Item 1. Business
General
SCP Pool Corporation (the Company, which may be referred to as POOL, we, us or our) was incorporated under the laws of the State of Delaware in 1993 under the name SCP Holding Corp, and in 1995 changed its name to SCP Pool Corporation. POOL, through its subsidiaries, is the world’s largest wholesale distributor of swimming pool supplies, equipment and related leisure products. As such, we add considerable value to the swimming pool supply chain by purchasing products from a large number of manufacturers and then distributing the products to a highly fragmented customer base on conditions that are more favorable than these customers could obtain on their own.
As of February 13, 2004, we operated 198 service centers in North America and Europe.
Net sales by geographic region were as follows (in thousands):
Property and equipment by geographic region were as follows (in thousands):
Our annual reports on Form 10-K, quarterly reports on Form 10-Q, definitive proxy statements pursuant to Regulation 14A, current reports on Form 8-K, and any amendments to those reports, are made available free of charge on our website at www.scppool.com as soon as reasonably practicable after we file these reports with the Securities and Exchange Commission.
Growth Strategy
We promote the growth of the swimming pool industry through various advertising and promotional programs intended to raise consumer awareness of the benefits and affordability of pool ownership, the ease of pool maintenance and the many ways in which a pool may be enjoyed beyond swimming. These programs include media advertising, website development and public relations campaigns.
We promote the growth of our customers’ businesses through comprehensive support programs that offer promotional tools and marketing support to help generate increased sales for our customers. Our uniquely tailored programs include such things as personalized websites, brochures, marketing campaigns and business development training. As a customer service, we also provide certain retail store customers assistance with everything from site selection to store layout and design.
SCP POOL CORPORATION
Part I.
Item 1. Business
We have grown internally through increases in base business sales of 11% in 2003, 10% in 2002 and 3% in 2001. Additionally, since 1999, we have opened 31 new service centers, and expect to continue to open five to ten new service centers each year. Externally, since 1999, we have grown through the successful completion of 15 acquisitions, consisting of 77 service centers (net of service center closings and consolidations). We intend to pursue additional strategic acquisitions which will allow us to further penetrate existing markets and expand into new geographic markets. For additional discussion of recent acquisitions, read Note 3 to the Consolidated Financial Statements. You should also read the Liquidity and Capital Resources section of Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Operating Strategy
We operate two national distribution networks: the SCP Distributors network (SCP) and the Superior Pool Products (SPP) network. The SCP network consists of 141 service centers and the SPP network consists of 57 locations.
We adopted this strategy of operating two distinct national distribution networks primarily for two reasons:
To offer our customers a choice of different distributors featuring distinctive product selections and relationships with manufacturers; and
To increase the level of customer service provided by the service centers in each network by promoting a healthy competition between the two networks.
Products
We offer more than 91,000 national brand and private label products. We believe that our selection of pool equipment and supplies, chemicals, replacement parts and complementary products is the most comprehensive in the swimming pool industry. The products we sell can be categorized as follows:
maintenance products such as chemicals, supplies and pool accessories;
repair and replacement parts for cleaners, filters, heaters, pumps and lights;
packaged pool kits including walls, liners, bracing, filters, heaters, pumps and lights for in-ground and above-ground pools; and
pool equipment and materials for new pool construction and the remodeling of existing pools.
Maintenance products and repair and replacement parts are non-discretionary in nature, meaning that these items must be purchased by pool owners to maintain existing swimming pools. These products, together with replacement equipment, account for approximately 80% of our net sales.
Additionally, since 1999, we have increased the breadth of complementary products we offer, including building materials, electrical supplies, toys and games, water and light features, spas and spa accessories, billiard tables, patio furniture and artificial Christmas trees.
SCP POOL CORPORATION
Part I.
Item 1. Business
Customers and Marketing
We serve nearly 48,000 customers, none of which account for more than 1% of our sales. We primarily serve three types of customers:
swimming pool remodelers and builders;
retail swimming pool stores; and
swimming pool repair and service companies.
We conduct our operations through 198 service centers in North America and Europe. Our primary markets are California, Florida, Texas and Arizona, representing approximately 51% of our net sales.
We employ a sales force dedicated to developing and strengthening our customers’ businesses. As of February 13, 2004, a sales force of 240 business development representatives and 198 service center managers conduct our principal selling activities.
As discussed above, our primary marketing activities aim to raise the profile of the swimming pool industry and educate consumers on the ease of maintenance and affordability of a swimming pool.
Employees
We employed approximately 2,450 people at February 13, 2004.
Distribution
Our service centers are located near customer concentrations, typically in industrial, commercial or mixed-use zones. Customers may pick up products at any service center location, or products may be delivered via our trucks or third party carriers.
Our service centers maintain well-stocked inventories to meet customers’ immediate needs. We utilize warehouse management technology to optimize receiving, inventory control, picking, packing and shipping functions.
In addition, we operate four centralized shipping locations that redistribute products we purchase in bulk quantities to our service centers.
Purchasing and Suppliers
We initiated a preferred vendor program in 1999 which encourages our buyers to purchase products from a smaller number of vendors. Our service centers are also encouraged to ensure accurate pricing and greater discipline at the point of sale. These practices have resulted in improved margins at the service center level.
We enjoy good relationships with our suppliers, who generally offer competitive pricing, return policies and promotional allowances. It is customary in the swimming pool supply industry for manufacturers to seasonally offer extended payment terms to qualifying purchasers such as POOL. These terms are typically available to us for pre-season or early season purchases.
SCP POOL CORPORATION
Part I.
Item 1. Business
We regularly evaluate supplier relationships and consider alternate sourcing to assure competitive cost, service and quality standards. Our largest suppliers include Pentair Corporation, Hayward Pool Products, Inc. and Bio-Lab, Inc. (a subsidiary of Great Lakes Chemicals, Inc,), which accounted for approximately 16%, 11% and 7%, respectively, of the cost of products we sold in 2003.
Competition
We are the leading wholesale distributor in the swimming pool supply industry. We face intense competition from many regional and local distributors in our markets and to a lesser extent, mass-market retailers and large pool supply distributors/retailers. Some geographic markets we serve, particularly our largest, higher density markets in Florida, California, Texas and Arizona, are more competitive than others. Barriers to entry in the swimming pool supply industry are relatively low.
We compete with other distributors for rights to distribute brand-name products. If we lose or are unable to obtain these rights, we might be materially and adversely affected. We believe that the size of our operations allows us to compete favorably for such distribution rights.
We believe that the principal competitive factors in swimming pool supply distribution are:
the breadth and availability of products offered;
the quality and level of customer service;
the breadth and depth of sales and marketing programs;
competitive product pricing; and,
consistency and stability of business relationships with customers.
We believe that we generally compete favorably with respect to each of these factors.
Seasonality and Weather
See Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Seasonality and Quarterly Fluctuations”.
Environmental, Health and Safety Regulations
Our business is subject to regulation under local fire codes and federal, state and local environmental and health and safety requirements including:
the Emergency Planning and Community Right-to-Know Act and other Environmental Protection Agency regulations;
the Hazardous Materials Transportation Act and other Department of Transportation regulations; and
the Occupational Safety and Health Act (OSHA).
SCP POOL CORPORATION
Part I.
Item 1. Business
Most of these requirements govern the packaging, labeling, handling, transportation, storage and sale of pool chemicals. We store chemicals at each of our service centers. The storage of these chemicals is strictly regulated by local fire codes. In addition, we sell algaecides that are regulated as pesticides under the Federal Insecticide, Fungicide and Rodenticide Act and state pesticide laws. These laws primarily relate to labeling and annual registration.
While we make considerable efforts to ensure that we operate in substantial compliance with environmental, health and safety requirements, we cannot assure you that we will not be determined to be out of compliance with, or liable under, such requirements. Such an instance of noncompliance or liability could be harmful to our operating results.
Intellectual Property
We maintain both domestic and foreign registered trademarks primarily for our private label products and we intend to maintain the trademark registrations important to our business operations. We also own rights to several Internet domain names.
Item 2.
Item 2. Properties
We lease the POOL administrative headquarters, which consist of approximately 33,000 square feet of an office building in Covington, Louisiana. We own three service centers in Florida. All of our other properties are leased for terms that expire between 2004 and 2017. In addition to minimum rental payments, which are set at competitive rates, certain leases require reimbursement for taxes, maintenance and insurance. Most of our leases contain renewal options, some of which involve rent increases.
Our service centers range in size from approximately 3,000 square feet to 100,000 square feet and consist of warehouse, counter, display and office space. Our centralized shipping locations range in size from 22,000 square feet to 34,000 square feet.
We believe that our facilities are well maintained, suitable for our business and occupy sufficient space to meet our operating needs. As part of our normal business, we regularly evaluate service center performance and may relocate a service center or consolidate two locations if a service center is redundant in a market, under performing or otherwise deemed unsuitable.
We do not believe that any single lease is material to our operations and alternate sites are presently available at market rates.
SCP POOL CORPORATION
Part I.
Item 2. Properties
The table below identifies the number of service centers by state and foreign country as of February 13, 2004:
Item 3.
Item 3. Legal Proceedings
In the normal course of business, we are subject to various claims and litigation. While the outcome of any litigation is inherently unpredictable, we do not believe that any of these matters will have a material adverse impact on our financial condition, results of operations or cash flows.
SCP POOL CORPORATION
Part I.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of our stockholders during the quarter ended December 31, 2003.
Part II.
Item 5.
Item 5. Market for the Registrant’s Common Stock and Related Security Holder Matters
Our common stock began trading on the Nasdaq National Market under the symbol “POOL” in October 1995. On February 13, 2004, there were approximately 15,700 holders of record of common stock.
The table below sets forth the high and low sales prices of our common stock for each quarter during the last two years. The prices for 2002 and the first two quarters of 2003 have been adjusted to reflect the three-for-two stock split effective September 12, 2003.
In the past, we have not declared or paid any cash dividends on our common stock. Our Credit Agreement also restricts our ability to pay cash dividends. For further discussion, see Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources” and Note 5 to the Consolidated Financial Statements.
The table below summarizes as of December 31, 2003 certain information regarding securities authorized for issuance to our employees, officers and directors under our equity compensation plans:
For further discussion of our equity compensation plans, see Note 11 to the Consolidated Financial Statements.
SCP POOL CORPORATION
Part II.
Item 6.
