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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 0-27818
DOANE PET CARE COMPANY
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 43-1350515
(State or Other Jurisdiction of (IRS Employer
Incorporation or Organization) Identification No.)
210 WESTWOOD PLACE SOUTH, SUITE 400
BRENTWOOD, TN 37027
(Address of Principal Executive Office, Including Zip Code)
(615) 373-7774
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
As of August 8, 2001, registrant had outstanding 1,000 shares of common
stock.
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TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
PAGE
Item 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheets as of June 30, 2001
and December 30, 2000....................................................................... 1
Unaudited Condensed Consolidated Statements of Income for the three
months and six months ended June 30, 2001 and July 1, 2000.................................. 2
Unaudited Condensed Consolidated Statement of Stockholder's Equity and
Comprehensive Income for the six months ended June 30, 2001................................. 3
Unaudited Condensed Consolidated Statements of Cash Flows for the
six months ended June 30, 2001 and July 1, 2000............................................. 4
Notes to Unaudited Condensed Consolidated Financial Statements.............................. 5
Independent Accountants' Review Report...................................................... 8
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations....................................................................... 9
Item 3. Quantitative and Qualitative Disclosures about Market Risk.................................. 13
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................................................ 14
Signatures........................................................................................... 15
3
DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PAR VALUE AMOUNTS)
JUNE 30, DECEMBER 30,
2001 2000
--------- ------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 3,990 $ 3,158
Accounts receivable, net 114,355 125,135
Inventories, net 62,868 73,013
Deferred tax asset 13,610 12,841
Prepaid expenses and other current assets 4,788 5,796
--------- ---------
Total current assets 199,611 219,943
Property, plant and equipment, net 255,158 284,705
Goodwill and other intangible assets, net 348,693 364,108
Other assets 39,527 38,306
--------- ---------
Total assets $ 842,989 $ 907,062
========= =========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current maturities of long-term debt $ 25,192 $ 29,826
Accounts payable 81,230 110,696
Accrued liabilities 51,211 53,609
--------- ---------
Total current liabilities 157,633 194,131
Long-term debt, excluding current maturities 543,963 543,339
Other long-term liabilities 8,935 8,098
Deferred tax liability 24,363 35,408
--------- ---------
Total liabilities 734,894 780,976
--------- ---------
Senior Preferred Stock, 3,000,000 shares authorized,
1,200,000 shares issued and outstanding 60,274 55,205
--------- ---------
Commitments and contingencies
Stockholder's equity:
Common stock, $0.01 par value; 1,000 shares authorized,
issued and outstanding -- --
Additional paid-in-capital 115,635 107,280
Accumulated other comprehensive income (loss) (10,089) 1,318
Accumulated deficit (57,725) (37,717)
--------- ---------
Total stockholder's equity 47,821 70,881
--------- ---------
Total liabilities and stockholder's equity $ 842,989 $ 907,062
========= =========
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent accountants' review report.
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DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------- ---------------------
JUNE 30, JULY 1, JUNE 30, JULY 1,
2001 2000 2001 2000
--------- --------- --------- ---------
Net sales $ 222,657 $ 210,688 $ 478,508 $ 415,155
Cost of goods sold 176,318 166,971 394,804 314,238
--------- --------- --------- ---------
Gross profit 46,339 43,717 83,704 100,917
Operating expenses:
Promotion and distribution 19,669 17,208 41,037 33,913
Selling, general and administrative 12,306 11,574 25,491 22,475
Amortization of intangibles 3,445 3,159 6,897 5,849
Non-recurring expenses 6,662 9,028 6,662 9,028
--------- --------- --------- ---------
Income from operations 4,257 2,748 3,617 29,652
Interest expense, net 14,539 12,311 28,874 22,437
Other income, net (427) (684) (604) (821)
--------- --------- --------- ---------
Income (loss) before income taxes (9,855) (8,879) (24,653) 8,036
Income tax expense (benefit) (3,693) (1,826) (9,714) 5,055
--------- --------- --------- ---------
Net income (loss) (6,162) (7,053) (14,939) 2,981
Preferred stock dividends and accretion (2,574) (2,273) (5,069) (4,477)
--------- --------- --------- ---------
Net loss available to common shares $ (8,736) $ (9,326) $ (20,008) $ (1,496)
========= ========= ========= =========
Basic and diluted net loss per common share $ (8,736) $ (9,326) $ (20,008) $ (1,496)
========= ========= ========= =========
Basic and diluted weighted-average common
shares outstanding 1,000 1,000 1,000 1,000
========= ========= ========= =========
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent accountants' review report.
