WATSCO INC - Quarter Report: 2003 June (Form 10-Q)

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Quarterly Report Under Section 13 or 15(d)

of the Securities Exchange Act of 1934

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x    Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Period Ended June 30, 2003

or

¨    Transition Report Pursuant To Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Transition Period From

             to             

Commission file number 1-5581

I.R.S. Employer Identification Number 59-0778222

WATSCO, INC.

(a Florida Corporation)

2665 South Bayshore Drive, Suite 901

Coconut Grove, Florida 33133

Telephone: (305) 714-4100

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

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 22,474,139 shares of the Company’s Common Stock ($.50 par value), excluding treasury shares of 5,151,550, and 3,546,613 shares of the Company’s Class B Common Stock ($.50 par value), excluding treasury shares of 48,263, were outstanding as of July 30, 2003.

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WATSCO, INC.

Index to Quarterly Report on Form 10-Q

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PART I. FINANCIAL INFORMATION

Item 1.    Condensed Consolidated Financial Statements

WATSCO, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

June 30, 2003 and December 31, 2002

(In thousands, except per share data)

See accompanying notes to condensed consolidated financial statements.

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WATSCO, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

Quarter and Six Months Ended June 30, 2003 and 2002

(In thousands, except per share data)

(Unaudited)

See accompanying notes to condensed consolidated financial statements.

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WATSCO, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Six Months Ended June 30, 2003 and 2002

(In thousands)

(Unaudited)

See accompanying notes to condensed consolidated financial statements.

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WATSCO, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2003

(In thousands, except share data)

(Unaudited)

These statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the year ended December 31, 2002.

The Company has two reportable business segments—the distribution of air conditioning, heating and refrigeration equipment and related parts and supplies (“Distribution”) segment and a national temporary staffing and permanent placement services (“Staffing”) segment.

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value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123, the Company has elected to continue to apply the intrinsic value-based method of accounting described above and has adopted the disclosure requirements of SFAS No. 123. Had compensation cost for the Company’s stock-based compensation plans been determined based on the fair value method at the grant dates for awards under the stock option plans and purchases under the employee stock purchase plan consistent with the method of SFAS No. 123, the Company’s pro forma net income and earnings per share would be as follows for the quarter and six months ended June 30, 2003 and 2002:

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” This Statement is effective for contracts entered into or modified after June 30, 2003. The Company does not expect that the adoption of SFAS No. 149 will have a material impact on the Company’s condensed consolidated financial statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. This Statement requires that an issuer classify a financial instrument that is within its scope as a liability or, in some circumstances, as an asset with many such financial instruments having been previously classified as equity. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective on July 1, 2003. The Company does not expect that the adoption of SFAS No. 150 will have an impact on the Company’s condensed consolidated financial statements.

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The Company recorded gains (losses) in OCI relating to the changes in fair value of the cash flow hedges of $(119), net of income tax benefit of $70, $(745), net of income tax benefit of $422, $101, net of income tax expense of $(60) and $(274), net of income tax benefit of $155, for the quarters and six months ended June 30, 2003 and 2002, respectively. The fair values of the derivative financial instruments are liabilities of $5,351 and $5,438 at June 30, 2003 and December 31, 2002, respectively, and are recorded in deferred income taxes and other liabilities in the Company’s condensed consolidated balance sheets. During the quarters and six months ended June 30, 2003 and 2002, the Company reclassified $402, net of income tax benefit of $237, $413, net of income tax benefit of $235, $790, net of income tax benefit of $464 and $840, net of income tax benefit of $476, respectively, from accumulated OCI to current period earnings (recorded as interest expense, net in the condensed consolidated statements of income). The net deferred loss recorded in accumulated OCI will be reclassified to earnings on a quarterly basis as interest payments occur. As of June 30, 2003, approximately $1,400 in deferred losses on derivative instruments accumulated in other comprehensive income is expected to be reclassified to earnings during the next twelve months using a current three month LIBOR-based average receive rate (1.56% at June 30, 2003).

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In accordance with SFAS No. 141, “Business Combinations,” the Company applied the purchase method of accounting to record this transaction. The preliminary purchase price allocation for the acquisition is as follows:

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The preliminary purchase price allocation, including goodwill, which represents the excess of the purchase price over the fair value of the net assets acquired, may change during the year of acquisition as more detailed analysis is completed and additional information on the fair value of assets and liabilities becomes available. This acquisition was not deemed material to the Company’s condensed consolidated financial statements for the quarter and six months ended June 30, 2003 and 2002.

