Appliance Recycling Centers of America (ARCI)

 
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Appliance Recycling Centers of America 10-Q 2009

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x

 

Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

 

 

For the quarterly period ended April 4, 2009

 

or

 

 

 

o

 

Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission File No. 0-19621

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

(Exact name of registrant as specified in its charter)

 

Minnesota

 

41-1454591

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

 

 

7400 Excelsior Boulevard, Minneapolis, Minnesota

 

55426-4517

(Address of principal executive offices)

 

(Zip Code)

 

 

 

952-930-9000

(Registrant’s telephone number, including area code)

 

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.   x Yes  o No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such file).   o Yes  o No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

 

 

 

Non-accelerated filer o

 

Smaller reporting company x

(Do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  o Yes  x No

 

As of May 11, 2009, there were outstanding 4,577,777 shares of the registrant’s Common Stock, without par value.

 

 

 



Table of Contents

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

INDEX TO FORM 10-Q

 

 

 

Page

 

 

 

PART I. FINANCIAL INFORMATION

 

 

 

 

Item 1.

Financial Statements

3

 

 

 

 

Consolidated Balance Sheets as of April 4, 2009 (unaudited) and January 3, 2009

3

 

 

 

 

Unaudited Consolidated Statements of Operations for the Three Months Ended April 4, 2009 and March 29, 2008

4

 

 

 

 

Unaudited Consolidated Statements of Cash Flows for the Three Months Ended April 4, 2009 and March 29, 2008

5

 

 

 

 

Notes to Unaudited Consolidated Financial Statements

6

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

15

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

20

 

 

 

Item 4.

Controls and Procedures

21

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

Item 1.

Legal Proceedings

21

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

22

 

 

 

Item 3.

Defaults Upon Senior Securities

22

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

22

 

 

 

Item 5.

Other Information

22

 

 

 

Item 6.

Exhibits

22

 

 

 

SIGNATURES

23

 

2



Table of Contents

 

PART I.                 FINANCIAL INFORMATION

 

Item 1.                    Financial Statements

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

CONSOLIDATED BALANCE SHEETS

(In Thousands)

 

 

 

April 4,

 

January 3,

 

 

 

2009

 

2009

 

 

 

(unaudited)

 

 

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

1,732

 

$

3,498

 

Accounts receivable, net of allowance of $331 and $292, respectively

 

4,587

 

6,056

 

Inventories, net of reserves of $300 and $115, respectively

 

16,750

 

18,834

 

Other current assets

 

741

 

950

 

Deferred income taxes

 

448

 

448

 

Total current assets

 

24,258

 

29,786

 

Property and equipment, net

 

6,902

 

6,967

 

Deferred income taxes

 

174

 

177

 

Other assets

 

495

 

485

 

Total assets

 

$

31,829

 

$

37,415

 

 

 

 

 

 

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

4,344

 

$

4,473

 

Checks issued in excess of cash in bank

 

85

 

 

Accrued expenses

 

3,980

 

4,073

 

Line of credit

 

11,381

 

14,527

 

Current maturities of long-term obligations

 

446

 

579

 

Income taxes payable

 

31

 

362

 

Total current liabilities

 

20,267

 

24,014

 

 

 

 

 

 

 

Long-term obligations, less current maturities

 

4,966

 

4,892

 

Deferred income tax liabilities

 

519

 

520

 

Total liabilities

 

25,752

 

29,426

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

Shareholders’ equity:

 

 

 

 

 

Common Stock, no par value; 10,000 shares authorized; issued and outstanding: 4,578 shares

 

16,373

 

16,221

 

Accumulated deficit

 

(9,891

)

(7,929

)

Accumulated other comprehensive loss

 

(405

)

(303

)

Total shareholders’ equity

 

6,077

 

7,989

 

Total liabilities and shareholders’ equity

 

$

31,829

 

$

37,415

 

 

See Notes to Consolidated Financial Statements.

 

3



Table of Contents

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS

(In Thousands, Except Per Share Amounts)

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Revenues:

 

 

 

 

 

Retail

 

$

20,940

 

$

18,858

 

Recycling

 

4,562

 

5,944

 

Byproduct

 

656

 

900

 

Total revenues

 

26,158

 

25,702

 

 

 

 

 

 

 

Costs of revenues

 

19,829

 

17,641

 

Gross profit

 

6,329

 

8,061

 

Selling, general and administrative expenses

 

8,011

 

7,454

 

Operating income (loss)

 

(1,682

)

607

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest expense, net

 

(319

)

(397

)

Other income, net

 

24

 

 

Income (loss) from continuing operations before income taxes

 

(1,977

)

210

 

Benefit from income taxes

 

(15

)

(117

)

Income (loss) from continuing operations

 

(1,962

)

327

 

Loss from discontinued operations, net of tax

 

 

(210

)

Net income (loss)

 

$

(1,962

)

$

117

 

 

 

 

 

 

 

Basic income (loss) per share:

 

 

 

 

 

Continuing operations

 

$

(0.43

)

$

0.07

 

Discontinued operations

 

 

(0.04

)

Net income (loss)

 

$

(0.43

)

$

0.03

 

 

 

 

 

 

 

Diluted income (loss) per share:

 

 

 

 

 

Continuing operations

 

$

(0.43

)

$

0.07

 

Discontinued operations

 

 

(0.04

)

Net income (loss)

 

$

(0.43

)

$

0.03

 

 

 

 

 

 

 

Weighted average number of shares outstanding:

 

 

 

 

 

Basic

 

4,578

 

4,556

 

Diluted

 

4,578

 

4,624

 

 

See Notes to Consolidated Financial Statements.

 

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Table of Contents

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In Thousands)

 

 

 

Three Months Ended

 

 

 

April 4,

 

March 29,

 

 

 

2009

 

2008

 

Operating activities

 

 

 

 

 

Net income (loss)

 

$

(1,962

)

$

117

 

Adjustments to reconcile net income (loss) to net cash and cash equivalents provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

317

 

267

 

Provision for bad debts

 

38

 

 

Share-based compensation

 

152

 

78

 

Loss on disposal of assets

 

2

 

 

Changes in assets and liabilities:

 

 

 

 

 

Accounts receivable

 

1,431

 

4,397

 

Inventories

 

2,084

 

(707

)

Other current assets

 

209

 

325

 

Other assets

 

(7

)

10

 

Accounts payable and accrued expenses

 

(222

)

(3,066

)

Income taxes payable

 

(331

)

(206

)

Net cash flows provided by operating activities

 

1,711

 

1,215

 

 

 

 

 

 

 

Investing activities

 

 

 

 

 

Purchases of property and equipment

 

(154

)

(173

)

Net cash flows used in investing activities

 

(154

)

(173

)

 

 

 

 

 

 

Financing activities

 

 

 

 

 

Checks issued in excess of cash in bank

 

85

 

(235

)

Net payments under line of credit

 

(3,146

)

(1,813

)

Payments on long-term obligations

 

(159

)

(94

)

Proceeds from stock option exercises

 

 

201

 

Net cash flows used in financing activities

 

(3,220

)

(1,941

)

 

 

 

 

 

 

Effect of changes in exchange rate on cash and cash equivalents

 

(103

)

(25

)

 

 

 

 

 

 

Decrease in cash and cash equivalents

 

(1,766

)

(924

)

Cash and cash equivalents at beginning of period

 

3,498

 

2,777

 

Cash and cash equivalents at end of period

 

$

1,732

 

$

1,853

 

 

 

 

 

 

 

Supplemental disclosures of cash flow information

 

 

 

 

 

Cash payments for interest

 

$

320

 

$

397

 

Cash payments for income taxes, net

 

$

311

 

$

78

 

 

 

 

 

 

 

Non-cash investing and financing activities

 

 

 

 

 

Equipment acquired under capital lease

 

$

100

 

$

173

 

 

See Notes to Consolidated Financial Statements.