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DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF
STOCKHOLDER'S EQUITY AND COMPREHENSIVE INCOME
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
------------------- PAID-IN COMPREHENSIVE ACCUMULATED
SHARES AMOUNT CAPITAL INCOME (LOSS) DEFICIT TOTAL
------ ------ ---------- ------------- ----------- --------
Balances at December 30, 2000 1,000 $ -- $ 107,280 $ 1,318 $ (37,717) $ 70,881
Comprehensive loss:
Net loss -- -- -- -- (14,939) (14,939)
Foreign currency translation, net -- -- -- (9,958) -- (9,958)
Unrealized holding loss, net of
deferred tax benefit of $873 -- -- -- (1,449) -- (1,449)
--------
Total comprehensive loss (26,346)
--------
Preferred stock dividends -- -- -- -- (4,531) (4,531)
Accretion of preferred stock -- -- -- -- (538) (538)
Parent capital contribution -- -- 8,355 -- -- 8,355
----- ------ --------- -------- --------- --------
Balances at June 30, 2001 1,000 $ -- $ 115,635 $(10,089) $ (57,725) $ 47,821
===== ====== ========= ======== ========= ========
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent accountants' review report.
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DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
SIX MONTHS ENDED
-----------------------
JUNE 30, JULY 1,
2001 2000
--------- ---------
Cash flows from operating activities:
Net income (loss) $ (14,939) $ 2,981
Items not requiring (providing) cash:
Depreciation 14,208 10,258
Amortization of intangibles 6,897 5,849
Deferred income tax expense (benefit) (10,302) 3,150
Non-cash interest expense 2,372 1,015
Equity in joint ventures (579) (615)
Other non-cash charges (credits), net 6,360 741
Changes in current assets and liabilities (26,521) (11,635)
--------- ---------
Net cash provided by (used in) operating activities (22,504) 11,744
--------- ---------
Cash flows from investing activities:
Capital expenditures (5,870) (13,024)
Proceeds from sale of assets 19,459 --
Acquisition related payments, net of cash received -- (143,689)
Other, net (1,173) (1,603)
--------- ---------
Net cash provided by (used in) investing activities 12,416 (158,316)
--------- ---------
Cash flows from financing activities:
Net borrowings (payments) under revolving credit
agreements 4,000 (1,700)
Proceeds from issuance of long-term debt 17,055 156,357
Payments for debt issuance costs (2,660) (2,475)
Principal payments on long-term debt (15,775) (9,439)
Parent capital contribution 8,355 411
--------- ---------
Net cash provided by financing activities 10,975 143,154
Effect of exchange rate changes on cash and cash equivalents (55) 226
--------- ---------
Increase (decrease) in cash and cash equivalents 832 (3,192)
Cash and cash equivalents, beginning of period 3,158 7,194
--------- ---------
Cash and cash equivalents, end of period $ 3,990 $ 4,002
========= =========
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent accountants' review report.
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DOANE PET CARE COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
of Doane Pet Care Company and Subsidiaries (the "Company") do not include all
the information and footnotes required by generally accepted accounting
principles for complete financial statements. The year end condensed
consolidated balance sheet data was derived from audited financial statements.
In the opinion of management, all material adjustments, consisting of normal and
recurring adjustments, have been made which were considered necessary to present
fairly the financial position and the results of operations and cash flows at
the dates and for the periods presented. Certain reclassifications have been
made to previously reported consolidated financial statements to conform with
the fiscal 2001 presentation.
The accompanying unaudited condensed consolidated financial statements
should be read in conjunction with the audited consolidated financial statements
and notes contained in the Company's 2000 annual report on Form 10-K/A for the
fiscal year ended December 30, 2000 (the "2000 10-K/A"), including related
exhibits. The accounting policies used in preparing these financial statements
are the same as those summarized in the 2000 10-K/A.
The Company's fiscal year ends on the Saturday nearest to the end of
December. Each month and quarter also end on a Saturday with the second quarters
of fiscal 2000 and 2001 ending on July 1, 2000 and June 30, 2001, respectively.
