UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2014

 

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 001-32563

 

Orchids Paper Products Company

(Exact name of Registrant as Specified in its Charter)

 

Delaware

 

23-2956944

(State or Other Jurisdiction of

 

(I.R.S. Employer

Incorporation or Organization)

 

Identification No.)

 

4826 Hunt Street

Pryor, Oklahoma 74361

(Address of Principal Executive Offices and Zip Code)

 

(918) 825-0616

(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 requirement for the past 90 days.  Yes    No  

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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. Yes     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. (Check one):

 

Large accelerated filer 

 

Accelerated filer 

 

 

 

Non-accelerated filer 

 

Smaller reporting company 

 

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

 

Number of shares outstanding of the issuer’s Common Stock, par value $.001 per share, as of October 31, 2014: 8,757,975 shares.

 

 
 

 

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

TABLE OF CONTENTS

QUARTERLY REPORT ON FORM 10-Q

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2014

 

 

 

 

Page

 

PART I. FINANCIAL INFORMATION

 

 

 

 

 

 

ITEM 1.

Financial Statements

 

3

 

 

 

 

 

Consolidated Balance Sheets as of September 30, 2014 (Unaudited) and December 31, 2013

 

3

 

 

 

 

 

Consolidated Statements of Income for the three months ended September 30, 2014 and 2013 (Unaudited) and the nine months ended September 30, 2014 and 2013 (Unaudited)

 

4

 

 

 

 

 

Consolidated Statements of Cash Flows for the nine months ended September 30, 2014 and 2013 (Unaudited)

 

5

 

 

 

 

 

Notes to Unaudited Consolidated Interim 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

 

29

 

 

 

 

ITEM 4.

Controls and Procedures

 

29

 

 

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

 

 

ITEM 1.

Legal Proceedings

 

29

 

 

 

 

ITEM 1A.

Risk Factors

 

29

 

 

 

 

ITEM 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

30

 

 

 

 

ITEM 3.

Defaults Upon Senior Securities

 

30

 

 

 

 

ITEM 4.

Mine Safety Disclosures

 

30

 

 

 

 

ITEM 5.

Other Information

 

30

 

 

 

 

ITEM 6.

Exhibits

 

30

 

 

 

 

 

Signatures

 

31

 

 

 
2

 

  

PART I. FINANCIAL INFORMATION

 

ITEM 1.  Financial Statements

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)

 

   

September 30,

   

December 31,

 
   

2014

   

2013

 
   

(Unaudited)

         

ASSETS

               

Current assets:

               

Cash

  $ 3,491     $ 7,205  

Accounts receivable, net of allowance of $136 in 2014 and $135 in 2013

    11,312       6,585  

Inventories, net

    10,144       10,921  

Short-term investments

    -       5,035  

Prepaid expenses

    1,163       863  

Other current assets

    2,725       146  

Deferred income taxes

    544       552  

Total current assets

    29,379       31,307  
                 

Property, plant and equipment

    158,172       137,750  

Accumulated depreciation

    (48,750 )     (42,005 )

Net property, plant and equipment

    109,422       95,745  
                 

Intangible assets, net of accumulated amortization of $430 in 2014

    17,560       -  

Goodwill

    7,560       -  

Deferred debt issuance costs, net of accumulated amortization of $7 in 2014 and $18 in 2013

    199       40  

Total assets

  $ 164,120     $ 127,092  
                 
                 
                 

LIABILITIES AND STOCKHOLDERS' EQUITY

               

Current liabilities:

               

Accounts payable

  $ 10,598     $ 3,685  

Accrued liabilities

    5,393       4,030  

Current portion of long-term debt

    2,700       1,152  

Total current liabilities

    18,691       8,867  
                 

Long-term debt, less current portion

    26,625       13,927  

Deferred income taxes

    17,943       19,449  

Stockholders' equity:

               

Common stock, $.001 par value, 25,000,000 shares authorized, 8,757,975 and 8,066,809 shares issued and outstanding in 2014 and 2013, respectively

    9       8  

Additional paid-in capital

    64,006       46,298  

Retained earnings

    36,846       38,543  

Total stockholders' equity

    100,861       84,849  

Total liabilities and stockholders' equity

  $ 164,120     $ 127,092  

 

See notes to unaudited consolidated interim financial statements.

 

 

 

 
3

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(Dollars in thousands, except share and per share data)

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 
   

(unaudited)

   

(unaudited)

   

(unaudited)

   

(unaudited)

 
                                 

Net sales

  $ 44,429     $ 29,760     $ 101,384     $ 85,601  
                                 

Cost of sales

    35,645       22,620       81,092       64,938  

Gross profit

    8,784       7,140       20,292       20,663  
                                 

Selling, general and administrative expenses

    2,541       2,122       9,127       6,912  

Intangibles amortization

    322       -       430       -  

Operating income

    5,921       5,018       10,735       13,751  
                                 

Interest expense

    90       92       215       280  

Other (income) expense, net

    147       (9 )     141       (21 )

Income before income taxes

    5,684       4,935       10,379       13,492  
                                 

Provision for income taxes:

                               

Current

    3,041       1,110       4,858       3,259  

Deferred

    (1,187 )     102       (1,498 )     274  
      1,854       1,212       3,360       3,533  
                                 

Net income

  $ 3,830     $ 3,723     $ 7,019     $ 9,959  
                                 

Net income per common share:

                               

Basic

  $ 0.44     $ 0.47     $ 0.84     $ 1.27  

Diluted

  $ 0.44     $ 0.47     $ 0.83     $ 1.25  
                                 

Shares used in calculating net income per common share:

                               

Basic

    8,753,308       7,964,254       8,363,913       7,813,762  

Diluted

    8,823,937       8,073,771       8,442,057       7,908,772  
                                 

Dividends per share

  $ 0.35     $ 0.35     $ 1.05     $ 1.00  

 

See notes to unaudited consolidated interim financial statements.

 

 

 

 
4

 

 

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

 

 

   

Nine Months

   

Nine Months

 
   

Ended

   

Ended

 
   

September 30,

   

September 30,

 
   

2014

   

2013

 

Cash Flows From Operating Activities

 

(unaudited)

   

(unaudited)

 

Net income

  $ 7,019     $ 9,959  

Adjustments to reconcile net income to net cash provided by operating activities:

               

Depreciation and amortization

    7,286       5,696  

Provision for doubtful accounts

    1       (5 )

Deferred income taxes

    (1,498 )     274  

Stock compensation expense

    1,609       380  

Loss on disposal of property, plant and equipment

    8       -  

Changes in cash due to changes in operating assets and liabilities:

               

Accounts receivable

    (4,727 )     (2,490 )

Inventories

    777       (1,527 )

Income taxes receivable

    -       (456 )

Prepaid expenses

    (300 )     (492 )

Other current assets

    (2,579 )     44  

Accounts payable

    6,913       (373 )

Accrued liabilities

    1,362       708  

Net cash provided by operating activities

    15,871       11,718  
                 

Cash Flows From Investing Activities

               

Acquisition of Fabrica assets and U.S. business

    (16,700 )     -  

Purchases of property, plant and equipment

    (13,346 )     (7,564 )

Purchases of short-term investments

    (2 )     (6 )

Proceeds from the sale of investment securities

    5,037       -  

Net cash used in investing activities

    (25,011 )     (7,570 )
                 

Cash Flows From Financing Activities

               

Borrowings under long-term debt

    30,000       -  

Principal payments on long-term debt

    (15,754 )     (864 )

Dividends paid to stockholders

    (8,716 )     (7,893 )

Proceeds from the exercise of stock options

    79       2,942  

Excess tax benefit of stock options exercised

    20       963  

Deferred debt issuance costs

    (203 )     -  

Net cash provided by (used in) financing activities

    5,426       (4,852 )
                 

Net decrease in cash

  $ (3,714 )   $ (704 )

Cash, beginning

    7,205       5,734  

Cash, ending

  $ 3,491     $ 5,030  

Supplemental Disclosure:

               

Interest paid

  $ 350     $ 279  

Income taxes paid

  $ 3,671     $ 2,753  

Tax benefits realized from stock options exercised

  $ 16     $ 329  

Stock issued for Fabrica assets and U.S. business

  $ 16,000     $ -  

 

See notes to unaudited consolidated interim financial statements.

 

 

 

 

 
5

 

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

 

Note 1 — Basis of Presentation

 

Orchids Paper Products Company (“Orchids” or the “Company”) was formed in 1998 to acquire and operate the paper manufacturing facility, built in 1976, in Pryor, Oklahoma.  Orchids Acquisition Group, Inc. (“Orchids Acquisition”) was established in November 2003, for the purpose of acquiring the common stock of Orchids.  The sale of equity and debt securities closed in March 2004 and Orchids Acquisition acquired Orchids for a price of $21.6 million.  Orchids Acquisition was subsequently merged into Orchids.  In July 2005, the Company completed its initial public offering of its common stock.  The Company’s common stock trades on the NYSE MKT under the ticker symbol “TIS.”