Item 6. Selected Financial Data
The table below sets forth selected financial data from the Consolidated Financial Statements. You should read this information in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and with the Consolidated Financial Statements and accompanying Notes.
_________________
(1)
During the years 1999 to 2003, we successfully completed 15 acquisitions consisting of 108 service centers, of which 31 were closed or consolidated into existing service centers. For further discussion, see Item 1.
(2)
In 1999, we adopted Statement of Position 98-5, Reporting on the Costs of Start-Up Activities, and recognized a cumulative effect adjustment, net of a tax benefit, of $544,000, or a net loss of $0.01 per diluted share.
(3)
The approximate 51% decrease in working capital from 2002 to 2003 is due to long term debt related to our revolving line of credit, which was classified as current at December 31, 2003 and also to an accounts receivable securitization facility we entered into in 2003 which is also classified as current.
(4)
We calculate base business sales growth by excluding the following service centers from the calculation for 15 months: (i) service centers acquired within the past 15 months, (ii) service centers consolidated with acquired locations and (iii) new service centers opened in new markets within the past 15 months. Base business sales growth was not calculated in 2000 or 1999.
(5)
We calculate same store sales growth by excluding the following service centers from the calculation for 15 months: (i) service centers acquired or opened within the past 15 months, (ii) service centers consolidated with acquired locations and (iii) service centers that experience market disruption due to their location in the immediate market area of those mentioned above.
SCP POOL CORPORATION
Part II.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
With net sales of $1.16 billion in 2003, we are the world’s largest wholesale distributor of swimming pool supplies and related equipment. We purchase products from a large number of manufacturers and then distribute these goods to a customer base consisting of swimming pool remodelers and builders, retail swimming pool stores and swimming pool repair and service companies.
We distribute more than 91,000 products through 198 service centers in the United States and six foreign countries. Approximately 95% of our net sales are domestic. We operate two networks: the SCP Distributors network (SCP), which consists of 141 locations and the Superior Pool Products (SPP) network, which consists of 57 locations. We adopted this strategy to offer our customers a choice of different distributors, each featuring distinctive product selections and supplier relationships, and to encourage continued improvements in customer service through healthy competition between the two networks.
As part of the distribution businesses, we have acquired three small manufacturing facilities located in Fort Wayne, Indiana, Bordeaux, France and Quebec, Canada, which engage in the manufacturing of packaged pool panels, steps, liners and coping. Approximately 2% of our consolidated cost of sales consisted of items we manufactured at these facilities and sold through our distribution networks, which has contributed to higher gross margins and operating expenses in our Consolidated Statements of Income. Our manufacturing sales to third parties accounted for approximately 1% of our net sales in 2003.
We invest significant resources to promote the growth of the swimming pool industry. Our marketing philosophy incorporates a focus on increasing consumer awareness of the benefits of pool ownership and the affordability and ease of maintaining a pool. Our www.backyardescape.com and www.poolpronetwork.com websites are tools we use to educate consumers and lead prospective pool owners to our customers.
Weather is the biggest challenge we face. In the first half of 2003, extended cool temperatures in the northern United States and significant rainfall in the eastern portion of the country adversely affected sales in our industry. These adverse weather conditions were partially mitigated by warm, dry weather experienced in the western United States along with reasonable weather in the late summer months, providing solid sales growth in the second half of 2003.
Our business is subject to significant risks, including weather, competition, general economic conditions and other risks detailed below in our “Cautionary Statement for Purpose of the ‘Safe Harbor’ Provisions of the Private Securities Litigation Reform Act of 1995".
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
General
We sell everything necessary to build, maintain, install and overhaul residential and small commercial swimming pools, including:
swimming pool equipment;
parts and supplies;
chemicals;
cleaners;
packaged pools;
liners;
filters;
heaters;
pumps;
lights;
repair parts; and
other equipment.
Since 1999, we have increased the breadth of complementary products we offer including:
building materials;
electrical supplies;
toys and games;
water features such as fountains;
spas and spa accessories.
billiard tables; and
artificial Christmas trees.
We primarily sell to:
swimming pool remodelers and builders;
retail swimming pool stores; and
swimming pool repair and service companies.
These customers are mostly small, family owned businesses with relatively limited capital resources. We maintain a strict credit policy. In the past, losses from customer receivables have been within our expectations.
Our expenses consist primarily of (i) the cost of products purchased for resale and (ii) operating expenses primarily related to labor, occupancy, freight, marketing, selling and administrative expenses. We compete for business and may respond to competitive pressures by lowering prices in order to maintain our market share. Such measures adversely affect our gross margins and operating results.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Beginning in the fourth quarter of 2002, we began calculating our “base business” growth. To assist in the transition from the discussion of same store growth to base business growth, in 2003 we provided both figures. Going forward, we will no longer provide a discussion of same store growth, but rather we will focus on the growth of our base business, which is more consistent with measures used by other distributors.
We calculate base business growth by excluding the following service centers from the calculation for 15 months:
new service centers acquired within the past 15 months;
service centers consolidated with acquired service centers; and
new service centers opened in new markets in the past 15 months.
We calculate same store growth by excluding the following service centers from the calculation for 15 months:
new service centers opened within the past 15 months;
service centers acquired within the past 15 months;
service centers consolidated with acquired service centers; and
service centers that experience market disruption due to their location in the immediate market areas of those mentioned above.
The base business calculation differs slightly from the same store calculation because base business includes (i) new service centers opened in existing markets and (ii) service centers affected due to their location in the immediate market areas of newly opened or acquired locations. Additionally, we allocate overhead expenses to the base business by considering base business net sales as a percentage of total net sales.
The Swimming Pool Industry
We believe that the swimming pool industry is relatively young, with room for tremendous growth. Of the approximately 69 million households in the United States that have the economic capacity and the yard space to have a swimming pool, approximately 11% own a pool. The industry has grown at a 4 to 5% annual rate for the past 20 years.
We believe the swimming pool industry will continue to grow at a rate of approximately 4 to 5% annually over the next five years, primarily because of the need to maintain the growing installed base of pools and secondarily because of new pool installations.
The greater part of revenues in our industry is derived from the maintenance of existing swimming pools and the repair and replacement of the equipment that maintains those pools. Thus, the industry has generally not been negatively affected by economic downturns, although there is no assurance that this will continue.
The demand for new pools is driven by the perceived benefits of pool ownership including relaxation, entertainment, family activity, exercise, convenience and landscaping. The industry competes for new pool sales against other discretionary consumer purchases such as kitchen and bathroom remodeling, boats, motorcycles, recreational vehicles and vacations.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The business in our industry is seasonal, and weather is the biggest challenge. The industry is also affected by other factors including consumer saving and discretionary spending levels, the rate of new housing construction and consumer attitudes toward pool products for environmental or safety reasons.
Critical Accounting Policies
Critical accounting policies are those that are both important to the accurate portrayal of a company’s financial condition and results, and require the most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
In order to prepare financial statements that conform to accounting principles generally accepted in the United States (GAAP), we make estimates and assumptions that affect the amounts reported in our financial statements and accompanying notes. Certain estimates are particularly sensitive due to their significance to the financial statements and the possibility that future events may be significantly different from our expectations.
We have identified the following six accounting policies that require us to make the most difficult, subjective or complex judgments in order to fairly present our consolidated financial position and results of operations.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses if our customers do not make required payments. We perform periodic credit evaluations of our customers and typically do not require collateral. Consistent with industry practices, we require payment from our customers within 30 days except for sales under early-buy programs for which we provide extended payment terms to qualified customers. The extended terms require payments in equal installments in April, May and June or May and June, depending on geographical location. In the past, credit losses have been within our expectations.
As our business is seasonal, our customers’ businesses are also seasonal. Sales are lowest in the winter months, and our past due accounts receivable balance as a percentage of total receivables generally increases during this time. We provide reserves for uncollectible accounts based on the accounts receivable aging ranging from 0.2% for amounts currently due up to 100% for specific accounts more than 60 days past due.
At the end of each year, we perform a specific reserve analysis of all accounts with past due balances greater than $25,000. Additionally, we perform a general reserve analysis on the balance of our accounts receivables with emphasis on the remainder of the past due portion of the aging. As we review these past due accounts, we evaluate collectibility based on a combination of factors including:
aging statistics and trends;
customer payment history;
independent credit reports; and
discussions with customers.
During the year, we write off account balances when we have exhausted reasonable collection efforts and determined that the likelihood of collection is remote. Such write-offs are charged against our allowance for doubtful accounts. In the past five years, write-offs have averaged less than 0.2% of net sales.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
If the balance of the accounts receivable reserve increased or decreased by 20% at December 31, 2003, pretax income would change by approximately $0.8 million and earnings per share would change by $0.01 per diluted share based on the number of diluted shares outstanding at December 31, 2003.
Inventory Obsolescence and Shrink Reserve
Product inventories represent the largest asset on our balance sheet. Our goal is to manage our inventory such that we minimize stock-outs to provide the highest level of service to our customers. To do this, we maintain at each service center an adequate inventory of stock keeping units (SKUs) with the highest sales volume. At the same time, we continuously strive to better manage our slower moving classes of inventory, which are not as critical to our customers and thus, inherently have lower velocity. Service centers classify products into 13 classes based on sales at that location over the past 12 months. The table below presents a description of these inventory classes:
Classes 1-3
fastest moving items, which represent approximately 80% of net sales at the service center
Classes 4-12
slower moving items, which we keep in stock to provide a high level of customer service
Class 13 products with no sales at a particular service center for the past twelve months or special
order products not yet delivered to the customer
There is little risk of obsolescence for products in classes 1-3 because products in these classes turn quickly. We establish our reserve for inventory obsolescence based on inventory classes 4-13, which we believe represent some exposure to inventory obsolescence, with particular emphasis on SKUs with the weakest sales over the previous 12 months. The reserve is intended to reflect the value of inventory that we may not be able to sell at a profit. We provide a general reserve of 5% for inventory in classes 4-13. We also provide an additional 5% reserve for excess inventory in classes 4-12 and an additional 45% for excess class 13 inventory. We define excess inventory as the amount of inventory on hand in excess of the previous 12 months usage on a company-wide basis.
In evaluating the adequacy of our reserve for inventory obsolescence and shrink at the service center level, we consider a combination of factors including:
the level of inventory in relationship to historical sales level by product, including inventory usage by class based on product sales at both the service center and Company levels;
changes in customer preferences;
the experience of the service center manager;
the previous inventory management performance of the service center;
geographical location; and
new product offerings.
