Dorman Products, Inc. - Quarter Report: 2020 June (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended June 27, 2020

OR

For the transition period from                     to                    

Commission file number: 0-18914

Dorman Products, Inc.

(Exact name of registrant as specified in its charter)

(215) 997-1800

(Registrant’s telephone number, including area code)

N/A

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

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

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  ☐    No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  ☒    Yes  ☐    No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  ☐    Yes  ☒    No

As of July 27, 2020, the registrant had 32,439,313 shares of common stock, par value $0.01 per share, outstanding.

DORMAN PRODUCTS, INC. AND SUBSIDIARIES

INDEX TO QUARTERLY REPORT ON FORM 10-Q

June 27, 2020

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PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

DORMAN PRODUCTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

See accompanying Notes to Consolidated Financial Statements

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PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

DORMAN PRODUCTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

See accompanying Notes to Consolidated Financial Statements

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DORMAN PRODUCTS, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

See accompanying Notes to Consolidated Financial Statements

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DORMAN PRODUCTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(UNAUDITED)

See accompanying Notes to Consolidated Financial Statements

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DORMAN PRODUCTS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

See accompanying Notes to Consolidated Financial Statements 

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DORMAN PRODUCTS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THIRTEEN AND TWENTY-SIX WEEKS ENDED JUNE 27, 2020 AND JUNE 29, 2019

(UNAUDITED)

As used herein, unless the context otherwise requires, “Dorman,” the “Company,” “we,” “us,” or “our” refers to Dorman Products, Inc. and its subsidiaries. Our ticker symbol on the NASDAQ Global Select Market is “DORM.”

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the U.S. for interim financial information and in accordance with the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”). However, they do not include all the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of only normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the thirteen and twenty-six weeks ended June 27, 2020 are not necessarily indicative of the results that may be expected for the fiscal year ending 2020 or any future period. We may experience significant fluctuations from quarter to quarter in our results of operations due to the timing of orders placed by our customers. The introduction of new products and product lines to customers may cause significant fluctuations from quarter to quarter. These financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 28, 2019. 

Certain prior year amounts have been reclassified to conform with current year presentation.

Power Train Industries, Inc.

On January 2, 2020, we acquired the remaining 60% of the outstanding stock of Power Train Industries, Inc. (“PTI”), a privately-held supplier of parts to the automotive aftermarket, based in Reno, Nevada. The total consideration paid for PTI was approximately $30.7 million, which included $18.4 million paid for the remaining 60% of the outstanding stock, subject to customary purchase price adjustments, and $12.3 million which represents the fair value of the previously held 40% equity interest in PTI that was acquired by the Company in 2016. As a result of the acquisition, we recorded a gain of approximately $2.5 million in Other Income in the twenty-six weeks ended June 27, 2020 as a result of the increase in fair value of the previously owned 40% interest in PTI. We previously accounted for our 40% interest as an equity-method investment. 

The transaction was accounted for as a business combination under the acquisition method of accounting. Accordingly, the assets acquired, and liabilities assumed were recorded at fair value, with the remaining purchase price recorded as goodwill.

In connection with this acquisition, we recorded $16.7 million in goodwill, $7.3 million of identified intangibles, and $6.7 million of other assets, net, primarily $3.5 million of cash, $2.0 million of accounts receivable, $5.6 million of inventory, and ($4.4 million) of net other assets and liabilities.

The estimated fair value of the PTI assets acquired and liabilities assumed are provisional as of June 27, 2020 and are based on information that is currently available. Additional information about conditions that existed as of the date of acquisition are being gathered to finalize these provisional measurements, particularly with respect to net working capital and income taxes payable. Accordingly, the measurement of the PTI assets acquired and liabilities assumed may change upon completion of the purchase price allocation, both of which are expected to occur no later than one year from the acquisition date.

The valuation of the intangible assets acquired and related amortization periods are as follows:

The fair values of the Customer relationships and Tradenames were estimated using a discounted present value income approach.

The goodwill recognized is attributable primarily to strategic and synergistic opportunities related to existing automotive aftermarket businesses, the assembled workforce of PTI and other factors. The goodwill is not expected to be deductible for tax purposes.

The financial results of the acquisition have been included in the Consolidated Financial Statements since the date of acquisition. 

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We have entered into several customer sponsored programs administered by unrelated financial institutions that permit us to sell certain accounts receivable at discounted rates to the financial institutions. Transactions under these agreements were accounted for as sales of accounts receivable and the related accounts receivable were removed from our Consolidated Balance Sheet at the time of the sales transactions. Pursuant to these agreements, we sold $496.4 million and $355.1 million of accounts receivable during the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. All of our credit terms with our customers are 365 days or less. If receivables had not been sold over the previous twelve months, $571.7 million and $437.9 million of additional accounts receivable would have been outstanding at June 27, 2020 and December 28, 2019, respectively, based on standard payment terms. Financing costs associated with these accounts receivable sales programs were $6.8 million and $4.7 million in the thirteen weeks ended June 27, 2020 and June 29, 2019, respectively. Financing costs associated with these accounts receivable sales programs were $9.6 million and $9.3 million in the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. The financing costs associated with our accounts receivable sales programs were classified as selling, general and administrative expense in the Consolidated Statements of Operations.

Inventories include the cost of material, freight, direct labor and overhead utilized in the processing of our products and are stated at the lower of cost or net realizable value. Inventories were as follows:

We adopted ASU No. 2016-02, Leases, on December 30, 2018, the beginning of our fiscal 2019, using the modified retrospective approach. We determine whether an arrangement is a lease at inception. This determination generally depends on whether the arrangement conveys the right to control the use of an identified fixed asset explicitly or implicitly for a period of time in exchange for consideration. Control of an underlying asset is conveyed if we obtain the rights to direct the use of and to obtain substantially all of the economic benefit from the use of the underlying asset. Some of our leases include both lease and non-lease components which are accounted for as a single lease component as we have elected the practical expedient. Some of our operating lease agreements include variable lease costs, primarily taxes, insurance, common area maintenance or increases in rental costs related to inflation. Substantially all of our equipment leases and some of our real estate leases have terms of less than one year and, as such, are accounted for as short-term leases as we have elected the practical expedient.

Operating leases are included in the right-of-use lease assets, other current liabilities and long-term lease liabilities on the Consolidated Balance Sheet. Right-of-use assets and lease liabilities are recognized at each lease’s commencement date based on the present values of its lease payments over its respective lease term. When a borrowing rate is not explicitly available for a lease, our incremental borrowing rate is used based on information available at the lease’s commencement date to determine the present value of its lease payments. Operating lease payments are recognized on a straight-line basis over the lease term. We had no financing leases as of June 27, 2020.

We have operating leases for distribution centers, sales offices and certain warehouse and office equipment. Our leases have remaining lease terms of 1 to 11 years, many of which include one or more renewal options. We consider these renewal options in determining the lease term used to establish our right-of-use assets and lease liabilities when it is determined that it is reasonably certain that the renewal option will be exercised.