(2) INVENTORIES
A summary of inventories, net of valuation allowances, follows (in
thousands):
JUNE 30, DECEMBER 30,
2001 2000
----------- ------------
(UNAUDITED)
Raw materials $ 25,312 $ 18,889
Packaging materials 19,041 25,142
Finished goods 18,515 28,982
-------- --------
Total $ 62,868 $ 73,013
======== ========
(3) AROVIT ACQUISITION
On May 10, 2000, the Company acquired A/S Arovit Petfood ("Arovit"),
headquartered in Esbjerg, Denmark, for approximately DKK 1.2 billion ($144.4
million) and assumed indebtedness, net of cash, of approximately DKK 97.0
million ($11.8 million). Arovit manufactures and sells a full range of pet food
products, throughout Europe, for dogs and cats, including wet, dry and treats,
primarily through private label programs.
Set forth below is certain unaudited pro forma consolidated financial
information of the Company for the six months ended July 1, 2000 that has been
adjusted to reflect the Company's acquisition of Arovit as if such transaction
occurred at January 2, 2000 (in thousands, except per share amounts):
SIX MONTHS ENDED
JULY 1, 2000
----------------
Net sales $ 465,574
Net income 2,164
Basic and diluted net loss per common share (2,313)
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DOANE PET CARE COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The pro forma financial data above is based on certain assumptions and
estimates; and therefore, does not purport to be indicative of the results that
would actually have been obtained had the acquisition of Arovit been completed
as of such dates or indicative of future results of operations and financial
position.
(4) ISSUANCE OF LONG-TERM DEBT
In March 2001, the Company refinanced $25.0 million of indebtedness
under its existing senior credit facility with loans and warrants from
shareholders of its parent, Doane Pet Care Enterprises, Inc. (the "Sponsor
Facility"). The Sponsor Facility was used to pay down the senior credit
facility, and permanently reduced the commitment under the revolving credit
facility from $100.0 million to $75.0 million. In connection with the
refinancing, the Company also entered into an amendment of its senior credit
facility (the "Amendment"). The Amendment reduced the financial covenant
requirements for the two years ended December 31, 2002. The Company is in
compliance with the revised covenants as of June 30, 2001.
The Amendment also contained the following new provisions: 1) a $15.0
million reduction in the commitments under the revolving credit facility until
certain financial performance tests are achieved, which the Company does not
believe will be met in 2001; 2) a restriction whereby the Company can incur no
more than $2.5 million of indebtedness incremental to the current availability
under its debt agreements; 3) a limit on the amount of future capital
expenditures to $22.5 million per year for the calendar years 2001 and 2002; 4)
a limit on other investing activities; 5) a 0.5% increase in the interest rate
under the senior credit facility until certain financial performance targets are
achieved and once achieved, a 0.25% reduction in the interest rate; 6) payment
of certain fees and expenses associated with the Amendment; and 7) restrictions
on repayments under the Sponsor Facility.
The Sponsor Facility is a senior unsecured loan bearing interest at
15.0%. Principal and accrued interest under the loan are due on March 15, 2007.
The Amendment restricts the payment of any interest or principal on the Sponsor
Facility until the ratio of the Company's Average Senior Debt to EBITDA, as
defined in the Amendment, calculated on a pro forma basis giving effect to any
such principal or interest payments, is no greater than 2.75 to 1.00 and the
Company maintains at least $35.0 million of credit availability (the "Payment
Test"). The Sponsor Facility requires that all unpaid interest and principal be
paid at the end of each quarter in which the Payment Test is achieved, to the
extent allowed by the senior credit facility. The Company does not believe any
payments will be made on the Sponsor Facility in 2001. The Company's Parent
issued warrants in connection with the Sponsor Facility that give the
warrantholders the right to purchase 30.0% of the outstanding stock of the
Company's Parent on a fully diluted basis for a nominal amount.
(5) SALE OF CERTAIN BUSINESS ASSETS
In the second quarter of fiscal 2001, the Company sold its Perham,
Minnesota dry dog and cat food facility and related assets, including the
Tuffy's brand, for approximately $7.0 million. In addition, the Company also
sold its Deep Run domestic wet pet food business and related assets, other than
real estate, for approximately $13.9 million. The Company recognized a $4.5
million net loss on the sale of these assets, which is included as a portion of
non-recurring expenses for the second quarter of fiscal 2001.
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(6) ACCRUALS FOR RESTRUCTURING COSTS
As of December 30, 2000, the Company had $6.5 million of accruals for
restructuring costs. In the second quarter of fiscal 2001, the Company accrued
$5.1 million associated with the sale of certain business assets and corporate
restructuring costs. The Company sold two businesses, closed three plants,
completed certain corporate restructuring and as a result, terminated 312
employees in the six months ended June 30, 2001. During the three months and six
months ended June 30, 2001, the Company made cash payments of approximately $2.2
million and $3.0 million, respectively, related to restructuring charges. At
June 30, 2001, the Company had $8.6 million of remaining restructuring accruals
of which it expects to pay $5.4 million in fiscal 2001, $2.1 million in fiscal
2002 and the remainder in fiscal 2003.
