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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
     
þ   Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended July 4, 2009
or
     
o   Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from                       to                     
Commission File Number 0-50063
MOD-PAC CORP.
(Exact name of registrant as specified in its charter)
     
New York State   16-0957153
     
(State or other jurisdiction of incorporation or organization)   (IRS employer identification no.)
     
1801 Elmwood Ave., Buffalo, NY   14207
(Address of principal executive offices)   (Zip code
Telephone number including area code: (716) 873-0640
 
Former name, former address and former fiscal year, if changed since last report
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months or for such shorter period that the registrant was required to file such reports, and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
             
Large accelerated filer o   Accelerated filer o   Non-accelerated filer o   Smaller reporting company þ
        (Do not check if a smaller reporting company)    
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
The number of shares outstanding of each class of common stock as of July 4, 2009 were:
     
Common Stock, $0.01 par value   2,790,616 shares
 
Class B Common Stock, $0.01 par value   639,515 shares
 
 

 

 


 

MOD-PAC CORP.
QUARTERLY REPORT ON FORM 10-Q
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  Exhibit 31.1
  Exhibit 31.2
  Exhibit 32.1
  Exhibit 32.2

 

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PART I — FINANCIAL INFORMATION
Part 1. Financial Information
Item 1. Financial Statements
MOD-PAC CORP.
Consolidated Balance Sheets
                 
    (dollars in thousands)  
    July 4,     December 31,  
    2009     2008  
    (Unaudited)        
Current assets:
               
Cash and cash equivalents
  $ 166     $ 200  
Trade accounts receivable, net of allowance of $196 in 2009 and $170 in 2008
    4,648       4,750  
Inventories
    4,193       4,313  
Prepaid expenses
    521       357  
 
           
Total current assets
    9,528       9,620  
 
               
Property, plant and equipment, at cost
    63,409       68,707  
Less accumulated depreciation
    (47,028 )     (47,116 )
 
           
Net property, plant and equipment
    16,381       21,591  
Assets held for sale
    1,928        
Other assets
    1,324       1,340  
 
           
Totals assets
  $ 29,161     $ 32,551  
 
           
 
               
Current liabilities:
               
Current maturities of long-term debt
  $ 174     $ 168  
Accounts payable
    2,805       3,222  
Accrued expenses
    580       581  
Line of credit, current
    2,300        
 
           
Total current liabilities
    5,859       3,971  
 
               
Line of credit, long-term
          1,000  
Long-term debt
    2,325       2,413  
Other liabilities
    52       37  
Deferred income taxes
          118  
 
           
Total liabilities
  $ 8,236     $ 7,539  
 
           
 
               
Shareholders’ equity:
               
Common stock, $.01 par value
               
Authorized 20,000,000 shares, issued 3,441,314 in 2009, 3,439,347 in 2008
    34       34  
Class B common stock, $.01 par value
               
Authorized 5,000,000 shares, issued 639,515 in 2009, 641,482 in 2008
    7       7  
Additional paid-in capital
    2,555       2,385  
Retained earnings
    24,544       28,801  
 
           
 
    27,140       31,227  
Less treasury shares, at cost 650,698 in 2009 and 2008
    (6,215 )     (6,215 )
 
           
Total shareholders’ equity
    20,925       25,012  
 
           
Total liabilities and shareholders’ equity
  $ 29,161     $ 32,551  
 
           
See notes to financial statements.

 

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MOD-PAC CORP.
Consolidated Statements of Operations
                                 
    (dollars in thousands)
(Unaudited)
 
    Six Months Ended     Three Months Ended  
    July 4,     June 28,     July 4,     June 28,  
    2009     2008     2009     2008  
Revenue:
                               
Net sales
  $ 23,281     $ 22,418     $ 11,071     $ 10,952  
Rental income
    258       223       142       112  
 
                       
Total revenue
    23,539       22,641       11,213       11,064  
 
                               
Costs and Expenses:
                               
Cost of products sold
    21,663       20,012       10,756       9,781  
Selling, general and administrative expenses
    3,958       4,140       1,960       2,084  
Write-down of impaired assets
    2,175             2,175        
Interest expense, net
    130       125       67       73  
Other income
    (11 )     (81 )     (22 )     (69 )
 
                       
Total costs and expenses
    27,915       24,196       14,936       11,869  
 
                               
Loss before income taxes
    (4,376 )     (1,555 )     (3,723 )     (805 )
 
                               
Income tax benefit
    (120 )     (517 )           (267 )
 
                       
Net loss
  $ (4,256 )   $ (1,038 )   $ (3,723 )   $ (538 )
 
                       
 
                               
Loss per share:
                               
 
                               
Basic
  $ (1.24 )   $ (0.30 )   $ (1.09 )   $ (0.16 )
 
                       
 
                               
Diluted
  $ (1.24 )   $ (0.30 )   $ (1.09 )   $ (0.16 )
 
                       
See notes to financial statements.