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

Results of Operations

Watsco, Inc. and its subsidiaries (collectively, the “Company” or “Watsco”) is the largest independent distributor of air conditioning, heating and refrigeration equipment and related parts and supplies (“HVAC”) in the United States. The Company has two business segments—the HVAC distribution (“Distribution”) segment and a national temporary staffing and permanent placement services (“Staffing”) segment.

The following table sets forth, as a percentage of revenue, the Company’s condensed consolidated statements of income data for the quarter and six months ended June 30, 2003 and 2002:

The following table sets forth revenue by business segment for the quarter and six months ended June 30, 2003 and 2002:

The following narratives include the results of operations acquired during 2003 and 2002. The acquisitions were accounted for under the purchase method of accounting and, accordingly, their results of operations

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have been included in the Company’s consolidated results beginning on their respective dates of acquisition. Data presented in the following narratives referring to “same-store basis” exclude the effects of locations acquired or locations opened and closed during the prior twelve months.

QUARTER ENDED JUNE 30, 2003 VS. QUARTER ENDED JUNE 30, 2002

Consolidated revenue for the quarter ended June 30, 2003 increased $9.3 million, or 3%, compared to the same period in 2002.

Distribution segment revenue for the quarter ended June 30, 2003 increased $11.3 million, or 3%. On a same-store basis, revenue in the Distribution segment includes a 3% same-store sales increase in residential and light-commercial HVAC products and a 26% same-store sales decline to the manufactured housing market. Sales to the manufactured housing market, which represented 4% of the Distribution segment’s second quarter revenue in 2003, continue to be soft and remain affected by a tightened financing market for dealers and consumers.

Staffing segment revenue for the quarter ended June 30, 2003 decreased $1.9 million, or 23%, primarily attributable to lower sales demand due to the economic softness experienced in the United States.

Consolidated gross profit for the quarter ended June 30, 2003 increased $3.1 million, or 4%, as compared to the same period in 2002, primarily as a result of the aforementioned revenue increase and improved selling margins in the Distribution segment. Gross profit margin for the quarter ended June 30, 2003 increased to 24.8% in 2003 from 24.5% in 2002 primarily due to higher markups on certain product offerings.

Consolidated selling, general and administrative expenses for the quarter ended June 30, 2003 increased $1.6 million, or 3%, compared to the same period in 2002, primarily due to the aforementioned revenue increase. On a same-store basis, operating expenses were down 1% compared to the same period in 2002. Selling, general and administrative expenses as a percent of revenue increased to 18.1% in 2003 from 18.0% in 2002.

Interest expense, net for the quarter ended June 30, 2003 decreased $.3 million, or 18%, compared to the same period in 2002, primarily due to lower average borrowings during the quarter.

The effective tax rate was 37% for the quarter ended June 30, 2003 and 36.2% for the quarter ended June 30, 2002, reflecting a higher provision for state income taxes.

SIX MONTHS ENDED JUNE 30, 2003 VS. SIX MONTHS ENDED JUNE 30, 2002

Consolidated revenue for the six months ended June 30, 2003 increased $9.9 million, or 2%, compared to the same period in 2002.

Distribution segment revenue for the six months ended June 30, 2003 increased $13.2 million, or 2%. On a same-store basis, revenue in the Distribution segment includes a 3% same-store sales increase in residential and light-commercial HVAC products and a 32% same-store sales decline to the manufactured housing market. Sales to the manufactured housing market, which represented 4% of the Distribution segment’s revenue in 2003, continue to be soft and remain affected by a tightened financing market for dealers and consumers.

Staffing segment revenue for the six months ended June 30, 2003 decreased $3.3 million, or 20%, primarily attributable to lower sales demand due to the economic softness experienced in the United States.

Consolidated gross profit for the six months ended June 30, 2003 increased $3.9 million, or 3%, as compared to the same period in 2002, primarily as a result of the aforementioned revenue increase and improved selling margins in the Distribution segment. Gross profit margin for the six months ended June 30, 2003 increased to 24.8% in 2003 from 24.5% in 2002 primarily due to higher markups on certain product offerings.

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Consolidated selling, general and administrative expenses for the six months ended June 30, 2003 increased $1.5 million, or 1%, compared to the same period in 2002, primarily due to the aforementioned revenue increase. Selling, general and administrative expenses as a percent of revenue decreased to 19.7% in 2003 from 19.8% in 2002.

Interest expense, net for the six months ended June 30, 2003 decreased $.7 million, or 19%, compared to the same period in 2002, primarily due to lower average borrowings during the period.