(7) COMMITMENTS AND CONTINGENCIES
The Company is party, in the ordinary course of business, to claims and
litigation. In management's opinion, the resolution of such matters is not
expected to have a material impact on the future financial condition, results of
operations or cash flows of the Company.
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INDEPENDENT ACCOUNTANTS' REVIEW REPORT
The Board of Directors
Doane Pet Care Company
We have reviewed the condensed consolidated balance sheet of Doane Pet Care
Company and Subsidiaries as of June 30, 2001, the related condensed consolidated
statements of income for the three-month and six-month periods ended June 30,
2001 and July 1, 2000, the condensed consolidated statement of stockholder's
equity and comprehensive income for the six-month period ended June 30, 2001 and
the condensed consolidated statements of cash flows for the six-month periods
ended June 30, 2001 and July 1, 2000. These condensed consolidated financial
statements are the responsibility of the Company's management.
We have conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with auditing standards generally accepted in the United States of
America, the objective 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 review, we are not aware of any material modifications that should
be made to the condensed consolidated financial statements referred to above for
them to be in conformity with accounting principles generally accepted in the
United States of America.
We have previously audited, in accordance with auditing standards generally
accepted in the United States of America, the consolidated balance sheet of
Doane Pet Care Company and Subsidiaries as of December 30, 2000, and the related
consolidated statements of income, stockholder's equity and comprehensive income
and cash flows for the year then ended (not presented herein); and in our report
dated March 29, 2001, we expressed an unqualified opinion on those consolidated
financial statements. In our opinion, the information set forth in the
accompanying consolidated balance sheet as of December 30, 2000 is fairly
stated, in all material respects, in relation to the consolidated balance sheet
from which it has been derived.
/s/ KPMG LLP
Houston, Texas
August 3, 2001
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This quarterly report on Form 10-Q contains certain "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21B of the Securities Exchange Act of 1934, as amended,
which are based on management's current views and assumptions regarding future
events and financial performance. All statements other than statements of
historical facts included in this report are forward-looking statements. Readers
should not place undue reliance on any forward-looking statements, which speak
only as of the date made. Although the Company believes the expectations
reflected in such forward-looking statements are reasonable, it can give no
assurance that such expectations will prove to have been correct. It is
important to note that results could differ materially from those projected in
such forward-looking statements. Information concerning factors that could cause
actual results to differ materially from those in such forward-looking
statements is contained in sections "Forward-Looking Statements" and "Risk
Factors" in Item 1 of our 2000 10-K/A.
RESULTS OF OPERATIONS
Readers are encouraged to consider carefully the accompanying unaudited
condensed consolidated financial statements and related notes contained
elsewhere in this quarterly report on Form 10-Q and our consolidated financial
statements and related notes contained in our 2000 10-K/A as they read the
discussion below (table in thousands, except percentages):
THREE MONTHS ENDED SIX MONTHS ENDED
---------------------------------------- ----------------------------------------
JUNE 30, 2001 JULY 1, 2000 JUNE 30, 2001 JULY 1, 2000
----------------- ----------------- ----------------- -----------------
Net sales $222,657 100.0% $210,688 100.0% $478,508 100.0% $415,155 100.0%
Cost of goods sold 176,318 79.2 166,971 79.3 394,804 82.5 314,238 75.7
-------- ----- -------- ----- -------- ----- -------- -----
Gross profit 46,339 20.8 43,717 20.7 83,704 17.5 100,917 24.3
Operating expenses:
Promotion and distribution 19,669 8.8 17,208 8.2 41,037 8.6 33,913 8.2
Selling, general and administrative 12,306 5.5 11,574 5.5 25,491 5.3 22,475 5.4
Amortization of intangibles 3,445 1.6 3,159 1.4 6,897 1.4 5,849 1.4
Non-recurring expenses 6,662 3.0 9,028 4.3 6,662 1.4 9,028 2.2
-------- ----- -------- ----- -------- ----- -------- -----
Income from operations 4,257 1.9 2,748 1.3 3,617 0.8 29,652 7.1
Interest expense, net 14,539 6.5 12,311 5.7 28,874 6.1 22,437 5.4
Other income, net (427) (0.2) (684) (0.2) (604) (0.1) (821) (0.2)
