,514 | ||||||||||||||||||
Interest rate cap | — | — | — | — | (623 | ) | (623 | ) | |||||||||||||||||
Foreign currency translation adjustment | — | — | — | — | 2,486 | 2,486 | |||||||||||||||||||
Futures loss | — | — | — | — | (8,597 | ) | (8,597 | ) | |||||||||||||||||
Comprehensive income | — | — | — | — | — | — | 26,780 | ||||||||||||||||||
Balance at December 31, 2004 | 3 | — | 254,617 | 6,751 | (3,975 | ) | $ | 26,780 | 257,393 | ||||||||||||||||
Net earnings | — | — | — | 38,859 | — | $ | 38,859 | ||||||||||||||||||
Interest rate cap | — | — | — | — | 64 | 64 | |||||||||||||||||||
Foreign currency translation adjustment | — | — | — | — | 590 | 590 | |||||||||||||||||||
Futures gain | — | — | — | — | 7,109 | 7,109 | |||||||||||||||||||
Comprehensive income | — | — | — | — | — | — | 46,622 | ||||||||||||||||||
Balance at December 31, 2005 | 3 | — | 254,617 | 45,610 | 3,788 | $ | 46,622 | 304,015 | |||||||||||||||||
Adoption of Staff Accounting Bulletin No. 108 (net of $2,021 of income tax) | — | — | — | (3,299 | ) | — | — | (3,299 | ) | ||||||||||||||||
Capital invested by parent | — | — | 4,909 | — | — | — | 4,909 | ||||||||||||||||||
Stock option exercise | — | — | 766 | — | — | — | 766 | ||||||||||||||||||
Non-cash stock option compensation | — | — | 643 | — | — | — | 643 | ||||||||||||||||||
Net earnings | — | — | — | 19,155 | — | $ | 19,155 | ||||||||||||||||||
Interest rate cap | — | — | — | — | 559 | 559 | |||||||||||||||||||
Foreign currency translation adjustment | — | — | — | — | (1,012 | ) | (1,012 | ) | |||||||||||||||||
Futures loss | — | — | — | — | (942 | ) | (942 | ) | |||||||||||||||||
Comprehensive income | — | — | — | — | — | — | 17,760 | ||||||||||||||||||
Balance at December 31, 2006 | 3 | $ | — | $ | 260,935 | $ | 61,466 | $ | 2,393 | $ | 17,760 | $ | 324,794 | ||||||||||||
The accompanying notes are an integral part of these financial statements.
5551
MICHAEL FOODS, INC.
(A wholly owned subsidiaryWholly Owned Subsidiary of M-Foods Holdings, Inc.)
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31,
(In Thousands)
Company |
| Predecessor | |||||||||||
|
| Year |
| Nine months |
| Three months |
| Year |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
| ||||
Net earnings (loss) |
| $ | 29,661,000 |
| $ | 9,815,000 |
| $ | (5,653,000 | ) | $ | 44,710,000 |
|
Adjustments to reconcile net earnings (loss) to net cash provided by operating activities: |
|
|
|
|
|
|
|
|
| ||||
Depreciation |
| 53,543,000 |
| 39,689,000 |
| 11,114,000 |
| 42,355,000 |
| ||||
Amortization of intangibles |
| 716,000 |
| 7,256,000 |
| 1,421,000 |
| 5,628,000 |
| ||||
Amortization of deferred financing costs |
| 4,218,000 |
| 2,359,000 |
| — |
| — |
| ||||
Deferred income taxes |
| (1,606,000 | ) | (2,749,000 | ) | (1,547,000 | ) | 2,707,000 |
| ||||
Tax benefit from stock options exercised |
| — |
| — |
| 4,055,000 |
| 307,000 |
| ||||
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
| ||||
Accounts receivable |
| 1,648,000 |
| 18,569,000 |
| (7,903,000 | ) | (20,274,000 | ) | ||||
Inventories |
| (10,630,000 | ) | 3,400,000 |
| (4,944,000 | ) | (4,537,000 | ) | ||||
Prepaid expenses and other |
| (1,902,000 | ) | (3,784,000 | ) | 293,000 |
| (199,000 | ) | ||||
Accounts payable |
| 560,000 |
| 4,837,000 |
| 5,443,000 |
| 7,203,000 |
| ||||
Accrued liabilities |
| 6,797,000 |
| 21,401,000 |
| 11,737,000 |
| (8,815,000 | ) | ||||
Net cash provided by operating activities |
| 83,005,000 |
| 100,793,000 |
| 14,016,000 |
| 69,085,000 |
| ||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
| ||||
Capital expenditures |
| (27,394,000 | ) | (23,299,000 | ) | (10,837,000 | ) | (37,373,000 | ) | ||||
Business acquisitions |
| (17,883,000 | ) | (626,925,000 | ) | — |
| — |
| ||||
Joint ventures and other assets |
| 4,752,000 |
| (4,953,000 | ) | 3,888,000 |
| (1,127,000 | ) | ||||
Net cash used in investing activities |
| (40,525,000 | ) | (655,177,000 | ) | (6,949,000 | ) | (38,500,000 | ) | ||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
| ||||
Payments on revolving line of credit |
| (30,000,000 | ) | (65,750,000 | ) | (52,000,000 | ) | (168,400,000 | ) | ||||
Proceeds from revolving line of credit |
| 25,000,000 |
| 53,800,000 |
| 45,500,000 |
| 191,600,000 |
| ||||
Payments on long-term debt |
| (45,274,000 | ) | (155,106,000 | ) | (109,000 | ) | (3,109,000 | ) | ||||
Proceeds from long-term debt |
| — |
| 570,000,000 |
| — |
| 184,000 |
| ||||
Repurchase of common stock |
| — |
| — |
| — |
| (46,125,000 | ) | ||||
Proceeds from issuance of common stock |
| — |
| 174,800,000 |
| 546,000 |
| 651,000 |
| ||||
Additional capital invested by parent |
| 706,000 |
| 30,000 |
| — |
| — |
| ||||
Dividends |
| — |
| — |
| (1,465,000 | ) | (5,926,000 | ) | ||||
Other |
| — |
| — |
| 310,000 |
| — |
| ||||
Net cash provided by (used in) financing activities |
| (49,568,000 | ) | 577,774,000 |
| (7,218,000 | ) | (31,125,000 | ) | ||||
Net increase (decrease) in cash and equivalents |
| (7,088,000 | ) | 23,390,000 |
| (151,000 | ) | (540,000 | ) | ||||
Cash and equivalents at beginning of period |
| 27,660,000 |
| 4,270,000 |
| 4,421,000 |
| 4,961,000 |
| ||||
Cash and equivalents at end of period |
| $ | 20,572,000 |
| $ | 27,660,000 |
| $ | 4,270,000 |
| $ | 4,421,000 |
|
|
|
|
|
|
|
|
|
|
| ||||
Supplemental disclosures of cash flow information: |
|
|
|
|
|
|
|
|
| ||||
Cash paid during the year for: |
|
|
|
|
|
|
|
|
| ||||
Interest |
| $ | 46,959,000 |
| $ | 28,866,000 |
| $ | 5,945,000 |
| $ | 13,484,000 |
|
Income taxes |
| 15,098,000 |
| 7,467,000 |
| 1,025,000 |
| 27,225,000 |
|
2006 | 2005 | 2004 | ||||||||||
Cash flow from operating activities: | ||||||||||||
Net earnings | $ | 19,155 | $ | 38,859 | $ | 33,514 | ||||||
Adjustments to reconcile net earnings to net cash provided by operating activities: | ||||||||||||
Depreciation | 59,305 | 54,531 | 51,299 | |||||||||
Amortization of intangibles | 15,553 | 15,561 | 15,558 | |||||||||
Amortization of deferred financing costs | 4,743 | 1,993 | 2,046 | |||||||||
Write-off of assets related to plant closing | 2,894 | — | — | |||||||||
Write-off of Belgian joint venture | 2,713 | — | — | |||||||||
Write-off deferred financing costs | — | 4,134 | — | |||||||||
Deferred income taxes | (15,530 | ) | (12,259 | ) | (2,706 | ) | ||||||
Preferred return on deferred compensation | 1,204 | 968 | 1,771 | |||||||||
Non-cash stock option compensation | 643 | — | — | |||||||||
Bad debt expense | — | — | 2,590 | |||||||||
Changes in operating assets and liabilities: | ||||||||||||
Accounts receivable | (2,115 | ) | (1,348 | ) | 5,430 | |||||||
Inventories | (5,634 | ) | (6,678 | ) | 6,198 | |||||||
Prepaid expenses and other | 493 | 6,633 | 17,484 | |||||||||
Accounts payable | 2,872 | 3,532 | (5,904 | ) | ||||||||
Accrued liabilities | (9,530 | ) | (1,524 | ) | 7,476 | |||||||
Deferred compensation | — | — | (13,109 | ) | ||||||||
Net cash provided by operating activities | 76,766 | 104,402 | 121,647 | |||||||||
Cash flows from investing activities: | ||||||||||||
Capital expenditures | (33,806 | ) | (40,690 | ) | (37,695 | ) | ||||||
Other assets | (98 | ) | (817 | ) | 1,314 | |||||||
Net cash used in investing activities | (33,904 | ) | (41,507 | ) | (36,381 | ) | ||||||
Cash flows from financing activities: | ||||||||||||
Payments on revolving line of credit | (1,200 | ) | — | (5,500 | ) | |||||||
Proceeds from revolving line of credit | 1,200 | — | 5,500 | |||||||||
Payments on long-term debt | (64,070 | ) | (140,372 | ) | (41,483 | ) | ||||||
Proceeds from long-term debt | — | 88,188 | — | |||||||||
Proceeds from stock option exercise | 766 | — | — | |||||||||
Additional capital invested by parent | — | — | 13,159 | |||||||||
Deferred financing costs | (162 | ) | (378 | ) | (824 | ) | ||||||
Dividends | — | — | (70,084 | ) | ||||||||
Net cash used in financing activities | (63,466 | ) | (52,562 | ) | (99,232 | ) | ||||||
Effect of exchange rate changes on cash | 1 | 30 | 188 | |||||||||
Net increase (decrease) in cash and equivalents | (20,603 | ) | 10,363 | (13,778 | ) | |||||||
Cash and equivalents at beginning of period | 42,179 | 31,816 | 45,594 | |||||||||
Cash and equivalents at end of period | $ | 21,576 | $ | 42,179 | $ | 31,816 | ||||||
Supplemental disclosures of cash flow information: | ||||||||||||
Cash paid during the period for: | ||||||||||||
Interest | $ | 51,448 | $ | 47,693 | $ | 39,166 | ||||||
Income taxes | 26,101 | 30,387 | 10,228 |
The accompanying notes are an integral part of these financial statements.
5652
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A—MERGER AGREEMENT
On April 10, 2001, Michael Foods, Inc. and its subsidiaries (“Michael Foods”, “Company”, “we”, “us”, “our”) was acquired in a transaction (the “Merger”) led by an investor group comprised of a management group led by Michael Foods’ Chairman, President and Chief Executive Officer, Gregg Ostrander, affiliates of Jeffrey Michael, a member of the Predecessor’s Board of Directors, and affiliates of two private equity investment firms, Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated, (collectively, “M-Foods Investors, LLC”). Michael Foods, Inc. is a wholly-owned subsidiary of M-Foods Holdings, Inc.; M-Foods Holdings, Inc. is a wholly-owned subsidiary of M-Foods Investors, LLC. Under the terms of the Merger agreement, all outstanding shares of Michael Foods common stock were converted into the right to receive $30.10 per share in cash, or value equal thereto, and all outstanding stock options were converted into the right to receive, in cash, $30.10 per share reduced by the exercise price per share for all shares subject to such stock options. The purchase of the outstanding shares was financed through new equity financing of approximately $175,000,000, a senior secured credit facility of up to $470,000,000 at market-based variable interest rates, and $200,000,000 of senior subordinated notes at an 11.75% annual interest rate. As a result of the Merger, the stock of pre-merger Michael Foods (“Predecessor”) is no longer publicly traded and, therefore, earnings per share calculations are no longer included for financial statement presentation.
Immediately after the close of the Merger, we contributed the assets of our Dairy Products Division into two limited liability corporations, M-Foods Dairy, LLC and M-Foods Dairy TXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received voting preferred and voting common units from these entities equal to the fair value of the net assets contributed, which collectively were approximately $35,800,000. The preferred units issued to us have an annual 10% preferred return guarantee and represent 100% of the preferred units issued and outstanding. In addition, we received 5% of the common units issued by the Dairy LLCs, with the common units held by the Company representing 100% of the voting common units issued and outstanding. These common units have a stated value of $25,000. The remaining 95% of the common units, which are non-voting, are owned by M-Foods Dairy Holdings, LLC, which is owned by the same owners or affiliates of such owners, in the same proportion, as the unit holders of M-Foods Investors, LLC. The common unit interests owned by M-Foods Dairy Holdings, LLC were issued in exchange for $475,000 and are reflected as non-controlling interest in the accompanying consolidated balance sheet.
The Merger was accounted for as a purchase in accordance with Accounting Principles Board Opinion 16, Business Combinations and EITF 88-16, Basis in Leveraged Buyout Transactions. Accordingly, the acquired assets and liabilities have been recorded at fair value for the interests acquired by new investors and at the carryover basis for continuing investors. As a result, the assets and liabilities were assigned new values, which are part Predecessor cost and part fair value in the same proportions as the carryover basis of the residual interests retained by the continuing management investors and continuing affiliate investors of the Michael family, and the new interests acquired by the new investors. The amount of carryover basis was reflected as a deemed dividend of $66,631,000.
For ease of presentation, the Merger was accounted for as if it had occurred on April 1, 2001. Management determined that results of operations were not significant and no material transactions occurred during the period from April 1 through April 9, 2001. Our consolidated financial statements have been presented on a comparative basis with the Predecessor’s historical consolidated financial statements prior to the date of Merger. Different bases of accounting have been used to prepare the Company and Predecessor consolidated financial statements.
57
The primary differences relate to additional interest expense for new debt and depreciation and amortization of fixed assets and other intangible assets recorded at fair value at the date of Merger.
For accounting purposes, the Merger was considered a leveraged buy-out. The total purchase price of approximately $562,881,000 was allocated to the acquired assets and assumed liabilities based on their fair values at April 1, 2001, net of the deemed dividend of $66,631,000. These allocations were based on a valuation by a third party appraisal firm. The allocation of the purchase price was as follows:
Working capital |
| $ | 88,663,000 |
|
Property, plant & equipment |
| 307,544,000 |
| |
Other assets |
| 42,816,000 |
| |
Goodwill |
| 347,537,000 |
| |
Long-term debt |
| 588,426,000 |
| |
Other liabilities |
| 51,474,000 |
|
In connection with the Merger, the Predecessor incurred transaction expenses of approximately $26,600,000 associated with the Merger and change-in-control provisions of various compensation, debt and other agreements, which have been reflected in the Predecessor financial statements. These transaction expenses include the expense related to the early extinguishment of debt resulting from the change-in-control. In addition, we incurred other merger related and debt issuance costs of approximately $40,000,000, which have been capitalized as direct costs of the Merger and deferred financing costs in our consolidated balance sheet.
The following unaudited pro forma net sales and earnings before other expense and income taxes for the year ended December 31, 2001 are derived from the application of pro forma adjustments to the Predecessor’s historical statement of earnings, and assume the Merger had occurred on January 1, 2001. The pro forma earnings for the year ended December 31, 2001 are also adjusted for goodwill amortization determined in accordance with the provisions of SFAS 142 (see Note C, Goodwill and Intangibles). The net sales and earnings before other expense and income taxes for the year ended December 31, 2002 represent actual results for the period.
|
| Year ended |
| Year ended |
| ||
|
|
|
|
|
| ||
Net sales |
| $ | 1,168,160,000 |
| $ | 1,161,269,000 |
|
Earnings before other expense and income taxes |
| 48,204,000 |
| 19,446,000 |
| ||
The most significant of the pro forma adjustments reflected in the above amounts were to reverse the impact of the one-time transaction-related charges recorded during the three months ended March 31, 2001, to record the incremental interest on the additional debt incurred in connection with the Merger and to record additional depreciation and amortization charges resulting from the fair value adjustments made to fixed assets and the recording of additional intangible assets. The pro forma financial information should be read in conjunction with the related historical information and is not necessarily indicative of the results that would have been obtained had the transaction actually taken place at the beginning of the periods presented.
58
NOTE B – ASSET PURCHASE
On August 26, 2002, we acquired the egg products assets of Canadian Inovatech Inc. for approximately $18,000,000. The total purchase price was allocated to the acquired assets and liabilities based on their fair values at the acquisition date as determined by a third party appraisal firm. The allocation of the purchase price resulted in goodwill of $4,807,000. We also entered into long-term leases for two plants operated by the seller. This entity’s results of operations have been included in our operating results since the date of the asset purchase. Also, as a result of this asset purchase, we now own 67%, rather than 33%, of a Canadian egg products joint venture — Trilogy Egg Products, Inc. Hence, Trilogy became a consolidated entity under our financial reporting as of the date of the asset purchase.
The following unaudited pro forma statement of earnings information has been prepared assuming the asset purchase and the merger transaction described in Note A had occurred on January 1, 2001:
|
| Year ended |
| Year ended |
| ||
Net sales |
| $ | 1,202,515,000 |
| $ | 1,197,509,000 |
|
Earnings before other expense and income taxes |
| 50,434,000 |
| 22,447,000 |
| ||
This unaudited pro forma information is not necessarily indicative of the combined results of operations that would have occurred had the transactions occurred on the noted dates, nor is it indicative of the results which may occur in the future.
NOTE C—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company
The Company is a diversified producer and distributor of food products in fourthree areas—egg products, refrigerated distribution, dairy products, and potato products. The Company believes it is the largest producer of processed egg products in the United States, and is a leading producer and distributor of specialty potato and dairy products to the foodservice, retail and industrial markets. The Company also distributes refrigerated grocery items, primarily cheese and other dairy items, to the retail grocery market in the central United States.
Michael Foods, Inc. is a wholly-owned subsidiary of M-Foods Holdings, Inc. (“Holdings” or “Parent”). M-Foods Holdings, Inc. is a wholly-owned subsidiary of Michael Foods Investors, LLC, whose members include affiliates of Thomas H. Lee Partners L.P. and certain members of our management.
The Company adopted the accounting policies of the Predecessor.
Principles of Consolidation and Fiscal Year
The consolidated financial statements include the accounts of Michael Foods, Inc. and all majority owned subsidiaries in which it has control. All significant inter-companyintercompany accounts and transactions have been eliminated. The Company'sCompany’s investments in non-controlled entities in which it has the ability to exercise significant influence over operating and financial policies are accounted for by the equity method. The Company utilizes a fifty-two, fifty-three week fiscal year ending on the Saturday nearest to December 31, but for clarity of presentation, describes all periods as if the year end is December 31. The yearsperiods presented are as follows:
Year end December 31, 2006, contained a fifty-two week period ended December 30, 2006.
Year end December 31, 2005, contained a fifty-two week period ended December 31, 2002, 2001 and 2000 each consisted of fifty-two weeks.2005.
Basis of Presentation
The accompanying consolidated financial statements as ofYear end December 31, 2000 and for the year then2004, contained a fifty-two week period ended and for the three months ended March 31, 2001 have been taken from the historical books and records of the Predecessor.January 1, 2005.
59
Use of Estimates
Preparation of the Company's consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, related revenues and expenses and disclosure about contingent assets and liabilities at the date of the financial statements. Actual results could differ from the estimates used by management.
Cash and Equivalents
The Company considersWe consider all highly liquid temporary investments with original maturities of three months or less to be cash equivalents. Substantially all of the Company’sour cash and equivalents isare with one bank.mutual fund family. At times, bank deposits may be in excess of federally insured limits.
The Company grantsWe grant credit to our customers in the normal course of business, but generally doesdo not require collateral or any other security to support amounts due. Management performs on-going credit evaluations of customers. The Company maintainsWe maintain an allowance for potential credit losses based on historical write-off experience which, when realized, have been within management’s expectations. The allowance was $3,110,000$4,150,000 and $2,650,000$4,324,000 at December 31, 20022006 and 2001.2005.
Inventories
Inventories, other than flocks, are stated at the lower of cost (determined on a first-in, first-out basis) or market. Flock inventory represents the cost of purchasing and raising flocks to laying maturity, at which time their cost is amortized to operations over their expected useful lives of generally one to two years.
Inventories consisted of the following at December 31:31, (in thousands):
|
| 2002 |
| 2001 |
| ||||||||
|
|
|
|
|
| 2006 | 2005 | ||||||
Raw materials and supplies |
| $ | 18,552,000 |
| $ | 15,347,000 |
| $ | 18,485 | $ | 17,752 | ||
Work in process and finished goods |
| 54,574,000 |
| 43,027,000 |
| 62,220 | 57,961 | ||||||
Flocks |
| 22,681,000 |
| 20,567,000 |
| 22,715 | 22,166 | ||||||
|
| $ | 95,807,000 |
| $ | 78,941,000 |
| ||||||
$ | 103,420 | $ | 97,879 | ||||||||||
53
Accounting for Hedge Activities
Effective January 1, 2001, the Company adopted Statement of Financial Accounting Standard (“SFAS”) No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended. This standard establishes accounting and reporting standards for derivative financial instruments and hedge activities. Certain of the Company’sour operating segments holdenter into derivative instruments, such as corn, soybean meal, cheese and fuel futures that the Company believeswe believe provide an economic hedge of future transactions and are designated as cash flow hedges. As the commodities being hedged are either grain ingredients fed to the Company’sour flocks, raw materials or production inputs, the changes in the market value of such contracts have historically been, and are expected to continue to be, highly effective at offsetting changes in price movements of these items. In addition, the Company has also2004, we entered into a 6% interest rate swap agreements, which correspondcap arrangement that corresponds with the interest payment terms of aon $210 million borrowed under the variable portion of the Company’s variable rate senior securedour credit facility. As the significant components of the swap agreements and the credit facility are highly correlative, the Company expects the swapsagreement for a one-year period starting in November 2004, then declining to be highly effective over the terms of the agreements.$180 million for one year starting in November 2005. The amount of hedge ineffectiveness was immaterial for the years ended December 31, 2002 and 2001. interest cap arrangement expired in November 2006.
