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ARCI > SEC Filings for ARCI > Form 10-Q on 7-Nov-2013All Recent SEC Filings

Show all filings for APPLIANCE RECYCLING CENTERS OF AMERICA INC /MN

Form 10-Q for APPLIANCE RECYCLING CENTERS OF AMERICA INC /MN


7-Nov-2013

Quarterly Report


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

Forward-Looking and Cautionary Statements

This quarterly report contains statements that are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended and
Section 21E of the Securities Act of 1934, as amended. Any statements contained in this quarterly report that are not purely historical or relate to our future operations, performance and results, and anticipated liquidity are forward looking. These forward-looking statements are based on information available to us on the date of this quarterly report, but are subject to risks and uncertainties, including, but not limited to, those discussed herein. Our actual results could differ materially from those discussed in this quarterly report.

The forward-looking statements contained in this quarterly report, and other written and oral forward-looking statements made by us from time to time, are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated in the forward-looking statements. Any forward-looking information regarding our operations will be affected primarily by individual retail stores' profitability, the volume of appliance sales, the strength of energy conservation recycling programs and general economic conditions affecting consumer demand for appliances. Any forward-looking information will also be affected by our continued ability to purchase product from our suppliers at acceptable prices, the ability of individual retail stores to meet planned revenue levels, the number of retail stores, costs and expenses being realized at higher than expected levels, our ability to secure an adequate supply of special-buy appliances for resale, the ability to secure appliance recycling and replacement contracts with sponsors of energy efficiency programs, the ability of customers to supply units under their recycling contracts with us, the performance of our consolidated variable interest entity and the continued availability of our current line of credit. Other factors that might cause such a difference include, but are not limited to, those discussed in Item 1A "Risk Factors" in our annual report on Form 10-K for the year ended December 29, 2012.

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

Overview

We operate two reportable segments: retail and recycling. Our retail segment is comprised of income generated from the sale of appliances through ApplianceSmartŪ stores and includes a small portion of our byproduct revenues from collected appliances. Our recycling segment includes all income generated from collecting, recycling and installing appliances for utilities and other customers and includes a significant portion of our byproduct revenue, which is primarily generated through the recycling of appliances. Our recycling segment also includes all income generated from our agreement with General Electric ("GE") acting through its GE Appliances business component. GE sells its recyclable appliances in certain regions of the United States to us and we collect, process and recycle the appliances. These appliances include units manufactured by GE as well as by other manufacturers. The agreement requires that we will only recycle, and will not sell for re-use or resale, the recyclable appliances purchased from GE. We have established regional processing centers in Philadelphia and Louisville to support our agreement with GE. The regional processing center in Philadelphia is operated by ARCA Advanced Processing, LLC ("AAP") through a joint venture agreement between ARCA and 4301 Operations, LLC ("4301").

Our business components are uniquely positioned in the industry to work together to provide a full array of appliance-related services. ApplianceSmart operates eighteen company-owned stores, sells new appliances directly to consumers and provides affordable ENERGY STARŪ options for energy efficiency appliance replacement programs. Our eleven regional centers process appliances at end of life to remove environmentally damaging substances and produce material byproducts for recycling for over 150 utilities in the U.S. and Canada. AAP employs advanced technology to refine traditional appliance recycling techniques to achieve optimal revenue-generating and environmental benefits. We are also the exclusive North American distributor for UNTHA Recycling Technology ("URT"), one of the world's leading manufacturers of technologically advanced refrigerator recycling systems and recycling facilities for electrical household appliances and electronic scrap.

We believe the GE contract and AAP model are the future of appliance recycling and expect to open similar centers throughout the United States. We cannot predict when these centers may open or if the appropriate volumes can be obtained to support the AAP model at future locations.

Our retail segment is similar to many other retailers in that it is seasonal in nature. Historically, the fourth quarter is our weakest quarter in terms of both revenues and earnings. We believe this is primarily because the fourth quarter includes several holidays during which consumers tend to focus less on purchasing major household appliances.


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Revenues and earnings in our recycling segment are impacted by seasonal variances, with both the second and third quarters generally having higher levels of revenues and earnings. This seasonality is due primarily to our utility customers supporting more marketing and advertising during the spring and summer months. Our customers tend to promote the recycling programs more aggressively during the warmer months because they believe more people want to clean up their garages and basements during that time of the year. However, the addition of the GE agreement and some customers shifting to marketing their appliance recycling programs year-round has helped to mitigate some seasonality. Our recycling segment typically operates two types of programs:
1. Fees charged for collecting and recycling appliances for utilities and other sponsors of energy efficiency programs.

