1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended SeptemberJune 30, 19981999
-------------------------------------------------
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________________ to ____________________________from____________ to___________________________________
Commission File Number: 0-15638
-----------------------------------------------------------------------------------------------------------------
MICHAEL FOODS, INC.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Minnesota 41-0498850
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Suite 324, Park National Bank Building
5353 Wayzata Boulevard
Minneapolis, MN, 55416
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip code)
(612) 546-1500
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] Yes [ ] NoX ]Yes [ ]No
The number of shares outstanding of the registrant's Common Stock, $.01
par value, as of November 2, 1998August 6, 1999 was 21,209,84820,249,624 shares.
1
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PART I - FINANCIAL INFORMATION
MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
=======================================================================================================
SeptemberJune 30, December 31,
ASSETS 1999 1998 1997
- ------ ------------- ------------------------- ------------
CURRENT ASSETS
Cash and equivalents $ 3,587,000699,000 $ 4,038,0002,047,000
Accounts receivable, less allowances 87,054,000 83,495,000101,522,000 97,639,000
Inventories 81,987,000 68,929,00079,881,000 74,250,000
Prepaid expenses and other 3,153,000 1,676,000
------------- -------------4,883,000 3,884,000
------------ ------------
Total current assets 175,781,000 158,138,000186,985,000 177,820,000
PROPERTY, PLANT AND EQUIPMENT-AT COST
Land 4,336,000 4,336,000
Buildings and improvements 102,071,000 99,023,000105,706,000 105,567,000
Machinery and equipment 318,543,000 274,980,000
------------- -------------
424,950,000 378,339,000366,557,000 328,067,000
------------ ------------
476,599,000 437,970,000
Less accumulated depreciation 182,363,000 160,800,000
------------- -------------
242,587,000 217,539,000204,572,000 187,759,000
------------ ------------
272,027,000 250,211,000
OTHER ASSETS
Goodwill, net 121,033,000 123,711,000
Other 4,171,000 4,267,000
------------- -------------
125,204,000 127,978,000
------------- -------------
$ 543,572,000 $ 503,655,000
============= =============118,450,000 120,172,000
Investments in Joint Ventures and other assets 23,840,000 3,313,000
------------ ------------
142,290,000 123,485,000
------------ ------------
$601,302,000 $551,516,000
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------
CURRENT LIABILITIES
Current maturities of long-term debt $ 9,521,0008,067,000 $ 8,509,00010,663,000
Accounts payable 49,136,000 46,910,00047,591,000 44,376,000
Accrued compensation 10,117,000 10,064,000
Accrued insurance 6,704,000 4,782,000
Discounts and allowances 20,756,000 15,217,000Liabilities
Compensation 8,414,000 11,034,000
Insurance 7,235,000 7,369,000
Customer programs 20,719,000 19,624,000
Other accrued expenses 19,818,000 17,868,000
------------- -------------26,606,000 23,457,000
------------ ------------
Total current liabilities 116,052,000 103,350,000118,632,000 116,523,000
LONG-TERM DEBT, less current maturities 153,942,000 137,519,000204,466,000 155,444,000
DEFERRED INCOME TAXES 35,873,000 33,540,00034,389,000 35,400,000
COMMITMENTS AND CONTINGENCIES -- --- -
SHAREHOLDERS' EQUITY
Common stock $.01 par value, 40,000,000 shares authorized,
shares issued 21,200,655 at September 30, 1998 and 21,816,098
at December 31, 1997 212,000 218,000202,000 211,000
Additional paid-in capital 122,295,000 140,188,000102,093,000 119,871,000
Retained earnings 115,198,000 88,840,000
------------- -------------
237,705,000 229,246,000
------------- -------------
$ 543,572,000 $ 503,655,000
============= =============
=======================================================================================================141,520,000 124,067,000
------------ ------------
243,815,000 244,149,000
------------ ------------
$601,302,000 $551,516,000
============ ============
See accompanying notes to condensed consolidated financial statements.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
Three Months Ended SeptemberJune 30, (Unaudited)
================================================================================
1998 1997
------------- -------------
Net sales $ 253,790,000 $ 245,868,000
Cost of sales 210,357,000 207,514,000
------------- -------------
Gross profit 43,433,000 38,354,000
Selling, general and administrative expenses 22,660,000 17,184,000
------------- -------------
Operating profit 20,773,000 21,170,000
Interest expense, net 2,637,000 2,673,000
------------- -------------
Earnings before income tax expense 18,136,000 18,497,000
Income tax expense 7,620,000 7,669,000
------------- -------------
NET EARNINGS $ 10,516,000 $ 10,828,000
============= =============
Earnings per share
Basic $ 0.49 $ 0.50
Diluted $ 0.48 $ 0.49
============= =============
Weighted average shares outstanding
Basic 21,627,000 21,583,000
Diluted 21,922,000 21,947,000
============= =============
================================================================================
1999 1998
------------ ------------
Net sales $258,031,000 $243,685,000
Cost of sales 207,892,000 199,231,000
------------ ------------
Gross profit 50,139,000 44,454,000
Selling, general and administrative expenses 27,432,000 22,371,000
------------ ------------
Operating profit 22,707,000 22,083,000
Interest expense, net 2,801,000 2,580,000
------------ ------------
Earnings before income taxes 19,906,000 19,503,000
Income tax expense 8,160,000 8,190,000
------------ ------------
NET EARNINGS $ 11,746,000 $ 11,313,000
============ ============
Net Earnings Per Share
Basic $ 0.57 $ 0.52
Diluted $ 0.57 $ 0.51
============ ============
Weighted average shares outstanding
Basic 20,463,000 21,939,000