60
The CompanyWe actively monitors itsmonitor exposure to commodity price risks and usesuse derivative commodity instruments to manage the impact of certain of these risks. The Company usesWe use derivatives, primarily futures contracts, only for the purpose of managing risks associated with underlying exposures. The Company’sOur futures contracts are cash flow hedges of firm purchase commitments and anticipated production requirements, as they reduce the Company’sour exposure to changes in the cash price of the respective items and generally extend for less than one year. We expect that within the next twelve months we will reclassify, as earnings, the amount recorded in accumulated other comprehensive income related to futures at year end.
The Company doesWe do not trade or use instruments with the objective of earning financial gains on the commodity price, nor does itdo we use instruments where there are not underlying exposures. All derivatives are recognized at their fair value. The fair values at December 31, 2006 resulted in an asset of approximately $907,000 included in other current assets. Gains and losses on futures contracts are deferred as a component of Accumulated Other Comprehensive Loss ("AOCL"Gain or (Loss) (“AOCG” or “ACOL”) in the Company’s equity section of theour balance sheet and a corresponding amount is recorded in other current assets or liabilities, as appropriate. The amounts deferred are subsequently recognized in cost of sales when the associated products are sold. The cost or benefit of contracts closed prior to the execution of the underlying purchase is deferred until the anticipated purchase occurs. As a result of the volatility of the markets, deferred gains and losses in AOCG or AOCL may fluctuate until the related contract is closed.
Initially, upon adoption of the new derivative accounting standard, and prospectively as required by the standard on the date new derivatives are entered into, the Company formally documentsWe document all relationships between hedging instruments and hedged items, as well as the Company’sour risk management objectives and strategy for undertaking the hedge. This process includes specific identification of the hedging instrument and the hedge transaction, the nature of the risk being hedged and how the hedging instrument’s effectiveness will be assessed. Both at the inception of the hedge and on an ongoing basis, the Company assesseswe assess whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows of hedged items. If it is determined that a derivative ceases to be a highly effective hedge, the derivative expires or is sold, terminated or exercised or the forecasted transaction being hedged will no longer occur, the Companywe will discontinue hedge accounting, and any deferred gains or losses on the derivative instrument will be recognized in earnings during the period in which it no longer qualifies as a hedge. No such instances occurredThe amount of ineffectiveness, included in the years ended December 31, 2002 or 2001.cost of sales, was immaterial for 2006, 2005 and 2004.
Property, Plant and Equipment
Depreciation is provided in amounts sufficient to relate the cost of depreciable assets to operations over their estimated service lives, principally on the straight-line basis. Estimated service lives range from 10-40 years for buildings and improvements and 3-103-15 years for machinery and equipment. AcceleratedMaintenance and straight-line methodsrepairs are used for income tax purposes.charged to expense in the year incurred and renewals and betterments are capitalized. The Companycosts and Predecessoraccumulated depreciation of assets sold or disposed of are removed from the accounts and the resulting gain or loss is reflected in earnings.
We capitalized $803,000, $461,000 and $168,000 of interest costs relating to the construction and installation of property, plant and equipment of $196,000 and $224,000 forduring the nine monthsyears ended December 31, 20012006, 2005 and the year ended December 31, 2000,2004, respectively. No interest was capitalized by the predecessor during the three months ended March 31, 2001 or by the Company for the year ended December 31, 2002.
61
Goodwill and Intangible Assets
In June 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations,” and SAFS No. 142, “Goodwill and Other Intangible Assets.” SFAS 141 eliminates the pooling-of-interests method of accounting for business combinations, requiring that all business combinations initiated after June 30, 2001 be accounted for using the purchase method. SFAS 142 provides that goodwill is no longer amortized, but rather is reviewed for impairment at least annually and more frequently in certain circumstances using a two-step process.
In October 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment of Disposal of Long-Lived Assets.” This statement addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of and supercedes SFAS 121. SFAS 144 does, however, retain the fundamental provisions of SFAS 121 for the recognition and measurement of the impairment of long-lived assets to be held and used and the measurement of long-lived assets to be disposed of by sale.
As of January 1, 2002, we adopted SFAS 141, 142 and 144. The effect of adopting SFAS 142 was to reduce amortization expense by approximately $8,824,000 for the year ended December 31, 2002. As a result of adopting these standards, our accounting policies for goodwill and intangible assets changed effective January 1, 2002, as described below:
Goodwill and Intangible Assets with Indefinite Lives
We recognize the excess cost of an acquired entity over the net amount assigned to assets acquired, including intangible assets with indefinite lives, and liabilities assumed, as goodwill. Goodwill and intangible assets with indefinite lives will be(trademarks) are tested for impairment on an annual basis during the fourth quarter, and between annual tests whenever there is an impairment indicated. Fair values are estimated based on our best assessment of market value compared with the corresponding carrying value of the reporting unit, including goodwill. Impairment losses will be recognized whenever the implied fair value is less than the carrying value of the related asset. Prior to January 1, 2002, goodwill and intangible assets with indefinite lives were amortized over 40 years. Beginning January 1, 2002, goodwill and intangible assets with indefinite lives are no longer amortized.
Other Intangibles54
Each segment’s share of goodwill at December 31, (in thousands):
2006 | 2005 | |||||
Egg Products | $ | 428,940 | $ | 428,940 | ||
Refrigerated Distribution | 32,290 | 32,290 | ||||
Potato Products | 60,205 | 60,205 | ||||
$ | 521,435 | $ | 521,435 | |||
We recognize an acquired intangible asset apart from goodwill whenever the asset arises from contractual or other legal rights, or whenever it is capable of being separated or divided from the acquired entity and sold, transferred, licensed, rented or exchanged, either individually or in combination with a related contract, asset or liability. An intangible asset other than goodwill is amortized over its estimated useful life unless that life is determined to be indefinite. Straight-line amortization reflects an appropriate allocation of the cost of intangible assets to earnings in proportion to the amount of economic benefit obtained by the Company in each reporting period. Impairment losses are recognized if the carrying amount of an intangible asset subject to amortization is not recoverable from expected future cash flows, and its carrying amount exceeds its fair value.
The adoption of SFAS 141 and 144 did not affect our financial position or results of operations. During the second quarter of 2002 pursuant to SFAS 142, we completed the transitional impairment test of goodwill with no impairment indicatedOur intangible assets at January 1, 2002. During the fourth quarter of 2002, pursuant to SFAS 142, we completed the annual impairment test of goodwill with no impairment indicated.December 31, (in thousands):
62
The change in the carrying amount of goodwill for the year ended December 31, 2002 is as follows:
Balance at December 31, 2001 |
| $ | 341,021,000 |
|
Goodwill related to the Inovatech acquisition (see Note B) |
| 4,807,000 |
| |
Reduction related to resolution of certain tax contingencies recorded at the date of the Merger |
| (4,800,000 | ) | |
Balance at December 31, 2002 |
| $ | 341,028,000 |
|
Each segment's share of this goodwill was as follows:
|
| 2002 |
| 2001 |
| ||
Egg Products |
| $ | 254,189,000 |
| $ | 254,182,000 |
|
Refrigerated Distribution |
| 35,560,000 |
| 35,560,000 |
| ||
Potato Products |
| 49,516,000 |
| 49,516,000 |
| ||
Dairy Products |
| 1,763,000 |
| 1,763,000 |
| ||
The following table presents a reconciliation of net earnings (loss), as reported in the financial statements, to those amounts adjusted for goodwill and intangible amortization determined in accordance with the provisions of SFAS 142.
|
| Year ended |
| Nine months ended |
| Three months ended |
| |||
|
| (Company) |
| (Predecessor) |
| |||||
Reported net earnings (loss) |
| $ | 29,661,000 |
| $ | 9,815,000 |
| $ | (5,653,000 | ) |
Add back: goodwill amortization |
| — |
| 6,516,000 |
| 885,000 |
| |||
Adjusted net earnings (loss) |
| $ | 29,661,000 |
| $ | 16,331,000 |
| $ | (4,768,000 | ) |
The carrying amount for other indefinite-lived intangible assets (trademarks) as of December 31, 2002 and 2001 was $13,406,000. The Predecessor had no indefinite-lived intangible assets.
Our acquired intangible assets that have been determined to have a definite life and continue to be amortized as of December 31, 2002 are as follows:
|
| Gross Carrying |
| Accumulated |
| ||
Licenses and non-compete |
| $ | 2,526,000 |
| $ | (1,353,000 | ) |
2006 | 2005 | |||||||
Amortized intangible assets, principally customer relationships | $ | 230,615 | $ | 230,615 | ||||
Accumulated amortization | (47,960 | ) | (32,407 | ) | ||||
182,655 | 198,208 | |||||||
Indefinite lived intangible assets, trademarks | 34,025 | 34,025 | ||||||
$ | 216,680 | $ | 232,233 | |||||
The aggregate amortization expense for the yearyears ended December 31, 20022006, 2005, and was approximately $716,000$15,553,000, $15,561,000, and $637,000 for the nine months ended December 31, 2001. The Predecessor had amortization expense of approximately $500,000 during the three months ended March 31, 2001.$15,558,000, respectively. The estimated amortization expense for the years ended December 31, 20032007 through December 31, 20062011 is as follows:follows (in thousands):
2003 |
| $ | 715,000 |
|
2004 |
| 186,000 |
| |
2005 |
| 186,000 |
| |
2006 |
| 86,000 |
|
2007 | $ | 15,328 | |
2008 | 15,328 | ||
2009 | 15,328 | ||
2010 | 15,328 | ||
2011 | 15,328 |
The above amortization expense forecast is an estimate. Actual amounts may change from such estimated amounts due to additional intangible asset acquisitions, potential impairment, accelerated amortization, or other events.
63
Deferred Financing Costs
In connection with the MergerDeferred financing deferred financing costs of $21,035,000 were capitalized. These costs are included in other assets and are being amortized using the interest method over the lives of the respective debt agreements. Accumulated amortization was $6,473,000 and $2,359,000 atOur deferred financing costs as of December 31, 20022006 and 2001 respectively.2005 are as follows (in thousands):
2006 | 2005 | |||||||
Deferred financing costs | $ | 31,435 | $ | 31,273 | ||||
Accumulated amortization | (14,272 | ) | (4,209 | ) | ||||
$ | 17,163 | $ | 27,064 | |||||
Foreign Joint Ventures and Currency Translation
The Company hasWe have invested in foreign joint ventures in Europe and Canada related to itsour Egg Products Division. The European joint venture investment is accounted for using the equity method of accounting. The financial statements for thisthe Canadian entity are measured in theirthe local currency and then translated into U.S. dollars. The balance sheet accounts are translated using the current exchange rate at the balance sheet date and the operating results are translated using
55
the average rates prevailing throughout the reporting period. Accumulated translation gains or losses are recorded in AOCG or AOCL and are included as a component of comprehensive income (loss). The Company now ownsincome. We own 67% of the Canadian joint venture and, therefore, its financial statements are included in theour consolidated financial statements ofstatements.
We hold a 35.63% ownership in Belovo S.A., a Belgian egg products company. Our investment in the Company. The financial statements of the Canadian joint venture are translated usingwas $2.7 million at December 31, 2005. We have not received dividends from this entity. In January 2006, Belovo completed a scission of its business, splitting its operations into separate entities. In September 2006, we determined, based on continuing losses and the same methodology as used forthen financial position of Belovo, that a valuation adjustment on the European joint venture withinvestment was necessary. We recorded approximately $0.9 million of losses related to Belovo’s 2006 operations and we adjusted the accumulated translation gains or losses being recordedvalue of our investment in AOCL and are included asBelovo to zero in September 2006 by recording a component of comprehensive income (loss).$1.8 million valuation adjustment.
Revenue Recognition
Sales are recognized when goods are shipped to customersreceived by the customer and are recorded net of estimated customer programs and returns. In accordance with Staff Accounting Bulletin (“SAB”) 104, we recognize revenue when all of the following conditions have been met:
(1) Persuasive evidence of an arrangement exists—A revenue transaction is initiated and evidenced by receipt of a purchase order from our customer.
Stock-Based Compensation(2) Delivery has occurred or services have been rendered—An invoice is created from the bill of lading at our shipping plant and revenue is recognized when proof of delivery of the receipt of goods is received from our carriers.
(3) The Predecessor utilizedseller’s price to the intrinsic value methodbuyer is fixed or determinable—Our sales invoice includes an agreed upon selling price.
(4) Collectibility is reasonably assured—We have a documented credit and collection policy and procedure manual for determining collectibility from our customers.
Our shipping policy is FOB destination; therefore, title to goods remains with us until delivered by the carrier to our customer.
Only a minor portion of accountingour sales result in customer returns. An accrual is estimated based on historical trends and reviewed periodically for its stock-based employee compensation plans. Pro forma informationadequacy. Revenue is appropriately reduced to reflect estimated returns.
We are able to make a reasonable estimate of customer returns due to the fact that our sales are not susceptible to significant external factors, the return period is short, we have no history of not being able to estimate this accrual and our sales are high volume and homogeneous in nature.
Customer incentive programs include customer rebates, volume discounts and allowance programs. We have contractual arrangements with our customers and utilize agreed-upon discounts to determine the accrued promotion costs related to these customers. In addition, we have contractual arrangements with end-user customers and utilize historical experience to determine this accrual.
Advertising
Advertising costs are expensed as incurred. Our advertising expense for the fair valueyears ended December 31, 2006, 2005, and 2004 was $12,449,000, $12,083,000, and $9,617,000, respectively.
Income Taxes
Deferred income taxes are computed using the asset and liability method, such that deferred tax assets and liabilities are recognized for the expected future tax consequences of accountingtemporary differences between financial reporting amounts and the tax bases of existing assets and liabilities based on currently enacted tax laws and tax rates in effect for the periods in which the differences are expected to reverse. Income tax expense is providedthe tax payable for the period plus the change during the period in Note I. The Company doesdeferred income taxes. Valuation allowances are established when necessary to reduce deferred tax assets to the amount more likely than not have any stock-based compensation plans.expected to be realized. We are included in a consolidated federal income tax return with our Parent. State income taxes are generally filed on either a combined or separate company basis.
56
Fair Value of Financial Instruments
We consider that the carrying amount of financial instruments, including accounts receivable, accounts payable, accrued liabilities and notes payable, approximates fair value. Interest on our senior credit facility and senior unsecured term loan is payable at rates which approximate fair value. The fair value of the senior notes, based on the quoted market price for the same or similar issues of debt, would be approximately $150,050,000.
Comprehensive Income
Total comprehensive income is disclosed in the consolidated statements of shareholder’s equity and included in net earnings and other comprehensive income (loss), which is comprised of unrealized gains (losses) on cash flow hedges and foreign currency translation adjustments.
The components of and changes in accumulated other comprehensive income (loss), net of taxes, were as follows (in thousands):
Cash Flow Hedges | Foreign Currency Translation | Interest Rate Cap | Total AOCG/AOCL | |||||||||||||
Balance at December 31, 2003 | $ | 2,430 | $ | 329 | $ | — | $ | 2,759 | ||||||||
Foreign currency translation adjustment | — | 2,486 | — | 2,486 | ||||||||||||
Change due to cash flow hedges | (8,597 | ) | — | — | (8,597 | ) | ||||||||||
Interest rate cap | — | — | (623 | ) | (623 | ) | ||||||||||
Balance at December 31, 2004 | (6,167 | ) | 2,815 | (623 | ) | (3,975 | ) | |||||||||
Foreign currency translation adjustment | — | 590 | — | 590 | ||||||||||||
Change due to cash flow hedges | 7,109 | — | — | 7,109 | ||||||||||||
Interest rate cap | — | — | 64 | 64 | ||||||||||||
Balance at December 31, 2005 | 942 | 3,405 | (559 | ) | 3,788 | |||||||||||
Foreign currency translation adjustment | — | (1,012 | ) | — | (1,012 | ) | ||||||||||
Change due to cash flow hedges | (942 | ) | — | — | (942 | ) | ||||||||||
Interest rate cap | — | — | 559 | 559 | ||||||||||||
Balance at December 31, 2006 | $ | — | $ | 2,393 | $ | — | $ | 2,393 | ||||||||
Recent Accounting Pronouncements
On January 1, 2002,In July 2006, the Financial Accounting Standards Board issued Interpretation No. 48,Accounting for Uncertainty in Income Taxes (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. While our analysis of the impact of FIN 48 is not yet complete, we adopted Emerging Issues Task Force (EITF) Issue No. 00-25, Vendor Income Statement Characterization of Consideration to a Reseller on the Vendors Products, effective January 1, 2002. The adoption of EITF Issue 00-25 diddo not anticipate it will have a material effectimpact on our consolidated financial statements. In addition, we adopted EITF Issue No. 01-09, Accounting for Consideration given by a Vendor to a Customer (including a Resellershareholder’s equity at the time of the Vendor's Products),adoption. effective January 1, 2002. The adoption of EITF Issue No. 01-09 did not have a material effect on our consolidated financial statements.
In July 2001,September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 143, "Accounting for Asset Retirement Obligations" which provides accounting requirements for retirement obligations associated with tangible long-lived assets. 157, Fair Value Measurements (“SFAS No. 143157”). This standard clarifies the principle that fair value should be based on the assumptions that market participants would use when pricing an asset or liability. Additionally, it establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. This standard is effective for financial statements issued for fiscal years beginning after JuneNovember 15, 2002.2007. We are currently evaluating the impact of this statement. We believe the adoption of SFAS No. 143157 will not have a material impact on our consolidated financial position or results of operations.
64
In April 2002,September 2006, the FASBSEC staff issued SFASStaff Accounting Bulletin (“SAB”) No. 145, “Rescission108, “Considering the Effects of FASB Statement 4, 44, and 64, AmendmentPrior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB 108 was issued in order to eliminate the diversity of FASB Statement No. 13, and Technical Corrections”. SFAS No. 145 rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishment of Debt” Under SFAS No. 4, all gains and losses from extinguishment of debt were required to be aggregated and, if material, classified as an extraordinary item, net of related income tax effect. SFAS No. 145 requires that gains and losses from extinguishment of debt be classified as an extraordinary item only if they are part of the entities recurring operations and not unusual or infrequent. The effect of adopting this standard on ourpractice surrounding how public companies quantify financial statements was to reclassify our extraordinary loss in the three-month period ended March 31, 2001 to other expense in the statement of operations.misstatements.
In June 2002,57
While the Financial Accounting Standards Board (FASB) issued Statementeffects of Financial Accounting Standards (SFAS) No. 146, “Accountingthe errors noted below were not considered to be material under our previous method for Costs Associated with Exit or Disposal Activities”. SFAS No. 146 requires that a liabilityquantifying misstatements, the correction of such amounts would be material to our 2006 financial statements based on the “dual method” for a cost associated with an exit or disposal activity be recognized and measured initially at fair value only whenquantifying misstatements, as prescribed by SAB 108. Accordingly, we elected to record the liability is incurred. Prioreffects of these items by using the cumulative effect transition method provided for in SAB 108. The following table summarizes the effects (up to January 1, 2006) of applying the adoption of this Standard, a liability for an exit cost, as defined by Emerging Issues Task Force Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurredguidance in a Restructuring)”, was recognized atSAB 108 (in thousands):
Period in which the date of an entity’s commitment to an exit plan. SFAS No. 146 was effective for the Company for exit plans or disposal activities initiated after December 31, 2002. Adoption is not expected to have a material impact on our financial position or results of operations.Misstatement Originated
In November 2002, the FASB issued Interpretation No. 45, “ Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”. This interpretation elaborates on the disclosure requirements in the financial statements concerning obligations under certain guarantees. It also clarifies the requirements related to the recognition of liabilities by a guarantor at the inception of certain guarantees. The disclosure requirements of this interpretation were effective for us on December 31, 2002 but did not require any additional disclosure. The recognition provisions of the interpretation are applicable only to guarantees issued or modified after December 31, 2002. We do not expect adoption of these recognition provisions to have a material impact on our financial position or results of operations.
Cumulative January 1, | Year Ended December 31, | Adjustment Recorded as of January 1, | ||||||||||||
2004 | 2004 | 2005 | 2006 | |||||||||||
Deferred financing costs (1) | — | $ | (2,864 | ) | $ | (2,456 | ) | $ | (5,320 | ) | ||||
Deferred income taxes (2) | — | 1,088 | 933 | 2,021 | ||||||||||
Impact on net income (3) | — | $ | (1,776 | ) | $ | (1,523 | ) | |||||||
Retained earnings (4) | $ | (3,299 | ) | |||||||||||
(1) | We were not recognizing deferred financing costs using the effective interest method as required by generally accepted accounting principles. As a result of this error, our amortization expense was understated by $2.9 million in 2004 and $2.4 million in 2005. We recorded a $5.3 million decrease in our deferred financing costs as of January 1, 2006 with a corresponding reduction in retained earnings to correct these misstatements. |
(2) | As a result of the misstatement described above, our provision for income taxes was overstated by $1.1 million in 2004 and $0.9 million in 2005. Accordingly, we recorded a decrease in deferred income taxes in the amount of $2.0 million as of January 1, 2006 with a corresponding increase in retained earnings. |
(3) | Represents the net over-statement of net income for the indicated periods resulting from these misstatements. |
(4) | Represents the net reduction to retained earnings recorded as of January 1, 2006 to record the initial application of SAB 108. |
In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities”. This interpretation addresses the requirements for business enterprises to consolidate related entities in which they are the determined to be the primary beneficiary as a result of their variable economic interests. The interpretation is intended to provide guidance in judging multiple economic interests in an entity and in determining the primary beneficiary. The interpretation outlines disclosure requirements for variable interest entities in existence prior to January 31, 2003 and outlines consolidation requirements for variable interest entities created after January 31, 2003. Adoption is not expected to have a material impact on our consolidated financial statements.58
Advertising
Advertising costs are expensed as incurred. Advertising expense was $8,973,000 for the year ended December 31, 2002 and $3,779,000 during the nine months ended December 31, 2001. The Predecessor incurred advertising expense of $3,011,000 during the three months ended March 31, 2001 and $9,132,000 for the year ended December 31, 2000.
