10-Q 1 dec10q1203b.txt 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 December 31, 2003 Commission file number: 0-1375 FARMER BROS. CO. California 95-0725980 State of Incorporation IRS Employer Identification Number 20333 S. Normandie Avenue, Torrance, California 90502 Registrant's address (310) 787-5200 Registrant's telephone number 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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). YES [X] NO [ ] Number of shares of Common Stock, $1.00 par value, outstanding as of December 31, 2003: 1,482,569 and the aggregate market value of the common shares held by non-affiliates of the Registrant was approximately $200 million. PART I. FINANCIAL INFORMATION Item 1. Financial Statements (Dollars in thousands, except per share data) FARMER BROS. CO. CONSOLIDATED STATEMENTS OF INCOME (Unaudited) For the three months For the six months ended December 31, ended December 31, 2003 2002 2003 2002 Net sales $51,511 $54,118 $97,176 $104,507 Cost of goods sold 18,938 18,964 34,971 37,821 Gross profit 32,573 35,154 62,205 66,686 Selling expense 22,967 22,816 45,284 43,560 General and administrative expense 6,482 4,019 12,740 7,453 Operating expenses 29,449 26,835 58,024 51,013 Income from operations 3,124 8,319 4,181 15,673 Other income: Dividend income 881 772 1,683 1,629 Interest income 570 1,074 1,221 2,361 Other, net -403 -573 1,169 -952 1,048 1,273 4,073 3,038 Income before taxes 4,172 9,592 8,254 18,711 Income taxes 1,607 3,693 3,178 7,204 Net income $2,565 $5,899 $5,076 $11,507 Weighted average shares outstanding 1,751,266 1,822,296 1,767,097 1,836,747 Earnings per common share $1.46 $3.24 $2.87 $6.26 Dividends declared per share $0.95 $0.90 $1.90 $1.80 The accompanying notes are an integral part of these financial statements. FARMER BROS. CO. CONSOLIDATED BALANCE SHEETS (Unaudited) December 31, June 30, 2003 2003 ASSETS Current assets: Cash and cash equivalents $23,046 $18,986 Restricted cash 1,060 975 Short term investments 162,954 274,444 Accounts and notes receivable, net 13,815 13,756 Inventories 34,114 34,702 Income tax receivable 2,546 2,878 Prepaid expenses 2,121 876 Total current assets 239,656 346,617 Property, plant and equipment, net 41,998 41,753 Notes receivable 193 193 Other assets 25,181 26,390 Deferred income taxes 1,462 1,462 Total assets $308,490 $416,415 LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $3,932 $3,321 Accrued payroll expenses 6,323 7,362 Deferred income taxes 976 976 Other 4,343 5,000 Total current liabilities 15,574 16,659 Accrued postretirement benefits 26,208 25,041 Other long term liabilities 5,570 5,570 Total Liabilities 47,352 47,270 Commitments and contingencies - - Shareholders' equity: Common stock, $1.00 par value, authorized 3,000,000 shares; issued and outstanding 1,482,569 1,482 1,926 Additional paid-in capital 14,935 18,798 Retained earnings 278,576 382,831 Unearned ESOP shares -32,809 -33,364 Less accumulated comprehensive loss -1,046 -1,046 Total shareholders' equity 261,138 369,145 Total liabilities and shareholders' equity $308,490 $416,415 The accompanying notes are an integral part of these financial statements. FARMER BROS. CO. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) Six months ended December 31, 2003 2002 Cash flows from operating activities: Net income $5,076 $11,507 Adjustments to reconcile net income to net cash (used in) provided by operating activities: Depreciation 3,508 2,802 (Gain) loss on sales of assets -45 -383 ESOP compensation expense 2,343 1,923 Net (gain) loss on investments 1,323 -1,544 Change in assets and liabilities: Short term investments -994 14,412 Accounts and notes receivable -78 -4,559 Inventories 588 1,073 Income tax receivable 332 2,553 Prepaid expenses and other assets -36 -2,107 Accounts payable 611 881 Accrued payroll and expenses and other liabilities -1,696 471 Accrued postretirement benefits 1,167 979 Total adjustments 7,023 16,501 Net cash provided by operating activities $ 12,099 $28,008 Cash flows from investing activities: Purchases of property, plant and equipment -3,760 -2,940 Proceeds from sales of property, plant and equipment 52 497 Notes repaid 19 29 Net cash used in investing activities -3,689 -2,414 Cash flows from financing activities: Dividends paid -3,088 -3,289 ESOP contributions -1,177 -15,351 Proceeds from sale of short term investments 111,161 - Purchase of capital stock -111,161 - Net cash used in financing activities -4,265 -18,640 Net increase in cash and cash equivalents 4,145 6,954 Cash and cash equivalents at beginning of year 19,961 7,047 Cash and cash