 

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MOD-PAC CORP.
Consolidated Statements of Cash Flows
                 
    (dollars in thousands)
(Unaudited)
 
    Six Months Ended  
    July 4,     June 28,  
    2009     2008  
Cash flows from operating activities:
               
Net loss
  $ (4,256 )   $ (1,038 )
Adjustments to reconcile net loss to net cash used in operating activities:
               
Depreciation and amortization
    1,869       1,990  
Provision for doubtful accounts
    39       12  
Stock option compensation expense
    169       164  
Deferred income taxes
    (118 )     (519 )
Write-down of impairment of assets
    2,175        
Loss (gain) on disposal of assets
    24       (54 )
Cash flows from changes in operating assets and liabilities
               
Accounts receivable
    63       (254 )
Inventories
    120       (336 )
Prepaid expenses
    (164 )     (77 )
Other liabilities
    15       (239 )
Accounts payable
    (417 )     54  
Accrued expenses
    (1 )     (174 )
 
           
 
               
Net cash used in operating activities
    (482 )     (471 )
 
           
 
               
Cash flows from investing activities:
               
Proceeds from the sale of assets
    6       125  
Change in other assets
    (74 )     (41 )
Capital expenditures
    (702 )     (1,266 )
 
           
 
               
Net cash used in investing activities
    (770 )     (1,182 )
 
           
 
               
Cash flows from financing activities:
               
Principal payments on long-term debt
    (82 )     (42 )
Increase in line of credit
    1,300       1,300  
Purchase of treasury stock
          (150 )
Deferred financing fees
          (5 )
 
           
 
               
Net cash provided by financing activities
    1,218       1,683  
 
           
 
               
Net (decrease) increase in cash and cash equivalents
    (34 )     30  
 
               
Cash and cash equivalents at beginning of year
    200       98  
 
           
 
               
Cash and cash equivalents at end of period
  $ 166     $ 128  
 
           
See notes to financial statements.

 

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MOD-PAC CORP.
Notes to Consolidated Financial Statements
Six Months Ended July 4, 2009

(unaudited)
1) Basis of Presentation
The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included and are of a normal recurring nature. The results of operations for any interim period are not necessarily indicative of results for the full year. Operating results for the six-month period ended July 4, 2009 are not necessarily indicative of the results that may be expected for the year ending December 31, 2009.
The balance sheet at December 31, 2008 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted U.S. accounting principles for complete financial statements.
For further information, refer to the financial statements and footnotes thereto included in the Company’s 2008 annual report on Form 10-K.
Revenue is recognized on the accrual basis, which is at the time of shipment of goods or acceptance at the United States Postal Service.
2) Rationalization of Product Lines
In the second quarter of 2009, the Company rationalized its product lines in order to capitalize on its growing position in the custom folding cartons product line.
The following charges, incurred in the second quarter of 2009, are associated with this rationalization process:
         
(in thousands)        
 
Write-down of impaired assets
  $ 1,933  
Workforce reduction costs (included in Selling, general and administrative expenses)
    65  
Other rationalization charges (included in Cost of products sold)
    134  
 
     
Total
  $ 2,132  
 
     
As of July 4, 2009, approximately $96 thousand of accrued liabilities associated with workforce reduction charges and contract settlement costs are recorded on the consolidated balance sheet. Approximately $76 thousand of this amount is expected to be paid in the third quarter of 2009. The Company does not expect to incur any additional cost associated with this rationalization.

 

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3) Product Line Net Sales
Product line net sales are as follows:
                                 
    Six months ended     Three months ended  
    July 4,     June 28,     July 4,     June 28,  
(in thousands)   2009     2008     2009     2008  
 
Folding cartons:
                               
Custom folding cartons
  $ 16,480     $ 13,994     $ 7,989     $ 7,043  
Stock packaging
    3,649       4,114       1,475       1,570  
 
                       
Folding cartons sub-total
    20,129       18,108       9,464       8,613  
 
                       
 
                               
Print services:
                               
Specialty print and direct mail
    1,519       2,138       747       1,150  
Personalized
    1,633       2,172       860       1,189  
 
                       
Print services sub-total
    3,152       4,310       1,607       2,339  
 
                       
 
                               
Total
  $ 23,281     $ 22,418     $ 11,071     $ 10,952  
 
                       
4) Loss Per Share
The following table sets forth the computation of loss per share:
                                 
