UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

Form 10-K

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

CHAMPION ENTERPRISES, INC.

(Exact name of Registrant as specified in its charter)

 

 

Registrant’s telephone number, including area code:
(248) 340-9090

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

Securities registered pursuant to Section 12(g) of the Act:

None

 

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

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ

 

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 such shorter period that the Registrant has been required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Exchange Act Rule 12b-2 of the Act).

 

 

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

 

The aggregate market value of the Common Stock held by non-affiliates of the Registrant as of July 1, 2006, based on the last sale price of $11.04 per share for the Common Stock on the New York Stock Exchange on such date, was approximately $836,904,345. As of February 22, 2007, the Registrant had 76,596,261 shares of Common Stock outstanding. For purposes of this computation, all officers and directors of the Registrant as of February 22, 2007 are assumed to be affiliates. Such determination should not be deemed an admission that such officers and directors are, in fact, affiliates of the Registrant.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

 

 

Champion Enterprises, Inc.
Form 10-K
Fiscal Year End December 30, 2006

Table of Contents

 

 

General

 

Established in 1953, Champion Enterprises, Inc. and its subsidiaries (collectively, “we,” “Champion,” or the “Company”) are a leading producer of factory-built housing in the United States and Canada. We are also a leading producer in the United Kingdom of steel-framed modular buildings for use as prisons, military accommodations, hotels and residential units. As of December 30, 2006, our North American manufacturing operations (the “manufacturing segment”) consisted of 30 homebuilding facilities in 16 states and two provinces in western Canada. As of December 30, 2006, our homes were sold through more than 3,000 independent sales centers, builders and developers across the U.S. and western Canada. As of December 30, 2006, our homes were also sold through our retail segment that operates 16 sales offices in California.

 

Factory-built housing in the United States is generally comprised of manufactured housing (also known as “HUD-code homes”) and modular homes. During the past five years, the HUD-code homes industry has been affected by limited availability of consumer financing and floor plan inventory financing, high levels of homes repossessed from consumers, tightened consumer credit standards and other factors. Industry shipments of HUD-code homes in 2006 and 2005 included an estimated 4,000 homes and 21,000 homes, respectively, that were sold to the Federal Emergency Management Agency (“FEMA”) in connection with its Hurricane Katrina relief efforts. Excluding homes sold to FEMA, annual industry shipments of HUD-code homes have averaged 126,000 homes during the last four years as compared to 373,000 homes in 1998. Industry shipments of HUD-code homes totaled 117,500 in 2006, which was the lowest industry volume since 1961. Champion’s sales of HUD-code homes in 2006 were 47% lower than in 2002. During 2006, the broader U.S. housing market became more difficult, as evidenced by a 13% decline in new housing starts and an over 8% decline in existing home sales. In addition, inventories of unsold homes increased significantly in many markets in the U.S. Industry shipments of modular homes, which are more directly impacted by conditions in the traditional housing market, totaled an estimated 38,300 homes in 2006, an estimated decrease of 11% versus 2005. Champion’s sales of modular homes in 2006, including its acquisitions, were double its modular sales in 2002.

 

Since the beginning of 2002, we have closed, sold, or consolidated 26 manufacturing facilities and all of our retail operations except for our California-based retail segment, to eliminate under-performing operations and rationalize our operations and capacity for industry conditions. During 2005, we exited traditional manufactured housing retail operations by completing the sale of our remaining 42 traditional retail sales centers. The 66 retail sales locations that were sold or closed in 2005 and 2004, along with related administrative offices, are reported as discontinued operations for all periods presented herein.

 

On April 7, 2006, we acquired United Kingdom-based Calsafe Group (Holdings) Limited and its operating subsidiary Caledonian Building Systems Limited (“Caledonian”), a leading modular manufacturer that constructs steel-framed modular buildings for use as prisons, military accommodations, hotels and residential units. Caledonian’s steel-framed modular technology allows for multi-story construction, which is a key advantage over wood-framed construction techniques. Our international manufacturing segment (the “international segment”) is comprised solely of Caledonian, which currently operates four manufacturing facilities at one location in the United Kingdom (“UK”).

 

On July 31, 2006 we acquired certain of the assets and the business of North American Housing Corp. and an affiliate (“North American”). North American is a modular homebuilder that operates two homebuilding facilities in Virginia. This acquisition expands our presence in the modular construction industry, particularly in the mid-Atlantic region of the U.S.

 

On March 31, 2006, we acquired Highland Manufacturing Company, LLC (“Highland”), a manufacturer of modular and HUD-code homes that operates one plant in Minnesota. This acquisition further expanded our presence in the modular construction industry and increased our manufacturing and distribution in several states previously under-served by us in the north central U.S.

 

On August 8, 2005, we acquired the assets and business of New Era Building Systems, Inc. and its affiliates, Castle Housing of Pennsylvania, Ltd. and Carolina Building Solutions, LLC. These companies are primarily manufacturers of modular housing and consist of two plants in Pennsylvania and one plant in North Carolina.

 

Segment Information

 

Financial information about Champion’s manufacturing, international and retail segments is included in Note 16 of “Notes to Consolidated Financial Statements” in Item 8 of this Report. All of our manufacturing segment operations are located in the United States except for two homebuilding facilities in western Canada. Our international segment is solely comprised of Caledonian’s operations in the UK. For each of the last three years, the total sales and total assets of our Canadian operations were no more than 6% of both our consolidated and manufacturing segment totals.

 

Manufacturing segment

 

Products

 

In 2006, our manufacturing segment sold 21,126 homes compared to 23,960 homes in 2005. Approximately 72.6% of the homes we produced in 2006 were constructed to building standards in accordance with the National Manufactured Home Construction and Safety Standards promulgated by the U.S. Department of Housing and Urban Development (“HUD-code homes” or “manufactured homes”). The HUD Code regulates manufactured home design and construction, strength and durability, fire resistance and energy efficiency. Approximately 79.3% of the homes we produced in 2005 were HUD-code homes. The remaining homes we produced were modular homes (22.0% in 2006 and 16.5% in 2005) or were manufactured and sold in Canada (5.4% in 2006 and 4.2% in 2005). Modular homes are designed and built to meet local building codes. Homes sold in Canada are constructed in accordance with applicable Canadian building standards.

 

Champion produces a broad range of homes under various trade names and brand names and in a variety of floor plans and price ranges. While most of the homes we build are multi-section, ranch-style homes, we also build two-story homes, single-section homes, cape cod style homes and multi-family units such as townhouses, duplexes and triplexes. The single-family homes that we manufacture generally range in size from 400 to 4,000 square feet and typically include two to four bedrooms, a living room or family room, a dining room, a kitchen and two full bathrooms. In 2006 and 2005, we also produced commercial modular structures including two-story buildings, barracks for the U.S. military and other non-residential buildings.

 

We regularly introduce homes with new floor plans, exterior elevations, decors and features. Our corporate marketing and engineering departments work with our manufacturing facilities to design homes that appeal to local markets and consumers’ changing tastes. We design and build homes with a traditional residential or site-built appearance through the use of dormers and higher pitched roofs. We also design and build energy efficient homes and most of our U.S. manufacturing facilities are qualified to produce “Energy Star^®” rated homes.

 

Champion homes have won numerous awards during the past five years. In 2006, one of our homes won the National Modular Housing Council award for “Best New Home Design for a Production Modular Home Over 1,800 Square Feet.” In 2005, one of our HUD-code concept models won the Manufactured Housing Institute (“MHI”) award for “Best New Home Design for a Concept Manufactured Home 1,800 Square Feet or Less.” Additionally, we were selected by Country Living magazine to build its Home of the Year in both 2006 and 2005.

 

During 2006, the average net selling price for our factory-built homes was $51,800, excluding delivery, and manufacturing sales prices ranged from $20,000 to over $150,000. Retail sales prices of the homes, without land, generally ranged from $25,000 to over $200,000, depending upon size, floor plan, features and options. During 2006, the average retail selling price for new homes sold to consumers by our retail segment was $184,600, including delivery, setup, accessories and lot improvements.

 

The chief components and products used in factory-built housing are generally of the same quality as those used by other housing builders, including conventional site-builders. These components include lumber, plywood, chipboard, drywall, steel, vinyl floor coverings, insulation, exterior siding (wood, vinyl and metal), windows, shingles, kitchen appliances, furnaces, plumbing and electrical fixtures and hardware. These components are

presently available from a variety of sources and we are not dependent upon any single supplier. Prices of certain materials such as lumber, insulation, steel and drywall can fluctuate significantly due to changes in demand and supply. Additionally, availability of certain materials such as drywall and insulation is sometimes limited, resulting in higher prices and/or the need to find alternative suppliers. We generally have been able to pass higher material costs on to the retailers and builders in the form of surcharges and price increases.

 

Most completed factory-built homes have cabinets, wall coverings and electrical, heating and plumbing systems. HUD-code homes also generally contain factory installed floor coverings, appliances and window treatments. Optional factory installed features include fireplaces, dormers, entertainment centers and skylights. Upon completion of the home at the factory, homes sold to retailers are transported to a retail sales center (stock orders) or directly to the home site (retail sold orders). Homes sold to builders and developers are generally transported directly to the home site. After the retail sale of a stock home to the consumer, the home is transported to the home site. At the home site, the home is placed on a foundation and readied for occupancy by setup contractors. The sections of a multi-section home are joined and the interior and exterior seams are finished at the home site. The consumer purchase of the home may also include retailer or contractor supplied items such as additional appliances, air conditioning, furniture, porches, decks and garages.

 

Production

 

We construct homes in indoor facilities using an assembly-line process employing approximately 150 to 250 production employees at each facility. Manufactured homes are constructed in one or more sections (also known as floors) on a permanently affixed steel support frame that allows the section(s) to be moved through the assembly line and transported upon sale. The sections of many of the modular homes we produce are built on wooden floor systems and transported on carriers that are removed during placement of the homes at the home site. Each section or floor is assembled in stages, beginning with the construction of the frame and the floor, then adding the walls, ceiling and roof assembly, and other constructed and purchased components, and ending with a final quality control inspection. The efficiency of the assembly-line process, protection from the weather, and favorable pricing of materials resulting from our substantial purchasing power enables us to produce homes more quickly and often at a lower cost than a conventional site-built home of similar quality.

 

The production schedules of our homebuilding facilities are based upon customer (retailer and builder/developer) orders, which can fluctuate from week to week. Orders from retailers are generally subject to cancellation at any time without penalty and are not necessarily an indication of future business. Retailers place orders for retail stocking (inventory) purposes and for homebuyer orders. Before scheduling homes for production, orders and availability of financing are confirmed with our customer and, where applicable, their floor plan lender. Orders are generally filled within 90 days of receipt, depending upon the level of unfilled orders and requested delivery dates.

 

Although factory-built homes can be produced throughout the year in indoor facilities, demand for homes is usually affected by inclement weather and by the cold winter months in northern areas of the U.S. and in Canada. We produce homes to fill existing orders and, therefore, our manufacturing plants generally do not carry finished goods inventories except for homes awaiting delivery. Typically, a one to three-week supply of raw materials is maintained. Charges to transport homes increase with the distance from the factory to the retailer or home site. As a result, most of the retailers and builders we sell to are located within a 500-mile radius of our manufacturing plants.

 

Distribution

 

Our factory-built homes are distributed through independent retailers, builders and developers, and our California-based retail segment. During 2006, approximately 82% of our manufacturing shipments were to approximately 2,700 independent retail locations throughout the U.S. and western Canada. As of December 30, 2006, approximately 900 of these independent retail locations were part of our Champion Home Center (“CHC”) retailer program. Sales to independent CHC retailers accounted for approximately 58% of the homes we sold to independent retailers. We continually seek to increase our manufacturing shipments by expanding sales at our existing independent retailers and by finding new independent retailers to sell our homes.

 

As is common in the industry, our independent retailers may sell homes produced by other manufacturers in addition to those produced by the Company. Some independent retailers operate multiple sales centers. In 2006, no single independent retailer or distributor accounted for more than 2% of our manufacturing sales.

