<PAGE>
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 ENDING MARCH 29, 1998
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM ________ TO________
Commission File Number: 000-22237
PALEX, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 76-0520673
(State of other jurisdiction of (I.R.S. Employer Identification No.)
incorporation) or organization)
1360 POST OAK BLVD., SUITE 800
HOUSTON, TEXAS 77056
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 713-350-6030
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 filed such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
The number of shares of Common Stock of the Registrant, par value $.01 per
share, outstanding at May 13, 1998 was 18,358,578.
<PAGE>
PALEX, INC.
FORM 10-Q FOR THE QUARTERLY PERIOD ENDED MARCH 29, 1998
INDEX
<TABLE>
<CAPTION>
Part I - Financial Information
Item 1 - Financial Statements
<S> <C>
General Information.............................................................. 3
Consolidated Balance Sheets - PalEx, Inc. and Subsidiaries as
of December 28, 1997 and March 29, 1998.......................................... 5
Consolidated Statements of Income - PalEx, Inc. and Subsidiaries
for the Three Month Periods Ended March 30, 1997 and March 29, 1998.............. 6
Consolidated Statement of Changes in Stockholders' Equity-
PalEx, Inc. and Subsidiaries for the Three Month Period
Ended March 29, 1998............................................................. 7
Consolidated Statements of Cash Flows - PalEx, Inc. and Subsidiaries
for the Three Month Periods Ended March 30, 1997 and March 29, 1998.............. 8
Notes to the Consolidated Financial Statements................................... 9
Item 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................................ 19
Part II - Other Information
Item 1 - Legal Proceedings....................................................... 23
Item 2 - Recent Sales of Unregistered Securities................................. 23
Item 6 - Exhibits and Reports on Form 8-K........................................ 24
Signature........................................................................ 25
</TABLE>
2
<PAGE>
PALEX, INC.
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
GENERAL INFORMATION
PalEx, Inc. ("PalEx" or the "Company") was founded in January 1996 to create a
national provider of pallet products and related services. On March 25, 1997,
concurrently with the closing of the initial public offering (the "Offering") of
its Common Stock, par value $.01 per share (the "Common Stock"), PalEx acquired
the following three businesses in separate transactions (the "Acquisitions"):
Fraser Industries, Inc. ("Fraser"), Ridge Pallets, Inc. ("Ridge") and Interstate
Pallet Co., Inc. (" Interstate" and, together with Fraser and Ridge,
collectively referred to as the "Founding Companies"). The consideration for the
Acquisitions of the Founding Companies consisted of a combination of cash and
Common Stock. Fraser has been identified as the accounting acquiror for
financial statement presentation purposes. The acquisitions of Ridge and
Interstate were accounted for using the purchase method of accounting.
Subsequent to the acquisition of the Founding Companies and the Offering and
during fiscal 1997, PalEx acquired five additional companies. Sheffield Lumber
& Pallet Company, Inc. ("Sheffield"), Sonoma Pacific Company ("Sonoma"), Bay
Area Pallet ("Bay Area") and New London Pallet ("New London") were accounted for
as poolings-of-interests (the "Pooled Companies"). The fifth acquisition,
Summers Pallet Manufacturing, Inc. ("Summers"), was accounted for as a purchase.
After fiscal 1997, and through March 29, 1998, the Company acquired nine
additional companies, four of which, Acme Barrel Company, Inc. ("Acme"), Drum
Service Co. of Florida ("DSF"), Consolidated Container Corporation ("CCC") and
Western Container, LLC ("Western") were accounted for as poolings-of-interests
(the "1998 Pooled Companies"). The other five companies, Consolidated Drum
Reconditioning, Inc. ("CDR"), American Pallet Recyclers ("APR"), Capital Pallet
Company ("Capital"), Pallet Outlet Company, Inc. ("POC") and Southern Pallet
Company ("Southern") were accounted for as purchases (the "1998 Purchased
Companies" and, together with Summers, the "Purchased Companies"). Five of the
nine companies acquired after fiscal 1997 and through March 29, 1998 are engaged
in the reconditioning and rebuilding of industrial steel containers.
Unless the context otherwise requires, all references herein to the Company
include PalEx, the Founding Companies, the Pooled Companies, the 1998 Pooled
Companies and the Purchased Companies.
Operating results for interim periods are not necessarily indicative of the
results for full years. The financial statements included herein should be read
in conjunction with the
3
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related notes thereto and management's discussion and analysis and the
Supplemental Consolidated Financial Statements of PalEx, Inc. and Subsidiaries
as of December 28, 1997 and related notes thereto as filed on the Company's Form
8-K, as amended on April 28, 1998.