 

On June 3, 2014, the Company completed the acquisition of certain assets from Fabrica de Papel San Francisco, S.A. de C.V. (“Fabrica”) pursuant to an Asset Purchase Agreement (see Note 2 and Note 6). In connection with the acquisition of these assets, the Company formed three wholly-owned subsidiaries: Orchids Mexico DE Holdings, LLC, Orchids Mexico DE Member, LLC, and OPP Acquisition Mexico, S. de R.L. de C.V (“Orchids Mexico”).  The accompanying consolidated financial statements include the accounts of Orchids and these wholly-owned subsidiaries.  All significant intercompany transactions and balances have been eliminated in consolidation.

 

The accompanying financial statements have been prepared without an audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted (“GAAP”) in the United States have been condensed or omitted pursuant to the rules and regulations.  However, the Company believes that the disclosures made are adequate to make the information presented not misleading when read in conjunction with the audited financial statements and the notes in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2013, filed with the SEC on March 6, 2014.  Management believes that the financial statements contain all adjustments necessary for a fair presentation of the results for the interim periods presented.  All adjustments were of a normal, recurring nature.  The results of operations for the interim period are not necessarily indicative of the results for the entire fiscal year.

 

Note 2 — Acquisition of Fabrica Assets and U.S. Business

 

On May 5, 2014, Orchids and its wholly owned subsidiary, Orchids Mexico, entered into an asset purchase agreement (“APA”) with Fabrica to acquire certain assets and 100% of the U.S. business of Fabrica.  One June 3, 2014, the Company closed on the transaction set forth in the APA, and in connection therewith, entered into a supply agreement (“Supply Agreement”) and a lease agreement (“Equipment Lease Agreement”).  Orchids expects these transactions to allow the Company to effectively and efficiently service customers in the western U. S.

 

Asset Purchase Agreement and Assignment and Assumption of Supply Agreement

 

Pursuant to the terms of the APA, Orchids Mexico acquired a paper machine, two converting lines, Fabrica’s U.S. customer list, exclusive rights to all of Fabrica’s trademarks in the United States, and Fabrica’s covenant not to compete in the United States for a purchase price of 411,650 shares of Orchids’ common stock valued at $12.0 million based on the closing price of the Company’s shares on the closing date, with a fair market value of $9.6 million on the closing date due to restrictions on the sale of the stock. In connection with closing the Purchase Agreement, Orchids also entered into an Assignment and Assumption of Supply Agreement with Elgin Finance & Investment Corp. (“Elgin”) for $16.7 million in cash and 274,433 shares of Orchids’ common stock valued at $8.0 million based on the closing price of the Company’s shares on the closing date, with a fair market value of $6.4 million on the closing date due to restrictions on the sale of the stock, in exchange for the assignment to Orchids of Elgin’s supply agreement with Fabrica which provided Elgin with exclusive supply rights with respect to Fabrica’s U.S. business.

 

Under the Supply Agreement, the Company has the right to purchase from Fabrica up to 18,000 metric tons of parent rolls and equivalent converting capacity for certain specified product during each twelve month period following the effective date of the Supply Agreement. The Company may purchase up to an additional 7,000 metric tons annually in each of the first two years of the agreement. Pursuant to the terms of the Supply Agreement, Fabrica and its affiliates will be subject to a non-compete provision with respect to business in the U. S.  The Supply Agreement has an initial term of twenty years.  In the event of a termination of the Supply Agreement due to (i) a material breach as a result of intentional, willful or grossly negligent conduct by Fabrica, (ii) a breach of Fabrica’s covenant not to compete, or (iii) a voluntary filing of bankruptcy by Fabrica, Fabrica must pay the Company $100 million in liquidated damages.  In the event of a change of control of Fabrica, the Company will have a two year right to terminate the Supply Agreement, and in such event, Fabrica would be required to pay the Company liquidated damages of $36.7 million.

 

 

 

 

 
6

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Lease Agreement

 

Pursuant to the terms of the Equipment Lease Agreement, Orchids Mexico will lease the paper making and converting assets acquired under the APA back to Fabrica. The rental fee will be based upon the number of metric tons shipped by Fabrica to the Company, subject to annual adjustment based on the calculation of the annual purchase price in the Supply Agreement. The Equipment Lease Agreement has a term of twenty years, but will terminate automatically upon termination of the Supply Agreement.

 

Upon the earlier of (i) the termination of the Equipment Lease Agreement or (ii) the purchase by Orchids of a separate paper making or converting asset and the entry into of an equipment lease agreement between Orchids and Fabrica with respect to such purchased asset, Orchids Mexico shall have the right to sell to Fabrica the paper assets leased under the Equipment Lease Agreement on an as-is-where-is basis, for $12.0 million.

 

Income earned under the lease agreement is recognized as an offset to cost of goods sold under the supply agreement in accordance with U.S. GAAP for collaborative arrangements.  Income earned under the lease agreement was $779,000 and $977,000 in the three and nine-month periods ended September 30, 2014, respectively.

 

Purchase Price Allocation

 

The acquisition of Fabrica’s U.S. business is being accounted for under the Financial Accounting Standards Board’s (the “FASB”) Accounting Standards Codification 805, “Business Combinations”.  The $32.7 million purchase price of $16.7 million in cash (financed by a term loan) and $16.0 million in common stock was allocated as follows (in thousands):

 

 

Total purchase price

  $ 32,700  

Less: net assets acquired

       

Machinery & Equipment

    7,150  

Intangible Asset - Supply and Lease Agreement

    12,800  

Intangible Asset - Licenses/Trademarks

    1,350  

Intangible Asset - Non-Compete Agreement

    1,150  

Intangible Asset - Customer Relationships

    2,690  

Goodwill

  $ 7,560  

 

The purchase price allocation is subject to further refinement as management completes its assessment of the valuation of certain assets.

 

Intangibles and Goodwill

 

Intangible assets acquired totaled $18.0 million.  The Company amortizes these assets on a straight-line basis over the expected lives of the assets: Supply and Lease Agreement — 20 years; Licenses/Trademarks — 20 years; Non-Compete Agreement — 2 years; Customer Relationships — 12 years, resulting in a weighted-average amortization period of 12 years.  Intangible assets at September 30, 2014 were:

 

 

   

Life

   

Gross Carrying

   

Accumulated

   

Net Carrying

 
   

(in years)

   

Amount

   

Amortization

   

Value

 
                    (in thousands)           

Intangible Asset - Supply and Lease Agreement

    20     $ 12,800     $ 183     $ 12,617  

Intangible Asset - Licenses/Trademarks

    20       1,350       19     $ 1,331  

Intangible Asset - Non-Compete Agreement

    2       1,150       164     $ 986  

Intangible Asset - Customer Relationships

    12       2,690       64     $ 2,626  
            $ 17,990     $ 430     $ 17,560  

 

Goodwill of $7.6 million represents the premium the Company was willing to pay to enter into a long-term relationship with Fabrica and the benefits the Company expects to receive from being able to cost effectively serve its current customers with distribution centers in the western United States.  The relationship with Fabrica is expected to provide opportunities for future production capacity and sales growth.  Goodwill is not amortized, but is tested at least annually for impairment, or if circumstances occur that more likely than not will reduce the fair value of the reporting unit to below its carrying amount.  No goodwill impairment has been recorded as of September 30, 2014.  All of the goodwill related to the Fabrica acquisition is expected to be tax-deductible.

 

 

 

 

 
7

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Operating Results of Business Acquired

 

The consolidated statements of income include the following revenues and earnings related to the U.S. business acquired from Fabrica:

 

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 
   

(in thousands)

   

(in thousands)

 

Revenues

  $ 11,452     $ -     $ 14,345     $ -  

Earnings

  $ 2,369     $ -     $ 2,945     $ -  

 

 

Transaction costs of $84,000 and $1.6 million are recognized in selling, general and administrative expenses in the consolidated statements of income for the three and nine-month periods ended September 30, 2014.

 

Pro Forma Information

 

The following pro forma information presents a summary of the operating results of the Company for the three and nine months ended September 30, 2014 as if the U.S. business acquired from Fabrica had been included in our results of operations as of January 1, 2013:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 
   

(in thousands)

   

(in thousands)

 

Pro forma net sales

  $ 44,429     $ 36,437     $ 115,546     $ 104,252  

Pro forma net income

  $ 3,914     $ 3,789     $ 9,081     $ 8,890  

Pro forma net income per share - basic

  $ 0.45     $ 0.44     $ 1.04     $ 1.05  

Pro forma net income per share - diluted

  $ 0.44     $ 0.43     $ 1.03     $ 1.03  

 

Pro forma adjustments to net income include amortization costs related to the intangibles acquired, acquisition related costs, and the tax effect of the historical results of operations of Fabrica’s U.S. business, excluding certain mark-up and selling, general and administrative costs that will not be incurred by Orchids.