Our reserve for inventory obsolescence may periodically require adjustment as changes occur in the above-identified factors.
If the balance of our inventory reserve increased or decreased by 20% at December 31, 2003, pretax income would change by approximately $0.6 million and earnings per share would change by $0.01 per diluted share based on the number of diluted shares outstanding at December 31, 2003.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Revenue Recognition
We recognize revenue in accordance with SEC Staff Accounting Bulletin (SAB) 101, Revenue Recognition in Financial Statements, and the appropriate amendments. SAB 101 requires that four basic criteria must be met before we can recognize revenue:
persuasive evidence of an arrangement exists;
delivery has occurred or services have been rendered;
the seller's price to the buyer is fixed or determinable; and
collectibility is reasonably assured.
We record revenue when customers take delivery of products. Customers may pick up products at any service center location, or products may be delivered via our trucks or third party carriers. Products shipped via third party carriers are considered delivered based on the shipping terms, which are generally FOB shipping point.
We may offer volume rebates, which we accrue monthly as an adjustment to net sales. We record customer returns, including those associated with early-buy programs, as an adjustment to net sales. In the past, customer returns have not been material.
Vendor Rebates
We account for vendor rebates in accordance with the Emerging Issues Task Force Issue 02-16, Accounting by a Customer (Including a Reseller) for Certain Consideration Received from a Vendor. Many of our arrangements with our vendors provide for us to receive a rebate of a specified amount of consideration, payable to us when we achieve any of a number of measures, generally related to the volume level of purchases from our vendors. We account for such rebates as a reduction of the prices of the vendor’s products and therefore as a reduction of inventory until we sell the product, at which time such rebates reduce cost of sales in our income statement. Throughout the year, we estimate the amount of the rebate earned based on our estimate of purchases to date relative to the purchase levels that mark our progress toward earning the rebates. We continually revise these estimates to reflect actual rebates earned based on actual purchase levels.
If market conditions were to change, vendors may change the terms of some or all of these programs. Although such changes would not affect the amounts we have recorded related to product already purchased, it may lower or raise our gross margins on products we sell or revenues earned in future periods.
Income Taxes
We record deferred tax assets or liabilities based on differences between financial reporting and tax basis of assets and liabilities using currently enacted rates and laws that will be in effect when we expect the differences to reverse. We record deferred tax assets to the extent we believe there will be sufficient future taxable income to utilize those assets prior to their expiration. Due to changing tax laws and state income tax rates, significant judgment is required to estimate the effective tax rate expected to apply to tax differences that are expected to reverse in the future. We must also make estimates about the sufficiency of taxable income in future periods to offset any deductions related to deferred tax assets currently recorded.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
As of December 31, 2003, United States taxes were not provided on earnings of our foreign subsidiaries, as we have invested or expect to invest the undistributed earnings indefinitely. If in the future these earnings are repatriated to the United States, or if we determine that the earnings will be remitted in the foreseeable future, additional tax provisions may be required. Due to complexities in the tax laws and the assumptions that would have to be made, it is not practicable to estimate the amount of income taxes that would have to be provided for in such a case, if any.
We have operations in 37 states and six foreign countries, and we are subject to tax audit in each of these jurisdictions. Tax audits by their nature are often complex and can require several years to resolve. Accruals for tax contingencies require us to make estimates and judgments with respect to the ultimate outcome of a tax audit. Actual results could differ from these estimates.
Goodwill
Goodwill represents the excess of the amount we paid to acquire a company over the estimated fair value of tangible assets and identifiable intangible assets acquired, less liabilities assumed. At December 31, 2003, our net goodwill balance was $112.1 million, representing 25% of total assets and 57% of stockholders’ equity.
We account for goodwill under the provisions of SFAS 142, Goodwill and Other Intangible Assets. Under these rules, we test goodwill for impairment annually or at any other time when impairment indicators exist.
In October 2003, we performed our annual goodwill impairment test, which requires comparison of our estimated fair value to our book value, including goodwill. As a result of this test, we believe the goodwill on our balance sheet is not impaired.
If circumstances change or events occur to indicate that our fair market value has fallen below book value, we will compare the estimated fair value of the goodwill to its book value. If the book value of goodwill exceeds the estimated fair value of goodwill, we will recognize the difference as an impairment loss in operating income.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations
The table below summarizes information derived from our Consolidated Statements of Income expressed as a percentage of net sales for the past three years:
Note: Due to rounding, percentages may not add to total income before income taxes.
The following discussion of consolidated operating results includes the operating results from acquisitions in 2003, 2002 and 2001. We accounted for these acquisitions using the purchase method of accounting, and we have included the results of operations in our consolidated results since the respective acquisition dates.
2003 compared to 2002
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Net sales increased $172.6 million, or 18%, to $1.16 billion in 2003 from $983.2 million in 2002. Base business growth of 11% contributed $102.4 million to the increase, while acquired service centers and service centers consolidated with acquired locations accounted for the remaining increase. The increase in base business sales is primarily due to the following:
a larger installed base of swimming pools resulting in increased sales of non-discretionary products;
the continued successful execution of our sales, marketing and service programs; and
an increase in complementary product sales.
Gross profit increased $59.6 million, or 23%, to $315.1 million in 2003 from $255.5 million in 2002. This increase was primarily due to the increase in net sales. Base business gross profit growth of 13% contributed $29.9 million to the increase, while acquired service centers and service centers consolidated with acquired locations accounted for the remaining increase.
Gross profit as a percentage of net sales (gross margin) increased to 27.3% in 2003 compared to 26.0% in 2002. Base business gross margin increased 30 basis points to 26.6% in 2003 from 26.3% in 2002 primarily due to improved selling and purchasing practices. The remaining increase in gross margin is attributable to the business acquired in our August 2002 Fort Wayne acquisition, including the retention of margins from the manufacturing business.
Operating expenses increased $44.3 million, or 24%, to $227.1 million in 2003 from $182.8 million in 2002. Operating expenses relating to the base business contributed $22.2 million to this increase, while acquired service centers and locations consolidated with acquired service centers accounted for the remaining increase. Operating expenses as a percentage of net sales increased to 19.6% in 2003 from 18.6% in 2002, while base business operating expenses as a percentage of net sales increased to 18.6% in 2003 from 18.3% in 2002. The increase in base business operating expenses is primarily due to our continued investment in our sales and marketing programs.
Interest expense decreased $0.3 million to $4.7 million in 2003 from $5.0 million in 2002. Although average debt outstanding was higher in 2003, our effective interest rate decreased to 2.6% in 2003 from 3.7% in 2002, primarily due to an accounts receivable securitization facility we instituted in the first quarter of 2003, which provides us with a lower cost form of financing.
Income taxes increased $6.1 million to $32.5 million for 2003 compared to $26.4 million for 2002, primarily due to the $15.6 million increase in income before income taxes. Our effective income tax rate remained unchanged at 39% throughout 2002 and 2003.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
2002 compared to 2001
Note: 2001 excludes goodwill amortization
Net sales increased $129.0 million, or 15%, to $983.2 million in 2002 from $854.2 million in 2001. Base business growth of 10% contributed $84.5 million to the increase, while acquired service centers (primarily the Fort Wayne Acquisition in August 2002 and secondarily part of the Hughes Acquisition in January 2001) and service centers consolidated with acquired locations accounted for the remaining increase. Same store sales growth was also 10% in 2002. The increase in base business sales is primarily due to the following:
more favorable weather conditions in 2002;
a larger installed base of swimming pools resulting in increased sales of non-discretionary products; and
the continued successful execution of our sales, marketing and service programs.
Gross profit increased $34.6 million, or 16%, to $255.5 million in 2002 from $220.9 million in 2001. This increase was primarily due to the increase in net sales. Gross margin remained relatively unchanged at 26.0% in 2002 compared to 25.9% in 2001. Base business gross profit contributed $22.8 million to the increase, while acquired service centers and service centers consolidated with acquired locations accounted for the remaining increase.
Excluding goodwill amortization in 2001, operating expenses increased $28.0 million, or 18%, to $182.8 million in 2002 from $154.8 million in 2001. Operating expenses relating to the base business contributed $15.0 million to this increase, while acquired service centers and locations consolidated with acquired service centers accounted for the remaining increase. Excluding goodwill amortization in 2001, operating expenses as a percentage of net sales increased to 18.6% in 2002 from 18.1% in 2001, primarily due to the dilutive impact of newly opened and acquired service centers. Base business operating expenses as a percentage of net sales remained unchanged at 17.9% in 2002 and 2001.
Interest expense decreased $0.3 million to $5.0 million in 2002 from $5.3 million in 2001. Although average debt outstanding was higher in 2002, our effective interest rate decreased to 3.7% in 2002 from 5.0% in 2001, which is consistent with the overall decline in interest rates in 2002.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Income taxes increased $3.3 million to $26.4 million for 2002 compared to $23.1 million for 2001, primarily due to the $9.1 million increase in income before income taxes. In the first quarter of 2002, our effective income tax rate decreased to 39.0% from 39.5% as a result of changes in our state income tax mix, and income tax expense in 2002 was booked at an effective rate of 39.0%.
Seasonality and Quarterly Fluctuations
Our business is highly seasonal, and weather is the principal external factor affecting our business. The table below presents some of the possible effects resulting from various weather conditions:
Weather
Possible Effects
Hot and dry • Increased purchases of chemicals and supplies
for existing swimming pools
• Increased purchases of above-ground pools
Unseasonably cool weather or • Fewer pool installations
extraordinary amounts of rain • Decreased purchases of chemicals and supplies
• Decreased purchases of impulse items such as
above-ground pools and accessories
Unseasonably early warming trends • A longer pool season, thus increasing our sales
(primarily in the northern half of the US)
Unseasonably late warming trends • A shorter pool season, thus decreasing our sales
(primarily in the northern half of the US)
For example, in the first half of 2003 the eastern United States experienced significantly higher rainfall, which adversely impacted new pool construction. Extended cool and mild temperatures in the northern half of the United States delayed the use of pools and adversely impacted the sale of swimming pool maintenance and supply items. These adverse weather conditions were partially mitigated by the warm and dry weather in the western portion of the country. Reasonable weather in the late summer months provided for solid sales growth in the second half of 2003.
In general, sales and operating income are highest during the second and third quarters, which represent the peak months of swimming pool use and installation. Sales are substantially lower during the first and fourth quarters when we may incur net losses.