equivalents at end of year $24,106 $14,001 Supplemental disclosure of cash flow information: Income tax payments 2,250 4,502 The accompanying notes are an integral part of these financial statements. Notes to Consolidated Financial Statements (Unaudited) Note 1. Unaudited Financial Statements The accompanying unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three month period ended December 31, 2003 are not necessarily indicative of the results that may be expected for the year ended June 30, 2004. The balance sheet at June 30, 2003 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. For further information, refer to the consolidated financial statements and footnotes thereto included in the Farmer Bros Co. annual report on Form 10-K for the year ended June 30, 2003. Note 2. Investments Short term investments are as follows (in thousands): December 31 June 30 2003 2003 U.S. Treasury Obligations $105,842 $220,057 Preferred Stock and Other 56,118 53,898 Futures, options and other derivative investments 994 490 Total short term investments $162,954 $274,445 Note 3. Inventories (In thousands) December 31, 2003 Processed Unprocessed Total Coffee $3,976 $9,285 $13,261 Allied products 11,298 4,323 15,621 Coffee brewing equipment 2,123 3,109 5,232 $17,397 $16,717 $34,114 June 30, 2003 Processed Unprocessed Total Coffee $3,853 $9,155 $13,008 Allied products 11,776 4,213 15,989 Coffee brewing equipment 2,372 3,333 5,705 $18,001 $16,701 $34,702 Interim LIFO Calculations An actual valuation of inventory under the LIFO method can be made only at the end of each year based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations must necessarily be based on management's estimates of expected year-end inventory levels and costs. Because these are subject to many forces beyond management's control, interim results are subject to the final year-end LIFO inventory valuation. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. Liquidity and Financial Condition On December 24, 2003, the Company purchased the 443,845 shares of its common stock held by the Crowe Family and related trusts for approximately $111 million or approximately $250 per share. The purchase is part of a settlement of all outstanding issues between the Crowe and Farmer families and was approved by California's Superior Court for Los Angeles County. Concurrently with the purchase, the Company's Employee Stock Ownership Plan (ESOP) agreed to purchase 124,939 shares at the same price, $250/share, fulfilling its previously announced authorization for the ESOP to purchase 300,000 shares or 18.7% of outstanding shares. This portion of the transaction was completed on January 11, 2004. Estimated future costs to complete the information systems project exceed $7,000,000, and the project is expected to continue until December 2004. (in thousands) December 30, June 30, 2003 2003 Current assets $239,656 $348,617 Current liabilities 15,574 $ 16,659 Working capital $224,082 $331,958 Total assets $308,490 $416,415 All present and future liquidity needs are expected to be met by internal sources. The Company tries not to rely on banks or other third parties for its working capital and other liquidity needs. There have been no changes in the needs or commitments described in the Company's Annual Report on Form 10- K/A. Results of Operations All operating trends discussed in the Form 10-K/A for fiscal 2003 have continued into the first half of fiscal 2004. These trends resulted in a 5% decrease of net sales for the second quarter of fiscal 2004 to $51,511,000 as compared to $54,118,000 in the fiscal quarter ended December 31, 2002. Year to date sales decreased 7% to $97,176,000 as compared to $104,507,000 in the first half of fiscal 2003. In addition to the previously mentioned trends, the Company had decreased coffee brewing equipment sales of $3,812,000 in the current fiscal year as compared to the same period of fiscal 2003. Gross profit for the quarter ended December 31, 2003 decreased to $32,572,000 as compared to $35,153,000 in the same quarter of fiscal 2003. The average cost of green coffee during the first half of fiscal 2004 has decreased 2% since the June 30, 2003 year end, and is 6% lower than the average cost of green coffee for the same fiscal period of the prior fiscal year. Gross profit for the first half of fiscal 2004 decreased 7% to $62,205,000 as compared to $66,686,000 in the same period of the prior fiscal year primarily the result of decreased sales. Operating expenses in the second quarter of fiscal 2004, consisting of selling and general and administrative expenses, increased 10% to $29,449,000 as compared to $26,834,000 in the same quarter of fiscal 2003. Operating expenses for the first half of fiscal 2004 increased 14% to $58,024,000 as compared to $51,013,000 in the same period of fiscal year 2003. This increase is primarily attributed to costs associated with our multi year program to update our information systems, increased employee benefits and legal expenses. 