FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For Quarter Ended June 28, 2003
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 1-5325
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Huffy Corporation
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(Exact name of registrant as specified in its charter)
Ohio 31-0326270
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
225 Byers Road, Miamisburg, Ohio 45342
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(Address of principal executive offices) (Zip Code)
(937) 866-6251
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(Registrant's telephone number, including area code)
No Change
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(Former name, former address and former fiscal year, if changed since last
report)
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
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APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant has filed all documents
and reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes X No
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Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Act).
Yes X No
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APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Outstanding Shares: 15,613,047 as of July 31, 2003
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PART I - FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS:
HUFFY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(Dollar Amounts in Thousands, Except Per Share Data)
(Unaudited)
Three Months Ended Six Months Ended
---------------------------- ----------------------------
June 28, June 29, June 28, June 29,
2003 2002 2003 2002
----------- ----------- ----------- -----------
Product sales $ 92,093 $ 67,581 $ 167,468 $ 124,024
Services to retailers 25,389 25,832 44,640 39,774
----------- ----------- ----------- -----------
Net sales 117,482 93,413 212,108 163,798
Product cost of sales 70,239 53,085 128,935 96,974
Services to retailers cost of sales 21,891 23,297 37,935 37,792
----------- ----------- ----------- -----------
Cost of sales 92,130 76,382 166,870 134,766
----------- ----------- ----------- -----------
Gross profit 25,352 17,031 45,238 29,032
Selling, general and administrative expenses 21,632 13,847 41,930 24,375
----------- ----------- ----------- -----------
Operating income 3,720 3,184 3,308 4,657
Other expense, net
Interest expense 1,281 319 2,392 621
Other expense 174 762 340 966
----------- ----------- ----------- -----------
Earnings before income taxes and discontinued operations 2,265 2,103 576 3,070
Income tax expense 452 828 115 1,171
----------- ----------- ----------- -----------
Earnings from continuing operations 1,813 1,275 461 1,899
Discontinued operations:
Income from discontinued operations, net of income
taxes of $587 958 - 958 -
----------- ----------- ----------- -----------
Net earnings $ 2,771 $ 1,275 $ 1,419 $ 1,899
=========== =========== =========== ===========
Earnings per common share:
Basic:
Weighted average number of common shares 15,013,904 10,429,836 14,846,860 10,409,129
Earnings from continuing operations $ 0.12 $ 0.12 $ 0.03 $ 0.18
Earnings from discontinued operations 0.06 - 0.06 -
----------- ----------- ----------- -----------
Net earnings per common share $ 0.18 $ 0.12 $ 0.09 $ 0.18
=========== =========== =========== ===========
Diluted:
Weighted average number of common shares 15,111,990 10,736,459 14,944,946 10,715,752
Earnings from continuing operations $ 0.12 $ 0.12 $ 0.03 $ 0.18
Earnings from discontinued operations 0.06 - 0.06 -
----------- ----------- ----------- -----------
Net earnings per common share $ 0.18 $ 0.12 $ 0.09 $ 0.18
=========== =========== =========== ===========
See accompanying notes to condensed consolidated financial statements.
HUFFY CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollar Amounts in Thousands)
(Unaudited)
June 28, December 31,
2003 2002
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ASSETS
Current assets:
Cash and cash equivalents $ 594 $ 5,419
Accounts and notes receivables, net 94,588 92,850
Inventories, net 48,102 41,847
Prepaid expenses and deferred income taxes 23,021 20,982
Net assets held for sale 5,480 5,480
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Total current assets 171,785 166,578
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Property, plant and equipment, at cost 44,639 41,331
Less: Accumulated depreciation and amortization 32,425 30,191
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Net property, plant and equipment 12,214 11,140
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Excess of cost over net assets acquired, net 27,418 26,663
Intangible assets, net 47,814 48,112
Other assets, net 31,816 29,708
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Total assets $ 291,047 $ 282,201
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable $ 59,851 $ 54,069
Current installments of long-term obligations 5,437 5,258
Accounts payable 57,982 65,519
Accrued expenses and other current liabilities 27,957 37,059
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Total current liabilities 151,227 161,905
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Long-term obligations, less current installments 15,715 317
Pension liabilities 28,677 31,934
Other long-term liabilities 15,492 16,298
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Total liabilities 211,111 210,454
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Shareholders' equity:
Common stock 22,129 21,153
Additional paid-in capital 101,020 95,267
Retained earnings 75,188 73,769
Unearned stock compensation (67) (18)
Accumulated other comprehensive loss (28,461) (28,551)
Treasury shares, at cost (89,873) (89,873)
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Total shareholders' equity 79,936 71,747
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Total liabilities and shareholders' equity $ 291,047 $ 282,201
========= =========
HUFFY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollar Amounts In Thousands)
(Unaudited)
Six Months Ended
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June 28, 2003 June 29, 2002
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 1,419 $ 1,899
Adjustments to reconcile net earnings to net cash provided by (used in)
operating activities:
Depreciation and amortization 2,562 1,818
Gain on sale of property, plant and equipment - (2)
Deferred income taxes 1,116 858
Changes in assets and liabilities:
Accounts and notes receivable, net (1,738) 4,260
Inventories (6,255) (13,728)
Prepaid expenses and income taxes (2,039) (1,331)
Other assets (3,254) (543)
Accounts payable (7,537) 23,837
Accrued expenses and other current liabilities (9,102) (2,562)
Other long-term liabilities 2,288 954
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Net cash (used in) provided by operating activities (22,540) 15,460
====================================================================================================
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (3,308) (1,432)
Acquisition of businesses (755) (4,900)
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Net cash used in investing activities (4,063) (6,332)
====================================================================================================
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase in notes payable 5,782 -
Issuance of long-term debt 15,915 -
Reduction of long-term debt (338) -
Issuance of common shares 419 586
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Net cash provided by financing activities 21,778 586
====================================================================================================
Net change in cash and cash equivalents (4,825) 9,714
Cash and cash equivalents:
Beginning of the year 5,419 26,541
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End of the period $ 594 $ 36,255
====================================================================================================
Cash paid (refunded) during the period for:
Interest $ 2,990 $ 440
Income Taxes 563 (261)
Supplemental disclosures of non-cash transactions :
Issuance of common stock to pension plan $ 6,309 -
====================================================================================================
See accompanying notes to condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
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(IN THOUSANDS, EXCEPT FOR SHARE DATA)
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(Unaudited)
NOTE 1. FINANCIAL STATEMENT PRESENTATION
BASIS OF PRESENTATION - The accompanying unaudited condensed consolidated
financial statements ("Financial Statements") include the accounts of the
Company and all of its subsidiaries. All inter-company transactions and balances
have been eliminated. The condensed consolidated financial statements have been
prepared in accordance with the rules and regulations of the Securities and
Exchange Commission ("SEC") including the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, certain information and footnote disclosures
normally included in financial statements prepared in accordance with accounting
principles generally accepted in the United States of America have been omitted.
For further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's Annual Report on Form 10-K as of and
for the year ended December 31, 2002. Except as disclosed herein, there has been
no material change in the information disclosed in the notes to the Consolidated
Financial Statements included in the Company's Annual Report on Form 10-K as of
and for the year ended December 31, 2002. In the opinion of management, the
accompanying Financial Statements include all adjustments considered necessary
to present fairly, when read in conjunction with the Company's Annual Report on
Form 10-K as of and for the year ended December 31, 2002, the financial position
as of June 28, 2003, and the results of operations and cash flows for the
quarter and six months ended June 28, 2003 and June 29, 2002. The results for
these interim periods are not necessarily indicative of the results to be
expected for the full year.
The results of operations and cash flows for the six months ended June 29, 2002,
do not include the results of Gen-X Sports, Inc., as the date of the acquisition
was September 19, 2002. The McCalla Company was acquired on March 27, 2002, and
is included in 2002 results of operations and cash flows from the date of
acquisition.