 

5



Table of Contents

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

(In Thousands, Except Per Share Amounts)

 

1.              Nature of Business and Basis of Presentation

 

Appliance Recycling Centers of America, Inc. and Subsidiaries (“we,” the “Company” or “ARCA”) are in the business of selling new major household appliances through a chain of Company-owned factory outlet stores under the name ApplianceSmart®.  We also provide turnkey appliance recycling services for electric utilities and other sponsors of energy efficiency programs.

 

The accompanying unaudited consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and Article 8 of Regulation S-X promulgated by the United States Securities and Exchange Commission (the “SEC”).  Accordingly, they do not include all of the information and notes required by GAAP for complete financial statements.  In the opinion of management, normal and recurring adjustments and accruals considered necessary for a fair presentation for the periods indicated have been included.  Operating results for the three-month periods ended April 4, 2009 and March 29, 2008 are presented using 13-week periods.  The results of operations for any interim period are not necessarily indicative of the results for the year.

 

These financial statements should be read in conjunction with the Company’s audited consolidated financial statements and related notes thereto for the year ended January 3, 2009 included in the Company’s Form 10-K filed with the SEC on March 20, 2009.

 

Principles of consolidation:  The consolidated financial statements include the accounts of Appliance Recycling Centers of America, Inc. and our subsidiaries.  All significant intercompany accounts and transactions have been eliminated in consolidation.

 

ARCA Canada Inc., a Canadian corporation, is a wholly-owned subsidiary.  ARCA Canada was formed in September 2006 to provide turnkey recycling services for electric utility energy efficiency programs.  The operating results of ARCA Canada are consolidated in our financial statements.

 

We were a sixty percent owner in North America Appliance Company, LLC (“NAACO”).  NAACO was formed and commenced operations in June 2003 and was a retailer of special-buy appliances in Texas.  The operating results of NAACO are consolidated in our financial statements.

 

We were a sixty percent owner in Productos Duraderos de Norte America (“PDN”), a Mexican corporation.  PDN was acquired in September 2006 and refurbished room air conditioners for sale through our NAACO operation in McAllen, Texas, and through our ApplianceSmart Factory Outlet stores.  The operating results of PDN are consolidated in our financial statements.

 

Discontinued operations:  During the fourth quarter of 2008, we planned and executed the shutdown of our NAACO and PDN businesses.  NAACO and PDN were not operating as planned and were no longer economically viable.

 

Reclassifications:  Certain prior year items have been reclassified to conform to current year presentation.  We reclassified the results of our discontinued operations below income (loss) from continuing operations in the consolidated statements of operations.  In Note 10 to “Notes to Consolidated Financial Statements,” we reclassified certain assets and operating income items between our retail, recycling and unallocated corporate segments.

 

2.              Recent Accounting Pronouncements

 

In May 2008, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 162, The Hierarchy of Generally Accepted Accounting Principles.  This standard is intended to improve

 

6



Table of Contents

 

financial reporting by identifying a consistent framework, or hierarchy, for selecting accounting principles to be used in preparing financial statements that are presented in conformity with generally accepted accounting principles in the United States for non-governmental entities.  SFAS No. 162 is effective 60 days following approval by the SEC of the Public Company Accounting Oversight Board’s amendments to AU Section 411, The Meaning of Present Fairly in Conformity with Generally Accepted Accounting Principles.  We do not expect SFAS No. 162 to have a material impact on the preparation of our consolidated financial statements.

 

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities.  SFAS No. 161 is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance and cash flows.  SFAS No. 161 also improves transparency about the location and amounts of derivative instruments in an entity’s financial statements; how derivative instruments and related hedged items are accounted for under SFAS No. 133; and how derivative instruments and related hedged items affect its financial position, financial performance and cash flows.  SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged.  The adoption of SFAS No. 161 did not have a material effect on our results of operations or financial position.

 

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51.  This statement establishes accounting and reporting standards for noncontrolling interests in subsidiaries and for the deconsolidation of subsidiaries and clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements.  This statement also requires expanded disclosures that clearly identify and distinguish between the interests of the parent owners and the interests of the noncontrolling owners of a subsidiary.  SFAS No.160 is effective for fiscal years beginning on or after December 15, 2008.  The adoption of SFAS No. 160 did not have a material effect on our results of operations or financial position.

 

In December 2007, the FASB issued SFAS No. 141 (Revised 2007), Business Combinations.  While this statement retains the fundamental requirement of SFAS No. 141 that the acquisition method of accounting (which SFAS No. 141 called the purchase method) be used for all business combinations, SFAS No. 141 (Revised 2007) now establishes the principles and requirements for how an acquirer in a business combination: recognizes and measures in its financial statements, the identifiable assets acquired, the liabilities assumed, and any noncontrolling interests in the acquiree; recognizes and measures the goodwill acquired in the business combination or the gain from a bargain purchase; and determines what information should be disclosed in the financial statements to enable users of the financial statements to evaluate the nature and financial effects of the business combination.  SFAS No. 141 (Revised 2007) is effective for fiscal years beginning on or after December 15, 2008.  The adoption of SFAS No. 141 (Revised 2007) did not have a material effect on our results of operations or financial position.

 

3.     Significant Accounting Policies

 

Trade receivables:  We carry unsecured trade receivables at the original invoice amount less an estimate made for doubtful accounts based on a monthly review of all outstanding amounts.  Management determines the allowance for doubtful accounts by regularly evaluating individual customer receivables and considering a customer’s financial condition, credit history and current economic conditions.  We write off trade receivables when we deem them uncollectible.  We record recoveries of trade receivables previously written off when we receive them.  We consider a trade receivable to be past due if any portion of the receivable balance is outstanding for more than ninety days.  We do not charge interest on past due receivables.  Our management considers the allowance for doubtful accounts of $331 and $292 to be adequate to cover any exposure to loss as of April 4, 2009 and January 3, 2009, respectively.

 

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Table of Contents

 

Inventories:  Inventories, consisting principally of appliances, are stated at the lower of cost, determined on a specific identification basis, or market and consist of:

 

 

 

April 4,
2009

 

January 3,
2009

 

Finished goods

 

$

17,050

 

$

18,949

 

Less provision for inventory obsolescence

 

(300

)

(115

)

 

 

$

16,750

 

$

18,834

 

 

We provide estimated provisions for the obsolescence of our appliance inventories, including adjustments to market, based on various factors, including the age of such inventory and our management’s assessment of the need for such provisions.  We look at historical inventory agings and margin analysis in determining our provision estimate.

