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CODI > SEC Filings for CODI > Form 10-Q on 8-Nov-2011All Recent SEC Filings

Show all filings for COMPASS DIVERSIFIED HOLDINGS

Form 10-Q for COMPASS DIVERSIFIED HOLDINGS


8-Nov-2011

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This item 2 contains forward-looking statements. Forward-looking statements in this Quarterly Report on Form 10-Q are subject to a number of risks and uncertainties, some of which are beyond our control. Our actual results, performance, prospects or opportunities could differ materially from those expressed in or implied by the forward-looking statements. Additional risks of which we are not currently aware or which we currently deem immaterial could also cause our actual results to differ, including those discussed in the sections entitled "Forward-Looking Statements" and "Risk Factors" included elsewhere in this Quarterly Report as well as those risk factors discussed in the section entitled "Risk Factors" in our Annual Report on Form 10-K.

Overview

Compass Diversified Holdings, a Delaware statutory trust, was incorporated in Delaware on November 18, 2005. Compass Group Diversified Holdings, LLC, a Delaware limited liability company, was also formed on November 18, 2005. In accordance with the Trust Agreement, the Trust is sole owner of 100% of the Trust Interests (as defined in the LLC Agreement) of the Company and, pursuant to the LLC Agreement, the Company has outstanding, the identical number of Trust Interests as the number of outstanding shares of the Trust. The Manager is the sole owner of the Allocation Interests of the Company. The Company is the operating entity with a board of directors and other corporate governance responsibilities, similar to that of a Delaware corporation.

The Trust and the Company were formed to acquire and manage a group of small and middle-market businesses headquartered in North America. We characterize small to middle market businesses as those that generate annual cash flows of up to $60 million. We focus on companies of this size because of our belief that these companies are often more able to achieve growth rates above those of their relevant industries and are also frequently more susceptible to efforts to improve earnings and cash flow.

In pursuing new acquisitions, we seek businesses with the following characteristics:

North American base of operations;

stable and growing earnings and cash flow;

significant market share in defensible industry niche (i.e., has a "reason to exist");

solid and proven management team with meaningful incentives;

low technological and/or product obsolescence risk; and

a diversified customer and supplier base.

Our management team's strategy for our subsidiaries involves:

utilizing structured incentive compensation programs tailored to each business to attract, recruit and retain talented managers to operate our businesses;

regularly monitoring financial and operational performance, instilling consistent financial discipline and supporting management in the development and implementation of information systems to effectively achieve these goals;

assisting management in their analysis and pursuit of prudent organic cash flow growth strategies (both revenue and cost related);

identifying and working with management to execute attractive external growth and acquisition opportunities; and

forming strong subsidiary level boards of directors to supplement management in their development and implementation of strategic goals and objectives.

Based on the experience of our management team and its ability to identify and negotiate acquisitions, we believe we are positioned to acquire additional attractive businesses. Our management team has a large network of approximately 2,000 deal intermediaries to whom it actively markets and whom we expect to expose us to potential acquisitions. Through this network, as well as our management team's active proprietary transaction sourcing efforts, we typically have a substantial pipeline of potential acquisition targets. In consummating transactions, our management team has, in the past, been able to successfully navigate complex situations surrounding acquisitions, including corporate spin-offs, transitions of family-owned businesses, management buy-outs and reorganizations. We believe the flexibility, creativity, experience and expertise of our management team in structuring transactions provides us with a strategic advantage by allowing us to consider non-traditional and complex transactions tailored to fit a specific acquisition target.


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In addition, because we intend to fund acquisitions through the utilization of our Revolving Credit Facility, we do not expect to be subject to delays in or conditions by closing acquisitions that would be typically associated with transaction specific financing, as is typically the case in such acquisitions. We believe this advantage is a powerful one, especially in the current tight credit environment, and is highly unusual in the marketplace for acquisitions in which we operate.