The effective tax rate was 37% for the six months ended June 30, 2003 and 36.1% for the six months ended June 30, 2002, reflecting a higher provision for state income taxes.

Critical Accounting Policies

Management’s discussion and analysis of the Company’s financial condition and results of operations is based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amount of revenue and expenses during the reporting period. Actual results may differ from these estimates under different assumptions or conditions. Management frequently reevaluates its judgments and estimates which are based on historical experience, current trends and various other assumptions that are believed to be reasonable under the circumstances.

The Company’s significant accounting policies are discussed in Note 1 to the Company’s consolidated financial statements included in Form 10-K for the year ended December 31, 2002 and filed on March 30, 2003. Management believes that the following accounting policies include a higher degree of judgment and/or complexity and, thus, are considered to be critical accounting policies. Management has discussed the development and selection of the Company’s critical accounting policies with the Audit Committee of the Board of Directors and the Audit Committee has reviewed the Company’s disclosures relating to them.

Allowance for Doubtful Accounts

The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. The Company’s accounting for doubtful accounts contains uncertainty because management must use judgment to assess the collectibility of these accounts. When preparing these estimates, management considers a numbers of factors, including past transactions with customers, creditworthiness of specific customers, historical trends and other information. The allowance for doubtful accounts was $3.7 million and $3.8 million at June 30, 2003 and December 31, 2002, respectively. Although the Company believes its allowance is sufficient, if the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. Concentrations of credit risk with respect to accounts receivable are limited due to the large number of customers comprising the Company’s customer base and their dispersion across many different geographical regions.

Inventory Valuation

Inventories consist of air conditioning, heating and refrigeration equipment and related parts and supplies and are valued at the lower of cost or market on a first-in, first-out basis. As part of this valuation process, excess, slow-moving and damaged inventories are reduced to their estimated net realizable value. The Company’s accounting for excess, slow-moving and damaged inventory contains uncertainty because management must use judgment to estimate when the inventory will be sold and the quantities and prices at which the inventory will be sold in the normal course of business. When preparing these estimates, management considers historical results, inventory levels, current operating trends and sales forecasts. The Company has established valuation reserves associated with excess, slow-moving and damaged inventory of $5.0 million and $3.0 million at June 30, 2003 and December 31, 2002, respectively. These estimates can be affected by a number of factors, including general economic conditions and other factors affecting demand for the Company’s inventory. In the event the Company’s estimates differ from actual results, the allowance for excess, slow-moving and damaged inventories may be adjusted.

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Goodwill

Effective January 1, 2002, goodwill is no longer amortized and is subject to impairment testing at least annually using a fair-value based approach. The Company evaluates the recoverability of goodwill for impairment when events or changes in circumstances indicate that the carrying amount of goodwill may not be recoverable. The Company’s accounting for impairment contains uncertainty because management must use judgment in determining appropriate market value multiples. On January 1, 2003, the Company performed the required annual impairment test and determined there was no impairment. See Notes 1 and 9 to the consolidated financial statements included in Form 10-K for the year ended December 31, 2002 for further information. Operating results of the Staffing segment have been negatively impacted by economic softness experienced in the past two years. The carrying amount of goodwill at June 30, 2003 for the Staffing segment was $3.6 million. In the event that the operating results of the Staffing segment do not improve prior to the next annual impairment test or other factors emerge that indicate that the carrying value of its goodwill may not be recoverable, a goodwill impairment charge may be necessary to the extent that the implied fair value of goodwill is less than the carrying value.

Self-Insurance Reserves

The Company maintains self-insured retentions for its health benefits and casualty insurance programs and limits its exposure by maintaining stop-loss and aggregate liability coverages. The estimate of the Company’s self-insurance liability contains uncertainty since management must use judgment to estimate the ultimate cost that will be incurred to settle reported claims and unreported claims for incidents incurred but not reported as of the balance sheet date. When estimating the Company’s self-insurance liability, management considers a number of factors, which include historical claim experience, demographic factors, severity factors and valuations provided by independent third-party actuaries. Management reviews its assumptions with its independent third-party actuaries to evaluate whether the self-insurance liability is adequate. If actual claims exceed these estimates, additional reserves may be required.

