ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The purpose of this discussion is to outline the reasons for material changes in Pro-Fac’s financial condition and results of operations in the second quarter and first six months of fiscal 2009 as compared to the
second quarter and first six months of fiscal 2008. This section should be read in conjunction with Part I, Item 1. Financial Statements, of this Report.
OVERVIEW
Since 1960, Pro-Fac has operated as an agricultural cooperative, owned and controlled by its members, to purchase, market, and sell crops grown by its member-growers, for the mutual benefit of its members. The
Cooperative’s core business focus has not changed in 48 years and its current strategy is to continue its business of purchasing, marketing, and selling its member-grower crops to its customers.
One of the challenges Pro-Fac faces, which is discussed below under “Liquidity and Capital Resources”, is the Cooperative’s source of available cash to fund its operations and pay its dividends. In recent
years, Pro-Fac’s primary source of cash to fund its operations and pay dividends was the $10.0 million in payments it received annually under the Termination Agreement with the final installment of $2.0 million received in July 2007.
Currently, Pro-Fac’s primary sources of cash are cash on hand, gross profit and margin on certain sales, interest income and possible distributions, if any, made by Holdings LLC to Pro-Fac under the Limited Liability Company
Agreement.
In July 2007, Pro-Fac received a distribution of approximately $120.1 million from Holdings LLC. Pro-Fac invested the $120.1 million distribution in high quality, low risk investments pending use of the funds.
During the first quarter of fiscal year 2008, Pro-Fac used this distribution to redeem all retained earnings allocated to its members at a cost of approximately $6.8 million; to pay dividends on its non-cumulative preferred stock and its Class A
cumulative preferred stock at a cost of approximately $5.4 million; and to repay principal and interest owed under its Credit Agreement with Birds Eye Foods in an amount equal to approximately $1.1 million. During the second quarter of
fiscal year 2008, Pro-Fac used this distribution to redeem all of Pro-Fac’s non-cumulative preferred stock at a price of $25.00 per share for an aggregate redemption cost of approximately $0.7 million; to redeem 3,155,433 shares of its
Class A cumulative preferred stock at a price of $25.00 per share for an aggregate redemption cost of approximately $78.9 million; and to pay dividends on its preferred stock to the date of redemption at a cost of approximately $2.1
million. On October 31, 2008, Pro-Fac used this distribution to redeem 390,887 shares of Class A preferred stock at a price of $25.00 per share for an aggregate redemption cost of approximately $9.8 million.
The Board of Directors periodically evaluates Pro-Fac’s business plan in consideration of Pro-Fac’s receipt of the distribution from Holdings LLC in the first quarter of fiscal year 2008 and possible future
events.
RESULTS OF OPERATIONS - SECOND QUARTER 2009 COMPARED TO SECOND QUARTER 2008
Net sales, cost of sales and gross profit
:
Net sales and cost of sales increased
in the quarter ended December 27, 2008, as the Cooperative entered into more sales transactions as a principal for its members than in the quarter ended December 29, 2007. Volume and pricing differences resulted in improved gross profit for the
quarter ended December 27, 2008.
Margin on delivered product
:
The Cooperative negotiates certain sales transactions on behalf of its members, which result in
margin being earned by the Cooperative. The Cooperative earned $238,000 in margin during the quarter ended December 27, 2008 and $105,000 in margin during the quarter ended December 29, 2007. The increase resulted from volume and pricing
differences.
Selling, administrative, and general expense
:
Selling, administrative, and general expenses totaled
$0.5 million and $0.4 million for the quarters ended December 27, 2008 and December 29, 2007, respectively.
Investment income
:
Investment income decreased from $0.7 million for the quarter ended December 29, 2007, to $0.1
million for the quarter ended December 27, 2008, due to use of the proceeds from the $120.1 million distribution from Holdings LLC in July 2007 to redeem equity interests in July and October 2007 and October 2008 and pay dividends. Investment
income for the quarters ended December 27, 2008 and December 29, 2007, included unrealized gains of approximately $25,000 and $22,000, respectively.
11
Income Taxes
:
The Cooperative qualifies for tax exempt status as a farmers’ cooperative under Section 521 of the Internal
Revenue Code. Exempt cooperatives are permitted to reduce or eliminate taxable income through the use of special deductions such as dividends paid on its common and preferred stock and distributions of patronage income. The Cooperative intends to
surrender its tax exempt status effective for fiscal year 2009. This action is not expected to have a material impact on Pro-Fac’s operations or income tax liabilities.