65
NOTE D—LONG-TERM B—DEBT
Long-term debt consisted of the following onat December 31:31, (in thousands):
|
| 2002 |
| 2001 |
| ||||||||
|
|
|
|
|
| 2006 | 2005 | ||||||
Revolving lines of credit |
| $ | — |
| $ | 5,000,000 |
| $ | — | $ | — | ||
Senior notes payable |
| 300,305,000 |
| 342,650,000 |
| ||||||||
Subordinated notes payable |
| 200,000,000 |
| 200,000,000 |
| ||||||||
Senior term loan | 477,300 | 540,000 | |||||||||||
Senior subordinated notes payable | 150,050 | 150,050 | |||||||||||
Other |
| 11,084,000 |
| 5,444,000 |
| 18,444 | 19,673 | ||||||
|
| 511,389,000 |
| 553,094,000 |
| 645,794 | 709,723 | ||||||
Less current maturities |
| 17,671,000 |
| 12,962,000 |
| 837 | 3,484 | ||||||
|
| $ | 493,718,000 |
| $ | 540,132,000 |
| ||||||
$ | 644,957 | $ | 706,239 | ||||||||||
Concurrent with the Merger, the CompanyIn November 2003, we entered into a new senior credit agreement, which consistsconsisted of a $100,000,000 revolving credit facility a $100,000,000and $495,000,000 senior term loan. The revolving credit facility is due November 2009 and the senior term loan A, both of which areis due April 2007, and a $270,000,000 senior term loan B due April 2008. The Company'sin November 2010. As amended in 2005, the credit agreement now provides $640,000,000. Our senior credit facility bears interest at a floating base rate plus an applicable margin, as defined in the agreement (effective rate of 6.8%7.35% at December 31, 2002)2006). In addition, the CompanyNovember 2003, we also issued $200,000,000$150,000,000 of 11.75%8.0% senior subordinated notes due April 2011,2013, which are subordinated to the senior credit agreement. In November 2003, we also issued a $135,000,000 senior unsecured term loan that was due in November 2011, but was repaid in November 2005, at which time the senior unsecured term loan was terminated. In conjunction with the repayment of the senior unsecured term loan we incurred a $1,350,000 prepayment penalty and wrote-off $4,134,000 of debt financing costs, which along with other costs were included in the $5,548,000 charged against the statement of earnings. At December 31, 2006, approximately $6,464,000 was used under the revolving line of credit for letters of credit.
The revolving credit facility and senior term loansloan are collateralized by substantially all of the assets of the Company.our assets. The revolving credit loan, the A and B term loansloan, and senior subordinated notes contain restrictive covenants, including restrictions on dividends and distributions to shareholders and unit holders, a minimum fixed charge coverage ratio, a maximum leverage ratio, and a minimum interest coverage ratio, in addition to limitations on additional indebtedness and liens. Covenants related to operating performance are primarily based on earnings before income tax, interest expense, income taxes, and depreciation and amortization expense. Our failure to comply with these covenants could result in an event of default, which if not cured or waived could have a material adverse effect on our results of operations, financial position and cash flow. In general, the debt covenants limit our discretion in the operation of our businesses. We were in compliance with all of the financial covenants in the credit agreement and the indenture as of December 31, 2006. In addition, the revolving credit A and B term loans and senior subordinated noteloan agreements also include guarantees by substantially all of the Company'sour domestic subsidiaries. The fair value of the Company'sour long-term debt at December 31, 20022006 approximated the carrying value.value.
On September 30, 2005, a $10,250,000 bond financing was completed by the City of Wakefield, Nebraska at an annual interest rate of 7.6%, with such proceeds to be used for the construction of a wastewater treatment facility. We have guaranteed the principal and interest payments related to these bonds, which mature September 15, 2017. These bonds were recorded as long-term debt on our balance sheet in accordance with current accounting literature, FASB Interpretation No.45.
Aggregate maturities of the Company'sour long-term debt are as follows:follows (in thousands):
Years Ending December 31, |
|
|
| |
2003 |
| $ | 17,671,000 |
|
2004 |
| 14,699,000 |
| |
2005 |
| 18,401,000 |
| |
2006 |
| 23,356,000 |
| |
2007 |
| 175,193,000 |
| |
Thereafter |
| 262,069,000 |
| |
|
| $ | 511,389,000 |
|
Year Ending December 31, | |||
2007 | $ | 837 | |
2008 | 4,341 | ||
2009 | 6,579 | ||
2010 | 471,854 | ||
2011 | 2,038 | ||
Thereafter | 160,145 | ||
$ | 645,794 | ||
6659
The components of net interest expense for the years ended December 31, are as follows (in thousands):
2006 | 2005 | 2004 | ||||||||||
Interest expense | $ | 58,779 | $ | 48,852 | $ | 44,189 | ||||||
Capitalized interest | (803 | ) | (461 | ) | (168 | ) | ||||||
Interest income | (2,048 | ) | (1,272 | ) | (736 | ) | ||||||
Interest expense, net | $ | 55,928 | $ | 47,119 | $ | 43,285 | ||||||
NOTE E—C—INCOME TAXES
The Merger was accomplished through a cash-for-stock transaction. As a result, the basis of the Company's assets and liabilities did not change for income tax reporting purposes. Goodwill arising through the Merger is not deductible. A portion of Predecessor goodwill, which was deductible for tax purposes prior to the Merger, will continue to be deductible.
The taxable income or loss of the Dairy LLCs will be distributed primarily to the Company until it has received payment for its preferred units and a 10% cumulative return on the preferred units, and all senior and subordinated debt has been retired.
Income tax expense (benefit) consists of the following:following for the years ended December 31 (in thousands):
|
| Company |
| Predecessor |
| ||||||||
|
| Year ended |
| Nine months ended |
| Three months |
| Year ended |
| ||||
Current: |
|
|
|
|
|
|
|
|
| ||||
Federal |
| $ | 17,579,000 |
| $ | 10,998,000 |
| $ | 3,100,000 |
| $ | 23,447,000 |
|
Foreign |
| 266,000 |
| — |
| — |
| — |
| ||||
State |
| 2,304,000 |
| 1,792,000 |
| 877,000 |
| 2,736,000 |
| ||||
|
| 20,149,000 |
| 12,790,000 |
| 3,977,000 |
| 26,183,000 |
| ||||
Deferred: |
|
|
|
|
|
|
|
|
| ||||
Federal |
| (1,456,000 | ) | (720,000 | ) | (1,406,000 | ) | 2,461,000 |
| ||||
State |
| (150,000 | ) | (70,000 | ) | (141,000 | ) | 246,000 |
| ||||
|
| (1,606,000 | ) | (790,000 | ) | (1,547,000 | ) | 2,707,000 |
| ||||
|
| $ | 18,543,000 |
| $ | 12,000,000 |
| $ | 2,430,000 |
| $ | 28,890,000 |
|
2006 | 2005 | 2004 | |||||||||
Current: | |||||||||||
Federal | $ | 28,908 | $ | 28,621 | $ | 16,020 | |||||
State | 2,916 | 2,264 | 2,412 | ||||||||
31,824 | 30,885 | 18,432 | |||||||||
Deferred: | |||||||||||
Federal | (15,536 | ) | (13,548 | ) | 2,318 | ||||||
Foreign | 1,794 | (2,109 | ) | — | |||||||
State | (1,788 | ) | (962 | ) | 231 | ||||||
(15,530 | ) | (16,619 | ) | 2,549 | |||||||
$ | 16,294 | $ | 14,266 | $ | 20,981 | ||||||
The netcomponents of the deferred tax liabilityassets and (liabilities) associated with the cumulative temporary differences between the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes are as follows:follows at December 31 (in thousands):
|
| December 31, |
| ||||||||||||
|
| 2002 |
| 2001 |
| 2006 | 2005 | ||||||||
Current deferred income taxes: | |||||||||||||||
Flock inventories | $ | (5,776 | ) | $ | (5,684 | ) | |||||||||
Other, primarily accrued expenses | 4,796 | 5,684 | |||||||||||||
|
|
|
|
|
| ||||||||||
Total current deferred income taxes | $ | (980 | ) | $ | — | ||||||||||
Non-current deferred income taxes: | |||||||||||||||
Depreciation |
| $ | 41,301,000 |
| $ | 43,120,000 |
| $ | (41,834 | ) | $ | (56,118 | ) | ||
Flock inventories |
| 6,008,000 |
| 5,730,000 |
| ||||||||||
Goodwill |
| 3,830,000 |
| 3,150,000 |
| ||||||||||
Trademarks |
| 4,970,000 |
| 4,980,000 |
| ||||||||||
Non-compete agreement |
| (3,404,000 | ) | (3,390,000 | ) | ||||||||||
Customer relationships | (68,496 | ) | (74,243 | ) | |||||||||||
Trademarks and licenses | (11,426 | ) | (11,523 | ) | |||||||||||
Net operating loss carryforwards | 2,497 | 2,636 | |||||||||||||
Other |
| (5,586,000 | ) | (4,865,000 | ) | 6,337 | 3,186 | ||||||||
|
| $ | 47,119,000 |
| $ | 48,725,000 |
| ||||||||
(112,922 | ) | (136,062 | ) | ||||||||||||
Valuation allowance | (4,653 | ) | (266 | ) | |||||||||||
Total non-current deferred income taxes | (117,575 | ) | (136,328 | ) | |||||||||||
Total deferred income taxes | $ | (118,555 | ) | $ | (136,328 | ) | |||||||||
A valuation allowance was recorded in 2006 against the deferred tax assets of certain of our foreign joint ventures and subsidiaries. The valuation allowance was recorded based on management’s judgment that it is more likely than not that the benefits of those deferred tax assets will not be realized in the future.
6760
The following is a reconciliation of the federal statutory income tax rate to the consolidated effective tax rate:rate based on earnings before equity in losses of unconsolidated subsidiary for the years ended December 31:
2006 | 2005 | 2004 | ||||||||||||||||
Federal statutory rate | 35.0 | % | 35.0 | % | 35.0 | % | ||||||||||||
State taxes, net of federal impact | 1.9 | 1.6 | 3.2 | |||||||||||||||
Qualified production activities deduction | (2.1 | ) | (1.5 | ) | — | |||||||||||||
Other permanent differences | (0.7 | ) | (0.6 | ) | — | |||||||||||||
Tax benefit from change in tax rate on cumulative temporary differences | — | (7.5 | ) | — | ||||||||||||||
Valuation allowance | 8.8 | — | — | |||||||||||||||
Other | (0.2 | ) | (0.4 | ) | — | |||||||||||||
Company |
| Predecessor | ||||||||||||||||
|
| Year |
| Nine Months |
| Three Months |
| Year |
| 42.7 | % | 26.6 | % | 38.2 | % | |||
|
|
|
|
|
|
|
|
|
| |||||||||
Federal statutory rate |
| 35.0 | % | 35.0 | % | 35.0 | % | 35.0 | % | |||||||||
State taxes |
| 2.9 |
| 5.1 |
| 1.9 |
| 2.6 |
| |||||||||
Goodwill |
| — |
| 10.2 |
| 3.4 |
| 1.2 |
| |||||||||
Other |
| 0.6 |
| 4.7 |
| (1.0 | ) | 0.5 |
| |||||||||
|
| 38.5 | % | 55.0 | % | 39.3 | % | 39.3 | % |
The American Jobs Creation Act of 2004 created a new tax deduction equal to the applicable percentage of the qualified production activities income for tax years beginning after December 31, 2004. The applicable percentage for 2005 and 2006 is 3%, for 2007, 2008 and 2009 the rate is at 6%, and 9% thereafter.
The tax rate used to calculate the tax expense or benefit on the cumulative temporary differences between the tax bases of the assets and liabilities and their carrying amounts for financial reporting purposes was reduced in 2005. This reduction was due to a change in the state tax rate as determined in the fourth quarter of 2005.
We have foreign net operating loss carryforwards of approximately $6,660,000 which expire from 2009 through 2016.
NOTE F—D—EMPLOYEE RETIREMENT PLAN
Full-time employeesEmployees who meet certain service requirements are eligible to participate in a defined contribution retirement plan. The Company matchesWe match up to 4% of each participant'sparticipant’s eligible compensation. CompanyOur matching contributions for the yearyears ended December 31, 20022006, 2005 and 2004 were $2,699,000$2,911,000, $2,932,000, and $2,454,000, respectively.
We also contribute to one union retirement plan which totaled $49,000, $31,000, and $44,000 for the nine monthsyears ended December 31, 2001 were $1,964,000. Predecessor contributions totaled $1,194,000 for the three months ended March 31, 20012006, 2005 and $2,692,000 in the year ended December 31, 2000.2004.
The Company also contributes funds to two union retirement plans which totaled $139,000 for the year ended 2002 and $101,000 for the nine months ended December 31, 2001. Predecessor contributions to the two union plans totaled $34,000 for the three months ended March 31, 2001 and $163,000 for the year ended December 31, 2000.
NOTE G—E—RELATED PARTY TRANSACTIONS
Pursuant to a management agreementsagreement with Vestar and Goldner Hawn Johnson and Morrison, the Company paysTHL Managers V, LLC, an affiliate of Thomas H. Lee Partners, L.P., we pay them a combinedan annual fee of $1,000,000$1,500,000 or .75%1.0% of consolidated earnings before interest, taxes, depreciation and amortization, whichever is greater. The management fee for the year ended December 31, 20022006 was $1,166,000 and$1,808,650, of which $1,805,850 was paid in 2006. The management fees for the nine month periodyears ended December 31, 2001 was approximately $800,000.2005 and 2004 were $1,805,850 and $1,729,400, respectively.
In February 1997, the Predecessor acquired Papetti's Hygrade Egg Products, Inc. and affiliated companies (collectively, "Papetti's"). In connection with this acquisition, the Predecessor entered into various operating leases with the previous owners of Papetti's for the majority of Papetti's operating facilities. The future annual minimum rental commitments under these leases are approximately $2,100,000 through February 2007, with the exception of one lease that expires in February 2017. In addition, the Company and Predecessor purchase eggs under an annual egg supply agreement with a partnership in which various Papetti family members own a 50% interest. Annual purchases in 2001 from this partnership were approximately $10,000,000. Following the Merger, the previous owners of Papetti's are no longer considered to be related parties, as these individuals no longer own Company stock. The Company continues to be obligated under the operating lease obligations and egg supply contracts described above.
68
NOTE H—F—COMMITMENTS AND CONTINGENCIES
Lease Commitments
The Company’sOur corporate offices and several of itsour manufacturing facilities are leased under operating leases expiring at various times through February 2017. The leases provide that real estate taxes, insurance, and maintenancemaintenance expenses are obligations of the Company.our obligations. In addition, the Company leaseswe lease some of itsour transportation and manufacturing equipment under operating leases.
Rent expense, including real estate taxes and maintenancemaintenance expenses, was approximately $11,258,000$7,133,000, $6,380,000 and $6,663,000 for the yearyears ended December 31, 20022006, 2005 and $8,795,000 for the nine months ended December 31, 2001. Predecessor rent expense was $2,002,000 for the three months ended March 31, 2001 and $8,639,000 for the year ended December 31, 2000. 2004, respectively.
The following is a schedule of minimum rental commitments for base rent for the years ending December 31:31 (in thousands):
2003 |
| $ | 6,901,000 |
|
2004 |
| 7,006,000 |
| |
2005 |
| 5,553,000 |
| |
2006 |
| 5,014,000 |
| |
2007 |
| 3,324,000 |
| |
Thereafter |
| 16,079,000 |
|
2007 | $ | 6,106 | |
2008 | 6,247 | ||
2009 | 6,279 | ||
2010 | 4,628 | ||
2011 | 4,008 | ||
Thereafter | 5,922 | ||
$ | 33,190 | ||
61
Debt Guarantees
The Company hasWe have guaranteed the repayment of certain industrial revenue bonds used for the expansion of the wastewater treatment facilities of several municipalities where the Company haswe have manufacturing facilities. The repayment of these bonds is funded through the wastewater treatment charges paid by the Company.us. However, should those charges not be sufficient to pay the bond payments as they become due, the Company haswe have agreed to pay any shortfall. The remaining principal balance of these bonds at December 31, 20022006 was approximately $6,700,000.$15,781,000, and has been included our debt balance (see Note B).
Potato Procurement Contract
The Company has a contract to purchase potatoes which expires in 2004 and which will supply approximately 45% and 40% of the Potato Products Division's raw material needs in 2003 and 2004, respectively.
The Company maintainsWe have entered into substantial purchase obligations to fulfill our egg, potato and cheese requirements. We maintain long-term egg procurement contracts with numerous cooperatives and egg producers throughout the Midwestern and Eastern United States and Canada, which supply approximately 50%45% of the Company’sour annual egg requirements. Most of these contracts vary in length from 18 to 72 months with120 months. The egg prices are primarily indexed to grain or Urner Barry market indices. No singleOne egg supplier provides more than 10% of the Company’sour annual egg requirements. Based upon the best estimates available to us for grain and egg prices, we project our purchases from our top five long-term contracted egg suppliers will approximate $141 million in 2003, $138 million in 2004, $82 million in 2005, and $16$106 million in 2007, $104 million in 2008, $99 million in 2009, $80 million in 2010 and $17 million in 2011, and that the 20032007 amount will account for approximately 60%34% of our total egg purchases this year. In addition, we have contracts to purchase potatoes that expire in 2007. These contracts will supply approximately 49% of the Potato Products Division’s estimated raw potato needs in 2007. Two potato suppliers are each expected to provide more than 10% of our 2007 potato requirements.
Fuel Commitments
Patent Litigation
The Company has an exclusive license agreementWe partially mitigate some of our natural gas requirements for producing our products by fixing the price for a patented processportion of our natural gas usage. The monthly purchases for natural gas have been made for January, February and March 2007 and cover approximately 75% of our estimated usage requirements during that period, or approximately 21% of our annual needs. Also, we partially mitigate the risk of variability of our transportation-related fuel costs through the use of home heating oil futures contracts from time to time. The monthly purchases for home heating oil are for January through December 2007 and cover approximately 52% of our estimated annual usage requirements.
Deferred Compensation Plan
M-Foods Holdings, Inc. (“Holdings”) sponsors a 2003 Deferred Compensation Plan (“Plan”) covering certain members of management of the Company. Under terms of the Plan, certain members of management were allowed to roll-over approximately $25,181,000 of option and bonus value from the company and its parent into Holdings. The Plan is nonqualified and unfunded. Each participant’s deferred compensation account under the Plan will accrue an annual 8% return. Participants in the Plan will be entitled to a distribution from their deferred compensation account upon the earlier of (i) a change in control of Holdings (ii) the tenth anniversary of the date of the Plan and (iii) upon the termination or death of a participant. We recorded approximately $1,204,000, $968,000 and $1,771,000 of preferred return on the deferred compensation for the productionyears ended December 31, 2006, 2005 and sale2004, respectively. There were 2004 distributions of extended shelf-life liquid egg products. Underdeferred compensation totaling $13.1 million coinciding with the license agreement, the Company has the rightdividends issued by Holdings to defend and prosecute infringement of the underlying patents. The Company may offset 50% of its costs of defending the patents against royalty payments due to the patent holders-North Carolina State University.Investors.
Litigation
The U.S. Federal Court of Appeals has upheld the validity of the patents on two separate occasions. In September 2000, the U.S. Patent and Trademark Office allowed product claims beyond the process claims previously allowed for the extended shelf-life egg product. These patentsWe are scheduled to expire beginning in 2006.
69
In 2000, the Predecessor settled litigation with one party related to the infringement of these patents and issued a sub-license to the infringing party granting them the right to manufacture and distribute extended shelf-life liquid whole egg product subject to a royalty payable to the Company and the patent holder on all future product sold. In connection with this settlement, the patent holder received a lump sum payment for the past production and sale of the product and other matters related to the infringement. The Company is continuing to pursue litigation related to other parties who are infringing the product and process patents, including Sunny Fresh Foods, Inc., a subsidiary of Cargill, Inc.
Other Litigation
The Company is engaged in routine litigation incidental to itsour business. Management believes the ultimate outcome of this litigation will not have a material effect on the Company'sour consolidated financial position, liquidity or results of operations.
Litigation related to the infringement of patents has been settled with three parties, one in 2000 and two in early 2004. A sublicense had been issued to each of the infringing parties, granting them the right to manufacture and distribute extended shelf-life liquid whole egg products subject to a royalty payable to us on all product sales through September 2006. In connection with each of these settlements, lump sum payments of $2.0 million were received in 2004 to cover the past production and sale of such products and other matters related to the infringements.
62
Other Matters
In the third quarter of 2004, our immediate parent, M-Foods Holdings, Inc., paid a dividend in the amount of approximately $98.1 million to our ultimate parent, Michael Foods Investors LLC, with the proceeds of an offering of its $100 million 9.75% Senior Discount Notes due October 1, 2013. As the wholly-owned subsidiary of M-Foods Holdings, Inc., we are responsible for servicing these notes. We then issued dividends in the amount of approximately $70.1 million to M-Foods Holdings, Inc. in the fourth quarter of 2004. The dividends were subsequently distributed to Michael Foods Investors LLC. Michael Foods Investors LLC includes members of our management.
In May 2004, the U.S. Environmental Protection Agency (“EPA”) issued “Findings of Violation and Order for Compliance” to the Company in connection with our discharge of wastewater to the municipal treatment facility in Wakefield, Nebraska. EPA ordered us to identify interim measures and a long-term proposal for addressing the issues that it had identified. In June 2004, we provided EPA with a proposal for improving the Wakefield facility’s performance and compliance. Concurrently, and in connection with the same matter, the Nebraska Department of Environmental Quality (“NDEQ”) issued two enforcement documents, a Notice of Violation (“NOV”) and a Complaint and Notice for Opportunity for Hearing. We responded to the NOV in August 2004 and we entered into an Administrative Consent Order with NDEQ in response to the Complaint and Notice for Opportunity for Hearing. In early 2006, the United States Department of Justice notified us and the City of Wakefield that it sought civil penalties and injunctive relief for the various alleged violations and complaints noted above and other issues. A series of meetings were held during 2006 with the Department of Justice, EPA, NDEQ and the Nebraska attorney general. In early 2007, a settlement among the parties was announced, under which we agreed to pay a $1,050,000 civil penalty, agreed to take certain environmentally proactive measures, and agreed to a specific schedule for completing construction of a mechanical wastewater treatment facility in Wakefield that we had previously voluntarily undertaken.
Officer Severance
On August 26, 2006, our then President and Chief Operating Officer, James D. Clarkson, passed away. Mr. Clarkson had an employment agreement which provided that in the case of his death or disability, Mr. Clarkson’s estate would receive a payment equal to any annual base salary earned by Mr. Clarkson through the date of termination not yet paid, plus his target bonus for the year pro rated for the months of his employment in that year, plus any eligible unpaid other benefits, plus two times the total of an amount equal to Mr. Clarkson’s then current annual base salary and target bonus. Accordingly, we expensed a one time payment made to Mr. Clarkson’s estate of $2.4 million in September 2006 to satisfy our severance obligations. We also recorded $558,000 of stock option compensation expense with respect to the fair market value of the vested stock options held by Mr. Clarkson’s estate.
