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POOL CORP - Quarter Report: 2010 June (Form 10-Q)

poolq2201010q.htm



 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q

x    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2010
 
or
 
o     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: 0-26640
 
 
POOL CORPORATION
(Exact name of Registrant as specified in its charter)
     
Delaware
 
36-3943363
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
     
109 Northpark Boulevard,
Covington, Louisiana
 
 
70433-5001
(Address of principal executive offices)
 
(Zip Code)
 
985-892-5521
(Registrant's telephone number, including area code)
 
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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulations S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES x    NO ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer x                                                                                                                           Accelerated filer ¨
 
Non-accelerated filer ¨ (Do not check if a smaller reporting company)                                                                        Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).     YES ¨    NO x

At July 23, 2010, there were 49,576,718 outstanding shares of the registrant's common stock, $.001 par value per share.
 

 
 

 

POOL CORPORATION
Form 10-Q
For the Quarter Ended June 30, 2010

INDEX

PART I.  FINANCIAL INFORMATION
 
     
 
Item 1.  Financial Statements (Unaudited)
 
       
   
1
   
2
   
3
   
4
     
 
8
     
 
20
     
 
20
   
PART II.  OTHER INFORMATION
 
     
  Item 1.  Legal Proceedings  21
     
 
21
     
 
25
     
 
25
   
26
   
27


 

 
 

 

PART I.  FINANCIAL INFORMATION
 
Item 1.  Financial Statements
 
POOL CORPORATION
Consolidated Statements of Income
(Unaudited)
(In thousands, except per share data)
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
 
   2010
 
2009
 
   2010
 
 2009
 
                       
Net sales
$
647,467
 
$
602,082
 
$
917,300
 
$
878,708
 
Cost of sales
 
456,933
   
424,014
   
650,474
   
619,447
 
Gross profit
 
190,534
   
178,068
   
266,826
   
259,261
 
Selling and administrative expenses
 
101,665
   
96,348
   
185,845
   
181,187
 
Operating income
 
88,869
   
81,720
   
80,981
   
78,074
 
Interest expense, net
 
1,928
   
3,150
   
4,282
   
6,477
 
Income before income taxes and equity earnings (losses)
 
86,941
   
78,570
   
76,699
   
71,597
 
Provision for income taxes
 
34,167
   
30,878
   
30,142
   
28,138
 
Equity earnings (losses) in unconsolidated investments, net
 
(4
)
 
674
   
102
   
(1,329
)
Net income
$
52,770
 
$
48,366
 
$
46,659
 
$
42,130
 
                         
Earnings per share:
                       
Basic
$
1.07
 
$
1.00
 
$
0.95
 
$
0.87
 
Diluted
$
1.05
 
$
0.99
 
$
0.93
 
$
0.87
 
Weighted average shares outstanding:
                       
Basic
 
49,513
   
48,536
   
49,355
   
48,412
 
Diluted
 
50,445
   
48,844
   
50,169
   
48,654
 
                         
Cash dividends declared per common share
$
0.13
 
$
0.13
 
$
0.26
 
$
0.26
 

The accompanying Notes are an integral part of the Consolidated Financial Statements.
 

 
1

 

POOL CORPORATION
Consolidated Balance Sheets
(In thousands, except share data)
 
   
June 30,
   
June 30,
   
December 31,
 
   
2010
   
2009
 
 
2009 (1)
 
   
(Unaudited)
   
(Unaudited)
       
Assets
                 
Current assets:
                 
Cash and cash equivalents
$
36,985
 
$
41,727
 
$
15,843
 
Receivables, net
 
238,638
   
50,981
   
96,364
 
Receivables pledged under receivables facility
 
   
182,307
   
 
Product inventories, net
 
331,537
   
325,198
   
355,528
 
Prepaid expenses and other current assets
 
8,001
   
8,219
   
12,901
 
Deferred income taxes
 
10,681
   
11,908
   
10,681
 
Total current assets
 
625,842
   
620,340
   
491,317
 
                   
Property and equipment, net
 
32,162
   
34,163
   
31,432
 
Goodwill
 
178,087
   
170,601
   
176,923
 
Other intangible assets, net
 
13,861
   
12,471
   
13,917
 
Equity interest investments
 
1,083
   
28,886
   
1,006
 
Other assets, net
 
28,836
   
28,438
   
28,504
 
Total assets
$
879,871
 
$
894,899
 
$
743,099
 
                   
Liabilities and stockholders’ equity
                 
Current liabilities:
                 
Accounts payable
$
221,374
 
$
194,004
 
$
178,391
 
Accrued expenses and other current liabilities
 
70,816
   
61,355
   
33,886
 
Short-term financing
 
   
25,000
   
 
Current portion of long-term debt and other long-term liabilities
 
24,220
   
27,114
   
48,236
 
Total current liabilities
 
316,410
   
307,473
   
260,513
 
                   
Deferred income taxes
 
22,132
   
20,079
   
21,920
 
Long-term debt
 
242,131
   
282,015
   
200,700
 
Other long-term liabilities
 
7,747
   
6,145
   
7,779
 
Total liabilities
 
588,420
   
615,712
   
490,912
 
                   
Stockholders’ equity:
                 
Common stock, $.001 par value; 100,000,000 shares authorized; 49,548,424, 48,650,531 and 48,991,729 shares issued and outstanding at June 30, 2010, June 30, 2009 and
    December 31, 2009, respectively
 
50
   
49
   
49
 
Additional paid-in capital
 
211,091
   
194,604
   
202,784
 
Retained earnings
 
79,395
   
83,875
   
47,128
 
Accumulated other comprehensive income
 
915
   
659
   
2,226
 
Total stockholders’ equity
 
291,451
   
279,187
   
252,187
 
Total liabilities and stockholders’ equity
$
879,871
 
$
894,899
 
$
743,099
 

         (1)  Derived from audited financial statements.

The accompanying Notes are an integral part of the Consolidated Financial Statements.

 
2

 

POOL CORPORATION
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
 
 
Six Months Ended
 
 
June 30,
 
 
2010
   
2009
 
               
Operating activities
             
Net income
$
46,659
   
$
42,130
 
Adjustments to reconcile net income to net cash provided by operating activities:
             
Depreciation
 
4,469
     
4,492
 
Amortization
 
1,190
     
1,307
 
Share-based compensation
 
4,034
     
2,935
 
Excess tax benefits from share-based compensation
 
(1,102
)
   
(607
)
Equity (earnings) losses in unconsolidated investments
 
(102
)
   
2,230
 
Other
 
(3,914
)
   
(4,400
)
Changes in operating assets and liabilities, net of effects of acquisitions:
             
Receivables
 
(132,960
)
   
(115,166
)
Product inventories
 
29,410
     
80,414
 
Accounts payable
 
37,793
     
20,316
 
Other current assets and liabilities
 
43,238
     
1,960
 
Net cash provided by operating activities
 
28,715
     
35,611
 
               
Investing activities
             
Acquisition of businesses, net of cash acquired
 
(4,872
)
   
(381
)
Purchase of property and equipment, net of sale proceeds
 
(5,084
)
   
(5,866
)
Net cash used in investing activities
 
(9,956
)
   
(6,247
)
               
Financing activities
             
Proceeds from revolving line of credit
 
216,539
     
178,237
 
Payments on revolving line of credit
 
(177,637
)
   
(173,222
)
Proceeds from asset-backed financing
 
     
42,000
 
Payments on asset-backed financing
 
     
(37,792
)
Payments on long-term debt and other long-term liabilities
 
(24,118
)
   
(3,076
)
Payments of deferred acquisition consideration
 
(500
)
   
 
Payments of deferred financing costs
 
(145
)
   
(305
)
Excess tax benefits from share-based compensation
 
1,102
     
607
 
Proceeds from stock issued under share-based compensation plans
 
3,172
     
1,399
 
Payments of cash dividends
 
(12,858
)
   
(12,601
)
Purchases of treasury stock
 
(1,534
)
   
(59
Net cash provided by (used in) financing activities
 
4,021
     
(4,812
)
Effect of exchange rate changes on cash
 
(1,638
)
   
1,413
 
Change in cash and cash equivalents
 
21,142
     
25,965
 
Cash and cash equivalents at beginning of period
 
15,843
     
15,762
 
Cash and cash equivalents at end of period
$
36,985
   
$
41,727
 
 
The accompanying Notes are an integral part of the Consolidated Financial Statements.
 