USE OF ESTIMATES - The preparation of the condensed consolidated financial
statements requires management of the Company to make a number of estimates and
assumptions related to the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the condensed
consolidated financial statements, and the reported amounts of revenues and
expenses during the period. Significant items subject to such estimates and
assumptions include the carrying value of property and equipment; valuation of
allowances for accounts receivable, inventory, and deferred tax assets; certain
liabilities and assets and obligations related to employee benefits. Actual
results could differ from those estimates.
FREIGHT- The Company classifies outbound freight expense to customers as an
adjustment to product sales revenue on the accompanying consolidated statements
of operations. For the three months ended June 28, 2003 and June 29, 2002,
freight expense was $1,017 and $440, respectively. For the six months ended June
28, 2003 and June 29, 2002, freight expense was $2,149 and $1,165, respectively.
NOTE 2. INVENTORIES
The components of inventories are as follows:
JUNE 28, DECEMBER 31,
2003 2002
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Finished goods $41,891 $36,104
Work-in-progress 147 147
Raw materials and supplies 6,064 5,596
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$48,102 $41,847
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NOTE 3. ACQUISITIONS
On September 19, 2002, the Company acquired all of the stock of Gen-X Sports
Inc. and Gen-X Sports, Inc. and their subsidiaries in exchange for $19,001 in
cash and the issuance of 4,161,241 shares of Huffy Corporation's common shares
to the stockholders of both Gen-X companies. The $7.687 per share value of the
common shares issued was determined based upon the average market price of Huffy
Corporation's common shares over the two day period before and after the terms
of the acquisition were agreed to and announced. If there are no material
breaches of representations and warranties, up to 193,549 additional common
shares may be issued to the Gen-X shareholders on or after the first annual
anniversary date. Gen-X did not meet certain financial performance objectives in
2002, which would have resulted in the issuance of up to 645,161 additional
common shares. In addition, the acquired Gen-X companies, immediately upon
acquisition, redeemed $4,970 of preferred stock at face value and refinanced
their existing bank debt. Included in the assets acquired are trademarks,
patents and licensing agreements recorded at their fair values of $45,800,
$1,285 and $940, respectively, as well as goodwill in the amount of $12,861. The
fair values for these assets, excluding goodwill, were determined by an
independent third-party appraiser. Gen-X is a designer, marketer and distributor
of branded sports equipment, including action sports products, winter sports
products and golf products, and is a purchaser and reseller of excess sporting
goods and athletic footwear inventories and special opportunity purchases.
The table below presents unaudited pro forma condensed combining statements of
operations from the Company and Gen-X Sports, Inc. for the three and six months
ended June 29, 2002. The unaudited pro forma condensed combining statements of
operations are presented as if the merger had occurred on January 1, 2002.
Huffy Corporation, Gen-X Sports Inc. and Gen-X Sports, Inc.
Summary Unaudited Pro Forma Condensed Combining Statement of Operations
(Dollar amounts in thousands, except per share data)
PRO FORMA
JUNE 29, 2002
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THREE MONTHS ENDED SIX MONTHS ENDED
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HUFFY PRO FORMA HUFFY PRO FORMA
CORPORATION COMBINED CORPORATION COMBINED
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Net sales $ 93,413 $ 130,232 $ 163,798 $ 227,016
Earnings (loss) from continuing operations 1,275 4,084 1,899 4,052
Earnings (loss) from continuing operations
Per common share
Basic $ 0.12 $ 0.26 $ 0.18 $ 0.26
Diluted $ 0.12 $ 0.26 $ 0.18 $ 0.26
Shares used in calculation of earnings per share
Basic 10,429,836 15,430,000 10,409,129 15,409,000
Diluted 10,736,459 15,736,000 10,715,752 15,716,000
During the first six months of 2003, goodwill was increased $757 for additional
legal costs and other professional fees associated with the acquisition. Gen-X
patents and trademarks increased during the first six months of 2003 by $28 for
costs associated with securing new patents and trademarks.
On March 27, 2002, the Company acquired 100% of the common stock of McCalla
Company and its subsidiaries. The aggregate purchase price was $5,400 and was
paid in cash. Of the total purchase consideration, $4,876 was allocated to
goodwill and $300 to a covenant not to compete. In the third quarter of 2002,
goodwill was increased by $87 for additional fees associated with the
acquisition. During the fourth quarter of 2002, goodwill was increased $1,645 to
record a contingent purchase price payment owed at December 31, 2002 to the
former owners of McCalla Company. The $1,645 contingent purchase price payment
was paid to the sellers in April 2003 and was treated as contingent purchase
price in accordance with EITF 95-8, "Accounting for Contingent Consideration
Paid to the Shareholders of an Acquired Enterprise in a Purchase Business
Combination."
NOTE 4. GOODWILL AND INTANGIBLE ASSETS
The Company has the following intangible assets as of June 28, 2003 and December
31, 2002:
JUNE 28, 2003 DECEMBER 31, 2002
------------------------ ------------------------
GROSS GROSS
CARRYING ACCUMULATED CARRYING ACCUMULATED
AMOUNT AMORTIZATION AMOUNT AMORTIZATION
-------- ----------- -------- -----------
Assets subject to amortization:
Gen-X patents $ 1,301 $ 136 $ 1,285 $ 49
Gen-X license agreements 940 330 940 119
McCalla covenant not to compete 300 75 300 45
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Total assets subject to amoritzation: $ 2,541 $ 541 $ 2,525 $ 213
======= ======= ======= =======
Assets not subject to amortization:
Trademarks at Gen-X $45,814 $ - $45,800 $ -
Goodwill recorded in connection with the
Gen-X acquisition 12,861 - 12,104 -
Goodwill in the Huffy Bicycle business unit 8,824 2,380 8,824 2,380
Goodwill in Huffy Sports business unit 1,973 569 1,973 569
Goodwill recorded in connection with the
McCalla acquisition 6,519 - 6,521 -
Goodwill in Huffy Service First business unit 478 288 478 288
------- ------- ------- -------
Total assets not subject to amortization $76,469 $ 3,237 $75,700 $ 3,237
======= ======= ======= =======
Prior to the adoption of SFAS No. 142, the Company amortized the excess of cost
over net assets acquired on a straight-line basis over fifteen to forty years.
Changes in the carrying value of intangible assets for the six months ended June
28, 2003, are as follows:
DECEMBER 31, JUNE 28,
2002 2003
GROSS GROSS
CARRYING CARRYING
AMOUNT ADDITIONS ADJUSTMENTS AMOUNT
------ --------- ----------- ------
Assets subject to amortization:
Gen-X patents $ 1,285 $ 16 $ - $ 1,301
Gen-X license agreements 940 8 (8) 940
McCalla covenant not to compete 300 - - 300
------- ------- ------- -------
Total assets subject to amoritzation: $ 2,525 $ 24 $ (8) $ 2,541
======= ======= ======= =======
Assets not subject to amortization:
Trademarks at Gen-X $45,800 $ 6 $ 8 $45,814
Goodwill recorded in connection with the
Gen-X acquisition 12,104 757 - 12,861
Goodwill in the Huffy Bicycle business unit 8,824 - - 8,824
Goodwill in Huffy Sports business unit 1,973 - - 1,973
Goodwill recorded in connection with the
McCalla acquisition 6,521 - (2) 6,519
Goodwill in Huffy Service First business
unit 478 - - 478
------- ------- ------- -------
Total assets not subject to amortization $75,700 $ 763 $ 6 $76,469
======= ======= ======= =======
The Company's reporting units are tested annually during the fourth quarter for
impairment.
NOTE 5. ACCUMULATED OTHER COMPREHENSIVE LOSS
Accumulated other comprehensive loss is reported separately from retained
earnings and additional paid-in-capital in the condensed consolidated balance
sheets. Items considered to be other comprehensive income (loss) include
adjustments made for foreign currency transaction (under Statement of Financial
Accounting Standards (SFAS) No. 52), pensions (under SFAB No. 87), and
unrealized gains and losses on derivative instruments (under SFAS No. 133).