-------- ----- -------- ----- -------- ----- -------- -----
Income (loss) before income taxes (9,855) (4.4) (8,879) (4.2) (24,653) (5.2) 8,036 1.9
Income tax expense (benefit) (3,693) (1.6) (1,826) (0.9) (9,714) (2.1) 5,055 1.2
-------- ----- -------- ----- -------- ----- -------- -----
Net income (loss) $ (6,162) (2.8)% $ (7,053) (3.3)% $(14,939) (3.1)% $ 2,981 0.7%
======== ===== ======== ===== ======== ===== ======== =====
THREE MONTHS ENDED JUNE 30, 2001 COMPARED TO THREE MONTHS ENDED JULY 1, 2000
Net sales. Our net sales in the second quarter of 2001 increased 5.7%
to $222.7 million from $210.7 million in the comparable 2000 period primarily
due to the impact of the acquisition of A/S Arovit Petfood ("Arovit") in May
2000. Excluding the impact of this acquisition, net sales for the 2001 period
were comparable with the 2000 period. The impact on net sales of our price
increase implemented in the first quarter of 2001 was offset by the sale of our
Deep Run domestic wet pet food business and our dry pet food operation located
in Perham, Minnesota (collectively, "the divestitures"). See Note 5 - "Sale of
Certain Business Assets" to our unaudited condensed consolidated financial
statements included herein and "Inflation and Changes in Prices."
Gross profit. Our gross profit in the second quarter of 2001 increased
$2.6 million to $46.3 million from $43.7 million in the comparable 2000 period
primarily due to the impact of the Arovit acquisition as well as the closure of
certain inefficient manufacturing facilities and manufacturing efficiencies
achieved at our remaining plants. This increase also resulted from $2.2 million
favorable impact caused by the volatility of commodity prices under the SFAS 133
fair value accounting of our
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commodity derivative instruments. Such accounting resulted in a $2.3 million
increase in our cost of goods sold for the second quarter of 2001 compared to a
$4.5 million increase in our cost of goods sold in the same 2000 period. These
favorable items affecting our gross margin were partially offset by higher
commodity, packaging, utility and healthcare costs as well as an unfavorable
global sales mix.
Promotion and distribution. Promotion and distribution expenses for the
second quarter of 2001 increased 14.3% to $19.7 million from $17.2 million in
the comparable 2000 period primarily due to the Arovit acquisition.
Selling, general and administrative. Selling, general and
administrative expenses for the second quarter of 2001 increased 6.3% to $12.3
million from $11.6 million in the comparable 2000 period primarily due to the
Arovit acquisition. Excluding the impact of the Arovit acquisition, selling,
general and administrative expenses decreased primarily due to lower costs
resulting from corporate restructurings and other cost savings initiatives.
These favorable items decreasing our selling, general and administrative
expenses were partially offset by annual wage increases and higher healthcare
costs. The expected annualized future benefits from the workforce reduction
associated with the divestitures is approximately $1.2 million commencing in the
third quarter of fiscal 2001.
Amortization of intangibles. Amortization expense for the second
quarter of 2001 increased 9.1% to $3.4 million from $3.2 million in the
comparable 2000 period primarily due to the Arovit acquisition.
Non-recurring expenses. Non-recurring expenses of $6.7 million for the
second quarter of 2001 consist of a $4.5 million net loss on the sale of certain
business assets related to the divestitures, and a $2.2 million charge
associated with a workforce reduction following the divestitures. See Note 5 -
"Sale of Certain Business Assets" to our unaudited condensed consolidated
financial statements included herein.
Interest expense, net. Interest expense, net of interest income, for
the second quarter of 2001 increased 18.1% to $14.5 million from $12.3 million
in the comparable 2000 period primarily due to the borrowings obtained in May
2000 to finance the Arovit acquisition. In addition, this increase was partially
due to the issuance of long-term debt in March 2001. See Note 4 - "Issuance of
Long-Term Debt" to our unaudited condensed consolidated financial statements
included herein. The impact of this increase in our outstanding indebtedness on
interest expense was partially offset by a decrease in interest rates associated
with our floating rate debt in the 2001 period compared to the 2000 period.
Income tax benefit. We recognized income tax benefits of $3.7 million
in the second quarter of 2001 and $1.8 million in the comparable 2000 period.
The Company's effective tax rate is different from the combined federal and
state statutory rate of 38.9% due to items which are not deductible for tax
purposes, primarily certain goodwill amortization.