During the first quarter of fiscal year 2008, Pro-Fac received a $120.1 million distribution from Holdings LLC pursuant to the terms of the Limited Liability Company Agreement. Approximately $10.1 million of the
amount received is expected to be a taxable dividend, subject to the qualified dividends received deduction, with the remaining amount representing a return of capital.
The Cooperative’s tax basis of its investment in Holdings LLC at June 28, 2008 was $76.4 million. A deferred income tax asset has not been recognized on the estimated excess of the tax basis over the recorded
financial statement value of Pro-Fac’s investment in Holdings LLC at December 27, 2008. This asset would only be realized upon the sale of Pro-Fac’s investment based on the proceeds received or receipt of a distribution representing a
return of capital, neither of which is expected to occur in the foreseeable future.
The income tax benefit for the quarters ended December 27, 2008 and December 29, 2007 were based on the Cooperative’s estimated effective tax rates for the respective fiscal years applied to the respective quarters.
For fiscal year 2009, the Cooperative expects to generate a net operating loss carry forward for income tax purposes. Realization of the related deferred tax asset is not assured. Accordingly, a valuation allowance has been
recorded to offset the deferred tax asset, resulting in a reduction in the effective rate The Cooperative also generated a loss for income tax purposes in 2008, all of which was carried back to generate refunds of taxes previously paid resulting in
the income tax benefit recorded in the quarter ended December 29, 2007.
RESULTS OF OPERATIONS – FIRST SIX MONTHS 2009 COMPARED TO FIRST SIX MONTHS 2008
Net sales, cost of sales and gross profit:
Net sales and cost of sales increased in the six months ended December 27, 2008, compared to the six months ended December 29,
2007. Pricing differences accounted for the majority of the improvement in gross profit for the six months ended December 27, 2008.
Gain from transaction with Birds Eye Foods and related agreements:
In the first six months of fiscal year 2008, Pro-Fac recognized, approximately $1.2 million, as
additional gain (approximately 60 percent) from the receipt of the final termination payment under the Termination Agreement in July 2007.
Margin on delivered product:
The Cooperative negotiates certain sales transactions on behalf of its members, which result in margin being earned by the Cooperative. The
Cooperative earned $324,000 in margin during the first six months of fiscal 2009 and $129,000 in margin during the first six months of fiscal 2008. Pricing differences accounted for the majority of the improvement in margin for the six
months ended December 27, 2008.
Selling, administrative, and general expense:
Selling, administrative, and general expenses totaled $1.0 million and $0.9 million for the six months ended
December 27, 2008 and December 29, 2007, respectively.
Investment income:
Investment income decreased from $2.1 million for the six months ended December 29, 2007 to $0.3 million for the six months ended December 27,
2008 due to use of the proceeds from the $120.1 million distributions from Holdings, LLC in July 2007 to redeem equity interests in July and October 2007 and October 2008 and pay dividends. Investment income for the six months ended December 27,
2008 and December 29, 2007, included unrealized gains of approximately $25,000 and $22,000, respectively.
Distribution from Holdings LLC:
During
the first quarter of 2008, Pro-Fac received a distribution of approximately $120.1
million from Holdings LLC under the Limited Liability Agreement. In accordance
with the cost method of accounting for the investment in Holdings LLC, Pro-Fac
reduced its investment in Holdings LLC by $3.5 million to zero with the remaining $116.6
million of the distribution recorded as income.
Income taxes:
The income tax benefit for the six months ended December 27, 2008 is based on the Cooperative’s estimated effective tax rate for fiscal year 2009. The
Cooperative does not expect to record a deferred tax asset for any expected fiscal year 2009 net operating loss carry forward as realization is not reasonably assured. As a result, a valuation allowance has been recorded to offset the deferred tax
asset. The Cooperative recorded a tax benefit of $0.7 million for the six month period ended December 29, 2007 because the Cooperative expected to have a loss for tax purposes which would be carried back to recover taxes paid in prior periods.
12
CRITICAL ACCOUNTING POLICIES
“NOTE 1. Description of Business and Summary of Accounting Policies” under “Notes to Condensed Financial Statements” included in Part I, Item 1 of this Report discusses the significant accounting
policies of Pro-Fac. Pro-Fac’s discussion and analysis of its financial condition and results of operations are based upon its condensed financial statements, which have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires Pro-Fac’s management to make estimates, judgments and assumptions that affect the reported amount of assets, liabilities, revenues and expenses. On an ongoing basis,
Pro-Fac evaluates its estimates.
Certain accounting policies deemed critical to Pro-Fac’s results of operations or financial position are discussed below.