Components of accumulated other comprehensive loss consist of the following:
JUNE 28, 2003 DECEMBER 31, 2002
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Foreign currency translation adjustment $ (884) $ (913)
Derivative financial instruments (147) (208)
Pension (27,430) (27,430)
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$ (28,461) (28,551)
========= ========
Components of comprehensive income (loss) consist of the following for the six
months ended:
JUNE 28, 2003 JUNE 29, 2002
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Net earnings $ 1,419 $ 1,899
Other comprehensive income (loss):
Unrealized gain (loss) on derivative financial instruments 61 --
Foreign currency translation adjustment 29 $ 52
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Comprehensive income $ 1,509 $ 1,951
========= ========
NOTE 6. STOCK OPTION PLANS
The Company applies the principles of APB Opinion No. 25 and related
interpretations in accounting for its stock-based compensation plans.
Accordingly, no compensation cost has been recognized for its fixed stock option
plans and its stock purchase plan except for options issued below fair market
value. The compensation cost that has been charged against earnings for options
issued below fair market value and options issued to replace canceled options,
was $101 and $137 (after tax $63 and $85) for the three month periods ended June
28, 2003 and June 29, 2002, respectively and $129 and $206 (after tax $80 and
$128) for the periods ended June 28, 2003 and June 29, 2002, respectively. Had
compensation cost for the Company's stock-based compensation plans been
determined using the fair value method of accounting for stock compensation, the
Company's net earnings and earnings per share would have been reduced to the pro
forma amounts indicated below:
THREE MONTHS ENDED SIX MONTHS ENDED
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JUNE 28, 2003 JUNE 29, 2002 JUNE 28, 2003 JUNE 29, 2002
------------- ------------- ------------- -------------
Net earnings as reported $2,771 $1,275 $ 1,419 $ 1,899
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all awards,
net of related tax effect (262) (186) (524) (372)
Pro forma net earnings 2,509 1,089 895 1,527
Diluted net earnings per common share:
As reported $0.18 $0.12 $ 0.09 $ 0.18
Pro forma 0.17 0.10 0.06 0.14
The Company records compensation cost for awards with pro rata vesting ratably
over the vesting period.
NOTE 7. GUARANTEES, COMMITMENTS AND CONTINGENCIES
CLAIMS AND ALLOWANCES
The Company maintains a reserve for product liability based upon expected
settlement charges for pending claims and an estimate of unreported claims
derived from experience, volume and product sales mix. Expense for product
liability is recorded in cost of sales on the accompanying condensed
consolidated statements of operations. The Company's policy is to fully reserve
for warranty claims that have been or may be incurred on all products that have
been shipped. The reserves are calculated based on claims that have been
submitted but not settled. The calculation also considers anticipated claims
based upon historical performance. Some major retailers have chosen to manage
the warranty process in exchange for a claims allowance based on sales volume.
The portion of the reserve related to retailer claims allowances is netted
against accounts receivable while the balance of the reserve is classified as an
accrued liability on the balance sheet. Additions to the reserve are treated as
a deduction from net sales if they related to a negotiated claim allowance and
as selling, general and administrative costs if they related to a general
warranty expense.
The following is a roll-forward of the Company's claims and allowance activity
for 2003:
RETAILER CLAIMS GENERAL
ALLOWANCES WARRANTY TOTAL
---------- -------- -----
Balance December 31, 2002 $ 802 $ 143 $ 945
Additions to/deductions from reserves (28) 265 237
Settled claims (488) (268) (756)
----- ----- -----
Balance June 28, 2003 $ 286 $ 140 $ 426
===== ===== =====
The Company sold the assets of the Gerry Baby Products Company on April 27,
1997. Until July of 2002 when it expired, the Company maintained a claims made
based insurance policy covering product liability expense associated with
products manufactured while it owned Gerry Baby Products. When this policy
expired, the Company purchased new insurance that provides occurrence based
coverage on each claim that exceeds $5,000 in value.
ENVIRONMENTAL EXPENDITURES
Environmental expenditures that relate to current operations are expensed or
capitalized as appropriate. Remediation costs that relate to an existing
condition caused by past operations are accrued when it is probable that these
costs will be incurred and can be reasonably estimated.
The Company, along with others, has been designated as a potentially responsible
party (PRP) by the U.S. Environmental Protection Agency (the "EPA") with respect
to claims involving the discharge of hazardous substances into the environment
in the Baldwin Park operable unit of the San Gabriel Valley Superfund site. The
Company, along with other PRPs, the Main San Gabriel Basin Watermaster
(Watermaster), the San Gabriel Water Quality Authority (WQA), and numerous local
water districts (Water Districts), have worked with the EPA on a mutually
satisfactory remedial plan, with the end result being a joint water supply/clean
up Project Agreement which settles four different lawsuits filed by the WQA and
the Water Districts. The Project Agreement was signed on March 28, 2002 and was
approved by the court and became effective May 9, 2002. In developing its
estimate of environmental remediation costs, the Company considers, among other
things, currently available technological solutions, alternative cleanup
methods, and risk-based assessments of the contamination and, as applicable, an
estimation of its proportionate share of remediation costs. The Company may also
make use of external consultants and consider, when available, estimates by
other PRPs and governmental agencies and information regarding the financial
viability of other PRPs. Based upon information currently available, the Company
believes it is unlikely that it will incur substantial previously unanticipated
costs as a result of failure by other PRPs to satisfy their responsibilities for
remediation costs.
The Company has recorded environmental accruals that, based upon the information
available, are adequate to satisfy known remediation requirements. The total
accrual for estimated environmental remediation costs related to the Superfund
site and other potential environmental liabilities was $4,482 ($6,032 before
discounting at 6.75%) at June 28, 2003. Of that amount, the Company has a
deposit of $3,541 that is held in escrow under the terms of the settlement
agreement. Amounts in escrow will be used to fund future costs and will serve as
a long-term performance assurance pending the completion of remediation.
Management expects that the expenditures relating to costs currently accrued
will be made over a period of fourteen years.
The environmental escrow accounts are classified as current prepaid assets on
the accompanying condensed consolidated balance sheets if the funds are expected
to be expended within the next 12 months and as long-term other assets for those
funds, which are expected to be expended beyond 12 months. The current escrow
balance at June 28, 2003 was $879 and the long-term escrow balance at June 28,
2003 was $2,662. The environmental accrual is similarly classified on the
accompanying condensed consolidated balance sheet with $879 shown in accrued
liabilities and $3,603 shown in other long-term liabilities as of June 28, 2003.
LITIGATION
The Company along with numerous California water companies and other potentially
responsible parties ("PRPs") for the Baldwin Park Operable Unit of the San
Gabriel Valley Superfund have been named in fourteen civil lawsuits which allege
claims related to the contaminated groundwater in the Azusa, California area
(collectively, the "San Gabriel Cases").
The San Gabriel Cases had been stayed for a variety of reasons, including a
number of demurrers and writs taken in the Appellate Division, relating
primarily to the California Public Utilities Commission ("PUC") investigation
described below. The resulting Appellate Division decisions were reviewed by the
California Supreme Court, which ruled in February 2003. The cases have been
reactivated as a result of the California Supreme Court's decision, with the
trial level Coordination Judge holding a number of Status Conferences on all of
the cases, at which conferences issues pertaining to the three master complaints
(two of which include the Company as a defendant), preliminary demurrers to such
master complaints, case management orders and initial written discovery and a
hearing to resolve the PUC-related issues remanded by the California Supreme
Court were discussed. As noted by the matters being discussed with the Court,
the toxic tort cases are in their initial stages. Thus, it is impossible to
currently predict the outcome of any of the actions.
The Company, along with the other PRPs for the Baldwin Park Operable Unit of the
San Gabriel Valley Superfund Site (the "BPOU"), was also named in four civil
lawsuits filed by water purveyors. The water purveyor lawsuits alleged CERCLA,
property damage, nuisance, trespass and other claims related to the contaminated
groundwater in the BPOU (collectively, the "Water Entity Cases"). The Company
was named as a direct
defendant by the water purveyor in two of these cases, and was added as a third
party defendant in the two others by Aerojet General Corporation, which, in
those cases, was the only PRP sued by the water purveyors. Each of the Water
Entity Cases have been settled through the entry of the Project Agreement.
