MWI Veterinary Supply (MWIV) 10-Q 2006 Q1 Quarterly report

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
For the Quarter Ended: December 31, 2005		Commission File Number: 000-51468
MWI VETERINARY SUPPLY, INC.
(Exact name of Registrant as specified in its Charter)
	Delaware		02-0620757
	(State or other jurisdiction)		(I.R.S. Employer Identification Number)
	651 S. Stratford Drive, Suite 100 Meridian, ID		83642
	(Address of principal executive offices)		(Zip Code)
(800) 824-3703
(Registrant’s telephone number, including area code)

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  o    No  ý

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  ý    No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. Large accelerated filer  o     Accelerated filer  o    Non-accelerated filer  ý

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes  o    No  ý

The number of shares of the registrant’s common stock, $0.01 par value, outstanding at January 31, 2006 was 10,583,303.

MWI VETERINARY SUPPLY, INC.

INDEX

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
			Condensed Consolidated Statements of Income for the three-months ended December 31, 2005 and 2004
			Condensed Consolidated Statements of Comprehensive Income for the three-months ended December 31, 2005 and 2004
			Condensed Consolidated Balance Sheets as of December 31, 2005 and September 30, 2005
			Condensed Consolidated Statements of Cash Flows for the three-months ended December 31, 2005 and 2004
			Notes to Condensed Consolidated Financial Statements
			Report of Independent Registered Public Accounting Firm
Item 1A.		Risk Factors
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.		Quantitative and Qualitative Disclosures About Market Risk
Item 4.		Controls and Procedures
PART II		OTHER INFORMATION
		Cautionary Statement
Item 1.		Legal Proceedings
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.		Defaults Upon Senior Securities
Item 4.		Submission of Matters to a Vote of Security Holders
Item 5.		Other Information
Item 6.		Exhibits

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PART I.  FINANCIAL INFORMATION

Item 1.    Financial Statements

MWI VETERINARY SUPPLY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(in thousands, except per share data)
 (unaudited)

	Three-months ended December 31,
	2005			2004
Revenues:
Product sales	$	127,048		$	101,260
Product sales to related party	9,355			6,805
Commissions	1,413			929
Total revenues	137,816			108,994
Cost of product sales	115,064			92,370
Gross profit	22,752			16,624
Selling, general and administrative expenses	14,553			11,016
Depreciation and amortization	442			340
Operating income	7,757			5,268
Other income (expense):
Interest expense	(555		)	(1,769		)
Earnings of equity method investees	45			32
Other	90			67
Total other expense	(420		)	(1,670		)
Income before taxes	7,337			3,598
Income tax expense	(2,898		)	(1,942		)
Net income	$	4,439		$	1,656
Earnings per share:
Basic	$	0.42		$	0.33
Diluted	$	0.41		$	0.28
Weighted average common shares outstanding:
Basic	10,578			5,062
Diluted	10,864			5,882

See Notes to Condensed Consolidated Financial Statements

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MWI VETERINARY SUPPLY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(in thousands)
(unaudited)

	Three-months ended December 31,
	2005		2004
Net income	$	4,439	$	1,656
Other comprehensive income:
Interest rate swap: Change in fair value, net of tax of $15	—		23
Total comprehensive income	$	4,439	$	1,679

See Notes to Condensed Consolidated Financial Statements

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MWI VETERINARY SUPPLY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(dollars and shares in thousands, except per share data)
 (unaudited)

	December 31, 2005		September 30, 2005
Assets
Current Assets:
Cash	$	30	$	31
Receivables, net	76,820		77,099
Inventories	71,957		68,786
Prepaid expenses and other current assets	1,918		2,011
Assets held for sale	1,422		—
Deferred income taxes	549		482
Total current assets	152,696		148,409
Property and equipment, net	5,899		6,919
Goodwill	29,739		29,739
Intangibles, net	1,597		1,644
Other assets, net	1,547		1,533
Total assets	$	191,478	$	188,244
Liabilities And Stockholders’ Equity
Current Liabilities:
Line-of-credit	$	27,283	$	24,690
Accounts payable	63,922		69,382
Accrued expenses	7,959		6,341
Current maturities of long-term debt	97		97
Total current liabilities	99,261		100,510
Deferred income taxes	641		650
Long-term debt	292		390
Commitments and contingencies
Stockholders’ Equity
Common stock $0.01 par value, 20,000 authorized; 10,583 and 10,576 shares issued and outstanding, respectively	106		106
Additional paid in capital	78,547		78,396
Retained earnings	12,631		8,192
Total stockholders’ equity	91,284		86,694
Total liabilities and stockholders’ equity	$	191,478	$	188,244

See Notes to Condensed Consolidated Financial Statements

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MWI VETERINARY SUPPLY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands, except per share data)
 (unaudited)

	Three-months ended December 31,
	2005			2004
Cash Flows From Operating Activities:
Net income	$	4,439		$	1,656
Adjustments to reconcile net income to net cash (used in)/provided by operating activities:
Depreciation and amortization	445			340
Amortization of debt issuance costs	35			35
Deferred income taxes	(76		)	40
Earnings of equity method investees	(45		)	(32		)
Distribution from equity method investees	—			—
Gain on disposal of property and equipment	—			(2		)
Accretion of redeemable preferred stock	—			1,134
Other	(10		)	—
Changes in operating assets and liabilities (net of
effects of acquisitions):
Receivables	279			2,463
Inventories	(3,171		)	(1,477		)
Prepaid expenses and other current assets	93			119
Accounts payable	(5,078		)	1,954
Accrued expenses	1,618			494
Net cash (used in)/provided by operating activities	(1,471		)	6,724
Cash Flows From Investing Activities:
Purchases of property and equipment	(1,182		)	(756		)
Business acquisitions	—			(412		)
Sale of property and equipment	—			2
Other	5			—
Net cash used in investing activities	(1,177		)	(1,166		)
Cash Flows From Financing Activities:
Net borrowings (payments) on line-of-credit	2,593			(5,971		)
Proceeds from stock options	137			—
Tax benefit of common stock options	14			—
Proceeds from issuance of debt	—			485
Payment on debt	(97		)	(72		)
Net cash provided by/(used in) financing activities	2,647			(5,558		)
Decrease in Cash	(1		)	—
Cash at Beginning of Period	31			28
Cash at End of Period	$	30		$	28
Supplemental Disclosures:
Cash paid for interest	$	485		$	575
Cash paid for income tax	341			44

See Notes to Condensed Consolidated Financial Statements

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MWI VETERINARY SUPPLY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(dollars and shares in thousands, except per share data)

(unaudited)

NOTE 1 – GENERAL

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the results of operations, statement of comprehensive income, financial position and cash flows of MWI Veterinary Supply, Inc., formerly named MWI Holdings, Inc., and its wholly-owned subsidiaries (“the Company”).  All material intercompany balances have been eliminated.

In the opinion of management, the accompanying unaudited condensed consolidated financial statements include all adjustments necessary to present fairly, in all material respects, the results of the Company for the periods presented. These condensed consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations.  These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in the Company’s 2005 Annual Report on Form 10-K filed with the Securities Exchange Commission on December 1, 2005.  The results of operations for the three-months ended December 31, 2005 are not necessarily indicative of results to be expected for the entire fiscal year.

