Item 1. Business. 1 Item 1A.
Item 1A. Risk Factors 8 Item 1B.
Item 1B. Unresolved Staff Comments 15 Item 2.
Item 2. Properties. 15 Item 3.
Item 3. Legal Proceedings. 15 Item 4.
Item 4. Submission of Matters to a Vote of Security Holders. 15
PART II. Item 5.
Item 5. Market For Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities. 16 Item 6.
Item 6. Selected Financial Data. 18 Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. 19 Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk. 35 Item 8
Item 8 Financial Statements and Supplementary Data. 36 Item 9.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure. 36 Item 9A.
Item 9A. Controls and Procedures. 36 Item 9B.
Item 9B. Other Information. 37
PART III. Item 10.
Item 10. Directors, Executive Officers and Corporate Governance. 37 Item 11.
Item 11. Executive Compensation. 37 Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. 37 Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence. 37 Item 14.
Item 14. Principal Accountant Fees and Services. 37
PART IV. Item 15.
Item 15. Exhibits and Financial Statement Schedules. 37
Signatures 41 Index to Financial Statements
THIS ANNUAL REPORT ON FORM 10-K, INCLUDING "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS," CONTAINS FORWARD-LOOKING STATEMENTS REGARDING FUTURE EVENTS AND OUR FUTURE RESULTS THAT ARE BASED ON CURRENT EXPECTATIONS, ESTIMATES, FORECASTS, AND PROJECTIONS ABOUT THE INDUSTRY IN WHICH WE OPERATE AND THE BELIEFS AND ASSUMPTIONS OF OUR MANAGEMENT. WORDS SUCH AS "EXPECTS," "ANTICIPATES," "TARGETS," "GOALS," "PROJECTS," "INTENDS," "PLANS," "BELIEVES," "SEEKS," "ESTIMATES," VARIATIONS OF SUCH WORDS, AND SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. IN ADDITION, ANY STATEMENTS THAT REFER TO PROJECTIONS OF OUR FUTURE FINANCIAL PERFORMANCE, OUR ANTICIPATED GROWTH AND TRENDS IN OUR BUSINESS, AND OTHER CHARACTERIZATIONS OF FUTURE EVENTS OR CIRCUMSTANCES, ARE FORWARD-LOOKING STATEMENTS. READERS ARE CAUTIONED THAT THESE FORWARD-LOOKING STATEMENTS ARE ONLY PREDICTIONS AND ARE SUBJECT TO RISKS, UNCERTAINTIES, AND ASSUMPTIONS THAT ARE DIFFICULT TO PREDICT. THEREFORE, ACTUAL RESULTS MAY DIFFER MATERIALLY AND ADVERSELY FROM THOSE EXPRESSED IN ANY FORWARD-LOOKING STATEMENTS. READERS ARE REFERRED TO THE RISKS AND UNCERTAINTIES IDENTIFIED BELOW, UNDER "RISK FACTORS," AND ELSEWHERE. WE UNDERTAKE NO OBLIGATION TO REVISE OR UPDATE ANY FORWARD-LOOKING STATEMENTS FOR ANY REASON.
1. BUSINESS.
GENERAL
We believe we are the leading provider of bulk CO2 systems and bulk CO2 for carbonating fountain beverages in the United States based on the number of bulk CO2 systems leased to customers and the only company in our industry to operate a national network of bulk CO2 service locations. We provide a comprehensive range of services, including bulk CO2 system installation and maintenance, bulk CO2 delivery and dedicated in-house technical support on a nationwide basis. We are the only national provider of beverage-grade bulk CO2, a premium grade CO2, which is increasingly required by our customers for carbonating fountain beverages. Many of our customers are major national and regional restaurant and convenience store chains, movie theater operators, theme parks, resorts and sports venues, including McDonald's, Burger King, Subway, Taco Bell, Pizza Hut, 7-Eleven, Loews Cineplex, Six Flags, Walt Disney World and Madison Square Garden.
Bulk CO2 systems store CO2 in liquid form and convert the liquid product to gaseous CO2 on demand. Gaseous CO2 is the necessary ingredient for beverage carbonation, which is a critical component of our customers' fountain beverage product. We install bulk CO2 systems at the customer's site, refill them on a regular basis and perform periodic maintenance to provide a constant supply of bulk CO2 with consistent quality. Prior to the commercial introduction of bulk CO2 systems in 1986, high pressure cylinders were the primary method for carbonating fountain beverages. High pressure cylinders containing gaseous CO2 can weigh up to 155 pounds, require specialized handling skills and must be returned to the supplier when empty, although they may be less expensive than bulk CO2 systems for low volume users of CO2. Bulk CO2 systems typically store sufficient CO2 to replace at least 10 high pressure cylinders, and have clear advantages over high pressure cylinders, including:
o consistent and improved beverage quality; o increased product yields; o no cylinder handling or storage requirements; o elimination of downtime and product waste during high pressure cylinder changeovers; and o enhanced safety for both the supplier and the customer.
Today, the majority of our growth is driven by the conversion of high pressure cylinder users to bulk CO2 systems and new outlet openings. Our ability to grow is dependent on the success of our marketing efforts to acquire new customers and their acceptance of bulk CO2 systems as a replacement for high pressure cylinders.
Since our incorporation in Florida in 1990, we have expanded our service area from one service location and 19 customers in Florida to 128 service locations supporting approximately 115,500 customer locations nationally as of June 30, 2007. Since our initial public offering of common stock in December 1995, this growth has been achieved, in large part, with the proceeds of our initial public offering as well as a secondary offering of common stock in June 1996, borrowings under our senior credit facilities, the issuance in 1997 and 1999 of our 12% senior subordinated notes due 2004 and 2005, respectively (prepaid in August 2003), the sale of our Series A 8% Cumulative Convertible Preferred Stock in May 2000 (converted into 754,982 shares of common stock in August 2004) and Series B 8% Cumulative Convertible Preferred Stock in November 2001 (converted into 247,420 shares of common stock in December 2004), the private placement of our common stock in August 2002, the issuance in August
2003 of our 16.3% senior subordinated notes due 2009 (prepaid in April 2005) and the proceeds of a secondary offering of our common stock in March 2005.
Our website is www.nuco2.com. Through a link on our Investor Relations section of our website, we make available the following filings as soon as reasonably practicable after they are electronically filed with or furnished to the U.S. Securities and Exchange Commission ("SEC"): our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. All such filings are available free of charge.
BUSINESS STRATEGY
Our business and strategic plan focuses on the continued growth of our bulk CO2 business due to conversion of high pressure cylinder users, increased penetration of the existing bulk CO2 market and growth in the United States fountain beverage market.
ACCELERATE PENETRATION AND EXPANSION OF CUSTOMER ACCOUNTS THROUGH MASTER SERVICE AGREEMENTS. We have entered into master service agreements which include 90 restaurant and convenience store concepts that provide fountain beverages. These master service agreements generally provide for a commitment on the part of the operator for all of its currently owned locations and may also include future locations. We currently service approximately 53,000 chain and franchisee locations with chains that have signed master service agreements. We are actively working on expanding the number of master service agreements with numerous restaurant chains. In addition, we are the only supplier of bulk CO2 capable of offering comprehensive master service agreements due to our established national distribution and service network. By negotiating terms with the customer on a national or regional level, we are generally able to offer a customer's franchisees more favorable terms than they could achieve on their own, with the added benefit of avoiding the expense and time spent negotiating contract terms and testing our capabilities.
MAINTAIN FOCUS ON FOUNTAIN BEVERAGE BULK CO2 MARKET. We believe there is significant potential for growth in our business as a result of continued conversion from high pressure cylinders, competitive share capture and organic growth in the fountain beverage market. The sale of fountain beverages is a business not subject to significant fluctuations, which has historically experienced stable growth. We have focused our marketing efforts on educating fountain beverage providers about the improved safety, quality and potential cost benefits of bulk CO2 systems. By operating exclusively in bulk CO2 distribution, we are better equipped to focus our resources, minimize overhead costs and maintain high levels of customer support and service. As a result, we believe we have significant opportunity to grow our business by increasing market share in an expanding market.
INCREASE DENSITY AT EXISTING OPERATIONS TO IMPROVE PROFITABILITY. We maintain a highly efficient route structure and establish additional service locations as service areas expand through geographic growth. Our strategy is to increase the density of our customer base for our existing service locations in order to lower the average time and distance between stops and allow for increased absorption of fixed costs.
SELECTIVELY PURSUE CUSTOMER ACCOUNT ACQUISITION OPPORTUNITIES WHILE MAINTAINING HIGH LEVELS OF SERVICE. The fountain beverage CO2 distribution market is fragmented, which provides numerous opportunities for continued growth in our business through selective customer account acquisitions. Our competitors range from small, local companies in the fountain beverage industry to larger companies that generally consider bulk CO2 a non-core business. It may be increasingly difficult for our competitors to match the breadth, cost-effectiveness and quality of our nationwide services and therefore they may be motivated to consider alternatives to continued participation in the fountain beverage CO2 distribution industry. For example, in fiscal 2005, we acquired Pain Enterprises' bulk CO2 beverage carbonation business, in fiscal 2006, we acquired the beverage carbonation business of Bay Area Equipment Co., Inc., and in both fiscal 2005 and fiscal 2006, we acquired certain beverage carbonation assets of Coca-Cola Enterprises Inc. We will continue to selectively evaluate customer account acquisitions that will expand our customer base and increase our existing route density. In addition, we believe that our superior nationwide customer service capabilities enable us to attract and retain customers. We intend to continue our disciplined approach to growth while maintaining our high level of service.
OPERATIONS
We offer our customers two principal services:
o we lease, install and maintain stationery bulk CO2 systems; and
o we routinely refill bulk CO2 systems with beverage-grade bulk CO2.
We generally provide these services through long-term contracts of five to six years in duration. The following table provides a summary of our service plans, which are tailored to individual customers' needs:
% of Fiscal 2007 Service Plan Service Plan Revenue Description ------------ ------- -----------
Budget Plan 64% Customer pays a flat monthly fee for bulk CO2 system rental and bulk CO2
Equipment Lease and Product Purchase 23% Customer rents bulk CO2 system and pays a per pound rate Plan for bulk CO2
Fill Plan 13% Customer owns bulk CO2 system and pays a per pound rate for bulk CO2
Budget Plan customers pay a flat monthly fee for the lease of our bulk CO2 system installed on the customer's premises and refills of bulk CO2 according to a predetermined schedule. The bulk CO2 is included in the monthly rental charge up to a predetermined maximum annual volume cap. If the annual cap is exceeded, the customer is charged for additional bulk CO2 delivered on a per pound basis. Customers under the Equipment Lease and Product Purchase Plan also lease from us a bulk CO2 system, but the customer is charged on a per pound basis for all bulk CO2 delivered. Fill Plan customers own their own bulk CO2 system and purchase bulk CO2 on a per pound basis from us. We seek to negotiate six-year supply contracts even with customers that own their own bulk CO2 systems. We believe that the use of long-term service plans provides benefits to both our customers and us. Customers are able to largely eliminate CO2 supply interruptions and the need to operate CO2 equipment themselves, while the long-term nature of the service plan adds stability to our revenue base. After the expiration of the initial term of the service plan, the plan generally renews automatically or a new service plan is agreed upon.
At June 30, 2007, we operated 128 service locations (116 stationary and 12 mobile) located in 42 states along with a dedicated fleet of 232 specialized bulk CO2 delivery vehicles and 119 technical service or utility vehicles. Each stationary service location is equipped with a storage tank (up to 40 tons in size) which receives bulk CO2 from large capacity tanker trucks and from which our specialized bulk CO2 delivery vehicles are filled with bulk CO2 for delivery to customers.
Upon activation of a customer account, our technicians design the customer's bulk CO2 system and install the bulk CO2 tank and piping systems. In most instances, the bulk CO2 system at a customer's site is accessible from the outside of the customer's establishment and delivery of bulk CO2 does not cause any interference with the operations of the customer. We place a locking device on the bulk CO2 fill port to reduce the likelihood of tampering and to prevent customers from using alternative sources of bulk CO2 while under contract with us.
We maintain a highly efficient delivery route structure and establish additional stationary bulk CO2 service locations as service areas expand through geographic growth. Our goal is to have a service location centrally located within 75 miles of each customer serviced from that service location. As we increase route density by lowering the average time and distance traveled between stops, we lower the average cost per delivery.
We have developed an automated system to achieve maximum route optimization. In order to ensure reliability and consistent service levels to the customer, CO2 deliveries are made at fixed intervals. Information from our propriety AccuRoute(R) system is used to determine the proper delivery frequency. Each account is placed into the correct frequency grouping based upon delivery history, seasonality, and promotions reported to us by the customer. The scheduling system analyzes a customer's CO2 usage (as determined by flow meters installed on our specialized bulk CO2 delivery vehicles) to determine the planned delivery frequency. The foundation of our scheduling
system is the delivery information gathered by the portable account link, or PAL System. The PAL system utilizes a hand-held device to provide field personnel with up to date delivery route and customer account information and also serves as an input source record for all delivery and service transaction information.
The scheduling system further utilizes sophisticated computer algorithms that consider:
o Latitudinal and longitudinal map location of the account o Optimal driving directions to reduce drive time o Safety stock margins o Truck capacity o Manpower capacity o Any special delivery requirements
The software program then creates an optimal route using all the above information to service the customer. The system also allows both local and senior management the ability to review performance to the routing program.
Our customer service and support complements our bulk CO2 systems installation and bulk CO2 deliveries. Our bulk CO2 route drivers are trained to fix minor technical problems with the bulk CO2 systems and to educate customers as to how the bulk CO2 systems work. We operate a 24 hours a day, 7 days a week customer service call center. Our in-house customer service representatives provide access to experienced technical personnel who are able to answer customer queries, identify problems and dispatch service personnel as required. In addition, our in-house technical expertise in maintaining and refurbishing tanks adds to our knowledge and understanding of the bulk CO2 systems that we offer. As a result of this expertise, we have a sufficient supply of bulk CO2 tanks readily available for our customers' use and are able to minimize service interruptions and downtime for CO2 tank maintenance.
CUSTOMERS
Among our customers are many of the major national and regional restaurant and convenience store chains (based on U.S. systemwide foodservice sales), movie theater operators, theme parks, resorts and sports venues, including:
QUICK SERVE RESTAURANTS CASUAL/DINNER HOUSES
Arby's McDonald's Applebee's On the Border Boston Market Panera Bread Company Bahama Breeze Outback Steakhouse Bumpers Drive-In Papa Gino's Bertucci's Perkins Family Restaurants Burger King Pizza Hut Cheesecake Factory Pizzeria Uno Captain D's Pizza Inn Chevy's Ponderosa Steak House Carl's Jr. Quizno's Classic Subs Chili's Red Lobster/Olive Garden Checker's Drive-In Rubios Corner Bakery Roadhouse Grill Chipotle Grill Sbarro Don Pablo's Rockfish Church's Chicken Schlotzsky's Deli Friendly's Restaurant Romano's Macaroni Grill D'Angelo's Sandwich Shop Sonic Drive-In Hard Rock Cafe Ruby Tuesday Dunkin' Donuts Steak'n Shake Hooters Ryan's Family Steak House El Pollo Loco Subway Landry's Shoney's Hardee's Taco Bell Longhorn Steakhouse Spaghetti Warehouse KFC Wendy's Maggiano's Little Italy Krystal White Castle CONVENIENCE/PETROLEUM
7-Eleven Phillips 66 CONTRACT FEEDERS WHOLESALE CLUBS AM/PM Pilot Travel BP/Amoco Racetrac Petroleum ARAmark BJ's Wholesale Circle K Shell ETD Compass Group Costco Coastal Market Spectrum Stores Fine Host Sam's Club Conoco Speedway Host Marriott Cumberland Farms Thornton Oil Exxon Tom Thumb
SPORTS VENUES MOVIE THEATRES
AMF Bowling Centers Madison Square Garden Carmike Cinemas Regal Entertainment Brunswick Recreation Centers Raymond James Stadium Loews Cineplex Wallace Theatres Derby Lane Dolphin Stadium THEME/AMUSEMENT Georgia Dome Six Flags Wet 'n' Wild Universal Studios Florida White Waters Walt Disney World
MASTER SERVICE AGREEMENTS
We have entered into master service agreements which include 90 restaurant and convenience store concepts that provide fountain beverages. These master service agreements generally provide for a commitment on the part of the operator for all of its currently owned locations and may also include future locations. We currently service approximately 53,000 chain and franchisee locations with chains that have signed master service agreements. We are actively working on expanding the number of master service agreements with numerous restaurant chains.
COMPETITION
We believe that our ability to compete depends on a number of factors, including product quality, availability and reliability, price, name recognition, delivery time and service and support. Despite the customer-level advantages of bulk CO2 systems over high pressure cylinders, we generally price our services comparably to the price of high pressure cylinders. This has proved an effective inducement to cause customers to convert from high pressure cylinders to bulk CO2 systems. We believe that we enjoy advantages over our competitors due to our hub and spoke delivery system, overall route density and lower average time and distance traveled between stops. Our toll-free customer support help line is clearly marked on each bulk CO2 system we service. The experience level of our support personnel aids in the resolution of equipment failures or other service interruptions, regardless of whether caused by our equipment.
Major restaurant and convenience store chains continue to adopt bulk CO2 systems and search for qualified suppliers to install and service bulk CO2 systems. We are the only bulk CO2 provider with nationwide service and distribution capabilities and we believe that other qualified suppliers of bulk CO2 systems and services do not presently exist in many regions of the United States. Unlike many of our competitors for whom bulk CO2 is a secondary service line, we have no material lines of business at present other than the provision of bulk CO2 services. All aspects of our operations are guided by our focus on the bulk CO2 business, including our selection of operating equipment and technical personnel, design of delivery routes, location of service locations, structure of customer contracts, content of employee training programs and design of management information and accounting systems. By restricting the scope of our activities to bulk CO2 business and largely avoiding the dilution of management time and resources that would be required by other service lines, we believe that we are able to maximize the level of service we provide to our bulk CO2 customers.
Many types of businesses compete in the fountain beverage CO2 business and market share is fragmented. High pressure cylinders and bulk CO2 services are most frequently provided by distributors of industrial gases. These companies generally provide a number of products and services in addition to CO2 and often view bulk CO2 systems as high-service adjuncts to their core business. Industrial gas distributors generally have been reluctant to attempt to convert their high pressure cylinder customers to bulk CO2 systems for several reasons including the capital outlays required to purchase bulk CO2 systems and the idling of existing high pressure cylinders and associated equipment. Other competitors in the fountain beverage CO2 business include fountain supply companies and distributors of restaurant supplies and groceries, which vary greatly in size. There are also a number of small companies that provide bulk CO2 services that operate on a local or regional geographic scope. While many of these suppliers lack the capital necessary to offer bulk CO2 systems to customers on lease, suppliers vary widely in size and some of our competitors may have significantly greater financial, technical or marketing resources than we do.
COMPETITIVE STRENGTHS
Our competitive strengths position us to benefit from continued growth in bulk CO2 usage.
MARKET LEADERSHIP IN A GROWING MARKET. We believe we are the leading provider of bulk CO2 systems and beverage-grade bulk CO2 to the fountain beverage market, with an estimated market share of approximately 60%. Our market leadership and nationwide service and distribution capabilities uniquely position us to benefit from the conversion of high pressure cylinders to bulk CO2 systems. This conversion is primarily driven by the numerous benefits of bulk CO2 systems as compared to high pressure cylinders. We estimate that approximately 650,000 of the approximately 900,000 food service establishments in the United States use fountain beverage carbonation systems. Of these 650,000 fountain beverage users, we estimate that approximately 460,000, or 71% of the market, currently use high pressure cylinders and represent potential organic growth targets.
SOLE NATIONAL PROVIDER OF BULK CO2. We are the only bulk CO2 provider with nationwide service and distribution capabilities, enabling us to establish service agreements with multi-location customers such as major national and regional restaurant and convenience store chains and movie theater operators. Increasingly, these customers seek providers who can offer consistent product quality, high levels of local service and centralized support on a nationwide basis. As the only bulk CO2 provider with these capabilities, we expect to achieve increasing market share and growth that outpaces our competition. In addition, our national service and distribution capabilities have enabled us to negotiate master service agreements with many restaurant and convenience store chains as well as agreements with franchisees who own multiple locations. These master service agreements generally provide for a commitment on the part of the customer for all of its currently owned locations and may also include future locations.
UNIQUE AND COMPREHENSIVE SERVICE PLATFORM. We provide a comprehensive range of services nationwide, including bulk CO2 system installation and maintenance, bulk CO2 delivery and dedicated in-house technical support. We believe our responsiveness and the breadth and quality of our service offerings differentiate us from our competition, and influence our customers' decision to choose and continue using our services. Our service platform enables us to offer our customers a "one-stop-shop" for their bulk CO2 needs:
o We supply and install a complete range of bulk CO2 systems customized to meet the specific needs of our customers. Complementing this service is our in-house technical expertise in maintaining and refurbishing bulk CO2 tanks. As a result of this expertise, we have a sufficient supply of bulk CO2 tanks readily available for our customers' use and are able to minimize service interruptions and downtime for bulk CO2 tank maintenance.
o We provide bulk CO2 delivery utilizing our AccuRoute(R) distribution system, which relies on computer algorithms to analyze our proprietary database of usage history, tank size, seasonality and customer promotions for each of our individual accounts to determine the optimal bulk CO2 delivery schedule. Our AccuRoute(R) distribution system minimizes service interruptions and the need for customers to schedule bulk CO2 deliveries.
o We operate a 24 hours a day, 7 days a week customer service call center. Our in-house customer service representatives provide access to experienced technical personnel who are able to answer customer queries, identify problems and dispatch service personnel as required.
o As of June 30, 2007, we had a fleet of 351 delivery and technical service or utility vehicles operated by 371 drivers and 113 technicians to maintain our installed base of bulk CO2 systems and respond to service calls allowing us to provide on-site service to any customer generally within a matter of hours, minimizing service interruptions. As carbonated fountain beverages represent a highly profitable product for our customers, our ability to respond quickly can minimize costly downtime due to lack of carbonation.
SCALABLE BUSINESS MODEL WITH OPERATING LEVERAGE. We have established a network of service locations which allows us to service virtually all of the fountain beverage providers in the continental United States. We can leverage our network and operating efficiencies to service incremental customer locations with minimal incremental investment. We are able to expand our base of customer locations without significantly increasing our distribution network, thereby increasing our profitability and cash flow.
HIGHLY VISIBLE REVENUE STREAM SUPPORTED BY STRONG BACKLOG AND LONG-TERM CUSTOMER CONTRACTS. As of June 30, 2007, we had a signed contractual backlog of approximately 5,000 new customer accounts awaiting activation. Our contracts are typically five to six years in duration, providing stability and visibility to our revenue base. We have established long-term relationships with our customers' organizations and have experienced strong renewal rates under our existing contracts. In addition, we are not overly dependent on the business of any one customer. For the year ended June 30, 2007, no single customer accounted for more than 5% of our revenues.
LONG-STANDING RELATIONSHIPS WITH BLUE-CHIP SUPPLIERS. We have long-standing relationships with our suppliers who are leaders in their respective industries including, The BOC Group, Inc. which supplies our bulk CO2; Ryder Truck Rental, Inc., from whom we lease our delivery and technical service vehicles; and Chart Industries, Inc. and Harsco Corporation, which provide our bulk CO2 tanks. As one of the largest purchasers of both bulk CO2 and bulk CO2 tanks for carbonating fountain beverages, we believe we are able to negotiate long-term agreements with our suppliers at favorable terms and to secure priority delivery.
STRONG OPERATING CASH FLOW. Since 2002, average EBITDA (earnings before interest, taxes, depreciation and amortization) margins have been 30%. During the same period, the Company generated cash from operations totaling $154 million. We have invested this cash in the future growth of our business by purchasing bulk CO2 tanks and equipment and expanding our network of service locations. Since 2002, our investments have enabled us to increase our customer locations served by over 60%, to approximately 115,500 currently. We plan to use the excess cash generated by operations to invest in the future growth of our business both through direct investment in revenue generating equipment and acquisitions, and through debt repayment and share repurchases to increase our balance sheet flexibility.
SALES AND MARKETING
Our bulk CO2 systems and services are sold by a sales force of 25 commission only independent sales representatives and 43 salaried sales personnel. We market our bulk CO2 systems and services to large customers such as restaurant and convenience store chains, movie theater operators, theme parks, resorts and sports venues. Our customers include many of the major national and regional chains throughout the United States. We approach large chains on a corporate or regional level for approval to become the exclusive supplier of bulk CO2 systems and services on a national basis or within a designated territory. We then direct our sales efforts to the managers or owners of the individual or franchised operating units. Our relationships with chain customers in one geographic market frequently help us to establish service with these same chains when we expand into new markets. After obtaining service relationships for a chains' locations in a new market, we attempt to rapidly build route density by targeting independent restaurants, convenience stores and theaters for bulk CO2 system conversion and/or service.
BACKLOG
As of June 30, 2006 and 2007, we had a signed contractual backlog of approximately 5,700 and 5,000 new service locations, respectively, awaiting activation. Activations are dependent upon a number of factors, including the expiration of any existing agreements the customer may have with its current CO2 supplier.
BULK CO2 SUPPLY
Bulk CO2 is currently a readily available commodity product, which is processed and sold by various sources. In May 1997, we entered into an exclusive bulk CO2 requirements contract with The BOC Group, Inc., which currently expires on April 30, 2012, for 100% of our bulk CO2 requirements. Under this contract, BOC, a multinational industrial gases company, is committed to provide us with a stable supply of beverage grade CO2 at competitive prices. In addition, the agreement provides that if sufficient quantities of bulk CO2 become unavailable for any reason, we will receive treatment as a preferred customer. For example, in the event of a CO2 shortage, many CO2 suppliers reduce deliveries of CO2 to all customers. Our agreement with BOC provides that we will continue to receive CO2 deliveries in full, along with BOC's other large customers, prior to deliveries to other customers.
Our agreement with BOC also requires that BOC certify the purity of CO2 they supply to us. Our bulk CO2 service locations and our delivery vehicles are used solely for storage and transport of beverage-grade CO2 to minimize any possibility of contamination. This supply system enables us to provide to our customers beverage-grade CO2 that has a known composition and is traceable from the point of production to the point of use, a service that many customers value.
