CAVCO INDUSTRIES INC. - Quarter Report: 2004 June (Form 10-Q)

UNITED STATES
SECURITIES & EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2004

OR

[  ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number 000-08822

Cavco Industries, Inc.

(Exact name of Registrant as specified in its charter)

1001 North Central Avenue, Suite 800, Phoenix, Arizona 85004

(602) 256-6263

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

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

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

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

CAVCO INDUSTRIES, INC. AND SUBSIDIARY
Form 10-Q Table of Contents
June 30, 2004

CAVCO INDUSTRIES, INC. AND SUBSIDIARY

See Notes to Consolidated Financial Statements

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CAVCO INDUSTRIES, INC. AND SUBSIDIARY

See Notes to Consolidated Financial Statements

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CAVCO INDUSTRIES, INC. AND SUBSIDIARY

See Notes to Consolidated Financial Statements

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CAVCO INDUSTRIES, INC. AND SUBSIDIARY

1. Basis of Presentation

     The consolidated interim financial statements include the accounts of Cavco Industries, Inc. (“Cavco Inc.”) and its wholly-owned subsidiary (collectively, the “Company”) after elimination of all significant intercompany balances and transactions. The statements have been prepared, without audit, in accordance with United States generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with United States generally accepted accounting principles have been condensed or omitted.

     In the opinion of the Company, all adjustments (consisting of normal, recurring accruals) necessary to present fairly the information in the consolidated financial statements of the Company have been included. The results of operations for such interim periods are not necessarily indicative of results for the full year. The Company suggests that these consolidated financial statements be read in conjunction with the consolidated financial statements and the notes to consolidated financial statements included in the Company’s Form 10-K Annual Report filed with the Securities and Exchange Commission on May 24, 2004 (the “Form 10-K”).

     Effective June 30, 2003, Cavco Industries, LLC (“Cavco LLC”) was merged into Cavco Inc. and 100% of the outstanding shares of common stock of Cavco Inc. were distributed to the stockholders of Centex Corporation (“Centex”), Cavco Inc.’s parent company. Subsequent to this distribution, Cavco Inc. became a separate public company.

     Prior to June 30, 2003, Cavco LLC was incorporated into the consolidated Federal income tax returns of Centex. Therefore, income taxes are not provided for prior to June 30, 2003. As a result of the distribution described above, proforma tax amounts have been presented on the face of the consolidated income statement for the three months ended June 30, 2003 as if the Company was a stand-alone taxable entity. Proforma income tax expense is calculated assuming a 40% effective tax rate. As a stand-alone taxable entity, the deferred taxes associated with its assets and liabilities have been assumed by the Company from Centex and recorded in its financial statements. The Company’s deferred tax assets primarily result from financial accruals and its deferred tax liabilities result from excess tax amortization of goodwill.

     For a description of significant accounting policies used by the Company in the preparation of its consolidated financial statements, please refer to Note 1 of the notes to consolidated financial statements in the Form 10-K.

     Accounting For Stock Based Compensation - The Company accounts for its stock-based compensation programs under APB No. 25, Accounting for Stock Issued to Employees and related interpretations, under which no compensation expense has been recognized, as all options have been granted with an exercise price equal to the fair value of the common stock on the date of grant. The Company has adopted the disclosure-only provisions of SFAS No. 123, Accounting for Stock Based Compensation, as amended by SFAS No. 148, Accounting for Stock Based Compensation-Transition and Disclosure. For the disclosure requirements of SFAS No. 123 as amended by SFAS 148, the fair value of each option grant as of the date of the grant was estimated using the Black-Scholes option pricing method. The assumptions used for the three months ended June 30, 2004 were volatility of 28.9%, risk-free interest rate of 3.6%, dividend rate of 0.0% and an expected life of the options of 5 years.

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     Options granted generally vest over a three-year period with 25% becoming vested on the grant date and the remainder becoming vested in cumulative 25% increments on each of the first three anniversaries of the grant date. Had compensation cost been determined as prescribed by SFAS No. 123, utilizing the assumptions detailed above and amortizing the resulting fair value of the stock options granted over the respective vesting period of the options, net income and earnings per share would have been reduced to the proforma amounts for the three months ended June 30, 2004 as follows. The Company had not granted any options prior to June 30, 2003.

2. Discontinued Operations

     The Company has initiated plans to dispose of certain of its retail sales centers and these operations are classified as discontinued retail operations. Retail assets held for sale represent finished goods inventories to be liquidated in conjunction with the disposal of these retail sales centers. There were no operating losses for the three months ended June 30, 2004 or 2003 for the stores we have identified for sale or disposal as the costs related to the liquidation of inventory were in line with our expectations of net realizable values. The loss from discontinued retail operations for the three months ended June 30, 2003 primarily represents accrued lease costs related to one of the retail locations closed during that period. Net sales for the retail sales centers to be disposed of were $4,500 and $6,612 for the three month periods ended June 30, 2004 and 2003, respectively.