The Company’s unaudited Condensed Consolidated Balance Sheet as of September 30, 2005 has been derived from the audited Consolidated Balance Sheet as of that date.

Use of Estimates

The preparation of the Company’s consolidated financial statements, in conformity with accounting principles generally accepted in the United States, requires management to make estimates and assumptions. Some of these estimates require difficult, subjective or complex judgments about matters that are inherently uncertain.  As a result, actual results could differ from these estimates.  These estimates and assumptions affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

Revenue Recognition

MWI sells products that it sources from vendors to its customers through either a “buy/sell” transaction or an agency relationship with its vendors. In a “buy/sell” transaction, MWI purchases or takes inventory of products from the vendor. When a customer places an order with MWI, the Company picks, packs, ships and invoices the customer for the order. MWI recognizes revenue from “buy/sell” transactions as product sales when the product is delivered to the customer. The Company accepts product returns from its customers. The Company estimates returns based on historical experience and recognizes these estimated returns as a reduction of product sales. Product returns have not been significant to the Company’s financial statements. In an agency relationship, MWI does not purchase and take inventory of products from its vendors. MWI receives an order from a customer, then transmits the order to the vendor, who picks, packs and ships the order to the customer. In some cases, the vendor invoices and collects payment from the customer, while in other cases MWI invoices and collects payment from the customer on behalf of the vendor. MWI receives a commission payment for soliciting the order from the customer and for providing other customer service activities. Commissions are recognized when the services upon which the commissions are based are complete. Gross billings from agency contracts were $26,869 and $18,466 for the three-months ended December 31, 2005 and 2004, respectively, and generated commission revenue of $1,413 and $929, respectively.

NOTE 2 – EFFECT OF RECENTLY ISSUED ACCOUNTING STANDARDS

In November 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 151, Inventory Costs, an Amendment of ARB No. 43, Chapter 4 (“SFAS 151”). SFAS 151 clarifies that inventory costs that are “abnormal” are required to be charged to expense as incurred as opposed to being capitalized into inventory as a product cost. SFAS 151 provides examples of “abnormal” costs that include costs of idle facilities, excess freight and handling costs, and wasted material (spoilage). SFAS 151 was effective for the Company’s fiscal year beginning October 1, 2005 and did not have a material effect on the Company’s consolidated financial statements.

In December 2004, the FASB issued SFAS No. 123 (Revised), Share-Based Payment (“SFAS 123 R”). SFAS 123 R replaces SFAS No.123, Accounting for Stock-based Compensation (“SFAS 123”), as amended by SFAS No. 148, Accounting for Stock

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Based Compensation–Transition and Disclosure and supersedes Accounting Principles Board Opinion (“APB”) No. 25, Accounting for Stock Issued to Employees. Adoption of SFAS 123 R requires the Company to record non-cash expense for the Company’s stock compensation plans using the fair value method. SFAS 123 R was effective for the Company on October 1, 2005 and the adoption of SFAS 123 R did not have a material effect on the Company’s consolidated financial statements.

In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets–An Amendment of APB Opinion No. 29 (“SFAS 153”), which eliminates 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. The Company adopted SFAS 153 as of October 1, 2005 and the adoption did not have a material effect on the Company’s consolidated financial statements.

In May 2005, the FASB issued SFAS No. 154, Accounting Changes and Error Corrections (“SFAS 154”). SFAS 154 replaces FASB Statement No. 3, Reporting Accounting Changes in Interim Financial Statements, and replaces ABP No. 20, Accounting Changes. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005 and will be effective for the Company for its fiscal year beginning October 1, 2006. The adoption of SFAS 154 is not expected to have a material effect on the Company’s consolidated financial statements.

In September 2005, the Emerging Issues Task Force issued EITF No. 04-13, Accounting for Purchases and Sales of Inventory with the Same Counterparty (“EITF 04-13”). EITF 04-13 requires that purchases and sales of inventory with the same counterparty be accounted for as a nonmonetary transaction within the scope of APB No. 29, Accounting for Nonmonetary Transactions. EITF 04-13 is effective for new arrangements entered into, or modifications or renewals of existing arrangements, beginning in the first interim or annual reporting period beginning after March 15, 2006. The adoption of EITF 04-13 is not expected to have a material effect on the Company’s consolidated financial statements.

NOTE 3 – RECEIVABLES

	December 31, 2005			September 30, 2005
Trade	$	66,719		$	69,969
Vendor rebates and programs	11,217			6,882
Related party	12			1,429
	77,948			78,280
Allowance for doubtful accounts	(1,128		)	(1,181		)
	$	76,820		$	77,099

Approximately 9% and 10% of the Company’s product sales resulted from transactions with a single customer during the three-months ended December 31, 2005 and 2004, respectively. Approximately 10% and 7% of the Company’s trade receivables resulted from transactions with this single customer as of December 31, 2005 and September 30, 2005, respectively.

Approximately 7% and 6% of the Company’s product sales resulted from transactions with Feeders’ Advantage LLC, a related party, during the three-months ended December 31, 2005 and 2004, respectively.

NOTE 4 – PROPERTY AND EQUIPMENT

	December 31, 2005			September 30, 2005
Land	$	—		$	169
Buildings and leasehold improvements	1,175			2,293
Machinery, furniture and equipment	8,814			8,140
Computer equipment	2,823			2,759
Construction in progress	93			630
	12,905			13,991
Accumulated depreciation and amortization	(7,006		)	(7,072		)
	$	5,899		$	6,919

The Company recorded depreciation expense of $398 and $340 for the three-months ended December 31, 2005 and 2004, respectively.

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During the three-months ended December 31, 2005 the Company relocated from its existing, owned distribution center to a new larger leased facility located in Denver, Colorado and entered into an agreement to sell the owned distribution center. The sale of the distribution center is expected to close during the three-months ended March 31, 2006.  The Company evaluated the assets to be sold under SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, and determined that there was no impairment at December 31, 2005. The Company has classified the $1,422 of net book value to be sold as “Assets held for sale” in its Condensed Consolidated Balance Sheet at December 31, 2005.

NOTE 5 – INTANGIBLES

	Useful Life	December 31, 2005			September 30, 2005
Amortizing:
Customer lists	10 years	$	1,589		$	1,589
Covenants not to compete	5 years	112			112
Other	5 years	36			36
		1,737			1,737
Accumulated amortization		(192		)	(145		)
		1,545			1,592
Non-Amortizing:
Trade names		52			52
		$	1,597		$	1,644

Projected amortization expense for existing intangible assets is $189 for each of the fiscal years ending 2006, 2007, 2008, and 2009 and $166 for the fiscal year ending 2010.

NOTE 6 – LINE-OF-CREDIT AND LONG-TERM DEBT

Line-of-Credit–The Company has a line-of-credit agreement with two lenders for a credit facility that allows for borrowings up to $70,000. The line-of-credit is secured by a security interest in substantially all of the Company’s assets and terminates on June 18, 2007. Interest is due monthly at the following rates: 1) LIBOR plus a margin (5.85% at December 31, 2005); or 2) the prime rate (7.25% at December 31, 2005). The lenders also receive an unused line fee and letter of credit fee equal to 0.375% of the unused amount of the revolving credit facility. The Company’s outstanding balance on this facility at December 31, 2005 was $27,283. The line-of-credit contains certain restrictive financial covenants as well as restrictions on dividend payments and future debt borrowings. The credit agreement allows the Company to issue up to $10,000 in letters of credit. The letters of credit typically act as guarantee of payment to certain third parties in accordance with specified terms and conditions. The Company had four letters of credit totaling $400 at December 31, 2005. There were no outstanding borrowings on these letters of credit at December 31, 2005.

