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DORM > SEC Filings for DORM > Form 10-Q on 1-Nov-2013All Recent SEC Filings

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Form 10-Q for DORMAN PRODUCTS, INC.


1-Nov-2013

Quarterly Report


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

Cautionary Statement Regarding Forward Looking Statements

Certain statements in this document constitute "forward-looking statements" within the meaning of the Federal Private Securities Litigation Reform Act of 1995. While forward-looking statements sometimes are presented with numerical specificity, they are based on various assumptions made by management regarding future circumstances over many of which the Company has little or no control. Forward-looking statements may be identified by words including "anticipate," "believe," "estimate," "expect," and similar expressions. The Company cautions readers that forward-looking statements, including, without limitation, those relating to future business prospects, revenues, working capital, liquidity, and income, are subject to certain risks and uncertainties that would cause actual results to differ materially from those indicated in the forward-looking statements. Factors that could cause actual results to differ from forward-looking statements include but are not limited to: competition in the automotive aftermarket industry, unfavorable economic conditions, loss of key suppliers, loss of third-party transportation providers, an increase in patent filings by original equipment manufacturers, quality problems, delay in the development and design of new products, space limitations on our customers' shelves, concentration of the Company's sales and accounts receivable among a small number of customers, the impact of consolidation in the automotive aftermarket industry, foreign currency fluctuations, timing and amount of customers' orders of Company's products, dependence on senior management and other risks and factors identified from time to time in the reports the Company files with the SEC. For additional information concerning factors that could cause actual results to differ materially from the information contained in this report, reference is made to the information in "Part I Item 1A. Risk Factors" in the Company's Annual Report on Form 10-K for the fiscal year ended December 29, 2012. You should not place undue reliance on forward-looking statements. Such statements speak only as to the date on which they are made, and we undertake no obligation to update publicly or revise any forward-looking statement, regardless of future developments or availability of new information.

Introduction

The following discussion and analysis, as well as other sections in this Quarterly Report on Form 10-Q, should be read in conjunction with the unaudited consolidated financial statements and footnotes thereto of Dorman Products, Inc. and its subsidiaries included in "Item 1. Financial Statements" of this Quarterly Report on Form 10-Q and with Management's Discussion and Analysis of Financial Condition and Results of Operations and the audited consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended December 29, 2012.

Overview

We are a supplier of automotive and heavy duty truck replacement parts and fasteners, and service line products primarily for the automotive aftermarket. We market approximately 133,000 stock keeping units ("SKU's") many of which we design and engineer. Approximately 85% of these SKU's are sold under our various brand names and the remainder are sold under our customers' private label brands, other brands or in bulk. We believe we are the dominant aftermarket supplier of original equipment dealer "exclusive" items. Original equipment dealer "exclusive" parts are those parts which were traditionally available to consumers only from original equipment manufacturers or salvage yards. These parts include, among other parts, intake manifolds, exhaust manifolds, oil cooler lines, window regulators, radiator fan assemblies, power steering pulleys, harmonic balancers, tire pressure monitor sensors, and keyless entry devices.

We generate over 90% of our revenues from customers in the North American automotive aftermarket, primarily in the United States and Canada. Our products are sold primarily in the United States through automotive aftermarket retailers (such as AutoZone, Advance Auto Parts and O'Reilly Auto Parts), national, regional and local warehouse distributors (such as Carquest Auto Parts and NAPA Auto Parts), specialty markets and salvage yards. We also distribute automotive replacement parts into Europe, Mexico, the Middle East and Asia.

The automotive aftermarket has benefited from some of the factors affecting the general economy, including the impact of the recent recession and continued high unemployment. We believe vehicle owners have become more likely to keep their current vehicles longer and perform necessary repairs and maintenance in order to keep those vehicles well maintained as a result of these factors. According to data published by the Automotive Aftermarket Industry Association, the average age of vehicles was 11.3 years as of January 2013, up from 10.3 years in January 2009. Another important statistic that impacts our business is the number of miles driven, which has decreased slightly since 2009.

