Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

x   QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 28, 2003

 

or

 

¨   TRANSITION REPORT PURSUANT OF SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                              to                             

 

Commission File Number: 0-20242

 

CENTRAL GARDEN & PET COMPANY

 

Delaware   68-0275553
(State or other jurisdiction   (I.R.S. Employer
of incorporation or organization)   Identification No.)

 

3697 Mt. Diablo Blvd., Suite 310, Lafayette, California 94549

(Address of principle executive offices)

 

(925) 283-4573

(Registrant’s telephone number, including area code)

 

 


(Former name, former address and former fiscal year, if changed since last report)

 

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

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).  x  Yes    ¨  No

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common Stock Outstanding as of July 31, 2003

   17,955,244     

Class B Stock Outstanding as of July 31, 2003

   1,654,462     

 



Table of Contents

PART I.    FINANCIAL INFORMATION

 

Item 1.   

Financial Statements

   3
    

Condensed Consolidated Balance Sheets September 28, 2002 and March 29, 2003

   3
    

Condensed Consolidated Statements of Operations Three and Six Months Ended March 30, 2002 and
March 29, 2003

   4
    

Condensed Consolidated Statements of Cash Flows Six Months Ended March 30, 2002 and March 29,
2003

   5
Item 2.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   16
Item 3.   

Quantitative and Qualitative Disclosures About Market Risk

   22
Item 4.   

Controls and Procedures

   22
PART II.    OTHER INFORMATION     
Item 1.   

Legal Proceedings

   22
Item 2.   

Changes in Securities and Use of Proceeds

   22
Item 3.   

Defaults Upon Senior Securities

   22
Item 4.   

Submission of Matter to a Vote of Securities Holders

   23
Item 5.   

Other Information

   23
Item 6.   

Exhibits and Reports on Form 8-K

   23

 

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995.

 

This quarterly report contains “forward-looking” statements based on current expectations that involve risks and uncertainties. Actual results and the timing of certain events may differ significantly from those projected in these forward-looking statements due to the factors listed below, under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors Relating to Forward-Looking Statements” in our Annual Report on Form 10-K for the fiscal year ended September 28, 2002, and from time to time in our filings with the Securities and Exchange Commission. These risks and uncertainties include the resolution of the litigation between the Company and The Scotts Company; the success of and the costs associated with the realignment of the Company’s lawn and garden distribution operations; any liabilities to which the Company may become subject as a result of the August 2, 2000 fire at its Phoenix distribution center; and the impact of any other outstanding or potential litigation.

 

2


Table of Contents

PART I.    FINANCIAL INFORMATION

 

Item 1.     Financial Statements

 

CENTRAL GARDEN & PET COMPANY

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share amounts)

(unaudited)

 

     September 28,
2002


    June 28,
2003


 

ASSETS

                

Current assets:

                

Cash and cash equivalents

   $ 10,884     $ 75,594  

Accounts receivable (less allowance for doubtful accounts of $7,597 and $7,688)

     130,984       169,263  

Inventories

     193,159       212,233  

Prepaid expenses and other assets

     26,096       11,602  
    


 


Total current assets

     361,123       468,692  

Land, buildings, improvements and equipment—net

     100,864       99,841  

Goodwill

     222,489       222,780  

Deferred income taxes and other assets

     47,481       53,664  
    


 


Total

   $ 731,957     $ 844,977  
    


 


LIABILITIES AND SHAREHOLDERS’ EQUITY

                

Current liabilities:

                

Notes payable

   $ 59,975     $  

Accounts payable

     96,796       105,901  

Accrued expenses

     42,742       60,244  

Current portion of long-term debt

     7,593       12,821  
    


 


Total current liabilities

     207,106       178,966  

Long-term debt

     145,331       249,225  

Other long-term obligations

     2,012       2,293  

Shareholders’ equity:

                

Class B stock, $.01 par value: 1,655,462 and 1,654,462 shares outstanding at September 28, 2002 and June 28, 2003

     16       16  

Common stock, $.01 par value: 31,008,198 and 31,492,819 issued and 17,265,948 and 17,750,569 outstanding at September 28, 2002 and June 28, 2003

     310       314  

Additional paid-in capital

     532,290       539,229  

Retained earnings (deficit)

     (10,281 )     19,761  

Treasury stock

     (144,827 )     (144,827 )
    


 


Total shareholders’ equity

     377,508       414,493  
    


 


Total

   $ 731,957     $ 844,977  
    


 


 

See notes to condensed consolidated financial statements.

 

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Table of Contents

CENTRAL GARDEN & PET COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)

 

     Three Months Ended

    Nine Months Ended

 
     June 29,
2002


    June 28,
2003


    June 29,
2002


    June 28,
2003


 

Net sales

   $ 335,609     $ 345,115     $ 836,961     $ 887,560  

Cost of goods sold and occupancy

     234,631       242,908       583,581       625,045  
    


 


 


 


Gross profit

     100,978       102,207       253,380       262,515  

Selling, general and administrative expenses

     74,714       69,628       203,924       199,798  
    


 


 


 


Income from operations

     26,264       32,579       49,456       62,717  

Interest expense

     (3,743 )     (5,495 )     (11,363 )     (14,679 )

Interest income

     33       69       74       139  

Other income

     4,407       1,563       4,771       1,893  
    


 


 


 


Income before income tax expense and cumulative effect of accounting change

     26,961       28,716       42,938       50,070  

Income tax expense

     8,594       11,486       15,144       20,028  
    


 


 


 


Income before cumulative effect of accounting change

     18,367       17,230       27,794       30,042  

Cumulative effect of accounting change, net of tax (Note 7)

                 (112,237 )      
    


 


 


 


Net income (loss)

   $ 18,367     $ 17,230     $ (84,443 )   $ 30,042  
    


 


 


 


Basic income (loss) per common share:

                                

Before cumulative effect of accounting change

   $ 0.99     $ 0.89     $ 1.50     $ 1.56  

Cumulative effect of accounting change

                 (6.06 )      
    


 


 


 


Basic income (loss) per common share

   $ 0.99     $ 0.89     $ (4.56 )   $ 1.56  
    


 


 


 


Diluted income (loss) per common share:

                                

Before cumulative effect of accounting change

   $ 0.84     $ 0.86     $ 1.36     $ 1.49  

Cumulative effect of accounting change

                 (4.91 )      
    


 


 


 


Diluted income (loss) per common share

   $ 0.84     $ 0.86     $ (3.55 )   $ 1.49  
    


 


 


 


Weighted average shares used in the computation of income (loss) per share:

                                

Basic

     18,579       19,357       18,498       19,217  

Diluted

     23,200       20,137       22,847       21,794  

 

See notes to condensed consolidated financial statements.