 

Property and equipment:  Property and equipment consists of the following:

 

 

 

April 4,
2009

 

January 3,
2009

 

Land

 

$

2,050

 

$

2,050

 

Buildings and improvements

 

5,273

 

5,249

 

Equipment (including computer software)

 

9,383

 

9,161

 

 

 

16,706

 

16,460

 

Less accumulated depreciation and amortization

 

(9,804

)

(9,493

)

 

 

$

6,902

 

$

6,967

 

 

Software development costs:  We capitalize software developed for internal use in accordance with Statement of Position 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use, and are amortizing such costs over their estimated useful lives of three to five years.  Costs capitalized were $103 and $34 for the three months ended April 4, 2009 and March 29, 2008, respectively.

 

Impairment of long-lived assets:  We evaluate long-lived assets such as property and equipment for impairment whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable.  We assess impairment based on the estimated future net undiscounted cash flows expected to result from the use of the assets, including cash flows from disposition.  Should the sum of the expected future net cash flows be less than the carrying value, we recognize an impairment loss at that time.  We measure an impairment loss by comparing the amount by which the carrying value exceeds the fair value (estimated discounted future cash flows or appraisal of assets) of the long-lived assets.  We recognized no impairment charges during the three months ended April 4, 2009 and March 29, 2008.

 

Deferred financing fees:  Deferred financing fees are presented in the consolidated balance sheets as a component of other assets and are reported net of accumulated amortization.  We record amortization expense on a straight-line basis over the term of the underlying debt.  Deferred financing fees, net of accumulated amortization, were $35 and $38 as of April 4, 2009 and January 3, 2009, respectively.

 

Product warranty:  We provide a warranty for the replacement or repair of certain defective units which varies based on the product sold.  Our standard warranty policy requires us to repair or replace certain defective units at no cost to our customers.  We estimate the costs that may be incurred under our warranty and record an accrual in the amount of such costs at the time we recognize product revenue.  Factors that affect our warranty accrual for covered units include the number of units sold, historical and anticipated rates of warranty claims on these units, and the cost of such claims.  We periodically assess the adequacy of our recorded warranty accrual and adjust the amounts as necessary.

 

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Table of Contents

 

Changes in our warranty accrual are as follows:

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Beginning Balance

 

$

91

 

$

80

 

Standard accrual based on units sold

 

19

 

26

 

Actual costs incurred

 

(4

)

(1

)

Periodic accrual adjustments

 

(25

)

(18

)

Ending Balance

 

$

81

 

$

87

 

 

Share-based compensation:  We account for share-based compensation in accordance with SFAS No. 123 (revised 2004), Share Based Payment, using the modified prospective method.  Under this method, we recognize compensation expense on a straight-line basis over the vesting period for all share-based awards granted.  We use the Black-Scholes option pricing model to determine the fair value of awards at the grant date.  We calculate the expected volatility for stock option awards using historical volatility.  We estimate a 0%-5% forfeiture rate for stock options issued to all employees and Board of Directors members, but will continue to review these estimates in future periods.  The risk-free rates for the expected terms of the stock options are based on the U.S. Treasury yield curve in effect at the time of the grant.  The expected life represents the period that the stock option awards are expected to be outstanding.  The expected dividend yield is zero as we have not paid or declared any cash dividends on our Common Stock.  Based on these valuations, we recognized share-based compensation expense of $152 and $78 for the three months ended April 4, 2009 and March 29, 2008, respectively.  We estimate that the remaining expense for fiscal 2009 and beyond will be approximately $375 and $120, respectively, based on the value of options outstanding as of April 4, 2009.  This estimate does not include any expense for additional options that may be granted and vest during 2009.

 

Comprehensive income:  We report comprehensive income or loss in accordance with the provisions of SFAS No. 130, Reporting Comprehensive Income.  SFAS No. 130 establishes standards for the reporting and display of comprehensive income and its components.  Other comprehensive income refers to revenues, expenses, gains and losses that under generally accepted accounting principles are included in comprehensive income but are excluded from net income as these amounts are recorded directly as an adjustment to shareholders’ equity.  Our other comprehensive loss is comprised of foreign currency translation adjustments.  The effect of the foreign currency translation adjustments, net of tax, was a loss of $102 and $25 for the three months ended April 4, 2009 and March 29, 2008, respectively.

 

Basic and diluted income (loss) per share:  We calculate income (loss) per share in accordance with SFAS No. 128, Earnings Per Share (SFAS 128).  Basic income (loss) per share is computed based on the weighted average number of common shares outstanding.  Diluted income (loss) per share is computed based on the weighted average number of common shares outstanding adjusted by the number of additional shares that would have been outstanding had the potentially dilutive common shares been issued.  Potentially dilutive shares of Common Stock include unexercised stock options.  Basic per share amounts are computed, generally, by dividing net income (loss) by the weighted average number of common shares outstanding.  Diluted per share amounts assume the conversion, exercise or issuance of all potential Common Stock instruments unless their effect is antidilutive, thereby reducing the loss or increasing the income per common share.  In calculating diluted weighted average shares and per share amounts, we included stock options with exercise prices below average market prices, for the respective reporting periods in which they were dilutive, using the treasury stock method.  We calculated the number of additional shares by assuming the outstanding stock options were exercised and that the proceeds from such exercises were used to acquire Common Stock at the average market price during the year.  For the three months ended April 4, 2009, we excluded all options from the diluted weighted average share outstanding calculation as the effect of these options is anti-dilutive.  The effect of all options outstanding for the three months ended March 29, 2008 was dilutive.

 

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A reconciliation of the denominator in the basic and diluted income or loss per share is as follows:

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Numerator:

 

 

 

 

 

Income (loss) from continuing operations

 

$

(1,962

)

$

327

 

Loss from discontinued operations, net of income taxes

 

 

(210

)

Net income (loss)

 

$

(1,962

)

$

117

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

Weighted average shares outstanding - basic

 

4,578

 

4,556

 

Employee stock options

 

 

68

 

Weighted average shares outstanding - diluted

 

4,578

 

4,624

 

 

 

 

 

 

 

Basic income (loss) per share:

 

 

 

 

 

Continuing operations

 

$

(0.43

)

$

0.07

 

Discontinued operations

 

 

(0.04

)

Net income (loss)

 

$

(0.43

)

$

0.03

 

 

 

 

 

 

 

Diluted income (loss) per share:

 

 

 

 

 

Continuing operations

 

$

(0.43

)

$

0.07

 

Discontinued operations

 

 

(0.04

)

Net income (loss)

 

$

(0.43

)

$

0.03

 

 

4.              Line of Credit

 

We have an $18,000 line of credit with a lender.  The line was increased from $16,000 to $18,000 on February 5, 2008.  The interest rate on the line as of April 4, 2009 and January 3, 2009 was 6.25% (the greater of prime plus 1.50 percentage points or 6.25%).  The amount of borrowings available under the line of credit is based on a formula using receivables and inventories.  Our unused borrowing capacity under this line was $880 and $384 as of April 4, 2009 and January 3, 2009, respectively.  We may not have access to the full $18.0 million line of credit due to the formula using our receivables and inventories.  The line of credit has a stated maturity date of December 31, 2010, if not renewed, and provides that the lender may demand payment in full of the entire outstanding balance of the loan at any time.  The line of credit is collateralized by substantially all our assets and requires minimum monthly interest payments of $58, regardless of the outstanding principal balance.  The lender is also secured by an inventory repurchase agreement with Whirlpool Corporation for purchases from Whirlpool only.  The loan requires that we meet certain financial covenants, provides payment penalties for noncompliance and prepayment, limits the amount of other debt we can incur, limits the amount of spending on fixed assets and prohibits payments of dividends.  As of April 4, 2009 and January 3, 2009, we were not in compliance with certain financial covenants of the loan agreement and received a waiver from the lender for those dates.

