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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 25, 2005 | Commission File Number 333-118390 |
Pinnacle Foods Group Inc.
Delaware State of Incorporation | 94-3303521 I.R.S. Employer Identification No. |
6 Executive Campus, Suite 100
Cherry Hill, New Jersey 08002
Principal Executive Offices
Cherry Hill, New Jersey 08002
Principal Executive Offices
Telephone Number: (856) 969-7100
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or15(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.
Yesþ Noo.
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b - - 2 of the Securities Exchange Act of 1934).
Yeso Noþ.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b - 2 of the Securities Exchange Act of 1934).
Yeso Noþ.
As of November 8, 2005, there were outstanding 100 shares of common stock, par value $0.01 per share, of the Registrant.
TABLE OF CONTENTS
FORM 10-Q
FORM 10-Q
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PART I — FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
Unaudited consolidated financial statements begin on the following page
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
(in thousands)
Successor | ||||||||||||||||
Three months ended | Nine months ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Net sales | $ | 294,257 | $ | 274,691 | $ | 908,708 | $ | 708,403 | ||||||||
Costs and expenses | ||||||||||||||||
Cost of products sold | 225,862 | 233,148 | 733,849 | 609,847 | ||||||||||||
Marketing and selling expenses | 21,826 | 29,605 | 74,788 | 71,296 | ||||||||||||
Administrative expenses | 9,875 | 11,593 | 32,341 | 36,109 | ||||||||||||
Research and development expenses | 908 | 1,006 | 2,874 | 2,786 | ||||||||||||
Goodwill impairment charge | — | 1,835 | — | 1,835 | ||||||||||||
Other expense (income), net | 4,550 | 7,353 | 9,474 | 27,275 | ||||||||||||
Total costs and expenses | 263,021 | 284,540 | 853,326 | 749,148 | ||||||||||||
Earnings (loss) before interest and taxes | 31,236 | (9,849 | ) | 55,382 | (40,745 | ) | ||||||||||
Interest expense | 17,489 | 17,156 | 52,624 | 35,054 | ||||||||||||
Interest income | 180 | 158 | 403 | 334 | ||||||||||||
Earnings (loss) before income taxes | 13,927 | (26,847 | ) | 3,161 | (75,465 | ) | ||||||||||
Provision for income taxes | 9,214 | 4,084 | 23,050 | 4,192 | ||||||||||||
Net earnings (loss) | $ | 4,713 | $ | (30,931 | ) | $ | (19,889 | ) | $ | (79,657 | ) | |||||
See accompanying Notes to Unaudited Consolidated Financial Statements
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (unaudited)
(in thousands)
Successor | ||||||||
September 25, | December 26, | |||||||
2005 | 2004 | |||||||
Current assets: | ||||||||
Cash and cash equivalents | $ | 594 | $ | 2,235 | ||||
Accounts receivable, net | 84,903 | 74,365 | ||||||
Inventories, net | 175,899 | 205,510 | ||||||
Other current assets | 6,571 | 3,991 | ||||||
Deferred income taxes | 23 | 22 | ||||||
Total current assets | 267,990 | 286,123 | ||||||
Plant assets, net | 217,946 | 223,740 | ||||||
Tradenames | 780,544 | 780,544 | ||||||
Other assets, net | 48,211 | 57,670 | ||||||
Goodwill | 415,112 | 416,863 | ||||||
Total assets | $ | 1,729,803 | $ | 1,764,940 | ||||
Current liabilities: | ||||||||
Current portion of long-term obligations | $ | 130 | $ | 5,574 | ||||
Notes payable | 912 | — | ||||||
Accounts payable | 72,625 | 87,921 | ||||||
Accrued trade marketing expense | 36,869 | 46,014 | ||||||
Accrued liabilities | 87,914 | 77,735 | ||||||
Accrued income taxes | 2,817 | 1,477 | ||||||
Total current liabilities | 201,267 | 218,721 | ||||||
Long-term debt | 918,379 | 937,506 | ||||||
Postretirement benefits | 2,754 | 2,940 | ||||||
Deferred income taxes | 233,605 | 212,406 | ||||||
Total liabilities | 1,356,005 | 1,371,573 | ||||||
Commitments and contingencies (Note 12) | ||||||||
Shareholder’s equity: | ||||||||
Pinnacle Common stock: Par value $.01 per share, 100 shares authorized, issued 100 | — | — | ||||||
Additional paid-in-capital | 519,433 | 519,433 | ||||||
Accumulated other comprehensive income | 211 | 48 | ||||||
Carryover of Predecessor basis of net assets | (17,338 | ) | (17,495 | ) | ||||
Accumulated deficit | (128,508 | ) | (108,619 | ) | ||||
Total shareholder’s equity | 373,798 | 393,367 | ||||||
Total liabilities and shareholder’s equity | $ | 1,729,803 | $ | 1,764,940 | ||||
See accompanying Notes to Unaudited Consolidated Financial Statements
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
(in thousands)
Successor | ||||||||
Nine months ended | ||||||||
September 25, | September 26, | |||||||
2005 | 2004 | |||||||
Cash flows from operating activities | ||||||||
Net loss from operations | $ | (19,889 | ) | $ | (79,657 | ) | ||
Non-cash charges (credits) to net loss | ||||||||
Depreciation and amortization | 29,782 | 28,873 | ||||||
Restructuring and impairment charges | 1,502 | 16,312 | ||||||
Amortization of debt acquisition costs | 4,398 | 3,146 | ||||||
Amortization of bond premium | (391 | ) | (400 | ) | ||||
Change in value of financial instruments | (2,058 | ) | (1,499 | ) | ||||
Equity related compensation charge | — | 7,400 | ||||||
Postretirement healthcare benefits | (186 | ) | (975 | ) | ||||
Pension expense | 446 | 790 | ||||||
Deferred income taxes | 21,199 | 4,715 | ||||||
Changes in working capital | ||||||||
Accounts receivable | (10,311 | ) | (15,413 | ) | ||||
Inventories | 29,774 | (30,681 | ) | |||||
Accrued trade marketing expense | (9,261 | ) | 6,344 | |||||
Accounts payable | (24,835 | ) | 31,582 | |||||
Other current assets and liabilities | 11,694 | (5,174 | ) | |||||
Net cash provided by (used in) operating activities | 31,864 | (34,637 | ) | |||||
Cash flows from investing activities | ||||||||
Capital expenditures | (21,800 | ) | (11,947 | ) | ||||
Pinnacle merger consideration | 1,595 | — | ||||||
Pinnacle merger costs | — | (426 | ) | |||||
Aurora merger consideration | — | (663,759 | ) | |||||
Aurora merger costs | — | (17,006 | ) | |||||
Sale of plant assets | 561 | — | ||||||
Acquisition of license | — | (1,919 | ) | |||||
Net cash used in investing activities | (19,644 | ) | (695,057 | ) | ||||
Cash flows from financing activities | ||||||||
Change in bank overdrafts | 9,458 | 5,598 | ||||||
Repayment of capital lease obligations | (93 | ) | (4 | ) | ||||
Equity contribution to Successor | — | 95,276 | ||||||
Successor’s debt acquisition costs | (51 | ) | (16,853 | ) | ||||
Proceeds from Successor’s bond offerings | — | 200,976 | ||||||
Proceeds from Successor’s bank term loan | — | 425,000 | ||||||
Proceeds from Successor’s notes payable borrowing | 31,626 | 30,000 | ||||||
Repayments of Successor’s notes payable | (30,714 | ) | (14,000 | ) | ||||
Repayments of Successor’s long term obligations | (24,087 | ) | (1,363 | ) | ||||
Net cash (used in) provided by financing activities | (13,861 | ) | 724,630 | |||||
Effect of exchange rate changes on cash | — | 18 | ||||||
Net change in cash and cash equivalents | (1,641 | ) | (5,046 | ) | ||||
Cash and cash equivalents — beginning of period | 2,235 | 5,254 | ||||||
Cash and cash equivalents — end of period | $ | 594 | $ | 208 | ||||
Supplemental disclosures of cash flow information: | ||||||||
Interest paid | $ | 39,435 | $ | 28,344 | ||||
Interest received | 403 | 324 | ||||||
Income taxes refunded (paid) | 408 | 862 |
See accompanying Notes to Unaudited Consolidated Financial Statements
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDER’S EQUITY (unaudited)
(in thousands)
Carryover of | Accumulated | |||||||||||||||||||||||||||
Additional | Predecessor | Other | Total | |||||||||||||||||||||||||
Common Stock | Paid In | Accumulated | Basis of | Comprehensive | Shareholder’s | |||||||||||||||||||||||
Shares | Amount | Capital | Deficit | Net Assets | Income | Equity | ||||||||||||||||||||||
Successor | ||||||||||||||||||||||||||||
Balance at December 28, 2003 | 100 | $ | — | $ | 191,637 | $ | (16,299 | ) | $ | (17,495 | ) | $ | — | $ | 157,843 | |||||||||||||
Equity contributions: | ||||||||||||||||||||||||||||
Cash | 95,276 | 95,276 | ||||||||||||||||||||||||||
Noncash | 225,120 | 225,120 | ||||||||||||||||||||||||||
Equity related compensation | 7,400 | 7,400 | ||||||||||||||||||||||||||
Comprehensive income (loss): | ||||||||||||||||||||||||||||
Net loss | (79,657 | ) | (79,657 | ) | ||||||||||||||||||||||||
Foreign currency translation | 19 | 19 | ||||||||||||||||||||||||||
Total comprehensive loss | (79,638 | ) | ||||||||||||||||||||||||||
Balance at September 26, 2004 | 100 | $ | — | $ | 519,433 | $ | (95,956 | ) | $ | (17,495 | ) | $ | 19 | $ | 406,001 | |||||||||||||
Successor | ||||||||||||||||||||||||||||
Balance at December 26, 2004 | 100 | $ | — | $ | 519,433 | $ | (108,619 | ) | $ | (17,495 | ) | $ | 48 | $ | 393,367 | |||||||||||||
Impact of additional purchase accounting adjustments | 157 | 157 | ||||||||||||||||||||||||||
Comprehensive income (loss): | ||||||||||||||||||||||||||||
Net loss | (19,889 | ) | (19,889 | ) | ||||||||||||||||||||||||
Foreign currency translation | 163 | 163 | ||||||||||||||||||||||||||
Total comprehensive loss | (19,726 | ) | ||||||||||||||||||||||||||
Balance at September 25, 2005 | 100 | $ | — | $ | 519,433 | $ | (128,508 | ) | $ | (17,338 | ) | $ | 211 | $ | 373,798 | |||||||||||||
See accompanying Notes to Unaudited Consolidated Financial Statements
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
1. Summary of Business Activities
Business Overview
Pinnacle Foods Group Inc. (hereafter referred to as the “Company” or “PFGI”) is a leading producer, marketer and distributor of high quality, branded convenience food products, the products and operations of which are managed and reported in two operating segments: (i) frozen foods and (ii) dry foods. The Company’s frozen foods segment consists primarily of Swanson and Hungry Man frozen foods products, Van de Kamp’s and Mrs. Paul’s frozen seafood, Aunt Jemima frozen breakfasts, Lender’s bagels and other frozen foods under the Celeste and Chef’s Choice names, as well as food service and private label products. The Company’s dry foods segment consists primarily of Vlasic pickles, peppers and relish products, Duncan Hines baking mixes and frostings, Mrs. Butterworth’s and Log Cabin syrups and pancake mixes, and Open Pit barbecue sauce as well as food service and private label products.
Effective November 24, 2003, Pinnacle Foods Holding Corporation (“PFHC”) and certain newly-formed investor companies consummated a merger (the “Pinnacle Merger”), where PFHC was effectively acquired by Crunch Equity Holding, LLC (“LLC”). On November 25, 2003, LLC entered into a definitive agreement with Aurora Foods Inc. (“Aurora”) that provided for a comprehensive restructuring transaction in which PFHC was merged with and into Aurora, with Aurora surviving this merger. This restructuring transaction was completed on March 19, 2004 and the surviving company was renamed PFGI. See Note 3 below for a further discussion of the transaction.
In December 2004, the Company’s board of directors approved a change in PFGI’s fiscal year end from July 31 to the last Sunday in December. Accordingly, the Company is presenting unaudited consolidated financial statements for the three and nine months ended September 25, 2005 and for the three and nine months ended September 26, 2004. Additionally, references to the “transition year” refer to the 21 weeks ended December 26, 2004.
2. Interim Financial Statements
In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (consisting only of normal recurring adjustments) necessary for a fair statement of PFGI’s financial position as of September 25, 2005, and the results of operations and cash flows for the three and nine months ended September 25, 2005 and September 26, 2004. The results of operations are not necessarily indicative of the results to be expected for the full year. The accompanying unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the company’s annual report onForm 10-Kfor the transition year ended December 26, 2004.
3. Acquisitions
Aurora Transaction
On November 25, 2003, Aurora entered into a definitive agreement with LLC. The definitive agreement provided for a comprehensive restructuring transaction in which PFHC was merged with and into Aurora, with Aurora surviving the merger, following the filing and confirmation of a pre-negotiated bankruptcy reorganization case with respect to Aurora under Chapter 11 of the U.S. Bankruptcy Code. On December 8, 2003, Aurora filed its petition for reorganization with the Bankruptcy Court. On February 20, 2004, the First Amended Joint Reorganization Plan of Aurora Foods Inc. and Sea Coast Foods, Inc., as modified, dated February 17, 2004, was confirmed by order of the Bankruptcy Court. We collectively refer to the restructuring, the financing thereof and the other related transactions as the “Aurora Transaction.” This restructuring transaction was completed on March 19, 2004 and the surviving company was renamed Pinnacle Foods Group Inc.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pursuant to the terms of the definitive agreement, (i) the senior secured lenders under Aurora’s existing credit facility were paid in full in cash in respect of principal and interest, and received $15 million in cash in respect of certain leverage and asset sales fees owed under that facility, (ii) the holders of Aurora’s 12% senior unsecured notes due 2005 were paid in full in cash in respect of principal and interest but did not receive $1.9 million of original issue discount, (iii) the holders of Aurora’s outstanding 8.75% and 9.875% senior subordinated notes due 2008 and 2007, respectively, received approximately 50% of the face value of the senior subordinated notes plus accrued interest in cash or, at the election of each bondholder, 52% of the face value of the senior subordinated notes plus accrued interest in equity interests in LLC (held indirectly through a bondholders trust), (iv) the existing common and preferred stockholders did not receive any distributions and their shares have been cancelled, (v) Aurora’s existing accounts receivable securitization facility was terminated in December 2003, (vi) all of Aurora’s trade creditors were paid in full and (vii) all other claims against Aurora were unimpaired, except for the rejection of Aurora’s St. Louis headquarters leases. The definitive agreement also provides that the total acquisition consideration is subject to a post-closing adjustment based on Aurora’s adjusted net debt as of the closing date. Based upon the final adjusted net debt calculation, there was no adjustment to the consideration and the consideration detailed below is final.
In connection with the Aurora Transaction, certain ownership units of LLC were issued to CDM Investor Group LLC (“CDM”), which is controlled by certain members of PFGI’s management. Certain of these units provide a profits interest consisting of an interest in distributions to the extent in excess of capital contributed by members of the LLC. The interests vest immediately. The fair value of the interests at the date of grant is $7.4 million and has been included in the Successor’s Consolidated Balance Sheet as an increase in Successor’s additional paid-in-capital and in the Consolidated Statement of Operations for the nine months ended September 26, 2004 as an expense reflecting the charge for the fair value immediately after consummation of the Aurora Transaction. Additional units were issued in connection with the Pinnacle Merger.
After the consummation of the Aurora Transaction, JPMorgan Partners, LLC (“JPMP”) and J.W. Childs Associates, L.P. (“JWC”) collectively own approximately 48% of LLC, the holders of Aurora’s senior subordinated notes own approximately 43% of LLC and CDM owns approximately 9% of LLC, in each case subject to dilution by up to 16% in management equity incentives.
Prior to its bankruptcy filing, Aurora entered into an agreement with its prepetition lending group compromising the amount of certain fees (i.e., excess leverage fees) due under its senior bank facilities (the “October Amendment”). One of the members of the bank group (R2 Top Hat, Ltd.) challenged the enforceability of the October Amendment during Aurora’s bankruptcy by filing an adversary proceeding and by objecting to confirmation. The bankruptcy court rejected the lender’s argument and confirmed Aurora’s plan of reorganization. The lender then appealed from those orders of the bankruptcy court. The appeals are pending. It is too early to predict the outcome of the appeals. The Company assumed a liability of $20 million through the Aurora Transaction with respect to its total exposure relating to these fees, which is included in Accrued Liabilities on the Consolidated Balance Sheet.
The Aurora Transaction was financed through borrowings of a $425.0 million Term Loan drawn under the Company’s Senior Secured Credit Facilities, $201.0 million gross proceeds from the February 2004 issuance of the 8.25% Senior Subordinated Notes due 2013, existing cash on the Aurora balance sheet and cash equity contributions of $84.4 million and $10.9 million by the Sponsors and from the Aurora bondholders, respectively.
The total cost of the Aurora Transaction consists of:
Total paid to Aurora’s creditors | $ | 709,327 | ||
Less: Amount paid with Aurora cash | (20,764 | ) | ||
Subtotal | 688,563 | |||
Fair value of equity interests in LLC exchanged for Aurora senior subordinated notes | 225,120 | |||
Acquisition costs | 21,608 | |||
Total cost of acquisition | $ | 935,291 | ||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
The following table summarizes the allocation of the total cost of acquisition to the assets acquired and liabilities assumed:
Assets recorded: | ||||
Plant assets | $ | 107,528 | ||
Inventories | 68,116 | |||
Accounts receivable | 52,730 | |||
Cash | 24,804 | |||
Other current assets | 4,428 | |||
Goodwill | 278,240 | |||
Recipes and formulas | 20,600 | |||
Tradenames | 675,700 | |||
Other assets | 690 | |||
Fair value of assets acquired | 1,232,836 | |||
Liabilities assumed | 114,053 | |||
Deferred income taxes | 183,492 | |||
Purchase price | $ | 935,291 | ||
The total intangible assets amounted to $974,540, of which $20,600 was assigned to recipes and formulas, which are amortized over an estimated useful life of five years, and $675,700 was assigned to tradenames that are not subject to amortization. Goodwill, which is not subject to amortization, amounted to $278,240, of which $150,872 was allocated to the dry foods segment and $127,368 was allocated to the frozen foods segment. No new tax-deductible goodwill was created as a result of the Aurora Transaction, but historical tax-deductible goodwill in the amount of $386,386 does exist.
In accordance with the requirements of purchase method accounting for acquisitions, inventories as of March 19, 2004 were valued at fair value (net realizable value, which is defined as estimated selling prices less the sum of (a) costs of disposal and (b) a reasonable profit allowance for the selling effort of the acquiring entity) which in the case of finished products was $13,185 higher than the Aurora’s historical manufacturing cost. This higher cost was included as a pre-tax charge in cost of products sold in the nine months ended September 26, 2004.
Pro forma Information
The following schedule includes statements of operation data for the unaudited actual results for the nine months ended September 25, 2005 and unaudited pro forma information for the nine months ended September 26, 2004 as if the Aurora Transaction had occurred as of December 29, 2003. The pro forma information includes the actual results with pro forma adjustments for the change in interest expense related to the changes in capital structure resulting from the financings discussed above, purchase accounting adjustments resulting in changes to depreciation and amortization expenses, and the reduction in rent expense resulting from an office closure.
The unaudited pro forma information is provided for illustrative purposes only. It does not purport to represent what the results of operations would have been had the Aurora Transaction occurred on the dates indicated above, nor does it purport to project the results of operations for any future period or as of any future date.
Nine months ended | ||||||||
September 25, | September 26, | |||||||
2005 | 2004 | |||||||
(Actual) | (Pro Forma) | |||||||
Net sales | $ | 908,708 | $ | 865,867 | ||||
Earnings before interest and taxes | $ | 55,382 | $ | 165,279 | ||||
Net (loss) earnings | $ | (19,889 | ) | $ | 108,259 |
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pro forma depreciation and amortization expense included above was $32,293 for the nine months ended September 26, 2004.
Included in earnings before interest and taxes in the pro forma information above for the nine months ended September 26, 2004 are the following material charges (credits):
Nine Months | ||||
Ended | ||||
Pinnacle Historical Financial Statements | September 26, 2004 | |||
Flow through of fair value of Pinnacle inventories over manufactured cost as of November 25, 2003 | $ | 18,126 | ||
Flow through of fair value of Aurora inventories over manufactured cost as of March 19, 2004 | 13,185 | |||
Aurora acquisitions costs | 4,978 | |||
Pinnacle acquisition costs | 1,420 | |||
Equity related compensation | 7,400 | |||
Impact on earnings before interest and taxes | $ | 45,109 | ||
Nine Months | ||||
Ended | ||||
Aurora Historical Financial Statements | September 26, 2004 | |||
Write off of obsolete inventory | $ | 725 | ||
Administrative restructuring and retention costs | 548 | |||
Financial restructuring and divestiture costs | 5,023 | |||
Reorganization (primarily consists of debt forgiveness) | (187,971 | ) | ||
Miscellaneous non-cash charges | 207 | |||
Impact on earnings before interest and taxes | $ | (181,468 | ) | |
4. Restructuring and Impairment Charges
Frozen Food Segment
Erie, Pennsylvania Production Facility
On April 29, 2005, the Company’s board of directors approved a plan to permanently close its Erie, Pennsylvania production facility, as part of the Company’s plan of consolidating and streamlining production activities after the Aurora merger. Production from the Erie plant, which manufactures Mrs. Paul’s and Van de Kamp frozen seafood products and Aunt Jemima frozen breakfast products, will be relocated primarily to the Company’s Jackson, Tennessee production facility. Activities related to the closure of the plant are expected to be completed by the first quarter of 2006 and will result in the elimination of approximately 290 positions. Employee termination activities commenced in July 2005 and are expected to be completed by the end of 2005. In accordance with SFAS 112, “Employers Accounting for Postemployment Benefits”, the Company has accrued severance costs related to the employees to be terminated. In addition, the following table contains detailed information about the charges incurred related to the Erie restructuring plan, recorded in accordance with SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”:
Estimated | Change in | Incurred | Estimated | |||||||||||||
Total | Estimated | Through | Remaining | |||||||||||||
Description | Charges | Charges | September 25, 2005 | Charges | ||||||||||||
Employee severance | $ | 590 | $ | 249 | $ | 839 | $ | — | ||||||||
Other costs | 3,650 | 463 | 3,058 | 1,055 | ||||||||||||
Total | $ | 4,240 | $ | 712 | $ | 3,897 | $ | 1,055 | ||||||||
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
The charges incurred have been included in Other expense (income), net line in the Consolidated Statement of Operations for nine months ended September 25, 2005. All such charges are reported under the frozen foods business segment.
