U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 2001
Commission file number 000-24405
Pallet Management Systems, Inc.
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(Exact name of registrant as specified in its charter)
Florida 59-2197020
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
2855 University Drive, Suite 510
Coral Springs, Florida 33065
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(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (954) 340-1290
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Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-B is not contained herein, and will not be contained,
to the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the voting and non-voting common equity
held by non-affiliates of the Company is $1,836,927 based on the closing price
of $ 0.72 per share as of October 5, 2001.
As of October 5, 2001, there were 4,065,612 shares of the issuer's
Common Stock, $.01 par value, outstanding.
PALLET MANAGEMENT, INC.
FORM 10-K
FOR THE YEAR ENDED JUNE 30, 2001
TABLE OF CONTENTS
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Page No.
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PART I ................................................................................................1
Item 1. Business........................................................................................1
Item 2. Properties.....................................................................................10
Item 3. Legal Proceedings..............................................................................11
Item 4. Submission of Matters to a Vote of Security Holders............................................11
PART II ...............................................................................................11
Item 5. Market for Registrants Common Equity and Related Stockholder Matters...........................11
Item 6. Selected Financial Data........................................................................12
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation...........13
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.....................................25
Item 8. Financial Statements and Supplementary Data....................................................25
Item 9. Changes In and Disagreements With Accountants on Accounting and Financial Disclosure...........25
PART III ...............................................................................................26
Item 10. Directors and Executive Officers of Registrant.................................................26
Item 11. Executive Compensation.........................................................................29
Item 12. Security Ownership of Certain Beneficial Owners and Management.................................36
Item 13. Certain Relationships and Related Transactions.................................................38
PART IV ...............................................................................................38
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K...............................38
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FORWARD-LOOKING STATEMENTS
Pallet Management Systems, Inc. ("Pallet Management," or the "Company")
cautions readers that certain important factors may affect Pallet Management's
actual results and could cause such results to differ materially from any
forward-looking statements which may be deemed to have been made in this Report
or which are otherwise made by or on behalf of Pallet Management. For this
purpose, any statements contained in this Report that are not statements of
historical fact may be deemed to be forward-looking statements. Without limiting
the generality of the foregoing, words such as "may," "expect," "believe,"
"anticipate," "intend," "could," "estimate," or "continue" or the negative other
variations thereof or comparable terminology are intended to identify
forward-looking statements. Pallet Management is also subject to risks detailed
herein (see Item 6, "Risk Factors") or detailed from time to time in Pallet
Management's filings with the Securities and Exchange Commission.
PART I
Item 1. Business.
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Introduction
Pallet Management is the first pallet company in the United States to
become publicly traded in the estimated $6 billion pallet industry. The Company
is a leader in total solutions for pallet and other transport packaging
requirements and offers a wide variety of products and services, from pallet
manufacturing, to reverse distribution of transport packaging assets. The
primary users of Pallet Management's services are companies from various
industries, including steel and metal; chemical and fluid; paper and fiber,
pallet rental, and printing.
The Company is a leader in reducing product distribution costs for
major manufacturers and distributors by providing value-added transport
packaging products and logistical services. As one of the largest pallet
manufacturing companies in the United States, Pallet Management has expanded its
line of business to include related transport packaging, logistical and repair
services. With two related lines of business, manufacturing and services, Pallet
Management primarily manufactures wood pallets, which are the base of most
transport packaging assets. Services related to transport packaging, which are
focused on reducing customer distribution costs, include transport packaging
retrieval, repair, recycling, sorting, warehousing, reverse distribution,
tracking, logistics and value-added information services.
A significant portion of Pallet Management's current business is the
sale of pallets and services to CHEP, which is part of the international CHEP
organization that manages the world's largest pallet rental pool. CHEP service
spans 38 countries across six continents controlling more than 160 million
pallets and 34 million containers, primarily focused on the retail, grocery and
automotive industries.
Pallet Management's business strategy is to manufacture and service
pallets as well as other supply chain assets for niche markets. Manufacturing
operations complement expansion of the Company's related transport packaging
services that should increase gross margins. All of Pallet Management's products
and services are designed to assist its customers in reducing the cost per trip
for shipments of their goods.
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In order to fulfill the increasing demand for transport packaging
management services, Pallet Management plans to expand its service offerings and
its network of facilities by opening company-owned facilities as well as
entering into affiliations with other pallet and logistics companies in
strategic locations. These additional locations will provide local retrieval,
repair, sortation, storage and recycling services for Pallet Management's
national customers. Pallet Management also plans to be able to accelerate its
internal growth by marketing expanded value-added information services to new
and existing customers through the use of PalletNetTM, its proprietary software
application process for the tracking and management of transport packaging
assets.
Industry Overview
Pallet Industry
A pallet is a platform, usually made of wood and assembled with metal
nails, that is used for storing and shipping goods. Pallets allow goods to be
transported or warehoused economically by providing a foundation for forklifts
and vertical storage. Pallets are used in virtually all U.S. industries where
products are physically distributed, including the automotive, chemical,
consumer products, grocery, produce and food production, paper and forest
products, retail, and steel and metals industries. Without pallets, shipping by
air, land and sea would be severely hampered. Pallets come in a wide range of
shapes and sizes. Although pallets are primarily made of wood, they may also be
made from steel, plastic, cardboard, molded wood fiber and other materials to
satisfy smaller niche markets. It is estimated by industry sources that there
are over 7 pallets for each person in the United States, and Pallet Management
believes that there are over 1,000 different sizes and specifications of pallets
used in North America. The grocery industry, however, which accounts for
approximately one-third of the all new pallets produced in the United States,
uses a standard size 48 x 40-inch pallet referred to as a GMA pallet. Other
industries utilize unique specifications that are appropriate for their
particular needs. According to a survey conducted by the National Wooden Pallet
and Container Association ("NWPCA"), 91% of pallet users reported using wood
pallets, with just 5% or less using plastic, a combination of wood and plastic,
or other material. The wooden pallet has traditionally been the basis for the
design of storage racks, warehouse storage areas, forklifts, docks and
containers used in shipping goods.
Many pallets are not durable enough for multiple trips. The
manufacturing capacity for the standard GMA pallet is in excess of demand and
unless one is manufacturing a top quality durable pallet for a customer who
wants to use their pallets for multiple trips, the margins are very small.
Standard GMA pallets weigh approximately 45 lbs. and are designed to hold 1,500
pounds of goods. Since CHEP has a pool of 48 x 40-inch pallets that are
continually reused, it demands a higher quality, better-engineered pallet, which
is more durable. A CHEP pallet weighs approximately 60 lbs., and is engineered
to hold 2,800 pounds of goods.
Based on information supplied by industry sources, Pallet Management
estimates that the U.S. pallet industry currently generates revenues of
approximately $6 billion, and it is served by approximately 3,600 companies,
most of which are small, privately-held entities. These companies are generally
operating in only one location and serving customers within a limited geographic
region. The industry is generally composed of companies that manufacture new
pallets and companies that repair and recycle pallets. The U.S. Forest Service
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estimates that 475 million new wood pallets are produced annually, 300 million
wood pallets are repaired and sent back into circulation, and 175 million wood
pallets are sent to landfills.
The pallet industry, a generally mature industry, has experienced
significant changes during the past several years. These changes are due, among
other factors, to the focus by Fortune 1000 businesses on improving the
efficiency of their supply chain, manufacturing, and distribution systems. This
focus has caused many of these businesses to attempt to reduce significantly the
number of vendors serving them in order to simplify their procurement and
product distribution processes. It has also prompted large manufacturers and
distributors to outsource key elements of those processes that are not within
their core competencies and to develop just-in-time procurement, manufacturing,
and distribution systems. With the adoption of these systems, expedited product
movement has become increasingly important and the demand for a high quality
source of pallets has increased. Palletized freight facilitates movement through
the supply chain by reducing costly loading and unloading delays at distribution
centers and warehouse facilities. As a result, there has been an increased
demand for high-quality pallets in an attempt to decrease the cost per trip by
reducing product damage during shipping and storage, and increasing the number
of trips for which pallets can be used.
The broad changes affecting the U.S. industry have created significant
demand for higher quality pallets distributed through an efficient, more
sophisticated system. Environmental and cost concerns have also accelerated the
trend toward increased reuse or "recycling" of pallets and certain other
transport packing materials, further increasing the importance of the quality of
newly manufactured pallets. In recognition of these trends, CHEP has established
an international system that provides high-quality pallets to customers
worldwide. CHEP is owned by Brambles Industries Limited (BIL), an Australian
publicly-held corporation that outsources its pallet manufacturing and some of
its repair operations. During the fiscal year ending June 30, 2001,
approximately 86% of Pallet Management's revenues and a significant percentage
of Pallet Management's growth were attributable to CHEP. While Pallet Management
expects to continue to build its relationship with CHEP, additional growth is
anticipated to diversify revenues into other areas.
CHEP's pallet leasing system represents a significant change in the
U.S. grocery and retail pallet market. CHEP leases high quality, standardized
and easily identifiable (all CHEP pallets are painted blue) 48" by 40" pallets,
primarily for use by grocery and consumer product manufacturers. CHEP pallets
are manufactured to strict specifications by vendors, including Pallet
Management, that have been selected based on their ability to provide large
volumes of high quality pallets manufactured to CHEP specifications in a timely
manner.
Due to the high cost of plastics and other materials, wood is the
preferred and "more environmentally conscious" material (a renewable resource)
for pallets. Wood pallets are also generally stronger, more repairable, and less
expensive than comparable plastic pallets. Plastic pallets currently have a
limited market in "closed loop" systems where system leakage is minimal and
where the pallets can be tracked and retrieved for reuse.
Third Party Logistics Industry
As manufacturers and retailers continue to drive down the costs of
distribution, they will continue to look to third party logistics companies to
handle supply chain systems. It is estimated that about 7%, or approximately $40
3
billion, of relevant logistic costs are currently managed by third party
logistics companies. Within the next 3 to 5 years, this sector could capture 10%
to 15% of the available market. Third party logistics companies include
outsourcing companies that manage portions of a company's supply chain.
Outsourcing supply chain management gives companies a competitive edge and
drives profitability up. The third party logistics industry is expected to
experience an annual growth rate of about 20%, driven primarily by the continued
outsourcing of specific supply chain logistics functions. Management believes
that this industry will eventually be ready for consolidation, as customers will
want third-party logistic companies to increase their scope of service offerings
on a global level.
Reverse Distribution, a sub-industry of the logistics industry, is
estimated to have grown from $4.6 billion in 1997 to over $7.7 billion in 2000
in the United States. It is rapidly growing and becoming more diverse and
complex as its importance to the supply chain becomes more evident. Reverse
Distribution is defined as the opposite of direct distribution. It is moving
products back up the supply chain to the original manufacturer. The increasing
importance of reverse distribution in the market place is a key factor in the
dramatic changes taking place in the pallet industry.
Until recently, pallet manufacturers were focused on producing the
cheapest pallet for their customers, who considered their packaging material an
expense. Manufacturers and distributors are now discovering that the lowest cost
per trip (the ultimate goal) for their packaging material is realized when high
quality packaging is utilized and subsequently returned for re-use in a reverse
distribution system. Viewing packaging material as an asset instead of an
expense requires a reverse distribution system to return their packaging assets.
Pallet Management is aggressively pursuing this market as a specialist in
reverse distribution for packaging material assets.
Growth Strategy
Pallet Management's goal is to become a leading national provider of
pallets and related transport packaging services by continuing to expand its
existing operations and seeking strategic acquisitions. Pallet Management
believes that a significant market opportunity exists for a company that can
consistently offer high-quality pallets and related value-added services to
large pallet users in the U.S. Pallet Management believes that its management's
experience, industry reputation, and existing customer base will provide the
Company with a significant competitive advantage as it pursues its growth
strategy. Elements of its strategy include:
o CHEP
o Specifically Engineered Niche Market Manufacturing
o Reverse Distribution Services
o Acquisitions
CHEP
CHEP is the world's largest pallet pooling company with a pallet pool
worth over $2 billion consisting of over 160 million pallets. CHEP markets to
the grocery, retail, and automotive industries, where large volumes of standard
size pallets can be contained in a closed loop-system. Based on published
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information, CHEP has a market share of 88% of all leased pallets worldwide and
dominates 90% of the markets in which they operate. CHEP is by far the largest
participant in the U.S. pallet industry and does not have a significant
pallet-pooling competitor. CHEP service spans 38 countries across six continents
controlling more than 160 million pallets and 34 million containers. Effective
August 2001, CHEP announced being wholly owned by Brambles Industries, Ltd.
As a result of entering into a series of multi-year manufacturing
agreements with CHEP to produce specially engineered grocery pallets in
strategic locations, Pallet Management opened a new manufacturing facility in
Rogersville, Alabama, in September 1998, another manufacturing facility in
Bolingbrook, Illinois, just outside Chicago, in April 1999, and a third
manufacturing facility in Plainfield, Indiana, just outside Indianapolis, in
August 1999. Pallet Management has invested over $4.2 million in "state-of the
art" pallet manufacturing equipment for these facilities, including a new $1.5
million "Vanderloo" nailing machine system custom made for Pallet Management
in Holland and installed at the Company's Plainfield, Indiana facility.
The Rogersville, Alabama contract expired on September 7th, 2001 and
was not renewed. The Bolingbrook, Illinois contract expires on April 30, 2002. A
third contract, for Plainfield, Indiana does not expire until Fiscal Year 2003.
The Company anticipates that the Bolingbrook, Illinois contract will not be
renewed. The volume of business that is currently produced out of the
Bolingbrook, Illinois facility may be extended beyond the end of the contract.
Should the contract for Bolingbrook, Illinois not be renewed or the business not
be extended, the Company may not be able to meet current cash needs and may not
be profitable. The Company continues to work with CHEP regarding future
opportunities.
In addition to pallet manufacturing, Pallet Management also offers to
CHEP Reverse Distribution Services. Pallet Management has a facility which
sorts, repairs, warehouses and returns pallets to the CHEP pallet pool.
Pallet Management has had a business relationship with CHEP for over
ten years and CHEP is expected to be Pallet Management's largest customer for
the next several years, during which Pallet Management will support CHEP's
projected growth. While Pallet Management is continuously developing its CHEP
relationship, it is continuing to aggressively pursue other areas of growth.
Specifically Engineered Niche Market Manufacturing
Many manufacturers require specially engineered pallets to transport
their goods. Pallet Management targets these markets due to the limited number
of pallet manufacturers that can produce specialized pallets, the established
reputation of Pallet Management in the industry for being a high quality pallet
manufacturer, and the higher profit margins realized in the production of these
pallets.
Niche market pallets are uniquely engineered to transport a specific
product and are not universally used like the standard GMA or CHEP pallet.
Examples of niche pallets Pallet Management builds include those for the metals
and fibers industries. These types of pallets are specially engineered by Pallet
Management by using PDS (Pallet Design System), a system developed by Virginia
Tech's Pallet Laboratory in conjunction with the National Wooden Pallet and
Container Association.
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Most niche market pallets cost more than high volume grocery pallets
and yield high margins due to their uniqueness and strict specifications, which
are required for automated warehousing operations. Pallet Management is
aggressively marketing its experience and expertise in this area, as it believes
that large manufacturing companies will always have a demand for specially
engineered pallets to transport certain kinds of goods.
Reverse Distribution Services
As large manufacturers have focused more of their attention on reducing
distribution costs, Pallet Management has expanded the marketing of its Reverse
Distribution Services. Reverse Distribution is the systematic retrieval,
sortation, repair, warehouse and return of pallets and other packaging material
that creates closed-loop return systems between the manufacturer, their
customers, and their vendors. Pallet Management's customers own the pallets or
containers that are loaded with their products for transport. Large
manufacturing companies often make sizable investments in specially engineered
and heavy-duty pallets. Pallet Management can recover, sort, repair, warehouse
and return a niche pallet to a customer for significantly less than the cost of
a new pallet, thereby eliminating or reducing some of its customers'
distribution expenses. At the same time, Pallet Management generates greater
margins than when a new pallet is built. The key to successfully implementing a
large-scale reverse distribution program is to have an integrated network that
encompasses information, retrieval, and logistics capabilities. Pallet
Management is actively seeking strategic relationships to more fully develop its
nationwide reverse distribution network.