 

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CENTRAL GARDEN & PET COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

     Nine Months Ended

 
     June 29,
2002


    June 28,
2003


 

Cash flows from operating activities:

                

Net income (loss)

   $ (84,443 )   $ 30,042  

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

                

Write-off of equity method investment

     2,750        

Loss (gain) on fixed asset disposals

     696       (175 )

Depreciation and amortization

     12,828       13,297  

Cumulative effect of accounting change

     146,748        

Deferred income taxes

     (34,511 )      

Change in assets and liabilities:

                

Receivables

     (17,492 )     (38,279 )

Inventories

     31,468       (19,074 )

Prepaid expenses and other assets

     15,219       15,136  

Accounts payable

     (27,930 )     9,105  

Accrued expenses

     3,382       17,502  

Other long-term obligations

     (23 )     281  
    


 


Net cash provided by operating activities

     48,692       27,835  

Cash flows from investing activities:

                

Additions to land, buildings, improvements and equipment

     (7,160 )     (11,515 )
    


 


Net cash used in investing activities

     (7,160 )     (11,515 )

Cash flows from financing activities:

                

Repayments of lines of credit, net

     (39,190 )     (59,975 )

Proceeds from issuance of long-term debt

     1,400       250,000  

Repayments of long-term debt

     (6,465 )     (140,878 )

Deferred financing costs

           (7,700 )

Proceeds from issuance of common stock

     3,709       6,943  
    


 


Net cash provided by (used in) financing activities

     (40,546 )     48,390  

Net increase in cash and cash equivalents

     986       64,710  

Cash and cash equivalents at beginning of period

     8,292       10,884  
    


 


Cash and cash equivalents at end of period

   $ 9,278     $ 75,594  
    


 


Supplemental information:

                

Cash paid for interest

   $ 10,759     $ 9,268  
    


 


Cash paid (refunds received) for income taxes—net

   $ 972     $ (4,922 )
    


 


 

See notes to condensed consolidated financial statements.

 

5


Table of Contents

CENTRAL GARDEN & PET COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Three and Nine Months Ended June 28, 2003

(unaudited)

 

1.    Basis of Presentation

 

The condensed consolidated balance sheet as of June 28, 2003, the condensed consolidated statements of operations for the three and nine months ended June 29, 2002 and June 28, 2003 and the condensed consolidated statements of cash flows for the nine months ended June 29, 2002 and June 28, 2003 have been prepared by the Company, without audit. In the opinion of management, all adjustments (which include only normal recurring adjustments) considered necessary to present fairly the financial position, results of operations and cash flows of the Company for the periods mentioned above, have been made.

 

Due to the seasonal nature of the Company’s business, the results of operations for the three and nine months ended June 28, 2003 are not indicative of the operating results that may be expected for the year ending September 27, 2003. It is suggested that these interim financial statements be read in conjunction with the annual audited financial statements, accounting policies and financial notes thereto, included in the Company’s 2002 Annual Report on Form 10-K which has previously been filed with the Securities and Exchange Commission.

 

2.    New Accounting Pronouncements

 

In May 2003, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (“SFAS”) No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity”. SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances). This Statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. The Company expects that the adoption of SFAS No. 150 will have no material impact on its financial position or on its results of operations.

 

3.    Stock Plan Information

 

The Company has various non-qualified stock-based compensation programs, which include stock options and restricted stock awards.

 

The Company has various stock option plans that provide for the granting of stock options to officers, key employees and directors. The Company has elected to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” whereby the options are granted at market price, and therefore no compensation costs are recognized. As required by SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure,” the Company has provided fair value based pro-forma disclosures in its interim financial statements.

 

If compensation expense for the Company’s various stock option plans had been determined based upon the projected fair values at the grant dates for awards under those plans in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation”, the Company’s pro-forma net earnings, basic and diluted earnings per common share would have been as follows:

 

6


Table of Contents
     Three Months Ended

    Nine Months Ended

 
     June 29,
2002


    June 28,
2003


    June 29,
2002


    June 28,
2003


 
     (in thousands)  

Net income (loss), as reported

   $ 18,367     $ 17,230     $ (84,443 )   $ 30,042  

Deduct: Total stock-based employee compensation expense determined under fair value based method for awards, net of related tax effects

     (654 )     (448 )     (1,749 )     (1,354 )
    

Pro forma net income (loss)

   $ 17,713     $ 16,782     $ (86,192 )   $ 28,688  
    

Net income (loss) per common equivalent share:

                                

Basic – as reported

   $ 0.99     $ 0.89     $ (4.56 )   $ 1.56  

Basic – pro forma

   $ 0.95     $ 0.87     $ (4.66 )   $ 1.49  

Diluted – as reported

   $ 0.84     $ 0.86     $ (3.55 )   $ 1.49  

Diluted – pro forma

   $ 0.81     $ 0.83     $ (3.63 )   $ 1.43  

 

4.    Earnings Per Share

 

The following is a reconciliation of the numerators and denominators of the basic and diluted per-share computations for income (loss) from continuing operations:

 

    

Three Months Ended

June 28, 2003


   

Nine Months Ended

June 28, 2003


 
     Income

   Shares

   Per Share

    Income

   Shares

   Per Share

 
     (in thousands, except per share amounts)  

Basic EPS:

                                        

Net income

   $ 17,230    19,357    $ 0.89     $ 30,042    19,217    $ 1.56  

Effect of dilutive securities:

                                        

Options to purchase common stock

          780      (0.03 )          752      (0.06 )

Convertible notes

                         2,428    1,825      (0.01 )

Diluted EPS:

                                        

Net income attributable to common shareholders

   $ 17,230    20,137    $ 0.86     $ 32,470    21,794    $ 1.49  

 

    

Three Months Ended

June 29, 2002


   

Nine Months Ended

June 29, 2002


 
     Income

   Shares

   Per Share

    Income

    Shares

   Per Share

 
     (in thousands, except per share amounts)  

Basic EPS:

                                         

Net income (loss)

   $ 18,367    18,579    $ 0.99     $ (84,443 )   18,498    $ (4.56 )

Effect of dilutive securities:

                                         

Options to purchase common stock

          514      (0.03 )           242      0.05  

Convertible notes

     1,084    4,107      (0.12 )     3,253     4,107      0.96  

Diluted EPS:

                                         

Net income (loss) attributable to common shareholders

   $ 19,451    23,200    $ 0.84     $ (81,190 )   22,847    $ (3.55 )

 

7


Table of Contents

Shares of common stock from the assumed conversion of the Company’s convertible securities totaling 4,107,143 were not included in the computation of diluted EPS for the three month period ended June 28, 2003, because the notes were repaid in February 2003 and were not outstanding during the period. Shares of common stock from the assumed conversion of the Company’s convertible securities totaling 4,107,143 were included in the computation of diluted EPS for the nine month period ended June 28, 2003 and the three and nine-month periods ended June 29, 2002.

 

Options to purchase 2,531,680 and 2,875,152 shares of common stock at prices ranging from $1.30 to $30.00 per share were outstanding at June 28, 2003 and from $1.30 to $33.94 at June 29, 2002, respectively. For the three month periods ended June 28, 2003 and June 29, 2002, options to purchase 6,000 and 659,448 shares of common stock were outstanding but were not included in the computation of diluted earnings per share because the option exercise prices were greater than the average market price of the common shares and, therefore, the effect would be anti-dilutive. For the nine month periods ended June 28, 2003 and June 29, 2002, options to purchase 277,107 and 1,048,275 shares of common stock were outstanding but were not included in the computation of diluted earnings per share because the option exercise prices were greater than the average market price of the common shares and, therefore, the effect would be anti-dilutive.

 

5.    Segment Information

 

Management has determined that the reportable segments of the Company are Garden Products and Pet Products, based on the level at which the chief operating decision making group reviews the results of operations to make decisions regarding performance assessment and resource allocation.