As of June 27, 2020, there were no material variable lease costs or sublease income. Cash paid for operating leases was $4.0 million and $2.5 million in the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively, which is classified in operating activities. The following table summarizes the lease expense for the twenty-six weeks ended June 27, 2020 and June 29, 2019:

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Supplemental balance sheet information related to our operating leases is as follows:

During the twenty-six weeks ended June 27, 2020, we added $6.4 million of right of use asset and lease liability related to the expansion of our Portland, Tennessee distribution facility.

The following table summarizes the maturities of our lease liabilities for all operating leases as of June 27, 2020:

Goodwill

Goodwill included the following:

Intangible Assets

Intangible assets included the following:

Amortization expense was $0.9 million and $0.6 million for the thirteen weeks ended June 27, 2020 and June 29, 2019, respectively, and $1.7 million and $1.3 million for the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively.

In December 2017, we entered into a credit agreement which will expire in December 2022. This agreement provides for an initial revolving credit facility of $100.0 million and, subject to certain requirements, gives us the ability to request increases in revolving credit commitments of up to an additional $100.0 million. Borrowings under the credit agreement are on an unsecured basis. At the Company’s election, the interest rate applicable to borrowings under the credit agreement will be either (1) the Prime Rate as announced by Wells Fargo from time to

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time, (2) an Adjusted LIBOR Market Index Rate as measured by the LIBOR Market Index Rate plus the Applicable Margin which fluctuates between 65 basis points and 125 basis points based on the ratio of the Company’s Consolidated Funded Debt to Consolidated EBITDA, or (3) an Adjusted LIBOR Rate as measured by the LIBOR Rate plus the Applicable Margin which fluctuates between 65 basis points and 125 basis points based on the ratio of the Company’s Consolidated Funded Debt to Consolidated EBITDA. The interest rate at June 27, 2020 was LIBOR plus 65 basis points (0.83%). During the occurrence and continuance of an event of default, all outstanding revolving credit loans will bear interest at a rate per annum equal to 2.00% in excess of the greater of (1) the Prime Rate or (2) the Adjusted LIBOR Market Index Rate then applicable. The credit agreement also contains covenants, including those related to the ratio of certain consolidated fixed charges to consolidated EBITDA, capital expenditures, and share repurchases, each as defined by the credit agreement. The credit agreement also requires us to pay a fee of 0.10% on the average daily unused portion of the facility, provided the fee will not be charged on the first $30 million of the revolving credit facility.

In March 2020, Dorman took proactive steps to increase its cash position and preserve financial flexibility in light of uncertainties from the COVID-19 pandemic by drawing down $99.0 million from the revolving credit facility.

As of June 27, 2020, we had $99.0 million in borrowings under the credit agreement, which amount does not include two outstanding letters of credit for approximately $0.8 million in the aggregate which were issued to secure ordinary course of business transactions. Net of these borrowings and letters of credit, we had approximately $0.2 million available under the credit agreement at June 27, 2020. See Note 17 for additional information on the repayment of this loan.

As of June 27, 2020, we were not in default in respect to the credit agreement and have paid $0.2 million in interest in both the thirteen and twenty-six weeks ended June 27, 2020.

CBP Matter

During 2019, we informed United States Customs & Border Protection (“CBP”) that we were commencing a voluntary disclosure process with CBP where we would voluntarily disclose to CBP certain product misclassifications and reimburse CBP for any resulting underpayment of duties that were identified as part of a voluntary internal review conducted by the Company. The Company recorded an estimated liability of $2.8 million in its Statement of Operations for the year ended December 28, 2019, which represents the Company’s estimated underpayment of duties, after deducting its estimated overpayment of duties, to CBP due to misclassifications over the prior five-year period, which is the applicable statute of limitations, plus applicable interest.

In June 2020, we completed our internal review and made our initial prior disclosure submission to CBP, including a payment to CBP of $2.8 million. The process of finalizing our prior disclosure with CBP may be iterative, and we intend to work cooperatively with CBP in connection with finalizing the prior disclosure.

Other Contingencies

We are a party to or otherwise involved in legal proceedings that arise in the ordinary course of business, such as various claims and legal actions involving contracts, employment claims, competitive practices, intellectual property infringement, product liability claims and other matters arising out of the conduct of our business. In the opinion of management, none of the actions, individually or in the aggregate, taking into account relevant insurance coverage, would likely have a material financial impact on the Company, and we believe the range of reasonably possible losses from current matters, taking into account relevant insurance coverage, is immaterial. However, legal matters are subject to inherent uncertainties, and there exists the possibility that the ultimate resolution of any of these matters could have a material adverse impact on the Company’s cash flows, financial position and results of operations in the period in which any such effects are recorded.

The FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, in May 2014 regarding the accounting for and disclosure of revenue. Specifically, the update outlined a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers.

Our primary source of revenue is from contracts with and purchase orders from customers. Revenue is recognized from product sales when goods are shipped, title and risk of loss and control have been transferred to the customer, and collection is reasonably assured. We estimate the transaction price at the inception of a contract or upon fulfilling a purchase order, including any variable consideration, and will update the estimate for changes in circumstances.

We record estimates for cash discounts, product returns, promotional rebates, core (i.e. remanufactured parts) return deposits and other discounts in the period the related product revenue is recognized (“customer rebates and returns”). The provision for customer rebates and returns is recorded as a reduction of gross sales. Our obligation associated with customer rebates and returns is classified as a current liability on our consolidated balance sheets (“accrued customer rebates and returns”). Actual customer rebates and returns have not differed materially from estimated amounts for each period presented. Amounts billed to customers for shipping and handling are included in net sales. Costs associated with shipping and handling are included in cost of goods sold. We have concluded that our estimates of variable consideration are not constrained according to the definition of the new standard.

All of our revenue was recognized under the point of time approach in accordance with the revenue standard during the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. Also, we do not have significant financing arrangements with our customers, as our credit terms are all 365 days or less. Lastly, we do not receive noncash consideration (such as materials or equipment) from our customers to facilitate the fulfillment of our contracts.

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Five-step model

We apply the FASB’s guidance on revenue recognition, which requires us to recognize the amount of revenue and consideration which we expect to receive in exchange for goods or services transferred to our customers. To do this, we apply the five-step model prescribed by the FASB, which requires us to: (i) identify the contract with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when, or as, we satisfy a performance obligation.

Contract Assets and Liabilities

We recognize a receivable or contract asset when we perform a service or transfer a good in advance of receiving consideration.

- A receivable is recorded when our right to consideration is unconditional and only the passage of time is required before payment of that consideration is due.

- A contract asset is recorded when our right to consideration in exchange for goods or services that we have transferred to a customer is conditional on something other than the passage of time. We did not have any contract assets recorded as of June 27, 2020 or December 28, 2019.

We recognize a contract liability when we receive consideration, or if we have the unconditional right to receive consideration, in advance of satisfying the performance obligation. A contract liability is our obligation to transfer goods or services to a customer for which we have received consideration, or an amount of consideration is due from the customer. We did not have any contract liabilities recorded as of June 27, 2020 or December 28, 2019.