NOTE I—G—PLANT CLOSING
In November 2006, we announced our decision to close the St. Marys, Ontario egg processing plant due to rising operating costs. The facility will be closed in March 2007. Production from the facility will be consolidated into our other Canadian egg processing facility in Winnipeg, Manitoba. The St. Marys facility employed approximately 60 employees. As a result of this decision, in December 2006, we recorded $3,139,000 of plant closing expenses, including employee termination costs of $245,000 and asset impairment charges of $2,894,000 related to the leased building and plant equipment, as well as other plant assets which can not be utilized in other of our processing facilities. These amounts were reflected in the Egg Products Division segment’s operating income and as a separate line item in the Consolidated Statements of Earnings. We expect to incur a total of $440,000 in employee termination costs through March 2007 and approximately $400,000 in other plant closing related costs in 2007. As of December 31, 2006, no expenses had been paid. No material adjustments to the accrual are anticipated at this time.
NOTE H—SHAREHOLDER’S EQUITY
Company - Common Stock
The Company hasAt December 31, 2006 and 2005, we had authorized, issued and outstanding common stock of 1,0003,000 shares with a $.01 par value. All common shares were issued to M-Foods Holdings, Inc., a wholly owned subsidiary of M-FoodsMichael Foods Investors, LLC, in connection with the Merger.LLC.
Predecessor - Capital Stock63
Additional Paid In Capital
In March 2006, we recorded a $4.9 million non-cash capital contribution from our parent, M-Foods Holdings, Inc. (“Holdings”) related to the tax benefit the Company receives on Holdings’ interest deduction due to filing a consolidated Federal tax return with Holdings.
Stock Option Plan
In November 2003, Holdings adopted the 2003 Stock Option Plan (the “Plan”). Under the Plan, Holdings may grant incentive stock options to our employees. The Predecessor had authorized capital stockaccounting and disclosure for the Holdings Plan are included in our financial statements. A total of 50,000,00032,277 shares consistingare reserved for issuance under the Plan. Any unexercised options will terminate ten years after the grant date. Options are generally granted with option prices based on the estimated fair market value of 40,000,000 shares of $.01 par valueHoldings common stock and 10,000,000 sharesat the date of undesignated stock. Thegrant as determined by Michael Foods Investors LLC.
Stock-Based Compensation
Prior to January 1, 2006, we applied the provisions of Accounting Principles Board of Directors had the authority(“APB”) Opinion No. 25,Accounting for Stock Issued to determine voting, conversion and other rights of the undesignated stock.
Incentive PlanEmployees
The Predecessor had an incentive, in accounting for stock-based compensation. As a result, no compensation planexpense was recognized for certain key employees. The Predecessor utilized unissued common stock for a portion of the incentive compensation in this plan. The Predecessor accrued for all incentive compensation as earned. In connection with the Merger, this Plan was terminated and all shares of common stock previously awarded under the plan were retired through the Merger.
Stock Option Plans
The Predecessor maintained non-qualified stock option plans. The stock options granted under these plans generally had a ten year term, vested ratably over five years, and had anwith exercise price equalprices equivalent to the fair market value of the stock on the date of grant. In connection withEffective January 1, 2006, we adopted SFAS No. 123(R),Share Based Payment, using the Merger, allmodified prospective application method. Under this method, as of January 1, 2006, we will apply the provisions of this Statement to new and modified awards.
The adoption of this pronouncement had no effect on compensation cost related to stock options for common stock previously awarded became fully vestedgranted in accordance with the terms2005 and prior, which will continue to be disclosed on a pro forma basis only. As a result of the respective plans and the option holders, except for certain options held by senior members of management, were paid the difference between the $30.10 per share consideration and the exercise price of their respective options (See Note A).
70
Option transactions under these plansadopting SFAS No. 123(R) on January 1, 2006, our net income for the year ended December 31, 20002006, is $85,000 lower than if we had continued to account for stock-based compensation under APB Opinion No. 25.
As there is no established market for Holdings common stock, the value is determined by a formula and fixed periodically by the three months ended MarchBoard of Directors. Our options vest over five years, with potential for earlier vesting upon a change in control of the Company. Employees forfeit unvested options when they terminate their employment with the Company and must exercise their vested options at that time or they will also be forfeited. Per the Plan, the options have a put right and a call right. If a participant’s employment is terminated under certain circumstances (i.e., disability or death) the participant has a limited right to sell any exercised shares to the Company and if the participant is terminated for any reason the Company has certain rights to purchase any exercised shares. The estimated fair value of options, including the effect of estimated forfeitures, is recognized as expense on the straight-line basis over the options’ vesting periods.
As of December 31, 2001, are summarized2006, the total compensation cost for nonvested awards not yet recognized in our statements of earnings was $340,000. This amount will be expensed over the vesting period. Information regarding our outstanding stock options is as follows:
|
| NUMBER |
| WEIGHTED |
|
|
|
|
|
|
|
Outstanding at January 1, 2000 |
| 1,638,541 |
| 18.53 |
|
Granted |
| 306,500 |
| 21.51 |
|
Exercised |
| (65,070 | ) | 13.09 |
|
Canceled |
| (60,056 | ) | 22.01 |
|
Outstanding at December 31, 2000 |
| 1,819,915 |
| 19.11 |
|
Exercised |
| (36,581 | ) | 14.94 |
|
Canceled |
| (2,889 | ) | 23.69 |
|
Outstanding at March 31, 2001 |
| 1,780,445 |
| 19.20 |
|
As of December 31, 2006 | |||||||||||||||||
2006 | 2005 | 2004 | Weighted-Average Term | Aggregate (in thousands) | |||||||||||||
Outstanding at January 1 | 29,337 | 28,955 | 21,551 | ||||||||||||||
Granted | 1,650 | 700 | 7,454 | ||||||||||||||
Exercised | (1,215 | ) | — | — | |||||||||||||
Cancelled | (1,991 | ) | (318 | ) | (50 | ) | |||||||||||
Outstanding at December 31 | 27,781 | 29,337 | 28,955 | 7.83 | $ | 18,392 | |||||||||||
Exercisable at December 31 | 15,519 | 11,526 | 5,811 | 7.44 | 9,774 | ||||||||||||
Weighted-Average Exercise Price Per Share | |||||||||||||||||
Granted | $ | 1,115.60 | $ | 957.36 | $ | 626.99 | |||||||||||
Exercised | 626.99 | — | — | ||||||||||||||
Cancelled | 653.88 | 664.70 | 626.99 | ||||||||||||||
At December 31, | |||||||||||||||||
Outstanding | 662.05 | 634.38 | 626.99 | ||||||||||||||
Exercisable | 629.78 | 626.99 | 626.99 |
64
The following tables summarize information concerning outstanding and exercisable stock options at March 31, 2001:
OPTIONS OUTSTANDING
EXERCISE PRICES |
|
|
|
|
| |||
RANGE |
| WEIGHTED |
| NUMBER OF |
| WEIGHTED AVERAGE |
| |
|
|
|
|
|
|
|
| |
$ 7.63 - $11.13 |
| $ | 10.04 |
| 368,800 |
| 3.9 years |
|
11.50 - 15.13 |
| 12.53 |
| 233,019 |
| 3.8 years |
| |
17.83 - 24.56 |
| 21.90 |
| 605,526 |
| 7.9 years |
| |
24.69 - 29.75 |
| 25.04 |
| 573,100 |
| 7.2 years |
| |
|
|
|
| 1,780,445 |
|
|
| |
OPTIONS EXERCISABLE
EXERCISE PRICES |
|
|
| |||
RANGE |
| WEIGHTED |
| NUMBER |
| |
|
|
|
|
|
| |
$ 7.63 - $11.13 |
| $ | 10.00 |
| 350,100 |
|
11.50 - 15.13 |
| 12.53 |
| 229,019 |
| |
17.83 - 24.56 |
| 21.86 |
| 238,606 |
| |
24.69 - 29.75 |
| 25.19 |
| 310,000 |
| |
|
|
|
| 1,127,725 |
| |
71
Pro forma net earnings would have been $43,037,000 had thetotal fair value method been used for valuing options granted inof shares vested during the years ended December 31, 2006, 2005 and 2004 was $3,310,000, $3,663,000 and 3,609,000. A summary of the status of the Company’s nonvested shares as of December 31, 2006, and changes during the year ended 2000.December 31, 2006, is presented below:
Nonvested shares | Shares | Weighted-Average Fair Value | ||||
Nonvested at January 1, 2006 | 17,811 | $ | 639.16 | |||
Granted | 1,650 | 938.01 | ||||
Vested | (5,210 | ) | 635.31 | |||
Cancelled | (2,039 | ) | 662.93 | |||
Nonvested at December 31, 2006 | 12,212 | 701.20 | ||||
The weighted averageweighted-average grant-date fair value of options granted under the Plan was $938.01, $609.96 and $420.64 in 2006, 2005 and 2004, respectively. The weighted-average grant-date fair value of options under the year ended 2000 were $9.49 per share, computedPlan was determined by applyingusing the fair value of each option grant on the date of grant, utilizing the Black-Scholes option-pricing model and the following weighted average assumptionskey assumptions:
2006 | 2005 | 2004 | |||||||
Risk-free interest rate | 4.34 | % | 4.56 | % | 4.47 | % | |||
Expected term (in years) | 10 | 10 | 9-10 | ||||||
Expected volatility | 26.15 | % | 0.00 | % | 0.00 | % | |||
Expected dividends | None | None | None |
The risk-free interest rate for periods within the ten year contractual life of the option is based on the U.S. Treasury yield curve in effect at the grant date. Expected volatility used in 2006 is based on the historical volatility of the stock of companies within our peer group.
Prior to January 1, 2006, we measured compensation expense for our stock-based compensation plan using the intrinsic value method in accordance with APB 25 as allowed under SFAS 123. Under the intrinsic value method, no stock-based compensation expense had been recognized in our consolidated financial statements. Accordingly, compensation cost for stock options granted to employees was measured as the excess, if any, of the value of our stock at the date of the grant over the amount an employee must pay to acquire the stock. Had compensation cost for our stock option plans been determined based on the fair value at the grant date for awards, our net income would have changed to the Black Scholes options pricing model: dividend yield of 1%; risk-free rate of return of 5.1%; volatility of 40%,pro forma amounts indicated below for 2005 and an average term of 7 years. There were no options granted during the three months ended March 31, 2001.2004 (in thousands):
2005 | 2004 | |||||||
Net earnings as reported | $ | 38,859 | $ | 33,514 | ||||
Add: Stock-based employee compensation included in reported net income | — | — | ||||||
Less: Total stock-based employee compensation expense under fair value-based method | (638 | ) | (495 | ) | ||||
Pro forma net earnings | $ | 38,221 | $ | 33,019 | ||||
NOTE J—I—BUSINESS SEGMENTS
The Company operatesAt December 31, 2006, we operated in fourthree reportable segments:
Egg Products processes and distributes numerous egg products and shell eggs primarily through its facilities in the Midwest and Eastern United States and Canada. Sales of egg products are made through an internal sales force and independent brokers to the foodservice, industrialfood ingredient and retail markets primarily throughout North America.
America, and to certain export markets.
Refrigerated Distribution distributes a wide range of refrigerated grocery products, including various cheese products packaged at its Wisconsin cheese packaging facility. Sales of refrigerated grocery products are made through an internal sales force to retail and wholesale markets primarily throughout much of the central United States.
Dairy Products processes and distributes soft serve ice cream mix, frozen yogurt mix, milk and specialty dairy products, many of which are ultra-high temperature pasteurized, from its facilities in Connecticut, Minnesota and Texas. Sales of dairy products are made through an internal sales force to domestic quick service restaurants, other foodservice outlets and independent retailers throughout the United States.65
Potato Products processes and distributes refrigerated potato products from its manufacturing facilities in Minnesota and Nevada. Sales of potato products are made through an internal sales force to foodservice and retail markets throughout the United States.
The Company identifies itsWe identify our segments based on its organizational structure, which is primarily by principal products. Operating profit represents earnings before interest expense, interest income, income taxes and allocations of corporate costs to the respective divisions. Intersegment sales are made at market prices. The Company'sOur corporate office maintains a majority of the Company'sour cash under itsour cash management policy.
Sales toWe have the following sales and accounts receivable for two customers, primarily byin the Egg Products segment, accounted for approximately 17% and 15% of consolidated net sales for the year ended December 31, 2002 and 18% and 15% of consolidated net sales for the nine months ended December 31, 2001. Accounts receivable for one customer was 14% of consolidated accounts receivable at December 31, 2002. The Predecessor had sales to one customer, which accounted for approximately 12% of consolidated net sales for the three months ended March 31, 2001 and 15% of consolidated net sales for the year ended December 31, 2000.segment:
72
Sales | Accounts Receivable | ||||||||||||||
2006 | 2005 | 2004 | 2006 | 2005 | |||||||||||
Customer A | 18 | % | 18 | % | 17 | % | 14 | % | 15 | % | |||||
Customer B | 18 | % | 18 | % | 16 | % | 15 | % | 18 | % |
Certain financial information for the Company'sour operating segments is as follows (in thousands):
|
| EGG |
| REFRIGERATED |
| DAIRY |
| POTATO |
| CORPORATE |
| TOTAL |
| ||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| Egg Products | Refrigerated Distribution | Potato Products | Corporate & Eliminations | Total | |||||||||||||||||
Company |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Year ended December 31, 2002: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Year Ended December 31, 2006 | |||||||||||||||||||||||||||||||||||
External net sales |
| $ | 657,824 |
| $ | 247,588 |
| $ | 190,578 |
| $ | 72,170 |
| $ | — |
| $ | 1,168,160 |
| $ | 858,352 | $ | 275,016 | $ | 113,980 | $ | — | $ | 1,247,348 | ||||||
Intersegment sales |
| 12,375 |
| — |
| 81 |
| 3,376 |
| — |
| 15,832 |
| 9,915 | — | 5,494 | (15,409 | ) | — | ||||||||||||||||
Operating profit (loss) |
| 71,717 |
| 13,744 |
| 9,918 |
| 10,832 |
| (7,828 | ) | 98,383 |
| 67,660 | 18,604 | 19,243 | (11,417 | ) | 94,090 | ||||||||||||||||
Total assets |
| 644,395 |
| 83,224 |
| 52,248 |
| 78,526 |
| 34,629 |
| 893,022 |
| 974,637 | 114,799 | 132,083 | 42,244 | 1,263,763 | |||||||||||||||||
Depreciation and amortization |
| 42,833 |
| 2,108 |
| 4,626 |
| 4,658 |
| 34 |
| 54,259 |
| 64,443 | 4,492 | 5,913 | 10 | 74,858 | |||||||||||||||||
Capital expenditures |
| 18,198 |
| 1,167 |
| 6,399 |
| 1,630 |
| — |
| 27,394 |
| 24,361 | 1,971 | 7,474 | — | 33,806 | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Nine months ended December 31, 2001: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Year Ended December 31, 2005 | |||||||||||||||||||||||||||||||||||
External net sales |
| $ | 482,324 |
| $ | 201,496 |
| $ | 150,554 |
| $ | 51,268 |
| $ | — |
| $ | 885,642 |
| $ | 860,925 | $ | 279,328 | $ | 102,245 | $ | — | $ | 1,242,498 | ||||||
Intersegment sales |
| 9,137 |
| — |
| — |
| 2,552 |
| — |
| 11,689 |
| 9,515 | — | 4,425 | (13,940 | ) | — | ||||||||||||||||
Operating profit (loss) |
| 48,648 |
| 4,947 |
| 7,885 |
| 6,639 |
| (3,969 | ) | 64,150 |
| 82,012 | 15,707 | 17,199 | (8,671 | ) | 106,247 | ||||||||||||||||
Total assets |
| 623,502 |
| 90,844 |
| 49,691 |
| 80,303 |
| 52,793 |
| 897,133 |
| 1,005,885 | 118,628 | 126,691 | 82,372 | 1,333,576 | |||||||||||||||||
Depreciation and amortization |
| 37,020 |
| 1,990 |
| 3,120 |
| 4,787 |
| 28 |
| 46,945 |
| 59,214 | 4,624 | 6,243 | 11 | 70,092 | |||||||||||||||||
Capital expenditures |
| 13,604 |
| 2,327 |
| 5,810 |
| 1,549 |
| 9 |
| 23,299 |
| 36,874 | 2,552 | 1,247 | 17 | 40,690 | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Predecessor |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Three months ended March 31, 2001: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
External net sales |
| $ | 163,529 |
| $ | 61,185 |
| $ | 35,328 |
| $ | 15,585 |
| $ | — |
| $ | 275,627 |
| ||||||||||||||||
Intersegment sales |
| 4,246 |
| — |
| — |
| 1,003 |
| — |
| 5,249 |
| ||||||||||||||||||||||
Operating profit (loss) |
| 12,915 |
| 3,639 |
| 3,958 |
| 1,688 |
| (12,706 | ) | 9,494 |
| ||||||||||||||||||||||
Depreciation and amortization |
| 9,611 |
| 339 |
| 1,274 |
| 1,278 |
| 33 |
| 12,535 |
| ||||||||||||||||||||||
Capital expenditures |
| 3,990 |
| 248 |
| 5,916 |
| 683 |
| — |
| 10,837 |
| ||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Year ended December 31, 2000: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||||||||||||||||||
Year Ended December 31, 2004 | |||||||||||||||||||||||||||||||||||
External net sales |
| $ | 637,355 |
| $ | 241,114 |
| $ | 141,401 |
| $ | 60,731 |
| $ | — |
| $ | 1,080,601 |
| $ | 941,381 | $ | 288,285 | $ | 83,838 | $ | — | $ | 1,313,504 | ||||||
Intersegment sales |
| 13,357 |
| 80 |
| 516 |
| 2,477 |
| — |
| 16,430 |
| 14,951 | — | 3,456 | (18,407 | ) | — | ||||||||||||||||
Operating profit (loss) |
| 67,658 |
| 16,001 |
| 1,322 |
| 7,650 |
| (5,825 | ) | 86,806 |
| 87,576 | 13,171 | 6,895 | (9,402 | ) | 98,240 | ||||||||||||||||
Total assets |
| 461,298 |
| 45,716 |
| 53,505 |
| 44,122 |
| 8,263 |
| 612,904 |
| 1,025,298 | 117,560 | 130,900 | 67,797 | 1,341,555 | |||||||||||||||||
Depreciation and amortization |
| 36,435 |
| 1,316 |
| 4,724 |
| 5,372 |
| 136 |
| 47,983 |
| 54,982 | 4,637 | 7,227 | 11 | 66,857 | |||||||||||||||||
Capital expenditures |
| 25,376 |
| 1,042 |
| 9,565 |
| 1,390 |
| — |
| 37,373 |
| 30,189 | 4,199 | 3,283 | 24 | 37,695 |
73
NOTE K—J—SUPPLEMENTAL GUARANTOR FINANCIAL INFORMATION
The Company's revolvingOur senior credit facility, A and B term loansagreement and senior subordinated notes have been guaranteed, on a joint and several basis, by the Companyus and itsour domestic subsidiaries. The revolvingsenior credit facility and A and B term loans areagreement is also guaranteed by the Company'sour parent, M-Foods Holdings, Inc.
The following condensed consolidating financial information presents theour consolidated balance sheet and statements of earnings and cash flows of the Company as ofsheets at December 31, 20022006 and 2005, and the nine months December 31, 2001, and the Predecessor's consolidated balance sheet as of December 31, 2000 and the consolidatedcondensed consolidating statements of earnings and cash flows for the three months ended March 31, 2001 and for the yearyears ended December 31, 2000.2006, 2005 and 2004. These financial statements reflect Michael Foods, Inc. (the parent), the wholly ownedwholly-owned guarantor subsidiaries (on a combined basis), the non-wholly owned guarantor subsidiaries,non-guarantor subsidiary (MFI Food Canada, Ltd.), and elimination entries necessary to combine such entities on a consolidated basis. Included elsewhere in this annual report on Form 10-K is the audited financial statements of the non-wholly owned guarantor subsidiaries.