BULK CO2 SYSTEMS
We purchase new bulk CO2 systems from the two major manufacturers and we believe that we are the largest purchaser of bulk CO2 systems from these manufacturers combined. We currently purchase bulk CO2 systems in three sizes (300, 450 or 600 lbs. of bulk CO2 capacity) depending on the needs of our customers. Bulk CO2 systems are vacuum insulated containers with extremely high insulation characteristics allowing the storage of CO2, in its liquid form, at very low temperatures. Our bulk CO2 systems operate under low pressure, are fully automatic, and require no electricity. Based upon manufacturers' estimates, the service life of a bulk CO2 system is expected to exceed 20 years. We also refurbish bulk CO2 tanks at our Stuart, Florida facility. We maintain an adequate inventory of bulk CO2 systems to meet expected customer demand.
EMPLOYEES
At June 30, 2007, we employed 700 full-time employees, 216 of whom were involved in management, sales or customer support, 371 of whom were route drivers and 113 of whom were in technical service functions. None of our employees is subject to a collective bargaining agreement; however, employees in Chicago, Illinois and Hampshire, Illinois have elected union representation. We consider our relationship with our employees to be good.
TRADEMARKS
We market our services using the NuCO2(R) and AccuRoute(R) trademarks which have been registered by us with the U.S. Patent and Trademark Office. The current registrations for these trademarks expire in 2017 and 2013, respectively.
SEASONALITY
CO2 usage is subject to seasonal variations. CO2 usage fluctuates based on factors such as weather and traditional summer and holiday periods. Demand for CO2 in times of cold or inclement weather is lower than at other times. Based on historical data and expected trends, we anticipate that revenues from the delivery of CO2 will be highest in our first quarter and lowest in our third quarter.
REGULATORY MATTERS
Our business is subject to various federal, state and local laws and regulations adopted for the use, storage and handling of hazardous materials, the protection of the environment, the health and safety of our employees and users of our products and services. The transportation of bulk CO2 is subject to regulation by various federal, state and local agencies, including the U.S. Department of Transportation. Regulatory authorities have broad powers and we are subject to regulatory and legislative changes that can affect the economics of our industry by requiring changes in operating practices or by influencing the demand for and the costs of providing services. We believe that we are in compliance in all material respects with all such laws, regulations and standards currently in effect and that the cost of compliance with such laws, regulations and standards has not and is not anticipated to materially adversely affect us.
1A. RISK FACTORS.
Set forth below and elsewhere in this Annual Report on Form 10-K and in other documents we file with the SEC are risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this Annual Report on Form 10-K.
OUR INABILITY TO MANAGE OUR GROWTH MAY OVEREXTEND OUR MANAGEMENT AND OTHER RESOURCES, CAUSING INEFFICIENCIES, WHICH MAY ADVERSELY AFFECT OUR OPERATING RESULTS.
We intend to continue to expand our operations. We may be unable to:
o manage effectively the expansion of our operations; o implement and develop our systems, procedures or controls; o adequately support our operations; o achieve and manage the currently projected installations of bulk CO2 systems; or o maintain our superior level of customer service.
If we are unable to manage our growth effectively, our business, financial condition and results of operations and our ability to service our indebtedness could be seriously harmed. The growth in the size and scale of our business has placed, and we expect it will continue to place, significant demands on our personnel and operating systems. Any additional expansion may further strain management and other resources. Our ability to manage our growth effectively will depend on our ability to:
o improve our operating systems; o expand, train and mange our employee base; and o develop additional service capacity.
OUR FUTURE OPERATING RESULTS ARE UNCERTAIN DESPITE THE GROWTH RATE IN OUR REVENUES.
You should not consider growth rates in our revenues to be indicative of growth rates in our operating results. In addition, you should not consider prior growth rates in our revenues to be indicative of future growth rates in our revenues. The timing and amount of future revenues will depend almost entirely on our ability to obtain agreements with new customers to install bulk CO2 systems and use our services, and on our ability to increase the density of our customer base for our existing service locations in order to allow for increased absorption of our fixed costs. Our future operating results will depend on many factors, including:
o the level of product and price competition; o our ability to manage growth; o our ability to hire additional employees; and o our ability to control costs.
As of June 30, 2007, we had a signed contractual backlog of approximately 5,000 new customer locations awaiting activation. However, this backlog is not necessarily indicative of future growth rates in our operating results, which will depend in part on our ability to implement new customer agreements. Additionally, these agreements may be subject to modification or termination prior to implementation or may not be implemented for a significant period of time due to customers' prior contractual commitments.
WE LACK PRODUCT DIVERSITY, AND OUR BUSINESS DEPENDS ON CONTINUED MARKET ACCEPTANCE BY THE FOUNTAIN BEVERAGE MARKET OF OUR BULK CO2 SYSTEMS AND CONSUMER PREFERENCE FOR CARBONATED BEVERAGES.
We depend on continued market acceptance of our bulk CO2 systems by the fountain beverage market, which accounts for substantially all of our revenues. Unlike many of our competitors for whom bulk CO2 is a secondary business, we have no material lines of business other than the leasing of bulk CO2 systems and the sale of bulk CO2. We currently do not anticipate diversifying into other product or service lines. Although conversion from high pressure cylinders to bulk CO2 systems represents a continued opportunity for growth in the bulk CO2 market, total demand for CO2 is limited because the fountain beverage market is mature. Our ability to grow is dependent upon the success of our marketing efforts to acquire new customers and their acceptance of bulk CO2 systems as a replacement for high pressure cylinders. While the fountain beverage market to date has been receptive to bulk CO2 systems, we cannot be certain that the operating results of our installed base of bulk CO2 systems will continue to be favorable or that past results will be indicative of future market acceptance of our services. In addition, any recession experienced by the fountain beverage market or any significant shift in consumer preferences away from carbonated beverages to other types of beverages would result in a loss of revenues, which would adversely affect our financial condition and results of operations and our ability to service our indebtedness.
WE HAVE SIGNIFICANT INDEBTEDNESS AND OUR OBLIGATION TO SERVICE THAT INDEBTEDNESS COULD DIVERT FUNDS FROM OPERATIONS AND LIMIT OUR ABILITY TO OBTAIN ADDITIONAL FUNDING TO EXPAND OUR BUSINESS.
As of June 30, 2007, we had outstanding indebtedness of approximately $34.8 million under our revolving credit facility.
If we are unable to generate sufficient cash flow to service our indebtedness, we will have to:
o reduce or delay planned capital expenditures; o sell assets; o restructure or refinance our indebtedness; or o seek additional equity capital.
We are uncertain whether any of these strategies can be affected on satisfactory terms, if at all. In addition, the extent to which we continue to have indebtedness could have significant consequences, including:
o our ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions and other general corporate purposes may be materially limited or impaired;
o a substantial portion of our cash flow from operations may need to be dedicated to the payment of principal and interest on our indebtedness and therefore may not be available to finance our business; and
o our indebtedness may make us more vulnerable to economic downturns, limit our ability to withstand competitive pressures or reduce our flexibility in responding to changing business and economic conditions.
Our revolving credit agreement requires that we comply with financial and business covenants. If we fail to maintain these covenants, our lender could declare us in default and demand repayment of our indebtedness if this default were not cured or waived. At various times in the past, we have been unable to meet certain covenants and have had to obtain waivers or modifications of terms from our lenders. In addition, the conditions that the revolving credit facility places on the amount of debt we can incur, our level of liquidity and our cash flows may have a negative effect on our ability to grow our business.
IMPLEMENTING OUR ACQUISITION STRATEGY INVOLVES RISK AND OUR FAILURE TO SUCCESSFULLY IMPLEMENT THIS STRATEGY COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS.
One of our key strategies is to grow our business by selectively pursuing acquisitions of bulk CO2 customer accounts. Since 1995, we have acquired more than 30,000 bulk CO2 customer locations, and we are continuing to actively pursue additional customer account acquisition opportunities. Acquisitions involve risks, including those relating to:
o identification of appropriate acquisition candidates or negotiation of acquisitions on favorable terms and valuations; o integration of acquired bulk CO2 customer accounts; o implementation of proper business and accounting controls; o ability to obtain financing, on favorable terms or at all; o diversion of management attention; o retention of bulk CO2 customers; o maintaining our superior level of customer service as we continue to grow; and o unexpected costs, expenses and liabilities.
Our growth strategy may affect short-term cash flow and net income as we expend funds, increase indebtedness and incur additional expenses in connection with pursuing acquisitions of bulk CO2 customer accounts. We experienced some of the risk described above following prior acquisitions of bulk CO2 customer accounts. As a result, we were unable to manage our growth effectively and our customer service levels declined. As a result, our business suffered. If we are not able to identify or acquire bulk CO2 customer accounts consistent with our growth strategy or if we fail to integrate any acquired bulk CO2 customer locations into our operations successfully, we may not achieve anticipated increases in revenue, costs savings and economies of scale, and our operating results may be adversely affected.
THE FOUNTAIN BEVERAGE CARBONATION MARKET IS HIGHLY COMPETITIVE, AND OUR INABILITY TO RESPOND TO VARIOUS COMPETITIVE FACTORS MAY RESULT IN A LOSS OF CURRENT CUSTOMERS AND A FAILURE TO ATTRACT NEW CUSTOMERS.
The fountain beverage carbonation market is highly competitive. We primarily compete on a regional and local basis with several direct competitors. We cannot be certain that these competitors will not substantially increase their installed base of bulk CO2 systems and expand their service nationwide, provide customer service superior to ours or reduce the price of their services below our prices. As there are no major barriers to entry with respect to the delivery of bulk CO2 on a local or regional basis, we also face the risk of a well-capitalized competitor's entry into our existing or future local or regional markets. In addition, we compete with numerous distributors of bulk and high pressure CO2, including;
o industrial gas and welding supply companies; o specialty gas companies; o restaurant and grocery supply companies; and o fountain supply companies.
These suppliers vary widely in size. Some of our competitors may have significantly greater financial, technical or marketing resources than we do. Our competitors might succeed in developing technologies, products or services that are superior, less costly or more widely used than those that we have or are developing or that would render our technologies or products obsolete or uncompetitive. In addition, competitors may have an advantage over us with customers who prefer dealing with one company that can supply bulk CO2 as well as fountain syrup. We cannot be certain that we will be able to compete effectively with current or future competitors.
WE DEPEND ON THE CONTINUED CONTRIBUTIONS OF OUR EXECUTIVE OFFICERS AND OTHER KEY MANAGEMENT, EACH OF WHOM WOULD BE DIFFICULT TO REPLACE.
Our future success depends to a significant degree upon the continued contributions of our senior management and our ability to attract and retain other highly qualified management personnel. We face competition for management from other companies and organizations. Therefore, we may not be able to retain our existing management personnel or fill new management positions or vacancies created by expansion or turnover at our existing compensation levels. We have entered into executive employment agreements with key members of senior management. The employment agreements with our chief executive officer, chief financial officer, chief operating officer and general counsel expire in June 2009, October 2008, May 2009 and July 2009, respectively. We do not have "key-person" insurance on the lives of any of our key officers or management personnel to mitigate the impact to our company that the loss of any of them would cause. Specifically, the loss of any of our executive officers would disrupt our operations and divert the time and attention of our remaining officers. Additionally, failure to attract and retain highly qualified management personnel would damage our business prospects.
AS WE ARE DEPENDENT ON THIRD-PARTY SUPPLIERS, WE MAY HAVE DIFFICULTY FINDING SUITABLE REPLACEMENTS TO MEET OUR NEEDS IF THESE SUPPLIERS CEASE DOING BUSINESS WITH US.
We do not conduct manufacturing operations and depend, and will continue to depend, on outside parties for the manufacture of bulk CO2 systems and components. We intend to significantly expand our installed base of bulk CO2 systems. Our expansion may be limited by the manufacturing capacity of our third-party manufacturers. Manufacturers may not be able to meet our manufacturing needs in a satisfactory and timely manner. If there is an unanticipated increase in demand for bulk CO2 systems, we may be unable to meet such demand due to manufacturing constraints. We purchase bulk CO2 systems from Chart Industries, Inc. and Harsco Corporation, the two major manufacturers of bulk CO2 systems. Should either manufacturer cease manufacturing bulk CO2 systems, we would be required to locate additional suppliers. We may be unable to locate alternate manufacturers on a timely basis or negotiate the purchase of bulk CO2 systems on favorable terms. A delay in the supply of bulk CO2 systems could cause potential customers to delay their decision to purchase our services or to choose not to purchase our services. This would result in delays in or loss of future revenues.
In addition, we purchase CO2 for resale to our customers. In May 1997, we entered into an exclusive bulk CO2 requirements contract with The BOC Group, Inc. In the event that BOC is unable to fulfill our requirements, we would have to locate additional suppliers. A delay in locating additional suppliers or our inability to locate additional suppliers would result in loss of revenues, which would adversely affect our financial condition and results of operations and our ability to service our indebtedness.
WE ARE DEPENDENT ON THE PRICING AND AVAILABILITY OF CO2 AND SHORTAGES OR INCREASES IN THE PRICE OF CO2 OR OTHER RAW MATERIALS COULD INCREASE OUR COSTS OF GOODS SOLD, REDUCE OUR PROFITS AND MARGINS AND ADVERSELY AFFECT OUR OPERATIONS.
Our principal raw material is CO2, which is a commodity product. We purchase our CO2 for resale from The BOC Group, Inc. under an exclusive requirements contract expiring in 2012 which provides for annual adjustments in the purchase price for bulk CO2 based upon changes in the Producer Price Index for Chemical and Allied Products or increases in the price of bulk CO2 purchased by BOC's large, multi-location beverage customers in the United States, whichever is less.
Stainless steel is used in the manufacture of our bulk CO2 tanks. We purchase our tanks from manufacturers under agreements, the terms of which are renegotiated on an annual basis. Stainless steel prices increased significantly during fiscal 2007. Future increases in stainless steel may result in higher prices for the CO2 tanks we must purchase.
Our business also depends on our ability to deliver CO2 to our customers through specialized CO2 delivery vehicles. There have been significant increases in fuel costs in recent years. Continued high fuel costs or further increases and our inability to pass on increases to our customers could reduce our profits and margins.
Increases in the prices of CO2, bulk CO2 tanks and fuel, including increases that may occur as a result of shortages, duties or other restrictions, could increase our cost of sales and reduce profits and margins. We cannot assure you that shortages or increases in the prices of our raw materials or fuel will not have an adverse effect on our financial condition and results of operations.
OUR OPERATING RESULTS MAY FLUCTUATE DUE TO SEASONALITY BECAUSE CONSUMERS TEND TO DRINK FEWER QUANTITIES OF CARBONATED BEVERAGES DURING THE WINTER MONTHS.
Demand for CO2 in times of cold or inclement weather is lower than at other times. Based on historical data and expected trends, we anticipate that revenues from the delivery of CO2 will be highest in our first quarter and lowest in our third quarter. As a result, we expect our quarterly results of operations to continue to experience variability from quarter to quarter in the future.
OUR OPERATING RESULTS ARE AFFECTED BY RISING INTEREST RATES SINCE MORE OF OUR CASH FLOW WILL BE NEEDED TO SERVICE OUR INDEBTEDNESS.
The interest rate on our revolving credit facility fluctuates with market interest rates, resulting in greater interest costs in times of rising interest rates. Consequently, our earnings, cash flows and profitability are sensitive to changes in interest rates. High interest rates could also affect our ability to service our indebtedness. To the extent that we cannot generate sufficient cash flows to make interest payments on time, our lender could declare us in default and demand repayment of our indebtedness, which could have a negative effect on our financial condition.
OUR INSURANCE POLICIES MAY NOT COVER ALL OPERATING RISKS, AND A CASUALTY LOSS BEYOND OUR COVERAGE COULD NEGATIVELY IMPACT OUR BUSINESS.
Our operations are subject to all of the operating hazards and risks normally incidental to handling, storing and transporting CO2. CO2 is classified as a hazardous material and can cause serious injuries such as frostbite and asphyxiation that may result in, and have in the past resulted in, serious injury or death to our employees and other persons. We maintain insurance policies in such amounts and with such coverages and deductibles that we believe are reasonable and prudent. However, we cannot assure you that our insurance will be adequate to protect us from all liabilities and expenses that may arise from claims for personal injury or death or property damage arising in the ordinary course of business or that current levels of insurance will be maintained or available at economical prices. If a significant liability claim is brought against us that is not covered by insurance, we may have to pay the claim with our own funds and our financial condition and ability to service our indebtedness could be seriously harmed.
OUR BUSINESS AND FACILITIES ARE SUBJECT TO EXTENSIVE GOVERNMENTAL REGULATION, WHICH MAY INCREASE OUR COST OF DOING BUSINESS. IN ADDITION, FAILURE TO COMPLY WITH THESE REGULATIONS MAY SUBJECT US TO FINES, PENALTIES AND/OR INJUNCTIONS THAT MAY ADVERSELY AFFECT OUR OPERATING RESULTS.
Our business and facilities are subject to federal, state and local laws and regulations adopted for the use, storage and handling of CO2, the protection of the environment, the health and safety of our employees and users of our products and services. Among these environmental laws are rules by which a current or previous lessee may be liable for the costs of investigation, removal or remediation of hazardous materials at such property. In addition, these laws typically impose liability regardless of whether the lessee knew, or was responsible for, the presence of any hazardous materials. Persons who arrange for the disposal or treatment of hazardous materials may be liable for the costs of investigation, removal or remediation of such substances at the disposal or treatment site, regardless of whether the affected site is owned, leased or operated by them.
As we lease a number of service locations that may store, handle or arrange for the disposal of various hazardous materials, we may incur costs for investigation, removal and remediation, as well as capital costs, associated with compliance with environmental laws. Although environmental costs have not been material in the past, we cannot be certain that these matters, or any similar liabilities that arise in the future, will not exceed our resources, nor can we completely eliminate the risk of accidental contamination or injury from these materials. The transportation of bulk CO2 is also subject to regulation by various federal, state and local agencies, including the U.S. Department of Transportation. These regulatory authorities have broad powers, and we are subject to regulatory and legislative changes that can affect the economics of our industry by requiring changes in operating practices or influencing the demand for and the cost of providing services. A significant increase in the cost of our operations resulting from changing governmental regulations could adversely affect our profitability.
WE MAY BE LIMITED IN OUR ABILITY TO OFFSET FUTURE TAXABLE INCOME WITH OUR NET OPERATING LOSS CARRYFORWARDS.
We have net operating loss carryforwards for federal and state income tax purposes. If we undergo an ownership change in the future as described in Section 382 of the Internal Revenue Code, our ability to use those net operating losses to offset future taxable income may be limited. This may have the effect of reducing our after-tax cash flow in future years.
THE MARKET PRICE OF OUR COMMON STOCK HAS BEEN AND MAY CONTINUE TO BE VOLATILE AND MAY DECLINE REGARDLESS OF OUR OPERATING PERFORMANCE.
Our common stock price has fluctuated substantially since our initial public offering in December 1995. Our common stock sales price reached a 52-week high of $29.33 on October 16, 2006. There can be no assurance that the market price for our common stock will remain at its current level and a decrease in the market price could result in substantial losses for investors.
The market price of our common stock may be significantly affected by the following factors:
o announcements of technological innovations or new products or services by us or our competitors; o trends and fluctuations in the use of bulk CO2 systems; o timing of bulk CO2 systems installations relative to financial reporting periods; o release of securities analysts' reports; o operating results below expectations; o changes in, or our failure to meet, financial estimates by securities analysts; o our business prospects as perceived by others; o market reaction to any acquisitions, joint ventures, strategic investments or alliances announced by us or our competitors; o industry developments; o market acceptance of bulk CO2 systems; o decrease in the safety record in the use of bulk CO2 systems; o economic and other external factors; and o period-to-period fluctuations in our financial results.
The volatility in our share price as a result of any of the factors described above, many of which are beyond our control, could result in substantial or total losses for investors.
The securities markets have also experienced significant price and volume fluctuations from time to time that are unrelated to the operating performance of particular companies. These market fluctuations may also materially and adversely affect the market price of our common stock. In addition, because the daily trading volume in our common stock has from time to time been light, investors may not be able to sell our common stock on favorable terms or in the volume and at the times desired.
WE DO NOT INTEND TO PAY DIVIDENDS FOR THE FORESEEABLE FUTURE.
We have never declared or paid any cash dividends on our common stock and we do not anticipate declaring any cash dividends on our stock in the foreseeable future. We intend to retain all future earnings for use in the development of our business.
WE MAY ISSUE PREFERRED STOCK WHICH COULD LIMIT INVESTORS' ABILITY TO ACQUIRE OUR COMMON STOCK AND AFFECT OUR MARKET PRICE.
Our board of directors has the authority to issue up to 5,000,000 shares of preferred stock. Our articles of incorporation currently authorize 5,000 shares of Series A 8% cumulative convertible preferred stock, 2,500 shares on Series B 8% cumulative convertible preferred stock and 200,000 shares of Series C participating preferred stock. No shares of preferred stock are currently issued and outstanding. If we designate or issue a series of preferred stock, it will create additional securities that will have dividend and liquidation preferences over the common shares. If we issue convertible preferred stock, a subsequent conversion may dilute the current shareholders' interest. Without any further vote or action on the part of the shareholders, our board of directors will have the authority to determine the price, rights, preferences, privileges and restrictions of the preferred stock. Although issuing preferred stock could provide us with flexibility in connection with possible acquisitions and other corporate purposes, the issuance may make it more difficult for a third party to acquire a majority of our outstanding voting stock, which could limit the price investors are willing to pay for our common stock.
OUR CHARTER'S ANTI-TAKEOVER PROVISIONS AND FLORIDA LAW COULD RESTRICT AN INVESTOR'S ABILITY TO PURCHASE OUR COMMON STOCK AT A FAVORABLE PRICE AND AFFECT OUR MARKET VALUE.
We have adopted a shareholder rights plan that may prevent a change in control or sale of us in a manner or on terms not approved by the board of directors. In addition, our articles of incorporation provide for a classified board of directors. This structure may significantly extend the time required to effect a change in control of the board of directors and may discourage hostile takeover bids for us. It could take at least two annual meetings for even a majority of shareholders to make a change in control of the board of directors because only a minority of the directors is scheduled to be elected at each meeting. Without the ability to easily obtain immediate control of the board of directors, a takeover bidder may not be able to take action to remove other impediments to acquiring us.
We are also subject to several anti-takeover provisions that apply to public corporations organized under Florida law. These provisions generally require that certain transactions between a corporation and a holder of more than 10% of its outstanding voting securities must be approved by a majority of disinterested directors or the holders of two-thirds of the voting shares not beneficially owned by an "interested shareholder." Additionally, "control shares" (shares acquired in excess of certain specified thresholds) acquired in specified control share acquisitions have voting rights only to the extent conferred by resolution approved by shareholders, excluding holders of shares defined as "interested shares."
A Florida corporation may opt out of the Florida anti-takeover laws if its articles of incorporation or, depending on the provision in question, its bylaws so provide. We have not opted out of the provisions of the anti-takeover laws. Consequently, these laws could prohibit or delay a merger or other takeover or change in control and may discourage attempts by other companies to acquire us.
FUTURE SALES OF SHARES MAY ADVERSELY AFFECT OUR STOCK PRICE SINCE ANY INCREASE IN THE AMOUNT OF OUTSTANDING SHARES MAY HAVE A DILUTIVE EFFECT ON OUR STOCK.
If our shareholders sell substantial amounts of our common stock in the public market, the market price of our common stock could fall. These sales could be due to shares issued upon exercise of outstanding options. These sales also might make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate. At June 30, 2007, we had granted options to purchase an aggregate of 1,949,148 shares of common stock at a weighted-average exercise price of $20.38 per share. We cannot assure you that substantial sales of our common stock resulting from the exercise of stock options will not dilute our common stock or lower our share price.
COMPLIANCE WITH CHANGING REGULATION OF CORPORATE GOVERNANCE AND PUBLIC DISCLOSURE MAY RESULT IN ADDITIONAL EXPENSES.
Keeping abreast of, and in compliance with, changing laws, regulations and standards relating to corporate governance and public disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and Nasdaq Global Market rules, will require an increased amount of management attention and external resources. We intend to continue to invest all reasonably necessary resources to comply with evolving standards, which may result in increased general and administrative expenses and a diversion of management time and attention from revenue-generating activities to compliance activities.
SECURITIES ANALYSTS MAY NOT CONTINUE OR INITIATE COVERAGE OF OUR COMMON STOCK OR MAY ISSUE NEGATIVE REPORTS, AND THIS MAY HAVE A NEGATIVE IMPACT ON OUR COMMON STOCK'S MARKET PRICE.
There is no assurance that securities analysts will continue to publish research reports on us. If securities analysts do not, this lack of research coverage may adversely affect the market price of our common stock. Rules mandated by the Sarbanes-Oxley Act of 2002, and a global settlement reached between the SEC, other regulatory agencies and a number of investment banks in April 2003, have led to a number of fundamental changes in how analysts are reviewed and compensated. In particular, many investment banking firms are now required to contract with independent financial analysts for their stock research. It may be difficult for companies with smaller market capitalizations, including us, to attract independent financial analysts who will cover our common stock, which could have a negative effect on our market price.
The trading market for our common stock will rely in part on the research and reports that industry or financial analysts publish about us or our business. If one or more of the analysts who cover us downgrades our stock, our stock price could decline rapidly. If one or more of these analysts ceases coverage of us, we could lose visibility in the market, which in turn could cause our stock price to decline.
1B. UNRESOLVED STAFF COMMENTS
None.
2. PROPERTIES.
Our corporate headquarters are located in a 32,000 square foot leased facility in Stuart, Florida that accommodates corporate, administrative, customer service, marketing, and sales. At June 30, 2007, we also leased 116 stationary service locations. These facilities are rented on terms consistent with market conditions prevailing in the area. We believe that our existing facilities are suitable for our current needs and that additional or replacement facilities, if needed, are available to meet future needs.
3. LEGAL PROCEEDINGS.
On May 21, 2007, Pop's Pancakes, Inc. and Zuccarelli's Italian Kitchen, Inc. filed a lawsuit against us in the United States District Court for the Southern District of Florida for violations of the Florida Deceptive and Unfair Trade Practices Act and for breach of contract. The plaintiffs are seeking class action status. These complaints alleged that we failed to disclose an administrative fee we charged to our customers. We deny wrongdoing and intend to vigorously defend against this lawsuit.