Disaggregated Revenue

The following tables present our disaggregated net sales by Type of Major Good / Product Line, and Geography.

On May 16, 2018, our shareholders approved our 2018 Stock Option and Stock Incentive Plan (the “2018 Plan”), which supersedes our 2008 Stock Option and Stock Incentive Plan (the “2008 Plan”). Under the terms of the 2018 Plan, our Board of Directors may grant up to 1,200,000 shares of common stock in the form of shares of restricted stock, restricted stock units, stock appreciation rights, stock options, or combinations thereof, to officers, directors, employees, consultants and advisors. Grants under the 2018 Plan must be made within ten years of the date the Plan was approved. Stock options are exercisable upon the terms set forth in each grant agreement, but in no event more than ten years from the date of grant. Restricted stock and restricted stock units vest in accordance with the terms set forth in each applicable award agreement. At June 27, 2020, 856,921 shares were available for grant under the 2018 Plan.

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Restricted Stock and Restricted Stock Units (“RSUs”)

Vesting of restricted stock and RSU awards is conditional based on continued employment or service for a specified period and, in certain circumstances, the attainment of performance goals. With respect to restricted stock and RSU awards, we retain the shares underlying the award, and any dividends paid thereon, until the vesting conditions have been met. For time-based restricted stock and RSU awards, compensation cost related to the stock is recognized on a straight-line basis over the vesting period and is calculated using the closing price per share of our common stock on the grant date. For performance-based restricted stock and RSU awards tied to growth in adjusted pre-tax income, compensation cost related to the award is recognized over the performance period and is calculated using the closing price per share of our common stock on the grant date and an estimate of the probable outcome of the performance conditions at each reporting date. Since 2019, we have granted performance-based restricted stock and RSU awards that vest based on our total shareholder return ranking relative to the S&P Mid-Cap 400 Growth Index over a three-year performance period. For performance-based restricted stock and RSU awards tied to total shareholder return, compensation cost related to the award is recognized on a straight-line basis over the performance period and is calculated using the simulated fair value per share of our common stock based on the application of a Monte Carlo simulation model. Compensation cost related to restricted stock and RSU awards was $1.1 million and $0.8 million for the thirteen weeks ended June 27, 2020 and June 29, 2019, respectively, and $2.0 million and $1.5 million for the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. The compensation costs were classified as selling, general and administrative expense in the Consolidated Statements of Operations.

The following table summarizes our restricted stock and RSU award activity for the twenty-six weeks ended June 27, 2020:

As of June 27, 2020, there was $9.6 million of unrecognized compensation cost related to unvested restricted stock and RSU awards that is expected to be recognized over a weighted-average period of approximately 2.7 years.

Cash flows resulting from tax deductions in excess of the tax effect of compensation cost recognized in the financial statements are classified as operating cash flows. The excess tax benefit generated from restricted stock and RSU awards that vested was less than $0.1 million and $0.2 million in the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively, and was credited to income tax expense.

Stock Options

We expense the grant-date fair value of stock options. Compensation cost is recognized on a straight-line basis over the vesting period for which related services are performed. The compensation cost charged against income was $0.3 million and $0.2 million for the thirteen weeks ended June 27, 2020 and June 29, 2019, respectively, and $0.5 million and $0.3 million for the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. The compensation costs were classified as selling, general and administrative expense in the Consolidated Statements of Operations. No cost was capitalized during the twenty-six weeks ended June 27, 2020 or June 29, 2019.

We use the Black-Scholes option valuation model to estimate the fair value of stock options granted. Expected volatility and expected dividend yield are based on the actual historical experience of our common stock. The expected life represents the period of time that options granted are expected to be outstanding and was calculated using historical option exercise data. The risk-free rate was based on a U.S. Treasury security with terms equal to the expected time of exercise as of the grant date. During the twenty-six weeks ended June 27, 2020 and June 29, 2019, we granted 102,584 and 36,235 stock options, respectively.

The following table summarizes our stock option activity for the twenty-six weeks ended June 27, 2020:

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There were options to purchase 419 and 34,301 shares of common stock exercised during the twenty-six weeks ended June 27, 2020 and June 29, 2019, respectively. As of June 27, 2020, there was $3.6 million of unrecognized compensation cost related to unvested stock options that is expected to be recognized over a weighted-average period of 3.1 years.

There was no cash received from stock option exercises in the twenty-six weeks ended June 27, 2020. Cash received from stock option exercises was less than $0.1 million in the twenty-six weeks ended June 29, 2019. 

There was no excess tax benefit generated from stock options exercised in the twenty-six weeks ended June 27, 2020 or June 29, 2019.

Employee Stock Purchase Plan

In May 2017, our shareholders approved the Dorman Products, Inc. Employee Stock Purchase Plan (the “ESPP”), which made available up to 1,000,000 shares of our common stock for sale to eligible employees. The purpose of the ESPP, which is qualified under Section 423 of the Internal Revenue Service Code of 1986, as amended, is to encourage stock ownership through payroll deductions and limited cash contributions by our employees. These contributions are used to purchase shares of the Company’s common stock at a 15% discount from the lower of the market price at the beginning or end of the purchase window. There were 10,735 shares purchased under the ESPP plan in both the thirteen and twenty-six weeks ended June 27, 2020, and 13,669 shares purchased in both the thirteen and twenty-six weeks ended June 29, 2019. During both the thirteen weeks ended June 27, 2020 and June 29, 2019, compensation cost under the ESPP was $0.1 million. During both the twenty-six weeks ended June 27, 2020 and June 29, 2019, compensation cost under the ESPP was $0.2 million.

Basic earnings per share is calculated by dividing our net income by the weighted average number of common shares outstanding during the period, excluding unvested restricted stock and shares of our common stock underlying RSUs and stock options that are considered to be contingently issuable. To calculate diluted earnings per share, common share equivalents are added to the weighted average number of common shares outstanding. Common share equivalents are calculated using the treasury stock method and are computed based on outstanding stock-based awards. Stock-based awards of 123,000 shares and 54,000 shares were excluded from the calculation of diluted earnings per share as of June 27, 2020 and June 29, 2019, respectively, as their effect would have been anti-dilutive.

The following table sets forth the computation of basic earnings per share and diluted earnings per share:

We periodically repurchase, at the then current market price, and cancel shares of Dorman common stock issued to the Dorman Products, Inc. 401(k) Retirement Plan and Trust (the “401(k) Plan”). 401(k) Plan participants can no longer purchase shares of Dorman common stock as an investment option under the 401(k) Plan. Shares are generally purchased from the 401(k) Plan when participants sell units as permitted by the 401(k) Plan or elect to leave the 401(k) Plan upon retirement, termination or other reasons. For the twenty-six weeks ended June 27, 2020, we repurchased and cancelled 6,350 shares of common stock held in the 401(k) Plan for $0.4 million at an average price of $63.00 per share. During the fifty-two weeks ended December 28, 2019, we repurchased and cancelled 22,380 shares of common stock held in the 401(k) Plan for $1.9 million at an average price of $87.26 per share.