 

The pro forma amounts are presented for informational purposes only and are not intended to represent or be indicative of the Company’s consolidated results of operations or financial condition that would have been reported had the acquisition been completed as of the beginning of the periods presented and should not be taken as indicative of the Company’s future consolidated results of operations or financial condition.

 

Note 3 — Fair Value Measurements

 

The Company does not report any assets or liabilities at fair value in the financial statements.  However, the estimated fair value of the Company’s short-term investments, which consist of commercial deposits in money market funds, was $0 and $5,035,000 at September 30, 2014 and December 31, 2013, respectively.  These short-term investments are considered Level 1 measurements in the fair value valuation hierarchy.  The fair value of the Company’s long-term debt is estimated by management to approximate the carrying value of $29,325,000 and $15,079,000 at September 30, 2014 and December 31, 2013, respectively.  Management’s estimates are based on periodic comparisons of the characteristics of the Company’s obligations, including floating interest rates, credit rating, maturity and collateral, to current market conditions as stated by an independent third-party financial institution.  Such valuation inputs are considered a Level 2 measurement in the fair value valuation hierarchy.

 

There were no transfers among Level 1, Level 2 or Level 3 assets or liabilities during the first nine months in 2014 or 2013.

 

Note 4 — Commitments and Contingencies

 

The Company may be involved from time to time in litigation arising from the normal course of business. In management’s opinion, as of the date of this report, the Company is not engaged in legal proceedings which individually or in the aggregate are expected to have a materially adverse effect on the Company’s results of operations or financial condition.

 

 

 

 

 
8

 

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

In October 2008, the Company entered into a contract to purchase 334,000 MMBTU per year of natural gas.  This contract has been extended through December 2016 and provides for approximately 60% to 70% of the Company’s natural gas requirements through December 31, 2016. In September 2014, the Company entered into a similar contract with a different vendor for natural gas requirements in 2017. Commitments under these contracts are as follows:

 

Period

 

MMBTUs

   

Price per MMBTU

   

Management fee per MMBTU

 

April 2012 - March 2013

    334,207     $ 5.50     $ 0.07  

April 2013 - December 2014

    556,886     $ 4.905     $ 0.07  

April 2013 - September 2013

 

additional 5,000/month

    $ 4.70     $ 0.07  

October 2013 - March 2014

 

additional 5,000/month

    $ 4.75     $ 0.07  

April 2014 - December 2014

 

additional 5,000/month

    $ 4.70     $ 0.07  

January 2015 - March 2015

    95,900     $ 4.50     $ 0.07  

April 2015 - June 2015

    93,600     $ 4.30     $ 0.07  

July 2015 - September 2015

    92,300     $ 4.35     $ 0.07  

October 2015 - December 2015

    91,900     $ 4.50     $ 0.07  

January 2016 - March 2016

    95,900     $ 4.53     $ 0.07  

April 2016 - June 2016

    93,600     $ 4.17     $ 0.07  

July 2016 - September 2016

    92,300     $ 4.26     $ 0.07  

October 2016 - December 2016

    91,900     $ 4.42     $ 0.07  

January 2017 - December 2017

    467,505     $ 4.06     $ -  

 

Purchases under the gas contract were $0.5 million for each of the three months ended September 30, 2014 and 2013, and $1.4 million for each of the nine-month periods ended September 30, 2014 and 2013.  If the Company is unable to purchase the contracted amounts and the market price at that time is less than the contracted price, the Company would be obligated under the terms of the agreements to reimburse an amount equal to the difference between the contracted amount and the amount actually purchased, multiplied by the difference between the contract price and a price designated in the contract (approximates spot price).

 

In November 2013, we announced two projects to upgrade our paper making and converting assets at our Pryor, Oklahoma facility: a project to replace two existing paper machines with a new paper machine in our paper mill, and a project to upgrade an existing converting line.  These projects have a total estimated cost of $30.4 million.  As part of these projects, we have entered into purchase orders to: (i) purchase a paper machine, (ii) purchase a converting rewinder and (iii) purchase construction and installation services for the new paper machine.  As of September 30, 2014, our remaining obligations under these purchase orders total $11.6 million.  The purchase order to purchase a paper machine is denominated in Euros.  The amounts included herein were translated to US dollars using the spot exchange rate as of September 30, 2014.

 

Note 5 — Inventories

 

Inventories at September 30, 2014 and December 31, 2013 were as follows:

 

   

September 30,

   

December 31,

 
   

2014

   

2013

 
   

(in thousands)

 
                 

Raw materials

  $ 4,139     $ 3,587  

Bulk paper rolls

    2,527       2,125  

Converted finished goods

    3,611       5,314  

Inventory valuation reserve

    (133 )     (105 )
    $ 10,144     $ 10,921  

 

 
9

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Note 6 — Long-Term Debt and Revolving Line of Credit

 

In June 2014, the Company entered into a Credit Agreement (the “Credit Agreement”) with U.S. Bank National Association (“U.S. Bank”) consisting of the following:

 

 

a $45 million revolving credit line due June 2019:

 

 

$25 million permitted for domestic working capital purposes; and

 

$20 million permitted for the purchase and construction of a paper machine and upgrade of one of the converting lines at the Company’s Pryor, Oklahoma facility.

 

 

a $30 million term loan with a 6-year term due June 2020 and amortized as follows:

 

 

Real estate debt amortized as if it had a 22-year life;

 

Equipment debt amortized as if it had a 7-year life; and

 

Debt incurred in connection with the acquisition of a supply agreement with Fabrica (see Note 2) amortized as if it had a 10-year life.

 

The Credit Agreement had the effect of (i) extending and increasing the Company’s revolving working capital line of credit from $15 million to $25 million, (ii) increasing the Company’s revolving line of credit to include $20 million for the purchase and construction of assets in Oklahoma, and (iii) refinancing and extending the Company’s $10.8 million Real Estate loan ($9.5 million outstanding) and $7.2 million Machinery and Equipment loan ($5.1 million outstanding) into a single $30 million term loan, used to provide funding for the $16.7 million paid to close the strategic alliance with Fabrica described in Note 2.

 

Under the terms of the Credit Agreement, amounts outstanding will bear interest at a variable rate of LIBOR plus a specified margin, depending upon the Company’s quarterly Leverage Ratio, as defined in the Credit Agreement.  Additionally, the Company will pay a commitment fee for the available portion of its revolving credit line at the applicable rate, as follows:

 

 

   

Interest

   

Commitment

 

Leverage Ratio

 

Margin

   

Fee

 

Less than 1.00

    1.00 %     0.15 %

Greater than or equal to 1.00 but less than 2.00

    1.25 %     0.20 %

Greater than or equal to 2.00 but less than 3.00

    1.50 %     0.25 %

Greater than or equal to 3.00

    2.00 %     0.30 %

 

The Company’s leverage ratio at September 30, 2014 was approximately 0.94.

 

Long-term debt at September 30, 2014 and December 31, 2013 consists of:

  

   

September 30,

   

December 31,

 
   

2014

   

2013

 
   

(in thousands)

 
                 

Revolving line of credit, maturing on June 3, 2019

  $ -     $ -  

Term Loan 1, maturing on April 24, 2021, due in monthly installments of $36,000, excluding interest paid separately

    -       9,684  

Term Loan 2, maturing on July 1, 2018, due in monthly installments of $60,000, excluding interest paid separately

    -       5,395  

Term Loan, maturing on June 3, 2020, due in quarterly installments of $675,000 for the first two years and $1,000,000 thereafter, excluding interest paid separately

    29,325       -  
    $ 29,325     $ 15,079  

Less current portion

    2,700       1,152  
    $ 26,625     $ 13,927  

 

The amount available under the revolving credit line may be reduced in the event that the Company’s borrowing base, which is based upon qualified receivables and qualified inventory, is less than $25 million.

 

 
10

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Obligations under the Credit Agreement are secured by substantially all of the Company’s assets.  The Credit Agreement contains representations and warranties, and affirmative and negative covenants customary for financings of this type, including, but not limited to, limitations on additional borrowings, additional investments and asset sales.  The financial covenants, which are tested as of the end of each fiscal quarter, require the Company to maintain the following specific ratios: fixed charge coverage (minimum of 1.20 to 1.0) and leverage (maximum of 3.50 to 1.0).

