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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 MARCH 30, 2002
OR
o 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 May 1, 2002, registrant had outstanding 1,000 shares of common
stock.
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TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
<Table>
<Caption>
PAGE
Item 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheets as of March 30, 2002
and December 29, 2001....................................................................... 1
Unaudited Condensed Consolidated Statements of Income for the three
months ended March 30, 2002 and March 31, 2001.............................................. 2
Unaudited Condensed Consolidated Statement of Stockholder's Equity and
Comprehensive Income for the three months ended March 30, 2002.............................. 3
Unaudited Condensed Consolidated Statements of Cash Flows for the
three months ended March 30, 2002 and March 31, 2001........................................ 4
Notes to Unaudited Condensed Consolidated Financial Statements.............................. 5
Independent Auditors' 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.................................. 14
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................................................ 15
Signatures........................................................................................... 16
</Table>
DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PAR VALUE AMOUNTS)
<Table>
<Caption>
MARCH 30, DECEMBER 29,
2002 2001
----------- ------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents ................................... $ 7,288 $ 6,032
Accounts receivable, net .................................... 104,605 120,760
Inventories, net ............................................ 53,907 54,841
Deferred tax asset .......................................... 9,608 10,115
Prepaid expenses and other current assets ................... 6,683 5,469
--------- ---------
Total current assets .................................... 182,091 197,217
Property, plant and equipment, net .............................. 243,278 249,379
Goodwill and other intangible assets, net ....................... 346,003 347,081
Other assets .................................................... 43,722 42,868
--------- ---------
Total assets ............................................ $ 815,094 $ 836,545
========= =========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current maturities of long-term debt ........................ $ 27,712 $ 28,488
Accounts payable ............................................ 71,874 64,013
Accrued liabilities ......................................... 50,664 57,721
--------- ---------
Total current liabilities ............................... 150,250 150,222
Long-term debt, excluding current maturities .................... 524,727 559,335
Other long-term liabilities ..................................... 11,535 10,805
Deferred tax liability .......................................... 16,239 12,585
--------- ---------
Total liabilities ....................................... 702,751 732,947
--------- ---------
Senior Preferred Stock, 3,000,000 shares authorized,
1,200,000 shares issued and outstanding ..................... 68,502 65,672
--------- ---------
Commitments and contingencies
Stockholder's equity:
Common stock, $0.01 par value; 1,000 shares authorized,
issued and outstanding .................................. -- --
Additional paid-in-capital .................................. 115,655 115,655
Accumulated other comprehensive loss ........................ (7,335) (7,607)
Accumulated deficit ......................................... (64,479) (70,122)
--------- ---------
Total stockholder's equity .............................. 43,841 37,926
--------- ---------
Total liabilities and stockholder's equity .............. $ 815,094 $ 836,545
========= =========
</Table>
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent auditors' review report.
1
DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<Table>
<Caption>
THREE MONTHS ENDED
--------------------------
MARCH 30, MARCH 31,
2002 2001
--------- ---------
Net sales ................................................................. $ 220,106 $ 250,764
Cost of goods sold ........................................................ 169,192 219,017
--------- ---------
Gross profit ...................................................... 50,914 31,747
Operating expenses:
Promotion and distribution ........................................... 13,589 15,750
Selling, general and administrative .................................. 11,070 13,185
Amortization of intangibles (Note 3) ................................. 832 3,452
--------- ---------
Income (loss) from operations ..................................... 25,423 (640)
Interest expense, net ..................................................... 13,307 14,335
Other income, net ......................................................... (168) (177)
--------- ---------
Income (loss) before income taxes ................................. 12,284 (14,798)
Income tax expense (benefit) .............................................. 3,811 (6,021)
--------- ---------
Net income (loss) ................................................. 8,473 (8,777)
Preferred stock dividends and accretion ................................... (2,830) (2,495)
--------- ---------
Net income (loss) available to common shares ...................... $ 5,643 $ (11,272)
========= =========
Basic and diluted net income (loss) per common share .............. $ 5,643 $ (11,272)
========= =========
Basic and diluted weighted-average common shares outstanding .............. 1,000 1,000
========= =========
</Table>
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent auditors' review report.