Income Taxes

Income taxes are accounted for under the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial reporting basis and the tax basis of assets and liabilities at enacted tax rates expected to be in effect when such amounts are recovered or settled. At the end of each interim period, the Company makes its best estimate of the effective tax rate expected to be applicable for the full calendar year. The use of estimates by management is required to determine income tax expense, deferred tax assets and any related valuation allowance and deferred tax liabilities. The Company has recorded a valuation allowance of $.5 million as of June 30, 2003 due to uncertainties related to the ability to utilize some of the deferred tax assets, primarily consisting of federal net operating loss carryforwards of $.3 million, which will expire in 2004, and state net operating loss carryforwards of $4.1 million, which will expire in varying amounts through 2017. The valuation allowance is based on the Company’s estimates of future taxable income by jurisdiction in which the deferred tax assets will be recoverable. These estimates can be affected by a number of factors, including possible tax audits or general economic conditions or competitive pressures that could affect the Company’s future taxable income. Although management believes that the estimates discussed above are reasonable and the related calculations conform to accounting principles generally accepted in the United States, if management’s estimates of future taxable income differ from actual taxable income, the deferred tax asset and any related valuation allowance will need to be adjusted. An adjustment to the deferred tax asset and any related valuation allowance could materially impact the Company’s consolidated financial position and results of operations.

Liquidity and Capital Resources

Management assesses the Company’s liquidity in terms of its ability to generate cash to execute its business strategy, fund its operating and investing activities and takes into consideration the seasonal demand of the Company’s products, which peak in the months of May through August. Significant factors affecting liquidity include the adequacy of available bank lines of credit and the ability to attract long-term capital with

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satisfactory terms, cash flows generated from operating activities, capital expenditures, acquisitions, the timing and extent of common stock repurchases and dividend policy.

The Company maintains a bank-syndicated, unsecured revolving credit agreement that provides for borrowings of up to $225.0 million, expiring in April 2005. At June 30, 2003 and December 31, 2002, $50.0 million was outstanding under the revolving credit agreement. Borrowings under the agreement are used to fund seasonal working capital needs and for other general corporate purposes, including acquisitions. Borrowings under the revolving credit agreement bear interest at primarily LIBOR-based rates plus a spread that is dependent upon the Company’s financial performance (LIBOR plus 1.0% at June 30, 2003 and December 31, 2002). The Company pays a variable commitment fee on the unused portion of the commitment. The revolving credit agreement contains customary affirmative and negative covenants including certain financial covenants with respect to the Company’s consolidated net worth, interest and debt coverage ratios and limits capital expenditures and dividends in addition to other restrictions. The Company is in compliance with such covenants at June 30, 2003.

The Company has a $125.0 million private placement shelf facility. The uncommitted loan facility provides the Company a source of long-term, fixed-rate financing as a complement to the variable rate borrowings available under its existing revolving credit agreement through January 2006. On February 7, 2001, the Company issued $30.0 million Senior Series A Notes (“Notes”) bearing 7.07% interest under its private placement shelf facility. The Notes have an average life of 5 years with repayment in equal installments of $10.0 million beginning on April 9, 2005 until the final maturity on April 9, 2007. Interest is paid on a quarterly basis. The Notes allow for redemption prior to maturity subject to a redemption premium and other restrictions. The Company used the net proceeds from the issuance of the Notes for the repayment of a portion of its outstanding indebtedness under its revolving credit facility.

At June 30, 2003, the Company had two interest rate swap agreements to manage its net exposure to interest rate changes related to a portion of the borrowings under the revolving credit agreement. The interest rate swap agreements effectively convert a portion of the Company’s LIBOR-based variable rate borrowings into fixed rate borrowings. The Company continuously monitors developments in the capital markets and only enters into swap transactions with established counterparties having investment grade ratings. See Note 8 to the condensed consolidated financial statements for further information and “Quantitative and Qualitative Disclosures About Market Risk.”

Working capital increased to $269.4 million at June 30, 2003 from $259.1 million at December 31, 2002, primarily due to working capital assets acquired during the second quarter of 2003 and in relation to the Company’s seasonal build-up of inventory in preparation for the spring and summer selling seasons. This increase was primarily funded by cash flows from operations.

Net cash provided by operating activities was $12.2 million for the six months ended June 30, 2003 compared to net cash provided by operating activities of $13.2 million for the same period in 2002, a decrease of $1.0 million. This decrease is primarily due to the impact of an increase in revenue, yielding higher accounts receivable.

Net cash used in investing activities increased to $21.8 million for the six months ended June 30, 2003 from $3.4 million for the same period in 2002, due to business acquisitions in 2003.