 

Note 7 — Income Taxes

 

The Company is subject to income tax in the United States and Mexico. Our earnings in Mexico will be subject to the country’s 30% income tax rate.  Tax liabilities in Mexico are currently immaterial.  The Company does not currently provide for U.S. federal income taxes on the undistributed earnings of its foreign subsidiaries as such earnings are expected to be reinvested indefinitely rather than repatriated back to the United States.  The amount of undistributed earnings of the Company’s foreign subsidiary is currently immaterial.

 

As of September 30, 2014, our annual estimated effective income tax rate is 32.4%. This compares to an estimated effective tax rate of 32.0% as of June 30, 2014, resulting in an effective tax rate for the quarter ended September 30, 2014 of 32.6%. The annual estimated effective tax rate for 2014 differs from the statutory rate due primarily to U.S. manufacturing tax credits.  For the quarter and nine-month period ended September 30, 2013, our actual effective income tax rate was 24.6% and 26.2%, respectively.  The annual estimated effective tax rate for 2013 is lower than the statutory rate due primarily to U.S. manufacturing tax credits and Indian employment tax credits (“IECs”). Recognition of the IEC for 2012 was deferred until the first quarter of 2013 as the American Taxpayer Relief Act of 2012, which extended the IEC, was not signed into law by the President of the United States until 2013.

 

 

Note 8 — Earnings per Share

 

During the first quarter of 2013, the Company granted restricted stock to certain employees. These awards include a nonforfeitable right to receive dividends and therefore are considered to participate in undistributed earnings with common shareholders.  Therefore, the Company calculates basic and diluted earnings per common share using the two-class method, under which net earnings are allocated to each class of common stock and participating security.  The computation of basic and diluted net income per common share for the three-month and nine-month periods ended September 30, 2014 and 2013 is as follows:

 

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 

Net income - ($ thousands)

  $ 3,830     $ 3,723     $ 7,019     $ 9,959  

Less: distributed earnings allocable to participating securities

    (2 )     (6 )     (6 )     (16 )

Less: undistributed earnings allocable to participating securities

    -       (2 )     1       (4 )

Distributed and undistributed earnings allocable to common shareholders

  $ 3,828     $ 3,715     $ 7,014     $ 9,939  
                                 

Weighted average shares outstanding

    8,753,308       7,964,254       8,363,913       7,813,762  

Effect of stock options

    70,629       109,517       78,144       95,010  

Weighted average shares outstanding - assuming dilution

    8,823,937       8,073,771       8,442,057       7,908,772  

Net income per common share:

                               

Basic

  $ 0.44     $ 0.47     $ 0.84     $ 1.27  

Diluted

  $ 0.44     $ 0.47     $ 0.83     $ 1.25  
                                 

Stock options not considered above because they were anti-dilutive

    560,000       -       520,000       -  

 

Note 9 — Stock Incentives

 

In April 2014, the Board of Directors and the stockholders approved the Orchids Paper Products Company 2014 Stock Incentive Plan (the “2014 Plan”), which replaced the Orchids Paper Products Company 2005 Stock Incentive Plan (the “2005 Plan”).  No further grants can be made under the 2005 Plan.  Equity awards granted under the 2005 Plan will continue in full force and effect under the terms of the 2005 Plan and are not changed or modified.  The 2014 Plan provides for the granting of stock options and other stock based awards to employees and board members selected by the board’s compensation committee.  A total of 400,000 shares may be issued pursuant to the 2014 Plan.  As of September 30, 2014, there were 355,000 shares available for issuance under the 2014 Plan.

 

 

 

 
11

 

  

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Stock Options with Time-Based Vesting Conditions

 

The grant date fair value of the following option grants was estimated using the Black-Scholes option valuation model.  Option valuation models require the input of highly subjective assumptions including the expected stock price volatility.  The following table details the options granted to certain members of the board of directors and management that were valued using the Black-Scholes valuation model and the assumptions used in the valuation model for those grants during the nine months ended September 30, 2014 and 2013:

 

Grant

 

Number

   

Exercise

   

Grant Date

   

Risk-Free

   

Estimated

   

Dividend

   

Expected Life

 

Date

 

of Shares

   

Price

   

Fair Value

   

Interest Rate

   

Volatility

   

Yield

   

(years)

 

February-13

    3,750     $ 21.695     $ 5.68       2.02 %     43 %     4.61 %     5  

May-13

    40,000     $ 22.95     $ 5.28       1.87 %     43 %     5.88 %     5  

May-14

    35,000     $ 29.65     $ 7.50       2.62 %     41 %     4.72 %     5  

June-14

    5,000     $ 30.09     $ 7.67       2.63 %     41 %     4.65 %     5  

 

The Company expenses the cost of these options granted over the vesting period of the option based on the grant-date fair value of the award.

 

Stock Options with Market-Based Vesting Conditions

 

During the first nine months of 2014, the Board of Directors granted options to purchase 145,000 shares of the Company’s common stock to certain members of management.  These options will become exercisable in four equal tranches, if at all, if and when the share price of the common stock closes at a certain percentage of the purchase price of the option for three consecutive business days, in accordance with the following vesting schedule:

 

 

     

Share price required to achieve vesting

 
 

Tranche 1

  $ 34.788    
 

Tranche 2

  $ 42.350    
 

Tranche 3

  $ 51.425    
 

Tranche 4

  $ 60.500    

 

Any unvested portion of the options shall expire five years from the date of grant and the options shall terminate ten years after the date of grant.  As these options include a market condition, the grant date fair value and implicit service period of these option grants were estimated using a Monte Carlo option valuation model.  The following table details the options granted to certain members of management that were valued using the Monte Carlo valuation model and the assumptions used in the valuation model for those grants during the nine months ended September 30, 2014.  No options granted during the nine months ended September 30, 2013 were valued using the Monte Carlo option valuation model.

  

Grant 

 

Number

   

Exercise

   

Grant Date

   

Risk-Free

   

Estimated

   

Dividend

   

Expected

   

Derived Service

 

Date

 

of Shares

   

Price

   

Fair Value

   

Interest Rate

   

Volatility

   

Yield

   

Life (years)

   

Period (years)

 

January 14 - Tranche 1

    10,000     $ 31.125     $ 5.64       1.98 %     31 %     4.50 %     5.15       0.31  

January 14 - Tranche 2

    10,000     $ 31.125     $ 5.46       1.98 %     31 %     4.50 %     5.58       1.15  

January 14 - Tranche 3

    10,000     $ 31.125     $ 5.03       1.98 %     31 %     4.50 %     5.97       1.94  

January 14 - Tranche 4

    10,000     $ 31.125     $ 4.27       1.98 %     31 %     4.50 %     6.25       2.50  

February 14 - Tranche 1

    25,000     $ 30.88     $ 5.51       1.98 %     31 %     4.60 %     5.17       0.35  

February 14 - Tranche 2

    25,000     $ 30.88     $ 5.35       1.98 %     31 %     4.60 %     5.60       1.19  

February 14 - Tranche 3

    25,000     $ 30.88     $ 4.88       1.98 %     31 %     4.60 %     5.99       1.98  

February 14 - Tranche 4

    25,000     $ 30.88     $ 4.15       1.98 %     31 %     4.60 %     6.27       2.54  

May 14 - Tranche 1

    1,250     $ 28.185     $ 5.06       2.03 %     31 %     4.70 %     5.36       0.71  

May 14 - Tranche 2

    1,250     $ 28.185     $ 4.74       2.03 %     31 %     4.70 %     5.78       1.56  

May 14 - Tranche 3

    1,250     $ 28.185     $ 4.02       2.03 %     31 %     4.70 %     6.14       2.29  

May 14 - Tranche 4

    1,250     $ 28.185     $ 3.29       2.03 %     31 %     4.70 %     6.39       2.79  

 

The Company expenses the cost of these options granted over the implicit, or derived, service period of the option based on the grant-date fair value of the award. During the nine months ended September 30, 2014, 25,000 options that were granted in January 2014 were forfeited when an employee left the Company. No options were forfeited during the nine months ended September 30, 2013.