4
<PAGE>
PALEX, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
March 29, 1998
December 28, 1997 (UNAUDITED)
----------------- -----------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents........................................................... $ 7,448 $ 2,821
Accounts receivable, net of allowance of $617 and $756.............................. 21,592 32,161
Inventories......................................................................... 20,383 26,059
Deferred income taxes............................................................... 945 770
Other current assets................................................................ 3,387 3,587
-------- --------
Total current assets...................................................... 53,755 65,398
PROPERTY, PLANT AND EQUIPMENT, net.................................................. 37,850 48,506
GOODWILL, net of accumulated amortization of $593 and $935.......................... 26,262 81,541
OTHER ASSETS........................................................................ 2,138 2,201
-------- --------
Total assets.............................................................. $120,005 $197,646
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Line of credit...................................................................... $ 1,150 $ --
Current maturities of long-term debt................................................ 1,057 372
Accounts payable.................................................................... 9,342 13,369
Accrued expenses.................................................................... 5,094 7,848
Income taxes payable................................................................ 1,407 2,008
----- -----
Total current liabilities................................................. 18,050 23,597
LONG-TERM DEBT, net of current maturities........................................... 30,673 93,006
DEFERRED REVENUE.................................................................... 568 830
DEFERRED INCOME TAXES............................................................... 3,167 3,197
OTHER LONG-TERM LIABILITIES......................................................... 110 196
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock $.01 par value,
5,000,000 shares authorized, no
shares issued....................................................................... -- --
Common stock, $.01 par value,
30,000,000 shares authorized, 17,644,520 and
18,358,578 outstanding.............................................................. 176 183
Additional paid-in capital.......................................................... 54,107 62,793
Unearned compensation............................................................... (1,770) (1,770)
Retained earnings................................................................... 14,924 15,614
------- -------
67,437 76,820
------- -------
Total liabilities and stockholders' equity $120,005 $197,646
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
PALEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED
------------------------
MARCH 30, 1997 MARCH 29, 1998
-------------- --------------
<S> <C> <C>
REVENUES.................................................... $39,797 $68,970
COST OF GOODS SOLD.......................................... 33,837 56,370
------- -------
Gross profit.............................................. 5,960 12,600
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES................ 3,166 6,580
POOLING EXPENSES............................................ -- 1,651
COMPENSATION DIFFERENTIAL .................................. 298 1,062
GOODWILL AMORTIZATION....................................... -- 342
------ ------
Income from operations.................................... 2,496 2,965
INTEREST EXPENSE............................................ (79) (937)
OTHER INCOME (EXPENSE), NET................................. (204) 7
------ ------
INCOME BEFORE INCOME TAXES.................................. 2,213 2,035
PROVISION FOR INCOME TAXES.................................. 871 875
------ ------
NET INCOME...................................................... $1,342 $1,160
====== ======
NET INCOME PER SHARE............................................ $.12 $.06
NET INCOME PER SHARE-DILUTED................................... $.12 $.06
NET INCOME PER SHARE-DILUTED, ADJUSTED FOR
POOLING EXPENSES AND OWNER'S COMPENSATION DIFFERENTIAL........ $.13 $.15
Shares used in computing net income per share................... 11,223,804 17,920,864
Shares used in computing net income
per share-diluted.............................................. 11,362,165 18,376,703
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
6
<PAGE>
PALEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Common Stock Capital in Total
--------------- Excess of Unearned Retained Stockholders'
Shares Amount Par Value Compensation Earnings Equity
------ ------ ---------- ------------ -------- ------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, December 28, 1997 17,644 $176 $54,107 $(1,770) $14,924 $67,437
Acquisition of purchased companies 715 7 9,043 -- -- 9,050
Purchase of minority interest in
pooled company -- -- (480) -- -- (480)
Capital contributions -- -- 123 -- -- 123
Adjustment to conform year-end of
pooled companies -- -- -- -- (470) (470)
Net income -- -- -- -- 1,160 1,160
------ ---- ------- ------- ------- -------
BALANCE, March 29, 1998 18,359 $183 $62,793 $(1,770) $15,614 $76,820
====== ==== ======= ======= ======= =======
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
7
<PAGE>
PALEX, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED
------------------------
<S> <C> <C>
MARCH 30, 1997 MARCH 29, 1998
-------------- --------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.......................................................... $ 1,342 $ 1,160
Net loss for Fraser for one-month transition period................ (66) -
Adjustment to conform fiscal year-end of Pooled Companies.......... 467 (470)
Unearned compensation............................................... (280) -
Cash acquired from pooled company at inception...................... 51 -
Adjustments to reconcile net income to net cash
used in operating activities -
Depreciation and amortization.................................. 971 2,012
Deferred income taxes.......................................... 363 108
Gain on sale of assets......................................... - (22)
Changes in operating assets and liabilities -
Accounts receivable.......................................... (2,370) (3,594)
Inventories.................................................. (1,624) (2,883)
Other current assets......................................... 536 95
Accounts payable and accrued expenses........................ (1,092) 2,159
Other assets and liabilities................................. (2,342) 83
Deferred income.............................................. ( 221) 262
-------- --------
Net cash used in operating activities............................ (4,265) (1,090)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant and equipment........................... (1,135) (2,194)
Proceeds from sale of equipment..................................... - 105
Cash paid for business acquisitions, net of cash acquired........... (1,098) (51,753)
-------- --------
Net cash used in investing activities............................ (2,233) (53,842)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings (repayments) on line of credit 261 (1,150)
Proceeds from long-term debt........................................ 6,667 72,950
Payments on long-term debt.......................................... (14,717) (21,015)
Net proceeds from issuance of common stock.......................... 20,441 -
Distributions and dividends......................................... (7,375) -
Purchase of minority interest in pooled company..................... - (480)
-------- --------
Net cash provided by financing activities........................ 5,277 50,305
-------- --------
NET DECREASE IN CASH AND CASH EQUIVALENTS................................ (1,221) (4,627)
CASH AND CASH EQUIVALENTS -beginning of period 2,865 7,448
-------- --------
CASH AND CASH EQUIVALENTS -end of period $ 1,644 $ 2,821
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for -
Interest......................................................... $ 221 $ 611
Income taxes..................................................... $ 95 $ 274
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
8
<PAGE>
PALEX AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 29, 1998
(UNAUDITED)
1. BASIS OF PRESENTATION
PalEx, Inc. ("PalEx" or the "Company") was founded in January 1996 to create
a nationwide provider of pallet products and related services. On March 25,
1997, concurrently with the closing of PalEx's initial public offering (the
"Offering") of its common stock, par value $.01 per share (the "Common Stock"),
PalEx and separate wholly owned subsidiaries of PalEx acquired, in separate
transactions (the "Acquisitions"), the following three businesses: Fraser
Industries, Inc. ("Fraser"), Ridge Pallets, Inc. ("Ridge"), and Interstate
Pallet Co., Inc. ("Interstate"), collectively referred to as the "Founding
Companies." The consideration for the acquisitions of the Founding Companies
consisted of a combination of cash and Common Stock.
