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CVO > SEC Filings for CVO > Form 10-Q on 7-Aug-2013All Recent SEC Filings

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Form 10-Q for CENVEO, INC


7-Aug-2013

Quarterly Report


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

This Management's Discussion and Analysis of Financial Condition and Results of Operations, which we refer to as MD&A, of Cenveo, Inc. and its subsidiaries, which we refer to as Cenveo, should be read in conjunction with the accompanying condensed consolidated financial statements and "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the fiscal year ended December 29, 2012, which we refer to as our 2012 Form 10-K. Item 7 of our 2012 Form 10-K describes the application of our critical accounting policies, for which there have been no significant changes as of June 29, 2013.

Forward-Looking Statements

Certain statements in this report may constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements generally can be identified by the use of terminology such as "may," "expect," "intend," "estimate," "anticipate," "plan," "foresee," "believe" or "continue" and similar expressions, or as other statements that do not relate solely to historical facts. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that could cause actual results to differ materially from what is expressed or forecasted in these forward-looking statements. In view of such uncertainties, investors should not place undue reliance on our forward-looking statements. Such statements speak only as of the date they were made, and we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Factors that could cause actual results to differ materially from management's expectations include, without limitation: (i) recent United States and global economic conditions have adversely affected us and could continue to do so; (ii) our substantial level of indebtedness could impair our financial condition and prevent us from fulfilling our business obligations; (iii) our ability to service or refinance our debt; (iv) the terms of our indebtedness imposing significant restrictions on our operating and financial flexibility; (v) additional borrowings are available to us that could further exacerbate our risk exposure from debt; (vi) our ability to successfully integrate acquired businesses into our business; (vii) a decline in our consolidated profitability or profitability within one of our individual reporting units could result in the impairment of our assets, including goodwill, other long-lived assets and deferred tax assets; (viii) intense competition and fragmentation in our industry; (ix) the general absence of long-term customer agreements in our industry, subjecting our business to quarterly and cyclical fluctuations; (x) factors affecting the United States postal services impacting demand for our products; (xi) the availability of the Internet and other electronic media adversely affecting our business; (xii) increases in paper costs and decreases in the availability of raw materials; (xiii) our labor relations; (xiv) our compliance with environmental laws; (xv) our dependence on key management personnel; (xvi) our dependence upon information technology systems; and (xvii) our international operations and the risks associated with operating outside of the United States. This list of factors is not exhaustive, and new factors may emerge or changes to the foregoing factors may occur that would impact our business. Additional information regarding these and other factors can be found elsewhere in this report and in our other filings with the Securities and Exchange Commission, which we refer to as the SEC.

Business Overview

We are a diversified manufacturing company focused on print related products. Our broad portfolio of products includes commercial printing, envelope converting, label manufacturing and specialty packaging. We operate a global network of strategically located manufacturing facilities, serving a diverse base of over 100,000 customers.
Our business strategy has been and continues to be focused on pursuing strategic acquisitions, improving our cost structure, providing a diverse quality product offering portfolio to our customers and maintaining reasonable levels of financial flexibility. We believe this strategy has allowed us to diversify our revenue base, maintain our low cost producer focus and deliver quality product offerings to our customers.

We operate our business in two complementary reportable segments: print and envelope and label and packaging.

Print and Envelope. We are one of the leading commercial printers and the largest envelope manufacturer in North America. Our print and envelope segment represented approximately 73.3% and 73.6% of our net sales for the three and six months ended June 29, 2013, respectively.

Our print and envelope segment serves customers ranging from Fortune 50 companies to middle market and small companies operating in niche markets. This segment primarily caters to the consumer products, financial services, travel and leisure and telecommunications industries. We offer direct mail products used for customer solicitations and custom envelopes used for billing and remittance by end users including banks, brokerage firms and insurance and credit card companies. We produce


a broad line of specialty and stock envelopes that are sold through wholesalers, distributors, contract stationers, national catalogs for the office product markets and office product superstores. We provide a wide array of print offerings to our customers including electronic prepress, digital asset archiving, direct-to-plate technology, high-quality color printing on web and sheet-fed presses, digital printing and content management. The broad selection of print products we produce includes annual reports, car brochures, direct mail products, advertising literature, corporate identity materials and brand marketing materials. Our content management business offers complete solutions, including editing, content processing, content management, electronic peer review, production, distribution and reprint marketing.