2
DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF
STOCKHOLDER'S EQUITY AND COMPREHENSIVE INCOME
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<Table>
<Caption>
ACCUMULATED
COMMON STOCK ADDITIONAL OTHER
-------------------- PAID-IN COMPREHENSIVE ACCUMULATED
SHARES AMOUNT CAPITAL LOSS DEFICIT TOTAL
-------- -------- ---------- ------------- ----------- --------
Balances at December 29, 2001 ............... 1,000 $ -- $115,655 $ (7,607) $(70,122) $ 37,926
Comprehensive income:
Net income ............................. -- -- -- -- 8,473 8,473
Foreign currency translation, net ...... -- -- -- (607) -- (607)
Unrealized gain, net of
deferred tax expense of $541 ......... -- -- -- 879 -- 879
--------
Total comprehensive income ...... 8,745
--------
Preferred stock dividends ................ -- -- -- -- (2,560) (2,560)
Accretion of preferred stock ............. -- -- -- -- (270) (270)
-------- -------- -------- -------- -------- --------
Balances at March 30, 2002 .................. 1,000 $ -- $115,655 $ (7,335) $(64,479) $ 43,841
======== ======== ======== ======== ======== ========
</Table>
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent auditors' review report.
3
DOANE PET CARE COMPANY AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<Table>
<Caption>
THREE MONTHS ENDED
----------------------
MARCH 30, MARCH 31,
2002 2001
--------- ---------
Cash flows from operating activities:
Net income (loss) ................................................... $ 8,473 $ (8,777)
Items not requiring (providing) cash:
Depreciation ..................................................... 6,842 7,351
Amortization of intangibles ...................................... 832 3,452
Deferred income tax expense (benefit) ............................ 3,709 (6,614)
Non-cash interest expense ........................................ 1,892 663
Equity in joint ventures ......................................... (177) (129)
Other non-cash credits (charges), net ............................ (8) (166)
Changes in current assets and liabilities ........................ 18,237 (14,910)
-------- --------
Net cash provided by (used in) operating activities .......... 39,800 (19,130)
-------- --------
Cash flows from investing activities:
Capital expenditures ................................................ (2,128) (2,530)
Other, net .......................................................... (93) (1,153)
-------- --------
Net cash used in investing activities ........................ (2,221) (3,683)
-------- --------
Cash flows from financing activities:
Net borrowings (repayments) under revolving credit agreements ....... (29,000) 17,700
Proceeds from issuance of long-term debt ............................ 9,738 13,605
Parent capital contribution ......................................... -- 6,700
Principal payments on long-term debt ................................ (14,940) (9,386)
Payments for debt issuance costs .................................... (2,034) (2,587)
-------- --------
Net cash provided by (used in) financing activities .......... (36,236) 26,032
Effect of exchange rate changes on cash and cash equivalents .............. (87) (268)
-------- --------
Increase in cash and cash equivalents ........................ 1,256 2,951
Cash and cash equivalents, beginning of period ............................ 6,032 3,158
-------- --------
Cash and cash equivalents, end of period .................................. $ 7,288 $ 6,109
======== ========
</Table>
See accompanying notes to the unaudited condensed consolidated financial
statements and accompanying independent auditors' review report.
4
DOANE PET CARE COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(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 2002 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 2001 Annual Report on Form 10-K for the
fiscal year ended December 29, 2001 (the "2001 10-K"), including related
exhibits. The accounting policies used in preparing these financial statements
are the same as those summarized in the 2001 10-K, except for the adoption of
Statement on Financial Accounting Standards No. 142, Goodwill and Other
Intangible Assets ("SFAS 142"), as discussed in Note 3 -- "Recently Issued
Accounting Pronouncement."
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 first quarters
of fiscal 2001 and 2002 ending on March 31, 2001 and March 30, 2002,
respectively.
(2) PROMOTIONAL ACCOUNTING RECLASSIFICATION
In fiscal 2001, the Company adopted Financial Accounting Standards
Board's ("FASB") Emerging Issues Task Force Issue No. 01-9, Accounting for
Consideration Given by a Vendor to a Customer ("EITF 01-9"), which provides
guidance on when to record certain sales incentives as well as the
classification of certain sales incentives in the statement of income. As a
result of adopting EITF 01-9, the Company records volume-based rebates and
certain sales incentives as a component of net sales, and free-goods promotions
as a component of cost of goods sold. Prior to adopting EITF 01-9, the Company
recorded these costs as a component of promotion and distribution expense.