Subsequent to the acquisition of the Founding Companies and the Offering and
during fiscal 1997, PalEx acquired five additional companies, four of which were
accounted for as poolings-of-interests (the "Pooled Companies"). The fifth
acquisition, Summers Pallet Manufacturing, Inc. ("Summers"), was accounted for
as a purchase.
After fiscal 1997, and through March 29, 1998, the Company acquired nine
additional companies, four of which, Acme Barrel Company, Inc. ("Acme"), Drum
Service Co. of Florida ("DSF"), Consolidated Container Corporation ("CCC") and
Western Container, LLC ("Western") were accounted for as poolings-of-interests
(the "1998 Pooled Companies"). The remainder were accounted for as purchase
accounting transactions (the "1998 Purchased Companies"). Five of the nine
companies are engaged in the reconditioning and rebuilding of industrial steel
containers.
The historical consolidated financial statements for the quarter ended March
30, 1997 have been retroactively restated for the acquisitions of the Pooled
Companies and the 1998 Pooled Companies.
The Company's headquarters are in Houston, Texas, with significant
manufacturing operations located in Texas, California, Florida, Illinois and
North Carolina. Sales are made throughout the United States with significant
concentrations in the southeastern, midwestern and western regions of the United
States serving primarily agricultural and industrial customers. Revenues related
to the agricultural customers are highly seasonal, occurring primarily during
the harvesting season.
Fraser has been identified as the accounting acquiror for financial
statement presentation purposes. The acquisitions of Ridge, Interstate and
Summers (the "Purchased Companies") and the 1998 Purchased Companies were
accounted for using the purchase method of accounting. The allocations of the
purchase price to the assets acquired and liabilities assumed has been assigned
and recorded based
9
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on estimates of fair value and may be revised as additional information
concerning the valuation of such assets and liabilities becomes available. The
accompanying consolidated financial statements present Fraser combined with the
Pooled Companies and the 1998 Pooled Companies for the periods presented, and
include the Purchased Companies and the 1998 Purchased Companies from their
respective dates of acquisition. All significant intercompany transactions and
balances have been eliminated in consolidation.
The accompanying unaudited consolidated financial statements are prepared
pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly,
certain information and footnotes required by generally accepted accounting
principles for complete financial statements are not included herein. The
Company believes all adjustments necessary for a fair presentation of these
interim statements have been included and are of a normal and recurring nature.
The interim statements should be read in conjunction with the financial
statements and notes thereto included in Form 8-K, as amended on April 28, 1998.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
During 1997, PalEx changed its year-end to the last Sunday in the calendar year
from November 30. Accordingly, it maintains its accounting records using a
52/53-week year ending on the last Sunday in December. Each quarter contains 13
weeks, unless otherwise noted.
Acme, DSF and CCC previously reported on year-ends of April 30, October 31 and
November 30, respectively. The results of operations for Acme have been
conformed to the fiscal-year end of PalEx. The results of operations included
herein for the three months ended March 30, 1997 include DSF and CCC for their
respective three-month periods ended January 31 and February 28, 1997. An
adjustment has been made to the accompanying consolidated statements of
stockholders' equity and cash flows for the three months ended March 29, 1998 to
reflect the transition periods of DSF and CCC.
There has been no significant change in the accounting policies of the Company
during the periods presented. For a description of these policies, refer to Note
2 of Notes to Supplemental Consolidated Financial Statements of PalEx as filed
in Company's Form 8-K, as amended on April 28, 1998.
3. CREDIT FACILITY
On March 25, 1997, the Company entered into a credit agreement with Bank One,
Texas, N.A., which was amended on January 29, 1998 (the "Credit Facility"). The
Credit Facility provides the Company with a revolving line of credit of up to
$125.0 million which may be used for general corporate purposes, including the
repayment or refinancing of indebtedness of the Founding, Pooled, Summers and
the 1998 Pooled and 1998 Purchased Companies, future acquisitions, capital
expenditures, letters of credit and working capital. Advances under the Credit
Facility bear interest at designated variable rates plus margins ranging from 0
to 25 basis points, depending on the ratio of the Company's interest bearing
debt to its pro forma trailing earnings before interest, taxes, depreciation and
10
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amortization for the previous four quarters. At the Company's option, the loans
may bear interest based on a designated London Interbank Offering Rate ("LIBOR")
plus a margin ranging from 75 to 175 basis points, depending on the ratio noted
above. Commitment fees of 17.5 to 30 basis points are payable on the unused
portion of the line of credit. The Credit Facility contains a limit for standby
letters of credit up to $10 million. There were letter of credit commitments of
approximately $3.1 million outstanding under the Credit Facility at March 29,
1998. The Credit Facility prohibits the payment of dividends by the Company,
restricts the Company's incurrence or assumption of other indebtedness and
requires the Company to comply with certain financial covenants, including fixed
charge coverage, funded debt to earnings before taxes, depreciation, interest
and amortization and tangible assets to total liabilities ratios. The Company
was in compliance with the covenants at March 29, 1998. The Credit Facility will
terminate and all amounts outstanding thereunder, if any, will be due and
payable January 29, 2003. The approximate level of borrowings available under
the Credit Facility at March 29, 1998 was approximately $40.0 million. The
Company's subsidiaries have guaranteed the repayment, and the outstanding stock
of each of the Company's subsidiaries has been pledged to secure the repayment,
of all amounts due under the Credit Facility.