Diluted 20,702,000 22,337,000
============ ============
See accompanying notes to condensed consolidated financial statements.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
NineSix Months Ended SeptemberJune 30, (Unaudited)
================================================================================
1998 1997
------------- -------------
Net sales $ 743,064,000 $ 679,147,000
Cost of sales 615,021,000 577,603,000
------------- -------------
Gross profit 128,043,000 101,544,000
Selling, general and administrative expenses 68,175,000 54,029,000
------------- -------------
Operating profit 59,868,000 47,515,000
Interest expense, net 7,981,000 7,954,000
------------- -------------
Earnings before income tax expense 51,887,000 39,561,000
Income tax expense 21,800,000 16,419,000
------------- -------------
NET EARNINGS $ 30,087,000 $ 23,142,000
============= =============
Earnings per share
Basic $ 1.38 $ 1.10
Diluted $ 1.36 $ 1.09
============= =============
Weighted average shares outstanding
Basic 21,804,000 20,977,000
Diluted 22,156,000 21,201,000
============= =============
================================================================================
1999 1998
------------ ------------
Net sales $511,409,000 $489,274,000
Cost of sales 419,139,000 404,664,000
------------ ------------
Gross profit 92,270,000 84,610,000
Selling, general and administrative expenses 52,476,000 45,515,000
------------ ------------
Operating profit 39,794,000 39,095,000
Interest expense, net 5,621,000 5,344,000
------------ ------------
Earnings before income taxes 34,173,000 33,751,000
Income tax expense 14,010,000 14,180,000
------------ ------------
NET EARNINGS $ 20,163,000 $ 19,571,000
============ ============
Net Earnings Per Share
Basic $ 0.97 $ 0.89
Diluted $ 0.96 $ 0.88
============ ============
Weighted average shares outstanding
Basic 20,736,000 21,892,000
Diluted 20,966,000 22,273,000
============ ============
See accompanying notes to condensed consolidated financial statements.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NineSix Months Ended SeptemberJune 30, (Unaudited)
====================================================================================================1999 1998
1997
------------- ------------------------- ------------
Net cash provided by operating activities $ 53,837,00035,776,000 $ 65,937,00040,124,000
Cash flows from investing activities:
Capital expenditures (49,579,000) (24,841,000)
Business acquisitions, net of cash acquired,(41,419,000) (34,560,000)
Investments in joint ventures and other assets 96,000 (43,139,000)
------------- -------------(21,017,000) 207,000
------------ ------------
Net cash used in investing activities (49,483,000) (67,980,000)(62,436,000) (34,353,000)
Cash flows from financing activities:
Payments on notes payable and long-term debt (15,965,000) (227,973,000)(85,374,000) (5,033,000)
Proceeds from notes payable and long-term debt 33,400,000 223,656,000131,800,000 700,000
Proceeds from issuance of common stock 2,844,000 10,613,000
Purchase523,000 1,817,000
Repurchase of shares (21,355,000)common stock (18,927,000) --
Cash dividends (3,729,000) (3,096,000)
------------- -------------Dividends (2,710,000) (2,406,000)
------------ ------------
Net cash provided by (used in) provided by financing activities (4,805,000) 3,200,000
------------- -------------25,312,000 (4,922,000)
------------ ------------
Net increase (decrease) in cash and equivalents (451,000) 1,157,000(1,348,000) 849,000
Cash and equivalents at beginning of year 2,047,000 4,038,000
2,585,000
------------- ------------------------- ------------
Cash and equivalents at end of period $ 3,587,000699,000 $ 3,742,000
============= =============
NON-CASH INVESTING AND FINANCING TRANSACTIONS
Acquisition:
Cash paid, net of cash acquired $ 42,720,000
Stock issued 38,859,000
Fair value of assets acquired (82,405,000)
Liabilities assumed 73,874,000
-------------
Purchase price in excess of fair value of assets acquired $ 73,048,000
=============
In connection with the merger in 1997 with North Star Universal, Inc., Michael Foods, Inc. (the
"Company") assumed $21,250,000 of net indebtedness and effectively repurchased 1,783,036 shares of
its Common Stock (see Note D).
====================================================================================================4,887,000
============ ============
See accompanying notes to condensed consolidated financial statements.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
====================================================================================================================================
(Unaudited)
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with Regulation S-X pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations, although management believes
that the disclosures are adequate to make the information presented not
misleading.
The CompanyMichael Foods, Inc. (the "Company") utilizes a fiscal year consisting of either
52 or 53 weeks, ending on the Saturday nearest to December 31 each year. The
quarters ended SeptemberJune 30, 19981999 and 19971998 each included thirteen weeks of operations and the three
quarters ended September 30, 1998 and 1997 each included 39 weeks of
operations. For clarity of presentation, the Company has described allboth
periods presented as if the quarterquarters ended on SeptemberJune 30.
In the opinion of management, the unaudited condensed consolidated financial
statements contain all adjustments (consisting of only normal recurring
adjustments) necessary to present fairly the financial position as of SeptemberJune 30,
19981999 and the results of operations for the three and ninesix month periods ended
SeptemberJune 30, 19981999 and 19971998 and cash flows for the ninesix months ended SeptemberJune 30, 19981999
and 1997.1998. The results of operations for the ninesix months ended SeptemberJune 30, 19981999 are
not necessarily indicative of the results for the full year.