According to the terms of the Project Agreement, the Water Entity Cases have
been dismissed without prejudice. The Third Party complaints filed by Aerojet in
connection with the Water Entity Cases have also been dismissed without
prejudice subject to Aerojet filing a new suit in the event a final allocation
agreement cannot be worked out.
On March 12, 1998, the PUC commenced an investigation in response to the
allegations in the toxic tort actions that "drinking water delivered by the
water utilities caused death and personal injury to customers." The PUC's
inquiry addressed two broad issues central to these allegations: 1) "whether
current water quality regulation adequately protects the public health;" and 2)
"whether respondent utilities are (and for the past 25 years have been)
complying with existing drinking water regulation." On November 2, 2000, the PUC
issued its Final Opinion and Order Resolving Substantive Water Quality Issues.
Significantly, the Order finds, in pertinent part, that: 1) "existing maximum
contaminant level ("MCLs") and action level ("ALs") established by the DHS are
adequate to protect the public health;" 2) "there is a significant margin of
safety when MCLs are calculated so that the detection of carcinogenic
contaminants above MCLs that were reported in this investigation are unlikely to
pose a health risk;" 3) based upon its comprehensive review of 25 years of
utility compliance records, that for all periods when MCLs and ALs for specific
chemicals were in effect, the PUC regulated water companies complied with DHS
testing requirements and advisories, and the water served by the water utilities
was not harmful or dangerous to health; and 4) with regard to the period before
the adoption by DHS of MCLs and ALs, a further limited investigation by the PUC
Water Division will be conducted.
Based upon information presently available, such future costs are not expected
to have a material adverse effect on the Company's financial condition,
liquidity, or its ongoing results of operations. However, such costs could be
material to results of operations in a future period.
As previously reported, Huffy Corporation divested its Washington Inventory
Service subsidiary in November 2000. Subsequently, in late 2001 and mid 2002,
two class action suits were filed in California seeking damages for alleged
violations of labor practices. As a previous owner, Huffy was potentially
obligated to indemnify the subsidiary purchaser for some portion of any
liability it or such subsidiary had in the first case and had potential
liability in the latter case, both limited to the periods it owned the
subsidiary. After protracted negotiations and on advice of counsel, a settlement
was negotiated and preliminarily approved on January 28, 2003 by the Superior
Court of California, County of Los Angeles. A charge to discontinued operations
of $7,914 or $0.43 per common share was taken in the fourth quarter of 2002 to
record the Company's estimated obligation related to this matter. The settlement
was given final court approval, pending compliance with the terms of the Class
Settlement Agreement, and a Judgment of Dismissal was issued on April 7, 2003.
The Claims Administrator will issue its report as to claims made and on the
amount of payments to be made in the third quarter, 2003, not to exceed $5,200
for the Company. The Company contributed $5,121 into a court appointed escrow
account for the future payment of claims. In the second quarter of 2003, the
Company revised its estimate of claims which resulted in income from
discontinued operations for the quarter ended in June 28, 2003.
LABOR RELATIONS
Huffy Sports Company negotiated a new collective bargaining agreement in June
2003 that expires on June 19, 2005. Of the Company's total workforce 4% of the
employees are subject to the new agreement, which included a three percent (3%)
annual wage increase, improved retirement benefits, expanded healthcare network
and language enhancing the parties relationships.
NOTE 8. LINES OF CREDIT AND LONG-TERM OBLIGATIONS
In September 2002, the Company entered into an Amended and Restated Loan and
Security Agreement with Congress Financial Corporation (Central), which has
subsequently been amended. The interest rate under the revolving credit facility
varies, based upon excess availability, from the prime rate to prime rate plus
..25%, or London Interbank Offering Rate (LIBOR) plus 1.75% to LIBOR plus 2.75%.
On March 14, 2003, the Company entered into a $15,000 subordinated term note
with Ableco Finance LLC. The new note is secured by a lien on the Company's
trademarks and trade names and a subordinated position on all other assets
pledged under the Company's revolving credit facility. The loan matures on the
earlier of the maturity of the Company's revolving credit facility or five
years. Financial covenants in the loan require the Company to maintain minimum
EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization), and a
fixed charge coverage ratio.
In conjunction with the new term loan, the Company amended its credit facility
with its existing lender to incorporate the new borrowing into the agreement.
Financial covenants identical to the term loan were added to the revolving
credit facility. In addition, changes were made in the revolving credit
facility's existing Net Worth covenant, which raised the minimum net worth
requirement to $60,000 and increases the minimum net worth requirement to
$62,500 on January 1, 2004. The revolving credit facility is secured by all
assets of the Company and its affiliates and will expire on December 31, 2004,
with a 12-month renewal option. As of June 28, 2003, the Company was in
compliance with these covenants.
From time to time, the Company has requested and received additional short-term
borrowing authority under its revolving credit facility with Congress Financial
to cover seasonal working capital. In May 2003, the Company obtained a $5,000
temporary increase on the revolving credit facility that expired in July 2003.
In July 2003, the company amended its revolving credit facility to increase the
maximum loan amount to $105,000 and to increase the revolving loan limit to
$90,000. As of June 28, 2003, the revolving credit facility had $11,688 of
borrowing capacity. Management believes that the available balance on the
amended credit facility and internally generated cash flows will be sufficient
to finance the Company's seasonal working capital and capital expenditure needs
in the coming year. The Company considers on an ongoing basis alternative
capital financing structures, including possible placements of equity securities
and other hybrid financing instruments, as well as senior and subordinated debt
arrangements.
Assets that are leased subject to capital leases include computer and office
equipment with a cost of $1,589 and accumulated depreciation of $262 at June 28,
2003.
NOTE 9. SEGMENT DATA
Huffy classifies its business into two segments, sporting goods and services to
retailers. The sporting goods segment includes Huffy companies which market
wheeled recreational products, basketballs and other balls, golf clubs and
accessories, snowboards and accessories, hockey equipment and apparel, snow skis
and accessories, in-line skates, skateboards, other action sports accessories
and the excess/opportunity inventory products. The sporting goods segment also
includes Huffy companies which manufacture and market basketball backboards. The
services to retailers segment includes; Huffy companies which assemble and
repair bicycles, assemble grills, physical fitness equipment, and furniture;
assemble and repair outdoor power equipment; and provide merchandising services
to major retailers and for a number of well-known manufacturers and/or
distributors serving the Home Center channel.
Segment performance is measured on operating profit or loss (before interest,
corporate expenses and income taxes). The accounting policies of the reportable
segments are the same as those described in the summary of significant
accounting policies in Note 1 of Notes to Consolidated Financial Statements in
the Company's Annual Report on Form 10-K for the year ended December 31, 2002.
Intercompany profit or loss is eliminated where applicable.
The information presented below is for the periods ended June 28, 2003 and June
29, 2002.
Three Months Ended Six Months Ended
--------------------------------- ---------------------------------
June 28, 2003 June 29, 2002 June 28, 2003 June 29, 2002
------------- ------------- ------------- -------------
NET SALES TO UNAFFILIATED CUSTOMERS
Sporting Goods $ 92,093 $ 67,581 $ 167,468 $ 124,024
Services to Retailers 25,389 25,832 44,640 39,774
--------- --------- --------- ---------
Total net sales $ 117,482 $ 93,413 $ 212,108 $ 163,798
========= ========= ========= =========
EARNINGS (LOSS) BEFORE TAXES
Sporting Goods $ 6,469 $ 5,986 $ 8,199 $ 12,055
Services to Retailers 1,153 (326) 1,756 (2,772)
--------- --------- --------- ---------
Total segment earnings before taxes 7,622 5,660 9,955 9,283
Corporate expenses, net (4,076) (3,238) (6,987) (5,592)
Net interest expense (1,281) (319) (2,392) (621)
--------- --------- --------- ---------
Earnings before income taxes $ 2,265 $ 2,103 $ 576 $ 3,070
========= ========= ========= =========
ASSETS
Sporting Goods $ 229,362 $ 85,524
Services to Retailers 61,685 86,049
--------- ---------
TOTAL ASSETS $ 291,047 $ 171,573
========= =========
NOTE 10. DISCONTINUED OPERATIONS
As previously reported, Huffy Corporation divested its Washington Inventory
Service subsidiary in November 2000. Subsequently, in late 2001 and mid 2002,
two class action suits were filed in California seeking damages for alleged
violations of labor practices. As a previous owner, Huffy was potentially
obligated to indemnify the subsidiary purchaser for some portion of any
liability it or such subsidiary had in the first case and had potential
liability in the latter case, both limited to the periods it owned the
subsidiary. After protracted negotiations and on advice of counsel, a settlement
was negotiated and preliminary approved on January 28, 2003 by the Superior
Court of California, County of Los Angeles. A charge to discontinued operations
of $7,914 or $0.43 per common share was taken in the fourth quarter of 2002 to
record the Company's estimated obligation related to this matter. The settlement
was given final court approval, pending compliance with the terms of the Class
Settlement Agreement, and a Judgment of Dismissal was issued on April 7, 2003.