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Our Board of Directors authorized a share repurchase program of up to $400 million through December 31, 2020. Under this program, share repurchases may be made from time to time depending on market conditions, share price, share availability and other factors at our discretion. The share repurchase program does not obligate us to acquire any specific number of shares. For the twenty-six weeks ended June 27, 2020, we repurchased and cancelled 91,979 shares of common stock for $5.5 million at an average price of $59.41 per share under this program. However, in light of COVID-19, during March 2020, we temporarily suspended repurchases under the share repurchase program and disclosed that we may resume the repurchase program at any time when we believe it is prudent to do so and without further notice. At June 27, 2020 $138.5 million was available for repurchase under this share repurchase program. For the fifty-two weeks ended December 28, 2019, we repurchased and cancelled 499,564 shares of common stock for $39.4 million at an average price of $78.84 per share under this program.

We have a non-cancelable operating lease for our primary operating facility with a partnership in which Steven L. Berman, our Executive Chairman, and other members of the Berman family, are partners. Based upon the terms of the lease, payments will be $1.6 million in fiscal 2020 and were $1.6 million in fiscal 2019. This lease will expire on December 31, 2022. The right-of-use asset and total lease liabilities related to this lease were both $3.8 million as of June 27, 2020. In the opinion of our Audit Committee, the terms and rates of this lease are no less favorable than those which could have been obtained from an unaffiliated party when the lease was renewed in November 2016.

We also have non-cancelable operating leases with a limited liability company in which certain of the former owners of PTI are members. The leases were entered into prior to the January 2, 2020 acquisition of PTI by the Company, and they are used in the PTI business. Based upon the terms of the leases, aggregate payments thereunder will be $0.3 million in fiscal 2020.

Additionally, we had a non-cancelable operating lease for our Canadian operating facility from a corporation of which an employee, who is also the former owner of an acquired entity, and his family members are owners. Based upon the terms of the lease, payments were $0.2 million in fiscal 2019. This lease expired on April 30, 2019.

We are a partner in a joint venture with one of our suppliers and own minority interests in two other suppliers. Each of these investments is accounted for according to the equity method.

At June 27, 2020, we had $1.1 million of net unrecognized tax benefits, $1.0 million of which would lower our effective tax rate if recognized. We recognize interest and penalties related to uncertain tax positions in income tax expense. As of June 27, 2020, we had approximately $0.1 million of accrued interest and penalties related to uncertain tax positions.

We file income tax returns in the United States, Canada, China, India, and Mexico. All years before 2016 are closed for United States federal tax purposes. Tax years before 2015 are closed for the states in which we file. Tax years before 2016 are closed for tax purposes in Canada. Tax years before 2015 are closed for tax purposes in China. All tax years remain open for Mexico and India.

The carrying value of financial instruments such as cash, accounts receivable, accounts payable, and other current assets and liabilities approximate their fair value based on the short-term nature of these instruments.

In January 2017, the FASB issued ASU 2017-04, Simplifying the Test for Goodwill Impairment, which eliminates the need to perform a hypothetical purchase price allocation to measure goodwill impairment. ASU 2017-04 is effective for annual periods beginning after December 15, 2019, including interim periods within those fiscal years. We adopted this ASU effective December 29, 2019, the beginning of our 2020 fiscal year. Adoption of this ASU did not have a material impact on our consolidated financial statements and related disclosures.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses, which was subsequently amended in November 2018 through ASU 2018-19, Codification Improvements to Topic 326, Financial Instruments Credit Losses. ASU 2016-13 requires entities to estimate lifetime expected credit losses for trade and other receivables, net investments in leases, financial receivables, debt securities and other instruments, which will result in earlier recognition of credit losses. Further, the new credit loss model will affect how entities in all industries estimate their allowance for loss receivables that are current with respect to their payment terms. ASU 2016-13 is effective for companies beginning with fiscal years beginning after December 15, 2019. We adopted this ASU effective December 29, 2019, the beginning of our 2020 fiscal year. Adoption of this ASU did not have a material impact on our consolidated financial statements and related disclosures.

In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic740): Simplifying the Accounting for Income Taxes. This ASU removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. The ASU also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill and allocating taxes to members of a consolidated group. ASU 2019-12 is effective for companies beginning with fiscal years beginning after December 15, 2020. The Company is currently evaluating the new guidance to determine the impact the adoption of this guidance will have on the Company’s results of operations, cash flows, and financial condition. However, at this time we do not believe this new guidance will have a material impact on our consolidated financial statements and related disclosures.

In January 2020, the FASB issued ASU 2020-01, Investments – Equity Securities (Topic 321), Investments – Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815): Clarifying the Interactions between Topic 321, Topic 323 and Topic 815, which clarifies the interactions between ASC 321, ASC 323 and ASC 815. The new guidance addresses accounting for the transition into and out of the equity method and also provides guidance on whether equity method accounting would be applied to certain purchased options and forward

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contracts upon settlement. ASU 2020-01 is effective for annual and interim periods in fiscal years beginning after December 15, 2020. The Company is currently evaluating the new guidance to determine the impact the adoption of this guidance will have on the Company’s results of operations, cash flows, and financial condition. However, at this time we do not believe this new guidance will have a material impact on our consolidated financial statements and related disclosures.

In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting, which provides optional guidance for a limited time to ease the potential accounting burden associated with transitioning away from reference rates such as LIBOR. The expedients and exceptions provided by ASU 2020-04 will not be available until after December 31, 2022, other than for certain hedging relationships entered into before December 31, 2022. ASU 2020-04 may be applied as of the beginning of the interim period that includes March 12, 2020 through December 31, 2022. The Company is currently evaluating the new guidance to determine the impact the adoption of this guidance will have on the Company’s results of operations, cash flows, and financial condition. However, at this time we do not believe this new guidance will have a material impact on our consolidated financial statements and related disclosures.

On June 29, 2020 the Company repaid the $99.0 million of outstanding borrowings under its revolving credit facility. Following such repayment, as of June 29, 2020, we had $99.2 million of availability under our revolving credit facility, after taking into account issued but undrawn letters of credit in the amount of $0.8 million.

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

“Management’s Discussion and Analysis of Financial Condition and Results of Operations” should be read in conjunction with the Consolidated Financial Statements and related notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q. As used herein, unless the context otherwise requires, “Dorman,” the “Company,” “we,” “us,” or “our” refers to Dorman Products, Inc. and its subsidiaries.

Cautionary Statement Regarding Forward Looking Statements

This document contains certain statements that constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, including statements related to the COVID-19 pandemic, net sales, diluted earnings per share, gross profit, gross margin, selling, general and administrative expenses, income tax expense, income before income taxes, net income, cash and cash equivalents, indebtedness, liquidity, the Company’s share repurchase program, the Company’s outlook and distribution facility costs and productivity initiatives. Words such as “believe,” “demonstrate,” “expect,” “estimate,” “forecast,” “anticipate,” “should,” “will” and “likely” and similar expressions identify forward-looking statements. However, the absence of these words does not mean the statements are not forward-looking. In addition, statements that are not historical should also be considered forward-looking statements.