The Company's basic net earnings per share is computed by dividing net earnings
by the weighted average number of outstanding common shares. The Company's
diluted net earnings per share is computed by dividing net earnings by the
weighted average number of outstanding common shares and common share
equivalents relating to stock options, when dilutive. Options to purchase
20,000852,767 and 10,678826,724 shares of Common Stock, with a weighted average exercise
pricesprice of $29.31 and $29.43,$24.78, which were outstanding during the three and ninesix month periods
ended SeptemberJune 30, 1998,1999, were excluded from the computation of common share
equivalents for those periodsthat period because they were anti-dilutive. There were
no anti-dilutive options outstanding during the three month period ended
September 30, 1997. Options to
purchase 323,0688,000 and 4,000 shares of Common Stock,common stock, with a weighted average
exercise price $14.08, whichof $29.75, were outstanding during the ninethree and six month
periodperiods ended SeptemberJune 30, 1997,1998, but were excluded from the computation of common
share equivalents for that period because they were anti-dilutive.
NOTE B - NEW ACCOUNTING PRONOUNCEMENT
The Financial Accounting Standards Board has issued SFAS No. 131 "Disclosures
about Segments of an Enterprise and Related Information." This statement
requires companies to disclose financial and other information about their
business segments as part of their consolidated financial statements. The
Company will include the required business segment disclosures in its 1998
annual report.
NOTE C - 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 life of generally one to two
years, assuming no salvage value.
Inventories consist of the following:
June 30, December 31,
1999 1998
----------- ------------
Raw materials and supplies $19,040,000 $15,389,000
Work in process and finished goods 39,984,000 36,977,000
Flocks 20,857,000 21,884,000
----------- -----------
$79,881,000 $74,250,000
=========== ===========
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MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CONTINUED
====================================================================================================================================
(Unaudited)
NOTE C - INVENTORIES, cont.
Inventories consist of the following:
September 30, December 31,
1998 1997
----------- -----------
Raw materials and supplies $14,556,000 $16,047,000
Work in process and finished goods 41,040,000 30,374,000
Flocks 26,391,000 22,508,000
----------- -----------
$81,987,000 $68,929,000
=========== ===========
NOTE D - ACQUISITION OF PAPETTI'S, MERGER WITH NORTH STAR UNIVERSAL AND ISSUANCE
OF LONG-TERM DEBT
On February 26, 1997, the Company completed the acquisition of Papetti's Hygrade
Egg Products, Inc. and affiliated entities (collectively "Papetti's"). The
acquisition was accounted for as a purchase with the results of Papetti's
operations included with the Company's from the date of acquisition. Total
consideration included the issuance of 3,195,455 shares of newly issued Common
Stock valued at $38,859,000, $44,315,000 in cash and closing costs, and the
assumption of $22,825,000 of notes payable and long-term debt.
On February 28, 1997, the Company completed a merger with North Star Universal,
Inc. ("NSU"). The merger was accounted for as a reverse acquisition utilizing
the purchase method of accounting. As a result of the merger, NSU delivered
approximately $21,250,000 of net subordinated indebtedness together with
1,783,036 shares of Common Stock of approximately equal value, which the Company
effectively retired in the form of a treasury stock redemption.
In February 1997, the Company issued $125,000,000 of 7.58% senior indebtedness
to finance the cash portion of the Papetti's acquisition, to retire a portion of
the Company's existing debt and to refinance the debt assumed in the Papetti's
acquisition and NSU merger.
The following unaudited pro forma statement of earnings information has been
prepared assuming the Papetti's acquisition, the merger with NSU and the
issuance of the senior indebtedness had occurred on January 1, 1997:
For the Nine months ended September 30, 1997
- -----------------------------------------------------------------
Net sales $727,742,000
Net earnings 23,695,000
Earnings per share
Basic $ 1.11
Diluted $ 1.10
============
This unaudited pro forma information is not necessarily indicative of the
combined results of operations that would have occurred had the acquisition,
merger and issuance of debt occurred on January 1, 1997, nor are they indicative
of the results which may occur in the future.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
================================================================================
(Unaudited)
NOTE E - COMMITMENTS AND CONTINGENCIES
Use of Estimates
Preparation of the Company's consolidated financial statements requires
management to make estimates and assumptions that affect reported amounts of
assets and liabilities and related revenues and expenses. Actual results could
differ from the estimates used by management.
License Agreement
The Company has an exclusive license agreement for a patented process for the
production and sale of extended shelf-life egg products. Under the license
agreement, the Company has the right to defend and prosecute infringement of
the licensed patents. The U.S. Federal Court of Appeals has upheld the
validity of the patents subject to the license agreement, but, subsequently, a
patent examiner at the U.S. Patent and Trademark Office rejected the patents.
The Company is appealing the decision of the examiner and believes the validity
of the patents will ultimately be upheld. During the appeal process, the
patents remain valid and in full force and effect. These patents are scheduled
to expire in 2006.
Litigation
The Company is engaged in routine litigation incidental to its business, which
managementbusiness.
Management believes it will not have a material effect upon its consolidated
financial position, liquidity or results of operations.
NOTE FD - SHAREHOLDERS' EQUITY
During the three months ended SeptemberJune 30, 19981999, the Company repurchased 868,700475,300
shares of Common Stock under a Board of Directors authorized share repurchase program.program at an average price of
$22.62 per share. Such repurchases began in July 1998. Through June 30, 1999,
the Company had repurchased 1,902,800 shares of Common Stock at an average
price of $22.60 per share.
NOTE E - RISKS AND UNCERTAINTIES
The Year 2000 issue relates to limitations in computer systems and applications
that may prevent proper recognition of the year 2000. The potential effect of
the Year 2000 issue on the Company and its business partners will not be fully
determinable until 2000 and thereafter. If Year 2000 modifications are not
properly completed either by the Company, or entities the Company conducts
business with, the Company's net sales and financial condition could be
adversely effected.