In 2003, approximately 67% of net sales were generated in the second and third quarters of the year, and approximately 100% of operating income was generated in that same period.
We typically experience a build-up of product inventories and accounts payable during the winter months in anticipation of the peak selling season. Excluding borrowings to finance acquisitions and share repurchases, our peak borrowing usually occurs during the second quarter, primarily because extended payment terms offered by our suppliers typically are payable in April, May and June, while our peak accounts receivable collections typically occur in June, July and August.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
We expect that our quarterly results of operations will continue to fluctuate depending on the timing and amount of revenue contributed by new and acquired service centers. We attempt to open new service centers at the end of the fourth quarter or the first quarter of the subsequent year to take advantage of preseason sales programs and the following peak selling season.
The following table presents certain unaudited quarterly data for 2003 and 2002. In our opinion, this information reflects all normal and recurring adjustments considered necessary for a fair presentation of this data. Due to the seasonal nature of the swimming pool industry, the results of any one or more quarters are not necessarily a good indication of results for an entire fiscal year or of continuing trends.
Liquidity and Capital Resources
Liquidity is defined as the ability to generate adequate amounts of cash to meet the current need for cash. We assess our liquidity in terms of our ability to generate cash to fund our operating activities, taking into consideration the seasonal nature of our business. Significant factors which could affect liquidity include the following:
the adequacy of available bank lines of credit;
the ability to attract long-term capital with satisfactory terms;
cash flows generated from operating activities;
acquisitions;
the timing and extent of share repurchases; and
capital expenditures.
Our primary capital needs are seasonal working capital obligations and other general corporate purposes, including acquisitions and share repurchases. Our primary sources of working capital are cash from operations supplemented by bank borrowings. In the past, borrowings and cash from operations have been sufficient to support our growth and finance acquisitions.
Our credit agreement, which matures on November 27, 2004, allows us to borrow under a revolving line of credit (the Revolving Credit Facility). In November 2003, we decreased our borrowing capacity under the Revolving Credit Facility to $130.0 million from $150.0 million.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
During the twelve months ended December 31, 2003, we made net payments of $86.3 million on the Revolving Credit Facility. We also made a $2.1 million payment to pay off an outstanding line of credit we acquired in connection with the Quebec Acquisition. At December 31, 2003, there was $38.9 million outstanding and $55.8 million available for borrowing under the Revolving Credit Facility, subject to borrowing base availability supported primarily by product inventories and to a lesser extent by trade accounts receivable. We intend to replace the Revolving Credit Facility with a new facility prior to the maturity date in November, 2004.
The average effective interest rate of the Revolving Credit Facility was approximately 3.2% for the twelve month period ended December 31, 2003. Interest on borrowings under the Revolving Credit Facility may be paid at either of the following rates, in each case depending on our leverage ratio:
the agent’s corporate base rate or the federal funds rate plus 0.5%, whichever is higher, plus a margin ranging from 0.125% to 0.375%, or
the current Eurodollar Rate plus a margin ranging from 1.125% to 1.750%.
Substantially all of our assets, including capital stock of our wholly-owned subsidiaries, secure our obligations under the Revolving Credit Facility. The Revolving Credit Facility has numerous restrictive covenants, which require that we maintain a minimum net worth and fixed charge coverage and which also restrict our ability to pay dividends. As of December 31, 2003, we were in compliance with all covenants and financial ratio requirements.
In the first quarter of 2003, we closed an accounts receivable securitization facility (the Receivables Facility) with a peak seasonal borrowing capacity of up to $90.0 million. The Receivables Facility provides for the true sale of certain of our receivables as they are created to a wholly-owned, bankruptcy-remote subsidiary. This subsidiary sells an undivided security interest in the receivables to an unrelated commercial paper conduit. We account for the Receivables Facility on-balance sheet because we have maintained effective control of the receivables. Accordingly, the receivables and the related debt are included in the accompanying consolidated balance sheet. We employed this arrangement because it provides us with a lower cost form of financing. At December 31, 2003, there was $42.4 million outstanding under the Receivables Facility, which represented the maximum available for borrowing at that date. The average effective interest rate of the Receivables Facility was approximately 1.8% for the year ended December 31, 2003. The Receivables Facility expires in March 2004, and we intend to replace the Receivables Facility with a new facility at such time.
At December 31, 2003, our contractual obligations of long-term debt and operating leases were as follows (in thousands):
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Net cash provided by operating activities increased $19.9 million to $78.1 million in 2003 from $58.2 million in 2002. This increase is due to an increase in net income and improved working capital management. We continue to better manage our inventory, and generally improved discipline on working capital. We anticipate cash flow from operations to approximate net income in 2004. Excluding the effects of acquisitions, if any, we do not expect our cash used in investing activities to change materially in 2004.
In 2002, net cash provided by operating activities increased $31.4 million to $58.2 million from $26.8 million in 2001, primarily due to the decrease in product inventories, partially offset by the decrease in accounts payable.
Initially, acquisitions are financed through increased bank borrowings, and those borrowings are then reduced with cash flows from operations. The same principle applies for funds used for share repurchases and capital expenditures.
We believe we have adequate availability of capital to fund present operations and anticipated growth, including expansion in existing and targeted market areas. We continually evaluate potential acquisitions and hold discussions with acquisition candidates. If suitable acquisition opportunities or working capital needs arise that would require additional financing, we believe that our financial position and earnings history provide a solid base for obtaining additional financing resources at competitive rates and terms. Additionally, we may issue common or preferred stock to raise funds.
Accounts Receivable and the Allowance for Doubtful Accounts
Accounts receivable increased $13.7 million, or 20%, to $83.8 million at December 31, 2003, compared to $70.1 million at December 31, 2002. Acquisitions in 2003 represented $6.2 million of the balance at December 31, 2003, and accounts receivable grew by 11%, net of acquisitions. This increase is consistent with the increase in base business net sales between years.
The allowance for doubtful accounts increased to $3.8 million at December 31, 2003 from $3.3 million at December 31, 2002. The allowance represented 54% of the accounts receivable greater than 60 days past due in December 2003 compared to 48% in December 2002.
Product Inventories and the Reserve for Shrink and Obsolescence
Product inventories increased $10.2 million, or 6%, to $193.9 million at December 31, 2003 from $183.7 million at December 31, 2002. Inventory at locations acquired during 2003 was approximately $10.6 million at December 31, 2003.
At December 31, 2003, the inventory reserve of $3.1 million was unchanged from the prior year. The slowest moving class of inventory decreased approximately $0.5 million from 2002 to 2003.
Share Repurchase Program
As part of our share repurchase program, in 2003 we purchased 192,300 shares of our common stock in the open market at an average price of $17.35 per share. We subsequently canceled these shares.
The impact of our common stock repurchases had the effect of reducing diluted weighted average shares outstanding by approximately 0.2 million shares for the year ended December 31, 2003.
SCP POOL CORPORATION
Part II.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
On February 12th and 13th, 2004, we purchased 36,500 shares at an average price of $32.18. On February 13, 2004, $34.0 million remained available under the authorization of our Board of Directors for future share repurchases. We intend to continue to repurchase shares on the open market from time to time, depending on market conditions. We may use cash flows from operations to fund these purchases, or we may incur additional debt.
Item 7a.
Item 7a. Quantitative and Qualitative Disclosures about Market Risk
We are exposed to market risks, including interest rate risk and foreign currency risk. The adverse effects of potential changes in these market risks are discussed below. The following discussion does not consider the effects of the reduced level of overall economic activity that could exist following such changes. Further, in the event of changes of such magnitude, we would likely take actions to mitigate our exposure to such changes.
Interest Rate Risk
Our earnings are exposed to changes in short-term interest rates because of the variable interest rates on our long-term debt. To mitigate this risk, in May 2003 we entered into an interest swap agreement with variable notional amounts. The swap became effective September 30, 2003 and expires May 28, 2004. If (i) the variable rates on our Revolving Credit Facility increased or decreased 1.0% from the rate at December 31, 2003; and (ii) we borrowed the maximum amount available under the Revolving Credit Facility ($130.0 million) and the Receivables Facility ($90.0 million) for all of 2004, then our pretax income would change by approximately $2.0 million and earnings per share would change by $0.03 per diluted share based on the number of diluted shares outstanding at December 31, 2003. The fair value of our Revolving Credit Facility is not affected by changes in market interest rates.
Foreign Exchange Risk
We have wholly-owned subsidiaries in Canada, Mexico, the United Kingdom, France, Portugal and Spain. In the past, we have not hedged our foreign currency exposure, and fluctuations in exchange rates have not materially affected our operating results. Future changes in exchange rates may positively or negatively impact our revenues, operating expenses and earnings. Due to the size of our foreign operations, however, we do not anticipate that exposure to foreign currency rate fluctuations will be material in 2004.
Functional Currencies
Canada Canadian Dollar
Mexico Peso
United Kingdom British Pound
France Eurodollar
Portugal Eurodollar
Spain Eurodollar
SCP POOL CORPORATION
Cautionary Statement for Purpose of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995
Our disclosure and analysis in this report contains forward-looking information that involves risks and uncertainties. Our forward-looking statements express our current expectations or forecasts of possible future results or events, including projections of future performance, statements of management’s plans and objectives, future contracts, and forecasts of trends and other matters. You can identify these statements by the fact that they do not relate strictly to historic or current facts and often use words such as “anticipate”, “estimate”, “expect”, “believe,” “will likely result,” “outlook,” “project” and other words and expressions of similar meaning. No assurance can be given that the results in any forward-looking statements will be achieved and actual results could be affected by one or more factors, which could cause them to differ materially. For these statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act.
Certain factors that may affect our business and could cause actual results to differ materially from those expressed in any forward-looking statements include the following:
Weather. Weather is the principal external factor affecting our business. For example, unseasonably late warming trends can decrease the length of the pool season and unseasonably cool weather or extraordinary rainfall during the peak season can decrease swimming pool use, installation and maintenance.
Seasonality. Our business is highly seasonal. In 2003, approximately 66% of our net sales were generated in the second and third quarters of the year, which represent the peak months of swimming pool use, installation, remodeling and repair, and 100% of our operating income was generated in the same period. Our sales are substantially lower during the first and fourth quarters of the year, when we may incur net losses.