 

     Three Months Ended

    Nine Months Ended

 
     June 29,
2002


    June 28,
2003


    June 29,
2002


    June 28,
2003


 
     (in thousands)  

Net sales:

                                

Garden Products

   $ 214,796     $ 215,429     $ 481,713     $ 510,571  

Pet Products

     120,813       129,686       355,248       376,989  
    


 


 


 


Total net sales

   $ 335,609     $ 345,115     $ 836,961     $ 887,560  
    


 


 


 


Income (loss) from operations:

                                

Garden Products

   $ 20,264     $ 19,645     $ 39,986     $ 40,311  

Pet Products

     14,615       16,532       32,872       39,448  

Corporate

     (8,615 )     (3,598 )     (23,402 )     (17,042 )
    


 


 


 


Total income from operations

     26,264       32,579       49,456       62,717  
    


 


 


 


Interest expense—net

     (3,710 )     (5,426 )     (11,289 )     (14,540 )

Other income

     4,407       1,563       4,771       1,893  

Income tax expense

     (8,594 )     (11,486 )     (15,144 )     (20,028 )
    


 


 


 


Income before cumulative effect of accounting change

     18,367       17,230       27,794       30,042  

Cumulative effect of accounting change, net of tax

                 (112,237 )      
    


 


 


 


Net income (loss)

   $ 18,367     $ 17,230     $ (84,443 )   $ 30,042  
    


 


 


 


Depreciation and amortization:

                                

Garden Products

   $ 1,343     $ 1,297     $ 4,123     $ 3,947  

Pet Products

     2,797       3,048       8,280       8,970  

Corporate

     141       128       425       380  
    


 


 


 


Total depreciation and amortization

   $ 4,281     $ 4,473     $ 12,828     $ 13,297  
    


 


 


 


 

8


Table of Contents
     September 28,
2002


   June 28,
2003


     (in thousands)

Assets:

             

Garden Products

   $ 254,903    $ 290,486

Pet Products

     201,051      213,903

Corporate

     276,003      340,588
    

  

Total assets

   $ 731,957    $ 844,977
    

  

Goodwill (included in corporate assets):

             

Garden Products

   $ 105,390    $ 105,681

Pet Products

     117,099      117,099
    

  

Total goodwill

   $ 222,489    $ 222,780
    

  

 

6.    Consolidating Condensed Financial Information of Guarantor Subsidiaries

 

Certain wholly-owned subsidiaries of the Company (as listed below, collectively the “Guarantor Subsidiaries”) have guaranteed fully and unconditionally, on a joint and several basis, the obligation to pay principal and interest under the Company’s $150,000,000 9 1/8% Senior Subordinated Notes (the “Notes”) issued on January 30, 2003. Certain subsidiaries and operating divisions are not guarantors of the Notes and have been included in the financial results of the Parent in the information below. Those subsidiaries that are guarantors of the Notes are as follows:

 

Four Paws Products Ltd.

Grant Laboratories, Inc.

Kaytee Products, Incorporated

Matthews Redwood & Nursery Supply, Inc.

Pennington Seed, Inc. (including Phaeton Corporation (dba Unicorn Labs), Seeds West, Inc., All-Glass

    Aquarium Co., Inc. (including Oceanic Systems, Inc.))

T.F.H. Publications, Inc.

Wellmark International

Norcal Pottery Products, Inc.

Pennington Seed, Inc. of Nebraska

Gro Tec, Inc.

 

In lieu of providing separate unaudited financial statements for the Guarantor Subsidiaries, the Company has included the accompanying unaudited consolidating condensed financial statements based on the Company’s understanding of the Securities and Exchange Commission’s interpretation and application of Rule 3-10 of the Securities and Exchange Commission’s Regulation S-X.

 

9


Table of Contents
    

CONSOLIDATING CONDENSED

STATEMENT OF OPERATIONS

Three Months Ended June 28, 2003

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net sales

   $ 112,711     $ 252,842     $ (20,438 )   $ 345,115  

Cost of goods sold and occupancy

     82,944       180,351       (20,387 )     242,908  
    


 


 


 


Gross profit

     29,767       72,491       (51 )     102,207  

Selling, general and administrative expenses

     24,964       44,664             69,628  
    


 


 


 


Income (loss) from operations

     4,803       27,827       (51 )     32,579  

Interest – net

     (5,363 )     (63 )           (5,426 )

Other income

     1,005       558             1,563  
    


 


 


 


Income (loss) before income taxes

     445       28,322       (51 )     28,716  

Income taxes

     (177 )     (11,329 )     20       (11,486 )
    


 


 


 


Net income (loss)

     268       16,993       (31 )     17,230  

Equity in undistributed income of guarantor subsidiaries

     16,962             (16,962 )      
    


 


 


 


Net income (loss)

   $ 17,230     $ 16,993     $ (16,993 )   $ 17,230  
    


 


 


 


 

    

Three Months Ended June 29, 2002

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net sales

   $ 113,780     $ 241,908     $ (20,079 )   $ 335,609  

Cost of goods sold and occupancy

     86,381       168,403       (20,153 )     234,631  
    


 


 


 


Gross profit

     27,399       73,505       74       100,978  

Selling, general and administrative expenses

     26,304       48,410             74,714  
    


 


 


 


Income (loss) from operations

     1,095       25,095       74       26,264  

Interest – net

     (3,243 )     (467 )           (3,710 )

Other income

     (2,242 )     6,649             4,407  
    


 


 


 


Income (loss) before income taxes

     (4,390 )     31,277       74       26,961  

Income taxes

     1,546       (10,111 )     (29 )     (8,594 )
    


 


 


 


Net income (loss)

     (2,844 )     21,166       45       18,367  

Equity in undistributed income of guarantor subsidiaries

     21,211             (21,211 )      
    


 


 


 


Net income (loss)

   $ 18,367     $ 21,166     $ (21,166 )   $ 18,367  
    


 


 


 


 

 

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CONSOLIDATING CONDENSED

STATEMENT OF OPERATIONS

Nine Months Ended June 28, 2003

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net sales

   $ 287,168     $ 656,577     $ (56,185 )   $ 887,560  

Cost of goods sold and occupancy

     212,134       468,421       (55,510 )     625,045  
    


 


 


 


Gross profit

     75,034       188,156       (675 )     262,515  

Selling, general and administrative expenses

     72,814       126,984             199,798  
    


 


 


 


Income (loss) from operations

     2,220       61,172       (675 )     62,717  

Interest – net

     (13,655 )     (885 )           (14,540 )

Other income

     825       1,068             1,893  
    


 


 


 


Income (loss) before income taxes

     (10,610 )     61,355       (675 )     50,070  

Income taxes

     4,245       (24,543 )     270       (20,028 )
    


 


 


 


Net income (loss)

     (6,365 )     36,812       (405 )     30,042  

Equity in undistributed income of guarantor subsidiaries

     36,407             (36,407 )      
    


 


 


 


Net income (loss)

   $ 30,042     $ 36,812     $ (36,812 )   $ 30,042  
    


 


 


 


 

    

Nine Months Ended June 29, 2002

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net sales

   $ 290,295     $ 598,811     $ (52,145 )   $ 836,962  

Cost of goods sold and occupancy

     220,478       415,191       (52,088 )     583,581  
    


 


 


 


Gross profit

     69,817       183,620       (57 )     253,381  

Selling, general and administrative expenses

     81,391       122,533             203,925  
    


 


 


 


Income (loss) from operations

     (11,574 )     61,087       (57 )     49,456  

Interest – net

     (9,454 )     (1,835 )           (11,289 )

Other income

     (2,021 )     6,792             4,771  
    


 


 


 


Income (loss) before income taxes and cumulative effect of accounting change

     (23,049 )     66,044       (57 )     42,938  

Income taxes

     8,851       (24,018 )     23       (15,144 )
    