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The overall automotive aftermarket in which we compete has benefited from the conditions mentioned above. However, our customer base has consolidated in recent years. As a result, our customers regularly seek more favorable pricing, product returns and extended payment terms when negotiating with us. We attempt to avoid or minimize these concessions as much as possible, but we have granted pricing concessions, extended customer payment terms and allowed a higher level of product returns in certain cases. These concessions impact our profit levels and may require additional capital to finance the business. We expect our customers to continue to exert pressure on our margins as the customer base continues to consolidate.

We rely on new product development as a way to offset some of these customer demands and as our primary vehicle for growth. As such, new product development is a critical success factor for us. We have made incremental investments to increase our new product development efforts each year since 2003 in an effort to grow our business and strengthen our relationships with our customers. The investments are primarily in the form of increased product development resources, increased customer and end-user awareness programs and customer service improvements. These investments have enabled us to provide an expanding array of new product offerings and grow revenues at levels that exceed market growth rates.

In 2012, we introduced a new line of products to be marketed for the medium and heavy duty truck aftermarket. We believe that this market provides many of the same opportunities for growth that the automotive aftermarket has provided us over the past several years. Our focus here will be on Formerly Dealer Only parts as it is on the automotive side of the business. We launched the initial program with a limited offering, but have made additional investments in new product development efforts to expand our product offering. We currently have over 250 SKU's in our medium and heavy duty product line. Revenues from this product line were less than 1% of our net sales in the thirty-nine weeks ended September 28, 2013 and fiscal 2012.

We may experience significant fluctuations from quarter to quarter in our results of operations due to the timing of orders placed by our customers. Generally, the first quarter has the lowest level of customer orders. The introduction of new products and product lines to customers may cause significant fluctuations from quarter to quarter.

We operate on a fifty-two or fifty-three week fiscal year period ending on the last Saturday of the calendar year. Our 2013 fiscal year will be a fifty-two week period that will end on December 28, 2013. The fiscal year ended December 29, 2012 was also a fifty-two week period.

Results of Operations

The following table sets forth, for the periods indicated, the percentage of net
sales represented by certain items in our Consolidated Statements of Operations:



                                            Thirteen Weeks Ended                            Thirty-nine Weeks Ended
                                   September 28,            September 29,           September 28,             September 29,
                                       2013                     2012                    2013                      2012
Net sales                                   100.0 %                  100.0 %                 100.0 %                   100.0 %
Cost of goods sold                           60.8                     61.8                    60.6                      62.5

Gross profit                                 39.2                     38.2                    39.4                      37.5
Selling, general and
administrative expenses                      19.2                     18.3                    19.9                      18.8

Income from operations                       20.0                     19.9                    19.5                      18.7
Interest expense, net                         0.0                      0.0                     0.1                       0.1

Income from continuing
operations before income
taxes                                        20.0                     19.9                    19.4                      18.6
Provision for income taxes                    7.1                      7.3                     7.0                       6.9

Net income from continuing
operations                                   12.9 %                   12.6 %                  12.4 %                    11.7 %

Thirteen Weeks Ended September 28, 2013 Compared to Thirteen Weeks Ended September 29, 2012

Net sales increased 14% to $178.0 million for the thirteen weeks ended September 28, 2013 from $156.4 million for the thirteen weeks ended September 29, 2012. Our revenue growth was primarily driven by strong overall demand for our new products, especially those new products introduced in the preceding 24 months. Net sales in both periods were favorably impacted by the shipment of several large product line updates.

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Cost of goods sold, as a percentage of net sales, decreased to 60.8% for the thirteen weeks ended September 28, 2013 from 61.8% for the thirteen weeks ended September 29, 2012. A favorable change in sales mix towards higher margin products, the positive effects of price increases in select customer segments and lower transportation costs contributed to the improved gross margin during the thirteen weeks ended September 28, 2013.