 

 

 

 
12

 

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Options Issued Outside of the 2014 Plan

 

In April 2014, the Company’s stockholders voted to approve the options granted to Mr. Jeffrey S. Schoen, the Company’s President and Chief Executive Officer, on November 8, 2013.  Upon his appointment as an officer of the Company, Mr. Schoen was granted an option to purchase up to 400,000 shares of the common stock of the Company at a purchase price of $30.25 per share.  The option will become exercisable, if at all, if and when the share price of the Company’s common stock closes at a certain percentage of the purchase price of the option for three consecutive business days, in accordance with the following vesting schedule:

 

Share price closes at or above the following percentage of the purchase price for the Option  

Number of shares that become vested

115% (share price $34.788)   100,000
140% (share price $42.35)   100,000
170% (share price $51.425)   100,000
200% (share price $60.50)  

100,000

 

These options were granted outside of the 2005 Plan and the 2014 Plan.  Any unvested portion of the option shall expire five years from the date of grant and the option shall terminate ten years after the date of grant.  The Company used a Monte Carlo option valuation model to estimate the grant date fair value of each tranche of 100,000 options, as they include a market condition.  The Company will expense the cost of the options granted over the implicit service period of the options based on the completed Monte Carlo models. The following table details the assumptions used in the valuation model for the options granted to Mr. Schoen:

 

   

Number

of Shares

   

Exercise

Price

   

Grant Date

Fair Value

   

Risk-Free

Interest Rate

   

Estimated

Volatility

   

Dividend

Yield

   

Expected Life (years)

   

Derived Service

Period (years)

 

Tranche 1

    100,000     $ 30.25     $ 5.18       2.10 %     30 %     4.60 %     4.99       0.40  

Tranche 2

    100,000     $ 30.25     $ 5.04       2.10 %     30 %     4.60 %     5.42       1.25  

Tranche 3

    100,000     $ 30.25     $ 4.31       2.10 %     30 %     4.60 %     5.79       2.00  

Tranche 4

    100,000     $ 30.25     $ 3.50       2.10 %     30 %     4.60 %     6.04       2.50  

 

Total Option Expense

 

The Company recognized the following expenses related to all options granted during the three-month and nine-month periods ended September 30, 2014 and 2013 under the 2005 Plan, the 2014 Plan and the Schoen options:

 

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 

Time-Based Vesting Options

  $ 1,000     $ 18,000     $ 307,000     $ 303,000  

Market-Based Vesting Options

    427,000       -       1,264,000       -  

Total compensation expense related to stock options

  $ 428,000     $ 18,000     $ 1,571,000     $ 303,000  

 

Future Expected Market-Based Stock Option Expense

 

The grant of options that vest based on a market condition will have a material impact on the Company’s results of operations.  Based on the derived service periods of the options, the Company expects to expense the compensation cost related to these options as shown in the following table.  However, if the market condition is achieved for any tranche of these options prior to the end of the derived service period, all remaining expense related to that tranche would be recognized in the period in which the market condition is achieved.

 

 

   

2014

   

2014

   

2015

   

2016

 
   

Q1

   

Q2

   

Q3

   

Q4

   

Total

   

Total

   

Total

 
   

(in thousands)

Tranche 1

  $ 96     $ 423     $ 196     $ 2     $ 717     $ -     $ -  

Tranche 2

    26       141       122       135       424       240       -  

Tranche 3

    15       76       66       72       229       289       59  

Tranche 4

    10       50       43       47       150       189       136  

Total expense

  $ 147     $ 690     $ 427     $ 256     $ 1,520     $ 718     $ 195  

 

Restricted Stock

 

During the three months ended March 31, 2013, the Company granted 16,000 shares of restricted stock to certain employees under the 2005 Plan.  These awards were valued at the arithmetic mean of the high and low market price of the Company’s stock on the grant date, which was $21.695 per share, and vest ratably over a three year period beginning on the first anniversary of the grant date.  During 2013, 8,000 of these shares were forfeited.  Accordingly, the first third of the remaining shares, or 2,666 shares, vested in February 2014.  In July 2014, an additional 667 shares were forfeited. The Company expenses the cost of restricted stock granted over the vesting period of the shares based on the grant-date fair value of the award.  The Company recognized expense of $9,000 and $29,000 for the three-month periods ended September 30, 2014 and 2013, respectively, and $38,000 and $77,000 for the nine-month periods ended September 30, 2014 and 2013, respectively, related to the shares granted under the 2005 Plan.

 

 
13

 

 

ORCHIDS PAPER PRODUCTS COMPANY AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS (continued)

 

Note 10 — Major Customers and Concentration of Credit Risk

 

The Company sells its paper production in the form of parent rolls and converted products.  Revenues from converted product sales and parent roll sales in the three and nine months ended September 30, 2014 and 2013 were:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 
   

(in thousands)

   

(in thousands)

 
                                 

Converted product net sales

  $ 43,157     $ 28,190     $ 97,042     $ 80,601  

Parent roll net sales

    1,272       1,570       4,342       5,000  

Net sales

  $ 44,429     $ 29,760     $ 101,384     $ 85,601  

 

Credit risk for the Company in the three and nine months ended September 30, 2014 and 2013 was concentrated in the following customers who each comprised more than 10% of the Company’s total net sales:

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2014

   

2013

   

2014

   

2013

 
                                 

Converted product customer 1

    35 %     51 %     42 %     52 %

Converted product customer 2

    13 %     12 %     10 %     11 %

Converted product customer 3

    13 %     10 %     11 %      

Total percent of net sales

    61 %     73 %     63 %     63 %

 

 

 


* Customer did not account for more than 10% of sales during the period indicated

 

At September 30, 2014 and December 31, 2013, the three significant customers accounted for the following amounts of the Company’s accounts receivable (in thousands):

 

   

September 30,

           

December 31,

         
   

2014

           

2013

         
                                 

Converted product customer 1

  $ 2,332       20 %   $ 2,678       41 %

Converted product customer 2

    3,770       33 %     1,012       15 %

Converted product customer 3

    1,345       12 %            

Total of accounts receivable

  $ 7,447       65 %   $ 3,690       56 %

 

 

 


* Customer did not account for more than 10% of sales during the period indicated

 

Note 11 – ODFA Pooled Financing

 

In September 2014, the Company entered into an agreement with the Oklahoma Development Finance Authority (“ODFA”) whereby the ODFA agreed to provide the Company up to $3.5 million to fund a portion of the cost of a new paper production line before September 1, 2020. The agreement provides for the Oklahoma state withholding payroll taxes withheld by the Company from its employees to be placed into the Community Economic Development Pooled Finance Revolving Fund – Orchids Paper Products (“Revolving Fund”). Each year on September 1, beginning in 2015 and ending in 2020, the ODFA will return these state withholding taxes in the Revolving Fund to the Company, up to an amount totaling $3.5 million. These amounts are recognized as a note receivable in other current assets in the consolidated balance sheet and in other income in the consolidated statements of income as they are withheld from the employees. These amounts were not material for the three and nine-month periods ended September 30, 2014.

 

Note 12 — New Accounting Pronouncements

 

In May 2014, the FASB issued Accounting Standards Update 2014-09, “Revenue from Contracts with Customers” (“ASU 2014-09”).  ASU 2014-09 clarifies the principles for recognizing revenue and develops a common revenue standard under U.S. GAAP under which an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.  ASU 2014-09 is effective for the Company for interim and annual periods beginning on or after December 15, 2016.  Management is currently assessing the impact ASU 2014-09 will have on the Company, but it is not expected to have a material effect on the Company’s financial position, results of operations or cash flows.

 

In June 2014, the FASB issued Accounting Standards Update 2014-12, “Compensation — Stock Compensation: Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period” (“ASU 2014-12”).  ASU 2014-12 requires that a performance target that affects vesting of share-based payments and that could be achieved after the requisite service period be treated as a performance condition the affects vesting and as such, should not be reflected in estimating the grant-date fair value of the award.  ASU 2014-12 is effective for annual and interim periods beginning after December 15, 2015.  This standard is not expected to have a material effect on the Company’s financial position, results of operations or cash flows.

 

Note 13 — Subsequent Event

 

On October 29, 2014, the Board of Directors authorized a quarterly cash dividend of $0.35 per outstanding share of the Company’s common stock.  The Company expects to pay this dividend on November 24, 2014 to stockholders of record at the close of business on November 10, 2014.

 
14

 

 

 

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

 

Forward-Looking Information

 

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements.  These statements relate to, among other things:

 

 

our business strategy;

 

the market opportunity for our products, including expected demand for our products;

 

our estimates regarding our capital requirements; and

 

any of our other plans, objectives, and intentions contained in this report that are not historical facts.

 

These statements relate to future events or future financial performance, and involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements.  In some cases, you can identify forward-looking statements by terminology such as “may,” “should,” “could,” “expects,” “plans,” “intends,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of such terms or other comparable terminology.  Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.  These statements are only predictions.