Previously issued quarterly results of fiscal 2001 have been
reclassified, as disclosed in the Company's 2001 10-K, to reflect the proper
classification of sales incentives in the statement of income. This change was
made based on a year end review of the Company's policies and procedures
relating to EITF 01-9. The reclassification resulted in a reduction in net sales
of $5.1 million and an increase in cost of goods sold of $0.5 million offset by
a decrease of $5.6 million in promotion and distribution expense for the first
quarter of fiscal 2001.
(3) RECENTLY ISSUED ACCOUNTING PRONOUNCEMENT
Effective December 30, 2001, the Company adopted SFAS 142. SFAS 142
requires that goodwill and other intangible assets with indefinite lives no
longer be amortized. SFAS 142 further requires that 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. For intangible assets
identified with an indefinite life, the Company is required to test the
intangible asset for impairment in accordance with SFAS 142 within the first six
months of fiscal 2002. Any impairment loss will be measured as of the date of
adoption and recognized as the cumulative effect of a change in accounting
principle as of the beginning of fiscal 2002. In the first quarter of fiscal
2002, the Company reassessed the useful lives and residual values of all
intangible assets acquired
5
DOANE PET CARE COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
in purchase business combinations, which resulted in no impact on its
accompanying unaudited condensed consolidated financial statements. The impact
of impairment, if any, on the Company's identifiable intangible assets with
indefinite lives has not yet been determined. The Company is currently
performing the first step of the impairment test, which is to assess whether
there is an indication of impairment under SFAS 142, and expects to complete
this initial assessment by the end of the second quarter of fiscal 2002. The
adoption of SFAS 142 results in the elimination of annual amortization expense
related to goodwill and other intangible assets of approximately $10.0 million,
or $7.5 million net of income tax benefit.
Unaudited results of operations of the Company adjusted to give effect
to SFAS 142 as if it were adopted on December 31, 2000 follows (in thousands,
except per share amounts):
<Table>
<Caption>
THREE MONTHS ENDED
-----------------------------
MARCH 30, MARCH 31,
2002 2001
----------- -----------
(UNAUDITED) (UNAUDITED)
Net income (loss), as reported .................................. $ 8,473 $ (8,777)
Add back: amortization, net of income tax benefit ............... -- 1,816
-------- --------
Net income (loss), as adjusted ........................... $ 8,473 $ (6,961)
======== ========
Basic and diluted net income (loss) per common
share, as adjusted ....................................... $ 5,643 $ (9,456)
======== ========
</Table>
(4) INVENTORIES
A summary of inventories, net of valuation allowance, follows (in
thousands):
<Table>
<Caption>
MARCH 30, DECEMBER 29,
2002 2001
----------- ------------
(Unaudited)
Raw materials ............................... $ 12,851 $ 12,312
Packaging materials ......................... 14,016 16,139
Finished goods .............................. 27,040 26,390
-------- --------
Total ................................ $ 53,907 $ 54,841
======== ========
</Table>
(5) LONG-TERM DEBT
In March 2002, the Company amended its senior credit facility to
provide, among other things: 1) for an increase in interest rates on all loans
to the Euro dollar rate plus 4.75%, or the prime rate plus 3.75% until maturity
in 2006, and an increase in the commitment fee rate on its revolving credit
facility to 1.00%; 2) a grant to its lenders of a lien on its material operating
cash accounts; 3) an increase in the limit on the amount of future capital
expenditures up to a total of $25.0 million for 2002 and $7.0 million for the
first quarter of 2003; 4) a limit on other investing activities; 5) restrictions
on repayments under the sponsor facility; 6) a new minimum EBITDA covenant; and
7) for the issuance of new senior subordinated notes if the net proceeds of such
new senior subordinated notes are used to repay the loans under the senior
credit facility. In addition, the amendment provides that an Excess Leverage Fee
will accrue if the "senior leverage" ratio exceeds 3.25 to 1.00 as of March 31,
2003, at a rate equal to 2.5% of the sum of the daily average of the aggregate
unpaid principal amount of the loans from March 31, 2002 to March 31, 2003. If
6
DOANE PET CARE COMPANY AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
the fee is earned, it will be payable only from any future asset sales, and debt
and equity offerings, but in any event not later than March 31, 2005.