NOTE F - INTERNATIONAL INVESTMENTS, DAIRY PRODUCTS ACQUISITION AND SUBSEQUENT
EVENT
During the six months ended June 30, 1999, the Company made two investments in
Europe to further its leadership in global egg products processing. The first
investment was a 25% interest in Belovo, S. A., a specialty egg products
company based in Belgium. The second investment was a 50/50 joint venture with
the founding shareholders of Belovo forming The Lipid Company, a company
involved in the extraction of phospholipids from egg yolks for use in the field
of nutraceuticals.
In May 1999, the Company's Kohler Mix Specialties, Inc. subsidiary acquired
certain operating assets, a customer list and a long-term lease, of a dairy mix
plant from H. P. Hood Inc., with an option to purchase the building and land at
the lease's termination. The plant mainly produces ultra-high temperature
pasteurized dairy mixes for foodservice customers in the eastern United States.
The facility generated 1998 net sales of approximately $37 million.
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MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
====================================================
(Unaudited)
NOTE F - INTERNATIONAL INVESTMENTS, DAIRY PRODUCTS ACQUISITION AND SUBSEQUENT
EVENT, CONT.
In July 1999, the Company formed a Canadian joint venture, Trilogy Egg
Products, Inc., with two partners, Canadian Inovatech, Inc. and The Egg
Producers Co-op Ltd. Trilogy Egg Products, Inc. will sell value-added egg
products in Canada.
NOTE G - BUSINESS SEGMENTS
The Company has adopted Statement of Financial Accounting Standards No. 131,
Disclosures about Segments of an Enterprise and Related Information. The
Company operates in four reportable segments - Egg Products, Refrigerated
Distribution, Dairy Products and Potato Products. Certain financial
information on the Company's operating segments is as follows (unaudited, in
thousands):
Egg Refrigerated Dairy Potato
Products Distribution Products Products Corporate Total
-------- ------------ -------- -------- --------- --------
THREE MONTHS ENDED
JUNE 30, 1999:
External net sales $150,488 $ 51,427 $42,091 $14,025 N/A $258,031
Intersegment sales 3,794 24 310 591 N/A 4,719
Operating profit (loss) 19,712 2,534 2,057 1,367 (2,963) 22,707
THREE MONTHS ENDED
JUNE 30, 1998:
External net sales $144,373 $ 49,841 $36,719 $12,752 N/A $243,685
Intersegment sales 4,456 43 480 479 N/A 5,458
Operating profit (loss) 19,463 1,763 2,108 457 (1,708) 22,083
SIX MONTHS ENDED JUNE
30, 1999:
External net sales $302,638 $110,549 $70,753 $27,469 N/A $511,409
Intersegment sales 9,488 45 578 1,198 N/A 11,309
Operating profit (loss) 34,694 4,584 2,953 2,559 (4,996) 39,794
SIX MONTHS ENDED JUNE
30, 1998:
External net sales $296,180 $102,866 $64,867 $25,361 N/A $489,274
Intersegment sales 10,386 74 935 958 N/A 12,353
Operating profit (loss) 34,793 3,557 3,190 1,082 (3,527) 39,095
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
================================================================================
THREE MONTHS ENDED SEPTEMBERJUNE 30, 19981999 VS THREE MONTHS ENDED SEPTEMBERJUNE 30, 1997,1998
RESULTS OF OPERATIONS
Readers are directed to Note G - Business Segments for data on the unaudited
financial results of the Company's four business segments for the three months
ended June 30, 1999 and 1998.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
========================================================
THREE MONTHS ENDED JUNE 30, 1999 VS THREE MONTHS ENDED JUNE 30, 1998, CONT.
RESULTS OF OPERATIONS, The following table sets forth the percentage of net sales accounted for by each
of the Company's operating divisions for the periods indicated:
Three Months Ended Sept. 30,
----------------------------
1998 1997
---- ----
Egg Products 60% 65%
Refrigerated Distribution 21 21
Dairy Products 16 12
Potato Products 5 5
Intercompany Sales (2) (3)
---- ----
TOTAL 100% 100%
==== ====
The following table sets forth the percentage of divisional operating earnings
(before corporate, interest and income tax expenses) accounted for by each of
the Company's operating divisions for the periods indicated:
Three Months Ended Sept. 30,
----------------------------
1998 1997
---- ----
Egg Products 77% 75%
Refrigerated Distribution 9 10
Dairy Products 10 13
Potato Products 4 2
---- ----
TOTAL 100% 100%
==== ====
TheCONT.
Egg Products Division had lower dollarnet sales and higher dollar earnings infor the 1999 period ended September 30, 1998, as compared to the results of the same
period in 1997. Unitreflected unit sales
gains in most product lines wereincreases, particularly for value-added products, which more than offset
by
lower per unit selling prices forsignificant deflationary pricing impacts on certain egg products. Earnings reflected, in
part, favorable spot market egg costs and lower feed costs. Sales were
particularly strong for precooked frozen omelets, patties and curds. Egg
prices decreased approximately 5%12% compared to thirdsecond quarter 19971998 levels, as
reported by Urner Barry Publications - a widely quoted industry pricing
service, although
pricingservice. This decrease helped reduce the cost of purchased eggs, while also
reducing selling prices for certain egg products particularly value-added egg products, is not
necessarily directly affected by changes inand shell egg pricing.eggs.
Approximately two-thirds of the Division's annual egg needs are purchased under
contracts, or in the spot market. While a portion of these eggs are secured
under fixed price contracts, a majority are priced according to the cost of
grain inputs or to egg market where such egg cost is determined largely by market pricingprices as reported by Urner Barry. Approximately
one-third of annual egg needs are sourced from internal flocks, where feed
costs typically represent roughly two-thirds of the cost of producing such
eggs. Feed costs were lower in the 19981999 period, than incompared to the 19971998 period,
due to lower prices for both corn and soybean meal. TheDecreased egg costs, for
both internally and externally procured eggs, in the 1999 period, compared to
the 1998 period, were more than offset by pricing weakness, creating margin
pressure for certain egg products.