 

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5.              Long-Term Obligations

 

Long-term debt and capital lease obligations consisted of the following:

 

 

 

April 4,
2009

 

January 3,
2009

 

Adjustable rate mortgage, due in monthly installments, adjusted weekly based on 30-day LIBOR plus 2.70 percentage points (3.22% as of April 4, 2009 and 3.38% as of January 3, 2009) on a 20-year amortization due October 2012, collateralized by land and building

 

$

2,696

 

$

2,747

 

 

 

 

 

 

 

6.85% mortgage, due in monthly installments of $15, including interest, due January 2012, collateralized by land and building

 

1,641

 

1,659

 

 

 

 

 

 

 

Capital leases and other financing obligations (see below)

 

1,075

 

1,065

 

 

 

5,412

 

5,471

 

Less current maturities

 

446

 

579

 

 

 

$

4,966

 

$

4,892

 

 

Capital leases and other financing obligations:  We acquire certain equipment under capital leases and other financing obligations.  The cost of the equipment was approximately $1,496 and $1,396 at April 4, 2009 and January 3, 2009, respectively.  Accumulated amortization at April 4, 2009 and January 3, 2009 was approximately $483 and $387, respectively.  Depreciation and amortization expense for three months ended April 4, 2009 and March 29, 2008 is included in cost of revenues and selling, general and administrative expenses.

 

In September 2008, we entered into a master equipment lease with a lender providing up to $250 in available funds.  We utilized the entire lease line to fund equipment for the new retail outlets opened in December 2008 and January 2009.

 

In March 2009, we entered into a master equipment lease with a lender providing up to $100 in available funds.  We utilized the entire lease line in March 2009 to fund equipment for our retail outlet stores.

 

6.              Accrued Expenses

 

Accrued expenses were as follows:

 

 

 

April 4,
2009

 

January 3,
2009

 

Compensation and benefits

 

$

1,345

 

$

1,565

 

Accrued recycling incentive checks

 

1,233

 

1,110

 

Accrued rent

 

433

 

461

 

Warranty expense

 

81

 

91

 

Accrued payables

 

362

 

509

 

Other

 

526

 

337

 

 

 

$

3,980

 

$

4,073

 

 

7.              Commitments and Contingencies

 

Contracts:  We have entered into contracts with five appliance manufacturers.  Under the agreements there are no minimum purchase commitments; however, we have agreed to indemnify the manufacturers for certain claims, allegations or losses with respect to appliances we sell.

 

Litigation:  In December 2004, we filed suit in the U.S. District Court for the Central District of California alleging that JACO Environmental, Inc. (JACO) and one of our former consultants fraudulently obtained U.S. Patent No. 6,732,416

 

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in May 2004 covering appliance recycling methods and systems which were originally developed by us beginning in 1987 and used in serving more than forty-five electric utility appliance recycling programs up to the time the suit was filed.  We sought an injunction to prevent JACO from claiming that it obtained a valid patent on appliance recycling processes that we believe is based on methods and processes we invented.  In addition, we asked the Court to find that the patent obtained by JACO is unenforceable due to inequitable conduct before the United States Patent Office.  We also asked the court for unspecified damages related to charges that JACO, in using the patent to promote its services, engaged in unfair competition and false and misleading advertising under federal and California statutes.

 

In September 2005, we received a legally binding document in which JACO stated it would not sue us or any of our customers for violating the JACO patent.  Further, the defendants in the case did not assert any counterclaims against ARCA.

 

In January 2009, the Court granted JACO a summary judgment in ARCA’s lawsuit against the parties.  The ruling was made by the same judge who had earlier denied summary judgment to the defendants.  Even though the Court’s ruling will have no impact on our method of recycling or ability to conduct existing or future business, we filed an appeal with the Ninth Circuit Court of Appeals in California in February 2009 seeking to have the court set aside the summary judgment.  We believe the decision by the trial judge was in error and contrary to the law relating to unfair competition and false advertising.  We believe we are entitled to our day in court against JACO for damages caused by their actions, and we expect that a decision on the appeal will be handed down late in 2009 or early in 2010.

 

On October 24, 2006, JACO and SEG Umwelt-Service/Basis of Mettlach, Germany (SEG) filed a patent infringement lawsuit in Federal Court in San Francisco against us.  The suit claimed that we had been using refrigerator recycling systems and processes covered by two U.S. patents issued to SEG and exclusively licensed to JACO.  JACO and SEG sought an undisclosed amount in damages, in addition to an injunction barring us from continuing to use and market the systems and processes upon which we allegedly infringed.  This suit was subsequently dismissed following a transfer of the case to Los Angeles upon the motion of ARCA.

 

8.              Income Taxes

 

The effective income tax rate from continuing operations is as follows:

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Effective income tax rate

 

0.8

%

55.7

%

 

We recorded a benefit from income taxes of $15 and $117 for the three months ended April 4, 2009 and March 29, 2008, respectively.  The benefit from income taxes is primarily the result of taxable losses in our Canadian subsidiary of $51 and $361 for the three months ended April 4, 2009 and March 29, 2008, respectively.   We did not record a benefit from income taxes for our U.S. subsidiaries because we have available net operating losses to offset future taxable income and we have recorded full valuation allowances against our U.S. net deferred tax assets due to the uncertainty of their realization.  The realization of deferred tax assets is dependent upon sufficient future taxable income during the periods when deductible temporary differences and carryforwards are expected to be available to reduce taxable income.

 

We account for uncertain tax positions in accordance with the provisions of FASB Interpretation 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes.  As required by FIN 48, which clarifies FASB No. 109, Accounting for Income Taxes, we recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position.  For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority.  As of April 4, 2009, we did not have any material uncertain tax positions.

 

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It is our practice to recognize interest related to income tax matters as a component of interest expense and penalties as a component of selling, general and administrative expense.  As of April 4, 2009, we had an immaterial amount of accrued interest and penalties.

 

We are subject to income taxes in the U.S. federal jurisdiction, foreign jurisdictions and various state jurisdictions.  Tax regulations from each jurisdiction are subject to the interpretation of the related tax laws and regulations and require significant judgment to apply.  With few exceptions, we are no longer subject to U.S. federal, foreign, state or local income tax examinations by tax authorities for the years before 2005.  We are not currently under examination by any taxing jurisdiction.