Pallet Management is forming the majority of its reverse distribution
network through the utilization of the over 3,600 existing pallet manufacturers
and recyclers across the United States, as well as creating its own facilities.
Many of the smaller pallet companies are looking for an affiliation with a
national company as they lack the ability to market their company beyond a
limited geographic region, customers demand more diverse geographical services,
and CHEP continues to impact the grocery pallet market. Pallet Management
believes that many of these companies have excess capacity and are willing to
affiliate with Pallet Management on a fee-for-service basis.
During the fiscal year 2000, the Company launched PalletNetTM, a
web-based tracking and information system that manages the flow of pallets and
other shipping platforms and containers throughout industrial supply chains. As
part of the Company's strategy to use the Internet to enhance customer service,
PalletNet provides reverse distribution with a single source national contact.
This service is supported by leading edge technology that enables users to
improve asset control and reduce cost and waste from their supply chain.
PalletNetTM is a browser-based user interface combined with three
levels of security management, which delivers safe and unlimited access to
customers. Customers can view exactly where their shipping platforms and
containers are in their supply chain at any given moment. The system also offers
a full range of personalization options, so each company can configure
PalletNetTM to their operations. In addition, PalletNetTM has the capacity to
use bar codes and integrate radio frequency identification ("RFID") tags to
track individual pallets and the equipment transported on them.
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These additional services provide the Company's customers the
flexibility to meet almost any industrial needs in terms of reverse distribution
and transport packaging, and an even higher level of customer service and
improved supply chain efficiency.
Acquisitions
Pallet Management intends to pursue acquisitions within its existing
markets and new markets to increase its market penetration, as well as to
provide a broader range of services to existing customers in those markets.
These potential acquisitions will primarily involve transport services
businesses and smaller pallet companies whose operations can be incorporated
into Pallet Management's existing operations without a significant increase in
infrastructure, as well as those that will provide Pallet Management with the
ability to service new customers or existing customers in new locations. Pallet
Management does not currently plan to acquire any significant additional
manufacturing capacity and does not have any current agreements or
understandings for any acquisitions. The consideration for such acquisitions, if
consummated, could consist of cash, debt, equity or any combination thereof.
Current Operations
Manufacturing
o High volume, high quality CHEP grocery pallet manufacturing
o Low volume, specially engineered niche pallet manufacturing
Services
o Reverse Distribution Services
o Retrieval, sort, repair, warehouse and return services
o Other Products
Manufacturing. The manufacturing process for new pallets at each of
Pallet Management's facilities is generally the most capital intensive part of
the business, with the majority of assembly and construction being automated.
New pallets are manufactured from an assortment of wood products, varying in
type and quality, with construction specifications determined by the pallet's
end user. Pallet Management believes that approximately 70% of the wood used in
new pallets manufactured in North America consists of hardwood (including oak,
poplar, alder and gum), with the balance consisting of pine or other softwoods.
Pallet Management utilizes sawing equipment, which cuts large wood
sections to specification. The Company also purchases a vast quantity of pre-cut
lumber from outside vendors for pallet manufacturing. The cut wood is then
transported to assembly points where employees load the stringers ("runners") or
blocks and deck boards into nailing machines which nail the pallets together. A
typical nailing machine produces 1500 - 2,000 pallets per 8-hour shift with
three to ten employees. After construction is completed, pallets are prepared
for shipment or storage.
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All the high volume CHEP pallets and most of the lower volume
specifically engineered niche pallets are manufactured on automated nailing
machines. More customized or smaller niche pallet orders may be manufactured by
hand on assembly tables utilizing two laborers with pneumatic nailers. Pallet
Management typically manufactures pallets upon receipt of customer orders and
does not generally maintain significant finished goods inventory. At the
Company's Plainfield and Bolingbrook locations, finished goods inventory may
build to approximately $1,500,000 when demand softens. This is done to level out
production and hold manufacturing costs down.
Services. Reducing the cost of product distribution in the supply chain
is the focus of Pallet Management's value-added services. Retrieval, sortation,
repair, warehouse and return services enable the customer to better utilize
their packaging assets. Besides being environmentally friendly, a properly
repaired used pallet will provide the customer significant savings over having
to buy a new pallet. Pallet Management initiates the retrieval or purchase of
used pallets from a variety of sources. The condition and size of these pallets
vary greatly. Once obtained, the pallets are sorted by size, condition and
potential customer. Pallets that can be repaired have their damaged boards
replaced with salvaged boards or boards from new stock inventory at the
facility. Pallets that cannot be repaired are dismantled and the salvageable
boards are recovered for use in repairing and building other pallets. Pallet
Management sells the remaining damaged boards to be ground into wood fiber,
which is used as landscaping mulch, fuel, animal bedding, gardening material and
other goods. Despite recent increases in levels of automation, pallet return
operations remain a labor-intensive process.
Other Products and Services. Pallet Management functions as a wholesale
distributor of other returnable transport packaging such as plastic and metal
pallets; collapsible plastic bulk boxes; wood, plastic, and metal slave pallets;
wooden boxes and crates; and various other products. Due to lack of demand,
sales of pallets made from materials other than wood are minimal.
Marketing and Distribution
Pallet Management uses its internal sales force in marketing its
products and services. With services being the primary focus of all marketing
efforts, Pallet Management seeks to efficiently serve large numbers of customers
across diverse markets and industries to provide a stable and diversified base
for ongoing sales of services and products.
Pallet Management has many customers that are Fortune 1000 companies,
including Honeywell, CHEP, DuPont, IAMS, Mitsubishi, Monsanto and Scotts
Company, as well as various governmental agencies.
During the fiscal year ended June 30, 2001, CHEP accounted for
approximately 86% of Pallet Management's revenues. No other single customer
accounted for 10% or more of Pallet Management's revenues. Pallet Management
enters into contracts with CHEP on a facility by facility basis, and the terms
of such contracts vary in accordance with the service to be provided. The
Company's depot/repair agreement with CHEP is not finalized for fiscal year
2002. The Company has continued its depot/repair business with CHEP while this
contract is being completed. Manufacturing contracts are on a multi-year basis
and have varying minimum pallet purchase requirements for each facility. All of
the CHEP contracts prohibit Pallet Management from engaging the corresponding
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facilities to compete with CHEP during the term of the agreement and for up to
three years thereafter in the pallet leasing business and from repairing pallets
for other pallet leasing companies.
Suppliers
Pallet Management believes that there is an adequate supply of raw
material components for pallet production. The primary raw materials are
hardwood, softwood, used lumber, used pallets and nails. Pallet Management has
several principal suppliers, which are rotated depending on availability. During
the fiscal year ended June 30, 2001, Pallet Management purchased lumber and
plywood from over 50 vendors. The three largest suppliers accounted for
approximately 29%, 22% and 5 % of the lumber purchases. During the fiscal year
ended June 30, 2001, Pallet Management purchased approximately 4.4% of its
lumber from Clary Lumber Company, Inc., a North Carolina corporation ("Clary"),
at prices comparable to vendors other than Clary. Clary is owned by John C.
Lucy, Jr., a significant shareholder and former Director of Pallet Management,
and his son, John C. Lucy III, who is Pallet Management's CEO. See Item 13,
"Certain Relationships and Related Transactions." Pallet Management expects its
percentage of purchases from Clary to decrease in the future as Pallet
Management's lumber demands increase outside of Clary's geographic supply areas.
Pallet Management does not believe that the loss of any vendor would materially
adversely affect its financial condition or results of operations. Pallet
Management intends to continue to pursue a strategy of purchasing from
alternative sources of lumber.
Pallet Management's sales prices are closely related to the changing
costs and availability of lumber. While Pallet Management believes that it will
benefit from strong relationships with multiple lumber suppliers, there can be
no assurance that Pallet Management will be able to secure adequate lumber
supplies in the future. Lumber supplies and costs are affected by many factors
outside Pallet Management's control, including governmental regulation of
logging on public lands, lumber agreements between Canada and the U.S., and
competition from other industries that use similar grades and types of lumber.
In addition, adverse weather conditions may affect Pallet Management's ability
to obtain adequate supplies of lumber at a reasonable cost. Pallet Management is
also able to buy low quality lumber and upgrade such lumber at its own plants.
Though Pallet Management has studied the broad use of alternative materials for
the manufacture of pallets, such as plastic, it believes that there is not
currently an available alternative raw material that possesses the tensile
strength, recyclability and low cost of wood. Pallet Management continues to
evaluate alternatives to wood and is receptive to their future use in pallet
production.
Competition
Pallet Management believes that the principal competitive factors in
the pallet industry are price, quality of services and reliability. With over
3,600 industry participants, the pallet manufacturing industry has been and is
expected to remain extremely fragmented and highly competitive. While there are
several companies which have attempted to establish national pallet operations,
most of Pallet Management's competitors are small, privately held companies that
operate in only one location and serve customers within a limited geographic
region. Pallet Management does not directly compete against many of these
companies to a large extent due to its concentration on CHEP and specialty
pallets, which are not made by most of its competitors, although they may at any
time attempt to compete directly with Pallet Management. New pallet
manufacturers can typically service up to a 300-mile radius, although recyclers
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rarely market beyond a 100-mile radius. Pallet Management believes that it will
have a competitive advantage as it expands its national network of facilities,
thus benefiting from economies of scale while interfacing with customers'
nationwide distribution systems.
Competition is often intense and Pallet Management faces most of its
competition from other manufacturers. Pallet rental systems compete with new
pallet sales to the grocery and wholesales distribution industries, and may
expand into other industries in the future. Pallet Management does not compete
to any significant extent with pallet rental systems in the grocery industry and
intends to focus on industries and products in which pallet rental systems are
not competitive.
In addition, pallet manufacturing and recycling operations are not
highly capital intensive and the barriers to entry in such businesses are
minimal. Certain other smaller competitors may have lower overhead costs and,
consequently, may be able to manufacture or recycle pallets at lower costs than
Pallet Management. Other companies with significantly greater capital and other
resources than Pallet Management (including CHEP) may enter or expand their
operations in the pallet manufacturing and recycling businesses in the future,
changing the competitive dynamics of the industry. While Pallet Management
estimates, based on industry sources, that non-wooden pallets currently account
for less than 10% of the pallet market, there can be no assurance that Pallet
Management will not face increasing competition from pallets fabricated from
non-wooden components in the future. Pallet Management does not believe that
non-wooden pallets will be widely used until it is demonstrated that they
replicate the strength of wood pallets and until their cost decreases from their
current levels, which are well above the cost of similar wood pallets.
Employees
As of June 30, 2001, Pallet Management had 263 employees. This includes
production workers who work on new and recycled pallets, clerical personnel,
logistical and computer personnel, facility management personnel, regional
management personnel, sales force, customer service personnel, administrative
personnel, and executive personnel.
Item 2. Properties
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Facilities: Pallet Management currently has 5 facilities in 4 states.
Bolingbrook, Illinois - Manufacturing Plant: This facility opened in
April 1999 at 335 Crossroads Suite B, Bolingbrook, Illinois in a 110,000-sq.-ft.
facility with a 5-year lease ending February 2004. The facility employed 29
people as of June 30, 2001.
Lawrenceville, Virginia - Manufacturing Plant: Located at 10324 Liberty
Road, Lawrenceville, Virginia, new pallet manufacturing is performed at this
Company-owned facility using automated equipment. This facility's primary
production is specifically engineered niche pallets and cutting lumber to size
for pallet production at this facility and shipment to other company facilities.
In addition, pallet recycling and repair services are performed at this
location, which has 60,000 sq. ft. of manufacturing buildings located on 70
acres, a 3,000-sq.-ft. office building and employed 117 people as of June 30,
2001.
10
Plainfield Indiana - Manufacturing Plant: This facility opened at 6030
Gateway Dr., Plainfield, Indiana, in August 1999 in a 130,000-sq.-ft. facility
with a 5-year lease ending September 2004. As of June 30, 2001 there were 54
people employed at this facility, which manufactures pallets on high-speed
automated manufacturing lines.
Petersburg, Virginia - Repair Depot: Located at 1925 Puddledock Road,
Petersburg, Virginia, this facility processes, repairs, and stores all types of
pallets. It contains a 40,000-sq.-ft. warehouse on eight acres of Company-owned,
mortgage-free property. As of June 30, 2001 there were 27 people employed at
this facility, which contains "state of the art" automated sorting and repair
equipment.
Rogersville, Alabama - Manufacturing Plant: Located at 120 Industrial
Park Road, Rogersville, Alabama, this facility opened in September 1998 in a
25,500-sq.-ft. facility on seven acres with a three-year lease terminating
September 2001. This lease was extended for 6 months beginning in September 2001
and is renewable for 6 month increments. The facility employed 23 people as of
June 30, 2001. It employs 2 people currently as we anticipate closing this
facility.
Corporate and Regional Offices: Corporate and regional offices are
located at the following addresses.
2900 Highwoods Blvd., Suite 200, Raleigh, North Carolina - Regional
Offices - Three year lease expiring September 2002.
2855 University Blvd, Suite 510, Coral Springs, Florida - Corporate
Headquarters - Five year lease expiring in October 2005.
Item 3. Legal Proceedings
-----------------
None.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
None.
PART II
Item 5. Market for Registrants Common Equity and Related Stockholder
Matters
------------------------------------------------------------
Pallet Management's Common Stock is quoted on the OTC Bulletin Board
under the symbol PALT. The following table sets forth the average of the high
and low bid prices of the Pallet Management's Common Stock as reported on the
OTC Bulletin Board for each quarter from June 28, 1999 through June 30, 2001.
The quotations are over-the-market quotations and, accordingly, reflect
inter-dealer prices, without retail mark-up, mark-down or commission and may not
represent actual transactions.
11
High Bid Low Bid
---------------------- ---------------------
FISCAL 2000
June 27 , 1999 through September 25, 1999 6 1/4 3 7/8
September 26, 1999 through December 25, 1999 4 2 1/8
December 26, 1999 through March 25, 2000 5 5/8 11/2
March 26, 2000 through June 24, 2000 4 3/4 3 1/8
FISCAL 2001
June 25, 2000 through September 30, 2000 3 7/8 2 1/16
October 1, 2000 through December 30, 2000 3 1/16 1 3/8
December 31, 2000 through March 31, 2001 3 3/32 1 1/2
April 1, 2001 through June 30, 2001 1 7/10 1 1/50
As of September 21, 2001, there were 65 holders of record of the
Company's Common Stock. All stock data and per share amounts have been restated
to give effect to the one-for-four reverse stock split in February 1998.
The quotations in the foregoing table represent prices between dealers
and do not include retail markup, markdown, or commissions paid and may not
represent actual transactions. Such quotations are not necessarily
representative of actual transactions or of the value of the Company's
securities.
Dividend Policy
Pallet Management has not paid any cash dividends on its Common Stock
since its inception. Pallet Management presently intends to retain future
earnings, if any, to finance the expansion of its business and does not
anticipate that any cash dividends will be paid in the foreseeable future.
Future dividend policy will depend on Pallet Management's earnings, capital
requirements, expansion plans, financial condition and other relevant factors.
Recent Sales of Unregistered Securities
None.
Item 6. Selected Financial Data.