 

You should not place undue reliance on forward-looking statements because they involve known and unknown risks, uncertainties, and other factors that are, in some cases, beyond our control and that could materially affect actual results, levels of activity, performance or achievements.  Factors that could materially affect our actual results, levels of activity, performance or achievements include, but are not limited to, those detailed under the caption “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2013, as filed with the SEC on March 6, 2014, and those identified in Part II, Item 1A of our Form 10-Q for the period ended June 30, 2014, as filed with the SEC on August 5, 2014, and also identified in this Form 10-Q, which include but are not limited to the following items:

 

 

intense competition in our markets and aggressive pricing by our competitors could force us to decrease our prices and reduce our profitability;

 

a substantial percentage of our converted product revenues are attributable to a small number of customers who may decrease or cease purchases at any time;

 

disruption in our supply or increase in the cost of fiber;

 

Fabrica’s failure to execute under the Supply Agreement;

 

failure to successfully integrate the Fabrica business into our existing operations, and the additional indebtedness incurred to finance the Fabrica acquisition;

 

increased competition in our region;

 

changes in our retail trade customers’ policies and increased dependence on key retailers in developed markets;

 

excess supply in the market may reduce our prices;

 

the availability of, and prices for, energy;

 

failure to purchase the contracted quantity of natural gas may result in financial exposure;

 

our exposure to variable interest rates;

 

the loss of key personnel;

 

labor interruption;

 

natural disaster or other disruption to our facilities;

 

ability to finance the capital requirements of our business;

 

cost to comply with existing and new laws and regulations;

 

failure to maintain an effective system of internal controls necessary to accurately report our financial results and prevent fraud;

 

the parent roll market is a commodity market and subject to fluctuations in demand and pricing;

 

indebtedness limits our free cash flow and subjects us to restrictive covenants relating to the operation of our business;

 

an inability to continue to implement our business strategies; and

 

inability to sell the capacity generated from our converting lines.

 

If any of these risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may vary significantly from what we projected.  Any forward-looking statement you read in the following Management’s Discussion and Analysis of Financial Condition and Results of Operations reflects our current views with respect to future events and is subject to the risks listed above and other risks, uncertainties, and assumptions relating to our operations, results of operations, growth strategy, and liquidity.  We assume no obligation to publicly update or revise these forward-looking statements for any reason, whether as a result of new information, future events, or otherwise.

 

 
15

 

 

 

Overview

 

We are an integrated manufacturer of tissue products primarily serving the private label, or “at-home” market.  We produce bulk tissue paper, known as parent rolls, and convert parent rolls into finished products, including paper towels, bathroom tissue and paper napkins. We sell parent rolls not required by our converting operation to other converters.  Our core customer base consists of dollar stores and other discount retailers that offer a limited selection across a broad range of products at everyday low prices in a smaller store format.  We have focused on the dollar stores (which are also referred to as discount retailers) and the broader discount retail market because of their overall market growth, consistent order patterns and low number of stock keeping units (“SKUs”).  The at-home tissue market consists of several quality levels, including a value tier, premium tier and ultra-premium tier.

 

In June 2014, we completed the acquisition of certain assets from Fabrica de Papel San Francisco, S.A. de C.V. (“Fabrica”), including Fabrica’s U.S. business, which is primarily in the western United States.  Fabrica is a privately owned company that started as a tissue converter in 1958 and produces parent rolls, paper towels, bathroom tissue and paper napkins.  It has grown to 150,000 metric tons of capacity, one of the largest tissue manufacturers by capacity in Mexico.  Additionally, we entered into a Supply Agreement with Fabrica that will assist us in supplying the expected sales growth related to the acquired U.S. business and is anticipated to assist us in being able to cost effectively service current customers with distribution centers on the West Coast of the United States. Under the Supply Agreement, we have the option to purchase up to 18,000 metric tons of product each year at margins that are expected to be consistent with margins earned on products produced in our facility in Oklahoma.  We may purchase up to an additional 7,000 metric tons annually in each of the first two years of the agreement. The acquisition of certain assets and the U.S business of Fabrica and entrance into the Supply Agreement are referred to elsewhere in this document as the “Fabrica Transaction”. Approximately 20% of the U.S. business we acquired from Fabrica is in the “away from home” market.  This market covers industries such as the janitorial market and food service market.  While we expect to service this market in the near term, we do not consider the “away from home” market a growth vehicle for us.

 

While our historical business strategy was focused on the value tier market, primarily due to the dollar stores’ concentration of product offerings in that market and, to some extent, limitations of certain manufacturing equipment, we have systematically invested in manufacturing assets to improve quality, expand our product offerings and strengthen our position as a low cost manufacturer in the premium tier and ultra-premium tier markets.  This began with the investment in a new paper machine in 2006 which provided the opportunity to produce parent rolls for value tier and premium tier converted products and improved our cost structure.  Further, we undertook an expansion project that included the purchase and installation of a new converting line and the construction of a new converted product warehouse in mid-2010.  This project had three main objectives: increase the capacity of our converting operation, provide the capability to produce higher-quality premium tier converted products and reduce warehousing costs by centralizing all warehousing and shipping.  In November of 2013, we announced projects to further increase our capacity to produce higher-quality premium tier converted products and increase the flexibility of our manufacturing operation, including replacing two existing paper machines with a new paper machine and upgrading an existing converting line.  While we have customers located throughout the United States, historically most of our products are distributed within an approximate 900-mile radius of our Oklahoma facility. However, historically our sales efforts have been focused on an area within approximately 500 miles of our facility in northeast Oklahoma, which includes Texas, Oklahoma, Kansas, Missouri, Arkansas, Nebraska and Iowa, as we believe this radius maximizes our freight cost advantage over our competitors. Because we are one of the few tissue paper manufacturers in this area, we typically have lower freight costs to our customers’ distribution centers located in our target region. At-home tissue market growth has historically been closely correlated to population growth and as such, performs well in a variety of economic conditions. Our target region has experienced strong population growth for the past thirteen years relative to the national average, and this trend is expected to continue.  Products produced under the Supply Agreement with Fabrica will be manufactured in Mexico and shipped directly to our customers.  We believe this will allow us to cost effectively expand our sales efforts to include current and new customers with stores and/or distribution centers on the West Coast of the United States in states such as California, Nevada, Arizona, New Mexico and Utah.

 

Our products are sold primarily under our customers’ private labels and, to a lesser extent, under our brand names such as Colortex®, My Size®, Velvet®, Big Mopper®, Linen Soft®, Soft & Fluffy®, and Tackle®. As part of the acquisition of Fabrica’s U.S. business and related trademarks, we also acquired the exclusive right to use all of Fabrica’s brand names, including Virtue®, Truly Green®, Golden Gate Paper® and Big Quality®. All of our converted product revenue is derived through truck load purchase orders from our customers.  Parent roll revenue is derived from purchase orders that generally cover a one-month time period. We do not have supply contracts with any of our customers, which is normal practice within our industry.  Because our product is a daily consumable item, the order stream from our customer base is fairly consistent with generally no significant seasonal fluctuations. However, we typically experience some mild seasonal softness in the first and fourth quarters of each year, primarily due to the effects of winter weather on consumers buying habits and occasional effects of holidays on shipping schedules.  Changes in the national economy, in general, do not materially affect the market for our converted products.

 

Our profitability depends on several key factors, including but not limited to:

 

 

the volume of converted product sales;

 

the cost of fiber used in producing paper;

 

the market price of our products;

 

the efficiency of operations in both our paper mill and converting facility; and

 

the cost of energy.

 

The private label market of the tissue industry is highly competitive, and many discount retail customers are extremely price sensitive. As a result, it is difficult to affect price increases.  We expect these competitive conditions to continue.

 

 
16

 

  

Background

 

Since June 2006, when we began operations of a new paper machine, our Oklahoma-based paper-making capacity of approximately 57,000 tons per year has exceeded the demand requirements of our converting operations. We sell the excess supply into the market in the form of parent rolls.  We adjust our paper making production based on our internal converting needs for parent rolls and the open market demand for parent rolls. The capacity obtained under the previously described Fabrica Transaction will be sold in converted product form and we do not plan to sell any excess capacity in parent roll form.  Parent rolls are a commodity product and thus are subject to market pricing.  We plan to continue to sell any excess parent roll capacity from Oklahoma on the open market as long as market pricing is profitable.  When converting production requirements exceed paper mill capacity, we will purchase bulk rolls in the open market to meet those converting requirements.

 

Our parent rolls are converted into paper towels, bathroom tissue and napkins in our adjacent converting facility in Oklahoma. Our converting lines currently have a total annual estimated capacity of approximately 70,000 tons of finished tissue products, depending upon the mix of converted products produced, including the product configurations.  Our strategy is to sell all of our parent roll capacity as converted products, which generally carry higher margins than non-converted parent rolls. To help achieve that goal, we are placing significant focus on improving our sales efforts to sell all of our converting capacity.  In addition, we continue to focus considerable efforts to improve our converting efficiencies.

 

Our strategy is to expand our position as a low cost provider of high-quality private label tissue products to the growing discount retail channel while leveraging our competitive advantages to increase our presence in the premium tier and ultra-premium tier markets within the discount retail channel as well as other retail channels.  We expect to accomplish this strategy through the expansion of our product offerings through new product development, investment in manufacturing equipment that is able to produce higher-quality products, our continued high service levels and increased total manufacturing capacity.