 

We had no significant unrecognized tax benefits as of April 4, 2009 that would reasonably be expected to affect our effective tax rate during the next twelve months.

 

9.              Shareholders’ Equity

 

Stock options:  Our 2006 Stock Option Plan (the “2006 Plan”) permits the granting of incentive stock options meeting the requirements of Section 422 of the Internal Revenue Code of 1986, as amended, and nonqualified options that do not meet the requirements of Section 422.  The 2006 Plan has 600 shares available for grant.  As of April 4, 2009, 300 options were outstanding to employees and non-employee directors and 15 options have been exercised under the 2006 Plan.  Our Restated 1997 Stock Option Plan (the “1997 Plan”) has expired, but the options outstanding under the expired 1997 Plan continue to be exercisable in accordance with their terms.  As of April 4, 2009, options to purchase an aggregate of 39 shares were outstanding under the 1997 Plan.  Options granted to employees typically vest over two years while grants to non-employee directors vest in six months.  There were no stock options granted in the first quarter of 2009.

 

Preferred stock:  Our amended Articles of Incorporation authorize two million shares of Preferred Stock that may be issued from time to time in one or more series having such rights, powers, preferences and designations as the Board of Directors may determine.  To date no such preferred shares have been issued.

 

10.       Segment Information

 

We operate within targeted markets through two reportable segments: retail and recycling.  The retail operation is comprised of income generated through our ApplianceSmart Factory Outlet stores.  The recycling operation is comprised of all fees charged and costs incurred for collecting, recycling and installing appliances for utilities and other customers.  The nature of products, services and customers for both segments varies significantly.  As such, the segments are managed separately.  Our Chief Executive Officer has been identified as the Chief Operating Decision Maker (“CODM”).  The CODM evaluates performance and allocates resources based on sales and income from operations of each segment.  Income from operations represents revenues less cost of revenues and operating expenses, including certain allocated selling, general and administrative costs.  There are no intersegment sales or transfers.

 

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Table of Contents

 

The following tables present our segment information for periods indicated:

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Revenues:

 

 

 

 

 

Retail

 

$

20,940

 

$

18,858

 

Recycling

 

5,218

 

6,844

 

Total revenues

 

$

26,158

 

$

25,702

 

 

 

 

 

 

 

Operating income (loss):

 

 

 

 

 

Retail

 

$

(1,320

)

$

1,004

 

Recycling

 

(357

)

(26

)

Unallocated corporate costs

 

(5

)

(371

)

Total operating income (loss)

 

$

(1,682

)

$

607

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

Retail

 

$

18,839

 

$

15,701

 

Recycling

 

7,270

 

9,225

 

Corporate assets not allocable

 

5,720

 

5,736

 

Total assets

 

$

31,829

 

$

30,662

 

 

 

 

 

 

 

Cash capital expenditures:

 

 

 

 

 

Retail

 

$

40

 

$

59

 

Recycling

 

4

 

55

 

Corporate assets not allocable

 

110

 

59

 

Total cash capital expenditures

 

$

154

 

$

173

 

 

 

 

 

 

 

Depreciation:

 

 

 

 

 

Retail

 

$

98

 

$

57

 

Recycling

 

76

 

70

 

Corporate assets not allocable

 

143

 

140

 

Total depreciation

 

$

317

 

$

267

 

 

 

 

 

 

 

Interest expense:

 

 

 

 

 

Retail

 

$

205

 

$

235

 

Recycling

 

66

 

72

 

Corporate assets not allocable

 

49

 

90

 

Total interest expense

 

$

320

 

$

397

 

 

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Table of Contents

 

Item 2.                                   Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward-Looking and Cautionary Statements

 

This quarterly report contains forward-looking statements that involve risks and uncertainties.  The statements contained in this quarterly report that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Act of 1934, as amended.

 

Any statements contained in this quarterly report regarding our future operations, performance and results, and anticipated liquidity discussed herein are forward-looking and, therefore, are subject to certain risks and uncertainties, including, but not limited to, those discussed herein.  Any forward-looking information regarding our operations will be affected primarily by the speed at which individual retail outlets reach profitability, the volume of appliance retail sales and the strength of energy conservation recycling programs.  Any forward-looking information will also be affected by our continued ability to purchase product from our suppliers at acceptable prices, the ability of individual retail stores to meet planned revenue levels, the rate of growth in the number of retail stores, costs and expenses being realized at higher than expected levels, our ability to secure an adequate supply of special-buy appliances for resale, the ability to secure appliance recycling contracts with sponsors of energy efficiency programs, the ability of customers to supply units under their recycling contracts with us, and the continued availability of our current line of credit.

 

All of these forward-looking statements are based on information available to us on the date of this quarterly report.  Our actual results could differ materially from those discussed in this quarterly report.  The forward-looking statements contained in this quarterly report, and other written and oral forward-looking statements made by us from time to time, are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated in the forward-looking statements.  Factors that might cause such a difference include, but are not limited to, those discussed in Item 1A “Risk Factors” in our annual report on Form 10-K for the year ended January 3, 2009.

 

The following discussion and analysis provides information that we believe is relevant to an assessment and understanding of our operations and financial condition.  This discussion should be read with the consolidated financial statements appearing in Item 1.

 

Overview

 

We are in the business of selling new major household appliances through a chain of Company-owned factory outlet stores under the name ApplianceSmart®.  We also provide turnkey appliance recycling services for electric utilities and other sponsors of energy efficiency programs.

 

SubsidiariesARCA Canada Inc., a Canadian corporation, is a wholly-owned subsidiary.  ARCA Canada was formed in September 2006 to provide turnkey recycling services for electric utility energy efficiency programs.  The operating results of ARCA Canada have been consolidated in our financial statements.  We were a sixty percent owner in North America Appliance Company, LLC (“NAACO”).  NAACO was formed and commenced operations in June 2003 and was a retailer of special-buy appliances in Texas.  The operating results of NAACO have been consolidated in our financial statements.  We were a sixty percent owner in Productos Duraderos de Norte America (“PDN”), a Mexican corporation.  PDN was acquired in September 2006 and refurbished room air conditioners for sale through our NAACO operation in McAllen, Texas, and through our ApplianceSmart Factory Outlet stores.  The operating results of PDN have been consolidated in our financial statements.

 

Discontinued OperationsDuring the fourth quarter of 2008, we planned and executed the shutdown of our NAACO and PDN operations.  NAACO and PDN were not operating as planned and were no longer economically viable.  In 2008, our supply of room air conditioners from a major manufacturer was depleted, no longer providing refurbishment opportunities for PDN and revenues for NAACO, which was the basis for our investment in these businesses.  We will not have any continuing involvement or significant continuing cash flows in these businesses.  The results of operations for NAACO and PDN were included in our retail segment.  All results of operations for periods presented prior to the abandonment date have been reclassified as discontinued operations.