In addition, we are involved from time to time in litigation arising in the ordinary course of business, none of which is expected to have a material adverse effect on our financial condition or results of operations.
4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
Our common stock trades on the Nasdaq Global Select Market under the symbol "NUCO". The following table indicates the high and low sale prices for our common stock for each quarterly period during fiscal 2006 and 2007, as reported by the Nasdaq Global Select Market.
High Low ---- ---
Calendar 2005
Third Quarter $ 27.34 $ 23.42 Fourth Quarter 28.77 21.24
Calendar 2006
First Quarter $ 32.57 $ 27.60 Second Quarter 32.46 23.81 Third Quarter 28.43 23.00 Fourth Quarter 29.33 24.01
Calendar 2007
First Quarter $ 26.35 $ 19.80 Second Quarter 26.94 23.81
At September 10, 2007, there were approximately 150 holders of record of our common stock, although there is a much larger number of beneficial owners.
We have never paid cash dividends on our common stock and we do not anticipate declaring any cash dividends on our common stock in the foreseeable future. We intend to retain all future earnings for use in the development of our business.
The following table sets forth certain information regarding equity compensation plans as of June 30, 2007.
EQUITY COMPENSATION PLAN INFORMATION
Number of securities remaining Number of securities to Weighted-average available for future issuance be issued upon exercise exercise price of under equity compensation plans of outstanding options, outstanding options, (excluding securities reflected in Plan Category warrants and rights warrants and rights column (a)) ------------- ------------------- ------------------- ---------------------------------- (a) (b) (c)
Equity compensation plans 1,949,148 $20.38 963,750 approved by security shares of common stock shares of common stock holders ...
Equity compensation plans 0 0 0 not approved by security holders ...
Total ... 1,949,148 $20.38 963,750 shares of common stock shares of common stock
PURCHASES OF EQUITY SECURITIES
On January 31, 2007, we publicly announced that our Board of Directors authorized a share repurchase program under which we may repurchase up to $50 million of our common stock through December 31, 2007. During the quarter ended June 30, 2007, we purchased a total of 392,791 shares at an average price of $25.50 per share for an aggregate purchase price of $10,016,175. As of June 30, 2007, we had repurchased 906,109 shares of common stock at an average price of $24.87 per share for an aggregate purchase price of $22,530,512 since inception of the share repurchase program, and the remaining authorized amount for share repurchases was $27,469,000.
----------------------------------------------------------------------------------------------------------------- Approximate Dollar Total Average Total Number of Shares Value of Shares that Number of Price Paid Purchased as Part of May Yet Be Shares Per Share Publicly Announced Purchased Under the Period Purchased Plans or Programs Plans or Programs ----------------------------------------------------------------------------------------------------------------- April 1, 2007 to April 30, 2007 20,225 $24.99 20,225 $36,980,000 ----------------------------------------------------------------------------------------------------------------- May 1, 2007 to May 31, 2007 162,624 $24.97 162,624 $32,919,000 ----------------------------------------------------------------------------------------------------------------- June 1, 2007 to June 30, 2007 209,942 $25.96 209,942 $27,469,000 ----------------------------------------------------------------------------------------------------------------- Total 392,791 $25.50 392,791 -----------------------------------------------------------------------------------------------------------------
PERFORMANCE GRAPH
The following graph compares, for each of the fiscal years indicated, the annual percentage change in the cumulative total shareholder return on our common stock with the cumulative total return of (i) the Nasdaq Composite Index, a broad equity market index, and (ii) the Russell 2000 Index, a "small cap" business index.
----------------------------------------------------------------------------------- 6/02 6/03 6/04 6/05 6/06 6/07 ----------------------------------------------------------------------------------- NuCo2 Inc. 100.00 67.21 140.21 183.36 171.71 183.36 NASDAQ Composite 100.00 109.91 139.04 141.74 155.82 191.32 Russell 2000 100.00 98.36 131.18 143.57 164.50 191.53
6. SELECTED FINANCIAL DATA.
The Selected Financial Data set forth below reflect our historical results of operations, financial condition and operating data for the periods indicated and should be read in conjunction with the consolidated financial statements and notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations included elsewhere in this Annual Report on Form 10-K.
Fiscal Year Ended June 30, -------------------------- 2007 2006 2005 2004 2003 ---- ---- ---- ---- ---- (in thousands, except per share amounts and Operating Data) Income Statement Data:
Product sales ................................ $ 85,865 $ 75,959 $ 60,518 $ 49,115 $ 45,027 Equipment rentals ............................ 44,263 40,237 36,822 31,721 29,382 --------- --------- --------- --------- ---------
Total revenues ............................... 130,128 116,196 97,340 80,836 74,409 --------- --------- --------- --------- ---------
Cost of products sold, excluding depreciation and amortization ............................. 55,835 49,397 41,278 33,883 32,047 Cost of equipment rentals, excluding depreciation and amortization ................ 6,714 3,086 2,391 2,345 3,513 Selling, general and administrative expenses . 28,521 24,146 17,020 15,722 17,484 Depreciation and amortization ................ 20,059 18,333 16,484 15,234 17,167 Loss on asset disposal ....................... 2,260 1,733 1,332 1,242 1,650 --------- --------- --------- --------- ---------
Operating income ............................. 16,739 19,501 18,835 12,410 2,548 Loss on early extinguishment of debt ......... -- -- 5,817 1,964 -- Unrealized (gain) loss on financial instrument -- (177) -- 177 -- Interest expense ............................. 2,207 1,989 6,985 7,947 7,487 --------- --------- --------- --------- ---------
Net income (loss) before income taxes ........ 14,532 17,689 6,033 2,322 (4,939) Provision for (benefit from) income taxes .... 6,893 7,341 (19,558) 142 -- --------- --------- --------- --------- --------- Net income (loss) ............................ $ 7,639 $ 10,348 $ 25,591 $ 2,180 $ (4,939) ========= ========= ========= ========= =========
Net income (loss) per basic common share ..... $ 0.49 $ 0.67 $ 1.98 $ 0.13 $ (0.54) Net income (loss) per diluted common share ... $ 0.48 $ 0.65 $ 1.79 $ 0.12 $ (0.54)
Weighted average shares outstanding - basic .. 15,593 15,427 12,808 10,689 10,396 Weighted average shares outstanding - diluted 15,886 15,997 14,295 11,822 10,396
Other Data:
EBITDA (1) ................................... $ 36,798 $ 37,834 $ 35,319 $ 27,644 $ 19,715
Total company owned bulk CO2 systems serviced 96,000 93,000 82,000 68,000 63,000 Customer owned bulk CO2 systems serviced ..... 18,000 18,000 16,000 12,000 11,000 --------- --------- --------- --------- --------- Total bulk CO2 systems serviced .............. 114,000 111,000 98,000 80,000 74,000 Total high pressure CO2 customers ............ 1,500 2,000 1,000 1,000 1,000 --------- --------- --------- --------- --------- Total customers .............................. 115,500 113,000 99,000 81,000 75,000 Stationary depots ............................ 116 113 103 97 91 Mobile depots ................................ 12 12 14 11 10 Bulk CO2 trucks .............................. 232 230 203 173 168 Technical service vehicles ................... 115 117 92 83 73 High pressure cylinder delivery trucks ....... 4 3 -- -- --
Balance Sheet Data:
Cash and cash equivalents .................... $ 343 $ 341 $ 968 $ 505 $ 455 Total assets ................................. 190,838 199,007 173,132 128,502 125,846 Total debt (including short-term debt) ....... 34,750 35,450 32,000 66,173 70,529 Redeemable preferred stock ................... -- -- -- 10,021 9,258 Total shareholders' equity ................... 139,892 146,924 129,184 40,756 34,936
(1) RECONCILIATION OF GAAP AND EBITDA
Fiscal Year Ended June 30, --------------------------------------------------------------- 2007 2006 2005 2004 2003 ---- ---- ---- ---- ---- Net Income (loss) $ 7,639 $ 10,348 $ 25,591 $ 2,180 $ (4,939) Interest expense 2,207 1,989 6,985 7,947 7,487 Depreciation and amortization 20,059 18,333 16,484 15,234 17,167 Provision for (benefit from) income taxes 6,893 7,341 (19,558) 142 -- Unrealized loss on financial instrument -- (177) -- 177 -- Loss on early extinguishment of debt -- -- 5,817 1,964 -- --------- --------- --------- --------- ---------
EBITDA $ 36,798 $ 37,834 $ 35,319 $ 27,644 $ 19,715 ========= ========= ========= ========= =========
Cash flows provided by (used in): Operating activities $ 42,809 $ 33,578 $ 29,651 $ 21,657 $ 15,826 Investing activities $ (23,417) $ (41,682) $ (38,781) $ (16,595) $ (13,891) Financing activities $ (19,390) $ 7,477 $ 9,593 $ (5,012) $ (3,042)
Earnings before interest, taxes, depreciation and amortization ("EBITDA") is one of the principal financial measures by which we measure our financial performance. EBITDA is a widely accepted financial indicator used by many investors, lenders and analysts to analyze and compare companies on the basis of operating performance, and we believe that EBITDA provides useful information regarding our ability to service our debt and other obligations. However, EBITDA does not represent cash flow from operations, nor has it been presented as a substitute to operating income or net income as indicators of our operating performance. EBITDA excludes significant costs of doing business and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with accounting principles generally accepted in the United States of America. In addition, our calculation of EBITDA may be different from the calculation used by our competitors, and therefore comparability may be affected. In addition, our lenders also use EBITDA to assess our compliance with debt covenants. These financial covenants are based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined) as modified by certain defined adjustments.
7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
OVERVIEW
We believe we are the leading supplier of bulk CO2 systems and bulk CO2 for carbonating fountain beverages in the United States based on the number of bulk CO2 systems leased to customers and the only company in our industry to operate a national network of bulk CO2 service locations. As of June 30 2007, we operated a national network of 128 service locations servicing approximately 115,500 customer locations. Currently, virtually all fountain beverage users in the continental United States are within our present service area. On September 30, 2005, we purchased the beverage carbonation business in northern California of Bay Area Equipment Co., Inc. We acquired approximately 2,500 customer locations, including 1,000 tanks in service, vehicles, parts, and supplies. In addition, on June 30, 2006, we acquired the bulk CO2 beverage carbonation business in 18 states in the southwest and midwest, as well as parts of the southeast, of Coca-Cola Enterprises Inc. We acquired approximately 3,000 locations, including 2,400 tanks in service. These acquisitions provide further penetration and operating efficiencies in markets in which we operate.
We market our bulk CO2 products and services to large customers such as restaurant and convenience store chains, movie theater operators, theme parks, resorts and sports venues. Our customers include many of the major national and regional chains throughout the United States. Our success in reaching multi-unit placement agreements is due in part to our national delivery system. We typically approach large chains on a corporate or regional level for approval to become the exclusive supplier of bulk CO2 products and services on a national basis or within a designated territory. We then direct our sales efforts to the managers or owners of the individual or franchised operating units. Our relationships with chain customers in one geographic market frequently help us to establish service with these same chains when we expand into new markets. After accessing the chain accounts in a new market, we attempt to rapidly build route density by leasing bulk CO2 systems to independent restaurants, convenience stores and theaters.
We have entered into master service agreements which include 90 restaurant and convenience store concepts that provide fountain beverages. These master service agreements generally provide for a commitment on the part of the operator for all of its currently owned locations and may also include future locations. We currently service approximately 53,000 chain and franchisee locations with chains that have signed master service agreements. We are actively working on expanding the number of master service agreements with numerous restaurant chains.
We believe that our future revenue growth, gains in gross margin and profitability will be dependent upon (1) increases in route density in our existing markets and the expansion and penetration of bulk CO2 system installations in new market regions, both resulting from successful ongoing marketing, (2) improved operating efficiencies and (3) price increases. New multi-unit placement agreements combined with single-unit placements will drive improvements in achieving route density. We maintain a highly efficient route structure and establish additional service locations as service areas expand through geographic growth. Our entry into many states was accomplished largely through the acquisition of businesses having thinly developed route networks. We expect to benefit from route efficiencies and other economies of scale as we build our customer base in these states through intensive regional and local marketing initiatives. Greater density should also lead to enhanced utilization of vehicles and other fixed assets and the ability to spread fixed marketing and administrative costs over a broader revenue base.
Generally, our experience has been that as our service locations mature their gross profit margins improve as a result of business volume growth while fixed costs remain essentially unchanged. New service locations typically operate at low or negative gross margins in the early stages and detract from our highly profitable service locations in more mature markets. Accordingly, we believe that we are in position to build our customer base while maintaining and improving upon our superior levels of customer service, with minimal changes required to support our infrastructure. However, while the past several years have been years of strong growth, for the foreseeable future, we plan to increase our focus on improving operating effectiveness, pricing for our services and strengthening our workforce.
GENERAL
Substantially all of our revenues have been derived from the rental of bulk CO2 systems installed at customers' sites, the sale of bulk CO2 and high pressure cylinder revenues. Revenues have grown from $74.4 million in fiscal 2003 to $130.1 million in fiscal 2007. We believe that our revenue base is stable due to the existence of long-term contracts with our customers, which generally rollover with a limited number expiring without renewal in any one year. Revenue growth is largely dependent on (1) the rate of new bulk CO2 system installations, (2) the growth in bulk CO2 sales and (3) price increases.
Cost of products sold is comprised of purchased CO2 and vehicle and service location costs associated with the storage and delivery of CO2. As of June 30, 2007, we operated a total of 351 specialized bulk CO2 delivery vehicles and technical service or utility vehicles that logged approximately 15 million miles over the last twelve months. While significant fluctuations in fuel prices impact our operating costs, such impact is largely offset by fuel surcharges billed to the majority of our customers. Consequently, while the impact on our gross profit and operating income is substantially mitigated, rising fuel prices do result in lower gross profit margins. Cost of equipment rentals is comprised of costs associated with customer equipment leases, including the repair and refurbishment of leased assets. Selling, general and administrative expenses consist of wages and benefits, dispatch and communications costs, as well as expenses associated with marketing, administration, accounting and employee training. Consistent with the capital intensive nature of our business, we incur significant depreciation and amortization expenses. These stem from the depreciation of our bulk CO2 systems and related installation costs, amortization of deferred lease acquisition costs, and amortization of deferred financing costs and other intangible assets. With respect to company-owned bulk CO2 systems, we capitalize direct installation costs associated with installation of such systems with customers under non-cancelable contracts and which would not be incurred but for a successful placement. All other service, marketing and administrative costs are expensed as incurred.
Since 1990, we have devoted significant resources to building a sales and marketing organization, adding administrative personnel and developing a national infrastructure to support the rapid growth in the number of our installed base of bulk CO2 systems. The costs of this expansion and the significant depreciation expense recognized on our installed network have resulted in an accumulated deficit of $12.1 million at June 30, 2007.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage relationship which the various items bear to total revenues:
Fiscal Year Ended June 30, -------------------------- Statements of Income Data: 2007 2006 2005 ------ ------ ------ Product sales 66.0 % 65.4 % 62.2 % Equipment rentals 34.0 34.6 37.8 ------ ------ ------ Total revenues 100.0 100.0 100.0
Cost of products sold, excluding depreciation and amortization 42.9 42.5 42.4 Cost of equipment rentals, excluding depreciation and amortization 5.2 2.7 2.5 Selling, general and administrative expenses 21.9 20.8 17.5 Depreciation and amortization 15.4 15.8 16.9 Loss on asset disposal 1.7 1.4 1.4 ------ ------ ------ Operating income 12.9 16.8 19.3 Loss on early extinguishment of debt -- -- 6.0 Unrealized (gain) loss on financial instrument -- (0.2) -- Interest expense 1.7 1.7 7.1 ------ ------ ------
Income before income taxes 11.2 15.2 6.2 Provision for (benefit from) income taxes 5.3 6.3 (20.1) ------ ------ ------ Net income 5.9 % 8.9 % 26.3 % ====== ====== ======
FISCAL YEAR ENDED JUNE 30, 2007 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2006
TOTAL REVENUES
Total revenues increased by $13.9 million, or 12.0%, from $116.2 million in 2006 to $130.1 million in 2007. Revenues derived from our bulk CO2 service plans increased by $11.4 million, primarily due to an increase in the number of customer locations, while revenues derived from the sale of high pressure cylinder products, fuel surcharges, equipment sales and other revenues increased by $2.5 million. The number of customer locations utilizing our products and services increased from approximately 99,000 at the beginning of 2006 to approximately 115,500 at June 30, 2007. This increase was primarily due to organic growth and the acquisition of approximately 2,500 customer locations from Bay Area Equipment Co., Inc. on September 30, 2005 for which there was only nine months of corresponding revenue in 2006 and 3,000 customer locations from Coca-Cola Enterprises Inc. on June 30, 2006, for which there was no corresponding revenue in 2006.
The following table sets forth, for the periods indicated, the percentage of total revenues by service plan:
Fiscal Year Ended June 30, ------------------------- Service Plan 2007 2006 ====== ====== Bulk budget plan(1) 51.0% 52.8% Equipment lease/product purchase plan(2) 18.3 16.5 Product purchase plan(3) 10.6 10.3 High pressure cylinder(4) 5.6 5.3 Other revenues(5) 14.5 15.1 ------ ------ 100.0% 100.0% ====== ======
(1) Combined fee for bulk CO2 tank and bulk CO2. (2) Fee for bulk CO2 tank and, separately, bulk CO2 usage. (3) Bulk CO2 only. (4) High pressure CO2 cylinders and non-CO2 gases. (5) Surcharges and other charges.
PRODUCT SALES - Revenues derived from the product sales portion of our service plans increased by $9.9 million, or 13.0%, from $76.0 million in 2006 to $85.9 million in 2007. The increase in revenues is primarily due to a 10.0% increase in the average number of customer locations serviced combined with a slight increase in the quantity of CO2 sold to the average customer due in large part to the customers acquired in the Bay Area Equipment transaction on September 30, 2005, the Coca-Cola Enterprises acquisition on June 30, 2006, and the impact of new customer locations activated under master service agreements. In addition, sales of products and services other than bulk CO2 increased by $2.5 million due in large part to an increase in revenues derived from cylinder products, fuel surcharges, and other revenues, partially offset by a decrease in equipment sales.
EQUIPMENT RENTALS - Revenues derived from the lease portion of our service plans increased by $4.1 million, or 10.0%, from $40.2 million in 2006 to $44.3 million in 2007, primarily due to a 9.6% increase in the average number of customer locations leasing equipment from us, including the impact of the Coca-Cola Enterprises transaction and price increases to a significant number of our customers consistent with the Consumer Price Index, offset by incentive pricing provided to multiple national restaurant organizations utilizing our equipment under the bulk budget plan and equipment lease/product purchase plans pursuant to master service agreements. The number of customer locations renting equipment from us increased from approximately 93,000 at June 30, 2006 to approximately 96,000 at June 30, 2007.
COST OF PRODUCTS SOLD, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of products sold, excluding depreciation and amortization, increased from $49.4 million in 2006 to $55.8 million in 2007, while remaining steady as a percentage of product sales revenue at 65.0%.
Raw product costs increased by $2.3 million, from $19.4 million in 2006 to $21.7 million in 2007, due in large part to a $2.4 million increase in CO2 costs. The volume of CO2 sold by us increased 10.4%, primarily due to the 10.0% increase in our average customer base, while the average price of CO2 increased 3.2%. The increase in CO2 costs was primarily offset by a $0.4 million reduction in costs related to discontinued syrup accounts acquired in connection with the Bay Area Equipment acquisition last year. Costs associated with the rental of high pressure cylinders increased by $0.3 million.
Operational costs, primarily wages and benefits related to cost of products sold, increased from $18.6 million in 2006 to $21.9 million in 2007, primarily due to the increased personnel costs associated with an increased customer base and normal annual adjustments in wage rates. As of June 30, 2007, we had 407 full-time delivery personnel as compared to 362 at the beginning of fiscal 2006.
Truck delivery expenses increased from $7.7 million in 2006 to $8.6 million in 2007 primarily due to the increased customer base and fuel costs. We have been able to continue to minimize the impact of increased fuel costs and variable lease costs associated with truck usage by continuing to improve efficiencies in the timing and routing of deliveries. During the last half of fiscal 2007, we have begun to implement a new routing routine at select locations across the country. The full implantation of "alpha routing" will be systematically implemented through the end of fiscal 2008.
Occupancy and shop costs related to cost of products sold decreased slightly from $3.7 million in 2006 to $3.6 million in 2007.
COST OF EQUIPMENT RENTALS, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of equipment rentals, excluding depreciation and amortization, increased from $3.1 million in 2006 to $6.7 million in 2007 while increasing as a percentage of equipment rentals revenue from 7.7% to 15.2%. During fiscal 2007, we made a strategic decision to be more selective with our customer activations on a going forward basis, while improving both operating and customer service metrics. As part of this decision, rather than reducing the number of technicians, we are increasing our emphasis on the assessment, upgrade and service of our bulk CO2 tanks at customer sites. To the degree that our installers and other personnel are involved in such activities, as compared to initial installation of tanks at customer sites, which consumed the substantial majority of our technicians' efforts over the past several years, the related expense is recognized in our statement of operations as incurred. We are increasing capacity to repair and service tanks, which is and will continue to reduce our need to purchase new tanks. Tank repair and service costs are expensed as incurred as compared to the purchase of a tank, which is capitalized at cost.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses increased by $4.4 million from $24.1 million in 2006 to $28.5 million in 2007, while increasing as a percentage of total revenues from 20.8% in 2006 to 21.9% in 2007.
Selling related expenses remained steady at $4.9 million in both 2006 and 2007. In 2006, we began to convert select independent sales representatives to salaried employees to improve our ability to attract and retain quality personnel. However, as part of our new strategic growth plan in January 2007, we reduced our sales force by 14 associates, the effect of which will be fully seen in fiscal 2008.
General and administrative expenses increased by $4.4 million, or 22.6%, from $19.3 million in 2006 to $23.7 million in 2007. This increase was primarily the result of additional headcount and the related salaries and other investments associated with strengthening our infrastructure in core areas, incentive performance plans, increased expense associated with uncollectible customer receivable accounts, and an increase in stock option compensation expense associated with grants made to officers, key employees, and directors.
During fiscal 2007, performance targets were set by our Board of Directors for our incentive plans, including the vesting of certain performance based option awards. Included in the 2007 results of operations is the recognition of option compensation expense consistent with performance. Accordingly, we recognized $4.2 million of option compensation in 2007 as compared to $3.3 million last year.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization increased from $18.3 million in 2006 to $20.1 million in 2007. As a percentage of total revenues, depreciation and amortization expense decreased from 15.8% in 2006 to 15.4% in 2007.
Depreciation expense increased from $15.3 million in 2006 to $16.7 million in 2007. The increase was due in large part to the purchase and placement of additional bulk CO2 tanks at customer sites and equipment obtained from acquisitions (see "Overview").
Amortization expense increased from $3.0 million in 2006 to $3.4 million in 2007, primarily related to the increase in the amortization of intangible assets, such as customer lists, associated with acquisitions.
LOSS ON ASSET DISPOSAL
Loss on asset disposal increased from $1.7 million in 2006 to $2.3 million in 2007, increasing as a percentage of total revenues from 1.4% to 1.7%. A significant portion of the increase is due to discontinuing service to sub-par performing customers consistent with our new strategic plan.
OPERATING INCOME
For the reasons previously discussed, primarily the increase in technician expense that is not related to the initial direct placement of new customer accounts (see "Cost of Equipment Rentals, Excluding Depreciation and Amortization"), operating income decreased by $2.8 million from $19.5 million in 2006 to $16.7 million in 2007. As a percentage of total revenues, operating income decreased from 16.8% to 12.9%.
GAIN ON FINANCIAL INSTRUMENT
We use derivative instruments to manage exposure to interest rate risks. Our objectives for holding derivatives are to minimize the risks using the most effective methods to eliminate or reduce the impact of this exposure. In order to reduce our exposure to increases in Eurodollar rates, and consequently to increases in interest payments, we entered into an interest rate swap transaction (the "Prior Swap") on October 2, 2003, in the amount of $20.0 million with an effective date of March 15, 2004 and a maturity date of September 15, 2005. As the Prior Swap was not effective until March 15, 2004 and no cash flows were exchanged prior to that date, the Prior Swap did not meet the requirements to be designated as a cash flow hedge. As such, an unrealized loss of $0.2 million was recognized in our statement of operations for the fiscal year ended June 30, 2004, reflecting the change in fair value of the Prior Swap from inception to the effective date. As of March 15, 2004, the Prior Swap met the requirements to be designated as a cash flow hedge and was deemed a highly effective transaction. Accordingly, we recorded the change in fair value of the Prior Swap from March 15, 2004 through September 15, 2005, as other
comprehensive income, which was reversed upon the termination of the Prior Swap in September 2005. In addition, upon termination of the Prior Swap, we reversed the unrealized loss of $0.2 million previously recognized in our statement of operations.
INTEREST EXPENSE
Interest expense increased from $2.0 million in 2006 to $2.2 million in 2007, while the effective interest rate of our debt increased from 5.9% per annum in 2006 to 6.6% per annum in 2007 due to rising libor rates over the past year, partially neutralized by the impact of our interest rate swap agreements. See "Quantitative and Qualitative Disclosures About Market Risk." Average debt outstanding was relatively steady in both periods, despite $22.5 million spent to repurchase over 900,000 shares of our common stock in 2007.
INCOME BEFORE PROVISION FOR INCOME TAXES
Primarily for the reasons described above, income before provision for income taxes decreased by $3.2 million, or 17.8%, from $17.7 million in 2006 to $14.5 million in 2007.
PROVISION FOR INCOME TAXES
During 2006 and 2007, we recognized a tax provision consistent with our effective tax rate. However, while we anticipate continuing to recognize a full tax provision in future periods, we expect to pay only AMT and state/local taxes until such time that our net operating loss carryforwards are fully utilized. Our effective rate for 2007 was 47.4%, as compared with 41.5% for 2006. Affecting the 2007 rate was $0.6 million in income tax expense associated with a decrease in state and local net operating loss carryforwards expected to be available to offset future taxable income. Exclusive of the impact of the decrease in net operating loss carryforwards, the effective rate in 2007 was 43.2%.
NET INCOME
For the reasons described above, net income decreased from $10.3 million 2006 to $7.6 million in 2007.