2. Fees charged for recycling and replacing old appliances with new ENERGY STARŪ appliances for energy efficiency programs sponsored by utilities.

Over the last twelve months recycling-only programs continue to report declining revenues and volumes, while we have experienced growing revenues and volumes from our replacement programs. We believe factors impacting this shift include a declining number of pre-1993 refrigerators eligible for recycling programs and a greater emphasis by utilities on promoting ENERGY STARŪ appliances.

We derive revenues from the sale of carbon offsets created by the destruction of ozone-depleting CFCs generated at our ARCA and AAP recycling centers. Through the nine months ended September 28, 2013, we did not recognize any carbon offset revenues. After the third quarter ended, we and AAP collectively received $0.5 million in cash related to the issuance and sale of carbon offset certificates in the California system. This sale will favorably impact fourth quarter earnings by the same amount. In 2012, we sold carbon offsets on the voluntary market and recognized $0.1 million in revenues compared with $1.2 million in 2011. We expect to create carbon offsets and derive revenues through California's market for the remainder of 2013 through 2014.

We monitor specific economic factors such as retail trends, consumer confidence, manufacturing by the major appliance companies, sales of existing homes and mortgage interest rates as key indicators of industry demand, particularly in our retail segment. Competition in the home appliance industry is intense in the four retail markets we serve. This includes competition not only from independent retailers, but also from such major retailers as Sears, Best Buy, The Home Depot and Lowe's. We also closely monitor the metals and various other scrap markets because of the type of components recovered in our recycling process. This includes monitoring the American Metal Market and the regions throughout the U.S. where we have our recycling centers.

Reporting Period. Operating results for the three and nine months ended September 28, 2013, and September 29, 2012, are presented using 13-week and 39-week periods, respectively. The results of operations for any interim period are not necessarily indicative of the results for the year.


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Results of Operations

The following table sets forth our consolidated financial data as a percentage
of total revenues for the three and nine months ended September 28, 2013, and
September 29, 2012:

                                       Three Months Ended                      Nine Months Ended
                                September 28,       September 29,       September 28,      September 29,
                                    2013                 2012               2013                2012
Revenues:
Retail                               50.7  %              60.1  %            54.9  %             63.9  %
Recycling                            35.3  %              24.5  %            31.6  %             21.0  %
Byproduct                            14.0  %              15.4  %            13.5  %             15.1  %
Total revenues                      100.0  %             100.0  %           100.0  %            100.0  %
Cost of revenues                     72.9  %              75.3  %            73.5  %             73.8  %
Gross profit                         27.1  %              24.7  %            26.5  %             26.2  %
Selling, general and
administrative expenses              21.7  %              27.2  %            22.9  %             27.2  %
Operating income (loss)               5.4  %              (2.5 )%             3.6  %             (1.0 )%
Other income expense:
Interest expense, net                (1.0 )%              (1.0 )%            (1.0 )%             (0.9 )%
Other expense, net                      -  %                 -  %               -  %                -  %
Income (loss) before income
taxes and noncontrolling
interest                              4.4  %              (3.5 )%             2.6  %             (1.9 )%
Provision for (benefit of)
income taxes                          0.7  %               0.4  %             0.4  %              0.1  %
Net income (loss)                     3.7  %              (3.9 )%             2.2  %             (2.0 )%
Net loss (income)
attributable to
noncontrolling interest              (0.4 )%               0.3  %               -  %                -  %
Net income (loss)
attributable to controlling
interest                              3.3  %              (3.6 )%             2.2  %             (2.0 )%

For the Three Months Ended September 28, 2013, and September 29, 2012

The following table sets forth the key results of operations by segment for the
three months ended September 28, 2013, and September 29, 2012 (dollars in
millions):

                                           Three Months Ended
                               September 28,     September 29,       %
                                   2013              2012          Change
Revenues:
Retail                        $        17.3     $        17.6        (2 )%
Recycling                              16.2              11.1        46  %
Total revenues                $        33.5     $        28.7        17  %