 

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Table of Contents

 

Reporting PeriodOperating results for the three-month periods ended April 4, 2009 and March 29, 2008 are presented using 13-week periods.  The results of operations for any interim period are not necessarily indicative of the results for the year.

 

Key Components of Results of Operations

 

RevenuesWe generate revenues from three sources: retail, recycling and byproduct.  Retail revenues are generated through the sale of new of appliances at our ApplianceSmart Factory Outlet stores.  Recycling revenues are generated by charging fees for collecting and recycling appliances for utilities and other sponsors of energy efficiency programs.  Byproduct revenues are generated by selling recovered materials, such as metals and plastics, and reclaimed chlorofluorocarbon (“CFC”) refrigerants, from appliances we collect and recycle, including appliances from our ApplianceSmart Factory Outlet stores.

 

Cost of RevenuesCost of revenues includes all costs related to the purchase of inventory, including freight, costs related to receiving and distribution of inventory, and costs related to delivery and service of inventory after it is sold to the consumer.  Also, the costs related to recycling appliances, such as customer service, transportation and processing, and the cost of refrigerators used in our replacement programs, are included in the cost of revenues.  Depreciation expense related to buildings and equipment from our recycling centers is presented in cost of revenues.

 

Selling, General and Administrative ExpensesSelling, general and administrative expenses are comprised primarily of employee compensation and benefits (including share-based compensation), occupancy costs, advertising, bank processing charges, professional services and depreciation.

 

Interest Expense.  Interest expense is comprised of interest charges related to borrowings under our line of credit, mortgages on our Minnesota and California buildings and other long-term obligations, primarily capital leases.

 

SegmentsWe operate two reportable segments: retail and recycling.  The retail segment is comprised of income generated through our ApplianceSmart Factory Outlet stores.  Our recycling segment includes all fees charged and costs incurred for collecting, recycling and installing appliances for utilities and other customers and includes byproduct revenue, which is primarily generated through the recycling of appliances.  Retail revenues typically have lower profit margins than recycling revenues.

 

Retail Segment.  We operated twenty and fifteen factory outlet stores during the first quarters of 2009 and 2008, respectively.  Our twenty factory outlet stores are located in convenient, high-traffic locations in Georgia, Minnesota, Ohio and Texas.  In 2008, we opened four new factory outlet stores: our sixth and seventh in Minnesota, third in Texas and fifth in Georgia.  In January 2009, we opened our sixth factory outlet store in Georgia.

 

Recycling Segment.  We operate six processing and recycling centers, which are located in Minnesota, California, Texas, Illinois and Ontario, Canada.  We are actively pursuing opportunities to support energy efficiency programs run by electric utility companies.  We handle appliance recycling programs for and in the service territories of Southern California Edison; San Diego Gas & Electric; Southern California Public Power Authority; Austin Energy, AEP Texas and Oncor Electric Delivery in Texas; Ameren and City Water Light & Power in Illinois; Wisconsin Public Power; Ontario Power Authority; Minnesota Power; and several Southern California municipal electric utilities.

 

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Table of Contents

 

Results of Operations

 

The following table sets forth our consolidated operating results for the periods indicated as a percentage of total revenues:

 

 

 

Three Months Ended

 

 

 

April 4,
2009

 

March 29,
2008

 

Revenues

 

100.0

%

100.0

%

Cost of revenues

 

75.8

 

68.6

 

Gross profit

 

24.2

 

31.4

 

Selling, general and administrative expenses

 

30.6

 

29.0

 

Operating income (loss)

 

(6.4

)

2.4

 

Other income (expense):

 

 

 

 

 

Interest expense, net

 

(1.2

)

(1.5

)

Other expenses, net

 

0.1

 

0.0

 

Income (loss) from continuing operations before income taxes

 

(7.5

)

0.9

 

Benefit from income taxes

 

(0.1

)

(0.5

)

Income (loss) from continuing operations

 

(7.4

)

1.4

 

Loss from discontinued operations, net of income taxes

 

0.0

 

(0.8

)

Net income (loss)

 

(7.4

)%

0.6

%

 

For the Three Months Ended April 4, 2009 and March 29, 2008

 

The following table sets forth the key results of operations by segment for the three months ended April 4, 2009 and March 29, 2008 (dollars in millions):

 

 

 

2009

 

2008

 

% Change

 

Revenues:

 

 

 

 

 

 

 

Retail

 

$

20.9

 

$

18.9

 

11.0

%

Recycling

 

5.3

 

6.8

 

(23.8

)%

Total revenues

 

$

26.2

 

$

25.7

 

1.8

%

 

 

 

 

 

 

 

 

Operating income (loss):

 

 

 

 

 

 

 

Retail

 

$

(1.3

)

$

1.0

 

(231.5

)%

Recycling

 

(0.4

)

 

1,273.1

%

Unallocated corporate costs

 

 

(0.4

)

(98.7

)%

Total operating income (loss)

 

$

(1.7

)

$

0.6

 

(377.1

)%

 

Revenues.  Revenues for the three months ended April 4, 2009 and March 29, 2008 are as follows (dollars in millions):

 

 

 

2009

 

2008

 

% Change

 

Retail

 

$

20.9

 

$

18.9

 

11.0

%

Recycling

 

4.6

 

5.9

 

(23.3

)%

Byproduct

 

0.7

 

0.9

 

(27.1

)%

 

 

$

26.2

 

$

25.7

 

1.8

%

 

Our total revenues of $26.2 million for the first quarter of 2009 increased $0.5 million or 1.8% from $25.7 million in the first quarter of 2008.  Retail revenues accounted for 80% of total revenues for the first quarter of 2009 compared to 73% in the first quarter of 2008.

 

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Table of Contents

 

Retail Revenues.  Our retail revenues of $20.9 million for the first quarter of 2009 increased $2.0 million or 11.0% from $18.9 million in the first quarter of 2008.  The increase in retail revenues was due primarily to opening five new factory outlet stores throughout 2008 and early in 2009.  These new stores contributed $3.4 million of additional revenues in 2009 compared to 2008.  Our comparable store revenues of the fifteen ApplianceSmart Factory Outlets that were open during the first quarters of 2009 and 2008 were down 8.9% or $1.6 million.  The decrease in comparable store revenues is due primarily to price compression on product to remain competitive with other retailers in the current economic environment and lower same-store sales.  We expect the economic slowdown and cutback in consumer spending to continue through 2009, negatively impacting our sales.  We also plan to slow down the opening of new stores in 2009 until we see a pickup in consumer spending.  We anticipate opening one additional retail store in 2009.

 

Our factory outlets carry a wide range of new in-the-box and special-buy appliances, which include manufacturer closeouts, factory overruns, floor samples, returned or exchanged items, open-carton items, and scratch and dent appliances.  All these appliances are new.  Some are in the carton while others are out of the carton.

 

We continue to purchase the majority of both new in-the-box and special-buy appliances from five major manufacturers. We have no minimum purchase requirements with any of these manufacturers.  We believe purchases from these five manufacturers will provide an adequate supply of high-quality appliances for our retail factory outlets; however, there is a risk that one or more of these sources could be curtailed or lost.