 

We also sell our homes directly to approximately 500 builders and developers through our Genesis Homes division and certain of our other homebuilding plants. In this distribution channel the builder/developer generally acquires the land, obtains the appropriate zoning, develops the land and builds the foundation for the home. We design, engineer and build the home. We, or the builder/developer, contract a crew to set or place the home on the foundation and to finish the home on site. The builder/developer may construct the garage, patio, and porches at the site and either sell the home directly to the consumer or through a realtor. The homes sold through builders/developers may be placed in planned communities or subdivisions in suburban areas and rural markets. Certain of our builder/developer projects involve multi-family housing units.

 

Market

 

Factory-built housing competes with other forms of new housing such as site-built housing, panelized homes and condominiums and with existing housing such as pre-owned homes, apartments and condominiums. According to statistics published by the Institute for Building Technology and Safety (“IBTS”) and the U.S. Department of Commerce, Bureau of the Census, for 2006 and for the five year period from 2002 through 2006, industry shipments of HUD-code homes accounted for an estimated 8% and 9%, respectively, of all new single-family housing starts and 10% and 11%, respectively, of all new single-family homes sold. Based on data reported by Statistical Surveys, Inc., total industry retail sales of new HUD-code homes in 2006 totaled approximately 102,000 homes, down 9% from the comparable period in 2005. Based on industry data published by the National Modular Housing Council, wholesale shipments of modular homes in 2006 fell 11.1% from 2005 levels. Additionally, modular homes sold in 2006 were approximately 25% of the factory-built housing market in 2006 compared to 23% in 2005.

 

The market for factory-built housing is affected by a number of factors, including the availability, cost and credit underwriting standards of consumer financing, consumer confidence, employment levels, general housing market and other economic conditions and the overall affordability of factory-built housing versus other forms of housing. In addition, demographic trends, such as changes in population growth and competition affect demand for housing products. Interest rates and the availability of financing also influence the affordability of factory-built housing.

 

We believe the segment of the housing market in which manufactured housing is most competitive includes consumers with household incomes under $40,000. This segment has a high representation of young single persons and married couples, first time house buyers and elderly or retired persons. The comparatively low cost of manufactured homes attracts these consumers. People in rural areas, where fewer housing alternatives exist, and those who presently live in factory-built homes, also make up a significant portion of the demand for new factory-built housing. We believe higher-priced, multi-section manufactured homes and modular homes are attractive to households with higher incomes as an alternative to apartments and entry-level site-built homes and condominiums.

 

In the past, a number of factors have restricted demand for factory-built housing, including, in some cases, less-favorable financing terms compared to site-built housing, the effects of restrictive zoning on the availability of certain locations for home placement and, in some cases, an unfavorable public image. Certain of these adverse factors have lessened considerably in recent years with the improved quality and appearance of factory-built housing.

 

Competition

 

The factory-built housing industry is highly competitive at both the manufacturing and retail levels, with competition based upon several factors including price, product features, reputation for service and quality, and retail customer financing. Capital requirements for entry into the industry are relatively low.

 

According to MHI, in December 2006, there were 67 producers of manufactured homes in the U.S. operating an estimated 205 production facilities. For the first nine months of 2006, the top five companies had combined

market share of approximately 63% of HUD-code homes, according to data published by MHI. According to information obtained from MHI, there are approximately 7,000 industry retail locations throughout the U.S.

 

Based on industry data reported by IBTS, in 2006 our U.S. wholesale market share of HUD-code homes sold was 13.1%, compared to 12.9% in 2005, including homes sold to FEMA in both years. Based on industry data published by MHI, we estimate our share of the modular home market in 2006 to be approximately 12% after our acquisitions of North American and Highland.

 

Floor Plan Financing

 

Independent retailers of factory-built homes generally finance their inventory purchases from manufacturers with floor plan financing provided by third party lending institutions and secured by a lien on the homes. The availability and cost of floor plan financing can affect the amount of retailer new home inventory, the number of retail sales centers and related wholesale demand. During the past five years, several major national floor plan lenders have exited the industry or curtailed their floor plan operations, while a smaller number of national lenders, and a large number of local and regional banks, have entered the market or increased lending volumes.

 

Approximately 50% of independent retailer home purchases are financed under floor plan agreements. In accordance with trade practice, we generally enter into repurchase agreements with the major lending institutions providing floor plan financing, as is more fully described in Note 1 of “Notes to Consolidated Financial Statements” in Item 8 of this Report and in “Contingent Repurchase Obligations — Manufacturing Segment” in Item 7 of this Report. We generally receive payment from the lending institution five to fifteen days after a home is sold and invoiced to an independent retailer.

 

Consumer Financing

 

The number of factory-built homes that are sold to consumers and related wholesale demand are significantly affected by the availability, credit underwriting standards, loan terms and cost of consumer financing. Two basic types of consumer financing are available to purchasers of factory-built homes: home-only or personal property loans for purchasers of only the home (generally HUD-code homes), and real estate mortgages for purchasers of the home and land on which the home is placed. The majority of modular homes are financed with conventional real estate mortgages. Loose credit standards for home-only loans in the mid to late 1990s led to a high number of repossessions of manufactured homes from consumers during the early part of this decade. The poor performance of portfolios of manufactured housing home-only consumer loans in those years made it difficult for industry consumer finance companies to obtain long-term capital in the asset-backed securitization market, which had previously been a significant source of long-term capital for originators of such loans. As a result, consumer finance companies curtailed their industry lending and some exited the manufactured housing market. Since 2000, many consumer lenders tightened credit underwriting standards and loan terms and increased interest rates for home-only loans to purchase manufactured homes, which reduced lending volumes and resulted in lower industry sales volumes. Additionally, during those years the industry saw a number of traditional real estate mortgage lenders tighten terms or discontinue financing for manufactured housing as a result, in part, of program changes by the traditional buyers of conforming mortgage loans, primarily Fannie Mae and Freddie Mac.

 

International segment

 

Products

 

Our international manufacturing segment (the “international segment”) is comprised of Caledonian, which was acquired in April 2006 and currently operates four manufacturing facilities at one location in the UK. Caledonian is a leading modular manufacturer that constructs steel-framed modular buildings for use as prisons, military accommodations, hotels and residential units. Caledonian’s steel-framed modular technology allows for multi-story construction, which is a key advantage over wood-framed construction techniques. We believe that Caledonian is the largest off-site producer of permanent modular buildings in the UK in terms of total annual revenues.

 

Caledonian specializes in the design, manufacture and construction of permanent, multi-story buildings using off-site modular construction and may operate as the general contractor for a project or as a sub-contractor. Most Caledonian projects involve total revenue from $2 million to $50 million. Caledonian has key framework agreements in place with its major customers, which include Her Majesty’s Prison Service and, via a main contractor, the UK Ministry of Defence (“MoD”), among others.

 

Since 1996, Caledonian has constructed over 12,500 accommodation rooms, of which 7,000 have been custodial (prison) units and 3,000 have been military units. The remaining balance of 2,500 rooms includes hotels and residential units. Caledonian produced modular buildings have included a 420 unit complete prison; a ten-story, 612 unit student accommodation; several three and four-story, 100 bedroom military accommodations; and a six-story, 108 unit hotel. In 2006, Caledonian completed a 1,000 unit student and key worker accommodation complex that was comprised of six buildings including two 12-story buildings and one 17-story building. The 17-story building is believed to be the tallest modular building constructed in Europe.

 

Projects are designed to maximize the amount of work that can be performed at the factory thereby minimizing the amount of work at the construction site. This allows for rapid construction of the building with less manpower and material at the site and in about one-half the time versus traditional construction. Reduced site time and manpower is especially important to clients with higher security requirements such as prisons and military bases.

 

The structures are engineered to provide a 60 year to 100 year design life. The buildings are compliant with necessary codes and regulations including UK and Irish building regulations and fire certification, Part “E” (sound insulation), and Part “L” (thermal performance). Some structures also comply with Counter Terrorist Measures and MoD Standards. Caledonian has also obtained LANTAC (local authority type approval), Zurich and NHBC (National House Builders Confederation) accreditations.

 

Production and construction

 

Caledonian operates four manufacturing facilities at one location, including a new plant that commenced operations in November 2006. Each plant employs approximately 70 production workers. Subcontractors are used for various production functions, including electrical and plumbing, both in the factory and at construction sites.

 

The modules produced are created from welded steel frames using hot rolled steel beams to create the basic frame (top, bottom and vertical supports) and cold rolled steel elements for the joists and wall studs. The frames are manufactured with lifting points to facilitate craning the modules into place at the construction site and “fixing” points, if required, to facilitate the attachment of exterior cladding at the site. After completion of the frame the unit is moved to a position in the plant where it will be completed without further movement. Workers build the floors from wood, cement particleboards or concrete and the ceilings and interior walls are clad with sheetrock. Insulation, plumbing, wiring, windows, doors, bathroom components and cabinets are added as required. Each module may contain up to four living units (bedrooms or cells). Each factory can complete up to four modules per day. The completed modules are wrapped in protective plastic sheeting and set in the yard to await shipping.

 

Site groundwork and foundation work are planned and coordinated with the production schedule to minimize the total length of the construction process. Completed modules are delivered to the building site and erected with a mobile crane. Individual modules are welded or bolted together to ensure correct positioning and structural continuity. Modules can generally be erected at a rate of eight per day. Central corridors are created during this process. Once inter-connected, the modules form the full structure of the building. Wiring and plumbing between modules is connected on site. Interiors are finished by completing the flooring and decors. Traditional steel and concrete construction techniques may be employed for non-modular areas to meet design specifications. Exterior cladding or brick work and the roof are added on site to complete the building structure.

 

Market and competition

 

Caledonian competes in the UK custom modular industry, which competes with traditional commercial builders in the construction of permanent, multi-story buildings. The custom modular market in the UK has estimated total annual sales of over $1 billion. There are several large competitors in the UK custom modular market, but Caledonian is the only modular builder that focuses solely on the bespoke market. Caledonian competes

in four sectors of this market: prisons, military accommodations, hotels and residential. Caledonian establishes key relationships in these markets and generally trades under long-term framework agreements. Under these framework agreements Caledonian is a principal supplier of modular prison units to Her Majesty’s Prison Service and currently the sole supplier of modular military accommodations to MoD’s Single Living Accommodation Modernization (“SLAM”) project. Caledonian is one of five or more suppliers of modular accommodation to MoD outside of SLAM. Caledonian has also developed key relationships in the hotel and residential sectors. Funding for projects in the prison and military sectors is dependent on government budgets. Hotel and residential projects are dependent upon private sector funding that is influenced by general economic and other factors.

 

Retail segment

 

During 2005, we divested of our remaining traditional retail sales centers. Our ongoing retail operations currently consist of 16 sales offices in California that specialize in replacing older homes within manufactured housing communities with new manufactured homes. Our sales agents locate vacant spaces and spaces to be renovated in local communities, secure the space and order a new home from a manufacturer, primarily Champion plants. The homes are placed on the leased sites and independent contractors are engaged to set up the home and make site and home improvements such as decks, porches, landscaping and air conditioning. Of the total new homes sold by the retail segment in 2006, 85.9% were Champion-produced. Champion-produced homes purchased by our retail segment in 2006 and 2005 accounted for 2.8% and 3.8%, respectively, of the total homes sold by our manufacturing segment.

 

The sales offices are located in leased premises, from which the home acquisition, site preparation, set up, improvements and sales processes are managed. Our sales agents meet with and show potential buyers the homes. During the sale process our sales offices may assist the homebuyer with finding financing for the purchase and with insurance needs. The sales offices may also arrange for any special improvements, add-ons and amenities required by the homebuyer.

 

Relationship with our Employees

 

At December 30, 2006, we had approximately 7,000 employees. We deem our relationship with our employees to be generally good. Currently, our two manufacturing facilities in Canada employ approximately 500 workers, of which 400 are subject to collective bargaining agreements, one that expires in November 2007 and the other that expires in June 2008. Caledonian entered into a voluntary recognition agreement with a labor union during the second quarter of 2006 covering approximately 200 production employees.

 

The workforce of approximately 150 employees at one of our U.S. manufacturing plants voted to unionize in 2001 but petitioned in April 2002 to withdraw from the union. On January 17, 2003, an Administrative Law Judge (“ALJ”) of the National Labor Relations Board (“NLRB”) made findings that we had engaged in unfair labor practices and therefore set aside the employees’ April 2002 formal petition to end union representation. The ALJ ordered the Company to immediately begin to bargain with the union. This order was reinforced by a “10-J” bargaining injunction. We believe that the ALJ’s findings were incorrect and have appealed those findings and orders to the NLRB while we continue to bargain.