66
Condensed Consolidating Balance SheetsSheet
December 31, 20022006
(in thousands)In Thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| |||||||||||||||||||||||||||
M-Foods |
| M-Foods | Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Eliminations | Consolidated | |||||||||||||||||||||||||||||||
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Current Assets |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Cash and equivalents |
| $ | 19,665 |
| $ | 907 |
| $ | — |
| $ | — |
| $ | — |
| $ | 20,572 |
| $ | 20,727 | $ | — | $ | 849 | $ | — | $ | 21,576 | |||||||||
Accounts receivable, less allowances |
| 314 |
| 90,108 |
| 7,836 |
| 4,399 |
| (1,078 | ) | 101,579 |
| 4,278 | 110,775 | 7,065 | (16,813 | ) | 105,305 | |||||||||||||||||||
Inventories |
| — |
| 88,376 |
| 3,412 |
| 4,019 |
| — |
| 95,807 |
| — | 93,480 | 9,940 | — | 103,420 | ||||||||||||||||||||
Prepaid expenses and other |
| 202 |
| 12,704 |
| 600 |
| 65 |
| — |
| 13,571 |
| 538 | 7,393 | 270 | — | 8,201 | ||||||||||||||||||||
Total current assets |
| 20,181 |
| 192,095 |
| 11,848 |
| 8,483 |
| (1,078 | ) | 231,529 |
| 25,543 | 211,648 | 18,124 | (16,813 | ) | 238,502 | |||||||||||||||||||
Property, Plant and Equipment – net |
| 44 |
| 252,825 |
| 18,104 |
| 11,380 |
| — |
| 282,353 |
| |||||||||||||||||||||||||
Property, Plant and Equipment—net | 24 | 244,070 | 14,969 | — | 259,063 | |||||||||||||||||||||||||||||||||
Other assets: |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Goodwill |
| — |
| 339,265 |
| 1,763 |
| — |
| — |
| 341,028 |
| — | 518,409 | 3,026 | — | 521,435 | ||||||||||||||||||||
Joint ventures and other assets |
| 15,362 |
| 22,082 |
| 139 |
| 529 |
| — |
| 38,112 |
| |||||||||||||||||||||||||
Preferred return receivable for subs |
| — |
| 17,170 |
| — |
| — |
| (17,170 | ) | — |
| |||||||||||||||||||||||||
Other assets | 17,836 | 242,225 | 2,410 | (17,708 | ) | 244,763 | ||||||||||||||||||||||||||||||||
Investment in subsidiaries |
| 639,819 |
| — |
| — |
| — |
| (639,819 | ) | — |
| 923,218 | (7,452 | ) | — | (915,766 | ) | — | ||||||||||||||||||
941,054 | 753,182 | 5,436 | (933,474 | ) | 766,198 | |||||||||||||||||||||||||||||||||
|
| 655,181 |
| 8,517 |
| 1,902 |
| 529 |
| (6,989 | ) | 379,140 |
| |||||||||||||||||||||||||
Total assets |
| $ | 675,406 |
| $ | 3,437 |
| $ | 31,854 |
| $ | 20,392 |
| $ | (8,067 | ) | $ | 893,022 |
| $ | 966,621 | $ | 1,208,900 | $ | 38,529 | $ | (950,287 | ) | $ | 1,263,763 | ||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Liabilities and Shareholder’s Equity |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Current Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||||||||||||||||||||||
Current maturities of long-term debt |
| $ | 14,714 |
| $ | 557 |
| $ | — |
| $ | 2,400 |
| $ | — |
| $ | 17,671 |
| $ | — | $ | — | $ | 837 | $ | — | $ | 837 | |||||||||
Accounts payable |
| 426 |
| 60,933 |
| 2,836 |
| 2,873 |
| (1,078 | ) | 65,990 |
| 265 | 73,023 | 15,753 | (16,795 | ) | 72,246 | |||||||||||||||||||
Accrued liabilities |
| 35,372 |
| 49,953 |
| 2,352 |
| 1,046 |
| — |
| 88,723 |
| 19,398 | 65,853 | 1,810 | — | 87,061 | ||||||||||||||||||||
Total current liabilities |
| 50,512 |
| 111,443 |
| 5,188 |
| 6,319 |
| (1,078 | ) | 172,384 |
| 19,663 | 138,876 | 18,400 | (16,795 | ) | 160,144 | |||||||||||||||||||
Long-term debt, less current maturities |
| 448,734 |
| 44,984 |
| — |
| — |
| — |
| 493,718 |
| 615,064 | 22,536 | 27,581 | (20,224 | ) | 644,957 | |||||||||||||||||||
Deferred income taxes |
| (3,641 | ) | 50,760 |
| — |
| — |
| — |
| 47,119 |
| |||||||||||||||||||||||||
Total liabilities |
| 495,605 |
| 207,187 |
| 5,188 |
| 6,319 |
| (1,078 | ) | 713,221 |
| |||||||||||||||||||||||||
Non-controlling interest |
| 475 |
| — |
| — |
| — |
| — |
| 475 |
| |||||||||||||||||||||||||
Preferred unit holder return payable |
| — |
| — |
| 12,442 |
| 4,728 |
| (17,170 | ) | — |
| |||||||||||||||||||||||||
Deferred income taxes and other | (9,152 | ) | 126,768 | — | — | 117,616 | ||||||||||||||||||||||||||||||||
Deferred compensation | 16,252 | — | — | — | 16,252 | |||||||||||||||||||||||||||||||||
Shareholder’s equity |
| 179,326 |
| 6,250 |
| 14,224 |
| 9,345 |
| (639,819 | ) | 179,326 |
| 324,794 | 920,720 | (7,452 | ) | (913,268 | ) | 324,794 | ||||||||||||||||||
Total liabilities and shareholder’s equity |
| $ | 675,406 |
| $ | 3,437 |
| $ | 31,854 |
| $ | 20,392 |
| $ | (8,067 | ) | $ | 893,022 |
| $ | 966,621 | $ | 1,208,900 | $ | 38,529 | $ | (950,287 | ) | $ | 1,263,763 | ||||||||
67
Condensed Consolidating Balance Sheet
December 31, 2005
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Eliminations | Consolidated | ||||||||||||||
Assets | ||||||||||||||||||
Current Assets | ||||||||||||||||||
Cash and equivalents | $ | 41,153 | $ | — | $ | 1,026 | $ | — | $ | 42,179 | ||||||||
Accounts receivable, less allowances | 3,180 | 101,193 | 7,008 | (8,273 | ) | 103,108 | ||||||||||||
Inventories | — | 91,054 | 6,825 | — | 97,879 | |||||||||||||
Prepaid expenses and other | 605 | 7,954 | 144 | — | 8,703 | |||||||||||||
Total current assets | 44,938 | 200,201 | 15,003 | (8,273 | ) | 251,869 | ||||||||||||
Property, Plant and Equipment—net | 34 | 267,060 | 20,193 | — | 287,287 | |||||||||||||
Other assets: | ||||||||||||||||||
Goodwill | — | 518,409 | 3,026 | — | 521,435 | |||||||||||||
Other assets | 37,903 | 248,192 | 2,410 | (15,520 | ) | 272,985 | ||||||||||||
Investment in subsidiaries | 932,385 | 4,438 | — | (936,823 | ) | — | ||||||||||||
970,288 | 771,039 | 5,436 | (952,343 | ) | 794,420 | |||||||||||||
�� | ||||||||||||||||||
Total assets | $ | 1,015,260 | $ | 1,238,300 | $ | 40,632 | $ | (960,616 | ) | $ | 1,333,576 | |||||||
Liabilities and Shareholder’s Equity | ||||||||||||||||||
Current Liabilities | ||||||||||||||||||
Current maturities of long-term debt | $ | 2,700 | $ | — | $ | 784 | $ | — | $ | 3,484 | ||||||||
Accounts payable | 853 | 69,511 | 8,896 | (9,785 | ) | 69,475 | ||||||||||||
Accrued liabilities | 19,843 | 77,453 | 1,691 | — | 98,987 | |||||||||||||
Total current liabilities | 23,396 | 146,964 | 11,371 | (9,785 | ) | 171,946 | ||||||||||||
Long-term debt, less current maturities | 679,171 | 18,613 | 27,553 | (19,098 | ) | 706,239 | ||||||||||||
Deferred income taxes | (6,370 | ) | 143,926 | (1,228 | ) | — | 136,328 | |||||||||||
Deferred compensation | 15,048 | — | — | — | 15,048 | |||||||||||||
Shareholder’s equity | 304,015 | 928,797 | 2,936 | (931,733 | ) | 304,015 | ||||||||||||
Total liabilities and shareholder’s equity | $ | 1,015,260 | $ | 1,238,300 | $ | 40,632 | $ | (960,616 | ) | $ | 1,333,576 | |||||||
68
Condensed Consolidating Statement of Earnings
For the Year Ended December 31, 2006
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Eliminations | Consolidated | |||||||||||||||
Net sales | $ | — | $ | 1,213,399 | $ | 55,466 | $ | (21,517 | ) | $ | 1,247,348 | ||||||||
Cost of sales | — | 986,195 | 52,154 | (21,517 | ) | 1,016,832 | |||||||||||||
Gross profit | — | 227,204 | 3,312 | — | 230,516 | ||||||||||||||
Selling, general and administrative expenses | 11,417 | 122,054 | 4,713 | (4,897 | ) | 133,287 | |||||||||||||
Plant closing expenses | — | — | 3,139 | — | 3,139 | ||||||||||||||
Operating profit (loss) | (11,417 | ) | 105,150 | (4,540 | ) | 4,897 | 94,090 | ||||||||||||
Interest expense, net | 54,287 | (59 | ) | 1,700 | — | 55,928 | |||||||||||||
Other expense (income) | (4,897 | ) | — | — | 4,897 | — | |||||||||||||
Earnings (loss) before equity in earnings (loss) of subsidiaries, income taxes and equity in losses of unconsolidated subsidiary | (60,807 | ) | 105,209 | (6,240 | ) | — | 38,162 | ||||||||||||
Equity in earnings (loss) of subsidiaries | 59,242 | (7,839 | ) | — | (51,403 | ) | — | ||||||||||||
Earnings (loss) before income taxes and equity in losses of unconsolidated subsidiary | (1,565 | ) | 97,370 | (6,240 | ) | (51,403 | ) | 38,162 | |||||||||||
Income tax expense (benefit) | (20,720 | ) | 35,415 | 1,599 | — | 16,294 | |||||||||||||
Earnings (loss) before equity in losses of unconsolidated subsidiary | 19,155 | 61,955 | (7,839 | ) | (51,403 | ) | 21,868 | ||||||||||||
Equity in losses of unconsolidated subsidiary | — | 2,713 | — | — | 2,713 | ||||||||||||||
Net earnings (loss) | $ | 19,155 | $ | 59,242 | $ | (7,839 | ) | $ | (51,403 | ) | $ | 19,155 | |||||||
69
Condensed Consolidating Statement of Earnings
For the Year Ended December 31, 2005
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Eliminations | Consolidated | |||||||||||||||
Net sales | $ | — | $ | 1,205,909 | $ | 56,619 | $ | (20,030 | ) | $ | 1,242,498 | ||||||||
Cost of sales | — | 970,920 | 54,528 | (20,030 | ) | 1,005,418 | |||||||||||||
Gross profit | — | 234,989 | 2,091 | — | 237,080 | ||||||||||||||
Selling, general and administrative expenses | 8,671 | 122,078 | 5,516 | (5,432 | ) | 130,833 | |||||||||||||
Operating profit (loss) | (8,671 | ) | 112,911 | (3,425 | ) | 5,432 | 106,247 | ||||||||||||
Interest expense, net | 44,970 | 362 | 1,787 | — | 47,119 | ||||||||||||||
Other (income) expense | (5,432 | ) | — | — | 5,432 | — | |||||||||||||
Loss on early extinguishment of debt | 5,548 | — | — | — | 5,548 | ||||||||||||||
Earnings (loss) before equity in earnings (loss) of subsidiaries, income taxes and equity in losses of unconsolidated subsidiary | (53,757 | ) | 112,549 | (5,212 | ) | — | 53,580 | ||||||||||||
Equity in earnings (loss) of consolidated subsidiaries | 73,874 | (3,221 | ) | — | (70,653 | ) | — | ||||||||||||
Earnings (loss) before income taxes and equity in losses of unconsolidated subsidiary | 20,117 | 109,328 | (5,212 | ) | (70,653 | ) | 53,580 | ||||||||||||
Income tax expense (benefit) | (18,742 | ) | 34,999 | (1,991 | ) | — | 14,266 | ||||||||||||
Earnings (loss) before equity in losses of unconsolidated subsidiary | 38,859 | 74,329 | (3,221 | ) | (70,653 | ) | 39,314 | ||||||||||||
Equity in losses of unconsolidated subsidiary | — | 455 | — | — | 455 | ||||||||||||||
Net earnings (loss) | $ | 38,859 | $ | 73,874 | $ | (3,221 | ) | $ | (70,653 | ) | $ | 38,859 | |||||||
70
Condensed Consolidating Statement of Earnings
For the Year Ended December 31, 2004
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Eliminations | Consolidated | |||||||||||||||
Net sales | $ | — | $ | 1,278,257 | $ | 70,487 | $ | (35,240 | ) | $ | 1,313,504 | ||||||||
Cost of sales | — | 1,050,769 | 61,597 | (35,240 | ) | 1,077,126 | |||||||||||||
Gross profit | — | 227,488 | 8,890 | — | 236,378 | ||||||||||||||
Selling, general and administrative expenses | 9,402 | 127,149 | 7,160 | (5,573 | ) | 138,138 | |||||||||||||
Operating profit (loss) | (9,402 | ) | 100,339 | 1,730 | 5,573 | 98,240 | |||||||||||||
Interest expense, net | 40,593 | 977 | 1,715 | — | 43,285 | ||||||||||||||
Other (income) expense | (5,573 | ) | — | — | 5,573 | — | |||||||||||||
Earnings (loss) before equity in earnings (loss) of subsidiaries, income taxes and equity in losses of unconsolidated subsidiary | (44,422 | ) | 99,362 | 15 | — | 54,955 | |||||||||||||
Equity in earnings (loss) of consolidated subsidiaries | 60,234 | (148 | ) | — | (60,086 | ) | — | ||||||||||||
Earnings (loss) before income taxes and equity in losses of unconsolidated subsidiary | 15,812 | 99,214 | 15 | (60,086 | ) | 54,955 | |||||||||||||
Income tax expense (benefit) | (17,702 | ) | 38,520 | 163 | — | 20,981 | |||||||||||||
Earnings (loss) before equity in losses of unconsolidated subsidiary | 33,514 | 60,694 | (148 | ) | (60,086 | ) | 33,974 | ||||||||||||
Equity in losses of unconsolidated subsidiary | — | 460 | — | — | 460 | ||||||||||||||
Net earnings (loss) | $ | 33,514 | $ | 60,234 | $ | (148 | ) | $ | (60,086 | ) | $ | 33,514 | |||||||
71
Condensed Consolidating Statement of Cash Flows
For the Year Ended December 31, 2006
(In Thousands)
Parent | Guarantor Subsidiaries | Non- Guarantor | Eliminations | Consolidated | ||||||||||||||||
Net cash provided by (used in) operating activities | $ | 29,431 | $ | 95,392 | $ | 3,589 | $ | (51,646 | ) | $ | 76,766 | |||||||||
Cash flows from investing activities: | ||||||||||||||||||||
Capital expenditures | — | (33,219 | ) | (587 | ) | — | (33,806 | ) | ||||||||||||
Investments in joint ventures and other assets | (84 | ) | (14 | ) | — | — | (98 | ) | ||||||||||||
Net cash used in investing activities | (84 | ) | (33,233 | ) | (587 | ) | — | (33,904 | ) | |||||||||||
Cash flows from financing activities: | ||||||||||||||||||||
Payments on revolving line of credit | (1,200 | ) | — | — | — | (1,200 | ) | |||||||||||||
Proceeds from revolving line of credit | 1,200 | — | — | — | 1,200 | |||||||||||||||
Payments on long-term debt | (56,558 | ) | (6,327 | ) | (859 | ) | (326 | ) | (64,070 | ) | ||||||||||
Proceeds from stock option exercise | 766 | — | — | — | 766 | |||||||||||||||
Deferred financing costs | (162 | ) | — | — | — | (162 | ) | |||||||||||||
Investment in subsidiaries | 6,181 | (55,832 | ) | (2,321 | ) | 51,972 | — | |||||||||||||
Net cash (used in) provided by financing activities | (49,773 | ) | (62,159 | ) | (3,180 | ) | 51,646 | (63,466 | ) | |||||||||||
Effect of exchange rate changes on cash | — | — | 1 | — | 1 | |||||||||||||||
Net decrease in cash and equivalents | (20,426 | ) | — | (177 | ) | — | (20,603 | ) | ||||||||||||
Cash and equivalents at beginning of year | 41,153 | — | 1,026 | — | 42,179 | |||||||||||||||
Cash and equivalents at end of year | $ | 20,727 | $ | — | $ | 849 | $ | — | $ | 21,576 | ||||||||||
72
Condensed Consolidating Statement of Cash Flows
For the Year Ended December 31, 2005
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Consolidated | |||||||||||||
Net cash provided by (used in) operating activities | $ | (7,937 | ) | $ | 108,713 | $ | 3,626 | $ | 104,402 | |||||||
Cash flows from investing activities: | ||||||||||||||||
Capital expenditures | (17 | ) | (39,103 | ) | (1,570 | ) | (40,690 | ) | ||||||||
Investments in joint ventures and other assets | 2,462 | (45 | ) | (3,234 | ) | (817 | ) | |||||||||
Net cash provided by (used in) investing activities | 2,445 | (39,148 | ) | (4,804 | ) | (41,507 | ) | |||||||||
Cash flows from financing activities: | ||||||||||||||||
Payments on long-term debt | (43,907 | ) | (5,134 | ) | (3,143 | ) | (52,184 | ) | ||||||||
Additional capital invested by parent | — | (3,455 | ) | 3,455 | — | |||||||||||
Deferred financing costs | (378 | ) | — | — | (378 | ) | ||||||||||
Investment in subsidiaries | 60,976 | (60,976 | ) | — | — | |||||||||||
Net cash provided by (used in) financing activities | 16,691 | (69,565 | ) | 312 | (52,562 | ) | ||||||||||
Effect of exchange rate changes on cash | — | — | 30 | 30 | ||||||||||||
Net increase (decrease) in cash and equivalents | 11,199 | — | (836 | ) | 10,363 | |||||||||||
Cash and equivalents at beginning of year | 29,954 | — | 1,862 | 31,816 | ||||||||||||
Cash and equivalents at end of year | $ | 41,153 | $ | — | $ | 1,026 | $ | 42,179 | ||||||||
73
Condensed Consolidating Statement of Cash Flows
For the Year Ended December 31, 2004
(In Thousands)
Parent | Guarantor Subsidiaries | Non-Guarantor Subsidiary | Consolidated | |||||||||||||
Net cash provided by (used in) operating activities | $ | (15,995 | ) | $ | 136,694 | $ | 948 | $ | 121,647 | |||||||
Cash flows from investing activities: | ||||||||||||||||
Capital expenditures | (24 | ) | (36,531 | ) | (1,140 | ) | (37,695 | ) | ||||||||
Investments in joint ventures and other assets | (394 | ) | 1,708 | — | 1,314 | |||||||||||
Net cash used in investing activities | (418 | ) | (34,823 | ) | (1,140 | ) | (36,381 | ) | ||||||||
Cash flows from financing activities: | ||||||||||||||||
Proceeds (payments) on long-term debt | (39,950 | ) | (2,202 | ) | 669 | (41,483 | ) | |||||||||
Additional capital invested by parent | 13,159 | 111 | (111 | ) | 13,159 | |||||||||||
Deferred financing costs | (824 | ) | — | — | (824 | ) | ||||||||||
Dividends | (70,084 | ) | — | — | (70,084 | ) | ||||||||||
Investment in subsidiaries | 99,780 | (99,780 | ) | — | — | |||||||||||
Net cash provided by (used in) financing activities | 2,081 | (101,871 | ) | 558 | (99,232 | ) | ||||||||||
Effect of exchange rate changes on cash | — | — | 188 | 188 | ||||||||||||
Net increase (decrease) in cash and equivalents | (14,332 | ) | — | 554 | (13,778 | ) | ||||||||||
Cash and equivalents at beginning of year | 44,286 | — | 1,308 | 45,594 | ||||||||||||
Cash and equivalents at end of year | $ | 29,954 | $ | — | $ | 1,862 | $ | 31,816 | ||||||||
74
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)NOTE K—QUARTERLY FINANCIAL DATA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company
Condensed Consolidating Balance Sheets
December 31, 2001
(in thousands)
|
| Parent |
| Wholly owned |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| ||||||||
M-Foods |
| M-Foods | |||||||||||||||||
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Current Assets |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Cash and equivalents |
| $ | 33,947 |
| $ | (6,287 | ) | $ | — |
| $ | — |
| $ | — |
| $ | 27,660 |
|
Accounts receivable, less allowances |
| 223 |
| 91,744 |
| 6,535 |
| 5,765 |
| (1,950 | ) | 102,317 |
| ||||||
Inventories |
| — |
| 72,034 |
| 3,592 |
| 3,315 |
| — |
| 78,941 |
| ||||||
Prepaid expenses and other |
| 972 |
| 9,850 |
| 496 |
| 52 |
| — |
| 11,370 |
| ||||||
Total current assets |
| 35,142 |
| 167,341 |
| 10,623 |
| 9,132 |
| (1,950 | ) | 220,288 |
| ||||||
Property, Plant and Equipment – net |
| 78 |
| 263,893 |
| 15,657 |
| 11,526 |
| — |
| 291,154 |
| ||||||
Other assets: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Goodwill, net |
| — |
| 339,258 |
| 1,763 |
| — |
| — |
| 341,021 |
| ||||||
Joint ventures and other assets |
| 19,521 |
| 24,091 |
| — |
| 1,058 |
| — |
| 44,670 |
| ||||||
Preferred return receivable for subs |
| — |
| 8,188 |
| — |
| — |
| (8,188 | ) | — |
| ||||||
Investment in subsidiaries |
| 675,556 |
| — |
| — |
| — |
| (675,556 | ) | — |
| ||||||
|
| 695,077 |
| 371,537 |
| 1,763 |
| 1,058 |
| (683,744 | ) | 385,691 |
| ||||||
Total assets |
| $ | 730,297 |
| $ | 802,771 |
| $ | 28,043 |
| $ | 21,716 |
| $ | (685,694 | ) | $ | 897,133 |
|
Liabilities and Shareholder’s Equity |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Current Liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Current maturities of long-term debt |
| $ | 10,255 |
| $ | 307 |
| $ | — |
| $ | 2,400 |
| $ | — |
| $ | 12,962 |
|
Accounts payable |
| 265 |
| 60,223 |
| 2,612 |
| 3,342 |
| (1,950 | ) | 64,492 |
| ||||||
Accrued liabilities |
| 30,210 |
| 44,020 |
| 2,151 |
| 976 |
| — |
| 77,357 |
| ||||||
Total current liabilities |
| 40,730 |
| 104,550 |
| 4,763 |
| 6,718 |
| (1,950 | ) | 154,811 |
| ||||||
Long-term debt, less current maturities |
| 537,395 |
| 337 |
| — |
| 2,400 |
| — |
| 540,132 |
| ||||||
Deferred income taxes |
| (1,293 | ) | 50,018 |
| — |
| — |
| — |
| 48,725 |
| ||||||
Total liabilities |
| 576,832 |
| 154,905 |
| 4,763 |
| 9,118 |
| (1,950 | ) | 743,668 |
| ||||||
Non-controlling interest |
| 475 |
| — |
| — |
| — |
| — |
| 475 |
| ||||||
Preferred unit holder return payable |
| — |
| — |
| 7,500 |
| 688 |
| (8,188 | ) | — |
| ||||||
Shareholder’s equity |
| 152,990 |
| 647,866 |
| 15,780 |
| 11,910 |
| (675,556 | ) | 152,990 |
| ||||||
Total liabilities and shareholder’s equity |
| $ | 730,297 |
| $ | 802,771 |
| $ | 28,043 |
| $ | 21,716 |
| $ | (685,694 | ) | $ | 897,133 |
|
Quarter | ||||||||||||
(Unaudited, In Thousands) | ||||||||||||
First | Second | Third | Fourth | |||||||||
2006 | ||||||||||||
Net sales | $ | 307,391 | $ | 298,913 | $ | 308,940 | $ | 332,104 | ||||
Gross profit | 54,887 | 55,713 | 58,654 | 61,262 | ||||||||
Net earnings | 4,119 | 6,543 | 3,902 | 4,591 | ||||||||
2005 | ||||||||||||
Net sales | $ | 304,964 | $ | 301,125 | $ | 309,154 | $ | 327,255 | ||||
Gross profit | 57,302 | 58,729 | 59,231 | 61,818 | ||||||||
Net earnings | 6,844 | 8,231 | 9,288 | 14,496 |
75
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company
Condensed Consolidating Earnings Statements
Year ended December 31, 2002
(in thousands)
|
| Parent |
| Wholly owned |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| ||||||||
M-Foods |
| M-Foods | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net sales |
| $ | — |
| $ | 993,333 |
| $ | 105,299 |
| $ | 85,360 |