 
3

 
 
 
POOL CORPORATION
Notes to Consolidated Financial Statements
(Unaudited)

Note 1 – Summary of Significant Accounting Policies

Pool Corporation (the Company, which may be referred to as POOL, we, us or our) prepared the unaudited interim Consolidated Financial Statements following U.S. generally accepted accounting principles (GAAP) and the requirements of the Securities and Exchange Commission (SEC) for interim financial information. As permitted under those rules, certain footnotes and other financial information required by GAAP for complete financial statements have been condensed or omitted.  The Consolidated Financial Statements include all normal and recurring adjustments that are necessary for a fair presentation of our financial position and operating results including the elimination of all significant intercompany accounts and transactions among our wholly owned subsidiaries.

A description of our significant accounting policies is included in our 2009 Annual Report on Form 10-K/A. The Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and accompanying notes in our Annual Report.  The results for the three and six month periods ended June 30, 2010 are not necessarily indicative of the results to be expected for the twelve months ending December 31, 2010.

Equity Method Investments

Prior to January 2010, we held a 38% equity investment in Latham Acquisition Corporation (LAC), which we accounted for using the equity method of accounting.  In December 2009, LAC filed for bankruptcy.  LAC’s Plan of Reorganization was approved by the United States Bankruptcy Court for the District of Delaware in January 2010, allowing it to emerge from bankruptcy.  As of the date of the approval, we no longer have an equity interest in LAC and did not recognize any impact related to LAC’s first or second quarter 2010 results.

Allowance for Doubtful Accounts

As of June 30, 2010, our greater than 60 days past due receivables category declined by over 250 basis points as a percentage of total receivables year over year.  Along with reductions in our other past due receivables aging categories for the same period, our total current receivables increased by 550 basis points as a percentage of total receivables.  Based on this significant improvement in our accounts receivable aging, we reduced our estimated allowance for doubtful accounts in the second quarter of 2010.  This adjustment resulted in a $1.3 million decrease in bad debt expense compared to the second quarter of 2009.


 
4

 

Note 2 – Earnings Per Share

We calculate basic earnings per share (EPS) by dividing net income by the weighted average number of common shares outstanding.  Diluted EPS includes the dilutive effects of stock option awards.

The table below presents the reconciliation of basic and diluted weighted average number of shares outstanding and the related EPS calculation (in thousands, except EPS):

 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
 
   2010
 
   2009
 
   2010
 
   2009
 
Net income
$
52,770
 
$
48,366
 
$
46,659
 
$
42,130
 
                         
Weighted average common shares outstanding:
                       
 
Basic
 
49,513
   
48,536
   
49,355
   
48,412
 
 
Effect of dilutive securities:
                       
   
Stock options
 
927
   
304
   
809
   
238
 
   
Employee stock purchase plan
 
5
   
4
   
5
   
4
 
 
Diluted
 
50,445
   
48,844
   
50,169
   
48,654
 
                           
 
Basic earnings per share
$
1.07
 
$
1.00
 
$
0.95
 
$
0.87
 
 
Diluted earnings per share
$
1.05
 
$
0.99
 
$
0.93
 
$
0.87
 

The weighted average diluted shares outstanding for both the three and six months ended June 30, 2010 exclude stock options to purchase 1,451,858 shares and 1,458,858 shares, respectively, because these options have exercise prices that were higher than the average market price of our common stock and including them in the calculation would have an anti-dilutive effect on earnings per share.  In 2009, the weighted average diluted shares outstanding for both the three and six months ended June 30, 2009 excluded stock options to purchase 3,382,543 shares for the same reason.


 
5

 

Note 3 – Comprehensive Income

The table below presents the components of comprehensive income (in thousands):

 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
 
    2010
 
    2009
 
    2010
 
    2009
 
Net income
$
52,770
 
$
48,366
 
$
46,659
 
$
42,130
 
Foreign currency translation adjustments
 
(1,247
)
 
2,367
   
(1,638
)
 
1,413
 
Unrealized gains (losses) on interest rate swaps (1)
 
235
   
953
   
327
   
1,632
 
Comprehensive income
$
51,758
 
$
51,686
 
$
45,348
 
$
45,175
 
      
       (1)  Amounts are shown net of tax.
 
The table below presents the components of and changes in Accumulated other comprehensive income as of and for the six month period ended June 30, 2010 (in thousands):

  
 
Foreign Currency Translation
Adjustments
   
Unrealized Gains (Losses) on Interest Rate Swaps (1)
   
Total
 
Balance at December 31, 2009
$
5,255
 
$
(3,029
)
$
2,226
 
Net change
 
(1,638
)
 
327
   
(1,311
)
Balance at June 30, 2010
$
3,617
 
$
(2,702
)
$
915
 

             (1)  Amounts are shown net of tax.

Note 4 – Acquisitions

In April 2010, we acquired Les Produits de Piscine Metrinox Inc. (Metrinox), a swimming pool products distributor with two sales centers in Quebec, Canada.  The total consideration for our acquisition of Metrinox includes up to $1.4 million of deferred and contingent consideration payable between July 2010 and March 2012.  We have completed the initial acquisition accounting for Metrinox subject to adjustments in accordance with the terms of the purchase agreement during the measurement period.  This acquisition did not have a material impact on our financial position or results of operations.

Note 5 – Fair Value Measurements and Interest Rate Swaps

Accounting Standards Codification 820, Fair Value Measurements and Disclosures, provides a framework for measuring fair value and establishes a fair value hierarchy that prioritizes the inputs used to measure fair value, giving the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 inputs), the next priority to observable market based inputs or unobservable inputs that are corroborated by market data (Level 2 inputs) and the lowest priority to unobservable inputs (Level 3 inputs).

In measuring the fair value of our assets and liabilities, we use significant other observable market data or assumptions (Level 2 inputs) that we believe market participants would use in pricing an asset or liability, including assumptions about risk when appropriate.  Our assets and liabilities that are measured at fair value on a recurring basis include the unrealized gain or loss on our interest rate swaps.

We have three interest rate swap agreements currently in effect that reduce our exposure to fluctuations in interest rates on our Floating Rate Senior Notes (the Notes), our variable rate Term Loan under our Credit Facility and our $240.0 million five-year revolving credit facility (the Revolver), which is part of our Credit Facility.
 

 
 
6

 
We have an interest rate swap agreement that converts the variable interest rate on the Notes to a fixed rate of 5.088% on the initial notional amount of $100.0 million, which decreased to a notional amount of $50.0 million in February 2010.  This swap agreement terminates on February 12, 2012.

We have an interest rate swap agreement that converts the variable interest rate on the Term Loan to a fixed rate of 2.4% on the initial notional amount, which decreases as payments are made on the Term Loan until maturity on December 20, 2010.

Effective January 27, 2010, the interest rate swap agreement on our Revolver converts the Revolver’s variable interest rate to a fixed rate of 1.725% on a notional amount of $50.0 million.  This swap agreement terminates on January 27, 2012.

We recognize any differences between the variable interest rate payments and the fixed interest rate settlements from our swap counterparties as an adjustment to interest expense over the life of the swaps.  We have designated these swaps as cash flow hedges and we record the changes in the fair value of the swaps to Accumulated other comprehensive income (loss).  Since inception, we have not recognized any gains or losses on these swaps through income and there has been no effect on income from hedge ineffectiveness.  The table below presents the fair value of our swap agreements as of June 30, 2010 (in thousands):

 
Balance Sheet Line Item
   
Unrealized Losses
 
Accrued expenses and other current liabilities
 
$
(4,449
)

Failure of our swap counterparties would result in the loss of any potential benefit to us under our swap agreements.  In this case, we would still be obligated to pay the variable interest payments underlying our debt agreements.  Additionally, failure of our swap counterparties would not eliminate our obligation to continue to make payments under our existing swap agreements if we continue to be in a net pay position.