The Claims Administrator will issue its report as to claims made and on the
amount of payments to be made in the third quarter 2003, not to exceed $5,200
for the Company. The Company contributed $5,121 into a court appointed escrow
account for the future payment of claims. In the second quarter of 2003, the
Company revised its estimate of claims which resulted in income form
discontinued operations for the quarter ended in June 28, 2003 of $2,891 before
tax, and $1,793 after tax.
In addition, during the second quarter, and based upon claims made, the Company
recorded additional reserves for product liability related to products
manufactured or sold by businesses which it previously owned. The charges
recorded during the second quarter were $1,346 before tax, and $835 after tax.
NOTE 11. RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
Effective January 1, 2002, the Company adopted SFAS No. 143, "Accounting for
Asset Retirement Obligations" ("SFAS 143"). SFAS 143 addresses the financial
accounting and reporting for legal obligations associated with the retirement of
tangible long-lived assets and the associated asset retirement costs. The
adoption of SFAS 143 did not materially affect the Company's Financial
Statements for the three months or six months ended June 28, 2003. The
cumulative effect of implementing SFAS 143 has had an immaterial effect on the
Company's financial statements taken as a whole.
The Company has adopted SFAS No. 146 "Accounting for Costs Associated with Exit
or Disposal Activities" ("SFAS 146"). SFAS 146 addresses significant issues
regarding the recognition, measurement, and reporting of costs associated with
exit or disposal activities, and nullifies Emerging Issues Task Force Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." Costs addressed by SFAS 146 include costs to terminate a
contract that is not a capital lease, costs of involuntary employee termination
benefits pursuant to a one-time benefit arrangement, costs to consolidate
facilities, and costs to relocate employees. SFAS 146 is effective for exit or
disposal activities that were initiated after December 31, 2002. SFAS 146
changes the timing of expense recognition for certain costs the Company incurs
while closing facilities or undertaking other exit or disposal activities;
however, the timing difference is not typically significant in length. Adoption
of SFAS 146 did not have a material impact on the Company's Financial Statements
for the three months or six months ended June 28, 2003.
The Company has adopted SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" ("SFAS 148"). SFAS 148 provides alternative methods
of transition for a voluntary change to the fair value method of accounting for
stock-based employee compensation as required by SFAS 123. In addition, SFAS 148
amends the disclosure requirements of SFAS 123 to require more prominent and
more frequent disclosures in financial statements about the effects of
stock-based compensation. The Company's disclosure regarding the effects of
stock-based compensation included in Note 5 is in compliance with SFAS 148.
The Company has adopted Financial Accounting Standards Board ("FASB")
Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness to Others, an
interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB
Interpretation No. 34"
("FIN 45"). FIN 45 elaborates on the disclosures to be made by a guarantor in
its interim and annual financial statements about its obligations under
guarantees issued. FIN 45 also clarifies that a guarantor is required to
recognize, at inception of a guarantee, a liability for the fair value of the
obligation undertaken. The initial recognition and measurement provisions were
applicable to guarantees issued or modified after December 31, 2002. The
adoption of FIN 45 did not have a material impact on the Company's Financial
Statements for the three months or six months ended June 28, 2003.
NOTE 12. NEW ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities, an interpretation of ARB No. 51" ("FIN 46"). FIN 46
addresses the consolidation of entities whose equity holders have either (a) not
provided sufficient equity at risk to allow the entity to finance its own
activities or (b) do not possess certain characteristics of a controlling
financial interest. FIN 46 requires the consolidation of these entities, known
as variable interest entities ("VIEs"), by the primary beneficiary of the
entity. The primary beneficiary is the entity, if any, that is subject to a
majority of the risk of loss from the VIE's activities, entitled to receive a
majority of the VIE's residual returns, or both. FIN 46 applies immediately to
variable interest in VIEs created or obtained after January 31, 2003. For
variable interests in a VIE created before February 1, 2003, FIN 46 is applied
to the VIE no later than the end of the first interim or annual reporting period
beginning after June 15, 2003 (the quarter ending September 27, 2003 for the
Company). The Interpretation requires certain disclosures in financial
statements issued after January 31, 2003, if it is reasonably possible that the
Company will consolidate or disclose information about variable interest
entities when the Interpretation becomes effective. Based on the Company's
analysis, the Company does not believe FIN 46 will have a material impact on
it's financial position, results of operations or liquidity.
On May 15, 2002, the Financial Accounting Standards Board issued Statement No.
150, Accounting for Certain Financial instruments with Characteristics of Both
Liabilities and Equity. The Statement requires issuers to classify as
liabilities (or assets in some circumstance) three classes of freestanding
financial instruments that embody obligations for the issuer.
Generally, the Statement is effective for financial instruments entered into or
modified after May 31, 2003 and is otherwise effective at the beginning of the
first interim period beginning after June 15, 2003. The Company did not enter
into any financial instruments within the scope of the Statement during June
2003. Adoption did not have an effect on the financial statements for the six
months ended June 28, 2003. The Company adopted the provisions of the Statement
on July 1, 2003.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities", which amends and clarifies
accounting for derivative instruments and hedging activities under SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities". SFAS No. 149
provides guidance relating to decisions made (a) as part of the Derivatives
Implementation Group process, (b) in connection with other FASB projects dealing
with financial instruments and (c) regarding implementation issues raised in the
application of the definition of a derivative and the characteristics of a
derivative that contains financing components. SFAS No. 149 is effective for
contracts entered into or modified and for hedging relationships designated
after June 28, 2003. The application of this Statement is not expected to have a
material impact on the company's consolidated financial statements.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THREE AND SIX MONTHS ENDED JUNE 28, 2003
COMPARED TO THE
THREE AND SIX MONTHS ENDED JUNE 29, 2002
----------------------------------------
(Dollar Amounts in Thousands, Except Share Data
THREE MONTHS ENDED
------------------
June 28, 2003 June 29, 2002 Change Percentage
------------- ------------- ------ ----------
Net sales $117,482 $ 93,413 $ 24,069 25.8%
Gross profit 25,352 17,031 8,321 48.9%
Percentage of revenues 21.6% 18.2%
SG&A expenses 21,632 13,847 7,785 56.2%
Percentage of revenues 18.4% 14.8%
SIX MONTHS ENDED
----------------
June 28, 2003 June 29, 2002 Change Percentage
------------- ------------- ------ ----------
Net sales $212,108 $163,798 $ 48,310 29.5%
Gross profit 45,238 29,032 16,206 55.8%
Percentage of revenues 21.3% 17.7%
SG&A expenses 41,930 24,375 17,555 72.0%
Percentage of revenues 19.8% 14.9%
For the second quarter of 2003, Huffy Corporation ("Huffy" or "Company") had net
earnings from continuing operations of $1,813, or $0.12 per common share
compared to net earnings for the same period in 2002 of $1,275, or $0.12 per
common share. For the six months ended June 28, 2003 net earnings from
continuing operations were $461, or $0.03 per common share, compared to $1,899,
or $0.18 per common share, in the first half of 2002. Current year results
include the earnings from Gen-X Sports Inc. acquired on September 19, 2002. The
results and earnings of the McCalla companies for the period subsequent to the
acquisition date of March 27, 2002, are included in the three and six months
results
Net Sales
Net sales in the second quarter of 2003 were $117,482, an increase of 25.8%,
compared to net sales of $93,413 for the same period in 2002. Revenue from
services to retailers fell 1.7% from $25,832 in the second quarter of 2002 to
$25,389 in the same period of 2003. Product sales rose 36.3% from $67,581 in the
second quarter of 2002 to $92,093 in the same period of 2003. This sales gain
was the result of the addition of Gen-X Sports to the Huffy portfolio. The core
Huffy business, the businesses owned by Huffy prior to the Gen-X acquisition,
suffered a decline in sales to Kmart of $7,687, reflecting not only the
bankruptcy related decrease in Kmart store count, but also a decline in sales
caused by a poor economy and this spring's unusual weather. Fortunately, much of
this sales volume loss to Kmart was offset by market share gains with other
customers in the sporting goods segment, and greater penetration in the home
improvement market by the service segment. At this time, management does not
believe that Kmart will have any further unfavorable impact on future sales
volume or margin in the short term. The Company recently learned that its bid to
retain a portion of its current business with a retailer in the home improvement
segment was not accepted. This decision is not expected to impact 2003 sales
volume, but could impact 2004 if replacement volume is not secured.