 


 


 


Income (loss) before cumulative effect of accounting change

     (14,198 )     42,026       (34 )     27,794  

Cumulative effect of accounting change, net of tax

     (112,237 )                 (112,237 )
    


 


 


 


Net income (loss)

     (126,435 )     42,026       (34 )     (84,443 )

Equity in undistributed income of guarantor subsidiaries

     41,992             (41,992 )      
    


 


 


 


Net income (loss)

   $ (84,443 )   $ 42,026     $ (42,026 )   $ (84,443 )
    


 


 


 


 

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CONSOLIDATING CONDENSED BALANCE SHEET

June 28, 2003

(in thousands)


     Parent

  

Guarantor

Subsidiaries


   Eliminations

    Consolidated

ASSETS

    

Cash and equivalents

   $ 73,469    $ 2,125    $     $ 75,594

Accounts receivable

     48,431      129,986      (9,154 )     169,263

Inventories

     62,784      149,449            212,233

Prepaids and other assets

     7,815      3,787            11,602
    

  

  


 

Total current assets

     192,499      285,347      (9,154 )     468,692

Land, buildings, improvements and equipment, net

     10,811      89,030            99,841

Goodwill

     222,780                 222,780

Investment in Guarantors

     287,861           (287,861 )    

Deferred income taxes and other assets

     39,756      13,908            53,664
    

  

  


 

Total

   $ 753,707    $ 388,285    $ (297,015 )   $ 844,977
    

  

  


 

LIABILITIES

                            

Notes payable

   $    $    $     $

Accounts payable

     56,195      58,860      (9,154 )     105,901

Accrued expenses and other liabilities

     32,747      27,497            60,244

Current portion of long-term debt

     1,000      11,821            12,821
    

  

  


 

Total current liabilities

     89,942      98,178      (9,154 )     178,966

Long-term debt

     249,200      25            249,225

Deferred income taxes and other long-term obligations

     72      2,221            2,293

Equity

     414,493      287,861      (287,861 )     414,493
    

  

  


 

Total

   $ 753,707    $ 388,285    $ (297,015 )   $ 844,977
    

  

  


 

 

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CONSOLIDATING CONDENSED BALANCE SHEET

September 28, 2002

(in thousands)


     Parent

  

Guarantor

Subsidiaries


   Eliminations

    Consolidated

ASSETS

    

Cash and equivalents

   $ 10,080    $ 804    $     $ 10,884

Accounts receivable

     41,002      103,087      (13,105 )     130,984

Inventories

     52,417      140,742            193,159

Prepaids and other assets

     21,046      5,050            26,096
    

  

  


 

Total current assets

     124,545      249,683      (13,105 )     361,123

Land, buildings, improvements and equipment, net

     12,191      88,673            100,864

Goodwill

     222,489                 222,489

Investment in Guarantors

     212,738           (212,738 )    

Deferred income taxes and other assets

     35,070      14,347      (1,936 )     47,481
    

  

  


 

Total

   $ 607,033    $ 352,703    $ (227,779 )   $ 731,957
    

  

  


 

LIABILITIES

                            

Notes payable

   $ 33,992    $ 25,983    $     $ 59,975

Accounts payable

     52,606      57,295      (13,105 )     96,796

Accrued expenses and other liabilities

     22,437      27,898            50,335
    

  

  


 

Total current liabilities

     109,035      111,176      (13,105 )     207,106

Long-term debt

     120,387      24,944            145,331

Deferred income taxes and other long-term obligations

     103      3,845      (1,936 )     2,012

Equity

     377,508      212,738      (212,738 )     377,508
    

  

  


 

Total

   $ 607,033    $ 352,703    $ (227,779 )   $ 731,957
    

  

  


 

 

 

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CONSOLIDATING CONDENSED STATEMENT OF CASH FLOWS

Nine Months Ended June 28, 2003

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net cash provided (used) by operating activities

   $ 13,392     $ 14,848     $ (405 )   $ 27,835  

Expenditures for land, buildings, improvements
and equipment

     (1,500 )     (10,015 )           (11,515 )

Investment in guarantor

     (38,719 )     38,314       405        
    


 


 


 


Net cash provided (used) by investing activities

     (40,219 )     28,299       405       (11,515 )
    


 


 


 


Borrowings (repayments) under lines of credit,
net

     (33,992 )     (25,983 )           (59,975 )

Proceeds from issuance of long-term debt

     250,000                   250,000  

Payments on long-term debt

     (125,035 )     (15,843 )           (140,878 )

Deferred financing costs

     (7,700 )                 (7,700 )

Proceeds from issuance of stock

     6,943                   6,943  
    


 


 


 


Net cash provided (used) by financing activities

     90,216       (41,826 )           48,390  
    


 


 


 


Net increase in cash and cash
equivalents

     63,389       1,321             64,710  

Cash and cash equivalents at beginning of
period

     10,080       804             10,884  
    


 


 


 


Cash and cash equivalents at end of period

   $ 73,469     $ 2,125     $     $ 75,594  
    


 


 


 


    

Nine Months Ended June 29, 2002

(in thousands)


 
     Parent

   

Guarantor

Subsidiaries


    Eliminations

    Consolidated

 

Net cash provided (used) by operating activities

   $ (5,688 )   $ 54,540     $ (160 )   $ 48,692  

Expenditures for land, buildings, improvements
and equipment

     (1,322 )     (5,838 )     —         (7,160 )

Investment in guarantor

     30,856       (31,016 )     160       —    
    


 


 


 


Net cash provided (used) by investing activities

     29,534       (36,854 )     160       (7,160 )
    


 


 


 


Borrowings (repayments) under lines of credit,
net

     (22,215 )     (16,975 )     —         (39,190 )

Proceeds from issuance of long-term debt

     —         1,400       —         1,400  

Payments on long-term debt

     (4,532 )     (1,933 )     —         (6,465 )

Proceeds from issuance of stock

     3,709       —         —         3,709  
    


 


 


 


Net cash used by financing activities

     (23,038 )     (17,508 )     —         (40,546 )
    


 


 


 


Net increase in cash and cash equivalents

     808       178       —         986  

Cash and cash equivalents at beginning of
period

     7,153       1,139       —         8,292  
    


 


 


 


Cash and cash equivalents at end of period

   $ 7,961     $ 1,317     $ —       $ 9,278  
    


 


 


 


 

 

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7.    Cumulative Effect of Accounting Change – Adoption of SFAS No. 142

 

During fiscal 2002, management completed its measurement of the goodwill impairment resulting from the adoption of SFAS No. 142, “Goodwill and Other Intangible Assets.” The amount of goodwill impairment upon adoption is reflected as the cumulative effect of an accounting change as of September 30, 2001 in the accompanying condensed consolidated financial statements.

 

Goodwill balances within the Pet Products and Garden Products segments were tested for impairment as of September 30, 2001. Based on the analysis performed, the Company recorded a non-cash charge to write down goodwill in its Pet Products segment by $94.8 million ($70.1 million after tax) and in its Garden Products segment by $51.9 million ($42.1 million after tax).