 

In addition, the workforce of approximately 180 employees at another of our U.S. manufacturing plants voted to unionize on September 1, 2004. Bargaining began in February 2005. Certain employees filed a decertification petition with the NLRB on November 17, 2005 to withdraw from the union. A decertification vote was held on February 10, 2006 and a majority of the employees voted in favor of decertification. Therefore there is no union representation at this plant.

 

Executive Officers of the Company

 

Our executive officers, their ages, and the position or office held by each, are as follows:

 

 

The executive officers serve at the pleasure of our Board of Directors.

 

Mr. Griffiths became President and Chief Executive Officer of Champion Enterprises, Inc. on August 1, 2004 and was elected Chairman of the Board of Directors in March 2006. Previously, since 2001 Mr. Griffiths was employed by SPX Corporation, a global multi-industry company, located in Charlotte, North Carolina, where he was President-Fluid Systems Division. From 1998 to 2001, Mr. Griffiths was President-Fluid Systems Division at United Dominion Industries, Inc., which was acquired by SPX Corporation in 2001.

 

Mrs. Knight joined Champion in 2002 after leaving Conseco Finance Corp. where since 1994 she served in various executive positions, including Senior Vice President and Treasurer and, most recently, was President of its Mortgage Services Division.

 

Mr. Collins joined the Company in 1997 as Vice President, General Counsel and Secretary and was promoted to Senior Vice President, General Counsel and Secretary in April 2000. Mr. Collins has resigned from his positions with the Company effective March 30, 2007.

 

Mr. Williams joined Champion in 1997 as President, Eastern Manufacturing Region, and was promoted to President, Champion Homes in 2002. He was named Vice President, Operations in 2005.

 

Mr. Nugent joined Champion in September 2004 as Vice President, Human Resources. Previously, since 2001 Mr. Nugent was employed by SPX Corporation where he was Vice President-Fluid Systems Division and for the prior ten years as Vice President, Human Resources for segments of its predecessor, United Dominion Industries, Inc.

 

Mr. Hevelhorst joined Champion in 1995 as Controller and was promoted to the position of Vice President and Controller in 1999.

 

Available Information

 

Champion’s main website is www.championhomes.com. Champion’s annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and amendments to all such reports and statements are made available via its website free of charge as soon as reasonably practicable after such reports are filed with, or furnished to, the Securities and Exchange Commission (“SEC”).

 

Champion’s Code of Ethics, Corporate Governance Guidelines, Lead Independent Director Charter, Audit and Financial Resources Committee Charter, Compensation and Human Resources Committee Charter and Nominating and Corporate Governance Committee Charter are also posted on its website. The information on the Company’s website is not part of this or any other report that Champion files with, or furnishes to, the SEC.

 

Additionally, the public may read and copy any materials the Company files with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Room 1580, Washington D.C. 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov.

 

Forward-Looking Statements

 

Certain statements contained in this Report, including our ability to introduce new homes and new floor plans, our ability to pass various costs on to our customers, the availability and maintenance of raw materials, expanding shipments and sales, our status as a principal supplier to certain of our customers, our relationship with our employees, the outcome of legal proceedings or claims, our strategy to diversify, our ability to generate U.S. pretax income, the impact of our contingent repurchase obligations, compliance with the covenants in our credit facilities and the impact of our inability to do so, changes to our capital structure, our expected capital expenditures, the impact of contingent liabilities or obligations on the results of our operations, the adequacy of our cash flow from operations to fund capital expenditures, the ability to secure an amendment to our credit facility and the impact of our inability to do so, and the completion of our ERP system implementation, could be construed to be forward-looking statements within the meaning of U.S. federal securities laws. In addition, Champion or persons acting on our behalf may from time to time publish or communicate other items that could also be construed to be forward-looking statements. Statements of this sort are, or will be, based on the Company’s then current estimates, assumptions and projections and are subject to risks and uncertainties, including those specifically listed below that could cause actual results to differ materially from those included in the forward-looking statements. The Company does not undertake to update its forward-looking statements or risk factors to reflect future events or circumstances. The following risk factors could affect the Company’s operating results.

 

Significant debt — Our significant debt could limit our ability to obtain additional financing, require us to dedicate a substantial portion of our cash flows from operations for debt service and prevent us from fulfilling our debt obligations. If we are unable to pay our debt obligations when due, we could be in default under our debt agreements and our lenders could accelerate our debt or take other actions which could restrict our operations.

 

As discussed in Note 6 of the “Notes to Consolidated Financial Statements” in Item 8 of this Report, we have a significant amount of debt outstanding, which consists primarily of long-term debt due in 2009 and 2012. If our debt due in 2009 is not repaid or refinanced prior to February 2009, the maturity date of the debt due in 2012 will be accelerated to 2009. We may incur additional debt to finance acquisitions or for other purposes. This indebtedness could, among other things:

 

 

Our business may not generate cash flows from operations in amounts sufficient to pay our debt or to fund other liquidity needs. The factors that affect our ability to generate cash can also affect our ability to raise additional funds through the sale of equity securities, the refinancing of debt or the sale of assets.

 

We may need to refinance all or a portion of our debt on or before maturity. We may not be able to refinance any of our debt on commercially reasonable terms or at all. If we are unable to refinance our debt obligations, we could be in default under our debt agreements and our lenders could accelerate our debt or take other actions that could restrict our operations.

 

Fluctuations in operating results — The cyclical and seasonal nature of the U.S. housing market has caused our sales and operating results to fluctuate. These fluctuations may continue in the future, which could result in operating losses during downturns.

 

The U.S. housing industry is highly cyclical and is influenced by many national and regional economic and demographic factors, including:

 

 

In addition, the factory-built housing industry is affected by seasonality. Sales during the period from March to November are traditionally higher than in other months. As a result of the foregoing factors, our sales and operating results fluctuate, and we expect that they will continue to fluctuate in the future. Moreover, we may experience operating losses during cyclical and seasonal downturns in the housing market.

 

Consumer financing availability — Tight credit standards and loan terms, curtailed lending activity, and increased interest rates among consumer lenders could reduce our sales. If consumer financing were to become further curtailed, our sales could decline and our operating results and cash flows could suffer.

 

The consumers who buy our homes have historically secured consumer financing from third party lenders. The availability, terms and costs of consumer financing depend on the lending practices of financial institutions, governmental regulations and economic and other conditions, all of which are beyond our control. A consumer seeking to finance the purchase of a manufactured home without land will generally pay a higher interest rate and have a shorter loan term than a consumer seeking to finance the purchase of land and the home. Manufactured home consumer financing is at times more difficult to obtain than financing for site-built and modular homes. Between 1999 and 2003, consumer lenders tightened the credit underwriting standards and loan terms and increased interest rates for loans to purchase manufactured homes, which reduced lending volumes and caused our sales to decline.

 

The poor performance of portfolios of manufactured housing consumer loans in past years has made it more difficult for industry consumer finance companies to obtain long-term capital in the asset-backed securitization market. As a result, consumer finance companies have curtailed their industry lending and many have exited the manufactured housing market. Additionally, the industry has seen certain traditional real estate mortgage lenders tighten terms or discontinue financing for manufactured housing.

 

If consumer financing for manufactured homes were to be further curtailed, we would likely experience retail and manufacturing sales declines and our operating results and cash flows would suffer.

 

Floor plan financing availability — A reduction in floor plan credit availability or tighter loan terms to our independent retailers could cause our manufacturing sales to decline. As a result, our operating results and cash flows could suffer.

 

Independent retailers of our manufactured homes generally finance their inventory purchases with floor plan financing provided by lending institutions. Reduced availability of floor plan lending or tighter floor plan terms may affect our independent retailers’ inventory levels of new homes, the number of retail sales centers and related wholesale demand. As a result, we could experience manufacturing sales declines or a higher level of retailer defaults and our operating results and cash flows could suffer.

 

Contingent liabilities — We have, and will continue to have, significant contingent wholesale repurchase obligations and other contingent obligations, some of which could become actual obligations that we must satisfy. We may incur losses under these wholesale repurchase obligations or be required to fund these or other contingent obligations that would reduce our cash flows.

 

In connection with a floor plan arrangement for our manufacturing shipments to independent retailers, the financial institution that provides the retailer financing customarily requires us to enter into a separate repurchase agreement with the financial institution. Under this separate agreement, generally for a period up to 18 months from the date of our sale to the retailer, upon default by the retailer and repossession of the home by the financial institution, we are generally obligated to purchase from the lender the related floor plan loan or the home at a price equal to the unpaid principal amount of the loan, plus certain administrative and handling expenses, reduced by the cost of any damage to the home and any missing parts or accessories. Our estimated aggregate contingent repurchase obligation at December 30, 2006 was significant and includes significant contingent repurchase obligations relating to our largest independent retail customers. For additional discussion see “Contingent Repurchase Obligations — Manufacturing Segment” in Item 7 and Note 13 of “Notes to Consolidated Financial Statements” in Item 8 of this Report. We may be required to honor some or all of our contingent repurchase obligations in the future, which would result in operating losses and reduced cash flows.

 

At December 30, 2006, we also had contingent obligations related to surety bonds and letters of credit. For additional detail and discussion, see “Liquidity and Capital Resources” in Item 7 of this Report. If we were required to fund a material amount of these contingent obligations, we would have reduced cash flows and could incur losses.

 

Dependence upon independent retailers — If we are unable to establish or maintain relationships with independent retailers who sell our homes, our sales could decline and our operating results and cash flows could suffer.

 

During 2006, approximately 82% of our manufacturing shipments of homes were made to independent retail locations throughout the United States and western Canada. With the divestiture of our traditional retail operations, the proportion of our manufacturing sales to independent retailers has increased. As is common in the industry, independent retailers may sell manufactured homes produced by competing manufacturers. We may not be able to establish relationships with new independent retailers or maintain good relationships with independent retailers that sell our homes. Even if we do establish and maintain relationships with independent retailers, these retailers are not obligated to sell our manufactured homes exclusively, and may choose to sell our competitors’ homes instead. The independent retailers with whom we have relationships can cancel these relationships on short notice. In addition, these retailers may not remain financially solvent, as they are subject to the same industry, economic, demographic and seasonal trends that we face. If we do not establish and maintain relationships with solvent independent retailers in the markets we serve, sales in those markets could decline and our operating results and cash flows could suffer.

 

Cost and availability of raw materials — Prices of certain materials can fluctuate significantly and availability of certain materials may be limited at times.

 

Prices of certain materials such as lumber, insulation, steel, and drywall can fluctuate significantly due to changes in demand and supply. Additionally, availability of certain materials such as drywall and insulation may be limited at times resulting in higher prices and/or the need to find alternative suppliers. We generally have been able to maintain adequate supplies of materials and to pass higher material costs on to the retailers and consumers in the form of surcharges and base price increases. However, it is not certain that future price increases can be passed on to the consumer without affecting demand or that limited availability of materials will not impact our production capabilities.

 

Effect on liquidity — Industry conditions and our operating results have limited our sources of capital in the past. If we are unable to locate suitable sources of capital when needed we may be unable to maintain or expand our business.

 

We depend on our cash balances, our cash flows from operations, and our revolving credit facility to finance our operating requirements, capital expenditures and other needs. The downturn in the manufactured housing industry, combined with our operating results and other changes, has limited our sources of financing in the past. If our cash balances, cash flows from operations, and availability under our revolving credit facility are insufficient to

finance our operations and alternative capital is not available, we may not be able to expand our business and make acquisitions, or we may need to curtail or limit our existing operations.

 

We have a significant amount of surety bonds and letters of credit representing collateral for our casualty insurance programs and for general operating purposes. For additional detail and information concerning the amounts of our surety bonds and letters of credit, see Note 13 of “Notes to Consolidated Financial Statements” in Item 8 of this Report. The inability to retain our current letter of credit and surety bond providers or to obtain alternative bonding or letter of credit sources could require us to post cash collateral, reduce the amount of cash available for our operations or cause us to curtail or limit existing operations.

 

Competition — The factory-built housing industry is very competitive. If we are unable to effectively compete, our growth could be limited, our sales could decline and our operating results and cash flows could suffer.