11
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4. CAPITAL STOCK
On March 25, 1997, PalEx completed the Offering, which involved the sale by
PalEx of 3,000,000 shares of Common Stock at a price to the public of $7.50 per
share. The net proceeds to PalEx from the Offering (after deducting underwriting
discounts, commissions and offering expenses) were approximately $20.1 million.
Of this amount, $3.4 million was used to pay the cash portion of the purchase
prices relating to the acquisitions of the Founding Companies with the remainder
being used to pay certain indebtedness of the Founding Companies.
On April 22, 1997, the Company sold an additional 450,000 shares of Common Stock
at a price to the public of $7.50 per share (generating net proceeds to the
Company of approximately $3.1 million after underwriting discounts and
commissions) pursuant to an over-allotment option granted by the Company to the
underwriters in connection with the Offering.
5. EARNINGS PER SHARE
In February 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 128 ("SFAS No. 128"), "Earnings Per Share."
The Company adopted SFAS No. 128 for the year ended December 28, 1997. SFAS No.
128 simplifies the standards required for computing earnings per share and
replaces the presentation of primary net income per share and fully diluted net
income per share with a presentation of basic net income per share ("Net income
per share") and diluted net income per share ("Net income per share - diluted").
Net income per share excludes dilution and is determined by dividing income
available to common stockholders by the weighted average number of common shares
outstanding during the period. Net income per share - diluted reflects the
potential dilution that could occur if securities and other contracts to issue
common stock were exercised or converted into common stock. Net income per
share - diluted is computed similarly to fully diluted net income per share
under previous accounting rules. The March 30, 1997 net income per share and net
income per share - diluted amounts have been restated in accordance with SFAS
No. 128.
Net income per share was computed using 11,223,804 shares (the weighted average
number of shares attributable to Fraser, the shares issued in acquisition of the
Pooled and 1998 Pooled Companies, the shares issued in the acquisition of Ridge
and Interstate, the shares issued pursuant to the Offering, the shares issued to
Main Street Capital Partners, L.P. and PalEx management and the shares issued to
the profit sharing plans of the Founding Companies) for the quarter ended March
30, 1997. Net income per share for the quarter ended March 29, 1998 is based on
17,920,864 weighted average outstanding shares, which, in addition to the
aforementioned shares, includes shares issued in consideration for the
acquisition of Summers and companies acquired during the quarter that were
accounted for as purchases, as well as the weighted average outstanding shares
issued pursuant to the over-allotment option.
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6. INCOME TAXES
Prior to the Acquisitions, the stockholders of Fraser elected to be taxed under
the provisions of Subchapter S of the Internal Revenue Code. Under these
provisions, Fraser did not pay federal and certain state income taxes because
their stockholders paid income taxes on their proportionate share of the
respective companies' earnings. Commencing with the Acquisitions and the
Offering, the Company began to be taxed at applicable federal and state income
tax rates.
The Pooled Companies were S Corporations for income tax purposes and,
accordingly, any income tax liabilities for the periods prior to the acquisition
date are the responsibility of the respective stockholders. For purposes of
these consolidated financial statements, federal and state income taxes have
been provided as if these companies had filed C Corporation tax returns for the
preacquisition periods. The current income tax expense of these S Corporations
is reflected in the consolidated financial statements in the provision for
income taxes and as an increase to capital in excess of par.
The Company intends to file a consolidated federal income tax return which
includes the operations of the Founding, Pooled, 1998 Pooled Companies and
Purchased Companies for periods subsequent to the respective acquisitions. Each
of the Companies will file a "short period" federal income tax return through
their respective acquisition dates.
Fraser recorded a charge to income tax expense of approximately $488,000 on
March 25, 1997 representing deferred income taxes at that date which were not
previously recorded because of Fraser's status under Subchapter S.
7. COMMITMENTS AND CONTINGENCIES
LITIGATION
The Company is involved in various legal proceedings that have arisen in the
ordinary course of business. While it is not possible to predict the outcome of
such proceedings with certainty, in the opinion of the Company's management, all
such proceedings are either adequately covered by insurance or, if not so
covered, should not ultimately result in any liability which would have a
material adverse effect on the financial position, liquidity or results of
operations of the Company.
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INSURANCE
The Company carries a broad range of insurance coverage, including general
and business auto liability, commercial property, workers' compensation and a
general umbrella policy.
The Company is self-insured for certain medical claims up to $50,000 per
person per year. Provisions for expected future payments are accrued based on
the Company's estimate of its aggregate liability for all open and unreported
claims.
POTENTIAL ENVIRONMENTAL LIABILITY
In February 1998, the Company acquired DSF, a steel drum reconditioning company
with a facility in Florida. DSF is a wholly-owned subsidiary of the Company. In
1982, DSF was notified by the U.S. Environmental Protection Agency (the "EPA")
and the Florida Department of Environmental Regulation (the "DER") that they
believed that DSF might be a potentially responsible party ("PRP") regarding the
Zellwood Groundwater Contamination Site in Orange County, Florida (the "Zellwood
Site"). The Zellwood Site was designated a "Superfund" environmental clean-up
site after the DER discovered arsenic contamination in a shallow monitoring well
adjacent to it. The DSF facility is a portion of the 57 acres constituting the
Zellwood Site. The Company believes that DSF and its former sole shareholder
were among approximately 25 entities and individuals identified as PRPs by the
EPA.