The Company plans to transfer equipment with a net book value of approximately $4 million to other production locations, primarily in Jackson, Tennessee. The remaining property, plant and equipment have been evaluated as to recoverability. Based on an estimate of future cash flows over the remaining useful life of the assets, depreciation expense has been accelerated on the remaining asset value and resulted in additional depreciation expense of approximately $4,400 through the nine months ended September 25, 2005.
Employees terminated as a result of this closure are eligible to receive severance pay and other benefits totaling $839, of which $399 has been paid as of September 25, 2005. The remaining severance was accrued in the Consolidated Balance Sheet at September 25, 2005. Other closing costs of approximately $4,113 relate to facility operating costs during the shutdown period and other shutdown costs and expenses associated with dismantling, transferring and reassembling certain equipment to Jackson, Tennessee. As of September 25, 2005, $50 has been accrued and $3,008 has been spent.
In connection with the plant closure, facility operating and shutdown costs as well as costs to dismantle, transfer and reassemble equipment and other plant shut down costs will be incurred and are expected to result in expense as incurred in the Company’s Statements of Operations of approximately $937 and $118 in the fourth quarter of 2005 and first quarter of 2006, respectively. Also, the Company expects to make capital expenditures of approximately $8.7 million through December 2005 in connection with this plant consolidation project.
Mattoon, Illinois Production Facility
On April 21, 2005, the Company made and announced its decision effective May 9, 2005 to shutdown a bagel production line at its Mattoon, Illinois facility, which produces the Company’s Lender’s® bagels. In connection with the shutdown of the production line, the Company has terminated 28 full-time and 7 part-time employees. A portion of the assets that were used in the bagel line will be utilized in other production areas within the Company. In accordance with SFAS No. 144, “Accounting for the Impairment and Disposal of Long-Lived Assets”, the Company incurred a non-cash charge of $862 related to the asset impairment of the bagel line, which has been recorded as a component of Other expense (income), net in the Consolidated Statement of Operations for the nine months ended September 25, 2005. All such charges are reported under the frozen foods business segment. The Company expects that any costs associated with the removal of the assets would be offset from the proceeds received from the sale of those assets.
Omaha, Nebraska Production Facility
On April 7, 2004, the Company made and announced its decision to permanently close its Omaha, Nebraska production facility, as part of the Company’s plan of consolidating and streamlining production activities after the Aurora merger. Production from the Omaha plant, which manufactured Swanson frozen entree retail products and frozen foodservice products and ceased in December 2004, has been relocated to the Company’s Fayetteville, Arkansas and Jackson, Tennessee production facilities. Activities related to the closure of the plant were completed in the first quarter of 2005 and resulted in the elimination of 411 positions. The following table contains detailed information about the charges incurred to date related to the Omaha restructuring plan, recorded in accordance with SFAS No. 112, “Employers Accounting for Postemployment Benefits”, SFAS No. 144, “Accounting for the Impairment and Disposal of Long-Lived Assets” and SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”:
Incurred | ||||||||||||||||||||||||
Original | Change in | Through | Nine Months | Estimated | ||||||||||||||||||||
Estimated | Estimated | December 26, | Ended | Remaining | ||||||||||||||||||||
Description | Charges | Charges | Transfers | 2004 | September 25, 2005 | Charges | ||||||||||||||||||
Asset impairment charges | $ | 7,400 | $ | 2,649 | $ | 10,049 | $ | — | $ | — | ||||||||||||||
Employee severance | 2,506 | — | 59 | 2,506 | 59 | — | ||||||||||||||||||
Other costs | 4,984 | (464 | ) | (59 | ) | 3,078 | 1,266 | 117 | ||||||||||||||||
Total | $ | 14,890 | $ | 2,185 | $ | — | $ | 15,633 | $ | 1,325 | $ | 117 | ||||||||||||
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
The charges incurred have been included in other expense (income), net in the Consolidated Statement of Operations. All such charges are reported under the frozen foods business segment.
The Company had planned to transfer equipment with a net book value of approximately $9,700 to other production locations, primarily in Fayetteville, Arkansas and Jackson, Tennessee. Due to the delay in closing the Omaha plant and the need to have production up and running in the Fayetteville plant, the Company was unable to transfer certain equipment with a net book value of $6,196 and instead incurred capital expenditures to purchase, build and modify the necessary equipment in Fayetteville. In addition to the impairment charge initially recorded in the first quarter of 2004, the Company evaluated the remaining property, plant and equipment as well as existing offers to sell the plant and equipment, and recorded an additional impairment charge of $2,649 in December 2004.
Employees terminated as a result of this closure are eligible to receive severance pay and benefits totaling $2,565, of which $2,516 has been disbursed as of September 25, 2005. Other closing costs of approximately $4,461 relate to other shutdown costs. As of September 25, 2005, $4,120 has been disbursed and $224 has been incurred and accrued.
The employee terminations resulted in a curtailment gain under the Company’s pension plan of $2,067 and postretirement benefit plan of approximately $1,142, as a portion of the unrecognized prior service credit will be immediately recognized when the employees are terminated. In accordance with SFAS No. 88, “Employers’ Accounting for Settlements and Curtailments of Defined Benefit Pension Plans and for Terminations Benefits”, the curtailment gain attributable to the pension plan was completely offset by an unrecognized loss. The gain of $1,142 attributable to the postretirement benefit plan has been recognized as a component of cost of products sold in the Consolidated Statements of Operations during the 21 weeks ended December 26, 2004.
In connection with the plant closure, costs to dismantle, transfer and reassemble equipment and other plant shut down costs will be incurred and expect to result in expense as incurred in the Company’s Statements of Operations of approximately $117 in the fourth quarter of 2005. Also, the Company has made capital expenditures totaling approximately $8.6 million through the quarter ending September 25, 2005 in connection with this plant consolidation project.
The following table summarizes impairment and restructuring charges during the nine months ended September 25, 2005. It also includes severance liabilities assumed or established in purchase accounting. These amounts are recorded in accrued liabilities.
Balance at | Balance at | |||||||||||||||||||||||
December 26, | Noncash | Cash | September 25, | |||||||||||||||||||||
Description | 2004 | Additions | Reductions | Reductions | Transfers | 2005 | ||||||||||||||||||
Other asset impairment charges | $ | — | $ | 862 | $ | (862 | ) | $ | — | $ | — | |||||||||||||
Employee severance | 3,695 | 843 | — | (2,801 | ) | 59 | 1,796 | |||||||||||||||||
Other costs | 305 | 4,382 | — | (4,354 | ) | (59 | ) | 274 | ||||||||||||||||
Total | $ | 4,000 | $ | 6,087 | $ | (862 | ) | $ | (7,155 | ) | $ | — | $ | 2,070 | ||||||||||
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
5. Stock Options
As permitted by SFAS No. 123 “Accounting for Stock-Based Compensation” as amended by SFAS No. 148 “Accounting for Stock-Based Compensation – Transition and Disclosure,” the Company uses the intrinsic value-based method of accounting prescribed by Accounting Principles Board Opinion (“APB”) No. 25, “Accounting for Stock Issued to Employees,” and related interpretations to account for its employee stock-based compensation. No compensation expense for employee stock options is reflected in net earnings as all options granted under those plans had an exercise price equal to the market value of the common stock on the date of the grant.
The following table illustrates the effect on net earnings if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation for the three and nine months ended September 25, 2005 and September 26, 2004.
Three Months Ended | Nine Months Ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Net earnings (loss), as reported | $ | 4,713 | $ | (30,931 | ) | $ | (19,889 | ) | $ | (79,657 | ) | |||||
Deduct: Total stock-based employee compensation expense determined under fair value method for all stock option awards, net of related tax effects | (306 | ) | (158 | ) | (876 | ) | (474 | ) | ||||||||
Pro forma net earnings (loss) | $ | 4,407 | $ | (31,089 | ) | $ | (20,765 | ) | $ | (80,131 | ) | |||||
6. Other Expense (Income), net
Three Months Ended | Nine Months Ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Other expense (income), net consists of: | ||||||||||||||||
Restructuring and impairment charges | $ | 3,480 | $ | 6,444 | $ | 6,084 | $ | 16,469 | ||||||||
Merger related costs | — | — | (101 | ) | 8,820 | |||||||||||
Amortization of intangibles/other assets | 1,203 | 1,100 | 3,610 | 2,248 | ||||||||||||
Royalty expense (income), net | (132 | ) | (155 | ) | (87 | ) | (269 | ) | ||||||||
Other | (1 | ) | (36 | ) | (32 | ) | 7 | |||||||||
Total other expense | $ | 4,550 | $ | 7,353 | $ | 9,474 | $ | 27,275 | ||||||||
Restructuring charges.As described in Note 4, the Company incurred costs in connection with the planned shutdown of the Omaha, Nebraska and Erie, Pennsylvania facilities as well as the shut down of a production line in Mattoon, Illinois.
Merger related costs.The Company incurred the following costs in the first quarter of 2004 in connection with the Pinnacle Merger and the Aurora Transaction discussed in Note 3:
Equity related compensation. In connection with the formation of LLC and the Aurora Transaction, certain ownership units of LLC were issued to CDM, which is controlled by certain members of PFGI’s management. Certain of these units provide a profits interest consisting of an interest in distributions to the extent in excess of capital contributed by members of the LLC. The interests vest immediately. The estimated fair value of the interests issued in the Aurora Transaction at the date of the respective grant was $7,400, and has been included in the Consolidated Balance Sheet as an increase in the Company’s additional paid-in-capital and in the Consolidated Statement of Operations as an expense reflecting the charge for the fair value immediately after consummation of such transactions.
Retention benefits. In connection with the Pinnacle Merger, retention benefits to certain key employees accrued during the nine months ended September 26, 2004 totaled $1,420.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
7. Inventories
September 25, | December 26, | |||||||
2005 | 2004 | |||||||
Raw materials, containers and supplies | $ | 33,062 | $ | 34,489 | ||||
Finished product | 151,597 | 187,645 | ||||||
184,659 | 222,134 | |||||||
Reserves | (8,760 | ) | (16,624 | ) | ||||
Total | $ | 175,899 | $ | 205,510 | ||||
Reserves represent amounts necessary to adjust the carrying value of inventory to the lower of cost or net realizable value, including any costs to sell or dispose.
The Company has various purchase commitments for raw materials, containers, supplies and certain finished products incident to the ordinary course of business. Such commitments are not at prices in excess of current market.
8. Goodwill and Other Assets
Goodwill
Purchase | ||||||||||||
December 26, | Price | September 25, | ||||||||||
2004 | Adjustment | 2005 | ||||||||||
Frozen Foods | $ | 122,858 | $ | — | $ | 122,858 | ||||||
Dry Foods | 294,005 | (1,751 | ) | 292,254 | ||||||||
Total | $ | 416,863 | $ | (1,751 | ) | $ | 415,112 | |||||
During the first quarter of 2005, the working capital adjustment for the Pinnacle Merger was finalized. In the initial consideration paid to the Predecessor’s shareholders, $10 million was deposited into an escrow account pending finalization of the working capital adjustment. Upon the settlement of the adjustment, which was $8.4 million, the remaining cash was returned to the Company and resulted in a net reduction to goodwill of $1,545.
Additionally, during the second quarter of 2005, the Company settled a state tax liability related to the period of ownership prior to the Pinnacle Merger. The amount of the settlement was for less then the liability accrued at the time of the change in ownership. The settlement of the liability resulted in a decrease to goodwill of $206.
Other Assets
September 25, | December 26, | |||||||
2005 | 2004 | |||||||
Amortizable intangibles, net of accumulated amortization of $7,064 and $3,454, respectively | $ | 13,967 | $ | 17,577 | ||||
Deferred financing costs, net of accumulated amortization of $9,045 and $4,647, respectively | 31,592 | 35,940 | ||||||
Interest rate swap fair value (Note 11) | 2,058 | 3,533 | ||||||
Other | 594 | 620 | ||||||
Total | $ | 48,211 | $ | 57,670 | ||||
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Amortizable intangible assets relate primarily to recipes and formulas acquired in the Aurora Transaction and have been assigned a five year estimated useful life for amortization purposes. Additionally, during the transition year, the Company reacquired an exclusive license to distribute Duncan Hines product in Canada. The license that was reacquired runs through June 30, 2006 at which time the Company will have exclusive right to distribution of the Duncan Hines product in Canada. Amortization expense during the three and nine months ended September 25, 2005 was $1,203 and $3,610, respectively. Amortization expense during the three and nine months ended September 26, 2004 was $1,100 and $2,248, respectively. Estimated amortization expense for each of the next five years is as follows: remainder of 2005 — $1,204, 2006 — $4,299, 2007 — $3,785, 2008 — $3,785, 2009 — $869, thereafter — $25.
Deferred financing costs relate to the Successor’s senior secured credit facilities and senior subordinated notes. Amortization was $1,783 and $4,398 for the three and nine months ended September 25, 2005, respectively. Amortization for the three and nine months ended September 26, 2004 was $1,199 and $3,146, respectively.
9. Debt and Interest Expense
September 25, | December 26, | |||||||
2005 | 2004 | |||||||
Long-term debt | ||||||||
Successor | ||||||||
- Senior secured credit facility — term loan | $ | 518,188 | $ | 542,275 | ||||
- 8 1/4% Senior subordinated notes | 394,000 | 394,000 | ||||||
- Plus: unamortized premium on senior subordinated notes | 6,061 | 6,452 | ||||||
- Capital lease obligations | 260 | 353 | ||||||
Total Debt | 918,509 | 943,080 | ||||||
Less: current portion of long-term obligations | 130 | 5,574 | ||||||
Total long-term debt | $ | 918,379 | $ | 937,506 | ||||
Three months ended | Nine months ended | |||||||||||||||
Interest expense | September 25, 2005 | September 26, 2004 | September 25, 2005 | September 26, 2004 | ||||||||||||
Third party interest expense | $ | 19,260 | $ | 15,261 | $ | 55,682 | $ | 39,889 | ||||||||
Related party interest expense | 101 | 106 | 254 | 182 | ||||||||||||
Interest rate swap (gains) / losses (Note 11) | (1,872 | ) | 1,789 | (3,312 | ) | (5,017 | ) | |||||||||
$ | 17,489 | $ | 17,156 | $ | 52,624 | $ | 35,054 | |||||||||
In November 2003, the Company entered into a $675.0 million Credit Agreement (“senior secured credit facilities”) with JPMorgan Chase Bank (a related party of JPMP) and other financial institutions as lenders, which provides for a $545.0 million seven-year term loan B facility, of which $120.0 million was made available on November 25, 2003 and $425.0 million was made available as a delayed draw term loan on the closing date of the Aurora Transaction. The term loan matures November 25, 2010. The senior secured credit facility also provides for a six-year $130.0 million revolving credit facility, of which up to $65.0 million was made available on November 25, 2003, and the remaining $65.0 million was made available on the closing date of the Aurora Transaction. The revolving credit facility expires November 25, 2009. There were no borrowings outstanding under the revolver as of September 25, 2005 and December 26, 2004.
There was no related party debt outstanding as of September 25, 2005 and December 26, 2004.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Subject to the Senior Credit Agreement Amendment, which is discussed below, our borrowings under the senior secured credit facilities bear interest at a floating rate and are maintained as base rate loans or as Eurodollar loans. Base rate loans bear interest at the base rate plus the applicable base rate margin, as defined in the senior secured credit facilities. Base rate is defined as the higher of (i) the prime rate and (ii) the Federal Reserve reported overnight funds rate plus 1/2 of 1%. Eurodollar loans bear interest at the adjusted Eurodollar rate, as described in the senior secured credit facilities, plus the applicable Eurodollar rate margin.
The applicable margins with respect to our term loan facility and our revolving credit facility will vary from time to time in accordance with the terms thereof and agreed upon pricing grids based on our leverage ratio as defined in our senior secured credit facilities. The initial applicable margin with respect to the term loan facility and the revolving credit facility is:
• | In the case of base rate loans: 1.75% for the term loan and 1.75% for the revolving credit facility. | |
• | In the case of Eurodollar loans: 2.75% for the term loan and 2.75% for the revolving credit facility. |
The range of margins for the revolving credit facility is:
• | In the case of base rate loans: 1.25% to 1.75%. | |
• | In the case of Eurodollar loans: 2.25% to 2.75%. |
A commitment fee of 0.50% per annum applies to the unused portion of the revolving loan facility and 1.25% per annum applied to the delayed-draw term loan until it became available for the Aurora Transaction. For the three and nine months ended September 25, 2005, the weighted average interest rate on the term loan was 6.7394% and 6.2603%, respectively. For the nine months ended September 25, 2005, the weighted average interest rate on the revolving credit facility was 6.2530%. There were no borrowings under the revolving credit facility during the three months ended September 25, 2005. As of September 25, 2005, the Eurodollar interest rate on the term loan facility was 6.7521% and the commitment fee on the undrawn revolving credit facility was 0.50%. For the three and nine months ended September 26, 2004, the weighted average interest rate on the term loan was 4.2593% and 4.1767%, respectively. For the three and nine months ended September 26, 2004, the weighted average interest rate on the revolving credit facility was 4.6822% and 4.2974%, respectively. As of September 26, 2004, the Eurodollar interest rate on the term loan facility was 4.2594% and the commitment fee on the undrawn revolving credit facility was 0.50%.
In September 2005, the Company prepaid $20 million of the term loan facility. Due to the prepayment, the next scheduled installment payable will be in March 2009. The revolving credit facility terminates on November 25, 2009. The aggregate maturities of the term loan outstanding as of September 25, 2005 are $3,163 in 2009 and $515,025 thereafter.
The obligations under the senior secured credit facilities are unconditionally and irrevocably guaranteed by each of our direct or indirect domestic subsidiaries (collectively, the “Guarantors”). In addition, the senior secured credit facilities are collateralized by first priority or equivalent security interests in (i) all the capital stock of, or other equity interests in, each direct or indirect domestic subsidiary of the Company and 65% of the capital stock of, or other equity interests in, each direct foreign subsidiary of the Company, or any of its domestic subsidiaries and (ii) certain tangible and intangible assets of the Company and the Guarantors (subject to certain exceptions and qualifications).
We pay a commission on the face amount of all outstanding letters of credit drawn under the senior secured credit facilities at a per annum rate equal to the Applicable Margin then in effect with respect to Eurodollar loans under the revolving credit loan facility minus the fronting fee (as defined). A fronting fee equal to 1/4% per annum on the face amount of each letter of credit is payable quarterly in arrears to the issuing lender for its own account. We also pay a per annum fee equal to 1/2% on the undrawn portion of the commitments in respect of the revolving credit facility. Total letters of credit issuable under the facilities cannot exceed $40,000. As of September 25, 2005 and December 26, 2004, there were no outstanding borrowings under the revolving credit facility and we had utilized $12,722 and $15,741, respectively, for letters of credit. Of the $130,000 revolving credit facility available, as of September 25, 2005 and December 26, 2004, we had an unused balance of $117,278 and $114,259, respectively, available for future borrowings and letters of credit, of which a maximum of $27,278 and $24,259, respectively, may be used for letters of credit.
In November 2003, the Successor issued $200.0 million 81/4% senior subordinated notes, which are due December 1, 2013. On February 20, 2004, the Successor issued an additional $194.0 million of 81/4% senior subordinated notes due December 1,
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
2013, which resulted in gross proceeds of $201.0 million, including premium. The terms of the February 2004 notes are the same as the November 2003 notes and are issued under the same indenture. The Notes are general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company, and guaranteed on a full, unconditional, joint and several basis by the Company’s wholly-owned domestic subsidiaries. See Note 16 for Guarantor and Nonguarantor Financial Statements.
We may redeem all or a portion of the notes prior to December 1, 2008, at a price equal to 100% of the principal amount of the notes plus a “make-whole” premium (the greater of: (1) 1% of the then outstanding principal amount of the note; and (2) the excess of: (a) the present value at such redemption date of (i) the redemption price of the note at December 1, 2008 plus (ii) all required interest payments due on the note through December 1, 2008, computed using a discount rate equal to the Treasury Rate as of such redemption date plus 50 basis points; over (b) the then outstanding principal amount of the note, if greater). On or after December 1, 2008, we may redeem some or all of the notes at the redemption prices listed below, if redeemed during the twelve-month period beginning on December 1 of the years indicated below:
Year | Percentage | |||
2008 | 104.125 | % | ||
2009 | 102.750 | % | ||
2010 | 101.375 | % | ||
2011 and thereafter | 100.000 | % |
At any time prior to December 1, 2006, we may redeem up to 35% of the original aggregate principal amount of the notes with the net cash proceeds of certain equity offerings at a redemption price equal to 108.250% of the principal amount thereof, plus accrued and unpaid interest, so long as (a) at least 65% of the original aggregate amount of the notes remains outstanding after each such redemption and (b) any such redemption by us is made within 90 days of such equity offering.
If a change of control occurs (as defined in the indenture pursuant to which the notes were issued), and unless we have exercised our right to redeem all of the notes as described above, the note holders will have the right to require the Successor to repurchase all or a portion of the notes at a purchase price in cash equal to 101% of the principal amount thereof, plus accrued and unpaid interest to the date of repurchase.
The notes include a provision that the Company would file with the SEC on or prior to August 21, 2004 a registration statement relating to an offer to exchange the notes for an issue of SEC-registered notes with terms identical to the notes and use its reasonable best effort to cause such registration statement to become effective on or prior to October 20, 2004 and to complete the exchange offer by November 19, 2004. Since the exchange offer was not completed before November 19, 2004, the annual interest rate borne by the notes increased by 1.0% per annum until the exchange offer was completed, which occurred on February 2, 2005. As of this date, the Company was no longer paying the additional interest.