SIX MONTHS ENDED JUNE 30, 2001 COMPARED TO SIX MONTHS ENDED JULY 1, 2000
Net sales. Our net sales in the six months ended June 30, 2001
increased 15.3% to $478.5 million from $415.2 million in the comparable 2000
period primarily due to the impact of the Arovit acquisition in May 2000.
Excluding the impact of this acquisition, net sales for the 2001 period
increased 3.3% over the comparable 2000 period primarily due to an increase in
volume sold and a price increase implemented in the first quarter of 2001. The
divestitures partially offset the increase in net sales. See Note 5 - "Sale of
Certain Business Assets" to our unaudited condensed consolidated financial
statements included herein and "Inflation and Changes in Prices."
Gross profit. Our gross profit in the six months ended June 30, 2001
decreased $17.2 million to $83.7 million from $100.9 million in the comparable
2000 period primarily due to the unfavorable impact caused by the volatility of
commodity prices under the SFAS 133 fair value accounting of our commodity
derivative instruments. Such accounting resulted in a $10.1 million increase in
our cost of goods sold in the 2001 period compared to a $1.2 million reduction
in our cost of goods sold in the same 2000 period, which accounts for $11.3
million of the $17.2 million reduction in gross profit. In addition, our gross
margin was affected by significantly higher commodity costs in the 2001 period
primarily due to the impact
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of the BSE ("mad cow disease") scare in Europe, a substantial increase in
utility costs and an increase in annual wages and healthcare costs.
Partially offsetting the shortfall was the favorable impact of the Arovit
acquisition on the 2001 period as well as the closure of certain inefficient
manufacturing facilities and manufacturing efficiencies achieved at our
remaining plants.
Promotion and distribution. Promotion and distribution expenses for the
six months ended June 30, 2001 increased 21.0% to $41.0 million from $33.9
million in the comparable 2000 period primarily due to the Arovit acquisition.
Selling, general and administrative. Selling, general and
administrative expenses for the six months ended June 30, 2001 increased 13.4%
to $25.5 million from $22.5 million in the comparable 2000 period primarily due
to the Arovit acquisition. Excluding the impact of the Arovit acquisition,
selling, general and administrative expenses decreased due to lower costs
resulting from corporate restructurings and other cost savings initiatives.
These favorable items decreasing selling, general and administrative expenses
were partially offset by annual wage increases and higher healthcare costs. The
expected annualized future benefits from the workforce reduction associated with
the divestitures is approximately $1.2 million commencing in the third quarter
of fiscal 2001.
Amortization of intangibles. Amortization expense for the six months
ended June 30, 2001 increased 17.9% to $6.9 million from $5.8 million in the
comparable 2000 period primarily due to the Arovit acquisition.
Non-recurring expenses. Non-recurring expenses of $6.7 million for the
six months ended June 30, 2001 consist of a $4.5 million net loss on the sale of
certain business assets related to the divestitures and a $2.2 million charge
associated with a workforce reduction following the divestitures. See Note 5 -
"Sale of Certain Business Assets" to our unaudited condensed consolidated
financial statements included herein.
Interest expense, net. Interest expense, net of interest income, for
the six months ended June 30, 2001 increased 28.7% to $28.9 million from $22.4
million in the comparable 2000 period primarily due to the borrowings obtained
in May 2000 to finance the Arovit acquisition. In addition, this increase was
partially due to the issuance of long-term debt in March 2001. See Note 4 -
"Issuance of Long-Term Debt" to our unaudited condensed consolidated financial
statements included herein. The impact of this increase in our outstanding
indebtedness on interest expense was partially offset by a decrease in interest
rates associated with our floating rate debt in the 2001 period compared to the
2000 period.
Income tax expense (benefit). We recognized an income tax benefit of
$9.7 million in the six months ended June 30, 2001 and income tax expense of
$5.1 million in the comparable 2000 period. The Company's effective tax rate is
different from the combined federal and state statutory rate of 38.9% due to
items which are not deductible for tax purposes, primarily certain goodwill
amortization.
LIQUIDITY AND CAPITAL RESOURCES
We have historically funded our operations, capital expenditures and
working capital requirements from cash flows from operations, bank borrowings
and industrial development revenue bonds. We had working capital of $42.0
million at June 30, 2001. As of June 30, 2001, we had borrowing capacity of
$45.8 million under our revolving credit agreements, which was net of $2.6
million for outstanding letters of credit.