Long-Term Debt—On January 3, 2005, the Company issued an unsecured non-negotiable promissory note in the aggregate principal amount of $487 in partial consideration for the purchase of substantially all the assets of Vetpo Distributors, Inc. The note bears interest at the prime rate (7.25% at December 31, 2005), payable quarterly. The principal of the note is payable in five equal annual installments and matures on January 1, 2010.  The balance on this promissory note was $389 at December 31, 2005.

NOTE 7 – STOCK OPTIONS

The Company has two stock-based award plans, the 2002 Stock Option Plan and the 2005 Stock-Based Award and Incentive Compensation Plan (the “2005 Plan”).  The 2005 Plan allows the Company’s Board of Directors to grant common stock options, restricted stock, deferred units and other stock-based awards to directors, executives and other key employees.  These plans have been developed to provide additional incentives by allowing equity ownership in the Company and, as a result, encouraging them to contribute to its success.  At December 31, 2005, the Company had 567,563 options to purchase common stock outstanding (374,163 vested and exercisable) with a weighted average exercise price of $4.05 and expiring through September 2015.  At December 31, 2005, the Company had 1,698,932 stock-based awards available to be issued under its stock-based award plans.

Effective October 1, 2005, the Company adopted the provisions of SFAS No. 123 R for its share-based compensation plans. The Company previously accounted for these plans under the recognition and measurement principals of APB No. 25 and

9

related interpretations and disclosure requirements established by SFAS 123, as amended by SFAS No. 148. Under APB No. 25, no compensation expense was recorded in earnings for the Company’s stock-based awards granted under the Company’s stock-based award plans. The pro forma effects on net income and earnings per share for stock-based awards were instead disclosed in a footnote to the financial statements. Under SFAS 123 R, all share-based compensation is measured at the grant date, based on the fair value of the award, and is recognized as an expense in earnings over the requisite service period.

The Company adopted SFAS 123 R using the modified prospective method. Under this transition method, compensation expense includes the expense for all share-based awards granted prior to, but not yet vested as of October 1, 2005 excluding those options initially valued using the minimum value method.  At October 1, 2005, all of the Company’s options to purchase common stock were either vested and exercisable or were initially valued using the minimum value method. Therefore, the Company recognized no compensation expense for stock-based awards in the first quarter of fiscal 2006. In the first quarter of fiscal 2005, compensation expense that would have been recorded had the Company adopted the fair value method (all of which would have been determined using the minimum value method) was not significant.

NOTE 8 – INCOME TAXES

The Company’s effective tax rate for the three-months ended December 31, 2005 and 2004 was 39.5% and 54.0%, respectively.  The decrease in the effective rate in the three-months ended December 31, 2005 as compared to the same quarter in the prior year was primarily a result of the elimination of the non-deductible accretion of dividends, recorded as interest expense, on the Series A preferred stock that was redeemed in August 2005.

NOTE 9 – COMPUTATION OF EARNINGS PER SHARE

	Three-months ended
	December 31, 2005				December 31, 2004
	Basic		Diluted		Basic		Diluted
Net income	$	4,439	$	4,439	$	1,656	$	1,656
Weighted average common shares outstanding	10,578		10,578		5,062		5,062
Effect of dilutive securities:
Stock options			286				321
Contingent stock			—				499
Weighted average shares outstanding			10,864				5,882
Earnings per share	$	0.42	$	0.41	$	0.33	$	0.28
Anti-dilutive shares excluded from calculation			10				—

NOTE 10 – RELATED PARTIES

MWI Veterinary Supply Co. (“MWI Co.”), a subsidiary of the Company, holds a 50.0% membership interest in Feeders’ Advantage, L.L.C (“Feeders’ Advantage”). MWI Co. charged Feeders’ Advantage for certain operating and administrative services of $153 and $105 for the three-months ended December 31, 2005 and 2004, respectively.  Sales of products to Feeders’ Advantage were $9,353 and $6,805 for the three-months ended December 31, 2005 and 2004, respectively

MWI Co. provides Feeders’ Advantage with a line-of-credit to finance its day-to-day operations. This line-of-credit bears interest at the prime rate. The interest due on the line-of-credit is calculated and charged to Feeders’ Advantage on the last day of each month. Conversely, to the extent MWI Co. has a payable balance due to Feeders’ Advantage, the payable balance accrues interest in favor of Feeders’ Advantage at the average federal funds rates in effect for that month.

The Company had a management and consulting services agreement with Bruckmann, Rosser, Sherrill & Co. LLC (“BRS LLC”) and Agri Beef Co., both related parties, which was terminated in August 2005. For the three-months ended December 31, 2004 the Company expensed $140 in management and other service fees under the agreement with BRS LLC and Agri Beef Co.

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NOTE 11 – CONTINGENCIES AND COMMITMENTS

From time to time, in the normal course of business, the Company may become a party to legal proceedings that may have an adverse effect on the Company’s financial position, results of operations and cash flows.  At December 31, 2005 the Company was not a party to any material pending legal proceedings and was not aware of any claims that could have a material adverse effect on the Company’s financial position, results of operations, or cash flows.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of MWI Veterinary Supply, Inc.

Meridian, Idaho

We have reviewed the accompanying condensed consolidated balance sheet of MWI Veterinary Supply, Inc. and subsidiaries (the “Company”) as of December 31, 2005 and the related condensed consolidated statements of income, comprehensive income, and cash flows for the three-month periods ended December 31, 2005 and 2004. These interim financial statements are the responsibility of the Company’s management.

We conducted our reviews in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our reviews, we are not aware of any material modifications that should be made to such condensed consolidated interim financial statements for them to be in conformity with accounting principles generally accepted in the United States of America.

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of MWI Veterinary Supply, Inc. and subsidiaries as of September 30, 2005, and the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for the year then ended (not presented herein); and in our report dated November 22, 2005, we expressed an unqualified opinion on those consolidated financial statements. In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of September 30, 2005 is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.

/s/ DELOITTE & TOUCHE LLP

Boise, Idaho

January 31, 2006

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Item 1A.  Risk Factors.

In addition to the factors discussed elsewhere in this Form 10 Q and those discussed in our Annual Report of Form 10-K, the following are important factors which could cause actual results or events to differ materially from those contained in any forward-looking statements made by or on behalf of the Company.

Our operating results may fluctuate due to factors outside of management’s control.

Our future revenues and results of operations may significantly fluctuate due to a combination of factors, many of which are outside of management’s control. The most notable of these factors include:

•vendor rebates based upon attaining certain growth goals;

•changes in the way vendors introduce products to market;

•the recall of a significant product by one of our vendors;

•extended shortage or backorder of a significant product by one of our vendors;

•seasonality;

•the impact of general economic trends on our business;

•the timing and effectiveness of marketing programs offered by our vendors;

•the timing of the introduction of new products and services by our vendors; and

•competition.