Non-GAAP MEASURES EBITDA AND EBITDA EXCLUDING OPTION COMPENSATION
Earnings before interest, taxes, depreciation and amortization ("EBITDA") is one of the principal financial measures by which we measure our financial performance. EBITDA is a widely accepted financial indicator used by many investors, lenders and analysts to analyze and compare companies on the basis of operating performance, and we believe that EBITDA provides useful information regarding our ability to service our debt and other obligations. However, EBITDA does not represent cash flow from operations, nor has it been presented as a substitute to operating income or net income as indicators of our operating performance. EBITDA excludes significant costs of doing business and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with accounting principles generally accepted in the United States of America. In addition, our calculation of EBITDA may be different from the calculation used by our competitors, and therefore comparability may be affected. In addition, our lender also uses EBITDA to assess our compliance with debt covenants. These financial covenants are based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined) as modified by certain defined adjustments.
Fiscal Year Ended June 30, -------------------------- 2007 2006 ======== ======== Net income 7,639 10,348 Interest expense 2,207 1,989 Depreciation and amortization 20,059 18,333 Provision for income taxes 6,893 7,341 Gain on financial instrument -- (177) -------- -------- EBITDA 36,798 37,834 Noncash option compensation 4,194 3,298 -------- -------- EBITDA excluding the impact of option compensation 40,992 41,132 ======== ========
Cash flows provided by (used in): Operating activities $ 42,809 $ 33,578 Investing activities $(23,417) $(41,682) Financing activities $(19,390) $ 7,477
FISCAL YEAR ENDED JUNE 30, 2006 COMPARED TO FISCAL YEAR ENDED JUNE 30, 2005
TOTAL REVENUES
Total revenues increased by $18.9 million, or 19.4%, from $97.3 million in 2005 to $116.2 million in 2006. Revenues derived from our bulk CO2 service plans increased by $12.6 million, primarily due to an increase in the number of customer locations, while revenues derived from the sale of high pressure cylinder products, fuel surcharges, equipment sales and other revenues increased by $6.3 million. In addition, the Bay Area Equipment transaction generated revenues of $1.8 million in fiscal 2006. The number of customer locations utilizing our products and services increased from approximately 99,000 at June 30, 2005 to approximately 113,000 at June 30, 2006, due primarily to organic growth and the acquisition of approximately 2,500 customer locations from Bay Area Equipment on September 30, 2005 and 3,000 customer locations from Coca-Cola Enterprises Inc. on June 30, 2006.
The following table sets forth, for the periods indicated, the percentage of total revenues by service plan:
Fiscal Year Ended June 30, -------------------------- Service Plan 2006 2005 ====== ====== Bulk budget plan(1) 52.8% 57.0% Equipment lease/product purchase plan(2) 16.5 15.4 Product purchase plan(3) 10.3 9.7 High pressure cylinder(4) 5.3 5.7 Other revenues(5) 15.1 12.2 ------ ------ 100.0% 100.0% ====== ======
(1) Combined fee for bulk CO2 tank and bulk CO2. (2) Fee for bulk CO2 tank and, separately, bulk CO2 usage. (3) Bulk CO2 only. (4) High pressure CO2 cylinders and non-CO2 gases. (5) Surcharges and other charges.
PRODUCT SALES - Revenues derived from the product sales portion of our service plans increased by $15.4 million, or 25.5%, from $60.5 million in 2005 to $76.0 million in 2006. The increase in revenues is primarily due to a 14.3% increase in the average number of customer locations serviced combined with a 4.8% increase in the quantity of CO2 sold to the average customer due in large part to the customers acquired in the Pain Enterprises transaction on October 1, 2004, the Bay Area Equipment transaction on September 30, 2005, and the impact of new customer locations activated under master service agreements. In addition, sales of products and services other than bulk CO2 increased by $6.3 million due in large part to an increase in revenues derived from cylinder products, fuel surcharges, equipment sales and other revenues.
EQUIPMENT RENTALS - Revenues derived from the lease portion of our service plans increased by $3.4 million, or 9.3%, from $36.8 million in 2005 to $40.2 million in 2006, primarily due to a 13.6% increase in the average number of customer locations leasing equipment from us, the impact of the Pain Enterprises and Bay Area Equipment transactions, and price increases to a significant number of our customers consistent with the Consumer Price Index, offset by incentive pricing provided to multiple national restaurant organizations utilizing our equipment under the bulk budget plan and equipment lease/product purchase plans pursuant to master service agreements. The number of customer locations renting equipment from us increased from approximately 82,000 at June 30, 2005 to approximately 93,000 at June 30, 2006.
COST OF PRODUCTS SOLD, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of products sold, excluding depreciation and amortization, increased from $41.3 million in 2005 to $49.4 million in 2006, while decreasing as a percentage of product sales revenue from 68.2% to 65.0%.
Product costs increased by $3.9 million from $15.5 million in 2005 to $19.4 million in 2006. The base price with our primary supplier of CO2 increased by the Producer Price Index, while the volume of CO2 sold by us increased 19.0%, primarily due to a 14.3% increase in our average customer base and a 4.8% increase in CO2 sold to these customers. The increase in the quantity of CO2 sold to the average customer is due in large part to the impact of the Pain Enterprises transaction on October 1, 2004, the Bay Area Equipment transaction on September 30, 2005, and master service agreements.
Operational costs, primarily wages and benefits related to cost of products sold, increased from $16.0 million in 2005 to $18.6 million in 2006, primarily due to a $1.9 million increase in route driver costs associated with an increased customer base. As of June 30, 2006, we had 352 drivers as compared to 332 at the same point last year and 270 at the end of fiscal 2004. Operational related costs also included costs directly related to the two major hurricanes to hit the southeastern United States in the first quarter of fiscal 2005.
Truck delivery expenses increased from $6.4 million in 2005 to $7.7 million in 2006 primarily due to the increased customer base and fuel costs. We have been able to continue to minimize the impact of increased fuel costs and variable lease costs associated with truck usage by continuing to improve efficiencies in the timing and routing of deliveries.
Occupancy and shop costs related to cost of products sold increased from $3.4 million in 2005 to $3.7 million in 2006.
COST OF EQUIPMENT RENTALS, EXCLUDING DEPRECIATION AND AMORTIZATION
Cost of equipment rentals, excluding depreciation and amortization, increased from $2.4 million in 2005 to $3.1 million in 2006 while increasing as a percentage of equipment rentals revenue from 6.5% to 7.7%. The increase in the cost of equipment rentals is primarily related to additional wages and transportation costs.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses increased by $7.1 million from $17.0 million in 2005 to $24.1 million in 2006, while increasing as a percentage of total revenues from 17.5% in 2005 to 20.8% in 2006.
Selling related expenses increased by $1.3 million, from $3.6 million in 2005 to $4.9 million in 2006, primarily the result of the planned conversion of select independent sales representatives to salaried employees and expenses directed towards training, marketing and growth opportunities.
General and administrative expenses increased by $5.9 million, or 43.7%, from $13.4 million in 2005 to $19.3 million in 2006. We adopted SFAS No. 123-R, "Share-Based Payments" (SFAS 123-R) on July 1, 2005 (see "Recent Accounting Pronouncements"). As a result, share-based compensation expense was $3.3 million in 2006 with no comparable expense recorded in our statement of operations prior to the date of adoption. In addition, this increase was the result of the addition of our new Chief Customer Officer, wage increases, hurricane related expenses, and public company related expenses, including expenses related to the Sarbanes-Oxley Act.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization increased from $16.5 million in 2005 to $18.3 million in 2006. As a percentage of total revenues, depreciation and amortization expense decreased from 16.9% in 2005 to 15.8% in 2006.
Depreciation expense increased from $13.8 million in 2005 to $15.3 million in 2006. The increase was due in large part to the purchase and placement of bulk CO2 tanks at customer sites and equipment from acquisitions.
Amortization expense increased from $2.7 million 2005 to $3.0 million 2006. The decrease in the amortization of certain deferred charges was offset by the increased amortization of intangible assets related to our acquisition activities over the last year, and deferred lease acquisition costs.
LOSS ON ASSET DISPOSAL
Loss on asset disposal increased from $1.3 million in 2005 to $1.7 million in 2006 The increase in expense is primarily related to the impact of Hurricane Katrina, a major hurricane, which directly or indirectly impacted our operations and assets in northwest Florida and in portions of Alabama, Louisiana and Mississippi.
OPERATING INCOME
For the reasons previously discussed, operating income increased by $0.7 million from $18.8 million in 2005 to $19.5 million in 2006. As a percentage of total revenues, operating income decreased from 19.3% to 16.8%.
LOSS ON EARLY EXTINGUISHMENT OF DEBT
In the fourth quarter of fiscal 2005, we accelerated the recognition of $2.4 million in deferred financing costs associated with the refinancing of our long-term debt. In addition, in connection with the repayment of our 16.3% Senior Subordinated Promissory Notes we incurred a prepayment penalty of $1.8 million and accelerated the recognition of the unamortized portion of the original issue discount associated with those notes, $1.6 million.
See "Liquidity and Capital Resources."
GAIN ON FINANCIAL INSTRUMENT
We use derivative instruments to manage exposure to interest rate risks. Our objectives for holding derivatives are to minimize the risks using the most effective methods to eliminate or reduce the impact of this exposure. In order to reduce our exposure to increases in Eurodollar rates, and consequently to increases in interest payments, we entered into an interest rate swap transaction (the "Prior Swap") on October 2, 2003, in the amount of $20.0 million with an effective date of March 15, 2004 and a maturity date of September 15, 2005. As the Prior Swap was not effective until March 15, 2004 and no cash flows were exchanged prior to that date, the Prior Swap did not meet the requirements to be designated as a cash flow hedge. As such, an unrealized loss of $0.2 million was recognized in our statement of operations for the fiscal year ended June 30, 2004, reflecting the change in fair value of the Prior Swap from inception to the effective date. As of March 15, 2004, the Prior Swap met the requirements to be designated as a cash flow hedge and was deemed a highly effective transaction. Accordingly, we recorded the change in fair value of the Prior Swap from March 15, 2004 through September 15, 2005, as other comprehensive income, which was reversed upon the termination of the Prior Swap in September 2005. In addition, upon termination of the Prior Swap, we reversed the unrealized loss of $0.2 million previously recognized in our statement of operations.
INTEREST EXPENSE
Interest expense decreased from $7.0 million in 2005 to $2.0 million in 2006, while the effective interest rate of our debt decreased from 10.4% per annum in 2005 to 5.9% per annum in 2006. This reduction was due to the redemption of our 16.3% Senior Subordinated Promissory Notes in April 2005 and the refinancing of our senior credit facility in May 2005. See "Liquidity and Capital Resources."
INCOME BEFORE PROVISION FOR INCOME TAXES
Primarily for the reasons described above under interest expense and the loss on early extinguishment of debt, income before provision for income taxes increased by 192.2%, from $6.0 million in 2005 to $17.7 million in 2006.
PROVISION FOR INCOME TAXES
During 2005 we recorded a $19.6 million income tax benefit as compared to a provision for income taxes of $7.3 million in 2006. As of June 30, 2005, after consideration of all available positive and negative evidence, we concluded that the deferred tax asset relating to our net operating loss carryforwards will more likely than not be realized in the future. Thus, the entire valuation allowance previously recorded was reversed as of that date. Accordingly, during the fiscal year ended June 30, 2006, we recognized a tax provision consistent with our effective tax rate.
NET INCOME
For the reasons described above, net income decreased from $25.6 million in 2005 to $10.3 million in 2006.
EBITDA
Earnings before interest, taxes, depreciation and amortization ("EBITDA") is one of the principal financial measures by which we measure our financial performance. EBITDA is a widely accepted financial indicator used by many investors, lenders and analysts to analyze and compare companies on the basis of operating performance, and we believe that EBITDA provides useful information regarding our ability to service our debt and other obligations. However, EBITDA does not represent cash flow from operations, nor has it been presented as a substitute to operating income or net income as indicators of our operating performance. EBITDA excludes significant costs of doing business and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with accounting principles generally accepted in the United States of America. In addition, our calculation of EBITDA may be different from the calculation used by our competitors, and therefore comparability may be affected. In addition, our lender also uses EBITDA to assess our compliance with debt covenants. These financial covenants are based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined) as modified by certain defined adjustments.
EBITDA, as set forth in the table below (in thousands), increased by $2.5 million, from $35.3 million in 2005 to $37.8 million in 2006, while decreasing as a percentage of total revenues from 36.3% to 32.6%. EBITDA in 2006 includes the $3.3 million impact of the adoption of SFAS 123-R in July 2005.
Fiscal Year Ended June 30, -------------------------- 2006 2005 ======== ======== Net income 10,348 25,591 Interest expense 1,989 6,985 Depreciation and amortization 18,333 16,484 Provision for income taxes 7,341 (19,558) Gain on financial instrument (177) -- Loss on early extinguishment of debt -- 5,817 -------- -------- EBITDA 37,834 35,319 Noncash option compensation 3,297 -- -------- -------- EBITDA excluding the impact of option compensation 41,131 35,319 ======== ========
Cash flows provided by (used in): Operating activities $ 33,578 $ 29,651 Investing activities (41,682) (38,781) Financing activities $ 7,477 $ 9,593
RECENT ACCOUNTING PRONOUNCEMENTS
On September 13, 2006 the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 108 ("SAB 108"), "CONSIDERING THE EFFECTS OF PRIOR YEAR MISSTATEMENTS WHEN QUALIFYING MISSTATEMENTS IN CURRENT YEAR FINANCIAL STATEMENTS." The interpretations in SAB 108 are being issued to address diversity in practice in quantifying financial statement misstatements and the potential under current practice for the build up of improper amounts on the balance sheet. SAB 108 is effective for fiscal years beginning after November 15, 2006. We are currently evaluating the impact of SAB 108 on our results of operations; however we do not expect the impact to be material to our financial position, results of operations or cash flows.
In September 2006, the Financial Accounting Standards Board ("FASB") issued SFAS No. 157, "FAIR VALUE MEASUREMENTS" ("SFAS 157"). SFAS 157 provides enhanced guidance for using fair value to measure assets and liabilities. SFAS 157 also responds to investors' requests for expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements and is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements. We are currently evaluating the impact of this statement on our results of operations and financial position.
In June 2006, the FASB issued Interpretation No. 48, "ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES - AN INTERPRETATION OF SFAS NO. 109" ("FIN 48"), effective for fiscal years beginning after December 15, 2006. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with SFAS No. 109, "Accounting for Income Taxes" ("SFAS 109"). FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The adoption of FIN 48 is not expected to have a material impact on our financial position, results of operations, or cash flows.
In May 2005, the FASB issued SFAS No. 154, "ACCOUNTING FOR CHANGES AND ERROR CORRECTIONS" ("SFAS 154"). SFAS 154 applies to accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. SFAS 154 replaces APB Opinion No. 20, "Accounting Changes," and SFAS No. 3, "Reporting Accounting Changes in Interim Financial Statements," and changes the requirements for the accounting for and reporting of a change in accounting principle. SFAS 154 applies to all voluntary changes in accounting principle, as well as to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. SFAS 154 provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. The adoption of SFAS 154 did not have a material impact on our financial position, results of operations or cash flows.
LIQUIDITY AND CAPITAL RESOURCES
Our cash requirements consist principally of (1) capital expenditures associated with purchasing and placing new bulk CO2 systems into service at customers' sites; (2) payments of principal and interest on outstanding indebtedness; and (3) working capital. Whenever possible, we seek to obtain the use of vehicles, land, buildings, and other office and service equipment under operating leases as a means of conserving capital. We anticipate making cash capital expenditures of approximately $23.0 million for internal growth over the next twelve months, primarily for purchases of bulk CO2 systems for new customers.
In addition to capital expenditures related to internal growth, we review opportunities to acquire bulk CO2 service accounts, and may require cash in an amount dictated by the scale and terms of any such transactions. On October 1, 2004, we purchased the bulk CO2 beverage carbonation business of privately-owned Pain Enterprises, Inc., of Bloomington, Indiana, for total cash consideration of $15.7 million. The transaction involved the acquisition of approximately 9,000 customer locations, including approximately 6,300 tanks in service, vehicles, parts, and supplies. On September 30, 2005, we purchased the beverage carbonation business of Bay Area Equipment Co., Inc., for total consideration of $5.2 million. The transaction involved the acquisition of approximately 2,500 customer locations, including 1,000 tanks in service, vehicles, parts, and supplies. In addition, on June 30, 2006, we acquired a portion of the beverage carbonation business of Coca-Cola Enterprises Inc., for total consideration of $5.0 million. The acquisition involved approximately 3,000 customer locations, including 2,400 tanks in service.
LONG-TERM DEBT
On August 25, 2003, we terminated our former credit facility and entered into a $50.0 million senior credit facility with a syndicate of banks (the "Senior Credit Facility"). The Senior Credit Facility initially consisted of a $30.0 million A term loan facility (the "A Term Loan"), a $10.0 million B term loan facility (the "B Term Loan"), and a $10.0 million revolving loan facility (the "Revolving Loan Facility"). On October 1, 2004, in conjunction with the Pain Enterprises, Inc. transaction, the Senior Credit Facility was amended to, among other things, increase the B Term Loan to $23.0 million and to modify certain financial covenants. The A Term Loan and Revolving Loan Facility were due to mature on August 25, 2007, while the B Term Loan was due to mature on August 25, 2008. We were entitled to select either Eurodollar Loans (as defined) or Base Rate Loans (as defined), plus applicable margin, for principal borrowings under the Senior Credit Facility. Applicable margin was determined by a pricing grid based on our Consolidated Total Leverage Ratio (as defined). The Senior Credit Facility was collateralized by all of our assets. Additionally, we were precluded from declaring or paying any cash dividends.
We were also required to meet certain affirmative and negative covenants, including but not limited to financial covenants. We were required to assess our compliance with these financial covenants under the Senior Credit Facility on a quarterly basis. These financial covenants were based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined), which represents earnings before interest, taxes, depreciation and amortization, as further modified by certain defined adjustments. The failure to meet these covenants, absent a waiver or amendment, would have placed us in default and caused the debt outstanding under the Senior Credit Facility to immediately become due and payable. We were in compliance with all covenants under the Senior Credit Facility as of September 30, 2003 and all subsequent quarters up to and including March 31, 2005.
On May 27, 2005, we terminated the Senior Credit Facility and entered into a $60.0 million revolving credit facility with Bank of America, N.A. (the "2005 Credit Facility"). The 2005 Credit Facility matures on May 27, 2010. We are entitled to select either Base Rate Loans (as defined) or Eurodollar Rate Loans (as defined), plus applicable margin, for principal borrowings under the 2005 Credit Facility. Applicable margin is determined by a pricing grid, as amended in March 2006, based on our Consolidated Leverage Ratio (as defined) as follows:
------------------------------------------------------------------ Pricing Consolidated Leverage Eurodollar Rate Base Rate Level Ratio Loans Loans ------------------------------------------------------------------ I Greater than or equal to 2.000% 0.500% 2.50x ------------------------------------------------------------------ II Less than 2.50x but greater 1.750% 0.250% than or equal to 2.00x ------------------------------------------------------------------ III Less than 2.00x but 1.500% 0.000% greater than or equal to 1.50x ------------------------------------------------------------------ IV Less than 1.50x but greater 1.250% 0.000% than or equal to 0.50x ------------------------------------------------------------------ V Less than 0.50x 1.000% 0.000% ------------------------------------------------------------------
Interest is payable periodically on borrowings under the 2005 Credit Facility. The 2005 Credit Facility is uncollateralized. We are required to meet certain affirmative and negative covenants, including financial covenants. We are required to assess our compliance with these financial covenants under the 2005 Credit Facility on a quarterly basis. These financial covenants are based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined), which represents earnings before interest, taxes, depreciation and amortization, as further modified by certain defined adjustments. The failure to meet these covenants, absent a waiver or amendment, would place us in default and cause the debt outstanding under the 2005 Credit Agreement to immediately become due and payable. We were in compliance with all covenants under the 2005 Credit Facility as of June 30, 2005 and through June 30, 2007.
In connection with the termination of the Senior Credit Facility, during the fourth quarter of fiscal 2005, we recognized a loss of $1.7 million from the write-off of unamortized financing costs associated with the Senior Credit Facility and recorded $0.4 million in financing costs associated with the 2005 Credit Facility. Such costs are being amortized over the life of the 2005 Credit Facility.
As of June 30, 2007, a total of $34.8 million was outstanding under the 2005 Credit Facility, primarily consisting of Libor (Eurodollar Rate) loans, with a weighted average interest rate of 6.8% per annum.
SUBORDINATED DEBT
On August 25, 2003, concurrently with the closing of the Senior Credit Facility, we issued $30.0 million of our 16.3% Senior Subordinated Notes Due February 27, 2009 (the "New Notes") with interest only payable quarterly in arrears on February 28, May 31, August 31 and November 30 of each year, commencing November 30, 2003. Interest on the New Notes was 12% per annum payable in cash and 4.3% per annum payable "in kind" by adding the amount of such interest to the principal amount of the New Notes then outstanding. The weighted average effective interest rate of the New Notes, including the amortization of deferred financing costs and original issue discount, was 18.0% per annum. Ten year warrants to purchase an aggregate of 425,000 shares of our common stock at an exercise price of $8.79 per share were issued in connection with the New Notes. Utilizing the Black-Scholes Model, the warrants issued in connection with the New Notes were valued at $3.70 per warrant, or an aggregate value of $1,573,000. In addition, the maturity date of 665,403 existing warrants, 335,101 due to expire in 2004 and 330,302 due to expire in 2005, was extended to February 2009, resulting in additional value of $1.31 and $0.97 per warrant, respectively, or an aggregate value of $760,090. At the date of issuance, in accordance with APB 14, "ACCOUNTING FOR CONVERTIBLE DEBT AND DEBT ISSUED WITH PURCHASE WARRANTS," we allocated proceeds of $27.7 million to the debt and $2.3 million to the warrants, with the resulting discount on the debt referred to as the Original Issue Discount. The Original Issue Discount was being amortized as interest expense over the life of the debt. As with the Senior Credit Facility, we were required to meet certain affirmative and negative covenants under the New Notes, including but not limited to financial covenants. We were in compliance with all covenants under the New Notes as of September 30, 2003 and all subsequent quarters up to and including March 31, 2005.
On April 4, 2005, we used $34.3 million of the net proceeds from the sale of 2,041,713 shares of our common stock in an underwritten public offering in March 2005 to redeem the New Notes at 106% of the original principal amount plus accrued interest. In addition, during the quarter ended June 30, 2005, we recognized a loss on the early termination of debt associated with the New Notes of approximately $4.1 million, which includes the prepayment penalty, unamortized fees and the amortized portion of the original issue discount.
SHAREHOLDERS' EQUITY
On March 30, 2005, we sold 2,041,713 shares of our common stock in an underwritten public offering. Based on the public offering price of $24.17 per share and after deducting underwriting discounts and commissions, net proceeds were approximately $46.6 million. On March 31, 2005, we reduced the outstanding principal amount of the Senior Credit Facility by $11.2 million and on April 4, 2005, we used approximately $34.3 million of the net proceeds from the offering to redeem all of the New Notes.
In May 2000, we sold 5,000 shares of Series A 8% Cumulative Convertible Preferred Stock, no par value (the "Series A Preferred Stock"), for $1,000 per share. Shares of the Series A Preferred Stock were convertible into shares of common stock at any time at a conversion price of $9.28 per share. In addition, in November 2001, we sold 2,500 shares of Series B 8% Cumulative Convertible Preferred Stock, no par value (the "Series B Preferred Stock"), for $1,000 per share. Shares of the Series B Preferred Stock were convertible into shares of common stock at any time at a conversion price of $12.92 per share. Effective August 18, 2004, the holder of the Series A Preferred Stock converted its shares into 754,982 shares of our common stock. Effective December 7, 2004, the holder of the Series B Preferred Stock converted its shares into 247,420 shares of our common stock.
On January 29, 2007, our Board of Directors authorized a share repurchase program under which we may repurchase up to $50 million of our common stock through December 31, 2007. The share repurchase program commenced on February 5, 2007. The share repurchase plan does not obligate us to acquire any particular amount of shares and may be suspended at any time. Through June 30, 2007, we purchased a total of 906,109 shares of common stock at an average price of $24.87 per share for an aggregate purchase price of $22.5 million. As of that date, the remaining authorized amount for share repurchases was $27.5 million.
OTHER
During the fiscal year ended June 30, 2007, our capital resources included cash flows from operations and available borrowing capacity under the 2005 Credit Facility. We believe that cash flows from operations and available borrowings under the 2005 Credit Facility will be sufficient to fund proposed operations for at least the next twelve months.
The following table sets forth our contractual obligations (in thousands):
Less than 1-3 3-5 Contractual Obligations Total 1 Year Years Years Thereafter ==================================================== 2005 Credit Facility Principal $34,750 $ -- $34,750 $ -- $ -- Interest 6,869 2,363 4,506 -- -- ------- ------- ------- ------- ------- Total 2005 Credit Facility 41,619 2,363 39,256 -- -- ------- ------- ------- ------- -------
Employment agreements 3,019 1,607 1,412 -- -- Operating leases 18,563 5,916 8,856 3,297 494 ------- ------- ------- ------- ------- Total obligations $63,201 $ 9,886 $49,524 $ 3,297 $ 494 ======= ======= ======= ======= =======
In addition, in May 1997, we entered into an exclusive bulk CO2 requirements contract with The BOC Group, Inc., which expires in April 2012.
WORKING CAPITAL. As of June 30, 2007 and 2006, we had working capital of $13.3 million and $16.7 million, respectively.
CASH FLOWS FROM OPERATING ACTIVITIES: During 2007 and 2006, net cash generated by operating activities was $42.8 million and $33.6 million, respectively. Cash used by our working capital assets improved by $8.6 million. In addition, to the degree that (a) our technicians have shifted from the initial installation of bulk CO2 tanks at customer sites to the assessment, upgrade and service of our bulk CO2 tanks at customer sites and (b) we have increased our capacity to refurbish tanks rather than purchase new tanks, this represents a shift in cost from investing activities to operating activities. See "Fiscal Year Ended June 30, 2007 Compared to Fiscal Year Ended June 30, 2006 - Cost of Equipment Rentals, Excluding Depreciation and Amortization."