2004 2003 Information systems $ 3,494,000 $ 373,000 Employee benefits 9,566,000 7,121,000 Legal services 1,266,000 415,000 Total $14,326,000 $7,909,000 Not included in the costs summarized above are Sarbannes-Oxley compliance costs that are expected to exceed $500,000 over the balance of fiscal 2004. Also not included are the additional costs associated with the recent purchase of a sizable block of stock by the ESOP. The additional non-cash charge associated with this purchase is expected to exceed $2,000,000 per year. Other income in the second quarter of fiscal 2004 decreased 30% to $1,048,000 from $1,273,000 in the second quarter of fiscal 2003. Interest earned decreased 47% to $570,000 as compared to $1,074,000 in the quarter ended December 31, 2002. Other income for the first half of fiscal 2004 increased 34% to $4,073,000 from $3,038,000 in the same period of the prior fiscal year. Short term investments decreased 41%, or $111,490,000, to $162,954,000 at December 31, 2003 as compared to $274,444,000 at June 30, 2003. This decrease is the primarily the result of the share purchase described in the Liquidity and Capital Resources section above. As the result of the above mentioned factors, net income for the second quarter of fiscal 2004 decreased 57% to $2,565,000 or $1.46 per share, as compared to $5,899,000, or $3.24 per share, in the second quarter of fiscal 2003. Net income for the first half of fiscal 2004 decreased 56% to $5,076,000 or $2.87 per share, as compared to $11,507,000 or $6.26 in the same period of the prior fiscal year. Quarterly Summary of Results (in thousands of dollars): 12/31/02 03/31/03 06/30/03 09/30/03 12/31/03 Net sales $54,118 $49,267 $47,784 $45,665 $51,511 Gross profit $35,154 $32,038 $32,172 $29,632 $32,573 Income from operations $8,319 $4,985 $3,230 $1,057 $3,124 Net income $5,899 $6,339 $5,783 $2,511 $2,565 Net income per share $3.24 $3.52 $3.23 $1.41 $1.46 Forward Looking Statements Certain statements contained in this Quarterly Report on Form 10-Q regarding The risks, circumstances and financial trends that may affect our future operating results, financial position and cash flows may be forward-looking statements within the meaning of federal securities laws. These statements are based on management's current expectations, assumptions, estimates and observations about our business and are subject to risks and uncertainties. As a result, actual results could materially differ from the forward looking statements contained herein. These forward looking statements can be identified by the use of words like "expects," "plans," "believes," "intends," "will," "assumes" and other words of similar meanings. These and other similar words can be identified by the fact that they do not relate solely to historical or current facts. While we believe our assumptions are reasonable, we caution that it is impossible to predict the impact of such factors which could cause actual results to differ materially from predicted results. We intend these forward-looking statements to speak only at the time of this report and do not undertake to update or revise these projections as more information becomes available. For these statements, we claim the protection of the safe harbor for forward-looking statements provided by the Private Securities Litigation Reform Act of 1995. Item 3. Quantitative and Qualitative Disclosure About Market Risk. Financial Markets We are exposed to market value risk arising from changes in interest rates on our securities portfolio. Our portfolio of investment grade money market instruments includes discount commercial paper, medium term notes, federal agency issues and treasury securities. As of December 31, 2003 over 50% of these funds were invested in instruments with maturities shorter than 92 days. This portfolio's interest rate risk is not hedged and its average maturity is approximately 44 days. A 100 basis point increase in the general level of interest rates would result in a change in the market value of the portfolio of approximately $1,071,000. Our portfolio of preferred securities includes investments in derivatives that provide a natural economic hedge of interest rate risk. We review