 

We are implementing this strategy through our key initiatives set forth below:

 

 

maintain and strengthen our core customer relationships;

 

improve the product quality of our higher tier offerings to meet and or exceed customers’ required attributes;

 

increase our flexibility to meet a wider array of customer needs;

 

further expand our customer base in other retail channels; and

 

continue to improve operating efficiencies and reduce manufacturing costs.

 

We continue to focus our efforts on growth of our converted product sales and expansion of our product offerings through development of premium tier and ultra-premium tier products.  The following graph shows shipments of our premium tier and ultra-premium tier products as a percentage of total cases shipped:

 

 

Shipments of premium tier and ultra-premium tier products as a percentage of total cases shipped decreased in the third quarter of 2014 due to: (i) the effects of the sales volumes from the Fabrica Transaction and related Supply Agreement, as almost all of the products shipped under the Supply Agreement are considered value tier products, and (ii) value tier promotional items that were shipped in the third quarter of 2014.

 

 
17

 

 

 

Since our inception in 1998, we have strategically expanded capacity and capability in both paper manufacturing and finished product converting to meet market demand and customers’ quality requirements.  In 2010, we increased our annual converting capacity with the installation of a new converting line, which, along with other strategic investments, increased our annual converting capacity to approximately 70,000 tons per year, depending upon the mix of converted products produced, including the product configurations.  This additional converting capacity has enabled us to both increase sales of existing products and to provide the flexibility to manufacture higher tier products for sales to our core customer base and into new retail channels.  In 2014, we also entered into a Supply Agreement with Fabrica, which provides access to 18,000 metric tons of capacity each year. We may purchase up to an additional 7,000 metric tons annually in each of the first two years of the agreement.

 

Although we have an annual estimated converting capacity of approximately 70,000 tons, our in-house supply of parent rolls provides enough to convert approximately 57,000 tons.  In order to convert at an annual capacity above approximately 57,000 tons, we would have to supplement our supplies by purchasing parent rolls in the open market, which we believe would have an unfavorable impact on our gross profit margin.  In 2015, we plan to complete a project that replaces two existing paper machines in our paper mill with a new machine that is expected to increase our annual paper mill capacity to over 70,000 tons. In addition, this machine will produce a broader range of paper grades that are utilized in manufacturing value and premium tier products. The machine is expected to begin production in early 2015, with full utilization by mid-2015.  We expect to purchase up to 4,500 tons of parent rolls in the open market during the time the two machines are being dismantled and the new machine becomes operational.  This process began in early September 2014 and is expected to last through February of 2015.

 

Comparative Three-Month Periods Ended September 30, 2014 and 2013

 

Net Sales

 

   

Three Months Ended September 30,

 
   

2014

   

2013

 
   

(in thousands, except tons)

 
                 

Converted product net sales

  $ 43,157     $ 28,190  

Parent roll net sales

    1,272       1,570  

Net sales

  $ 44,429     $ 29,760  
                 

Converted product tons shipped

    21,528       13,688  

Parent roll tons shipped

    1,494       1,554  

Total tons shipped

    23,022       15,242  

 

Net sales in the quarter ended September 30, 2014, increased $14.7 million, or 49%, from $29.8 million in 2013 to $44.4 million in 2014. Net sales figures represent the gross selling price, including freight, less discounts and pricing allowances.

 

Net sales of converted product increased $15.0 million, or 53%, from $28.2 million in 2013 to $43.2 million in 2014. The increase in converted product net sales is primarily due to a 57% increase in tonnage shipped, which was partially offset by a 3% decrease in net selling price per ton.  Converted product tons shipped increased due to the effect of the U.S. business acquired from Fabrica, which accounted for 78% of the increase in tonnage shipped, and due to new orders from existing customers. Net selling price per ton decreased due to the mix of products sold.

 

Net sales of parent rolls decreased $298,000, or 19%, from $1.6 million in 2013 to $1.3 million in 2014.  The decrease in parent roll net sales was primarily due to a 16% decrease in the net selling price per ton and a 4% decrease in parent roll tons shipped.  Parent roll tons shipped decreased due to anticipated requirements by our converting operation and a planned increase in parent roll inventory prior to the beginning of demolition of two paper machines.  The higher converting requirements are due to the increased shipments of converted product expected in the fourth quarter of 2014.  The decrease in selling price per ton is primarily due to a continued soft market for parent rolls.

 

Cost of Sales

 

   

Three Months Ended September 30,

 
   

2014

     

2013

 
(in thousands, except gross profit margin % and paper cost per ton consumed)  
                   

Cost of goods sold

  $ 33,276       $ 20,704  

Depreciation

    2,369         1,916  

Cost of sales

  $ 35,645       $ 22,620  
                   

Gross profit

  $ 8,784       $ 7,140  

Gross profit margin %

  19.8   %     24.0 %

Total paper cost per ton consumed

  $ 775       $ 753  

 

 
18

 

 

 

The major components of cost of sales are the cost of internally produced paper, raw materials, direct labor and benefits, freight costs of products shipped to customers, insurance, repairs and maintenance, energy, utilities and depreciation.

 

Cost of sales increased $13.0 million, or 58%, to $35.6 million, compared to $22.6 million in the same period of 2013, due primarily to increased sales, higher overhead costs in our paper production operation (lower production levels had a negative effect on absorption of fixed overhead costs) and higher depreciation expense.  As a percentage of net sales, cost of sales increased to 80.2% in the 2014 quarter from 76.0% in the 2013 quarter.  Cost of sales as a percentage of net sales for the third quarter of 2014 was unfavorable to the prior year quarter due to the higher overhead costs mentioned above, higher fiber prices, increased depreciation expense and lower parent roll selling prices.

 

Our overall cost of paper in the third quarter of 2014 was $775 per ton, which was $22 per ton higher compared to the same period in 2013.  Paper production costs were negatively affected by the previously discussed shutdown in September of two paper machines, which increased production costs per ton primarily due to the effect of reducing fixed cost absorption, and an 8% increase in average fiber prices across our fiber basket in the third quarter of 2014 compared to the same quarter in 2013, which increased our cost of sales by approximately $400,000 in the quarter-over-quarter comparison.  A lower than normal operating rate in the U.S. tissue sector resulted in a downward pressure on parent roll prices, which negatively affected our operating margin by about $240,000 in the quarter-over-quarter comparison.

 

Gross Profit

 

Gross profit in the quarter ended September 30, 2014, increased $1.6 million, or 23%, to $8.8 million compared to $7.1 million in the same period last year.  Gross profit as a percentage of net sales in the 2014 quarter was 19.8% compared to 24.0% in the 2013 quarter.  The gross profit decrease as a percent of net sales was primarily the result of higher overhead costs in our paper production operation, higher fiber prices, higher depreciation expense and lower parent roll selling prices.

 

Selling, General and Administrative Expenses

  

   

Three Months Ended September 30,

 
   

2014

   

2013

 
   

(in thousands, except SG&A as a % of net sales)

 
                 

Commission expense

  $ 371     $ 490  

Other S,G&A expenses

    2,170       1,632  

Selling, General & Adm exp

  $ 2,541     $ 2,122  

SG&A as a % of net sales

    5.7 %     7.1 %

 

Selling, general and administrative expenses include salaries, commissions to brokers and other miscellaneous expenses.  Selling, general and administrative expenses increased $419,000, or 20%, in the quarter ended September 30, 2014 as compared to the same period in 2013 primarily due to $402,000 of additional non-cash compensation expense related to options granted to management during 2014, which were partially offset by lower commission expense due to the mix of converted products sold and lower artwork and product packaging design fees. As a percentage of net sales, selling, general and administrative expenses decreased to 5.7% in the third quarter of 2014 compared to 7.1% in the same period of 2013.

 

Amortization of Intangibles

 

The Company recognized $322,000 of amortization expense related to the intangible assets acquired in the Fabrica Transaction during the quarter ended September 30, 2014.

 

 
19

 

 

 

Operating Income

 

As a result of the foregoing factors, operating income for the quarter ended September 30, 2014, was $5.9 million compared to operating income of $5.0 million for the same period of 2013.

 

Interest Expense and Other Income

 

 

   

Three Months Ended September 30,

 
   

2014

   

2013

 
   

(in thousands)

 

Interest expense

  $ 90     $ 92  

Other (income) expense, net

  $ 147     $ (9 )
                 

Income before income taxes

  $ 5,684     $ 4,935  

 

Interest expense includes interest on all debt and amortization of deferred debt issuance costs.  Interest expense for the quarter ended September 30, 2014 excludes $43,000 of interest capitalized on significant projects during the quarter.  Total interest expense of $133,000 was higher in the quarter ended September 30, 2014, compared to the quarter ended September 30, 2013 primarily due to higher debt balances in the third quarter of 2014 due primarily to additional debt incurred in conjunction with the Fabrica Transaction in the second quarter of 2014.