2011 Highlights

Acquisition of CamelBak

On August 24, 2011, we purchased a controlling interest in CamelBak Products, LLC ("CamelBak"). Based in Petaluma, California and founded in 1989, CamelBak invented the hands-free hydration category and is the global leader in personal hydration gear. CamelBak offers a complete line of technical hydration packs, reusable BPA-free water bottles, performance hydration accessories and specialized military gloves and performance accessories for outdoor, recreation and military use. CamelBak's premier brand as an innovator of best-in-class personal hydration products has enabled it to establish preferred partnerships with leading national retailers, sporting goods stores, independent and chain specialty retailers and the U.S. military. Through its global distribution network, CamelBak products are available in more than 50 countries worldwide. We made loans to and purchased an 89.9% interest in CamelBak. The purchase price, including proceeds from noncontrolling interests was approximately $258.6 million (excluding acquisition-related costs).

We funded the cash consideration and acquisition-related costs through drawings under our Revolving Credit Facility, funds provided by the sale of 1,575,000 shares of CODI common stock to CGI Magyar Holdings, LLC ("CGI Magyar"), our largest shareholder, and the sale to an affiliate of CGI Magyar, 652 shares of the CamelBak Acquisition Corp.'s Series A 11% convertible preferred stock (redeemable at our option) for an aggregate consideration of $45 million. In addition, CamelBak's management and certain other investors invested in the transaction alongside us, collectively representing an approximate 2.1% minority interest.

Our Manager acted as an advisor in the transaction for which it received fees and expense payments totaling $2.4 million.

As mentioned above, on August 23, 2011, in connection with the acquisition of CamelBak, we completed the sale of 1,575,000 shares of common stock of CODI to CGI Magyar, for consideration per share equal to the market value thereof on August 23, 2011, for $12.50 per share, or an aggregate sale price of $19.7 million. The sale to CGI Magyar was made pursuant to an exemption from registration under Section 4(2) of the Securities Act of 1933. The proceeds were used to fund the CamelBak acquisition.

Sale of Staffmark

On October 17, 2011, we entered into a Stock Purchase Agreement and sold all of the issued and outstanding capital stock of Staffmark to Recruit Co., LTD. and RGF Staffing USA, Inc. The total enterprise value received for Staffmark was $295 million.

The transaction is subject to typical escrow requirements and adjustments for certain changes in the working capital of Staffmark. The Stock Purchase Agreement contains customary representations, warranties, covenants and indemnification provisions.

At the closing we received approximately $220 million in cash in respect of our debt and equity interests in Staffmark and for the payment of accrued interest and fees after payments to non-controlling shareholders and payment of all transaction expenses. The net proceeds were used to repay substantially all of the outstanding debt under our Revolving Credit Facility.

In addition, Staffmark is expected to receive a tax refund of approximately $5 million from the recording of transaction expenses incurred in connection with the transaction, which refund, according to the terms of the Stock Purchase Agreement, will be distributed upon receipt to the Company and each other shareholder of Staffmark who sold shares of Staffmark. The profit allocation due to our Manager for this sale is estimated to range from $11 million to $15 million and is expected to be paid in the first quarter of 2012, and which amount has been previously expensed and reflected in our supplemental put accrual. We anticipate that we will recognize a gain of between $75 million and $90 million for the fiscal quarter ending December 31, 2011 as a result of the sale of Staffmark.