(6) ACCRUALS FOR RESTRUCTURING COSTS
As of December 29, 2001, the Company had $4.8 million accrued for
restructuring costs. During the first quarter of fiscal 2002, the Company made
cash payments of $0.6 million related to these restructuring charges consisting
of $0.4 million related to severance and $0.2 million related to carrying costs
on closed plants. At March 30, 2002, the Company had $4.2 million of accrued
restructuring costs of which it expects to pay $2.7 million and $1.3 million in
fiscal 2002 and 2003, respectively, and the remainder in fiscal 2004.
(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.
7
INDEPENDENT AUDITORS' REVIEW REPORT
Board of Directors
Doane Pet Care Company
We have reviewed the condensed consolidated balance sheet of Doane Pet Care
Company and Subsidiaries as of March 30, 2002, the related condensed
consolidated statements of income for the three-month periods ended March 30,
2002 and March 31, 2001, the condensed consolidated statement of stockholder's
equity and comprehensive income for the three-month period ended March 30, 2002
and the condensed consolidated statements of cash flows for the three-month
periods ended March 30, 2002 and March 31, 2001. 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 29, 2001, 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 22, 2002, 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 29, 2001 is fairly
stated, in all material respects, in relation to the consolidated balance sheet
from which it has been derived.
As discussed in Note 3 to the condensed consolidated financial statements,
effective December 30, 2001, Doane Pet Care Company and Subsidiaries adopted
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets."
/s/ KPMG LLP
Houston, Texas
April 24, 2002
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The reader is encouraged to refer to the accompanying unaudited
condensed consolidated financial statements and related notes contained
elsewhere in this quarterly report on Form 10-Q and our audited consolidated
financial statements and related notes contained in our 2001 Annual Report on
Form 10-K for the fiscal year ended December 29, 2001 ("2001 10-K").
FORWARD-LOOKING STATEMENTS
Certain of the statements set forth below and in Item 3 -- "Quantitative
and Qualitative Disclosures about Market Risk," and elsewhere in this Quarterly
Report on Form 10-Q are "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. These statements:
o address activities, events or developments that we expect,
believe, anticipate or estimate will or may occur in the
future;
o are based on certain assumptions and analyses that we have
made and we believe are reasonable; and
o are based on various risks and uncertainties, general economic
and business conditions, the business opportunities that may
be presented to and pursued by us from time to time, changes
in laws or regulations and other factors, many of which are
beyond our control.
Factors that could cause results to differ materially include without
limitation: changes in demand from major customers, changes in demand for our
products, changes in market trends, general competitive pressures from existing
and new competitors, changes in laws and regulations, adverse changes in
operating performance and adverse economic conditions. Any of these factors, or
any combination of these factors, could materially affect our future results of
operations and whether our forward-looking statements ultimately prove to be
accurate. Additional important factors that could cause our actual results to
differ materially from our expectations are disclosed under Item 1 -- "Business
- -- Risk Factors" of our 2001 10-K. These forward-looking statements are not
guarantees of our future performance, and our actual results and future
developments may differ materially from those projected in the forward-looking
statements.
CRITICAL ACCOUNTING POLICIES
Accounts Receivable Allowance. At March 30, 2002, our gross accounts
receivable were $113.2 million. We had a valuation allowance of $8.6 million at
March 30, 2002, primarily for outstanding deductions with customers. Our policy
is to estimate the allowance by applying a recovery percentage based on
historical collection experience and performing a specific identification review
of customer account balances. We may revise the allowance against accounts
receivable as we receive more information on this matter.
Inventories Valuation Allowance. At March 30, 2002, our gross
inventories were $59.8 million. We had a valuation allowance for obsolescence of
$5.9 million at March 30, 2002, primarily related to packaging inventories. Our
policy is to estimate the obsolescence reserve based on specific identification
of obsolete products or potential products to be rationalized with the estimate
taking into account both the probability and timing of rationalization. We may
revise the allowance against inventories as we receive more information on this
matter.