3. Inventories

     Raw materials inventories are valued at the lower of cost (first-in, first-out method which approximates actual cost) or market. Finished goods are valued at the lower of cost or market, using the specific identification method. Inventories at June 30, 2004 and March 31, 2004 were as follows:

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4. Revolving line of credit

     The Company has established a revolving line of credit facility (“RLC”) with Bank One, NA. The RLC provides for borrowings up to $15 million with availability limited to 80% of eligible accounts receivable and 50% of eligible inventory, as determined on a monthly basis. As of June 30, 2004, the amount available under the RLC was approximately $9 million of which $495 is reserved for an outstanding letter of credit issued for the Company’s workers’ compensation program. The Company has not made any draws under the RLC. The outstanding principal amount of borrowings under the RLC bears interest at the Company’s election at either the prime rate or the London Interbank Offered Rate plus 2.25%. The RLC expires on July 31, 2005.

     The RLC contains certain restrictive and financial covenants, which, among other things, limit the Company’s ability to pay dividends, purchase treasury stock, pledge assets, incur additional indebtedness and make capital expenditures, and requires the Company to maintain certain defined leverage and debt service coverage ratios.

5. Warranties

     Homes are warranted against manufacturing defects for a period of one year commencing at the time of sale to the retail customer. Estimated costs relating to home warranties are provided at the date of sale. The Company has provided a liability for estimated future warranty costs relating to homes sold, based upon management’s assessment of historical experience factors and current industry trends. Activity in the liability for estimated warranties was as follows:

6. Contingencies

     The Company is contingently liable under terms of repurchase agreements with financial institutions providing inventory financing for independent retailers of its products. These arrangements, which are customary in the industry, provide for the repurchase of products sold to retailers in the event of default by the retailer. The risk of loss under these agreements is spread over numerous retailers. The price the Company is obligated to pay generally declines over the period of the agreement and is further reduced by the resale value of repurchased homes. The maximum amount for which the Company was contingently liable under such agreements approximated $20,244 at June 30, 2004. The Company has a reserve for repurchase commitments based on prior experience and market conditions of $2,000 at June 30, 2004 and March 31, 2004. In connection with the repurchase agreement with one financial institution, the Company has provided a guaranty in the amount of $300 to guaranty payment should one of the Company’s larger independent dealers default on certain of its obligations in the event of a repurchase by the lender. The potential liability related to this guaranty is included in the Company’s reserve for repurchase commitments.

     The Company is engaged in various legal proceedings that are incidental to and arise in the course of its business. Certain of the cases filed against the Company and other companies engaged in businesses similar to the Company allege, among other things, breach of contract and warranty, product liability and personal injury. Legal fees associated with these lawsuits are expensed as incurred. In the opinion of management, the ultimate liability, if any, with respect to the proceedings in which the Company is currently involved is not expected to have a material adverse effect on the Company’s financial position or results of operations. However, the potential exists for unanticipated material adverse judgments against the Company.

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7. Earnings Per Share

     The following table sets forth the computation of basic and diluted earnings per share. For the three months ended June 30, 2003, proforma net income includes the proforma income tax provision discussed in Note 1.

8. Business Segment Information

     The Company operates in two business segments in the manufactured housing industry — Manufacturing and Retail. Through its Manufacturing segment, the Company designs and manufactures homes which are sold primarily in the Southwestern and Western United States to a network of dealers which includes Company-owned retail locations comprising the Retail segment. The Company’s Retail segment derives its revenues from home sales to individuals. The accounting policies of the segments are the same as those described in the Form 10-K. Retail segment results include retail profits from the sale of homes to consumers but do not include any manufacturing segment profits associated with the homes sold. Intercompany transactions between reportable operating segments are eliminated in consolidation. Each segment’s results include corporate office costs that are directly and exclusively incurred for the segment. The following table summarizes information with respect to the Company’s business segments for the periods indicated:

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Total Corporate assets are comprised primarily of cash and deferred taxes.

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

Overview

     Effective June 30, 2003, Cavco Industries, LLC (“Cavco LLC”), our predecessor, was merged into Cavco Industries, Inc. (the “Company”) and 100% of the outstanding shares of common stock of the Company were distributed to the stockholders of Centex Corporation (“Centex”), Cavco Inc.’s parent company. Subsequent to this distribution, the Company became a separate public company. The consolidated financial statements contained in this quarterly report reflect the financial condition and results of operations of the Company and unless the context otherwise requires, all financial information contained in this section gives effect to the reorganization as if it had occurred prior to the date of such financial information.