 

The factory-built housing industry is highly competitive at both the manufacturing and retail levels, with competition based, among other things, on price, product features, reputation for service and quality, merchandising, terms of retailer promotional programs and the terms of consumer financing. Numerous companies produce factory-built homes in our markets. Some of our manufacturing competitors have captive retail distribution systems and consumer finance operations. In addition, there are independent factory-built housing retail locations in most areas where independent retailers sell our homes and in California where we have retail operations. Because barriers to entry to the industry at both the manufacturing and retail levels are low, we believe that it is relatively easy for new competitors to enter our markets. In addition, our products compete with other forms of low to moderate-cost housing, including site-built homes, panelized homes, apartments, townhouses and condominiums. If we are unable to effectively compete in this environment, our manufacturing shipments and retail sales could be reduced. As a result, our sales could decline and our operating results and cash flows could suffer.

 

Zoning — If the factory-built housing industry is not able to secure favorable local zoning ordinances, our sales could decline and our operating results and cash flows could suffer.

 

Limitations on the number of sites available for placement of manufactured homes or on the operation of manufactured housing communities could reduce the demand for manufactured homes and our sales. Manufactured housing communities and individual home placements are subject to local zoning ordinances and other local regulations relating to utility service and construction of roadways. In the past, some property owners have resisted the adoption of zoning ordinances permitting the use of manufactured homes in residential areas, which we believe has restricted the growth of the industry. Manufactured homes may not receive widespread acceptance and localities may not adopt zoning ordinances permitting the development of manufactured home communities. If the manufactured housing industry is unable to secure favorable local zoning ordinances, our sales could decline and our operating results and cash flows could suffer.

 

Dependence upon executive officers and other key personnel — The loss of any of our executive officers or other key personnel could reduce our ability to manage our businesses and achieve our business plan, which could cause our sales to decline and our operating results and cash flows to suffer.

 

We depend on the continued services and performance of our executive officers and other key personnel. If we lose the service of any of our executive officers or other key personnel, it could reduce our ability to manage our businesses and achieve our business plan, which could cause our sales to decline and our operating results and cash flows to suffer.

 

Restrictive covenants — The terms of our debt place operating restrictions on us and our subsidiaries and contain various financial performance and other covenants with which we must remain in compliance. If we do not remain in compliance with these covenants, certain of our debt facilities could be terminated and the amounts outstanding thereunder could become immediately due and payable.

 

The documents governing the terms of our Senior Secured Credit Agreement and/or our Senior Notes due 2009 contain financial and non-financial covenants that place restrictions on us and our subsidiaries. The terms of our

debt agreements include covenants that allow for a maximum leverage limit and require a minimum level of interest coverage that, to varying degrees, restrict our and our subsidiaries’ ability to:

 

 

If we fail to comply with any of these covenants, the lenders could cause our debt to become due and payable prior to maturity, or result in refinancing the related indebtedness under unfavorable terms. If our debt were accelerated, our assets might not be sufficient to repay our debt in full.

 

As of December 30, 2006, we were in compliance with all Term Loan covenants. However, as a result of scheduled decreases in the leverage covenant coupled with lower forecasted results due to U.S. housing market conditions, we will likely be unable to remain in compliance with the current covenants during 2007. We have initiated discussions with the lenders to obtain an amendment to the Restated Credit Agreement. The inability to secure a satisfactory amendment to the Restated Credit Agreement could result in a demand from the lenders to repay all or a portion of the Term Loans and the termination of the letter of credit and revolving line of credit facilities. In the event we fail to obtain a satisfactory amendment, we would seek to refinance the related indebtedness. However, there can be no assurance that we will be able to refinance the debt on favorable terms.

 

For additional detail and discussion concerning these financial covenants see “Liquidity and Capital Resources” in Item 7 of this Report.

 

Our potential inability to integrate acquired operations could have a negative effect on our expenses and results of operations.

 

In the past, we have grown through strategic acquisitions and we may engage in strategic acquisitions in the future to strengthen and expand our operating capabilities and increase our diversification. The full benefits of these acquisitions, however, require integration of manufacturing, administrative, financial, sales, and marketing approaches and personnel. If we are unable to successfully integrate these acquisitions, we may not realize the benefits of the acquisitions, and our financial results may be negatively affected. Completed acquisitions may also lead to significant unexpected liabilities after the consummation of the acquisitions.

 

Potential Dilution — Potential capital, debt reduction, or acquisition transactions effected with issuances of our common stock could result in potential dilution and impair the price of our common stock.

 

To the extent we decide to reduce debt obligations through the issuance of common stock and/or convertible preferred stock, our then existing common shareholders would experience dilution in their percentage ownership interests. We may seek additional sources of capital and financing in the future or issue securities in connection with retiring our outstanding indebtedness or making acquisitions, the terms of which may result in additional potential dilution.

 

Potential impairment charges — We have a significant amount of goodwill, amortizable intangible assets, deferred tax assets and property, plant and equipment which are subject to periodic review and testing for impairment.

 

A significant portion of our total assets at December 30, 2006 was comprised of goodwill, amortizable intangible assets, deferred tax assets and property, plant and equipment. Under generally accepted accounting principles each of these assets is subject to periodic review and testing to determine whether the asset is recoverable or realizable. The review and tests require projections of future cash flows and estimates of fair value of the assets. Unfavorable trends in the industries in which we operate or in our operations can affect these projections and estimates. Significant impairment charges, although not affecting cash flow, could have a material effect on our operating results and financial position.

 

Operations in the UK — We have a significant investment in the UK. We depend upon a few individually significant customers in our international segment. If we are unable to maintain relationships with our significant customers, our sales could decline and our operating results and cash flows could suffer. A reduction in government funding to our major customers, our inability to effectively compete in the UK or unfavorable changes in exchange rates could adversely affect the value of our investment in the UK and could significantly impact our UK revenues and earnings.

 

We acquired Calsafe Group (Holdings) Limited and its operating subsidiary Caledonian Building Systems Limited (“Caledonian”) in April 2006. Caledonian, a leading modular manufacturer, constructs steel-framed modular buildings, including multi-story buildings, for use as prisons, military accommodations, hotels and residential units. During 2006, approximately 70% of our international segment sales were, either directly or indirectly, to two large public sector (government) customers. If we are unable to maintain relationships with these customers or establish suitable replacement customer relationships, our operating results and cash flows could suffer. Caledonian’s two major customers rely on government funding for construction projects. Reduction in government funding to either of these two customers or unfavorable changes in the markets for hotels and residential structures could significantly impact Caledonian’s revenues and earnings.

 

The commercial construction market in the UK is very competitive. If we are unable to effectively compete in this environment our revenues and earnings could suffer. Additionally, unfavorable changes in foreign exchange rates could adversely affect the value of our investment in this business.

 

None.

 

All of our North American manufacturing facilities are one story with concrete floors and wood and steel superstructures and generally range from 80,000 to 150,000 square feet. Our four manufacturing plants in the UK range from 80,000 to 100,000 square feet. We own all of our manufacturing facilities except as noted in the table below. We also own substantially all of the machinery and equipment used in our manufacturing facilities. We believe our plant facilities are generally well maintained and provide ample capacity to meet expected demand.

 

The following table sets forth certain information with respect to the 29 homebuilding facilities we were operating as of December 30, 2006 (excluding one plant in Bartow, FL that was closed in January 2007) in the United States and Canada and the four manufacturing facilities in the United Kingdom (“UK”). All of the North American facilities are assembly-line operations.

 

 

 

 

Substantially all of the U.S. manufacturing facilities we own are encumbered under first mortgages securing our $200 million Senior Secured Credit Agreement. Two of the facilities are encumbered under industrial revenue bond financing agreements and one facility is encumbered under a capital lease.

 

At December 30, 2006, we also owned 15 idle manufacturing facilities in 6 states, including one plant closed in January 2007. Eight of these idle facilities are permanently closed and are generally for sale.

 

At December 30, 2006, our retail segment headquarters and 16 retail sales offices in California were leased. Sales office lease terms generally range from monthly to five years. Our executive offices, which are located in Auburn Hills, Michigan, and other miscellaneous offices and properties are also leased.

 

In the ordinary course of business, we are involved in routine litigation incidental to our business. This litigation arises principally from the sale of our products and in various governmental agency proceedings arising from occupational safety and health, wage and hour, and similar employment and workplace regulations. In the opinion of management, none of these matters presently pending are expected to have a material adverse effect on our overall financial position or results of operations.

 

There were no matters submitted to a vote of Champion’s security holders during the fourth quarter of 2006.

 

Champion’s common stock is listed on the New York Stock Exchange and the Chicago Stock Exchange as ChampEnt and has a ticker symbol of “CHB”. The high and low sale prices per share of the common stock as reported by Yahoo! Finance for each quarter of 2006 and 2005 were as follows:

 

 

As of February 27, 2007, the Company had approximately 3,927 shareholders of record and approximately 7,300 beneficial holders.

 

We have not paid cash dividends on our common stock since 1974 and do not plan to pay cash dividends on our common stock in the near term. As discussed in Note 6 of “Notes to Consolidated Financial Statements” in Item 8 of this Report, our $200 million Senior Secured Credit Agreement contains a covenant that limits our ability to pay dividends.

 

On March 2, 2004, the preferred shareholder exercised its right to purchase $12 million of Series B-2 Cumulative Convertible Preferred stock with a mandatory redemption date of July 3, 2008 and a 5% annual dividend that was payable quarterly, at the Company’s option, in cash or common stock. On April 18, 2005, the preferred shareholder elected to immediately convert all of the outstanding Series B-2 and Series C preferred stock into 3.1 million shares of common stock under the terms of the respective preferred stock agreements.

 

The graph below compares the cumulative five-year shareholder returns on Company Common Stock to the cumulative five-year shareholder returns for (i) the S&P 500 Stock Index and (ii) an index of peer companies selected by the Company. The peer group is composed of seven publicly traded manufactured housing companies, which were selected based on similarities in their products and their competitive position in the industry. The companies comprising the peer group are Cavalier Homes, Inc., Cavco Industries, Inc., Fleetwood Enterprises, Inc., Nobility Homes, Inc., Palm Harbor Homes, Inc., Skyline Corporation and Coachmen Industries, Inc.

 

 

Equity Compensation Plan Information

 

The following table contains information about our common stock that may be issued upon the exercise of options, warrants, and rights under all of our equity compensation plans and agreements as of December 30, 2006 (shares in thousands):

 

 

 

1993 Management Stock Option Plan — This plan is no longer in effect other than for stock options and performance awards which were previously granted and remain outstanding. Options representing 363,707 shares of common stock remain outstanding under this plan. The weighted-average exercise price of these options is $12.97.

 

Acquisitions — We granted stock options to certain employees of acquired businesses. Options representing 84,000 shares of common stock remain outstanding under these agreements and were granted at fair market value and vested over time. The weighted-average exercise price of these options is $20.22.

 

 

 

Certain amounts have been reclassified to conform to current period presentation.

 

 

Overview

 

We are a leading producer of factory-built housing in the United States. As of December 30, 2006, we operated 30 homebuilding facilities in 16 states in the U.S. and two provinces in western Canada. As of December 30, 2006, our homes were sold through more than 3,000 independent sales centers, builders, and developers across the U.S. and western Canada. Approximately 900 of the independent retailer locations were members of our Champion Home Centers (“CHC”) retail distribution network. As of December 30, 2006, our homes were also sold through 16 Company-owned sales locations in California. We are also a leading modular builder in the United Kingdom.

 

On April 7, 2006, we acquired United Kingdom-based Calsafe Group (Holdings) Limited and its operating subsidiary Caledonian Building Systems Limited (“Caledonian”). Caledonian, a leading modular manufacturer, constructs steel-framed modular buildings for use as prisons, military accommodations, hotels and residential units. Caledonian’s steel-framed modular technology allows for multi-story construction, which is a key advantage over wood-framed construction techniques. Our international manufacturing segment (the “international segment”) currently consists of four manufacturing facilities that Caledonian operates in the United Kingdom. The results of operations of Caledonian are included in our results from continuing operations and in our international segment for the year ended December 30, 2006.