------------------------
Fiscal Years Ended
30-Jun-01 24-Jun-00 26-Jun-99 27-Jun-98 30-Jun-97
--------- --------- --------- --------- ---------
Net Sales $ 72,167,233 $ 62,445,175 $ 38,744,129 $ 23,214,020 $ 21,051,818
Income (loss) from continuing operations $ 302,984 $ (2,249,967) $ 537,529 $ 191,627 $ (882,977)
Income (loss) from continuing operations
per share $ 0.08 $ (0.57) $ 0.15 $ 0.12 $ (0.77)
Total Assets $ 12,879,737 $ 13,350,996 $ 10,205,006 $ 6,432,589 $ 5,783,427
Long-term debt $ 5,576,663 $ 5,597,490 $ 3,119,578 $ 1,128,977 $ 1,208,864
Cash dividends per share $ -- $ -- $ -- $ -- $ --
12
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operation
---------------------------------------------------------------
Fifty-third Week in Fiscal Year 2001
------------------------------------
Comparisons of fiscal year 2001 to fiscal year 2000 are affected by an
additional week of results in the 2001 reporting year. Because our fiscal year
ends on the last Saturday in June, a fifty-third week is added every 5 or 6
years. The fifty-third week increased 2001 net sales by an estimated $1.3
million and net income by an estimated $6 thousand.
Cautionary Statements
---------------------
The following discussion and analysis should be read in conjunction
with Pallet Management's Consolidated Financial Statements and the Notes thereto
included in Part II, Item 8 of this Report.
The following discussion regarding Pallet Management and its business
and operations contains "forward-looking statements" within the meaning of
Private Securities Litigation Reform Act 1995. These statements consist of any
statement other than a recitation of historical fact and can be identified by
the use of forward-looking terminology such as "may," "expect," "anticipate,"
"estimate" or "continue" or the negative thereof or other variations thereon or
comparable terminology. The reader is cautioned that all forward-looking
statements are necessarily speculative and there are certain risks and
uncertainties that could cause actual events or results to differ materially
from those referred to in such forward looking statements, including the limited
history of profitable operations, dependence on a key customer, competition,
risks related to acquisitions, difficulties in managing growth, dependence on
key personnel and other risk factors discussed in this report. See "Risk
Factors." Pallet Management does not have a policy of updating or revising
forward-looking statements and thus it should not be assumed that silence by
management of the Pallet Management over time means that actual events are
bearing out as estimated in such forward looking statements.
Results of Operations
General
We have grown to be one of the largest pallet companies in the
estimated $6 billion U.S. pallet industry, by providing value-added products and
services to our customers. Our customer base has remained stable as our sales
have grown to $72,167,233 for the year ending June 30, 2001.
The majority of our revenues have traditionally been generated from
providing high quality, specially engineered pallets to manufacturers,
wholesalers and distributors. As supply chain logistics have become increasingly
complex, our existing customers as well as prospective customers are seeking new
ways to streamline distribution and reduce costs, which is opening a huge
service-orientated market for us.
With this shift in focus toward services and cost efficiency, we are
providing "state of the art" logistical services known as reverse distribution.
Reverse distribution is simply defined as maximizing the use of transport
packaging, the base of which is the pallet, by reusing assets to reduce the
overall cost per trip.
13
This shift in focus toward supply chain efficiency by our customer base
is by far our industry's most dramatic shift in focus and provides the most
opportunity for our company. Driven mainly by economics, reusable packaging in a
Reverse Distribution system also has environmental marketing benefits.
As this market of Reverse Distribution is just starting to be created,
the economic advantages to companies that are implementing it are huge; thus the
demand is overwhelming. We are working diligently as an industry leader in this
area, as the growth potential continues to unfold.
Reverse logistics, a sub-industry of the logistics industry, is growing
rapidly and is estimated to have reached $7.7 billion. The third-party logistics
industry is estimated to be in excess of $35 billion and growing rapidly as
companies are discovering the benefits of outsourcing their logistical demands.
The Company has two lines of revenue, manufacturing and services:
Manufacturing: Our Company has two primary categories of manufacturing:
CHEP grocery pallets and specifically engineered niche market pallets. The
Company has multi-year contracts to manufacture high quality grocery pallets for
CHEP, the world's largest pallet rental pool. The Company has three
manufacturing facilities, which currently produce CHEP pallets. During the next
12 months, our contracts with CHEP at two of our facilities will expire. In
Rogersville, Alabama, our contract expires on September 7th, 2001. The Company
is currently winding down operations and anticipates closing the facility in
fiscal year 2002. In Bolingbrook, Illinois, our contract expires on April 30th,
2002.
Pallets that are uniquely engineered to transport a specific product
are classified as niche market pallets. Besides CHEP, our company's customer
base is primarily composed of customers who require niche pallets. Niche pallets
are lower volume and higher margin than CHEP pallets.
Pallet Management functions as a wholesale distributor of other various
returnable transport packaging such as plastic and metal pallets; collapsible
plastic bulk boxes; wood, plastic, and metal slave pallets; wooden boxes and
crates; and various other products. Due to lack of demand, sales of pallets made
from materials other than wood are minimal.
Services: Our company provides a variety of retrieval, sortation,
repair, warehouse and return services that enable our customers to better
utilize their packaging assets. Besides being environmentally friendly, a
properly repaired used pallet will provide the customer significant savings over
having to buy a new pallet. Pallet users currently discard a large portion of
new pallets after one use. The condition and size of these pallets vary greatly.
The pallets are sorted and repaired as needed, placed in storage and made
available for return to service. Pallets that can be repaired have their damaged
boards replaced with salvaged boards or boards from new stock inventoried at the
facility. Pallets that cannot be repaired are dismantled and the salvageable
boards are recovered for use in repairing and building other pallets. Pallet
Management sells the remaining damaged boards to be ground into wood fiber,
which is used as landscaping mulch, fuel, animal bedding, gardening material and
other items. Despite recent increases in levels of automation, pallet return
operations remain a labor-intensive process.
14
As part of the Company's strategy to use the Internet to improve the
effectiveness of its service offerings, it developed PalletNetTM , a service
brand providing a logistics and information system that manages the flow of
shipping platforms and containers throughout industrial supply chains (excluding
the grocery industry). PalletNetTM creates a closed loop delivery, recovery and
recycling system, which enables customers to treat pallets as assets rather than
expendables. The principal services PalletNetTM offers include reverse
distribution, single source national contracts, high quality shipping platforms
and transport packaging, recovery, repair, recycling and export packaging. These
physical activities are supported by leading edge technology that enables users
to improve shipping asset controls and reduce cost and waste from the supply
chain, while reducing inventories and enhancing customer satisfaction. By
coupling PalletNetTM with the Internet, the Company is creating value for the
customer through substantially lower costs and improved efficiencies. The
PalletNetTM Application is a browser-based user interface combined with three
levels of security management which delivers unlimited, safe access to customers
who can view exactly where their shipping platforms and containers are in the
supply chain at any given moment. The system also offers a full range of
personalization options, so each company can configure PalletNetTM to their
operations. In addition, PalletNetTM has the capacity to use either bar codes or
radio frequency identification tags to track individual pallets and the
equipment transported on them. These new, "state of the art", logistics and
information system capabilities provide customers and Pallet Management the
technical support requirements to manage an efficient reverse distribution
operation and management of valuable transport packaging from any location in
which they can access the Internet.
In order to fulfill the increasing demand for transport management
services, Pallet Management plans to expand its service offerings and service
revenues by hiring additional key sales personnel during this fiscal year.
Though expanding sales of services will not require any significant capital
expenditures other than possibly additional computer equipment and application,
it will increase SG&A as a percentage of sales until newly hired sales personnel
are trained. In addition, the cycle for completing a sale of services is
significantly longer than that for selling manufactured pallets. We anticipate
that service will become a greater percent of net sales as we expand our sales
personnel.
Discussion of fiscal year 2001
Fiscal year 2001 was characterized as a year of restructuring for our
company as we evolved from a "Start-Up" phase company to an "Entrepreneurial
Expansion and Professional Management" company. This transition started in April
2000 when the shareholders elected a new Board of Directors. The Board then
enacted a shift in management authority and responsibilities.
During the first half of fiscal year 2001, ending December 2000, we
focused on turning our operations around to become a profitable manufacturing
company. Our most visible achievement included completing three profitable
quarters in which we earned over $300,000, as compared to a loss of over
$3,500,000 for the three-quarters ending December 1999. In addition, we
installed new "state of the art" pallet manufacturing equipment as we grew to be
one of the largest pallet producing companies in the industry.
At the same time, we made enormous strides in streamlining our
management structure, developing an understanding of job functions and creating
a corporate culture far more focused and disciplined than we had at the
15
beginning of this fiscal year. As a result, our company has become a far better
place to work because all of our employees now have an understanding of what is
expected of each of them and the challenges we face.
During the third quarter of this fiscal year we faced the challenge of
a declining economic environment and orders from our major customer became
sluggish and erratic. We were fortunate to have in place our new management
structure that was able to react and control expenses to minimize losses during
that period.
The fourth quarter presented a whole new set of challenges as pine
lumber prices spiraled up with an unprecedented increase of approximately 30%
during the month of May. This increase squeezed us in the middle of our vendors
who passed the price increase on to us weekly and customers to whom we could not
pass the increase on to until the end of the month. By the time May ended, the
price for pine was dropping back to normal levels again. Though the price of
lumber historically fluctuates, these fluctuations generally correct themselves
over time. As a result of this recent sharp increase, we restructured our
purchasing methods to minimize the negative impact if a dramatic price increase
occurs again. Despite this dramatic change in lumber pricing, our operations
were still able to show a profit for the quarter, which we credit to our
improved corporate operations restructuring.
When we started restructuring our company this fiscal year, we wanted
to create a strong and focused leadership team that can carry our company's
potential forward. Our company is now structured into six departments:
Operations, Finance, Human Resources, Information Technology, Sales & Marketing,
and Administrative. Each department is run by a Director who reports to the
President of the company.
The previous management group committed considerable amounts of company
assets to servicing a single customer. Our current management team has
recognized that this dependency on a single customer should be reduced.
Contracts with this customer are coming to an end, with the first ending
September 7th, 2001 for our Rogersville facility, and the second ending April
30th, 2002 for our Bolingbrook facility. We have already been notified that the
Rogersville, Alabama contract will not be renewed and we are working hard to
address the impact of this situation. During the third and fourth quarters, we
aggressively sought to purchase several acquisition targets and create strategic
partnerships, none of which materialized during the fiscal year due to various
circumstances, though we are still actively pursuing such transactions.
June 30, 2001 vs. June 24, 2000
For the year ended June 30, 2001, net sales increased 16% to
$72,167,233 from $62,445,175 for the prior year. This increase was due mainly to
an increase in new pallet sales, which accounted for 97% of net revenues, as
opposed to 92% of net revenues the previous year. New pallet sales increased due
to sales to one customer, which accounted for 86% of our sales. Sales other than
new pallet sales, comprised principally of service, accounted for 3% of net
revenues, as opposed to 8% of net revenues the previous year. These sales
dropped from approximately $4,996,000 in fiscal year 2000 to approximately
$2,047,000 in fiscal year 2001. The decrease is a result of closing the Lakeland
facility in fiscal year 2000, and a reduction in the order rate on services
experienced in our third quarter.
16
Cost of sales for 2001 was $67,035,408 or 93% of net sales, as compared
to $59,097,842 or 95% of net sales for 2000. This decrease in cost of sales in
relation to net sales, is due to becoming more efficient in production
throughout fiscal year 2001. In addition, we focused on cost control and reduced
spending. Efficiencies were gained in the plants by reducing machine down time
and by planning production during periods of reduced demand. By leveling our
production, we held down additional costs in our facilities and contributed to
the cost of sales percent decrease noted above. By decreasing down time, we were
able to produce more product without adding additional labor costs, which also
reduced our cost per unit.
Selling, general and administrative expenses were $4,320,719 or 6.0% of
net sales in 2001, as compared to $4,899,091 or 7.8% of net sales in 2000. This
decrease is primarily due to increased sales volume and cost control. Reductions
were made in many areas including travel, entertainment, legal and salaries. Our
corporate structure during the year became more streamlined as we set our
management team in place and focused on placing controls in place while
developing new sales opportunities.
Net interest expense decreased to $528,078 in 2001 from $545,119 in
2000. This decrease came as a result of improved cash management. We changed our
approach on borrowing from our revolver loan to reduce the average outstanding
balance on a daily basis. We borrowed $1,031,000 in fiscal year 2001 for our new
Vanderloo nailing machine, which was installed in our Plainfield, Indiana
facility. By increasing our borrowings, we incurred more interest expense, which
offset the savings realized from our improved cash management policies and
procedures. Additionally, we were helped during the year by declining interest
rates that contributed to reduce expenses.
Net income for 2001 was $302,984 compared to a net loss of $2,249,967
in 2000. This was an improvement of over $2.5 million and signified a turnaround
to profitability. For a discussion of the loss for year 2000, see `June 24, 2000
vs. June 26, 1999' below. During 2001 manufacturing operations made many
improvements which led to our profitable year. Among those improvements were
significant reductions to machine downtime, process engineering to eliminate
costs from our manufacturing lines and reductions in staffing where appropriate.
During November we began planning for a slow down from our major customer in
January. We were prepared for and minimized losses during a slow third quarter
and when sales started coming back up in April, we were prepared to meet all of
our customer expectations. May saw the largest increase to pine lumber prices in
recent history of nearly 30% and contributed greatly to losses during that month
as we could not pass this cost increase on to our customers. We continued to
meet our customer demands and worked with our vendors on gaining price
reductions to counteract the May pine lumber price increases seen in May so that
our profitability for June would be maximized. During the course of this fiscal
year, we reorganized the business structure of the company by creating distinct
departments, which had clear lines of responsibility and authority. We also
hired a completely new senior management team. During the transition of
reorganizing, we relied upon outside consultants to fill some senior management
positions until the new management team was in place. Consultants were utilized
primarily for manufacturing operations, Human Resources, Marketing, Materials,
Systems and Logistics. The company expects to reduce expenditures on consultants
materially during fiscal year 2002. The total expenditures made during the
course of fiscal year 2001 for these consultants were $515,000.
For a discussion of fiscal year 2000 net income, please refer to June
24, 2000 vs. June 26, 1999 below.
17
June 24, 2000 vs. June 26, 1999
For the year ended June 24, 2000, net sales increased 61% to
$62,445,175 from $38,744,129 for the prior year. This increase was due mainly to
an increase in new pallet sales, which accounted for 92% of net revenues, as
opposed to 77% of net revenues the previous year. The increase in new pallet
sales resulted from a significant increase from one major customer, which
accounted for approximately 83% and 75% of 2000 and 1999 net sales respectively.
Sales other than new pallet sales, comprised principally of service, accounted
for 8% of net revenues, as opposed to 23% of net revenues the previous year.
These sales dropped from approximately $8,911,000 in fiscal year 1999 to
approximately $4,996,000 in fiscal year 2000. The decrease is a result of
selling the Ocala facility and closing the Orlando facility at the end of fiscal
year 1999, and closing the Lakeland facility in fiscal year 2000.
Cost of sales for 2000 was $59,097,842 or 95% of net sales, as compared
to $35,012,585 or 90% of net sales for 1999. This increase reflects the higher
expenses associated with the opening of a new facility in Indiana in the first
quarter of fiscal year 2000, which did not recognize significant sales until the
end of the second quarter. In addition, the Company lost sales at its
Lawrenceville facility as CHEP sales were shifted to other facilities. The
Company was unable to reduce costs commensurate with the decrease in sales. The
Company also experienced operational problems and a significant theft at its
Bolingbrook, Illinois facility, which opened during the third quarter of the
previous fiscal year. See Liquidity and Capital Resources. Other costs remained
consistent as lumber prices remained stable. The Company hopes to recognize
efficiencies in fiscal 2001 with larger production runs and improved management
structure. For the fourth quarter of fiscal 2000, cost of sales were equal to
90% of the Company's revenues, as the gross profit increased by $1,885,000
during the fourth quarter of the fiscal year.
Selling, general and administrative expenses were $4,899,091 or 7.8% of
net sales in 1999, as compared to $2,944,355 or 7.6% of net sales in 1999. This
dollar increase was a result of additional administrative costs related to the
sales volume increase and expenses related to expanding the Reverse Distribution
business and investments in the PalletNet web page and PalletNetTM.