     The Company is the largest producer of manufactured homes in Arizona and 12th largest producer of manufactured homes in the United States in terms of wholesale shipments, based on 2003 data published by Manufactured Home Merchandiser. Headquartered in Phoenix, Arizona, the Company designs and produces manufactured homes which are sold to a network of retailers located primarily in the Southwestern and Western United States. The retail segment of the Company operates retail sales locations which offer homes produced by the Company and other manufacturers to retail customers.

Results of Operations - (Dollars in thousands)

Three months ended June 30, 2004 compared to 2003

     Net Sales. Total net sales increased 21.8% to $35,937 for the three months ended June 30, 2004 compared to $29,515 last year.

     Manufacturing net sales increased 22.1% to $34,945 for the three months ended June 30, 2004 from $28,621 for last year. This increase was attributable to the trend toward larger homes with more amenities, a higher volume of homes sold resulting from our efforts to expand our market share in Arizona and California through recruiting of new independent dealers and price increases enacted to offset significant increases in material costs. Total homes sold during the current quarter increased 5.7% to 934 wholesale shipments versus 884 last year and the average sales price per home increased 15.6% to $37,414 versus $32,377 last year.

     Retail net sales decreased $1,298 to $2,731 for the three months ended June 30, 2004 versus $4,029 for the same period last year. This decrease in retail sales was primarily due to further credit tightening which has eliminated certain lower end buyers and increased manufacturing backlogs which have lengthened delivery times for new homes.

     Gross Profit. Gross profit as a percent of sales decreased to 17.0% for the three months ended June 30, 2004 from 18.0% last year. The decrease in gross profit as a percent of sales was primarily due to significant price increases in substantially all of the major components in the Company’s products, including lumber and lumber-related products, gypsum-related products, steel and steel-related products and petroleum-based products and services, including delivery costs. While the Company moved to increase selling prices to mitigate these rising prices, production backlogs partially delayed the effect of these price increases. The negative impact of price increases was partially offset by the efficiencies resulting from increased production. Gross profit increased to $6,093 for the three months ended June 30, 2004 from $5,301 last year. This increase in gross profit was primarily due to the overall increase in net sales partially offset by the lower gross profit percentage.

     Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased 9.1% or $335 to $3,350 or 9.3% of net sales for the three months ended June 30, 2004 versus $3,685 or 12.5% of net sales last year. This decrease was the result of reduced selling expenses in our retail segment due to lower sales and less amortization of restricted stock in the current period.

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     Interest Income. Interest income represents income earned on unrestricted cash. The increase in interest income versus last year resulted from the increase in the Company’s available cash.

     Income Taxes. The effective income tax rate for the three months ended June 30, 2004 approximated the Company’s estimated combined statutory rate of 40%. Prior to the distribution on June 30, 2003, Cavco LLC was incorporated in the consolidated income tax returns of Centex. Therefore, income taxes were not provided for by Cavco LLC as Cavco LLC and Centex had agreed that all taxes or tax benefits from filing consolidated income tax returns would either be borne by or benefit Centex. Cavco LLC was a disregarded entity for income tax purposes and therefore on a stand-alone basis would not be subject to income taxes. As a result of the distribution described above, proforma tax amounts for the three months ended June 30, 2003 which was prior to the date of the distribution have been presented on the face of the consolidated income statement as if the Company was a stand-alone taxable entity. Proforma income tax expense is calculated based on a combined statutory rate of 40%.

     Discontinued Retail Operations. There were no operating losses for the three months ended June 30, 2004 or 2003 for the stores we have identified for sale or disposal as the costs related to the liquidation of inventory were in line with our expectations of net realizable values. The loss from discontinued retail operations for the three months ended June 30, 2003 primarily represents accrued lease costs related to one of the retail locations closed during that period.

Liquidity and Capital Resources

     Prior to the distribution noted above, we participated in Centex’s central cash management program, wherein all of our cash receipts were remitted to Centex and all cash disbursements were funded by Centex. Subsequent to the distribution, we are now responsible for funding our own operating needs.

     The Company has established a revolving line of credit facility (“RLC”) with Bank One, NA. The RLC provides for borrowings up to $15 million with availability limited to 80% of eligible accounts receivable and 50% of eligible inventory, as determined on a monthly basis. As of June 30, 2004, the amount available under the RLC was approximately $9 million of which $495 is reserved for an outstanding letter of credit issued for the Company’s workers’ compensation program. The Company has not made any draws under the RLC. The outstanding principal amount of borrowings under the RLC bears interest at the Company’s election at either the prime rate or the London Interbank Offered Rate plus 2.25%. The RLC expires on July 31, 2005.

     The RLC contains certain restrictive and financial covenants, which, among other things, limit the Company’s ability to pay dividends, purchase treasury stock, pledge assets, incur additional indebtedness and make capital expenditures, and requires the Company to maintain certain defined leverage and debt service coverage ratios.