 

Recycling Revenues.  Our recycling revenues of $4.6 million for the first quarter of 2009 decreased $1.3 million or 23.3% from $5.9 million in the first quarter of 2008.  The decrease was due primarily to recycling fewer appliances under our California contracts in 2009 compared to 2008.  Our contract with Southern California Edison was reduced by 25% in 2009.  Additionally, the revenues from our refrigerator replacement program with Los Angeles Department of Water and Power were down primarily due to the contract not being renewed until the fourth week of January 2009.  We are aggressively pursuing new appliance recycling programs but cannot predict if we will be successful in signing new contracts or renewing existing contracts.

 

Byproduct Revenues.  Our byproduct revenues of $0.7 million for the first quarter of 2009 decreased $0.2 million or 27.1% from $0.9 million in the first quarter of 2008.  The decrease was due primarily to lower volumes, and to a lesser extent, lower scrap metal prices compared to the first quarter of 2008.  We expect that scrap material prices will stay depressed throughout 2009 compared to 2008.

 

Gross Profit.  Our overall gross profit of $6.3 million for the first quarter decreased $1.7 million or 21.5% from $8.1 million in the first quarter of 2008.  Our gross profit as a percentage of total revenues for the first quarter of 2009 was 24.2% compared to 31.4% in the first quarter of 2008.  The decrease in gross margin is related primarily to price compression on product, lower same-store sales and a sales shift from out-of-the-box product to in-the-box product.  Recycling gross profit percentages are typically higher than retail gross profit percentages. Our retail margins on out-of-the box product are typically higher than in-the-box product.  Our gross profit as a percentage of total revenues for future periods can be affected favorably or unfavorably by numerous factors, including:

 

1.              The mix of retail products we sell.

2.              The prices at which we purchase product from the major manufacturers who supply product to us.

3.              The volume of appliances we receive through our recycling contracts.

4.              The volume and price of scrap metals, plastics and reclaimed CFCs.

 

Unless we can significantly increase our appliance purchasing volume, resulting in a higher level rebates, or sign substantial recycling contracts utilizing our current recycling facilities, gross profit percentages will remain flat or slightly decreased in 2009 compared to 2008.

 

Selling, General and Administrative Expenses.  Our selling, general and administrative (“SG&A”) expenses of $8.0 million for the first quarter of 2009 increased $0.6 million or 7.5% from $7.4 million in the first quarter of 2008.  Our SG&A expenses as a percentage of total revenues for the first quarter of 2009 was 30.6% compared to 29.0% for the first quarter of 2008.  Selling expenses increased $0.8 million to $5.6 million in the first quarter of 2009 from $4.8 million in the

 

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Table of Contents

 

first quarter of 2008.  The increase in selling expenses was due primarily to the five new factory outlet stores open for the first quarter of 2009 compared to the first quarter of 2008.  General and administrative expenses decreased $0.2 million to $2.4 million in the first quarter of 2009 from $2.6 million in the first quarter of 2008.  The decrease was due primarily to cost savings initiatives implemented in the first quarter of 2009.  We expect SG&A expenses to decrease slightly as a percentage of total revenues in 2009 due to cost saving initiatives.

 

Interest Expense.  Interest expense decreased $0.1 million to $0.3 million in the first quarter of 2009 compared to $0.4 million in the first quarter of 2008.  The decrease was due primarily to the decline in the weighted average interest rate on our line of credit.  We cannot predict what will happen with interest rates throughout the remainder of 2009.

 

Provision for Income Taxes.  Our benefit from income taxes for the first quarter of 2009 decreased $0.1 million compared to the first quarter of 2008.  The decrease is due primarily to lower taxable losses from our Canadian subsidiary.  We did not record a benefit from income taxes for our U.S. subsidiaries because we have available net operating losses to offset future taxable income, and we have recorded full valuation allowances against our U.S. net deferred tax assets due to the uncertainty of their realization.  The realization of deferred tax assets is dependent upon sufficient future taxable income during the periods when deductible temporary differences and carryforwards are expected to be available to reduce taxable income.

 

Liquidity and Capital Resources

 

Principal Sources and Uses of Liquidity.  Our principal sources of liquidity are cash from operations and borrowings under our line of credit.  Our principal liquidity requirements consist of long-term debt and capital lease obligations, capital expenditures and working capital.  Our cash and cash equivalents as of April 4, 2009 were $1.7 million compared to $3.5 million as of January 3, 2009.  Our working capital decreased to $4.0 million for the three months ended April 4, 2009 compared to $5.5 million for the three months ended March 29, 2008.

 

Net Cash Provided by Operating Activities.  Our net cash provided by operating activities was $1.7 million for the three months ended April 4, 2009 compared to $1.2 million for the three months ended March 29, 2008.  The increase in cash provided by operating activities was due to more cash provided by our operating assets, primarily inventory and accounts receivable partially offset by our net operating loss.

 

Net Cash Used in Investing Activities.  Our net cash used in investing activities was $0.2 million for each of the three months ended April 4, 2009 and March 29, 2008.  The net cash used in investing activities was primarily related to internal software development, the purchase of computer equipment, phone systems, and leasehold improvements to support our new store openings.  We did not have any material purchase commitments for assets as of April 4, 2009.

 

Net Cash Used in Financing Activities.  Our net cash used in financing activities was $3.2 million for the three months ended April 4, 2009 compared to $1.9 million for the three months ended March 29, 2008.  The net cash used in financing activities in 2009 and 2008 was due primarily to net payments on our line of credit and payments on our long-term obligations.  In the first quarter of 2008, the cash used in financing activities was partially offset by receiving $0.2 million in cash related to the exercise of stock options.

 

Outstanding Indebtedness.  We have an $18.0 million line of credit with a lender.  The line was increased from $16.0 million to $18.0 million on February 5, 2008.  The interest rate on the line as of April 4, 2009 and January 3, 2009 was 6.25% (the greater of prime plus 1.50 percentage points or 6.25%).  The amount of borrowings available under the line of credit is based on a formula using receivables and inventories.  Our unused borrowing capacity under this line was $0.9 million and $0.4 million as of April 4, 2009 and January 3, 2009, respectively.  We may not have access to the full $18.0 million line of credit due to the formula using our receivables and inventories.  The line of credit has a stated maturity date of December 31, 2010, if not renewed, and provides that the lender may demand payment in full of the entire outstanding balance of the loan at any time.  The line of credit is collateralized by substantially all our assets and requires minimum monthly interest payments of $58,000, regardless of the outstanding principal balance.  The lender is also secured by an inventory repurchase agreement with Whirlpool Corporation for purchases from Whirlpool only.  The loan requires that we meet certain financial covenants, provides payment penalties for noncompliance and prepayment, limits the amount

 

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of other debt we can incur, limits the amount of spending on fixed assets and prohibits payments of dividends.  As of April 4, 2009 and January 3, 2009, we were not in compliance with certain financial covenants of the loan agreement and received a waiver from the lender for those dates.

 

In September 2008, we entered into a master equipment lease with a lender providing up to $0.3 million in available funds.  We utilized the entire lease line to fund equipment for the new retail outlets opened in December 2008 and January 2009.