    Six months ended     Three months ended  
    July 4,     June 28,     July 4,     June 28,  
(in thousands except per share data)   2009     2008     2009     2008  
 
Net loss as reported
  $ (4,256 )   $ (1,038 )   $ (3,723 )   $ (538 )
 
                       
Basic and diluted loss per share weighted average shares
    3,430       3,438       3,430       3,430  
 
                               
Basic and diluted loss per share
  $ (1.24 )   $ (0.30 )   $ (1.09 )   $ (0.16 )
 
                       
There was no effect for stock options that were dilutive for the three and six months ended July 4, 2009 and June 28, 2008, since the Company had a net loss in both periods.
5) Inventories
Inventories are stated at the lower of cost or market, cost being determined in accordance with the first-in, first-out method.
Inventories are as follows:
                 
    July 4,     December 31,  
(in thousands)   2009     2008  
 
               
Finished goods
  $ 2,505     $ 2,671  
Work in progress
    433       238  
Raw material
    1,255       1,404  
 
           
Total inventory
  $ 4,193     $ 4,313  
 
           

 

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6) Income Taxes
The Company’s effective tax rate for the second quarter and first six months of 2009 was 0% and 2.7%, respectively. This benefit was less than the statutory income tax rate, primarily as a result of the Company recording a full valuation allowance of $1.3 million related to its net deferred tax asset. The valuation allowance was recorded due to the uncertainty with respect to utilizing this net deferred tax asset in the future based on the trend of operating losses. The effective tax rate for the second quarter and first six months of 2008 was 33.2%.
The Company’s continuing practice is not to recognize interest and/or penalties related to income tax matters in income tax expense. As of July 4, 2009, the Company had no amounts accrued related to uncertain tax positions. The tax years 2006, 2007, and 2008 remain open to examination by the major taxing jurisdictions to which the Company is subject.
7) Stock-Based Compensation
MOD-PAC CORP. established a Stock Option Plan that authorized the issuance of 800,000 shares of Common Stock for the purpose of attracting and retaining executive officers and key employees, and to align management’s interests with those of the shareholders of MOD-PAC CORP. The options must be exercised no more than ten years from the grant date and vest over up to a five-year period. The exercise price for the options is equal to the fair market value of the common stock at the date of grant.
MOD-PAC CORP. established the Director’s Stock Option Plan that authorized the issuance of 200,000 shares of Common Stock for the purpose of attracting and retaining the services of experienced and knowledgeable outside directors, and to align their interest with those of its shareholders. The options must be exercised no more than ten years from the grant date and vest after six months. The exercise price for the options is equal to the fair market value at the date of grant.
The Company uses a straight-line method of attributing the value of stock-based compensation expense, subject to minimum levels of expense, based on vesting. Stock compensation expense recognized during the period is based on the value of the portion of shared-based payment awards that is ultimately expected to vest during the period.
The fair value of stock options granted was estimated on the date of grant using the Black-Scholes option-pricing model. The weighted average fair value of the options was $1.08 and $2.27 for options granted during the six months ended July 4, 2009 and June 28, 2008, respectively. The following table provides the range of assumptions used to value stock options granted during the six months ended July 4, 2009 and June 28, 2008.
                 
    Six Months Ended  
    July 4,     June 28,  
    2009     2008  
 
               
Expected volatility
    75 %     39 %
Risk-free rate
    2.0 %     2.9 %
Expected dividends
    0 %     0 %
Expected term (in years)
    5.5       5.5  
To determine expected volatility, the Company uses historical volatility based on weekly closing prices of its Common Stock since the Company’s spin-off from Astronics Corporation in March 2003. The risk-free rate is based on the United States Treasury yield curve at the time of grant for the appropriate term of the options granted. Expected dividends are based on the Company’s history and expectation of dividend payouts. The expected term of stock options is based on vesting schedules, expected exercise patterns and contractual terms.