Our senior secured credit facilities and the notes contain a number of covenants that, among other things, limit, subject to certain exceptions, our ability to incur additional liens and indebtedness, make capital expenditures, engage in certain transactions with affiliates, repay other indebtedness (including the notes), make certain distributions, make acquisitions and investments, loans or advances, engage in mergers or consolidations, liquidations and dissolutions and joint ventures, sell assets, make dividends, amend certain material agreements governing our indebtedness, enter into guarantees and other contingent obligations and other matters customarily restricted in similar agreements. In addition to scheduled periodic repayments, we are also required to make mandatory repayments of the loans under the senior secured credit facilities with a portion of excess cash flow, as defined. In addition, our senior secured credit facilities contain, among others, the following financial covenants: a maximum total leverage ratio, a minimum interest coverage ratio and a maximum capital expenditure limitation. See the discussion below regarding the amendment to the senior credit agreement where these covenants have been adjusted.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Senior Credit Agreement Amendment
On September 14, 2004, the Company was first in default under its senior credit agreement. On November 4, 2004 the Company received required lender approval to temporarily waive defaults under the Company’s senior credit agreement arising due to (i) failure to furnish on a timely basis the Company’s audited financial statements for the fiscal year ended July 31, 2004, the Company’s annual budget for fiscal year 2005 and other related deliverables and (ii) failure to comply with the maximum total leverage ratio for the period ended October 31, 2004. Conditions of the waiver limited the Company’s access to the revolving credit facility through the addition of an anti-cash hoarding provision which required that at the time of a borrowing request, cash, as defined, could not exceed $10 million and limited total outstanding borrowings under the facility to $65 million. The amendment and waiver expired November 24, 2004.
On November 19, 2004 the Company received required lender approval to permanently waive the defaults mentioned above and amend the financial covenants for future reporting periods. The terms of the permanent amendment and waiver include:
• | delivery of July 31, 2004 fiscal year end financial statements on or prior to the effective date of the amendment; | ||
• | a 50 basis point increase to the applicable rate, as defined, with respect to borrowings under the credit agreement; | ||
• | a change in the definition of consolidated cash interest expense to exclude non-cash gains or losses arising from marking interest rate swap agreements to market; | ||
• | the addition of a Senior Covenant Leverage Ratio, as defined, which ranges from a ratio of 3.75 to 1.00 to a ratio of 5.75 to 1.00 through December 2005; | ||
• | amendment of the interest expense coverage ratio (ranging from a ratio of 1.50 to 1.00 to a ratio of 2.10 to 1.00 through December 2005) and suspends the maximum total leverage ratio until March 2006; | ||
• | elimination of limitation on revolving credit exposures; | ||
• | and the following limitations, restrictions and additional reporting requirements during the amendment period which ends on the second business day following the date on which the Company delivers to the Administrative Agent financial statements for the fiscal quarter ending March 2006: |
o | prohibit incremental extensions of credit, as defined; | ||
o | additional limitations on indebtedness; | ||
o | limitations on acquisitions and investments; | ||
o | additional limitations on restricted payments; | ||
o | suspension of payments for management fees; | ||
o | continuation of the anti-cash hoarding provision; | ||
o | monthly financial reporting requirements, and; | ||
o | a Company election to early terminate the amendment period. |
As of September 25, 2005, the Company was in compliance with the amended and added covenants as listed above.
In addition to the debt instruments discussed above, the Company entered into a short term notes payable agreement during the second quarter of 2005 for the financing of the Company’s annual insurance premiums. As of September 25, 2005, the balance of the notes payable totaled $912.
10. Pension and Retirement Plans
In December 2003, the Financial Accounting Standards Board issued SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits (revised 2003)” (“SFAS 132R”). SFAS 132R requires additional annual and interim disclosures about pension plans and other postretirement benefit plans.
As of September 25, 2005, the Company maintains a noncontributory defined benefit pension plan that covers substantially all eligible union employees and provides benefits generally based on years of service and employees’ compensation. The Company’s pension plan is funded in conformity with the funding requirements of applicable government regulations. As disclosed in the Company’s Consolidated Financial Statements for the transition year ended December 26, 2004, the Company does not expect to make a contribution during the current fiscal year.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
The Company maintains a postretirement benefits plan that provides health care and life insurance benefits to eligible retirees, covers most U.S. employees and their dependents and is self-funded. Employees who have 10 years of service after the age of 45 and retire are eligible to participate in the postretirement benefit plan. Effective March 19, 2004 and in connection with the acquisition of Aurora Foods, liabilities were assumed related to eight retired employees (“Aurora Retirees”). Upon amendments that became effective on May 23, 2004, the Company’s net out-of-pocket costs for postretirement health care benefits was substantially reduced as retired employees, excluding the Aurora Retirees, are now required to pay 100% of the monthly premium cost, as calculated by our insurance administrator.
The components of net periodic benefit cost included in the Consolidated Statements of Operations are as follows:
Pension Benefits | Other Postretirement Benefits | |||||||||||||||
Three months ended | Three months ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Service cost | $ | 372 | $ | 368 | $ | 3 | $ | 7 | ||||||||
Interest cost | 828 | 697 | 17 | 19 | ||||||||||||
Expected return on assets | (1,052 | ) | (872 | ) | — | — | ||||||||||
Recognized net actuarial loss/(gain) | — | — | 2 | 12 | ||||||||||||
Amortization of: | ||||||||||||||||
Unrecognized prior service cost (credit) | — | — | (84 | ) | (101 | ) | ||||||||||
Curtailment | — | — | — | (651 | ) | |||||||||||
Total amount recognized | $ | 148 | $ | 193 | $ | (62 | ) | $ | (714 | ) | ||||||
Pension Benefits | Other Postretirement Benefits | |||||||||||||||
Nine months ended | Nine months ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Service cost | $ | 1,116 | $ | 1,383 | $ | 9 | $ | 75 | ||||||||
Interest cost | 2,486 | 2,260 | 51 | 122 | ||||||||||||
Expected return on assets | (3,156 | ) | (2,853 | ) | — | — | ||||||||||
Recognized net actuarial loss/(gain) | — | — | 6 | 161 | ||||||||||||
Amortization of: | ||||||||||||||||
Unrecognized prior service cost (credit) | — | — | (252 | ) | (682 | ) | ||||||||||
Curtailment | — | — | — | (651 | ) | |||||||||||
Net periodic benefit cost (benefit) | 446 | 790 | (186 | ) | (975 | ) | ||||||||||
Liability assumed in business acquisition | 806 | |||||||||||||||
Total amount recognized | $ | 446 | $ | 790 | $ | (186 | ) | $ | (169 | ) | ||||||
On December 8, 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Act”) was signed into law. The Act expanded Medicare to include, for the first time, coverage for prescription drugs and a federal subsidy to sponsors of certain retiree medical plans. The Company sponsors medical programs for certain of its U.S. retirees and expects that this legislation may eventually reduce the costs for some of these programs. However, due to the relative small number of participants, the Company does not expect the impact of this legislation to have a material impact on its consolidated financial statements.
11. Financial Instruments
We may utilize derivative financial instruments to enhance our ability to manage risks, including, but not limited to, interest rate and foreign currency, which exist as part of ongoing business operations. We do not enter into contracts for speculative purposes, nor are we a party to any leveraged derivative instrument. We monitor the use of derivative financial instruments through regular communication with senior management and the utilization of written guidelines.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
We rely primarily on bank borrowings to meet our funding requirements. We utilize interest rate swap agreements or other derivative instruments to reduce the potential exposure to interest rate movements and to achieve a desired proportion of variable versus fixed rate debt. We recognize the amounts that we pay or receive on hedges related to debt as an adjustment to interest expense.
As of the start of the current year, the Company was party to four interest rate swap agreements with counterparties, including JP Morgan Chase Bank (a related party), that effectively changes the floating rate payments on its Senior Secured Credit Facility into fixed rate payments. The first swap agreement became effective April 26, 2004, terminated December 31, 2004 and had a notional amount of $545.0 million; the second swap agreement commenced January 4, 2005, terminates on January 3, 2006 and has a notional amount of $450.0 million; the third swap agreement commences January 3, 2006, terminates on January 2, 2007 and has a notional amount of $100.0 million, and the fourth swap agreement commences on January 3, 2006, terminates on January 2, 2007 and has a notional amount of $250.0 million. Interest payments determined under each swap agreement are based on these notional amounts, which match or were expected to match the Company’s outstanding borrowings under the Senior Secured Credit Facility during the periods that each interest rate swap is outstanding. Floating interest rate payments to be received under each swap are based on U.S. Dollar LIBOR, which is the same basis for determining the floating rate payments on the Senior Secured Credit Facility. The fixed interest rate payments that the Company will pay under the swap agreements are determined using the following approximate fixed interest rates: 1.39% for the swap terminated on December 31, 2004; 2.25% for the swap terminating January 1, 2006; and 3.75% for two swaps terminating January 2, 2007.
These swaps were not designated as hedges pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” As of September 25, 2005 and December 26, 2004, the fair value of the interest rate swaps was a gain of $5,541 and $3,757, respectively. At September 25, 2005, $3,483 was recorded in Other current assets and $2,058 was recorded in Other assets, net in the Consolidated Balance Sheet. Of the amount at December 26, 2004, $224 is recorded in Other current assets, while $3,533 was recorded in Other assets, net in the Consolidated Balance Sheet. During the three and nine months ended September 25, 2005, the Company realized in cash a gain on the interest rate swaps of $967 and $1,528, respectively, which is recorded as a decrease to interest expense. Additionally, the Company recognized a non-cash gain during the three and nine months ended September 25, 2005 totaling $905 and $1,784, respectively. The non cash gains are recognized as an adjustment to interest expense in the Consolidated Statement of Operations.
In August and September 2004, the Company entered into natural gas swap transactions with JP Morgan Chase Bank (a related party) to lower the Company’s exposure to the price of natural gas. The agreements became effective beginning on August 1, 2004, terminate between February 2005 and December 2005, and have various notional quantities of MMBTU’s per month. The Company will pay a fixed price per MMBTU, which range from $6.20 to $6.99 per MMBTU, depending on the month, with settlements monthly. This swap was not designed as a hedge pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.”
As of September 25, 2005 and December 26, 2004, the fair value of the remaining natural gas swap transactions was a gain of $575 and $95, respectively, which is recorded in Other current assets in the Consolidated Balance Sheet. During the three and nine months ended September 25, 2005, the Company realized in cash a gain of $295 and $283, respectively, on the natural gas swaps, which is recorded as an adjustment to cost of products sold. Additionally, the Company recognized a non-cash gains during the three and nine months ended September 25, 2005 totaling $306 and $480, respectively. The non-cash gains are recognized as an adjustment to cost of products sold in the Consolidated Statement of Operations.
On March 10, 2005, the Company entered into foreign currency exchange transactions with JP Morgan Chase Bank (a related party) to lower the Company’s exposure to the exchange rates between the U.S. and Canadian dollar. Each agreement is based upon a notional amount in Canadian dollars, which is expected to approximate the amount of our Canadian subsidiary’s U.S. dollar denominated purchases for the month, and the agreements run through December 2005. The Company will pay a fixed exchange rate of 1.2062 Canadian dollars per U.S. dollar, with settlements monthly. This swap was not designed as a hedge pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.”
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
As of September 25, 2005, the fair value of the remaining foreign exchange swaps was a loss of $206, which is recorded in Accrued Liabilities in the Consolidated Balance Sheet. For the three and nine months ended September 25, 2005, the Company realized in cash a loss of $34 and a gain of $135, respectively, on the foreign exchange swaps, which is recorded as an adjustment to cost of products sold. Additionally, the Company recognized non-cash losses during the three and nine months ended September 25, 2005 totaling $414 and $206, respectively. The non-cash losses are recognized as an adjustment to cost of products sold in the Consolidated Statement of Operations.
We utilize irrevocable standby letters of credit with one-year renewable terms to satisfy workers’ compensation self-insurance security deposit requirements. The contract value of the outstanding standby letter of credit as of September 25, 2005 was $9,566, which approximates fair value. As of September 25, 2005, we also utilized letters of credit in connection with the purchase of raw materials in the amount of $3,156, which approximates fair value.
We are exposed to credit loss in the event of non-performance by the other parties to derivative financial instruments. All counterparties are at least “A” rated by Moody’s and Standard & Poor’s. Accordingly, we do not anticipate non-performance by the counterparties.
The carrying values of cash and cash equivalents, accounts receivable and accounts payable approximate fair value. The estimated fair value of the Senior Secured Credit Facilities bank debt and the 81/4% senior subordinated notes that are classified as long term debt on the Consolidated Balance Sheet at September 25, 2005, was approximately its carrying value.
12. Commitments and Contingencies
General
From time to time, the Company and its operations are parties to, or targets of, lawsuits, claims, investigations, and proceedings, which are being handled and defended in the ordinary course of business. Although the outcome of such items cannot be determined with certainty, the corporation’s general counsel and management are of the opinion that the final outcome of these matters should not have a material effect on the Company’s financial condition, results of operations or cash flows.
Litigation
Pinnacle’s Fleming Bankruptcy Claim
The Company, on or about April 1, 2003, filed a reclamation claim against Fleming, a customer, in Flemings’ bankruptcy proceeding pending in the United States Bankruptcy Court for the District of Delaware in the amount of $964. Fleming has claimed that the products in controversy had been commingled with other products and that the value of Pinnacle’s claim is $0. Additionally, on or about January 31, 2004 Fleming identified alleged preferential transfers to Pinnacle of up to $6,493, of which Fleming has alleged $5,014 are, or may be, eligible for protection as “new value”. Fleming additionally alleged that some, if not all, of the alleged Pinnacle preferential transfers may qualify as “ordinary course of business” transactions. Fleming has also made claims regarding payments it describes as overpayment, unjust enrichment due to allegedly excess wire transfers and payments and debts arising out of military sales. The Company has been advised that similar allegations have been made by Fleming in many, if not all, of the other pending reclamation claims filed against Fleming. The Company is currently in the process of analyzing the claims. The Company’s attorneys have been in contact with counsel for Aurora and counsel for Fleming and all parties have expressed agreement that the most expedient manner to resolve the Aurora and Fleming claims would be to do so in the Fleming bankruptcy case under the terms of Fleming’s plan, once confirmed. Stipulations to this effect have been signed by all parties. The Company believes that resolution of such matters will not result in a material impact on the Company’s financial condition, results of operations or cash flows.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Aurora’s Fleming Bankruptcy Claim
The Company (Aurora), on or about March 31, 2003, filed a reclamation claim against Fleming, a customer, in Flemings’ bankruptcy proceeding pending in the United States Bankruptcy Court for the District of Delaware in the amount of $595. Fleming has claimed that the products in controversy had been commingled with other products and that the value of Aurora’s claim is $299. Additionally, on or about February 2, 2004, Fleming identified alleged preferential transfers to Aurora of up to $5,942, of which Fleming has alleged $3,293 are, or may be, eligible for protection as “new value”. Fleming additionally alleged that some, if not all, of the alleged Aurora preferential transfers may qualify as “ordinary course of business” transactions. Fleming has also made claims regarding payments it describes as overpayment, unjust enrichment due to allegedly excess wire transfers and payments and debts arising out of military sales. The Company has been advised that similar allegations have been made by Fleming in many, if not all, of the other pending reclamation claims filed against Fleming. The Company is currently in the process of analyzing the claims. The Company’s attorneys have been in contact with counsel for Aurora and counsel for Fleming and all parties have expressed agreement that the most expedient manner to resolve the Aurora and Fleming claims would be to do so in the Fleming bankruptcy case under the terms of Fleming’s plan, once confirmed. Stipulations to this effect have been signed by all parties. The Company believes that resolution of such matters will not result in a material impact on the Company’s financial condition, results of operations or cash flows.
Employee Litigation — Indemnification of US Cold Storage
On March 21, 2002, an employee at the Omaha, NE facility, died as the result of an accident while operating a forklift at a Company-leased warehouse facility. OSHA conducted a full investigation and determined that the death was the result of an accident and found no violations against the Company. On March 18, 2004, the estate of the deceased filed suit in District Court of Sarpy County, Nebraska, Case No: CI 04-391, against the Company, the owner of the forklift and the leased warehouse, the manufacturer of the forklift and the distributor of the forklift. The Company, having been the deceased’s employer, was named as a defendant for worker’s compensation subrogation purposes only.
On May 18, 2004, the Company received notice from defendant, US Cold Storage, requesting the Company to accept the tender of defense for US Cold Storage in this case in accordance with the indemnification provision of the warehouse lease. The request has been submitted to the Company’s insurance carrier for evaluation and the Company has been advised that the indemnification provision is not applicable in this matter and that Company should have no liability under that provision. Therefore, the Company believes that resolution of such matters will not result in a material impact on the Company’s financial condition, results of operations or cash flows.
R2 Appeal in Aurora Bankruptcy
Prior to its bankruptcy filing, Aurora entered into an agreement with its prepetition lending group compromising the amount of certain fees due under its senior bank facilities (the “October Amendment”). One of the members of the bank group (R2 Top Hat, Ltd.) challenged the enforceability of the October Amendment during Aurora’s bankruptcy by filing an adversary proceeding and by objecting to confirmation. The bankruptcy court rejected the lender’s argument and confirmed Aurora’s plan of reorganization. The lender then appealed from those orders of the bankruptcy court. The appeals are pending. It is too early to predict the outcome of the appeals. Included in the Company’s accrued liabilities is $20 million, which was assumed in the Aurora Transaction.
State of Illinois v. City of St. Elmo and Aurora Foods Inc.
The Company is a defendant in an action filed by the State of Illinois regarding the Company’s St. Elmo facility. The Illinois Attorney General filed a complaint seeking a restraining order prohibiting further discharges by the City of St. Elmo from its publicly owned wastewater treatment facility in violation of Illinois law and enjoining the Company from discharging its industrial waste into the City’s treatment facility. The complaint also asked for fines and penalties associated with the City’s discharge from its treatment facility and the Company’s alleged operation of its production facility without obtaining a state environmental operating permit.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
On August 30, 2004, an Interim Consent Order signed by all parties was signed and entered by the judge in the case whereby, in addition to a number of actions required of the City, the Company agreed to provide monthly discharge monitoring reports to the Illinois Environmental Protection Agency for six (6) months and was allowed to continue discharging effluent to the City of St. Elmo. In September 2004, the Company met with representatives from the State of Illinois Environmental Protection Agency and the State Attorney General’s Office and separately with the City of St. Elmo to inform them that the Company intended to install a pre-treatment system at its St. Elmo facility during the fourth quarter of 2004 and first quarter of 2005. The State issued the construction and operating permits to the Company and construction of the pre-treatment system has been completed. Testing has been completed and the system is fully operational.
We continue to discharge our effluent to the City. We would vigorously defend any future effort to prevent us from discharging our industrial wastewater to the City. Although we believe we will be able to resolve this matter favorably, an adverse resolution may have a material impact on our financial position, results of operation, or cash flows.
Underweight Products
In July 2004, it came to our attention that certain products produced in one of the former Aurora plants have not met some state weight requirements. While we are in the process of investigating the scope of this issue, we have revised the operating procedures of the plant such that products produced there will comply with state product weight requirements. As a result of these weight issues, we voluntarily initiated return procedures for the product in the locations involved and also disposed of certain inventory held by the Company. Pinnacle has recorded a charge related to the returns and inventory of $3.4 million and $1.2 million in the fiscal year ended July 31, 2004 and the transition year ended December 26, 2004, respectively. As a result of these underweight products, the Company received a letter from the State of California, County of Santa Barbara, requesting that the Company meet with it to discuss this issue and the remedial actions taken by the Company. A meeting was held with the involved California officials on December 8, 2004 at which time the issues and corrective steps taken by the Company were presented and discussed. While the Company believes it has taken appropriate remedial steps, it is probable that fines and penalties will be imposed. The State has recently responded with its acknowledgment of the Company’s cooperation with the investigation and prompt reaction to and correction of the issue, and proposed a settlement amount which the Company is negotiating with the State. In March 2005, the Company reserved $695 based upon the State of California’s settlement proposal. In a September 2005 meeting with State representatives, the Company negotiated the amount of the penalty and costs down to $509 and subsequently adjusted the accrued liability. The Company continues to negotiate the terms of payment and the final settlement language. The Company will continue to vigorously defend its actions to date since taking control of Aurora Foods Inc. The Company believes that resolution of such matters will not result in a material impact on the Company’s financial condition, results of operations or cash flows.
American Cold Storage – North America, L.P. v. P.F. Distribution, LLC and Pinnacle Foods Group Inc.
On June 26, 2005 the Company was served with the Summons and Complaint in the above matter. American Cold Storage (“ACS”) operates a frozen storage warehouse and distribution facility (the “Facility”) located in Madison County, Tennessee, near the Company’s Jackson, Tennessee plant. In approximately April 2004, the Company entered into discussions with ACS to utilize the Facility. Terms were discussed, but no contract was ever signed. Shortly after shipping product to the Facility, the Company realized that the Facility was incapable of properly handling the discussed volume of product and began reducing its shipments to the Facility. The complaint seeks damages not to exceed $1.5 million, together with associated costs. It is too early to determine the likely outcome of this litigation. The Company is investigating and intends to vigorously defend against this claim.
Other Matters
Bankruptcy filing of Winn-Dixie
On February 21, 2005, Winn-Dixie Stores, Inc., a customer that accounts for approximately 2% of the Company’s annual net sales, filed for Chapter 11 reorganization in U.S. Bankruptcy Court for the Southern District of New York. The amount due from Winn-Dixie at the time of the bankruptcy filing was $764, which was adequately reserved.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
13. Related Party Transactions
Management fees
On November 25, 2003, the Successor entered into a Management Agreement with JPMorgan Partners, LLC (“JPMP”) and J.W. Childs Associates, L.P. (“JWC”) where JPMP and JWC provide management, advisory and other services. The agreement calls for quarterly payments of $125 to each JPMP and JWC for management fees. In accordance with our Senior Credit Agreement Amendment (see Note 9), the payment of the management fees was suspended during the amendment period and therefore, no payments have been made during the three and nine months ended September 25, 2005. Management fees to JPMP and JWC in total included in the Consolidated Statement of Operations for the three and nine months ended September 26, 2004 were $250 and $848, respectively. In addition, the Company reimbursed JWC and JPMP for out-of-pocket expenses totaling $7 and $18 during the three and nine months ended September 25, 2005, respectively. For the three and nine months ended September 26, 2004, reimbursed expenses totaled $12 and $33, respectively. In connection with the Pinnacle Merger, the Company paid a transaction fee of $2,425 to each JPMP and JWC, in addition to $441 in fees and expenses. In connection with the Aurora Transaction, transaction fees were paid to JPMP and JWC of $1 million to each, plus $119 in fees and expenses. In connection with any subsequent acquisition transaction, there will be a transaction fee of1/2% of the aggregate purchase price to each of JPMP and JWC, plus fees and expenses. These transaction fees were included in the acquisition costs in each of the transactions.