CASH FLOWS FROM INVESTING ACTIVITIES. During 2007 and 2006, net cash used in investing activities was $23.4 million and $41.7 million, respectively. Investing activities in 2006 included $4.7 million paid for the acquisition of the beverage carbonation business of Bay Area Equipment Co., Inc. ("BAE") and related acquisition expenses on September 30, 2005 and $5.0 million paid for the acquisition of a portion of the beverage carbonation business of Coca-Cola Enterprises Inc. ("CCE") and related acquisition expenses on June 30, 2006. Exclusive of acquisition purchases, investing activities are primarily attributable to the acquisition, installation and direct placement costs of bulk CO2 systems.
CASH FLOWS FROM FINANCING ACTIVITIES. During 2006, cash flows provided by financing activities was $7.5 million, compared to $19.4 million used in financing activities in 2007. During 2006, we borrowed $9.7 million to fund the purchase of BAE and CCE. As previously discussed, in 2007 we purchased a total of 906,109 shares of our common stock at an average price of $24.87 per share for an aggregate purchase price of $22.5 million. In addition, our debt decreased by $0.7 million since June 30, 2006, as we have generated sufficient excess cash to fully fund the repurchases of our common stock.
INFLATION
The modest levels of inflation in the general economy have not affected our results of operations. Additionally, our customer contracts generally provide for annual increases in the monthly rental rate based on increases in the consumer price index. We believe that inflation will not have a material adverse effect on our future results of operations.
Our bulk CO2 exclusive requirements contract with The BOC Group, Inc. ("BOC") provides for annual adjustments in the purchase price for bulk CO2 based upon increases or decreases in the Producer Price Index for Chemical and Allied Products or the average percentage increase in the selling price of bulk merchant carbon dioxide purchased by BOC's large, multi-location beverage customers in the United States, whichever is less.
As of June 30, 2007, we operated a total of 351 specialized bulk CO2 delivery vehicles and technical service or utility vehicles that logged approximately 15 million miles in fiscal 2007. While significant increases in fuel prices impact our operating costs, such impact is largely offset by fuel surcharges billed to the majority of our customers.
CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT ESTIMATES
In preparing our financial statements, we make estimates, assumptions and judgments that can have a significant impact on our revenue, operating income and net income, as well as on the reported amounts of certain assets and liabilities on our balance sheet. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies. Estimates in each of these areas are based on historical experience and a variety of assumptions that we believe are appropriate. Actual results may differ from these estimates.
REVENUE RECOGNITION
Effective July 1, 2003, revenue attributable to the lease of equipment, including equipment leased under the budget plan, is recorded on a straight-line basis over the term of the lease and revenue attributable to the supply of CO2 and other gases, including CO2 provided under the budget plan, is recorded upon delivery to the customer. Under the budget plan, customers are billed an equal monthly amount which includes CO2 up to an annual allowance. The contract arrangement for budget plan customers is analogous to a "take-or-pay" contract as defined in SFAS No. 47, "DISCLOSURE OF LONG TERM OBLIGATIONS," as the budget plan purchaser must make specified minimum payments even if it does not take delivery of the contracted products or services. Each budget plan customer has a maximum CO2 allowance that is measured and reset on the contract anniversary date. On the contract anniversary date, we record revenue in excess of actual deliveries of CO2 for budget plan customers that have not used their entire annual CO2 allowance equal to the difference between their annual CO2 allowance and actual CO2 delivered.
Because of the large number of customers under the budget plan and the fact that the anniversary dates for determining maximum quantities are spread throughout the year, our methodology involves the use of estimates and assumptions to separate the aggregate revenue stream derived from equipment rentals to budget plan customers, and also to approximate the recognition of revenue from CO2 sales to budget plan customers upon delivery. We believe that the adoption of EITF 00-21, "REVENUE ARRANGEMENTS WITH MULTIPLE DELIVERABLES," has the most impact on the recognition of revenue on a quarterly basis as CO2 usage fluctuates during a fiscal year based on factors such as weather, and traditional summer and holiday periods. Over a twelve-month period, we believe that the effect is less significant since seasonal variations are largely eliminated and CO2 allowances under budget plan agreements are measured and reset annually.
VALUATION OF LONG-LIVED ASSETS
We review our long-lived assets for impairment, principally property and equipment, whenever events or changes in circumstances indicate that the carrying amount of the assets may not be fully recoverable. To determine recoverability of our long-lived assets, we evaluate the probability that future undiscounted net cash flows will be greater than the carrying amount of our assets. Impairment is measured based on the difference between the carrying amount of our assets and their estimated fair value.
Certain events may occur that would materially affect our estimates and assumptions related to depreciation. Unforeseen changes in operations or technology could substantially alter management's assumptions regarding our ability to realize the return of our investment in operating assets and therefore affect the amount of depreciation expense to charge against both current and future revenues. Because depreciation expense is a function of historical experiences, analytical studies and professional judgments made of property, plant and equipment, subsequent studies could result in different estimates of useful lives and net salvage values. If future depreciation studies yield results indicating that our assets have shorter lives as a result of obsolescence, physical condition, changes in technology or changes in net salvage values, the estimate of depreciation expense could increase. Likewise, if studies indicate that assets have longer lives, the estimate of depreciation expense could decrease. For the year ended June 30, 2007, depreciation expense was $16.7 million.
INSTALLER EXPENSES
Property and equipment are stated at cost. Upon installation, the systems, component parts and direct costs associated with the installation are transferred to the leased equipment account. These direct costs are associated with successful placements of such systems with customers under noncancelable contracts and would not be incurred by us but for a successful placement. These costs are amortized over the life of the original customer contract. Upon early service termination, the unamortized portion of direct costs associated with the installation is recognized as a period expense in the statements of operations. Such policy is analogous to SFAS No. 91, "ACCOUNTING FOR NONREFUNDABLE FEES AND COSTS ASSOCIATED WITH ORIGINATING OR ACQUIRING LOANS AND INITIAL DIRECT COSTS OF LEASES."
GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill represents the cost in excess of the fair value of the tangible and identifiable intangible net assets of businesses acquired and, prior to July 1, 2001, was amortized on a straight-line method over 20 years. Effective July 1, 2001, we adopted Statement of Financial Accounting Standards No. 142, "GOODWILL AND OTHER INTANGIBLE ASSETS," pursuant to which, goodwill and indefinite life intangible assets are no longer amortized but are subject to annual impairment tests. Other intangible assets with finite lives continue to be amortized on a straight-line method over the periods of expected benefit. Other intangible assets consist of customer lists and non-competition agreements, principally acquired in connection with certain asset acquisitions. Customer lists are being amortized on a straight-line method over five to ten years, and non-competition agreements, which generally preclude the other party from competing with us in a designated geographical area for a stated period of time, are being amortized on a straight line method over their contractual lives which range from thirty to one hundred and twenty months.
RESERVES FOR UNCOLLECTIBLE ACCOUNTS RECEIVABLE
We make ongoing assumptions relating to the collectability of our accounts receivable. The accounts receivable amount on our balance sheet includes a reserve for accounts that might not be paid. Such reserve is evaluated and adjusted on a monthly basis by examining our historical losses and collections experience, aging of our trade receivables, the creditworthiness of significant customers based on ongoing evaluations, and current economic trends that might impact the level of credit losses in the future. The composition of receivables consists of on-time payers, "slow" payers, and at risk receivables, such as receivables from customers who no longer do business with us, are bankrupt, or are out of business. While we believe that our current reserves are adequate to
cover potential credit losses, we cannot predict future changes in the financial stability of our customers and we cannot guarantee that our reserves will continue to be adequate. If actual credit losses are significantly greater than the reserve we have established, that would increase our general and administrative expenses and reduce our reported net income. Conversely, if actual credit losses are significantly less than our reserve, this would eventually decrease our general and administrative expenses and increase our reported net income.
DEFERRED INCOME TAXES
Deferred income taxes reflect the net tax effects of net operating loss carryforwards and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Our deferred tax assets include the benefit of net operating loss carryforwards incurred through June 30, 2005. While we attained profitability during fiscal year 2004, based on the consideration of all of the available evidence including the recent history of losses, management concluded as of June 30, 2004 that it was more likely than not that the net deferred tax assets would not be realized. Accordingly, we recorded a valuation allowance equal to the amount of our net deferred tax assets at that time.
However, as of June 30, 2005, after consideration of all available positive and negative evidence, we concluded that the deferred tax asset relating to our net operating loss carryforwards will more likely than not be realized in the future. Thus, the entire valuation allowance was reversed and reported as a component of the fiscal 2005 income tax provision. In considering whether or not a valuation allowance is appropriate we consider several aspects, including, but not limited to the following items:
o Cumulative pretax book income
o Both positive and negative evidence as to our ability to utilize our federal net operating loss carry forwards prior to expiration, such as current and projected generation of taxable income, our position in the market place (servicing approximately 60% of customers currently utilizing bulk CO2), existence of long term customer contracts (generally for five to six years in duration), growth opportunities and conversion of restaurants currently utilizing high-pressure CO2 to beverage grade bulk CO2
o Future reversals of taxable temporary differences
o Tax planning strategies, including the option of an alternative method of depreciating assets for tax purposes
In order to utilize the entire deferred tax asset we will need to generate taxable income of approximately $102 million. As of June 30, 2007, we evaluated and, in the future, will continue to evaluate whether or not our net deferred tax assets will be fully realized prior to expiration. Should it become more likely than not that all or a portion of the net deferred tax assets will not be realized, a valuation allowance will be recorded.
7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
As discussed under "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources" above, as of June 30, 2007, a total of $34.8 million was outstanding under the 2005 Credit Facility with a weighted average interest rate of 6.8% per annum. Based upon $34.8 million outstanding under the 2005 Credit Facility at June 30, 2007, our annual interest cost under the 2005 Credit Facility would increase by $0.3 million for each 1% increase in Eurodollar interest rates.
In order to reduce our exposure to increases in Eurodollar rates, and consequently to increases in interest payments, we entered into an interest rate swap transaction (the "Prior Swap") on October 2, 2003, in the amount of $20.0 million (the "Prior Notional Amount") with an effective date of March 15, 2004 and a maturity date of September 15, 2005. Pursuant to the Prior Swap, we paid a fixed interest rate of 2.12% per annum and received a Eurodollar-based floating rate. The effect of the Prior Swap was to neutralize any changes in Eurodollar rates on the Prior Notional Amount. As the Prior Swap was not effective until March 15, 2004 and no cash flows were exchanged prior to that date, the Prior Swap did not meet the requirements to be designated as a cash flow hedge. As such, an unrealized loss of $0.2 million was recognized in our statement of operations for the fiscal year ended June 30, 2004, reflecting the change in fair value of the Prior Swap from inception to the effective date. As of March 15, 2004, the Prior Swap met the requirements to be designated as a cash flow hedge and was deemed a highly effective transaction. Accordingly, we recorded $0.2 million representing the change in fair value of the Prior Swap from March
15, 2004 through September 15, 2005, as other comprehensive income, which was reversed upon the termination of the Prior Swap in September 2005. In addition, upon termination of the Prior Swap, we reversed the unrealized loss of $0.2 million previously recognized in our statement of operations.
In order to reduce our exposure to increases in Eurodollar rates, and consequently to increases in interest payments, we entered into a new interest rate swap transaction (the "2005 Swap") comprised of two instruments ("Swap A" and "Swap B") on September 28, 2005, with an effective date of October, 3, 2005. Swap A, in the amount of $15.0 million (the "A Notional Amount"), matures on October 3, 2008 and Swap B, in the amount of $5.0 million (the "B Notional Amount"), matured on April 3, 2007. Pursuant to Swap A and Swap B, we pay a fixed interest rate of 4.69% and 4.64% per annum, respectively, and receive a Eurodollar-based floating rate. The effect of the 2005 Swap is to neutralize any changes in Eurodollar rates on the A Notional Amount and the B Notional Amount. The 2005 Swap meets the requirements to be designated as a cash flow hedge and is deemed a highly effective transaction. Accordingly, changes in the fair value of Swap A or Swap B are recorded as other comprehensive income (loss).
8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See page.
9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
9A. CONTROLS AND PROCEDURES.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Based on our management's evaluation (with the participation of our principal executive officer and principal financial officer), as of the end of the period covered by this report, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, (the "Exchange Act") are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING. There was no change in our internal control over financial reporting during our fourth fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
MANAGEMENT'S ANNUAL REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING. Under Section 404 of the Sarbanes-Oxley Act of 2002, our management is required to assess the effectiveness of the Company's internal control over financial reporting as of the end of each fiscal year and report, based on that assessment, whether the Company's internal control over financial reporting is effective.
Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company's internal control over financial reporting is designed to provide reasonable assurance as to the reliability of the Company's financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.
Internal control over financial reporting, no matter how well designed, has inherent limitations. Therefore, internal control over financial reporting determined to be effective can provide only reasonable assurance with respect to financial statement preparation and may not prevent or detect all misstatements. Moreover, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
The Company's management has assessed the effectiveness of the Company's internal control over financial reporting as of June 30, 2007. In making this assessment, the Company used the criteria of the Integrated Framework adopted by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). These criteria are in the areas of control environment, risk assessment, control activities, information and communication and monitoring. The Company's assessment included extensive documenting, evaluating and testing the design and operating effectiveness of its internal control over financial reporting.
Based on the Company's processes and assessment, as described above, management has concluded that, as of June 30, 2007, the Company's internal control over financial reporting was effective.
9B. OTHER INFORMATION.
Not applicable.
10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
The information required by Item 10 is incorporated by reference to our definitive proxy statement to be filed with the SEC no later than October 29, 2007 pursuant to Regulation 14A.
11. EXECUTIVE COMPENSATION.
The information required by Item 11 is incorporated by reference to our definitive proxy statement to be filed with the SEC no later than October 29, 2007 pursuant to Regulation 14A.
12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The information required by Item 12 is incorporated by reference to our definitive proxy statement to be filed with the SEC no later than October 29, 2007 pursuant to Regulation 14A.
13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
The information required by Item 13 is incorporated by reference to our definitive proxy statement to be filed with the SEC no later than October 29, 2007 pursuant to Regulation 14A.
14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
The information required by Item 14 is incorporated by reference to our definitive proxy statement to be filed with the SEC no later than October 29, 2007 pursuant to Regulation 14A.
15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) The following documents are filed as part of this report.
(1) Financial statements. See Index to Financial Statements which appears on page herein.
(2) Financial Statement Schedules II - Valuation and Qualifying Accounts.
(3) Exhibits:
Exhibit No. Exhibit ----------- -------
3.1 -- Amended and Restated Articles of Incorporation of the Company. (2)
3.2 -- Articles of Amendment to the Articles of Incorporation of the Company, dated December 18, 1995. (3)
3.3 -- Articles of Amendment to the Articles of Incorporation of the Company, dated December 17, 1996. (3)
3.4 -- Articles of Amendment to the Articles of Incorporation of the Company, dated May 10, 2000. (4)
3.5 -- Articles of Amendment to the Articles of Incorporation of the Company, dated November 1, 2001. (5)
3.6 -- Articles of Amendment to the Articles of Incorporation of the Company, dated March 31, 2003. (9)
3.7 -- Articles of Amendment to the Articles of Incorporation of the Company, dated December 10, 2003. (10)
3.8 -- Bylaws of the Company. (10)
4 -- Rights Agreement, dated as of March 27, 2003, between the Company and Continental Stock Transfer & Trust Company, as Rights Agent. (8)
10.1* -- 1995 Stock Option Plan of the Company. (10)
10.2* -- Directors' Stock Option Plan of the Company. (11)
10.3* -- 2005 Executive Management Stock Option Plan of the Company. (15)
10.4* -- 2005 Non-Employee Directors Stock Option Plan of the Company. (15)
10.5* -- 2005 Employee Stock Option Plan of the Company. (15)
10.6 -- Credit Agreement dated as of May 27, 2005, among the Company, each lender from time to time party thereto and Bank of America, N.A., as Administrative Agent, Swing Line Lender and L/C Issuer. (12)
10.7 -- First Amendment to Credit Agreement dated as of March 24, 2006. (16)
10.8 -- Second Amendment to Credit Agreement dated as of January 29, 2007. (18)
10.9 -- Third Amendment to Credit Agreement dated as of March 23, 2007. (19)
10.10 -- Asset Purchase Agreement dated October 1, 2004, by and between the Company and Pain Enterprises, Inc. (13)
10.11 -- Stock Purchase Agreement, dated as of August 22, 2002, by and between the Company and the purchasers named therein. (7)
10.12 -- Registration Right Agreement, dated as of August 22, 2002, by and between the Company and the selling shareholders named therein. (6)
10.13* -- Amended and Restated Employment Agreement between the Company and Michael DeDomenico, effective as of August 10, 2004. (11)
10.14* -- Amendment No. 1 dated September 19, 2006 to Amended and Restated Employment Agreement by and between the Company and Michael E. DeDomenico. (20)
10.15* -- Amendment No. 2 dated September 13, 2007 to Amended and Restated Employment Agreement by and between the Company and Michael E. DeDomenico. (1)
10.16* -- Employment Agreement between the Company and William Scott Wade, dated as of May 13, 2002. (7)
10.17* -- Amendment dated December 9, 2004 to Employment Agreement by and between the Company and William Scott Wade. (14)
10.18* -- Amendment No. 2 dated January 23, 2006 to Employment Agreement by and between the Company and William Scott Wade. (17)
10.19* -- Amendment No. 3 dated December 7, 2006 to Employment Agreement by and between the Company and William Scott Wade. (21)
10.20* -- Amendment No. 4 dated September 13, 2007 to Employment Agreement by and between the Company and William Scott Wade. (1)
10.21* -- Employment Agreement between the Company and Robert R. Galvin, dated as of October 21, 2002. (9)
10.22* -- Amendment dated December 9, 2004 to Employment Agreement by and between the Company and Robert R. Galvin. (14)
10.23* -- Amendment No. 2 dated January 23, 2006 to Employment Agreement by and between the Company and Robert R. Galvin. (17)
10.24* -- Amendment No. 3 dated September 13, 2007 to Employment Agreement by and between the Company and Robert R. Galvin. (1)
10.25* -- Employment Agreement between the Company and Eric M. Wechsler. (1)
10.26* -- Stock Option Agreement between the Company and Robert L. Frome dated March 21, 2003. (9)
10.27* -- Stock Option Agreement between the Company and Daniel Raynor dated March 21, 2003. (9)
10.28* -- Stock Option Agreement between the Company and Robert L. Frome dated March 21, 2003. (9)
10.29* -- Stock Option Agreement between the Company and Daniel Raynor dated March 21, 2003. (9)
10.30* -- Stock Option Agreement between the Company and Daniel Raynor dated September 11, 2003. (11)
10.31* -- Stock Option Agreement between the Company and Robert L. Frome dated September 11, 2003. (11)
10.32* -- Stock Option Agreement between the Company and J. Robert Vipond dated April 5, 2004. (11)
10.33* -- Stock Option Agreement between the Company and J. Robert Vipond dated December 19, 2005. (22)
10.34* -- Stock Option Agreement between the Company and J. Robert Vipond dated December 19, 2005. (22)
10.35* -- Stock Option Agreement between the Company and Daniel Raynor dated December 19, 2005. (22)
14 -- Code of Ethics. (9)
23.1 -- Consent of Margolin, Winer & Evens LLP to the incorporation by reference to the Company's Registration Statements on Form S-8 (Nos. 333-06705, 333-30042, 333-89096, 333-114898 and 333-137772) and Form S-3 (No. 333-99201) of the independent registered public accounting firm's report included herein. (1)
23.2 -- Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm (1)
31.1 -- Section 302 Certification of Principal Executive Officer. (1)
31.2 -- Section 302 Certification of Principal Financial Officer. (1)
32.1 -- Section 906 Certification of Principal Executive Officer. (1)
32.2 -- Section 906 Certification of Principal Financial Officer. (1)
* Indicates a management contract or compensation plan or arrangement.
--------------------------- (1) Included herein. (2) Incorporated by reference to the Company's Registration Statement on Form SB-2, filed with the Commission on November 7, 1995 (Commission File No. 33-99078), as amended. (3) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 1998. (4) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 2000. (5) Incorporated by reference to the Company's Form 10-Q for the quarter ended December 31, 2001. (6) Incorporated by reference to the Company's Registration Statement on From S-3, filed with the Commission on September 5, 2002 (Commission File No. 333- 99201). (7) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 2002. (8) Incorporated by reference to the Company's Registration Statement on Form 8-A, filed on March 31, 2003. (9) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 2003. (10) Incorporated by reference to the Company's Form 10-Q for the quarter ended December 31, 2003. (11) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 2004. (12) Incorporated by reference to the Company's Form 8-K dated May 27, 2005. (13) Incorporated by reference to the Company's Form 8-K dated October 1, 2004. (14) Incorporated by reference to the Company's Form 8-K dated December 8, 2004. (15) Incorporated by reference to the Company's Form 8-K dated December 7, 2005. (16) Incorporated by reference to the Company's Form 8-K dated March 24, 2006. (17) Incorporated by reference to the Company's Form 8-K dated January 23, 2006. (18) Incorporated by reference to the Company's Form 10-Q for the quarter ended December 31, 2006. (19) Incorporated by reference to the Company's Form 10-Q for the quarter ended March 31, 2007. (20) Incorporated by reference to the Company's Form 8-K dated September 19, 2006. (21) Incorporated by reference to the Company's Form 8-K dated December 7, 2006. (22) Incorporated by reference to the Company's Form 10-K for the year ended June 30, 2006.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
NUCO2 INC.
Dated: September 13, 2007 /s/ Michael E. DeDomenico ------------------------- Michael E. DeDomenico Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date --------- ----- ----
/s/ Michael E. DeDomenico Director, September 13, 2007 --------------------------- Chief Executive Officer Michael E. DeDomenico
/s/ Robert L. Frome Director September 13, 2007 --------------------------- Robert L. Frome
/s/ Steven J. Landwehr Director September 13, 2007 --------------------------- Steven J. Landwehr
/s/ Daniel Raynor Director September 13, 2007 --------------------------- Daniel Raynor
/s/ J. Robert Vipond Director September 13, 2007 --------------------------- J. Robert Vipond
/s/ Christopher White Director September 13, 2007 --------------------------- Christopher White
/s/ Robert R. Galvin Chief Financial Officer September 13, 2007 --------------------------- Robert R. Galvin
PAGE NO. --------
NUCO2 INC.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM...............................................
REPROT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM...............................................
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON INTERNAL CONTROLS..........................
FINANCIAL STATEMENTS:
BALANCE SHEETS AS OF JUNE 30, 2007 AND 2006.....................................................
STATEMENTS OF INCOME FOR THE FISCAL YEARS ENDED JUNE 30, 2007, 2006 AND 2005 ...................................................................................
STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE FISCAL YEARS ENDED JUNE 30, 2007, 2006 AND 2005................................................................................
STATEMENTS OF CASH FLOWS FOR THE FISCAL YEARS ENDED JUNE 30, 2007, 2006 AND 2005 ...................................................................................
NOTES TO FINANCIAL STATEMENTS.........................................................................
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS FOR THE FISCAL YEARS ENDED JUNE 30, 2007, 2006 AND 2005...................................................................................
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders NuCO2 Inc.
We have audited the accompanying balance sheet of NuCO2 Inc. as of June 30, 2007, and the related statements of income, shareholders' equity and cash flows for the year then ended. We have also audited the financial statement schedule listed in the accompanying index. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of NuCO2 Inc. at June 30, 2007, and the results of its operations and its cash flows for the year then ended, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule for the year ended June 30, 2007 when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of NuCO2 Inc.'s internal control over financial reporting as of June 30, 2007, based on criteria established in INTERNAL CONTROL--INTEGRATED FRAMEWORK ISSUED BY THE COMMITTEE OF SPONSORING ORGANIZATIONS OF THE TREADWAY COMMISSION and our report dated September 12, 2007 expressed an unqualified opinion thereon.
ERNST & YOUNG LLP Certified Public Accountants
West Palm Beach, Florida September 12, 2007
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders NuCO2 Inc. Stuart, Florida
We have audited the accompanying balance sheet of NuCO2 Inc. as of June 30, 2006, and the related statements of income, shareholders' equity and cash flows for each of the two years in the period ended June 30, 2006. We have also audited the financial statement schedule listed in the accompanying index for each of the two years in the period ended June 30, 2006. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of NuCO2 Inc. as of June 30, 2006, and the results of its operations and its cash flows for each of the two years in the period ended June 30, 2006, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein for each of the two years in the period ended June 30, 2006.
As discussed in Note 9 to the financial statements, effective July 1, 2005, the Company changed its method of accounting for stock based compensation as a result of the adoption of Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment."
MARGOLIN, WINER & EVENS LLP
Garden City, New York August 16, 2006
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
THE BOARD OF DIRECTORS AND SHAREHOLDERS OF NUCO2 INC.
We have audited NuCO2 Inc.'s internal control over financial reporting as of June 30, 2007, based on criteria established in Internal Control--Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). NuCO2 Inc.'s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on the company's internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, NuCO2 Inc. maintained, in all material respects, effective internal control over financial reporting as of June 30, 2007, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the balance sheet as of June 30, 2007 and the related statements of income, shareholders' equity and cash flows for the year then ended of NuCO2 Inc. and our report dated September 12, 2007, expressed an unqualified opinion thereon.