Selling, general and administrative expenses were approximately $34.0 million for the thirteen weeks ended September 28, 2013 compared to $28.6 million for the thirteen weeks ended September 29, 2012. The increase during the thirteen weeks ended September 28, 2013 was primarily due to higher variable costs associated with our 14% sales growth, approximately $1.1 million in additional investment in new product initiatives and $0.6 million of depreciation and other related support costs associated with our enterprise resource planning system implementation. In addition, in January 2013 one large customer changed the way it distributes our product through its network. As a result, our selling, general and administrative costs increased by approximately $1.5 million in the third quarter of 2013. The additional costs were offset by a higher net selling price for our products in the thirteen weeks ended September 28, 2013.

Interest expense, net, approximated prior year levels for the thirteen weeks ended September 28, 2013.

Our effective tax rate was 35.8% for the thirteen weeks ended September 28, 2013 compared to 36.5% for the thirteen weeks ended September, 29, 2012. The 2013 effective tax rate in the thirteen weeks ended September 28, 2013 was favorably impacted by the adjustment of an accrual associated with an uncertain tax position.

Thirty-nine Weeks Ended September 28, 2013 Compared to Thirty-nine Weeks Ended September 29, 2012

Net sales increased 14% to $494.7 million for the thirty-nine weeks ended September 28, 2013 from $435.4 million for the thirty-nine weeks ended September 29, 2012. Our revenue growth was primarily driven by strong overall demand for our new products, especially those new products introduced in the preceding 24 months.

Cost of goods sold, as a percentage of net sales, decreased to 60.6% for the thirty-nine weeks ended September 28, 2013 from 62.5% for the thirty-nine weeks ended September 29, 2012. A favorable change in sales mix towards higher margin products and the positive effects of price increases in select customer segments contributed to the improved gross margin during the thirty-nine weeks ended September 28, 2013. In addition, lower transportation costs were partially offset by $0.7 million of higher excess and obsolete inventory charges in the 2013 period compared to the same period in 2012.

Selling, general and administrative expenses were approximately $98.6 million for the thirty-nine weeks ended September 28, 2013 compared to $82.1 million for the thirty-nine weeks ended September 29, 2012. The spending increase was primarily due to higher variable costs associated with our 14% sales growth, approximately $3.4 million in additional investment in new product initiatives and $2.6 million of depreciation and other related support costs associated with our enterprise resource planning system implementation. In addition, in January 2013 one large customer changed the way it distributes our product through its network. As a result, our selling, general and administrative costs increased by approximately $4.2 million in fiscal 2013. The additional costs were offset by a higher net selling price for our products in the thirty-nine weeks ended September 28, 2013.

Interest expense, net, approximated prior year levels for the thirty-nine weeks ended September 28, 2013.

Our effective tax rate was 36.3% for the thirty-nine weeks ended September 28, 2013 compared to 37.0% for the thirty-nine weeks ended September 29, 2012. The effective tax rate in the thirty-nine weeks ended September 28, 2013 benefitted from a research and development tax credit of $0.3 million and from lower state income taxes.

Liquidity and Capital Resources

Historically, we have financed our growth through a combination of cash flow from operations, accounts receivable sales programs and our revolving credit facility. At September 28, 2013, working capital was $321.2 million, while shareholders' equity was $393.6 million. Cash and cash equivalents as of September 28, 2013 was $48.3 million.

Over the past several years we extended payment terms to certain customers as a result of customer requests and market demands. We participate in accounts receivable sales programs with several customers which allow us to sell our accounts receivable to financial institutions to offset the negative cash flow impact of these payment terms extensions. Without these

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programs, these extended terms would have resulted in increased accounts receivable and significant uses of cash flow. Pursuant to these agreements, we sold accounts receivable in the aggregate amount of $296.5 million and $235.2 million during the thirty-nine weeks ended September 28, 2013 and September 29, 2012, respectively. If receivables had not been sold, $226.1 million and $180.5 million of additional receivables would have been outstanding at September 28, 2013 and December 29, 2012, respectively, based on standard payment terms.