Also on November 25, 2003, the Successor entered into an agreement with CDM Capital LLC, an affiliate of CDM Investor Group LLC, where CDM Capital LLC will receive a transaction fee of1/2% of the aggregate purchase price of future acquisitions (other than the Pinnacle Merger or the Aurora Transaction), plus fees and expenses.
Leases and Aircraft
The Company leases office space owned by a party related to the Chairman. One office was leased through January 15, 2004. A new office was leased beginning January 15, 2004. The new lease provides for the Company to make leasehold improvements approximating $318. The base rent for the new office is $87 annually compared to $245 annually scheduled in the old office. Rent expense during the three and nine months ended September 25, 2005 was $25 and $75, respectively. Rent expense during the three and nine months ended September 26, 2004 was $22 and $72, respectively.
Beginning November 25, 2003, the Company began using an aircraft owned by a company indirectly owned by the Chairman. In connection with the usage of the aircraft, the Company paid net operating expenses of $688 and $2,063 during the three and nine months ended September 25, 2005. Net operating expenses for the aircraft during the three and nine months ended September 26, 2004 was $688 and $1,741, respectively.
Debt and Interest Expense
For the three and nine months ended September 25, 2005, fees and interest expense recognized in the Consolidated Statement of Operations for the debt to the related party, JPMorgan Chase Bank, amounted to $101 and $254, respectively. Additionally, we paid to JPMorgan Chase Bank fees and interest expense totaling $106 and $182 during the three and nine months ended September 26, 2004. See Note 9.
Financial Instruments
The Company has entered into transactions for derivative financial instruments with JPMorgan Chase Bank to lower its exposure to interest rates, foreign currency, and natural gas prices. During the three and nine months ended September 25, 2005, the total net cash received by the Company for the settlement of interest rate swaps, foreign exchange swaps, and natural gas swaps totaled $1,228 and $1,946, respectively. During the three months ended September 26, 2004, the total net cash paid by the Company for the settlement of natural gas swaps was $25. During the nine months ended September 26, 2004, the total net cash received by the Company for the settlement of natural gas and interest rate swaps was $3,490. See Note 11.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Loan to Member of Management
In February 2005, the Company loaned Mr. Daniel Parker, Senior Vice President, Supply Chain, $41. The interest rate on the loan was 8%. The loan has been repaid in full.
14. Segments
The Company’s products and operations are managed and reported in two operating segments. The Frozen Foods segment consists of the following: dinners and entrees (Swanson, Hungry Man), prepared seafood (Van de Kamp’s, Mrs. Paul’s), breakfast (Aunt Jemima), bagels (Lenders), and other frozen products (Celeste, Chef’s Choice). The Dry Foods segment consists of the following product lines: pickles, peppers, and relish (Vlasic), baking mixes and frostings (Duncan Hines), syrups and pancake mixes (Mrs. Butterworth’s and Log Cabin), and other grocery products (Open Pit). Segment performance is evaluated based on earnings before interest and taxes. Transfers between segments and geographic areas are recorded at cost plus markup or at market. Identifiable assets are those assets, including goodwill, which are identified with the operations in each segment or geographic region. Cost of products sold for the three and nine months ended September 26, 2004 includes $219 and $31,311, respectively representing the write-up of inventories to fair value (net realizable value, which is defined as estimated selling prices less the sum of (a) costs of disposal and (b) a reasonable profit allowance for the selling effort of the acquiring entity) at the dates of the acquisitions of inventories, which were sold subsequent to the acquisition dates. Of these amounts, $219 was included in the frozen foods segment during the three months ended September 26, 2004, while $7,167 was included in the frozen foods segment and $24,144 in the dry foods segment during the nine months ended September 26, 2004. Corporate assets consist of deferred and prepaid income tax assets. Unallocated corporate expenses consist of corporate overhead such as executive management, finance and legal functions, and Pinnacle and Aurora merger related costs discussed in Note 6.
Three months ended | Nine months ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
SEGMENT INFORMATION | ||||||||||||||||
Net sales | ||||||||||||||||
Frozen foods | $ | 156,306 | $ | 156,781 | $ | 492,754 | $ | 396,006 | ||||||||
Dry foods | 137,951 | 117,910 | 415,954 | 312,397 | ||||||||||||
Total | $ | 294,257 | $ | 274,691 | $ | 908,708 | $ | 708,403 | ||||||||
Earnings (loss) before interest and taxes | ||||||||||||||||
Frozen foods | $ | 4,971 | $ | (17,776 | ) | $ | 5,616 | $ | (37,293 | ) | ||||||
Dry foods | 30,311 | 12,612 | 62,508 | 17,312 | ||||||||||||
Unallocated corporate expenses | (4,046 | ) | (4,685 | ) | (12,742 | ) | (20,764 | ) | ||||||||
Total | $ | 31,236 | $ | (9,849 | ) | $ | 55,382 | $ | (40,745 | ) | ||||||
Depreciation and amortization | ||||||||||||||||
Frozen foods | $ | 4,933 | $ | 7,472 | $ | 19,454 | $ | 19,510 | ||||||||
Dry foods | 3,520 | 3,009 | 10,328 | 9,363 | ||||||||||||
Total | $ | 8,453 | $ | 10,481 | $ | 29,782 | $ | 28,873 | ||||||||
Capital expenditures | ||||||||||||||||
Frozen foods | $ | 8,256 | $ | 3,690 | $ | 18,417 | $ | 8,185 | ||||||||
Dry foods | 1,275 | 882 | 3,383 | 3,762 | ||||||||||||
Total | $ | 9,531 | $ | 4,572 | $ | 21,800 | $ | 11,947 | ||||||||
GEOGRAPHIC INFORMATION | ||||||||||||||||
Net sales | ||||||||||||||||
United States | $ | 280,182 | $ | 266,427 | $ | 869,981 | $ | 683,470 | ||||||||
Canada | 14,075 | 8,264 | 38,727 | 24,933 | ||||||||||||
Total | $ | 294,257 | $ | 274,691 | $ | 908,708 | $ | 708,403 | ||||||||
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
September 25, | December 26, | |||||||
2005 | 2004 | |||||||
SEGMENT INFORMATION: | ||||||||
Total Assets | ||||||||
Frozen foods | $ | 640,347 | $ | 671,860 | ||||
Dry foods | 1,089,433 | 1,092,196 | ||||||
Corporate | 23 | 884 | ||||||
Total | $ | 1,729,803 | $ | 1,764,940 | ||||
GEOGRAPHIC INFORMATION | ||||||||
Long-lived assets | ||||||||
United States | $ | 217,920 | $ | 223,719 | ||||
Canada | 26 | 21 | ||||||
Total | $ | 217,946 | $ | 223,740 | ||||
15. Recently Issued Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment (Revised 2004).” This statement addresses the accounting for share-based payment transactions in which a company receives employee services in exchange for the company’s equity instruments or liabilities that are based on the fair value of the company’s equity securities or may be settled by the issuance of these securities. SFAS 123R eliminates the ability to account for share-based compensation using APB 25 and generally requires that such transactions be accounted for using a fair value method. The provisions of this statement are effective for financial statements issued for fiscal periods beginning after December 15, 2005 and will become effective for the Company beginning in 2006. Alternative transition methods are allowed under Statement No. 123R. While the Company has not yet determined the transition method to use, adequate disclosure of all comparative periods covered by the financial statements will comply with the requirements of FASB 123R.
In November 2004, the FASB issued SFAS No. 151, “Inventory Costs—an Amendment of ARB No. 43, Chapter 4.” This statement clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and spoilage, requiring these items be recognized as current-period charges. In addition, this statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The provisions of this statement are effective for inventory costs incurred during fiscal years beginning after June 15, 2005 and will become effective for the Company beginning in 2006. The Company is assessing what impact, if any, adoption of this statement would have on its financial statements.
In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets—an amendment to APB Opinion No. 29.” This statement amends APB 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The provisions of this statement are effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The Company has completed its evaluation of the impact of adopting this statement and it did not have any effect on its financial statements.
In March 2005, the FASB issued FIN 47 “Accounting for Conditional Asset Retirement Obligations, an Interpretation of FASB Statement No. 143.” This Interpretation clarifies that a conditional retirement obligation refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even though uncertainty exists about the timing and (or)��method of settlement. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. The liability should be recognized when incurred, generally upon acquisition, construction or development of the asset. FIN 47 is effective no later than the end of the fiscal years ending after December 15, 2005. The company is in the process of evaluating the impact of FIN 47.
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
16. Guarantor and Nonguarantor Statements
In connection with the Pinnacle Merger and Aurora Transaction and as a part of the related financings, the Company issued $394 million of 81/4% senior subordinated notes ($200 million in November 2003 and $194 million in February 2004, collectively referred to as the “Notes”) in private placements pursuant to Rule 144A and Regulation S. The Notes are general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company, and guaranteed on a full, unconditional, joint and several basis by the Company’s wholly-owned domestic subsidiaries.
The following consolidating financial information presents:
(1) | Consolidating (a) balance sheets as of September 25, 2005 and December 26, 2004 and (b) the related statements of operations and cash flows for the three and nine months ended September 25, 2005 and September 26, 2004. | ||
(2) | Elimination entries necessary to consolidate the Successor, with its guarantor subsidiaries and nonguarantor subsidiary. |
Investments in subsidiaries are accounted for by the parent using the equity method of accounting. The guarantor subsidiaries are presented on a combined basis. The principal elimination entries eliminate investments in subsidiaries and intercompany balances and transactions.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Balance Sheet — Successor
September 25, 2005
Consolidated Balance Sheet — Successor
September 25, 2005
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Current assets: | ||||||||||||||||||||
Cash and cash equivalents | $ | 59 | $ | 299 | $ | 236 | $ | — | $ | 594 | ||||||||||
Accounts receivable, net | 46,707 | 30,763 | 7,433 | — | 84,903 | |||||||||||||||
Intercompany accounts receivable | — | 28,820 | — | (28,820 | ) | — | ||||||||||||||
Inventories, net | 53,820 | 118,522 | 3,557 | — | 175,899 | |||||||||||||||
Other current assets | 3,551 | 2,967 | 53 | — | 6,571 | |||||||||||||||
Deferred income taxes | — | — | 23 | — | 23 | |||||||||||||||
Total current assets | 104,137 | 181,371 | 11,302 | (28,820 | ) | 267,990 | ||||||||||||||
Plant assets, net | 99,498 | 118,422 | 26 | — | 217,946 | |||||||||||||||
Investment in subsidiaries | 270,870 | 3,780 | — | (274,650 | ) | — | ||||||||||||||
Intercompany note receivable | 187,492 | — | — | (187,492 | ) | — | ||||||||||||||
Tradenames | 674,388 | 106,156 | — | — | 780,544 | |||||||||||||||
Other assets, net | 48,064 | 147 | — | — | 48,211 | |||||||||||||||
Goodwill | 272,618 | 142,494 | — | — | 415,112 | |||||||||||||||
Total assets | $ | 1,657,067 | $ | 552,370 | $ | 11,328 | $ | (490,962 | ) | $ | 1,729,803 | |||||||||
Current liabilities: | ||||||||||||||||||||
Current portion of long-term obligations | $ | 10 | $ | 120 | $ | — | $ | — | $ | 130 | ||||||||||
Notes payable | — | 912 | — | — | 912 | |||||||||||||||
Accounts payable | 31,642 | 38,941 | 2,042 | — | 72,625 | |||||||||||||||
Intercompany accounts payable | 26,953 | — | 1,867 | (28,820 | ) | — | ||||||||||||||
Accrued trade marketing expense | 22,712 | 12,153 | 2,004 | — | 36,869 | |||||||||||||||
Accrued liabilities | 65,193 | 22,496 | 225 | — | 87,914 | |||||||||||||||
Accrued income taxes | 252 | 1,156 | 1,409 | — | 2,817 | |||||||||||||||
Total current liabilities | 146,762 | 75,778 | 7,547 | (28,820 | ) | 201,267 | ||||||||||||||
Long-term debt | 918,263 | 116 | — | — | 918,379 | |||||||||||||||
Intercompany note payable | — | 187,492 | — | (187,492 | ) | — | ||||||||||||||
Postretirement benefits | 845 | 1,909 | — | — | 2,754 | |||||||||||||||
Deferred income taxes | 217,399 | 16,205 | 1 | — | 233,605 | |||||||||||||||
Total liabilities | 1,283,269 | 281,500 | 7,548 | (216,312 | ) | 1,356,005 | ||||||||||||||
Commitments and contingencies | — | — | — | — | — | |||||||||||||||
Shareholder’s equity: | ||||||||||||||||||||
Pinnacle Common Stock, $.01 par value | — | — | — | — | — | |||||||||||||||
Additional paid-in-capital | 519,433 | 287,710 | 935 | (288,645 | ) | 519,433 | ||||||||||||||
Accumulated other comprehensive income (loss) | 211 | 211 | 211 | (422 | ) | 211 | ||||||||||||||
Carryover of Predecessor basis of net assets | (17,338 | ) | — | — | — | (17,338 | ) | |||||||||||||
Retained earnings (accumulated deficit) | (128,508 | ) | (17,051 | ) | 2,634 | 14,417 | (128,508 | ) | ||||||||||||
Total shareholder’s equity | 373,798 | 270,870 | 3,780 | (274,650 | ) | 373,798 | ||||||||||||||
Total liabilities and shareholder’s equity | $ | 1,657,067 | $ | 552,370 | $ | 11,328 | $ | (490,962 | ) | $ | 1,729,803 | |||||||||
29
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PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Balance Sheet — Successor
December 26, 2004
Consolidated Balance Sheet — Successor
December 26, 2004
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Current assets: | ||||||||||||||||||||
Cash and cash equivalents | $ | 490 | $ | 1,745 | $ | — | $ | 2,235 | ||||||||||||
Accounts receivable, net | 40,488 | 29,308 | 4,569 | — | 74,365 | |||||||||||||||
Intercompany accounts receivable | 4,439 | — | — | (4,439 | ) | — | ||||||||||||||
Inventories, net | 70,443 | 131,788 | 3,279 | — | 205,510 | |||||||||||||||
Other current assets | 940 | 2,968 | 83 | — | 3,991 | |||||||||||||||
Deferred income taxes | — | — | 22 | 22 | ||||||||||||||||
Total current assets | 116,800 | 165,809 | 7,953 | (4,439 | ) | 286,123 | ||||||||||||||
Plant assets, net | 101,774 | 121,945 | 21 | — | 223,740 | |||||||||||||||
Investment in subsidiaries | 263,384 | 1,183 | — | (264,567 | ) | — | ||||||||||||||
Intercompany note receivable | 182,054 | 543 | — | (182,597 | ) | — | ||||||||||||||
Tradenames | 674,388 | 106,156 | — | — | 780,544 | |||||||||||||||
Other assets, net | 57,493 | 177 | — | — | 57,670 | |||||||||||||||
Goodwill | 272,618 | 144,245 | — | — | 416,863 | |||||||||||||||
Total assets | $ | 1,668,511 | $ | 540,058 | $ | 7,974 | $ | (451,603 | ) | $ | 1,764,940 | |||||||||
Current liabilities: | ||||||||||||||||||||
Current portion of long-term obligations | $ | 5,460 | $ | 114 | $ | — | $ | — | $ | 5,574 | ||||||||||
Accounts payable | 51,815 | 33,894 | 2,212 | — | 87,921 | |||||||||||||||
Intercompany accounts payable | — | 3,001 | 1,438 | (4,439 | ) | — | ||||||||||||||
Accrued trade marketing expense | 30,864 | 12,813 | 2,337 | — | 46,014 | |||||||||||||||
Accrued liabilities | 50,796 | 26,817 | 122 | — | 77,735 | |||||||||||||||
Accrued income taxes | 99 | 1,240 | 138 | — | 1,477 | |||||||||||||||
Total current liabilities | 139,034 | 77,879 | 6,247 | (4,439 | ) | 218,721 | ||||||||||||||
Long-term debt | 937,300 | 206 | — | — | 937,506 | |||||||||||||||
Intercompany note payable | — | 182,054 | 543 | (182,597 | ) | — | ||||||||||||||
Postretirement benefits | 825 | 2,115 | — | 2,940 | ||||||||||||||||
Deferred income taxes | 197,985 | 14,420 | 1 | — | 212,406 | |||||||||||||||
Total liabilities | 1,275,144 | 276,674 | 6,791 | (187,036 | ) | 1,371,573 | ||||||||||||||
Commitments and contingencies | — | — | — | — | — | |||||||||||||||
Shareholder’s equity: | ||||||||||||||||||||
Pinnacle Common Stock, $.01 par value | — | — | — | — | — | |||||||||||||||
Additional paid-in-capital | 519,433 | 287,710 | 935 | (288,645 | ) | 519,433 | ||||||||||||||
Accumulated other comprehensive income (loss) | 48 | 48 | 48 | (96 | ) | 48 | ||||||||||||||
Carryover of Predecessor basis of net assets | (17,495 | ) | — | — | — | (17,495 | ) | |||||||||||||
Retained earnings (accumulated deficit) | (108,619 | ) | (24,374 | ) | 200 | 24,174 | (108,619 | ) | ||||||||||||
Total shareholder’s equity | 393,367 | 263,384 | 1,183 | (264,567 | ) | 393,367 | ||||||||||||||
Total liabilities and shareholder’s equity | $ | 1,668,511 | $ | 540,058 | $ | 7,974 | $ | (451,603 | ) | $ | 1,764,940 | |||||||||
30
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Operations — Successor
For the three months ended September 25, 2005
Consolidated Statement of Operations — Successor
For the three months ended September 25, 2005
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Net sales | $ | 163,821 | $ | 124,855 | $ | 14,096 | $ | (8,515 | ) | $ | 294,257 | |||||||||
Costs and expenses | ||||||||||||||||||||
Cost of products sold | 117,966 | 105,099 | 11,108 | (8,311 | ) | 225,862 | ||||||||||||||
Marketing and selling expenses | 10,466 | 9,732 | 1,628 | — | 21,826 | |||||||||||||||
Administrative expenses | 5,472 | 4,049 | 354 | — | 9,875 | |||||||||||||||
Research and development expenses | 529 | 379 | — | — | 908 | |||||||||||||||
Intercompany royalties | — | — | 79 | (79 | ) | — | ||||||||||||||
Intercompany technical service fees | — | — | 125 | (125 | ) | — | ||||||||||||||
Other expense (income), net | 4,417 | 133 | — | — | 4,550 | |||||||||||||||
Equity in (earnings) loss of investees | (2,141 | ) | (533 | ) | — | 2,674 | — | |||||||||||||
Total costs and expenses | 136,709 | 118,859 | 13,294 | (5,841 | ) | 263,021 | ||||||||||||||
Earnings (loss) before interest and taxes | 27,112 | 5,996 | 802 | (2,674 | ) | 31,236 | ||||||||||||||
Intercompany interest (income) expense | (3,264 | ) | 3,264 | — | — | — | ||||||||||||||
Interest expense | 17,466 | 23 | — | — | 17,489 | |||||||||||||||
Interest income | — | 174 | 6 | — | 180 | |||||||||||||||
Earnings (loss) before income taxes | 12,910 | 2,883 | 808 | (2,674 | ) | 13,927 | ||||||||||||||
Provision for income taxes | 8,197 | 742 | 275 | — | 9,214 | |||||||||||||||
Net earnings (loss) | $ | 4,713 | $ | 2,141 | $ | 533 | $ | (2,674 | ) | $ | 4,713 | |||||||||
31
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Operations — Successor
For the three months ended September 26, 2004
Consolidated Statement of Operations — Successor
For the three months ended September 26, 2004
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Net sales | $ | 148,743 | $ | 123,008 | $ | 8,264 | $ | (5,324 | ) | $ | 274,691 | |||||||||
Costs and expenses | ||||||||||||||||||||
Cost of products sold | 122,552 | 107,881 | 7,914 | (5,199 | ) | 233,148 | ||||||||||||||
Marketing and selling expenses | 17,481 | 11,337 | 787 | — | 29,605 | |||||||||||||||
Administrative expenses | 6,631 | 4,742 | 220 | — | 11,593 | |||||||||||||||
Research and development expenses | 584 | 422 | — | — | 1,006 | |||||||||||||||
Goodwill impairment charge | 1,835 | 1,835 | ||||||||||||||||||
Intercompany royalties | — | — | 76 | (76 | ) | — | ||||||||||||||
Intercompany technical service fees | — | — | 49 | (49 | ) | — | ||||||||||||||
Other expense (income), net | 6,094 | 1,259 | — | — | 7,353 | |||||||||||||||
Equity in (earnings) loss of investees | 6,265 | 379 | — | (6,644 | ) | — | ||||||||||||||
Total costs and expenses | 161,442 | 126,020 | 9,046 | (11,968 | ) | 284,540 | ||||||||||||||
Earnings (loss) before interest and taxes | (12,699 | ) | (3,012 | ) | (782 | ) | 6,644 | (9,849 | ) | |||||||||||
Intercompany interest (income) expense | (2,800 | ) | 2,793 | 7 | — | — | ||||||||||||||
Interest expense | 16,550 | 606 | — | — | 17,156 | |||||||||||||||
Interest income | — | 155 | 3 | — | 158 | |||||||||||||||
Earnings (loss) before income taxes | (26,449 | ) | (6,256 | ) | (786 | ) | 6,644 | (26,847 | ) | |||||||||||
Provision (benefit) for income taxes | 4,482 | 9 | (407 | ) | — | 4,084 | ||||||||||||||
Net earnings (loss) | $ | (30,931 | ) | $ | (6,265 | ) | $ | (379 | ) | $ | 6,644 | $ | (30,931 | ) | ||||||
32
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Operations — Successor
For the nine months ended September 25, 2005
Consolidated Statement of Operations — Successor
For the nine months ended September 25, 2005
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Net sales | $ | 491,874 | $ | 398,431 | $ | 38,748 | $ | (20,345 | ) | $ | 908,708 | |||||||||
Costs and expenses | ||||||||||||||||||||
Cost of products sold | 385,375 | 338,341 | 29,840 | (19,707 | ) | 733,849 | ||||||||||||||
Marketing and selling expenses | 43,060 | 28,171 | 3,557 | — | 74,788 | |||||||||||||||
Administrative expenses | 17,931 | 13,500 | 910 | — | 32,341 | |||||||||||||||
Research and development expenses | 1,640 | 1,234 | — | — | 2,874 | |||||||||||||||
Goodwill impairment charge | — | — | — | — | — | |||||||||||||||