Net interest expense increased to $545,119 in 2000 from $299,019 in
1999. This increase resulted from increased borrowing related to increased sales
volume, as well as to sustain operations. This increase in sales volume required
increased purchasing of raw materials for production, which in turn increased
the average borrowing base and the related interest expense.
Net loss for 2000 was $2,249,967 compared to a profit of $537,529 in
1999. During the first three quarters of fiscal year 2000, the Company underwent
a reorganization of management in which management positions were eliminated and
substantial charges were incurred totaling approximately $725,000. Of this
amount, costs included in selling, general and administrative consisted of
$32,000 for legal and accounting expenses related to a postponed equity offering
and the Nelson Company transaction, $67,000 for closing the Cary, North
Carolina, and Richmond, Virginia offices and $192,000 for custom software which
is outdated and no longer used. Costs included in other expenses or in cost of
goods sold consisted of $77,000 for equipment at the Bolingbrook, Illinois
facility that is not economically efficient, and $325,000 related to the closing
of the Lakeland, Florida facility. Included in interest expense is $72,000 in
costs relating to costs of obtaining the National Bank of Canada loan, which
18
were amortized over the life of the loan. During the fourth quarter of fiscal
2000, the Company focused on cost control while assembling a core management
team to oversee the operations of the Company which produced a fourth quarter
net income of $47,800.
Liquidity and Capital Resources
We had $226,126 of cash on hand at June 30, 2001, compared to $577,052
at the beginning of fiscal year 2001. Net cash provided from operating
activities was $1,414,843 for the year. We purchased a Vanderloo nailing machine
for our Plainfield, Indiana facility for approximately $1,400,000 and
capitalized our PalletNetTM software for approximately $270,000. Cash provided
by operations in accounts receivable and inventory is $347,000. This is
primarily due to initiatives to reduce accounts receivable and inventory by
$129,000 and $218,000, respectively. We focused on reducing our on-hand supply
of inventory in our Plainfield, Indiana, Bolingbrook, Illinois and Rogersville,
Alabama from 7 days of supply on-hand to approximately 3 days of supply on-hand.
In addition, we concentrated on utilizing our lumber at our Lawrenceville,
Virginia facility that had been aging past 3 months. Both of these efforts led
to the reduction of inventory on hand. For Accounts Receivable, we concentrated
on accounts which were in excess of 30 days past due and began new collection
methods to reduce our Accounts Receivable balances by fiscal year end.
We decreased our borrowings from LaSalle Business Credit, Inc. by $
710,000 during the fiscal year ended June 30, 2001. This decrease was made up of
a reduced revolver borrowing base plus principal payments on our term and real
estate loans of $1,741,000 born from effective cash management offset by the
addition to the capital loan for a portion of the Vanderloo Nailing Machine of
$1,031,000.
In the third quarter of fiscal 2000, the company secured $9,609,000 in
financing from LaSalle Business Credit, Inc. This new funding replaced the
previous $10,000,000 from the National Bank of Canada. The new credit facility
has more favorable terms than the previous agreement with the National Bank of
Canada, with additional availability for real estate. The new facility bears
interest at a rate of prime for the revolver, and prime plus one quarter to one
half for the term loans.
In mid-September, 1999 the Company discovered a theft at its
Bolingbrook facility, estimated to be $640,000, consisting of raw material, work
in process and finished goods. This loss has been included in cost of goods sold
over a time frame, which included a portion of fiscal year 1999 and 2000.
Pallet Management intends to pursue expansion and acquisition plans,
which may include the opening of additional facilities as well as the
acquisition of additional facilities or companies. The success and timing of any
such plans and required capital expenditures cannot be reasonably estimated at
this time and the Company has no current arrangements with respect to any such
acquisition or expansion. Funding for these plans and for ongoing operations
could be a combination of issuance of additional equity, working capital,
additional borrowings, and profits from operations. Pallet Management cannot
make any assurances that such funding would become available for such plans.
Management believes that existing cash on hand, cash provided by future
operations and services, additional borrowings under its current line of credit,
19
and a net working capital of $2,319,000 as of June 30, 2001, will be sufficient
to finance its operations and expected working capital and capital expenditure
requirements for at least the next twelve months.
Risk Factors
Limited History of Profitable Operations
The Company reported a net income of $302,984 for the fiscal year
ended June 30, 2001, a net loss of $2,249,967 for the fiscal year ended June
24, 2000, a net income of $537,529 for the fiscal year ended June 26, 1999,
net income of $191,627 for the fiscal year ended June 27, 1998 and a net loss
of $882,977 for the fiscal year ended June 30, 1997. The Company cannot
guarantee that it will sustain growth, that it will continue to be profitable
or that it will maintain sufficient revenues for profitability. The Company
cannot guarantee that it will sustain or increase profitability on a quarterly
or annual basis in the future.
Dependence on Key Customer
The Company currently depends on CHEP for a material portion of its
business. During the fiscal year ended June 30, 2001, approximately 86% of the
Company's revenues and a significant percentage of its growth were attributable
to CHEP. The Company expects that the revenues from CHEP may account for up to
80% of its revenues and will continue to be a material portion of its business
for the next fiscal year until the Company can diversify its customer base. In
addition, CHEP is the predominant customer of certain of the Company's
facilities. If CHEP were to materially decrease its purchase of pallets and
services from the Company for any reason, the Company's financial condition and
results of operations would be materially adversely affected. The Company has
entered into separate agreements with CHEP for each facility that performs CHEP
manufacturing, repair or depot services. The Company cannot guarantee that CHEP
will not terminate its existing agreements with the Company, and does not
anticipate that CHEP will renew its existing agreements with the Company.
During the next 12 months, our contracts with CHEP at two of our
facilities will expire. In Rogersville, Alabama, our contract expires on
September 7th, 2001. The Company is currently winding down operations and
anticipates closing the facility in fiscal year 2002. In Bolingbrook, Illinois,
our contract expires on April 30th, 2002.
Supply and Demand for Lumber
Pallet prices are closely related to the market price of lumber, the
principal raw material used in the manufacture and repair of wooden pallets. If
lumber prices increase sharply, the Company may not be able to pass this
increase on to its customers. The Company has attempted to index the sale prices
of its pallets based on its lumber costs, although the Company has not always
been able to do so.
The price of lumber has been volatile in recent years due to factors
beyond the Company's control, including:
o weather and other natural events,
o governmental regulation of logging on public lands,
20
o lumber agreements between Canada and the U.S., and
o competition from other industries that use similar grades and
types of lumber.
Although the Company typically buys its lumber in the open market, the
Company purchased approximately 55% of its lumber from 3 suppliers in fiscal
2000. However, the Company might be unable to purchase adequate lumber supplies
to meet its needs. To the extent the Company encounters adverse lumber prices or
is unable to procure adequate supplies of lumber, the Company's financial
condition and results of operations could be materially adversely affected. The
Company purchased approximately 4.4% of its lumber from a related company, Clary
Lumber Company, Inc., a North Carolina corporation. See Item 13, "Certain
Relationships and Related Transactions."
Competition from Other Companies
There are over 3,600 companies that manufacture pallets or provide
pallet recycling services. Many of these are small companies that concentrate on
the grocery and retail businesses in which the Company does not generally
compete, although they might at any time attempt to compete directly with the
Company. The Company generally services specialty markets and other services in
which there are not as many competitors. CHEP's pallet rental system competes
with new pallet sales to the grocery and wholesale distribution industries, and
may expand into other industries in the future.
Pallet manufacturing and recycling operations are not highly capital
intensive, and the barriers to entry in these businesses are minimal. Smaller
competitors might have lower overhead costs and consequently, may be able to
manufacture or recycle pallets at lower costs than the Company. Other companies
with significantly greater capital and other resources than the Company
(including CHEP) might enter or expand their operations in the pallet
manufacturing and recycling businesses in the future, which could change the
competitive dynamics of the industry. The Company has competed in the past and
will continue to compete with lumber mills for sales of new pallets.
Potential Increase in Debt and Interest Expense
On March 31, 2000, the Company established a $9,609,000 borrowing
facility with LaSalle Business Credit, Inc., of which approximately $5,732,000
is outstanding. The Company placed into service a Vanderloo pallet nailing
machine, which was financed by LaSalle Business Credit as part of the original
borrowing facility. The funding for this machine was done in two parts, first in
July 2000 for $411,000 and then in February 2001 for $620,000.
The Company uses the borrowing facility to finance receivables,
inventory, and real estate as well as for various other corporate purposes
including the purchase of new equipment. Thus, the Company's debt and interest
expense may be substantially higher in the future, which could limit the
Company's flexibility. In addition, this bank has a lien on substantially all of
the Company's assets.
The Company increased its debt during the year ended June 30, 2001 by
financing the Vanderloo pallet nailing machine with LaSalle as part of the
original borrowing facility. We may finance up to $400,000 in additional
equipment in the next 12 months. The current facility allows for this capital
increase. If interest rates were raised by 100 basis points, given our
outstanding debt, the additional interest expense would be approximately
$60,000.
21
Potential Risks Related to Acquisitions
One of the Company's growth strategies is to acquire additional pallet
manufacturing and recycling companies to increase the Company's revenues and
markets. Acquisitions involve a number of risks, including:
o adverse short-term effects on the Company's operating results;
o difficulties in successfully integrating and managing
additional businesses;
o diversion of management's attention;
o dependence on retention, hiring and training of key personnel;
o loss of existing or anticipated customers of the acquired
companies;
o unanticipated problems or legal liabilities; and
o amortization of acquired intangible assets.
Some or all of these risks could have a material adverse effect on the
Company's financial condition or results of operations. In addition, to the
extent that consolidation becomes more prevalent in the industry, the prices for
attractive acquisition candidates might increase and the number of attractive
acquisition candidates might decrease. The Company cannot guarantee that it will
be able to acquire additional businesses or successfully integrate and manage
such additional businesses.
Potential Problems in Financing Acquisitions
The Company might potentially issue additional shares of its Common
Stock as partial consideration for future acquisitions. If the Common Stock does
not maintain a sufficient valuation or potential acquisition candidates are
unwilling to accept Common Stock as part of the consideration for the sale of
their businesses, the Company might be required to use more cash or bank
financing, if available, in order to complete acquisitions. If the Company does
not have sufficient cash resources or borrowing availability, the Company's
growth could be limited unless the Company is able to obtain additional capital
through future debt or equity financing. The Company does not currently have
sufficient availability under its current facility to finance any additional
acquisitions. Using cash to complete acquisitions and finance internal growth
could substantially limit the Company's financial flexibility. Using debt could
result in financial covenants that limit the Company's operations and financial
flexibility. The Company might be unable to obtain financing if and when needed
on acceptable terms. As a result, the Company might be unable to pursue its
acquisition strategy successfully.
Transactions With Affiliates
For fiscal 2001, the Company purchased approximately $2,285,000 or 4.4%
of its lumber supply from Clary Lumber Company, Inc., a North Carolina
corporation ("Clary"), which is owned by the family of John C. Lucy, Jr., a
principal shareholder and former Director of Pallet Management. John C. Lucy,
III, Mr. Lucy's son, is Pallet Management's Chief Executive Officer and is also
President and a minority shareholder of Clary. After procedures were performed
22
by the Company's auditors during the current fiscal year as it related to
purchases for fiscal year 2000, at the request of the Company, the Company
believes that these transactions were made at prices comparable to vendors other
than Clary in the ordinary course of business. The Company expects to purchase
less than 4.4% of its lumber from Clary for the foreseeable future.
Volatility of Stock Price
The trading price of the Company's Common Stock has been, and in the
future is expected to be, volatile. The Company expects to experience further
market fluctuations as a result of a number of factors, including:
o current and anticipated results of operations;
o changes in the Company's business, operations or financial
results;
o general market and economic conditions;
o competition;
o the low number of shares outstanding;
o low trading volume;
o the number of market makers in the Company's stock;
o lumber prices; and
o other factors.
Difficulties in Obtaining New Sales
In the last year, the Company has brought in key personnel to sustain
current sales and then focus on new sales. New sales will be required to sustain
current operations in all of our facilities if our major customer should not
renew our contracts. We anticipate closing the Rogersville, Alabama facility as
the contract has not been renewed. Should the Company not be able to obtain
adequate new sales we might be unable to:
o successfully implement its business strategy;
o generate sufficient cash flow from operations;
o manage its costs; and
o successfully manage continued growth.
The failure to obtain new sales might have a material adverse effect on the
Company's business, financial condition and results of operations.
Dependence on Key Personnel
The Company materially depends upon the services of the following
individuals:
o John C. Lucy, III, Chief Executive Officer
o Zachary M. Richardson, President
o Marc Steinberg, Vice President of Finance, Secretary and
Treasurer
o Ellen Chambers, Director of Information Technologies
o Mike Sawdy, Director of Manufacturing Operations
o B. French Speece, Director of Sales and Marketing
23
The Company has five-year employment agreements with Messrs. Lucy and
Richardson that expire October 2003. In addition, the Company currently has
Key-man insurance in the amount of $1,000,000 for Messrs. Lucy and Richardson.
The Company would be adversely affected by the loss of the services of any of
the above-mentioned individuals.
No Dividend Payments
The Company has never paid any cash dividends on its Common Stock and
does not anticipate paying cash dividends on its Common Stock in the foreseeable
future. The future payment of dividends is directly dependent upon the Company's
future earnings, capital requirements, financial requirements and other factors
to be determined by the Company's Board of Directors. For the foreseeable
future, it is anticipated that earnings, if any, which may be generated from the
Company's operations will be used to finance the Company's growth.
Vulnerable Stock Price
If the Company's stockholders sell substantial amounts of their Common
Stock (including shares issued upon the exercise of outstanding options), the
market price of the Company's Common Stock could fall. As of September 21, 2001
the Company had outstanding 4,065,612 shares of Common Stock, of which 3,070,150
shares are freely tradable in the public market, and of which 995,462 shares are
"restricted securities" under the Securities Act of 1933, as amended (the
"Securities Act"). The Company's officers, directors and employees own options
to purchase up to 1,667,405 additional shares of Common Stock.
Restricted securities may only be sold pursuant to an effective
registration statement under the Securities Act or in compliance with Rule 144
under the Securities Act or other exemption from registration. Rule 144 provides
that a person holding restricted securities for a period of one year may sell
such securities during any three-month period, subject to certain exceptions, in
limited amounts. Rule 144 also permits, under certain circumstances, the sale of
shares without any quantity limitations by a person who is not our affiliate and
who has held the shares for a two year holding period. No predictions can be
made as to the effect, if any, that market sales of such shares or the
availability of such shares for future sale will have on the market price of the
Common Stock prevailing from time to time.
Potential Issuance of Preferred Stock
The Company's Articles of Incorporation authorize 7,500,000 shares of
preferred stock, none of which are issued and outstanding as of the date hereof.
As provided in the Company's Articles of Incorporation, preferred stock may be
issued by resolutions of the Company's Board of Directors from time to time
without any action of the stockholders. These resolutions may authorize issuance
of the preferred stock and set dividend and liquidation preferences, voting
rights, conversion privileges, redemption terms and other privileges and rights.
Accordingly, the Company's Board of Directors may, without stockholder approval,
issue preferred stock with dividend, liquidation, conversion, voting or other
rights which could adversely affect the voting power or the rights of the
holders of the Company's Common Stock. The preferred stock could be utilized,
under certain circumstances, as a method of discouraging, delaying or preventing
a change in control of Pallet Management.
24
Antitakeover Effects in Our Charter Documents and Under Florida Law
Certain provisions of our Articles and Bylaws may be deemed to have
antitakeover effects and may delay, defer or prevent a hostile takeover,
including prohibition of shareholder action by written consent and advance
notice requirements for shareholder proposals and director nominations In
addition, Florida has enacted legislation that may deter or hinder takeovers of
Florida corporations. The Florida Control Share Act generally provides that
shares acquired in excess of certain specified thresholds will not have any
voting rights unless such voting rights are approved by a majority of the
corporation's disinterested shareholders. The Florida Affiliated Transactions
Act generally requires supermajority approval by disinterested shareholders of
certain specified transactions between a public corporation and holders of more
than 10% of the outstanding voting shares of the corporation (or their
affiliates).