Refrigerated Distribution Division had higher dollarnet sales for the 1999 period reflected
strong unit sales increases, with cheese and lower dollar
earningsMexican items showing particular
strength. Sales growth resulted from a brand repositioning over the past two
years and a more recent consumer advertising campaign in selected markets,
along with new account activity and new product introductions. The volume
growth, along with a decline in product costs related to the national butterfat
market, resulted in margin expansion in the period ended September 30, 1998, as compared to the results of
the same period in 1997. Unit sales were flat for core refrigerated grocery
items, reflecting the loss of two grocery chain accounts - one to a low priced
competitor, the other due to a customer's restructuring - earlier in the year,
and the impact of historically high cheese and butter retail price points on
consumer demand. A sharp rise in butter fat market prices during the 1998 period
also had an impact on profitability, as product sourcing costs rose more rapidly
than did retail selling prices for products such as cheese and butter.
9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
THREE MONTHS ENDED SEPTEMBER 30, 1998 VS THREE MONTHS ENDED SEPTEMBER 30, 1997,
CONT.
RESULTS OF OPERATIONS, CONT.1999 period.
The significant Dairy Products Division had higher dollarnet sales increase for the 1999 period
reflected strong unit sales gains for core dairy mix and lower dollar earningscreamer products and
the effect of two months' of sales from a plant acquired during the quarter.
Sales were weak for certain cartoned specialty dairy products as a result of
the product line having not fully recovered from a recall in 1999's first
quarter. Divisional operating profit declined in the 1999 period ended September 30, 1998, as compared to the resultsa result of
the same
period in 1997. Unit sales increased sharplyincremental operating expenses incurred post-recall and were helped by a stronger dairy
products focus by certain customers, particularly in the quick service
restaurant segment, and by a growing coffee creamer business. Dollar sales also
were affected by a sharp rise in the dairy ingredients market, which, under the
Division's cost-plus pricing arrangement with most customers, raised per unit
selling prices significantly. Raw material costs rose substantially during the
1998 period due to increasesabove average
labor and freight costs. Labor costs were high due, in the pricing of certain ingredients tiedpart, to the
national butter fat market, which caused marginstraining costs
for newer production personnel and overtime incurred to decline. The Division also
experienced higher than normal operating costs due tomeet orders in a timely
manner during a strong volume growth.
Thedemand period.
Potato Products Division had higher dollarnet sales for the 1999 period reflected a strong unit
sales increase, particularly for foodservice mashed items. New account
activity, same-account sales growth and higher dollar earningsnew product introductions all
contributed to the sales gain. The strong operating profit increase in the
1999 period ended September 30, 1998,resulted primarily from the volume growth, as compared to the results of the same
period in 1997. The discontinuation of the sale of frozen potato products in
mid-1997 has allowed for an increased focus on the remaining refrigerated potato
products lines. The increased attention focused on plant operations and sales
volumes had a favorable impact on the Division's financial results in the 1998
period. Sales volumes increased in the 1998 period as compared to the 1997
period and operating efficiencies inat
the main plant were much improved
year-over-year, resulting inpotato processing facility benefited from the improved financial results.increased production
throughput.
The increase in gross profit margin of the Company for the period ended SeptemberJune
30, 1998,1999, as compared to the results of the same period in 1997,1998, reflected the
factors discussed above, particularly the strength of the Egg
Products Division operations and higher profitability in the Refrigerated
Distribution and Potato Products Division.segments. It is management's strategy to
increase value-added product sales as a percent of total sales over time, while
decreasing commodity-sensitive products' contribution to consolidated sales.
These efforts historically have been beneficial to gross profit margins in most
periods. Selling, general and administrative expenses increased as a percent
of sales in the period ended SeptemberJune 30, 1998,1999, as compared to the results of the
same period in 1997.1998. Expenses increased largely due to higher marketing support for foodservice
selling efforts and spending to support the Company's information systems
upgrade project. Also, the 1997 period included a non-recurring gain of
approximately $1.3 million pretax resulting from the disposition of french fry
production assets.
NINE MONTHS ENDED SEPTEMBER 30, 1998 VS NINE MONTHS ENDED SEPTEMBER 30, 1997
RESULTS OF OPERATIONS
The following table sets forth the percentage of net sales accounted for by eachamortization of the Company's operating divisions forcosts
associated with the
periods indicated:
Nine Months Ended Sept. 30,
---------------------------
1998 1997
---- ----
Egg Products 62% 62%
Refrigerated Distribution 21 23
Dairy Products 14 11
Potato Products 5 7
Intercompany Sales (2) (3)
---- ----
TOTAL 100% 100%
==== ====9
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
NINE========================================================
THREE MONTHS ENDED SEPTEMBERJUNE 30, 19981999 VS NINETHREE MONTHS ENDED SEPTEMBERJUNE 30, 1997,1998, CONT.
RESULTS OF OPERATIONS, CONT.
The following table sets forthCompany's information systems upgrade project, amortization of a non-compete
agreement related to a Dairy Products acquisition, and additional sales and
marketing efforts.
SIX MONTHS ENDED JUNE 30, 1999 VS SIX MONTHS ENDED JUNE 30, 1998
RESULTS OF OPERATIONS
Readers are directed to Note G - Business Segments for data on the percentage of divisional operating earnings
(before corporate, interest and income tax expenses) accounted for by eachunaudited
financial results of the Company's operating divisionsfour business segments for the periods indicated:
Nine Months Ended Sept.six months
ended June 30, ---------------------------
1998 1997
---- ----
Egg Products 79% 79%
Refrigerated Distribution 9 11
Dairy Products 8 11
Potato Products 4 (1)
---- ----
TOTAL 100% 100%
==== ====
The1999 and 1998.