 

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A summary of the Company’s stock option activity and related information for the six months ended July 4, 2009 is as follows:
                         
            Weighted     Aggregate  
            Average     Intrinsic  
(aggregate intrinsic value in thousands)   Options     Exercise Price     Value  
Outstanding at January 1, 2009
    537,009     $ 7.33     $ 67  
Options granted
    30,000       1.68        
Options forfeited
    (17,180 )     4.63        
 
                 
Outstanding at July 4, 2009
    549,829     $ 7.10     $ 181  
 
                 
 
                       
Exercisable at July 4, 2009
    411,589     $ 7.80     $ 90  
 
                 
The aggregate intrinsic value in the preceding table represents the total pretax option holder’s intrinsic value, based on the Company’s closing stock price of Common Stock of $2.98 as of July 4, 2009, which would have been received by the option holders had all option holders with an exercise price less than the market price been exercised as of that date. The intrinsic value of options exercised is based on the Company’s closing stock price of common stock as of the date the option is exercised. There were no options exercised in the first six months of 2009. The Company’s current policy is to issue additional new shares upon exercise of stock options.
The fair value of options vested since December 31, 2008 is $105 thousand. At July 4, 2009, total compensation costs related to non-vested awards not yet recognized was $229 thousand which will be recognized over a weighted average period of 1.5 years.
The following is a summary of weighted average exercise prices and contractual lives for outstanding and exercisable stock options as of July 4, 2009:
                                                 
    Outstanding     Exercisable  
            Weighted                     Weighted        
            Average     Weighted             Average     Weighted  
            Remaining     Average             Remaining     Average  
Exercise Price           Life     Exercise             Life     Exercise  
Range   Shares     in Years     Price     Shares     in Years     Price  
$1.68 to $5.62
    211,659       8.4     $ 2.77       135,659       6.7     $ 3.33  
$6.22 to $8.44
    148,919       5.7     $ 7.72       119,719       5.1     $ 7.81  
$10.00 to $11.73
    132,474       6.6     $ 10.79       99,874       6.3     $ 10.91  
$12.41 to $15.54
    56,777       4.8     $ 13.01       56,337       4.8     $ 13.01  
 
                                   
 
    549,829       6.9     $ 7.10       411,589       5.9     $ 7.80  
 
                                   
8) Line of Credit
The Company has access to a $5.0 million committed line of credit with a commercial bank, which expires in March 2010. At July 4, 2009, $2.3 million was borrowed and an additional $0.2 million was in use through standby letters of credit. The amount of the line of credit that was unused and available to the Company at July 4, 2009 was $2.5 million. Interest on the line of credit is either LIBOR plus 150 basis points or the prime rate plus 50 basis points, at the Company’s option.
9) Assets Held for Sale
As a result of the Company’s rationalization of its product lines in the second quarter of 2009 and management’s change of plans regarding its use of the Blasdell, NY facility in the second quarter of 2009, the Company has presented the following assets as held for sale as of July 4, 2009. The presentation of assets held for sale is based on management’s committed plan and related actions to sell these assets.

 

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Assets held for sale are as follows:
         
(in thousands)        
Specialty Print and Direct Mail equipment
  $ 537  
Land and building — Blasdell, NY facility
    1,391  
 
     
Total
  $ 1,928  
 
     
The Company recognized asset impairment charges in the second quarter of 2009 of $2.1 million ($0.2 million for the Blasdell, NY facility and $1.9 million for Specialty Print and Direct Mail equipment) related to these assets based upon an estimate of the net realizable value based on expected selling prices less costs to sell. The reported fair value of these assets held for sale is considered to be level three within the fair value hierarchy as established by SFAS No. 157 “Fair Value Measurements”. Level three is defined as inputs for which significant valuation assumptions are unobservable in a market and therefore value is based on the best available data, some of which is internally developed and considers risk premiums that a market participant would require.
10) Capital Structure
The Company’s Class B stock is fully convertible into Common stock on a one-for-one basis at no cost. During the first six months of 2009, 947 shares of Class B stock were converted to Common stock.
11) Information Regarding Industry Segments
The Company operates as one reporting segment. The Company’s customer base is comprised of companies and individuals throughout the United States and North America and is diverse in both geographic and demographic terms. The format of the information used by the Company’s President and CEO is consistent with the reporting format used in the Company’s 2008 Form 10-K and other external information.
12) Financial Instruments
The Company’s financial instruments consist primarily of cash and cash equivalents, receivables, accounts payable and long-term debt. The carrying value of the Company’s accounts receivable and accounts payable approximate fair value due to the short-term nature of the instruments. The recorded amounts for long-term debt approximate fair value based on current market rates of similar instruments.
13) Recent Accounting Pronouncements
In December 2007, the FASB Statement 141R, “Business Combinations” (“SFAS 141R”) was issued. SFAS 141R replaces SFAS 141. SFAS 141R requires the acquirer of a business to recognize and measure the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at fair value. SFAS 141R also requires transactions costs related to the business combination to be expensed as incurred. SFAS 141R applies prospectively to business combinations; the effective date for the Company is January 1, 2009. The impact of SFAS 141R on future business combinations cannot currently be determined.
On April 5, 2009, the Company adopted the provisions of FSP SFAS No. 107-1, “ Interim Disclosures about Fair Value of Financial Instruments ” (“FSP SFAS 107-1”), which amends SFAS No. 107, “ Disclosures about Fair Value of Financial Instruments ,” and APB Opinion No. 28, “ Interim Financial Reporting .” FSP SFAS No. 107-1 requires disclosures about fair value of financial instruments in financial statements for interim reporting periods and in annual financial statements of publicly-traded companies. This FSP also requires entities to disclose the method(s) and significant assumptions used to estimate the fair value of financial instruments in financial statements on an interim and annual basis and to highlight any changes from prior periods. The adoption of FSP SFAS 107-1 did not have a material impact on the Company’s consolidated financial position or results of operations. Disclosures required by SFAS 107 are included in Note 12.
In May 2009, the FASB issued SFAS No. 165, “Subsequent Events” (“SFAS 165”). SFAS 165 establishes general standards for accounting for and disclosure of events that occur after the balance sheet date but before financial statements are available to be issued (“subsequent events”). More specifically, SFAS 165 sets forth the period after the balance sheet date during which management of a reporting entity should evaluate events or transactions that may occur for potential recognition in the financial statements, identifies the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements and the disclosures that should be made about events or transactions that occur after the balance sheet date. SFAS 165 provides largely the same guidance on subsequent events which previously existed only in auditing literature. The Company does not anticipate that the adoption of this statement will have a material impact on its consolidated financial statements. The Company adopted SFAS 165 on April 5, 2009. We have evaluated subsequent events through August 10, 2009, the date this quarterly report on Form 10-Q was filed with the U.S. Securities and Exchange Commission. We made no significant changes to our condensed consolidated financial statements as a result of our subsequent events evaluation.