As discussed in Note 1 to the Consolidated Financial Statements in our 2009 Annual Report on Form 10-K/A, the carrying amount of long-term debt approximates fair value as it bears interest at variable rates.

 
 
7

 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
You should read the following discussion in conjunction with Management's Discussion and Analysis included in our 2009 Annual Report on Form 10-K/A.  For a discussion of our base business calculations, see page 11 under the RESULTS OF OPERATIONS section.

OVERVIEW

Financial Results

As anticipated, 2010 is proving to be a pivotal transition year for our industry and our business.  We believe our second quarter results provide strong evidence that the downturn in pool construction and pool refurbishment activities over the past several years has subsided.  Base business sales growth for the quarter includes increases in almost every major product category and most markets, with growth in certain discretionary products reflecting a modest recovery in refurbishment and replacement activity.

Net sales for the quarter ended June 30, 2010 increased 8% over the second quarter of 2009.  Base business sales were up 5% due to higher discretionary purchases resulting from improved market trends, expanded product offerings including replacement parts and the benefit of favorable weather conditions compared to the second quarter of 2009 despite unfavorable conditions in the second quarter of 2010 on the West Coast.  We realized this increase despite approximately $8.0 million of one-time sales in the second quarter of 2009 driven by regulatory changes governing pool and spa safety, as well as continued but moderating weakness in irrigation construction markets.

Gross profit for the second quarter of 2010 increased 7% compared to the same 2009 period.  Gross profit as a percentage of net sales (gross margin) declined 20 basis points to 29.4% in the second quarter of 2010 due primarily to the ongoing competitive pricing environment and some favorable impact to gross margin in the second quarter of 2009 related to inventory purchases we made ahead of vendor price increases in the second half of 2008.

Selling and administrative expenses (operating expenses) increased 6% in the second quarter of 2010 including the impact from recent acquisitions.  Base business operating expenses were up 2% compared to the second quarter of 2009 due primarily to a $4.7 million increase in incentive costs, while non-incentive related expenses were down 3% including a $1.3 million decline in bad debt expense.

Operating income was $88.9 million in the second quarter of 2010, up from $81.7 million in the comparable 2009 period.  Interest expense declined 39% compared to the second quarter of 2009 due primarily to an $86.4 million decrease in average debt outstanding.

We no longer have an equity interest in Latham Acquisition Corporation (LAC), which added $0.7 million in equity earnings to the second quarter of 2009.

Net income increased 9% to $52.8 million in the second quarter of 2010 compared to the second quarter of 2009.  Earnings per share for the second quarter of 2010 was $1.05 per diluted share compared to $0.99 per diluted share for the same period in 2009.

Financial Position and Liquidity

Total net receivables increased 2% to $238.6 million at June 30, 2010 from $233.3 million at June 30, 2009.  Excluding recent acquisitions, total net receivables declined 1% despite the increase in sales.  This decline reflects significant improvements in customer collections, which is evidenced by a year over year decrease of 550 basis points in our total past due receivables balance as a percentage of total receivables.  Our allowance for doubtful accounts balance was $8.3 million at June 30, 2010, a decrease of $4.2 million compared to June 30, 2009 and $3.1 million compared to December 31, 2009.  These decreases reflect both write-offs of certain fully reserved customer accounts and our reduction of the allowance in the second quarter of 2010 based on our improved receivables aging trends.  Days sales outstanding (DSO) decreased between periods to 33.0 days at June 30, 2010 compared to 36.1 days at June 30, 2009.

 
8

 

Our inventory levels increased 2% to $331.5 million as of June 30, 2010 compared to $325.2 million as of June 30, 2009, but decreased 2% excluding recent acquisitions.  Our inventory turns, as calculated on a trailing twelve month basis, increased to 3.2 times at June 30, 2010 from 3.0 times at June 30, 2009.

Total debt outstanding was $266.1 million at June 30, 2010, down $67.9 million compared to June 30, 2009.

Current Trends and Outlook

The adverse housing and economic trends over the past several years had a significant impact our industry, driving close to an 80% reduction in new pool construction in the Unites States compared to peak levels in 2005 and also contributing to more than a 30% decline in replacement and refurbishment activities.  While general external market factors including consumer confidence, employment, consumer financing and economic growth remain at depressed levels, we believe our base business sales growth in the first six months of 2010 indicates that the declines in pool construction and pool refurbishment activities have subsided in most markets.

For the full year, we anticipate that the industry will realize a modest recovery in replacement and refurbishment activity and flat to modest growth in new pool construction.  The maintenance and repair segments represented by the retail, service and maintenance customers should remain stable as they have throughout the past several years.  We also believe the weakness in irrigation markets will further moderate based on easier sales comparisons in the second half of 2010.  Overall, we expect that our sales growth will be in the low to mid-single digit percentages for the balance of 2010.

Given the intensely competitive pricing environment, we believe our gross margins will continue to be pressured and we expect to realize modest erosion compared to gross margins in the second half of 2009.  While we continue to drive targeted expense reductions, we expect a slight increase in base business expenses in the third quarter due to higher variable expenses including incentive costs.

Based on our year to date results through the seasonally critical second quarter and our current expectations for the remainder of 2010, we have increased the bottom end of our initial projected earnings guidance range.  Our narrowed full year 2010 earnings guidance is now a projected range of $1.10 to $1.15 per diluted share from our previous guidance of $1.00 to $1.15 per diluted share.  Our goal is for cash provided by operations to exceed net income for fiscal 2010.  However, cash provided by operations will be comparatively lower than 2009 because we will not realize the same level of improvements from our ongoing working capital management initiatives.

The forward-looking statements in this Current Trends and Outlook section are subject to significant risks and uncertainties, including changes in the economy and the housing market, the sensitivity of our business to weather conditions, our ability to maintain favorable relationships with suppliers and manufacturers, competition from other leisure product alternatives and mass merchants, and other risks detailed in Part II - Item 1A “Risk Factors” and our “Cautionary Statement for Purpose of the ‘Safe Harbor’ Provisions of the Private Securities Litigation Reform Act of 1995”.

 
 
9

 

RESULTS OF OPERATIONS

As of June 30, 2010, we conducted operations through 290 sales centers in North America and Europe.

The following table presents information derived from the Consolidated Statements of Income expressed as a percentage of net sales.

 
Three Months Ended
 
Six Months Ended
 
June 30,
 
June 30,
 
2010
 
 2009
 
2010
 
  2009 
Net sales
100.0
%
 
100.0
%
 
100.0
%
 
100.0
%
Cost of sales
70.6
   
70.4
   
70.9
   
70.5
 
 
Gross profit
29.4
   
29.6
   
29.1
   
29.5
 
Operating expenses
15.7
   
16.0
   
20.3
   
20.6
 
 
Operating income
13.7
   
13.6
   
8.8
   
8.9
 
Interest expense, net
0.3
   
0.5
   
0.5
   
0.7
 
Income before income taxes and equity earnings (losses)
13.4
%
 
13.0
%
 
8.4
%
 
8.1
%

Note:  Due to rounding, percentages may not add up to income before income taxes and equity earnings (losses).

Our discussion of consolidated operating results includes the operating results from acquisitions in 2010, 2009 and 2008.  We have included the results of operations in our consolidated results since the respective acquisition dates.