the interest rate sensitivity of these securities and (a) enter into "short positions" in futures contracts on U.S. Treasury securities or (b) hold put options on such futures contracts in order to reduce the impact of certain interest rate changes on such preferred stocks. Specifically, we attempt to manage the risk arising from changes in the general level of interest rates. We do not transact in futures contracts or put options for speculative purposes. The following table demonstrates the impact of varying interest rate changes based on the preferred stock holdings, futures and options positions, and market yield and price relationships as of December 31, 2003. This table is predicated on an instantaneous change in the general level of interest rates and assumes predictable relationships between the prices of preferred securities holdings, the yields on U.S. Treasury securities and related futures and options. Interest Rate Changes (In thousands) Market Value at December 31, 2003 Change in Market Preferred Futures & Total Value of Total Stock Options Portfolio Portfolio -150 basis points ("b.p.") $62,245 $2 $62,247 $5,309 -100 b.p. 60,592 36 60,627 3,419 Unchanged 56,104 1,104 57,208 0 +100 b.p. 50,936 5,552 56,488 (720) +150 b.p. 48,424 8,058 56,482 (726) The number and type of future and option contracts entered into depends on, among other items, the specific maturity and issuer redemption provisions for each preferred stock held, the slope of the Treasury yield curve, the expected volatility of Treasury yields, and the costs of using futures and/or options. Commodity Price Changes We are exposed to commodity price risk arising from changes in the market price of green coffee. We price our inventory on the LIFO basis. In the normal course of business, we enter into commodity purchase agreements with suppliers and we purchase green coffee contracts. The following table demonstrates the impact of changes in the price of green coffee on inventory and green coffee contracts at December 31, 2003. It assumes an immediate change in the price of green coffee, and the valuations of coffee index futures and put options and relevant commodity purchase agreements at December 31, 2003. Commodity Risk Disclosure (In thousands) Market Value of Coffee Cost Coffee Futures Change in Market Value Change Inventory & Options Totals Derivatives Inventory -20% $12,000 $ 2,907 $14,907 $2,907 ($1,261) unchanged 13,261 110 13,371 - - 20% 15,000 ($2,797) 12,203 (373) $1,739 At December 31, 2003 the derivatives consisted mainly of commodity futures with maturities shorter than four months. Item 4 Controls & Procedures As of December 31, 2003, with the participation of the Chief Executive Officer and Chief Financial officer, we evaluated the effectiveness of our disclosure controls and procedures and and concluded that they were effective as of that date. No changes occurred during the quarter ended December 31, 2003 that materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting, except that during that quarter we implemented part of our multi-year program to update our information systems which program includes enhancements to such internal controls. PART II OTHER INFORMATION Item 1. Legal proceedings. On December 4, 2003, Leonard Rosenthal brought suit in United States District Court for the Central District of California (Case No. CV03845) against the Company, the present directors and a former director ("Directors"), on behalf of himself and a purported class of persons (the "Rosenthal Litigation"). The Plaintiff alleged that the Company was operating as an unregistered investment company in violation of the Investment Company Act of 1940 (the "ICA"). The Plaintiff also alleged that the Company's loans of corporate funds to the ESOP to purchase stock of the Company violate federal law and that such purchases by the ESOP were intended to preserve the voting control of the Farmer family and entrench management. In addition, the Plaintiff alleged that the Company was pursuing an estate planning strategy designed to depress the stock price in order to lessen the estate taxes anticipated on the death of Roy F. Farmer. Plaintiff sought recovery against the Directors in an amount not less than the amount of the loans to the ESOP. Plaintiff also filed a motion for a preliminary injunction to prevent the Company and the Directors from voting the Company stock beneficially owned by the ESOP at the Annual Meeting. On December 23, 2003, the U.S. District Court denied plaintiff's motion, ruling, inter alia, that plaintiff lacked standing to bring an action for