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New Credit Facility

On October 27, 2011, we obtained a $515 million credit facility, with an optional $135 million increase, from a group of lenders. This credit facility replaced our existing Credit Agreement. The Credit Facility provides for (i) a revolving line of credit (the "New Revolving Credit Facility") of $290 million, and (ii) a $225 million term loan (the "New Term Loan Facility" and together with the New Revolving Credit Facility, the "New Credit Facility"). The term loans were issued at an original issuance discount of 96%. The New Term Loan Facility requires quarterly payments of approximately $0.56 million commencing March 31, 2012 with a final payment of all remaining principal and interest due in October 2017. All amounts outstanding under the New Revolving Credit Facility will become due in October 2016. The New Credit Facility also permits the Company to increase the revolving loan commitment and/or obtain additional term loans in an aggregate amount of up to $135 million, subject to certain restrictions, lender approval and market demand. The proceeds of the New Term Loan Facility and advances under the New Revolving Credit Facility were, or will be, as applicable, used (i) to refinance certain existing indebtedness of the Company pursuant to its prior Credit Agreement, originally dated as of November 21, 2006, as amended, (ii) to pay fees and expenses arising in connection with the Credit Facility, (iii) to fund acquisitions of additional businesses, (iv) to fund permitted distributions, (v) to fund loans to our subsidiaries and (vi) for other general corporate purposes.

Increase in quarterly distributions

On March 29, 2011 and July 6, 2011 and October 10, 2011 we declared quarterly distributions of $0.36 per share which represented an increase of $0.02 per share over each distribution made in the corresponding quarters of 2010.

Outlook

Sales and operating income during the nine months ended September 30, 2011 increased on a consolidated basis compared to the same period of 2010. The estimate of gross domestic product ("GDP"), a measure of the total production of goods and services, increased during the first, second and third quarter of 2011 at the seasonally adjusted annualized rate of 0.4%, 1.3% and 2.5%, respectively, compared to 3.1% for the fourth quarter of 2010. The increasing rate of growth to date in 2011 indicates that consumer spending is increasing even though it is still below consumer spending in the fourth quarter of 2010. Each of our businesses is impacted by the overall economic environment including changes in consumer spending and increasing commodity and fuel costs. Additionally, American Furniture is significantly affected by continued tight consumer credit markets and the depressed housing market which is evident in the significant decrease in sales and operating profit to date in fiscal 2011.

However, we continue to believe that we will experience sustained flat to modest top-line growth in each of our businesses, with the exception of American Furniture and Tridien, through the remainder of fiscal 2011, although we cannot accurately predict the impact that rising commodity costs, such as steel, cotton and fuel may have on our gross profit margins if we are not able to successfully raise prices to offset the potential price increases. In addition, the recent Federal debt crisis and the impact that it may have on mitigating domestic economic growth for the remainder of fiscal 2011 may result in limiting the top-line revenue growth at our portfolio companies.

We also believe that the current credit environment may continue to benefit our acquisition model as we do not rely on separate third-party financing as a component to closing.

We are dependent on the earnings of, and cash receipts from, the businesses that we own to meet our corporate overhead and management fee expenses and to pay distributions. These earnings and distributions, net of any minority interests in these businesses, will be available:

First, to meet capital expenditure requirements, management fees and corporate overhead expenses;

Second, to fund distributions from the businesses to the Company; and

Third, to be distributed by the Trust to shareholders.


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Results of Operations

We were formed on November 18, 2005 and acquired our existing businesses
(segments) as of September 30, 2011 as follows:



   May 16, 2006        August 1, 2006      February 28, 2007      August 31, 2007       January 4, 2008     March 31, 2010

Advanced Circuits          Tridien               HALO            American Furniture           Fox            Liberty Safe

    Staffmark

September 16, 2010     August 24, 2011

     ERGObaby             CamelBak

As noted above, we acquired our businesses on various dates through August 24, 2011. As a result, we cannot provide what we believe is a meaningful comparison of our historical consolidated results of operations for the entire three and nine month periods ended September 30, 2011 compared to the same periods in 2010. In the following results of operations, we provide: (i) our consolidated historical results of operations for the three and nine months ended September 30, 2011 and 2010, which includes the results of operations of our businesses (segments) from the date of acquisition; and (ii) comparative results of operations for each of our businesses, on a stand-alone basis, for each of the three and nine month periods ended September 30, 2011 and 2010, which include pro forma results of operations for platform businesses acquired subsequent to January 1, 2010 including pro-forma operating data and adjustments applied to historical results of operations for periods prior to our acquisition of the business in order to provide meaningful comparative data.

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