Three Months Ended June 30, 2010 Compared to Three Months Ended June 30, 2009

The following table breaks out our consolidated results into the base business component and the excluded components (sales centers excluded from base business):

(Unaudited)
 
Base Business
Excluded
 
Total
(In thousands)
 
Three Months Ended
Three Months Ended
 
Three Months Ended
   
June 30,
June 30,
 
June 30,
   
2010
 
2009
 
   2010
 
   2009
   
  2010
 
   2009
 
Net sales
$
624,309
$
597,150
$
23,158
$
4,932
 
$
647,467
$
602,082
 
                             
Gross profit
 
184,526
 
176,852
 
6,008
 
1,216
   
190,534
 
178,068
 
Gross margin
 
29.6
%
29.6
%
25.9
%
24.7
%
 
29.4
%
29.6
%
                             
Operating expenses
 
97,504
 
95,488
 
4,161
 
860
   
101,665
 
96,348
 
Expenses as a % of net sales
 
15.6
%
16.0
%
18.0
%
17.4
%
 
15.7
%
16.0
%
                             
Operating income
 
87,022
 
81,364
 
1,847
 
356
   
88,869
 
81,720
 
Operating margin
 
13.9
%
13.6
%
8.0
%
7.2
%
 
13.7
%
13.6
%


 
10

 

We have excluded the following acquisitions from base business for the periods identified:

 
 
Acquired
 
 
Acquisition
Date
 
Net
Sales Centers Acquired
 
 
Period
Excluded
Les Produits de Piscine Metrinox Inc. (Metrinox)
 
April 2010
 
2
 
April–June 2010
General Pool & Spa Supply (GPS) (1)
 
October 2009
 
7
 
April–June 2010

(1)    We acquired 10 GPS sales centers and have consolidated 3 of these with existing sales centers.

We exclude the following sales centers from base business results for a period of 15 months (parenthetical numbers for each category indicate the number of sales centers excluded as of June 30, 2010):

·
acquired sales centers (see table above);
·
existing sales centers consolidated with acquired sales centers (3);
·
closed sales centers (1);
·
consolidated sales centers in cases where we do not expect to maintain the majority of the existing business (0); and
·
sales centers opened in new markets (1).

We generally allocate corporate overhead expenses to excluded sales centers on the basis of their net sales as a percentage of total net sales.  After 15 months of operations, we include acquired, consolidated and new market sales centers in the base business calculation including the comparative prior year period.

The table below summarizes the changes in our sales centers in the second quarter of 2010:

March 31, 2010
288
 
  Acquired
2
 
  New locations (1)
2
 
  Consolidated
(2
)
June 30, 2010
290
 

(1)
Includes one new sales center location in Mexico and one existing centralized shipping location warehouse converted into a sales center location.

Net Sales

   
Three Months Ended
June 30,
 
(in millions)
 
     2010
 
    2009
   
    Change
 
Net sales
 
$
647.5
 
$
602.1
 
$
45.4
 
8
%

Base business sales for the second quarter of 2010 were up approximately 5%, including an increase of over 5% on the swimming pool side of the business due to the following (listed in order of estimated magnitude):

·  
higher sales of discretionary products, reflecting improved consumer spending trends that drove a modest recovery in pool refurbishment and replacement activity compared to 2009;
·  
market share gains in a number of our market segments; and
·  
favorable weather conditions overall compared to the second quarter of 2009, particularly the record high temperatures in the Northeast and Canada where we realized double digit sales growth.


 
11

 

The overall increase in sales due to both base business sales growth and sales related to our recent acquisitions was partially offset by the following:

·  
approximately $8.0 million in sales in the second quarter of 2009 for new drains and related safety products driven by the December 2008 effective date of the Virginia Graeme Baker Pool and Spa Safety Act (VGB Act);
·  
sales declines in California and other West Coast markets due primarily to the impact of unfavorable weather conditions during the second quarter of 2010; and
·  
an 8% decline in base business sales for the irrigation side of our business due to continued weakness in irrigation construction markets.

Gross Profit

   
Three Months Ended
June 30,
 
(in millions)
 
     2010
 
    2009
   
    Change
 
Gross profit
 
$
190.5
 
$
178.1
 
$
12.4
 
7
%
Gross margin
   
29.4
%
 
29.6
%
       

Gross margin decreased 20 basis points to 29.4% compared to the second quarter of 2009, reflecting the following:

·  
pricing pressures due to the intensely competitive market environment;
·  
the lagging positive impact on gross margins in the second quarter of 2009 from our pre-price increase inventory buys in the second half of 2008; and
·  
lower gross margins realized by our recent acquisitions.

Favorable impacts that partially offset these negative pressures on gross margin included higher sales growth for higher margin items, particularly Pool Corporation branded products, and improved pricing and purchasing discipline.

Operating Expenses

   
Three Months Ended
June 30,
 
(in millions)
 
     2010
        2009    
    Change
 
Operating expenses
 
$
101.7
 
$
96.4
 
$
5.3
 
6
%
Operating expenses as a % of net sales
   
15.7
%
 
16.0
%
         

Total operating expenses increased 6% compared to the second quarter of 2009, reflecting expenses related to our recent acquisitions and a 2% increase in base business operating expenses.  The rise in base business expenses was largely due to a $4.7 million increase in incentive costs, while non-incentive related expenses were down 3% as a result of actions taken to reduce costs throughout the organization and a $1.3 million decline in bad debt expense.

We did realize some increases in certain other variable expenses such as overtime, temporary labor and freight costs as a result of the increase in base business sales.  Overall, total operating expenses as a percentage of net sales decreased between periods.  

Interest Expense

Interest expense decreased 39% between periods due primarily to a 24% lower average outstanding debt balance compared to the second quarter of 2009.  The weighted average effective interest rate also decreased to 2.8% in the second quarter of 2010 from 3.1% in the same period in 2009.


 
12

 

Income Taxes

The increase in the provision for income taxes for the second quarter of 2010 is directly proportional to the increase in income before income taxes and equity earnings (losses), as our effective income tax rate was 39.30% for both the three months ended June 30, 2010 and June 30, 2009.

Net Income and Earnings Per Share

Net income increased 9% to $52.8 million in the second quarter of 2010, while earnings per share increased to $1.05 per diluted share compared to $0.99 per diluted share for the second quarter of 2009.  Earnings per share for the second quarter of 2010 included an accretive impact of approximately $0.02 per diluted share from our recent acquisitions, while diluted earnings per share for the second quarter of 2009 benefitted from an accretive impact of approximately $0.015 related to our former equity investment in LAC.

Six Months Ended June 30, 2010 Compared to Six Months Ended June 30, 2009

The following table breaks out our consolidated results into the base business component and the excluded components (sales centers excluded from base business):

(Unaudited)
 
Base Business
Excluded
 
Total
(In thousands)
 
Six Months Ended
Six Months Ended
 
Six Months Ended
   
June 30,
June 30,
 
June 30,
   
2010
 
    2009
 
   2010
 
       2009
   
 2010
 
 2009
 
Net sales
$
885,330
$
870,622
$
31,970
$
8,086
 
$
917,300
$
878,708
 
                             
Gross profit
 
258,525
 
257,219
 
8,301
 
2,042
   
266,826
 
259,261
 
Gross margin
 
29.2
%
29.5
%
26.0
%
25.3
%
 
29.1
%
29.5
%
                             
Operating expenses
 
178,264
 
179,167
 
7,581
 
2,020
   
185,845
 
181,187
 
Expenses as a % of net sales
 
20.1
%
20.6
%
23.7
%
25.0
%
 
20.3
%
20.6
%
                             
Operating income
 
80,261
 
78,052
 
720
 
22
   
80,981
 
78,074
 
Operating margin
 
9.1
%
9.0
%
2.3
%
0.3
%
 
8.8
%
8.9
%

For an explanation of how we calculate base business, please refer to the discussion of base business on page 11 under the heading “Three Months Ended June 30, 2010 Compared to Three Months Ended June 30, 2009”.

We have excluded the following acquisitions from base business for the periods identified:

 
 
Acquired
 
 
Acquisition
Date
 
Net
Sales Centers Acquired
 
 
Periods
Excluded
Metrinox
 
April 2010
 
2
 
April–June 2010
GPS
 
October 2009
 
7
 
January–June 2010
Proplas Plasticos, S.L.
 