violation of the ICA and that plaintiff had failed to show a likelihood of prevailing at trial on his claims that the Company was in violation of the ICA or that the Directors had violated their duties with respect to the ESOP. On February 4, 2004, Leonard Rosenthal filed a Notice of Dismissal Without Prejudice with the United States District Court for the Central District of California. Item 2. Changes in securities none. Item 3. Defaults upon senior securities. none. Item 4. Submission of matters to a vote of security holders. none. Item 5. Other information none. Item 6. Exhibits and reports on Form 8-K. (a) Exhibits. The following exhibits are attached herewith: [under evaluation by counsel] Settlement Agreement 12/24/2003 among the Company, the Farmer Family and the Crowe Family Mutual General Release 12/24/03 among the Company, the Farmer Family and the Crowe Family Stock Purchase Agreement 12/24/03 among the Company, Catherine Crowe and Roy F. Farmer as Trustee of various trusts Stock Purchase Agreement between Wells Fargo Bank, Trustee of the Farmer Bros. Co. ESOP and the Company (b) Reports on Form 8-K. Reports on Form 8-K were filed as follows: A form 8-K dated July 23, 2003 and filed with the Commission on July 24, 2003 announced approval by the Board of Directors of a loan by the Company to the ESOP to purchase up to 129,575 shares of Farmer Bros. Co. common stock. A form 8-K dated December 24, 2003 and filed with the Commission on December 24, 2003 announced the purchase of all Crowe family shares at a cost of approximately $110.96 million, and the rejection of a request for injunction on behalf of a shareholder by U.S. District Judge Margaret M. Morrow. A form 8-K dated January 12, 2004 and filed with the Commission on January 12, 2004 announced finalization of the purchase of the ESOP's purchase of 129,575 shares of Farmer Bros. Co. common stock bringing the ESOP's holdings to 300,000 shares or 18.7% of the Company's shares outstanding. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. FARMER BROS. CO. /s/ Roy E. Farmer Roy E. Farmer, President and Chief Executive Officer and Director (principal executive officer) Date: February 13, 2004 /s/ John E. Simmons John E. Simmons, Treasurer and Chief Financial Officer (principal financial and accounting officer) Date: February 13, 2004 Exhibit 31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Roy E. Farmer, President and Chief Executive Officer of Farmer Bros. Co. ("Registrant"), certifies that: 1. I have reviewed this Quarterly Report on Form 10-Q of Registrant; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report; 4. The Registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) for the Registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the Registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the Registrant's internal control over financial reporting that occurred during the Registrant's most recent fiscal quarter (the Registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the Registrant's internal control over financial reporting; and 5. The Registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant's auditors and the audit committee of the Registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant's internal control over financial reporting. Date: February 13, 2004 /s/ Roy E. Farmer Roy E. Farmer President and Chief Executive Officer (principal executive officer) Exhibit 31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, John E. Simmons, Treasurer and Chief Financial Officer of Farmer Bros. Co. ("Registrant"), certifies that: 1. I have reviewed this Quarterly Report on Form 10-Q of Registrant; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this report; 4. The Registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) for the Registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the Registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the Registrant's internal control over financial reporting that occurred during the Registrant's most recent fiscal quarter (the Registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the Registrant's internal control over financial reporting; and 5. The Registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the Registrant's auditors and the audit committee of the Registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the Registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant's internal control over financial reporting. Date: February 13, 2004 /s/ John E. Simmons John E. Simmons Treasurer and Chief Financial Officer (principal financial and accounting officer)