Operating income (loss):
Retail                        $        (0.2 )   $        (0.9 )      83  %
Recycling                               2.2               0.2     1,020  %
Unallocated corporate costs            (0.2 )             0.0      (727 )%
Total operating income (loss)           1.8              (0.7 )     346  %

Our total revenues of $33.5 million for the third quarter of 2013 increased $4.8 million, or 17%, from $28.7 million in the third quarter of 2012. The increase in revenues was primarily attributed to our recycling segment. Replacement program revenues increased by $5.2 million compared with the prior year, along with an increase in AAP revenues of $0.6 million, which was partially offset by a decline in recycling-only revenues of $0.4 million and a $0.3 million decline in ApplianceSmart revenues. Retail segment revenues accounted for 52% of total revenues in the third quarter of 2013 compared with 56% in the same period of 2012.


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Recycling segment revenues and retail segment revenues each include a portion of byproduct revenues. In both the third quarter of 2013 and 2012, the recycling segment accounted for approximately 94% of the byproduct revenues. The increase in replacement program revenues impacted the overall mix of revenues between the retail and recycling segments for the third quarter of 2013 compared with same period of 2012. Future revenues and related earnings from appliance replacement programs, if any, are uncertain and may fluctuate significantly from year to year. Factors impacting future appliance replacement program revenues and earnings include the type and scope of energy efficiency programs approved by regulatory agencies, competitive bidding, contract changes, non-renewals and early cancellations.

Our total operating income of $1.8 million for the third quarter of 2013 increased $2.5 million compared with an operating loss of $(0.7) million in the third quarter of 2012. The increase was related primarily to the increase in appliance replacement revenues, improved performance in the AAP joint venture and a reduction in retail store operating expenses and advertising.

Revenues. Revenues for the three months ended September 28, 2013, and September 29, 2012, were as follows (dollars in millions):

Three Months Ended

           September 28,      September 29,
                2013               2012         % Change
Retail    $          17.0    $          17.3      (2 )%
Recycling            11.8                7.0      68  %
Byproduct             4.7                4.4       6  %
          $          33.5    $          28.7      17  %

Retail Revenues. Our retail revenues of $17.0 million for the third quarter of 2013 decreased $0.3 million, or 2%, from $17.3 million in the third quarter of 2012. The decrease in retail revenues was due primarily to the impact of closing three stores that were operating during the same period of 2012, which was partially offset by an increase in same-store sales. The store closures represented a $1.1 million decline and same-store sales grew by $0.8 million, or 4.8%. Our same-store sales includes contract sales, which increased to $1.4 million compared with $0.1 million in the same quarter of 2012.

Recycling Revenues. Our recycling revenues of $11.8 million for the third quarter of 2013 increased $4.8 million, or 68%, from $7.0 million in the third quarter of 2012. Recycling revenues are comprised of two components:
(1) appliance recycling revenues generated by collecting and recycling appliances for utilities and other sponsors of energy efficiency programs and
(2) replacement program revenues generated by recycling and replacing old appliances with new energy efficient models for programs sponsored by utility companies. Appliance recycling revenues decreased 9% to $3.7 million in the third quarter of 2013 compared with $4.1 million in the third quarter of 2012, due primarily to lower volumes and price compression within certain contracts. The number of units driving our appliance recycling revenues declined 1% and the average revenue per unit declined by $7 compared with the same quarter last year. Appliance replacement program revenues increased 180% to $8.1 million in the third quarter of 2013 compared with $2.9 million in the third quarter of 2012, due primarily to higher volumes and the mix of appliance replacements. Future revenues from appliance replacement programs, if any, are uncertain and may fluctuate significantly from period to period.

Byproduct Revenues. Our byproduct revenues of $4.7 million for the third quarter of 2013 increased $0.3 million, or 6%, from $4.4 million in the third quarter of 2012. The increase in byproduct revenues was primarily the result of higher volumes processed by our AAP joint venture. Byproduct revenues include all of the revenues generated by AAP. AAP revenues of $3.0 million increased $0.6 million compared with the third quarter of 2012, due primarily to a 17% increase in recyclable appliances compared with the same period last year. During the third quarter of 2013, we did not recognize any carbon offset revenues. Early in the fourth quarter of 2013, we received $0.5 million in cash related to the issuance and sale of carbon offset certificates in the California market, which will favorably impact the fourth quarter pre-tax earnings by the same amount.