These factors could adversely impact our results of operations and financial condition. We may be unable to reduce operating expenses quickly enough to offset any unexpected shortfall in revenues or gross profit. If we have a shortfall in revenues or gross profit without a corresponding reduction to expenses, operating results may suffer. Our operating results for any particular fiscal year or quarter may not be indicative of future operating results. You should not rely on year-to-year or quarter-to-quarter comparisons of results of operations as an indication of our future performance.

An adverse change in vendor rebates could negatively affect our business.

The terms on which we purchase or sell products from many vendors of animal health products entitle us to receive a rebate based on the attainment of certain growth goals. If market conditions deteriorate, vendors may adversely change the terms of some or all of these rebate programs. Because the amount of rebates we earn is directly related to the attainment of pre-determined sales growth goals, and because the nature of the rebate programs and the amount of rebates available are determined by the vendors, there can be no assurance as to the amount of rebates that we will earn in any given year. Historically, we have been successful in achieving most rebate growth goals and have not experienced any material adverse impact on our results of operations and financial condition due to a change in a rebate program. Changes to any rebate program initiated by our vendors may have a material effect on our gross profit and our operating results in any given quarter or year. Vendors may reduce the amount of rebates offered under their programs, or increase the growth goals or other conditions we must meet to earn rebates to levels that we cannot achieve.

Additionally, factors outside of our control, such as customer preferences or vendor supply issues, can have a material impact on our ability to achieve the growth goals established by our vendors, which may reduce the amount of rebates we receive. The occurrence of any of these events could have an adverse impact on our results of operations.

Our quarterly operating results may fluctuate significantly.

Our quarterly revenues and operating results have varied significantly in the past, and may continue to do so in the future. While we accrue rebates from vendors as they are earned, our rebates have historically been highest during the quarter ended December 31, since most of our vendors’ rebate programs are designed to include targets to be achieved during the calendar year. Historically, our revenues have been seasonal, with peak sales in the spring and fall months. The seasonal nature of our business is directly tied to the buying patterns of veterinarians for production animal health products used for certain medical procedures performed on production animals during the spring and fall months. These buying patterns can also be affected by vendors’ and distributors’ marketing programs launched during the summer months, particularly in June, which can cause veterinarians to purchase production animal health products earlier than those products are used. This kind of early purchasing may reduce our sales in the months these purchases would have otherwise been made. While companion animal products tend to have a different product use cycle than production animal health products, and approximately two-thirds of our revenues have been generated from the sale of companion animal products, we cannot assure you that our revenues and operating results will not continue to fluctuate on a quarter-to-quarter basis.

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Our market is highly competitive. Failure to compete successfully could have a material adverse effect on our business, financial condition and results of operations.

The market for veterinary distribution services is highly competitive, continually evolving and subject to technological change. We compete with numerous vendors and distributors based on customer relationships, service and delivery, product selection, price and e-business capabilities. Some of our competitors may have more customers, stronger brand recognition or greater financial and other resources than we do. Most of our products are available from several sources, including other distributors and vendors, and our customers typically have relationships with several distributors and vendors. Many of our competitors have comparable product lines, technical expertise or distribution strategies that directly compete with us. Our competitors could obtain exclusive rights to distribute certain products, eliminating our ability to distribute those products. Additionally, some of our vendors may decide to compete with us directly by selling their products directly to our customers. If we do not compete successfully against these organizations, it could have a material and adverse effect on our business, financial condition and results of operations.

We have many competitors including:

•Butler Animal Health Supply;

•Lextron Animal Health, Inc.;

•Professional Veterinary Products, Ltd.;

•Vet Pharm, Inc.;

•Walco International, Inc.;

•Webster Veterinary Supply, a division of Patterson Companies, Inc.; and

•other national, regional, local and specialty distributors.

Consolidation in the veterinary distribution business could result in existing competitors increasing their market share, which could give them greater pricing power, decrease our revenues and profitability, and increase the competition for customers. Any of these developments could result in increased marketing expenses and have a material adverse effect on our business, financial condition and results of operations. The entry of new distributors in the industry could also have a material adverse effect on our ability to compete. These and other competitive factors could materially and adversely affect our business, financial condition and results of operations.

Consolidation of the many small, privately-held veterinary practices would result in an increasing number of larger veterinary practices, which could have increased purchasing leverage and the ability to negotiate lower product costs. This could reduce our operating margins and negatively impact our revenues and profitability.

Our business, financial condition and results of operations depend upon maintaining our relationships with vendors.

At December 31, 2005 we distributed more than 10,000 products sourced from more than 400 vendors to over 14,800 veterinary practices. We currently do not manufacture any of our products and are dependent on these vendors for our supply of products. Our top three vendors, Fort Dodge, Pfizer and Vedco, supplied products that accounted for approximately 48% of our revenues for our quarter ended December 31, 2005. Our ten largest vendors supplied products that accounted for approximately 74% of our revenues for our quarter ended December 31, 2005.

Our ability to sustain our gross profits has been, and will continue to be, dependent in part upon our ability to obtain favorable terms and access to new and existing products from our vendors. These terms may be subject to changes from time to time by vendors, such as changing from a “buy/sell” to an agency relationship, or from an agency to a “buy/sell” relationship. In a “buy/sell” transaction, we purchase or take inventory of products from our vendors. Under an agency relationship, when we receive orders for products from a customer, we transmit the order to the vendor who then picks, packs and ships the products. Any changes from “buy/sell” to agency or from agency to “buy/sell” could adversely affect our revenues and operating income. The loss of one or more of our large vendors, a material reduction in their supply of products to us or material changes in the terms we obtain from them could have a material adverse effect on our business, financial condition and results of operations. Some of our current and future vendors may decide to compete with us in the future by pursuing or increasing their efforts in direct marketing and sales of their products. These vendors could sell their products at lower prices and maintain a higher gross margin on their product sales than we can. In this event, veterinarians or animal owners may elect to purchase animal health products directly from these vendors. Increased competition from any vendor of animal health products could significantly reduce our market share and adversely impact our financial results.

In addition, we may not be able to establish relationships with key vendors in the animal health industry if we have established relationships with competitors of these key vendors. We have written agreements with approximately 30 of our vendors,

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including Fort Dodge and Pfizer. Some of our agreements with vendors are for one-year periods. Upon expiration, we may not be able to renew our existing agreements on favorable terms, or at all. If we lose the right to distribute products under such agreements, we may lose access to certain products and lose a competitive advantage. Potential competitors could sell products from vendors that we fail to continue with and erode our market share.

We rely substantially on third-party vendors, and the loss of products or delays in product availability from one or more third-party vendors could substantially harm our business.

We must contract for the supply of current and future products of appropriate quantity, quality and cost. These products must be available on a timely basis and be in compliance with any regulatory requirements. Failure to do so could substantially harm our business.

We often purchase products from our vendors under agreements that typically have a term of one year and can be terminated on a periodic basis. There can be no assurance, however, that our vendors will be able to meet their obligations under these agreements or that we will be able to compel them to do so. Risks of relying on vendors include:

•If an existing agreement expires or a certain product line is discontinued or recalled, then we would not be able to continue to offer our customers the same breadth of products and our sales and operating results would likely suffer unless we are able to find an alternate supply of a similar product.