The Cooperative accounts for its investment in Holdings LLC under the cost method of accounting. Under the cost method, distributions of earnings are reported as income and distributions that represent a return of capital
reduce the carrying value of the investment, but not below zero. As a result of the $120.1 million distribution received from Holdings LLC during the first quarter of fiscal year 2008, Pro-Fac’s investment in Holdings LLC was reduced to
zero. However, Pro-Fac continues to own an approximate 40% interest in Holdings LLC through its ownership of Class B common units.
A deferred income tax asset has not been recognized on the estimated excess of the tax basis over the recorded financial statement value of the investment in Holdings LLC at December 27, 2008, of approximately $76.4
million. This potential asset would only be recognized upon the sale of the investment based on the proceeds received or receipt of a distribution representing a return of capital, which was not considered probable at December 27, 2008.
Pro-Fac markets and sells its members’ crops to food processors. Under the provisions of Emerging Issues Task Force Issue No. 99-19, “Reporting Revenue Gross Versus Net as an Agent”, the Cooperative records
activity among its customers, itself and its members on a net basis. For transactions in which Pro-Fac acts a principal rather than an agent, sales and cost of sales are reported.
LIQUIDITY AND CAPITAL RESOURCES
Historically, Pro-Fac has had four sources or potential sources of available cash to fund its operating expenses and the payment of its quarterly dividends: (i) cash from its sale of raw products to its customers, (ii)
payments received under the Termination Agreement with Birds Eye Foods, (iii) cash distributions related to its investment in Holdings LLC, and (iv) borrowings.
Pro-Fac receives cash payments equal to the CMV of crops sold to Birds Eye Foods, Allens, Inc. and other customers pursuant to the Amended and Restated Marketing and Facilitation Agreement, the Allens supply agreement and
other supply agreements. Although CMV payments are considered a potential source of cash to Pro-Fac, Pro-Fac has typically paid 100 percent of CMV to its member-growers for crops delivered and did so in fiscal years 2008 and 2007. Since CMV payments
are approximately equal to the cash Pro-Fac receives from its customers for its raw products, CMV payments are not a significant source of available cash from which Pro-Fac can pay operating expenses and quarterly dividends.
While Pro-Fac principally acts as agent for its member-growers in the marketing and sale of crops, Pro-Fac does occasionally engage in crop sales transactions as a principal, resulting in gross profit or margin being earned
by the Cooperative. Although the amounts earned increased through fiscal year 2007, subsequent increases have not been significant and future increases are not expected to be significant. Net cash available to Pro-Fac, after payment of CMV to
Pro-Fac’s member-growers, has historically been used to pay Pro-Fac’s operating expenses as well as its quarterly dividends on its preferred stock and to fund repurchases of its common stock.
The final installment payment of $2.0 million to Pro-Fac under the Termination Agreement was received in July 2007.
The Limited Liability Company Agreement provides that, subject to restrictions contained in any financing arrangements of Holdings LLC or its subsidiaries (including Birds Eye Foods), Holdings LLC will use commercially
reasonable efforts to cause Birds Eye Foods to distribute annually to Holdings LLC up to $24.8 million of cash flow from operations of Birds Eye Foods, which Holdings LLC will then distribute to the holders of its common units, including
Pro-Fac. In July 2007, Pro-Fac received a $120.1 million cash distribution from Holdings LLC. Holdings LLC has advised Pro-Fac that it will not speculate as to whether further distributions will be made under the Limited Liability Company
Agreement and, as a minority owner of Holdings LLC, Pro-Fac has no control over the determination of whether such distributions will be made. Accordingly, as a minority owner of Holdings LLC, with no control over the determination of whether
distributions will be made, Pro-Fac is operating under a business plan that assumes no further distributions will be made under the Limited Liability Agreement.
13
As described in Note 3 to the Cooperative’s unaudited condensed financial statements included in Part I, Item 1. Financial Statements, of this report, Pro-Fac may borrow up to $2.0 million from M&T Bank and
approximately $0.7 million (limited by collateral) from a cooperative. At December 27, 2008, Pro-Fac had no outstanding borrowings under either borrowing facility.
The Board of Directors periodically evaluates Pro-Fac’s business plan. There can be no assurances that Pro-Fac will pay dividends after January 31, 2009. The declaration of any future dividends is subject to Board
action in advance of any such declaration based upon all of the facts and circumstances at such time.