Intercompany royalties | — | — | 224 | (224 | ) | — | ||||||||||||||
Intercompany technical service fees | — | — | 414 | (414 | ) | — | ||||||||||||||
Other expense (income), net | 8,352 | 1,122 | — | — | 9,474 | |||||||||||||||
Equity in (earnings) loss of investees | (7,323 | ) | (2,434 | ) | — | 9,757 | — | |||||||||||||
Total costs and expenses | 449,035 | 379,934 | 34,945 | (10,588 | ) | 853,326 | ||||||||||||||
Earnings (loss) before interest and taxes | 42,839 | 18,497 | 3,803 | (9,757 | ) | 55,382 | ||||||||||||||
Intercompany interest (income) expense | (9,471 | ) | 9,469 | 2 | — | — | ||||||||||||||
Interest expense | 52,584 | 40 | — | — | 52,624 | |||||||||||||||
Interest income | — | 387 | 16 | — | 403 | |||||||||||||||
Earnings (loss) before income taxes | (274 | ) | 9,375 | 3,817 | (9,757 | ) | 3,161 | |||||||||||||
Provision for income taxes | 19,615 | 2,052 | 1,383 | — | 23,050 | |||||||||||||||
Net earnings (loss) | $ | (19,889 | ) | $ | 7,323 | $ | 2,434 | $ | (9,757 | ) | $ | (19,889 | ) | |||||||
33
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Operations — Successor
For the nine months ended September 26, 2004
Consolidated Statement of Operations — Successor
For the nine months ended September 26, 2004
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Net sales | $ | 287,140 | $ | 409,016 | $ | 24,933 | $ | (12,686 | ) | $ | 708,403 | |||||||||
Costs and expenses | ||||||||||||||||||||
Cost of products sold | 246,369 | 354,475 | 21,058 | (12,055 | ) | 609,847 | ||||||||||||||
Marketing and selling expenses | 31,833 | 36,809 | 2,654 | — | 71,296 | |||||||||||||||
Administrative expenses | 14,020 | 21,273 | 816 | — | 36,109 | |||||||||||||||
Research and development expenses | 1,107 | 1,679 | — | — | 2,786 | |||||||||||||||
Goodwill impairment charge | 1,835 | — | — | — | 1,835 | |||||||||||||||
Intercompany royalties | — | — | 233 | (233 | ) | — | ||||||||||||||
Intercompany technical service fees | — | — | 398 | (398 | ) | — | ||||||||||||||
Other expense (income), net | 14,557 | 12,718 | — | — | 27,275 | |||||||||||||||
Equity in (earnings) loss of investees | 20,342 | 24 | — | (20,366 | ) | — | ||||||||||||||
Total costs and expenses | 330,063 | 426,978 | 25,159 | (33,052 | ) | 749,148 | ||||||||||||||
Earnings (loss) before interest and taxes | (42,923 | ) | (17,962 | ) | (226 | ) | 20,366 | (40,745 | ) | |||||||||||
Intercompany interest (income) expense | (6,549 | ) | 6,529 | 20 | — | — | ||||||||||||||
Interest expense | 35,053 | 1 | — | — | 35,054 | |||||||||||||||
Interest income | 88 | 235 | 11 | — | 334 | |||||||||||||||
Earnings (loss) before income taxes | (71,339 | ) | (24,257 | ) | (235 | ) | 20,366 | (75,465 | ) | |||||||||||
Provision for income taxes | 8,318 | (3,915 | ) | (211 | ) | — | 4,192 | |||||||||||||
Net earnings (loss) | $ | (79,657 | ) | $ | (20,342 | ) | $ | (24 | ) | $ | 20,366 | $ | (79,657 | ) | ||||||
34
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Cash Flows — Successor
For the nine months ended September 25, 2005
Consolidated Statement of Cash Flows — Successor
For the nine months ended September 25, 2005
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Cash flows from operating activities | ||||||||||||||||||||
Net earnings (loss) from operations | $ | (19,889 | ) | $ | 7,323 | $ | 2,434 | $ | (9,757 | ) | $ | (19,889 | ) | |||||||
Non-cash charges (credits) to net earnings (loss) | ||||||||||||||||||||
Depreciation and amortization | 17,314 | 12,463 | 5 | — | 29,782 | |||||||||||||||
Restructuring and impairment charges | 1,502 | — | — | — | 1,502 | |||||||||||||||
Amortization of debt acquisition costs | 4,398 | — | — | — | 4,398 | |||||||||||||||
Amortization of bond premium | (391 | ) | — | — | — | (391 | ) | |||||||||||||
Change in value of financial instruments | (2,058 | ) | — | — | — | (2,058 | ) | |||||||||||||
Equity in loss (earnings) of investees | (7,323 | ) | (2,434 | ) | — | 9,757 | — | |||||||||||||
Postretirement healthcare benefits | 20 | (206 | ) | — | — | (186 | ) | |||||||||||||
Pension expense | — | 446 | — | — | 446 | |||||||||||||||
Deferred income taxes | 19,414 | 1,785 | — | — | 21,199 | |||||||||||||||
Changes in working capital | ||||||||||||||||||||
Accounts receivable | (6,219 | ) | (1,454 | ) | (2,638 | ) | — | (10,311 | ) | |||||||||||
Intercompany accounts receivable/payable | 31,967 | (32,325 | ) | 358 | — | — | ||||||||||||||
Inventories | 16,623 | 13,267 | (116 | ) | — | 29,774 | ||||||||||||||
Accrued trade marketing expense | (8,152 | ) | (661 | ) | (448 | ) | — | (9,261 | ) | |||||||||||
Accounts payable | (20,173 | ) | (4,383 | ) | (279 | ) | — | (24,835 | ) | |||||||||||
Other current assets and liabilities | 6,492 | 3,965 | 1,237 | — | 11,694 | |||||||||||||||
Net cash provided by (used in) operating activities | 33,525 | (2,214 | ) | 553 | — | 31,864 | ||||||||||||||
Cash flows from investing activities | ||||||||||||||||||||
Capital expenditures | (12,317 | ) | (9,474 | ) | (9 | ) | — | (21,800 | ) | |||||||||||
Pinnacle merger consideration | 1,595 | — | — | — | 1,595 | |||||||||||||||
Sale of plant assets | — | 561 | — | — | 561 | |||||||||||||||
Net cash used in investing activities | (10,722 | ) | (8,913 | ) | (9 | ) | — | (19,644 | ) | |||||||||||
Cash flows from financing activities | ||||||||||||||||||||
Change in bank overdrafts | — | 9,766 | (308 | ) | — | 9,458 | ||||||||||||||
Repayment of capital lease obligations | (8 | ) | (85 | ) | — | — | (93 | ) | ||||||||||||
Successor’s debt acquisition costs | (51 | ) | — | — | — | (51 | ) | |||||||||||||
Proceeds from Successor’s notes payable borrowing | 31,626 | — | — | — | 31,626 | |||||||||||||||
Repayments of Successor’s notes payable | (30,714 | ) | — | — | — | (30,714 | ) | |||||||||||||
Repayments of Successor’s long term obligations | (24,087 | ) | — | — | — | (24,087 | ) | |||||||||||||
Net cash (used in) provided by financing activities | (23,234 | ) | 9,681 | (308 | ) | — | (13,861 | ) | ||||||||||||
Effect of exchange rate changes on cash | — | — | — | — | — | |||||||||||||||
Net change in cash and cash equivalents | (431 | ) | (1,446 | ) | 236 | — | (1,641 | ) | ||||||||||||
Cash and cash equivalents — beginning of period | 490 | 1,745 | — | — | 2,235 | |||||||||||||||
Cash and cash equivalents — end of period | $ | 59 | $ | 299 | $ | 236 | $ | — | $ | 594 | ||||||||||
Supplemental disclosures of cash flow information: | ||||||||||||||||||||
Interest paid | $ | 39,435 | $ | — | $ | — | $ | — | $ | 39,435 | ||||||||||
Interest received | — | 387 | 16 | — | 403 | |||||||||||||||
Income taxes refunded (paid) | — | 611 | (203 | ) | — | 408 |
35
Table of Contents
PINNACLE FOODS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
(in thousands, except where noted in millions)
Pinnacle Foods Group Inc.
Consolidated Statement of Cash Flows — Successor
For the nine months ended September 26, 2004
Consolidated Statement of Cash Flows — Successor
For the nine months ended September 26, 2004
Pinnacle | ||||||||||||||||||||
Foods | Guarantor | Nonguarantor | Consolidated | |||||||||||||||||
Group Inc. | Subsidiaries | Subsidiary | Eliminations | Total | ||||||||||||||||
Cash flows from operating activities | ||||||||||||||||||||
Net earnings (loss) from operations | $ | (79,657 | ) | $ | (20,342 | ) | $ | (24 | ) | $ | 20,366 | $ | (79,657 | ) | ||||||
Non-cash charges (credits) to net earnings (loss) | ||||||||||||||||||||
Depreciation and amortization | 10,336 | 18,532 | 5 | — | 28,873 | |||||||||||||||
Restructuring and impairment charges | 6,101 | 10,211 | — | — | 16,312 | |||||||||||||||
Amortization of debt acquisition costs | 3,146 | — | — | — | 3,146 | |||||||||||||||
Amortization of bond premium | (400 | ) | — | — | — | (400 | ) | |||||||||||||
Change in value of financial instruments | (1,499 | ) | — | — | — | (1,499 | ) | |||||||||||||
Equity in loss (earnings) of investees | 20,342 | 24 | — | (20,366 | ) | — | ||||||||||||||
Equity related compensation charge | 7,400 | — | — | — | 7,400 | |||||||||||||||
Postretirement healthcare benefits | 12 | (987 | ) | — | — | (975 | ) | |||||||||||||
Pension expense | — | 790 | — | — | 790 | |||||||||||||||
Deferred income taxes | 8,295 | (3,550 | ) | (30 | ) | — | 4,715 | |||||||||||||
Changes in working capital | ||||||||||||||||||||
Accounts receivable | (73,784 | ) | 60,552 | (2,181 | ) | — | (15,413 | ) | ||||||||||||
Intercompany accounts receivable/payable | (5,121 | ) | 3,310 | 1,811 | — | — | ||||||||||||||
Inventories | (77,171 | ) | 48,398 | (1,908 | ) | — | (30,681 | ) | ||||||||||||
Accrued trade marketing expense | 29,427 | (24,559 | ) | 1,476 | — | 6,344 | ||||||||||||||
Accounts payable | 42,070 | (10,403 | ) | (85 | ) | — | 31,582 | |||||||||||||
Other current assets and liabilities | 78,880 | (84,454 | ) | 400 | — | (5,174 | ) | |||||||||||||
Net cash provided by (used in) operating activities | (31,623 | ) | (2,478 | ) | (536 | ) | — | (34,637 | ) | |||||||||||
Cash flows from investing activities | ||||||||||||||||||||
Capital expenditures | (3,726 | ) | (8,219 | ) | (2 | ) | — | (11,947 | ) | |||||||||||
Pinnacle merger costs | (426 | ) | — | — | — | (426 | ) | |||||||||||||
Aurora merger consideration | (663,759 | ) | — | — | — | (663,759 | ) | |||||||||||||
Aurora merger costs | (17,006 | ) | — | — | — | (17,006 | ) | |||||||||||||
Acquisition of license | (1,919 | ) | — | — | — | (1,919 | ) | |||||||||||||
Net cash used in investing activities | (686,836 | ) | (8,219 | ) | (2 | ) | — | (695,057 | ) | |||||||||||
Cash flows from financing activities | ||||||||||||||||||||
Change in bank overdrafts | — | 5,598 | — | — | 5,598 | |||||||||||||||
Repayment of capital lease obligations | (4 | ) | — | — | — | (4 | ) | |||||||||||||
Equity contribution to Successor | 95,276 | — | — | — | 95,276 | |||||||||||||||
Successor’s debt acquisition costs | (16,853 | ) | — | — | — | (16,853 | ) | |||||||||||||
Proceeds from Successor’s bond offerings | 200,976 | — | — | — | 200,976 | |||||||||||||||
Proceeds from Successor’s bank term loan | 425,000 | — | — | — | 425,000 | |||||||||||||||
Proceeds from Successor’s notes payable borrowing | 30,000 | — | — | — | 30,000 | |||||||||||||||
Repayments of Successor’s notes payable | (14,000 | ) | — | — | — | (14,000 | ) | |||||||||||||
Repayments of Successor’s long term obligations | (1,363 | ) | (1,363 | ) | ||||||||||||||||
Net cash (used in) provided by financing activities | 719,032 | 5,598 | — | — | 724,630 | |||||||||||||||
Effect of exchange rate changes on cash | — | — | 18 | — | 18 | |||||||||||||||
Net change in cash and cash equivalents | 573 | (5,099 | ) | (520 | ) | — | (5,046 | ) | ||||||||||||
Cash and cash equivalents — beginning of period | — | 4,751 | 503 | — | 5,254 | |||||||||||||||
Cash and cash equivalents — end of period | $ | 573 | $ | (348 | ) | $ | (17 | ) | $ | — | $ | 208 | ||||||||
Supplemental disclosures of cash flow information: | ||||||||||||||||||||
Interest paid | $ | 28,344 | $ | — | $ | — | $ | — | $ | 28,344 | ||||||||||
Interest received | 88 | 225 | 11 | — | 324 | |||||||||||||||
Income taxes refunded (paid) | — | 862 | — | — | 862 |
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ITEM 2: | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
(in millions, except where noted)
The purpose of this section is to discuss and analyze our consolidated financial condition, liquidity and capital resources and results of operations. You should read this analysis in conjunction with the consolidated financial statements and accompanying footnotes and our Annual Report on Form 10-K for the transition period ended December 26, 2004. This section contains certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on management’s beliefs, assumptions and expectations of our future economic performance, taking into account the information currently available to management. These statements are not statements of historical fact. Forward-looking statements involve risks and uncertainties that may cause our actual results, performance or financial condition to differ materially from the expectations of future results, performance or financial condition we express or imply in any forward-looking statements. Factors that could contribute to these differences include, but are not limited to: changes in demand for our products, changes in distribution channels or competitive conditions in the markets where we operate, loss of our intellectual property rights, fluctuations in the price or supply of raw materials, seasonality, our reliance on co-packers to meet our manufacturing needs, competition and industry trends. The words “believe,” “may,” “will,” “should,” “anticipate,” “estimate,” “expect,” “intend,” “objective,” “seek,” “strive,” or similar words, or the negative of these words, identify forward-looking statements entirely by these cautionary factors.
Overview
We are a leading producer, marketer and distributor of high quality, branded food products, the results of which are managed and reported in two operating segments: frozen foods and dry foods. The frozen foods segment consists of the following: dinners and entrees (Swanson, Hungry-Man), prepared seafood (Van de Kamp’s, Mrs. Paul’s), breakfast (Aunt Jemima), bagels (Lenders), and other frozen products (Celeste, Chef’s Choice). The dry foods segment consists of the following product lines: pickles, peppers, and relish (Vlasic), baking mixes and frostings (Duncan Hines), syrups and pancake mixes (Mrs. Butterworth’s and Log Cabin), and other grocery products (Open Pit).
Pinnacle Foods Holding Corporation (“PFHC”) and certain newly-formed investor companies consummated a merger (the “Pinnacle Merger” or “Merger”) effective November 24, 2003. For purposes of identification and description, the Company is referred to as the “Predecessor” for the period prior to the Pinnacle Merger, and the “Successor” for the period subsequent to the Pinnacle Merger. Also, as described in Note 3 to the consolidated financial statements, on March 19, 2004, in connection with the comprehensive restructuring of Aurora Foods Inc., the “Aurora Transaction” resulted in the merger of Pinnacle and Aurora, with Pinnacle as the accounting acquiror. The consolidated financial statements include the results of operations of the Aurora businesses beginning March 19, 2004. Also, see Note 3 for pro forma financial information.
In November 2003, we entered into a $675.0 million credit agreement (“senior secured credit facilities”) with JPMorgan Chase Bank (a related party) and other financial institutions as lenders, which provides for a $545.0 million seven-year term loan B facility, of which $120.0 million was made available in connection with the Pinnacle Merger and $425.0 million was made available as a delayed draw term loan on the closing date of the Aurora Transaction. The senior secured credit facilities also provide for a six-year $130.0 million revolving credit facility, of which up to $65.0 million was made available on November 25, 2003, and the remaining $65.0 million was made available on the closing date of the Aurora Transaction. The revolving credit facility expires November 25, 2009. There were no borrowings outstanding under the revolving credit facility as of September 25, 2005 and December 26, 2004.
On November 4, 2004, our lenders agreed to temporarily waive certain defaults under the senior secured credit facilities arising due to (i) failure to furnish on a timely basis our audited financial statements for the fiscal year ended July 31, 2004, our annual budget for fiscal year 2005 and other related deliverables and (ii) failure to comply with certain financial covenants for the October 31, 2004 reporting period.
On November 19, 2004, subject to certain conditions, we received required lender approval to permanently waive the defaults discussed above and modify the financial covenants for future reporting periods. The terms of the permanent amendment and waiver are discussed later in this section. We are currently in compliance with the covenants under the senior secured credit facilities.
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As discussed in the Liquidity and Capital Resources section below, our senior secured credit facilities contain the following financial covenants: a maximum total leverage ratio, a minimum interest coverage ratio, and a maximum capital expenditure limitation. Additionally, under the senior credit agreement amendment, a maximum senior debt leverage ratio was added. We have been in compliance with these covenants since the senior credit agreement amendment became effective on November 19, 2004. Based upon management’s current estimates, we believe we will continue to meet the financial covenants set forth in the senior credit agreement amendment and, as such, will maintain compliance with these covenant requirements for at least the next 12 months. However, in the event that we do not meet these financial covenants, it could result in a breach, which, if we are unable to obtain a waiver, may result in a default under the senior secured credit facilities. Factors that could influence our ability to meet these financial covenants include (i) lower demand for our products, (ii) higher than anticipated trade and consumer coupon spending, and (iii) higher freight and distribution costs than those which we experienced over the past six months.
In December 2004, our board of directors approved a change in our fiscal year end from July 31 to the last Sunday in December. Accordingly, we are presenting unaudited consolidated financial statements for the three and nine months ended September 25, 2005 and for the three and nine months ended September 26, 2004.
During the nine months ended September 25, 2005, the twenty-one weeks ended December 26, 2004 (the “transition year”) and the thirty-six weeks ended July 31, 2004 (fiscal 2004), we recorded restructuring charges totaling $1.3 million, $3.9 million and $11.8 million, respectively, pertaining to our decision to permanently close the Omaha, Nebraska production facility. The closure was part of our plan of consolidating and streamlining production activities after the Aurora Merger.
During the first quarter of 2005, our earnings (loss) before interest and taxes were negatively impacted by certain items. In April 2005, we announced plans to shutdown a production line in our Mattoon, Illinois production facility and incurred a non-cash charge for an impairment write down of fixed assets totaling $0.9 million. Also, in April 2005, we announced plans to permanently close the Erie, Pennsylvania production facility and incurred charges totaling $3.9 million pertaining to employee severance and related costs and other plant closing costs. This charge was included in the results of operations for the nine months ended September 25, 2005 and is recorded in other expense (income), net in the Consolidated Statement of Operations. Additionally, in connection with the closure of the Erie, Pennsylvania plant, we recorded $4.4 million of accelerated depreciation expense, which is recorded in cost of products sold in the Consolidated Statement of Operations.
Additionally, in the continuing effort to revitalize our brands, we introduced several new products during the first quarter of 2005 and incurred a substantially higher level of slotting expenses and a higher level of coupon expenses. We do not expect these levels of expense to continue throughout the remainder of the year. Both slotting and coupon expenses are deducted from shipments (as discussed below) in arriving at net sales in our Consolidated Statement of Operations.
We have substantially completed the acquisition integration and achieved cost savings through the Aurora Transaction. Through the Aurora Transaction, we have enhanced our existing product offerings and developed dozens of new offerings which were launched in 2005. Despite the difficulties that necessitated us amending the financial covenants under our senior secured credit facilities, our focused strategy remains the same. This includes:
• | capitalize on our diversified product portfolio; | ||
• | leverage our brand names for share leadership; | ||
• | expand the foodservice and private label businesses; | ||
• | expand the Vlasic and Duncan Hines brands in Canada; | ||
• | continue to achieve significant productivity improvements; and | ||
• | complete the integration and execute on our synergy opportunities. |
The discussion below for each of the comparative periods is based upon net sales. We determine net sales in accordance with generally accepted accounting principles. We calculate our net sales by deducting trade marketing, slotting and consumer coupon redemption expenses from shipments. “Shipments” means gross sales less cash discounts, returns and “non-marketing” allowances. We calculate gross sales by multiplying the published list price of each product by the number of units of that product sold.
Shipments is a non-GAAP financial measure. We include it in our management’s discussion and analysis because we believe that it is a relevant financial performance indicator for our company as it measures the increase or decrease in our revenues caused by shipping more or less physical case volume multiplied by our published list prices. It is also a measure used by our management to evaluate our revenue performance. This measure is not recognized in accordance with GAAP and should not be viewed as an alternative to GAAP measures of performance.