The net cash used in our operating activities was $22.5 million in the
six months ended June 30, 2001 compared to $11.7 million provided by our
operating activities in the 2000 period. This decrease was primarily due to
lower earnings before income taxes, higher interest paid and working capital
utilization.
The net cash provided by our investing activities was $12.4 million in
the six months ended June 30, 2001 compared to $158.3 million used in our
investing activities in the 2000 period. The 2001 period increase results from
proceeds received on the sale of assets and a reduction in our capital
expenditures
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over the 2000 period. See Note 5 - "Sale of Certain Business Assets" to our
unaudited condensed consolidated financial statements included herein.
The net cash provided by our financing activities was approximately
$11.0 million in the six months ended June 30, 2001 compared to $143.2 million
for the 2000 period. See "Note 4 - Issuance of Long-Term Debt" to our unaudited
condensed consolidated financial statements included herein.
We are highly leveraged and have significant cash requirements for debt
service relating to our senior credit facility, Sponsor Facility, senior
subordinated notes, foreign debt and industrial development revenue bonds. See
"Note 9 - Long-Term Debt" to our 2000 10-K/A. Our ability to borrow is limited
by the senior credit facility and the limitations on the incurrence of
additional indebtedness in the indenture governing our senior subordinated
notes. We anticipate our operating cash flows, together with amounts available
to us under our senior credit facility, will be sufficient to finance working
capital requirements, debt service requirements and capital expenditures through
fiscal 2001.
We believe the credit availability under the amended senior credit
facility provides the necessary liquidity for operational and investment
requirements in the current operating environment. We also believe the capital
expenditures permitted under the amended senior credit facility will provide us
with the necessary flexibility to spend required maintenance capital and at the
same time fund planned expansion and customer requirements over the next two
years.
COMMITMENTS AND CONTINGENCIES
We believe our operations are in material compliance with
environmental, safety and other regulatory requirements; however, we cannot
provide assurance these requirements will not change in the future or we will
not incur material costs in the future to comply with these requirements or in
connection with the effect of these matters on our business.
EURO
Effective January 1, 1999, 11 of the 15 countries comprising the
European Union began a transition to a single monetary unit, the "Euro," which
is to be completed by July 1, 2002. Our European operations are in the process
of converting to the Euro. Some of our operations in Europe are now invoicing in
Euros, and as of January 1, 2002, all of our operations and information
technology systems, in the European countries involved, will be converted to the
Euro. These systems are currently being modified to meet the requirements. We do
not believe the conversion to the Euro will have a material effect on our
operations or financial condition taken as a whole.
INFLATION AND CHANGES IN PRICES
Our financial results depend to a large extent on the costs of raw
materials and packaging and our ability to pass along increased costs to our
customers. Historically, market prices for commodity grains and food stocks have
fluctuated in response to a number of factors, including changes in government
farm support programs, changes in international agricultural trading policies,
impacts of disease breakouts in protein sources and weather conditions during
the growing and harvesting seasons. Fluctuations in paper prices, which affect
our costs for packaging materials, have resulted from changes in supply and
demand, general economic conditions and other factors. In addition, we have
exposure to changes in pricing of natural gas, which affects our manufacturing
costs. We cannot assure you that our results of operations will not be exposed
to volatility in the commodity and natural gas market.
In the event of any increases in raw materials, packaging and natural
gas costs, we may be required to increase sales prices for our products to avoid
margin deterioration. We cannot assure you of the timing or extent of our
ability to implement future price adjustments in the event of increased raw
materials, packaging and natural gas costs or of whether any price increases
implemented by us may affect the volumes of future shipments to our customers.
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In the first six months of fiscal 2001, the Company implemented a price
increase consistent with recent industry announcements, which covered
non-commodity inflationary increases.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In July 2001, the FASB issued Statement on Financial Accounting
Standards No. 142 "Goodwill and Other Intangible Assets," (SFAS 142) which will
be effective for our company as of the beginning of fiscal 2002. SFAS 142
requires goodwill and other intangible assets with indefinite lives no longer be
amortized. SFAS 142 further requires the fair value of goodwill and other
intangible assets with indefinite lives be tested for impairment upon adoption
of this statement, annually and upon the occurrence of certain events, and be
written down to fair value if considered impaired. Our management estimates the
adoption of SFAS 142 will result in the elimination of annual amortization
expense related to goodwill and other intangible assets, including trademarks,
in the amount of approximately $14.0 million, or $8.6 million net of tax;
however, due to the extensive effort required to comply with SFAS 142, the
impact of related impairment, if any, on our financial position or results of
operations has not yet been determined.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks, which are the potential losses arising
from adverse changes in market prices and rates. Our market risks could arise
from changes in commodity and natural gas prices, interest rates and foreign
currency exchange rates.