We have a $30.0 million revolving credit facility which expires in June 2015. Borrowings under the facility are on an unsecured basis with interest at rates ranging from LIBOR plus 75 basis points to LIBOR plus 250 basis points based upon the achievement of certain benchmarks related to the ratio of funded debt to EBITDA, as defined by our credit agreement. The interest rate at September 28, 2013 was LIBOR plus 75 basis points (0.93%). There were no borrowings under the facility as of September 28, 2013. As of September 28, 2013, we had three outstanding letters of credit for approximately $0.9 million in the aggregate which were issued to secure ordinary course of business transactions. Net of these letters of credit, we had approximately $29.1 million available under the facility at September 28, 2013. The credit agreement also contains covenants, the most restrictive of which pertain to net worth and the ratio of debt to EBITDA.

Cash Flows

Below is a table setting forth the key lines of our Consolidated Statements of
Cash Flows:



                                                            Thirty-nine Weeks Ended
                                                    September 28,             September 29,
(in thousands)                                          2013                      2012
Cash provided by operating activities              $        36,841           $        28,601
Cash used in investing activities                          (14,846 )                 (14,437 )
Cash (used in) provided by financing
activities                                                  (1,368 )                   1,640
Effect of exchange rate changes on cash and
cash equivalents                                                -                         71

Net increase in cash and cash equivalents          $        20,627           $        15,875

Cash provided by operating activities in fiscal 2013 increased by $8.2 million compared to fiscal 2012 primarily due to a $5.6 million increase in net income in fiscal 2013 and a non-recurring $3.0 million non-cash foreign exchange gain in fiscal 2012. A $3.6 million increase in working capital was partially offset by increased depreciation and provisions for deferred income taxes in fiscal 2013 compared to fiscal 2012. Working capital was negatively impacted by accounts receivable which increased due to higher net sales. An increase in other accrued liabilities due to the timing of payments to customers for cash rebates positively impacted working capital.

Investing activities used $14.8 million of cash in fiscal 2013 and $14.4 million in fiscal 2012. Capital spending was primarily related to the following significant projects:

In the third quarter of fiscal 2010, we began a project to replace our enterprise resource planning ("ERP") system. This project is expected to cost between $34 million and $37 million for capitalized software, installation services and internal costs through 2014. We have paid approximately $17.7 million for the project, of which $2.4 million was paid in the thirty-nine weeks ended September 28, 2013 and $6.7 million was paid in the thirty-nine weeks ended September 29, 2012. The installation of the new ERP system was completed at one of our subsidiaries in January 2013 without any disruption to our operations.

In the second quarter of 2013, we began an expansion of our Warsaw, Kentucky facility to provide additional capacity to support the current and projected growth of the business. The addition and related equipment, which will cost approximately $7.0 million, will add approximately 170,000 square feet of warehouse space and is expected to be completed in the fall of 2013. During the thirty-nine weeks ended September 28, 2013 we have paid approximately $2.1 million for this project. The remaining capital spending in each period is related to tooling associated with new products, scheduled equipment replacements and other capital projects.

Additionally, during the thirty-nine weeks ended September 28, 2013, we used approximately $1.9 million of cash on hand to acquire certain assets and assume certain liabilities of a remanufacturer of hybrid battery systems.

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Financing activities used $1.4 million of cash in fiscal 2013 compared to providing $1.6 million of cash in fiscal 2012. The sources and uses of cash in each period result from stock option activity and the repurchase of common stock from our 401(k) Plan.

Based on our current operating plan, we believe that our sources of available capital are adequate to meet our ongoing cash needs for at least the next twelve months.

During the thirty-nine weeks ended September 28, 2013, we experienced no material changes to our contractual obligations as disclosed in our Annual Report on Form 10-K for the year ended December 29, 2012.

Foreign Currency Fluctuations

In fiscal 2012, approximately 80% of our products were purchased from vendors in a variety of foreign countries. The products generally are purchased through purchase orders with the purchase price specified in U.S. dollars. Accordingly, we generally do not have exposure to fluctuations in the relationship between the dollar and various foreign currencies between the time of execution of the purchase order and payment for the product. To the extent that the dollar decreases in value to foreign currencies in the future, the price of the product in dollars for new purchase orders may increase.