Label and Packaging. We are a leading label manufacturer and the largest North American prescription label manufacturer for retail pharmacy chains. On December 31, 2012, we added to our label business with the acquisition of Express Label Company, which we refer to as Express Label. Our specialty packaging business currently focuses on specialty folded carton packaging and shrink-sleeve packaging. Our label and packaging segment represented approximately 26.7% and 26.4% of our net sales for the three and six months ended June 29, 2013, respectively.

Our label and packaging segment serves customers ranging from multinational, national, middle market and small companies serving niche markets and resale customers. We produce a diverse line of custom labels for a broad range of industries including manufacturing, warehousing, packaging, food and beverage, and health and beauty, which we sell through extensive networks within the resale channels. We also provide direct mail and overnight packaging labels, food and beverage labels, and shelf and scale labels for national and regional customer accounts. We also produce pressure-sensitive prescription labels for the retail pharmacy chain market. We produce premium high quality promotional packaging offerings including, folded carton and full body shrink sleeves. Our primary customers for our specialty packaging products are pharmaceutical, apparel, tobacco, neutraceutical and other large multinational consumer product companies.

Consolidated Operating Results

This MD&A includes an overview of our condensed consolidated results of operations for the three and six months ended June 29, 2013 and June 30, 2012 followed by a discussion of the results of operations of each of our reportable segments for the same periods. Our results for the three and six months ended June 29, 2013 include the operating results of Express Label. Our results for the three and six months ended June 30, 2012 do not include the operating results of Express Label.
2013 Overview
We believe that the mild recovery of the general economy experienced in 2012 will continue into 2013. We believe our efforts to reduce our operating cost structure, which we began implementing at the beginning of the economic downturn, allowed us to mitigate significant impacts to our operating performance and to our business over the past three years. The print-related industries are highly fragmented and extremely competitive. We believe these factors combined with a slow general economic recovery will continue to impact our results of operations due to over capacity and pricing pressures.

Our management focus for 2013 is on driving net sales through focused initiatives, investing in our e-commerce technology to support expansion across our platform and reducing our debt by maintaining or improving our cash flow.

Our sales focus will be on our top accounts across each of our businesses ensuring we meet our customer demands and work to expand our relationship with them through cross-selling initiatives across our platform. We have implemented a customer relationship management tool within our label and packaging segment and are expanding that into our other operating segments. We currently expect to be complete with this implementation by the end of the third quarter 2013. We began these initiatives as well as a few others in 2012 and have experienced success within our envelope, label and packaging operations as a result of their implementation. We have also begun a series of recruiting efforts with a focus of attracting not only talented individuals with experience in our current business lines, but also on individuals with experience in industry channels that we believe print related products will grow or have minimal secular decline in the future. We believe these focus points, along with our current customer experience, may allow us to experience modest sales growth despite operating in challenging industries and an uncertain economy.

Our e-commerce platform is in its infancy and, with minimal investments over the past several years, was in need of enhancement. We began small yet focused enhancements of this platform in 2011. With a focused approach and small successes to date we have experienced positive results. For example, our e-commerce sales within our label group grew 10% in 2012 as compared to 2011. In 2013, we are looking to expand our investment, through both capital investments and incremental support headcount, and believe this platform will substantially benefit our future sales performance.

Our deleveraging strategy is still a primary focus. We believe that despite the industry and economic challenges we experience on a routine basis, we can maintain similar debt repayment trends for the foreseeable future by managing our cash


flow and investing strategically in our businesses. Along with debt reduction, we have reduced our average interest rate through a refinancing of our first lien debt that was completed in April 2013. As a result, we expect to have lower cash interest, which will further improve our cash flow over the next several years as we will not encounter another sizeable debt maturity until 2017.