•Agreements we may negotiate in the future may commit us to certain minimum purchase levels or other spending obligations. It is possible we will not be able to create the market demand to meet such obligations, which would create an increased drain on our financial resources and liquidity.

•If market demand for our products increases suddenly, our current vendors might not be able to fulfill our commercial needs, which would require us to seek new manufacturing arrangements or fund new sources of supply, and may result in substantial delays in meeting market demand. If we consistently generate more demand for a product than a given vendor is capable of handling, it could lead to large backorders and potentially lost sales to competitive products that are more readily available.

•We may not be able to control or adequately monitor the quality of products we receive from our vendors. Poor quality products could damage our reputation with our customers.

•Some of our third party vendors are subject to ongoing periodic unannounced inspection by regulatory authorities, including the Food and Drug Administration (“FDA”), the US Department of Agriculture (“USDA”), the Environmental Protection Agency (“EPA”), the Drug Enforcement Agency (“DEA”) and other federal and state agencies for compliance with strictly enforced regulations. We do not have control over our vendors’ compliance with these regulations and standards. Violations could potentially lead to interruptions in supply that could lead to lost sales to competitive products that are more readily available.

Potential problems with vendors such as those discussed above could substantially decrease sales of our products, lead to higher costs and damage our reputation with our customers.

We rely upon third parties to ship products to our customers and interruptions in their operations could harm our business, financial condition and results of operations.

We use United Parcel Service, Inc., or UPS, as our primary delivery service for our air and ground shipments of products to our customers. If there were any significant service interruptions, there can be no assurance that we could engage alternative service providers to deliver these products in either a timely or cost-efficient manner, particularly in rural areas where many of our customers are located. Any labor disputes, slowdowns, transportation disruptions or other adverse conditions in the transportation industry experienced by UPS could impair or disrupt our ability to deliver our products to our customers on a timely basis, and could have a material adverse effect upon our customer relationships, business, financial condition and results of operations. For example, during the strike by members of the International Brotherhood of Teamsters against UPS in August 1997, many of our sales representatives, some traveling hundreds of miles, were required to make deliveries to customers for which no alternative delivery service provider was available on a timely basis. In addition, rising fuel costs may result in continued increases in shipping costs charged by UPS, or other delivery service providers, and could have an adverse effect on our financial condition and results of operations.

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The loss of one or more significant customers could adversely affect our profitability.

Banfield — The Pet Hospital (“Banfield”) and Feeders’ Advantage, a related party, our two largest customers, accounted for approximately 10% and 6% of our product sales for our fiscal year ended September 30, 2005, respectively, and 9% and 7% for the three-months ended December 31, 2005, respectively. Our ten largest customers, excluding Banfield and Feeders’ Advantage, accounted for approximately 6% of our product sales for our fiscal year ended September 30, 2005 and 7% for the three-months ended December 31, 2005. Our business and results of operations could be adversely affected if the business of these customers was lost. We cannot guarantee that we will maintain or improve our relationships with these customers or that we will continue to supply these customers at current levels. Banfield, Feeders’ Advantage and other customers may seek to purchase some of the products that we currently sell directly from the vendors or from one or more of our competitors. Furthermore, our customers are not required to purchase any minimum amount of products from us. The loss of Banfield or Feeders’ Advantage or a deterioration in our relations with either of them could significantly affect our financial condition and results of operations. Additionally, a deterioration in the financial condition of one or more of our customers could have a material adverse effect on our results of operations.

Failure to effectively manage growth could impair our business.

Since fiscal 2000, we have experienced rapid growth and expansion, largely due to internal growth initiatives. Our revenues increased from $195.6 million for our fiscal year ended September 30, 2000 to $496.7 million for our fiscal year ended September 30, 2005. Our number of employees increased by approximately 300 individuals during the same period.

It may be difficult to manage such rapid growth in the future, and our future success depends on our ability to implement and/or maintain:

•sales and marketing programs;

•customer service levels;

•current and new product and service lines and vendor relationships;

•technological support which equals or exceeds our competitors;

•recruitment and training of new personnel; and

•operational and financial control systems.

Our ability to successfully offer products and services and implement our business plan in a rapidly evolving market requires an effective planning and management process. We expect that we will need to continue to improve our financial and managerial controls and reporting systems and procedures and to expand the training of our work force. While we believe our current systems have sufficient capacity to meet our projected needs, we may need to increase the capacity of our current systems to meet additional or unforeseen demands.

If we are not able to manage our rapid growth, there is a risk our customer service quality could deteriorate which may in turn lead to decreased sales or profitability. Also, the cost of our operations could increase faster than growth in our revenues, negatively impacting our profitability.

Difficulties with the integration of acquisitions may impose substantial costs and delays and cause other unanticipated problems for us.

Acquisitions involve a number of risks relating to our ability to integrate an acquired business into our existing operations. The process of integrating the operations of an acquired business, particularly its personnel, could cause interruptions to our business. Some of the risks we face include:

•the need to spend substantial operational, financial and management resources in integrating new businesses, technologies and products, and difficulties management may encounter in integrating the operations, personnel or systems of the acquired business;

•retention of key personnel, customers and vendors of the acquired business;

•the occurrence of a material adverse effect on our existing business relationships with customers or vendors, or both, resulting from future acquisitions or business combinations could lead to a termination of or otherwise affect our relationships with such customers or vendors;

•impairments of goodwill and other intangible assets; and

•contingent and latent risks associated with the past operations of, and other unanticipated costs and problems arising in, an acquired business.

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If we are unable to successfully integrate the operations of an acquired business into our operations, we could be required to undertake unanticipated changes. These changes could have a material adverse effect on our business.

Increases in over-the-counter sales of animal health products could adversely affect our business.

We rely, and will continue to rely, on animal owners who purchase their animal health products directly from veterinarians, which we refer to as the ethical channel. There can be no assurance that animal owners will continue to use the ethical channel with the same frequency as they have in the past, and will not increasingly purchase animal health products from sources other than veterinarians, such as the Internet and other over-the-counter channels. Increased competition from any distributor of animal health products making use of an over-the-counter channel could significantly reduce our market share and adversely impact our financial results.

If we fail to comply with or become subject to more onerous government regulations, our business could be adversely affected.

The veterinary distribution industry is subject to changing political and regulatory influences. Both state and federal government agencies regulate the distribution of certain animal health products and we are subject to regulation, either directly or indirectly, by the FDA, the USDA, the EPA, the DEA and state boards of pharmacy as well as comparable state agencies. The regulatory stance these agencies take could change. Our vendors are subject to regulation by the FDA, the USDA, the EPA and the DEA, as well as other federal and state agencies, and material changes to the applicable regulations could affect our vendors’ ability to manufacture certain products, which could adversely impact our product supply. In addition, some of our customers may rely, in part, on farm and agricultural subsidy programs. Changes in the regulatory positions that impact the availability of funding for such programs could have an adverse impact on our customers’ financial positions, which could lead to decreased sales.

We strive to maintain compliance with these laws and regulations. For example, we have hired a Manager of Regulatory Compliance and we have engaged an outside consultant to assist us in meeting and complying with the various state licensure requirements to which we are subject. If we are unable to maintain or achieve compliance with these laws and regulations, we could be subject to substantial fines or other restrictions on our ability to provide competitive distribution services, which could have an adverse impact on our financial condition.