Competition. We face competition from both outside our industry with sellers of other leisure product alternatives, such as boats and motor homes, and from within our industry with various regional and local distributors, several companies that distribute swimming pool supplies on a national basis and, to a lesser extent, mass market retailers and large pool supply retailers. New competitors may emerge as there are low barriers to entry in our industry. Our largest geographic markets that we service, such as California, Texas and Florida, also tend to be more competitive than others.
General Economic Conditions. Our industry is somewhat dependent upon overall economic and market conditions. For example, in economic downturns, the demand for swimming pool or leisure related products may decline as discretionary consumer spending, new housing construction and swimming pool construction decline.
Environmental, Health, Transportation and Safety Regulation. We are subject to regulation under federal, state and local environmental, health, transportation and safety requirements, which govern such things as packaging, labeling, handling, transportation, storage and sale of pool chemicals and other products. Failure to comply with these laws and regulations may result in the assessment of administrative, civil, and criminal penalties or the imposition of injunctive relief. Moreover, compliance with such laws and regulations in the future could prove to be costly, and there can be no assurance that we will not incur such costs in material amounts. These laws and regulations have changed substantially and rapidly over the last 20 years, and we anticipate that there will be continuing changes. The clear trend in environmental, health, transportation and safety regulation is to place more restrictions and limitations on activities that impact the environment, such as the use and handling of chemical substances, and protect the health and safety of individuals. Increasingly, strict restrictions and limitations have resulted in increased operating costs for us and other businesses throughout the United States, and it is possible that the costs of compliance with such laws and regulations will continue to increase. We will attempt to anticipate future regulatory requirements that might be imposed and to plan accordingly in order to remain in compliance with changing regulations and to minimize the costs of such compliance.
Fire, Safety and Casualty. We store chemicals at our service centers and central stocking locations, including certain combustible, oxidizing compounds. A fire, explosion or flood affecting one of our facilities could give rise to fire, safety and casualty losses and related liability claims.
Growth. We have experienced substantial growth in recent years through acquisitions and the opening of new locations that have increased our size, scope and geographic distribution. While we contemplate continued growth through acquisitions and internal expansion, no assurance can be made as to our ability to penetrate new markets; identify appropriate acquisition candidates; complete acquisitions on satisfactory terms and successfully integrate
SCP POOL CORPORATION
Cautionary Statement for Purpose of the "Safe Harbor" Provisions of the Private Securities Litigation Reform Act of 1995 (continued)
acquired businesses; obtain financing; generate sufficient cash flows to support expansion plans and general operating activities; maintain favorable supplier arrangements and relationships; and identify and divest assets which do not continue to create value consistent with our objectives.
International Operations. During 2003, international sales accounted for approximately 5% of our total net sales. We anticipate that future international sales will increase and may account for a more significant percentage of our sales. Risks associated with our international operations include political and economic instability, export controls, foreign government tax policies and regulatory requirements, United States and foreign government policy changes, convertibility and transferability of international currencies, and restrictions on the movement of funds or goods.
Key Personnel. Out future success depends to a significant extent upon the continued service of our executive officers and other key management and personnel, and on our ability to continue to attract, retain and motivate qualified personnel. The loss of one or more of our key employees or our failure to attract, retain and motivate qualified personnel could have a material adverse effect on our business.
Supplier Relationships. We presently purchase product from over 1,200 manufacturers. Our inability to maintain favorable supplier arrangements and relationships could have a material adverse effect on our business.
Marketing. Our inability to sufficiently develop effective advertising, marketing and promotional programs to succeed in a weakened national economy and an increasingly competitive marketplace in which we also compete with other luxury product alternatives, could have a material adverse effect on our business. In addition, changes in public and consumer tastes could also have an effect on our business.
Laws and Regulations. Changes in laws and regulations, including (i) healthcare reform initiatives in the United States at the state and federal level and in other countries; (ii) tax rate changes, new tax laws and revised tax law interpretations in the United States and certain foreign countries; and (iii) changes in accounting standards, could have a material adverse effect on our business.
Other Factors. Other factors that may impact our business include acts of war or terrorist incidents, future litigation, governmental proceedings, and labor relations and disputes.
The foregoing factors are not exhaustive and new factors may emerge which impact our business. It is impossible for us to predict all such factors. Therefore, forward-looking statements should not be relied upon as a prediction of actual future results. We cannot guarantee that any future event or result will be realized, although we believe we have been prudent in our plans and assumptions. Should additional risks or uncertainties materialize, or should underlying assumptions prove inaccurate, actual results could differ materially from those anticipated. Investors should bear this in mind as they consider forward-looking statements.
Item 8.
Item 8. Financial Statements and Supplementary Data
See the attached Consolidated Financial Statements and related Notes (pages through).
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
SCP POOL CORPORATION
Item 9A.
Item 9A. Controls and Procedures
The term “disclosure controls and procedures” is defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the Act). The rules refer to the controls and other procedures designed to ensure that information required to be disclosed in reports that we file or submit under the Act is recorded, processed, summarized and reported within the time periods specified. As of December 31, 2003, management, including the CEO and CFO, performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, management, including the CEO and CFO, concluded that as of December 31, 2003, our disclosure controls and procedures were effective at ensuring that material information related to us or our consolidated subsidiaries is made known to them and is disclosed on a timely basis in our reports filed under the Act.
We maintain a system of internal control over financial reporting that is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States. Based on the most recent evaluation, we have concluded that no significant changes in our internal control over financial reporting occurred during the last fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Part III.
Item 10.
Item 10. Directors and Executive Officers of the Registrant
Incorporated by reference to the Company’s 2004 Proxy Statement to be filed with the SEC.
Item 11.
Item 11. Executive Compensation
Incorporated by reference to the Company’s 2004 Proxy Statement to be filed with the SEC.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Incorporated by reference to the Company’s 2004 Proxy Statement to be filed with the SEC.
Item 13.
Item 13. Certain Relationships and Related Transactions
Incorporated by reference to the Company’s 2004 Proxy Statement to be filed with the SEC.
Item 14.
Item 14. Principal Accountant Fees and Services
Incorporated by reference to the Company’s 2004 Proxy Statement to be filed with the SEC.
SCP POOL CORPORATION
Part IV.
Item 15.
Item 15.
Exhibits, Financial Statement Schedules and Reports on Form 8-K
a. 1. The Consolidated Financial Statements included in Item 8 and set forth on pages
through.
2. Financial Statement Schedules. Schedule II - Valuation and Qualifying Accounts
All other schedules are omitted because they are not applicable or are not required,
or because the required information is included in the Consolidated Financial
Statements or Notes.
3. The exhibits listed in the Index to the Exhibits.
b.
Reports on Form 8-K.
On September 18, 2003, we furnished a Form 8-K, Item 9, Regulation FD Disclosure,
announcing recent acquisitions.
On October 22, 2003, we furnished a Form 8-K, Item 12, Results of Operations and,
Financial Condition, announcing our third quarter earnings results.
SCP POOL CORPORATION
Consolidated Financial Statements
Report of Independent Auditors
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Stockholders’ Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
SCP POOL CORPORATION
Report of Independent Auditors
The Board of Directors
SCP Pool Corporation
We have audited the consolidated balance sheets of SCP Pool Corporation as of December 31, 2003 and 2002, and the related consolidated statements of income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2003. Our audits also included the financial statement schedule listed in the index at Item 15a2. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of SCP Pool Corporation at December 31, 2003 and 2002, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
As discussed in Note 1 to the consolidated financial statements, effective January 1, 2002 the Company changed its method of accounting for goodwill.
/S/ ERNST & YOUNG LLP
New Orleans, Louisiana
February 20,
SCP POOL CORPORATION
The accompanying Notes are an integral part of these Consolidated Financial Statements.
SCP POOL CORPORATION
The accompanying Notes are an integral part of these Consolidated Financial Statements.
SCP POOL CORPORATION
The accompanying Notes are an integral part of these Consolidated Financial Statements.
SCP POOL CORPORATION
The accompanying Notes are an integral part of these Consolidated Financial Statements.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies
Description of Business
As of December 31, 2003, SCP Pool Corporation and its wholly-owned subsidiaries (the Company, which may be referred to as POOL, we, us or our), maintained 197 service centers in North America and Europe from which we sell swimming pool equipment, parts and supplies to pool builders, retail stores and service companies. We distribute products through two national networks: The SCP Distributors network (SCP) and the Superior Pool Products (SPP) network.
Net sales by geographic region were as follows (in thousands):
Property and equipment by geographic region were as follows (in thousands):
Basis of Presentation and Principles of Consolidation
We prepared the consolidated financial statements following accounting principles generally accepted in the United States (GAAP) and the requirements of the Securities and Exchange Commission (SEC). The financial statements include all normal and recurring adjustments that are necessary for a fair presentation of our financial position and operating results.
The consolidated financial statements include the accounts of SCP Pool Corporation and our wholly-owned subsidiaries. We eliminated all significant intercompany accounts and transactions.
Use of Estimates
In order to prepare financial statements that conform to GAAP, we make estimates and assumptions that affect the amounts reported in our financial statements and accompanying notes. Our most significant estimates are those relating to the allowance for doubtful accounts and the inventory reserve. We continually review our estimates and make adjustments as necessary, but actual results could be significantly different from what we expected when we made these estimates.
Segment Reporting
Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) 131, Disclosures about Segments of an Enterprise and Related Information, establishes standards for the way that public companies report information about operating segments in annual financial statements and establishes standards for related disclosures about products and services, geographic areas and major customers. We have reviewed SFAS 131 and determined that we have a single reportable segment.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
Seasonality and Weather
Our business is highly seasonal, and weather is the principal external factor affecting our business. The table below presents some of the possible effects resulting from various weather conditions:
Weather
Possible Effects
Hot and dry • Increased purchases of chemicals and supplies
for existing swimming pools
• Increased purchases of above-ground pools
Unseasonably cool weather or • Fewer pool installations
extraordinary amounts of rain • Decreased purchases of chemicals and supplies
• Decreased purchases of impulse items such as
above-ground pools and accessories
Unseasonably early warming trends • A longer pool season, thus increasing our sales
(primarily in the northern half of the US)
Unseasonably late warming trends • A shorter pool season, thus decreasing our sales
(primarily in the northern half of the US)
In general, sales and net income are highest during the second and third quarters, which represent the peak months of swimming pool use and installation. Sales are substantially lower during the first and fourth quarters when we may incur net losses. For further discussion, see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Earnings Per Share
In accordance with SFAS 128, Earnings per Share, we calculate basic earnings per share by dividing net income by the weighted average number of common shares outstanding. Diluted earnings per share includes the dilutive effects of stock options and convertible notes.