Readers are cautioned not to place undue reliance on those forward-looking statements, which speak only as of the date the statement was made. Such forward-looking statements are based on current expectations that involve a number of known and unknown risks, uncertainties and other factors (many of which are outside of our control) which may cause actual events to be materially different from those expressed or implied by such forward-looking statements. These risks, uncertainties and other factors include, but are not limited to: (i) competition in the automotive aftermarket industry; (ii) unfavorable economic conditions; (iii) the loss or decrease in sales among one of our top customers; (iv) customer consolidation in the automotive aftermarket industry; (v) foreign currency fluctuations and our dependence on foreign suppliers; (vi) extending credit to customers; (vii) the loss of a key supplier; (viii) limited customer shelf space; (ix) reliance on new product development; (x) changes in automotive technology and improvements in the quality of new vehicle parts; (xi) inability to protect our intellectual property and claims of intellectual property infringement; (xii) quality problems with products after their production and sale to customers; (xiii) loss of third party transportation providers on whom we depend; (xiv) unfavorable results of legal proceedings; (xv) our executive chairman and his family owning a significant portion of the Company; (xvi) operations may be subject to quarterly fluctuations and disruptions from events beyond our control; (xvii) cyber-attacks; (xviii) imposition of taxes, duties or tariffs; (xix) the level of our indebtedness, (xx) exposure to risks related to accounts receivable; (xxi) the phaseout of LIBOR or the impact of the imposition of a new reference rate, (xxii) volatility in the market price of our common stock and potential securities class action litigation; (xxiii) losing the services of our executive officers or other highly qualified and experienced contributors; (xxiv) the inability to identify suitable acquisition candidates, complete acquisitions or integrate acquisitions successfully; and (xxv) the effects of widespread public health epidemics, including COVID-19. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected.

See the “Statement Regarding Forward Looking Statements,” Part I, Item 1A, “Risk Factors” in the Company’s Annual Report on Form 10-K for the fiscal year ended December 28, 2019 and Part II, Item 1A, “Risk Factors” in this Quarterly Report on Form 10-Q for additional information regarding forward-looking statements and the factors that could cause actual results to differ materially from those anticipated in the forward-looking statements. The Company is under no obligation to (and expressly disclaims any such obligation to) update any of the information in this document, including but not limited to any situation where any forward-looking statement later turns out to be inaccurate whether as a result of new information, future events or otherwise.

Introduction

The following discussion and analysis, as well as other sections in this Quarterly Report on Form 10-Q, should be read in conjunction with the unaudited consolidated financial statements and footnotes thereto of Dorman Products, Inc. and its subsidiaries included in “Item 1. Financial Statements” of this Quarterly Report on Form 10-Q and with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the audited consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 28, 2019.

This Quarterly Report on Form 10-Q contains the registered and unregistered trademarks or service marks of Dorman and are the property of Dorman Products, Inc. and/or its affiliates. This Quarterly Report on Form 10-Q also may contain additional trade names, trademarks or service marks belonging to other companies. We do not intend our use or display of other parties’ trademarks, trade names or service marks to imply, and such use or display should not be construed to imply, a relationship with, or endorsement or sponsorship of us by these parties.

Overview

We are one of the leading suppliers of replacement parts and fasteners for passenger cars, light trucks, and heavy duty trucks in the automotive aftermarket industry. As of December 28, 2019, we marketed approximately 78,000 distinct stock keeping units (“SKU’s”) as compared to approximately 77,000 as of December 29, 2018, many of which we designed and engineered. This number excludes private label SKU’s and other variations in how we market, package and distribute our products, includes distinct SKU’s of acquired companies, and reflects distinct SKU’s that have been discontinued at the end of their lifecycle. Our products are sold under our various brand names, under our customers’ private label brands or in bulk. We are one of the leading aftermarket suppliers of original equipment (“OE”) “dealer exclusive” parts. OE “dealer exclusive” parts are those parts which were traditionally available to consumers only from OE manufacturers or salvage yards. These parts include, among other parts: intake manifolds, exhaust manifolds, window regulators, radiator fan assemblies, tire pressure monitor sensors, complex electronics modules and exhaust gas recirculation (EGR) coolers.

We generate virtually all our net sales from customers in the North American automotive aftermarket industry, primarily in the United States. Our products are sold primarily through automotive aftermarket retailers, including through their online platforms, national, regional and local warehouse distributors and specialty markets, and salvage yards. We also distribute automotive aftermarket parts outside the United States, with sales primarily into Canada and Mexico, and to a lesser extent, Europe, the Middle East and Australia.

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We may experience significant fluctuations from quarter to quarter in our results of operations due to the timing of orders placed by our customers. The introduction of new products and product lines to customers, as well as business acquisitions, also may cause significant fluctuations from quarter to quarter.

Early in 2019, we began the process of transferring operations of our existing distribution facility in Portland, Tennessee to a new, larger facility nearby. The new 800,000 square foot facility became fully operational in October 2019. In the second quarter of 2019, we began incurring additional costs related to start up inefficiencies and duplication of facility overhead and operating costs primarily related to those facility consolidation activities. We began implementing productivity initiatives in the fourth quarter of 2019 to address those inefficiencies and costs while at the same time expanding the facility to cover an aggregate of approximately 1 million square feet, which expansion was completed in June 2020. In the second quarter of 2020, the productivity levels at the new facility improved and costs began returning to typical levels, in-line with our expectations. We expect our distribution costs to continue to moderate back to more typical levels as we move through the second half of 2020, subject to the impact of COVID-19.

We operate on a fifty-two or fifty-three week period ending on the last Saturday of the calendar year. Our 2020 fiscal year will be a fifty-two week period that will end on December 26, 2020. Our fiscal 2019 was a fifty-two week period that ended on December 28, 2019.

Impacts of COVID-19

The COVID-19 pandemic has resulted and is expected to continue to result in significant economic disruption, and it has and is expected to continue to adversely affect our business. Since COVID-19 was declared a pandemic, state orders shutting down or restricting business operations to contain the spread of COVID-19 have generally exempted automotive repair and the related supply and distribution of parts as those businesses have generally been classified as critical, essential or life-sustaining. Therefore, the vast majority of our retail and wholesale customers have been and currently remain open for business. In turn, all of our U.S. facilities have also remained, and currently remain, open and operating, with modified staffing in certain locations where appropriate. We have taken actions to promote the welfare of our employees by enhancing safety protocols, including requiring administrative employees to work from home where applicable and implementing social distancing and robust sanitization practices at our facilities. We also have adopted a COVID-19 sick leave policy providing continued salary and benefits to eligible employees. We have had to adjust our operations and inventory levels as demand has fluctuated due to government-imposed restrictions being imposed and then subsequently lifted or modified across the United States.

As previously disclosed, in late March, we began experiencing softening customer demand as a result of government-imposed restrictions designed to slow the spread of COVID-19. While customer orders dropped significantly in April due to government-imposed restrictions, we saw a rapid recovery as the quarter progressed with May orders flat to prior year and June orders up significantly above prior year. However, as government-imposed restrictions vary across the United States and continue to change, it remains difficult to determine the full impact that the pandemic will have on the overall demand environment. Correspondingly, to the extent there may be fluctuations in demand as a result of the pandemic, it remains difficult to determine the full impact that the pandemic will have on various aspects of our operations, including, but not limited to, inventory levels, our ability to fulfill contractual requirements and staffing at our facilities.