Lastly, we will continue to monitor our cost structure as marketplace conditions warrant and expect to further reduce our cost structure, as necessary. We will also continue to focus on strategic investments, capital expenditures and acquisitions in areas that we believe will strengthen our manufacturing platform and product offerings and will review strategic alternatives for business lines we believe are underperforming or non-strategic to our future operations. In the first quarter of 2013, as a result of margin pressures from rising input costs and price pressures experienced within our print and envelope segment, we initiated a plan to further reduce our cost structure by $10 million to $20 million. In addition, we expect to continue to seek out opportunities to lower our cost structure through negotiations within our supportive vendor base.

Discontinued Operations

During the second quarter of 2013, we decided to exit the San Francisco market and closed a manufacturing facility within our print and envelope segment. The operating results of this manufacturing facility are reported in discontinued operations in our condensed consolidated financial statements for all periods presented.

In February of 2012, we completed the sale of our documents and forms business. Net cash proceeds were approximately $35.5 million. In January of 2012, we completed the sale of our wide-format papers business and received proceeds of approximately $4.7 million. The operating results of these divestitures are reported in discontinued operations in our condensed consolidated financial statements for all periods presented.

Reportable Segments

We operate two complementary reportable segments: the print and envelope segment and the label and packaging segment.

See below for a summary of net sales and operating income for our reportable segments that we use internally to assess our operating performance. Our fiscal quarters end on the Saturday closest to the last day of the calendar month. Our reporting periods for the three and six month periods ended June 29, 2013 and June 30, 2012 each consisted of 13 weeks and 26 weeks, respectively.


                                              For the Three Months Ended             For the Six Months Ended
                                          June 29, 2013       June 30, 2012      June 29, 2013      June 30, 2012
                                                (in thousands, except                  (in thousands, except
                                                  per share amounts)                    per share amounts)
Net sales                                $     415,702       $      433,218     $    843,993       $      882,977
Operating income (loss):
Print and envelope                       $      14,707       $       24,046     $     28,048       $       33,581
Label and packaging                             12,664               12,668           23,494               24,871
Corporate                                       (8,206 )             (8,149 )        (18,088 )            (15,734 )
Total operating income                          19,165               28,565           33,454               42,718
Interest expense, net                           28,235               28,796           57,810               56,648
Loss on early extinguishment of debt,
net                                              7,720                  785            7,847               11,414
Other income, net                               (2,291 )             (1,116 )         (1,995 )               (818 )
(Loss) income from continuing
operations before income taxes                 (14,499 )                100          (30,208 )            (24,526 )
Income tax expense (benefit)                     3,088                  314            6,286               (1,678 )
Loss from continuing operations                (17,587 )               (214 )        (36,494 )            (22,848 )
Loss from discontinued operations, net
of taxes                                        (1,296 )               (187 )         (1,534 )             (4,771 )
Net loss                                 $     (18,883 )     $         (401 )   $    (38,028 )     $      (27,619 )
Loss per share-basic:
Continuing operations                    $       (0.28 )     $        (0.01 )   $      (0.57 )     $        (0.36 )
Discontinued operations                          (0.02 )                  -            (0.03 )              (0.08 )
Net loss                                 $       (0.30 )     $        (0.01 )   $      (0.60 )     $        (0.44 )
Loss per share - diluted:
Continuing operations                    $       (0.28 )     $        (0.01 )   $      (0.57 )     $        (0.36 )
Discontinued operations                          (0.02 )                  -            (0.03 )              (0.08 )
Net loss                                 $       (0.30 )     $        (0.01 )   $      (0.60 )     $        (0.44 )


Net Sales

Net sales decreased $17.5 million, or 4.0%, in the second quarter of 2013, as compared to the second quarter of 2012, due to lower sales from our print and envelope segment of $20.2 million, offset slightly by higher sales from our label and packaging segment of $2.7 million.

Net sales decreased $39.0 million, or 4.4%, in the first six months of 2013, as compared to the first six months of 2012, due to lower sales from our print and envelope segment of $40.6 million, offset slightly by higher sales from our label and packaging segment of $1.6 million.

See Segment Operations below for a detailed discussion of the primary factors affecting the change in our net sales by reportable segment.

Operating Income

Operating income decreased $9.4 million, or 32.9%, in the second quarter of 2013, as compared to the second quarter of 2012. This decrease was primarily due to a decrease in operating income from our print and envelope segment of $9.3 million.