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The following table reconciles shipments to net sales for the consolidated company, the frozen foods segment and the dry foods segment for the three and nine month periods ended September 25, 2005 and September 26, 2004
For the three months ended,
Consolidated | Frozen Foods | Dry Foods | ||||||||||||||||||||||
September 25, | September 26, | September 25, | September 26, | September 25, | September 26, | |||||||||||||||||||
2005 | 2004 | 2005 | 2004 | 2005 | 2004 | |||||||||||||||||||
Shipments | $ | 394.2 | $ | 395.3 | $ | 214.0 | $ | 219.3 | $ | 180.2 | $ | 176.0 | ||||||||||||
Less: Aggregate trade marketing and consumer coupon redemption expenses | 97.0 | 109.5 | 55.7 | 57.7 | 41.3 | 51.8 | ||||||||||||||||||
Less: Slotting expense | 3.0 | 11.1 | 2.0 | 4.8 | 1.0 | 6.3 | ||||||||||||||||||
Net sales | $ | 294.2 | $ | 274.7 | $ | 156.3 | $ | 156.8 | $ | 137.9 | $ | 117.9 | ||||||||||||
For the nine months ended,
Consolidated | Frozen Foods | Dry Foods | ||||||||||||||||||||||
September 25, | September 26, | September 25, | September 26, | September 25, | September 26, | |||||||||||||||||||
2005 | 2004 | 2005 | 2004 | 2005 | 2004 | |||||||||||||||||||
Shipments | $ | 1,288.7 | $ | 989.6 | $ | 699.3 | $ | 544.1 | $ | 589.4 | $ | 445.5 | ||||||||||||
Less: Aggregate trade marketing and consumer coupon redemption expenses | 341.5 | 263.2 | 189.6 | 139.4 | 151.9 | 123.8 | ||||||||||||||||||
Less: Slotting expense | 38.5 | 18.0 | 16.9 | 8.7 | 21.6 | 9.3 | ||||||||||||||||||
Net sales | $ | 908.7 | $ | 708.4 | $ | 492.8 | $ | 396.0 | $ | 415.9 | $ | 312.4 | ||||||||||||
Plant Consolidations
Omaha, Nebraska Production Facility
During the nine months ended September 25, 2005, we recorded restructuring charges totaling $1.3 million pertaining to our decision to permanently close the Omaha, Nebraska production facility. In addition, during the transition year ended December 26, 2004 and fiscal 2004 ended July 31, 2004, we recorded restructuring charges totaling $3.9 million and $11.8 million, respectively. These charges are recorded as a component of Other expense (income), net in the Consolidated Statement of Operations. The closure was part of our plan of consolidating and streamlining production activities after the Aurora merger. These charges were recorded in accordance with SFAS No. 112, “Employers Accounting for Postemployment Benefits”, SFAS No. 144, “Accounting for the Impairment and Disposal of Long-Lived Assets” and SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”. In determining such charges, we made certain estimates and judgments surrounding the amounts ultimately to be paid and received for the actions we have taken.
Production from the Omaha plant, which manufactured Swanson frozen entree retail products and frozen foodservice products, has been relocated to our Fayetteville, Arkansas and Jackson, Tennessee production facilities. Activities related to the final closure of the plant were completed in the first quarter of 2005 and resulted in the elimination of 411 positions.
In order to estimate the costs related to our restructuring efforts, management made its best estimates of the most likely expected outcomes of the significant activities to accomplish the restructuring. These estimates principally related to charges for asset impairment for the owned facility in Omaha, employee severance costs to be paid, and other plant shutdown and relocation costs. The most significant of these estimated costs related to the asset impairment of the Omaha facility, which was based upon the net book value of the assets that were not being transferred, less the cash flows from production until shutdown and a reasonable salvage value for the land, building and equipment to be sold. We initially recorded a charge of $7.4 million during fiscal 2004 for the impairment of these assets, which was our best estimate of the impairment charge at the time. We had planned to transfer equipment with a net book value of approximately $9.7 million to other production locations, primarily in Fayetteville, Arkansas and Jackson, Tennessee. Due to the delay in closing the Omaha plant and the need to have production up and running in the Fayetteville plant, we were unable to transfer certain equipment with a net book value of $6.2 million and instead incurred capital expenditures to purchase, build and modify the necessary equipment in Fayetteville. In addition to the impairment charge initially recorded in fiscal 2004, we evaluated the remaining property,
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plant and equipment as well as existing offers to sell the plant and equipment, and recorded an additional impairment charge of $2.6 million in the 21 weeks ended December 26, 2004.
The severance costs, which include continuation of employee benefits for salaried employees, total $2.6 million and were expensed in the first quarter of 2004. As of September 25, 2005, $2.5 million has been paid.
The estimated costs associated with transferring certain assets to the Fayetteville and Jackson facilities along with estimates of the costs necessary to shut down the Omaha facility are included in other restructuring costs as they are incurred. Since the April 7, 2004 announcement, these costs have totaled $4.3 million. We anticipate that additional costs through completion of the program, which will be recorded in future periods, will approximate less than $0.1 million. These estimates, together with other estimates made by us in connection with the restructuring actions, may vary significantly from the actual results, depending in part on factors beyond our control. For example, proceeds received from the sale of the land and equipment will depend on our success in negotiating with buyers and the current real estate market in Omaha. We will review the status of our restructuring activities on a quarterly basis and, if appropriate, record changes in estimates to our restructuring obligations in our consolidated financial statements for such quarter based on management’s then-current estimates.
Erie, Pennsylvania Production Facility
During the nine months ended September 25, 2005, we recorded restructuring charges totaling $3.9 million pertaining to our decision to permanently close the Erie, Pennsylvania production facility, which we anticipate will close by the first quarter of 2006. The charges are recorded as a component of Other expense (income), net in the Consolidated Statement of Operations. The closure was part of the Company’s continuing plan of streamlining production activities. These charges were recorded in accordance with SFAS No. 112, “Employers Accounting for Postemployment Benefits” and SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”. In determining such charges, we made certain estimate and judgments surrounding the amounts ultimately to be paid and received for the actions we have taken.
Production from the Erie plant, which manufactures Mrs. Paul’s and Van de Kamp frozen seafood products and Aunt Jemima frozen breakfast products, will be relocated primarily to the Company’s Jackson, Tennessee production facility. Activities related to the closure of the plant are expected to be completed by the first quarter of 2006 and will result in the elimination of approximately 290 positions. Employee termination activities commenced in July 2005 and are expected to be completed by the end of 2005.
In order to estimate the costs related to our restructuring efforts, management made its best estimates of the most likely expected outcomes of the significant activities to accomplish the restructuring. These estimates principally related to charges for employee severance and related costs to be paid and other plant shutdown and relocation costs. The employee related costs, which include severance and other benefits, total $0.8 million. As of September 25, 2005, $0.4 has been paid.
The estimated costs associated with transferring certain assets to the Jackson facility along with estimates of the costs necessary to shut down the Erie facility are included in other restructuring costs as they are incurred. We anticipate that costs through completion of the program will approximate $4.1 million. Through September 25, 2005, $3.1 million has been expended. These estimates, together with other estimates made by us in connection with the restructuring actions, may vary significantly from the actual results, depending in part on factors beyond our control. For example, proceeds received from the sale of the land and equipment will depend on our success in negotiating with buyers and the current real estate market in Erie. We will review the status of our restructuring activities on a quarterly basis and, if appropriate, record changes in estimates to our restructuring obligations in our consolidated financial statements for such quarter based on management’s then-current estimates.
Mattoon, Illinois Production Facility
On April 21, 2005, the Company made and announced its decision effective May 9, 2005 to shut down a bagel production line at its Mattoon, Illinois facility, which produces the Company’s Lender’s® Bagels. In connection with the shutdown of the production line, the Company has terminated 28 full-time and 7 part-time employees. A portion of the assets that was used in the bagel line will be utilized in other production areas within the Company. In accordance with SFAS No. 144, “Accounting for the Impairment and Disposal of Long-Lived Assets”, the Company recorded a non-cash charge of $0.9 million related to the asset impairment of the bagel line, which has been recorded as a component of Other expense (income), net in the Consolidated Statement of Operations for the nine months ended September 25, 2005. We expect that any costs associated with the removal of the assets would be offset from the proceeds received from the sale of those assets.
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As of September 25, 2005, we had an accrued restructuring liability of $2.1 million, of which $0.3 million related to the Omaha plant shutdown, $0.5 million related to the Erie plant shutdown and the balance related to severance costs from the Aurora Transaction. We expect all of these costs to be paid during the next nine months.
Results of operations
Consolidated statements of operations
The following tables set forth statement of operations data expressed in dollars and as a percentage of net sales. In accordance with Generally Accepted Accounting Principles in the United States (“GAAP”), the results for the three and nine months ended September 26, 2004 only include the results of operations of the Aurora businesses from the date of acquisition, March 19, 2004, through the end of the period.
Three months ended | Nine months ended | |||||||||||||||||||||||||||||||
September 25, 2005 | September 26, 2004 | September 25, 2005 | September 26, 2004 | |||||||||||||||||||||||||||||
Net sales | $ | 294.2 | 100.0 | % | $ | 274.7 | 100.0 | % | $ | 908.7 | 100.0 | % | $ | 708.4 | 100.0 | % | ||||||||||||||||
Costs and expenses | ||||||||||||||||||||||||||||||||
Cost of products sold | 225.8 | 76.8 | % | 233.1 | 84.9 | % | 733.8 | 80.8 | % | 609.8 | 86.1 | % | ||||||||||||||||||||
Marketing and selling expenses | 21.8 | 7.4 | % | 29.6 | 10.8 | % | 74.8 | 8.2 | % | 71.3 | 10.1 | % | ||||||||||||||||||||
Administrative expenses | 9.8 | 3.3 | % | 11.6 | 4.2 | % | 32.3 | 3.6 | % | 36.1 | 5.1 | % | ||||||||||||||||||||
Research and development expenses | 0.9 | 0.3 | % | 1.0 | 0.4 | % | 2.9 | 0.3 | % | 2.8 | 0.4 | % | ||||||||||||||||||||
Goodwill impairment charge | — | 0.0 | % | 1.8 | 0.7 | % | — | 0.0 | % | 1.8 | 0.3 | % | ||||||||||||||||||||
Other expense (income), net | 4.6 | 1.6 | % | 7.4 | 2.7 | % | 9.5 | 1.0 | % | 27.3 | 3.9 | % | ||||||||||||||||||||
Total costs and expenses | 262.9 | 89.4 | % | 284.5 | 103.6 | % | 853.3 | 93.9 | % | 749.1 | 105.7 | % | ||||||||||||||||||||
Earnings (loss) before interest and taxes | $ | 31.3 | 10.6 | % | $ | (9.8 | ) | -3.6 | % | $ | 55.4 | 6.1 | % | $ | (40.7 | ) | -5.7 | % | ||||||||||||||
Three months ended | Nine months ended | |||||||||||||||
September 25, | September 26, | September 25, | September 26, | |||||||||||||
2005 | 2004 | 2005 | 2004 | |||||||||||||
Net sales | ||||||||||||||||
Frozen foods | $ | 156.3 | $ | 156.8 | $ | 492.8 | $ | 396.0 | ||||||||
Dry foods | 137.9 | 117.9 | 415.9 | 312.4 | ||||||||||||
Total | $ | 294.2 | $ | 274.7 | $ | 908.7 | $ | 708.4 | ||||||||
Earnings (loss) before interest and taxes | ||||||||||||||||
Frozen foods | $ | 5.0 | $ | (17.7 | ) | $ | 5.6 | $ | (37.2 | ) | ||||||
Dry foods | 30.3 | 12.6 | 62.5 | 17.3 | ||||||||||||
Unallocated corporate expenses | (4.0 | ) | (4.7 | ) | (12.7 | ) | (20.8 | ) | ||||||||
Total | $ | 31.3 | $ | (9.8 | ) | $ | 55.4 | $ | (40.7 | ) | ||||||
Depreciation and amortization | ||||||||||||||||
Frozen foods | $ | 5.0 | $ | 7.5 | $ | 19.5 | $ | 19.5 | ||||||||
Dry foods | 3.5 | 3.0 | 10.3 | 9.4 | ||||||||||||
Total | $ | 8.5 | $ | 10.5 | $ | 29.8 | $ | 28.9 | ||||||||
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Three months ended September 25, 2005 compared to three months ended September 26, 2004
Net sales. Shipments in the three months ended September 25, 2005 were $394.2 million, a decrease of $1.1 million, compared to shipments in the three months ended September 26, 2004 of $395.3 million. Net sales in the three months ended September 25, 2005 were $294.2 million, an increase of $19.5 million, compared to net sales in the three months ended September 26, 2004 of $274.7 million.
Frozen foods:Shipments in the three months ended September 25, 2005 were $214.0 million, a decrease of $5.3 million, compared to shipments in the three months ended September 26, 2004 of $219.3 million. The change was driven by a $5.8 million decrease in our Chef’s Choice product line sales, which was discontinued in the third quarter of 2004. Aggregate trade and consumer coupon redemption expenses decreased $4.8 million in the three months ended September 25, 2005. The declines in trade and consumer coupon redemption expenses during the three months ended September 25, 2005 versus the three months ended September 26, 2004 are the result of timing of marketing programs within the year in response to the company’s change to a calendar year versus a fiscal year (ending July) accounting cycle. The third quarter of 2004 included the beginning of the company’s new fiscal year (August 2004), and as a result, there were new marketing programs in conjunction with some new product introductions and consequently we had more expenditures in that quarter. As a result, frozen foods net sales decreased $0.5 million in the three months ended September 25, 2005. The net sales change was driven by a $5.1 million decrease in our Chef’s Choice product line sales offset by increases in our Swanson product line sales.
Dry foods:Shipments in the three months ended September 25, 2005 were $180.2 million, an increase of $4.2 million, compared to shipments in the three months ended September 26, 2004 of $176.0 million. The change was driven by a $3.9 million increase in our Duncan Hines product lines sales. Aggregate trade and consumer coupon redemption expenses decreased $15.8 million. The declines in trade and consumer coupon redemption expenses during the three months ended September 25, 2005 versus the three months ended September 26, 2004 are the result of timing of marketing programs within the year in response to the company’s change to a calendar year versus a fiscal year (ending July) accounting cycle. The third quarter of 2004 included the beginning of the company’s new fiscal year (August 2004), and as a result, there were new marketing programs in conjunction with some new product introductions and consequently we had more expenditures in that quarter. As a result, dry foods net sales increased $20.0 million in the three months ended September 25, 2005. The net sales change was driven by an $8.0 million increase in our Duncan Hines product lines sales, a $3.5 million increase in our syrup product line sales, and a $3.5 million increase in our Vlasic product line sales. The balance of the increase in net sales was related to our non branded foodservice and private label product sales.
Cost of products sold. Our cost of products sold was $225.8 million, or 76.8% of net sales in the three months ended September 25, 2005, versus cost of products sold of $233.1 million, or 84.9% of net sales in the three months ended September 26, 2004. Cost of products sold during the three months ended September 26, 2004 include additional costs of $0.2 million related to post-Merger sales of inventories written up to fair value at the date of the Aurora Transaction. Cost of products sold, as a percent of sales, was affected by changes in our aggregate trade and consumer coupon redemption expenses that are classified as reductions from net sales. In addition, decreases in cost of product sold, as a percentage of sales, resulted from additional costs resulting from the reorganization of our warehousing network and the related movement of product to the new warehousing network incurred in the three months ended September 26, 2004.
Marketing and selling expenses. Marketing and selling expenses were $21.8 million, or 7.4% of net sales, in the three months ended September 25, 2005 compared to $29.6 million, or 10.8% of net sales, in the three months ended September 26, 2004. The change was due to lower advertising ($6.4 million) and selling commission expense ($1.2 million). In addition, the declines in marketing expenses during the three months ended September 25, 2005 versus the three months ended September 26, 2004 are the result of timing of marketing programs within the year in response to the company’s change to a calendar year versus a fiscal year (ending July) accounting cycle. The third quarter of 2004 included the beginning of the company’s new fiscal year (August 2004), and as a result, there were new marketing programs in conjunction with some new product introductions and consequently we had more expenditures in that quarter.
Administrative expenses. Administrative expenses were $9.8 million in the three months ended September 25, 2005 compared to $11.6 million in the three months ended September 26, 2004. The principal driver of the $1.8 million decrease was an adjustment to our bad debt reserve in the three months ended September 25, 2005, resulting from improvements in our accounts receivable aging ($1.0 million) and cash collections of previously written off accounts ($0.5 million).
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Research and development expenses. Research and development expenses were $0.9 million, or 0.3% of net sales, in the three months ended September 25, 2005 compared with $1.0 million, or 0.4% of net sales, in the three months ended September 26, 2004.
Goodwill impairment charge.Goodwill impairment charges were $1.8 million in the three months ended September 26, 2004, related to the impairment of the Chef’s Choice goodwill as a result of our decision to discontinue producing products under the Chef’s Choice trade name.
Other expense (income), net. Other expense was $4.6 million in the three months ended September 25, 2005 as compared to $7.4 million in the three months ended September 26, 2004. In the three months ended September 25, 2005, we recorded $3.5 million for plant consolidation expense, primarily related to the closure of our Erie, Pennsylvania frozen food facility, as discussed above under Plant Consolidation. In the three months ended September 26, 2004 we recorded $2.2 million for plant consolidation expense related to the closure of our Omaha, Nebraska frozen food facility. Additionally, restructuring and impairment charges totaled $4.3 million in the three months ended September 26, 2004. The restructuring and impairment charges consisted of a $3.0 million impairment charge related to the Chef’s Choice brand including $1.7 million of amortizable intangibles (recipes) and $1.3 million of fixed asset write downs, and a $1.3 million impairment charge related to the Avalon Bay trade name. In addition, we recorded $1.2 million of amortization expense in the three months ended September 25, 2005 compared to $1.1 in the three months ended September 26, 2004.
Earnings (loss) before interest and taxes. Earnings before interest and taxes (EBIT) increased $41.1 million to $31.3 million in the three months ended September 25, 2005 from a ($9.8) million loss in EBIT in the three months ended September 26, 2004. This increase resulted from a $22.7 million increase in frozen foods EBIT, a $17.7 million increase in dry foods EBIT, and a $0.7 million decrease in unallocated corporate expenses.
Frozen foods:Frozen foods EBIT increased by $22.7 million in the three months ended September 25, 2005. This increase was net of $0.2 million of accelerated depreciation expense related to the closure of the Erie, Pennsylvania frozen food facility in the third quarter of 2005 and a charge of $3.5 million related to the plant consolidation expense from the closure of the Omaha, Nebraska and Erie, Pennsylvania frozen foods facilities in the third quarter of 2005. The results for the three months ended September 26, 2004 include additional costs of products sold of $0.2 million related to post-acquisition sales of inventories written up to fair value at the date of the Aurora Transaction, and $1.9 million of accelerated depreciation and $1.9 million of plant consolidation expense, both related to the closure of the Omaha, Nebraska frozen food facility. Additionally, restructuring and impairment charges totaling $6.1 million were recorded in the three months ended September 26, 2004. The restructuring and impairment charges consisted of a $1.8 million charge related to the impairment of the Chef’s Choice goodwill, $3.0 million impairment charge related to the Chef’s Choice brand including $1.7 million of amortizable intangibles (recipes) and $1.3 million of fixed asset write downs, and a $1.3 million impairment charge related to the Avalon Bay trade name. Additionally, the corporate overhead expense allocated to frozen foods was $1.1 million lower for the three months ended September 25, 2005, related to an adjustment to our bad debt reserve. The balance of our frozen foods EBIT increased $15.2 million, primarily due to a $4.8 million decline in trade and coupon promotion expenses and a $4.1 million decline in advertising expense. The declines in marketing expenses during the three months ended September 25, 2005 versus the three months ended September 26, 2004 are the result of timing of marketing programs within the year in response to the company’s change to a calendar year versus a fiscal year (ending July) accounting cycle. The third quarter of 2004 included the beginning of the company’s new fiscal year (August 2004), and as a result, there were new marketing programs in conjunction with some new product introductions and consequently we had more expenditures in that quarter. The balance of the increase was due to decreased cost of products sold expense related to additional costs from the reorganization of our warehousing network and the related movement of product to the new warehousing network incurred in the three months ended September 26, 2004.
Dry foods:Dry foods EBIT increased $17.7 million in the three months ended September 25, 2005. Corporate overhead expense allocated to dry foods was $0.7 million lower for the three months ended September 25, 2005, related to an adjustment to our bad debt reserve. The balance of our dry foods EBIT increased $17.0 million, primarily due to a $15.7 million decline in trade and coupon promotion expenses and a $2.3 million decline in advertising expense. The declines in marketing expenses during the three months ended September 25, 2005 versus the three months ended September 26 2004 are the result of timing of marketing programs within the year in response to the company’s change to a calendar year versus a fiscal year (ending July) accounting cycle. The third quarter of 2004 included the beginning of the company’s new fiscal year (August 2004), and as a result, there were new marketing programs in conjunction with some new product introductions and consequently we had more expenditures in that quarter.
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Interest expense, net. Interest expense, net was $17.3 million in the three months ended September 25, 2005 compared to $17.0 million in the three months ended September 26, 2004. The impact of higher interest rates during the third quarter 2005 were offset by the lower borrowing levels as we have not borrowed against the revolving credit facility during the third quarter of 2005. The change in interest expense is also impacted by mark to market adjustments on our interest rate swaps. We utilize interest rate swap agreements to reduce the potential exposure to interest rate movements and to achieve a desired proportion of variable versus fixed rate debt. Any gains or losses realized on the interest rate swap agreements are recorded as an adjustment to interest expense. During the three months ended September 25, 2005, we recorded a gain on the interest rate swap contracts totaling $1.9 million. During the three months ended September 26, 2004, we recorded a loss on the value of the interest rate swaps totaling $1.8 million.