Deferred Tax Assets. At March 30, 2002, our gross deferred tax assets
totaled $27.2 million, of which $12.0 million related to the deferred tax
benefit associated with our federal net operating loss carryforwards of $34.4
million that are available to offset future taxable income through 2021.
Realization of the deferred tax assets is dependent upon our ability to generate
sufficient taxable income prior to the expiration of the federal net operating
loss carryforwards. Our results of operations reflect net losses in fiscal 2000
and 2001, which are primarily due to non-recurring and Project Focus
implementation expenses. Although realization is not assured, we believe that it
is more likely than not that the deferred tax assets will be realized.
9
Goodwill and Other Intangible Assets. At March 30, 2002, our net
goodwill and other intangible assets totaled $346.0 million. Our policy is to
test the fair value of goodwill and other intangible assets for impairment in
accordance with Statement on Financial Accounting Standards No. 142, Goodwill
and Other Intangible Assets ("SFAS 142"), which became effective for us as of
the beginning of fiscal 2002. See "Recently Issued Accounting Pronouncement."
RESULTS OF OPERATIONS
Our results of operations reflect the reclassification of volume-based
rebates and certain sales incentives as a reduction in net sales, and free-goods
promotions as an increase in cost of goods sold with the offset being a decrease
in promotion and distribution expense. Results for the first quarter of fiscal
2001 have been reclassified, as discussed in our 2001 10-K. See Note 2 --
"Promotional Accounting Reclassification" to our accompanying unaudited
condensed consolidated financial statements included herein.
The following discussion is based on our accompanying unaudited
condensed consolidated financial statements and notes thereto included herein
(table in thousands, except percentages):
<Table>
<Caption>
THREE MONTHS ENDED
--------------------------------------------------
MARCH 30, 2002 MARCH 31, 2001
-------------------- ---------------------
Net sales ............................................. $ 220,106 100.0% $ 250,764 100.0%
Cost of goods sold .................................... 169,192 76.9 219,017 87.3
---------- ----- ---------- -----
Gross profit ................................. 50,914 23.1 31,747 12.7
Operating expenses:
Promotion and distribution ....................... 13,589 6.1 15,750 6.3
Selling, general and administrative .............. 11,070 5.0 13,185 5.3
Amortization of intangibles ...................... 832 0.4 3,452 1.4
---------- ----- ---------- -----
Income (loss) from operations ................ 25,423 11.6 (640) (0.3)
Interest expense, net ................................. 13,307 6.0 14,335 5.6
Other income, net ..................................... (168) -- (177) --
---------- ----- ---------- -----
Income (loss) before income taxes ............ 12,284 5.6 (14,798) (5.9)
Income tax expense (benefit) .......................... 3,811 1.8 (6,021) (2.4)
---------- ----- ---------- -----
Net income (loss) ............................ $ 8,473 3.8% $ (8,777) (3.5)%
========== ===== ========== =====
</Table>
THREE MONTHS ENDED MARCH 30, 2002 COMPARED TO THREE MONTHS ENDED MARCH 31, 2001
Net sales. Our net sales in the first quarter of 2002 decreased 12.2%
to $220.1 million from $250.8 million in the comparable 2001 period primarily
due to the impact of the divestitures of the Deep Run and Perham businesses and
lower global sales volumes related to Project Focus implementation.
Gross profit. Our gross profit in the first quarter of 2002 increased
$19.2 million to $50.9 million from $31.7 million in the comparable 2001 period
primarily due to the favorable 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 $6.8 million reduction in our cost of
goods sold in the first quarter of 2002 compared to a $7.8 million increase in
our cost of goods sold in the same 2001 period, which accounts for $14.6 million
of the $19.2 million increase. Excluding the impact of SFAS 133, gross profit
increased to $44.1 million, or 20.1% of net sales, from $39.5 million, or 15.8%
of net sales. This improvement is due to significantly lower natural gas prices,
lower ingredient costs and lower operating costs as a result of the closure of
certain inefficient manufacturing facilities in fiscal 2001, as well as
efficiencies achieved at our remaining plants in both fiscal 2001 and 2002.
In addition, the improvement is partially due to the impact of the divestitures
of the Deep Run and Perham businesses.
10
Promotion and distribution. Promotion and distribution expense for the
first quarter of 2002 decreased 13.7% to $13.6 million from $15.8 million in the
comparable 2001 period primarily due to the reduction in sales volumes.