The largest portion of our overseas purchases comes from China. Since June 2010, the Chinese Yuan has increased approximately 9.6% relative to the U.S. Dollar. A continued increase in the value of the Yuan relative to the U.S. Dollar will likely result in an increase in the cost of products that we purchase from China.

Impact of Inflation

The overall impact of inflation has not resulted in a significant change in labor costs or the cost of general services utilized. The cost of many of the commodities that are used in our products have fluctuated over time resulting in increases and decreases in the prices of our products. In addition, we have periodically experienced increased transportation costs as a result of higher fuel prices. We will attempt to offset cost increases by passing along selling price increases to customers, using alternative suppliers and by resourcing purchases to other countries. However, there can be no assurance that we will be successful in these efforts.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon the Consolidated Financial Statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities and the reported amounts of revenues and expenses. We regularly evaluate our estimates and judgments, including those related to the allowance for doubtful accounts, revenue recognition and allowance for customer credits, inventory reserves, goodwill and income taxes. Estimates and judgments are based upon historical experience and on various other assumptions believed to be accurate and reasonable under the circumstances. Actual results may differ materially from these estimates due to different assumptions or conditions. We believe the following critical accounting policies affect our more significant estimates and judgments used in the preparation of our Consolidated Financial Statements.

Allowance for Doubtful Accounts. The preparation of our financial statements requires us to make estimates of the collectability of our accounts receivable. We specifically analyze accounts receivable and historical bad debts, customer creditworthiness, current economic trends and changes in customer payment patterns when evaluating the adequacy of the allowance for doubtful accounts. A significant percentage of our accounts receivable have been, and will continue to be, concentrated among a relatively small number of automotive retailers and warehouse distributors in the United States. Our five largest customers accounted for 86% and 83% of net accounts receivable as of December 29, 2012 and December 31, 2011, respectively. A bankruptcy or financial loss associated with a major customer could have a material adverse effect on our sales and operating results.

Revenue Recognition and Allowance for Customer Credits. Revenue is recognized from product sales when goods are shipped, title and risk of loss have been transferred to the customer and collection is reasonably assured. We record estimates for cash discounts, product returns and warranties, discounts and promotional rebates in the period of the sale ("Customer Credits"). The provision for Customer Credits is recorded as a reduction from gross sales and reserves for Customer Credits are shown as a reduction of accounts receivable. Accrued customer rebates which we expect to settle in cash are classified as other current liabilities. Actual Customer Credits and accrued customer rebates have not differed materially from estimated amounts. Amounts billed to customers for shipping and handling are included in net sales. Costs associated with shipping and handling are included in cost of goods sold.

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Excess and Obsolete Inventory Reserves. We must make estimates of potential future excess and obsolete inventory costs. We provide reserves for discontinued and excess inventory based upon historical demand, forecasted usage, estimated customer requirements and product line updates. We maintain contact with our customer base in order to understand buying patterns, customer preferences and the life cycle of our products. Changes in customer requirements are factored into the reserves as needed.

Goodwill. Goodwill is reviewed for impairment on an annual basis or whenever events or changes in circumstances indicate the carrying value of the goodwill may be impaired. In regards to the annual test, we have the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we determine it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary.

Income Taxes. We follow the asset and liability method of accounting for deferred income taxes. Under this method, income tax expense is recognized for the amount of taxes payable or refundable for the current year and for the change in the deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity's financial statements or tax returns. We must make assumptions, judgments and estimates to determine our current provision for income taxes and also our deferred tax assets and liabilities and any valuation allowance to be recorded against a deferred tax asset. Our judgments, assumptions and estimates relative to the current provision for income taxes takes into account current tax laws, our interpretation of current tax laws and possible outcomes of current and future audits conducted by tax authorities. Changes in tax laws or our interpretation of tax laws and the resolution of current and future tax audits could significantly impact the amounts provided for income taxes in our consolidated financial statements. Our assumptions, judgments and estimates relative to the value of a deferred tax asset takes into account predictions of the amount and category of future taxable income. Actual operating results and the underlying . . .

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