For the six months ended June 28, 2003, consolidated net sales were $212,108, an
increase of 29.5% from $163,798 in the same period last year. Revenue from
services to retailers rose 12.2% from $39,774 in the second quarter of 2002 to
$44,640 in the same period of 2003. The addition of the McCalla Companies
accounted for the majority of the increase in sales. Product sales rose 35.0%
from $124,024 in the second quarter of 2002 to $167,468 in the same period of
2003. The core Huffy business, the businesses owned by Huffy prior to the Gen-X
acquisition, suffered a decline in sales to Kmart of
$17,734, reflecting not only the bankruptcy related decrease in Kmart store
count, but also a decline in sales caused by a poor economy and this spring's
unusual weather. Fortunately, much of this sales volume loss to Kmart was offset
by market share gains with other customers in the sporting goods segment, and
greater penetration in the home improvement market by the service segment.
Gross Profit
Consolidated gross profit for the second quarter 2003 was $25,352, or 21.6% of
net sales as compared to $17,031, or 18.2% of net sales reported for the same
period in 2002, reflecting a 48.9% improvement over the prior year gross margin
when measured as a percentage of net sales. The primary reason for this very
significant improvement was the addition of Gen-X Sports Inc. and the McCalla
Company to the Huffy portfolio. In addition, 2003 margins were favorably
impacted by an improved margin structure in the service segment, where year over
year margins improved by 4.0 percentage points reflecting improved pricing and a
more efficient field cost structure.
For the first six months of 2003, gross profit was $45,238, or 21.3% of net
sales, compared to $29,032, of 17.7% of net sales, compared to the same period
in the prior year. Margins in the sporting goods segment improved primarily as a
result of adding Gen-X to the Huffy portfolio. In the services to retailer
segment, margins improved by 9.5 percentage points reflecting modest pricing
improvements, coupled with improved year over year field efficiency,
particularly in the first quarter.
Selling, General and Administrative Expenses
Selling, general and administrative expenses of $21,632, for the three months
ended June 28, 2003 were higher than the $13,847 experienced during the same
period in 2002. The primary reason for the increase in these expenses was the
selling, general and administrative expenses added as a result of the
acquisition of Gen-X Sports Inc. The Company also increased its investment in
brand development by enhancing advertising and new product promotional spending
during the second quarter of 2003. Administrative pension expense increased in
2003 by $1,141 over 2002 expense due to poor 2002 stock market performance and
declining interest rates. Insurance costs increased in 2003 by $307 over the
second quarter of 2002 due to the addition of Gen-X and a less favorable
insurance market.
Selling, general and administrative expenses for the first half of 2003 were
$41,930 versus $24,375 in the first six months of 2002. Increased pension
expenses and the added selling, general and administrative expenses associated
with the Gen-X and McCalla acquisitions were the primary reasons for the
increase. Administrative pension expense increased in 2003 by $1,931 over 2002
expense due to poor 2002 stock market performance and declining interest rates.
Insurance costs increased in 2003 by $1,255 over the second quarter of 2002 due
to the addition of Gen-X and McCalla and a less favorable insurance market.
Net Interest Expense
Net interest expense increased from $319 for the second quarter of 2002 to
$1,281 in the current year. For the six months ended June 28, 2003, net interest
expense increased from $621 in the first half of 2002 to $2,392 in 2003.
Borrowing costs to finance the acquisitions of Gen-X Sports Inc. and the McCalla
Company as well as the increased working capital needs of these subsidiaries
resulted in higher interest costs in 2003.
DISCONTINUED OPERATIONS
As previously reported, Huffy Corporation divested its Washington Inventory
Service subsidiary in November 2000. Subsequently, in late 2001 and mid 2002,
two class action suits were filed in California seeking damages for alleged
violations of labor practices. As a previous owner, Huffy was potentially
obligated to indemnify the subsidiary purchaser for some portion of any
liability it or such subsidiary had in the first case and had potential
liability in the latter case, both limited to the periods it owned the
subsidiary. After protracted negotiations and on advice of counsel, a settlement
was negotiated and preliminary approved on January 28, 2003 by the Superior
Court of California, County of Los Angeles. A charge to discontinued operations
of $7,914 or $0.43 per common share was taken in the fourth quarter of 2002 to
record the Company's estimated obligation related to this matter. The settlement
was given final court approval, pending compliance with the terms of the Class
Settlement Agreement, and a Judgment of Dismissal was issued on April 7, 2003.
The Claims Administrator will issue its report as to claims made and on the
amount of payments to be made in the third quarter 2003, not to exceed $5,200
for the Company. The Company contributed $5,121 into a court appointed escrow
account for the future payment of claims. In the second quarter of 2003, the
Company revised its estimate of claims which resulted in income form
discontinued operations for the quarter ended in June 28, 2003 of $2,891 before
tax, and $1,793 after tax.
In addition, during the second quarter, and based upon claims made, the Company
recorded additional reserves for product liability related to products
manufactured or sold by businesses which it previously owned. The charges
recorded during the second quarter were $1,346 before tax, and $835 after tax.
ACQUISITIONS
On September 19, 2002, the Company acquired all of the stock of Gen-X Sports
Inc. in exchange for $19,001 in cash and the issuance of 4,161,241 shares of
Huffy Corporation's common shares to the stockholders of both Gen-X companies.
If there are no material breaches of representations and warranties, up to
193,549 additional common shares may be issued to the Gen-X shareholders on or
after the first annual anniversary date. Gen-X did not meet certain financial
performance objectives in 2002 that would have resulted in the issuance of up to
645,161 additional common shares. In addition, the acquired companies
immediately upon acquisition redeemed $4,970 of preferred stock and refinanced
their existing bank debt. Included in the assets acquired are trademarks,
patents and licensing agreements recorded at their fair values of $45,800,
$1,285 and $940, respectively, as well as goodwill in the amount of $12,861.
Gen-X is a designer, marketer and distributor of branded sports equipment,
including action sports products, winter sports products and golf products, and
is a purchaser and reseller of excess sporting goods and athletic footwear
inventories and special opportunity purchases.
On March 27, 2002, Huffy Service First acquired the stock of McCalla Company and
its subsidiaries, Creative Retail Services, Inc. and Creative Retail Services
(Canada) Inc. ("McCalla") for $5,400, less $500 net cash acquired, subject to
certain post-closing adjustments. A contingent purchase price payment was
recorded for the McCalla acquisition of $1,645 in the fourth quarter of 2002 and
paid in April 2003. Of the total purchase price, $6,519 was recorded as goodwill
and $300 was recorded as a covenant-not-to-compete. McCalla provides
merchandising, including cycle and periodic product resets, stocking and sales
training for a number of well-known manufacturers serving Home Depot, including,
among others, Philips Lighting, Duracell, and Spectrum Brands.