 

8.    Contingencies

 

TFH Litigation.    In December 1997, Central acquired all of the stock of TFH Publications, Inc. (“TFH”). In connection with the transaction, Central made a $10 million loan to the sellers, which was evidenced by a Promissory Note. In September 1998, the prior owners of TFH brought suit against Central and certain executives of Central for damages and relief from their obligations under the Promissory Note, alleging, among other things, that Central’s failure to properly supervise the TFH management team had jeopardized their prospects of achieving certain earnouts. Central believes that these allegations are without merit. Central counterclaimed against the prior owners for enforcement of the Promissory Note, rescission and/or damages and other relief, alleging, among other things, fraud, misrepresentation and breach of fiduciary duty by the prior owners of TFH. These actions, Herbert R. Axelrod and Evelyn Axelrod v. Central Garden & Pet Company; Glenn S. Axelrod; Gary Hersch; William E. Brown; Robert B. Jones; Glen Novotny; and Neill Hines, Docket No. MON-L-5100-99, and TFH Publications, Inc. v. Herbert Axelrod et al., Docket No. L-2127-99 (consolidated cases), are in the New Jersey Superior Court. It is currently anticipated that this case will be tried in late 2003 or early 2004.

 

During the course of discovery in this action, Central has become aware of certain information which shows that prior to the acquisition of TFH by Central, certain records of TFH were prepared in an inaccurate manner which, among other things, resulted in underpayment of taxes by certain individuals. Those individuals could be liable for back taxes, interest, and penalties. In addition, even though all of the events occurred prior to the acquisition of TFH by Central, there is a possibility that TFH could be liable for penalties for events which occurred under prior management. Central believes that TFH has strong defenses available to the assertion of any penalties against TFH. Central cannot predict whether TFH will be required to pay any such penalties. In the event that TFH were required to pay penalties, Central would seek compensation from the prior owners.

 

Central does not believe that the outcome of the above matters will have a material adverse impact on its operations, financial position, or cash flows.

 

Scotts Litigation.    On June 30, 2000, The Scotts Company filed suit against Central to collect the purchase price of certain lawn and garden products previously sold to Central. See The Scotts Company v. Central Garden & Pet Company, Docket No. C2 00-755 (U.S. Dist Ct. N.D. Ohio). Central filed its answer and a counter complaint asserting various claims for breaches of contracts.

 

In April 2002, trial occurred on the claims and counterclaims of the parties (excluding one oral contract claim made by Central recently added to the case). The net verdict was in favor of Scotts in the amount of $10.425 million which had previously been recorded as an obligation by the Company. Scotts and Central filed post-trial motions. In a March 20, 2003 order, the district court denied Scotts’ motion for attorneys’ fees, granted Scotts’ motion to set aside $750,000 of the jury amount awarded to Central, denied Central’s motion for a new trial, granted Central’s motion for prejudgment interest, and granted in part and denied in part Scotts’ motion for prejudgment interest. The court directed each party to re-determine the amount of their respective interest claims in light of the Court’s ruling and to submit their respective determinations. On July 11, 2003, the Court issued an order resolving the remaining prejudgment interest issues and directing the parties to submit calculations in accordance with its decision. Pursuant

 

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to this order, the Court will award prejudgment interest to Scotts in the net amount of $2.827 million, which has been previously provided for by the Company. Trial on Central’s remaining claim is scheduled for October 6, 2003.

 

On July 7, 2000, Central filed suit against Scotts and Pharmacia Corporation (formerly know as Monsanto Company) seeking damages and injunctive relief for, among other things, violations of the antitrust laws. See Central Garden & Pet Company, v. The Scotts Company, and Pharmacia Corporation, formerly known as Monsanto Company, Docket No. C 00 2465, (U.S. Dist Ct. N.D. Cal.). Pursuant to a settlement reached with Pharmacia, Central and Pharmacia agreed that all antitrust claims against Pharmacia and Monsanto would be resolved, and the federal action has been dismissed as to Pharmacia and Monsanto. In May 2002, Scotts filed a motion for summary judgment in the federal action based on res judicata. The court granted the res judicata motion, did not rule on the antitrust motions. Central is appealing the judgment entered pursuant to the court’s order.

 

Central does not believe that the outcome of the above remaining matters will have a material adverse impact on its operations, financial position, or cash flows.

 

Phoenix Fire.    On August 2, 2000, a fire destroyed Central’s leased warehouse space in Phoenix, Arizona, and an adjoining warehouse space leased by a third party. On July 31, 2001, the adjoining warehouse tenant filed a lawsuit against Central and other parties in the Superior Court of Arizona, Maricopa County, seeking to recover $47 million for property damage from the fire. See Cardinal Health Inc., et al. v. Central Garden & Pet Company, et al., Civil Case No. CV2001-013152. Local residents have also filed a purported class action lawsuit alleging claims for bodily injury and property damage as a result of the fire. The building owner and several nearby businesses have also now filed lawsuits for property damage and business interruption, which we expect to be consolidated with the tenant and local resident lawsuits. Each of these lawsuits is currently pending in the Superior Court of Arizona, Maricopa County. The Arizona Department of Environmental Quality, after monitoring the cleanup operations and asking Central, the building owner and the adjoining warehouse tenant to assess whether the fire and fire suppression efforts may have caused environmental impacts to soil, groundwater and/or surface water, has now issued a letter stating that Central need take no further action at the site with respect to environmental issues. In early 2001, the EPA requested information relating to the fire. On July 17, 2002, the EPA informed Central that it intended to file a civil administrative complaint seeking penalties of up to $350,000 for certain alleged post-fire reporting violations. Central and the EPA have recently settled those allegations for $65,000. The overall amount of the damages to all parties caused by the fire, and the overall amount of damages which Central may sustain as a result of the fire, have not been quantified. At the time of the fire, Central maintained property insurance covering losses to the leased premises, Central’s inventory and equipment, and loss of business income. Central also maintained insurance providing $51 million of coverage (with no deductible) against third party liability. Central believes that this insurance coverage will be available with respect to third party claims against Central if parties other than Central are not found responsible. The precise amount of the damages sustained in the fire, the ultimate determination of the parties responsible and the availability of insurance coverage are likely to depend on the outcome of complex litigation, involving numerous claimants, defendants and insurance companies.

 

9.    Subsequent Event

 

In July 2003 the Company acquired a 49 percent equity interest in the E. M. Matson lawn and garden business. E. M. Matson is a leading lawn and garden manufacturer in the Western U.S. which markets and sells slug & snail products, moss controls and animal repellants under the Corry’s, Deadline and Moss-B-Ware brand names. Annual sales are approximately $8 million. This investment provides the Company with additional premium brands to add to its stable of leading brands and brings in additional management talent.

 

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

 

Overview

 

Central Garden & Pet Company is a leading marketer and producer of quality branded products for the pet and lawn and garden supplies markets. We are one of the largest companies in the fragmented, $5.1 billion U.S. pet supplies industry and one of the largest companies in the $52.5 billion U.S. lawn and garden supplies industry. Our

 

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pet products include pet bird and small animal food, wild bird seed, aquarium products, flea, tick, mosquito and other insect control products, edible bones, cages, carriers, pet books, and other dog, cat, reptile and small animal products. These products are sold under a number of brand names, including Kaytee, All-Glass Aquarium, Zodiac, Nylabone, TFH and Four Paws. Our lawn and garden products include grass seed, wild bird seed, weed and insect control products, decorative outdoor patio products and ant control products. These products are sold under a number of brand names, including Pennington, Norcal Pottery, Matthews Four Seasons, AMDRO and Grant’s. In fiscal 2002, our consolidated net sales were $1.1 billion, of which our pet products segment, or Pet Products, accounted for $471.1 million and our lawn and garden products segment, or Garden Products, accounted for $606.7 million. Our income from operations was $52.8 million, of which Pet Products accounted for $43.4 million and Garden Products accounted for $37.3 million, before corporate expenses and eliminations of $27.9 million.