November 2008
 
0
 
January–February 2010 and January–February 2009



 
13

 

Net Sales

   
Six Months Ended
June 30,
 
(in millions)
 
     2010
 
    2009
   
    Change
 
Net sales
 
$
917.3
 
$
878.7
 
$
38.6
 
4
%

Net sales for the first six months of 2010 increased 4% compared to same period of 2009, including approximately $24.0 million in sales related to our recent acquisitions and a 2% increase in base business sales.  Base business sales on the swimming pool side of the business increased 3%, with growth of 5% in the second quarter offsetting the 3% decline in base business sales during our seasonally slower first quarter.  Our year over year comparative sales results improved as the first half of 2010 progressed based on the gradual improvement in external market trends and more favorable weather conditions after mid-March.  Favorable base business sales comparisons to the first half of 2009 reflect the factors that contributed to the sales growth in the second quarter as discussed on page 11 under the subheading “Net Sales”.

These sales increases were partially offset by the following:

· 
approximately $17.0 million in sales in the first six months of 2009 for new drains and related safety products driven by the December 2008 effective date of the VGB Act;
·  
a 12% sales decline on the irrigation side of the business due to the continued weakness in irrigation construction markets; and
·  
negative impacts on sales due to unfavorable weather conditions, including a slow start to the 2010 season in Florida and certain other sunbelt markets due to much colder than normal temperatures between January and mid-March and the cold and wet weather along the West Coast in the second quarter of 2010.

Gross Profit

   
Six Months Ended
June 30,
 
(in millions)
 
     2010
 
    2009
   
    Change
 
Gross profit
 
$
266.8
 
$
259.3
 
$
7.5
 
3
%
Gross margin
   
29.1
%
 
29.5
%
       

Gross margin decreased 40 basis points between periods, reflecting declines of 110 basis points in the seasonally slower first quarter of 2010 and 20 basis points in the second quarter of 2010 (see discussion of second quarter gross margins on page 12 under the subheading “Gross Profit”).  The gross margin decrease in the first quarter of 2010 reflected the following:

·  
margin benefits realized in the first quarter of 2009 related to our pre-price increase inventory buys in the second half of 2008 (a comparative increase of 120 basis points compared to the first quarter in 2008); and
·  
a negative impact due to the ongoing competitive pricing environment.  

Operating Expenses

   
Six Months Ended
June 30,
 
(in millions)
 
     2010
 
    2009
   
    Change
 
Operating expenses
 
$
185.8
 
$
181.2
 
$
4.6
 
3
%
Operating expenses as a % of net sales
   
20.3
%
 
20.6
%
       

Total operating expenses increased 3% compared to the first six months of 2009 due primarily to expenses related to our recent acquisitions.   Base business operating expenses declined approximately 1%, with a 3% decline in the first quarter

 
 
14

 

offsetting the 2% increase in base business expenses in the second quarter that was attributed to higher incentive costs.  Base business operating expense declines realized for the first six months of 2010 included the following:

·  
the continued but moderating impact of our cost control initiatives, including lower salary costs (excluding acquisitions, average monthly headcount decreased 3% compared to the first six months of 2009);
·  
a $2.2 million decrease in bad debt expense; and
·  
the benefit of reduced facility lease costs due to renegotiated leases and recent facility consolidations.

Total operating expenses as a percentage of net sales decreased between periods due to the increase in net sales.  

Interest Expense

Interest expense decreased 34% between periods due primarily to the impact of much lower debt levels, with our average debt outstanding down 26% compared to the first half of 2009. 

Income Taxes

The increase in the provision for income taxes is due to the increase in income before income taxes and equity earnings (losses).  Our effective income tax rate was 39.30% for both the six months ended June 30, 2010 and June 30, 2009. 

Net Income and Earnings Per Share

Net income increased 11% to $46.7 million in the first six months of 2010, while earnings per share increased to $0.93 per diluted share compared to $0.87 per diluted share for the first six months of 2009.  Earnings per share for the first half of 2010 included an accretive impact of approximately $0.02 per diluted share from our recent acquisitions.  In the first half of 2009, diluted earnings per share included a $0.03 dilutive impact related to our former equity investment in LAC.
 
 

 
15

 

Seasonality and Quarterly Fluctuations

Our business is highly seasonal. In general, sales and operating income are highest during the second and third quarters, which represent the peak months of both swimming pool use and installation and landscape installations and maintenance. Sales are substantially lower during the first and fourth quarters, when we may incur net losses. In 2009, approximately 67% of our net sales and over 100% of our operating income were generated in the second and third quarters of the year.

We typically experience a build-up of product inventories and accounts payable during the winter months in anticipation of the peak selling season.  Our accounts payable balance was lower than normal seasonal levels as of March 31, 2009 due to early payments we made through the first quarter of 2009 to take advantage of pre-price increase inventory purchases and early payment discounts offered by certain vendors. Excluding borrowings to finance acquisitions and share repurchases, our peak borrowing usually occurs during the second quarter, primarily because extended payment terms offered by our suppliers typically are payable in April, May and June, while our peak accounts receivable collections typically occur in June, July and August.

The following table presents certain unaudited quarterly data for the first and second quarters of 2010, the four quarters of 2009 and the third and fourth quarters of 2008.  We have included income statement and balance sheet data for the most recent eight quarters to allow for a meaningful comparison of the seasonal fluctuations in these amounts.  In our opinion, this information reflects all normal and recurring adjustments considered necessary for a fair presentation of this data.  Due to the seasonal nature of our industry, the results of any one or more quarters are not necessarily an accurate indication of results for an entire fiscal year or of continuing trends.

   
QUARTERS
 
(Unaudited)
 
       2010
 
2009
 
2008
 
(in thousands)
   
Second
 
First
 
Fourth
 
Third
 
Second
 
First
 
Fourth
 
Third
 
Statement of Income (Loss) Data
                                   
Net sales
 
$
647,467
$
269,833
$
231,032
$
430,054
$
602,082
$
276,626
$
258,966
$
493,530
 
Gross profit
   
190,534
 
76,292
 
67,069
 
123,394
 
178,068
 
81,193
 
75,322
 
141,800
 
Operating income (loss)
   
88,869
 
(7,888
)
(21,776
)
32,142
 
81,720
 
(3,646
)
(15,328
)
38,617
 
Net income (loss)
   
52,770
 
(6,111
)
(13,606
)
(9,322
) (1)
48,366
 
(6,236
)
(14,795
)
22,060
 
                                     
Balance Sheet Data
                                   
Total receivables, net
 
$
238,638
$
157,568
$
96,364
$
149,733
$
233,288
$
160,318
$
115,584
$
178,927
 
Product inventories, net
   
331,537
 
382,380
 
355,528
 
318,177
 
325,198
 
397,863
 
405,914
 
345,944
 
Accounts payable
   
221,374
 
251,590
 
178,391
 
137,761
 
194,004
 
201,300
 
173,688
 
128,329
 
Total debt
   
266,131
 
278,150
 
248,700
 
273,300
 
334,015
 
381,221
 
327,792
 
337,742
 

(1)
Includes the impact of a $26.5 million equity loss that we recognized in September 2009 related to our pro rata share of LAC’s non-cash goodwill and other intangible asset impairment charge.  The recognized loss resulted in the full write-off of our equity method investment in LAC.

We expect that our quarterly results of operations will continue to fluctuate depending on the timing and amount of revenue contributed by new and acquired sales centers.  Based on our peak summer selling season, we generally open new sales centers and close or consolidate sales centers, when warranted, either in the first quarter before the peak selling season begins or in the fourth quarter after the peak selling season ends.


 
16

 

Weather is one of the principal external factors affecting our business.  The table below presents some of the possible effects resulting from various weather conditions.
 