Egg Products Division had higher dollarnet sales and higher dollar earnings infor the 1999 period ended September 30, 1998, as compared to the results of the same
period in 1997, due to strongreflected unit sales
favorable spot market egg costs, lower
feed costs and contributions from Papetti's. Owning Papetti'sincreases, particularly for nine months,
versus seven months in the 1997 period, explained a portion of the increases.
Additionally, salesvalue-added products, which more than offset
significant deflationary pricing impacts on certain products. Sales were
particularly strong for certain value-added egg products, notably
extended shelf-life liquid eggs and precooked frozen omelets, patties and curds. Egg
prices decreased approximately 7% in the 1998 period as9% compared to first nine months of 1997,half 1998 levels, as
reported by Urner Barry Publications, although pricingPublications. This decrease helped reduce the cost of
purchased eggs, while also reducing selling prices for certain egg products particularly value-added egg products, is not necessarily
directly affected by changes inand
shell egg pricing.eggs. Approximately two-thirds of the Division's annual egg needs are
purchased under contracts, or in the spot market. While a portion of these
eggs are secured under fixed price contracts, a majority are priced according
to the cost of grain inputs or to egg market where such egg cost is determined largely by market pricingprices as reported by Urner Barry.
Approximately one-third of annual egg needs are sourced from internal flocks,
where feed costs typically represent roughly two-thirds of the cost of
producing such eggs. Feed costs were lower in the 19981999 period, than incompared to the
19971998 period, due to lower prices for both corn and soybean meal. TheDecreased egg
costs, for both internally and externally procured eggs, in the 1999 period,
compared to the 1998 period, were more than offset by pricing weakness,
creating margin pressure for certain egg products.
Refrigerated Distribution Division had flat dollarnet sales for the 1999 period reflected
strong unit sales increases, with cheese and flat dollar
earningsMexican items showing particular
strength. Sales growth resulted from a brand repositioning over the past two
years and a more recent consumer advertising campaign in selected markets,
along with new account activity and new product introductions. The volume
growth, along with a decline in product costs related to the national butterfat
market, resulted in margin expansion in the period ended September 30, 1998, as compared to the results of
the same period in 1997. Unit sales were fairly flat for core refrigerated
grocery items, reflecting, in part, some lost business and the impact of
historically high cheese and butter retail price points on consumer demand. A
sharp rise in butter fat market prices during the 1998 period also had an impact
on profitability, as product sourcing costs rose more rapidly than did retail
selling prices for products such as cheese and butter.1999 period.
The Dairy Products Division had higher dollarnet sales increase for the 1999 period reflected
strong unit sales gains for core dairy mix and flat dollar earningscreamer products and the effect
of two months' of sales from a plant acquired during the first half of 1999.
Sales were weak for cartoned specialty dairy products as a result of a recall
of certain items in 1999's first quarter. Divisional operating profit declined
in the 1999 period ended September 30, 1998, as compared to the resultsa result of incremental operating expenses incurred as a
result of the same
period in 1997. Unit sales increased sharplyrecall and were helped by a stronger dairy
products focus by certain customers, particularly in the quick service
restaurant segment, and by a growing coffee creamer business. Dollar sales also
were affected by a sharp rise in the dairy ingredients market, which, under the
Division's cost-plus pricing arrangement with most customers, raised per unit
selling prices significantly. Raw material costs rose substantially during the
1998 period due to increasesabove average labor and freight costs. Labor
costs were high due, in the pricing of certain ingredients tiedpart, to the
national butter fat market, which caused marginstraining costs for newer production personnel
and overtime incurred to decline. The Division also
experienced higher than normal operating costs due to strong volume growth.
Themeet orders in a timely manner.
Potato Products Division had lower dollarnet sales for the 1999 period reflected a strong unit
sales increase, particularly for foodservice mashed items. New account
activity, same-account sales growth and operated at anew product introductions all
contributed to the sales gain. The strong operating profit increase in the
1999 period ended September 30, 1998, as compared to a loss in the same period in
1997. 1997 results included frozen french fry sales. The frozen french fry
business was discontinued in mid-1997. Lossesresulted primarily from the volume growth, as plant operations at
the main potato processing facility benefited from the increased production
throughput.
10
11
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
NINE========================================================
SIX MONTHS ENDED SEPTEMBERJUNE 30, 19981999 VS NINESIX MONTHS ENDED SEPTEMBERJUNE 30, 1997,1998, CONT.
RESULTS OF OPERATIONS, CONT.
french fry business in the 1997 period totaled approximately $0.05 per share.
Efforts begun in 1997 in the areas of improving both plant operations and sales
volumes for the remaining refrigerated product lines were beneficial to the
Division's financial results in the 1998 period. Refrigerated products sales
volumes increased in the 1998 period as compared to the 1997 period and
operating efficiencies in the main plant were much improved year-over-year,
resulting in the improved financial results.
The increase in gross profit margin of the Company for the period ended SeptemberJune
30, 1998,1999, as compared to the results of the same period in 1997,1998, reflected the
factors discussed above, particularly the strength of the Egg
Products Division operations and the return to profitability in the Refrigerated
Distribution and Potato Products Division.segments. It is management's strategy to
increase value-added product sales as a percent of total sales over time, while
decreasing commodity-sensitive products' contribution to consolidated sales.
These efforts historically have been beneficial to gross profit margins in most
periods.