 

On July 31, 2006 we acquired certain of the assets and the business of North American Housing Corp. and an affiliate (“North American”). North American is a modular homebuilder that operates two homebuilding facilities in Virginia. This acquisition expanded our presence in the modular construction industry, particularly in the mid-Atlantic region of the U.S. The results of operations of North American are included in our results from continuing operations and in our manufacturing segment for the year ended December 30, 2006.

 

On March 31, 2006, we acquired 100% of the membership interests of Highland Manufacturing Company, LLC (“Highland”), a manufacturer of modular and HUD-code homes. This acquisition further expanded our presence in the modular construction industry and increased our manufacturing and distribution in several states previously under-served by us in the north central U.S. The results of operations of Highland are included in our results from continuing operations and in our manufacturing segment for the year ended December 30, 2006.

 

On August 8, 2005, we acquired the assets of New Era Building Systems, Inc., a leading modular homebuilder, and its affiliates, Castle Housing of Pennsylvania Ltd. and Carolina Building Solutions LLC (collectively, the “New Era group”). The results of operations of the New Era group are included in our results from continuing operations and in our manufacturing segment for the years ended December 30, 2006 and December 31, 2005.

 

North American, Highland and Caledonian are referred to as “the 2006 acquisitions” and their results are included in our consolidated results from their respective acquisition dates.

 

For the past five years the U.S. manufactured housing (HUD-code) industry has been affected by limited availability of consumer financing and floor plan inventory financing, high levels of homes repossessed from consumers, tightened consumer credit standards, and other factors. Excluding homes sold to FEMA in 2006 and 2005, annual industry shipments of HUD-code homes have averaged 126,000 homes during the last four years as compared to 373,000 homes in 1998. Industry shipments of HUD-code homes totaled 117,500 in 2006, which was the lowest industry volume since 1961. The acquisitions in 2005 and 2006 were part of our strategy to diversify our operations with a focus on increasing our modular homebuilding presence in the U.S. and to seek modular opportunities outside of the U.S.

 

The HUD-code industry conditions have affected our U.S operations during the past several years. Despite these conditions, we started 2006 with $147 million in unfilled orders for manufactured housing, a record level for Champion. During 2006, the broader housing market became more difficult, as evidenced by a 13% decline in new housing starts and an over 8% decline in existing home sales. In addition, inventories of unsold homes increased significantly in many markets in the U.S. As a result, our business in the U.S. softened throughout the year and for much of the second half of 2006, most of our U.S. plants operated on one week or less of unfilled orders. Results of the 2006 acquisitions helped to offset lower sales from existing operations. Meanwhile, our Canadian operations enjoyed high sales volumes and high levels of unfilled orders throughout 2006.

 

Our pretax income from continuing operations for the year ended December 30, 2006 was $43.1 million versus $45.5 million in 2005. Compared to 2005, our 2006 manufacturing segment income declined $8.7 million on flat sales despite the acquisitions of Highland and North American and a full year of results from the New Era group. The difficult U.S. housing market during the second half of 2006 led to lower sales volumes and production inefficiencies at most of our plants. This decrease was partially offset by income of $5.6 million from our new international segment.

 

Included in income from continuing operations for the year ended December 30, 2006 were gains of $4.7 million, primarily from the sale of an investment property in Florida and five idle manufacturing plants, a fixed asset impairment charge of $1.2 million for the closure of a manufacturing plant and a $1.0 million reduction to our closed plant warranty accrual. Included in income from continuing operations for the year ended December 31, 2005 were a credit of $4.3 million for the change in estimated fair value of a common stock warrant, a loss on debt retirement of $9.9 million, gains of $1.5 million from the sale of three idle plants and an accrual of additional closed plant warranty costs of $2.3 million.

 

Effective July 1, 2006, we reversed substantially all of the previously recorded valuation allowance for 100% of deferred tax assets after determining that realization of the deferred tax assets was more likely than not. The reversal of the valuation allowance resulted in recording a $101.9 million non-cash income tax benefit in the second quarter of 2006. Subsequent to this reversal, our earnings are fully taxed for financial reporting purposes.

 

During the year ended December 31, 2005, we completed the disposal of our traditional retail operations through the sale of our remaining 42 traditional retail sales centers. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” and Emerging Issues Task Force (“EITF”) Issue No. 03-13, “Applying the Conditions in Paragraph 42 of SFAS No. 144 in Determining Whether to Report Discontinued Operations,” the 66 traditional retail sales centers closed or sold in 2005 and 2004 along with their related administrative offices are reported as discontinued operations for all periods presented. Retail restructuring charges in 2004 are also included with discontinued operations. Continuing retail operations in 2006, 2005 and 2004 consist of our ongoing non-traditional California retail operations.

 

During the first quarter of 2006 and the fourth quarter of 2005, we sold 627 homes and 1,372 homes, respectively, to the Federal Emergency Management Agency (“FEMA”) in connection with its hurricane relief efforts, resulting in revenues of $23.0 million and $47.4 million, respectively.

 

In June 2006, the FASB issued FASB Interpretation No. (“FIN”) 48, “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB statement No. 109.” FIN 48 clarifies the accounting for uncertainty in income taxes recognized under SFAS No. 109, “Accounting for Income Taxes”. FIN 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return and also provides guidance on various related matters such as derecognition, interest and penalties, and disclosure. FIN 48 is effective with our fiscal year beginning December 31, 2006. We expect that the financial impact, if any, of applying the provisions of FIN 48 to all tax positions will not be material upon the initial adoption of FIN 48 in the first quarter of 2007.

 

We continue to focus on matching our factory-built housing manufacturing capacity to industry and local market conditions and improving or eliminating under-performing manufacturing facilities. Since June 2006, we have closed five homebuilding plants in the U.S., including one that was closed in January 2007. We continually review our manufacturing capacity and will make further adjustments as deemed necessary.

 

Results of Operations

 

Consolidated Results

 

 

Consolidated results of operations 2006 versus 2005 analysis

 

Net sales in 2006 increased by 7% over 2005 sales due primarily to the inclusion of the results of Caledonian (the international segment) since acquisition. Manufacturing segment sales in 2006 were flat as compared with 2005 as sales from Highland and North American since acquisition and full year results from the New Era group offset a decline in sales from the other manufacturing plants, including the $24.4 million decrease in sales to FEMA. The decline in retail segment sales was substantially offset by a lower elimination of intercompany sales resulting from lower purchases by the retail segment from the manufacturing segment.

 

Gross margin in 2006 was slightly higher than in 2005 on a 7% increase in sales. A decline in gross margin in the manufacturing and retail segments was offset by gross margin from the international segment. Manufacturing segment gross margin as a percent of sales declined 0.6% in 2006 as compared to 2005, as low levels of unfilled orders at most of our plants caused production inefficiencies resulting from under utilized factory capacity. Manufacturing segment gross margin in 2006 included a $1.0 million reduction to closed plant warranty reserves and in 2005 included a $2.3 million charge to increase closed plant warranty reserves.

 

Selling, general and administrative expenses (“SG&A”) in 2006 increased $2.7 million over 2005 as SG&A from the 2006 acquisitions and a full year of SG&A from the New Era group exceeded decreases in SG&A at the existing plants in the manufacturing segment, the retail segment and the corporate office. These declines in SG&A were caused in part by lower incentive compensation resulting from lower profits and failure to achieve incentive compensation targets. In addition, SG&A in 2006 was also reduced by gains of $4.7 million, primarily from the sale of an investment property and five idle manufacturing plants, while SG&A in 2005 was reduced by gains of $1.5 million from the sale of three idle plants.

 

Results in 2006 included amortization expense of $3.9 million related to intangible assets valued in the 2006 and 2005 acquisitions and a net loss of $0.4 million from the write off of deferred financing costs related to the voluntary repayment of $27.8 million of our Term Loan due 2012. Interest expense increased $0.5 million as a result of increased debt incurred for the Caledonian acquisition, partially offset by a lower average interest rate. During 2005, a mark-to-market credit of $4.3 million was recorded for the decrease in estimated fair value of an outstanding common stock warrant. During 2005 we repurchased and subsequently cancelled the common stock warrant in exchange for a cash payment of $4.5 million. Also during 2005, operating results included a loss on debt retirement of $9.9 million from the purchase and retirement of $97.5 million of Senior Notes for cash payments totaling $106.3 million.

 

The inclusion of the 2006 acquisitions and the New Era group in consolidated results since their respective acquisition dates contributed to an increase in net sales and operating income in 2006 as compared to 2005. On a pro forma basis, assuming we had owned these acquisitions during the entire years ended December 30, 2006 and December 31, 2005, consolidated net sales and operating income in 2006 would have decreased by 8% and 16%, respectively, versus the prior year as compared to 7% increase and 3% decrease, respectively, reported in the table above.

 

Consolidated results of operations 2005 versus 2004 analysis

 

Net sales in 2005 increased by 25% from 2004 levels due to the inclusion of the New Era group that was acquired on August 8, 2005, increased selling prices in the manufacturing and retail segments, the sale of 1,372 homes to FEMA for approximately $47 million, and changes in product mix in the manufacturing segment.

 

Gross margin in 2005 increased $45.8 million or 27% from 2004 primarily due to the 25% increase in net sales. Gross margin in 2005 was also impacted by improved pricing, product mix and purchasing, as well as from improved operating efficiencies at our manufacturing facilities. The improvement in gross margin was slightly offset by an accrual of $2.3 million for additional closed plant warranty costs that were included in cost of sales. Gross margin in the manufacturing and retail segments in 2005 improved by approximately 1.0% and 1.1% of sales, respectively, over 2004. However, the effect of intercompany eliminations caused the consolidated gross margin percent in 2005 to increase only 0.1% over 2004.

 

Selling, general and administrative expenses (“SG&A”) in 2005 increased $22.7 million from 2004 primarily due to increased sales and earnings in the manufacturing segment, SG&A from the New Era group subsequent to its acquisition, and increased corporate expenses due to information technology projects and incentive compensation programs. Also during 2005, retail SG&A increased over 2004 due to operating a greater average number of retail sales centers and increased retail sales. SG&A in 2005 included $1.5 million of gains from the sale of three idle plants.

 

During 2005, a mark-to-market credit of $4.3 million was recorded for the decrease in estimated fair value of an outstanding common stock warrant. During 2005 we repurchased and subsequently cancelled the common stock warrant in exchange for a cash payment of $4.5 million. During 2004, a mark-to-market charge of $5.5 million was recorded for the change in estimated fair value of the outstanding common stock warrant.

 

During 2005, operating results included a loss on debt retirement of $9.9 million from the purchase and retirement of $97.5 million of Senior Notes for cash payments totaling $106.3 million. During 2004, operating results included a net loss of $2.8 million on the extinguishment of debt primarily from the purchase and retirement of $37.9 million of Senior Notes in exchange for 3.9 million shares of Company common stock and $10.4 million of cash.

 

The inclusion of the New Era group in consolidated results contributed to an increase in net sales and operating income in 2005 as compared to 2004. On a pro forma basis, assuming we had owned the New Era group during the entire years ended December 31, 2005 and January 1, 2005, consolidated net sales and operating income in 2005 would have increased by 19% and 75%, respectively versus the prior year as compared to increases of 25% and 96%, respectively, reported in the table above.

 

Income from continuing operations before income taxes

 

The segment components of income from continuing operations before income taxes are as follows:

 

 

The manufacturing, international and retail segments and interest expense, net, are discussed below. Amortization of intangible assets, mark-to-market credit (charge) for the common stock warrant, and loss on debt retirement are discussed above.

 

General corporate expenses in 2006 decreased by $3.0 million from 2005 due primarily to lower incentive compensation. General corporate expenses in 2005 increased by $7.8 million over 2004 primarily due to information technology projects and corporate compensation programs.

 

Manufacturing segment sales to the retail segment and related manufacturing profits are included in the manufacturing segment. Retail segment results include retail profits from the sale of homes to consumers but do not include any manufacturing segment profits associated with the homes sold. Intercompany transactions between the operating segments are eliminated in consolidation, including intercompany profit in inventory, which represents the amount of manufacturing segment gross margin in Champion-produced inventory at the retail segment. In reconciling 2005 and 2004 results by segment, a credit (income) resulted from the reduction in intercompany profit in inventory due to declining inventories at the discontinued retail operations.