We cannot assure you that existing laws and regulations will not be revised or that new, more restrictive laws will not be adopted or become applicable to us or the products that we distribute or dispense. We cannot assure you that the vendors of products that may become subject to more stringent laws will not try to recover any or all increased costs of compliance from us by increasing the prices at which we purchase products from them, or, that we will be able to recover any such increased prices from our customers. We also cannot assure you that our business and financial condition will not be materially and adversely affected by future changes in applicable laws and regulations.

Loss of key management or sales representatives could harm our business.

Our future success depends to a significant extent on the skills, experience and efforts of management, including our President and Chief Executive Officer, Mr. James F. Cleary, Jr. While we have not experienced problems in the past attracting and maintaining members of our management team, the loss of any or all of these individuals could adversely impact our business. We do not carry key-man life insurance on any member of management. In addition we do not have employment agreements with our key members of the senior management team. We must continue to develop and retain a core group of individuals if we are to realize our goal of continued expansion and growth. We cannot assure you that we will be able to do so in the future. Also, due to the specialized nature of our products and services, generally only highly qualified and trained sales representatives have the necessary skills to market our products and provide our services. These individuals develop relationships with our customers that could be damaged if these employees are not retained. We face intense competition for the hiring of these professionals. Any failure on our part to hire, train and retain a sufficient number of qualified professionals would damage our business. We do not generally enter into agreements that contain non-competition provisions with any of our employees, other than with members of our senior management team.

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Failure of, or security problems with, our information systems could damage our business.

Our information systems are dependent on third party software, global communications providers, telephone systems and other aspects of technology and Internet infrastructure that are susceptible to failure. Though we have implemented security measures and some redundant systems, our customer satisfaction and our business could be harmed if we or our vendors experience any system delays, failures, loss of data, power outages, computer viruses, break-ins or similar disruptions. We currently process all customer transactions and data at our facilities in Meridian, Idaho. Although we have safeguards for emergencies, including, without limitation, sophisticated back-up systems, the occurrence of a major catastrophic event or other system failure at any of our distribution facilities could interrupt data processing or result in the loss of stored data. This may result in the loss of customers or a reduction in demand for our services. Only some of our systems are fully redundant and although we do carry business interruption insurance, it may not be sufficient to compensate us for losses that may occur as a result of system failures. If a disruption occurs, our profitability and results of operations may suffer.

The outbreak of an infectious disease within either the production animal or companion animal population could have a significant adverse effect on our business and our results of operations.

An outbreak of disease affecting animals, such as foot-and-mouth disease, avian influenza and bovine spongiform encephalopathy, commonly referred to as “mad cow disease,” could result in the widespread destruction of affected animals and consequently result in a reduction in demand for animal health products. In addition, outbreaks of these or other diseases or concerns of such diseases could create adverse publicity that may have a material adverse effect on consumer demand for meat, dairy and poultry products, and, as a result, on our customers’ demand for the products we distribute. The outbreak of a disease among the companion animal population which could cause a reduction in the demand for companion animals could also adversely affect our business. Although we have not been adversely impacted by the outbreak of a disease in the past, there can be no assurance that a future outbreak of an infectious disease will not have an adverse effect on our business.

We may be subject to product liability and other claims in the ordinary course of business.

Our business involves a risk of product liability and other claims in the ordinary course of business. We maintain general liability insurance with policy limits of $1 million per incident and $2 million in the aggregate, and in many cases we have indemnification rights against such claims from the manufacturers of the products we distribute. We do not maintain a separate product liability insurance policy because we do not currently manufacture any of the products that we sell. Our ability to recover under insurance or indemnification arrangements is subject to the financial viability of the insurers and manufacturers. We cannot assure you that our insurance coverage or the manufacturers’ indemnity will be available or sufficient in any future cases brought against us.

A prolonged economic downturn could materially adversely affect our business.

Our business may be materially adversely affected by prolonged, negative trends in the general economy that could reduce consumer discretionary spending on animal health products. Our business ultimately depends on the ability and willingness of animal owners to pay for our products. This dependence could make us more vulnerable to any reduction in consumer confidence or disposable income than companies in other industries that are less reliant on consumer spending, such as the human health care industry, in which a large portion of payments are made by insurance programs.

We may not be able to raise needed capital in the future on favorable terms or at all.

We expect that our existing sources of cash, together with any funds generated from operations, will be sufficient to meet our anticipated capital needs for at least the next twelve months. However, we may require additional capital to finance our growth strategies or other activities in the future. Our capital requirements will depend on many factors, including the costs associated with our growth and expansion. Additional financing may not be available when needed and, if such financing is available, it may not be available on terms favorable to us. Our failure to raise capital when needed could have an adverse effect on our business, financial condition and results of operations.

Our variable rate indebtedness subjects us to interest rate risk, which could cause our debt service obligations to increase significantly.

Certain of our borrowings, primarily borrowings on the revolving credit facility under our amended credit agreement, are at variable rates of interest and expose us to interest rate risk based on market rates. In the last year there has been a general increase in borrowing rates in the United States. If interest rates continue to increase, our debt service obligations on our variable rate indebtedness would increase even though the amount borrowed remained the same, and our net income and cash available for servicing our indebtedness would decrease. Our variable rate debt as of December 31, 2005 was approximately $27.7 million (comprised of $27.3 million credit facility and $389,232 promissory note).  Our interest expense for fiscal year 2005 was $2.5 million (excluding $4.1 million of accretion of our Series A preferred stock dividends) and was $555,445 for the three-months ended December 31, 2005.

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MWI VETERINARY SUPPLY, INC.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

(dollars in thousands, except per share data)

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

Overview

The Company is a leading distributor of animal health products to veterinarians across the United States. The Company markets its products to veterinarians in both the companion and production animal markets. The Company’s growth has primarily been from internal growth initiatives and, to a lesser extent, selective acquisitions.

The Company sells products that it sources from its vendors to its customers through either a “buy/sell” transaction or an agency relationship with its vendors. In a “buy/sell” transaction, the Company purchases or takes inventory of products from its vendors. When a customer places an order, the Company picks, packs, ships and invoices the customer for the order. The Company records sales from “buy/sell” transactions, which account for the vast majority of the Company’s business, as revenue in conformity with generally accepted accounting principles in the United States. In an agency relationship, the Company does not purchase and take inventory of products from vendors. When the Company receives an order from a customer, the Company transmits the order to the vendor, who picks, packs and ships the order to the Company’s customer. In some cases, the vendor invoices and collects payment from the customer, while in other cases the Company invoices and collects payment from the customer on behalf of the vendor. The Company receives a commission payment for soliciting the order from the customer and for providing other customer service activities. The aggregate revenue the Company receives in agency transactions constitute the “commissions” line item on the Company’s statement of income and is recorded in conformity with accounting principles generally accepted in the United States. The vendor determines the method the Company uses to sell its products. Historically, vendors have occasionally switched between the “buy/sell” and agency models for particular products in response to market conditions related to that particular product. A switch between models can impact the Company’s revenues, gross margin, gross margin percentage and operating income.  For more information on the Company’s business see the Company’s Annual Report on Form 10-K filed with the Securities Exchange Commission on December 1, 2005.