A discussion of "Statement of Cash Flows" for the six months ended December 27, 2008, follows:
Net cash used in operating activities was $10.8
million for the first six months of fiscal year 2009 compared to cash provided
by operating activities of approximately $106.1 million in the first six
months of fiscal year 2008. The change primarily represents income from the
receipt of the $120.1 million distribution from Holdings LLC in the first
six months of fiscal year 2008, changes in investments classified as trading
securities and changes in the timing of cash receipts from customers other than
Birds Eye Foods and related cash payments to member-growers between the first
six months of fiscal year 2009 and the first six months of fiscal year 2008.
The volume and cost of delivered crops has increased significantly in the 2008
crop year, which has resulted in larger amounts of accounts receivable from customers
and amounts due to members. In addition, at December 28, 2008, accounts receivable
had increased faster than amounts due to members resulting in an increased use
of Pro-Fac’s working capital at that date.
In the first six months of fiscal year 2009, no cash was provided by investing activities. Cash provided by investing activities for the first six months of fiscal year 2008 was $5.5 million related to the receipt of
$2.0 million from Birds Eye Foods as the final payment under the Termination Agreement and the portion of the distribution from Holdings LLC classified as a return of capital, approximately $3.5 million.
Net cash used in financing activities during the first six months of fiscal year 2009 included payment of dividends of $1.5 million and redemption preferred shares of $9.8 million. During the first six months of
fiscal year 2008, net cash used in financing activities included $1.0 million to repay amounts previously borrowed, $6.8 million to redeem all retained earnings allocated to members, $7.5 million in dividends paid and $79.6 million
for redemption of preferred shares.
In January 2003, the Pro-Fac Board of Directors suspended the payment of dividends on the Cooperative’s common stock for an indefinite period of time and, in January 2006, the Board placed a moratorium on
Pro-Fac’s repurchase of shares of its common stock from its member-growers. Any repurchase by Pro-Fac of its common stock is subject to pre-approval by the Board.
Based on the assumptions contained in Pro-Fac’s business plan, the Board currently believes that Pro-Fac has sufficient sources of cash to fund its operations at least through the end of fiscal 2013.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK
As a “smaller reporting company” as defined by Item 10 of Regulation S-K, Pro-Fac is not required to provide information required by this item.
ITEM 4T.
CONTROLS AND PROCEDURES
Disclosure Controls and Procedures
:
Pro-Fac’s Principal Executive Officer and Principal Financial Officer evaluated
the effectiveness of the design and operation of Pro-Fac’s disclosure controls and procedures (as defined in Rule 13a-15(e) or 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”)). Based on that
evaluation, Pro-Fac’s Principal Executive and Principal Financial Officer concluded that Pro-Fac’s disclosure controls and procedures as of December 27, 2008 (the end of the period covered by this Report), have been designed and are
functioning effectively to provide reasonable assurance that the information required to be disclosed by Pro-Fac in reports filed or submitted by it under the Exchange Act is recorded, processed, summarized and reported within the time periods
specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to Pro-Fac’s management, including its Principal Executive and Principal Financial Officer, as appropriate to
allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting:
There were no changes in Pro-Fac’s internal control over financial reporting identified during the quarter
ended December 27, 2008, that materially affected, or are reasonably likely to materially affect, Pro-Fac’s internal control over financial reporting.
14
PART II
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ITEM 1.
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LEGAL PROCEEDINGS
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The information called for by this Item is disclosed in NOTE 5. "Other Matters – Legal Matters" under "Notes to
Condensed Financial Statements" in Part I, Item 1 of this Form 10-Q, and is incorporated herein by reference in answer
to this Item.
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ITEM 2.
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UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
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None
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ITEM 3.
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DEFAULTS UPON SENIOR SECURITIES
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None
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ITEM 4.
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SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
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None
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ITEM 5.
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OTHER INFORMATION
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None
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ITEM 6.
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EXHIBITS
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Exhibit Number
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Description
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.
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31.
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Certification required by Rule 13a-14 (a) of the Securities Exchange Act of 1934 of the Principal
Executive Officer and
the Principal Financial Officer (filed herewith)
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32.
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Certification required by Rule 13a-14 (b) of the Securities Exchange Act of 1934 and pursuant to 18
U.S.C., Section 1350, as adopted pursuant to Section 906 of the Sarbanes Oxley Act of 2002, of the
Principal Executive Officer and the Principal Financial Officer (filed herewith).
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15
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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PRO-FAC COOPERATIVE, INC.
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Date:
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February 6, 2009
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BY:
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/s/
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Stephen R. Wright
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General Manager, Chief Executive
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Officer, Chief Financial Officer
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and Secretary
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(On Behalf of the Registrant and as
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Principal Executive Officer
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Principal Financial Officer, and
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Principal Accounting Officer)
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16
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