Between March 1990 and July 1996, the EPA issued various unilateral
administrative orders and notices to DSF and various other PRPs. Those orders
and notices demanded reimbursement from PRPs of approximately $2 million of the
EPA's costs regarding the Zellwood Site and requested the PRPs to accept
financial responsibility for additional clean-up efforts. During that time, the
EPA estimated that the cost of the selected remedy for soil at the Zellwood Site
would be approximately $1 million and the cost of the selected remedy for
groundwater at the Zellwood Site would be approximately $5.1 million. DSF and
the other PRPs did not agree to the EPA's demands or agree to fund any
additional clean-up. In April 1997, the EPA issued an order unilaterally
withdrawing its previous orders. Since that withdrawal order, the EPA has not
taken any formal administrative or civil action against DSF or its former
shareholder.
DSF has maintained comprehensive general liability insurance coverage for over
25 years and has notified various insurers of the EPA's claims regarding the
Zellwood Site. A number of those insurers' policies did not contain an exclusion
for pollution. In 1992, DSF settled a claim with an insurer for an amount that
covered a substantial portion of the costs Drum Service had incurred in dealing
with the EPA and the DER. DSF has identified other umbrella liability policies
for which coverage may also be available and has been approached by the insurer
under two of those policies seeking a settlement. The Company does not know
when, if ever, the EPA may make a claim against DSF regarding the Zellwood Site.
Further, the Company cannot estimate the amount of any such claim or, in light
of the existence of other PRPs, the extent of any liability of DSF.
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The Company and DSF will continue to evaluate the availability of additional
insurance coverage for this matter.
OPERATING LEASE AGREEMENTS
The Company conducts a portion of its operations and warehouses certain of its
products in leased facilities under leases accounted for as operating leases.
The leases provide for payment of taxes and other expenses by the Company. Rent
expense for operating leases was approximately $850,000 and $573,000 in the
three months ended March 30, 1997 and March 29, 1998, respectively.
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8. BUSINESS SEGMENTS
The company has two business segments, one operating in the pallet industry and
the other in the steel drum reconditioning industry. The Pallet segment
produces, recycles and sells wooden pallets in the United States primarily for
use in agricultural and industrial markets. The Drum segment reconditions steel
drums in the United States primarily for use in agricultural and industrial
markets. There were no significant intercompany sales between the two segments
for the three month period ended March 30, 1997 and March 29, 1998.
<TABLE>
<CAPTION>
For the three month period ended
- -----------------------------------------------------------------------------------------------------------------------------------
March 30, 1997 March 29, 1998
- -----------------------------------------------------------------------------------------------------------------------------------
Pallet Drum Consolidated Pallet Drum Consolidated
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Revenues $ 26,574 $ 13,223 $ 39,797 $ 51,953 $ 17,017 $ 68,970
========= =========== ========= ============ ============ ==========
Earnings contribution $ 2,900 $ (404) $ 2,496 $ 4,533 $ (552) $ 3,981
========= =========== ============ ============
Corporate expenses - (674)
Interest expense (79) (937)
Amortization of goodwill - (342)
Other income (expenses) (204) 7
--------- ---------
Income before provision
for income taxes $ 2,213 $ 2,035
========= =========
Operating assets -
Accounts receivable $ 14,238 $ 7,679 $ 21,917 $ 21,230 $ 10,931 $ 32,161
========= =========== ============ ============
Inventories $ 13,983 $ 2,251 16,234 $ 22,162 $ 3,897 26,059
========= =========== ============ ============
Property and equipment, net $ 26,054 $ 6,945 32,999 $ 37,649 $ 10,857 48,506
========= =========== ============ ============
Other assets 29,132 90,920
--------- ---------
Total assets $ 100,282 $ 197,646
========== =========
</TABLE>
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<PAGE>
Earnings contribution for the Drum segment for the quarter ended March 29, 1998
includes charges of $1.7 million for investment advisory fees related to the
acquisition of one of the 1998 Pooled Companies and compensation differential
(the difference between previous owners' and officers' compensation before the
acquisitions and the amounts to which they have agreed to prospectively) of $1.1
million incurred in conjunction with the acquisition of Acme and Western. There
were no pooling expenses for the quarter ended March 30, 1997. Compensation
differential was approximately $298,000 for the three months ended March 30,
1997.
17
<PAGE>
9. PRO FORMA RESULTS OF OPERATIONS
The following unaudited pro forma statements of income for the three month
period ended March 30, 1997 and March 29, 1998 includes the results of PalEx
combined with the Founding Companies, the Pooled Companies, the 1998 Pooled
Companies, Summers and the 1998 Purchased Companies as if the acquisitions had
occurred as of January 1, 1997. The unaudited pro forma statements of income
include the effects of certain reductions in salaries and benefits to the former
owners of the Founding, Pooled, 1998 Pooled and 1998 Purchased Companies and
Summers to which they have agreed prospectively, adjustment for pooling expenses
and compensation differential incurred in conjunction with the
acquisition of Acme and Western, amortization of goodwill resulting from the
acquisitions, income tax expense as if income was subject to federal and state
income taxes during the period, and changes in interest expense resulting from
the repayment or refinancing of debt. The unaudited pro forma statements of
income may not be comparable to and may not be indicative of the Company's post-
acquisition results of operations because, among other matters, (i) the
Founding, Pooled, 1998 Pooled and 1998 Purchased Companies and Summers were not
under common control or management and (ii) the Company used the purchase method
to establish a new basis of accounting to record the Purchased Companies.