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
-----------------------------------------------------------
None.
Item 8. Financial Statements and Supplementary Data.
--------------------------------------------
The financial statements are attached at the end of this document.
Item 9. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure.
---------------------------------------------------------------
None.
25
PART III
Item 10. Directors and Executive Officers of Registrant.
-----------------------------------------------
The following table sets forth the names, ages and positions held with
respect to each Director and Executive Officer of the Company.
Name Age Position
------------------------------------------------ -------- -------------------------------------------------
Zachary M. Richardson 46 President and Director
John C. Lucy, III 43 Chief Executive Officer
Marc S. Steinberg 39 Vice President of Finance, Treasurer and
Secretary
Philip D. Feltman 81 Director
Ronald D. Shindler 54 Chairman of the Board
Alan P. Sklar 62 Director
Robert L. Steiler 53 Director
Directors and Officers
ZACHARY M. RICHARDSON has been President of the Company since 1994,
when Pallet Recycling Technologies, Inc. (PRTI), which he founded in 1991, was
acquired by the Company in a reverse acquisition. From June 1995, when the
Company was acquired by Abell Industries and controlled by the Lucy family,
until July 2000, Mr. Richardson's areas of responsibility were confined to
investor relations and financial reporting. Beginning July 2000, Mr. Richardson
assumed executive responsibility for all departments, except New Business
Development, of the Company. Mr. Richardson has been a Director since May 2001
and from 1994 until April 2000, when he voluntarily resigned from that position.
Mr. Richardson has been involved in the pallet industry since 1991, with over 25
years of management and sales experience. After graduating from Franklin and
Marshall College in 1977, he was commissioned in the United States Navy and
designated a Naval Aviator. On active duty for eight years he maintained his
reserve status in the Navy until his retirement from the reserves in 1997. Mr.
Richardson is an active member of the NWPCA and has served on the association's
Recyclers Council Executive Committee, which deals with national issues related
to pallet recycling.
26
JOHN C. LUCY, III has served as Chief Executive Officer of the Company
since 1995. In addition to being CEO of the Company, he is President of Clary
Lumber, a hardwood lumber sawmill located in Gaston, North Carolina (see Item
13, "Certain Relationships and Related Transactions"), and is also
Vice-President of Blacksburg Enterprises, Inc., which operates a food service
franchise in Blacksburg, Virginia. From 1995 through 1999, Mr. Lucy served the
Company as both CEO and Chairman of the Board. Mr. Lucy has also been actively
involved in the National Wooden Pallet and Container Association ("NWPCA"),
where he served for two years as Chairman of the Military Packing Task Force,
and for three years as Chairman of the Research Steering Committee. Mr. Lucy
graduated from Virginia Tech with a Bachelor of Science degree in business.
MARC S. STEINBERG joined the Company in July 2000 as its Corporate
Controller and became the Vice President of Finance in May 2001. Mr. Steinberg
was also appointed Treasurer and Secretary effective August 2000. Mr. Steinberg
has worked in the field of accounting for the past 18 years, and has extensive
experience in the manufacturing industry. Prior to joining the Company, Mr.
Steinberg served as the controller for the transportation and education
subsidiaries of TFG Corporation. Prior to that, Mr. Steinberg served as the
controller of RTP Corp. (an electronics equipment manufacturer), controller for
Mederer Corporation (a candy manufacturer), and cost accounting manager for
Sensormatic Electronics Corp. (an electronics equipment manufacturer). Mr.
Steinberg has a CPA license, a CMA license and is certified in Production and
Inventory Management. Mr. Steinberg graduated from the University of Florida in
1984 with a Bachelors degree in Accounting.
PHILIP D. FELTMAN was elected a Director of the Company on April 27,
2000. Mr. Feltman has over 50 years of management experience starting in 1947
when he established a drug store chain in Manchester Connecticut. He and several
friends later went on to found Ames Department Stores, which became a major
chain of discount department stores. He left Ames in 1978 to found K & F
Industries, Inc., a foreign auto parts importer. Mr. Feltman went on to
participate in the concept, construction, and development of Villas Tacul, a
resort in Cancun, Mexico, and was part of its management team. In addition, Mr.
Feltman was President of Feltman Enterprises Inc., an investment management
company which wholly owned New Nurses, a medical personnel pool; a director of
Royalpar Inc., a public company; and President of Pequot Spring Water Company.
Currently, Mr. Feltman is an active partner in FW Enterprises, which owns office
buildings and apartments; a principal in Travacon Inc., a full service travel
agency located in West Hartford, Connecticut; and a principal in F & R
Associates, Inc., a builder of high quality homes in the Westbrook area of
Connecticut. With a Bachelor of Science degree from the University of
Connecticut, College of Pharmacy, in 1943 he served in the European Theater of
Operations with the 4th Armored Division, Third Army. Mr. Feltman has also been
involved with many charitable causes for many years.
RONALD D. SHINDLER was elected as a Director of the Company in April
2000 and became Chairman of the Board in March 2001. He has been a shareholder
of Fowler, White, Burnett, Hurley, Banick & Strickroot, a Miami, Florida law
firm, since 1989. He also served as a Vice President and Senior Counsel for
Drexel Burnham Lambert Incorporated from 1979 to 1987, as well as managed a
large brokerage office. Mr. Shindler's firm serves as one of the Company's
outside counsel. He received his B.A. degree from the University of
Pennsylvania, his law degree from Boston University and a Master of Law in
taxation from New York University. Mr. Shindler specializes in securities law.
27
ALAN P. SKLAR was appointed a Director for the Company in August 2000.
Mr. Sklar has been a CPA for 40 years. Mr. Sklar founded the Chicago CPA and
management consulting firm, Gleeson, Sklar, Sawyers & Cumpata LLP in 1967, and
is presently a senior partner in the firm, where he primarily consults with
middle market manufacturers and distributors. Mr. Sklar serves as an advisor to
the board for many of his firm's clients. Mr. Sklar also serves on the board of
directors of several non-profit business related organizations, and is former
president of the International Group of Accounting Firms. Mr. Sklar is a
graduate of Northwestern University.
ROBERT L. STEILER was elected as a Director of the Company in April
2000. He has been a principal of Lewis Management Group, a consulting firm
specializing in business strategy, business development, manufacturing
operations and logistics, since its founding in 1990. Mr. Steiler's firm has
served as a manufacturing consultant to the Company since his election to the
Board. See Item 13, "Certain Relationships and Related Transactions." Prior to
founding the Lewis Management Group, Mr. Steiler was associated with KPMG Peat
Marwick from 1988 to 1990. Earlier in his career he was Vice President of
Materials with Stone Management Corporation, a large consumer goods company,
where he directed the material management functions and a highly sophisticated
computer-controlled picking and storage system. He was also Vice President of
Materials for SmithKline Beecham, a Fortune 100 pharmaceutical company. Mr.
Steiler graduated from St. John's University with an MBA in Management.
Significant Employees
ELLEN M. CHAMBERS joined the Company in March 1999, as Controller and
became the Director of Information Technologies in March 2000. Ms. Chambers
previously acted as Information Systems Coordinator for AIDS Community Services,
Inc. She also served as Operations Manager at Advanced Logic Technologies, Inc.,
a company specializing in custom CAD/CAM design. Ms. Chambers has extensive
experience in both accounting and systems development, design and
implementation, and has worked in the accounting and information technology
fields for over 12 years. Ms. Chambers graduated from the University of Buffalo
with a B.S. in Accounting, Finance and Management Information Systems, as well
as an MBA in Management Information Systems and Management Science/Statistics.
B. FRENCH SPEECE, JR. joined the Company in July 2001 as its Director
of Sales & Marketing. Mr. Speece brings over 25 years of sales and marketing
experience ranging from industrial products and electronics equipment to reverse
distribution services and an in depth knowledge of customer service. For the
past 4 years, Mr. Speece managed the global sales marketing and customer service
functions at OPW Engineered Systems in Ohio. Prior to that, Mr. Speece worked
for 17 years for Eastman Kodak where he managed the sales and marketing efforts
as well as created systems for reverse distribution services for companies such
as Apple Computer and Palm Computing. Mr. Speece graduated from the University
of Virginia in 1973 with a B.A. degree in Economics.
MICHAEL W. SAWDY joined the Company in June, 2001 as its Director of
Operations. Mr. Sawdy has worked in the fields of Operations and International
Logistics for the past 23 years. Prior to joining the Company, Mr. Sawdy was
employed by International Paper Company in several positions, most recently as
the Director of Manufacturing in the Automotive Systems Group. Prior employment
responsibilities included exportation of 200,000 Chrysler vehicles annually as
the Export Logistics Manager for a division of Circle International, and
packaging and logistics for Chrysler Austria of automotive components for
assembly as Facility Manager for F.X. Coughlin Company. Mr. Sawdy's prior
affiliations include the Warehousing Education and Research Council, as well as
the American Production and Inventory Control Society.
28
Compliance with Section 16(a) of the Securities Exchange Act of 1934
To the Company's knowledge, based solely on a review of the copies of
such reports furnished to the Company and on representations that no other
reports were required, there were no reports required under Section 16(a) of the
Securities Exchange Act of 1934, which were not timely filed during fiscal 2001.
Item 11. Executive Compensation.
-----------------------
The following table summarizes all compensation paid by the Company in
each of the last three fiscal years for the Company's executive officers
currently serving as such whose annual compensation exceeded $100,000.
Long Term
Annual Compensation Compensation
Name and ---------------------------------------------------- ----------------
Principal Position Year Salary($)(1) Bonus($) Other($)(2) Options
---------------------------- -------- -------------------- ----------- ------------- ----------------
Zachary M. Richardson, 2001 170,878 0 83,200(3) 40,556
President 2000 161,114 0 59,900(4) 40,626
1999 119,000 0 13,200 79,890
John C. Lucy, III 2001 172,262 0 14,348(5) 40,556
Chief Executive Officer 2000 161,451 0 16,800(6) 40,626
1999 119,000 0 25,200 79,890
(1) Includes medical insurance reimbursements.
(2) Includes car allowances and other miscellaneous benefits.
(3) Includes $13,200 for car allowances. Also, Mr. Richardson sold his home
at the request of the Company and incurred expenses in connection with
this sale. In fiscal year 2001, the Company reimbursed Mr. Richardson
$70,000 for his out of pocket costs.
(4) Includes $13,200 for car allowances and $16,800 for reimbursement of
income taxes paid. Also, as noted in footnote 3 above, Mr. Richardson
sold his home at the request of the Company and incurred expenses in
connection with this sale. In fiscal year 2000, the Company reimbursed
Mr. Richardson for closing costs in connection with this sale, which
totaled $29,900.
(5) Includes $13,200 for car allowances and other miscellaneous benefits,
and $1,148 for payment of Mr. Lucy's Guardian Life policy.
(6) Includes $13,200 for car allowances and other miscellaneous benefits,
and $3,600 for reimbursement of closing costs incurred in connection
with the purchase of Mr. Lucy's home.
29
The following table sets forth information concerning individual grants
of stock options made during the fiscal year ended June 30, 2001 to each of the
Named Executive Officers:
OPTION GRANTS IN LAST FISCAL YEAR
---------------------------------
Number of Shares % of Total Options
Underlying Options Granted to Employees Exercise or Base
Name Granted(#) in Fiscal Year Price ($/Share) Expiration Date
---- ---------- -------------- --------------- ---------------
Zachary M. Richardson 40,556 (1) 34% 2.25 7/24/10
John C. Lucy, III 40,556 (1) 34% 2.25 7/24/10
(1) Options to purchase 8,111 shares vest each year, beginning July 1, 2001
and continuing through July 1, 2005.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION VALUES
Number Of
Securities Underlying Value Of
Shares Unexercised Unexercised
Acquired Options In-The-Money
On at FY-End (#) Options
Exercise Value Realized Exercisable/ at FY-End ($)
Name (#) ($) Unexercisable Exercisable/Unexercisable
---- --- --- ------------- -------------------------
Zachary M. Richardson 0 0 529,426/76,819 $0/$0
John C. Lucy, III 0 0 523,394/76,819 $0/$0
Compensation of Directors
Starting in fiscal year 2001, the Chairman of the Board is paid a
monthly retainer of $1,000 and all other directors are paid a monthly retainer
of $500. The directors are paid $1,000 per board meeting day and $500 per
teleconference meeting plus all related business expenses. All audit committee
members are paid $250 per quarter. All directors are granted 30,000 ten-year
options when they are appointed or elected to the board and may be granted
additional options for each additional year they are on the board at the then
market value. These options vest over two years at fifty percent per year and
when services are terminated, all unexercised options are forfeited. See also
"Stock Option Plans."
Employment Agreements
In November 1998, the Company entered into five-year employment
agreements (the "Employment Agreements") with Zachary M. Richardson and John C.
Lucy, III. Pursuant to the terms of these Employment Agreements, each executive
is entitled to receive (i) annual base compensation of $156,000, with increases
30
in future years by the percentage increase of the Consumer Price Index and (ii)
a bonus up to 100% of base salary based on the increase in pretax earnings per
share over the prior year. For the year ending June 30, 2001, Mr. Lucy and Mr.
Richardson have agreed to waive the bonus with no other effect on the existing
employment agreement. The Employment Agreements also provide for annual grants
of common stock options commencing in fiscal 2000 equal to 1% of the then
outstanding number of common shares at an exercise price of fair market value at
date of grant, and the granting of 150,000 stock appreciation rights that vest
only upon a "Change of Control" as defined in the Employment Agreements.
During the term of the Employment Agreements, should there be a Change
of Control of the Company as that term is defined therein, the Company, at its
sole option, may terminate the Employment Agreements upon 30 days prior written
notice and thereafter will be obligated to pay the executives the balance of the
compensation payable under the Employment Agreements, had they not been
terminated prior to their expiration, together with an additional sum equal to
299% of Executives' annual base compensation. The Employment Agreements also
contain non-competition and confidentiality provisions.
Stock Option Plans
Pallet Management has adopted two combined stock option and
appreciation rights plans (the "Plans") to attract and to induce officers,
directors and key employees of the Company to remain with the Company. The Plans
provide for options which qualify as incentive stock options under Section
422(a) of the Internal Revenue Code of 1986, as amended (the "Code"), as well as
nonstatutory options. No more than fifteen percent (15%) of the Common Stock
outstanding will be reserved for issuance upon exercise of options to be granted
from time-to-time. The 1997 Omnibus Stock Option Plan (the "1997 Plan") was
approved in August, 1997. Pallet Management's 1998 Omnibus Stock Option Plan
(the "1998 Plan") became effective on September 1, 1998. An aggregate of 250,000
shares is reserved for issuance under the 1997 Plan and 1,000,000 shares are
reserved for issuance under the 1998 Plan.
As of September 21, 2001, an aggregate of 6,394 options were
outstanding under the 1997 Plan with an exercise price of $2.00, and an
aggregate of 519,669 options were outstanding under the 1998 Plan with exercise
prices ranging from $2.25 to $5.25. These options generally vest over a
five-year period and expire ten years from date of grant. From 1997 through
2001, the Company granted Messrs. Lucy, III and Richardson options to acquire an
aggregate of 600,215 and 606,247 shares, respectively. See Item 12, "Security
Ownership of Certain Beneficial Owners and Management."
The Plans provide for a combined stock option and appreciation rights
plan. The Plans provide for options which will qualify as incentive stock
options under Section 422(a) of the Internal Revenue Code of 1986, as amended,
as well as for options which do not so qualify. Incentive Awards may be granted
under the Plans in the form of Options, Stock Appreciation Rights, Restricted
Stock, and Performance Awards.
No more than 50,000 common shares may be allocated to Incentive Awards
and no more than 300,000 common shares may be allocated to Non-Incentive Awards
granted to any one employee during a single calendar year.
All present and future employees of the Company or of any parent or
subsidiary of the Company ("Employee") and any person retained to provide
services to the Company (other than as an Employee, a member of the Board of
Directors or a member of the board of directors of any subsidiary or parent of
the Company), and who is selected by the committee, is eligible to receive
Incentive Awards under the Plan.