 

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In June 2009, the FASB issued SFAS No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles — a replacement of FASB Statement No. 162” (“SFAS No. 168)”. SFAS No. 168 stipulates the FASB Accounting Standards Codification is the source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernmental entities. SFAS No. 168 is effective for the financial statements issued for interim and annual reporting periods ending after September 15, 2009. The Company does not expect that the adoption of this standard will have a material impact on its consolidated financial statements.
14) Long-Term Debt
Long-term debt includes the following:
                 
    July 4,     December 31,  
(in thousands)   2009     2008  
 
               
Capital lease obligations:
               
Building — due in 2023; bears interest at 10%; payable monthly
  $ 1,800     $ 1,800  
Equipment
    14       20  
 
           
 
    1,814       1,820  
Less estimated current maturities
    12       12  
 
           
 
    1,802       1,808  
 
           
 
               
Loans:
               
Equipment loans
    583       650  
Other
    102       111  
 
           
 
    685       761  
Less estimated current maturities
    162       156  
 
           
Loans — long-term
    523       605  
 
           
 
               
Total long-term debt
  $ 2,325     $ 2,413  
 
           
15) Assets Under Capital Leases Included in Property, Plant and Equipment
Assets under capital leases included in property, plant and equipment are summarized as follows:
                 
    July 4,     December 31,  
(in thousands)   2009     2008  
 
               
Land
  $ 400     $ 400  
Buildings
    4,148       4,148  
Equipment
          25  
 
           
 
    4,548       4,573  
Less accumulated depreciation
    800       711  
 
           
 
               
Net assets under capital leases
  $ 3,748     $ 3,862  
 
           
16) Long-Lived Assets
Long-lived assets, including acquired identifiable intangible assets, are tested for impairment whenever events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable. An impairment loss is recognized if the carrying amount of a long-lived asset or asset group is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset or asset group is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset or asset group. That assessment is based on the carrying amount of the asset or asset group at the date tested. An impairment loss is measured as the amount by which the carrying amount of a long-lived asset or asset group exceeds its fair value.
Based on this testing, no asset impairment charges were recognized in 2008. The Company recognized asset impairment charges in the second quarter of 2009 of $2.2 million.

 