Selling, general and administrative. Selling, general and
administrative expense for the first quarter of 2002 decreased 16.0% to $11.1
million from $13.2 million in the comparable 2001 period primarily due to lower
costs from restructuring and other cost saving initiatives achieved in fiscal
2001.
Amortization of intangibles. Amortization expense for the first quarter
of 2002 decreased 75.9% to $0.8 million from $3.5 million in the comparable 2001
period primarily due to goodwill and other intangible assets no longer being
amortized. See "Recently Issued Accounting Pronouncement."
Interest expense, net. Interest expense, net of interest income, for
the first quarter of 2002 decreased 7.2% to $13.3 million from $14.3 million in
the comparable 2001 period due to lower interest rates associated with our
floating rate debt.
Income tax expense (benefit). We recognized income tax expense of $3.8
million for the first quarter of 2002 and an income tax benefit of $6.0 million
in the comparable 2001 period. Our effective tax rate is different from the
combined U.S. federal and state statutory rate of 38.9% primarily due to the
difference between U.S. and foreign effective tax rates. In addition, our
effective tax rate in the first quarter of 2001 was impacted by certain goodwill
amortization that was not deductible for income tax purposes.
LIQUIDITY AND CAPITAL RESOURCES
We have historically funded our operations, capital expenditures and
working capital requirements with cash flows from operations, bank borrowings
and industrial development revenue bonds. We had working capital of $31.8
million at March 30, 2002.
Cash Flows. Net cash provided by our operating activities was $39.8
million in the first quarter of 2002 compared to net cash used in our operating
activities of $19.1 million in the 2001 period. This increase was primarily due
to the increase in our income before income taxes, depreciation and
amortization, lower deposit amounts in our commodity margin accounts and an
increase in accounts payable in the first quarter of 2002 compared to a decrease
in accounts payable in the 2001 period. The increase in accounts payable in 2002
was partially due to the classification of outstanding checks as an increase in
accounts payable at the end of the first quarter of 2002 due to our net negative
cash position and as a reduction in cash and cash equivalents at the end of
fiscal 2001 due to our net positive cash position. In addition, the change is
the result of unusually high trade accounts payable at the end of fiscal 2000
compared to lower than normal trade accounts payable at the end of fiscal 2001.
Net cash used in our investing activities was $2.2 million in the first
quarter of 2002 compared to $3.7 million in the 2001 period. This decrease is
primarily associated with reduced expenditures for capital and other
investments.
Net cash used in our financing activities was approximately $36.2
million in the first quarter of 2002 compared to net cash provided by our
financing activities of $26.0 million in the 2001 period. See "Note 5 -
Long-Term Debt" to our accompanying unaudited condensed consolidated financial
statements included herein. This increase was primarily attributable to using
cash provided by operating activities to reduce our revolving credit borrowings.
Debt. We are highly leveraged and have significant cash requirements
for debt service relating to our senior credit facility, senior subordinated
notes, industrial development revenue bonds and foreign debt. Our ability to
borrow is limited by our senior credit facility and the limitations on the
incurrence of additional indebtedness in the indenture governing our senior
subordinated notes. We anticipate that our operating cash flows, together with
amounts available to us under our senior credit facility, will be
11
sufficient to finance working capital requirements, debt service requirements
and capital expenditures in fiscal 2002.
Our senior credit facility provides for total commitments of Euro 75.4
million for a Euro term loan facility and $361.0 million, consisting of the
$286.0 million USD term loan facility and a $75.0 million revolving credit
facility with a $20.0 million sub-limit for issuance of letters of credit. The
commitments under the revolving credit facility are reduced to $60.0 million
until certain financial performance tests are achieved. Such tests were not met
in fiscal 2001 and we do not believe they will be met in fiscal 2002. As of
March 30, 2002, borrowings under the revolving credit facility were $9.0 million
including $2.6 million letters of credit resulting in $48.4 million available
borrowings.