During the second quarter of 2003, wholly-owned subsidiaries of the Company completed three transactions with Pameco Corporation resulting in the purchase of certain assets (consisting primarily of accounts receivable, inventories and property and equipment) and the assumption of certain lease obligations of 52 locations in Arkansas, Kentucky, Louisiana, Mississippi, Tennessee, Texas and Virginia. The acquired locations sell heating, air conditioning, refrigeration and related parts and supplies. Consideration for these acquisitions consisted of cash payments aggregating $18.8 million. These acquisitions were funded by cash on hand. The results of operations of these locations have been included in the Company’s condensed consolidated financial statements from their respective dates of acquisition.

In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations,” the Company applied the purchase method of accounting to record this transaction. The preliminary purchase price allocation for the acquisition is as follows (in millions):

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The preliminary purchase price allocation, including goodwill, which represents the excess of the purchase price over the fair value of the net assets acquired, may change during the year of acquisition as more detailed analysis is completed and additional information on the fair value of assets and liabilities becomes available. This acquisition was not deemed material to the Company’s condensed consolidated financial statements for the quarter and six months ended June 30, 2003 and 2002.

Net cash used in financing activities decreased to $3.9 million for the six months ended June 30, 2003 from $11.1 million for the same period in 2002, primarily due to fewer purchases of treasury stock.

In January 2003, the Company’s Board of Directors authorized the repurchase, at management’s discretion, of an additional 1.5 million shares of the Company’s common stock, bringing the total authorization to 7.5 million shares to be repurchased in the open market or via private transactions. Shares repurchased under the program are accounted for using the cost method and result in a reduction of shareholders’ equity. The Company purchased .2 million shares at a cost of $3.1 million during the six months ended June 30, 2003. In aggregate, the Company has repurchased 5.2 million shares of Common Stock and Class B Common Stock at a cost of $62.7 million.

In January 2003, the Company’s Board of Directors approved an increase in the quarterly cash dividend to 4 cents per share from 3 cents per share. Cash dividends of 4 cents and 3 cents per share were paid during the quarters ended June 30, 2003 and 2002, respectively. Future dividends will be at the sole discretion of the Board of Directors and will depend upon such factors as the Company’s profitability, financial condition, cash requirements, future prospects and other factors deemed relevant by the Company’s Board of Directors.

The Company believes it has adequate availability of capital from operations, its existing revolving credit agreement and private placement shelf facility to fund present operations and anticipated growth, including expansion in its current and targeted market areas. The Company continually evaluates potential acquisitions and has ongoing discussions with a number of acquisition candidates. Should suitable acquisition opportunities or working capital needs arise that would require additional financing, the Company believes that its financial position and earnings history provide a solid base for obtaining additional financing resources at competitive rates and terms.

Item 3.    Quantitative and Qualitative Disclosures About Market Risk

The Company’s primary market risk exposure consists of interest rate risk. The Company’s objective in managing the exposure to interest rate changes is to limit the impact of interest rate changes on earnings and cash flows and to lower its overall borrowing costs. To achieve its objectives, the Company uses interest rate swaps to manage net exposure to interest rate changes to its borrowings. These swaps are entered into with financial institutions with investment grade credit ratings, thereby minimizing the risk of credit loss. All items described are non-trading. See Note 8 to the condensed consolidated financial statements and Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, for further information.

At June 30, 2003, the Company’s two interest rate swap agreements had an aggregate notional value of $50.0 million with maturities of $20.0 million in July 2003 and $30.0 million in 2007. The swap agreements exchange the variable rate of LIBOR plus the spread on its revolving credit agreement to fixed interest rate payments ranging from 6.25% to 6.49%.

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The Company accounts for derivative instruments in accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended. All derivatives, whether designated in hedging relationships or not, are required to be recorded on the balance sheet at fair value. If the derivative is designated as a fair value hedge, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings. If the derivative is designated as a cash flow hedge, the effective portions of changes in the fair value of the derivative are recorded in other comprehensive income (“OCI”) and are recognized in the income statement when the hedged items affect earnings. Ineffective portions of changes in the fair value of cash flow hedges are recognized in earnings. All interest rate swaps are effective as cash flow hedges and therefore there is no effect on current earnings from hedge ineffectiveness.

The earnings and cash flows to be paid under the Company’s revolving credit agreement are sensitive to changes in LIBOR. The Company performed a sensitivity analysis to determine the potential variability on earnings and cash flows based on the Company’s swap portfolio and variable rate debt through the respective maturity dates of the swap portfolio. The average interest rates on the variable rate debt and the average receive rate on the interest rate swaps were derived from implied forward three-month LIBOR curves. The variability on earnings and cash flows aggregated approximately $5.0 million over the remaining life of the swap. This information constitutes a “forward-looking statement” and actual results may differ significantly based on actual borrowings and interest rates.