Provision for income taxes.The effective tax rate was 66.2% in the three months ended September 25, 2005, compared to (15.2%) in the three months ended September 26, 2004. We maintain a full valuation allowance against net deferred tax assets excluding indefinite lived intangible assets, and the effective rate difference is primarily due to the change in the valuation allowance for the three month period. Deferred tax liabilities are recognized for the differences between the book and tax bases of certain goodwill and indefinite lived intangible assets. A deferred tax charge was recorded in the three month period ended September 25, 2005 for amortization recognized for tax purposes related to indefinite lived intangibles.
Under Internal Revenue Code Section 382, Aurora is a loss corporation. Section 382 of the Code places limitations on our ability to use Aurora’s net operating loss carry forward to offset our income. The annual net operating loss limitation is approximately $13-15 million subject to other rules and restrictions.
Nine months ended September 25, 2005 compared to nine months ended September 26, 2004
Net sales. Shipments in the nine months ended September 25, 2005 were $1,288.7 million, an increase of $299.1 million, compared to shipments in the nine months ended September 26, 2004 of $989.6 million. $255.4 million of the increase was related to the shipments of products acquired in the Aurora Transaction. Net sales in the nine months ended September 25, 2005 were $908.7 million, an increase of $200.3 million, compared to net sales in the nine months ended September 26, 2004 of $708.4 million. $167.2 million of the increase was related to the products acquired in the Aurora Transaction, whose brands required a higher level of trade spending than the historical Pinnacle brands.
Frozen foods:Shipments in the nine months ended September 25, 2005 were $699.3 million, an increase of $155.2 million. $137.0 million of the increase was related to products acquired in the Aurora Transaction. The balance of the change was driven by increases in our Swanson, Aunt Jemima, and seafood product line sales. Aggregate trade and consumer coupon redemption expenses increased $58.4 million, of which $47.1 million of the increase related to the products acquired in the Aurora Transaction. As a result, frozen foods net sales increased $96.8 million, with $90.0 million related to the products acquired in the Aurora Transaction. The balance of the change was driven by increases in our Aunt Jemima, seafood, and Swanson product line sales.
Dry foods:Shipments in the nine months ended September 25, 2005 were $589.4 million, an increase of $143.9 million. $113.6 million of the increase was related to products acquired in the Aurora Transaction. The balance of the change was driven by increases in our Duncan Hines, pickle, and syrup product line sales. Aggregate trade and consumer coupon redemption expenses increased $40.4 million, of which $38.9 million related to products acquired in the Aurora Transaction. As a result, dry foods net sales increased $103.5 million, of which $74.7 million was related to products acquired in the Aurora Transaction. The balance of the change was driven by increases in our Duncan Hines and syrup product line sales.
Cost of products sold. Our cost of products sold was $733.8 million, or 80.8% of net sales in the nine months ended September 25, 2005, versus cost of products sold of $609.8 million, or 86.1% of net sales in the nine months ended September 26, 2004. The products acquired in the Aurora Transaction resulted in an additional $127.8 million of cost of products sold in the nine months ended September 25, 2005. Cost of products sold during the nine months ended September 26, 2004 include additional costs of $18.1 million and $13.2 million related to post-Merger sales of inventories written up to fair value at the date of the Pinnacle Merger and the Aurora Transaction, respectively. Cost of products sold during the nine months ended September 25, 2005 were impacted by the additional costs resulting from the reorganization of our warehousing network and the related movement of product to the new warehousing network. In addition to these costs, this percentage is also affected by changes in our aggregate trade and consumer coupon redemption expenses that are classified as reductions from net sales.
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Marketing and selling expenses. Marketing and selling expenses were $74.8 million, or 8.2% of net sales, in the nine months ended September 25, 2005 compared to $71.3 million, or 10.1% of net sales, in the nine months ended September 26, 2004. The business acquired through the Aurora Transaction contributed an additional $20.8 million of costs for the nine months ended September 25, 2005. The balance of the change was due to decreased selling and marketing overhead expense and lower advertising expense.
Administrative expenses. Administrative expenses were $32.3 million in the nine months ended September 25, 2005 compared to $36.1 million in the nine months ended September 26, 2004. The higher cost in the nine months ended September 26, 2004 relate to the continued operation of the Aurora headquarters office in St. Louis, which was closed in May 2004.
Research and development expenses. Research and development expenses were $2.9 million, or 0.3% of net sales, in the nine months ended September 25, 2005 compared with $2.8 million, or 0.4% of net sales, in the nine months ended September 26, 2004.
Goodwill impairment charge.Goodwill impairment charges were $1.8 million in the nine months ended September 26, 2004, related to the impairment of the Chef’s Choice goodwill as a result of our decision to discontinue producing products under the Chef’s Choice trade name.
Other expense (income), net. Other expense was $9.5 million in the nine months ended September 25, 2005 compared to $27.3 million in the nine months ended September 26, 2004. Included in other expense (income), net for the nine months ended September 26, 2004 was $8.8 million of Pinnacle Merger related expenses, consisting primarily of $7.4 million of non-cash equity related compensation expense and $1.4 million of retention benefits payments. Also, a $10.0 million impairment charge and $2.2 million for plant consolidation expense, both related to the closure of our Omaha, Nebraska frozen food facility, were recorded in the nine months ended September 26, 2004. Additionally, restructuring and impairment charges totaling $4.3 million were recorded in the nine months ended September 26, 2004. The restructuring and impairment charges consisted of a $3.0 million impairment charge related to the Chef’s Choice brand including $1.7 million of amortizable intangibles (recipes) and $1.3 million of fixed asset write downs, and a $1.3 million impairment charge related to the Avalon Bay trade name. For the nine months ended September 25, 2005, restructuring and impairment charges totaled $6.1 million and consisted of $3.9 million of costs related to the closure of our Erie, Pennsylvania frozen food facility, a $0.9 million asset impairment charge for the shutdown of a production line at our Mattoon, Illinois facility, and $1.3 million of plant consolidation expense related to the closure of our Omaha, Nebraska frozen food facility, all of which are discussed above under Plant Consolidation. In addition, $3.6 million of amortization expense was incurred in the nine months ended September 25, 2005 compared to $2.2 in the nine months ended September 26, 2004. The increased amortization was primarily related to the amortizable intangible assets acquired in the Aurora Transaction.
Earnings (loss) before interest and taxes. Earnings (loss) before interest and taxes (EBIT) increased $96.1 million to $55.4 million in the nine months ended September 25, 2005 from a loss of ($40.7) million in EBIT in the nine months ended September 26, 2004. This increase resulted from a $42.8 million increase in frozen foods EBIT, a $45.2 million increase in dry foods EBIT, and a $8.1 million decrease in unallocated corporate expenses. The decrease in the unallocated corporate expenses was principally related to $8.8 million of Pinnacle Merger related expenses in the nine months ended September 26, 2004, consisting primarily of $7.4 million of non-cash equity related compensation expense and $1.4 million of retention benefit payments
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Frozen foods:Frozen foods EBIT increased by $42.8 million in the nine months ended September 25, 2005 and includes $5.2 million related to the business acquired in the Aurora Transaction. In the first nine months of 2005 we recorded $4.4 million of accelerated depreciation expense related to the closure of the Erie, Pennsylvania frozen food facility and a charge of $5.2 million related to the plant consolidation expense from the closure of the Omaha, Nebraska ($1.3 million) and Erie, Pennsylvania ($3.9 million) frozen foods facilities. Additionally, a $0.9 million asset impairment write down for the shutdown of a production line at our Mattoon, Illinois facility was recorded in the first nine months of 2005. The nine months ended September 26, 2004 include additional costs of $1.2 million related to post-Merger sales of inventories written up to fair value at the date of the Pinnacle Merger. The increase in EBIT also includes the impact of the $6.0 million charge recorded in the nine months ended September 26, 2004 related to post-acquisition sales of inventories written up to fair value at the date of the Aurora Transaction. Additionally, the results for the nine months ended September 26, 2004 included a charge of $10.0 million related to the closure of the Omaha, Nebraska frozen foods facility as well as $7.1 million of accelerated depreciation expense related to the closure of the Omaha facility. Restructuring and impairment charges totaling $6.1 million were also recorded in the nine months ended September 26, 2004. The restructuring and impairment charges consisted of a $1.8 million charge related to the impairment of the Chef’s Choice goodwill, $3.0 million impairment charge related to the Chef’s Choice brand including $1.7 million of amortizable intangibles (recipes) and $1.3 million of fixed asset write downs, and a $1.3 million impairment charge related to the Avalon Bay trade name. Additionally, the corporate overhead expense allocated to frozen foods was $1.1 million higher for the nine months ended September 26, 2004, related to the continued operation of the Aurora headquarters office in St. Louis, which was closed in May 2004. The balance of our frozen foods EBIT increased $16.5 million, resulting from an increase in sales volume offset by increased cost of products sold expense related to the reorganization of our warehousing network, and increased slotting and trade promotion expenses.
Dry foods:Dry foods EBIT increased $45.2 million in the nine months ended September 25, 2005 and includes $9.9 million related to the business acquired in the Aurora Transaction. The increase in EBIT also includes the impact of the $7.2 million charge recorded in the nine months ended September 26, 2004 related to post-acquisition sales of inventories written up to fair value at the date of the Aurora Transaction, which includes $1.8 million in the first quarter and $5.4 million in the second quarter. The nine months ended September 26, 2004 also includes additional cost of products sold of $17.0 million related to post-Merger sales of inventories written up to fair value at the date of the Pinnacle Merger. In addition, $1.7 million of amortization expense was incurred in the nine months ended September 25, 2005 compared to $0.7 in the nine months ended September 26, 2004. The increased amortization was primarily related to the amortizable intangible assets acquired in the Aurora Transaction. The balance of the Dry foods EBIT increased $12.1 million, primarily due to increased sales volume, resulting from additional case volume in our Duncan Hines and pickles product lines. Partially offsetting these increased sales are increases in our cost of products sold expense related to the reorganization of our warehousing network and increased slotting and trade promotion expenses.
Interest expense, net. Interest expense, net was $52.2 million in the nine months ended September 25, 2005 compared to $34.7 million in the nine months ended September 26, 2004. The increase in interest expense, net is partially related to the change in capital structure, which occurred as a result of the Aurora Transaction. In addition, we experienced higher average interest rates on our senior debt as well as mark to market adjustments on our interest rate swaps. We utilize interest rate swap agreements to reduce the potential exposure to interest rate movements and to achieve a desired proportion of variable versus fixed rate debt. Any gains or losses realized on the interest rate swap agreements are recorded as an adjustment to interest expense. During the nine months ended September 25, 2005, we recorded a gain on the interest rate swap contracts totaling $3.3 million. During the nine months ended September 26, 2004, we recorded a gain on the value of the interest rate swaps totaling $5.0 million.
Provision for income taxes.The effective tax rate was 729.2% in the nine months ended September 25, 2005, compared to (5.6%) in the nine months ended September 26, 2004. We maintain a full valuation allowance against net deferred tax assets excluding indefinite lived intangible assets, and the effective rate difference is primarily due to the change in the valuation allowance for the nine month period. Deferred tax liabilities are recognized for the differences between the book and tax bases of certain goodwill and indefinite lived intangible assets. A deferred tax charge was recorded this nine month period for amortization recognized for tax purposes related to indefinite lived intangibles.
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Seasonality
We experience seasonality in our sales and cash flows. Sales of frozen foods, including seafood, tend to be marginally higher during the winter months, whereas sales of pickles, relishes and barbecue sauces tend to be higher in the spring and summer months and demand for Duncan Hines products tend to be higher around the Easter, Thanksgiving and Christmas holidays. We pack the majority of our pickles during a season extending from May through September and also increase our seafood and Duncan Hines inventories at that time in advance of the selling season. As a result, our inventory levels are higher during August, September and October, and thus we require more working capital during those months. We are a seasonal net user of cash in the third quarter of the calendar year, which may require us to draw on the revolving credit commitments under our senior credit facilities.
Liquidity and capital resources
Historical
Our cash flows are very seasonal. Typically we are a net user of cash in the third quarter of the calendar year and a net generator of cash over the balance of the year.
Our principal liquidity requirements have been, and we expect will be, for working capital and general corporate purposes, including capital expenditures and debt service. Capital expenditures are expected to be approximately $27 million in 2005. We have historically satisfied our liquidity requirements with internally generated cash flows and availability under our revolving credit facilities.
Statements of cash flows for the nine months ended September 25, 2005
Net cash provided by operating activities was $31.9 million for the nine months ended September 25, 2005, while during the nine months ended September 26, 2004, we used $34.6 million for operating activities. Net cash provided by operating activities during the nine months ended September 25, 2005 was principally the result $34.8 million in net earnings excluding non-cash items, which was offset by an increase of $2.9 million in working capital accounts. The increase in working capital included a $29.8 million decrease in inventory that was a result of the sell down of the seasonal build from December 2004. The cash provided by the reduction in inventory levels was offset by a $24.8 million decrease in accounts payable. In the nine months ended September 26, 2004, net cash used in operations was driven by a $21.3 million net loss excluding non-cash items and a $13.3 million increase in working capital, principally related to an increase in accounts receivable. In addition, we used $30.7 million to build inventory levels which were offset with a $31.6 million increase higher accounts payable.
Net cash used in investing activities was $19.6 million and $695.1 million for the nine months ended September 25, 2005 and September 26, 2004, respectively. Net cash used in investing activities during the nine months ended September 25, 2005 includes $21.8 million for capital expenditures less $1.6 million received from the settlement of the working capital adjustment from the Pinnacle Merger as well as $0.6 million related to the sale of idle equipment from our Omaha facility. Net cash used in investing activities during the nine months ended September 26, 2004 includes activities related to the Aurora Transaction, mainly consideration paid of $663.8 million and transaction costs of $17.0 million. Additionally, during the nine months ended September 26, 2004, we paid $11.9 million for capital expenditures as well as $1.9 million to reacquire an exclusive license to distribute Duncan Hines products in Canada.
Net cash used by financing activities was $13.9 million for the nine months ended September 25, 2005. The usage was driven primarily by the prepayment of $20 million and the scheduled quarterly payments of $4.1 million related to our senior term loan credit facility. The payments against our senior term loan credit facility were offset by an increase in bank overdrafts of $9.5 million and borrowings of short term notes payable totaling $0.9 million (net). Net cash provided by financing activities was $724.6 million during the nine months ended September 26, 2004, which was primarily related to the Aurora Transaction and included $425.0 million in proceeds from the senior credit facility, $201.0 million in senior subordinated note proceeds, and $95.3 million in equity contributions. Additionally, we borrowed $16.0 million (net) under our revolving credit facility. The proceeds were offset by $16.9 million in debt acquisition costs.
The net of all activities resulted in a decrease in cash of $1.6 million and $5.0 million during the nine months ended September 25, 2005 and September 26, 2004, respectively.
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Debt
In November 2003, we entered into a $675.0 million credit agreement with JPMorgan Chase Bank (a related party of JPMP) and other financial institutions as lenders, which provides for a $545.0 million seven-year term loan B facility, of which $120.0 million was made available on November 25, 2003 and $425.0 million was made available as a delayed draw term loan on the closing date of the Aurora Transaction. The term loan matures November 25, 2010. The senior secured credit facility also provides for a six-year $130.0 million revolving credit facility, of which up to $65.0 million was made available on November 25, 2003, and the remaining $65.0 million was made available on the closing date of the Aurora Transaction. The revolving credit facility expires November 25, 2009. There were no borrowings outstanding under the revolver as of September 25, 2005 and December 26, 2004.
There was no related party debt outstanding as of September 25, 2005 and December 26, 2004.
Subject to the Senior Credit Agreement Amendment, which is discussed below, our borrowings under the senior secured credit facilities bear interest at a floating rate and are maintained as base rate loans or as Eurodollar loans. Base rate loans bear interest at the base rate plus the applicable base rate margin, as defined in the senior secured credit facilities. Base rate is defined as the higher of (i) the prime rate and (ii) the Federal Reserve reported overnight funds rate plus 1/2 of 1%. Eurodollar loans bear interest at the adjusted Eurodollar rate, as described in the senior secured credit facilities, plus the applicable Eurodollar rate margin.
The applicable margins with respect to our term loan facility and our revolving credit facility will vary from time to time in accordance with the terms thereof and agreed upon pricing grids based on our leverage ratio as defined in our senior secured credit facilities. The initial applicable margin with respect to the term loan facility and the revolving credit facility is:
• | In the case of base rate loans: 1.75% for the term loan and 1.75% for the revolving credit facility. | ||
• | In the case of Eurodollar loans: 2.75% for the term loan and 2.75% for the revolving credit facility. |
The range of margins for the revolving credit facility is:
• | In the case of base rate loans: 1.25% to 1.75%. | ||
• | In the case of Eurodollar loans: 2.25% to 2.75%. |
A commitment fee of 0.50% per annum applies to the unused portion of the revolving loan facility and 1.25% per annum applied to the delayed-draw term loan until it became available for the Aurora Transaction. For the three and nine months ended September 25, 2005, the weighted average interest rate on the term loan was 6.7394% and 6.2603%, respectively. For the nine months ended September 25, 2005, the weighted average interest rate on the revolving credit facility was 6.2530%. There were no borrowings under the revolving credit facility during the three months ended September 25, 2005. As of September 25, 2005, the Eurodollar interest rate on the term loan facility was 6.7521% and the commitment fee on the undrawn revolving credit facility was 0.50%. For the three and nine months ended September 26, 2004, the weighted average interest rate on the term loan was 4.2593% and 4.1767%, respectively. For the three and nine months ended September 26, 2004, the weighted average interest rate on the revolving credit facility was 4.6822% and 4.2974%, respectively. As of September 26, 2004, the Eurodollar interest rate on the term loan facility was 4.2594% and the commitment fee on the undrawn revolving credit facility was 0.50%.
In September 2005, we prepaid $20 million of the term loan facility. Due to the prepayment, the next scheduled installment payable will be in March 2009. The revolving credit facility terminates on November 25, 2009. The aggregate maturities of the term loan outstanding as of September 25, 2005 are $3.2 million in 2009 and $515.0 million thereafter.
The obligations under the senior secured credit facilities are unconditionally and irrevocably guaranteed by each of our direct or indirect domestic subsidiaries (collectively, the “Guarantors”). In addition, the senior secured credit facilities are collateralized by first priority or equivalent security interests in (i) all the capital stock of, or other equity interests in, each of our direct or indirect domestic subsidiaries and 65% of the capital stock of, or other equity interests in, each of our direct foreign subsidiaries, or any of our domestic subsidiaries and (ii) certain tangible and intangible assets of the Company and the Guarantors (subject to certain exceptions and qualifications).
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We pay a commission on the face amount of all outstanding letters of credit drawn under the senior secured credit facilities at a per annum rate equal to the Applicable Margin then in effect with respect to Eurodollar loans under the revolving credit loan facility minus the fronting fee (as defined). A fronting fee equal to 1/4% per annum on the face amount of each letter of credit is payable quarterly in arrears to the issuing lender for its own account. We also pay a per annum fee equal to 1/2% on the undrawn portion of the commitments in respect of the revolving credit facility. Total letters of credit issuable under the facilities cannot exceed $40.0 million. As of September 25, 2005 and December 26, 2004, there were no outstanding borrowings under the revolving credit facility and we had utilized $12.7 million and $15.7 million, respectively, for letters of credit. Of the $130.0 million revolving credit facility available, as of September 25, 2005 and December 26, 2004, we had an unused balance of $117.3 million and $114.3 million, respectively, available for future borrowings and letters of credit, of which a maximum of $27.3 million and $24.3 million, respectively, may be used for letters of credit.
In November 2003, the Successor issued $200.0 million 81/4% senior subordinated notes. On February 20, 2004, the Successor issued an additional $194.0 million of 81/4% senior subordinated notes, which resulted in gross proceeds of $201.0 million, including premium. The terms of the February 2004 notes are the same as the November 2003 notes and are issued under the same indenture. The Notes are general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company, and guaranteed on a full, unconditional, joint and several basis by the Company’s wholly-owned domestic subsidiaries. See Note 16 for Guarantor and Nonguarantor Financial Statements.
We may redeem all or a portion of the notes prior to December 1, 2008, at a price equal to 100% of the principal amount of the notes plus a “make-whole” premium (the greater of: (1) 1% of the then outstanding principal amount of the note; and (2) the excess of: (a) the present value at such redemption date of (i) the redemption price of the note at December 1, 2008 plus (ii) plus all required interest payments due on the note through December 1, 2008, computed using a discount rate equal to the Treasury Rate as of such redemption date plus 50 basis points; over (b) the then outstanding principal amount of the note, if greater). On or after December 1, 2008, we may redeem some or all of the notes at the redemption prices listed below, if redeemed during the twelve-month period beginning on December 1 of the years indicated below:
Year | Percentage | |||
2008 | 104.125 | % | ||
2009 | 102.750 | % | ||
2010 | 101.375 | % | ||
2011 and thereafter | 100.000 | % |
At any time prior to December 1, 2006, we may redeem up to 35% of the original aggregate principal amount of the notes with the net cash proceeds of certain equity offerings at a redemption price equal to 108.250% of the principal amount thereof, plus accrued and unpaid interest, so long as (a) at least 65% of the original aggregate amount of the notes remains outstanding after each such redemption and (b) any such redemption by us is made within 90 days of such equity offering.
If a change of control occurs (as defined in the indenture pursuant to which the notes were issued), and unless we have exercised our right to redeem all of the notes as described above, the note holders will have the right to require the Successor to repurchase all or a portion of the notes at a purchase price in cash equal to 101% of the principal amount thereof, plus accrued and unpaid interest to the date of repurchase.
The notes include a provision that the Company would file with the SEC on or prior to August 21, 2004 a registration statement relating to an offer to exchange the notes for an issue of SEC-registered notes with terms identical to the notes and use its reasonable best effort to cause such registration statement to become effective on or prior to October 20, 2004 and the exchange offer to be completed by November 19, 2004. Since the exchange offer was not completed before November 19, 2004, the annual interest rate borne by the notes increased by 1.0% per annum until the exchange offer was completed, which occurred on February 2, 2005. As of this date, the Company was no longer paying the additional interest.