| $ | (15,832 | ) | $ | 1,168,160 |
|
Cost of sales |
| — |
| 796,995 |
| 94,693 |
| 77,477 |
| (15,832 | ) | 953,333 |
| ||||||
Gross profit |
| — |
| 196,338 |
| 10,606 |
| 7,883 |
| — |
| 214,827 |
| ||||||
Selling, general and administrative expenses |
| 7,828 |
| 104,019 |
| 5,563 |
| 3,830 |
| (4,796 | ) | 116,444 |
| ||||||
Operating profit (loss) |
| (7,828 | ) | 92,319 |
| 5,043 |
| 4,053 |
| 4,796 |
| 98,383 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Interest expense, net |
| (46,800 | ) | (3,264 | ) | (102 | ) | (13 | ) | — |
| (50,179 | ) | ||||||
Other income (expense) |
| 4,796 |
| — |
| — |
| — |
| (4,796 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before preferred stock dividends, equity in earnings (loss) of subsidiaries and income taxes |
| (49,832 | ) | 89,055 |
| 4,941 |
| 4,040 |
| — |
| 48,204 |
| ||||||
Preferred stock dividends |
| — |
| 8,981 |
| (4,941 | ) | (4,040 | ) | — |
| — |
| ||||||
Equity in earnings (loss) of subsidiaries |
| 59,556 |
| — |
| — |
| — |
| (59,556 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before income taxes |
| 9,724 |
| 98,036 |
| — |
| — |
| (59,556 | ) | 48,204 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income tax expense (benefit) |
| (19,937 | ) | 38,480 |
| — |
| — |
| — |
| 18,543 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
NET EARNINGS (LOSS) |
| $ | 29,661 |
| $ | 59,556 |
| $ | — |
| $ | — |
| $ | (59,556 | ) | $ | 29,661 |
|
76
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company
Condensed Consolidating Earnings Statements
Nine months ended December 31, 2001
(in thousands)
|
| Parent |
| Wholly owned |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| ||||||||
M-Foods |
| M-Foods | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net sales |
| $ | — |
| $ | 746,777 |
| $ | 69,911 |
| $ | 80,643 |
| $ | (11,689 | ) | $ | 885,642 |
|
Cost of sales |
| — |
| 608,961 |
| 59,626 |
| 77,110 |
| (11,689 | ) | 734,008 |
| ||||||
Gross profit |
| — |
| 137,816 |
| 10,285 |
| 3,533 |
| — |
| 151,634 |
| ||||||
Selling, general and administrative expenses |
| 3,969 |
| 80,043 |
| 3,194 |
| 3,367 |
| (3,089 | ) | 87,484 |
| ||||||
Operating profit (loss) |
| (3,969 | ) | 57,773 |
| 7,091 |
| 166 |
| 3,089 |
| 64,150 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Interest income (expense), net |
| (42,361 | ) | (436 | ) | 409 |
| 53 |
| — |
| (42,335 | ) | ||||||
Other income |
| 3,089 |
| — |
| — |
| — |
| (3,089 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before preferred stock dividends, equity in earnings (loss) of subsidiaries and income taxes |
| (43,241 | ) | 57,337 |
| 7,500 |
| 219 |
| — |
| 21,815 |
| ||||||
Preferred stock dividends |
| — |
| 8,188 |
| (7,500 | ) | (688 | ) | — |
| — |
| ||||||
Equity in earnings (loss) of subsidiaries |
| 29,269 |
| (469 | ) | — |
| 469 |
| (29,269 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before income taxes |
| (13,972 | ) | 65,056 |
| — |
| — |
| (29,269 | ) | 21,815 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income tax expense (benefit) |
| (23,787 | ) | 35,787 |
| — |
| — |
| — |
| 12,000 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
NET EARNINGS (LOSS) |
| $ | 9,815 |
| $ | 29,269 |
| $ | — |
| $ | — |
| $ | (29,269 | ) | $ | 9,815 |
|
77
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Predecessor
Condensed Consolidating Earnings Statements
Three months ended March 31, 2001
(in thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| ||||||||
M-Foods |
| M-Foods | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net sales |
| $ | — |
| $ | 245,548 |
| $ | 17,684 |
| $ | 17,644 |
| $ | (5,249 | ) | $ | 275,627 |
|
Cost of sales |
| — |
| 200,854 |
| 14,994 |
| 17,108 |
| (5,249 | ) | 227,707 |
| ||||||
Gross profit |
| — |
| 44,694 |
| 2,690 |
| 536 |
| — |
| 47,920 |
| ||||||
Selling, general and administrative expenses |
| 1,656 |
| 27,720 |
| 1,027 |
| 1,712 |
| (1,522 | ) | 30,593 |
| ||||||
Recall insurance settlement |
| — |
| — |
| (3,217 | ) | — |
| — |
| (3,217 | ) | ||||||
Transaction costs |
| 11,050 |
| — |
| — |
| — |
| — |
| 11,050 |
| ||||||
Operating profit (loss) |
| (12,706 | ) | 16,974 |
| 4,880 |
| (1,176 | ) | 1,522 |
| 9,494 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Interest income (expense), net |
| (3,308 | ) | 14 |
| 1 |
| — |
| — |
| (3,293 | ) | ||||||
Other income (expense) |
| (13,991 | ) | — |
| — |
| — |
| (1,522 | ) | (15,513 | ) | ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before equity in earnings of subsidiaries and income taxes |
| (30,005 | ) | 16,988 |
| 4,881 |
| (1,176 | ) | — |
| (9,312 | ) | ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Equity in earnings (loss) of subsidiaries |
| 12,573 |
| — |
| — |
| — |
| (12,573 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before income taxes |
| (17,432 | ) | 16,988 |
| 4,881 |
| (1,176 | ) | (12,573 | ) | (9,312 | ) | ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income tax expense (benefit) |
| (11,779 | ) | 6,649 |
| 1,918 |
| (447 | ) | — |
| (3,659 | ) | ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
NET EARNINGS (LOSS) |
| $ | (5,653 | ) | $ | 10,339 |
| $ | 2,963 |
| $ | (729 | ) | $ | (12,573 | ) | $ | (5,653 | ) |
78
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Predecessor
Condensed Consolidating Earnings Statements
Year ended December 31, 2000
(in thousands)
|
| Parent |
| Wholly owned |
| Non-wholly owned |
| Eliminations |
| Consolidated |
| ||||||||
M-Foods |
| M-Foods | |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net sales |
| $ | — |
| $ | 955,115 |
| $ | 68,102 |
| $ | 73,814 |
| $ | (16,430 | ) | $ | 1,080,601 |
|
Cost of sales |
| — |
| 775,173 |
| 59,948 |
| 70,447 |
| (16,430 | ) | 889,138 |
| ||||||
Gross profit |
| — |
| 179,942 |
| 8,154 |
| 3,367 |
| — |
| 191,463 |
| ||||||
Selling, general and administrative expenses |
| 5,825 |
| 93,294 |
| 3,668 |
| 7,412 |
| (5,542 | ) | 104,657 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Operating profit (loss) |
| (5,825 | ) | 86,648 |
| 4,486 |
| (4,045 | ) | 5,542 |
| 86,806 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Interest income (expense), net |
| (13,276 | ) | 64 |
| 6 |
| — |
| — |
| (13,206 | ) | ||||||
Other income |
| 5,542 |
| — |
| — |
| — |
| (5,542 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before equity in earnings of subsidiaries and income taxes |
| (13,559 | ) | 86,712 |
| 4,492 |
| (4,045 | ) | — |
| 73,600 |
| ||||||
Equity in earnings (loss) of subsidiaries |
| 53,279 |
| — |
| — |
| — |
| (53,279 | ) | — |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Earnings (loss) before income taxes |
| 39,720 |
| 86,712 |
| 4,492 |
| (4,045 | ) | (53,279 | ) | 73,600 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income tax expense (benefit) |
| (4,990 | ) | 33,651 |
| 1,766 |
| (1,537 | ) | — |
| 28,890 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
NET EARNINGS (LOSS) |
| $ | 44,710 |
| $ | 53,061 |
| $ | 2,726 |
| $ | (2,508 | ) | $ | (53,279 | ) | $ | 44,710 |
|
79
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Predecessor
Condensed Consolidating Statements of Cash Flows
Year ended December 31, 2002
(in thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Consolidated |
| |||||||
M-Foods |
| M-Foods | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash provided by operating activities |
| $ | 32,175 |
| $ | 37,773 |
| $ | 6,144 |
| $ | 6,913 |
| $ | 83,005 |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Capital expenditures |
| — |
| (20,997 | ) | (4,449 | ) | (1,948 | ) | (27,394 | ) | |||||
Business acquisitions |
| — |
| (17,883 | ) | — |
| — |
| (17,883 | ) | |||||
Investments in joint ventures and other assets |
| (133 | ) | 5,024 |
| (139 | ) | — |
| 4,752 |
| |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash used in investing activities |
| (133 | ) | (33,856 | ) | (4,588 | ) | (1,948 | ) | (40,525 | ) | |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Payments on notes payable and revolving line of credit |
| (30,000 | ) | — |
| — |
| — |
| (30,000 | ) | |||||
Proceeds from notes payable and revolving line of credit |
| 25,000 |
| — |
| — |
| — |
| 25,000 |
| |||||
Payments on long-term debt |
| (42,345 | ) | (529 | ) | — |
| (2,400 | ) | (45,274 | ) | |||||
Proceeds from issuance of stock |
| — |
| — |
| — |
| — |
| — |
| |||||
Additional capital invested by parent |
| 706 |
| — |
| — |
| — |
| 706 |
| |||||
Distribution to preferred unit holders |
| — |
| 4,121 |
| (1,556 | ) | (2,565 | ) | — |
| |||||
Investment in subsidiaries |
| 315 |
| (315 | ) | — |
| — |
| — |
| |||||
Net cash provided by (used in) financing activities |
| (46,324 | ) | 3,277 |
| (1,556 | ) | (4,965 | ) | (49,568 | ) | |||||
Net increase (decrease) in cash and equivalents |
| (14,282 | ) | 7,194 |
| — |
| — |
| (7,088 | ) | |||||
Cash and equivalents at beginning of year |
| 33,947 |
| (6,287 | ) | — |
| — |
| 27,660 |
| |||||
Cash and equivalents at end of year |
| $ | 19,665 |
| $ | 907 |
| $ | — |
| $ | — |
| $ | 20,572 |
|
80
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company
Condensed Consolidating Statements of Cash Flows
Nine months ended December 31, 2001
(in thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Consolidated |
| |||||||
M-Foods |
| M-Foods | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash provided by operating activities |
| $ | 28,125 |
| $ | 52,276 |
| $ | 13,334 |
| $ | 7,058 |
| $ | 100,793 |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Capital expenditures |
| (9 | ) | (17,480 | ) | (1,770 | ) | (4,040 | ) | (23,299 | ) | |||||
Business acquisitions |
| (626,925 | ) | — |
| — |
| — |
| (626,925 | ) | |||||
Investments in joint ventures and other assets |
| (249 | ) | (4,704 | ) | — |
| — |
| (4,953 | ) | |||||
Net cash used in investing activities |
| (627,183 | ) | (22,184 | ) | (1,770 | ) | (4,040 | ) | (655,177 | ) | |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Payments on notes payable and revolving line of credit |
| (65,750 | ) | — |
| — |
| — |
| (65,750 | ) | |||||
Proceeds from notes payable and revolving line of credit |
| 53,800 |
| — |
| — |
| — |
| 53,800 |
| |||||
Payments on long-term debt |
| (152,349 | ) | (357 | ) | — |
| (2,400 | ) | (155,106 | ) | |||||
Proceeds from long-term debt |
| 570,000 |
| — |
| — |
| — |
| 570,000 |
| |||||
Proceeds from issuance of stock |
| 174,800 |
| — |
| — |
| — |
| 174,800 |
| |||||
Additional capital invested by parent |
| 30 |
| — |
| — |
| — |
| 30 |
| |||||
Distribution to preferred unit holders |
| — |
| 12,189 |
| (11,571 | ) | (618 | ) | — |
| |||||
Investment in subsidiaries |
| 48,147 |
| (48,147 | ) | — |
| — |
| — |
| |||||
Net cash provided by (used in) financing activities |
| 628,678 |
| (36,315 | ) | (11,571 | ) | (3,018 | ) | 577,774 |
| |||||
Net increase (decrease) in cash and equivalents |
| 29,620 |
| (6,223 | ) | (7 | ) | — |
| 23,390 |
| |||||
Cash and equivalents at beginning of period |
| 4,327 |
| (64 | ) | 7 |
| — |
| 4,270 |
| |||||
Cash and equivalents at end of period |
| $ | 33,947 |
| $ | (6,287 | ) | $ | — |
| $ | — |
| $ | 27,660 |
|
81
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Predecessor
Condensed Consolidating Statements of Cash Flows
Three months ended March 31, 2001
(in thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Consolidated |
| |||||||
M-Foods |
| M-Foods | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash provided by (used in) operating activities |
| $ | 12,000 |
| $ | 4,487 |
| $ | (2,440 | ) | $ | (31 | ) | $ | 14,016 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Capital expenditures |
| — |
| (4,923 | ) | (3,664 | ) | (2,250 | ) | (10,837 | ) | |||||
Investments in joint ventures and other assets |
| 434 |
| 3,454 |
| — |
| — |
| 3,888 |
| |||||
Net cash provided by (used in) investing Activities |
| 434 |
| (1,469 | ) | (3,664 | ) | (2,250 | ) | (6,949 | ) | |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Payments on notes payable and revolving line of credit |
| (52,000 | ) |
|
| — |
| — |
| (52,000 | ) | |||||
Proceeds from notes payable and revolving line of credit |
| 45,500 |
| — |
| — |
| — |
| 45,500 |
| |||||
Payments on long-term debt |
| — |
| (109 | ) | — |
| — |
| (109 | ) | |||||
Proceeds from issuance of stock |
| 546 |
| — |
| — |
| — |
| 546 |
| |||||
Other |
| 310 |
| — |
| — |
| — |
| 310 |
| |||||
Dividends |
| (1,465 | ) | — |
| — |
| — |
| (1,465 | ) | |||||
Investment in subsidiaries |
| (9,785 | ) | 1,393 |
| 6,111 |
| 2,281 |
| — |
| |||||
Net cash provided by (used in) financing activities |
| (16,894 | ) | 1,284 |
| 6,111 |
| 2,281 |
| (7,218 | ) | |||||
Net increase (decrease) in cash and equivalents |
| (4,460 | ) | 4,302 |
| 7 |
| — |
| (151 | ) | |||||
Cash and equivalents at beginning of period |
| 8,787 |
| (4,366 | ) | — |
| — |
| 4,421 |
| |||||
Cash and equivalents at end of period |
| $ | 4,327 |
| $ | (64 | ) | $ | 7 |
| $ | — |
| $ | 4,270 |
|
82
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Predecessor
Condensed Consolidating Statements of Cash Flows
Year ended December 31, 2000
(in thousands)
|
| Parent |
| Wholly |
| Non-wholly owned |
| Consolidated |
| |||||||
M-Foods |
| M-Foods | ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash provided by (used in) operating activities |
| $ | 47,044 |
| $ | 18,514 |
| $ | 3,900 |
| $ | (373 | ) | $ | 69,085 |
|
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Capital expenditures |
| — |
| (27,808 | ) | (3,181 | ) | (6,384 | ) | (37,373 | ) | |||||
Investments in joint ventures and other assets |
| (112 | ) | (1,015 | ) | — |
| — |
| (1,127 | ) | |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net cash used in investing activities |
| (112 | ) | (28,823 | ) | (3,181 | ) | (6,384 | ) | (38,500 | ) | |||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
| |||||
Payments on notes payable and revolving line of credit |
| (168,400 | ) | — |
| — |
| — |
| (168,400 | ) | |||||
Proceeds from notes payable and revolving line of credit |
| 191,600 |
| — |
| — |
| — |
| 191,600 |
| |||||
Payments on long-term debt |
| — |
| (709 | ) | — |
| (2,400 | ) | (3,109 | ) | |||||
Proceeds from long-term debt |
| — |
| 184 |
| — |
| — |
| 184 |
| |||||
Proceeds from issuance of stock |
| 651 |
| — |
| — |
| — |
| 651 |
| |||||
Repurchase of common stock |
| (46,125 | ) | — |
| — |
| — |
| (46,125 | ) | |||||
Dividends |
| (5,926 | ) | — |
| — |
| — |
| (5,926 | ) | |||||
Investment in subsidiaries |
| (16,621 | ) | 8,183 |
| (719 | ) | 9,157 |
| — |
| |||||
Net cash provided by (used in) financing activities |
| (44,821 | ) | 7,658 |
| (719 | ) | 6,757 |
| (31,125 | ) | |||||
Net increase (decrease) in cash and equivalents |
| 2,111 |
| (2,651 | ) | — |
| — |
| (540 | ) | |||||
Cash and equivalents at beginning of year |
| 6,676 |
| (1,715 | ) | — |
| — |
| 4,961 |
| |||||
Cash and equivalents at end of year |
| $ | 8,787 |
| $ | (4,366 | ) | $ | — |
| $ | — |
| $ | 4,421 |
|
83
MICHAEL FOODS, INC.
(A wholly owned subsidiary of M-Foods Holdings, Inc.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE L — QUARTERLY FINANCIAL DATA
QUARTERLY FINANCIAL DATA (UNAUDITED) (In thousands)
As a result of the Merger, the stock of the Predecessor is no longer publicly traded and, therefore, earnings per share information is no longer included for financial statement presentation.
|
| QUARTER |
| ||||||||||
|
| FIRST |
| SECOND |
| THIRD |
| FOURTH |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
2002 |
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 278,429 |
| $ | 289,753 |
| $ | 293,954 |
| $ | 306,024 |
|
Gross profit |
| 51,116 |
| 54,204 |
| 54,177 |
| 55,330 |
| ||||
Net earnings |
| 5,359 |
| 7,316 |
| 7,366 |
| 9,620 |
| ||||
Predecessor |
| Company | |||||||||||
|
| QUARTER |
| ||||||||||
|
| FIRST |
| SECOND |
| THIRD |
| FOURTH |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
2001 |
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 275,627 |
| $ | 295,109 |
| $ | 299,225 |
| $ | 291,308 |
|
Gross profit |
| 47,920 |
| 50,254 |
| 50,789 |
| 50,591 |
| ||||
Net earnings (loss) |
| (5,653 | ) | 1,669 |
| 3,297 |
| 4,849 |
| ||||
84
Report of Independent Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of earnings, of unit holder and operating unit equity and of cash flows present fairly, in all material respects, the financial position of M-Foods Dairy, LLC (the Company), a majority-owned subsidiary of Michael Foods, Inc. at December 31, 2002, and the results of its operations and its cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
The financial statements of the Company as of December 31, 2001 and for the nine months then ended were audited by other independent certified public accountants whose report, dated February 8, 2002, expressed an unqualified opinion on those statements.
The financial statements of Kohler Mix-MN (the Predecessor) for the three months ended March 31, 2001 and for the year ended December 31, 2000 were audited by other independent certified public accountants whose report, dated May 15, 2001, expressed an unqualified opinion on these statements.
As discussed in Note B to the financial statements, the Company adopted Statement of Accounting Standards No. 142, “Goodwill and Other Intangible Assets” on January 1, 2002.
| |
| |
|
85
Report of Independent Certified Public Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the accompanying balance sheet of M-Foods Dairy, LLC (a majority owned subsidiary of Michael Foods, Inc.) as of December 31, 2001 and the related statements of operations, unit holder and operating unit equity, and cash flows for the nine months then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of M-Foods Dairy, LLC (a majority owned subsidiary of Michael Foods, Inc.) as of December 31, 2001, and the results of its operations and its cash flows for the nine months then ended in conformity with accounting principles generally accepted in the United States of America.
| |
| |
|
86
Report of Independent Certified Public Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the statements of earnings, unit holder and operating unit equity, and cash flows of Kohler Mix MN (an operating unit of Michael Foods, Inc.) (the “Predecessor”) for the year ended December 31, 2000 and the three months ended March 31, 2001. These financial statements are the responsibility of the Predecessor’ management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Kohler Mix MN (an operating unit of Michael Foods, Inc.) for the year ended December 31, 2000 and the three months ended March 31, 2001, in conformity with accounting principles generally accepted in the United States of America.
|
Minneapolis, Minnesota
May 15, 2001
87
M-FOODS DAIRY, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
(in thousands)
|
| December 31, |
| December 31, |
| ||
ASSETS |
|
|
|
|
| ||
CURRENT ASSETS |
|
|
|
|
| ||
Accounts receivable, less allowances |
| $ | 7,836 |
| $ | 6,535 |
|
Inventories |
| 3,412 |
| 3,592 |
| ||
Prepaid expenses and other |
| 600 |
| 496 |
| ||
Total current assets |
| 11,848 |
| 10,623 |
| ||
PROPERTY, PLANT AND EQUIPMENT |
|
|
|
|
| ||
Land |
| 855 |
| 855 |
| ||
Buildings and improvements |
| 4,648 |
| 3,999 |
| ||
Machinery and equipment |
| 15,852 |
| 12,051 |
| ||
|
| 21,355 |
| 16,905 |
| ||
Less accumulated depreciation |
| 3,251 |
| 1,248 |
| ||
|
| 18,104 |
| 15,657 |
| ||
OTHER ASSETS |
|
|
|
|
| ||
Goodwill |
| 1,763 |
| 1,763 |
| ||
Other assets |
| 139 |
| — |
| ||
|
| 1,902 |
| 1,763 |
| ||
|
| $ | 31,854 |
| $ | 28,043 |
|
|
|
|
|
|
| ||
LIABILITIES AND UNIT HOLDER AND OPERATING UNIT EQUITY |
|
|
|
|
| ||
CURRENT LIABILITIES |
|
|
|
|
| ||
Accounts payable |
| $ | 2,836 |
| $ | 2,612 |
|
Accrued liabilities: |
|
|
|
|
| ||
Compensation |
| 841 |
| 688 |
| ||
Insurance |
| 144 |
| 124 |
| ||
Customer programs |
| 884 |
| 836 |
| ||
Other |
| 483 |
| 503 |
| ||
Total current liabilities |
| 5,188 |
| 4,763 |
| ||
|
|
|
|
|
| ||
COMMITMENTS AND CONTINGENCIES |
| — |
| — |
| ||
PREFERRED UNIT HOLDER RETURN PAYABLE |
| 12,442 |
| 7,500 |
| ||
UNIT HOLDER EQUITY |
| 14,224 |
| 15,780 |
| ||
|
| $ | 31,854 |
| $ | 28,043 |
|
The accompanying notes are an integral part of these financial statements.