Ernst & Young LLP Certified Public Accountants
West Palm Beach, Florida September 12, 2007
NUCO2 INC. BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AMOUNTS) ASSETS ------
June 30, ----------------------------------- 2007 2006 ------------ ------------ Current assets: Cash and cash equivalents $ 343 $ 341 Trade accounts receivable; net of allowance for doubtful accounts of $1,004 and $2,538, respectively 11,823 12,955 Inventories 297 302 Prepaid insurance expense and deposits 3,121 5,846 Prepaid expenses and other current assets 1,412 1,465 Deferred tax assets - current portion 8,264 8,598 ------------ ------------ Total current assets 25,260 29,507
Property and equipment, net 122,364 119,603
Other assets: Goodwill, net 25,909 25,794 Deferred financing costs, net 254 333 Customer lists, net 6,761 8,372 Non-competition agreements, net 512 1,181 Deferred lease acquisition costs, net 5,744 5,225 Deferred tax assets 3,813 8,807 Other 221 185 ------------ ------------ 43,214 49,897 ------------ ------------ Total assets $ 190,838 $ 199,007 ============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY ------------------------------------ Current liabilities: Accounts payable $ 6,061 $ 6,883 Accrued expenses 2,043 1,208 Accrued insurance 1,054 3,543 Accrued interest 121 165 Accrued payroll 2,357 652 Other current liabilities 314 377 ------------ ------------ Total current liabilities 11,950 12,828
Long-term debt 34,750 35,450 Customer deposits 4,246 3,805 ------------ ------------ Total liabilities 50,946 52,083 ============ ============
Commitments and contingencies Shareholders' equity: Common stock; par value $.001 per share; 30,000,000 shares authorized; issued 15,921,066 shares at June 30, 2007 and 15,654,042 shares at June 30, 2006 16 16 Additional paid-in capital 174,831 166,617 Less treasury stock at cost; 921,409 shares at June 30, 2007 and 8,500 shares at June 30, 2006 (22,937) (235) Accumulated deficit (12,126) (19,765) Accumulated other comprehensive income 108 291 ------------ ------------ Total shareholders' equity 139,892 146,924 ------------ ------------ Total liabilities and shareholders' equity $ 190,838 $ 199,007 ============ ============
See accompanying notes to financial statements.
NUCO2 INC. STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Fiscal Year Ended June 30, -------------------------------------------- 2007 2006 2005 --------- --------- --------- Revenues: Product sales $ 85,865 $ 75,959 $ 60,518 Equipment rentals 44,263 40,237 36,822 --------- --------- --------- Total revenues 130,128 116,196 97,340 --------- --------- ---------
Costs and expenses: Cost of products sold, excluding depreciation and amortization 55,835 49,397 41,278 Cost of equipment rentals, excluding depreciation and amortization 6,714 3,086 2,391 Selling, general and administrative expenses 28,521 24,146 17,020 Depreciation and amortization 20,059 18,333 16,484 Loss on asset disposal 2,260 1,733 1,332 --------- --------- --------- 113,389 96,695 78,505 --------- --------- ---------
Operating income 16,739 19,501 18,835
Loss on early extinguishment of debt -- -- 5,817 Unrealized (gain) on financial instrument -- (177) -- Interest expense 2,207 1,989 6,985 --------- --------- ---------
Income before income taxes 14,532 17,689 6,033 Provision for (benefit from) income taxes 6,893 7,341 (19,558) --------- --------- --------- Net income $ 7,639 $ 10,348 $ 25,591 ========= ========= =========
Weighted average number of common and common equivalent shares outstanding Basic 15,593 15,427 12,808 ========= ========= ========= Diluted 15,886 15,997 14,295 ========= ========= =========
Net income per basic share $ 0.49 $ 0.67 $ 1.98 ========= ========= ========= Net income per diluted share $ 0.48 $ 0.65 $ 1.79 ========= ========= =========
See accompanying notes to financial statements.
NUCO2 INC. STATEMENTS OF SHAREHOLDERS' EQUITY (IN THOUSANDS, EXCEPT SHARE AMOUNTS)
Common Stock Issued Additional Treasury Stock ---------------------- Paid-In ------------------- Shares Amount Capital Shares Amount ---------- ---------- ---------- ------- ---------- Balance, June 30, 2004 10,840,831 $ 11 $ 96,185 -- -- Comprehensive income: Net income -- -- -- -- -- Other comprehensive (loss): Interest rate swap transaction -- -- -- -- -- Total comprehensive income Conversion of 5,000 shares of Redeemable Preferred Stock 754,982 1 7,006 -- -- Conversion of 2,500 shares of Redeemable Preferred Stock 247,420 -- 3,196 -- -- Issuance of 953,285 shares of common stock - exercise of 953,285 1 742 -- -- warrants Issuance of 462,674 shares of common stock - exercise of 462,674 -- 3,500 -- -- options Tax effect of disqualifying dispositions - exercise of options -- -- 3,080 -- -- Issuance of 2,041,713 shares of common stock 2,041,713 2 45,513 -- -- Redeemable preferred stock dividend -- -- (182) -- -- ---------- ---------- ---------- ------- ---------- Balance, June 30, 2005 15,300,905 15 159,040 -- -- Comprehensive income: -- Net income -- -- -- -- -- Other comprehensive income: Interest rate swap transaction (net of reclassification -- -- -- -- -- adjustment) Total comprehensive income -- -- -- Share-based compensation -- -- 3,298 -- -- Excess tax benefits from share-based arrangements -- -- 1,756 -- -- Issuance of 286,679 shares of common stock - exercise of options 286,679 1 2,483 -- -- Purchase of treasury stock -- -- 235 8,500 (235) Issuance of 66,458 shares of common stock - exercise of warrants 66,458 -- -- -- -- Additional costs related to prior year stock issuance -- -- (195) -- -- ---------- ---------- ---------- ------- ---------- Balance, June 30, 2006 15,654,042 16 166,617 8,500 (235) Comprehensive income: Net income -- -- -- -- -- Other comprehensive income: Interest rate swap transaction -- -- -- -- -- Total comprehensive income -- -- Share-based compensation -- -- 4,194 -- -- Excess tax benefits from share-based arrangements -- -- 1,285 -- -- Issuance of 267,024 shares of common stock - exercise of options 267,024 -- 2,735 -- -- Purchase of treasury stock -- -- -- 912,909 (22,702) ---------- ---------- ---------- ------- ---------- Balance, June 30, 2007 15,921,066 $ .16 $ 174,831 921,409 $ (22,937) ========== ========== ========== ======= ==========
See accompanying notes to financial statements.
NUCO2 INC. STATEMENTS OF SHAREHOLDERS' EQUITY (IN THOUSANDS, EXCEPT SHARE AMOUNTS)
Accumulated Other Total Accumulated Comprehensive Shareholders' Deficit Income (Loss) Equity ----------- ------------- ------------- Balance, June 30, 2004 $ (55,704) $ 264 $ 40,756 Comprehensive income: Net income 25,591 -- 25,591 Other comprehensive (loss): Interest rate swap transaction -- (22) (22) ---------
Total comprehensive income 25,569 Conversion of 5,000 shares of Redeemable Preferred Stock -- -- 7,007 Conversion of 2,500 shares of Redeemable Preferred Stock -- -- 3,196 Issuance of 953,285 shares of common stock - exercise of warrants -- -- 743 Issuance of 462,674 shares of common stock - exercise of options -- -- 3,500 Tax effect of disqualifying dispositions -- exercise of options -- -- 3,080 Issuance of 2,041,713 shares of common stock -- -- 45,515 Redeemable preferred stock dividend -- -- (182) --------- --------- --------- Balance, June 30, 2005 (30,113) 242 129,184 Comprehensive income: Net income 10,348 -- 10,348 Other comprehensive income: Interest rate swap transaction (net of reclass adjustment) -- 49 49 --------- Total comprehensive income 10,397 Share-based compensation -- -- 3,298 Excess tax benefits from share-based arrangements -- -- 1,756 Issuance of 286,679 shares of common stock - exercise of options -- -- 2,484 Purchase of treasury stock -- -- -- Issuance of 66,458 shares of common stock - exercise of warrants -- -- -- Additional costs related to prior year stock issuance -- -- (195) --------- --------- --------- Balance, June 30, 2006 (19,765) 291 146,924 Comprehensive income: Net income 7,639 -- 7,639 Other comprehensive income: Interest rate swap transaction -- (183) (183) --------- Total comprehensive income 7,456 Share-based compensation -- -- 4,194 Excess tax benefits from share-based arrangements -- -- 1,285 Issuance of 267,024 shares of common stock - exercise of options -- -- 2,735 Purchase of treasury stock -- -- (22,702) --------- --------- --------- Balance, June 30, 2007 $ (12,126) $ 108 $ 139,892 ========= ========= =========
See accompanying notes to financial statements.
NUCO2 INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS)
Year Ended June 30, ------------------- 2007 2006 2005 -------- -------- -------- Cash flows from operating activities: Net income $ 7,639 $ 10,348 $ 25,591 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization of property and equipment 16,652 15,344 13,751 Bad debt expense 1,816 908 595 Amortization of other assets 3,407 2,989 2,733 Amortization of original issue discount -- -- 318 Paid-in-kind interest -- -- 1,014 Loss on asset disposal 2,260 1,733 1,332 Loss on early extinguishment of debt -- -- 5,817 Change in net deferred tax asset 6,613 7,070 (19,638) Share-based compensation 4,194 3,298 -- Excess tax benefits from share-based arrangements (1,285) (1,756) -- Unrealized (gain) on financial instrument -- (177) -- Changes in operating assets and liabilities: Decrease (increase) in: Trade accounts receivable (684) (5,296) (3,022) Inventories 5 (44) (33) Prepaid insurance expense and deposits 2,725 (1,566) 912 Prepaid expenses and other current assets (132) (385) (191) Increase (decrease) in: Accounts payable (822) 1,705 599 Accrued expenses 871 24 201 Accrued insurance (2,489) (53) 166 Accrued payroll 1,704 (812) (566) Accrued interest (43) 53 (328) Other current liabilities (65) 12 23 Customer deposits 443 183 377 -------- -------- --------
Net cash provided by operating activities 42,809 33,578 29,651 -------- -------- --------
Cash flows from investing activities: Proceeds from disposal of property and equipment 54 -- -- Purchase of property and equipment (21,117) (29,776) (19,371) Increase in deferred lease acquisition costs (2,319) (2,352) (2,244) Acquisition of businesses -- (9,543) (17,172) (Increase) decrease in other assets (35) (11) 6 -------- -------- -------- Net cash used in investing activities $(23,417) $(41,682) $(38,781) -------- -------- --------
See accompanying notes to financial statements.
NUCO2 INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS) (CONTINUED)
Year Ended June 30, ------------------- 2007 2006 2005 ---- ---- ---- Cash flows from financing activities: Net proceeds from issuance of long-term debt and subordinated debt and warrants $ 15,750 $ 20,850 $ 59,350 Repayment of long-term debt and subordinated debt (16,450) (17,400) (98,281) Purchase of treasury stock (22,531) -- -- Proceeds from issuance of common stock -- -- 46,632 Issuance costs - common stock -- (195) (1,117) Increase in deferred financing costs (8) (18) (1,234) Exercise of options and warrants 2,564 2,484 4,243 Excess tax benefits for share-based arrangements 1,285 1,756 -- -------- -------- --------
Net cash (used in) provided by financing activities (19,390) 7,477 9,593 -------- -------- --------
Increase (decrease) in cash and cash equivalents 2 (627) 463 Cash and cash equivalents, beginning of year 341 968 505 -------- -------- --------
Cash and cash equivalents, end of year $ 343 $ 341 $ 968 ======== ======== ========
Supplemental disclosure of cash flow information: Cash paid during the year for:
Interest $ 2,251 $ 1,936 $ 5,981 ======== ======== ========
Income taxes $ 374 $ 473 $ 125 ======== ======== ========
Supplemental disclosure of non-cash investing and financing activities:
During the fiscal year ended June 30, 2006, a certain officer exercised stock options in a non-cash transaction. The officer surrendered 8,500 shares of previously acquired common stock in exchange for 34,881 newly issued shares. The Company recorded $235, the market value of the surrendered shares, as treasury stock. During the fiscal year ended June 30, 2007, this officer surrendered 6,800 shares of previously acquired common stock in exchange for 25,366 newly issued shares. The Company recorded $171, the market value of the surrendered shares, as treasury stock.
In 2005 the Company increased the carrying amount of the redeemable preferred stock by $182 for dividends that were not paid and accordingly reduced additional paid-in capital by a like amount.
See accompanying notes to financial statements.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 1 - DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) DESCRIPTION OF BUSINESS
NuCO2 Inc. (the "Company") is a supplier of bulk CO2 dispensing systems to customers in the food, beverage, lodging and recreational industries in the United States.
(b) CASH AND CASH EQUIVALENTS
The Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. The Company maintains cash balances with a financial institution in an amount that exceeds the federal government deposit insurance.
(c) INVENTORIES
Inventories, consisting primarily of carbon dioxide gas, are stated at the lower of cost or market. Cost is determined by the first-in, first-out method.
(d) PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. The Company does not depreciate bulk systems held for installation until the systems are ready for their intended use and leased to customers. Upon installation, the systems, component parts and direct costs associated with the installation are transferred to the leased equipment account. These direct costs are associated with successful placements of such systems with customers under noncancelable contracts and which would not be incurred by the Company but for a successful placement and are amortized over the life of the original customer contract. Upon early service termination, the unamortized portion of direct costs associated with the installation are recognized as a period expense in the statements of income. Such policy is analogous to SFAS No. 91, "ACCOUNTING FOR NONREFUNDABLE FEES AND COSTS ASSOCIATED WITH ORIGINATING OR ACQUIRING LOANS AND INITIAL DIRECT COSTS OF LEASES." Depreciation and amortization are computed using the straight-line method over the estimated useful lives of the respective assets or the lease terms for leasehold improvements, whichever is shorter.
The depreciable lives of property and equipment are as follows:
Estimated Life --------------
Leased equipment 5-20 years Equipment and cylinders 3-20 years Vehicles 3-5 years Computer equipment and software 3-7 years Office furniture and fixtures 5-7 years Leasehold improvements lease term
(e) GOODWILL AND OTHER INTANGIBLE ASSETS
Goodwill, net of accumulated amortization of $5,006, represents the cost in excess of the fair value of the tangible and identifiable intangible net assets of businesses acquired and, prior to July 1, 2001, was amortized on a straight-line method over 20 years. Effective July 1, 2001, the Company adopted Statement of Financial Accounting Standards No. 142, "GOODWILL AND OTHER INTANGIBLE ASSETS," pursuant to which, goodwill and indefinite life intangible assets are no longer amortized but are subject to annual impairment tests. Other intangible assets with finite lives continue to be amortized on a straight-line method over the periods of expected benefit. The Company's other intangible assets consist of customer lists and non-competition agreements, principally acquired in 1995 through 1998 and 2005 through 2006 in connection with certain asset acquisitions. Customer lists are being amortized on a straight-line method over five to ten years, and non-competition agreements, which generally preclude the other party from competing with the Company in a designated geographical area for a stated period of time, are being amortized on a straight-line method over their contractual lives which range from three to ten years.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(f) IMPAIRMENT OF LONG-LIVED ASSETS
Long-lived assets, other than goodwill, consist of property and equipment, customer lists, and non-competition agreements. Long-lived assets being retained for use by the Company are tested for recoverability whenever events or changes in circumstances indicate that their carrying values may not be recoverable by comparing the carrying value of the assets with the estimated future undiscounted cash flows that are directly associated with and that are expected to arise as a direct result of the use and eventual disposition of the asset. Impairment losses are recognized only if the carrying amount of a long-lived asset is not recoverable and exceeds the asset's fair value. The impairment loss would be calculated as the difference between asset carrying values and the fair value of the asset with fair value generally estimated based on the present value of the estimated future net cash flows.
Long-lived assets to be disposed of by abandonment continue to be classified as held and used until they cease to be used. If the Company commits to a plan to abandon a long-lived asset before the end of its previously estimated useful life, depreciation estimates are revised to reflect the use of the asset over its shortened useful life. Long-lived assets to be disposed of by sale that meet certain criteria are classified as held for sale and are reported at the lower of their carrying amounts or fair values less cost to sell.
(g) DEFERRED FINANCING COST, NET
Financing costs are amortized on a straight-line method over the term of the related indebtedness. Accumulated amortization of financing costs was $188 and $101 at June 30, 2007 and 2006, respectively.
(h) DEFERRED LEASE ACQUISITION COSTS, NET
Deferred lease acquisition costs, net, consist of commissions associated with the acquisition of new leases and lease renewals are being amortized on a straight-line basis over the life of the related leases, generally six years which is consistent with our standard contract. Accumulated amortization of deferred lease acquisition costs was $8,904 and $7,855 at June 30, 2007 and 2006, respectively. Upon early service termination, the unamortized portion of deferred lease acquisition costs are expensed as a component of operating expenses.
(i) REVENUE RECOGNITION
The Company earns its revenues from the leasing of CO2 systems and related gas sales. The Company, as lessor, recognizes revenue from leasing of CO2 systems over the life of the related leases. The majority of CO2 system agreements generally include payments for leasing of equipment and a continuous supply of CO2 until usage reaches a pre-determined maximum annual level, beyond which the customer pays for CO2 on a per pound basis. Other CO2 and gas sales are recorded upon delivery to the customer.
The Company recognizes revenue in accordance with EITF Issue No. 00-21, "REVENUE ARRANGEMENTS WITH MULTIPLE DELIVERABLES." EITF 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which the vendor will perform multiple revenue generating activities. The Company's bulk CO2 budget plan agreements provide for a fixed monthly payment to cover the use of a bulk CO2 system and a predetermined maximum quantity of CO2. As of June 30, 2007, approximately 69,000 of the Company's customer locations utilized this plan. Accordingly, revenue attributable to the lease of equipment, including equipment leased under the budget plan, is recorded on a straight-line basis over the term of the lease and revenue attributable to the supply of CO2 and other gases, including CO2 provided under the budget plan, is recorded upon delivery to the customer.
Under the budget plan, customers are billed an equal monthly amount which includes CO2 up to an annual allowance. The contract arrangement for budget plan customers is analogous to a "take-or-pay" contract as defined in SFAS No. 47, "DISCLOSURE OF LONG-TERM OBLIGATIONS" as the budget plan purchaser must make specified minimum payments even if it does not take delivery of the contracted products or services. Each budget plan customer has a maximum CO2 allowance that is measured and reset on the contract anniversary date. On the contract anniversary date, the Company records revenue in excess of actual deliveries of CO2 for budget plan customers that have not used their entire annual CO2 allowance equal to the difference between their annual CO2 allowance and actual CO2 delivered.
Because of the large number of customers under the budget plan and the fact that the anniversary dates for determining maximum quantities are spread throughout the year, the Company's methodology for applying EITF 00-21 involves the use of estimates and assumptions to separate the aggregate revenue stream derived from equipment rentals to budget plan customers, and also to
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
approximate the recognition of revenue from CO2 sales to budget plan customers upon delivery. The Company believes that the adoption of EITF 00-21 has the most impact on the recognition of revenue on a quarterly basis as CO2 usage fluctuates during a fiscal year based on factors such as weather, and traditional summer and holiday periods. However, over a twelve-month period, the Company believes that the effect is less significant as seasonal variations are largely eliminated and CO2 allowances under budget plan agreements are measured and reset annually.
(j) INCOME TAXES AND OTHER
Income taxes are accounted for under SFAS 109, "ACCOUNTING FOR INCOME TAXES ("SFAS 109")." SFAS 109 requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Under Statement No. 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
The Company has a policy of collecting property tax amounts due to governmental authorities from its customers. These payments are remitted to the appropriate taxing authority and included in our statements of income on a net basis.
(k) NET INCOME PER COMMON SHARE
Net income per common share is presented in accordance with SFAS No. 128, "EARNINGS PER SHARE." Basic earnings per common share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per common share incorporate the incremental shares issuable upon the assumed exercise of stock options and warrants to the extent they are not anti-dilutive.
(l) USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles 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. Estimates used when accounting for items such as allowances for doubtful accounts, depreciation and amortization periods, valuation of long-lived assets and income taxes are regarded by management as being particularly significant. These estimates and assumptions are evaluated on an ongoing basis and may require adjustment in the near term. Actual results could differ from those estimates.
(m) EMPLOYEE BENEFIT PLAN
On June 1, 1996, the Company adopted a deferred compensation plan under Section 401(k) of the Internal Revenue Code, which covers all eligible employees. Under the provisions of the plan, eligible employees may defer a percentage of their compensation subject to the Internal Revenue Service limits. Contributions to the plan are made by employees and matched at the Company's discretion, up to a maximum of 1% of employee's wages. For the years ended June 30, 2007, 2006 and 2005, the Company contributed $123, $115 and $94, respectively.
(n) STOCK-BASED COMPENSATION
Prior to July 1, 2005, the Company followed the guidance of SFAS No. 123, "ACCOUNTING FOR STOCK-BASED COMPENSATION" ("SFAS 123"), which allowed an entity to continue to measure stock-based compensation expense using the intrinsic value accounting method prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and to make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied.
In December 2004, the Financial Accounting Standards Board ("FASB") revised SFAS 123 through the issuance of SFAS 123R, "SHARE-BASED PAYMENT" ("SFAS 123R"). The Company adopted SFAS 123R effective with the fiscal quarter beginning July 1, 2005 on a "modified prospective basis," and accordingly, pro forma disclosure of net income and earnings per share, is no longer an alternative to recognition in the statement of operations after that date. Accordingly, no stock-based compensation expense is reflected in net income for the year ended June 30, 2005. Pro forma disclosure for periods prior to the effective date is provided in Note 9(g).
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The modified prospective application applies to new awards and to awards modified, repurchased, or cancelled on or after the effective date of July 1, 2005. Additionally, compensation cost for the portion of awards for which the requisite service has not been rendered that are outstanding as of the effective date shall be recognized as the requisite service is rendered on or after the required effective date. The compensation cost for that portion of awards shall be based on the grant-date fair value of those awards as calculated for either recognition or pro forma disclosures under SFAS 123. Changes to the grant-date fair value of equity awards granted before the required effective date of this Statement are precluded. In addition, the compensation cost for those earlier awards shall be attributed to periods beginning on or after the required effective date of SFAS 123R using the attribution method that was used under SFAS 123 except that the method of recognizing forfeitures only as they occur shall not be continued.
(o) VENDOR REBATES
Pursuant to EITF 02-16, "ACCOUNTING BY A CUSTOMER (INCLUDING A RESELLER) FOR CERTAIN CONSIDERATION RECEIVED FROM A VENDOR," the Company recognizes rebates received from its suppliers of bulk CO2 tanks as a reduction of capitalizable cost. The Company received rebates of $907, $1,104 and $886 during the fiscal years ended June 30, 2007, 2006, and 2005, respectively.
(p) TRADE RECEIVABLES AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company invoices its customers on a monthly basis, with payment due within 30 days of the invoice date. The Company does not provide discounts for early payment.
In conjunction with its trade receivables, the Company has established a reserve for accounts that might not be collectible. Such reserve is evaluated and adjusted on a monthly basis by examining the Company's historical losses, aging of its trade receivables, the creditworthiness of significant customers based on ongoing evaluations, and current economic trends that might impact the level of credit losses in the future. The composition of receivables consists of on-time payers, "slow" payers, and at risk receivables, such as receivables from customers who no longer do business with the Company, are bankrupt, or are out of business.
As part of the ongoing evaluation of its trade receivables and collections from its customers during the year ended June 30, 2007, the Company determined that tank billings to delinquent customers should be recorded on a cash recognition basis. As a result, the accounts receivable related to these tank billings have been written off and are no longer included in gross accounts receivable or the related allowance for doubtful accounts. Such change is immaterial to the Company's revenues and statement of income.
(q) RECENT ACCOUNTING PRONOUNCEMENTS
On September 13, 2006 the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 108 ("SAB 108"), "CONSIDERING THE EFFECTS OF PRIOR YEAR MISSTATEMENTS WHEN QUALIFYING MISSTATEMENTS IN CURRENT YEAR FINANCIAL STATEMENTS." The interpretations in SAB 108 are being issued to address diversity in practice in quantifying financial statement misstatements and the potential under current practice for the build up of improper amounts on the balance sheet. SAB 108 is effective for fiscal years beginning after November 15, 2006. The Company is currently evaluating the impact of SAB 108 on our results of operations; however the Company does not expect the impact to be material to our financial position, results of operations or cash flows.
In September 2006, the Financial Accounting Standards Board ("FASB") issued SFAS No. 157, "FAIR VALUE MEASUREMENTS" ("SFAS 157"). SFAS 157 provides enhanced guidance for using fair value to measure assets and liabilities. SFAS 157 also responds to investors' requests for expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements and is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements. The Company is currently evaluating the impact of this statement on our results of operations and financial position.
In June 2006, the FASB issued Interpretation No. 48, "ACCOUNTING FOR UNCERTAINTY IN INCOME TAXES - AN INTERPRETATION OF SFAS NO. 109" ("FIN 48"), effective for fiscal years beginning after December 15, 2006. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with SFAS No. 109, "Accounting for Income Taxes" ("SFAS 109"). FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The adoption of FIN 48 is not expected to have a material impact on our financial position, results of operations, or cash flows.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
In May 2005, the FASB issued SFAS No. 154, "ACCOUNTING FOR CHANGES AND ERROR CORRECTIONS" ("SFAS 154"). SFAS applies to accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. SFAS 154 replaces APB Opinion No. 20, "Accounting Changes," and SFAS No. 3, "REPORTING ACCOUNTING CHANGES IN INTERIM FINANCIAL STATEMENTS", and changes the requirements for the accounting for and reporting of a change in accounting principle. SFAS 154 applies to all voluntary changes in accounting principle, as well as to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. SFAS 154 provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. The adoption of SFAS 154 did not have a material impact on the Company's financial position, results of operations, or cash flows.
As previously stated, December 2004, the FASB revised SFAS 123 through the issuance of SFAS 123R, "SHARE-BASED PAYMENT" ("SFAS 123R"). The Company adopted SFAS 123R effective with the fiscal quarter beginning July 1, 2005 on a "modified prospective basis," and accordingly, pro forma disclosure of net income and earnings per share, is no longer an alternative to recognition in the statement of operations after that date. Accordingly, no stock-based compensation expense is reflected in net income for the years ended June 30, 2005 and 2004. Pro forma disclosure for periods prior to the effective date is provided in Note 9(f).
In November 2005, the FASB issued SFAS 123R-3, "TRANSITION ELECTION RELATED TO ACCOUNTING FOR THE TAX EFFECTS OF SHARE-BASED PAYMENT AWARDS," to provide an alternate transition method for the implementation of SFAS 123(R). Because some entities do not have, and may not be able to re-create, information about the net excess tax benefits that would have qualified as such had those entities adopted SFAS 123 for recognition purposes, this FSP provides an elective alternative transition method. This method comprises (a) a computational component that establishes a beginning balance of the additional paid-in capital pool ("APIC pool") related to employee compensation and (b) a simplified method to determine the subsequent impact on the APIC pool of employee awards that are fully vested and outstanding upon the adoption of SFAS 123R. The Company adopted the simplified method set forth in this FSP to determine its APIC pool.