We have taken and expect to continue to take proactive steps to manage our business in light of the pandemic, including but not limited to, the following:

As a result of these actions, as of July 28, 2020, we had no amounts drawn under our revolving credit facility (excluding $0.8 million of issued but undrawn letters of credit) and approximately $230 million in cash and cash equivalents. We believe that our asset-light model and level of liquidity position us well to navigate the current economic disruption associated with the ongoing COVID-19 pandemic.

During the second quarter, we estimate that we incurred $4.9 million of incremental out-of-pocket costs related to COVID-19, primarily from factoring, costs related to safety measures implemented at our sites, our COVID-19 sick leave policy, and interest on our revolving line of credit, with $0.5 million impacting gross profit, $4.2 million impacting selling, general and administrative expenses, and $0.2 million impacting interest expense.  

At the time of this filing and as we look ahead, we are unable to determine or predict the overall impact the COVID-19 pandemic will have on our customers, vendors and suppliers or our business, results of operations, liquidity or capital resources. Significant uncertainty still exists concerning the overall magnitude of the impact and the duration of the COVID-19 pandemic. As a result, we will continue to closely monitor updates regarding the spread of COVID-19 and adjust our operations according to guidelines from local, state and federal officials. In light of the foregoing, we may take further actions that alter our business operations or that we determine are in the best interests of our employees, customers, suppliers and shareholders.

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New Product Development

New product development is an important success factor for us and traditionally has been our primary vehicle for growth. We have made incremental investments to increase our new product development efforts each year since 2003 to grow our business and strengthen our relationships with our customers. The investments primarily have been in the form of increased product development resources, increased customer and end-user awareness programs, and customer service improvements. These investments historically have enabled us to provide an expanding array of new product offerings and grow revenues at levels that generally have exceeded market growth rates. As a result of these investments, we introduced 1,291 new distinct SKU’s to our customers and end users in the twenty-six weeks ended June 27, 2020, including 494 new-to-the-aftermarket SKU’s. We introduced 5,239 distinct SKU’s to our customers and end users in the fiscal year ended December 28, 2019, including 1,625 new-to-the-aftermarket SKU’s.

One area of focus has been our complex electronics program, which capitalizes on the growing number of electronic components being utilized on today’s OE platforms. New vehicles contain an average of approximately thirty-five electronic modules, with some high-end luxury vehicles containing over one hundred modules. Our complex electronics products are designed and developed in-house and tested to help ensure consistent performance, and our product portfolio is focused on further developing our leadership position in the category.

Another area of focus has been on Dorman HD Solutions™, a line of products we market for the medium and heavy duty truck sector of the automotive aftermarket industry. We believe that this sector provides many of the same opportunities for growth that the passenger car and light truck sector of the automotive aftermarket industry has provided us. Through Dorman HD Solutions™, we specialize in what formerly were “dealer exclusive” parts similar to how we have approached the passenger car and light duty truck sector. During the twenty-six weeks ended June 27, 2020, we introduced 161 SKU’s in this product line. We expect to continue to invest aggressively in the medium and heavy duty product category.

Acquisitions

Our growth is also impacted by acquisitions. For example, on January 2, 2020, we acquired Power Train Industries, Inc. (“PTI”). We may acquire businesses in the future to supplement our financial growth, increase our customer base, add to our distribution capabilities or enhance our product development resources, among other reasons.

Economic Factors

The Company’s financial results are also impacted by various economic and industry factors, including, but not limited to the number, age and condition of vehicles in operation (“VIO”) at any one time, and miles driven by those VIO.

To begin, the Company’s products are primarily purchased and installed on a subsegment of the VIO, specifically weighted towards vehicles aged eight to thirteen years old. Each year, the United States seasonally adjusted annual rate (“US SAAR”) of new vehicles purchased adds a new year to the US VIO. According to data from the Auto Care Association (“Auto Care”), the US SAAR experienced a decline from 2008 to 2011 as consumers purchased fewer new vehicles as a result of the Great Recession of 2008. We believe that the declining US SAAR during that period resulted in a follow-on decline in our primary US VIO subsegment (eight to thirteen-year-old vehicles) commencing in 2016. However, following 2011 and the impact the Great Recession of 2008, US consumers began to increase their purchases of new vehicles which over time caused the US SAAR to recover and return to more historical levels. Consequently, we expect the US VIO for vehicles aged eight to thirteen years old to recover over the next several years.

In addition, we believe that vehicle owners generally are operating their current vehicles longer than they did several years ago, performing necessary repairs and maintenance in order to keep those vehicles well maintained. According to data published by Polk, a division of IHS Automotive, the average age of VIO increased to 11.9 years as of October 2019 from 11.8 years as of October 2018 despite increasing new car sales. Additionally, the number of VIO in the United States continues to increase, growing 2% in 2019 to 290.0 million from 285.7 million in 2018. Approximately 57% of vehicles in operation are 11 years old or older. Vehicle scrappage rates have also decreased over the last several years.

The number of miles driven is another important statistic that impacts our business. According to the United States Department of Transportation, the number of miles driven has increased each year since 2011 with miles driven having increased 0.9% as of November 2019 as compared to November 2018. Generally, as vehicles are driven more miles, the more likely it is that parts will fail.

The COVID-19 pandemic in general, as well as executive orders issued by certain states in response to the COVID-19 pandemic are having an adverse impact on work-related and personal travel. In fact, according to a report cited by the Auto Care Association, data indicates that the number of miles driven daily was down 44% as of May 1, 2020 when compared to February 2, 2020. However, the low point in the number of miles driven daily was down 57% as of mid-April when compared to February 2, 2020, and the number of miles driven daily has slowly increased since that low point.

As a result, while, prior to COVID-19, we might have expected to see additional sales growth due to the VIO and mileage trends referenced above, the impact of COVID-19 may adversely affect our sales growth potential and our future results.

Brand Protection

We operate in a highly competitive market. As a result, we are continuously evaluating our approach to brand protection. For example, in the third quarter of 2019, we modified our brand protection policy, which is designed to ensure that certain products bearing the Dorman name are not advertised below certain approved pricing levels.

Discounts, Allowances and Incentives

We offer a variety of customer discounts, rebates, return allowances and other incentives. We may offer cash discounts for paying invoices in accordance with the specified discount terms of the invoice. In addition, we may offer pricing discounts based on volume purchased from us or

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other pricing discounts related to programs in accordance with a customer’s agreement. These discounts can be in the form of “off-invoice” discounts and are immediately deducted from sales at the time of sale. For those customers that choose to receive a payment on a quarterly or annual basis instead of “off-invoice,” we accrue for such payments as the related sales are made and reduce sales accordingly. Finally, rebates and discounts are provided to customers to support promotional activities such as advertising and sales force allowances, and allowances for warranty and overstock returns may also be provided.