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Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations
REVENUE
For the second quarter of 2009, total revenue was $11.2 million compared with $11.1 million in 2008, an increase of 1.3%. The custom folding carton product line sales were $8.0 million compared with $7.0 million in the second quarter of 2008. The 13.4% increase was mainly due to substantial growth with one large existing customer and sales to one large new customer, offset partially by decreased business with several existing customers. Sales of the Company’s stock packaging product line were $1.5 million compared with $1.6 million in the second quarter of 2008, down 6.1% primarily due to weakness in general business conditions. Second quarter 2009 specialty print and direct mail sales decreased 35.0% to $0.7 million compared with sales of $1.2 million in the second quarter of 2008. The decrease was primarily due to decreased business with one large customer and general soft market conditions. During the second quarter of 2009, the Company rationalized its product lines and exited the commercial print market which the specialty print and direct mail product line served. Personalized print sales for the second quarter of 2009 were $0.9 million compared with $1.2 million in 2008, a decrease of 27.7%, mainly due to weakness in general business conditions.
For the first six months of 2009, total revenue was $23.5 million compared with $22.6 million in 2008, an increase of 4.0%. The custom folding cartons product line sales were $16.5 million compared with $14.0 million in 2008, an increase of 17.8% with increased business volumes from several customers including substantial growth from one large existing customer and sales to one large new customer, being partially offset by decreased business from several existing customers. Sales of the Company’s stock packaging product line were $3.6 million, compared with $4.1 million in the prior year, a decrease of 11.3% mainly due to weakness in general business conditions. Personalized print sales for the first six months of 2009 were $1.6 million compared with $2.2 million in the same period of 2008, a decrease of 24.8% primarily due to general soft market conditions. The first six months of 2009 specialty print and direct mail sales declined 29.0% to $1.5 million from sales of $2.1 million in the first six months of 2008. This decrease was primarily due to weakness in general business conditions including decreased sales from one large customer.
EXPENSES AND MARGINS
Gross margin was 4.1% for the second quarter of 2009, down from 11.6% in the second quarter of 2008. The second quarter 2009 gross margin was negatively affected by decreased waste sales due to a drop in the recycled paperboard market, increased repairs expense, and a generally weaker sales mix, offset slightly by lower depreciation expense in the current year. Additionally, the second quarter gross margin was negatively impacted by an increase in the raw material inventory reserve of $89 thousand which was the result of the Company’s rationalization of the specialty print and direct mail product lines in the second quarter of 2009. Selling, general, and administrative costs (“SG&A”) decreased 6.0% to $2.0 million in the second quarter of 2009 from $2.1 million during the same period in the prior year. This decrease was driven primarily by lower professional service costs. Included in the second quarter of 2009 SG&A, was $65 thousand in workforce reduction costs that were the result of the Company’s rationalization of the specialty print and direct mail product lines in the second quarter of 2009. Additionally, $2.2 million of expense was incurred that was associated with the write-down of impaired assets in the second quarter of 2009. This impairment resulted from the Company’s rationalization of the specialty print and direct mail product line in the second quarter of 2009 and the write-down of its Blasdell, NY facility to fair market value based on expected selling prices net of costs to sell.
Gross margin was 8.0% for the first six months of 2009, down from 11.6% for the same period of 2008. The current year gross margin for the first six months was negatively affected by decreased waste sales due to a drop in the recycled paperboard market, increased repairs expense, and a generally weaker sales mix, offset slightly by lower depreciation expense in the current year. Selling, general, and administrative costs decreased 4.4% to $4.0 million in the first six months of 2009 from $4.1 million during the same period in the prior year. This slight decrease was driven primarily by lower professional service costs, offset partially by higher depreciation expense. Included in the first six months of 2009 SG&A, was $65 thousand in workforce reduction costs that were the result of the Company’s rationalization of the specialty print and direct mail product lines in the second quarter of 2009. Additionally, $2.2 million of expense was incurred that was associated with the write-down of impaired assets in the second quarter of 2009. This impairment resulted from the Company’s rationalization of the specialty print and direct mail product line in the second quarter of 2009 and the write-down of its Blasdell, NY facility to fair market value based on expected selling prices net of costs to sell.

 