31
All present and future Non-Employee Directors are eligible to receive
Non-Statutory Options under the Plan. Non-Employee Directors shall not be
entitled to receive any other form of Incentive Award under the Plan.
The exercise price of shares of Company Stock covered by an Incentive
Stock Option cannot be less than 100% of the fair market value of such shares on
the date of grant; provided that if an Incentive Stock Option is granted to an
Employee who, at the time of the grant, is a 10% Shareholder, then the exercise
price of the shares covered by the Incentive Stock Option will not less than
110% of the fair market value of such shares on the date of grant. The exercise
price of Nonstatutory Stock Options will not be less than 85% of fair market
value of such shares on the date of grant.
Whenever the Board of Directors of the Company (the "Board") deems it
appropriate, Stock Appreciation Rights may be granted in connection with all or
any part of an Option, either concurrently with the grant of the Option or, if
the Option is a Nonstatutory Stock Option, by an amendment to the Option at any
time thereafter during the term of the Option. Stock Appreciation Rights may be
exercised in whole or in part at such times and under such conditions as may be
specified by the Committee in the participant's stock option agreement.
The Board may terminate or amend the Plans in such respects as it shall
deem advisable. The Board may unilaterally amend the Plans and Incentive Awards
as it deems appropriate to ensure compliance with Rule 16b-3 and to cause
Incentive Awards to meet the requirements of the Code, including Code section
422, and regulations thereunder.
Accelerated Options
In August 1997, the Company jointly granted 1,000,000 options to
Messrs. Richardson and Lucy to re-allocate to other members of the Company's
management. Messrs. Richardson and Lucy immediately re-allocated approximately
one-third of these options to other members of the Company's management. If an
employee terminated employment with the company, for any reason or no reason,
the options allocated to them would immediately revert back to Messrs.
Richardson and Lucy. The options provided that vesting would accelerate if the
Company achieved specified income before taxes, depreciation, amortization and
certain other charges at different measurement dates, which milestones were
determined based on management's internal projections through fiscal 1999. All
three milestones were met and the options vested according to the accelerated
schedule. The options expire in August 2002. See Item 12, "Security Ownership of
Certain Beneficial Owners and Management."
32
The following table summarizes the terms of these vested but
unexercised options:
Name Exercise Price Vested Expiration Date
---- -------------- ------ ---------------
Zachary M. Richardson $1.50 172,412 August 20, 2002
$1.75 128,613
$2.25 135,400
John C. Lucy, III $1.50 172,412 August 20, 2002
$1.75 128,613
$2.25 135,400
Other Employees $1.50 55,175 August 20, 2002
$1.75 42,775
$2.25 29,200
---------
1,000,000
=========
Compensation Committee Interlocks and Insider Participation in
Compensation Decisions
The Company created its Compensation Committee during fiscal 2001.
Philip D. Feltman, as Chairman, and Robert L. Steiler served on during fiscal
2001, and currently comprise, the Board's Compensation Committee. Mr. Steiler is
also the sole owner of a company that provides consulting services to the
Company for compensation. See "Item 13, Certain Relationships and Related
Transactions." Mr. Steiler abstains from voting on issues concerning such
compensation.
Board Compensation Committee Report on Executive Compensation
General Compensation Policy. The three principal components of the
Compensation Committee's executive compensation are salary, bonus and stock
options. The components are designed to facilitate fulfillment of the
compensation objectives of the Compensation Committee, which objectives include
(i) attracting and retaining competent management, (ii) recognizing individual
initiative and achievement, (iii) rewarding management for short and long term
accomplishments and (iv) aligning management compensation with the achievement
of the Company's goals and performance.
The Compensation Committee endorses the position that equity ownership
by management is beneficial in aligning management's and shareholders' interest
in the enhancement of shareholder value. Base salaries for new management
employees are determined initially by evaluating the responsibilities of the
position held and the experience of the individual, and by reference to the
competitive marketplace for managerial talent, including a comparison of base
salaries for comparable position at similar companies of comparable sales and
capitalization. Annual salary adjustments are determined by evaluating (i) the
performance of and responsibilities assumed by the executive, (ii) the
competitive marketplace and (iii) the performance of the Company. The
Compensation Committee does not utilize any specific formula to determine
compensation based on Company performance.
33
The Compensation Committee periodically reviews the Company's existing
management compensation programs on an ongoing basis, including (i) meetings
with the President to consider and set mutually agreeable performance standards
and goals for members of senior management and/or the Company, as appropriate or
as otherwise required pursuant to any such officer's employment agreement and
(ii) modifications to such compensation programs as appropriate, to ensure
alignment with the philosophy and established standards and goals of the
Compensation Committee.
Compensation of President and Chief Executive Officer. The Company has
entered into employment agreements with both Mr. Zachary M. Richardson, its
President, and Mr. John C. Lucy, III, its Chief Executive Officer. Each of their
employment agreements provide for bonuses of up to 100% of base salary based on
the increase in pretax earnings per share over the prior year. See "Employment
Agreements." Aside from Company performance, other factors which influence the
compensation paid to Messrs. Richardson and Lucy include executive
responsibilities and performance, and compensation levels at comparable
companies.
Philip D. Feltman, Chairman
Robert L. Steiler
34
Performance Graph
COMPARE CUMULATIVE TOTAL RETURN
AMONG PALLET MANAGEMENT SYSTEMS, INC.,
NASDAQ MARKET INDEX AND SIC CODE INDEX
[Graph Omitted]
1996 1997 1998 1999 2000 2001
---- ---- ---- ---- ---- ----
Pallet Management Systems, Inc. 100.00 70.00 430.00 210.00 125.00 52.00
SIC Code Index 100.00 144.49 151.84 114.39 85.48 40.48
NASDAQ Market Index 100.00 120.46 159.68 223.77 336.71 186.46
Assumes $100 invested on July 1, 1996
Assumes Dividend Reinvested
Fiscal Year Ending June 30, 2001
35
Item 12. Security Ownership of Certain Beneficial Owners and Management
--------------------------------------------------------------
The following table sets forth, as of the close of business on October
5, 2001 (a) the name, and number of shares of each person known by the Company
to be the beneficial owner of more than 5% of the Company's Common Stock and (b)
the number of shares of Common Stock owned by each director and all officers and
directors as a group, together with their respective percentage holdings of such
shares:
Name and Percent of
Address of Amount of Beneficial Class
Beneficial Owner(1) Ownership of Stock Outstanding
---------------------------------------- -------------------------------- --------------------
Zachary M. Richardson 710,629(2) 15.5%
John C. Lucy, III 705,491(3) 15.4%
Marc S. Steinberg 11,500(4) *
Philip D. Feltman 37,600(5) *
Ronald D. Shindler 15,000(6) *
Robert L. Steiler 26,000(7) *
Alan P. Sklar 20,000 (8) *
All Officers and Directors 1,526,220(9) 29.4%
as a Group (seven persons)
D.L. Cromwell Group (10) 621,729 (11) 15.3%
John C. Lucy Jr. (12) 675,696 (13) 15.9%
* Less than 1%
(1) The address of director and officers listed above, except for Mr. John
C. Lucy, III, is 2855 N. University Drive - Suite 510, Coral Springs,
Florida 33065. The address for Mr. John C. Lucy, III is 2900 Highwood
Blvd. Suite 200, Raleigh, North Carolina 27604.
(2) This figure includes 181,203 shares owned of record by Mr. Richardson
and options to acquire 529,426 shares, which options are exercisable
within 60 days from the date hereof. It excludes options to acquire
76,819 shares, which options are not exercisable within 60 days from
the date hereof.
(3) This figure includes 182,097 shares owned of record by Mr. Lucy and his
children and options to acquire 523,394 shares, which options are
exercisable within 60 days from the date hereof. This figure excludes
options to acquire 76,819 shares, which options are not exercisable
within 60 days from the date hereof. This figure also excludes
beneficial ownership of Mr. Lucy Jr., the father of Mr. Lucy III.
Together, Mr. Lucy III and Mr. Lucy Jr. (including Clary, see footnote
10 below) own 682,793 shares of record and options and warrants to
acquire 698,394 shares, which options and warrants are exercisable
within 60 days from the date hereof, or 29.0% of the Company.
(4) This figure includes 0 shares owned of record by Mr. Steinberg and
options to acquire 11,500 shares, which options are exercisable within
60 days from the date hereof. It excludes options to acquire 6,000
shares, which options are not exercisable within 60 days from the date
hereof.
36
(5) This figure includes 22,600 shares owned of record by Mr. Feltman and
options to acquire 15,000 shares, which options are exercisable within
60 days from the date hereof. It excludes options to acquire 15,000
shares, which options are not exercisable within 60 days from the date
hereof.
(6) This figure includes 0 shares owned of record by Mr. Shindler and
options to acquire 15,000 shares, which options are exercisable within
60 days from the date hereof. It excludes options to acquire 15,000
shares, which options are not exercisable within 60 days from the date
hereof.
(7) This figure includes 1,000 shares owned of record by Mr. Steiler and
options to acquire 25,000 shares, which options are exercisable within
60 days from the date hereof. It excludes options to acquire 25,000
shares, which options are not exercisable within 60 days from the date
hereof.
(8) This figure includes 5,000 shares owned of record by Mr. Sklar and
options to acquire 15,000 shares, which options are exercisable within
60 days from the date hereof. It excludes options to acquire 15,000
shares, which options are not exercisable within 60 days from the date
hereof.
(9) This figure includes 391,900 shares owned of record by the Company's
directors and executive officers as a group, and options to acquire
1,134,320 shares as a group, which options are exercisable within 60
days from the date hereof. This figure excludes options to acquire
229,638 shares as a group, which options are not exercisable within 60
days from the date hereof.
(10) The "D.L. Cromwell Group" consists of D.L. Cromwell LLC, a Florida
limited liability company ("Cromwell"), David Davidson ("Davidson") and
Lloyd Beirne ("Beirne"), as well as Lawrence and Connie Loscalzo (the
"Loscalzos"). Cromwell is a holding company for D.L. Cromwell
Investments, Inc., a registered broker-dealer engaged in the securities
business. Davidson and Beirne might be deemed to control Cromwell. The
Loscalzos are individuals and clients of D.L. Cromwell Investments,
Inc. Although Cromwell and the Loscalzos do not jointly own any
securities of the Company, they would likely act as a group in voting
their shares of the Company's common stock. The address of Cromwell and
Messrs. Davidson and Beirne is 1200 North Federal Highway, Boca Raton,
Florida 33432. The address of the Loscalzos is 1 Bouton Point, Lloyd
Harbor, New York 11743. The information disclosed by the Company about
Cromwell and the Loscalzos is based upon a Schedule 13D jointly filed
by Cromwell and the Loscalzos with the United States Securities and
Exchange Commission on October 3, 2001.
(11) To be read in conjunction with footnote (10) above, Cromwell
individually owns 321,229 shares of the Company's common stock, or 7.9%
of the Company, and the Loscalzos individually own 300,500 shares of
the Company's common stock, or 7.4% of the Company. Although Cromwell
and the Loscalzos do not jointly own any securities of the Company,
they would likely act as a group in voting their shares of the
Company's common stock.
(12) The address of Mr. John C. Lucy, Jr. is 4755 Liberty Road, Dolphin,
Virginia 23843.
(13) This figure includes 450,696 shares owned of record by Mr. Lucy Jr.,
the father of Mr. Lucy III, and options to acquire 125,000 shares,
which options are exercisable within 60 days from the date hereof. This
figure also includes 50,000 shares owned of record by Clary Lumber
Company, Inc., a North Carolina corporation ("Clary"), and warrants to
acquire 50,000 shares, which warrants are exercisable within 60 days
37
from the date hereof. Mr. Lucy Jr. owns two-thirds of Clary, with the
other one-third ownership shared between Mr. Lucy III and his sister.
This figure does not include beneficial ownership of Mr. Lucy III.
Together, Mr. Lucy Jr. (including Clary) and Mr. Lucy III own 682,793
shares of record and options and warrants to acquire 698,394 shares,
which options and warrants are exercisable within 60 days from the date
hereof, or 29.0% of the Company.
Item 13. Certain Relationships and Related Transactions
----------------------------------------------
The Lewis Management Group ("LMG"), a firm that provides manufacturing
consulting services to the Company, is partially owned by Robert L. Steiler, a
Director of the Company. Under a consulting agreement between LMG and the
Company, the Company paid LMG $25,000 per month from July 2000 through November
2000 and the Company paid LMG or Mr. Steiler directly for continued consulting
services $5,000 per month from December 2000 through June 2001. The total amount
paid by the Company to LMG and Mr. Steiler for consulting services, inclusive of
expenses, was $162,483 during fiscal year 2001.
The Lewis Management Group ("LMG") employed Mr. Ed Carr. Mr. Ed Carr
acted in the capacity for the Company as the Director of Manufacturing
Operations from July 2000 until June 2001. The Company began paying Integrated
Consulting Associates, Inc., which is Mr. Carr's consulting company, for his
consulting services directly beginning in December 2000 at the rate of $20,000
per month. The total amount paid by the Company to Integrated Consulting
Associates, Inc., inclusive of expenses, was $147,065 during fiscal year 2001.
Mr. Carr also received warrants for 10,000 shares on May 17, 2001 with a $3.09
exercise price. The company discontinued Mr. Carr's consulting services in
August 2001.
Clary Lumber Company, Inc., a North Carolina corporation ("Clary"),
which is owned by the family of John C. Lucy, Jr., a principal shareholder and
former Director of Pallet Management, and his son, John C. Lucy III, who is
Pallet Management's CEO, sold $2,285,000, $2,633,000 and $2,359,000 of pallets
and lumber to the Company during the fiscal years 2001, 2000 and 1999,
respectively. Lumber purchases from Clary amounted to 4.4%, 5.6% and 8% of the
Company's lumber purchases for fiscal years 2001, 2000 and 1999, respectively.
After procedures were performed by the Company's auditors at the request of the
Company for fiscal year 2000, the Company believes that these transactions were
made at prices comparable to vendors other than Clary in the ordinary course of
business.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
----------------------------------------------------------------
(a) Exhibits and Financial Statements and Schedules
(1) Financial Statements and Schedules:
See Attached.
(2) Exhibits:
See Exhibit Index.
(b) Reports on Form 8-K
None.
38
Exhibit Index
Exhibit No. Description
----------- -----------
3.1 Articles of Incorporation. (2)
3.2 Amendment to Articles of Incorporation filed June 7, 1985. (2)
3.3 Amendment to Articles of Incorporation filed July 10,1985. (2)
3.4 Amendment to Articles of Incorporation filed October 12, 1994. (2)
3.5 Amendment to Articles of Incorporation filed November 21, 1994. (2)
3.6 Amendment to Articles of Incorporation filed February 3, 1998. (3)
3.7 Amended and Restated By-Laws. (2)
4.1 Specimen Certificate of Common Stock. (2)
10.1 1997 Omnibus Stock Plan. (4)*
10.2 Employment Agreement between the Company and John C. Lucy, III. (6)*
10.3 Employment Agreement between the Company and Zachary M. Richardson. (6)*
10.5 1998 Omnibus Stock Plan. (5)*
21.1 Subsidiaries (2)
(1) Incorporated by reference to the Registrant's Current Report on Form 8-K
dated August 18,1999.
(2) Incorporated by reference to the Registrant's Annual Report on Form 10-KSB
for the fiscal year ended June 30, 1996.
(3) Incorporated by reference to the Registrant's Registration Statement on Form
SB-2 (file number 46245).
(4) Incorporated by referenced to the Annual Report on Form 10-K for the fiscal
year ended June 30, 1998.
(5) Incorporated by reference to the Registrant's Proxy Statement filed November
30, 1998.
(6) Incorporated by reference to the Registrant's Quarterly Report on Form
10-QSB for the period ended December 26, 1998.