Selling, general and administrative expenses increased as a percent of sales in
the period ended SeptemberJune 30, 1998,1999, as compared to the results of the same period
in 1997,1998. Expenses increased due primarily to increased foodservice marketing activities and
spending to supportamortization of the costs associated with
the Company's information systems upgrade project. The 1997
period included non-recurring severance expenses,project, amortization of a
non-compete agreement related to a Dairy Products acquisition, and other costs, including a
reorganization of the Company'sadditional
sales group, of approximately $2.4 million
pretax and a non-recurring gain of approximately $1.3 million pretax resulting
from the disposition of french fry production assets.marketing efforts.
GENERAL
Certain of the Company's products are sensitive to changes in commodity prices.
The Company's Egg Products Division derived approximately 6%less than 5% of the Division's net
sales for the first ninesix months of 1998 net sales1999 from shell eggs, which are sensitive to
commodity price swings. Value-added extended shelf-life liquid egg productproducts
lines and precooked egg products accounted for approximately 36%50% of the Egg
Products Division's net sales. The remainder of Egg Products Division sales areis
derived from the sale of other egg products, which vary from being
commodity-sensitive to value-added. Gross profit from shell eggs is primarily
dependent upon the relationship between shell egg prices and the cost of feed,
both of which can fluctuate significantly. Shell egg pricing in the 19981999
period was approximately 7%9% below 19971998 levels as measured by a widely quoted
pricing service. Gross profit margins for extended shelf-life liquid eggs, egg
substitutes, and precooked egg products are less sensitive to commodity price
fluctuations than are other egg products or shell eggs.
The Company's Refrigerated Distribution Division derives approximately 70% of
its net sales from refrigerated products produced by others, thereby reducing
the effecteffects of commodity price swings. The balance of refrigerated
distribution sales are from shell eggs, some of which are produced by the Egg
Products Division and are sold on a distribution, or non-commodity, basis by
the Refrigerated Distribution Division.
The Dairy Products Division sells its products primarily on a cost-plus basis
and, therefore, the Division's earnings are not typically affected greatly by
raw ingredient price fluctuations, except over short time periods.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
GENERAL, CONT.
The Potato Products Division typically purchases 70%-90% of its raw potatoes
from contract producers under annual contracts. The remainder is purchased at
market prices to satisfy short-term production requirements or to take
advantage of market prices when they are lower than contracted prices.
SmallModerate variations in the purchase price of raw materials or the selling price
per pound of endfinished products can have a significant effect on Potato Products
Division operating results. The impact of raw material costs within the Potato Products Division is
lower now that the frozen french fry business has been discontinued, as
refrigerated potato products pricing is generally not subject to the volatility
seen in frozen french fry selling prices.
Inflation is not expected to have a significant impact on the Company's
business. The Company generally has been able to offset the impact of
inflation through a combination of productivity gains and price increases.
11
12
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
========================================================
CAPITAL RESOURCES AND LIQUIDITY
Acquisitions and capital expenditures have been, and will likely continue to
be, a significant capital requirement. The Company plans to continue to invest
in state-of-the-art production facilities to enhance its competitive position.
Historically, the Company has financed its growth principally from internally
generated funds, bank borrowings, issuance of senior debt and the sale of
Common Stock. The Company believes that these financing alternatives will
continue to meet its anticipated needs.
During the first half of 1999, the Company made two investments in Europe. The
first investment was a 25% interest in Belovo, S. A., a specialty egg products
company based in Belgium. The second investment was a 50/50 joint venture with
the founding shareholders of Belovo forming The Lipid Company, a company
involved in the extraction of phospholipids from egg yolks for use in the field
of nutraceuticals. The cash paid at the time of closing the transactions was
approximately $9.3 million, which was funded through the Company's bank line of
credit. The investments will expand the Company's leadership position in
global egg products processing.
Also in the first half of 1999, the Company acquired certain operating assets
and the long-term lease of a dairy products plant in Connecticut. The cash
paid at time of closing was approximately $5.7 million, which was funded
through the Company's bank line of credit. This transaction greatly expanded
the Company's Dairy Products business in the eastern United States.
The Company invested $49,580,000$41,419,000 in capital expenditures during the ninesix months
ended SeptemberJune 30, 1998.1999. The Company plans to spend approximately $80,000,000$75,000,000 in
total capital expenditures in 1998,1999, the majority of which is to expand
production capacity.capacity for value-added products.
The Company has an unsecured line of credit for $80,000,000 with its principal
banks. As of SeptemberJune 30, 1998, $22,000,0001999, $70,900,000 was outstanding under this line of
credit.
OnIn July 30, 1998, the Company's Board of Directors authorized the purchase of up to
two million shares of Common Stock on the open market. The lineThrough June 30, 1999,
the Company had repurchased 1,902,800 shares of credit may
be used to finance such purchases.Common Stock for $43,005,000.
SEASONALITY
Consolidated quarterly operating results are affected by the seasonality of the
Company's 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. Generally, refrigerated distribution
operations experience higher net sales and operating profits in the fourth
quarter.quarter, coinciding with incremental consumer demand during the holiday season.
Net sales and operating profits from dairy operations typically are
significantly higher in the second and third quarters due to increased
consumption of ice milk and ice cream products during the summer months.
Operating profits from potato products are less seasonal, but tend to be higher
in the second half of the year coinciding with the potato harvest.
YEAR 2000
The Company has broken its "Year 2000"Company's Year 2000 initiative is separated into several projects. These
projects includeprojects: legacy
systems, personal computer components, wide area network components, local area
network components, and non - computernon-computer components. The approach used for each of
these projects includes the following phases:an inventory of 2000
12
13
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
========================================================================================================================================
YEAR 2000, CONT.
- - an inventory of possible Year 2000 components;
- -components, an assessment of Year 2000 compliance of each component;
- - anycomponent, and
identification and execution of corrective actionactions for items that fail the
assessment phase.