PALEX, INC. AND SUBSIDIARIES
STATEMENTS OF PRO FORMA COMBINED INCOME
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED
------------------------
MARCH 30, 1997 MARCH 29, 1998
-------------- --------------
<S> <C> <C>
REVENUES.............................. $71,598 $79,345
COST OF GOODS SOLD.................... 58,083 64,803
------ ------
Gross profit..................... 13,515 14,542
SELLING, GENERAL AND
ADMINISTRATIVE EXPENSES.............. 5,376 6,813
GOODWILL AMORTIZATION................. 666 675
--- ---
Income from operations........... 7,473 7,054
INTEREST EXPENSE...................... (1,128) (1,313)
OTHER INCOME (EXPENSE), NET........... (383) 48
----- --
INCOME BEFORE INCOME TAXES............ 5,962 5,789
PROVISION FOR INCOME TAXES............ 2,492 2,421
----- -----
NET INCOME............................ $ 3,470 $ 3,368
======= =======
NET INCOME PER SHARE - DILUTED $.19 $.18
Shares used in computing net income
per share - diluted.................. 18,496,939 18,814,417
</TABLE>
10. SUBSEQUENT EVENT
On April 29, 1998, the Company notified its largest customer, CHEP USA
("CHEP"), that PalEx was terminating all existing agreements with CHEP.
Effective that date, the Company ceased supplying CHEP with new pallets and
provided advance notice (generally, ten to sixty days) under contractual
arrangements to discontinue repair and depot services for CHEP.
The termination of the Company's relationship with CHEP is expected to affect
the operations of certain of the Company's facilities in the southeastern and
western United States. Certain facilities dedicated to CHEP production may be
closed. Operations at certain facilities will be reduced, while others will be
converted to alternative business activities. Management expects reductions in
the work force to occur.
The Company's results of operations for the quarter ended June 28, 1998 will
include an after tax charge to continuing operations of between $1.0 and $3.0
million representing management's estimate of the restructuring
18
<PAGE>
costs associated with the conversion or closing of facilities. Management is in
the process of evaluating the impact on earnings of Statement of Financial
Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of" for possible application.
PALEX, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
INTRODUCTION
The following discussion should be read in conjunction with the Supplemental
Consolidated Financial Statements of the Company and related notes thereto which
are included in the Company's Form 8-K, as amended. Statements contained in
this discussion regarding future financial performance and results and other
statements that are not historical facts are forward-looking statements. The
forward-looking statements are subject to numerous risks and uncertainties to
the Company, including but not limited to the availability of attractive
acquisition opportunities, the successful integration and profitable management
of acquired businesses, improvement of operating efficiencies, the availability
of working capital and financing for future acquisitions, the Company's ability
to grow internally through expansion of services and customer bases and
reduction of overhead, conditions in lumber markets, seasonality, weather
conditions and other risk factors discussed in the Company's Annual Report on
Form 10-K.
RESULTS OF OPERATIONS
The results of operations for the periods presented include Fraser, the Pooled
Companies and the 1998 Pooled Companies. In addition, the Purchased Companies
are included from their respective dates of acquisition.
Quarterly results may be materially affected by the timing and magnitude of
acquisitions, assimilation costs, costs of opening new facilities, gain or loss
of a material customer, variation in product mix and weather conditions.
Accordingly, the operating results for any interim period are not necessarily
indicative of the results that may be achieved for any subsequent interim period
or for a full fiscal year.
19
<PAGE>
THREE MONTHS ENDED MARCH 30, 1997 AND MARCH 29, 1998
The following table sets forth certain selected financial data as a percentage
of revenues for the periods indicated (dollars in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------
MARCH 30, 1997 MARCH 29, 1998
-------------- --------------
<S> <C> <C> <C> <C>
Revenues.............................. $39,797 100.0% $68,970 100.0%
Cost of Sales......................... 33,837 85.0 56,370 81.7
------ ---- ------- ----
Gross profit.......................... 5,960 15.0 12,600 18.3
Selling, general and administrative
expenses.............................. 3,166 8.0 6,580 9.5
Pooling expenses...................... - - 1,651 2.4
Compensation differential............. 298 .7 1,062 1.5
Amortization of goodwill.............. - - 342 .5
------ ---- ------- ----
Income from operations................ 2,496 6.3 2,965 4.4
Interest expense...................... (79) (.2) (937) (1.4)
Other income (expense), net........... (204) (.5) 7 -
------ ---- ------- ----
Income before income taxes............ 2,213 5.6 2035 3.0
Provision for income taxes............ 871 2.2 875 1.3
--- --- ------- ----
Net income............................ $1,342 3.4% $ 1,160 1.7%
====== === ======= ====
</TABLE>
Revenues increased 73.3% from approximately $39.8 million in the three months
ended March 30, 1997 to $69.0 million in the three months ended March 29, 1998.
This increase was primarily attributable to the acquisition of Ridge, Interstate
and the other Purchased Companies and to an increase in the average sales price
of new pallets, resulting from higher raw material costs, a portion of which was
passed on to customers in the form of higher sales prices.
Unit sales of new pallets increased from approximately 1.7 million units for the
three months ended March 30, 1997 to approximately 3.0 million units for the
three months ended March 29, 1998. Unit sales of repaired and used pallets
increased from approximately 1.9 million units for the three months ended March
30, 1997 to approximately 2.8 million units for the three months ended March 29,
1998. Unit sales of agricultural harvesting boxes and specialty bins increased
from approximately 5,000 units for the three months ended March 30, 1997 to
approximately 44,400 units for the three months ended March 29, 1998. Unit sales
of reconditioned drums increased from approximately 777,000 units for the three
months ended March 30, 1997 to approximately 1.0 million for the three months
ended March 29, 1998.