     We believe that cash on hand at June 30, 2004, together with cash flow from operations and cash to be provided by retail assets held for sale, will be sufficient to fund our operations for at least the next twelve months. In addition, as described above, we have entered into a $15 million credit facility with Bank One that can be used to supplement these sources of liquidity.

     Operating activities provided $3,705 of cash during the three months ended June 30, 2004 compared to providing $4,976 of cash during the first three months of last year. Cash generated by operating activities was primarily derived from operating income before non-cash charges, collection of accounts receivable and the liquidation of retail inventories held for sale partially offset by an increase in manufacturing inventories due to increased production and the timing of wholesale shipments.

     Investing activities required the use of $179 of cash during the three months ended June 30, 2004 compared to the use of $28 last year. The cash used for investing activities during three months ended June 30, 2004 was primarily for capital expenditures for our manufacturing facilities.

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     The Company had no financing activities during the three months ended June 30, 2004. Financing activities provided $13,211 of cash in during the three months ended June 30, 2003 primarily resulting from the payment by Centex of a capital contribution committed to by Centex in anticipation of the distribution.

Critical Accounting Policies

     In our Form 10-K filed with the Securities and Exchange Commission on May 24, 2004, under the heading “Critical Accounting Policies”, we have provided a discussion of the critical accounting policies that management believes affect its more significant judgments and estimates used in the preparation of its consolidated financial statements.

FORWARD-LOOKING STATEMENTS

     Various sections of this Report, including Management’s Discussion and Analysis of Financial Condition and Results of Operations, contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Securities Act of 1934 and the Private Securities Litigation Reform Act of 1995. Forward-looking statements may be identified by the context of the statement and generally arise when we are discussing our beliefs, estimates or expectations.

     All forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties, many of which are beyond our control. As a result, our actual results or performance may differ materially from anticipated results or performance. Also, forward-looking statements are based upon management’s estimates of fair values and of future costs, using currently available information. Therefore, actual results may differ materially from those expressed or implied in those statements. Factors that could cause such differences to occur include, but are not limited to, those discussed in our Form 10-K filed with the Securities and Exchange Commission under the heading “Risk Factors”. We expressly disclaim any obligation to update any forward-looking statements contained in this report or elsewhere, whether as a result of new information, future events or otherwise. For all of these reasons, you are cautioned not to place undue reliance on any forward-looking statements included in this report or elsewhere.

Item 3: Quantitative and Qualitative Disclosures about Market Risk

Market Risk

     Market risk is the risk of loss arising from adverse changes in market prices and interest rates. We may from time to time be exposed to interest rate risk inherent in our financial instruments, but are not currently subject to foreign currency or commodity price risk. We manage our exposure to these market risks through our regular operating and financing activities. We are not currently a party to any market risk sensitive instruments that could be reasonably expected to have a material effect on our financial condition or results of operations.

Item 4: Controls and Procedures

     An evaluation has been performed under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of June 30, 2004. Based on that evaluation, our management, including our Chief Executive Officer and Chief Financial Officer, concluded that our disclosure controls and procedures were effective as of June 30, 2004, for the purpose of ensuring that information required to be disclosed in this Report has been processed, summarized and reported in a timely manner. There have been no significant changes in our internal controls or in other factors that could significantly affect internal controls subsequent to June 30, 2004.

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Part II. Other Information

Item 4: Submission of Matters to a Vote of Security Holders

     On June 22, 2004, we held our Annual Meeting of Stockholders. At the Annual Meeting, the following matters were resolved by vote:

     The Company’s four other directors (Steven G. Bunger, Jack Hanna, Joseph H. Stegmayer and Michael Thomas) continued on as directors subsequent to the Annual Meeting.

Item 6: Exhibits and Reports on Form 8-K

                    31.1 Certification of the Chief Executive Officer of Cavco Industries, Inc. pursuant to Rules 13a-14 and 15d-14 promulgated under the Securities Exchange Act of 1934, as amended.

                    31.2 Certification of the Chief Financial Officer of Cavco Industries, Inc. pursuant to Rules 13a-14 and 15d-14 promulgated under the Securities Exchange Act of 1934, as amended.

                    32.1 Certification of the Chief Executive Officer of Cavco Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

                    32.2 Certification of the Chief Financial Officer of Cavco Industries, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

                    The Company filed a Current Report on Form 8-K on April 28, 2004, with respect to two press releases, one of which announced that Steven G. Bunger had been elected to the Company’s Board of Directors to fill a vacancy created by the resignation of Laurence E. Hirsch and the other of which announced the Company’s fiscal fourth quarter net earnings for the quarter ended March 31, 2004.

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Signatures

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

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