*Management compensation plan or arrangement
39
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form
10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
PALLET MANAGEMENT SYSTEMS, INC.
Date: October 12, 2001 By: /s/ John C. Lucy III
--------------------
John C. Lucy III, CEO
In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the Registrant and in
the capacities and on the dates indicated:
Signature Title Date
--------- ----- ----
/s/ Zachary M. Richardson President and Director October 12, 2001
------------------------------------------------
Zachary M. Richardson
/s/ John C. Lucy, III Chief Executive Officer October 12, 2001
------------------------------------------------
John C. Lucy, III
/s/ Marc S. Steinberg Vice President of Finance, October 12, 2001
------------------------------------------------ Secretary and Treasurer (Principal
Marc S. Steinberg Financial and Accounting Officer)
Director October 12, 2001
------------------------------------------------
Philip D. Feltman
/s/ Alan P. Sklar Director October 12, 2001
------------------------------------------------
Alan P. Sklar
/s/ Ronald D. Shindler Director October 12, 2001
------------------------------------------------
Ronald D. Shindler
/s/ Robert S. Steiler Director October 12, 2001
------------------------------------------------
Robert S. Steiler
40
PALLET MANAGEMENT SYSTEMS, INC.
--------------------------------------------------------------------------------
AND SUBSIDIARIES
--------------------------------------------------------------------------------
FINANCIAL STATEMENTS
JUNE 30, 2001
REPORT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
Board of Directors and Stockholders
Pallet Management Systems, Inc.
We have audited the accompanying consolidated balance sheet of Pallet Management
Systems, Inc. and Subsidiaries as of June 30, 2001 and June 24, 2000, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the years ended June 30, 2001 (53 weeks), June 24, 2000 (52 weeks) and
June 26, 1999 (52 weeks). These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements 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
audits 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Pallet Management
Systems, Inc. and Subsidiaries as of June 30, 2001 and June 24, 2000, and the
results of their operations and their cash flows for the years ended June 30,
2001 (53 weeks), June 24, 2000 (52 weeks) and June 26, 1999 (52 weeks), in
conformity with accounting principles generally accepted in the United States.
Also, in our opinion, the related financial statement 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.
KAUFMAN, ROSSIN & CO.
Miami, Florida
August 24, 2001
F-1
Pallet Management Systems, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEET
June 30, 2001 and June 24, 2000
2001 2000
--------------- ---------------
ASSETS
CURRENT ASSETS
Cash $ 232,635 $ 577,052
Accounts receivable, net of allowance for doubtful accounts of $156,655
and $100,436 4,614,612 4,885,302
Inventories 2,041,489 2,259,110
Prepaid expenses 258,858 237,577
--------------- ---------------
Total current assets 7,147,594 7,959,041
Property, plant and equipment - net 5,640,355 4,407,092
Other assets 91,788 984,863
--------------- ---------------
Total assets $ 12,879,737 $ 13,350,996
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Current maturities of long-term debt $ 420,344 $ 1,190,138
Current portion of capital lease obligations 111,762 70,608
Accounts payable, including $17,392 and $108,923 to a related party 3,039,566 2,760,217
Accrued liabilities 509,952 814,077
--------------- ---------------
Total current liabilities 4,081,624 4,835,040
--------------- ---------------
LONG-TERM LIABILITIES
Long-term debt 5,420,261 5,414,685
Capital lease obligations 156,402 182,805
--------------- ---------------
Total long-term liabilities 5,576,663 5,597,490
--------------- ---------------
Total liabilities 9,658,287 10,432,530
--------------- ---------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Preferred stock, authorized 7,500,000 shares at $.001 par
value; no shares issued and outstanding - -
Common stock, authorized 100,000,000 shares at $.001 par
value; issued and outstanding 4,065,612 shares 4,066 4,066
Additional paid-in capital 7,269,556 7,269,556
Accumulated deficit (3,776,172) (4,079,156)
Notes receivable from stockholders (276,000) (276,000)
---------------- ----------------
Total stockholders' equity 3,221,450 2,918,466
--------------- ---------------
Total liabilities and stockholders' equity $ 12,879,737 $ 13,350,996
=============== ===============
The accompanying notes are an integral part of these statements.
F - 2
Pallet Management Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks)
and June 26, 1999 (52 Weeks)
2001 2000 1999
------------- -------------- ----------
Net sales $ 72,167,233 $ 62,445,175 $ 38,744,129
Cost of goods sold, including approximately
$2,455,000, $2,633,000 and $2,359,000 from a
related party 67,035,408 59,097,842 35,012,585
------------- -------------- -------------
Gross profit 5,131,825 3,347,333 3,731,544
------------- -------------- -------------
OPERATING EXPENSES
Provision for bad debts 142,134 95,436 6,857
Selling, general and administrative 4,178,585 4,803,655 2,937,498
------------- -------------- -------------
Total operating expenses 4,320,719 4,899,091 2,944,355
------------- -------------- -------------
Operating income (loss) 811,106 (1,551,758) 787,189
------------- --------------- -------------
Other income (expense)
Other income 41,655 84,629 64,521
Interest expense (528,078) (551,444) (332,818)
Other expense (21,699) (231,394) (2,744)
-------------- --------------- --------------
Other income (expense) (508,122) (698,209) (271,041)
-------------- --------------- --------------
Income (loss) before income taxes 302,984 (2,249,967) 516,148
Income taxes - - 21,381
------------- -------------- -------------
Net income (loss) $ 302,984 $ (2,249,967) $ 537,529
============= =============== =============
Earnings (loss) per common share:
Basic $ 0.07 $ (0.57) $ .15
============= =============== =============
Diluted $ 0.07 $ (0.57) $ .11
============= =============== =============
Shares used in computing earnings (loss) per common share:
Basic 4,065,612 3,981,199 3,582,195
============= ============== =============
Diluted 4,258,484 3,981,199 4,788,764
============= ============== =============
The accompanying notes are an integral part of these statements.
F - 3
Pallet Management Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks)
and June 26, 1999 (52 Weeks)
Notes
Common Stock Additional Receivable
----------------------------------- Paid-In From
Shares Amount Capital Stockholders
----------------- ----------------- ---------------- -----------------
Balance at June 27, 1998 2,342,034 $ 2,342 $ 4,526,340 $ -
Exercise of options and warrants 1,575,578 1,576 2,302,364 -
Options issued for services - - 130,000 -
Unrealized loss on available-for-sale
investments - - - -
Net income - - - -
----------------- ----------------- ---------------- -----------------
Balance at June 26, 1999 3,917,612 3,918 6,958,704 -
Exercise of options 138,000 138 275,862 (276,000)
Common stock issued for services 10,000 10 34,990 -
Sale of investments - - - -
Net loss - - - -
----------------- ----------------- ---------------- -----------------
Balance at June 24, 2000 4,065,612 4,066 7,269,556 (276,000)
Net income - - - -
----------------- ----------------- ---------------- -----------------
Balance at June 30, 2001 4,065,612 $ 4,066 $ 7,269,556 $ (276,000)
================= ================= ================ =================
[restubbed table]
Accumulated
Other
Accumulated Comprehensive
Deficit Income (1) Total
---------------- ----------------- ----------------
Balance at June 27, 1998 $ (2,366,718) $ 13,477 $ 2,175,441
Exercise of options and warrants - - 2,303,940
Options issued for services - - 130,000
Unrealized loss on available-for-sale
investments - (2,993) (2,993)
Net income 537,529 - 537,529
---------------- ----------------- ----------------
Balance at June 26, 1999 (1,829,189) 10,484 5,143,917
Exercise of options - - -
Common stock issued for services - - 35,000
Sale of investments - (10,484) (10,484)
Net loss (2,249,967) - (2,249,967)
---------------- ----------------- ----------------
Balance at June 24, 2000 (4,079,156) - 2,918,466
Net income 302,984 - 302,984
---------------- ----------------- ----------------
Balance at June 30, 2001 $ 3,776,172) $ - $ 3,221,450
================ ================= ================
(1) Consisting of unrealized gains on available-for-sale securities.
The accompanying notes are an integral part of these statements.
F - 4
Pallet Management Systems, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks)
and June 26, 1999 (52 Weeks)
2001 2000 1999
-------------- -------------- --------------
Cash flows from operating activities:
Net income (loss) $ 302,984 $ (2,249,967) $ 537,529
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization 654,133 602,230 524,371
Issuance of common stock and options for services - 35,000 130,000
Loss on disposal of property, plant and equipment 2,876 226,238 (29,826)
Bad debt expense 142,134 95,436 6,857
(Increase) decrease in operating assets:
Accounts receivable 128,556 (2,328,139) (967,629)
Inventories 217,621 (392,615) (691,149)
Prepaid expenses (21,281) (81,156) (690)
Other assets 12,596 12,989 (969,757)
Increase (decrease) in operating liabilities:
Accounts payable 279,349 1,636,702 529,991
Accrued liabilities (304,125) 300,421 106,896
Deferred income taxes - - (31,381)
-------------- -------------- ---------------
Net cash provided by (used in) operating
activities 1,414,843 (2,142,861) (854,788)
-------------- --------------- ---------------
Cash flows from investing activities:
Purchase of fixed assets (905,805) (1,119,333) (1,661,323)
Proceeds from sale of property, plant and equipment - 221,706 65,712
-------------- -------------- --------------
Net cash used in investing activities (905,805) (897,627) (1,595,611)
--------------- --------------- ---------------
Cash flows from financing activities:
Proceeds (repayments) under line of credit, net (1,342,305) 1,837,346 (171,998)
Proceeds from lenders 1,170,264 3,631,804 1,433,193
Repayments to lenders (681,414) (2,113,727) (1,253,785)
Exercise of options and warrants - - 2,303,940
-------------- -------------- --------------
Net cash provided by (used in) financing
activities (853,455) 3,355,423 2,311,350
-------------- -------------- --------------
Increase (decrease) in cash (344,417) 314,935 (139,049)
Cash at beginning of period 577,052 262,117 401,166
-------------- -------------- --------------
Cash at end of period $ 232,635 $ 577,052 $ 262,117
============== ============== ==============
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 498,344 $ 512,289 $ 315,803
============== ============== ==============
Income taxes $ - $ - $ -
============== ============== ==============
Schedule of non-cash investing and financing activities:
Capital lease obligations of $103,988, $78,896 and $191,024 were incurred
during the years ended June 30, 2001, June 24, 2000 and June 26, 1999,
respectively.
During the year ended June 30, 2001, $880,479 of deposits on machinery and
software costs were transferred to property and equipment.
In January 2000, stockholders of the Company issued notes receivable to the
Company in the aggregate amount of $276,000 for the exercise of stock
options.
The accompanying notes are an integral part of these statements.
F - 5
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the Company's significant accounting policies consistently
applied in the preparation of the accompanying consolidated financial
statements follows:
1. Nature of Operations
Pallet Management Systems, Inc. and Subsidiaries (the "Company"/"Pallet") is
principally engaged in the manufacture and repair of wooden pallets in
Virginia, Alabama, Illinois and Indiana. The Company's revenues are derived
primarily from the sale of new and used pallets. The Company's fiscal year
ends on the Saturday closest to June 30. Fiscal year 2001 included 53 weeks
and fiscal years 2000 and 1999 included 52 weeks.
2. Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries Pallet Recycling Technology,
Inc. ("PRTI"), Abell Lumber, Inc. ("Abell"), Pallet Systems-Lakeland, FL,
Inc., Pallet Management Systems of Alabama, Inc., Pallet Management Systems
of Illinois, Inc. and Pallet Management Systems of Indiana, Inc.
Intercompany balances and transactions are eliminated in consolidation.
3. Accounts Receivable
Trade receivable accounts are principally comprised of amounts due from
large distributors, national retail chains and major manufacturers. The
Company evaluates each account receivable balance to establish an estimate
for uncollectible accounts.
4. Inventories
Inventories, consisting of raw materials, work in process, and finished
goods, are stated at the lower of cost or market. Cost is determined by the
first-in, first-out method and includes costs of materials, direct and
indirect labor and overhead attributable to production.
5. Property, Plant and Equipment
Property, plant and equipment are stated at cost, net of accumulated
depreciation. Major renewals and improvements are capitalized. Repairs and
maintenance are expensed as incurred. Depreciation is computed by using the
straight-line method over the expected useful lives of the related assets
which are as follows:
Years
-----
Machinery and equipment 5 - 15
Vehicles 5 - 10
Buildings and improvements 7 - 40
Furniture and equipment 5 - 10
F-6
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
6. Estimates
In preparing financial statements in accordance with accounting principles
generally accepted in the United States, management makes estimates and
assumptions that affect the reported amounts and disclosures of assets and
liabilities at the date of the financial statements, as well as the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
The Company has recorded deferred tax assets of approximately $1,297,689 and
$1,433,000 at June 30, 2001 and June 24, 2000, respectively, which are
completely offset by valuation allowances. Realization of the deferred tax
asset is dependent on generating sufficient taxable income in the future.
The amount of the deferred tax asset considered realizable could change in
the near term if estimates of future taxable income are modified.
7. Income Taxes
The Company accounts for income taxes under the liability method. Deferred
tax assets and liabilities are recognized for future tax consequences
attributable to differences between the financial statements carrying
amounts of existing assets and liabilities and their respective tax bases.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled.
8. Earnings (Loss) Per Share
Basic earnings (loss) per common share is computed using the weighted
average number of shares outstanding during the period. Diluted earnings
(loss) per common and common equivalent share is computed using the weighted
average number of shares outstanding during the period adjusted for
incremental shares attributed to outstanding options and warrants to
purchase common stock of 192,872 and 1,206,569 for the years ended June 30,
2001 and June 26, 1999, respectively. For the year ended June 24, 2000,
outstanding stock options and warrants were not considered in the
calculation of diluted earnings (loss) per common and common equivalent
share as their effect would have been antidilutive. Securities that could
potentially dilute basic earnings per share in the future consist of
1,596,721 options to purchase common stock discussed in Note M, and 142,935
warrants outstanding to purchase common stock at $2.00 per share. The
warrants expire December 31, 2001.
9. Financial Instruments
Statement of Financial Accounting Standards No. 107 requires disclosure of
the estimated fair value of financial instruments. The carrying values of
cash, accounts receivable and accounts payable approximate fair value due to
the short-term maturities of these instruments. The carrying value of debt
approximates fair value due to the length of the maturities, the interest
rates being tied to market indices and/or due to the interest rates not
being significantly different from the current market rates available or
offered to the Company.
F-7
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
10. Stock Options (SFAS 123)
Options granted to employees under the Company's Stock Option Plan are
accounted for by using the intrinsic method under APB Opinion 25, Accounting
for Stock Issued to Employees (APB 25). In October 1995, the Financial
Accounting Standards Board issued Statement No. 123, Accounting for
Stock-Based Compensation (SFAS 123), which defines a fair value based method
of accounting for stock options. The accounting standards prescribed by SFAS
123 are optional and the Company has continued to account for stock options
under the intrinsic value method specified in APB 25. Pro forma disclosures
of net earnings and earnings per share have been made in accordance with
SFAS 123.
11. Concentration of Credit
The Company, from time to time, maintained deposits at financial
institutions in excess of federally insured limits. The Company is currently
monitoring amounts on deposit at the financial institutions.
12. Comprehensive Income
Comprehensive income is not reported in the accompanying consolidated
financial statements as it is not materially different from net income.