NOTE 2 - PROPERTY AND EQUIPMENT, NET
Property and equipment, net consists of the following:
As of June 30, ----------------------------------- 2007 2006 ----------- ----------- Leased equipment $ 197,131 $ 183,204 Equipment and cylinders 26,294 24,590 Vehicles 1,097 1,298 Computer equipment and software 5,715 5,588 Office furniture and fixtures 2,178 2,155 Leasehold improvements 2,210 2,083 ----------- ---------- 234,625 218,918 Less accumulated depreciation and amortization 112,261 99,315 ----------- ----------
$ 122,364 $ 119,603 =========== ==========
Total accumulated depreciation related to leased equipment was $91, 875 and $80,885 at June 30, 2007 and 2006, respectively. Included in leased equipment are capitalized component parts and direct costs associated with installation of equipment leased to others of $59,558 and $54,652 at June 30, 2007 and 2006, respectively. Accumulated depreciation and amortization of these costs was $37,527 and $33,248 at June 30, 2007 and 2006, respectively. Upon early service termination, the Company writes off the remaining net book value of direct costs associated with the installation of equipment.
Depreciation and amortization of property and equipment was $16,652, $15,344, and $13,751 for the years ended June 30, 2007, 2006, and 2005, respectively.
NOTE 3 - ACQUISITIONS
On October 1, 2004, the Company purchased the bulk CO2 beverage carbonation business of privately owned Pain Enterprises, Inc., of Bloomington, Indiana ("Pain"), for total cash consideration of $15.7 million. The Company acquired approximately 9,000 net customer locations, including 6,300 tanks in service, vehicles, parts, and supplies. The acquisition of Pain's bulk CO2 beverage carbonation business, which operated in 12 Midwestern and Southeastern states: Florida, Georgia, Illinois, Indiana, Iowa, Kentucky, Michigan, Missouri, Minnesota, Ohio, Tennessee and Wisconsin, provides further penetration and increased operating efficiencies in markets in which the Company operates.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The purchase price was allocated between tangible assets, intangible assets, and goodwill as follows: $6.7 million for tangible assets, $6.2 million for intangible assets and $2.8 million for goodwill. Tangible assets are being depreciated over a weighted average life of 10 years, while intangible assets, excluding goodwill, are being amortized over a weighted average life of eight years.
Goodwill was recorded as the purchase price of the acquisition exceeded the fair market value of the tangible and intangible assets acquired and is a direct result of synergies arising from the transaction. Both the purchase price allocation and the useful lives of purchased tangible and intangible assets were derived with the assistance of an independent valuation consultant and other independent sources as appropriate.
On June 30, 2005, the Company acquired approximately 1,200 customer locations and 1,000 bulk CO2 tanks, most of which were in service, from Coca-Cola Enterprises Inc. ("CCE") for approximately $1.4 million. The purchase price was allocated between tangible and intangible assets as follows: $1.0 million for tangible assets, and $0.4 million for intangible assets. Tangible assets are being depreciated over a weighted average life of 12 years, while intangible assets are being amortized over a weighted average life of 8.5 years.
On September 30, 2005, the Company purchased the beverage carbonation business of privately owned Bay Area Equipment Co., Inc. ("BAE"), for total consideration of $5.2 million, of which $4.7 million was paid at closing and the remaining $0.5 million payable over the subsequent two years. The Company acquired approximately 2,500 customer locations, including 1,000 tanks in service, vehicles, parts, and supplies. The acquisition of BAE's beverage carbonation business, which operated in northern California, provides further penetration and increased operating efficiencies in that market.
The purchase price was allocated between tangible assets, intangible assets, and goodwill as follows: $1.5 million for tangible assets, $1.9 million for intangible assets and $1.8 million for goodwill. Tangible assets are being depreciated over a weighted average life of 8.3 years, while intangible assets, excluding goodwill, are being amortized over a weighted average life of 4.9 years.
On June 30, 2006, the Company acquired approximately 3,000 additional customer locations and 2,400 bulk CO2 tanks, most of which were in service, from CCE for approximately $4.9 million ("CCE II"). The purchase price was allocated between tangible and intangible assets as follows: $1.8 million for tangible assets, and $1.8 million for intangible assets and $1.3 million for goodwill. Tangible assets are being depreciated over a weighted average life of 11.0 years, while intangible assets, excluding goodwill, are being amortized over a weighted average life of 10.0 years.
As of December 31, 2006, the Company evaluated the assets received from CCE, including customer accounts and bulk CO2 tanks, as compared to the preliminary listing provided by CCE and adjusted the purchase price allocation accordingly. The final allocation resulted in a decrease in customer lists of $0.1 million, offset by an increase in goodwill of $0.1 million.
Goodwill was recorded for all of the aforementioned transactions, except for the CCE acquisition in June 2005, as the purchase price of each acquisition exceeded the fair market value of the tangible and intangible assets acquired and is a direct result of synergies arising from the transaction.
The results of the foregoing acquisitions are included in the Company's results of operations subsequent to their respective acquisition dates. However, the following unaudited pro forma results of operations (in thousands, except per share amounts) have been prepared assuming the acquisitions described above had occurred as of the beginning of the periods presented in the Company's financial statements, including adjustments to the financial statements for additional depreciation of tangible assets, amortization of intangible assets, and increased interest on borrowings to finance the acquisitions. The unaudited pro forma operating results are not necessarily indicative of operating results that would have occurred had these acquisitions been consummated as of the beginning of the periods presented, or of future operating results. In certain cases, the operating results for periods prior to the acquisitions are based on (a) unaudited financial data provided by the seller or (b) an estimate of revenues, cost of revenues and/or selling, general and administrative expenses based on information provided by the seller or otherwise available to the Company. Inasmuch as the Company acquired customer accounts, tanks at customer sites and other assets related to the beverage carbonation businesses of Pain, CCE, CCE II and BAE, certain operational and support costs provided for by the sellers are not applicable to the Company's cost of servicing these customers and were therefore eliminated.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Unaudited Pro Forma: Fiscal Year Ended June 30, -------------------------- 2006 2005 ---------- ---------- Total revenues $ 119,941 $ 106,527 Operating income (a) 21,033 21,719 Income before provision for income taxes 18,888 8,074 Provision for (benefit from) income taxes 7,391 (19,473) ---------- ---------- Net income 11,497 27,547 Preferred stock dividends -- (182) ---------- ---------- Net income available to common shareholders $ 11,497 $ 27,365 ========== ========== Basic income per share $ 0.75 $ 2.14 ========== ========== Diluted income per share $ 0.72 $ 1.93 ========== ==========
(a) SFAS 123R was adopted effective July 1, 2005; accordingly, there is no share-based compensation expense in fiscal 2005. (See Note 9(f))
NOTE 4 - GOODWILL AND OTHER INTANGIBLE ASSETS
The Company adopted SFAS 142 as of July 1, 2001, resulting in no goodwill amortization expense for the years ended June 30, 2007, 2006 and 2005. Goodwill and indefinite life intangible assets are no longer amortized but are subject to annual impairment tests. The Company determined that there was no impairment of goodwill during 2007, 2006 and 2005.
Information regarding the Company's goodwill and other intangible assets is as follows:
Accumulated Net Book As of June 30, 2007: Cost Amortization Value ------------ ------------ ------------ Goodwill $ 30,915 $ 5,006 $ 25,909 Non-competition agreements 3,840 3,328 512 Customer lists 9,258 2,497 6,761 ------------ ------------ ------------ $ 44,013 $ 10,831 $ 33,182 ============ ============ ============
As of June 30, 2006 Goodwill $ 30,800 $ 5,006 $ 25,794 Non-competition agreements 3,840 2,659 1,181 Customer lists 9,823 1,451 8,372 ------------ ------------ ------------ 44,463 $ 9,116 $ 35,347 ============ ============ ============
Changes in goodwill are summarized as follows:
Year Ended June 30, Beginning Additions Disposals Ending ------------------- --------- --------- --------- ------- 2005 $24,228 2,872 -- $27,100 2006 $27,100 $ 3,700 -- $30,800 2007 $30,800 $ 115 -- $30,915
Amortization expense for other intangible assets was $1,790, $1,524, and $986 for the years ended June 30, 2007, 2006 and 2005, respectively.
Estimated amortization expense for each of the next five years is $1,496, $1,191, $828, $744 and $744 for fiscal years ending June 30, 2008, 2009, 2010, 2011 and 2012, respectively.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 5 - LEASES
The Company leases equipment to its customers generally pursuant to five-year or six-year non-cancelable operating leases which expire on varying dates through October 2013. At June 30, 2007, future minimum payments due from customers include, where applicable, amounts for a continuous supply of CO2 under the budget plan, which provides bundled pricing for tank rental and CO2. The revenue stream has been segregated in conformity with EITF 00-21 between the estimated rental of equipment and the sale of CO2. The following table presents the separate minimum revenue streams attributable to the lease of the equipment and the sale of the CO2:
Year Ended June 30, Equipment CO2 ------------------- --------- --------- 2008 $ 33,941 $ 24,353 2009 28,973 20,739 2010 21,402 15,546 2011 15,096 11,111 2012 9,299 6,926 Thereafter 3,273 ` 2,276 -------- --------- $111,984 $ 80,951 ======== =========
NOTE 6 - LONG-TERM DEBT
Long-term debt consists of the following:
As of June 30, -------------- 2007 2006 -------- --------
Notes payable to banks under credit facility. Drawings at June 30, 2007 and 2006 are at a weighted average interest rate of 6.8% and 6.7%, respectively. $ 34,750 $ 35,450
Less current maturities of long-term debt -- -- -------- -------- Long-term debt, excluding current maturities $ 34,750 $ 35,450 ======== ========
(a) PREVIOUS FACILITIES
On August 25, 2003, the Company terminated its former credit facility and entered into a $50.0 million senior credit facility with a syndicate of banks (the "Senior Credit Facility"). The Senior Credit Facility initially consisted of a $30.0 million A term loan facility (the "A Term Loan"), a $10.0 million B term loan facility (the "B Term Loan"), and a $10.0 million revolving loan facility (the "Revolving Loan Facility"). On October 1, 2004, in conjunction with the Pain Enterprises, Inc. transaction, the Senior Credit Facility was amended to, among other things, increase the B Term Loan to $23.0 million and to modify certain financial covenants. The A Term Loan and Revolving Loan Facility were due to mature on August 25, 2007, while the B Term Loan was due to mature on August 25, 2008. The Company was entitled to select either Eurodollar Loans (as defined) or Base Rate Loans (as defined), plus applicable margin, for principal borrowings under the Senior Credit Facility. Applicable margin was determined by a pricing grid based on the Company's Consolidated Total Leverage Ratio (as defined). The Senior Credit Facility was collateralized by all the Company's assets. Additionally, the Company was precluded from declaring or paying any cash dividends.
The Company, on a quarterly basis, was also required to assess and meet certain affirmative and negative covenants, including but not limited to financial covenants. These financial covenants were based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined), which represents earnings before interest, taxes, depreciation and amortization, as further modified by certain defined adjustments. The failure to meet these covenants, absent a waiver or amendment, would have placed the Company in default and cause the debt outstanding under the Senior Credit Facility to immediately become due and payable. The Company was in compliance with all covenants under the Senior Credit Facility as of September 30, 2003 and all subsequent quarters up to and including March 31, 2005.
(b) CURRENT FACILITY
On May 27, 2005, the Company terminated the Senior Credit Facility credit facility and entered into a $60.0 million revolving credit facility with Bank of America, N.A. (the "2005 Credit Facility"), maturing on May 27, 2010. The Company is entitled to select either Base Rate Loans (as defined) or Eurodollar Rate Loans (as defined), plus applicable margin, for principal borrowings under the 2005 Credit Facility. Applicable margin is determined by a pricing grid, as amended in March 2006, based on the Company's Consolidated Leverage Ratio (as defined) as follows:
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
-------------------------------------------------------------------------- Pricing Consolidated Leverage Eurodollar Rate Base Rate Level Ratio Loans Loans -------------------------------------------------------------------------- I Greater than or equal to 2.000% 0.500% 2.50x -------------------------------------------------------------------------- II Less than 2.50x but greater 1.750% 0.250% than or equal to 2.00x -------------------------------------------------------------------------- III Less than 2.00x but greater 1.500% 0.000% than or equal to 1.50x -------------------------------------------------------------------------- IV Less than 1.50x but greater 1.250% 0.000% than or equal to 0.50x -------------------------------------------------------------------------- V Less than 0.50x 1.000% 0.000% --------------------------------------------------------------------------
Interest is payable periodically on borrowings under the 2005 Credit Facility. The 2005 Credit Facility is uncollateralized. The Company is required, on a quarterly basis, to assess and meet certain affirmative and negative covenants, including financial covenants. These financial covenants are based on a measure that is not consistent with accounting principles generally accepted in the United States of America. Such measure is EBITDA (as defined), which represents earnings before interest, taxes, depreciation and amortization, as further modified by certain defined adjustments. The failure to meet these covenants, absent a waiver or amendment, would place the Company in default and cause the debt outstanding under the 2005 Credit Facility to immediately become due and payable. In connection with the Company's share repurchase program announced during the quarter ended March 31, 2007, the 2005 Credit Facility was amended to modify certain covenants (see Note 9b). The Company was in compliance with all covenants under the 2005 Credit Facility as of the first assessment date on June 30, 2005 and through June 30, 2007.
As of June 30, 2007, a total of $34.8 million was outstanding under the 2005 Credit Facility, primarily consisting of Libor (Eurodollar Rate) loans, with a weighted average interest rate of 6.8% per annum. All borrowings as of June 30, 2007 and 2006 are under a long-term credit facility and there are no short-term obligations that are due and payable under the agreement. The debt agreement provides for letters of credit, however the Company had no outstanding letters of credit as of June 30, 2007 and June 30, 2006.
In connection with the termination of the Senior Credit Facility, during the fourth quarter of fiscal 2005, the Company recognized a loss of $1.7 million from the write-off of unamortized financing costs associated with the Senior Credit Facility and recorded $0.4 million in financing costs associated with the 2005 Credit Facility. Such costs are being amortized over the life of the 2005 Credit Facility.
(c) HEDGING ACTIVITIES
Effective July 1, 2000, the Company adopted SFAS No. 133, "ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES," as amended, which, among other things, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities. All derivatives, whether designated in hedging relationships or not, are required to be recorded on the balance sheet at fair value. For a derivative designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded as other comprehensive income and are recognized in the statement of income when the hedged item affects earnings. Ineffective portions of changes in the fair value of cash flow hedges (if any) are recognized in earnings.
The Company uses derivative instruments to manage exposure to interest rate risks. The Company's objectives for holding derivatives are to minimize the risks using the most effective methods to eliminate or reduce the impact of this exposure.
In order to reduce the Company's exposure to increases in Eurodollar rates, and consequently to increases in interest payments, the Company entered into an interest rate swap transaction (the "Swap") on October 2, 2003, in the amount of $20.0 million (the "Notional Amount") with an effective date of March 15, 2004 and a maturity date of September 15, 2005. Pursuant to the Swap, the Company paid a fixed interest rate of 2.12% per annum and received a Eurodollar-based floating rate. The effect of the Swap was to neutralize any changes in Eurodollar rates on the Notional Amount. As the Swap was not effective until March 15, 2004 and no cash flows were exchanged prior to that date, the Swap did not meet the requirements to be designated as a cash flow hedge. As such, an unrealized loss of $0.2 million was recognized in the Company's statement of operations for the fiscal year ended June 30, 2004, reflecting the change in fair value of the Swap from inception to the effective
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
date. As of March 15, 2004, the Swap met the requirements to be designated as a cash flow hedge and was deemed a highly effective transaction. Accordingly, the Company recorded $0.2 million representing the change in fair value of the Swap from March 15, 2004 through September 15, 2005, as other comprehensive income, and the previously recorded loss of $0.2 million was reversed upon the termination of the Swap in September 2005 and recognized in the Company's statement of operations during the fiscal year ended June 30, 2006.
In order to reduce the Company's exposure to increases in Eurodollar rates, and consequently to increases in interest payments, the Company entered into a new interest rate swap transaction (the "2005 Swap"), comprised of two instruments ("Swap A" and "Swap B"), on September 28, 2005, with an effective date of October 3, 2005. Swap A, in the amount of $15.0 million (the "A Notional Amount"), matures on October 3, 2008 and Swap B, in the amount of $5.0 million (the "B Notional Amount"), matured on April 3, 2007. Pursuant to Swap A and Swap B, the Company pays a fixed interest rate of 4.69% and 4.64% per annum, respectively, and receives a Eurodollar-based floating rate. The effect of the 2005 Swap is to neutralize any changes in Eurodollar rates on the A Notional Amount and the B Notional Amount. The 2005 Swap meets the requirements to be designated as a cash flow hedge and is deemed a highly effective transaction. Accordingly, changes in the fair value of Swap A and Swap B are recorded as other comprehensive income. The Company recorded $0.3 million as other comprehensive income during the fiscal year ended June 30, 2006 and $0.2 million as other comprehensive loss during the year ended June 30, 2007, representing the change in fair value of the 2005 Swap during those periods.
NOTE 7 - SUBORDINATED DEBT
On August 25, 2003, concurrently with the closing of the Senior Credit Facility, the Company issued $30.0 million of its 16.3% Senior Subordinated Notes Due February 27, 2009 (the "New Notes") with interest only payable quarterly in arrears on February 28, May 31, August 31 and November 30 of each year, commencing November 30, 2003. Interest on the New Notes was 12% per annum payable in cash and 4.3% per annum payable "in kind" by adding the amount of such interest to the principal amount of the New Notes then outstanding. The weighted average effective interest rate of the New Notes, including the amortization of deferred financing costs and original issue discount, was 18.0% per annum. Ten year warrants to purchase an aggregate of 425,000 shares of the Company's common stock at an exercise price of $8.79 per share were issued in connection with the New Notes. Utilizing the Black-Scholes Model, the warrants issued in connection with the New Notes were valued at $3.70 per warrant, or an aggregate value of $1.6 million. In addition, the maturity date of 665,403 existing warrants, 335,101 due to expire in 2004 and 330,302 due to expire in 2005, was extended to February 2009, resulting in additional value of $1.31 and $0.97 per warrant, respectively, or an aggregate value of $0.8 million. At the date of issuance, in accordance with APB 14, "ACCOUNTING FOR CONVERTIBLE DEBT AND DEBT ISSUED WITH PURCHASE WARRANTS," the Company allocated proceeds of $27.7 million to the debt and $2.3 million to the warrants, with the resulting discount on the debt referred to as the Original Issue Discount. The Original Issue Discount was being amortized as interest expense over the life of the debt.
As with the Senior Credit Facility, the Company was required to meet certain affirmative and negative covenants under the New Notes, including but not limited to financial covenants. The Company was in compliance with all covenants under the New Notes as of September 30, 2003 and all subsequent quarters up to and including March 31, 2005.
On April 4, 2005, the Company used $34.3 million of the net proceeds from the sale of 2,041,713 shares of common stock in an underwritten public offering in March 2005 to redeem the New Notes at 106% of the original principal amount plus accrued interest. In addition, during the quarter ended June 30, 2005, the Company recognized a loss on the early termination of debt associated with the New Notes of approximately $4.1 million, which includes the prepayment penalty, unamortized fees and the amortized portion of the original issue discount.
During fiscal 2005, warrants to purchase 893,956 shares of the Company's common stock issued in connection with the 1997 Notes, 1999 Notes and New Notes were exercised for proceeds of $743. In connection with certain cashless exercises, warrants to purchase 389,528 shares of the Company's common stock were canceled. As of June 30, 2005 and thereafter, no warrants issued in connection with the New Notes were outstanding.
NOTE 8 - REDEEMABLE PREFERRED STOCK
In May 2000, the Company sold 5,000 shares of its Series A 8% Cumulative Convertible Preferred Stock, no par value (the "Series A Preferred Stock"), for $1,000 per share (the initial "Liquidation Preference"). Cumulative dividends were payable quarterly in arrears at the rate of 8% per annum on the Liquidation Preference, and, to the extent not paid in cash, were added to the Liquidation Preference. Shares of the Series A Preferred Stock were convertible into shares of common stock at any time at a conversion price of $9.28 per share. In August 2004, the holder of the Series A Preferred Stock converted its shares into 754,982 shares of common stock, and $7,007, representing the Liquidation Preference, was reclassified to common stock and additional paid-in capital on the Company's balance sheet.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
In November 2001, the Company sold 2,500 shares of its Series B 8% Cumulative Convertible Preferred Stock, no par value (the "Series B Preferred Stock"), for $1,000 per share (the initial "Liquidation Preference"). Cumulative dividends were payable quarterly in arrears at the rate of 8% per annum on the Liquidation Preference, and, to the extent not paid in cash, were added to the Liquidation Preference. Shares of the Series B Preferred Stock were convertible into shares of common stock at any time at a conversion price of $12.92 per share. In December 2004, the holder of the Series B Preferred Stock converted its shares into 247,420 shares of common stock, and $3,197, representing the Liquidation Preference, was reclassified to common stock and additional paid-in capital on the Company's balance sheet.
During the fiscal year ended June 30, 2005, the carrying amount (and Liquidation Preferences) of the Series A Preferred Stock and Series B Preferred Stock was increased by $182, for dividends accrued.
NOTE 9 - SHAREHOLDERS' EQUITY
(a) OFFERING
On March 30, 2005, the Company sold 2,041,713 shares of its common stock in an underwritten public offering. Based on the public offering price of $24.17 per share and after deducting underwriting discounts and commissions, net proceeds were approximately $46.6 million. On March 31, 2005, the Company reduced the outstanding principal amount of the Senior Credit Facility by $11.2 million and on April 4, 2005, the Company used approximately $34.3 million of the net proceeds from the offering to redeem all of the New Notes (see Note 7). In addition, the Company incurred $1.3 million in legal, accounting, printing and other expenses which were recorded as a reduction of additional paid-in capital.
(b) SHARE REPURCHASE PLAN
On January 31, 2007, the Company publicly announced that its Board of Directors authorized a share repurchase program under which the Company may repurchase up to $50 million of its common shares through December 31, 2007. As of June 30, 2007, the Company purchased a total of 906,109 common shares at an average price of $24.87 per share for an aggregate purchase price of $22.5 million. As of June 30, 2007, the remaining authorized amount for share repurchases was $27.5 million.
(c) WARRANTS
In May 1997, the Company entered into a supply agreement with The BOC Group, Inc. ("BOC") by which BOC committed to provide the Company with 100% of its CO2 requirements at competitive prices. In connection with this agreement, the Company granted BOC a warrant to purchase 1,000,000 shares of its common stock. The warrant was exercisable at $17 per share from May 1, 1999 to May 1, 2002 and thereafter at $20 per share until April 30, 2007. In May 2000, the Company solicited BOC to purchase 1,111,111 shares of its common stock at $9.00 per share. In connection with this purchase of common stock, the outstanding warrant was reduced to 400,000 shares, with an exercise price of $17 per share. On the date of issuance of the common stock, the closing price of the common stock on the Nasdaq National Market was $8.00 per share. During March 2005, warrants to purchase 59,329 shares of common stock were exercised pursuant to the cashless exercise provisions contained in the warrants. In connection with this cashless exercise, warrants to purchase 140,671 shares of the Company's common stock were canceled. In addition, during June 2006, warrants to purchase 66,458 shares of common stock were exercised pursuant to the cashless exercise provisions contained in the warrants. In connection with this cashless exercise, warrants to purchase 133,542 shares of the Company's common stock were canceled. No warrants granted to BOC remain outstanding as of June 30, 2006 and thereafter.
(d) NON-EMPLOYEE DIRECTOR PLANS
From time to time, the Company grants to each non-employee directors options to purchase shares of common stock. The exercise price for all grants is equal to the average closing price of the common stock on the Nasdaq National Market for the 20 trading days prior to the grant date. All options vest in two to five equal annual installments commencing upon issuance and have a ten-year term. During the fiscal year ended June 30, 2006, an additional 18,000 options were granted to two non-employee directors at an exercise price of $23.14 per share.
The weighted-average fair value per share of options granted during the fiscal year ended June 30, 2006 was $5.27.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following table summarizes transactions pursuant to non-plan director stock options:
Weighted Average Exercise Price Per Options Outstanding Option Options Exercisable ------------------- ------------------- ------------------- Outstanding at June 30, 2004 136,000 $ 7.76 78,667 Exercised (51,333) 6.88 ------------------- Outstanding at June 30, 2005 84,667 8.29 66,001 Granted 18,000 23.14 ------------------- Outstanding at June 30, 2006 102,667 10.90 94,667 Exercised (2,000) 4.85 ------------------- Outstanding at June 30, 2007 100,667 $ 11.02 100,667 ===================
The following table sets forth certain information as of June 30, 2007:
Options Outstanding Options Exercisable ------------------------------------------------------ ------------------------------------------------------ Weighted Weighted Weighted Weighted Average Average Aggregate Average Average Aggregate Range of Exercise Options Remaining Exercise Intrinsic Options Remaining Exercise Intrinsic Prices Outstanding Life Price Value (000) Exercisable Life Price Value (000) ----------------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- $ 4.85 - $10.00 76,667 5.23 $ 7.76 $ 1,373 76,667 5.23 $ 7.76 $ 1,373 $ 10.01 - $15.00 -- -- -- -- -- -- -- -- $ 15.01 - $20.00 6,000 6.75 16.25 57 6,000 6.75 16.25 57 $ 20.01 - $23.14 18,000 7.45 23.14 46 18,000 7.45 23.14 46 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- 100,667 5.72 $ 11.02 $ 1,475 100,667 5.72 $ 11.02 $ 1,475 =========== =========== =========== =========== =========== =========== =========== ===========
(e) EMPLOYEE STOCK OPTION PLANS
In 1995, the Board of Directors adopted the 1995 Stock Option Plan (the "1995 Plan"), which terminated in November 2005. Under the 1995 Plan, the Company reserved 2,400,000 shares of common stock for employees of the Company. Under the terms of the 1995 Plan, options granted were either incentive stock options or non-qualified stock options. The exercise price of incentive stock options was required to be at least equal to 100% of the fair market value of the Company's common stock at the date of the grant, and the exercise price of non-qualified stock options was not to be less than 75% of the fair market value of the Company's common stock at the date of the grant. The maximum term for all options was ten years. Options granted prior to termination of the 1995 Plan generally vest in equal annual installments from three to five years, though a limited number of grants were partially vested at the grant date. As of June 30, 2007, options to purchase 841,981 shares of the Company' common stock were outstanding under the 1995 Plan. In addition, in September 2005, the Board of Directors adopted the 2005 Employee Stock Option Plan (the "2005 Employee Plan"). Under the 2005 Employee Plan, the Company has reserved 250,000 shares of common stock for employees of the Company.