 

Restructuring Charges

 

During 2006, we closed four homebuilding plants and recorded a $1.2 million impairment charge for one of the closures. Also in 2006, the accrual for closed plant warranty costs was reduced by $1.0 million due to favorable experience.

 

During 2005, a $2.3 million charge was recorded to increase the accrual for closed plant warranty costs due to unfavorable experience.

 

During 2004, we closed 15 retail sales centers and one homebuilding facility and recorded $5.5 million of restructuring charges. These restructuring charges consisted of $2.8 million for the manufacturing segment and $3.5 million in discontinued operations for the retail closures, partially offset by $0.8 million of inter-company profit (income). The manufacturing segment charges consisted of a fixed asset impairment charge of $2.5 million,

severance costs of $0.8 million and an inventory write down of $0.5 million for the closure of one plant. In addition, closed plant warranty accruals were reduced by $1.0 million due to favorable experience.

 

Inventory charges, warranty charges and credits and intercompany profit adjustments are included in cost of sales. Fixed asset impairment charges and severance costs are included in restructuring charges. See additional discussion of restructuring charges in Note 7 of “Notes to Consolidated Financial Statements” in Item 8 of this Report.

 

Impairment Tests for Goodwill

 

For the years ended December 30, 2006, December 31, 2005 and January 1, 2005, we performed our annual impairment tests for goodwill in the fourth quarter of each year and concluded no impairment existed for the carrying value of goodwill.

 

Manufacturing Segment

 

We evaluate the performance of our manufacturing segment based on income before interest, income taxes, amortization of intangible assets and general corporate expenses. A summary of the manufacturing segment for the years ended December 30, 2006, December 31, 2005 and January 1, 2005 is as follows:

 

 

     Manufacturing segment 2006 versus 2005 analysis

 

Manufacturing segment sales in 2006 increased slightly from 2005 as sales from Highland and North American since acquisition and full year results from the New Era group in 2006 offset a decline in sales from the other manufacturing plants, including the $24.4 million decrease in sales to FEMA. The incremental net sales provided by the acquisitions totaled $73.4 million. A difficult housing market during the second half of 2006 led to low levels of unfilled production orders and lower sales volumes at most of our U.S. plants. Higher average selling prices in 2006 partially offset lower home and unit sales at existing operations and resulted from price increases, which, in part, offset rising material costs. Also affecting average selling prices in 2006 was product mix, including increased sales of higher priced modular homes and larger modular housing units sold to the military. Increased sales of modular homes in 2006 resulted primarily from acquisitions. The multi-section mix increased due in part to selling fewer single-section homes to FEMA.

 

Manufacturing segment income in 2006 decreased by $8.7 million versus 2005 as a result of market conditions in the second half of 2006 which resulted in low levels of unfilled orders at most of our U.S. plants, an increased number of days of production down-time, and related production inefficiencies from under utilized factory capacity.

These unfavorable changes were partially offset by income from the acquisitions. Additionally, 2006 sales and income at our Canadian operations increased versus 2005 due to strong market conditions. In response to the U.S. market conditions, since June 2006 we have closed five manufacturing plants, including one in January 2007. Results for 2006 include a fixed asset impairment charge of $1.2 million for one of the plant closures, gains of $4.7 million primarily from the sale of an investment property in Florida and five idle manufacturing plants, and a reduction of closed plant warranty reserves of $1.0 million due to favorable experience. Results in 2005 include gains of $1.5 million from the sale of three idle plants and a charge of $2.3 million to increase closed plant warranty reserves due to unfavorable experience.

 

The inclusion of North American, Highland and the New Era group in manufacturing results since their respective acquisition dates contributed to an increase in net sales and operating income in 2006 as compared to 2005. On a pro forma basis, assuming we had owned these acquisitions during the entire years ended December 30, 2006 and December 31, 2005, manufacturing net sales and segment income in 2006 would have decreased by 7% and 14%, respectively, versus the prior year as compared to no change and a 10% decrease, respectively, reported in the table above.

 

Although orders from retailers can be cancelled at any time without penalty and unfilled orders are not necessarily an indication of future business, our unfilled manufacturing production orders for homes at December 30, 2006 totaled approximately $36 million compared to $147 million at December 31, 2005. Current unfilled orders are concentrated at three manufacturing locations with the remainder of our plants currently operating with one week or less of unfilled orders.

 

     Manufacturing segment 2005 versus 2004 analysis

 

Manufacturing net sales for the year ended December 31, 2005 increased compared to 2004 primarily from the inclusion of the New Era group net sales of approximately $48 million, the inclusion of sales to FEMA totaling approximately $47 million, higher average home selling prices and greater delivery revenues. Average manufacturing selling prices increased in 2005 as compared to 2004 as a result of price increases which, in part, offset rising material costs. Additionally, product mix, including increased sales of higher priced modular homes, contributed to the increased selling prices. Increased sales of modular homes in 2005 resulted, in part, from the inclusion of the New Era group. The multi-section mix decreased due to the sale of 1,372 single-section homes to FEMA.

 

Manufacturing segment income for the year ended December 31, 2005 increased over the prior year by $30.6 million due to increased sales, including the New Era group sales and sales to FEMA, as well as improved pricing, material purchasing, and production efficiencies. Manufacturing segment income in 2005 was reduced as a result of an accrual of $2.3 million of additional closed plant warranty costs based on unfavorable experience, partially offset by net gains of $1.5 million from the sale of three idle plants.

 

The inclusion of the New Era group in manufacturing results contributed to an increase in net sales and operating income in 2005 as compared to 2004. On a pro forma basis, assuming we had owned the New Era group during the entire years ended January 1, 2005 and December 31, 2005, manufacturing net sales and segment income in 2005 would have increased by 13% and 43%, respectively, versus the prior year as compared to increases of 19% and 51%, respectively, reported in the table above.

 

Although orders from retailers can be cancelled at any time without penalty and unfilled orders are not necessarily an indication of future business, our unfilled manufacturing production orders for homes at December 31, 2005 totaled approximately $147 million compared to $90 million at January 1, 2005.

 

International Segment

 

Our international segment consists of United Kingdom-based Caledonian, which was acquired on April 7, 2006. Caledonian, a leading modular manufacturer, constructs steel-framed modular buildings for use as prisons, military accommodations, hotels and residential units. Caledonian’s steel-framed modular technology allows for multi-story construction. As of December 30, 2006, Caledonian operated four manufacturing plants including a new plant that commenced operations in November.

 

We evaluate the performance of our international segment based on income before interest, income taxes, amortization of intangible assets and general corporate expenses. A summary of the international segment from date of acquisition through December 30, 2006 is as follows:

 

 

In the period, approximately 70% of revenue was derived from custodial (prison) and military accommodations projects with the balance attributable to residential and hotel projects. Contracts and orders pending contracts under framework agreements totaled approximately $225 million at year end, sufficient to secure production levels well into 2007 for most of the plants. Approximately 70% of this business is custodial and military accommodations projects.

 

Retail Segment

 

The retail segment sells manufactured houses to consumers throughout California. We evaluate the performance of our retail segment based on income before interest, income taxes, amortization of intangible assets and general corporate expenses. A summary of the retail segment for the years ended December 30, 2006, December 31, 2005 and January 1, 2005 is as follows:

 

 

     Retail segment 2006 versus 2005 analysis

 

Retail sales for 2006 decreased 13% versus 2005 due to selling 16% fewer homes, primarily as a result of housing market conditions in California. The effect of lower unit sales was partially offset by an increased average selling price per home to offset higher prices from the manufacturers, in part due to higher raw material costs. Average selling prices also increased as a result of selling higher priced homes with more add-ons, improvements and amenities.

 

Retail gross margin as a percent of sales in 2006 was comparable to 2005. The increase in the retail segment margin percent was attributable to lower SG&A costs in 2006, partially offset by lower gross margin due to lower sales.

 

     Retail segment 2005 versus 2004 analysis

 

Retail net sales for the year ended December 31, 2005 increased versus 2004 due to an increased average selling price per home and from selling more homes from a greater number of sales offices in operation. The increased average home selling price resulted from improved market conditions and the sale of homes with more add-ons, improvements and amenities. Additionally, retail prices increased to offset higher prices from the manufacturers due to rising material costs. Retail segment income for year ended December 31, 2005 improved by $2.7 million compared to the same period in 2004 primarily due to increased sales.

 

Discontinued Operations

 

Losses from discontinued operations for the years ended December 30, 2006, December 31, 2005 and January 1, 2005 were as follows:

 

 

During 2005, we completed the disposal of our traditional retail operations through the sale of our remaining 42 traditional retail sales centers. As a result, the 66 retail sales locations disposed of during 2005 and 2004 have been classified as discontinued operations for the periods presented.

 

Loss from discontinued retail operations included operating losses of $2.3 million and $5.2 million for 2005 and 2004, respectively, including restructuring charges totaling $1.7 million in 2004 for closures of sales centers. Loss from discontinued retail operations also included net losses of $2.0 million and $2.1 million for 2005 and 2004, respectively, for sales centers sold or to be sold, including restructuring charges totaling $1.8 million in 2004. In connection with the sales and closures of retail locations during 2005 and 2004, intercompany manufacturing profit of $2.4 million and $1.7 million, respectively, was recognized in the consolidated statement of operations as a result of the liquidation of retail inventory, which is not classified as discontinued operations.

 

Income from the discontinued consumer finance business in 2004 resulted from the settlement of contractual obligations that were accrued as part of the loss on discontinuance in 2003.

 

Interest Income and Interest Expense

 

     Interest income and expense 2006 versus 2005 analysis

 

Interest income in 2006 was higher than in 2005 due to a higher average interest rate, partially offset by lower average cash balances. Interest expense in 2006 was higher than in 2005 due to higher average debt balances in 2006 related to the Sterling Term Loan that was entered into in April of 2006, in connection with the Caledonian acquisition, partially offset by a lower average interest rate due to the replacement in the fourth quarter of 2005 of our 11.25% Senior Notes with the $100 million Term Loan with a LIBOR-based interest rate.

 

     Interest income and expense 2005 versus 2004 analysis

 

Interest income in 2005 was higher than in 2004 due to higher cash balances and increased interest rates. Interest expense in 2005 was lower than in 2004 due to debt reduction during 2005 and the first half of 2004 and the refinancing of the 11.25% Senior Notes due 2007 with the $100 million Term Loan in the fourth quarter of 2005.

 

Income Taxes

 

     Income taxes 2006 versus 2005 analysis

 

Effective July 1, 2006, we reversed substantially all of the previously recorded valuation allowance for deferred tax assets after determining that realization of the deferred tax assets was more likely than not. This determination was based upon our achieving historical profitability and our outlook for ongoing profitability, among other factors. Subsequent to this reversal our earnings are fully taxed for financial reporting purposes. During the periods prior to this reversal of the valuation allowance, no tax expense or benefit was recorded for our U.S. taxable income or loss for financial reporting purposes except for unusual items.

 

The 2006 income tax provision includes a $101.9 million non-cash tax benefit from the reversal of the valuation allowance. The reversal was originally reported as $109.7 million but was subsequently reduced effective July 1, 2006, by $7.8 million primarily to eliminate the tax effect of net operating loss carryforwards related to stock option tax deductions, the benefit of which, when realized, will result in an increase to shareholders equity.

 

As of December 30, 2006, we had net operating loss (“NOL”) carryforwards of approximately $178 million for U.S. federal tax purposes available to offset certain future U.S. taxable income that expire in 2023 through 2026. As of December 30, 2006, we had state net NOL carryforwards of approximately $181 million available to offset future state taxable income that expire primarily in 2016 through 2026. For financial reporting purposes, our U.S. pretax income for 2006 and 2005 totaled approximately $71 million. We expect to generate sufficient U.S. pretax income in the future to utilize available NOL carryforwards.

 

During periods when these NOL carryforwards are available, our cash tax expense is expected to be significantly lower than tax expense for financial reporting purposes. Our cash tax expense in these periods will be primarily related to foreign income taxes.

 

     Income taxes 2005 versus 2004 analysis

 

During 2005 and 2004 we provided a 100% valuation allowance for our deferred tax assets. The effective tax rates for the years ended December 31, 2005 and January 1, 2005 differ from the 35% federal statutory rate in part because of this 100% valuation allowance. Income taxes in 2005 and 2004 consisted of foreign (Canadian) and state taxes. Taxes in 2005 also included U.S. federal tax of $0.8 million on dividends paid by our Canadian subsidiary. Taxes in 2004 also included a $12 million decrease in the allowance for tax adjustments as a result of the finalization of certain U.S. tax examinations.