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TAXES
The Company’s effective tax rate for the second quarter and first six months of 2009 was 0% and 2.7%, respectively. This benefit was less than the statutory income tax rate, primarily as a result of the Company recording a full valuation allowance of $1.3 million related to its net deferred tax asset. The valuation allowance was recorded due to the uncertainty with respect to utilizing this net deferred tax asset in the future based on the trend of operating losses. The effective tax rate for the second quarter and first six months of 2008 was 33.2%.
NET LOSS AND LOSS PER SHARE
The net loss for the second quarter of 2009 was $3.7 million, compared with a net loss of $0.5 million in the second quarter of 2008. This increased loss was due to the fluctuations discussed above. Diluted loss per share was $1.09 in the second quarter of 2009 and $0.16 in the second quarter of 2008.
The net loss for the first six months of 2009 was $4.3 million, or $1.24 per diluted share, compared with a net loss of $1.0 million, or $0.30 per diluted share, in the first six months of 2008. This increase in loss was due to the fluctuations discussed above.
LIQUIDITY
Cash and cash equivalents at July 4, 2009, were relatively unchanged from the $0.2 million balance at December 31, 2008.
The Company has access to a $5.0 million committed line of credit with a commercial bank, which expires in March 2010. At July 4, 2009, $2.3 million was borrowed and an additional $0.2 million was in use through standby letters of credit. The borrowed amount is an increase of $1.3 million from the balance at December 31, 2008. Interest on the line of credit is either LIBOR plus 150 basis points or the prime rate plus 50 basis points at the Company’s option.
The increase in the amount outstanding under the line of credit in the first six months of 2009 was primarily the result of capital expenditures and working capital requirements to meet customer demands.
Accounts payable declined $0.4 million during the first six months of 2009 primarily due to timing of payments.
Capital expenditures driven primarily by productivity improvement and upgrade investments, for the first six months of 2009, were $0.7 million compared with $1.3 million for the first six months of 2008. Depreciation and amortization for the first six months of 2009 was $1.9 million compared with $2.0 million in the same period last year.
The Company believes that cash, cash equivalents, and the line of credit are sufficient to meet cash requirements for operations, capital expenditures and debt service for the balance of 2009. The Company’s management is beginning the process of negotiation to renew or replace the existing line of credit that is due to expire in the first quarter of 2010.
There were no shares repurchased by the Company during the first six months of 2009. The Company has authorization to repurchase 75,885 shares at July 4, 2009. The closing price of the Company’s stock at July 4, 2009 was $2.98. At this price, the repurchase of 75,885 shares would require $226,137.

 

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CONTRACTUAL OBLIGATIONS
The following table displays an update in the format of the information originally presented on the Company’s 2008 Form 10-K related to its capital lease obligations.
                                         
(in thousands, as of December 31, 2008)
Payments Due by Period
  Total     2009     2010-2011     2012-2013     After 2013  
Line of Credit
  $ 1,000           $ 1,000              
 
                                       
Equipment Loans
    650       136       305       209        
 
                                       
Other Loans
    111       20       44       47        
 
                                       
Capital Lease Obligation — Aggregate payments (1)
    7,844       155       339       360       6,990  
Capital Lease Obligations — Aggregate (Other)
    21       13       8              
 
Operating Leases
    849       514       326       9        
 
Purchase Commitments
    1,278       1,022       256              
 
                             
 
                                       
Total
  $ 11,753     $ 1,860     $ 2,278     $ 625     $ 6,990  
 
                             
     
(1)   Represents a forty-nine year lease beginning November 2003 for 203,000 square feet of office and warehouse buildings adjacent to our corporate printing and manufacturing property. Beginning in November 2022 and ending in October 2027, the Company has an option to purchase the property for $1.8 million and terminate the lease. If the purchase option is not exercised, the Company is obligated to make monthly payments of $15,000 through October 2052.
COMMITMENTS
The Company has commitments for items that it purchases in the normal on-going affairs of the business. The Company is not aware of any obligations in excess of normal market conditions, or of any long-term commitments that would have a material adverse affect on its financial condition.
MARKET RISK
There has been no significant change in market risks since December 31, 2008.
As a result of short cycle times, the Company does not have any long-term commitments to purchase production raw materials or sell products that would present significant risks due to price fluctuations. Raw paper stock is available to us from multiple domestic sources; as a result, we believe the risk of supply interruptions due to such things as strikes at the source of supply or to failures in logistics systems are limited.
Risks due to fluctuation in interest rates are not material to the Company at July 4, 2009 because of our limited exposure to floating rate debt.
Since May of 2003, over 90% of the Company’s power needs are met through natural gas. The Company has investigated supply contracts of various lengths and currently it has supply arrangements for fixed prices on approximately 100% of its estimated usage through September 2009 and approximately 60% of its estimated usage from October 2009 through October 2010. Historically, the price of natural gas has fluctuated widely. Although the Company is concerned about cost, its main concern is availability. The Company monitors the availability of natural gas, considering such factors as amount in storage, gas production data and transportation data, so that it can take appropriate action if concerns about availability occur. The Company has investigated and tested a back-up power source in the form of a rented transportable diesel-powered generator. Although such generators are generally available, the Company cannot be assured that a generator adequate to meet the Company’s needs would be available if and when such need should arise.
We have no foreign operations, nor do we transact any business in foreign currencies. Accordingly, we have no foreign currency market risks.