Financial Instruments
The carrying values of cash, receivables, accounts payable and accrued liabilities approximate fair value due to the short maturity of those instruments. The carrying amount of long-term debt approximates fair value as it bears interest at variable rates.
Cash Equivalents
We consider all highly liquid investments with an original maturity of three months or less when purchased to be cash equivalents.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
Credit Risk and Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses if our customers do not make required payments. We perform periodic credit evaluations of our customers and we typically do not require collateral. Consistent with industry practices, we require payment from our customers within 30 days except for sales under early-buy programs for which we provide extended payment terms to qualified customers. In the past, credit losses have been within our expectations.
For additional discussion of the allowance for doubtful accounts, see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Product Inventories and Reserve for Inventory Obsolescence and Shrink
Product inventories consist primarily of goods we purchase from manufacturers and intend to sell to our customers. We record inventory at the lower of cost, using the average cost method, or market. We establish our reserve for inventory obsolescence based on inventory turns by category with particular emphasis on SKUs with the weakest sales over the previous 12 months. The reserve is intended to reflect the value of inventory that we may not be able to sell at a profit.
In evaluating the adequacy of our reserve for inventory obsolescence and shrink at the service center level, we consider a combination of factors including:
the level of inventory in relationship to historical sales by product, including inventory usage by class based on product sales at both the service center and Company levels;
changes in customer preferences;
the experience of the service center manager;
the previous inventory management performance of the service center;
geographical location; and
new product offerings.
Our reserve for inventory obsolescence may periodically require adjustment as changes occur in the above-identified factors.
We account for vendor rebates in accordance with the Emerging Issues Task Force Issue 02-16, Accounting by a Customer (Including a Reseller) for Certain Consideration Received from a Vendor. Many of our arrangements with our vendors provide for us to receive a rebate of a specified amount of consideration, payable to us when we achieve any of a number of measures, generally related to the volume level of purchases from our vendors. We account for such rebates as a reduction of the prices of the vendor’s products and therefore as a reduction of inventory until we sell the product, at which time such rebates reduce cost of sales in our income statement. Throughout the year, we estimate the amount of the rebate earned based on our estimate of purchases to date relati ve to the purchase levels that mark our progress toward earning the rebates. We continually revise these estimates to reflect actual rebates earned based on actual purchase levels.
For additional discussion of product inventories and the inventory reserve, see Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
Property and Equipment
Property and equipment are stated at cost. We depreciate property and equipment on a straight-line basis over the following estimated useful lives:
Buildings 40 years
Leasehold improvements the life of the lease, including any expected renewals
Autos and trucks 3 years
Machinery and equipment 10 years
Computer equipment 3 - 5 years
Furniture and fixtures 10 years
The table below presents depreciation expense for the past three years (in thousands):
Goodwill and Other Intangible Assets
Goodwill represents the excess of the amount we paid to acquire a company over the estimated fair value of tangible assets and identifiable intangible assets acquired, less liabilities assumed. We account for goodwill under the provisions of SFAS 142, Goodwill and Other Intangible Assets. In accordance with these rules, we test goodwill for impairment annually or at any other time when impairment indicators exist. Under the provisions of SFAS 142, we amortize our intangible assets consisting of non-compete agreements and a distribution agreement because they have finite lives.
For additional discussion of goodwill and other intangible assets, see Note 2 to the Financial Statements.
Self Insurance
We retain certain self-insurance risks for both health benefits and property and casualty insurance programs. We have limited our exposure by maintaining excess and aggregate liability coverage. We establish self-insurance reserves based on claims filed and estimates of claims incurred but not reported. The estimates are based on information provided to us by the claims administrators.
Advertising Costs
We expense advertising costs when incurred. The table below presents advertising expense for the past three years (in thousands):
Income Taxes
We record deferred tax assets or liabilities based on differences between financial reporting and tax basis of assets and liabilities using currently enacted rates and laws that will be in effect when we expect the differences to reverse. We record deferred tax assets to the extent we believe there will be sufficient future taxable income to utilize those assets prior to their expiration. Due to changing tax laws and state income tax rates, significant judgment is required to estimate the effective tax rate expected to apply to tax differences that are expected to reverse in the future.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
For additional discussion of income taxes, see Critical Accounting Policies in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Stock Compensation Arrangements
Under the provisions of SFAS 123, Accounting for Stock-Based Compensation, companies may account for employee stock options using either (i) SFAS 123‘s fair value method or (ii) the intrinsic value method provided by APB 25, Accounting for Stock Issued to Employees. Under the SFAS 123 fair value method, companies recognize compensation expense related to employee stock options based on the fair value of the options on the grant date as estimated by an option pricing model. The intrinsic value method prescribed by APB 25 requires recognition of compensation expense when the exercise price of the granted options is less than the stock’s market price on the grant date.
We account for our employee stock options under the intrinsic value method described by APB 25. Accordingly, we do not record compensation expense for options issued with an exercise price equal to the stock’s market price on the grant date. The table below presents compensation expense for options granted below market price (in thousands):
If we had accounted for our employee stock options using the fair value method described in SFAS 123, our net income and earnings per share would have been reduced to the pro-forma amounts below (in thousands, except per share data):
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
For purposes of pro-forma disclosures, the estimated fair value of employee options is ratably expensed over the options’ vesting period. We estimated the fair value of these options at the grant date using a Black-Scholes option pricing model with the following weighted average assumptions:
The Black-Scholes option valuation model was developed to estimate the fair value of traded options that have no vesting restrictions and are fully transferable. Additionally, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. In our opinion, the existing models do not necessarily provide a reliable single measure of the fair value of our employee stock options because:
the characteristics of our employee stock options are significantly different from those of traded options; and
changes in the subjective input assumptions can materially affect the fair value estimate.
Revenue Recognition
We recognize revenue in accordance with SEC Staff Accounting Bulletin (SAB) 101, Revenue Recognition in Financial Statements, and the appropriate amendments. SAB 101 requires that four basic criteria must be met before we can recognize revenue:
persuasive evidence of an arrangement exists;
delivery has occurred or services have been rendered;
the seller's price to the buyer is fixed or determinable; and
collectibility is reasonably assured.
We record revenue when customers take delivery of products. Customers may pick up products at any service center location, or products may be delivered via our trucks or third party carriers. Products shipped via third party carriers are considered delivered based on the shipping terms, which are generally FOB shipping point.
Derivatives and Hedging Activities
We recognize all derivatives at fair value on the balance sheet. The effective portion of changes in the fair value of derivatives qualifying as cash flow hedges are recognized in other comprehensive income until the hedged item is recognized in earnings, or until it becomes unlikely that the hedged transaction will occur. The ineffective portion of a derivative’s change in fair value is immediately recognized in earnings.
In May 2003, we entered into an interest rate swap agreement as a cash flow hedge to reduce our exposure to fluctuations in interest rates. Any difference paid or received on the interest rate swap is recognized as an adjustment to interest expense over the life of the swap. The swap became effective September 30, 2003 and will terminate on May 28, 2004.
SCP POOL CORPORATION
1. Organization and Summary of Significant Accounting Policies (continued)
Shipping and Handling Costs
We include shipping and handling fees billed to customers in net sales, and we record shipping and handling costs associated with inbound freight as cost of sales. The table below presents shipping and handling costs associated with outbound freight, which we include in selling, general and administrative expenses (in thousands):
Reclassifications
We reclassified certain amounts in our 2002 and 2001 financial statements to conform to the current presentation. These reclassifications had no effect on net income or earnings per share as previously reported for those years.
2. Goodwill and Other Intangible Assets
In October 2003, we performed our annual goodwill impairment test, which requires comparison of our Company’s estimated fair value to the book value, including goodwill. As a result of this test, we believe the goodwill on our balance sheet is not impaired.
Through December 31, 2001, we amortized goodwill on a straight-line basis over periods ranging from 20-40 years.
We amortize non-compete agreements and a distribution agreement using the straight-line method over the contractual term of the agreement.
The changes in the carrying amount of goodwill are as follows (in thousands):
Other intangible amortization expense was $3.1 million in 2003 and $2.3 million in 2002. The table below presents estimated amortization expense for other intangible assets for the next five years (in thousands):
SCP POOL CORPORATION
2. Goodwill and Other Intangible Assets (continued)
The table below provides a reconciliation of reported net income and earnings per share to adjusted net income and earnings per share as if the non-amortization provisions of SFAS 142 had been applied beginning January 1, 2001 (in thousands, except per share data):
3. Acquisitions
2003 Acquisitions
In May 2003, we acquired the capital stock of Les Industries R.P. Inc. (the Quebec Acquisition), a distributor and manufacturer of swimming pool products operating one service center in Quebec, Canada. In connection with the Quebec Acquisition, we recorded the cost of a non-compete agreement totaling $0.7 million, which we are amortizing using the straight-line method over the agreement’s six-year contractual life. We also recorded approximately $1.3 million of goodwill in connection with the acquisition, none of which we expect will be deductible for tax purposes.
In August 2003, we acquired Sud Ouest Filtration (the SOFI Acquisition), a distributor and manufacturer of swimming pool products operating one service center in Bordeaux, France. The SOFI Acquisition represents our fourth location in France and expanded our market presence to the southwest part of that country. We also acquired in August certain assets of Mepasa Albercas, a swimming pool distributor in Cuernavaca, Mexico (the Mepasa Acquisition). The Cuernavaca service center is our first location in Latin America.
On October 1, 2003, we purchased substantially all of the assets of the distribution division of Litehouse Products, Inc. (the Litehouse Acquisition). This distribution division sells primarily in the Ohio, Pennsylvania and Michigan markets. This acquisition establishes a strong presence for us in northern Ohio and adjacent markets. We recorded approximately $2.5 million of goodwill in connection with this acquisition, all of which we expect will be deductible for tax purposes. The purchase agreement includes that a portion of the purchase price be paid in annual installments of $0.4 million for the next five years. We recorded these future payments as goodwill at the present value of $1.9 million. We signed two non-compete agreements totaling $3.0 million with certain shareholders of Litehouse Products, Inc. Additionally, we recorded a distribution agreement with the Litehouse retail stores as an intangible asset at the estimated fair value of $6.1 million. We are amortizing the non-compete and distribution agreements using the straight-line method over the five year contractual lives.