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Results of Operations

The following table summarizes the Company’s results of operations for the three-months ended December 31, 2005 and 2004 in dollars and as a percentage of total revenues.

	Three-Months Ended December 31,
	2005					2004
Revenues:
Product sales	$	127,048		92.2	%	$	101,260		92.9	%
Product sales to related party	9,355			6.8		6,805			6.2
Commissions	1,413			1.0		929			0.9
Total revenues	137,816			100.0		108,994			100.0
Cost of product sales	115,064			83.5		92,370			84.7
Gross profit	22,752			16.5		16,624			15.3
Selling, general and administrative expenses	14,553			10.6		11,016			10.1
Depreciation and amortization	442			0.3		340			0.4
Operating income	7,757			5.6		5,268			4.8
Other income (expense):
Interest expense (1)	(555		)	(0.4	)	(1,769		)	(1.6	)
Earnings of equity method investees	45			-		32			-
Other	90			0.1		67			0.1
Total other expense	(420		)	(0.3	)	(1,670		)	(1.5	)
Income before taxes	7,337			5.3		3,598			3.3
Income tax expense	(2,898		)	(2.1	)	(1,942		)	(1.8	)
Net income	$	4,439		3.2	%	$	1,656		1.5	%
Earnings Per Share:
Basic	$	0.42				$	0.33
Dilutive	$	0.41				$	0.28
Shares used in earnings per share calculation (in ‘000s):
Basic	10,578					5,062
Dilutive	10,864					5,882
Other Data:
Product sales from Internet as a percentage of sales
	23		%			21		%
Field sales representatives (at end of period)
	132					114
Telesales representatives (at end of period)
	95					79
Fill rate (2)	98		%			98		%

(1)	The three-months ended December 31, 2004 includes $1,134 accretion of our Series A preferred stock dividends, which was non-deductible for income tax purposes, as a component of interest expense. The Company redeemed all the Series A preferred stock and accrued dividends in August 2005.
(2)	Defined as, for any period, the dollar value of orders shipped the same day they were placed from any distribution center expressed as a percentage of the total dollar value of the orders placed by customers in the period.

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Three-months Ended December 31, 2005 Compared to Three-months Ended December 31, 2004

Total Revenues.  Total revenues increased 26.4% to $137,816 for the three-months ended December 31, 2005 from $108,994 for the three-months ended December 31, 2004.  This increase was attributable to an increase in product sales volumes of a wide variety of products to both existing and new customers. The amount of the increase in product sales attributable to customers obtained subsequent to the end of the prior comparative period was approximately $12,532 with the remaining increase attributable to existing customers. Included in the $12,532 are revenues from customers acquired as part of the Vetpo Distributors, Inc. acquisition that was completed in January 2005.  Revenues improved in the three-months ended December 31,2005 as compared to the corresponding period in the prior year as a result of the addition of non-steroidal anti-inflammatory drugs for dogs, the addition of new cattle antibiotics and the conversion to a buy/sell arrangement for an equine West Nile Virus vaccine that was a commission-based agency relationship in the comparative period in the prior year.

Gross Profit.  Gross profit increased by 36.9% to $22,752 for the three-months ended December 31, 2005 from $16,624 for the three-months ended December 31, 2004.  The increase in gross profit is a result of increased total revenues as discussed above and increased vendor rebates. Vendor rebates contributed to the gross profit dollar improvement by $2,837 for the three-months ended December 31, 2005 as compared to three-months ended December 31, 2004.  Vendor rebates have historically been highest during the Company’s first fiscal quarter ended December 31, since certain significant vendor rebate programs are designed to include annual targets to be achieved based on the calendar year.  The growth in vendor rebates during the three-months ended December 31, 2005 as compared to the three-months ended December 31, 2004 was attributable to the Company’s calendar year sales growth with key vendors and the addition of new programs related to new product offerings.  Gross profit as a percentage of total revenues was 16.5% for the three-months ended December 31, 2005, compared to 15.3% for the same period in the prior year.  The increase in the Company’s gross profit as a percentage of total revenues was primarily due to an increase in vendor rebates and an increase in commission revenue on agency products sold. Partially offsetting these improvements were increases in freight costs as a result of higher fuel and transportation costs.

Selling, General and Administrative (“SG&A”).  SG&A increased 32.1% to $14,553 for the three-months ended December 31, 2005 from $11,016 for the three-months ended December 31, 2004.  The dollar increase was primarily due to increased compensation costs, outside fees and services, location and travel and occupancy costs.  Compensation costs increased as a result of additional headcount of 113 associates, primarily related to the acquisition of Vetpo and an increase in the Company’s distribution centers.  Compensation costs also increased as a result of increased sales commissions that are directly correlated with the sales growth.  The increase in outside fees and services were primarily due to the Company’s use of temporary workforce to support its sales growth and demands in its distribution centers, increased professional services fees related to operating as a public company and increased credit card and other bank fees.  Increases in location and travel cost are due to increased headcount and costs to support the Company’s sales growth.  Increases in occupancy costs are due primarily to the distribution center acquired in the Vetpo acquisition and the relocation of the Company’s distribution centers in Nampa, Idaho and Denver, Colorado from owned properties to leased properties.

Depreciation and Amortization.  Depreciation and amortization expense increased 30.0% to $442 for the three-months ended December 31, 2005 from $340 for the three-months ended December 31, 2004.  This increase was due primarily to amortization of intangible assets acquired with the purchase of Vetpo.  In addition, depreciation expense increased as a result of the facility acquired with Vetpo and capital expenditures for delivery trucks used at the Company’s warehouse facilities to support its sales growth.  The Company expects that depreciation and amortization expense related to leasehold improvements will increase as a result of the relocation of the Company’s Denver, Colorado distribution center from an approximately 24,000 square foot facility to an approximately 58,000 square foot facility in December 2005, and as a result of the Company’s planned addition of a distribution center located in Orlando, Florida.

Other Expenses.  Other expenses decreased 74.9% to $420 for the three-months ended December 31, 2005 from $1,670 for the three-months ended December 31, 2004. The decrease in other expenses was primarily due to a reduction in interest expense of $1,214 in the three-months ended December 31, 2005 as compared to the same period in the prior year. Included in interest expense for the three-months ended December 31, 2004 is accretion of dividends on the Series A preferred stock of $1,134. The Series A preferred stock was redeemed in August 2005.

Income Tax Expense.  The Company’s effective tax rate was 39.5% and 54.0% for the three-months ended December 31, 2005 and 2004, respectively. The decrease in the effective rate in the quarter ended December 31, 2005 as compared to the same quarter in the prior year was primarily a result of the elimination of the non-deductible accretion of dividends on the Series A preferred stock that were redeemed in August 2005.

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Critical Accounting Policies

The preparation of financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities.  The accompanying condensed consolidated financial statements are prepared using the same critical accounting policies discussed in the Company’s Annual Report on Form 10-K.

Liquidity and Capital Resources

The Company’s principal sources of liquidity are cash flow generated from operations and borrowings on the revolving credit facility under the amended credit agreement. The Company uses capital primarily to fund day-to-day operations and to maintain sufficient inventory levels in order to promptly fulfill customer orders and to expand the Company’s operations and sales growth.