The status for each ofIn 1995, the projects follows:
Michael FoodsCompany undertook the implementation of the SAP Enterprise Resource
Planning system in 1995 as a means to present a single interface with customers and to
have better information available tofor management to make more effective
decisions. This project addresses a majority of the Company's legacy systems and
is scheduled for completion before the end of 1999. This project includes
processes that begin with Order Entry and end with Accounts Receivable and Cash
Application, plus Transportation and Warehouse Management, the Purchasing
Life-Cycle, Financial Management, Product Costing, and Production Planning. The SAP system encompasses all significant processes and has been
certified Year 2000 compliant by an outside party. The SAP system will be
implemented for three of the five operating companies prior to the end of 1999.
The legacy systems of the remaining two operating companies are certified as
Year 2000 compliant. Beyond the SAP project, several non-critical legacy
systems are being addressed throughout 1999. The costs to modify and test any
remaining legacy systems, if necessary, would not be material to the
consolidated financial position, liquidity or results of operations of the
Company.
The Company will completecompleted corrective actions for all personal computer hardware by November 1998in
late 1998. An evaluation and allany needed remediation of personal computer
software is expected to be completed by December 1998.September 1999. The remaining
information technology systems for wide area networking and local area
networking and communications are currently being assessed for Year 2000 compliance, with
corrective action to be completed by JuneSeptember 1999. OverallThe Company's overall
business risk is judged to be not significant from these systems.systems is not significant.
The Company's non-computer systems are now beingcomponents have been assessed for Year 2000
compliance. The assessment of these systems will bewas completed by Marchin May 1999. Any
corrective actions are expected to be completed by September 1999.
The Year 2000 projects also include an evaluation of critical vendors,
suppliers, brokers and customers relative to their Year 2000 readiness. Electronic data communications
with customers will be tested.
Information is being solicited from these important business partners and will
be evaluated as it is received. Electronic data communications with customers
have been tested.
Based upon the assessment completed at this time, the Company does not
anticipate any significant Year 2000 issues. All Year 2000 projects are
generally proceeding according to management's expectations. However, if there
are significant delays in their completion, or if major suppliers or customers
experience Year 2000 issues with their systems, Year 2000such issues may have a
material adversecould adversely
affect on the operations of the Company. After assessing the information received
from customers and suppliersits business partners and evaluating the successful completionstatus of the Year 2000 projects,
the Company will develop an appropriate contingency plan, as required. It is
anticipated that this plan will be developed during the fourth quarter of 1999.
Achieving Year 2000 compliance for the Company will largely be a by-product of
the SAP system installation. The costs of achieving Year 2000 compliance for
software not affected by the SAP system, computer components, and non-computer
components is estimated to be less than $3,000,000, of which approximately
$2,500,000 has already been incurred and expensed through June 30, 1999.
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
FORWARD-LOOKING STATEMENTS
Certain items in this Form 10-Q are forward-looking statements, which are made
in reliance upon the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995. Such forward-looking
13
14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
========================================================
FORWARD-LOOKING STATEMENTS, CONT.
statements are subject to numerous risks and uncertainties, including the
possibility that capital projects and the Year 2000 initiative may not be
completed as rapidly as management expects. Additional risks and uncertainties
include variances in the demand for the Company's products due to consumer
developments and industry developments, as well as variances in the costs to
produce such products, including normal volatility in egg costs and feed costs. The
Company's actual financial results could differ materially from the results
estimated by, forecasted by, or implied by the Company in such forward-looking
statements.
Item 3. Quantitative and Qualitative Disclosures Aboutabout Market Risk
ForThere were no material changes in the Company's market risk during the six
month period ended SeptemberJune 30, 1998 this disclosure is not applicable to the
registrant.1999.
PART II - OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The 1999 Annual Meeting of Shareholders of Michael Foods, Inc. was held on
April 29, 1999. The items voted upon and the results of the vote follow:
1. The election of eleven persons to serve as directors until the next
annual election and until their successors are duly elected and qualified:
For Withhold Authority
---------- ------------------
Maureen B. Bellantoni 15,390,929 39,909
Richard A. Coonrod 15,393,280 37,558
Daniel P. Dillon 15,393,460 37,378
Jerome J. Jenko 15,392,335 38,503
Arvid C. Knudtson 15,383,486 47,352
Joseph D. Marshburn 15,387,405 43,433
Jeffrey J. Michael 15,390,410 40,428
Margaret D. Moore 15,391,454 39,384
Gregg A. Ostrander 15,392,360 38,478
Arthur J. Papetti 15,393,990 36,848
Stephen T. Papetti 15,393,990 36,848
2. Proposal to ratify an amendment to the 1997 Stock Incentive Plan of
Michael Foods, Inc. and Affiliated Companies:
For Against Abstain
---------- --------- -------
14,063,827 1,323,290 43,721
3. Proposal to ratify the appointment of Grant Thornton LLP as independent
auditors for 1999:
For Against Abstain
---------- ------- -------
15,371,790 47,645 11,403
14
15
Item 6. Exhibits and Reports on Form 8-K
(a) ExhibitExhibits
27.1 Financial Data Schedule
(b)(a) There were no reports on Form 8-K filed during the quarter ended SeptemberJune 30,
1998.1999.
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.
----------------------------------------------
(Registrant)
Date: November 13, 1998August 16, 1999 By: /s/ Gregg A. Ostrander
-----------------------------------------------------------------------------
Gregg A. Ostrander
(President and Chief Executive Officer)
Date: November 13, 1998August 16, 1999 By: /s/ John D. Reedy
-----------------------------------------------------------------------------
John D. Reedy
(Vice President - Finance, Treasurer,
Chief Financial Officer and Principal
Accounting Officer)
15