Weather
 
Possible Effects
Hot and dry
Increased purchases of chemicals and supplies
   
for existing swimming pools
 
Increased purchases of above-ground pools and
   
irrigation products
     
Unseasonably cool weather or extraordinary amounts of rain
Fewer pool and landscape installations
 
Decreased purchases of chemicals and supplies
 
Decreased purchases of impulse items such as
   
above-ground pools and accessories
     
Unseasonably early warming trends in spring/late cooling trends in fall
A longer pool and landscape season, thus increasing our sales
(primarily in the northern half of the US)
   
     
Unseasonably late warming trends in spring/early cooling trends in fall
A shorter pool and landscape season, thus decreasing our sales
(primarily in the northern half of the US)
   
 
Our second quarter 2010 sales benefitted from generally favorable weather conditions compared to the second quarter of 2009, including record or near record high temperatures across the eastern half of the United States and our markets in Canada.  However, much colder than average temperatures along the West Coast and wet weather in the Pacific Northwest drove sales declines in those markets.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity is defined as the ability to generate adequate amounts of cash to meet short-term and long-term cash needs. We assess our liquidity in terms of our ability to generate cash to fund our operating activities, taking into consideration the seasonal nature of our business. Significant factors which could affect our liquidity include the following:

·
cash flows generated from operating activities;
·
the adequacy of available bank lines of credit;
·
scheduled debt payments;
·
acquisitions;
·
dividend payments;
·
capital expenditures;
·
the timing and extent of share repurchases; and
·
the ability to attract long-term capital with satisfactory terms.

Our primary capital needs are seasonal working capital requirements and other general corporate purposes, including acquisitions, dividend payments and share repurchases. Our primary sources of working capital are cash from operations supplemented by bank borrowings, which combined with seller financing have historically been sufficient to support our growth and finance acquisitions. The same principle applies to funds used for capital expenditures and share repurchases.


 
17

 

We prioritize our use of cash based on investing in our business, maintaining a prudent debt structure and returning money to our shareholders. Our specific priorities for the use of cash are as follows:

·
maintenance and new sales center capital expenditures, which have averaged approximately 0.5% to 0.75% of net sales historically, but was below and at the bottom of this range for the past two years due to lower capacity expansion;
·
strategic acquisitions executed opportunistically;
·
payment of cash dividends as and when declared by the Board;
·
repurchase of common stock at Board-defined parameters; and
·
repayment of debt.

Sources and Uses of Cash

The following table summarizes our cash flows (in thousands):

 
Six Months Ended
June 30,
 
    2010
 
   2009
Operating activities
$
28,715
 
$
35,611
 
Investing activities
 
(9,956
)
 
(6,247
)
Financing activities
 
4,021
   
(4,812
)

Our continued focus on working capital management helped generate cash provided by operations of $28.7 million in the first six months of 2010, a slight decrease from our record level of cash provided by operations of $35.6 million in the first six months of 2009, which benefitted from a 16% reduction in inventory levels as of June 30, 2009 compared to June 30, 2008.  The increase in cash used in investing activities is due primarily to the initial cash consideration paid for our April 2010 acquisition of Metrinox.  The change between periods in cash flows from financing activities reflects slightly higher net borrowings in the second quarter of 2010, which correlates with the comparative decline in cash provided by operating activities.

Future Sources and Uses of Cash

Our unsecured syndicated senior credit facility (the Credit Facility) provides for $300.0 million in borrowing capacity including a $240.0 million five-year revolving credit facility (the Revolver) and a term loan (the Term Loan) with an original principal amount of $60.0 million.

At June 30, 2010, there was $142.1 million outstanding and $95.5 million available for borrowing under the Revolver.  The Revolver matures on December 20, 2012.  The weighted average effective interest rate on the Revolver was approximately 2.4% for the six months ended June 30, 2010.  In April 2009, we entered into an interest rate swap agreement to reduce our future exposure to fluctuations in interest rates on the Revolver.   This swap agreement converts the Revolver’s variable interest rate to a fixed rate of 1.725% on a notional amount of $50.0 million.  The swap was effective on January 27, 2010 and will terminate on January 27, 2012.

At June 30, 2010, there was $24.0 million outstanding under the Term Loan, all of which is classified as current.  The Term Loan has remaining principal payments of $12.0 million per quarter in the last two quarters of 2010, and we intend to fund these payments by using cash provided by operations and borrowings under our Revolver.  Our current interest rate swap agreement reduces our exposure to fluctuations in interest rates for the remaining outstanding period of the Term Loan by converting our variable rate to a fixed rate basis.  This swap will terminate when the Term Loan matures on December 20, 2010.  The weighted average effective interest rate on the Term Loan was approximately 3.2% for the six months ended June 30, 2010.

 
18

 

The Credit Facility includes sublimits for the issuance of swingline loans and standby letters of credit.  Pursuant to an accordion feature, the aggregate maximum principal amount of the commitments under the Revolver may be increased at our request and with agreement by the lenders, by up to $75.0 million, to a total of $315.0 million.

On February 12, 2007, we issued and sold $100.0 million aggregate principal amount of Floating Rate Senior Notes (the Notes) in a private placement offering pursuant to a Note Purchase Agreement. The Notes are due February 12, 2012 and accrue interest on the unpaid principal balance at a floating rate equal to a spread of 0.600% over the three-month LIBOR, as adjusted from time to time. In February 2007, we entered into an interest rate swap agreement to reduce our exposure to fluctuations in interest rates on the Notes. The swap agreement converts the Notes’ variable interest rate to a fixed rate of 5.088% on the current notional amount of $50.0 million.  The weighted average effective interest rate on the Notes was approximately 3.9% for the six months ended June 30, 2010.

Financial covenants on our Credit Facility and Notes are closely aligned and include a minimum fixed charge coverage ratio and maintenance of a maximum total leverage ratio, which are our most restrictive financial covenants.  As of June 30, 2010, the calculations of these two covenants are detailed below:

·
Maximum Average Total Leverage Ratio. On the last day of each fiscal quarter, our average total leverage ratio must be less than or equal to 3.25 to 1.00.  Average Total Leverage Ratio is the ratio of the trailing twelve months (TTM) Average Total Funded Indebtedness plus the TTM Average Accounts Securitization Proceeds divided by the TTM EBITDA (as those terms are defined in our amended Credit Facility).  As of June 30, 2010, our average total leverage ratio equaled 2.36 (compared to 2.73 as of March 31, 2010) and the TTM average total debt amount used in this calculation was $265.2 million.

·
Minimum Fixed Charge Ratio. On the last day of each fiscal quarter, our fixed charge ratio must be greater than 2.25 to 1.00.  Fixed Charge Ratio is the ratio of the TTM EBITDAR (as defined in our amended Credit Facility) divided by TTM Interest Expense (as defined in our amended Credit Facility) paid or payable in cash plus TTM Rental Expense (as defined in our amended Credit Facility).  As of June 30, 2010, our fixed charge ratio equaled 2.56 (compared to 2.40 as of March 31, 2010) and TTM Rental Expense was $56.6 million.

The Credit Facility limits the declaration and payment of dividends on our common stock to no more than 50% of the preceding year’s Net Income (as defined in our amended Credit Facility), provided no default or event of default has occurred and the dividends are declared and paid in a manner consistent with our past practice.  Effective March 1, 2010, we amended certain provisions in our Credit Facility to increase the dividend limitation in 2010 from 50% to 55% of our 2009 Net Income.  Failure to comply with any of our financial covenants, scheduled interest payments, scheduled principal repayments, or any other terms of our amended credit facilities could result in penalty payments, higher interest rates on our borrowings or the acceleration of the maturities of our outstanding debt.  As of June 30, 2010, we were in compliance with all covenants and financial ratio requirements and believe we will remain in compliance throughout the rest of the year.

For additional information regarding our debt arrangements, see Note 5 of “Notes to Consolidated Financial Statements,” included in Item 8 of our 2009 Form 10-K/A.

We believe we have adequate availability of capital to fund present operations and the current capacity to finance any working capital needs that may arise.  We continually evaluate potential acquisitions and hold discussions with acquisition candidates. If suitable acquisition opportunities arise that would require financing, we believe that we have the ability to finance any such transactions.

As of July 23, 2010, $53.0 million of the current Board authorized amount under our share repurchase program remained available. We may continue to repurchase shares on the open market from time to time depending on market conditions. We may use cash flows from operations to fund these purchases or we may incur additional debt.