New Accounting Pronouncements

In January 2003, the FASB issued Interpretation (“FIN”) No. 46, “Consolidation of Variable Interest Entities, an interpretation of Accounting Research Bulletin No. 51.” This Interpretation provides clarification on the consolidation of certain entities in which equity investors do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. Such entities are defined as variable interest entities (“VIEs”). FIN No. 46 requires that VIEs be consolidated by the entity considered to be the primary beneficiary of the VIE. The Interpretation is effective for newly created VIEs after January 31, 2003 and effective in the third quarter 2003 for any VIEs created prior to February 1, 2003. The Company is currently evaluating FIN No. 46 and does not expect the adoption to have an impact on the Company’s condensed consolidated financial statements.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” This Statement is effective for contracts entered into or modified after June 30, 2003. The Company does not expect that the adoption of SFAS No. 149 will have a material impact on the Company’s condensed consolidated financial statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. This Statement requires that an issuer classify a financial instrument that is within its scope as a liability or, in some circumstances, as an asset with many such financial instruments having been previously classified as equity. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective on July 1, 2003. The Company does not expect that the adoption of SFAS No. 150 will have an impact on the Company’s condensed consolidated financial statements.

Safe Harbor Statement

This quarterly report contains statements which, to the extent they are not historical fact, constitute “forward looking statements” under the securities laws, which represent the Company’s expectations or beliefs concerning future events, including, but not limited to, statements regarding acquisitions, financing agreements and industry, demographic and other trends affecting the Company. All forward looking statements involve and are qualified by risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to differ materially from those contemplated or projected,

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forecasted, estimated, budgeted, expressed or implied by or in such forward looking statements. These factors include, without limitation, the effects of supplier concentration, competitive conditions within the Company’s industry, seasonal nature of sales of the Company’s products and insurance coverage risks. Forward looking statements speak only as of the date the statement was made. The Company assumes no obligation to update forward looking information to reflect actual results, changes in assumptions or changes in other factors affecting forward looking information. The forward looking statements in this document are intended to be subject to the safe harbor protection provided under the securities laws, particularly Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934, as amended.

The Company’s shareholders should also be aware that while the Company does, at various times, communicate with securities analysts, it is against the Company’s policies to disclose to such analysts any material non-public information or other confidential information. Accordingly, our shareholders should not assume that the Company agrees with all statements or reports issued by such analysts.

For additional information identifying some other important factors which may affect the Company’s operations and markets and could cause actual results to vary materially from those anticipated in the forward looking statements, see the Company’s Securities and Exchange Commission filings, including but not limited to, the discussion included in the Business section of the Company’s 2002 Form 10-K under the heading “Business Risk Factors” and “General Risk Factors.”

Item 4.    Controls and Procedures

Based on their evaluation as of the end of the period covered by this Quarterly Report on Form 10-Q, the Company’s Chief Executive Officer and Chief Financial Officer have each concluded that the Company’s disclosure controls and procedures, (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms. There have been no significant changes in internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1.    Legal Proceedings

The Company and its subsidiaries are involved in litigation incidental to the operation of the Company’s business. The Company vigorously defends all matters in which the Company or its subsidiaries are named defendants and, for insurable losses, maintains significant levels of insurance to protect against adverse judgments, claims or assessments that may affect the Company. In the opinion of the Company, although the adequacy of existing insurance coverage or the outcome of any legal proceedings cannot be predicted with certainty, the ultimate liability associated with any claims or litigation in which the Company or its subsidiaries are involved will not materially affect the Company’s financial condition or results of operations.

Item 2.    Changes in Securities and Use of Proceeds

None

Item 3.    Defaults upon Senior Securities

None

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

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Additionally, Messrs. Albert Nahmad, Cesar Alvarez and Bob Moss will continue to serve as directors of the Company.

Item 5.    Other Information

None

Item 6.    Exhibits and Reports on Form 8-K

A report on Form 8-K dated April 23, 2003, disclosed in Item 9, Regulation FD Disclosure, that the Company issued a press release reporting its financial results for the quarter ended March 31, 2003. A copy of the Company’s press release was attached as Exhibit 99.1 to the Form 8-K.

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SIGNATURES

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

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INDEX TO EXHIBITS