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Our senior secured credit facilities and the notes contain a number of covenants that, among other things, limit, subject to certain exceptions, our ability to incur additional liens and indebtedness, make capital expenditures, engage in certain transactions with affiliates, repay other indebtedness (including the notes), make certain distributions, make acquisitions and investments, loans or advances, engage in mergers or consolidations, liquidations and dissolutions and joint ventures, sell assets, make dividends, amend certain material agreements governing our indebtedness, enter into guarantees and other contingent obligations and other matters customarily restricted in similar agreements. In addition to scheduled periodic repayments, we are also required to make mandatory repayments of the loans under the senior secured credit facilities with a portion of excess cash flow, as defined. In addition, our senior secured credit facilities contain, among others, the following financial covenants: a maximum total leverage ratio, a minimum interest coverage ratio and a maximum capital expenditure limitation. See the discussion below regarding the amendment to the senior credit agreement where these covenants have been adjusted.
Senior Credit Agreement Amendment
On September 14, 2004, the Company was first in default under its senior secured credit facilities. On November 4, 2004 the Company received required lender approval to temporarily waive defaults under the Company’s senior secured credit facility arising due to (i) failure to furnish on a timely basis the Company’s audited financial statements for the fiscal year ended July 31, 2004, the Company’s annual budget for fiscal year 2005 and other related deliverables and (ii) failure to comply with the maximum total leverage ratio for the period ended October 31, 2004. Conditions of the waiver limited the Company’s access to the revolving credit facility through the addition of an anti-cash hoarding provision which required that at the time of a borrowing request, cash, as defined, could not exceed $10 million and limited total outstanding borrowings under the facility to $65 million. The amendment and waiver expired November 24, 2004.
On November 19, 2004 the Company received required lender approval to permanently waive the defaults mentioned above and amend the financial covenants for future reporting periods. The terms of the permanent amendment and waiver include:
• | delivery of July 31, 2004 fiscal year end financial statements on or prior to the effective date of the amendment; | ||
• | a 50 basis point increase to the applicable rate, as defined, with respect to borrowings under the credit agreement; | ||
• | a change in the definition of consolidated cash interest expense to exclude non-cash gains or losses arising from marking interest rate swap agreements to market; | ||
• | the addition of a senior covenant leverage ratio, as defined, which ranges from a ratio of 3.75 to 1.00 to a ratio of 5.75 to 1.00 through December 2005; | ||
• | amendment of the interest expense coverage ratio (ranging from a ratio of 1.50 to 1.00 to a ratio of 2.10 to 1.00 through December 2005) and suspends the maximum total leverage ratio until March 2006; | ||
• | elimination of limitation on revolving credit exposures; | ||
• | and the following limitations, restrictions and additional reporting requirements during the amendment period which ends on the second business day following the date on which the Company delivers to the Administrative Agent financial statements for the fiscal quarter ending March 2006: |
° | prohibit incremental extensions of credit, as defined; | ||
° | additional limitations on indebtedness; | ||
° | limitations on acquisitions and investments; | ||
° | additional limitations on restricted payments; | ||
° | suspension of payments for management fees; | ||
° | continuation of the anti-cash hoarding provision; | ||
° | monthly financial reporting requirements, and; | ||
° | a Company election to early terminate the amendment period. |
None of the above terms are expected to impact the Company’s ability to meet the financial targets set forth in the bank amendment.
As of September 25, 2005, the Company was in compliance with the amended and added covenants as listed above.
Based on current estimates, we believe that the Company will meet the financial targets set forth in the bank amendment and, as such, will maintain compliance with debt covenant requirements for at least the next 12 months.
In addition to the debt instruments discussed above, we entered into a short term notes payable agreement during the second quarter of 2005 for the financing of our annual insurance premiums. As of September 25, 2005, the balance of the notes payable totaled $0.9 million.
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Inflation
Inflation has not had a significant effect on us. We have been successful in mitigating the effects of inflation with aggressive cost reduction and productivity programs. Although we have no such expectation, severe increases in inflation, however, could affect the North American economies and could have an adverse impact on our business, financial condition and results of operations.
Recently Issued Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment (Revised 2004).” This statement addresses the accounting for share-based payment transactions in which a company receives employee services in exchange for the company’s equity instruments or liabilities that are based on the fair value of the company’s equity securities or may be settled by the issuance of these securities. SFAS 123R eliminates the ability to account for share-based compensation using APB 25 and generally requires that such transactions be accounted for using a fair value method. The provisions of this statement are effective for financial statements issued for fiscal periods beginning after December 15, 2005 and will become effective for the Company beginning in 2006. Alternative transition methods are allowed under Statement No. 123R. While the Company has not yet determined the transition method to use, adequate disclosure of all comparative periods covered by the financial statements will comply with the requirements of FASB 123R.
In November 2004, the FASB issued SFAS No. 151, “Inventory Costs—an Amendment of ARB No. 43, Chapter 4.” This statement clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs and spoilage, requiring these items be recognized as current-period charges. In addition, this statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The provisions of this statement are effective for inventory costs incurred during fiscal years beginning after June 15, 2005 and will become effective for the Company beginning in 2006. The Company is assessing what impact, if any, adoption of this statement would have on its financial statements.
In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets—an amendment to APB Opinion No. 29.” This statement amends APB 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The provisions of this statement are effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The Company has completed its evaluation of the impact of adopting this statement and it did not have any effect on its financial statements.
In March 2005, the FASB issued FIN 47 “Accounting for Conditional Asset Retirement Obligations, an Interpretation of FASB Statement No. 143.” This Interpretation clarifies that a conditional retirement obligation refers to a legal obligation to perform an asset retirement activity in which the timing and (or) method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even though uncertainty exists about the timing and (or) method of settlement. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. The liability should be recognized when incurred, generally upon acquisition, construction or development of the asset. FIN 47 is effective no later than the end of the fiscal years ending after December 15, 2005. The company is in the process of evaluating the impact of FIN 47.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Financial Instruments
We may utilize derivative financial instruments to enhance our ability to manage risks, including, but not limited to, interest rate and foreign currency, which exist as part of ongoing business operations. We do not enter into contracts for speculative purposes, nor are we a party to any leveraged derivative instrument. We monitor the use of derivative financial instruments through regular communication with senior management and the utilization of written guidelines.
We rely primarily on bank borrowings to meet our funding requirements. We utilize interest rate swap agreements or other derivative instruments to reduce the potential exposure to interest rate movements and to achieve a desired proportion of variable versus fixed rate debt. We recognize the amounts that we pay or receive on hedges related to debt as an adjustment to interest expense.
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As the start of the current year, we are party to four interest rate swap agreements with counterparties, including JP Morgan Chase Bank (a related party) that effectively changes the floating rate payments on our Senior Secured Credit Facility into fixed rate payments. The first swap agreement became effective April 26, 2004, terminated December 31, 2004 and had a notional amount of $545.0 million; the second swap agreement commenced January 4, 2005, terminates on January 3, 2006 and has a notional amount of $450.0 million; the third swap agreement commences January 3, 2006, terminates on January 2, 2007 and has a notional amount of $100.0 million, and the fourth swap agreement commences on January 3, 2006, terminates on January 2, 2007 and has a notional amount of $250.0 million. Interest payments determined under each swap agreement are based on these notional amounts, which match or were expected to match the Company’s outstanding borrowings under the Senior Secured Credit Facility during the periods that each interest rate swap is outstanding. Floating interest rate payments to be received under each swap are based on U.S. Dollar LIBOR, which is the same basis for determining the floating rate payments on the Senior Secured Credit Facility. The fixed interest rate payments that the Company will pay under the swap agreements are determined using the following approximate fixed interest rates: 1.39% for the swap terminated on December 31, 2004; 2.25% for the swap terminating January 1, 2006; and 3.75% for two swaps terminating January 2, 2007.
These swaps were not designated as hedges pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” As of September 25, 2005 and December 26, 2004, the fair value of the interest rate swaps was a gain of $5.5 million and $3.8 million, respectively. At September 25, 2005, $3.5 million was recorded in Other current assets and $2.0 million was recorded in Other assets, net in the Consolidated Balance Sheet. Of the amount at December 26, 2004, $0.2 million is recorded in Other current assets, while $3.6 million was recorded in Other assets, net in the Consolidated Balance Sheet. During the three and nine months ended September 25, 2005, we realized in cash a gain on the interest rate swaps of $0.9 million and $1.5 million, respectively, which is recorded as a decrease to interest expense. Additionally, we recognized a non-cash gain during the three and nine months ended September 25, 2005 totaling $0.9 million and $1.8 million. The non cash gains and losses are recognized as an adjustment to interest expense in the Consolidated Statement of Operations.
In August and September 2004, we entered into natural gas swap transactions with JP Morgan Chase Bank (a related party) to lower our exposure to the price of natural gas. The agreements became effective beginning on August 1, 2004, terminate between February 2005 and December 2005, and have various notional quantities of MMBTU’s per month. We will pay a fixed price per MMBTU, which range from $5.93 to $6.99 per MMBTU, depending on the month, with settlements monthly. This swap was not designed as a hedge pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.”
As of September 25, 2005 and December 26, 2004, the fair value of the remaining natural gas swap transactions was a gain of $0.6 million and $0.1 million, respectively, which is recorded in Other current assets. During the three and nine months ended September 25, 2005, we realized in cash a gain of $0.3 million and $0.3 million, respectively, on the natural gas swaps, which is recorded as an increase to cost of products sold. Additionally, we recognized non-cash gains during the three and nine months ended September 25, 2005 totaling $0.3 million and $0.5 million, respectively. The non-cash gains and losses are recognized as an adjustment to cost of products sold in the Consolidated Statement of Operations.
On March 10, 2005, we entered into foreign currency exchange transactions with JP Morgan Chase Bank (a related party) to lower our exposure to the exchange rates between the U.S. and Canadian dollar. Each agreement is based upon a notional amount in Canadian dollars, which is expected to approximate the amount of our Canadian subsidiary’s U.S. denominated purchases for the month, and the agreements run through December 2005. We will pay a fixed exchange rate of 1.2062 Canadian dollars per U.S. dollar, with settlements monthly. This swap was not designed as a hedge pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.”
As of September 25, 2005, the fair value of the remaining foreign exchange swaps was a loss of $0.2 million, which is recorded in Accrued liabilities in the Consolidated Balance Sheet. For the three and nine months ended September 25, 2005, we realized in cash a loss of less than $0.1 million and a gain of $0.1 million, respectively, on the foreign exchange swaps, which is recorded as a reduction to cost of products sold. Additionally, we recognized non-cash losses during the three and nine months ended September 25, 2005 totaling $0.4 million and $0.2 million, respectively. The non-cash gains and losses are recognized as an adjustment to cost of products sold in the Consolidated Statement of Operations.
We utilize irrevocable standby letters of credit with one-year renewable terms to satisfy workers’ compensation self-insurance security deposit requirements. The contract value of the outstanding standby letter of credit as of September 25, 2005 was $9.6 million, which approximates fair value. As of September 25, 2005, we also utilized letters of credit in connection with the purchase of raw materials in the amount of $3.1 million, which approximates fair value.
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We are exposed to credit loss in the event of non-performance by the other parties to derivative financial instruments. All counterparties are at least “A” rated by Moody’s and Standard & Poor’s. Accordingly, we do not anticipate non-performance by the counterparties.
The carrying values of cash and cash equivalents, accounts receivable and accounts payable approximate fair value. The estimated fair value of the Senior Secured Credit Facilities bank debt that is classified as long term debt on the Consolidated Balance Sheet at September 25, 2005, was approximately its carrying value.
Raw materials, ingredients, packaging and production costs
We purchase agricultural products, meat, poultry, other raw materials and packaging supplies from growers, commodity processors, other food companies and packaging manufacturers using a combination of purchase orders and various short- and long-term supply arrangements.
In August and September 2004, we entered into natural gas swap transactions with JP Morgan Chase Bank (a related party) to lower our exposure to the price of natural gas. The agreements became effective beginning on August 1, 2004, terminate between February 2005 and December 2005, and have various notional quantities of MMBTU’s per month. We will pay a fixed price per MMBTU, which range from $5.93 to $6.99 per MMBTU, depending on the month, with settlements monthly. This swap was not designed as a hedge pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.”
As of September 25, 2005 and December 26, 2004, the fair value of the remaining natural gas swap transactions was a gain of $0.6 million and $0.1 million, respectively, which is recorded in Other current assets. During the three and nine months ended September 25, 2005, we realized in cash a gain of $0.3 million and $0.3 million, respectively, on the natural gas swaps, which is recorded as an increase to cost of products sold. Additionally, we recognized non-cash gains during the three and nine months ended September 25, 2005 totaling $0.3 million and $0.5 million, respectively. The non-cash gains and losses are recognized as an adjustment to cost of products sold in the Consolidated Statement of Operations.
While all of our materials are available from numerous independent suppliers, raw materials are subject to fluctuations in price attributable to a number of factors, including changes in crop size, federal and state agricultural programs, export demand, weather conditions during the growing and harvesting seasons, insects, plant diseases and fungi. Although we enter into advance commodities purchase agreements from time to time, increases in raw material costs could have a material adverse effect on our business, financial condition or results of operations. We do not engage in speculative transactions nor hold or issue financial instruments for trading purposes.
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ITEM 4: CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. Any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Our management, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 15d-14 of the Securities Exchange Act of 1934 as of September 25, 2005. Based upon our evaluation, our Chief Executive Officer and Chief Financial Officer concluded that the design and operation of our disclosure controls and procedures are effective to accomplish their objectives.
In addition, there was no change in our internal control over financial reporting or in other factors that occurred during the quarter ended September 25, 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II – OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
PFGI’s Fleming bankruptcy claim
PFGI, on or about April 1, 2003, filed a reclamation claim against Fleming, a customer, in Flemings’ bankruptcy proceeding pending in the United States Bankruptcy Court for the District of Delaware in the amount of $964,000. Fleming has claimed that the products in controversy had been commingled with other products and that the value of PFGI’s claim is $0. Additionally, on or about January 31, 2004, Fleming identified alleged preferential transfers to PFGI of up to $6,493,000, of which Fleming has alleged $5,014,000 are, or may be, eligible for protection as “new value.” Fleming additionally alleged that some, if not all, of the alleged PFGI preferential transfers may qualify as “ordinary course of business” transactions. Fleming has also made claims regarding payments it describes as overpayment, unjust enrichment due to allegedly excess wire transfers and payments and debts arising out of military sales. We have been advised that similar allegations have been made by Fleming in many, if not all, of the other pending reclamation claims filed against Fleming. We are currently in the process of analyzing the claims. Our attorneys have been in contact with counsel for Aurora and counsel for Fleming and all parties have expressed agreement that the most expedient manner to resolve the Aurora and Fleming claims would be to do so in the Fleming bankruptcy case under the terms of Fleming’s plan, once confirmed. Stipulations to this effect have been signed by all parties. We believe that resolution of such matters will not result in a material impact on our financial condition, results of operations or cash flows.
Aurora’s Fleming bankruptcy claim
Aurora, on or about March 31, 2003, filed a reclamation claim against Fleming, a customer, in Fleming’s bankruptcy proceeding pending in the United States Bankruptcy Court for the District of Delaware in the amount of $595,000. Fleming has claimed that the products in controversy had been commingled with other products and that the value of Aurora’s claim is $299,000. Additionally, on or about February 2, 2004, Fleming identified alleged preferential transfers to Aurora of up to $5,942,000, of which Fleming has alleged $3,293,000 are, or may be, eligible for protection as “new value.” Fleming additionally alleged that some, if not all, of the alleged Aurora preferential transfers may qualify as “ordinary course of business” transactions. Fleming has also made claims regarding payments it describes as overpayment, unjust enrichment due to allegedly excess wire transfers and payments and debts arising out of military sales. We have been advised that similar allegations have been made by Fleming in many, if not all, of the other pending reclamation claims filed against Fleming. We are currently in the process of analyzing the claims. Our attorneys have been in contact with counsel for Aurora and counsel for Fleming and all parties have expressed agreement that the most expedient manner to resolve the Aurora and Fleming claims would be to do so in the Fleming bankruptcy case under the terms of Fleming’s plan, once confirmed. Stipulations to this effect have been signed by all parties. We believe that resolution of such matters will not result in a material impact on our financial condition, results of operations or cash flows.
Employee litigation—indemnification of US Cold Storage
On March 21, 2002, an employee at the Omaha, Nebraska facility died as the result of an accident while operating a forklift at a warehouse facility that we leased. OSHA conducted a full investigation and determined that the death was the result of an accident and found no violations against us. On March 18, 2004, the estate of the deceased filed suit in District Court of Sarpy County, Nebraska, Case No: CI 04-391, against us, the owner of the forklift and the leased warehouse, the manufacturer of the forklift and the distributor of the forklift. We, having been the deceased’s employer, were named as a defendant for worker’s compensation subrogation purposes only.
On May 18, 2004, we received notice from defendant, US Cold Storage, requesting that we accept the tender of defense for US Cold Storage in this case in accordance with the indemnification provision of the warehouse lease. The request has been submitted to our insurance carrier for evaluation and we have been advised that the indemnification provision is not applicable in this matter and that we should have no liability under that provision. Therefore, we believe that resolution of such matters will not result in a material impact on our financial condition, results of operations or cash flows.
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R2 appeal in Aurora bankruptcy
Prior to its bankruptcy filing, Aurora entered into an agreement with its prepetition lending group compromising the amount of certain fees due under its senior bank facilities (the “October Amendment”). One of the members of the bank group (“R2 Top Hat, Ltd.”) challenged the enforceability of the October Amendment during Aurora’s bankruptcy by filing an adversary proceeding and by objecting to confirmation. The bankruptcy court rejected the lender’s argument and confirmed Aurora’s plan of reorganization. The lender then appealed from those orders of the bankruptcy court. It is too early to predict the outcome of the appeals. Included in our recorded accrued liabilities is $20 million, which was assumed in the Aurora Transaction.
State of Illinois v. City of St. Elmo and Aurora Foods Inc.
The Company is a defendant in an action filed by the State of Illinois regarding the Company’s St. Elmo facility. The Illinois Attorney General filed a complaint seeking a restraining order prohibiting further discharges by the City of St. Elmo from its publicly owned wastewater treatment facility in violation of Illinois law and enjoining the Company from discharging its industrial waste into the City’s treatment facility. The complaint also asked for fines and penalties associated with the City’s discharge from its treatment facility and the Company’s alleged operation of its production facility without obtaining a state environmental operating permit.
On August 30, 2004, an Interim Consent Order signed by all parties was signed and entered by the Judge in the case whereby, in addition to a number of actions required of the City, the Company agreed to provide monthly discharge monitoring reports to the Illinois Environmental Protection Agency for six (6) months and was allowed to continue discharging effluent to the City of St. Elmo. In September 2004, the Company met with representatives from the State of Illinois Environmental Protection Agency and the State Attorney General’s Office and separately with the City of St. Elmo to inform them that the Company intended to install a pre-treatment system at its St. Elmo facility during the fourth quarter of 2004 and first quarter of 2005. The State issued the construction and operating permits to the Company and construction of the pre-treatment system has been completed. Testing has been completed and the system is fully operational.
We continue to discharge our effluent to the City. We would vigorously defend any future effort to prevent us from discharging our industrial wastewater to the City. Although we believe we will be able to resolve this matter favorably, an adverse resolution may have a material impact on our financial position, results of operation, or cash flows.
Underweight Products
In July 2004, it came to our attention that certain products produced in one of the former Aurora plants have not met some state weight requirements. While we are in the process of investigating the scope of this issue, we have revised the operating procedures of the plant such that products produced there will comply with state product weight requirements. As a result of these weight issues, we voluntarily initiated return procedures for the product in the locations involved and also disposed of certain inventory held by us. We have recorded a charge related to the returns and inventory of $3.4 million and $1.2 million in the fiscal year ended July 31, 2004 and the transition year ended December 26, 2004, respectively. As a result of these underweight products, we received a letter from the State of California, County of Santa Barbara, requesting that we meet with it to discuss this issue and the remedial actions taken by us. A meeting was held with the involved California officials on December 8, 2004 at which time the issues and corrective steps taken by us were presented and discussed. While we believe we have taken appropriate remedial steps, it is probable that fines and penalties will be imposed. The State of California has recently responded with its acknowledgment of our cooperation with the investigation and prompt reaction to and correction of the issue, and proposed a settlement amount which we are negotiating with the State of California. In March 2005, we reserved $695,000 based upon the State of California’s settlement proposal. In a September 2005 meeting with State representatives, we negotiated the amount of the penalty and costs down to $509,000 and subsequently adjusted the accrued liability. We continue to negotiate the terms of payment and the final settlement language. We will continue to vigorously defend our actions to date since taking control of the Aurora. We believe that resolution of such matters will not result in a material impact on our financial condition, results of operations or cash flows.
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American Cold Storage – North America, L.P. v. P.F. Distribution, LLC and Pinnacle Foods Group Inc.
On June 26, 2005 the Company was served with the Summons and Complaint in the above matter. American Cold Storage (“ACS”) operates a frozen storage warehouse and distribution facility (the “Facility”) located in Madison County, Tennessee, near the Company’s Jackson, Tennessee plant. In approximately April 2004, the Company entered into discussions with ACS to utilize the Facility. Terms were discussed, but no contract was ever signed. Shortly after shipping product to the Facility, the Company realized that the Facility was incapable of properly handling the discussed volume of product and began reducing its shipments to the Facility. The complaint seeks damages not to exceed $1.5 million, together with associated costs. It is too early to determine the likely outcome of this litigation. The Company is investigating and intends to vigorously defend against this claim.
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ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5: OTHER INFORMATION
None
ITEM 6: EXHIBITS
a) Exhibits
Exhibit | ||
Number | Description of exhibit | |
31.1 | Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer | |
31.2 | Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer | |
32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(A) | |
32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(A) |
(A) | Pursuant to Commission Release No. 33-8212, this certification will be treated as “accompanying” this Form 10-Q and not “filed” as part of such report for purposes of Section 18 of Exchange Act, or otherwise subject to the liability of Section 18 of the Exchange Act and this certification will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933, as amended, or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference. |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pinnacle Foods Group Inc.
By: | /s/ N. MICHAEL DION | |||||
Name: | N. Michael Dion | |||||
Title: | Executive Vice President and Chief Financial Officer, | |||||
(acting in both his capacity as authorized signatory on behalf of the registrant and as principal financial officer) | ||||||
Date: | November 8, 2005 |
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