Gross Profit. During the first quarter of 2013, we reclassified certain revenues, cost of revenues and sales, general and administrative expenses due to further industry analysis and conformed the 2012 presentation. The reclassification is related primarily to facilities costs and certain other costs not directly related to the production of recycled materials within the recycling segment. Our gross profit of $9.1 million in the third quarter of 2013 increased 2.0 million, or 28% from $7.1 million in the third quarter of 2012. Gross profit as a percentage of total revenues increased to 27% for the third quarter of 2013 compared with 25% in the third quarter of 2012. The improvement was primarily the result of four factors: (1) a reduction in the cost of recyclable appliances purchased by AAP, (2) labor efficiencies recognized by AAP, (3) the increase in appliance replacement volumes, and (4) a favorable retail sales mix. Gross profit percentage for the recycling segment improved to 28% for the third quarter of 2013 compared with 24% for the third quarter of 2012. The impact of the lower acquisition cost of recyclable appliances and processing labor per gross ton resulted in AAP's gross profit percentage improving to 27% compared with 5% in the third quarter of 2012. AAP's appliance


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acquisition costs and labor costs per gross ton improved by $54 and $18, respectively, compared with the third quarter of 2012. Gross profit percentage for the retail segment increased to 26% for the third quarter of 2013 compared with 25% for the third quarter of 2012.

Selling, General and Administrative Expenses. Our selling, general and administrative ("SG&A") expenses for the third quarter of 2013 decreased $0.5 million to $7.3 million compared with $7.8 million for the same period of the prior year. Our SG&A expenses as a percentage of total revenues decreased to 22% in the third quarter of 2013 compared with 27% in the third quarter of 2012. Selling expenses decreased $0.8 million to $4.1 million or 12% of total revenues in the third quarter of 2013 compared with $4.9 million or 17% of total revenues for the third quarter of 2012. The decrease in selling expenses was due primarily to closing the three ApplianceSmart stores mentioned previously and a $0.3 million reduction in advertising. General and administrative expenses increased $0.2 million to $3.2 million for the third quarter of 2013 compared with $3.0 million in the third quarter of the prior year. The increase was due primarily to higher corporate incentive compensation expense.

Interest expense, net: Interest expense of $0.3 million for the third quarter of 2013 was consistent with the same period of the prior year. In connection with the third amendment to our amended Credit Agreement with PNC Bank, National Association, the interest rate on our line of credit increased by 300 basis points and increased 100 basis points on our term loan. The increase in rates was offset by a lower average outstanding balance under our line of credit. In the third quarter, we executed the fourth amendment of our credit agreement with PNC Bank, which will lower the interest rate on our line of credit by 300 basis points effective November 1, 2013. See the "Liquidity and Capital Resources" section for more detail.

Provision for Income Taxes. We recorded a provision for income taxes of $0.2 million for the third quarter of 2013 compared with $0.1 million for the same period of the prior year. The provision for income taxes for the third quarter of 2013 is related primarily to projected taxable income in the United States partially offset by expected benefits in Canada related to the ability to carryback 2013 losses.

Noncontrolling Interest. Noncontrolling interest represents 4301's share of AAP's net income or loss. Under the AAP joint venture agreement, ARCA and 4301 each have a 50% interest in AAP. AAP reported a net income of $255,000 for the third quarter of 2013 of which $128,000 represented the income attributable to noncontrolling interest. AAP reported a net loss of $153,000 for the the third quarter of 2012, of which $77,000 represented the loss attributable to noncontrolling interest.

For the Nine Months Ended September 28, 2013, and September 29, 2012

The following table sets forth the key results of operations by segment for the
nine months ended September 28, 2013, and September 29, 2012 (dollars in
millions):

                                            Nine Months Ended
                               September 28,     September 29,        %
                                   2013              2012          Change
Revenues:
Retail                        $        53.7     $        56.9         (6 )%
Recycling                              42.5              30.8         38  %
Total revenues                $        96.2     $        87.7         10  %

Operating income (loss):
Retail                        $        (0.2 )   $        (1.4 )       85  %
Recycling                               4.2               0.6        605  %
Unallocated corporate costs            (0.6 )            (0.0 )   (2,795 )%
Total operating income (loss)           3.4              (0.8 )      507  %