Operating income decreased $9.3 million, or 21.7%, in the first six months of 2013, as compared to the first six months of 2012. This decrease was primarily due to (i) a decrease in operating income from our print and envelope segment of $5.5 million, (ii) higher corporate expenses of $2.4 million, and (iii) a decrease in operating income from our label and packaging segment of $1.4 million.

See Segment Operations below for a more detailed discussion of the primary factors for the changes in operating income by reportable segment.

Interest Expense

Interest expense decreased $0.6 million to $28.2 million in the second quarter of 2013, as compared to $28.8 million in the second quarter of 2012. The decrease was primarily due to (i) lower average outstanding debt balances primarily as a result of debt repayments using cash flow from operations and
(ii) lower interest rates related to our refinancing of debt in the second quarter of 2013. Interest expense in the second quarter of 2013, reflected average outstanding debt of approximately $1.2 billion and a weighted average interest rate of 8.1%, as compared to average outstanding debt of $1.3 billion and a weighted average interest rate of 8.2%, in the second quarter of 2012.

Interest expense increased $1.2 million to $57.8 million in the first six months of 2013, as compared to $56.6 million in the first six months of 2012. The increase was primarily due to higher interest rates related to our refinancing of debt in the first quarter of 2013, offset in part by lower average outstanding debt balances primarily as a result of debt repayments using cash flow from operations and the proceeds from our divestitures. Interest expense in the first six months of 2013, reflected average outstanding debt of approximately $1.2 billion and a weighted average interest rate of 8.4%, as compared to average outstanding debt of $1.3 billion and a weighted average interest rate of 8.1%, in the first six months of 2012.

We expect interest expense for the remainder of 2013 will be lower than the same period in 2012 primarily due to the refinancing completed in the second quarter of 2013.

Loss on Early Extinguishment of Debt

During the second quarter of 2013, we incurred an aggregate loss on early extinguishment of debt of $7.7 million, of which $6.4 million related to consent fees paid to consenting lenders, the write-off of unamortized debt issuance costs and the write-off of original issuance discount associated with the refinancing of our term loan and revolving credit facilities and $1.3 million related to the early extinguishment of a portion of our 15% unsecured term loan due 2017, which we refer to as our Unsecured Term Loan. During the second quarter of 2012, in connection with refinancing activities, we incurred a loss on early extinguishment of debt of $1.1 million, of which $0.9 million relates to tender and consent fees paid to consenting lenders and $0.2 million relates to the write-off of previously unamortized debt issuance costs. The loss on early extinguishment of debt is partially offset by the gains on early extinguishment of debt of $0.3 million related to the repurchase of $50.0 million of our 7.875% senior subordinated notes due 2013, which we refer to as the 7.875% Notes, plus accrued and unpaid interest thereon.

During the first six months of 2013, in connection with refinancing activities, we incurred an aggregate loss on early extinguishment of debt of $7.8 million, of which $6.4 million related to consent fees paid to consenting lenders, the write-off of


unamortized debt issuance costs and the write-off of original issuance discount associated with the refinancing of our term loan and revolving credit facilities and $1.3 million related to the early extinguishment of a portion of our Unsecured Term Loan. During the first six months of 2012, in connection with refinancing activities, we incurred a loss on early extinguishment of debt of $13.8 million, of which $10.7 million relates to tender and consent fees paid to consenting lenders, $3.3 million relates to the write-off of previously unamortized debt issuance costs. The loss on early extinguishment is partially offset by the gains on early extinguishment of debt of $2.4 million related to the repurchase of $182.3 million of our 7.875% Notes, $170.0 million of our 10.5% senior notes due 2016, which we refer to as the 10.5% Notes, and $25.4 million of our 8.375% senior subordinated notes due 2014, which we refer to as the 8.375% Notes plus accrued and unpaid interest thereon.