 

Central was incorporated in Delaware in June 1992 and is the successor to a California corporation which was incorporated in 1955. References to “we,” “us,” “our,” or “Central” mean Central Garden & Pet Company and its subsidiaries and divisions, and their predecessor companies and subsidiaries.

 

Background

 

During the past several years, we have transitioned to a leading marketer and producer of branded products from a traditional pet and lawn and garden supplies distributor. We undertook this transition because we recognized the opportunity to build a portfolio of leading brands and improve profitability by capitalizing on our knowledge of the pet and lawn and garden supplies sectors, our strong relationships with retailers and our nationwide sales and logistics network. Our goal was to diversify our business and improve operating margins by establishing a portfolio of leading brands. Since 1997, we have acquired numerous branded products companies and product lines, including Wellmark and Four Paws in fiscal 1997; Kaytee Products, TFH and Pennington Seed in fiscal 1998; Norcal Pottery in fiscal 1999; and AMDRO and All-Glass Aquarium in fiscal 2000.

 

While expanding our branded products business, we experienced adverse events in our distribution business. From 1995 to 1999, we were the master distributor of Round Up and Ortho products. In January 1999, The Scotts Company, one of our largest distribution suppliers at the time, acquired Ortho and became the marketing agent for Round Up. In July 2000, Scotts terminated its relationship with us. Due to these events, we significantly downsized our garden distribution operations and closed a total of 25 facilities from fiscal 1999 to fiscal 2001. We have incurred significant legal expenses associated with lawsuits with Scotts and others. In fiscal 2001, we integrated our sales and logistics networks into our pet and lawn and garden products businesses to allow us to focus resources and provide strategic sales support for our brands.

 

Virtually all of our sales before fiscal 1997 were from distributing other manufacturers’ products. Since then, our branded product sales have grown to approximately $800 million, or approximately 75% of total sales, in fiscal 2002. During this same period, sales of other manufacturers’ products have declined to approximately $250 million, or approximately 25% of total sales, and our gross profit margins improved from 13.6% in fiscal 1996 to 29.7% in fiscal 2002.

 

Recent Developments

 

In July 2003, we acquired a 49 percent equity interest in the E. M. Matson lawn and garden business. E. M. Matson is a leading lawn and garden manufacturer in the Western U.S. which markets and sells slug & snail products, moss controls and animal repellants under the Corry’s, Deadline and Moss-B-Ware brand names. Annual sales are approximately $8 million.

 

In May 2003, we closed a $200 million senior secured credit facility. The new credit facility consists of a five-year $100 million revolving credit facility and a six-year $100 million term loan. The new facility replaced the Company’s $175 million asset-based revolving credit facility. Net proceeds from the new facility were used to retire the outstanding debt under the asset-based revolving credit facility. The remaining net proceeds will be used to retire other existing debt as well as provide capital for general corporate purposes and acquisitions and investments.

 

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Three Months Ended June 28, 2003

Compared with Three Months Ended June 29, 2002

 

Results for the third quarter of fiscal 2003 continued to reflect our transition to a leading marketer and producer of branded products from a distributor of other manufacturers’ products. Branded product sales continued to increase while sales of other manufacturer’s products decreased. Net sales for the three months ended June 28, 2003 increased $9.5 million, or 2.8%, to $345.1 million from $335.6 million for the three months ended June 29, 2002 due to increased branded product sales partially offset by decreased sales of other manufacturers’ products. Net sales increased $8.9 million, or 7.3%, in Pet Products and $0.6 million, or 0.3%, in Garden Products. Our branded product sales increased $6.7 million in Pet Products, due primarily to increased sales of mosquito and pest control products and aquariums, and $6.1 million in Garden Products, due primarily to increased sales of grass seed, pottery and fire ant products.

 

Gross profit for the quarter ended June 28, 2003 increased $1.2 million, or 1.2%, to $102.2 million from $101.0 million for the quarter ended June 29, 2002. Pet Product’s gross profit increased as a result increased sales, partially offset by a slight decrease in Garden Products as a result of higher than normal grain prices. Gross profit as a percentage of net sales decreased from 30.1% for the quarter ended June 29, 2002 to 29.6% for the same quarter in 2003. Our gross margins continued to be impacted by higher than normal grain prices caused by last year’s drought in the Plains states. However, we do not expect our gross margins to be impacted by the higher than normal grain prices in the fourth quarter of fiscal 2003. Wild bird feed margins are recovering as we use the higher priced grain inventories purchased earlier in the season and we have improved pricing to retailers, the last of which was implemented in mid-March.

 

Selling, general and administrative expenses decreased $5.1 million, or 6.8%, from $74.7 million for the quarter ended June 29, 2002 to $69.6 million in the current quarter. As a percentage of net sales, selling, general and administrative expenses decreased from 22.3% for the quarter ended June 29, 2002 to 20.2% for the quarter ended June 28, 2003. The decrease in selling, general and administrative expenses as a percentage of net sales was due to decreased facility and warehouse and administrative expenses partially offset by increased selling and delivery expenses.

 

Selling and delivery expenses increased $5.2 million, or 15.0%, from $34.6 million for the quarter ended June 29, 2002 to $39.8 million for the current quarter. Increased selling and delivery expense in Pet Products resulted from increased revenues, while increased media advertising and increased revenues led to increased expenses in Garden Products.

 

Facilities expense decreased by $0.2 million, or 7.4%, from $2.7 million for the quarter ended June 29, 2002 to $2.5 million for the current quarter. The decrease was related to the reduction of Garden Products facilities that occurred subsequent to the June 29, 2002 quarter.

 

Warehouse and administrative expenses decreased $10.1 million, or 27.0%, from $37.4 million for the quarter ended June 29, 2002 to $27.3 million for the quarter ended June 28, 2003. Warehouse and administrative expenses decreased $1.1 million in Pet Products, $4.0 million in Garden Products and $5.0 million at Corporate. The decrease was due primarily to significantly reduced legal and litigation expenses in the current year quarter and increased purchasing, merchandise handling and storage costs included as inventory costs as a result of the increase in both sales and inventory levels. Expenses were further reduced by the consolidation of Garden Products administrative functions that occurred subsequent to June 29, 2002. In the prior year quarter, increased charges resulted from a discontinued product line as well as insurance costs.

 

Operating income increased $6.3 million, or 24%, compared to the prior year quarter as a result of increased sales and lower selling, general and administrative expenses.

 

Net interest expense for the quarter ended June 28, 2003 increased by $1.7 million, or 46.3%, to $5.4 million from $3.7 million for the quarter ended June 29, 2002. Approximately $0.4 million was for fees and expenses in connection with the refinancing of our senior credit facility. The remainder of the increase is due to the higher interest expense primarily associated with higher rates on our $150 million senior subordinated notes due 2013.

 

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Other income decreased $2.8 million from $4.4 million for the quarter ended June 29, 2002 to $1.6 million for the quarter ended June 28, 2003. The decrease is due primarily to $6 million of life insurance proceeds, partially offset by a $2.8 million charge related to the write-down of an equity method investment, included in the quarter ended June 29, 2002. Earnings from equity method investments were $1.6 million for the quarter ended June 28, 2003 compared to $1.2 million for the quarter ended June 29, 2002.

 

The Company’s effective income tax rate for the quarter ended June 28, 2003 was 40.0% compared with 31.9% for the quarter ended June 29, 2002. The lower effective tax rate in the quarter ended June 29, 2002 was primarily the result of non-taxable insurance proceeds.