Our total revenues of $96.2 million for the nine months ended September 28, 2013, increased $8.5 million or 10% from $87.7 million for the nine months ended September 29, 2012. The increase in revenues was attributed to our recycling segment. Appliance replacement program revenues increased by $13.3 million compared with the same period of the prior year, which was partially offset by a decline in recycling-only revenues of $1.4 million and a $3.2 million decline in ApplianceSmart revenues. Retail segment revenues accounted for 61% of total revenues in the nine months ended September 28, 2013, compared with 65% in the same period of the prior year. Recycling segment revenues and retail segment revenues each include a portion of byproduct revenues. For both the nine months ended September 28, 2013, and 2012, the recycling segment accounted for approximately


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93% of the byproduct revenues. The increase in replacement program revenues impacted the overall mix of revenues between the retail and recycling segments for the nine months ended September 28, 2013, compared with same period of the prior year. Future revenues and related earnings from appliance replacement programs, if any, are uncertain and may fluctuate significantly from year to year. Factors impacting future appliance replacement program revenues and earnings include the type and scope of energy efficiency programs approved by regulatory agencies, competitive bidding, contract changes, non-renewals and early cancellations.

Our total operating income of $3.4 million for the nine months ended September 28, 2013, increased $4.2 million compared with an operating loss of $(0.8) million for the nine months ended September 29, 2012. The increase was related primarily to the increase in appliance replacement revenues, a $1.7 million decrease in SG&A expenses and a 100-basis-point improvement in our ApplianceSmart gross margin, which includes a $0.5 million favorable inventory reserve adjustment.

Revenues. Revenues for the nine months ended September 28, 2013, and September 29, 2012, were as follows (dollars in millions):

                         Nine Months Ended
           September 28,      September 29,
                2013               2012         % Change
Retail    $          52.9    $          56.0      (6 )%
Recycling            30.4               18.4      65  %
Byproduct            12.9               13.3      (2 )%
          $          96.2    $          87.7      10  %

Retail Revenues. Our retail revenues of $52.9 million for the nine months ended September 28, 2013, decreased $3.1 million, or 6%, from $56.0 million for the nine months ended September 29, 2012. The decrease in retail revenues was due primarily to a decline in same-store sales along with the closure of three underperforming stores that were operating for the entire nine-month in 2012. The store closures represented a $3.4 million decline in revenues and same-store sales declined by $1.1 million, or 2.3%. Our same-store sales includes contract sales, which increased to $2.1 million compared to $0.3 million in the same period of 2012. The revenue decline resulting from store closures and lower same-store sales was partially offset by $1.4 million in revenues generated from a new store that was not operating during the same period of 2012. We are evaluating underperforming stores and stores with expiring leases that have a range of outcomes from right-sizing the showroom space to closure. We closed one underperforming store in May 2013 as a result of not renewing the lease.

Recycling Revenues. Our recycling revenues of $30.4 million for the nine months ended September 28, 2013, increased $12.0 million, or 65%, from $18.4 million in the nine months ended September 29, 2012. Recycling revenues are comprised of two components: (1) appliance recycling revenues generated by collecting and recycling appliances for utilities and other sponsors of energy efficiency programs and (2) replacement program revenues generated by recycling and replacing old appliances with new energy efficient models for programs sponsored by utility companies. Appliance recycling revenues decreased 13% to $9.2 million for the nine months ended September 28, 2013, compared with $10.6 million in the same period of the prior year, due primarily to lower volumes and price compression within certain contracts. The number of units driving our appliance recycling revenues declined 7% and the average revenue per unit declined by $5 compared with the same period of the prior year. Appliance replacement program revenues increased 170% to $21.2 million in the nine months ended September 28, 2013, compared with $7.9 million in the same period of the prior year, due primarily to higher volumes and the mix of appliance replacements. Future revenues from appliance replacement programs, if any, are uncertain and may fluctuate significantly from period to period.

Byproduct Revenues. Our byproduct revenues of $12.9 million for the nine months ended September 28, 2013, decreased $0.4 million, or 2%, from $13.3 million in the same period of the prior year. The decrease in byproduct revenues was primarily the result of a decline in steel scrap prices. Byproduct revenues include all of the revenues generated by AAP. AAP revenues of $8.3 million . . .

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