88
M-FOODS DAIRY, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
(in thousands)
|
| Company |
| Predecessor |
| ||||||||
|
| Year ended |
| Nine Months |
| Three Months |
| Year ended |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 105,299 |
| $ | 69,911 |
| $ | 17,684 |
| $ | 68,102 |
|
Cost of sales |
| 94,693 |
| 59,626 |
| 14,994 |
| 59,948 |
| ||||
Gross profit |
| 10,606 |
| 10,285 |
| 2,690 |
| 8,154 |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Selling, general and administrative expenses |
| 5,563 |
| 3,194 |
| 1,027 |
| 3,668 |
| ||||
Recall insurance settlement |
| — |
| — |
| (3,217 | ) | — |
| ||||
Operating profit |
| 5,043 |
| 7,091 |
| 4,880 |
| 4,486 |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Other income (expense) |
| (102 | ) | 409 |
| 1 |
| 6 |
| ||||
Earnings before income taxes |
| 4,941 |
| 7,500 |
| 4,881 |
| 4,492 |
| ||||
Income tax expense |
| — |
| — |
| 1,918 |
| 1,766 |
| ||||
NET EARNINGS |
| 4,941 |
| 7,500 |
| $ | 2,963 |
| $ | 2,726 |
| ||
|
|
|
|
|
|
|
|
|
| ||||
Preferred stock dividends |
| (4,941 | ) | (7,500 | ) |
|
|
|
| ||||
Net earnings attributable to common unit holders |
| $ | — |
| $ | — |
|
|
|
|
|
The accompanying notes are an integral part of these financial statements.
89
M-Foods Dairy, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
STATEMENTS OF UNIT HOLDER AND OPERATING UNIT EQUITY
(in thousands)
Predecessor |
| Operating |
| |
|
|
|
| |
Balance at January 1, 2000 |
| $ | 16,236 |
|
Net dividends paid |
| (719 | ) | |
Net earnings |
| 2,726 |
| |
|
|
|
| |
Balance at December 31, 2000 |
| 18,243 |
| |
Net additional capital invested |
| 6,111 |
| |
Net earnings |
| 2,963 |
| |
|
|
|
| |
Balance at March 31, 2001 |
| $ | 27,317 |
|
|
|
|
| |
Company | Unit Holder | |||
|
| |||
Balance at March 31, 2001 |
| $ | 27,317 |
|
Merger with M-Food Investors, LLC |
| (27,317 | ) | |
Issuance of: |
|
|
| |
Class A - voting common units, 50 units issued and outstanding, net of deemed dividend |
| 18 |
| |
Class B - non-voting common units, 950 units issued and outstanding |
| 356 |
| |
Preferred units, 29,981 units issued and outstanding, net of deemed dividend |
| 26,977 |
| |
Net earnings |
| 7,500 |
| |
Preferred unit holder return payable |
| (7,500 | ) | |
Distribution to preferred unit holders |
| (11,571 | ) | |
Balance at December 31, 2001 |
| $ | 15,780 |
|
Net earnings |
| 4,941 |
| |
Preferred unit holder return payable |
| (4,941 | ) | |
Distribution to preferred unit holders |
| (1,556 | ) | |
Balance at December 31, 2002 |
| $ | 14,224 |
|
The accompanying notes are an integral part of these financial statements.
90
M-FOODS DAIRY, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
(in thousands)
|
| Company |
| Predecessor |
| ||||||||
|
| Year ended |
| Nine months |
| Three months |
| Year ended |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
| ||||
Net earnings |
| $ | 4,941 |
| $ | 7,500 |
| $ | 2,963 |
| $ | 2,726 |
|
Adjustments to reconcile net earnings to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
| ||||
Depreciation |
| 2,003 |
| 1,248 |
| 329 |
| 1,336 |
| ||||
Amortization of intangibles |
| — |
| 37 |
| 26 |
| 104 |
| ||||
Deferred income taxes |
| — |
| — |
| 38 |
| 150 |
| ||||
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
| ||||
Accounts receivable |
| (1,301 | ) | 6,438 |
| (6,647 | ) | 590 |
| ||||
Inventories |
| 180 |
| (777 | ) | (531 | ) | 476 |
| ||||
Prepaid expenses and other |
| (104 | ) | (424 | ) | 22 |
| 342 |
| ||||
Accounts payable |
| 224 |
| (453 | ) | 1,103 |
| (381 | ) | ||||
Accrued liabilities |
| 201 |
| (235 | ) | 257 |
| (1,443 | ) | ||||
Net cash provided by (used in) operating activities |
| 6,144 |
| 13,334 |
| (2,440 | ) | 3,900 |
| ||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
| ||||
Capital expenditures |
| (4,449 | ) | (1,770 | ) | (3,664 | ) | (3,181 | ) | ||||
Other assets |
| (139 | ) | — |
| — |
| — |
| ||||
Net cash used in investing activities |
| (4,588 | ) | (1,770 | ) | (3,664 | ) | (3,181 | ) | ||||
|
|
|
|
|
|
|
|
|
| ||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
| ||||
Additional capital invested |
| — |
| — |
| 6,111 |
| — |
| ||||
Dividends paid |
| (1,556 | ) | (11,571 | ) | — |
| (719 | ) | ||||
Net cash provided by (used in) financing activities |
| (1,556 | ) | (11,571 | ) | 6,111 |
| (719 | ) | ||||
Net increase in cash and equivalents |
| — |
| (7 | ) | 7 |
| — |
| ||||
Cash at beginning of period |
| — |
| 7 |
| — |
| — |
| ||||
Cash at end of period |
| $ | — |
| $ | — |
| $ | 7 |
| $ | — |
|
During the year ended December 31, 2002 and the nine months ended December 31, 2001, the Company recorded a non-cash guaranteed preferred unit holder return payable equal to the net earnings for the period, which reduced unit holder equity by a like amount.
The accompanying notes are an integral part of these financial statements.
91
M–FOODS DAIRY, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
NOTE A – ORGANIZATION, BUSINESS AND MERGER
Organization
M-Foods Dairy, LLC (the “Company”) is a majority owned subsidiary of Michael Foods, Inc., a wholly owned subsidiary of M-Foods Holdings, Inc. Prior to the Merger described below, Kohler Mix — MN (the “Predecessor,” “Operating Unit” or the “Unit”) was an operating unit of Michael Foods, Inc. The change in control of Michael Foods, Inc. and the reorganization of the operating unit into M-Foods Dairy, LLC are more fully described below.
Business
The Company processes and distributes soft serve ice cream mix, frozen yogurt mix, milk and specialty dairy products, many of which are ultra-high temperature pasteurized, from its facility in Minnesota.
Merger
On April 10, 2001, Michael Foods, Inc. and its subsidiaries (“Michael Foods”) was acquired in a transaction (the “Merger”) led by an investor group comprised of a management group led by Michael Foods’ Chairman, President and Chief Executive Officer, Gregg Ostrander, affiliates of Jeffrey Michael, a member of the Predecessor Board of Directors, and affiliates of two private equity investment firms, Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated, collectively, M-Foods Investors, LLC. Under the terms of the Merger agreement, all outstanding shares of Michael Foods common stock were converted into the right to receive $30.10 per share in cash, or value equal thereto, and all outstanding stock options were converted into the right to receive, in cash, $30.10 per share reduced by the exercise price per share for all shares subject to such stock options. The purchase of the outstanding shares was financed through new equity financing of approximately $175,000,000, a senior secured credit facility of up to $470,000,000 at market-based variable interest rates, and $200,000,000 of senior subordinated notes at an 11.75% annual interest rate.
Immediately after the close of the Merger, Michael Foods contributed the assets of its Dairy Products Division into two limited liability corporations, M-Foods Dairy, LLC and M-Foods Dairy TXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received voting preferred and voting common units from these entities equal to the fair value of the net assets contributed, which collectively were approximately $35,800,000 (the approximate fair value contributed to M-Foods Dairy, LLC was $26,850,000). The preferred units issued to Michael Foods have an annual 10% preferred return guarantee and represent 100% of the preferred units issued and outstanding. In addition, Michael Foods received 5% of the common units issued by each of the Dairy LLCs with the common units held by Michael Foods representing 100% of the voting common units issued and outstanding. These common units have a stated value of $25,000. The remaining 95% of the common units, which are non-voting, are owned by M-Foods Dairy Holdings, LLC, which is owned by the same owners, or affiliates of such owners, in the same proportion, as the unit holders of M-Foods Investors, LLC. The Dairy LLCs common unit interest owned by M-Foods Dairy Holdings, LLC was purchased for $475,000 as of April 1, 2001.
92
Following the Merger, Michael Foods, Inc. became an indirect wholly-owned subsidiary of M-Foods Investors, LLC and M-Foods Dairy LLC became a majority owned subsidiary of Michael Foods, Inc.
The Merger was accounted for as a purchase in accordance with Accounting Principles Board Opinion 16, Business Combinations and EITF 88-16, Basis in Leveraged Buyout Transactions. Accordingly, the acquired assets and liabilities were recorded at fair value for the interests acquired by new investors and at the carryover basis for continuing investors. As a result, the assets and liabilities were assigned new values, which are part Predecessor cost and part fair value, in the same proportions as the carryover basis of the residual interests retained by the continuing management investors and continuing affiliate investors of the Michael family and the new interests acquired by the new investors. The deemed dividend related to the Michael Foods investment in the assets and liabilities of the Dairy LLCs was pushed down to these majority owned subsidiaries, as if they were wholly owned subsidiaries since Michael Foods owns all of the voting stock and the Dairy LLCs are being operated by the management of Michael Foods. The amount of the deemed dividend at Michael Foods was $66,631,000.
For ease of presentation, the Merger has been reflected in the accompanying financial statements as if it had occurred on April 1, 2001. Management determined that no material transactions occurred during the period from April 1 through April 9, 2001. The Company’s financial statements have been presented on a comparative basis with the Predecessor’s historical operating unit financial statements, prior to the date of Merger. Different bases of accounting have been used to prepare the Company and Predecessor financial statements. The primary differences relate to the 10% yield on preferred units, depreciation and amortization of fixed assets and other intangible assets recorded at fair value at the date of acquisition, and income taxes which are payable by the Company’s unit holders.
The fair value contributed by Michael Foods to M-Foods Dairy, LLC was $26,850,000. In addition, $356,250 was contributed by new investors in exchange for Class B non-voting common units. This combined amount was allocated to the acquired assets and liabilities based on their fair values at April 1, 2001, net of the deemed dividend. The fair values of long-term assets were obtained from a valuation report issued by a third party appraisal firm. The allocations were as follows:
Working capital |
| $ | 10,426 |
|
Property, plant & equipment |
| 15,135 |
| |
Other assets, including goodwill |
| 3,962 |
|
93
The following unaudited pro forma net sales and net earnings for the year ended December 31, 2001 include results for the three months ended March 31, 2001, which were derived from the application of pro forma adjustments to the Predecessor’s historical statement of earnings, and assumes the Merger had occurred on January 1, 2001. The pro forma net earnings for the year ended December 31, 2001 are also adjusted for goodwill amortization determined in accordance with the provisions of SFAS 142 (see Note B). The net sales and net earnings for the year ended December 31, 2002 represent actual results for the period.
|
| Year ended |
| Year ended |
| ||
|
| (in thousands) |
| ||||
Net sales |
| $ | 105,299 |
| $ | 87,595 |
|
Earnings before income taxes |
| 4,941 |
| 12,435 |
| ||
The most significant of the pro forma adjustments reflected in the above amounts were to record additional amortization charges resulting from increased intangible assets. The pro forma financial information should be read in conjunction with the related historical information and is not necessarily indicative of the results that would have been obtained had the transaction actually taken place at the beginning of the periods presented.
NOTE B – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements as of December 31, 2000 and the year then ended and for the three months ended March 31, 2001 have been taken from the historical books and records of the Predecessor. The respective Statements of Earnings include an allocation of general and administrative costs incurred by Michael Foods and allocations from this Operating Unit to the other Dairy LLC operating unit, M-Foods Dairy TXCT, LLC. Management believes its allocations to, and between, these Operating Unit financial statements are reasonable. Additionally, Predecessor Operating Unit equity includes the cumulative net advances between the Operating Unit and Michael Foods, which are considered additional capital invested from, or constructive dividends to, Michael Foods. Accordingly, the accompanying financial statements may not necessarily be indicative of the results that could have been obtained if the Operating Unit had been operated as a stand-alone entity.
The Company adopted the accounting policies of the Predecessor.
Use of Estimates
Preparation of the accompanying financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, related revenues and expenses and disclosure about contingent assets and liabilities at the date of the financial statements. Actual results could differ from the estimates used by management.
94
Accounts Receivable
The company grants credit to customers in the normal course of business, but generally does not require collateral or any other security to support amounts due. Management performs on-going credit evaluations of customers. The company maintains an allowance for potential credit losses which, when realized, have been within management’s expectations. The allowance was $255,000 and $200,000 at December 31, 2002 and 2001.
Inventories
Inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market. Inventories consisted of the following at December 31 (in thousands):
|
| 2002 |
| 2001 |
| ||
Raw materials and supplies |
| $ | 1,682 |
| $ | 1,625 |
|
Work in process and finished goods |
| 1,730 |
| 1,967 |
| ||
|
| $ | 3,412 |
| $ | 3,592 |
|
Property, Plant and Equipment
Depreciation is provided in amounts sufficient to relate the cost of depreciable assets to operations over their estimated service lives, principally on the straight-line basis. Estimated service lives range from 10-40 years for buildings and improvements and 3-10 years for machinery and equipment. Accelerated and straight-line methods are used for income tax purposes.
Goodwill
In June 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations,” and SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS 141 eliminates the pooling-of-interests method of accounting for business combinations, requiring that all business combinations initiated after June 30, 2001 be accounted for using the purchase method. SFAS 142 provides that goodwill is no longer amortized, but rather is reviewed for impairment at least annually and more frequently in certain circumstances using a two-step process.
In October 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment of Disposal of Long-Lived Assets.” This statement addresses financial accounting and reporting for the impairment of long-lived assets and for long-lived assets to be disposed of and supercedes SFAS 121. SFAS 144 does, however, retain the fundamental provisions of SFAS 121 for the recognition and measurement of the impairment of long-lived assets to be held and used and the measurement of long-lived assets to be disposed of by sale.
95
As of January 1, 2002, we adopted SFAS 142 and 144. The affect of adopting SFAS 142 was to reduce amortization expense by approximately $50,000 for the year ended December 31, 2002. As a result of adopting these standards, our accounting policies for goodwill and intangible assets changed effective January 1, 2002 as described below:
We recognize the excess cost of an acquired entity over the net amount assigned to assets acquired, including intangible assets with indefinite lives, and liabilities assumed, as goodwill. Goodwill and intangible assets with indefinite lives will be tested for impairment on an annual basis and between annual tests whenever there is an impairment indicated. Impairment losses will be recognized whenever the implied fair value is less than the carrying value of the related asset. Prior to January 1, 2002, goodwill and intangible assets with indefinite lives were amortized over 40 years. Beginning January 1, 2002, goodwill and intangible assets with indefinite lives are no longer amortized.
The adoption of SFAS 141 and 144 did not affect our financial position or result of operations. During the second quarter of fiscal 2002 pursuant to SFAS 142, we completed the transitional impairment test of goodwill with no impairment indicated at January 1, 2002. During the fourth quarter of 2002 pursuant to SFAS 142, we completed the annual impairment test of goodwill with no impairment indicated. Our carrying amount for goodwill as of December 31, 2002 and 2001 was $1,763,000.
The following table presents a reconciliation of net earnings (loss), as reported in the financial statements, to those amounts adjusted for goodwill and intangible amortization determined in accordance with the provisions of SFAS 142.
|
| Year |
| Nine months |
| Three months |
| |||
|
| (Company) |
| (Predecessor) |
| |||||
Reported net earnings |
| $ | 4,941,000 |
| $ | 7,500,000 |
| $ | 2,963,000 |
|
Add back: goodwill amortization |
| — |
| 37,000 |
| 26,000 |
| |||
Adjusted net earnings |
| $ | 4,941,000 |
| $ | 7,537,000 |
| $ | 2,989,000 |
|
Revenue Recognition
Sales are recognized when goods are shipped to customers and are recorded net of estimated customer programs and returns.
96
NOTE C – SETTLEMENT OF RECALL INSURANCE CLAIM
During the three months ended March 31, 2001, the Unit settled its insurance claim related to a product recall, which occurred in early 1999. The settlement reimbursed the Unit for recall related costs incurred as well as a partial reimbursement for lost business as a result of the recall.
NOTE D – INCOME TAXES
Company
For income tax purposes the Company is a pass-through entity and, therefore, income taxes have not been reflected in the Company’s financial statements.
Predecessor
The activity of the Operating Unit has been included in the income tax return of Michael Foods, Inc. for financial reporting purposes. The Unit has been allocated a provision for income taxes in an amount generally equivalent to the provision that would have resulted had the Unit filed a separate income tax return.
NOTE E – EMPLOYEE RETIREMENT PLANS
Full-time non-union employees who meet certain service requirements are eligible to participate in a defined contribution retirement plan of Michael Foods, Inc. Under the Plan, the Company matches up to 4% of each participant’s eligible compensation. The Company’s union employees are also covered by a defined benefit plan sponsored by the Company. Company contributions under these plans for the year ended December 31, 2002 were $173,000 and for the nine months ended December 31, 2001 were $105,000. The Predecessor’s contributions related to the Unit’s eligible employees totaled $190,000 for the year ended December 31, 2000 and $48,000 for the three months ended March 31, 2001.
NOTE F – COMMITMENTS AND CONTINGENCIES
Leases
The Company leases certain equipment and property under operating lease agreements expiring at various dates through 2004. Rent expense for the Company totaled $669,000 for the year ended December 31, 2002 and $689,000 for the nine months ended December 31, 2001. Rent expense for the Predecessor totaled $527,000 for the year ended December 31, 2000 and $146,000 for the three months ended March 31, 2001.
Minimum future lease obligations under these operating leases are as follows for the years ending December 31 (in thousands):
2003 |
| $ | 313 |
2004 |
| 287 |
97
Litigation
The Company is engaged in routine litigation incidental to its business. Management believes the ultimate outcome of this litigation will not have a material effect on the Company’s financial position, liquidity or results of operations.
NOTE G – UNIT HOLDER RETURN PREFERENCES
The income or loss resulting from the Company’s operations will be allocated as follows:
• Losses will first be allocated to the common unit holders to the extent of their capital accounts. The maximum loss allocation is, therefore, limited to $375,000 which would be allocated $18,750 to Michael Foods, Inc. and $356,250 to the non-voting common unit holders; thereafter, all losses are allocated to Michael Foods, Inc.;
• The Company’s income will be allocated to Michael Foods, Inc. until all preferred units and return on preferred units of both Dairy LLCs have been recovered. The Dairy LLC’s combined preferred units have a value of approximately $26,850,000 and earn the greater of a 10% cumulative return on the capital contribution or the Company’s net earnings through the second anniversary of the agreement and a 10% cumulative return thereafter. The preferred unit holder return payable as of December 31, 2002 and December 31, 2001, respectively, was $12,442,000 and $7,500,000, which represents the cumulative net earnings for the periods;
• Income in excess of the preferred unit amount and preferred unit return is distributed, subject to various limitations, to the common unit holders. Michael Foods, Inc. will receive 5% of this income, for their portion of the common units outstanding and the other common unit holders will receive 95%. The other common unit holders are permitted to keep an amount of this distribution equal to the tax due on the income they receive. Any additional distribution, in excess of the taxes due, must be contributed in exchange for capital stock of M-Foods Holdings, Inc. until such time as all of the revolving credit facility, term loans A and B, and senior subordinated notes have been repaid;
• In the event the Company is sold while Michael Foods, Inc.’s revolving credit facility, senior term loans A and B or subordinated debt is outstanding, the gain or loss on the sale will follow the allocation methods described above and gains must be contributed in exchange for capital stock of M-Foods Holdings, Inc. until all of the revolving credit facility, term loans A and B, and senior subordinated notes have been retired. The total amount of Michael Foods, Inc. outstanding debt subject to this distribution restriction was approximately $500,000,000 and $548,000,000 at December 31, 2002 and 2001, respectively.
98
NOTE H – STOCK OPTION PLANS
Certain officers and employees of the Predecessor participated in various stock option plans sponsored by the Michael Foods Predecessor. The Michael Foods Predecessor followed Accounting Principal Board No. 25 (“APB 25”) in accounting for stock options issued under its plans. Under APB 25, no compensation expense was recognized by the Michael Foods Predecessor related to the Unit’s officers or employees for any of the periods presented. At the time of the Merger, all stock options issued and outstanding under these plans vested and were retired. For information related to the Michael Foods Predecessor’s stock option plans, refer to Note I of its financial statements contained elsewhere in this document.
NOTE I – SIGNIFICANT CUSTOMERS
Sales to one customer accounted for approximately 10% of net sales for the year ended December 31, 2002. Sales to two customers accounted for approximately 12% and 12% of net sales for the year ended December 31, 2001. Sales to one customer accounted for approximately 15% of net sales for the year ended December 31, 2000.
99
Report of Independent Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
In our opinion, the accompanying consolidated balance sheet and the related consolidated statements of operations, of unit holder and operating unit equity and of cash flows present fairly, in all material respects, the financial position of M-Foods Dairy TXCT, LLC (the Company), a majority-owned subsidiary of Michael Foods, Inc. at December 31, 2002, and the results of its operations and its cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
The financial statements of the Company as of December 31, 2001 and for the nine months then ended were audited by other independent certified public accountants whose report, dated February 8, 2002, expressed an unqualified opinion on those statements.