 
19

 

CRITICAL ACCOUNTING ESTIMATES

We prepare our Consolidated Financial Statements in accordance with accounting principles generally accepted in the United States (GAAP), which requires management to make estimates and assumptions that affect reported amounts and related disclosures.  Management identifies critical accounting estimates as:

·
those that require the use of assumptions about matters that are inherently and highly uncertain at the time the estimates are made; and
·
those for which changes in the estimate or assumptions, or the use of different estimates and assumptions, could have a material impact on our consolidated results of operations or financial condition.

Management has discussed the development, selection and disclosure of our critical accounting estimates with the Audit Committee of our Board of Directors.  For a description of our critical accounting estimates that require us to make the most difficult, subjective or complex judgments, please see our Annual Report on Form 10-K/A for the year ended December 31, 2009.  We have not changed these policies from those previously disclosed.

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Risk

There have been no material changes from what we reported in our Form 10-K/A for the year ended December 31, 2009 that affect fiscal 2010.

Foreign Exchange Risk

There have been no material changes from what we reported in our Form 10-K/A for the year ended December 31, 2009.

Item 4.  Controls and Procedures

The term “disclosure controls and procedures” is defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the Act).  The rules refer to the controls and other procedures designed to ensure that information required to be disclosed in reports that we file or submit under the Act is (1) recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and (2) accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.  As of June 30, 2010, management, including the CEO and CFO, performed an evaluation of the effectiveness of our disclosure controls and procedures.  Based on that evaluation, management, including the CEO and CFO, concluded that as of June 30, 2010, our disclosure controls and procedures were effective.

We maintain a system of internal control over financial reporting that is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States.  Based on the most recent evaluation, we have concluded that no change in our internal control over financial reporting occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

 
20

 

PART II.  OTHER INFORMATION
 
Item 1.  Legal Proceedings

The Federal Trade Commission (FTC) notified us that it is conducting a non-public investigation to determine whether participants in the swimming pool industry, including us, have engaged in conduct in violation of Section 5 of the Federal Trade Commission Act.  We are cooperating with the FTC in its investigation and have been informed by the FTC that the existence of an investigation does not suggest that it has made a determination that a violation by us or others has occurred or is occurring.  While we are not able to predict with certainty the timing, outcome or consequence of this investigation, we believe that we are in compliance with all federal and state laws governing competition.

Item 1A.  Risk Factors
 
Cautionary Statement for Purposes of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995

Our disclosure and analysis in this report contains forward-looking information that involves risks and uncertainties. Our forward-looking statements express our current expectations or forecasts of possible future results or events, including projections of future performance, statements of management’s plans and objectives, future contracts, and forecasts of trends and other matters. Forward-looking statements speak only as of the date of this filing, and we undertake no obligation to update or revise such statements to reflect new circumstances or unanticipated events as they occur. You can identify these statements by the fact that they do not relate strictly to historic or current facts and often use words such as “anticipate”, “estimate”, “expect”, “believe,” “will likely result,” “outlook,” “project” and other words and expressions of similar meaning. No assurance can be given that the results in any forward-looking statements will be achieved and actual results could be affected by one or more factors, which could cause them to differ materially. For these statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act.

Risk Factors

Certain factors that may affect our business and could cause actual results to differ materially from those expressed in any forward-looking statements include the following:

The demand for our swimming pool and related outdoor lifestyle products has been and may continue to be adversely affected by unfavorable economic conditions.

In economic downturns, the demand for swimming pool or leisure related products may decline as discretionary consumer spending, the growth rate of pool eligible households and swimming pool construction decline.  Although maintenance products and repair and replacement equipment that must be purchased by pool owners to maintain existing swimming pools currently account for approximately 90% of our net sales and gross profits, the growth of this portion of our business depends on the expansion of the installed pool base and could also be adversely affected by decreases in construction activities similar to the trends between late 2006 and 2009.  A weakening economy may also cause deferrals of discretionary replacement and refurbishment activity.  In addition, even in generally favorable economic conditions, severe and/or prolonged downturns in the housing market could have a material adverse impact on our financial performance.  Such downturns expose us to certain additional risks, including but not limited to the risk of customer closures or bankruptcies, which could shrink our potential customer base and inhibit our ability to collect on those customers’ receivables.

We believe that homeowners’ access to consumer credit, particularly as facilitated by mortgage-backed financing markets, is a critical enabling factor in the purchase of new pool and irrigation systems.  The recent unfavorable economic conditions and downturn in the housing market have resulted in significant tightening of consumer credit markets, which has limited the ability of consumers to access financing for new swimming pool and irrigation systems.  If these trends continue or worsen, many consumers will likely not be able to obtain financing for pool and irrigation projects, which could negatively impact our sales of construction related products.


 
21

 

We are susceptible to adverse weather conditions.

Weather is one of the principal external factors affecting our business.  For example, unseasonably late warming trends in the spring or early cooling trends in the fall can shorten the length of the pool season.  Also, unseasonably cool weather or extraordinary rainfall during the peak season can decrease swimming pool use, installation and maintenance, as well as landscape installations and maintenance. These weather conditions adversely affect sales of our products. Drought conditions or water management initiatives may lead to municipal ordinances related to water use restrictions, which could result in decreased pool and irrigation system installations and negatively impact our sales.  While warmer weather conditions favorably impact our sales, global warming trends and other significant climate changes can create more variability in the short-term or lead to other unfavorable weather conditions that could adversely impact our sales or operations.  For a discussion regarding seasonality and weather, see Part 1, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Seasonality and Quarterly Fluctuations,” of this Form 10-Q.

Our distribution business is highly dependent on our ability to maintain favorable relationships with suppliers.

As a distribution company, maintaining favorable relationships with our suppliers is critical to the success of our business.  We believe that we add considerable value to the swimming pool supply chain and landscape supply chain by purchasing products from a large number of manufacturers and distributing the products to a highly fragmented customer base on conditions that are more favorable than these customers could obtain on their own.  We believe that we currently enjoy good relationships with our suppliers, who generally offer us competitive pricing, return policies and promotional allowances.  However, our inability to maintain favorable relationships with our suppliers could have an adverse effect on our business.

Our largest suppliers are Pentair Corporation, Hayward Pool Products, Inc. and Zodiac Pool Systems, Inc., which accounted for approximately 16%, 10% and 8%, respectively, of the costs of products we sold in 2009.  A decision by several suppliers, acting in concert, to sell their products directly to retail customers and other end-users of their products, bypassing distribution companies like ours, would have an adverse effect on our business.  Additionally, the loss of a single significant supplier due to financial failure or a decision to sell exclusively to other distributors, retail customers or end user consumers could also adversely affect our business.  We dedicate significant resources to promote the benefits and affordability of pool ownership, which we believe greatly benefits our swimming pool customers and suppliers.

We face intense competition both from within our industry and from other leisure product alternatives.

We face competition from both inside and outside of our industry.  Within our industry, we compete against various regional and local distributors and, to a lesser extent, mass market retailers and large pool or landscape supply retailers.  Outside of our industry, we compete with sellers of other leisure product alternatives, such as boats and motor homes, and with other companies who rely on discretionary homeowner expenditures, such as home remodelers.  New competitors may emerge as there are low barriers to entry in our industry.  Some geographic markets that we serve, particularly our four largest, higher density markets in California, Florida, Texas and Arizona, representing approximately 51% of our net sales in 2009, also tend to be more competitive than others.

More aggressive competition by mass merchants and large pool or landscape supply retailers could adversely affect our sales.
 
Mass market retailers today carry a limited range of, and devote a limited amount of shelf space to, merchandise and products targeted to our industry.  Historically, mass market retailers have generally expanded by adding new stores and product breadth, but their product offering of pool and landscape related products has remained relatively constant.  Should mass market retailers increase their focus on the pool or professional landscape industries, or increase the breadth of their pool and landscape related product offerings, they may become a more significant competitor for direct and end-use customers which could have an adverse impact on our business.  We may face additional competitive pressures if large pool or landscape supply retailers look to expand their customer base to compete more directly within the distribution channel.


 
22

 

We depend on key personnel.