NOTE B - INVENTORIES
Inventories consisted of the following:
June 30, 2001 June 24, 2000
------------- -------------
Raw materials $ 1,333,846 $ 1,408,008
Work in process 454,991 549,858
Finished goods 252,652 301,244
--------------- ---------------
$ 2,041,489 $ 2,259,110
=============== ===============
F-8
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE C - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following:
June 30, 2001 June 24, 2000
------------- -------------
Machinery and equipment $ 6,654,079 $ 5,087,856
Building and improvements 1,623,000 1,623,000
Vehicles 541,709 575,160
Furniture and equipment 795,588 519,233
Land 136,044 136,044
--------------- ---------------
9,750,420 7,941,293
Less: accumulated depreciation
and amortization 4,110,065 3,534,201
--------------- ---------------
$ 5,640,355 $ 4,407,092
=============== ===============
Depreciation and amortization expense was $654,133, $602,230 and $524,371 in
2001, 2000 and 1999, respectively, and is included in "cost of goods sold"
and "selling, general and administrative" expenses in the accompanying
consolidated financial statements. Property, plant and equipment at June 30,
2001 and June 24, 2000 included assets recorded under capital leases and
related accumulated amortization of approximately $467,000 and $104,000, and
$363,000 and $61,000, respectively. Amortization expense related to assets
under capital leases was approximately, $43,000, $38,000 and $23,000 in
2001, 2000 and 1999, respectively.
NOTE D - OTHER ASSETS
Other assets consisted of the following:
June 30, 2001 June 24, 2000
------------- -------------
Deposits on machinery $ - $ 647,213
Software costs - in process - 233,266
Security deposits 84,463 97,059
Other 7,325 7,325
--------------- ---------------
$ 91,788 $ 984,863
=============== ===============
F-9
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE E - INCOME TAXES
The income tax benefit consisted of the following:
Years Ended
-------------------------------------------------------------
June 30, 2001 June 24, 2000 June 26, 1999
------------------ ----------------- -----------------
Current:
Federal $ - $ - $ -
State - - 10,000
------------------ ----------------- -----------------
- - 10,000
------------------ ----------------- -----------------
Deferred:
Federal (123,107) (759,622) (256,455)
State (11,952) (80,784) (20,205)
Change in valuation allowance 135,059 840,406 245,279
------------------ ----------------- -----------------
- - (31,381)
------------------ ----------------- -----------------
$ - $ - $ (21,381)
================== ================= =================
Deferred income taxes were recognized in the consolidated balance sheets due
to the tax effect of temporary differences and loss carryforwards as
follows:
June 30, 2001 June 24, 2000
------------- -------------
Deferred tax assets:
Net operating loss carryforwards $ 1,678,315 $ 1,657,639
Other 106,590 87,317
------------------ -----------------
1,784,905 1,744,956
Deferred tax liabilities:
Depreciation 487,216 312,208
------------------ -----------------
Net deferred tax asset 1,297,689 1,432,748
Less valuation allowance 1,297,689 1,432,748
------------------ -----------------
$ - $ -
================== =================
The major elements contributing to the difference between the income tax
benefit and the amount computed by applying the federal statutory tax rate
to income (loss) before income taxes are as follows:
Years Ended
-------------------------------------------------------------
June 30, 2001 June 24, 2000 June 26, 1999
------------------ ----------------- -----------------
Statutory rate $ 103,015 $ (764,989) $ 175,490
State income taxes 11,962 (80,784) 30,205
Change in valuation allowance (135,059) 840,406 (245,279)
Permanent differences and other 20,082 5,367 18,203
------------------ ----------------- -----------------
$ - $ - $ (21,381)
================== ================ =================
F-10
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE E - INCOME TAXES - Continued
As of June 30, 2001, the Company had net operating loss carryforwards of
approximately $4,460,044 which expire in various years through June 2021.
Approximately $976,000 of these net operating losses are subject to
substantial restrictions imposed under the change in ownership and separate
return limitation year rules.
NOTE F - LONG-TERM DEBT
2001 2000
------------- --------------
$5,000,000 revolving credit agreement with a bank. Interest is paid monthly
at the bank's prime rate or at the borrower's election LIBOR plus 2.75%. As
of June 30, 2001 interest was being charged at 6.75%, the bank's prime rate.
The line is collateralized by substantially all the assets of the Company,
and expires in March 2003 at which time all principal and accrued interest
is due. Advances are based on 85% of eligible accounts receivable and 55% of
eligible inventories, as defined, less certain other outstanding obligations. $ 1,904,405 $ 3,246,711
Bank note payable in monthly installments of approximately $21,000 plus
interest at the bank's prime rate plus .25% or at the borrower's election
LIBOR plus 3.0%, through March 2003. As of June 30, 2001 interest was being
charged at 7.00%, the bank's prime rate plus .25%. The note is
collateralized by substantially all the assets of the Company. 1,517,500 1,777,642
Bank note payable in monthly installments of $11,567 plus interest at the
bank's prime rate plus .25% or at the borrower's election LIBOR plus 3.00%,
through March 2003. As of June 30, 2001 interest was being charged at 7.00%,
the bank's prime rate plus .25%. The note is collateralized by
substantially all the assets of the Company. 1,226,067 1,364,867
Bank note payable in monthly installments of $17,188 plus interest at the
bank's prime rate plus .25% or at the borrower's election LIBOR plus 3.00%,
through March 2003. As of June 30, 2001 interest was being charged at 7.00%,
the bank's prime rate plus .25%. The note is collateralized by
substantially all the assets of the Company. 1,031,297 -
Industrialized development notes payable in quarterly installments of
$3,381, including interest at 5.25%, maturing October 2017 and
uncollateralized. 145,711 153,810
Notes payable in monthly installments of $440 to $3,343, including interest
ranging from 8% to 16%, collateralized by equipment and vehicles,
maturing at various dates through February 2002. 15,625 55,765
Note payable in monthly installments of $594, including interest of 16%,
collateralized by equipment and vehicles, maturing in May 2001. - 6,028
------------- -------------
Total debt 5,840,605 6,604,823
Less: current maturities of long-term debt 420,344 1,190,138
------------- -------------
Long-term debt $ 5,420,261 $ 5,414,685
============= =============
F-11
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE F - LONG-TERM DEBT - Continued
The revolving credit agreement and bank notes payable are subject to certain
restrictive covenants including, but not limited to, minimum tangible net
worth and interest and debt service coverage ratios, as defined. The
agreement also provides restrictions as to the payment of dividends.
Interest expense for the years ended June 30, 2001, June 24, 2000 and June
26, 1999 amounted to $528,078, $551,444 and $332,818, respectively, and is
included in other expense in the accompanying consolidated statements of
income.
Scheduled maturities of long-term debt for years subsequent to June 30, 2001
are as follows:
2002 $ 420,344
2003 5,286,417
2004 6,427
2005 6,781
2006 7,155
Thereafter 113,481
-------------
$ 5,840,605
=============
NOTE G - CAPITAL LEASE OBLIGATIONS
Minimum future annual lease payments under capital leases as of June 30,
2001, in the aggregate, are as follows:
2002 $ 130,770
2003 120,010
2004 46,927
-------------
Total minimum future lease payments 297,707
Less: imputed interest 29,543
-------------
Present value of future minimum lease payments 268,164
Less: current portion of capital lease obligations 111,762
-------------
Long-term portion of capital lease obligations $ 156,402
=============
NOTE H - ACCRUED LIABILITIES
Accrued liabilities consisted of the following:
June 30, 2001 June 24, 2000
------------- -------------
Accrued compensation $ 154,998 $ 217,627
Other accrued liabilities 354,954 596,450
--------------- ---------------
$ 509,952 $ 814,077
=============== ===============
F-12
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE I - COMMITMENTS
1. Operating Leases
The Company leases manufacturing facilities, office space, equipment and
vehicles under non-cancelable operating leases. The following is a schedule,
by years, of the minimum rental commitments remaining on leased property and
equipment:
2002 $ 1,023,439
2003 964,187
2004 719,140
2005 88,230
2006 22,285
---------------
Total $ 2,817,281
===============
Total rent expense was approximately $999,000, $1,030,000 and $530,000 for
the years ended June 30, 2001, June 24, 2000 and June 26, 1999,
respectively.
NOTE J - RELATED PARTY TRANSACTIONS
The Company paid approximately $76,000 during the year ended June 26, 1999,
to Clary Lumber Co. (Clary), an entity owned by an officer and former
directors of the Company, for compensation of certain employees who perform
services for both Clary and the Company.
The Company purchased approximately $2,455,000, $2,633,000 and $2,359,000 of
lumber and pallets from Clary during the years ended June 30, 2001, June 24,
2000 and June 26, 1999, respectively. Lumber purchases from Clary amounted
to approximately 4%, 6% and 8% of the Company's lumber purchases for the
years ended June 30, 2001, June 24, 2000 and June 26, 1999, respectively.
NOTE K - EMPLOYMENT AND CONSULTING AGREEMENTS
The Company has employment agreements with two senior executives that
provide for, among other things, annual compensation totaling $312,000, a
bonus based on diluted earnings per share, stock appreciation rights to vest
upon a change of control, as defined, and stock options to be granted
annually. The agreements are cancellable by the Company upon 30 days written
notice to the executives and payment of requisite compensation and expire on
October 31, 2003.
NOTE L - STOCKHOLDERS' EQUITY
In January 2000, the Company loaned two officers an aggregate of $276,000 to
exercise options to purchase an aggregate of 138,000 shares of common stock.
The loans bear interest at 5% per annum, with interest payment due annually
and principal due the earlier of January 12, 2003 or upon registering the
shares and are collateralized by mature shares of stock previously owned by
the stockholders. The loans receivable are recorded as a separate component
of stockholders' equity in the accompanying balance sheet.
F-13
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE M - STOCK BASED COMPENSATION
In April 1997 and September 1998, the Company established Stock Option Plans
which authorize the Company to issue options to employees, directors and
outside consultants of the Company. The issuance and form of the options
shall be at the discretion of the Company's board of directors, except that
the exercise price may not be less than 85% of the fair market value at the
time of grant. The options vest over a four year period and expire in ten
years or three months after separation of service, whichever occurs earlier.
The Company has elected to follow Accounting Principles Board Opinion No. 25
"Accounting for Stock Issued to Employees" (APB 25") in accounting for its
employees stock options. Under APB 25, because the exercise price of the
Company's employee stock options issued was greater than the market price of
the underlying stock on the date of grant, no compensation expense was
recognized.
Statement of Financial Accounting Standards No. 123 "Accounting for
Stock-based Compensation," ("SFAS No. 123") requires the Company to provide
proforma information regarding net income (loss) and earnings (loss) per
common share as if compensation cost for the Company's Stock Option plan had
been determined in accordance with the fair value based method prescribed in
SFAS No. 123. The Company estimated the fair value of each stock option on
the date of grant by using the Black-Scholes pricing model with the
following assumptions: expected volatility of 75%; expected life of the
option of 75% of the stated life for 10 year options and the stated life for
all others; no dividends; and a risk free interest rate of approximately 4%.
Under the accounting provisions of SFAS No. 123, the Company's net income
(loss) and basic and diluted earnings (loss) per common share for the years
ended June 30, 2001, June 24, 2000 and June 26, 1999 would have been
approximately $6,000, $0.00 and $0.00, ($2,497,000), ($0.63) and ($0.63) and
$294,000, $.08 and $.06, respectively.
A summary of the Company's stock option activity, and related information
for the years ended June 30, 2001, June 24, 2000 and June 26, 1999, is as
follows:
# of Weighted Average
Options Exercise Price
------- --------------
Outstanding June 27, 1998 1,231,107 $ 1.84
Granted 322,780 5.20
Exercised - -
Forfeited 6,701 2.00
--------- --------
Outstanding June 26, 1999 1,547,186 $ 2.56
Granted 240,709 4.06
Exercised 138,000 2.00
Forfeited 307,696 3.66
--------- --------
Outstanding June 24, 2000 1,342,199 $ 2.63
F-14
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE M - STOCK BASED COMPENSATION (Continued)
Granted 360,657 2.47
Exercised - -
Forfeited 106,135 4.30
--------------- ---------------
Outstanding June 30, 2001 1,596,721 $ 2.48
=============== ===============
Exercisable at June 30, 2001 1,194,516 $ 2.20
=============== ===============
The weighted-average fair value of options granted during the years ended June
30, 2001, June 24, 2000 and June 26, 1999 was $1.36, $2.84 and $1.87,
respectively.
Exercise prices for options outstanding as of June 30, 2001 ranged from $1.50 to
$5.25. The weighted average remaining contractual life of these options is as
follows:
Weighted Average
Exercise # of Weighted Average Remaining
Price Options Exercise Price Contractual Life
------------------- ---------------- ------------------- --------------------
$1.50 - $3.01 1,336,039 $1.97 3.17
$5.00 - $5.25 260,682 $5.10 7.54
NOTE N - SIGNIFICANT CUSTOMERS
The Company entered into three multi-year manufacturing agreements each
covering a specific operating location with a significant customer, which
provide for, among other things, minimum purchase commitments. The
agreements are for initial terms expiring during 2001 through 2003 and
automatically continue in effect from year to year for successive one year
renewal terms unless cancelled in writing by either party at least 180 days
prior to the expiration date. The contracts with the Illinois and Indiana
facilities expire in April 2002 and March 2003, respectively. The Illinois
and Indiana facilities accounted for approximately $19,600,000 and
$26,300,000, respectively in net revenues for the year ended June 30, 2001.
The Company has received notification from the significant customer of their
intent to cancel the contract with the Alabama facility effective September
2001. The Company is currently winding-down operations at the Alabama
facility and anticipates closing the facility in fiscal year 2002. For the
year ended June 30, 2001, the Alabama facility accounted for approximately
$14,900,000 in net revenues.
Sales to this significant customer represented approximately 86%, 83% and
75% of net sales for the years ended June 30, 2001, June 24, 2000 and June
26, 1999, respectively. At June 30, 2001 and June 24, 2000 two customers
accounted for approximately 88% and 80% of trade accounts receivable,
respectively, with one customer accounting for approximately 78% and 66%,
respectively.
F-15
Pallet Management Systems, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks) and June 26, 1999 (52 Weeks)
NOTE O - PENSION AND PROFIT SHARING PLAN
The Company has a salary reduction / profit-sharing plan under the
provisions of Section 401(k) of the Internal Revenue Code. The Plan covers
all full-time employees who have completed one year of service with the
Company. The Company's contributions to the plan are made at the discretion
of the Board of Directors and amounted to approximately $50,000, $40,000 and
$23,000 for the years ended June 30, 2001, June 24, 2000 and June 26, 1999,
respectively.
NOTE P - CONTINGENCY
In June 1999, the Company was named as a co-defendant in a lawsuit whereby
the plaintiff is alleging damages of up to $300,000 related to lost income
from a facility formerly leased to the Company in Jessup, Maryland.
Management believes the claim is without merit and intends to vigorously
contest the claim. The outcome of the action as well as the extent of the
Company's liability, if any, can not be determined at this time.
NOTE Q - QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
Quarterly financial information for the years ended June 30, 2001 and June
24, 2000 is summarized below (in thousands except per share amounts):
First Quarter Second Quarter Third Quarter Four Quarter
------------------- ------------------- ------------------- ------------------
2001
Net sales $ 19,474 $ 21,610 $ 12,374 $ 18,709
Gross profit 1,240 1,603 781 1,508
Net income (loss) 55 256 (104) 96
Basic earnings (loss) per
common share 0.01 0.06 (0.03) 0.02
Diluted earnings (loss) per
common share 0.01 0.06 (0.03) 0.02
2000
Net sales $ 12,278 $ 17,817 $ 14,155 $ 18,195
Gross profit (215) 900 778 1,884
Net income (loss) (1,697) (423) (178) 48
Basic earnings (loss) per
common share (0.43) (0.11) (0.04) 0.01
Diluted earnings (loss) per
common share (0.43) (0.11) (0.04) 0.01
F-16
Pallet Management Systems, Inc. and Subsidiaries
SCHEDULE II - VALUATION AND QUALIFY ACCOUNTS
Years Ended June 30, 2001 (53 Weeks), June 24, 2000 (52 Weeks)
and June 26, 1999 (52 Weeks)
Balance
Beginning Charged to Costs Balance End
of Year and Expenses Deductions of Year
-------------- -------------- -------------- --------------
Allowance for doubtful accounts:
June 30, 2001 $ 100,436 $ 142,134 $ (85,915) $ 156,655
June 24, 2000 5,000 95,436 - 100,436
June 26, 1999 15,000 6,857 (16,857) 5,000
F-17