LIQUIDITY AND CAPITAL RESOURCES
On March 14, 2003, the Company entered into a $15,000 subordinated term note
with Ableco Finance LLC. The new note is secured by a lien on the Company's
trademarks and trade names and a subordinated position on all other assets
pledged under the Company's revolving credit facility. The loan matures on the
earlier of the maturity of the Company's revolving credit facility or five
years. Financial covenants in the loan require the Company to maintain a minimum
EBITDA, (Earnings Before Interest, Taxes, Depreciation and Amortization) and a
fixed charge coverage ratio.
In conjunction with the new term loan, the Company amended its credit facility
with its existing lender to incorporate the new borrowing into the agreement.
Financial covenants identical to the term loan were added to the revolving
credit facility. In addition, changes were made in the revolving credit
facility's existing Net Worth covenant, which raised the minimum net worth
requirement to $60,000 and increases the minimum net worth requirement to
$62,500 on January 1, 2004. The revolving credit facility is secured by all
assets of the Company and its affiliates and will expire on December 31, 2004,
with a 12 month renewal option. As of June 28, 2003, the Company was in
compliance with these covenants.
From time to time, the Company has requested and received additional short-term
borrowing authority under its revolving credit facility with Congress Financial
to cover seasonal working capital. In May 2003, the Company obtained a $5,000
temporary increase on the revolving credit facility that expired in July 2003.
As of June 28, 2003, the Company had $11,688 of borrowing capacity on its
revolving credit facility. In July 2003, the Company amended its revolving
credit facility to increase the maximum loan amount to $105,000 and to increase
the revolving loan limit to $90,000.
Pre-bankruptcy receivables from Kmart were sold during the second quarter of
2002. The cash recovery from this transaction was consistent with previously
established reserves.
At June 28, 2003, inventory was valued at $48,102 up from $41,847 at December
31, 2002. This increase is primarily the result of remaining seasonal inventory
build up for summer sporting goods products. Accounts payable at June 28, 2003
are $57,982 as compared to $65,519 at the end of 2002. This decrease reflects
the timing and mix of purchases, as well as the purchase terms in place.
Accrued expenses and other current liabilities are $27,957 at June 28, 2003
versus $37,059 at December 31, 2002. This decrease is due primarily to the
Company's payment into escrow of the anticipated claims related to the
Washington Inventory Service litigation, as well as a reduction in the
estimated liability associated with this litigation.
As of June 28, 2003. the Company has the following contractual obligations and
outstanding borrowings that are expected to impact future liquidity and cash
flows:
Due in
-----------------------------------------------------------
Less than After
Contractual Obligations Total 1 year 1-3 years 4-5 years 5 years
------------------------------------------- ------- --------- --------- --------- -------
Long-term debt $15,000 $ - $15,000 $ - $ -
Capital leases 1,204 491 713 - -
Operating leases 20,199 10,046 5,974 3,659 520
Purchase obligations 4,384 1,369 981 809 1,225
------- ------- ------- ------- -------
Total contractual obligations $40,787 $11,906 $22,668 $ 4,468 $ 1,745
======= ======= ======= ======= =======
The Company's revolving credit facility is classified as a current liability in
the accompanying condensed consolidated balance sheets.
The Company expects cash and cash equivalents, cash flow from operations and its
revolving credit facility to be sufficient to finance seasonal working capital
needs and capital expenditures throughout the coming year. The Company considers
on an ongoing basis alternative capital financing structures, including possible
placements of equity securities and other hybrid financing instruments, as well
as senior and subordinated debt arrangements.
IMPACT OF ACCOUNTING STANDARDS NOT YET ADOPTED
See Note 12 to the accompanying notes to Condensed Consolidated Financial
Statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to short-term interest rate risks and foreign currency
exchange rate risks. In the normal course of business these risks are managed
through a variety of strategies, including the use of a derivative financial
instrument to hedge our underlying exposures. The Company does not use
derivative instruments for trading purposes.
Interest Rate Risks
Interest rate risk arises primarily from variable rate borrowings in the United
States and Canada. The Company has entered into an interest rate swap, which is
recognized on the balance sheet at fair value. The Company has determined that
the swap is effective; therefore, changes in the fair value of the swap are
recorded on a quarterly basis as an adjustment to accumulated other
comprehensive loss. The swap expires on April 4, 2004.
At June 28, 2003, a hypothetical 100 basis point increase in short-term interest
rates would result in a reduction of $257 in earnings before income taxes.
Foreign Currency Exchange Risk
All subsidiaries of the Company, except for Creative Retail Services (Canada)
Inc., use the U.S. dollar as their functional currency. A small portion of the
Company's sales, receivables, purchases and expenses are denominated in Euros,
Australian dollars and the Canadian dollar. The Company also maintains bank
accounts in Euros, Australian dollars and the Canadian dollar to facilitate
international operations. At this time, the Company's exposure to currency
exchange risk is not considered material.
ITEM 4. CONTROLS AND PROCEDURES
Quarterly evaluation of the Company's disclosure controls and internal controls
Within 90 days prior to the filing of this report, under the supervision and
with the participation of the Company's management, including the Company's
Chief Executive Officer (CEO) and Chief Financial Officer (CFO), an evaluation
of the effectiveness of the Company's disclosure controls and procedures was
performed.
Disclosure controls and internal controls
Disclosure controls are procedures that are designed with the objective of
ensuring that information required to be disclosed in our reports filed under
the Securities Exchange Act of 1934 (Exchange Act), such as this Quarterly
Report, is recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission's (SEC) rules and forms.
Disclosure controls are also designed with the objective of ensuring that such
information is accumulated and communicated to our management, including the CEO
and CFO, as appropriate to allow timely decisions regarding the required
disclosure. Internal controls are procedures which are designed with the
objective of providing reasonable assurance that (1) our transactions are
properly authorized; (2) our assets are safeguarded against unauthorized or
improper use; and (3) our transactions are properly recorded and reported, all
to permit the preparation of our financial statements in conformity with
generally accepted accounting principles.
Limitations on the effectiveness of controls
The Company's management, including the CEO and CFO, does not expect that our
disclosure controls or our internal controls will prevent all error and all
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. Further, the design of a control system must reflect the fact
that there are resource constraints, and the benefits of controls must be
considered relative to their costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that
all control issues and instances of fraud, if any, within the company have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some person, by collusion of two or more people, or by management
override of the control. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and there
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions; over time, control may become inadequate
because of changes in conditions, or the degree of compliance with the policies
or procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.
Scope of the controls evaluation
The CEO/CFO evaluation of our disclosure controls and our internal controls
included a review of the controls' objectives and design, the controls'
implementation by the Company and the effect of the controls on the information
generated for use in this Quarterly Report on Form 10-Q. In the course of the
controls evaluation, we sought to identify data errors, controls problems or
acts of fraud and to confirm that appropriate corrective action, including
process improvements, were being undertaken. This type of evaluation will be
done on a quarterly basis so that the conclusions concerning controls
effectiveness can be reported in our Quarterly Reports on Form 10-Q and Annual
Report on Form 10-K. Our internal controls are also evaluated on an ongoing
basis by Internal Audit, by other personnel in our Finance organization and by
our independent auditors in connection with their audit and review activities.
The overall goals of these various evaluation activities are to monitor our
disclosure controls and our internal controls and to make modifications as
necessary; our intent in this regard is that the disclosure controls and
internal controls will be maintained as dynamic systems that change (including
with improvements and corrections) as conditions warrant.