 

As of December 31, 2005, we had net operating loss carryforwards for tax purposes totaling approximately $130 million that were available to offset certain future taxable income. Additionally, as a result of the sale of our remaining traditional retail operations during 2005, approximately $49 million of additional net operating losses became available in 2006, upon completion of certain disposal activities.

 

Results of Fourth Quarter 2006 Versus 2005

 

 

Net sales for the fourth quarter of 2006 decreased by 20% from the fourth quarter of 2005 due primarily to a $99.4 million decline in sales at the manufacturing segment, partially offset by sales totaling $32.6 million from the international segment, which was acquired in 2006. Manufacturing segment sales in the fourth quarter of 2005 included sales of approximately $47 million to FEMA in connection with its hurricane relief efforts.

 

Gross margin for the fourth quarter of 2006 decreased $16.5 million or 25% from the comparable period of 2005, due primarily to the decline in manufacturing segment sales, partially offset by gross margin from the international segment.

 

SG&A decreased $7.9 million primarily due to reduced sales and earnings in the manufacturing segment, lower SG&A at the retail segment and the corporate office, partially offset by SG&A from the 2006 acquisitions. A significant portion of the reduction in SG&A is related to lower costs for incentive compensation programs as a result of lower profitability and the failure to achieve incentive compensation targets.

 

Interest expense increased $1.0 million as a result of higher average debt balances in 2006 related to the Sterling Term Loan that was entered into in April of 2006, partially offset by a lower average interest rate.

 

Operating results in the fourth quarter of 2005 included a loss on debt retirement of $9.0 million from the purchase and retirement of $88.4 million of Senior Notes for cash payments totaling $96.4 million.

 

The inclusion of the 2006 acquisitions in consolidated results contributed to net sales and operating income during the fourth quarter of 2006 as compared to 2005. On a pro forma basis, assuming we had owned the acquisitions during the quarter ended December 31, 2005, consolidated net sales and operating income for the fourth quarter of 2006 would have decreased by 29% and 36%, respectively, versus the prior year period as compared to decreases of 20% and 14%, respectively, as reported in the table above.

 

Manufacturing segment

 

Manufacturing segment net sales for the fourth quarter of 2006 decreased by $99.4 million compared to 2005, which included sales of approximately $47 million to FEMA in connection with its hurricane relief efforts. Sales in

2006 include sales from North American and Highland. Market conditions throughout the U.S. have resulted in reduced incoming order rates and sales.

 

Manufacturing segment income for the fourth quarter of 2006 decreased by $11.9 million versus the comparable quarter of 2005 due to decreased sales and production inefficiencies from under utilized factory capacity. Market conditions during the fourth quarter of 2006 resulted in low levels of unfilled orders at most of our U.S. plants and a decreased number of production days. In response to the market conditions, since June 2006 we have closed five manufacturing plants, including one during the fourth quarter and one in January 2007. These unfavorable changes were partially offset by income from the acquisitions. Additionally, 2006 sales and income at our Canadian operations increased versus 2005 due to strong market conditions. Results in 2006 include a $1.0 million reduction to closed plant warranty reserves due to favorable experience while 2005 results include an accrual of $2.3 million of additional closed plant warranty costs due to unfavorable experience.

 

The inclusion of North American and Highland in manufacturing results contributed to an increase in net sales and operating income during the fourth quarter of 2006 as compared to 2005. On a pro forma basis, assuming we had owned these acquisitions during the quarter ended December 31, 2005, manufacturing net sales and segment income would have decreased by 31% and 49%, respectively, versus the fourth quarter of 2005, as compared to decreases of 28% and 44%, respectively, as reported in the table above.

 

International segment

 

Approximately 70% of fourth quarter international segment revenue was derived from custodial (prison) and military accommodation projects with the balance attributable to hotel and residential projects. During the quarter, operations commenced in a fourth manufacturing facility, which is located at the same site as existing operations in the UK. This new facility is expected to reach full utilization by late 2007. International segment margin percent improved to 7.6% as compared to the prior two quarters. This improvement was a result of sales mix and the completion and finalization of certain contracts, partially offset by the start up of the new plant. During the quarter approximately $80 million of orders were obtained.

 

Retail segment

 

Retail segment net sales for the fourth quarter of 2006 decreased 32% versus the comparable period of 2005 primarily due to selling 29% fewer homes in a difficult California housing market. During the quarter, four sales locations were closed or consolidated, leaving 16 sales offices in operation. Retail segment income for the fourth quarter of 2006 declined by $0.8 million compared to the same period of 2005 primarily due to lower gross margin from decreased sales, partially offset by lower SG&A due in part to lower incentive compensation.

 

Contingent Repurchase Obligations — Manufacturing Segment

 

We are contingently obligated under repurchase agreements with certain lending institutions that provide floor plan financing to our independent retailers. Upon default by a retailer under a floor plan financing agreement subject to an associated repurchase agreement, the manufacturer is generally required to repurchase the loan or the home for the unpaid balance of the floor plan loan, subject to certain adjustments. In the event of such repurchases, our loss is equal to the difference between the repurchase price and the net price we realize upon resale of the home, less any related reserves or accrued volume rebates that will not be paid.

 

Each quarter we review our contingent wholesale repurchase obligations to assess the adequacy of our reserves for repurchase losses. This analysis is based on a review of current and historical experience, reports received from the primary national floor plan lenders that provide floor plan financing for approximately 44% of our manufacturing sales, and information regarding the performance of our retailers obtained from our manufacturing facilities. We do not retain repurchase risk for cash sales and we do not always enter into repurchase agreements with floor plan lenders that provide financing for the balance of our manufacturing sales to independent retailers.

 

The estimated repurchase obligation is calculated as the total amount that would be paid upon the default of all of our independent retailers whose inventories are subject to repurchase agreements, without reduction for the resale value of the repurchased homes. As of December 30, 2006, our largest independent retailer, a nationwide retailer,

had approximately $6.9 million of inventory subject to repurchase for up to 18 months from date of invoice. As of December 30, 2006 our next 24 largest independent retailers had an aggregate of approximately $59.1 million of inventory subject to repurchase for generally up to 18 months from date of invoice, with individual amounts ranging from approximately $1.1 million to $6.1 million per retailer.

 

A summary of actual repurchase activity for the last three years follows:

 

 

We lowered repurchase reserves by $1.2 million in 2006 and by $1.0 million in both 2005 and 2004 as a result of better experience during those years and the improved financial condition of our largest independent retailers.

 

Off Balance Sheet Arrangements

 

Our off balance sheet arrangements at December 30, 2006, consist of the contingent repurchase obligation totaling approximately $250 million, surety bonds and letters of credit totaling $76.1 million and guarantees of $2.9 million of debt of unconsolidated affiliates.

 

Liquidity and Capital Resources

 

Unrestricted cash balances totaled $70.2 million at December 30, 2006. During 2006, continuing operating activities provided net cash of $59.9 million. Excluding the working capital acquired in the purchase of the 2006 acquisitions, inventories, accounts receivable and accounts payable decreased by $13.1 million, $28.6 million and $16.4 million, respectively, in part as a result of FEMA related accounts receivable and inventory totaling $17 million which were converted into cash during the first quarter of 2006, and reduced sales in December 2006 versus December 2005. Other cash provided during the period included $78.6 million of proceeds from the Sterling Term Loan due 2012, which was used in the acquisition of Caledonian. Additionally, $7.6 million of cash proceeds resulted from the sale of property in Florida and five idle plants. Cash totaling $153.8 million was used for the 2006 acquisitions. In 2006, we used cash totaling $34.7 million to purchase $7.0 million of our Senior Notes and for the voluntary repayment of $27.8 million of our Term Loan due 2012 in addition to the normally scheduled debt payments. Other cash uses during the period included $17.6 million of capital expenditures.

 

On October 31, 2005, we entered into a senior secured credit agreement with various financial institutions. On April 7, 2006, concurrent with the closing of the acquisition of Caledonian, we entered into an Amended and Restated Credit Agreement (the “Restated Credit Agreement”) with various financial institutions. The Restated Credit Agreement is a senior secured credit facility comprised of a $100 million term loan (“the Term Loan”), a £45 million (approximately $80 million at April 7, 2006) term loan denominated in Pounds Sterling (the “Sterling Term Loan”), a revolving line of credit in the amount of $40 million and a $60 million letter of credit facility. As of December 30, 2006, letters of credit issued under the facility totaled $56.9 million and there were no borrowings under the revolving line of credit. The Restated Credit Agreement also provides us with the right from time to time to borrow incremental uncommitted term loans of up to an additional $100 million, which may be denominated in U.S. Dollars or Pounds Sterling, amended certain restrictive covenants to permit the acquisition of Caledonian and provided increased flexibility for foreign acquisitions generally. The Restated Credit Agreement is secured by a first security interest in substantially all of the assets of our domestic operating subsidiaries.

 

The Restated Credit Agreement requires annual principal payments for the Term Loan and the Sterling Term Loan totaling approximately $1.9 million due in equal quarterly installments. The interest rate for borrowings under the Term Loan is currently a LIBOR based rate (5.35% at December 30, 2006) plus 2.5%. The interest rate for borrowings under the Sterling Term Loan is currently a UK LIBOR based rate (5.25% at December 30, 2006) plus 2.5%. Letter of credit fees are 2.60% annually and revolver borrowings bear interest at either the prime interest rate

plus up to 1.5% or LIBOR plus up to 2.5%. In addition, there is a fee on the unused portion of the facility ranging from 0.50% to 0.75% annually.

 

The maturity date for each of the Term Loan, the Sterling Term Loan and the letter of credit facility is October 31, 2012, and the maturity date for the revolving line of credit is October 31, 2010 unless, as of February 3, 2009, more than $25 million in aggregate principal amount of our Senior Notes due 2009 are outstanding, then the maturity date for the four facilities will be February 3, 2009.

 

The Restated Credit Agreement contains affirmative and negative covenants. Under the Restated Credit Agreement, we are required to maintain a maximum Leverage Ratio (as defined) of no more than 3.5 to 1 for the fourth fiscal quarter of 2006, 3.25 to 1 for the first, second and third fiscal quarters of 2007, 3.0 to 1 for the fourth fiscal quarter of 2007 and 2.75 to 1 thereafter. The Leverage Ratio is the ratio of our Total Debt (as defined) on the last day of a fiscal quarter to our consolidated EBITDA (as defined) for the four-quarter period then ended. We are also required to maintain a minimum Interest Coverage Ratio (as defined) of not less than 3.0 to 1. The Interest Coverage Ratio is the ratio of our consolidated EBITDA for the four-quarter period then ended to our Cash Interest Expense (as defined) over the same four-quarter period. In addition, annual mandatory prepayments are required should we generate Excess Cash Flow (as defined). As of December 30, 2006, we were in compliance with all covenants. However, scheduled decreases in the leverage covenant coupled with lower expected levels of EBITDA (as defined), particularly in the first quarter of 2007, make it unlikely that we will remain in compliance. As a result, we have initiated discussions with our lenders for purposes of amending the Credit Agreement.

 

The Senior Notes due 2009 are secured equally and ratably with our obligations under the Restated Credit Agreement. Interest is payable semi-annually at an annual rate of 7.625%. The indenture governing the Senior Notes due 2009 contains covenants that, among other things, limit our ability to incur additional indebtedness and incur liens on assets.

 

We continuously evaluate our capital structure. Strategies considered to improve our capital structure include without limitation, purchasing, refinancing, exchanging, or otherwise retiring our outstanding indebtedness, restructuring of obligations, new financings, and issuances of securities, whether in the open market or by other means and to the extent permitted by our existing financing arrangements. We evaluate all potential transactions in light of existing and expected market conditions. The amounts involved in any such transactions, individually or in the aggregate, may be material.

 

We expect to spend less than $15 million in 2007 on capital expenditures. We do not plan to pay cash dividends on our common stock in the near term. We may use a portion of our cash balances and/or incur additional indebtedness to finance acquisitions of businesses.