Gross profit increased from approximately $6.0 million for the three months
ended March 30, 1997 to $12.6 million for the three months ended March 29, 1998,
primarily as a result of increased volumes due to the acquisition of the
Purchased Companies. Gross profit as a percentage of revenues increased from
15.0% for the three months ended March 30, 1997 to 18.3% for the three months
ended March 29, 1998, primarily as a result of the higher gross margins that
accompany sales of repaired and used pallets. The
20
<PAGE>
Company's gross profit as a percentage of revenues may fluctuate as a result
of competitive pricing in different market areas in which it operates and
continued changes in product mix. Gross profit for the drum segment increased
because of increases in sales prices, lower costs for raw drums and improvements
in reconditioning methods.
Selling, general and administrative costs increased from approximately $3.2
million in the three months ended March 30, 1997 to $6.6 million in the three
months ended March 29, 1998 and were 8.0% and 9.5% of revenues, respectively.
This increase is generally attributable to the Purchased Companies and to the
increased costs associated with being a public company.
Interest expense increased to approximately $.9 million for the quarter ended
March 29, 1998, primarily as a result of the additional borrowings related to
the acquisitions of the Purchased Companies.
Federal and state income taxes have been provided on the earnings of Fraser,
the Pooled Companies and the 1998 Pooled Companies for the three month periods
ended March 30, 1997 and March 29, 1998 and on Ridge, Interstate, Summers and
the 1998 Purchased Companies from their respective dates of acquisition. The
provision for income taxes for the three months ended March 30, 1997 includes a
charge of approximately $488,000 representing deferred income taxes for Fraser
at the time of the Offering which were not previously recorded because of
Fraser's status under Subchapter S of the Internal Revenue Code.
As a result of the foregoing, net income for the three months ended March 29,
1998 decreased to approximately $1.2 million from $1.3 million for the three
months ended March 30, 1997.
The results of operations for the three months ended March 29, 1998 include
charges of approximately $1.7 million and $1.1 million for pooling expenses and
compensation differential, respectively. There were no pooling expenses for the
quarter ended March 30, 1997. Compensation differential was approximately
$298,000 for the three months ended March 30, 1997.
LIQUIDITY AND CAPITAL RESOURCES
On March 25, 1997, PalEx completed the Offering, which involved the sale of
3,000,000 shares of Common Stock at a price to the public of $7.50 per share.
The net proceeds to PalEx from the Offering (after deducting underwriting
discounts, commissions and offering expenses) were approximately $20.1 million.
Of this amount, $3.4 million was used to pay the cash portion of the purchase
prices relating to the Acquisitions with the remainder being used to repay
certain indebtedness of the Founding Companies.
On April 22, 1997, the Company sold an additional 450,000 shares of Common Stock
at a price to the public of $7.50 per share (generating net proceeds to the
Company of $3.1 million after underwriting discounts and commissions) pursuant
to an over-allotment option granted by the Company to the underwriters in
connection with the Offering. The net proceeds were used to repay debt borrowed
under the Credit Facility.
On March 25, 1997, the Company entered into a credit agreement with Bank One,
Texas, N.A., which was amended on January 29, 1998 (the "Credit Facility"). The
Credit Facility provides the Company with a revolving line of credit of up to
$125.0 million which may be used for general corporate purposes, including the
repayment or refinancing of indebtedness of the Founding, Pooled, Summers, and
the 1998 Pooled and 1998 Purchased Companies, future acquisitions, capital
expenditures, letters of credit and working capital. Advances under the Credit
Facility bear interest at designated variable rates plus margins ranging from 0
to 25 basis points, depending on the ratio of the Company's interest
21
<PAGE>
bearing debt to its pro forma trailing earnings before interest, taxes,
depreciation and amortization for the previous four quarters. At the Company's
option, the loans may bear interest based on a designated London Interbank
Offering Rate ("LIBOR") plus a margin ranging from 75 to 175 basis points,
depending on the ratio noted above. Commitment fees of 17.5 to 30 basis points
are payable on the unused portion of the line of credit. The Credit Facility
contains a limit for standby letters of credit up to $10 million. There were
letter of credit commitments of approximately $3.1 million outstanding under the
Credit Facility at March 29, 1998. The Credit Facility prohibits the payment of
dividends by the Company, restricts the Company's incurrence or assumption of
other indebtedness and requires the Company to comply with certain financial
covenants, including fixed charge coverage, funded debt to earnings before
taxes, depreciation, interest and amortization and tangible assets to total
liabilities ratios. The Company was in compliance with the covenants at March
29, 1998. The Credit Facility will terminate and all amounts outstanding
thereunder, if any, will be due and payable January 29, 2003. The approximate
level of borrowings available under the Credit Facility at March 29, 1998 was
approximately $40.0 million. The Company's subsidiaries have guaranteed the
repayment, and the outstanding stock of each of the Company's subsidiaries has
been pledged to secure the repayment, of all amounts due under the Credit
Facility.
The Company intends to pursue acquisitions. The timing, size or success of any
acquisitions and the resulting additional capital commitments are unpredictable.
The Company expects to fund future acquisitions primarily through a combination
of issuances of additional equity, working capital, cash flow from operations
and borrowings, including the unused portion of the Credit Facility. To the
extent new sources of financing are necessary to fund future acquisitions, there
can be no assurance that the Company can secure such additional financing if and
when it is needed or on terms deemed acceptable to the Company.
SUBSEQUENT EVENT
On April 29, 1998, the Company notified its largest customer, CHEP USA
("CHEP"), that PalEx was terminating all existing agreements with CHEP.