Among other matters, we sought in our evaluation to determine whether there were
any "significant deficiencies" or "material weaknesses" in the Company's
internal controls, or whether the Company had identified any acts of fraud
involving personnel who have a significant role in the Company's internal
controls. This information was important both for the controls evaluation
generally and because items 5 and 6 in Section 302 Certifications of the CEO and
CFO require that the CEO and CFO disclose that information to our Board's Audit
Committee and to our independent auditors and to report on related matters in
this section of the Quarterly Report on Form 10-Q. In the professional auditing
literature, "significant deficiencies" are referred to as "reportable
conditions"; these are control issues that could have a significant adverse
effect on the ability to record, process, summarize and report financial data in
the financial statements. A "material weakness" is defined in the auditing
literature as a particularly serious reportable condition where the internal
control does not reduce to a relatively low level the risk that misstatements
caused by error or fraud may occur in amounts that would be material in relation
to the financial statements and not be detected within a timely period by
employees in the normal course of performing their assigned functions. We also
sought to deal with other control matters in the controls evaluation, and in
each case if a problem was identified, we considered what revision, improvement
and/or correction to make in accord with our on-going procedures.
In accordance with SEC requirements, the CEO and CFO note that, since the date
of the controls evaluation to the date of this Quarterly Report, there have been
no significant changes in internal controls or in other factors that could
significantly affect internal controls, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Conclusions
Based upon the controls evaluation, our CEO and CFO have concluded that, subject
to the limitations noted above, our disclosure controls are effective to ensure
that material information relating to Huffy and its consolidated subsidiaries is
made known to management, including the CEO and CFO, particularly during the
period when our periodic reports are being prepared, and that our internal
controls are effective to provide
reasonable assurance that our financial statements are fairly presented in
conformity with generally accepted accounting principles.
The discussion in this quarterly report contains forward-looking statements and
is qualified by the cautionary statements in the Company's report on Form 10-K,
dated February 20, 2003.
PART II - OTHER INFORMATION
---------------------------
ITEM 1. LEGAL PROCEEDINGS
A. The Company along with numerous California water companies and other
potentially responsible parties ("PRPs") for the Baldwin Park Operable
Unit of the San Gabriel Valley Superfund (see Note 10 to the Company's
December 31, 2002 Annual Report on Form 10-K regarding the Superfund in
which a tentative remediation settlement has been reached) have been
named in fourteen civil lawsuits which allege claims related to the
contaminated groundwater in the Azusa, California area (collectively,
the "San Gabriel Cases").
The cases had been stayed for a variety of reasons, including a number
of demurrers and writs taken in the Appellate Division, relating
primarily to the California Public Utilities Commission ("PUC")
investigation described below. The resulting Appellate Division
decisions were reviewed by the California Supreme Court, which ruled in
February 2003. The cases have been reactivated as a result of the
California Supreme Court's decision, with the trial level Coordination
Judge holding a number of Status Conferences on all of the cases, at
which conferences issues pertaining to the three master complaints (two
of which will include the Company as a defendant), preliminary
demurrers to such master complaints, case management orders, initial
written discovery and a hearing to resolve the PUC-related issue
remanded by the California Supreme Court were discussed. As noted by
the matters being discussed with the Court, the toxic tort cases are in
their initial stages. Thus, it is impossible to currently predict the
outcome of any of the actions.
The Company, along with the other PRPs for the Baldwin Park Operable
Unit of the San Gabriel Valley Superfund Site (the "BPOU"), has also
been named in four civil lawsuits filed by water purveyors. The water
purveyor lawsuits allege CERCLA, property damage, nuisance, trespass
and other claims related to the contaminated groundwater in the BPOU
(collectively, the "Water Entity Cases"). The Company was named as a
direct defendant by the water purveyor in two of these cases, and was
added as a third party defendant in the two others by Aerojet General
Corporation, which, in those cases, was the only PRP sued by the water
purveyors. Each of the Water Entity Cases have been settled through the
entry of the Project Agreement. According to the terms of the Project
Agreement, the Water Entity Cases have been dismissed without
prejudice.
On March 12, 1998, the PUC commenced an investigation in response to
the allegations in the toxic tort actions that "drinking water
delivered by the water utilities caused death and personal injury to
customers." The PUC's inquiry addressed two broad issues central to
these allegations: 1) "whether current water quality regulation
adequately protects the public health;" and 2) "whether respondent
utilities are (and for the past 25 years have been) complying with
existing drinking water regulation." On November 2, 2000, the PUC
issued its Final Opinion and Order Resolving Substantive Water Quality
Issues. Significantly, the Order finds, in pertinent part, that: 1)
"existing maximum contaminant level ("MCLs") and action level ("ALs")
established by the DHS are adequate to protect the public health;" 2)
"there is a significant margin of safety when MCLs are calculated so
that the detection of carcinogenic contaminants above MCLs that were
reported in this investigation are unlikely to pose a health risk;" 3)
based upon its comprehensive review of 25 years of utility compliance
records, that for all periods when MCLs and ALs for specific chemicals
were in effect, the PUC regulated water companies complied with DHS
testing requirements and advisories, and the water served by the water
utilities was not harmful or dangerous to health; and 4) with regard to
the period before the adoption by DHS of MCLs and ALs, a further
limited investigation by the PUC Water Division will be conducted.
Based upon information presently available, such future costs are not
expected to have a material adverse effect on the Company's financial
condition, liquidity, or its ongoing results of operations. However,
such costs could be material to results of operations in a future
period.
B. As previously reported, Huffy Corporation divested its Washington
Inventory Service subsidiary in November 2000. Subsequently, in late
2001 and mid 2002, two class action suits were filed in California
seeking damages for alleged violations of labor practices. As a
previous owner, Huffy was potentially obligated to indemnify the
subsidiary purchaser for some portion of any liability it or such
subsidiary had in the first case and had potential liability in the
latter case, both limited to the periods it owned the subsidiary. After
protracted negotiations and on advice of counsel, a settlement was
negotiated and preliminarily approved on January 28, 2003 by the
Superior Court of California, County of Los Angeles. A
charge to discontinued operations of $7,914 or $0.43 per common share
was taken in the fourth quarter of 2002 to record the Company's
estimated obligation related to this matter. The settlement was given
final court approval, pending compliance with the terms of the Class
Settlement Agreement, and a Judgment of Dismissal was issued on April
7, 2003. The Claims Administrator is expected to issue its report as to
claims made and on the amount of payments to be made in the third
quarter, 2003, not to exceed $5,200 for the Company. The Company
contributed $5,121 into a court appointed escrow account for the future
payment of claims. In the second quarter of 2003, the Company revised
its estimate of claims which resulted in income from discontinued
operations for the quarter ended in June 28, 2003.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits - The exhibits, as shown in the "Index of Exhibits" attached
hereto are applicable to be filed as a part of this report.
b. The Company filed two reports on Form 8-K dated June 9, 2003 and July
15, 2003 respectively, with the Securities and Exchange Commission
regarding the Corporation's comments on a press release issued by
Daniel Gilbert and Camelot Ventures and an earnings release announcing
the financial results for the fiscal quarter ended June 28, 2003,
respectively.
Please see the Company's meaningful cautionary statements regarding forward
looking statements contained in the Company's report on Form 10-K filed with the
Securities and Exchange Commission on February 20, 2003 which is hereby
incorporated herein by reference.
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.
HUFFY CORPORATION, Registrant
August 12, 2003 /s/ Timothy G. Howard
------------------------------- ----------------------------------
Date Timothy G. Howard
Vice President - Corporate Controller
(Principal Accounting Officer)
INDEX OF EXHIBITS
Exhibit
No. Item
-------- -------------------------------------------------------------
(2) Not applicable
(3) Not applicable
(4.a) Amendment No. 6 to the Second Amended and Restated Loan and
Security Agreement, dated as of May 9, 2003, by and among
Huffy Corporation and its subsidiaries and Congress Financial
Corporation (Central).
(4.b) Amendment No. 7 to the Second Amended and Restated Loan and
Security Agreement, dated as of July 9, 2003, by and among
Huffy Corporation and its subsidiaries and Congress Financial
Corporation (Central).
(4.c) Amendment No. 8 to the Second Amended and Restated Loan and
Security Agreement, dated as of July 31, 2003, by and among
Huffy Corporation and its subsidiaries and Congress Financial
Corporation (Central).
(11) Not applicable
(15) Not applicable
(18) Not applicable
(19) Not applicable
(22) Not applicable
(23) Not applicable
(24) Not applicable
(31) Section 302 Certification
(32) Section 906 Certification