The Company has a line-of-credit agreement with two lenders for a credit facility that allows for borrowings up to $70,000. The line-of-credit is secured by a security interest in substantially all of the Company’s assets and terminates on June 18, 2007. Interest is due monthly at the following rates: 1) the London Interbank Offered Rate (LIBOR) plus a margin (5.85% at December 31, 2005); or 2) the prime rate (7.25% at December 31, 2005). The lenders also receive an unused line fee and letter of credit fee equal to 0.375% of the unused amount of the revolving credit facility.  The Company’s outstanding balance on this facility at December 31, 2005 was $27,283 of which $16,000 carried an interest rate at LIBOR and $11,283 carried an interest rate at the prime rate.  The line-of-credit contains certain restrictive financial covenants as well as restrictions on dividend payments and future debt borrowings.

From time to time the Company issues letters of credit to act as guarantee of payment to specified third parties. At December 31, 2005, the Company had four letters of credit totaling $400 and at September 30, 2005 the Company had three letters of credit totaling $300.  There were no outstanding borrowings on these letters of credit at December 31, 2005 or September 30, 2005.

Operating Activities.  For the three-months ended December 31, 2005, cash used in operations was $1,471, and was primarily attributable to a decrease in accounts payable of $5,078 and an increase in inventories of $3,171. The decrease in accounts payable was primarily due to timing of inventory purchases and associated payments.  Increases in inventories are primarily attributable to purchases made in advance of vendor price increases.  For the three-months ended December 31, 2004 net cash provided by operating activities was $6,724, and was primarily attributable to a decrease in accounts receivable of $2,463 and an increase of $1,954 in accounts payable, partially offset by an increase in inventories of $1,477. The decrease in accounts receivable was a result of the collection of customer accounts that were offered extended payment terms and the increase in accounts payable was due to timing of inventory purchases.

Investing Activities.  For the three-months ended December 31, 2005, net cash used in investing activities was $1,177 compared to net cash used by investing activities of $1,166 for the three-months ended December 31, 2004.  Net cash used by investing activities for the three-months ended December 31, 2005 was primarily due to capital expenditures of $1,182 related to relocating the Company’s existing distribution center to a new larger distribution center in Denver, Colorado.  Net cash used in investing activities for the three-months ended December 31, 2004 was primarily attributable to capital expenditures and the acquisition of Memorial Pet Care, Inc.

Financing Activities.  For the three-months ended December 31, 2005, net cash provided in financing activities was $2,647, and was primarily attributable to borrowings made on the Company’s revolving credit facility.  For the three-months ended December 31, 2004, net cash used by financing activities was $5,558, which was a result of payments on the Company’s revolving credit facility.  The Company’s revolving credit facility is used to finance the Company working capital requirements and fluctuates based on timing of payables and collection of receivables.

Contractual Obligations and Guarantees

For information on contractual obligations and guarantees, see the Company’s 2005 Annual Report on Form 10-K. During the three-months ended December 31, 2005 the Company entered into a lease agreement for an approximate 29,000 square foot distribution center located in Orlando, Florida.  The Company’s average annual lease expense is $183 per year and the lease expires in 2013.

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Item 3.  Quantitative and Qualitative Disclosures About Market Risk

The Company is exposed to market risks primarily from changes in interest rates in the United States. The Company does not engage in financial transactions for trading or speculative purposes.

The interest payable on the revolving credit facility under the amended credit agreement is based on variable interest rates and is therefore affected by changes in market interest rates. If the weighted average interest rate on the variable rate indebtedness rose 64 basis points (a 10.0% change from the calculated weighted average interest rate as of December 31, 2005), assuming no change in the outstanding balance on the revolving credit facility under the amended credit agreement ($27,283 as of December 31, 2005), the annualized income before taxes and cash flows from operating activities would decline by approximately $176. If the weighted average interest rate on the variable rate indebtedness decreased 64 basis points (a 10.0% change from the calculated weighted average interest rate as of December 31, 2005), assuming no change in the outstanding balance on the revolving credit facility under the amended credit agreement, the annualized income before taxes and cash flows from operating activities would increase by approximately $176.

Item 4.  Controls and Procedures

Management of the Company, including the Chief Executive Officer and the Chief Financial Officer of the Company, have evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934) as of December 31, 2005.  Based on this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective to provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission’s rules and forms.

There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s most recently completed fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II.  OTHER INFORMATION

Cautionary Statement for Purposes of “Safe Harbor Provisions” of the Private Securities Litigation Reform Act of 1995

This quarterly report on Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. Statements that are not historical facts, including statements about the Company’s beliefs and expectations, are forward-looking statements. Forward-looking statements include statements preceded by, followed by or that include the words “may,” “could,” “would,” “should,” “believe,” “expect,” “anticipate,” “plan,” “estimate,” “target,” “project,” “intend” and similar expressions. These statements include, among others, statements regarding the Company’s expected business outlook, anticipated financial and operating results, the Company’s business strategy and means to implement its strategy, the Company’s objectives, the amount and timing of capital expenditures, the amount and timing of interest expense, the likelihood of the Company’s success in expanding the Company’s business, financing plans, budgets, working capital needs and sources of liquidity.

Forward-looking statements are only predictions and are not guarantees of performance. These statements are based on management’s beliefs and assumptions, which in turn are based on currently available information. Important assumptions relating to the forward-looking statements include, among others assumptions regarding demand for the Company’s products, the expansion of product offerings geographically or through new applications, the timing and cost of planned capital expenditures, competitive conditions and general economic conditions. These assumptions could prove inaccurate. Forward-looking statements also involve known and unknown risks and uncertainties, which could cause actual results that differ materially from those contained in any forward-looking statement. Many of these factors are beyond the Company’s ability to control or predict. Such factors include, but are not limited to, the following: vendor rebates based upon attaining certain growth goals; changes in the way vendors introduce products to market; the recall of a significant product by one of the Company’s vendors; seasonality; the impact of general economic trends on the Company’s business; the timing and effectiveness of marketing programs offered by the Company’s vendors; the timing of the introduction of new products and services by the Company’s vendors; and competition.

Except as required by applicable law, including the securities laws of the United States and the rules and regulations of the Securities and Exchange Commission, or SEC, the Company is under no obligation to publicly update or revise any forward-looking statements, whether as a result of any new information, future events or otherwise. Potential investors should not place undue reliance on the Company’s forward-looking statements. Before you invest in the Company’s common stock, you should be aware that the occurrence of the events described in the “Risk Factors” section in Section 1A in this Form 10-Q and filed in the Company’s Annual Report on Form 10-K could harm the Company’s business, prospects, operating results, and financial condition. Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, the Company cannot guarantee future results or performance.

Item 1.  Legal Proceedings

The Company is not currently a party to any material pending legal proceedings and is not aware of any claims that could have a materially adverse effect on the Company’s financial position, results of operations, or cash flows.

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

15	Letter re: Unaudited Interim Financial Statements.
31.1	Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32	Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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SIGNATURE

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

	MWI Veterinary Supply, Inc.
	(Registrant)
Date: February 6, 2006	/S/ Mary Patricia B. Thompson
	Mary Patricia B. Thompson
	Vice President, Secretary and Chief Financial Officer

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