SCP POOL CORPORATION
3. Acquisitions (continued)
In November 2003, we purchased substantially all of the distribution assets of Hayward Iberica, S.A., an indirect wholly-owned subsidiary of Hayward Pool Products, Inc. (the Iberica Acquisition). Iberica distributed primarily Hayward equipment from two service centers in Madrid and Valencia, Spain. These two service centers are our first locations in Spain and allow us to further our presence in the European market.
We have included the results of operations of the Quebec, SOFI, Mepasa, Litehouse and Iberica Acquisitions in the Consolidated Financial Statements since the respective acquisition dates.
2002 Acquisitions
In August 2002, we purchased 100% of the outstanding common shares of Fort Wayne Pools, Inc. (the Fort Wayne Acquisition). Fort Wayne was a distributor and manufacturer of swimming pool equipment, parts and supplies, and its distribution network consisted of 22 service centers in 16 states.
The Fort Wayne Acquisition is consistent with our strategy of complementing our internal growth with the purchase of additional service centers. The acquisition of these additional 22 service centers expanded the reach and market share of our SPP network allowing us to enhance our service capabilities and better serve the growing pool industry. In the fourth quarter of 2002, we closed one location and consolidated 13 of the 22 acquired service centers with SPP locations. The remaining eight service centers operate as part of the SPP network.
The approximate $49.7 million cash purchase price was determined based on negotiations with the former shareholders of Fort Wayne and our valuation considerations, which included historical and prospective earnings, net asset value and other valuation considerations consistent with our historical valuations of acquisitions. In accordance with the purchase agreement, we placed $1.0 million of the purchase price in an escrow account to secure certain indemnification and other post-closing obligations of the sellers, and any amounts remaining in the escrow account in August 2005 will be paid to the sellers.
We allocated the purchase price, net of cash acquired, as follows (in thousands):
We do not expect the goodwill recorded in connection with the Fort Wayne Acquisition to be deductible for tax purposes. We signed non-compete agreements with certain former Fort Wayne shareholders providing for payments in the aggregate of $5.0 million over the next five years. We recorded the non-compete agreements at their present value of $4.4 million.
We have included the results of Fort Wayne’s operations in the Consolidated Financial Statements since the acquisition date.
SCP POOL CORPORATION
3. Acquisitions (continued)
2001 Acquisitions
We completed three acquisitions in 2001 (the 2001 Acquisitions). In January 2001, we completed the purchase of substantially all of the assets and the assumption of certain liabilities of the pool division of Hughes Supply, Inc. (Hughes or the Hughes Acquisition). Hughes distributed swimming pool equipment, parts and supplies through 31 locations in the eastern half of the United States. The acquisition of these 31 service centers allowed us to further our presence in existing markets and enter new markets. Five of these service centers operate in the SCP network and the remaining 26 operate as part of the SPP network. We financed the approximate $47.5 million cash purchase price with borrowings under our revolving line of credit and a $25.0 million short-term seller’s note issued by Hughes (the Hughes Note). The Hughes Note was fully paid in November 2001. We allocated the purchase price, net of cash acquired, as follows (in thousands):
We expect the goodwill acquired in the Hughes Acquisition to be fully deductible for tax purposes. We are amortizing the non-compete agreement using the straight-line method over the agreement’s five-year contractual life.
In July and October 2001, we acquired the capital stock of Exporlinea Importação e Exportação de Equipamentos para Tratamento de Águas E Outros, LDA (Exporlinea) and certain assets of Capital Pool Industries Limited (Capital), distributors of swimming pool equipment, parts and supplies. Exporlinea operated two service centers in Portimao and Lisbon, Portugal. Capital operated three service centers in Ontario, Canada. As a result of the Exporlinea and Capital Acquisitions, we expanded our international operations from four service centers to nine service centers.
We accounted for the 2001 Acquisitions using the purchase method of accounting, and we have included the results of operations in the Consolidated Financial Statements since their respective acquisition dates.
SCP POOL CORPORATION
4. Details of Certain Balance Sheet Accounts
The table below presents additional information regarding certain balance sheet accounts (in thousands):
SCP POOL CORPORATION
5. Debt
The components of our debt for the past two years were as follows (in thousands):
On November 27, 2001, we entered into a credit agreement (the Credit Agreement) with a group of banks. The Credit Agreement, which matures on November 27, 2004, allows us to borrow under a revolving line of credit (the Revolving Credit Facility). In November 2003, we decreased our maximum borrowing capacity under the Revolving Credit Facility to $130.0 million from $150.0 million.
At December 31, 2003, there was $38.9 million outstanding and $55.8 million available for borrowing under the Revolving Credit Facility, subject to borrowing base availability supported primarily by product inventories and to a lesser extent by trade accounts receivable. We pay a quarterly commitment fee of 0.30% to 0.45% (depending on our leverage ratio) of the unused portion of available credit under the Revolving Credit Facility. We intend to replace the Revolving Credit Facility with a new facility prior to the maturity date in November, 2004.
The average effective interest rate of the Revolving Credit Facility was approximately 3.2% for the year ended December 31, 2003. Interest on borrowings under the Revolving Credit Facility may be paid at either of the following rates, in each case depending on our leverage ratio:
the agent’s corporate base rate or the federal funds rate plus 0.5%, whichever is higher, plus a margin ranging from 0.125% to 0.375%, or
the current Eurodollar Rate plus a margin ranging from 1.125% to 1.750%
Substantially all of our assets, including the capital stock of our wholly-owned subsidiaries, secure our obligations under the Revolving Credit Facility. The Revolving Credit Facility has numerous restrictive covenants, which require that we maintain a minimum net worth and fixed charge coverage and which also restrict our ability to pay dividends. As of December 31, 2003, we were in compliance with all covenants and financial ratio requirements.
At December 31, 2003, we had outstanding borrowings of $42.4 million under our accounts receivable securitization facility (the Receivables Facility). In the first quarter of 2003, we entered into the Receivables Facility with a peak seasonal borrowing capacity of up to $90.0 million. The Receivables Facility provides for the true sale of certain of our receivables as they are created to a wholly-owned, bankruptcy-remote subsidiary. This subsidiary sells an undivided security interest in the receivables to an unrelated commercial paper conduit. We account for the Receivables Facility on-balance sheet because we have maintained effective control of the receivables. Accordingly, the receivables and the related debt are included in the accompanying consolidated balance sheet. We employed this arrangement because it provides us with a lower cost form of financing. At December 31, 2003, the average effective interest rate of the Receivables Facility was approximately 1.8%.
SCP POOL CORPORATION
5. Debt (continued)
Additionally, in 2003 we signed a $0.5 million non-compete agreement with a Litehouse shareholder, which provides for monthly payments over the next five years. We recorded the agreement at its $0.5 million present value. As discussed in Note 3 above, the Litehouse purchase agreement requires a portion of the purchase price to be paid in annual installments of $0.4 million for the next five years. We recorded these future payments as goodwill at the present value of $1.9 million.
In 2002, we signed non-compete agreements with certain former Fort Wayne shareholders providing for $1.0 million annual payments over the next five years. We recorded the non-compete agreements at their present value of $4.4 million.
In May 2003, we entered into an interest rate swap agreement, primarily to reduce our exposure to fluctuations in interest rates. Under the swap agreement, we agreed to exchange, at specified intervals, the difference between fixed and variable interest amounts calculated by reference to a notional principal amount. Any differences paid or received on the interest rate swap agreement are recognized as adjustments to interest expense over the life of the swap, thereby adjusting the effective interest rate on the underlying obligation. This interest rate swap, which terminates on May 28, 2004, is designated as a cash flow hedge. No ineffectiveness related to this swap was recognized in 2003.
6. Income Taxes
Income from continuing operations before the provision for income taxes is attributable to the following jurisdictions (in thousands):
The provision for income taxes consisted of the following (in thousands):
We made payments related to income taxes totaling $25.2 million in 2003 and $18.7 million in 2002.
SCP POOL CORPORATION
6. Income Taxes (continued)
A reconciliation of the U.S. federal statutory tax rate to our effective tax rate on income before income taxes is as follows:
The components of the deferred tax assets and liabilities are as follows (in thousands):
We reduce federal, state and foreign income taxes payable by the tax benefits associated with the exercise of stock options. We receive an income tax benefit based on the difference between the option exercise price and the fair market value of the stock at the time the option is exercised. This benefit, which we record in stockholders’ equity, was $2.1 million in 2003 and $1.0 million in 2002.
Current U.S. income taxes, foreign withholding taxes and deferred income taxes were not provided on the undistributed earnings of our non-U.S. subsidiaries. We intend to reinvest these earnings indefinitely in operations outside the United States.
SCP POOL CORPORATION
7. Common Stock and Earnings Per Share
The table below presents the reconciliation of basic and diluted weighted average number of shares outstanding and the related earnings per share calculation (in thousands):
8. Commitments
We lease facilities for our corporate office, service centers, vehicles and equipment under non-cancelable operating leases that expire in various years through 2017. Most of our leases contain renewal options, some of which involve rate increases. The table below presents rent expense associated with these operating leases for the past three years (in thousands):
The table below sets forth the approximate future minimum lease payments as of December 31, 2003 related to non-cancelable operating leases with initial terms of one year or more (in thousands):
9. Related Party Transactions
In October 1999, we entered into a lease agreement with S&C Development, LLC for a service center in Mandeville, Louisiana. The sole member of S&C Development, LLC is A. David Cook, an SCP executive officer. The seven year lease term commenced on January 1, 2000, and we pay rent of $6,510 per month. In January 2002, we entered into a lease agreement with S&C Development, LLC for additional warehouse space adjacent to our Mandeville service center. The five year lease term commenced on February 4, 2002, and we pay rent of $4,123 per month. The total $10,633 monthly lease payment is for both facilities consisting of 21,100 square feet.
SCP POOL CORPORATION
9. Related Party Transactions (continued)
In January 2001, we entered into a lease agreement with S&C Development, LLC for a service center in Oklahoma City, Oklahoma. The ten year lease term commenced on November 10, 2001, and we pay rent of $12,371 per month for the 25,000 square foot facility.
In March 1997, we entered into a lease agreement with Kenneth St. Romain for a service center in Baton Rouge, Louisiana. Kenneth St. Romain is the son of Frank J. St. Romain, who was President and Chief Executive Officer of SCP until January 1999 and was a director of SCP until May 2003. In January 2002, we extended this lease for a second term of five years which commenced on March 1, 2002. We pay rent of $10,137 per month for the 23,500 square foot facility.