The financial statements of Kohler Mix-TXCT (the Predecessor) for the three months ended March 31, 2001 and for the year ended December 31, 2000 were audited by other independent certified public accountants whose report, dated May 15, 2001, expressed an unqualified opinion on those statements.
|
Minneapolis, Minnesota
February 18, 2003
100
Report of Independent Certified Public Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the accompanying balance sheet of M-Foods Dairy TXCT, LLC (a majority owned subsidiary of Michael Foods, Inc.) as of December 31, 2001 and the related statements of operations, unit holder and operating unit equity, and cash flows for the nine months then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of M-Foods Dairy TXCT, LLC (a majority owned subsidiary of Michael Foods, Inc.) as of December 31, 2001, and the results of its operations and its cash flows for the nine months then ended in conformity with accounting principles generally accepted in the United States of America.
|
Minneapolis, Minnesota
February 8, 2002
101
Report of Independent Certified Public Accountants
BOARD OF DIRECTORS
MICHAEL FOODS, INC.
We have audited the statements of operations, unit holder and operating unit equity, and cash flows of Kohler Mix – TXCT (an operating unit of Michael Foods, Inc.) (the “Predecessor”) for the year ended December 31, 2000 and the three months ended March 31, 2001. These financial statements are the responsibility of the Predecessor’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Kohler Mix – TXCT (an operating unit of Michael Foods, Inc.) for the year ended December 31, 2000 and for the three months ended March 31, 2001, in conformity with accounting principles generally accepted in the United States of America.
|
Minneapolis, Minnesota
May 15, 2001
102
M-FOODS DAIRY TXCT, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
(in thousands)
|
| December 31, |
| December 31, |
| ||
ASSETS |
|
|
|
|
| ||
CURRENT ASSETS |
|
|
|
|
| ||
Accounts receivable |
| $ | 4,399 |
| $ | 5,765 |
|
Inventories |
| 4,019 |
| 3,315 |
| ||
Prepaid expenses and other |
| 65 |
| 52 |
| ||
Total current assets |
| 8,483 |
| 9,132 |
| ||
PROPERTY, PLANT AND EQUIPMENT |
|
|
|
|
| ||
Leasehold improvements |
| 3,176 |
| 3,023 |
| ||
Machinery and equipment |
| 11,792 |
| 9,997 |
| ||
|
| 14,968 |
| 13,020 |
| ||
Less accumulated depreciation |
| 3,588 |
| 1,494 |
| ||
|
| 11,380 |
| 11,526 |
| ||
OTHER ASSETS |
|
|
|
|
| ||
Non-compete agreement, net |
| 529 |
| 1,058 |
| ||
|
| $ | 20,392 |
| $ | 21,716 |
|
|
|
|
|
|
| ||
LIABILITIES AND UNIT HOLDER AND OPERATING UNIT EQUITY |
|
|
|
|
| ||
CURRENT LIABILITIES |
|
|
|
|
| ||
Current maturities of non-compete commitment |
| $ | 2,400 |
| $ | 2,400 |
|
Accounts payable |
| 2,873 |
| 3,342 |
| ||
Accrued liabilities: |
|
|
|
|
| ||
Compensation |
| 250 |
| 292 |
| ||
Insurance |
| 1 |
| 37 |
| ||
Customer programs |
| 240 |
| 200 |
| ||
Other |
| 555 |
| 447 |
| ||
Total current liabilities |
| 6,319 |
| 6,718 |
| ||
NON-COMPETE COMMITMENT, less current maturities |
| — |
| 2,400 |
| ||
COMMITMENTS AND CONTINGENCIES |
| — |
| — |
| ||
PREFERRED UNIT HOLDER RETURN PAYABLE |
| 4,728 |
| 688 |
| ||
UNIT HOLDER AND OPERATING UNIT EQUITY |
| 9,345 |
| 11,910 |
| ||
|
| $ | 20,392 |
| $ | 21,716 |
|
The accompanying notes are an integral part of these financial statements.
103
M-FOODS DAIRY TXCT, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
STATEMENTS OF OPERATIONS
(in thousands)
|
| Company |
| Predecessor |
| ||||||||
|
| Year |
| Nine Months |
| Three Months |
| Year |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net sales |
| $ | 85,360 |
| $ | 80,643 |
| $ | 17,644 |
| $ | 73,814 |
|
Cost of sales |
| 77,477 |
| 77,110 |
| 17,108 |
| 70,447 |
| ||||
Gross profit |
| 7,883 |
| 3,533 |
| 536 |
| 3,367 |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Selling, general and administrative expenses |
| 3,830 |
| 3,367 |
| 1,712 |
| 7,412 |
| ||||
Operating profit (loss) |
| 4,053 |
| 166 |
| (1,176 | ) | (4,045 | ) | ||||
|
|
|
|
|
|
|
|
|
| ||||
Other income (expense) |
| (13 | ) | 53 |
| — |
| — |
| ||||
Earnings (loss) before income taxes |
| 4,040 |
| 219 |
| (1,176 | ) | (4,045 | ) | ||||
Income tax expense (benefit) |
| — |
| — |
| (447 | ) | (1,537 | ) | ||||
|
|
|
|
|
|
|
|
|
| ||||
NET EARNINGS (LOSS) |
| 4,040 |
| 219 |
| $ | (729 | ) | $ | (2,508 | ) | ||
Preferred stock dividends |
| (4,040 | ) | (688 | ) |
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net earnings (loss) attributable to common unit holders |
| $ | — |
| $ | (469 | ) |
|
|
|
|
The accompanying notes are an integral part of these financial statements.
104
M-Foods Dairy TXCT, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
STATEMENTS OF UNIT HOLDER AND OPERATING UNIT EQUITY
(in thousands)
| ||||
| ||||
|
|
| ||
|
| |||
|
|
| ||
|
| |||
|
| |||
|
|
| ||
|
|
| ||
| ||||
| ||||
|
|
| ||
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The accompanying notes are an integral part of these financial statements.
105
M-Foods Dairy TXCT, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
STATEMENTS OF CASH FLOWS
(in thousands)
|
| Company |
| Predecessor |
| ||||||||
|
| Year |
| Nine Months |
| Three Months |
| Year |
| ||||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
| ||||
Net earnings (loss) |
| $ | 4,040 |
| $ | 219 |
| $ | (729 | ) | $ | (2,508 | ) |
Adjustments to reconcile net loss to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
| ||||
Depreciation |
| 2,094 |
| 1,494 |
| 417 |
| 1,284 |
| ||||
Amortization |
| 529 |
| 340 |
| 500 |
| 2,000 |
| ||||
Deferred income taxes |
| — |
| — |
| (17 | ) | (68 | ) | ||||
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
| ||||
Accounts receivable |
| 1,366 |
| 5,515 |
| (244 | ) | (1,220 | ) | ||||
Inventories |
| (704 | ) | 195 |
| (1,090 | ) | 27 |
| ||||
Prepaid expenses and other |
| (13 | ) | 1 |
| 3 |
| (3 | ) | ||||
Accounts payable |
| (469 | ) | (796 | ) | 1,005 |
| (69 | ) | ||||
Accrued liabilities |
| 70 |
| 90 |
| 124 |
| 184 |
| ||||
Net cash provided by (used in) operating activities |
| 6,913 |
| 7,058 |
| (31 | ) | (373 | ) | ||||
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
| ||||
Capital expenditures |
| (1,948 | ) | (4,040 | ) | (2,250 | ) | (6,384 | ) | ||||
Net cash used in investing activities |
| (1,948 | ) | (4,040 | ) | (2,250 | ) | (6,384 | ) | ||||
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
| ||||
Payments on non-compete commitment |
| (2,400 | ) | (2,400 | ) | — |
| (2,400 | ) | ||||
Additional capital invested |
| — |
| — |
| 2,281 |
| 9,157 |
| ||||
Dividends paid |
| (2,565 | ) | (618 | ) | — |
| — |
| ||||
Net cash provided by (used in) financing activities |
| (4,965 | ) | (3,018 | ) | 2,281 |
| 6,757 |
| ||||
Net decrease in cash |
| — |
| — |
| — |
| — |
| ||||
Cash at beginning of period |
| — |
| — |
| — |
| — |
| ||||
Cash at end of period |
| $ | — |
| $ | — |
| $ | — |
| $ | — |
|
During the year ended December 31, 2002 and the nine months ended December 31, 2001, the Company recorded a non-cash guaranteed preferred unit holder return payable of $4,040 and $688 representing the net earnings and 10% guaranteed preferred unit holder return, respectively, which reduced unit holder equity by a like amount.
In conjunction with the purchase of the Connecticut facility during 1999, the company recorded a non-compete agreement of $12,000 and a related non-compete commitment for $12,000 of which $2,400 was paid in 2002, 2001 and 2000. (See Note D).
The accompanying notes are an integral part of these financial statements.
106
M-FOODS DAIRY TXCT, LLC
(A Majority Owned Subsidiary of Michael Foods, Inc.)
NOTES TO FINANCIAL STATEMENTS
NOTE A – ORGANIZATION, BUSINESS AND MERGER
Organization
M-Foods Dairy TXCT, LLC (the “Company”) is a majority owned subsidiary of Michael Foods, Inc., a wholly owned subsidiary of M-Foods Holdings, Inc. Prior to the Merger described below, Kohler Mix – TXCT (the “Predecessor,” “Operating Unit” or the “Unit”) was an operating unit of Michael Foods, Inc. The change in control of Michael Foods, Inc. and the reorganization of the operating unit into M-Foods Dairy TXCT, LLC are more fully described below.
Business
The Company processes and distributes soft serve ice cream mix, frozen yogurt mix, milk and specialty dairy products, many of which are ultra-high temperature pasteurized, from its facilities in Texas and Connecticut.
Merger
On April 10, 2001, Michael Foods, Inc. and its subsidiaries (“Michael Foods”) was acquired in a transaction (the “Merger”) led by an investor group comprised of a management group led by Michael Foods’ Chairman, President and Chief Executive Officer, Gregg Ostrander, affiliates of Jeffrey Michael, a member of the Predecessor Board of Directors, and affiliates of two private equity investment firms, Vestar Capital Partners and Goldner Hawn Johnson & Morrison Incorporated, collectively, M-Foods Investors, LLC. Under the terms of the Merger agreement, all outstanding shares of Michael Foods common stock were converted into the right to receive $30.10 per share in cash, or value equal thereto, and all outstanding stock options were converted into the right to receive, in cash, $30.10 per share reduced by the exercise price per share for all shares subject to such stock options. The purchase of the outstanding shares was financed through new equity financing of approximately $175,000,000, a senior secured credit facility of up to $470,000,000 at market-based variable interest rates, and $200,000,000 of senior subordinated notes at an 11.75% annual interest rate.
Immediately after the close of the Merger, Michael Foods contributed the assets of its Dairy division into two limited liability corporations, M-Foods Dairy, LLC and M-Foods Dairy TXCT, LLC (collectively, the “Dairy LLCs”) and in exchange received voting preferred and voting common units from these entities equal to the fair value of the net assets contributed, which collectively were approximately $35,800,000 (the approximate fair value contributed to M-Foods Dairy TXCT, LLC was $8,950,000). The preferred units issued to Michael Foods have an annual 10% preferred return guarantee and represent 100% of the preferred units issued and outstanding. In addition, Michael Foods received 5% of the common units issued by each of the Dairy LLCs with the common units held by Michael Foods representing 100% of the voting common units issued and outstanding. These common units have a stated value of $25,000. The remaining 95% of the common units, which are non-voting, are owned by M-Foods Dairy Holdings, LLC, which is owned by the same owners, or affiliates of such owners, in the same proportion, as the unit holders of M-Foods Investors, LLC. The Dairy LLCs common unit interest owned by M-Foods Dairy Holdings, LLC was purchased for $475,000 as of April 1, 2001.
107
Following the Merger, Michael Foods, Inc. became an indirect wholly-owned subsidiary of M-Foods Investors, LLC and M-Foods Dairy TXCT, LLC became a majority owned subsidiary of Michael Foods, Inc.
The Merger was accounted for as a purchase in accordance with Accounting Principles Board Opinion 16, Business Combinations and EITF 88-16, Basis in Leveraged Buyout Transactions. Accordingly, the acquired assets and liabilities were recorded at fair value for the interests acquired by new investors and at the carryover basis for continuing investors.
As a result, the assets and liabilities were assigned new values, which are part Predecessor cost and part fair value, in the same proportions as the carryover basis of the residual interests retained by the continuing management investors and continuing affiliate investors of the Michael family and the new interests acquired by the new investors. The deemed dividend related to the Michael Foods investment in the assets and liabilities of the Dairy LLCs was pushed down to these majority owned subsidiaries, as if they were wholly owned subsidiaries since Michael Foods owns all of the voting stock and the Dairy LLCs are being operated by the management of Michael Foods. The amount of the deemed dividend at Michael Foods was $66,631,000. However, the historical cost basis equity of the continuing investors of the Company was $21,623,000, which exceeded the Company’s fair market value by $12,673,000. This resulted in an allocation of carryover basis in excess of the fair market value of the Company in the amount of $3,928,000.
For ease of presentation, the Merger has been reflected in the accompanying financial statements as if it had occurred on April 1, 2001. Management determined that no material transactions occurred during the period from April 1 through April 9, 2001. The Company’s financial statements have been presented on a comparative basis with the Predecessor’s historical operating unit financial statements, prior to the date of Merger. Different bases of accounting have been used to prepare the Company and Predecessor financial statements. The primary differences relate to the 10% yield on preferred units, depreciation and amortization of fixed assets and other intangible assets recorded at fair value at the date of acquisition, and income taxes which are payable by the Company’s unit holders.
The fair value contributed by Michael Foods to M-Foods Dairy TXCT, LLC was $8,950,000 and this amount, plus an additional carryover basis of $3,928,000, was allocated to the acquired assets and liabilities based on their fair values at April 1, 2001. In addition, $118,750 was contributed by new investors in exchange for Class B - non voting common units. The fair values of long-term assets were obtained from a valuation report issued by a third party appraisal firm. The allocations were as follows:
Working capital |
| $ | 7,420 |
|
Property, plant & equipment |
| 8,980 |
| |
Other assets |
| 1,397 |
| |
Long-term non-compete commitment |
| 4,800 |
|
108
The unaudited pro forma revenue and pre-tax net earnings for the year ended December 31, 2001, which assumes the Merger had occurred on January 1, 2001, are derived by combining the application of the pro forma adjustments to the Predecessor’s historical statement of earnings for the three months ended March 31, 2001, with the Company’s actual results for the nine months ended December 31, 2001. The net sales and net earnings for the year ended December 31, 2002 represent actual results for the period.
|
| Year ended |
| Year ended |
| ||
|
| (in thousands) |
| ||||
Revenue |
| $ | 85,360 |
| $ | 98,287 |
|
Earnings (loss) before income taxes |
| 4,040 |
| (351 | ) | ||
The most significant of the pro forma adjustments reflected in the above amounts were to record a reduction in depreciation and amortization charges resulting from write-down of long-term assets. The pro forma financial information should be read in conjunction with the related historical information and is not necessarily indicative of the results that would have been obtained had the transaction actually taken place at the beginning of the periods presented.
NOTE B – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements as of December 31, 2000 and for the year then ended and for the three months ended March 31, 2001 have been taken from the historical books and records of the Predecessor. The respective Statements of Operations include an allocation of general and administrative costs incurred by Michael Foods and allocations to this Operating Unit from the other Dairy LLC operating unit, M-Foods Dairy, LLC. Management believes its allocations to, and between, these Operating Unit financial statements are reasonable. Additionally, Predecessor Operating Unit equity includes the cumulative net advances between the Operating Unit and Michael Foods, which are considered additional capital invested from, or constructive dividends to, Michael Foods. Accordingly, the accompanying financial statements may not necessarily be indicative of the results that could have been obtained if the Operating Unit had been operated as a stand-alone entity.
The Company adopted the accounting policies of the Predecessor.
Use of Estimates
Preparation of the accompanying financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, related revenues and expenses and disclosure about contingent assets and liabilities at the date of the financial statements. Actual results could differ from the estimates used by management.
109
Accounts Receivable
The company grants credit to customers in the normal course of business, but generally does not require collateral or any other security to support amounts due. Management performs on-going credit evaluations of customers. The company considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is provided. If amounts become uncollectible, they will be charged to operations when that determination is made.
Inventories
Inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market. Inventories consisted of the following at December 31 (in thousands):
|
| 2002 |
| 2001 |
| ||
Raw materials and supplies |
| $ | 3,014 |
| $ | 1,880 |
|
Work in process and finished goods |
| 1,005 |
| 1,435 |
| ||
|
| $ | 4,019 |
| $ | 3,315 |
|
Property, Plant and Equipment
Depreciation is provided in amounts sufficient to relate the cost of depreciable assets to operations over their estimated service lives, principally on the straight-line basis. Estimated service lives range from 3-10 years for machinery and equipment. Leasehold improvements are amortized over the shorter of the lease term or the useful life of the improvement. Accelerated and straight-line methods are used for income tax purposes.
Revenue Recognition
Sales are recognized when goods are shipped to customers and are recorded net of estimated customer programs and returns.
NOTE C – INCOME TAXES
Company
For income tax purposes the Company is a pass through entity, therefore, income taxes have not been reflected on the Company’s financial statements.
Predecessor
The activity of the Operating Unit has been included in the income tax return of Michael Foods, Inc. for financial reporting purposes. The Unit has been allocated a provision for income taxes in an amount generally equivalent to the provision that would have resulted had the Unit filed a separate income tax return.
110
NOTE D – NON-COMPETE AGREEMENT AND COMMITMENT
During 1999, as part of the consideration for its Connecticut dairy asset purchase, the Operating Unit entered into a $12,000,000 non-compete agreement. Under the agreement, the Operating Unit agreed to make five annual $2,400,000 payments beginning in 1999. The total remaining commitment at December 31, 2002 and 2001 was $2,400,000 and $4,800,000, respectively.
Our acquired intangible non-compete asset that has been determined to have a definite life and continues to be amortized as of December 31, 2002 is as follows:
|
| Gross Carrying |
| Accumulated |
| ||
Non-compete |
| $ | 1,398,000 |
| $ | (869,000 | ) |
The aggregate amortization expense for the year ended December 31, 2002 was approximately $529,000 and $340,000 for the nine months ended December 31, 2001. The Predecessor had amortization expense of approximately $500,000 during the three months ended March 31, 2001. The remaining amortization expense of $529,000 will be recorded in 2003. The non-compete will be fully amortized by December 31, 2003.
NOTE E – EMPLOYEE RETIREMENT PLAN
Full-time employees who meet certain service requirements are eligible to participate in a defined contribution retirement plan of Michael Foods, Inc. Under the Plan, the Company matches up to 4% of each participant’s eligible compensation. Company contributions under the plan for the year ended December 31, 2002 were $107,000 and for the nine months ended December 31, 2001 were $82,000. The Predecessor’s contributions related to the Unit’s eligible employees totaled $104,000 for the year ended December 31, 2000 and $33,000 for the three months ended March 31, 2001.
NOTE F – COMMITMENTS AND CONTINGENCIES
Leases
The Company leases certain equipment and property under operating lease agreements expiring at various dates through 2009. Rent expense, including real estate taxes and maintenance expenses, was approximately $2,621,000 for the year ended December 31, 2002 and $1,754,000 for the nine months ended December 31, 2001. Predecessor rent expense was $527,000 for the three months ended March 31, 2001 and $2,593,000 for the year ended December 31, 2000.
111
Minimum future lease obligations under these operating leases are as follows for the years ending December 31 (in thousands):
2003 |
| $ | 2,196 |
|
2004 |
| 2,196 |
| |
2005 |
| 1,410 |
| |
2006 |
| 1,177 |
| |
2007 |
| 914 |
| |
Thereafter |
| 982 |
|
Litigation
The Company is engaged in routine litigation incidental to its business. Management believes the ultimate outcome of this litigation will not have a material effect on the Company’s financial position, liquidity or results of operations.
NOTE G – UNIT HOLDER RETURN PREFERENCES
The income or loss resulting from the Company’s operations will be allocated as follows:
• Losses will first be allocated to the common unit holders to the extent of their capital accounts. The maximum loss allocation is, therefore, limited to $125,000 which would be allocated $6,250 to Michael Foods, Inc. and $118,750 to the non-voting common unit holders; thereafter, all losses are allocated to Michael Foods, Inc.;
• The Company’s income will be allocated to Michael Foods, Inc. until all preferred units and return on preferred units of both Dairy LLCs have been recovered. The Dairy LLC’s combined preferred units have a value of approximately $26,850,000 and earn the greater of a 10% cumulative return on the capital contribution or the Company’s net earnings through the second anniversary of the agreement and a 10% cumulative return thereafter. The preferred unit holder return payable as of December 31, 2002 and December 31, 2001, respectively, was $4,040,000 and $688,000, which represented the net earnings for 2002 and the 10% cumulative return for 2001;
• Income in excess of the preferred unit amount and preferred unit return is distributed, subject to various limitations, to the common unit holders. Michael Foods, Inc. will receive 5% of this income, for their portion of the common units outstanding and the other common unit holders will receive 95%. The other common unit holders are permitted to keep an amount of this distribution equal to the tax due on the income they receive. Any additional distribution, in excess of the taxes due, must be contributed in exchange for capital stock of M-Foods Holdings, Inc. until such time as all of the revolving credit facility, term loans A and B, and senior subordinated notes have been repaid;
• In the event the Company is sold while Michael Foods, Inc.’s revolving credit facility, senior term loans A and B or subordinated debt is outstanding, the gain or loss on the sale will follow the allocation methods described above and gains must be contributed in exchange for capital stock of M-Foods Holdings, Inc. until all of the revolving credit facility, term loans A and B, and senior subordinated notes have been retired. The total
112
amount of Michael Foods, Inc. outstanding debt subject to this distribution restriction is approximately $500,000,000 and $548,000,000 at December 31, 2002 and 2001, respectively.
NOTE H – STOCK OPTION PLANS
Certain officers and employees of the Predecessor participated in various stock option plans sponsored by the Michael Foods Predecessor. The Michael Foods Predecessor followed Accounting Principal Board No. 25 (“APB 25”) in accounting for stock options issued under its plans. Under APB 25, no compensation expense was recognized by the Michael Foods Predecessor related to the Unit’s officers or employees for any of the periods presented. At the time of the Merger, all stock options issued and outstanding under these plans vested and were retired. For information related to the Michael Foods Predecessor’s stock option plans, refer to Note I of its financial statements contained elsewhere in this document.
NOTE I – SIGNIFICANT CUSTOMERS
Sales to three customers accounted for approximately 28%, 18% and 18% of net sales for the year ended December 31, 2002 and 33%, 25% and 14% for the year ended December 31, 2001. Sales to two customers accounted for approximately 27% and 18% of net sales for the year ended December 31, 2000.
113