 

Income Before Income Taxes

 

As a result of the foregoing factors, income before income taxes increased $749,000 to $5.7 million in the quarter ended September 30, 2014, compared to $4.9 million in the same period in 2013.

 

Income Tax Provision

 

As of September 30, 2014, our annual estimated effective income tax rate is 32.4%, compared to 27.5% at September 30, 2013.  For the quarters ended September 30, 2014 and 2013, our actual effective income tax rates were 32.6% and 24.6%, respectively.  The actual effective tax rate in the third quarter of 2014 is higher than the 2013 effective tax rate due primarily to the effect of options exercised during the 2013 quarter. The annual estimated effective tax rate in 2014 is higher than the 2013 effective tax rate due to the expiration of the Indian employment tax credit (“IEC”) at the end of 2012 and the end of 2013.  Recognition of a $222,000 IEC for 2012 was deferred until the first quarter of 2013 as the American Taxpayer Relief Act of 2012, which extended the IEC through 2013, was not signed into law by the President of the United States until 2013.  Therefore, the IEC for both 2012 and 2013 were recorded in the 2013 effective tax rate.  Additionally, no IEC has been recognized in the 2014 estimated effective tax rate, as the IEC expired at the end of 2013 and has not been extended for 2014.  The annual estimated effective income tax rate for 2014 is lower than the statutory rate due primarily to U.S. manufacturing tax credits.  The annual estimated effective income tax rate for 2013 is lower than the statutory rate due primarily to U.S. manufacturing tax credits and IECs, including the 2012 IEC that was deferred until 2013.

 

Our earnings in Mexico will be subject to the country’s 30% income tax rate.  Tax liabilities in Mexico were not material for the quarter ended September 30, 2014.

 

Comparative Nine-Month Periods Ended September 30, 2014 and 2013

 

Net Sales

 

   

Nine Months Ended September 30,

 
   

2014

   

2013

 
   

(in thousands, except tons)

 
                 

Converted product net sales

  $ 97,042     $ 80,601  

Parent roll net sales

    4,342       5,000  

Net sales

  $ 101,384     $ 85,601  
                 

Converted product tons shipped

    47,006       38,964  

Parent roll tons shipped

    4,922       4,859  

Total tons shipped

    51,928       43,823  

 

 

 
20

 

 

 

Net sales increased 18% to $101.4 million in the nine months ended September 30, 2014, compared to $85.6 million in the same period of 2013. Net sales figures represent gross selling price, including freight, less discounts and pricing allowances.  The increase in net sales is due to a $16.4 million increase in the sales of converted products being partially offset by a $658,000 decrease in the net sales of parent rolls.

 

Net sales of converted product for the nine months ended September 30, 2014 increased by $16.4 million, or 20%, to $97.0 million compared to $80.6 million in the same period last year. The increase in net sales of converted products is the result of a 21% increase in tonnage shipped, while net selling prices remained flat when compared to the prior year period.  The increase in the tonnage shipped is primarily due to the U.S. business acquired from Fabrica, which comprised 96% of the increase in tonnage shipped, and increased sales to current customers.  

 

Net sales of parent rolls decreased $658,000, or 13%, to $4.3 million in the nine months ended September 30, 2014, compared to $5.0 million in the same period last year.  Net sales of parent rolls decreased due to a 14% decrease in net selling price per ton, which was partially offset by a 1% increase in parent roll tonnage shipped.  The decrease in selling price per ton is primarily due to a soft market for parent rolls. 

 

Cost of Sales

  

   

Nine Months Ended September 30,

 
   

2014

   

2013

 

(in thousands, except gross profit margin % and paper cost per ton consumed)

 
                 

Cost of goods sold

  $ 74,282     $ 59,248  

Depreciation

    6,810       5,690  

Cost of sales

  $ 81,092     $ 64,938  
                 

Gross profit

  $ 20,292     $ 20,663  

Gross profit margin %

    20.0 %     24.1 %

Total paper cost per ton consumed

  $ 764     $ 754  

 

The major components of cost of sales are the cost of internally produced paper, raw materials, direct labor and benefits, freight costs of products shipped to customers, insurance, repairs and maintenance, energy, utilities and depreciation.

 

Cost of sales increased approximately $16.2 million, or 25%, to $81.1 million for the nine months ended September 30, 2014, compared to $64.9 million in the same period of 2013, due primarily to higher fiber costs, higher overhead costs in our converting and paper production operations and higher depreciation expense.  As a percentage of net sales, cost of sales increased to 80.0% of net sales in the nine-month period ended September 30, 2014, compared to 75.9% of net sales in the nine-month period ended September 30, 2013. The increase in cost of sales as a percentage of net sales in the nine months ended September 30, 2013, was primarily attributed to the higher fiber prices and overhead costs mentioned above and lower parent roll prices.

 

In the nine months ended September 30, 2014, our overall cost of paper was $764 per ton, which was an increase of $10 per ton when compared to the same period in 2013.  Our cost per ton increased primarily due to higher fiber prices and higher overhead costs in our paper production operation, primarily maintenance and repair costs.  Average fiber prices across our fiber basket increased approximately 9% in the nine-months of 2014 compared to the same period in 2013, which negatively affected our cost of sales by $700,000.  Maintenance and repair costs increased by approximately $318,000 in the 2014 period compared to the prior year period.  The lower net selling prices of parent rolls mentioned above reduced our gross margin by about $720,000 in the current year period.

 

Converting production costs on a per unit basis, excluding depreciation and external warehousing costs, increased during the first nine months of 2014 compared to the same period in 2013, primarily due to higher overhead costs, including maintenance and repair costs and relocation costs.  Maintenance and repair costs increased by approximately $324,000 in the 2014 period compared to the prior year period.

 

Gross Profit

 

Gross profit in the nine months ended September 30, 2014 decreased $371,000 million, or 2%, to $20.3 million compared to $20.7 million in the same period last year.  Gross profit as a percentage of net sales in the 2014 period was 20.0% compared to 24.1% in the 2013 quarter.  The gross profit decrease as a percent of net sales was primarily the result of higher converting production costs, higher fiber costs, increased overhead costs in our paper production operations, and lower parent roll selling prices.

 

 

 
21

 

 

 

Selling, General and Administrative Expenses

 

 

   

Nine Months Ended September 30,

 
   

2014

   

2013

 
    (in thousands, except SG&A as a % of net sales)    
                 

Commission expense

  $ 1,204     $ 1,403  

Other S,G&A expenses

    7,923       5,509  

Selling, General & Adm exp

  $ 9,127     $ 6,912  

SG&A as a % of net sales

    9.0 %     8.1 %

 

Selling, general and administrative expenses include salaries, commissions to brokers and other miscellaneous expenses.  Selling, general and administrative expenses increased $2.2 million, or 32%, in the nine-month period ended September 30, 2014 as compared to the same period in 2013 primarily due to $1.6 million of costs related to the Fabrica Transaction, $1.1 million of additional non-cash compensation expense related to options granted to management during 2014 and higher professional fees related to the Fabrica Transaction, which were partially offset by lower commission expense due to mix of products sold and lower artwork and product packaging design fees. As a percentage of net sales, selling, general and administrative expenses increased to 9.0% in the nine-month period of 2014 compared to 8.1% in the same period of 2013.

 

Amortization of Intangibles

 

The Company recognized $430,000 of amortization expense related to the intangible assets acquired in the Fabrica Transaction during the nine-month period ended September 30, 2014.

 

Operating Income

 

As a result of the foregoing factors, operating income for the nine months ended September 30, 2014 was $10.7 million compared to operating income of $13.8 million for the same period of 2013.

 

Interest Expense and Other Income

 

   

Nine Months Ended September 30,

 
   

2014

   

2013

 
   

(in thousands)

 

Interest expense

  $ 215     $ 280  

Other (income) expense, net

  $ 141     $ (21 )
                 

Income before income taxes

  $ 10,379     $ 13,492  

 

Interest expense includes interest on all debt and amortization of deferred debt issuance costs.  Interest expense for the nine-month period ended September 30, 2014 excludes $153,000 of interest capitalized on significant projects during the period.  Total interest expense of $368,000 increased in the nine-month period ended September 30, 2014, compared to $280,000 in the nine-month period ended September 30, 2013, primarily due to writing off $38,000 of deferred debt costs when we refinanced our debt with a new creditor and higher debt balances in the third quarter of 2014 due primarily to additional debt incurred in conjunction with the Fabrica Transaction.

 

 

Income Before Income Taxes

 

As a result of the foregoing factors, income before income taxes decreased $3.1 million to $10.4 million in the nine months ended September 30, 2014, compared to $13.5 million in the same period in 2013.

 

Income Tax Provision