 

 

Nine Months Ended June 28, 2003

Compared with Nine Months Ended June 29, 2002

 

Net sales for the nine months ended June 28, 2003 increased by $50.6 million, or 6.1%, to $887.6 million from $837.0 million for the nine months ended June 29, 2002. The increase in net sales was comprised of a $21.7 million, or 6.1%, increase in Pet Products and a $28.9 million, or 6.0%, increase in Garden Products. Increased sales in both segments are the result of increased sales or our branded products, primarily mosquito, fire ant and pest control products, grass and bird seed. The wet spring weather in 2003 dampened our garden sales. However, the impact has been offset by the large population of insects and pests the wet weather has brought and continued concerns over the West Nile virus.

 

Gross profit for the nine months ended June 28, 2003 increased $9.1 million, or 3.6%, to $262.5 million from $253.4 million for the nine months ended June 29, 2002. Gross profit increased in both Garden Products and Pet Products as a result of increased sales. Gross profit as a percentage of net sales decreased from 30.3% for the nine months ended June 29, 2002 to 29.6% for the nine months ended June 28, 2003. Garden and Pet Product gross margins continued to be impacted by higher than normal grain prices caused by last year’s drought in the Plains states. However, wild bird feed margins are recovering as we use the higher priced grain inventories purchased earlier in the season and from improved pricing to retailers, the last of which was implemented in mid-March.

 

Selling, general and administrative expenses decreased $4.1 million, or 2.0%, from $203.9 million for the nine months ended June 29, 2002 to $199.8 million for the nine months ended June 28, 2003. As a percentage of net sales, selling, general and administrative expenses decreased from 24.4% for the nine months ended June 29, 2002 to 22.5% for the nine months ended June 28, 2003. The decrease in selling, general and administrative expense was due to decreased facilities and warehouse and administrative expenses partially offset by increased selling and delivery expenses.

 

Selling and delivery expenses increased by $9.4 million, or 10.1%, from $92.9 million for the nine months ended June 29, 2002 to $102.3 million for the nine months ended June 28, 2003. The increase in revenues in both Garden Products and Pet Products and increased media advertising led to increased selling and delivery expenses.

 

Facilities expense decreased by $0.8 million, or 9.3%, from $8.5 million for the nine months ended June 29, 2002 to $7.7 million for the nine months ended June 28, 2003. The decrease was primarily related to facility shutdown costs in Pet Products incurred in the prior year period and reduced costs in Garden Products due to facility consolidations subsequent to June 29, 2002.

 

Warehouse and administrative expenses decreased $12.7 million, or 12.4%, from $102.5 million for the nine months ended June 29, 2002 to $89.8 million for the nine months ended June 28, 2003. Warehouse and administrative expenses decreased $3.5 million in Garden Products, $2.8 million in Pet Products and $6.4 million at Corporate. The decrease was due primarily to significantly reduced legal and litigation expenses in the current fiscal year. Additionally, increased charges from a discontinued product line were incurred in the prior year. Also contributing to the decrease was increased purchasing, merchandise handling and storage costs included as inventory costs as a result of the increase in both sales and inventory. Expenses were further reduced by the consolidation of Garden Products administrative functions that occurred subsequent to June 29, 2002.

 

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Net interest expense for the nine months ended June 28, 2003 increased $3.2 million, or 28.8%, to $14.5 million from $11.3 million for the nine months ended June 29, 2002. The increase is due to $1.8 million of fees and expenses related to the issuance and retirement of debt in fiscal 2003 and the higher interest expense associated with the higher rates on our new capital structure, primarily the $150 million of 9 1/8% senior subordinated notes due 2013.

 

Other income decreased $2.9 million from $4.8 million for the nine months ended June 29, 2002 to $1.9 million for the nine months ended June 28, 2003. The decrease is due to $6 million of life insurance proceeds, partially offset by a $2.8 million charge related to the write-down of an equity method investment, included in the nine months ended June 29, 2002. Earnings from equity method investments increased $0.3 million in the current fiscal year.

 

Our effective income tax rate before the cumulative effect of accounting change for the nine months ended June 29, 2002 was 35.3% compared with 40.0% for the nine months ended June 28, 2003. The lower effective tax rate in for the nine months ended June 29, 2002 was primarily the result of non-taxable insurance proceeds.

 

We recorded net income for the nine months ended June 28, 2003 of $30.0 million compared with $27.8 million, before the effect of adopting Statement of Financial Accounting Standards (“SFAS”) No. 142, in the prior year nine month period. Improved operating results were offset partially by increased interest expense and income taxes and reduced other income. Fully diluted earnings per share improved from $1.36, before the effect of adopting SFAS No. 142, in the prior year nine months to $1.49 in the current year nine months. In addition to the improved net income in the current year, the fully diluted weighted average shares outstanding decreased due to the redemption of our $115 million convertible subordinated notes in February 2003.

 

In the first quarter of fiscal 2002, we reported a cumulative effect of accounting change charge in the amount of $112.2 million. In July 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 changes the accounting for goodwill and intangible assets with indefinite lives from an amortization method to an impairment approach. Other intangible assets will continue to be amortized over their estimated useful lives. Amortization of goodwill, including goodwill recorded in prior business combinations, ceased upon the adoption of the standard, which we adopted for the fiscal year beginning September 30, 2001. As required by SFAS No. 142, we performed our goodwill impairment analysis and recorded a non-cash charge to write down goodwill in our Garden Products segment by $51.9 million ($42.1 million after tax) and in our Pet Products segment by $94.8 million ($70.1 million after tax) in the quarter ended December 29, 2001.

 

Liquidity and Capital Resources

 

We have financed our growth through a combination of bank borrowings, supplier credit, internally generated funds and sales of equity and debt securities to the public.

 

Historically, our business has been seasonal and our working capital requirements and capital resources tracked closely to this seasonal pattern. During the first fiscal quarter, accounts receivable reach their lowest level while inventory, accounts payable and short-term borrowings begin to increase. During the second fiscal quarter, receivables, accounts payable and short-term borrowings begin to increase, reflecting the build-up of inventory and related payables in anticipation of the peak lawn and garden selling season. During the third fiscal quarter, inventory levels remain relatively constant while accounts receivable peak and short-term borrowings start to decline as cash collections are received during the peak selling season. During the fourth fiscal quarter, inventory levels are at their lowest, and accounts receivable and payables are substantially reduced through conversion of receivables to cash. As a result of the reduction in sales of products manufactured by other parties as a percentage of overall sales, this seasonal pattern has become somewhat less significant.

 

We service two broad markets: pet supplies and lawn and garden supplies. Our pet supplies businesses involve products that have a year round selling cycle with very little change quarter to quarter. As a result, it is not necessary to carry large quantities of inventory to meet peak demands. Additionally, this level sales cycle eliminates the need for manufacturers to give extended credit terms to either distributors or retailers. On the other hand, our lawn and garden businesses are highly seasonal with approximately 64% of Garden Products’ aggregate sales

 

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occurring during the second and third fiscal quarters in fiscal year 2002. For many manufacturers of garden products, this seasonality requires them to move large quantities of their product well ahead of the peak selling periods. To encourage distributors to carry large amounts of inventory, industry practice has been for manufacturers to give extended credit terms and/or promotional discounts.