The Euro term loan facility bore interest at 7.65%, the USD term loan
facility bore interest at 8.91% and the revolving credit facility bore interest
at 8.66% at December 29, 2001. Effective March 25, 2002, all loans bear interest
at the Euro dollar rate plus 4.75%, or the prime rate plus 3.75% until maturity
in 2006. The principal amounts due under the Euro term loan facility are as
follows: (i) approximately Euro 8.7 million in the years 2002 and 2003; (ii)
approximately Euro 11.0 million in the year 2004; and (iii) approximately Euro
47.0 million in the year 2005. The USD term loan facility consists of three
tranches with terms between five and one-half years and six and one-half years,
unless terminated sooner upon an event of default. The principal amounts due
under the USD term loan facility are as follows: (i) approximately $15.0 million
in the years 2002, 2003 and 2004; (ii) approximately $162.0 million in the year
2005; and (iii) approximately $79.1 million in the year 2006. The revolving
credit facility has an initial term of six and one-half years.
In March 2002, we amended the senior credit facility to provide, among
other things: 1) for an increase in interest rates described above and an
increase in the commitment fee rate on our revolving credit facility to 1.00%;
2) a grant to our lenders of a lien on our material operating cash accounts; 3)
an increase in the limit on the amount of future capital expenditures up to a
total of $25.0 million for 2002 and $7.0 million for the first quarter of 2003;
4) a limit on other investing activities; 5) restrictions on repayments under
the sponsor facility; 6) a new minimum EBITDA covenant; and 7) for the issuance
of new senior subordinated notes if the net proceeds of such new senior
subordinated notes are used to repay the loans under the senior credit facility.
In addition, the amendment provides that an excess leverage fee will accrue if
the "senior leverage" ratio exceeds 3.25 to 1.00 as of March 31, 2003, at a rate
equal to 2.5% of the sum of the daily average of the aggregate unpaid principal
amount of the loans from March 31, 2002 to March 31, 2003. If the fee is earned,
it will be payable only from any future asset sales, and debt and equity
offerings, but in any event not later than March 31, 2005.
The amendments to our senior credit facility in 2001 and 2002 also
waived certain financial covenant requirements for the years ended December 30,
2000, and December 29, 2001 and reduced the financial covenant requirements
through March 31, 2003. Without such waivers, we would not have been in
compliance with the waived covenants at December 30, 2000 or December 29, 2001.
We believe the credit availability under our senior credit facility
will provide us with the necessary liquidity for operational and investment
requirements in the current operating environment. We also believe the capital
expenditures permitted under the senior credit facility are sufficient to
provide us with the necessary flexibility to spend required maintenance capital
and meet customer requirements for fiscal 2002.
Capitalization. During fiscal 2002, our goal is to improve our ability
to comply with the covenants in our credit agreements and ultimately reduce
our leverage. We are exploring several alternatives to achieve this goal, either
alone or in some combination. Some of these alternatives include raising
additional equity capital, restructuring our senior credit facility, strategic
acquisitions, sales of non-strategic assets and issuing longer term debt
securities. We cannot assure you that we will be able to achieve these goals.
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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.
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 U.S.
government farm support programs, changes in international agricultural trading
policies, impacts of disease outbreaks on protein sources and the potential
effect on supply and demand, as well as weather conditions during the growing
and related 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 purchases from our customers.
In fiscal 2001, we implemented a price increase consistent with recent
industry announcements, which covered non-commodity inflationary increases.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENT
In July 2001, the Financial Accounting Standards Board issued Statement
on Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets
("SFAS 142"), which became effective for us as of the beginning of fiscal 2002.
SFAS 142 requires that goodwill and other intangible assets with indefinite
lives no longer be amortized. SFAS 142 further requires that 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. For
intangible assets identified with an indefinite life, we are required to test
the intangible asset for impairment in accordance with SFAS 142 within the first
six months of fiscal 2002. Any impairment loss will be measured as of the date
of adoption and recognized as the cumulative effect of a change in accounting
principle as of the beginning of fiscal 2002. In the first quarter of fiscal
2002, we reassessed the useful lives and residual values of all intangible
assets acquired in purchase business combinations, which resulted in no impact
on our accompanying unaudited condensed consolidated financial statements. The
impact of impairment, if any, on our identifiable intangible assets with
indefinite lives has not yet been determined. We are currently performing the
first step of the impairment test, which is to assess whether there is an
indication of impairment under SFAS 142, and expect to complete this initial
assessment by the end of the second quarter of fiscal 2002. The adoption of SFAS
142 results in the elimination of annual amortization expense related to
goodwill and other intangible assets of approximately $10.0 million, or $7.5
million net of income tax benefit.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks, which may give rise to losses from
adverse changes in market prices and rates. Our market risks could arise from
changes in commodity prices, interest rates and foreign currency exchange rates.