We consider our employees to be the foundation for our growth and success. As such, our future success depends in large part on our ability to attract, retain and motivate qualified personnel, including our executive officers and key management personnel. If we are unable to attract and retain key personnel, our operating results could be adversely affected.

Past growth may not be indicative of future growth.

Historically, we have experienced substantial sales growth through acquisitions, market share gains and new sales center openings that have increased our size, scope and geographic distribution. Since the beginning of 2005, we have opened 20 new sales centers (net of subsequent closings and consolidations of new sales centers) and have completed 10 acquisitions. These acquisitions have added 76 sales centers (net of sales center closings and consolidations within one year of acquisition) to our distribution networks. Between 2007 and the second quarter of 2010, we also closed or consolidated 14 existing sales centers. While we contemplate continued growth through acquisitions and internal expansion, no assurance can be made as to our ability to:

·
penetrate new markets;
·
identify appropriate acquisition candidates;
·
complete acquisitions on satisfactory terms and successfully integrate acquired businesses;
·
obtain financing;
·
generate sufficient cash flows to support expansion plans and general operating activities;
·
maintain favorable supplier arrangements and relationships; and
·
identify and divest assets which do not continue to create value consistent with our objectives.

If we do not manage these potential difficulties successfully, our operating results could be adversely affected.

Our business is highly seasonal.

In 2009, approximately 67% of our net sales and over 100% of our operating income were generated in the second and third quarters of the year, which represent the peak months of swimming pool use, installation, remodeling and repair. Our sales are substantially lower during the first and fourth quarters of the year, when we may incur net losses.

The nature of our business subjects us to compliance with environmental, health, transportation and safety regulations.

We are subject to regulation under federal, state and local environmental, health, transportation and safety requirements, which govern such things as packaging, labeling, handling, transportation, storage and sale of chemicals and fertilizers. For example, we sell algaecides and pest control products that are regulated as pesticides under the Federal Insecticide, Fungicide and Rodenticide Act and various state pesticide laws. These laws are primarily related to labeling, annual registration and licensing.

Failure to comply with these laws and regulations may result in the assessment of administrative, civil and criminal penalties or the imposition of injunctive relief. Moreover, compliance with such laws and regulations in the future could prove to be costly, and there can be no assurance that we will not incur such costs in material amounts. These laws and regulations have changed substantially and rapidly over the last 20 years and we anticipate that there will be continuing changes. The clear trend in environmental, health, transportation and safety regulation is to place more restrictions and limitations on activities that impact the environment, such as the use and handling of chemical substances. Increasingly, strict restrictions and limitations have resulted in higher operating costs for us and it is possible that the costs of compliance with such laws and regulations will continue to increase. We will attempt to anticipate future regulatory requirements that might be imposed and we will plan accordingly to remain in compliance with changing regulations and to minimize the costs of such compliance.


 
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We store chemicals, fertilizers and other combustible materials that involve fire, safety and casualty risks.

We store chemicals and fertilizers, including certain combustible, oxidizing compounds, at our sales centers. A fire, explosion or flood affecting one of our facilities could give rise to fire, safety and casualty losses and related liability claims. We maintain what we believe is prudent insurance protection. However, we cannot guarantee that our insurance coverage will be adequate to cover future claims that may arise or that we will be able to maintain adequate insurance in the future at rates we consider reasonable. Successful claims for which we are not fully insured may adversely affect our working capital and profitability. In addition, changes in the insurance industry have generally led to higher insurance costs and decreased availability of coverage.

We conduct business internationally, which exposes us to additional risks.

Our international operations expose us to certain additional risks, including:

·
difficulty in staffing international subsidiary operations;
·
different political and regulatory conditions;
·
currency fluctuations;
·
adverse tax consequences; and
·
dependence on other economies.

We source certain products we sell, including our Pool Corporation branded products, from Asia and other international sources. There is a greater risk that we may not be able to access products in a timely and efficient manner, and we may also be subject to certain trade restrictions that prevent us from obtaining products. Fluctuations in other factors relating to international trade, such as tariffs, currency exchange rates, transportation costs and inflation are additional risks for our international operations.

A terrorist attack or the threat of a terrorist attack could have a material adverse effect on our business.

Discretionary spending on leisure product offerings such as ours is generally adversely affected during times of economic or political uncertainty. The potential for terrorist attacks, the national and international responses to terrorist attacks, and other acts of war or hostility could create these types of uncertainties and negatively impact our business for the short or long-term in ways that cannot presently be predicted.

 
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Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

As evidenced by the table below, we did not repurchase any shares of our common stock in the second quarter of 2010:

               
Maximum approximate
           
Total number of shares
 
dollar value of shares
   
Total number of
 
Average price
 
purchased as part of
 
that may yet be
Period
 
shares purchased(1)
 
paid per share
 
publicly announced plan(2)
 
purchased under the plan(3)
April 1-30, 2010
 
 
$
 
 
$
52,987,067
May 1-31, 2010
 
 
$
 
 
$
52,987,067
June 1-30, 2010
 
 
$
 
 
$
52,987,067
Total
 
 
$
 
     

(1)
May consist of shares of our common stock surrendered to us by employees in order to satisfy tax withholding obligations in connection with certain exercises of employee stock options and/or the exercise price of such options granted under our share-based compensation plans.
(2)
In July 2002, our Board authorized $50.0 million for the repurchase of shares of our common stock in the open market. In August 2004, November 2005 and August 2006, our Board increased the authorization for the repurchase of shares of our common stock in the open market to a total of $50.0 million from the amounts remaining at each of those dates. In November 2006 and August 2007, our Board increased the authorization for the repurchase of shares of our common stock in the open market to $100.0 million from the amounts remaining at each of those dates.
(3)
As of July 23, 2010, $53.0 million of the authorized amount remained available under our share repurchase program.

Item 6.  Exhibits

Exhibits filed as part of this report are listed in the Index to Exhibits appearing on page 27.




 
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Signature Page
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 on August 2, 2010.

   
POOL CORPORATION
     
     
     
     
 
By:
/s/ Mark W. Joslin 
   
Mark W. Joslin
Vice President and Chief Financial Officer, and duly authorized signatory on behalf of the Registrant


 
26

 

Index to Exhibits
 
           
Incorporated by Reference
No.
 
Description
 
Filed or Furnished with this Form 10-Q
 
Form
 
File No.
 
Date Filed
3.1
 
Restated Certificate of Incorporation of the Company.
     
10-Q
 
000-26640
 
08/09/2006
3.2
 
Restated Composite Bylaws of the Company.
     
10-Q
 
000-26640
 
08/09/2006
4.1
 
Form of certificate representing shares of common stock of the Company.
     
8-K
 
 
000-26640
 
05/19/2006
 
Certification by Mark W. Joslin pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
ü
           
 
Certification by Manuel J. Perez de la Mesa pursuant to Rule 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
ü
           
 
Certification by Manuel J. Perez de la Mesa and Mark W. Joslin pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
ü
           
101.INS
+
XBRL Instance Document
 
ü
           
101.SCH
+
XBRL Taxonomy Extension Schema Document
 
ü
           
101.CAL
+
XBRL Taxonomy Extension Calculation Linkbase Document
 
ü
           
101.LAB
+
XBRL Taxonomy Extension Label Linkbase Document
 
ü
           
101.PRE
+
XBRL Taxonomy Extension Presentation Linkbase Document
 
ü
           

+
Attached as Exhibit 101 to this report are the following items formatted in XBRL (Extensible Business Reporting Language):

1.  
Consolidated Statements of Income for the three and six months ended June 30, 2010 and June 30, 2009;
2.  
Consolidated Balance Sheets at June 30, 2010, June 30, 2009 and December 31, 2009;
3.  
Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2010 and June 30, 2009; and
4.  
Notes to Consolidated Financial Statements.
 
  In accordance with Rule 406T of Regulation S-T, the XBRL related information in Exhibit 101 to this Quarterly Report on Form 10-Q is furnished and shall not be deemed to be “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act or the Exchange Act, except as shall be expressly set forth by specific reference in such filing.
 
 

 
27