Effective that date, the Company ceased supplying CHEP with new pallets and
provided advance notice (generally, ten to sixty days) under contractual
arrangements to discontinue repair and depot services for CHEP.
The termination of the Company's relationship with CHEP is expected to affect
the operations of certain of the Company's facilities in the southeastern and
western United States. Certain facilities dedicated to CHEP production may be
closed. Operations at certain facilities will be reduced, while others will be
converted to alternative business activities. Management expects reductions in
the work force to occur.
The Company's results of operations for the quarter ended June 28, 1998 will
include an after tax charge to continuing operations of between $1.0 and $3.0
million representing management's estimate of the restructuring costs associated
with the conversion or closing of facilities. Management is in the process of
evaluating the impact on earnings of Statement of Financial Accounting Standards
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of" for possible application.
SEASONALITY
The pallet manufacturing business can be subject to seasonal variations in
operations and demand. The Company has a significant number of agricultural
customers and typically experiences the greatest demand for new pallets from
these customers during the citrus and produce harvesting seasons (generally
October through May) with significantly lower demand in the summer months.
Yearly results can fluctuate significantly in this region depending on the size
of the citrus and produce harvests, which, in turn, largely depend on the
occurrence and severity of freezing weather and changes in rainfall. Adverse
weather conditions may also affect the Company's ability to obtain adequate
supplies of lumber at a reasonable cost. The Company's locations serving
predominantly manufacturing and industrial customers experience less
seasonality. Management believes that the effects of such seasonality will
diminish as the Company grows and expands its customer base both internally and
through acquisition.
The Company's drum reconditioning segment is seasonally impacted in the
southeastern and western United States by the agricultural industries.
Reconditioned drum sales are strongest during a
22
<PAGE>
period generally beginning in April and extending through September, with
preseason production for this period running from January through March.
PALEX, INC.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Subsidiaries of PalEx are involved in various legal proceedings that have arisen
in the ordinary course of business. While it is not possible to predict the
outcome of such proceedings with certainty, in the opinion of the Company's
management, all such proceedings are either adequately covered by insurance or,
if not so covered should not ultimately result in any liability which would have
a material adverse effect on the financial position, liquidity or results of
operations of the Company.
Sonoma Pacific and their stockholders are parties to non-competition agreements
which may restrict until July 31, 1998 Sonoma Pacific's and its affiliates' and
their former stockholders' ability to engage in any activity or business
enterprise or own an interest in any entity which engages in any activity or
business enterprise which competes with First Alliance Logistics Management,
L.L.C. (the "Alliance"), an organization whose membership includes pallet
recyclers and manufacturers and was created to pursue the national and global
marketing and management of pallet systems, including the sale or leasing of
pallets. The Company has been notified by the Alliance that it intends to
enforce the terms of the non-compete agreements as it deems appropriate,
although the Alliance has not to date commenced legal proceedings and the
Company does not know when, if ever, such proceedings would commence. The
agreements explicitly exclude from their coverage any product or services
offered or sold by Sonoma Pacific before October 1995, which management believes
are the same products or services currently offered by Sonoma Pacific. Because
of the noncompete provisions' short duration and exclusion of business currently
conducted Sonoma Pacific, the Company believes that such agreements will not
have a material adverse effect on its operations.
- ------------------------------------------------------------------------------
ITEM 2. RECENT SALES OF UNREGISTERED SECURITIES
Set forth below is certain information concerning all sales of securities by the
Company during the three month period ended March 29, 1998 that were not
registered under the Securities Act of 1933, as amended (the "Securities Act").
Between February 12, 1998 and March 29, 1998, the Company issued 3,624,215 and
714,057 shares of Common Stock as part of the consideration for the acquisitions
of the 1998 Pooled and 1998 Purchased Companies, respectively. These shares of
Common Stock were issued without registration under the Securities Act in
reliance on the exemption provided by Section 4(2) of the Securities Act.
23
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
Exhibit
No.
------------
27.0 Financial Data Schedule
b) Reports on Form 8-K
On February 27, 1998, the Company filed a Current Report on Form 8-K,
which was amended on Form 8-K/A on April 28, 1998, to report the Company's
acquisition of CDR and Acme in two separate transactions on February 12, 1998
and February 23, 1998, respectively. CDR was accounted for as a purchase and
Acme was accounted for as a pooling-of-interests.
24
<PAGE>
SIGNATURE
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.
PALEX, INC.
Date: May 13, 1998 By: /s/ Casey A. Fletcher
---------------------
Casey A. Fletcher
Chief Accounting Officer
25
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-28-1997
<PERIOD-START> DEC-28-1997
<PERIOD-END> MAR-29-1998
<CASH> 2,821
<SECURITIES> 0
<RECEIVABLES> 32,917
<ALLOWANCES> 756
<INVENTORY> 26,059
<CURRENT-ASSETS> 65,398
<PP&E> 90,441
<DEPRECIATION> 41,935
<TOTAL-ASSETS> 197,646
<CURRENT-LIABILITIES> 23,597
<BONDS> 0
0
0
<COMMON> 183
<OTHER-SE> 76,637
<TOTAL-LIABILITY-AND-EQUITY> 197,646
<SALES> 68,970
<TOTAL-REVENUES> 68,970
<CGS> 56,370
<TOTAL-COSTS> 66,005
<OTHER-EXPENSES> (7)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 937
<INCOME-PRETAX> 2,035
<INCOME-TAX> 875
<INCOME-CONTINUING> 1,160
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,160
<EPS-PRIMARY> .06
<EPS-DILUTED> .06
</TABLE>