The weighted-average fair value per share of options granted under the 1995 Plan during the fiscal years ended June 30, 2006 and 2005 was $5.42 and $7.80, respectively. No options were granted under the 1995 Plan during the year ended June 30, 2007.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following table summarizes transactions pursuant to the 1995 Plan:
Weighted Average Exercise Options Outstanding Price Per Option Options Exercisable ------------------- ------------------- ------------------- Outstanding at June 30, 2004 1,504,523 $ 10.55 865,653 Granted 290,500 25.42 Expired or canceled (12,713) 13.50 Exercised (362,408) 7.66 ------------------- Outstanding at June 30, 2005 1,419,902 14.31 921,002 Granted 8,225 25.52 Expired or canceled (18,174) 22.04 Exercised (286,679) 9.48 ------------------- Outstanding at June 30, 2006 1,123,274 15.49 877,661 Expired or canceled (29,019) 22.20 Exercised (252,274) 9.59 ------------------- Outstanding at June 30, 2007 841,981 $ 17.03 774,181 ===================
The following table sets forth certain information as of June 30, 2007:
Options Outstanding Options Exercisable ------------------------------------------------------ ------------------------------------------------------ Weighted Weighted Weighted Weighted Average Average Aggregate Average Average Aggregate Range of Exercise Options Remaining Exercise Intrinsic Options Remaining Exercise Intrinsic Prices Outstanding Life Price Value (000) Exercisable Life Price Value (000) ----------------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- $ 4.49 - $10.00 145,407 4.66 $ 7.83 $ 2,594 142,220 4.62 $ 7.81 $ 2,540 $ 10.01 - $15.00 287,108 4.98 12.77 3,704 287,108 4.98 12.77 3,704 $ 15.01 - $20.00 147,734 7.00 19.29 943 144,734 7.00 19.28 925 $ 20.01 - $25.00 20,000 7.94 24.01 33 20,000 7.94 24.01 33 $ 25.01 - $25.67 241,732 8.01 25.67 -- 180,120 8.01 25.67 -- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- 841,981 6.22 $ 17.03 $ 7,273 774,181 6.07 $ 16.37 $ 7,202 =========== =========== =========== =========== =========== =========== =========== ===========
In October 2005, the Board of Directors adopted the 2005 Executive Management Stock Option Plan (the "2005 Executive Plan"). Under the 2005 Executive Plan, the Company has reserved 1,500,000 shares of common stock for executives and key managers of the Company, which may be either incentive stock options or non-qualified stock options. The exercise price of stock options is required to be at least equal to 100% of the fair market value of the Company's common stock at the date of the grant. The maximum term for all options is ten years. In addition, executive officers granted options under the initial grant in 2005 will not be eligible to receive additional options until fiscal 2008. Options granted are expected to vest over a period of one to three years based on the achievement of annual performance targets established by the Board of Directors. However, all options granted will vest over a period of not less than two fiscal years up to a maximum of five fiscal years, and any unvested options vest at the end of the five years.
During the fiscal year ended June 30, 2006, the Company granted 1,069,000 options under the 2005 Executive Plan with a weighted exercise price of $24.49 per share and a weighted-average grant date fair value per share of $9.30. During the fiscal year ended June 30, 2007, the Company granted an additional 55,000 options under the 2005 Executive Plan, with a weighted average exercise price of $24.47 per share and a grant date fair value of $8.06 per share.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following summarizes the transactions pursuant to the 2005 Executive Plan:
Weighted Average Exercise Options Outstanding Price Per Option Options Exercisable ------------------- ------------------- ------------------- Outstanding at June 30, 2005 -- $ -- -- Granted 1,069,000 24.49 Forfeited (36,000) 24.00 ------------------- Outstanding at June 30, 2006 1,033,000 24.51 258,249 Granted 55,000 24.47 Expired or canceled (12,750) 24.00 Forfeited (186,750) 25.53 ------------------- Outstanding at June 30, 2007 888,500 $ 24.30 525,139 ===================
The following table sets forth certain information as of June 30, 2007:
Options Outstanding Options Exercisable ------------------------------------------------------ ------------------------------------------------------ Weighted Weighted Weighted Weighted Average Average Aggregate Average Average Aggregate Range of Exercise Options Remaining Exercise Intrinsic Options Remaining Exercise Intrinsic Prices Outstanding Life Price Value (000) Exercisable Life Price Value (000) ----------------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- $24.00 - $30.18 888,500 8.41 $ 24.30 $ 1,217 525,139 8.38 $ 24.36 $ 688 =========== =========== =========== =========== =========== =========== =========== ===========
(f) NON-EMPLOYEE DIRECTORS' STOCK OPTION PLANS
In 1995, the Board of Directors adopted the Directors' Stock Option Plan (the "1995 Directors' Plan"), which was terminated in May 2005. Under the 1995 Directors' Plan, each non-employee director received options for 6,000 shares of common stock on the date of his or her first election to the Board of Directors. In addition, on the third anniversary of each director's first election to the Board of Directors, and on each three year anniversary thereafter, each non-employee director received an additional option to purchase 6,000 shares of common stock. The exercise price per share for all options granted under the 1995 Directors' Plan was equal to the fair market value of the common stock as of the date of grant. All options vest in three equal annual installments beginning on the first anniversary of the date of grant. In May 2005, the Board of Directors adopted the 2005 Non-Employee Directors' Stock Option Plan (the "2005 Directors' Plan") in which each director receives options for 20,000 shares of common stock on the date of his or her first election to the Board of Directors. In addition, each non-employee director, on each anniversary date of his or her appointment, will receive an additional option to purchase 5,000 shares of common stock under the 2005 Directors' Plan. The exercise price of all options granted under the 2005 Directors' Plan is required to be equal to the fair market value of the common stock on the date of grant. The Company has reserved 200,000 shares of common stock under the 2005 Directors' Plan.
The maximum term for all options under both plans (the "Directors' Plans") is ten years. The weighted-average fair value per share of options granted under the 1995 Directors' Plans during the fiscal years ended June 30, 2007, 2006 and 2005 was $7.61, $7.96 and $5.94, respectively.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following table summarizes transactions pursuant to the Directors' Plans:
Weighted Average Exercise Options Outstanding Price Per Option Options Exercisable ------------------- ------------------- ------------------- Outstanding at June 30, 2004 84,000 $ 10.35 60,000 Granted 6,000 22.70 Expired or canceled (9,981) 7.82 Exercised (47,019) 8.82 ------------------- Outstanding at June 30, 2005 33,000 15.53 19,000 Granted 60,000 25.77 ------------------- Outstanding at June 30, 2006 93,000 22.14 40,000 Granted 25,000 24.97 ------------------- Outstanding at June 30, 2007 118,000 $ 22.74 66,000 ===================
The following table sets forth certain information as of June 30, 2007:
Options Outstanding Options Exercisable ------------------------------------------------------ ------------------------------------------------------ Weighted Weighted Weighted Weighted Average Average Aggregate Average Average Aggregate Range of Exercise Options Remaining Exercise Intrinsic Options Remaining Exercise Intrinsic Prices Outstanding Life Price Value (000) Exercisable Life Price Value (000) ----------------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- $ 10.01 - $15.00 15,000 2.60 $ 12.50 $ 198 15,000 2.60 $ 12.50 $ 198 $ 15.01 - $20.00 12,000 6.70 15.74 119 12,000 6.70 15.74 119 $ 20.01 - $25.00 36,000 8.28 23.49 78 19,000 7.80 23.05 50 $ 25.01 - $30.87 55,000 8.69 26.56 -- 20,000 8.36 27.09 -- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- 118,000 7.59 $ 22.74 $ 395 66,000 6.59 $ 20.57 $ 366 =========== =========== =========== =========== =========== =========== =========== ===========
(g) SHARE-BASED COMPENSATION
Prior to July 1, 2005, the Company followed the guidance of SFAS No. 123, "ACCOUNTING FOR STOCK-BASED COMPENSATION" ("SFAS 123"), which allowed an entity to continue to measure stock option compensation expense using the accounting method prescribed by APB Opinion No. 25, "ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES" ("APB 25") and to make pro forma disclosures of net income and earnings per share as if the fair value based method of accounting had been applied.
In December 2004, the FASB revised SFAS 123 through the issuance of SFAS 123-R. The Company adopted SFAS 123-R effective with the fiscal quarter beginning July 1, 2005 on a "modified prospective basis," and accordingly, pro forma disclosure of net income and earnings per share, is no longer an alternative to recognition in the statement of operations.
The following table summarizes key assumptions regarding the granting of stock options. As permitted by SFAS 123 and SFAS 123-R, the fair value of each employee stock option is estimated on the date of grant using the Black-Scholes option pricing model with the significant assumptions noted in the following table. Expected volatilities are based on historical volatility of the Company's common stock using average daily closing prices as reported by the Nasdaq Global Select Market, and other factors. The Company uses both historical data and prospective trends to estimate option exercises and employee terminations within the valuation model; separate groups of employees that have disimilar historical exercise behavior are considered separately for valuation purposes. The expected term of options granted represents the period of time that options granted are expected to be outstanding; the information given below results from certain groups of employees exhibiting different behavior. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury's yield curve in effect at the time of grant.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
For the Year Ended June 30, ----------------------------------------- 2007 2006 2005 --------- --------- --------- Weighted average of grants awarded:
Volatility 32.3% 32.0% 31.8% Risk free interest rate 4.5% 4.4% 3.7% Expected dividend yield 0% 0% 0% Expected term (in years) 4.2 years 3.0 years 4.0 years
The Company recognized $4.2 million and $3.3 million ($3.0 and $2.4 million net of income taxes) in stock option compensation during the fiscal years ended June 30, 2007 and 2006, respectively. In December 2006, the Company changed the method to calculate stock option volatility based on closing stock price in accordance with SFAS No. 123R, "SHARE BASED PAYMENTS." In addition, the Company revised the estimate of fair value for certain awards granted in fiscal 2006 under the Company's 2005 stock option plans to reflect the date the 2005 plans were approved by the Company's shareholders. The additional expense from these actions, $0.5 million recognized in the Company's results of operations for the year ended June 30, 2007 is not material to the prior year's results of operations, nor is it material to the current year's results of operations.
The following table illustrates the effect on net income and earnings per share as if the Company had applied the fair value recognition provisions of SFAS 123 to share-based compensation prior to the adoption of SFAS 123-R effective July 1, 2005. However, no share-based compensation was recognized in the financial statements during that period pursuant to APB 25.
For the Year Ended June 30, ----------------------------------------- 2007 2006 2005 --------- --------- --------- Net income, as reported $ 7,639 $ 10,348 $ 25,591 Less: Stock-based compensation - fair value measurement prior to adoption of SFAS 123-R -- -- (1,691) --------- --------- --------- Net income, pro forma 7,639 10,348 23,900 Preferred stock dividends -- -- (182) --------- --------- --------- Net income available to common shareholders - pro forma $ 7,639 $ 10,348 $ 23,718 ========= ========= =========
Basic income per share - reported $ 0.49 $ 0.67 $ 1.98 ========= ========= ========= Basic income per share - pro forma $ 0.49 $ 0.67 $ 1.85 ========= ========= =========
Diluted income per share - reported $ 0.48 $ 0.65 $ 1.79 ========= ========= ========= Diluted income per share - pro forma $ 0.48 $ 0.65 $ 1.67 ========= ========= =========
A summary of the Company's nonvested options granted under the aforementioned plans as of June 30, 2007 and changes during the 12 months then ended, is presented as follows:
Weighted Average Shares Grant-Date Fair Value ------ --------------------- Nonvested as of June 30, 2006 1,081,363 $ 8.52 Granted 80,000 7.94 Vested during the year (464,283) 8.02 Forfeited (213,919) 8.59 ---------- ---------- Nonvested as of June 30, 2007 483,161 $ 8.87 ========== ==========
The aggregate intrinsic value of options exercised during the years ended June 30, 2007, 2006 and 2004 was $3.6 million, $4.5 million and $7.2 million, respectively. As of June 30, 2007, there was $4.2 million of total unrecognized compensation cost related to nonvested share-based compensation arrangements granted under the aforementioned plans, which will be recognized over a weighted average life of 1.4 years.
Shares issued upon exercise of vested stock options are issued from our authorized common stock pool.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 10 - EARNINGS PER SHARE
The Company calculates earnings per share in accordance with the requirements of SFAS No. 128, "EARNINGS PER SHARE" ("SFAS 128"). The following table presents the Company's net income available to common shareholders and income per share, basic and diluted:
For the Year Ended June 30, ----------------------------------------- 2007 2006 2005 --------- --------- --------- Net income $ 7,639 $ 10,348 $ 25,591
Redeemable preferred stock dividends -- -- (182) --------- --------- --------- Net income- available to common shareholders $ 7,639 $ 10,348 $ 25,409 ========= ========= =========
Weighted average outstanding shares of common stock:
Basic 15,593 15,427 12,808 Diluted 15,886 15,997 14,295
Earnings per basic share of common stock $ 0.49 $ 0.67 $ 1.98 ========= ========= ========= Earnings per diluted share of common stock $ 0.48 $ 0.65 $ 1.79 ========= ========= =========
In August 2004, 5,000 shares of the Company's redeemable preferred stock were converted into 754,982 shares of common stock. The remaining 2,500 shares of redeemable preferred stock were converted into 247,420 shares of common stock in December 2004 (see Note 8). In accordance with SFAS 128, diluted shares of common stock in fiscal 2005 includes 209,812 common stock equivalents as if the Redeemable Preferred Stock, prior to exercise (Note 8), had been converted to shares of common stock as such conversion would have been dilutive. Accordingly, the calculation of diluted income per share for the year ended June 30, 2005 excludes redeemable preferred stock dividends.
The weighted average shares outstanding used to calculate basic and diluted earnings per share were calculated as follows:
2007 2006 2005 ------ ------ ------ Weighted average shares outstanding - basic 15,593 15,427 12,808
Outstanding options and warrants to purchase shares of common stock - remaining shares after assuming repurchase with proceeds from exercise 293 570 1,487 ------ ------ ------
Weighted average shares outstanding - diluted 15,886 15,997 14,295 ====== ====== ======
During the year ended June 30, 2007, 2006 and 2005, the Company excluded the equivalent shares listed in the table below as these options and warrants to purchase common stock were anti-dilutive.
The following table lists options and warrants outstanding as of the periods shown which were not included in the computation of diluted EPS because the options and warrants exercise price was greater than the average market price of the common shares:
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
As of June 30, ----------------------------- Range of Exercise Prices 2007 2006 2005 ------------------------ ------- ------- ------- $ 10.01 - $15.00 -- -- -- $ 15.01 - $20.00 -- -- -- $ 20.01 - $25.00 -- -- 295,000 $ 25.01 - $30.87 342,482 132,000 -- ------- ------- ------- 342,482 132,000 295,000 ======= ======= =======
NOTE 11 - INCOME TAXES
The Company accounts for income taxes under SFAS No. 109, "ACCOUNTING FOR INCOME TAXES" ("SFAS 109"). Deferred income taxes reflect the net tax effects of net operating loss carryforwards and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The tax effects of temporary differences that give rise to significant portions of deferred tax assets and deferred tax liabilities are as follows:
As of June 30, --------------------- 2007 2006 -------- -------- Deferred tax assets: Current Allowance for doubtful accounts $ 783 $ 998 Other -- 133 Net operating loss carryforwards 7,481 7,467 -------- -------- 8,264 8,598 -------- -------- Non-current Intangible assets 1,685 1,298 Other 2,351 1,003 Net operating loss carryforwards 27,667 32,549 -------- -------- 31,703 34,850 -------- -------- Total deferred tax assets 39,967 43,448 -------- -------- Deferred tax liabilities: Non-current Goodwill (4,565) (3,778) Fixed assets (23,325) (22,265) -------- -------- Total deferred tax liabilities (27,890) (26,043) -------- -------- Net deferred tax assets $ 12,077 $ 17,405 ======== ========
The Company's deferred tax assets include the benefit of net operating loss carryforwards incurred by the Company through the fiscal year ended June 30, 2005. While the Company attained profitability during the year ended June 30, 2004, based on the consideration of all of the available evidence including the recent history of losses, management concluded as of June 30, 2004 that it was more likely than not that all of the net deferred tax assets would not be realized. Accordingly, the Company recorded a valuation allowance equal to the net deferred tax assets at that time.
However, as of June 30, 2005, after consideration of all available positive and negative evidence, it was concluded that the deferred tax asset relating to the Company's net operating loss carryforwards will more likely than not be realized in the future. Thus, the entire valuation allowance was reversed and reported as a component of the fiscal 2005 income tax provision. In considering whether or not a valuation allowance was appropriate at June 30, 2007 and 2006, the Company considered several aspects, including, but not limited to the following items:
o Cumulative pretax book income during the three years ended June 30, 2007 and 2006.
o Both positive and negative evidence as to the Company's ability to utilize its federal net operating loss carryforwards prior to expiration, such as the projected generation of taxable income, the Company's position in the market place, existence of long-term customer contracts, and growth opportunities
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
o Future reversals of taxable temporary differences
o Tax planning strategies
As of June 30, 2007, the Company evaluated and, in the future, will continue to evaluate whether or not its net deferred tax assets will be fully realized prior to expiration. In order to utilize the entire deferred tax asset, the Company will need to generate taxable income of approximately $102 million. Should it become more likely than not that all or a portion of the net deferred tax assets will not be realized, a valuation allowance will be recorded.
As of June 30, 2007, the Company had net operating loss carryforwards for federal income tax purposes of approximately $91 million and for state purposes in varying amounts. The federal net operating loss carryforwards expire through June 2025 as follows:
Year of Expiration ------------------ 2008-2012 $ -- 2013-2017 4,069 2018-2022 69,775 Thereafter 16,998 ------- $90,842 =======
If an "ownership change" for federal income tax purposes were to occur in the future, the Company's ability to use its pre-ownership federal and state net operating loss carryforwards (and certain built-in losses, if any) would be subject to an annual usage limitation, which under certain circumstances may prevent the Company from being able to utilize a portion of such loss carryforwards in future tax periods and may reduce its after-tax cash flow.
The significant components for income taxes attributable to continuing operations for the years ended June 30, 2007, 2006, and 2005 were as follows:
2007 2006 2005 -------- -------- -------- Current Federal $ 141 $ 155 $ -- State 139 116 80 -------- -------- -------- Total - Current $ 280 $ 271 $ 80 ======== ======== ======== Deferred Federal $ 5,547 $ 5,991 $(16,397) State 1,066 1,079 (3,241) -------- -------- -------- Total - Deferred $ 6,613 $ 7,070 $(19,638) -------- -------- -------- Total $ 6,893 $ 7,341 $(19,558) ======== ======== ========
The income tax provision differs from that which would result from applying the U.S. statutory income tax rate of 35% as follows:
Tax at U.S. statutory rate $ 5,086 $ 6,191 2,112 State taxes, net of federal benefit 635 761 301 Non-deductible items 377 477 445 Expiring State net operating loss carry forwards 619 -- -- Other 176 (88) -- Change in valuation allowance -- -- (22,416) -------- -------- -------- $ 6,893 $ 7,341 $(19,558) ======== ======== ========
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The change in the net deferred tax valuation allowance of $22,416 during the year ended June 30, 2005 is net of $268 tax impact of the disqualifying dispositions of incentive stock options reflected as additional paid-in capital. In addition, during the year ended June 30, 2005, the tax impact of the disqualifying dispositions of incentive stock options and exercise of non-qualified stock options reflected as additional paid-in capital was $2,812 recorded as additional paid-in capital. During the year ended June 30, 2006 and 2007, the Company recorded $1,756 and $1,285 as additional paid-in capital representing the excess of the tax benefit associated with the disqualifying disposition of incentive stock options and exercise of non-qualified stock options over the tax deduction from compensation expense recognized for those options.
NOTE 12 - LEASE COMMITMENTS
The Company leases office equipment, trucks and warehouse/depot and office facilities under operating leases that expire at various dates through June 2012. Primarily all of the facility leases contain renewal options and escalations for real estate taxes, common charges, etc. Future minimum lease payments under non-cancelable operating leases (that have initial noncancelable lease terms in excess of one year) are as follows:
Year Ending June 30, -------------------- 2008 $ 5,916 2009 4,893 2010 3,963 2011 2,324 2012 974 Thereafter 493 ------- $18,563 =======
Total rental costs under non-cancelable operating leases were approximately $6,701, $5,936 and $5,650 in 2007, 2006 and 2005, respectively.
As of June 30, 2007, the Company has 357 vehicles classified as operating leases with a transportation company, under individual lease agreements with terms ranging generally from five to six years.
NOTE 13 - CONCENTRATION OF CREDIT AND BUSINESS RISKS
The Company's business activity is with customers located within the United States. For each of the years ended June 30, 2007, 2006 and 2005, virtually all the Company's sales were to customers in the food and beverage industry.
There were no customers that accounted for greater than 5% of total sales for each of the three years ended June 30, 2007, nor were there any customers that accounted for greater than 5% of total accounts receivable at June 30, 2007 or 2006.
The Company purchases new bulk CO2 systems from the two major manufacturers of such systems. The inability of either or both of these manufacturers to deliver new systems to the Company could cause a delay in the Company's ability to fulfill the demand for its services and a possible loss of sales, which could adversely affect operating results.
NOTE 14 - COMMITMENTS AND CONTINGENCIES
In May 1997, the Company entered into an exclusive carbon dioxide supply agreement with The BOC Group, Inc. ("BOC"). The agreement ensures readily available high quality CO2 as well as relatively stable liquid carbon dioxide prices. Pursuant to the agreement, the Company purchases virtually all of its liquid CO2 requirements from BOC. The agreement contains annual adjustments over the prior contract year for an increase or decrease in the Producer Price Index for Chemical and Allied Products ("PPI") or the average percentage increase in the selling price of bulk merchant carbon dioxide purchased by BOC's large, multi-location beverage customers in the United States, whichever is less.
The Company is a defendant in legal actions which arise in the normal course of business. In the opinion of management, the outcome of these matters will not have a material effect on the Company's financial position or results of operations.
During August 2006, the Company settled litigation in connection with a fatality at a customer's premises on January 8, 2005 for $3.0 million, which was covered under the Company's umbrella insurance policy. Such amount is recorded in the Company's balance sheet as of June 30, 2006, in Prepaid Insurance Expense and Deposits with an offsetting liability recorded in Accrued Insurance.
NOTES TO FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 15 - RELATED PARTY TRANSACTIONS
Robert L. Frome, a Director of the Company, is a member of the law firm of Olshan Grundman Frome Rosenzweig & Wolosky LLP, which law firm has been retained by the Company. Fees paid by the Company to such law firm during fiscal 2007, 2006 and 2005, were $122, $125 and $631, respectively.
NOTE 16 - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of each class of financial instruments.
(a) Cash and cash equivalents, accounts receivable and accounts payable and accrued expenses:
The carrying amounts approximate fair value due to the short maturity of these instruments.
(b) Long-term debt:
The fair value of the Company's long-term debt has been estimated based on the current rates offered to the Company for debt of the same remaining maturities.
The carrying amounts and fair values of the Company's financial instruments are as follows:
As of June 30, ------------------ 2007 2006 ------- ------- Cash and cash equivalents $ 343 $ 341 Accounts receivable 11,823 12,955 Accounts payable and accrued expenses 11,636 12,451 Long-term debt 34,750 35,450 Fair value of swap - asset 108 291
NOTE 17 - SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter ------------------ ------------------ ------------------ ------------------ 2007 2006 2007 2006 2007 2006 2007 2006 ------- ------- ------- ------- ------- ------- ------- ------- Total revenues $32,356 $27,865 $31,961 $28,753 $31,914 $29,197 $33,897 $30,381 Gross profit 17,579 15,202 16,215 15,872 16,187 15,593 17,599 17,046 Operating income 5,735 5,008 2,942 4,746 2,555 4,189 5,508 5,558 Net income 2,519 2,955 1,383 2,639 1,111 2,180 2,626 2,574
Earnings per share (a): Basic $ 0.16 $ 0.19 $ 0.09 $ 0.17 $ 0.07 $ 0.14 $ 0.17 $ 0.17 Diluted $ 0.16 $ 0.19 $ 0.09 $ 0.17 $ 0.07 $ 0.14 $ 0.17 $ 0.16
(a) Per common share amounts for the quarters have each been calculated separately. Accordingly, quarterly amounts may not add to total year earnings per share because of differences in the average common shares outstanding during each period.
In December 2006, the Company changed the method to calculate stock option volatility based on closing stock price in accordance with SFAS No. 123R. In addition, the Company revised the estimate of fair value for certain awards granted in fiscal 2006 under the Company's 2005 stock option plans to reflect the date the 2005 plans were approved by the Company's shareholders. The additional expense from these actions, $0.5 million recognized in the Company's results of operations for the three months ended December 31, 2006 (the second fiscal quarter of 2007), is not material to the results of operations for the fiscal years ended June 30, 2007 and 2006.
NUCO2 INC. SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS IN THOUSANDS
Column B Column C - Additions Column D Column E -------- -------------------- -------- -------- Balance at beginning Charge to costs and Charged to other Balance at end of of period expenses accounts Deductions period -------------------- ------------------- ---------------- ---------- ----------------- Year ended June 30, 2005 Allowance for doubtful accounts $ 2,095 $ 595 $ -- $ 840 $ 1,850 Year ended June 30, 2006 Allowance for doubtful accounts $ 1,850 $ 908 $ -- $ 220 $ 2,538 Year ended June 30, 2007 Allowance for doubtful accounts $ 2,538 $ 1,816 $ -- $ 3,350 $ 1,004
As part of the ongoing evaluation of its trade receivables and collections from its customers during the year ended June 30, 2007, the Company determined that tank billings to delinquent customers should be recorded on a cash recognition basis. As a result, the accounts receivable related to these tank billings have been written off and are no longer included in gross accounts receivable or the related allowance for doubtful accounts. Such change is immaterial to the Company's revenues and statement of income.