In May 2001, we entered into a lease agreement with Kenneth St. Romain for a service center in Jackson, Mississippi. The seven year lease term commenced on November 16, 2001, and we pay rent of $8,566 per month for the 20,000 square foot facility.
We believe the leases discussed above reflect fair market rates. The table below presents rent expense associated with these leases for the past three years (in thousands):
10. Employee Benefit Plans
We offer a 401(k) savings and retirement plan, which provides benefits for substantially all employees who meet minimum age and length of service requirements. Eligible employees are able to contribute up to 25% of their base compensation, subject to the federal dollar limit. For plan participants, we contribute 50% of employee contributions up to 6% of their base compensation. Additionally, we make discretionary contributions to this plan under a profit-sharing provision.
The employee and Company sponsored contributions are invested in certain equity and fixed income securities based on individual employee elections.
The table below sets forth our matching contributions and profit-sharing contributions for the past three years (in thousands):
SCP POOL CORPORATION
11. Stock Option and Stock Purchase Plans
Stock options represent the right to purchase shares of our common stock in the future at a price that is fixed on the day the options are granted (the grant date).
The table below summarizes our stock option activity for the past three years (in thousands, except weighted average exercise price and fair value):
The table below summarizes information about stock options outstanding and exercisable at December 31, 2003 (shares in thousands):
Under the 1995 Stock Option Plan (the 1995 Plan) our Board of Directors (the Board) was authorized to grant stock options to employees, agents, consultants or independent contractors. These options generally were exercisable two years after the grant date, and they expire ten years from the grant date. In May 1998, the Board suspended the 1995 Plan. Options granted prior to the suspension were not affected by this action.
In May 1998, our stockholders approved the 1998 Stock Option Plan (the 1998 Plan), which authorized the Board to grant stock options, stock appreciation rights, restricted stock and performance awards to employees, agents, consultants or independent contractors. These options generally were exercisable
SCP POOL CORPORATION
11. Stock Option and Stock Purchase Plans (continued)
three or more years after the grant date, and they expire ten years after the grant date. In May 2002, the Board suspended the 1998 Plan. Options granted prior to the suspension were not affected by this action.
In May 2002, our stockholders approved the 2002 Long-Term Incentive Plan (the 2002 Plan), which authorized the Board to grant stock options and restricted stock awards to employees, agents, consultants or independent contractors. No more than 1,050,000 shares may be issued under this plan. In 2003, we granted 594,675 shares under the 2002 Plan. As of December 31, 2003, 466,650 shares were available for grant. Granted options have an exercise price equal to our stock’s market price on the grant date. These options generally may be exercised three or more years after the grant date, and they expire ten years after the grant date.
The SCP Pool Corporation Non-Employee Directors Equity Incentive Plan permits the Board to grant stock options to each non-employee director. No more than 900,000 shares may be issued under this plan. In 2003, we granted 63,750 options to the non-employee directors. As of December 31, 2003, 202,268 shares were available for grant. The exercise price of the granted options was equal to our stock’s market price on the grant date. The options generally may be exercised one year after the grant date, and they expire ten years after the grant date.
In March 1998, the Board adopted the SCP Pool Corporation Employee Stock Purchase Plan. Under this plan, employees who meet minimum age and length of service requirements may purchase stock at 85% of the lower of:
the closing price of our common stock at the end of a six month period ending either June 30 or December 31; or
the average of the beginning and ending closing prices of our common stock for such six month period.
No more than 637,500 shares of our common stock may be issued under this plan. In 2003, we issued 33,424 shares under this plan, and 456,686 shares remained available at December 31, 2003.
12. Quarterly Financial Data (Unaudited)
The table below summarizes the unaudited quarterly operating results of operations for the past two years (in thousands, except per share data):
The sum of diluted earnings per share for each of the quarters may not equal the total diluted earnings per share for the annual period because there is a difference in the way that in-the-money stock options are considered from quarter to quarter under the requirements of SFAS 128, Earnings per Share.
SCP POOL CORPORATION
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on March 1, 2004.
SCP POOL CORPORATION
By: /S/ WILSON B. SEXTON
Wilson B. Sexton, Chairman of the Board
and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, the this report has been signed below by the following persons on behalf of the registrant in the capacities indicated March 1, 2004.
Signature: Title:
/S/ WILSON B. SEXTON
Wilson B. Sexton Chairman of the Board and Director
/S/ MANUEL J. PEREZ DE LA MESA
Manuel J. Perez de la Mesa President, Chief Executive Officer and Director
/S/ CRAIG K. HUBBARD
Craig K. Hubbard Chief Financial Officer, Treasurer and Secretary
/S/ DONALD L. MEYER
Donald L. Meyer Controller (Principal Accounting Officer),
Assistant Secretary and Assistant Treasurer
/S/ ANDREW W. CODE
Andrew W. Code Director
/S/ JAMES J. GAFFNEY
James J. Gaffney Director
/S/ HARLAN F. SEYMOUR
Harlan F. Seymour Director
/S/ ROBERT C. SLEDD
Robert C. Sledd Director
/S/ JOHN E. STOKELY
John E. Stokely Director
Signature Page
SCP POOL CORPORATION
SCHEDULE II-VALUATION AND QUALIFYING ACCOUNTS
(1)
Acquisition of business
(2)
Deductions represent uncollectible accounts written off net of recoveries and inventory adjustments.
SCP POOL CORPORATION
Exhibit
Number
Document Description
.1 Composite Certificate of Incorporation of the Company. (1)
.2 Composite Bylaws of the Company. (2)
.1 Form of certificate representing shares of common stock of the Company. (3)
.1 SCP Pool Corporation 1995 Stock Option Plan. (3)
.2 Form of Individual Stock Option Agreement under 1995 Stock Option Plan. (3)
.3 Receivables Sale Agreement dated as of March 27, 2003 among SCP Distributors LLC, SCP Services LP and
Superior Pool Products LLC, as Originators, and Superior Commerce LLC, as Buyer (2)
.4 Amended and Restated Non-Employee Directors Equity Incentive Plan (1), as amended by Amendment No.1 (4)
.5 SCP Pool Corporation 1998 Stock Option Plan (5)
.6 Form of Stock Option Agreement under 1998 Stock Option Plan (6)
.7 Amended and Restated SCP Pool Corporation Employee Stock Purchase Plan (4)
.8 SCP Pool Corporation 2002 Long-Term Incentive Plan (4)
.9 Form of Stock Option Agreement under 2002 Long-Term Incentive Plan (4)
.10 Employment Agreement, dated January 25, 1999, among SCP Pool Corporation
South Central Pool Supply, Inc. and Manuel J. Perez de la Mesa (6)
.11 Asset Purchase Agreement, dated June 14, 2000, by and among SCP Pool
Corporation, Arch Chemicals, Inc. and Superior Pool Products, Inc. (7)
.12 Asset Purchase Agreement, dated January 26, 2001, by and between Hughes
Supply, Inc., Allstate Pool Supplies, Inc., Allstate Pool Business, L.P. and
Superior Pool Products LLC, SCP Distributors LLC and SCP Acquisition Co. LLC. (8)
.13 Stock Purchase Agreement dated as of August 16, 2002, by and between Jeffrey Bertsch, Randall E. Bertsch,
Robin E. Bertsch, Dominic DiNapoli, Thomas A. Epple, Erin Garton, Laura Garton, Richard K. Garton
and Jamee Garton Insko, on the one hand, and SCP Acquisition Co. LLC, a Delaware limited liability
company and wholly owned subsidiary of the Company, on the other hand. (9)
.14 Credit Agreement dated as of November 27, 2001, among SCP Pool Corporation, the Lenders, Bank One,
NA as Administrative Agent, Hibernia National Bank, as Documentation Agent, Fleet Capital Corporation,
as Syndication Agent, and Bank One Capital Markets, Inc. as Lead Arranger and Sole Book Runner (10), as
amended by the First Amendment dated as of January 10, 2002 (11), by the Second Amendment dated as of
September 5, 2002 (12) and by the Third Amendment dated as of October 18, 2002 (13)
and by the Fourth Amendment dated as of March 25, 2003 (2)
.15 Guaranty dated as of November 27, 2001 (10), as supplemented by Guaranty Supplement dated as of
September 5, 2002 (12).
.16 Pledge and Security Agreement dated as of November 27, 2001 (10), as supplemented by Security Agreement
Supplement dated as of September 5, 2002 (12).
.17 Receivables Purchase Agreement dated as of March 27, 2003, among Superior Commerce, LLC, as Seller, SCP
Distributors LLC, as Servicer, Jupiter Securitization Corporation and Bank One, NA (Main Office Chicago) as
Agent (2).
.18 Performance Undertaking dated as of March 27, 2003, by and between SCP Pool Corporation and Superior
Commerce LLC (2).
.19 Intercreditor Agreement dated as of March 27, 2003, by and between Bank One, NA, as agent under the Credit
Agreement, and Bank One, NA (Main Office Chicago), as agent under the Receivables Purchase Agreement (2).
Code of Business Conduct and Ethics for Directors, Officers, and Employees
.1 Subsidiaries of the registrant.
.1 Consent of Ernst & Young LLP
.1 Certification by Craig K. Hubbard pursuant to Rule 13a-14(a) and 15d-14(a),
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
.2 Certification by Manuel J. Perez de la Mesa pursuant to Rule 13a-14(a) and 15d-14(a),
as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
.1 Certification by Manuel J. Perez de la Mesa and Craig K. Hubbard pursuant to 18 U.S.C.
Section 1350, as adopted to Section 906 of the Sarbanes-Oxley Act of 2002.
(1 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2001.
(2 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended March 31, 2003.
(3 ) Incorporated by reference to the Company's Registration Statement No. 33-92738.
(4 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2002.
(5 ) Incorporated by reference to the Company's Definitive Proxy Statement on Schedule 14A, filed April 8, 1998.
(6 ) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998.
(7 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended June 30, 2000.
(8 ) Incorporated by reference to the Company's Current Report on Form 8-K filed with the SEC on February 2, 2001.
(9 ) Incorporated by reference to the Company's Current Report on Form 8-K filed with the SEC on August 30, 2002.
(10 ) Incorporated by reference to the Company's Current Report on Form 8-K filed with the SEC on December 11, 2001.
(11 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended March 31, 2002.
(12 ) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for the period ended September 30, 2002.
(13 ) Incorporated by reference to the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2002.