Income Taxes

                                        For the Three Months Ended               For the Six Months Ended
                                   June 29, 2013         June 30, 2012      June 29, 2013        June 30, 2012
                                             (in thousands)                           (in thousands)
Income tax expense (benefit)
from U.S. operations             $       3,181         $           48      $      6,253        $        (2,111 )
Income tax (benefit) expense
from foreign operations                    (93 )                  266                33                    433
Income tax expense (benefit)     $       3,088         $          314      $      6,286        $        (1,678 )
Effective income tax rate                (21.3 )%               314.0 %           (20.8 )%                 6.8 %

In the second quarter of 2013, we had income tax expense of $3.1 million, compared to an income tax expense of $0.3 million in the second quarter of 2012. The tax expense for the second quarter of 2013 and 2012 primarily relates to income taxes on our domestic operations. Our effective tax rate in the second quarter of 2013 was lower than the federal statutory rate, primarily due to non-deductible expenses and state income taxes. Our effective tax rate in the quarter ended June 30, 2012 was higher than the federal statutory rate, primarily due to non-deductible expenses and state income taxes.

In the first six months of 2013, we had income tax expense of $6.3 million, compared to an income tax benefit of $1.7 million in the first six months of 2012. The tax expense for the first six months of 2013 primarily relates to income taxes on our domestic operations. The tax benefit for the first six months of 2012 primarily relates to income tax benefits on our domestic operations. Our effective tax rate for both periods was lower than the federal statutory rate, primarily due to non-deductible expenses and state income taxes.

We assess the recoverability of our deferred tax assets and, to the extent recoverability does not satisfy the "more likely than not" recognition criteria, record a valuation allowance against our deferred tax assets. We consider all positive and negative evidence in evaluating our ability to realize our net deferred tax assets, including our operating results, ongoing tax planning, and forecast of future taxable income, on a jurisdiction by jurisdiction basis. Significant judgment is required with respect to the determination of whether or not a valuation allowance is required for certain of our deferred tax assets. As of June 29, 2013, the total valuation allowance on our net United States deferred tax assets was approximately $69.8 million. There was an increase during the second quarter of 2013 to the balance of our valuation allowance in the amount of $0.6 million. This increase relates to our discontinued operations and the lack of our ability to utilize certain state tax credits available to us as a result of exiting this facility and geographical area.

There is no corresponding income tax benefit recognized with respect to losses incurred in jurisdictions with a valuation allowance. This causes variability in our effective tax rate. We intend to maintain the valuation allowances until it is more likely than not that the net deferred tax assets will be realized. If operating results significantly improve or deteriorate on a sustained basis, or if certain tax planning strategies are implemented, our conclusions regarding the need for valuation allowances could change, resulting in either a decrease or increase to the valuation allowances in the future, which could have a significant impact on income tax expense in the period recognized and subsequent periods.


Income (Loss) from Discontinued Operations, net of taxes The results for the second quarter of 2013 include the loss on our San Francisco print facility of $1.3 million, net of a tax expense of $0.2 million. The results for the second quarter of 2012 include (i) the loss on sale of our divestitures of $0.3 million, net of a tax benefit of $0.2 million, (ii) an operating loss of $0.2 million, net of a tax benefit of $0.1 million related to the divestitures, and (iii) income from operations related to our San Francisco print facility of $0.3 million, net of tax of $0.2 million.
The results for the first six months of 2013 include the loss on our San Francisco print facility of $1.5 million, net of a tax expense of $0.1 million. The results for the first six months of 2012 include (i) the loss on sale of our divestitures of $5.3 million, net of a tax benefit of $3.4 million, (ii) an operating income of $0.3 million, net of taxes of $0.2 million related to the divestitures, (iii) a reduction of a liability of $1.8 million, net of tax expense of $1.2 million, due to the expiration of certain statutes of limitations related to a previous divestiture, and (iv) income from operations related to our San Francisco print facility of $0.3 million, net of tax of $0.2 million.

Segment Operations

Our Chief Executive Officer monitors the performance of the ongoing operations
of our two reportable segments. We assess performance based on net sales and
operating income.


Print and Envelope

                                             For the Three Months Ended             For the Six Months Ended
                                         June 29, 2013       June 30, 2012      June 29, 2013      June 30, 2012
                                                    (in thousands)                        (in thousands)
Segment net sales                       $     304,580       $      324,778     $    621,185       $      661,807
. . .
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