 

Cash provided by operating activities decreased $19.0 million from $48.7 million for the nine months ended June 29, 2002 to $29.7 million for the nine months ended June 28, 2003. The decrease was primarily attributable to increased inventory and accounts receivable levels due primarily to softness in sales in the Garden segment and the build up for the expected strong summer demand for insect control products. This was partially offset by increased accounts payable, related to the increased inventory, and accrued expenses due primarily to increased accrued taxes and interest. Net cash used in investing activities increased $4.3 million primarily as a result of capital expenditures associated with the construction of a manufacturing facility. Net cash provided by financing activities increased $87.0 million due to the net proceeds received from the issuance of $150 million of senior subordinated notes in January 2003, $100 million senior term loan in May 2003 and employee stock option exercises. These proceeds were partially offset by the redemption of our $115 million convertible subordinated notes in February 2003, the repayment of the outstanding borrowings under our credit facility in May 2003, and the repayment of two senior secured term loans.

 

At June 28, 2003, our total debt was $262.0 million versus $233.8 million at June 29, 2002. Net debt, total debt less cash and cash equivalents, was $186.5 million at June 28, 2003 versus $224.6 million at June 29, 2002.

 

In May 2003, we closed a new $200 million senior secured credit facility consisting of a five-year $100 million revolving credit facility and a six-year $100 million term loan. Interest on the term loan is based on a rate equal to LIBOR plus 2.75% or the prime rate plus 1.25%, at our option. Interest on the revolving credit facility is based on a rate equal to prime plus a margin which fluctuates from 0.25% to 1.25% or LIBOR plus a margin which fluctuates from 1.75% to 2.75%, determined quarterly based on consolidated total debt to consolidated EBITDA for the most recent trailing 12-month period. This facility is secured by essentially all of the Company’s assets, contains certain financial covenants requiring maintenance of minimum levels of interest coverage and tangible net worth and maximum levels of senior debt to EBITDA and total debt to EBITDA and places a ceiling on the Company’s treasury stock purchases. We were in compliance with all financial covenants as of June 28, 2003. This facility also requires the lenders’ prior written consent to any material investments in or acquisitions of a business. The new facility replaced our $175 million asset-based revolving credit facility. We anticipate the new credit facility will result in slightly higher annual interest expense. A portion of the net proceeds from the $100 million term loan were used to retire the outstanding debt under the asset-based revolving credit facility. The remaining net proceeds will be used to retire other existing debt and, along with the amounts available under the $100 million revolving credit facility, will provide capital for general corporate purposes, acquisitions and investments. No balances were outstanding at June 29, 2003 under the $100 million revolving credit facility.

 

In January 2003, we issued $150 million of 9 1/8% senior subordinated notes due 2013. The net proceeds of approximately $144 million were used to redeem $115 million of 6% subordinated convertible notes due November 2003. We used the balance of the net proceeds, combined with additional borrowings under the our line of credit with Congress Financial Corporation (Western), to repay the outstanding borrowings under our Pennington credit facility and two senior secured term loans of All-Glass. In conjunction with these repayments, we terminated the Pennington and All-Glass credit facilities. As a result of our private placement of $150 million of 9 1/8% senior subordinated notes due 2013, we estimate that our interest expense will increase approximately $6 million per year.

 

As a result of these refinancings, we have increased our financial flexibility by replacing our long-term debt, putting in place a layer of medium-term capital and increased our access to additional lenders. We believe that this increased financial flexibility will allow us to more effectively pursue growth opportunities and potential acquisitions on a prudent basis.

 

We believe that cash flows from operating activities, funds available under our credit facility, and arrangements with suppliers will be adequate to fund our presently anticipated working capital requirements for the foreseeable future. We anticipate that our capital expenditures will not exceed $15.0 million for the next 12 months, including approximately $5.0 million for the construction of a manufacturing facility scheduled for completion in the fall of 2003.

 

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As part of our growth strategy, we have engaged in acquisition discussions with a number of companies in the past, and we anticipate that we will continue to evaluate potential acquisition candidates. If one or more potential acquisition opportunities, including those that would be material, become available in the near future, we may require additional external capital. In addition, such acquisitions would subject us to the general risks associated with acquiring companies, particularly if the acquisitions are relatively large.

 

Weather and Seasonality

 

Historically, the Company’s sales of lawn and garden products have been influenced by weather and climate conditions in the markets it serves. Additionally, Garden Products’ business has been highly seasonal. In fiscal 2002, 64% of Garden Products net sales and 58% of our total net sales occurred in the Company’s second and third fiscal quarters. Substantially all of Garden Products’ operating income is typically generated in this period, which has historically offset the operating loss incurred during the first fiscal quarter of the year.

 

Item 3.     Quantitative and Qualitative Disclosures About Market Risk

 

The Company believes there has been no material change in its exposure to market risk from that discussed in the Company’s fiscal 2002 Annual Report filed on Form 10-K.

 

Item 4.     Controls and Procedures

 

(a)    Our Chief Executive Officer and Chief Financial Officer have reviewed, as of the end of the period covered by this report, the “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934 Rules 13a-14(c) and 15d-14(c)) that ensure that information relating to the company required to be disclosed by us in the reports that we file or submit under the Exchange Act, is recorded, processed, summarized and reported in a timely and proper manner. Based upon this review, we believe that there are adequate controls and procedures in place to ensure that information relating to the company that is required to be disclosed by us in the reports that we file or submit under the Exchange Act is properly disclosed as required by the Exchange Act and related regulations.

 

(b)    Changes in internal controls.    There were no significant changes in our internal control over financial reporting that occurred during our last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

 

PART II.    OTHER INFORMATION

 

Item 1.     Legal Proceedings

 

For information on our material legal proceedings, you should read note 8 “Contingencies” to the unaudited financial statements in Part I – Item 1 of this report.

 

Item 2.     Changes in Securities and Use of Proceeds

 

Not applicable

 

Item 3.     Defaults Upon Senior Securities

 

Not applicable

 

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Item 4.     Submission of Matter to a Vote of Securities Holders

 

Not applicable

 

Item 5.     Other Information

 

Not applicable

 

Item 6.     Exhibits and Reports on Form 8-K

 

(a)    Exhibits

 

  10.7.1   Modification and Extension of Employment Agreement dated as of February 27, 1998, between  Pennington Seed, Inc. and Brooks Pennington III, dated as of May 6, 2003.

 

  10.9   Credit Agreement dated May 14, 2003, between Central Garden & Pet Company and Canadian  Imperial Bank of Commerce et al.

 

  31.1   Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.

 

  31.2   Certification of Principal Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.

 

  32.1   Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350.

 

  32.2   Certification of Principal Financial Officer Pursuant to 18 U.S.C. Section 1350.

 

(b)    The following current report on Form 8-K was filed during the quarter ended June 28, 2003:

 

  a.   Form 8-K filed June 9, 2003 regarding the filing of the Company’s financial statements as of September 28, 2002 and September 29, 2001, and for each of the three years in the period ended September 28, 2002.

 

The following current report on Form 8-K was furnished during the quarter ended June 28, 2003:

 

  b.   Form 8-K filed May 1, 2003 relating to our press release announcing our financial results for the quarter ended March 29, 2003.

 

 

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SIGNATURES

 

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

 

CENTRAL GARDEN & PET COMPANY

Registrant
Dated:  August 8, 2003
 

/s/    GLENN W. NOVOTNY        


Glenn W. Novotny

President and Chief Executive Officer

 

/s/    STUART W. BOOTH        


Stuart W. Booth

Vice President and Chief Financial Officer

 

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