Commodity and natural gas price risk. We manage our commodity and
natural gas price risk associated with market fluctuations by using derivative
instruments for portions of our corn, soybean meal and natural gas purchases,
principally through exchange traded futures and options contracts. The terms of
these contracts are generally less than one year. We settle positions either by
financial settlement with the exchanges or by exchange for the physical
commodity, in which case, we deliver the contract against the acquisition of the
physical commodity. We do not enter into derivative instruments for trading or
speculative purposes.
Based upon an analysis we completed as of June 30, 2001 in which we
utilized our actual derivative contractual volumes and assumed a 5% adverse
movement in commodity and natural gas prices, we determined the potential
decrease in the fair value of our derivative instruments would not have a
material adverse effect on our financial position, results of operations or cash
flows.
Interest rate risk. We are subject to market risk exposure related to
changes in interest rates. We periodically use interest rate swap contracts
(hedges) to limit our exposure to the interest rate risk associated with our
floating rate debt, which was $383.8 million at June 30, 2001. At June 30, 2001,
$124.5 million of our floating rate debt was hedged by interest rate swap
contracts. Changes in market values of these financial instruments are highly
correlated with changes in market values of the hedged item both at inception
and over the life of the contract. Gains and losses on interest rate swap
contracts are recorded in accumulated other comprehensive income (loss) in the
accompanying unaudited condensed consolidated financial statements included
herein. Amounts received or paid under interest rate swap contracts are recorded
as reductions or additions to interest expense. We had a cumulative deferred
loss on our interest rate swap contracts of $1.4 million, net of deferred tax
benefit of $0.9 million, at June 30, 2001.
Accordingly, our net income is affected by changes in interest rates.
Assuming our current level of floating rate debt and interest rate swap
contracts, a 100 basis point increase in interest rates would increase our net
loss by approximately $0.4 million and $0.8 million for the three months and six
months ended June 30, 2001 respectively. In addition, such a change would result
in a decrease of approximately $9.8 million in the fair value of our fixed rate
debt at June 30, 2001. In the event of an adverse change in interest rates, we
could take action to mitigate our exposure; however, due to the uncertainty of
the actions that would be taken and their possible effects, this analysis
assumes no such actions. Furthermore, this analysis does not consider the
effects of the change in the level of overall economic activity that could exist
in such an environment.
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Foreign currency exchange risk. Our earnings and financial position are
affected by foreign currency exchange rate fluctuations. We currently have
operations in Europe that sell pet food products throughout Europe and export to
Japan. In connection with our acquisition of Arovit, we funded a portion of the
acquisition with Euro-denominated debt and designated our Euro-denominated debt
as a hedge of our net investment in Europe. As of June 30, 2001, the cumulative
translation adjustment for the net investment in our foreign operations was a
net loss of $8.9 million, which includes a gain of $3.9 million for the
translation of our Euro-denominated debt to U.S. dollars. The cumulative
translation adjustment is recorded in accumulated other comprehensive income
(loss) in the accompanying unaudited condensed consolidated financial statements
included herein.
We are exposed to foreign currency exchange risk arising from
transactions in the normal course of business within Europe. To mitigate the
risk from foreign currency exchange rate fluctuations in those transactions, we
enter into foreign currency forward contracts for the purchase or sale of a
currency. Accordingly, changes in market values of these financial instruments
are highly correlated with the changes in market values of the hedged item both
at inception and over the life of the contracts. Gains and losses on foreign
currency forward contracts are recorded in accumulated other comprehensive
income (loss) in the accompanying unaudited condensed consolidated financial
statements included herein. At June 30, 2001, we had a cumulative deferred gain
on foreign currency forward contracts of $0.3 million, net of deferred tax
expense of $0.1 million. We had open foreign currency forward contracts at June
30, 2001 maturing within the next 12 months with a notional value of $6.3
million and a fair value loss of $0.8 million.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
None.
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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.
DOANE PET CARE COMPANY
Dated: August 8, 2001 By: /s/ PHILIP K. WOODLIEF
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Philip K. Woodlief
Vice President Finance and
Chief Financial Officer
Dated: August 8, 2001 By: /s/ STEPHEN P. HAVALA
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Stephen P. Havala
Corporate Controller and
Principal Accounting Officer
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