Our customers, particularly our larger retail customers, regularly seek more favorable pricing and product return provisions, and extended payment terms when negotiating with us. We attempt to avoid or minimize these concessions as much as possible, but we have granted pricing concessions, indemnification rights, extended customer payment terms and allowed a higher level of product returns in certain cases. These concessions impact net sales as well as our profit levels and may require additional capital to finance the business. We expect our customers to continue to exert pressure on our margins.

New Customer Acquisition Costs

New customer acquisition costs refer to arrangements pursuant to which we incur change-over costs to induce a customer to switch from a competitor’s brand. In addition, change-over costs include the costs related to removing the new customer’s inventory and replacing it with our inventory, which is commonly referred to as a stock-lift. New customer acquisition costs are recorded as a reduction to revenue when incurred.

Product Warranty and Overstock Returns

Many of our products carry a lifetime limited warranty, which generally covers defects in materials or workmanship and failure to meet specifications. In addition to warranty returns, we also may permit our customers to return new, undamaged products to us within customer-specific limits in the event that they have overstocked their inventories. At the time products are sold, we accrue a liability for product warranties and overstock returns as a percentage of sales based upon estimates established using historical information on the nature, frequency and average cost of the claim and the probability of the customer return. Significant judgments and estimates must be made and used in connection with establishing the sales returns and other allowances in any accounting period. Revision to these estimates is made when necessary, based upon changes in these factors. We regularly study trends of such claims.

Foreign Currency

In fiscal 2019, approximately 79% of our products were purchased from suppliers in a variety of non-U.S. countries. The products generally are purchased through purchase orders with the purchase price specified in U.S. dollars. Accordingly, we generally do not have exposure to fluctuations in the relationship between the U.S. dollar and various foreign currencies between the time of execution of the purchase order and payment for the product. To the extent that the U.S. dollar changes in value relative to foreign currencies in the future, the price of the product for new purchase orders may change in equivalent U.S. dollars.

The largest portion of our overseas purchases comes from China. The Chinese Yuan to U.S. Dollar exchange rate has fluctuated over the past several years. Any future changes in the value of the Chinese Yuan relative to the U.S. Dollar may result in a change in the cost of products that we purchase from China. However, the cost of the products we procure is also affected by other factors including raw material availability, labor cost, and transportation costs.

Impact of Inflation

The overall impact of inflation has not resulted in a significant change in labor costs or the cost of general services utilized.

The cost of many commodities that are used in our products has fluctuated over time resulting in increases and decreases in the cost of our products. In addition, we have periodically experienced increased transportation costs as a result of higher fuel prices, capacity constraints and other factors. We will attempt to offset cost increases by passing along selling price increases to customers, using alternative suppliers and sourcing purchases from other suppliers. However, there can be no assurance that we will be successful in these efforts.

Impact of Tariffs

Effective the third quarter of 2018, the Office of the United States Trade Representative (USTR) imposed three additional tranches of tariffs on approximately $250 billion worth of Chinese imports. Tariffs ranged from 10% to 25% depending on the commodity. Effective for shipments departing China on or after May 10, 2019, the USTR modified the tranches to impose tariffs of 25% for all commodities. In addition, effective September 1, 2019, the USTR imposed a fourth tranche of tariffs on approximately $300 billion worth of Chinese imports with a tariff rate of 15%, which was reduced to 7.5% in February 2020. The tariffs enacted to date will increase the cost of many products that are manufactured for us in China. We are taking several actions to mitigate the impact of the tariffs including, but not limited to, price increases to our customers and cost concessions from our suppliers. We expect to continue mitigating the impact of tariffs in fiscal 2020 primarily through selling price increases to offset the higher tariffs incurred. Tariffs are not expected to have a material impact on our net income but are expected to increase net sales and lower our gross and operating profit margins to the extent that these additional costs are passed through to customers.

In January 2020, the U.S. and Chinese governments signed a trade deal that reduced some U.S. tariffs on Chinese goods in exchange for Chinese pledges to, among other things, purchase more of American farm, energy and manufactured goods. In addition, the USTR has granted tariff relief for certain categories of products being imported from China. We expect that we will reverse tariff-related price increases previously passed along to our customers and lose cost concessions previously received from our suppliers on future purchases as such tariffs are reduced or such other relief is granted.

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Results of Operations

The following table sets forth, for the periods indicated, the percentage of net sales represented by certain items in our Consolidated Statements of Operations:

* Amounts and percentage of sales information does not add due to rounding

Thirteen Weeks Ended June 27, 2020 Compared to Thirteen Weeks Ended June 29, 2019

Net sales decreased 8.3% to $233.2 million for the thirteen weeks ended June 27, 2020 from $254.2 million for the thirteen weeks ended June 29, 2019. The decrease in net sales was primarily driven by decreased volumes. While customer orders dropped significantly in April 2020 due to government-imposed restrictions designed to slow the spread of COVID-19, the Company saw a rapid recovery as the quarter progressed with May orders flat to prior year and June orders up significantly above prior year. The total estimated negative impact of COVID-19 on net sales was approximately 14% to 16% for the thirteen weeks ended June 27, 2020.

Gross profit margin was 33.9% of net sales for the thirteen weeks ended June 27, 2020 compared to 34.3% of net sales for the thirteen weeks ended June 29, 2019. The gross profit margin was lower primarily due to $0.5 million of incremental costs associated with COVID-19, including costs related to safety measures implemented at our sites and our COVID-19 sick leave policy.

Selling, general and administrative expenses were $61.5 million, or 26.4% of net sales, for the thirteen weeks ended June 27, 2020 compared to $59.9 million, or 23.6% of net sales, for the thirteen weeks ended June 29, 2019. Approximately 220 bps of the increase in selling, general and administrative expenses as a percentage of net sales was due to decreased leverage resulting from the $20.9 million decline in net sales compared to the second quarter of 2019. Selling, general and administrative expenses as a percentage of net sales for the thirteen weeks ended March 27, 2020 also increased 180 bps due to $4.2 million of incremental out-of-pocket costs directly related to COVID-19, primarily from factoring costs, costs related to safety measures at our sites, and our COVID-19 sick leave policy. These increases in selling, general and administrative expenses as a percentage of net sales were offset by cost savings primarily from productivity improvements in our Portland, TN distribution facility, as well as reduced travel expenses.

Our effective tax rate was 19.9% for the thirteen weeks ended June 27, 2020 compared to 21.1% for the thirteen weeks ended June 29, 2019. The decrease in the effective tax rate is primarily related to an equity method investment converted to a consolidated subsidiary, which occurred during the thirteen weeks ended March 28, 2020.

Twenty-Six Weeks Ended June 27, 2020 Compared to Twenty-Six Weeks Ended June 29, 2019

Net sales decreased 1.4% to $490.9 million for the twenty-six weeks ended June 27, 2020 from $498.0 million for the twenty-six weeks ended June 29, 2019. The decrease in net sales was primarily driven by decreased volumes due to the impacts of government-imposed restrictions designed to slow the spread of COVID-19.