 

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The market risk that the Company was exposed to at December 31, 2008 was generally the same as described above.
CRITICAL ACCOUNTING POLICIES
There have been no changes in critical accounting policies in the current year from those disclosed in our 2008 Form 10-K.
FORWARD-LOOKING STATEMENTS
Certain statements contained in this report are “forward-looking statements” within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. All forward-looking statements involve risks and uncertainties. All statements contained herein that are not clearly historical in nature are forward-looking, and the word “anticipate,” “believe,” “expect,” “estimate,” “project,” and similar expressions are generally intended to identify forward-looking statements. Any forward looking statement contained herein, in press releases, written statements or other documents filed with the Securities and Exchange Commission, or in MOD-PAC’s communications and discussions with investors and analysts in the normal course of business through meetings, webcasts, phone calls and conference calls, regarding expectations with respect to sales, earnings, cash flows, operating efficiencies, product and market channel expansions, capacity utilization and expansion, and repurchase of capital stock, are subject to known and unknown risks, uncertainties and contingencies. Many of these risks, uncertainties, and contingencies are beyond our control, and may cause actual results, performance or achievements to differ materially from anticipated results, performance or achievements. Factors that might affect such forward-looking statements include, among other things:
    Overall economic and business conditions;
    The demand for MOD-PAC’s goods and services;
    Customer acceptance of the products and services MOD-PAC provides;
    Competitive factors in print and print services and folding cartons industries;
    Changes in tax requirements (including tax rate changes, new tax laws and revised tax law interpretations);
    The availability and costs of natural gas supplies in Western New York State;
    The internal and external costs of compliance with laws and regulations such as Section 404 of the Sarbanes-Oxley Act of 2002; and
    Litigation against the Company.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
See Market Risk in Item 2, above.
Item 4T. Controls and Procedures
The Company’s management, with the participation of the Company’s President and Chief Executive Officer, and Chief Operating Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures as defined in Rules 13a — 15(e) and 15(d) - 15(e) of the Securities Exchange Act of 1934, as of July 4, 2009. Based on that evaluation, the Company’s President and Chief Executive Officer, and Chief Operating Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of July 4, 2009. There were no changes in the Company’s internal control over financial reporting during the second quarter of 2009 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

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PART II — OTHER INFORMATION
Item 1. Legal Proceedings
    There are no material pending legal proceedings to which the Registrant or any of its subsidiaries is a party or of which any of their property is the subject.
Item 1A . Risk Factors
    There has been no significant change to the risk factors disclosed in our Annual Report on Form 10-K for the year ended December 31, 2008.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
                                 
                    (c) Total Number of     (d) Maximum Number  
    (a) Total             Shares (or Units)     (or Approximate Dollar  
    Number of     (b) Average     Purchased as Part     Value) of Shares (or  
    Shares (or     Price Paid per     of Publicly     Units) that May Yet Be  
    Units)     Share     Announced Plans     Purchased Under the  
Period   Purchased     (or Unit)     or Programs     Plans or Programs  
April 5 – May 2, 2009
          N/A             75,885  
May 3 – May 30, 2009
          N/A             75,885  
May 31 – July 4, 2009
          N/A             75,885  
                         
Total
          N/A             75,885  
                         
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Submission of Matters to a Vote of Securities Holders
The Company’s Annual Meeting of Shareholders was held on May 6, 2009.
  1.)   The nominees to the Board of Directors were elected based on the following shares voted:
                 
Nominee   For     Authority Withheld  
William G. Gisel, Jr.
    6,978,061       510,126  
Daniel G. Keane
    6,710,342       775,845  
Kevin T. Keane
    6,710,342       775,845  
Robert J. McKenna
    6,671,672       814,515  
Howard Zemsky
    6,975,876       510,311  
  2.)   The ratification of Ernst & Young LLP as the Registrant’s auditors was approved by the following vote: 7,040,867 in favor; 326,775 against; and 118,554 abstentions.
Item 5. Other Information
Not applicable.

 

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Item 6. Exhibits
     
   
 
Exhibit 31.1  
Section 302 Certification — President and Chief Executive Officer
   
 
Exhibit 31.2  
Section 302 Certification — Chief Operating Officer and Chief Financial Officer
   
 
Exhibit 32.1  
Certification of President and Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002
   
 
Exhibit 32.2  
Certification of Chief Operating Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002

 

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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
         
  MOD-PAC CORP.  
  (Registrant)
 
 
Date: August 10, 2009  /s/ David B. Lupp    
  David B. Lupp   
  Chief Operating Officer and Chief Financial Officer
(Principal Financial Officer) 
 

 

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EXHIBIT INDEX
     
Exhibit No.   Description
   
 
Exhibit 31.1  
Section 302 Certification — President and Chief Executive Officer
   
 
Exhibit 31.2  
Section 302 Certification — Chief Operating Officer and Chief Financial Officer
   
 
Exhibit 32.1  
Certification of President and Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002
   
 
Exhibit 32.2  
Certification of Chief Operating Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002

 

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