 

In March 2009, we entered into a master equipment lease with a lender providing up to $0.1 million in available funds.  We utilized the entire lease line in March 2009 to fund equipment for our retail outlet stores.

 

As of April 4, 2009, we had long-term obligations of $5.4 million consisting of mortgages on our Minnesota and California buildings along with various financings, primarily consisting of capital leases.

 

We believe, based on the anticipated sales per retail store, the anticipated revenues from our recycling contracts and our anticipated gross profit, that our cash balance, anticipated funds generated from operations and our current line of credit will be sufficient to finance our operations, long-term obligations and capital expenditures for at least the next twelve months.  Our total capital requirements for 2009 will depend upon, among other things as discussed below, the number and size of retail stores operating during the fiscal year and the recycling volumes generated from recycling contracts in 2009.  Currently, we have twenty retail stores and six recycling centers in operation.  We may need additional capital to finance our operations if our revenues are lower than anticipated or our expenses are higher than anticipated, or if we pursue new opportunities.  Sources of additional financing, if needed in the future, may include further debt financing or the sale of equity (common or preferred stock) or other financing opportunities.  There can be no assurance that such additional sources of financing will be available on terms satisfactory to us or permitted by our current debt agreement.

 

Item 3.                                                          Quantitative and Qualitative Disclosures About Market Risk

 

Market Risk and Impact of Inflation

 

Interest Rate Risk.  We do not believe there is any significant risk related to interest rate fluctuations on our long-term fixed-rate debt.  There is interest rate risk on the line of credit, since our interest rate floats with prime.  The outstanding balance on our line of credit as of April 4, 2009 was approximately $11.4 million.  There is also interest rate risk on approximately $2.7 million in long-term debt entered into in September 2002, since our interest rate is based on the 30-day LIBOR rate.  Although the $11.4 million line of credit is subject to a minimum interest rate of 6.25%, based on average floating rate borrowings of $14.1 million, a hypothetical 100 basis point change in the applicable interest rate would have caused our interest expense to change by an immaterial amount for the first quarter of 2009.

 

Foreign Currency Exchange Rate Risk.  We currently generate revenues in Canada.  The reporting currency for our consolidated financial statements is U.S. dollars.  It is not possible to determine the exact impact of foreign currency exchange rate changes; however, the effect on reported revenue and net earnings can be estimated.  We estimate that the overall strength of the U.S. dollar against the Canadian dollar had an unfavorable impact on revenues in the amount of approximately $0.3 million for the three months ended April 4, 2009.  In addition, we estimate that such strength had an unfavorable impact of approximately $0.1 million on our net income for the three months ended April 4, 2009.  We do not currently hedge foreign currency fluctuations and do not intend to do so for the foreseeable future.

 

We do not hold any derivative financial instruments nor do we hold any securities for trading or speculative purposes.

 

Also, we believe the decline in the housing and credit markets could adversely affect buying habits of our customers throughout at least the remainder of 2009.

 

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Item 4.                                                          Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

We have established disclosure controls and procedures to ensure that information required to be disclosed in our reports under the Securities Exchange Act of 1934 (the “Exchange Act”), as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our Board of Directors and senior management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure.  In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

 

Based on their evaluation, the principal executive officer and principal financial officer of the Company have concluded, pursuant to the Exchange Act Rule 13a-15(b), that the design and operation of our disclosure controls and procedures were effective to ensure information required to be disclosed in this Form 10-Q was processed, recorded, summarized and reported within the time periods specified in the rules and instructions for the Form 10-Q.

 

Changes in Internal Control Over Financial Reporting

 

During the first quarter of fiscal 2009, there was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

PART II.                                             Other Information

 

Item 1.                                                          Legal Proceedings

 

In December 2004, we filed suit in the U.S. District Court for the Central District of California alleging that JACO Environmental, Inc. (JACO) and one of our former consultants fraudulently obtained U.S. Patent No. 6,732,416 in May 2004 covering appliance recycling methods and systems which were originally developed by us beginning in 1987 and used in serving more than forty-five electric utility appliance recycling programs up to the time the suit was filed.  We sought an injunction to prevent JACO from claiming that it obtained a valid patent on appliance recycling processes that we believe is based on methods and processes we invented.  In addition, we asked the Court to find that the patent obtained by JACO is unenforceable due to inequitable conduct before the United States Patent Office.  We also asked the court for unspecified damages related to charges that JACO, in using the patent to promote its services, engaged in unfair competition and false and misleading advertising under federal and California statutes.

 

In September 2005, we received a legally binding document in which JACO stated it would not sue us or any of our customers for violating the JACO patent.  Further, the defendants in the case did not assert any counterclaims against ARCA.

 

In January 2009, the Court granted JACO a summary judgment in ARCA’s lawsuit against the parties.  The ruling was made by the same judge who had earlier denied summary judgment to the defendants.  Even though the Court’s ruling will have no impact on our method of recycling or ability to conduct existing or future business, we filed an appeal with the Ninth Circuit Court of Appeals in California in February 2009 seeking to have the court set aside the summary judgment.  We believe the decision by the trial judge was in error and contrary to the law relating to unfair competition

 

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and false advertising.  We believe we are entitled to our day in court against JACO for damages caused by their actions, and we expect that a decision on the appeal will be handed down late in 2009 or early in 2010.

 

On October 24, 2006, JACO and SEG Umwelt-Service/Basis of Mettlach, Germany (SEG) filed a patent infringement lawsuit in Federal Court in San Francisco against us.  The suit claimed that we had been using refrigerator recycling systems and processes covered by two U.S. patents issued to SEG and exclusively licensed to JACO.  JACO and SEG sought an undisclosed amount in damages, in addition to an injunction barring us from continuing to use and market the systems and processes upon which we allegedly infringed.  This suit was subsequently dismissed following a transfer of the case to Los Angeles upon the motion of ARCA.

 

Item 2.                                                          Unregistered Sales of Equity Securities and Use of Proceeds

 

None.

 

Item 3.                                                          Defaults Upon Senior Securities

 

None.

 

Item 4.                                                          Submission of Matters to a Vote of Security Holders

 

None.

 

Item 5.                                                          Other Information

 

None.

 

Item 6.                                                          Exhibits

 

Exhibit
Number

 

Description

31.1*

 

Certification by Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2*

 

Certification by Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1†

 

Certification by Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2†

 

Certification by Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 


*  Filed herewith.

 

†  Furnished herewith.

 

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SIGNATURES

 

Pursuant to the requirements of Section 13 or Section 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on our behalf by the undersigned, thereunto duly authorized.

 

Dated: May 18, 2009

 

APPLIANCE RECYCLING CENTERS OF AMERICA, INC.

 

 

(Registrant)

 

 

 

 

 

By

/s/ Edward R. Cameron

 

 

 

Edward R. Cameron

 

 

 

President and Chief Executive Officer

 

 

 

 

 

 

By

/s/ Peter P. Hausback

 

 

 

Peter P. Hausback

 

 

 

Executive Vice President, Chief Financial Officer
and Principal Accounting Officer

 

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