 

Contingent Liabilities and Obligations

 

We had significant contingent liabilities and obligations at December 30, 2006, including surety bonds and letters of credit totaling $76.1 million and guarantees of $2.9 million of debt of unconsolidated affiliates. Additionally, we are contingently obligated under repurchase agreements with certain lending institutions that provide floor plan financing to our independent retailers. We estimate our contingent repurchase obligation as of December 30, 2006 was approximately $250 million, without reduction for the resale value of the homes. See “Contingent Repurchase Obligations-Manufacturing Segment” discussed above in Item 7 of this Report.

 

We have provided various representations, warranties and other standard indemnifications in the ordinary course of our business, in agreements to acquire and sell business assets and in financing arrangements. We are also subject to various legal proceedings and claims that arise in the ordinary course of our business.

 

Management believes the ultimate liability with respect to these contingent liabilities and obligations will not have a material effect on our financial position, results of operations or cash flows.

 

Summary of Liquidity and Capital Resources

 

At December 30, 2006, our unrestricted cash balances totaled $70.2 million and we had unused availability of $27.3 million under our revolving credit facility. Therefore, total cash available from these sources was

approximately $97.5 million. We expect that our cash flow from operations for the next two years will be adequate to fund capital expenditures during that period as well as the approximately $4.3 million of scheduled debt payments due in 2007 and 2008. Therefore, the level of cash availability is projected to be in excess of cash needed to operate our businesses for the next two years. We may use a portion of our cash balances and/or incur additional indebtedness to finance acquisitions of businesses. In the event that our operating cash flow is inadequate and one or more of our capital resources were to become unavailable, we would revise our operating strategies accordingly.

 

As of December 30, 2006, we were in compliance with all Term Loan covenants. However, as a result of scheduled decreases in the leverage covenant coupled with lower forecasted results due to U.S. housing market conditions, we will likely be unable to remain in compliance with the current covenants during 2007. We have initiated discussions with the lenders to obtain an amendment to the Restated Credit Agreement. The inability to secure a satisfactory amendment to the Restated Credit Agreement could result in a demand from the lenders to repay all or a portion of the Term Loans and the termination of the letter of credit and revolving line of credit facilities. In the event we fail to obtain a satisfactory amendment, we would seek to refinance the related indebtedness.

 

Contractual Obligations

 

The following table presents a summary of payments due by period for our contractual obligations for long-term debt, capital leases, operating leases, and certain other long-term liabilities as of December 30, 2006:

 

 

 

 

Critical Accounting Policies

 

The preparation of financial statements in conformity with generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Assumptions and estimates of future earnings and cash flow are used in the periodic analyses of the recoverability of goodwill, intangible assets, deferred tax assets and property, plant and equipment. Historical experience and trends are used to estimate reserves, including reserves for self-insured risks, warranty costs and wholesale repurchase losses. Following is a description of each accounting policy requiring significant judgments and estimates:

 

Reserves for Self-Insured Risks

 

We are self-insured for a significant portion of our workers’ compensation, general and products liability, auto liability, health and property insurance. Under our current self-insurance programs, we are generally responsible for up to $0.5 million per claim for workers’ compensation ($0.75 million per claim in California) and automobile

liability claims, up to $0.5 million, $1.5 million or $1.75 million per claim for product liability and general liability claims, depending on the policy year under which the claim is made and up to $0.5 million per claim for property insurance claims including business interruption losses. We maintain excess liability and property insurance with independent insurance carriers to minimize our risks related to catastrophic claims. Under our current self-insurance program we are responsible for up to $150,000 of health insurance claims per contract per year. Estimated casualty and health insurance costs are accrued for incurred claims and estimated claims incurred but not yet reported. Factors considered in estimating our insurance reserves are the nature of outstanding claims including the severity of the claims, estimated costs to settle existing claims, loss history and inflation, as well as estimates provided by our third party actuaries. Significant changes in the factors described above could have a material adverse impact on future operating results.

 

Warranty Reserves

 

Our manufacturing operations generally provide the retail homebuyer or the builder/developer with a twelve-month warranty. Estimated warranty costs are accrued as cost of sales at the time of sale. Our warranty reserve is based on estimates of the amounts necessary to settle existing and future claims on homes sold by the manufacturing operations as of the balance sheet date. Factors used to calculate the warranty obligation are the estimated number of homes still under warranty, including homes in retailer inventories and homes purchased by consumers still within the twelve-month warranty period and the historical average costs incurred to service a home. Significant changes in these factors could have a material adverse impact on future operating results.

 

Property, Plant and Equipment

 

The recoverability of property, plant and equipment is evaluated whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable, primarily based on estimated selling prices, appraised values or projected undiscounted cash flows. Our cash flow estimates are based on historical results adjusted for estimated current industry trends, the economy and operating conditions. Additionally, we use estimates of fair market values to establish impairment reserves for permanently closed facilities that are held for sale. Past evaluations of property, plant and equipment have resulted in significant impairment charges primarily for closed manufacturing facilities and retail sales centers. Significant changes in these estimates and assumptions could result in additional impairment charges in the future.

 

Income Taxes and Deferred Tax Assets

 

Deferred tax assets and liabilities are determined based on temporary differences between the financial statement balances and the tax bases of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. We periodically evaluate the realizability of our deferred tax assets based on the requirements established in SFAS No. 109, “Accounting for Income Taxes,” which requires the recording of a valuation allowance when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Effective July 1, 2006, we reversed substantially all of the previously recorded valuation allowance for deferred tax assets after determining that realization of the deferred tax assets was more likely than not. This determination was based upon achieving historical profitability and our outlook for ongoing profitability, among other factors. Projections of future profitability and levels of taxable income are required in assessing deferred tax assets and involve significant estimates and assumptions. Significant changes in these estimates and assumptions could result in the need to establish a valuation allowance for all or part of our deferred tax assets again in the future.

 

Goodwill and Amortizable Intangible Assets

 

Goodwill and amortizable intangible assets are related to both our manufacturing and international segments. We test for impairment of goodwill in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets.” We test for impairment of amortizable intangible assets in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” We evaluate the fair value of our manufacturing and international segments versus their carrying value as of each fiscal year end or more frequently if events or changes in circumstances indicate that the carrying value may exceed the fair value. When estimating the segment’s fair value, we calculate the present value of future cash flows based on forecasted sales volumes and profit margins the number

of manufacturing facilities in operation, current industry and economic conditions, historical results and inflation. We also use available market value information to evaluate fair value. Significant changes in the estimates and assumptions used in calculating the fair value of the segments and the recoverability of goodwill and amortizable intangible assets, or differences between estimates and actual results could result in impairment charges in the future.

 

Wholesale Repurchase Reserves

 

Approximately 50% of our manufacturing sales to independent retailers are made pursuant to repurchase agreements with the providers of floor plan financing. We determine our repurchase reserves based on the greater of (1) the fair value of the “guaranty” made under the repurchase agreements and (2) an estimate of losses for homes expected to be repurchased based on historical repurchase experience. An additional reserve is established for estimated losses related to specific retailer defaults that are deemed to be probable. Losses under repurchase obligations are determined by calculating the difference between the repurchase price and the estimated net resale value of the homes, less accrued rebates which will not be paid. Estimated losses under repurchase agreements are based on the historical number of homes repurchased, the cost of such repurchases and the historical losses incurred, as well as the current inventory levels held at our independent retailers. In addition, we monitor the risks associated with our independent retailers and consider these risks in identifying probable retailer defaults. Significant changes in these factors could have a material adverse impact on future operating results.

 

Revenue Recognition

 

The percentage of completion method of revenue recognition is used for certain construction contracts. This method of accounting requires estimates and assumptions as to total costs and profitability for each contract. Actual results could vary significantly from these estimates resulting in significant adjustments to reported income.

 

Impact of Inflation

 

Inflation has not had a material effect on our operations during the last three years. Commodity prices, including lumber, fluctuate; however, during periods of rising commodity prices we have generally been able to pass the increased costs to our customers in the form of surcharges and price increases.

 

Impact of Recently Issued Accounting Pronouncements

 

In June 2006, the Financial Accounting Standards Board issued Interpretation Number 48 (“FIN 48”) “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109.” FIN 48 is effective beginning with our 2007 fiscal year. FIN 48 clarifies accounting for uncertain tax positions utilizing a “more likely than not” recognition threshold for tax positions. We will initially recognize the financial statement effects of a tax position when it is more likely than not, based on the technical merits of the tax position, that such a position will be sustained upon examination by the relevant tax authorities. If the tax benefit meets the “more likely than not” threshold, the measurement of the tax benefit will be based on the Company’s best estimate of the ultimate tax benefit that will be sustained if audited by the taxing authority. The adoption by the Company of FIN 48 in the first quarter of 2007 is not expected to have a material effect on our financial position or results of operations, but will result in additional disclosures in the financial statements.

 

Our debt obligations under the Restated Credit Agreement are currently subject to variable rates of interest based on both U.S. and UK LIBOR. A 100 basis point increase in the underlying interest rate would result in an additional annual interest cost of approximately $1.6 million, assuming average related debt of $158.6 million, which was the amount of outstanding borrowings at December 30, 2006.

 

Our obligations under industrial revenue bonds are subject to variable rates of interest based on short-term tax-exempt rate indices. A 100 basis point increase in the underlying interest rates would result in additional annual interest cost of approximately $124,000, assuming average related debt of $12.4 million, which was the amount of outstanding borrowings at December 30, 2006.

 

Our approach to interest rate risk is to balance our borrowings between fixed rate and variable rate debt. At December 30, 2006, we had $82.3 million of Senior Notes at a fixed rate and $158.6 million of Term Notes at a variable rate. At December 31, 2005, we had $92.3 million of Senior Notes at a fixed rate and $99.8 million of Term Notes at a variable rate.

 

We are exposed to foreign exchange risk with our factory-built housing operations in Canada and our international segment in the UK. Our Canadian operations had 2006 net sales totaling $Can 82 million. Assuming future annual Canadian sales equal to 2006 sales, a change of 1.0% in exchange rates between the U.S. and Canadian dollars would change consolidated sales by $0.8 million. Our international segment had annualized 2006 sales of £64 million (pounds Sterling). Assuming future annual UK sales equal to 2006 annualized sales, a change of 1.0% in exchange rates between the U.S. dollar and the British pound Sterling would change consolidated sales by $0.6 million. Net income of the Canadian and UK operations would also be affected by changes in exchange rates.

 

We borrowed £45 million in the U.S. to finance a portion of the Caledonian purchase price which totaled approximately £62 million. This Sterling denominated borrowing was designated as an economic hedge of our net investment in the UK. Therefore a significant portion of foreign exchange risk related to our Caledonian investment in the UK is offset. We do not attempt to manage foreign exchange risk that relates to our investment in the Canadian operations.

 

The financial statements and schedules filed herewith are set forth on the Index to Financial Statements and Financial Statement Schedules on page F-1 of the separate financial section of this Report and are incorporated herein by reference.

 

None.

 

As of December 30, 2006, we carried out an evaluation, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 13a-15 of the Securities Exchange Act of 1934. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective to cause material information required to be disclosed by the Company in the reports that we file or submit under the Securities Exchange Act of 1934 to be recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. During the quarter ended December 30, 2006, there were no changes in our internal control over financial reporting that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. The Company is in the process of implementing a new enterprise resource planning (“ERP”) system for its manufacturing operations. The completion of the ERP system implementation is targeted for the first quarter of 2007, except for the 2006 acquisitions, for which implementation is scheduled later in 2007. Management does not currently believe that this will adversely affect the Company’s internal control over financial reporting.

 

None.

 

The information set forth in the sections entitled “Election of Directors” and “Corporate Governance” in the Company’s Proxy Statement for the Annual Shareholders’ Meeting to be held May 2, 2007 (the “Proxy Statement”) and the information set forth in the section entitled “Executive Officers of the Company” in Part 1, Item 1 of this Report is incorporated herein by reference.

 

The information set forth under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in the section entitled “Other Information” in the Company’s Proxy Statement is incorporated herein by reference.

 

The information set forth under the sections entitled “Compensation of Directors,” “Compensation Discussion and Analysis” and “Executive Compensation” and the information set forth under the caption “Compensation Committee Report” in the section entitled “Corporate Governance — Compensation and Human Resources Committee” in the Company’s Proxy Statement is incorporated herein by reference.