Commodity price risk. We manage our commodity price risk associated
with market fluctuations by using derivative instruments for portions of our
corn, soybean meal, alternative proteins and natural gas purchases, principally
through exchange traded futures and options contracts. The terms of such
contracts are generally less than one year. During the term of a contract, we
balance positions daily with cash payments to or from the exchanges. At the
termination of a contract, we have the ability to settle financially or by
exchange for the physical commodity, in which case, we would deliver the
contract against the acquisition of the physical commodity. Our policy does not
permit speculative commodity trading. At March 30, 2002, we had open commodity
contracts with a fair value loss of $1.4 million.
Based upon an analysis we completed as of March 30, 2002 in which we
utilized our actual derivative contractual volumes and assumed a 5% adverse
movement in commodity prices, we determined the potential decrease in the fair
value of our commodity derivative instruments would be approximately $3.0
million, or $1.8 million net of deferred tax benefit.
Interest rate risk. We are exposed to market risk related to changes in
interest rates. We periodically use interest rate swap and cap contracts to
limit our exposure to the interest rate risk associated with our floating rate
debt, which totaled $355.0 million at March 30, 2002. Of that amount, $115.0
million of our floating rate debt was hedged by interest rate swap contracts and
$50.0 million was hedged by an interest rate cap contract. 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. Amounts received or paid under interest rate swap contracts and gains
and losses on interest rate cap contracts are recorded as interest income
(expense) in the accompanying unaudited condensed consolidated financial
statements included herein. 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. At March
30, 2002, we had a cumulative deferred loss on our interest rate swap contracts
of $3.2 million, or $2.0 million net of cumulative deferred tax benefit.
Accordingly, our net income is affected by changes in interest rates.
Assuming a 100 basis point increase in interest rates on our current floating
rate debt and interest rate swap and cap contracts, our income would
decrease by approximately $0.5 million, or $0.3 million net of income tax
benefit, for the first quarter of fiscal 2002. In addition, such a change would
result in a decrease of approximately $7.5 million in the fair value of our
fixed rate debt at March 30, 2002. In the event of an adverse change in interest
rates, we could take action to mitigate our exposure; however, due to the
uncertainty of these potential actions and their possible effects, our analysis
assumes no such actions. Furthermore, our analysis does not consider the effect
of any changes in the level of overall economic activity that may exist in such
an environment.
Foreign currency exchange risk. Our financial position and results of
operations are affected by foreign currency exchange rate fluctuations. We
currently have European operations that sell pet food products throughout
Europe. 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 March 30, 2002, the cumulative
translation adjustment for the net investment in our foreign operations was a
net loss of $5.8 million, which includes an unrealized cumulative gain of $2.0
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 in 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 changes in the market values of the hedged items 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 March 30, 2002, we had a cumulative deferred gain
on foreign currency forward contracts of $0.6 million, or $0.4 million net of
cumulative deferred tax expense.
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At March 30, 2002, we had open foreign currency forward contracts that mature
within the next 12 months with a notional value of $3.5 million and a fair value
loss of $0.4 million.
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibit is filed as part of this report:
EXHIBIT
NUMBER DESCRIPTION
10.1 -- Amendment No. 2 to Amended and Restated Credit Agreement dated
as of March 22, 2002 among Doane Pet Care Company, as
borrower, JPMorgan Chase Bank, as administrative agent,
Wachovia Bank N.A., as co-agent, J.P. Morgan Securities Inc.,
as lead arranger, Wachovia Bank N.A. and Danske Bank A/S, as
co-arrangers, and the banks named therein (incorporated by
reference to Exhibit 10.15 to the 2001 Form 10-K)
(b) 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
By: /s/ PHILIP K. WOODLIEF
------------------------------------------
Philip K. Woodlief
Vice President, Finance and
Chief Financial Officer
By: /s/ STEPHEN P. HAVALA
------------------------------------------
Stephen P. Havala
Corporate Controller and
Principal Accounting Officer
Date: May 7, 2002
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