Gross profit margin was 33.4% of net sales for the twenty-six weeks ended June 27, 2020 compared to 35.1% of net sales for the twenty-six weeks ended June 29, 2019. The gross profit margin was lower primarily due to incremental costs associated with COVID-19, including costs related to safety measures implemented at our sites and our COVID-19 sick leave policy, and higher customer provisions in the first quarter of 2020 compared to 2019.

Selling, general and administrative expenses were $121.3 million, or 24.7% of net sales, for the twenty-six weeks ended June 27, 2020 compared to $117.7 million, or 23.6% of net sales, for the twenty-six weeks ended June 29, 2019. The increase in selling, general and administrative expense as a percentage of net sales during the period was primarily due to the impact of COVID-19, including incremental out-of-pocket costs directly related to COVID-19, primarily factoring costs, costs related to safety measures at our sites, and our COVID-19 sick leave policy (90 bps). Partially offsetting these costs were cost savings primarily from productivity improvements in our Portland distribution facility, as well as reduced travel expenses.

Other Income, net was $2.3 million for the twenty-six weeks ended June 27, 2020 which includes a gain of $2.5 million recognized as the difference between the carrying value of our previously held equity method investment in PTI and the implied fair value when we acquired the remaining equity interest in PTI in January 2020 that we did not already own.

Our effective tax rate was 18.6% for the twenty-six weeks ended June 27, 2020 compared to 21.2% for the twenty-six weeks ended June 29, 2019. The decrease in the effective tax rate is primarily a result of a non-taxable gain and discrete items related to the write-off of a deferred tax liability, both of which were associated with an equity method investment converted to a consolidated subsidiary upon acquisition of the controlling interest, and a foreign tax credit carry back claim from a prior period.

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Liquidity and Capital Resources

Historically, our primary sources of liquidity have been our invested cash and the cash flow we generate from our operations, including accounts receivable sales programs provided by our customers. Cash and cash equivalents at June 27, 2020 increased to $359.6 million from $68.4 million at December 28, 2019. The increase primarily related to our efforts to enhance our liquidity in light of COVID-19, which efforts included our March 2020 drawdown on our revolving credit facility and additional sales of accounts receivable. Working capital was $561.1 million at June 27, 2020 compared to $534.1 million at December 28, 2019. Shareholders’ equity was $807.1 million at June 27, 2020 compared to $773.6 million at December 28, 2019. Based on our current operating plan, we believe that our sources of available capital are adequate to meet our ongoing cash needs for at least the next twelve months. However, our liquidity could be negatively affected by extending payment terms to customers, a decrease in demand for our products, the outcome of contingencies or other factors, including the impact of the COVID-19 pandemic. See Note 8, “Commitments and Contingencies”, in the accompanying consolidated financial statements for additional information regarding commitments and contingencies that may affect our liquidity.

Tariffs

Tariffs also increase our uses of cash since we pay for the tariffs upon the arrival of our goods in the United States but collect the cash on any passthrough price increases from our customers on a delayed basis according to the payment terms negotiated with our customers.

Payment Terms and Accounts Receivable Sales Programs

Over the past several years we have continued to extend payment terms to certain customers as a result of customer requests and market demands. These extended terms have resulted in increased accounts receivable levels and significant uses of cash flows. We participate in accounts receivable sales programs with several customers that allow us to sell our accounts receivable to financial institutions to offset the negative cash flow impact of these payment terms extensions. However, any sales of accounts receivable through these programs ultimately result in us receiving a lesser amount of cash upfront than if we collected those accounts receivable ourselves in due course. Moreover, prior to the London Inter-Bank Offered Rate (“LIBOR”) being phased out in 2021, to the extent that any of these accounts receivable sales programs bear interest rates tied to LIBOR, as LIBOR rates increase our cost to sell our receivables also increases. See Item 3. Quantitative and Qualitative Disclosures about Market Risk for more information. Further extensions of customer payment terms will result in additional uses of cash flow or increased costs associated with the sales of accounts receivable.

During the twenty-six weeks ended June 27, 2020 and June 29, 2019, we sold approximately $496.4 million and $355.1 million of accounts receivable, respectively, under these programs. The increase in sales of accounts receivable was primarily in connection with our efforts to enhance our liquidity in light of COVID-19. We have the ability to sell significantly more accounts receivable under these programs if the needs of the business warrant, although, as we continue to monitor the impacts of COVID-19 on our business, we may choose to return to more historical levels of factoring if we believe we have sufficient liquidity to do so.

Credit Agreement

In December 2017, we entered into a credit agreement that will expire in December 2022. The credit agreement provides for an initial revolving credit facility of $100.0 million. Borrowings under the credit agreement are on an unsecured basis. At the Company’s election, the interest rate applicable to revolving credit loans under the credit agreement will be either (1) the Prime Rate as announced by Wells Fargo from time to time, (2) an Adjusted LIBOR Market Index Rate as measured by the LIBOR Market Index Rate plus the Applicable Margin which fluctuates between 65 basis points and 125 basis points based on the ratio of the Company’s Consolidated Funded Debt to Consolidated EBITDA, or (3) an Adjusted LIBOR Rate as measured by the LIBOR Rate plus the Applicable Margin which fluctuates between 65 basis points and 125 basis points based on the ratio of the Company’s Consolidated Funded Debt to Consolidated EBITDA. The interest rate at June 27, 2020 was LIBOR plus 65 basis points (0.83%). During the occurrence and continuance of an event of default, all outstanding revolving credit loans will bear interest at a rate per annum equal to 2.00% in excess of the greater of (1) the Prime Rate or (2) the Adjusted LIBOR Market Index Rate then applicable. As of June 27, 2020, we were not in default in respect to the credit agreement. The credit agreement also contains covenants, including those related to the ratio of certain consolidated fixed charges to consolidated EBITDA, capital expenditures, and share repurchases, each as defined by the credit agreement. The credit agreement also requires us to pay an unused fee of 0.10% on the average daily unused portion of the facility, provided the unused fee will not be charged on the first $30 million of the revolving credit facility. In March 2020, in an effort to enhance our liquidity in light of COVID-19, we drew down on the revolving credit facility in the amount of $99.0 million. As of June 27, 2020, approximately $99.8 million was outstanding under that facility, inclusive of issued but undrawn letters of credit in the amount of $0.8 million that were issued to secure ordinary course of business transactions. Net of these letters of credit and our borrowings, we had approximately $0.2 million available under the facility at June 27, 2020.

On June 29, 2020, we repaid $99.0 million of outstanding borrowings under the revolving credit facility. Following such repayment, as of June 29, 2020, we had $99.2 million of availability under our revolving credit facility, after taking into account issued but undrawn letters of credit in the amount of $0.8 million.

In addition to the foregoing, and, subject to certain requirements, the credit agreement gives us the ability to request increases in revolving credit commitments of up to an incremental $100.0 million. In light of COVID-19, we may, if market factors permit and business needs dictate, decide to request such an increase in commitments.

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Cash Flows

The following summarizes the activities included in the Consolidated Statements of Cash Flows: