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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 FORM 10-Q (Mark One) x
 For the quarterly period ended September 24, 2004 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 333-102430 National Waterworks, Inc.  Delaware
(State or other jurisdiction of
incorporation or organization)
    
    05-0532711
(I.R.S. Employer
Identification No.)
 200 West Highway 6
Suite 620
Waco, Texas 76712
(Address of Principal Executive Offices) (Zip Code) (254) 772-5355
(Registrants telephone number, including area code) 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. xYes      oNo Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act) oYes      xNo Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date. Common Stock
    
    Outstanding as of
    October 29, 2004$.01 Par Value
    
    
    100




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National Waterworks, Inc.
Form 10-Q
Index  
 Page(s)PART I. FINANCIAL INFORMATIONItem 1. Financial StatementsBalance Sheets as of September 24, 2004 (unaudited) and December 31, 2003
    
    
    3Statements of Operations for the Three Months and Nine Months Ended September 24, 2004 and September 26, 2003 (unaudited)
    
    
    4Statements of Cash Flows for the Nine Months Ended September 24, 2004 and September 26, 2003 (unaudited)
    
    
    5Notes to Financial Statements (unaudited)
    
    
    6-8Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    8-15Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    15Item 4. Controls and Procedures
    
    
    16PART II. OTHER INFORMATIONItem 6. Exhibits and Reports on Form 8-K
    
    
    17SIGNATURES
    
    
    18CERTIFICATIONS
    
    
    19-22CERTIFICATIONCERTIFICATIONCERTIFICATIONCERTIFICATION
  2




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial Statements National Waterworks, Inc. 
 Balance Sheets
 (in thousands)
 September 24,2004
    
    December 31,(unaudited)
    
    2003AssetsCurrent assets:Cash and cash equivalents
    
    $
    28,245
    
    
    $
    18,702Trade accounts receivable, net
    
    
    285,064
    
    
    
    188,476Inventories
    
    
    125,007
    
    
    
    90,739Other current assets
    
    
    2,068
    
    
    
    2,689Total current assets
    
    
    440,384
    
    
    
    300,606Property and equipment, net
    
    
    19,569
    
    
    
    20,523Goodwill
    
    
    457,221
    
    
    
    456,080Deferred financing fees, net
    
    
    21,459
    
    
    
    24,141Other assets
    
    
    2,589
    
    
    
    1,607$
    941,222
    
    
    $
    802,957Liabilities and Stockholders EquityCurrent liabilities:Trade accounts payable
    
    $
    205,678
    
    
    $
    115,038Current installments of long-term debt
    
    
    15,000
    
    
    
    15,000Accrued compensation and benefits
    
    
    26,974
    
    
    
    27,036Other accrued expenses
    
    
    26,204
    
    
    
    9,677Total current liabilities
    
    
    273,856
    
    
    
    166,751Long-term debt, excluding current installments
    
    
    417,500
    
    
    
    425,000Deferred income taxes
    
    
    19,562
    
    
    
    10,059Other long term liabilities
    
    
    2,717
    
    
    
    1,674Total liabilities
    
    
    713,635
    
    
    
    603,484Commitments and Contingencies
    
    
    
    
    
    
    Stockholders Equity:Common stock, par value $.01 per share; 100 shares
authorized, issued and outstanding
    
    
    
    
    
    
    Additional paid-in capital
    
    
    199,550
    
    
    
    199,473Retained earnings
    
    
    28,037
    
    
    
    Total stockholders equity
    
    
    227,587
    
    
    
    199,473$
    941,222
    
    
    $
    802,957
 The accompanying notes are an integral part of these financial statements. 3




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National Waterworks, Inc. 
 Statement of Operations (unaudited)
 (in thousands)
 Three Months Ended
    
    Nine Months EndedSeptember 24,
    
    September 26,
    
    September 24,
    
    September 26,2004
    
    2003
    
    2004
    
    2003Net sales
    
    $
    425,851
    
    
    $
    358,532
    
    
    $
    1,123,093
    
    
    $
    959,239Cost of goods sold
    
    
    338,685
    
    
    
    283,168
    
    
    
    896,426
    
    
    
    760,836Gross profit
    
    
    87,166
    
    
    
    75,364
    
    
    
    226,667
    
    
    
    198,403Operating expenses:Selling, general and administrative
    
    
    49,837
    
    
    
    43,521
    
    
    
    135,025
    
    
    
    124,020Income before
depreciation and
amortization
    
    
    37,329
    
    
    
    31,843
    
    
    
    91,642
    
    
    
    74,383Depreciation and amortization
    
    
    524
    
    
    
    608
    
    
    
    1,603
    
    
    
    1,974Operating income
    
    
    36,805
    
    
    
    31,235
    
    
    
    90,039
    
    
    
    72,409Other income (expense):Interest expense, net
    
    
    (8,781
    )
    
    
    (10,368
    )
    
    
    (25,544
    )
    
    
    (29,908
    )Other
    
    
    (13
    )
    
    
    (58
    )
    
    
    152
    
    
    
    (70
    )Income before income taxes
    
    
    28,011
    
    
    
    20,809
    
    
    
    64,647
    
    
    
    42,431Income tax expense
    
    
    11,392
    
    
    
    8,323
    
    
    
    26,142
    
    
    
    16,972Net income (loss)
    
    $
    16,619
    
    
    $
    12,486
    
    
    $
    38,505
    
    
    $
    25,459
 The accompanying notes are an integral part of these financial statements. 4




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National Waterworks, Inc. 
 Statements of Cash Flows (unaudited)
 (in thousands)
 Nine Months EndedSeptember 24, 2004
    
    September 26, 2003Cash flows from operating activities:Net income
    
    $
    38,505
    
    
    $
    25,459Adjustments to reconcile net income to net cash
provided by operating activities:Deferred income taxes
    
    
    9,503
    
    
    
    11,835Amortization of deferred financing fees
    
    
    2,682
    
    
    
    1,946Non-cash stock compensation expense
    
    
    497
    
    
    
    Depreciation and amortization
    
    
    1,603
    
    
    
    1,974Gain on disposal of equipment
    
    
    (231
    )
    
    
    (37
    )Provision for doubtful accounts
    
    
    1,474
    
    
    
    969Changes in operating assets and liabilities, net of
businesses acquired:Trade accounts receivable
    
    
    (96,946
    )
    
    
    (61,138
    )Inventories
    
    
    (33,369
    )
    
    
    (7,846
    )Other current assets
    
    
    604
    
    
    
    1,224Other assets
    
    
    (971
    )
    
    
    (1,309
    )Trade accounts payable
    
    
    89,419
    
    
    
    41,552Accrued compensation and benefits
    
    
    (62
    )
    
    
    803Other accrued expenses
    
    
    16,527
    
    
    
    10,626Other long term liabilities
    
    
    1,043
    
    
    
    1,389Net cash provided by operating activities
    
    
    30,278
    
    
    
    27,447Cash flows from investing activities:Capital expenditures
    
    
    (927
    )
    
    
    (1,444
    )Additional NWW acquisition costs
    
    
    
    
    
    
    (3,224
    )Business acquisitions
    
    
    (1,992
    )
    
    
    Proceeds from sales of property and equipment
    
    
    572
    
    
    
    623Net cash used in investing activities
    
    
    (2,347
    )
    
    
    (4,045
    )Cash flows from financing activities:Equity investment by Holdings
    
    
    
    
    
    
    1,000Dividend distribution
    
    
    (10,888
    )
    
    
    Financing fees
    
    
    
    
    
    
    (5,482
    )Principal payments on long-term debt
    
    
    (7,500
    )
    
    
    (5,000
    )Net cash used in financing activities
    
    
    (18,388
    )
    
    
    (9,482
    )Net increase in cash and cash equivalents
    
    
    9,543
    
    
    
    13,920Cash and cash equivalents at beginning of period
    
    
    18,702
    
    
    
    39,888Cash and cash equivalents at end of period
    
    $
    28,245
    
    
    $
    53,808Cash paid for interest
    
    $
    15,433
    
    
    $
    22,985Cash paid for income taxes
    
    $
    11,271
    
    
    $
    845
 The accompanying notes are an integral part of these financial statements. 5




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National Waterworks, Inc. 
 Notes to Financial Statements (unaudited)
 Note 1. Basis of Presentation National Waterworks, Inc. (NWW or the Company) is a wholly owned subsidiary
of National Waterworks Holdings, Inc. (Holdings). The accompanying unaudited financial statements include all adjustments
(consisting only of normal recurring adjustments) which, in the opinion of
management, are necessary for a fair presentation. Accounting measurements at
interim dates inherently involve greater reliance on estimates than at year
end. The results of operations for the interim periods presented are not
necessarily indicative of the results to be expected for the entire year.
Certain prior year amounts have been reclassified to conform to the 2004
presentation. The information contained in the accompanying notes to the financial statements
is condensed from that which would appear in the annual financial statements;
accordingly, the financial statements included herein should be reviewed in
conjunction with the financial statements, and related notes thereto, included
in the Companys annual report on Form 10-K for the year ended December 31,
2003. Fiscal Year The Companys calendar year begins on January 1 of the year stated and ends on
December 31 of that same year. The Company reports results using the fiscal

quarter method; each quarter is reported as of the last Friday of the period.
The results for the three months ended September 24, 2004 and September 26,
2003 include thirteen weeks. The results for the nine months ended September
24, 2004 and September 26, 2003 include thirty-eight weeks and two days and
thirty-eight weeks and three days, respectively. Recent Accounting Pronouncements None. Note 2. Goodwill The change in the carrying amount of goodwill for the nine-month period ended
September 24, 2004, is as follows: Goodwill(in thousands)B Balance at December 31, 2003
    
    $
    456,080Additional goodwill related to the acquisition of Midstate
Utility Supply, Inc.
    
    
    1,141Balance at September 24, 2004
    
    $
    457,221
 6




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Note 3. Segments of an Enterprise and Related Information Management has implemented the provisions of SFAS No. 131, Disclosure about
Segments of an Enterprise and Related Information. The Company has
determined that the six geographic regions, to which substantially all
income and expenses are allocated for purposes of allocating resources by
the chief operating decision maker, meet all of the aggregation criteria
of SFAS No. 131, including similar economic characteristics. Accordingly,
there is one reportable segment. Products include pipe, fittings, valves, meters, fire hydrants, service and
repair products and other complementary products for waterworks
construction and maintenance/repair. The following table sets forth net
sales by product category (in thousands): Three Months Ended
    
    Nine Months EndedProduct Category
    
    September 24, 2004
    
    September 26, 2003
    
    September 24, 2004
    
    September 26, 2003Pipe
    
    $
    184,273
    
    
    $
    144,717
    
    
    $
    487,760
    
    
    $
    384,545Fittings
    
    
    63,792
    
    
    
    55,040
    
    
    
    167,110
    
    
    
    146,958Valves
    
    
    49,584
    
    
    
    43,557
    
    
    
    131,221
    
    
    
    121,448Meters
    
    
    30,600
    
    
    
    29,028
    
    
    
    85,131
    
    
    
    82,080Fire Hydrants
    
    
    26,906
    
    
    
    23,391
    
    
    
    67,540
    
    
    
    59,252Service and Repair Products
    
    
    25,985
    
    
    
    25,362
    
    
    
    67,678
    
    
    
    65,334Other
    
    
    44,711
    
    
    
    37,437
    
    
    
    116,653
    
    
    
    99,622$
    425,851
    
    
    $
    358,532
    
    
    $
    1,123,093
    
    
    $
    959,239
 All revenues are derived from customers domiciled in the United States, there
are no long-lived assets located outside of the United States, and no single
customer, as defined in SFAS No. 131, represents ten percent or more of
revenues for any period presented. Note 4. Acquisitions and Divestitures On February 9, 2004, NWW acquired substantially all of the assets and certain
liabilities of Midstate Utility Supply, Inc. for an aggregate purchase price of
approximately $2.0 million. This acquisition was accounted for by the purchase
method: accordingly, the purchase price was allocated to the net assets
acquired based upon their estimated fair values as of the date of acquisition.
The allocation of purchase price resulted in approximately $1.1 million of
goodwill acquired. Since this acquisition is not material to the financial statements, pro forma
results of operations are not presented. On November 22, 2002, NWW acquired substantially all of the assets and certain
liabilities of U.S. Filter Distribution Group, Inc. (USFDG), a wholly owned
subsidiary of United States Filter Corporation (U.S. Filter), which is an
indirect-wholly owned subsidiary of Veolia Environnement (Veolia, formerly
Vivendi Environnement S.A.). A post-closing purchase price adjustment of $3.1
million was paid in the first quarter of 2003. Note 5. Commitments and Contingencies The Company is involved in various claims and legal actions arising in the
ordinary course of business. In the opinion of management, the ultimate
disposition of these matters will not have a material adverse effect on the
Companys financial position, results of operations or liquidity. 7




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In November 2002, NWW entered into a management agreement with J.P. Morgan
Partners, LLC and Thomas H. Lee Partners, L.P. (Sponsors). Each Sponsor and
its respective affiliates own 43.1% of the outstanding common stock of
Holdings. Under the management agreement, the Sponsors agreed to provide NWW
with financial advisory and other services. NWW pays each Sponsor an annual
management fee in the amount of $0.5 million. Quarterly payments under such
agreement began July 1, 2004. The management agreement continues until
terminated by either Sponsor in accordance with its terms. Upon termination
under certain conditions, each Sponsor will be entitled to receive a
termination fee equal to the net present value of the fees which would have
been paid to the Sponsor for the 10-year period commencing on the date of
termination. Certain of the Companys predecessors distributed or may have distributed
cement pipe containing asbestos. Except for one predecessor, the cement pipe
was primarily used in water and sewage applications where the pipe was
typically buried underground. Management believes that the nature of the
asbestos-containing pipe distributed by the predecessors and the uses of such
pipe makes it unlikely that a large number of plaintiffs would be exposed to
friable asbestos emanating from the pipe. Management is not aware of any
predecessor manufacturing or fabricating asbestos containing products of any
type or assuming any product liability for such products. As previously discussed, on November 22, 2002, NWW acquired substantially all
of the assets and certain liabilities of USFDG, a wholly owned subsidiary of
U.S. Filter, which is an indirect-wholly owned subsidiary of Veolia. The
November 2002 acquisition was structured as an asset purchase, and we did not
assume any existing or future asbestos-related liabilities relating to U.S.
Filter or its predecessors. U.S. Filter and USFDG retained these liabilities
and jointly and severally agreed to indemnify and defend us from and against
these liabilities on an unlimited basis with no termination date. U.S. Filter
and USFDG also agreed that, until November 22, 2012, U.S. Filter will cause
USFDG to maintain USFDGs corporate existence and ensure that USFDG has
sufficient funds to pay any and all of its debts and other obligations,
including liabilities retained by USFDG and its indemnification obligations, as
and when they become due. In addition, Veolia has guaranteed all obligations of
U.S. Filter and USFDG under the asset purchase agreement, including the
indemnity discussed above, up to an aggregate of $50.0 million through November
22, 2017. Historically, courts have not held the acquirer of an entitys assets
liable for liabilities that are not assumed as part of the transaction unless
the asset buyer is found to be a successor to the asset seller. Accordingly,
we could become subject to asbestos liabilities in the future to the extent we
are found to be a successor to USFDG and to the extent USFDG, U.S. Filter and
Veolia are unable to fulfill their contractual obligations. Since the asbestos
claims were retained by USFDG and U.S. Filter, and in view of the indemnity by
USFDG and U.S. Filter with respect to retained liabilities and the Veolia
guarantee, management of NWW believes that it has no liability related to
asbestos claims at September 24, 2004. Note 6. Subsequent Event On October 29, 2004 Holdings issued $250.0 million of unsecured senior notes
for the purpose of returning capital to its existing equity holders. These
notes mature January 1, 2014 and provide for quarterly interest payments with
payment in kind provisions, as defined in the underlying indenture, at Holdings
option. In connection therewith, we executed a Third Amendment to our senior
credit facility on October 26, 2004. This amendment, among other things,
provides for reduced pricing on the term loan and increases the amount of
limited dividends and distributions we can pay to Holdings. Though not
obligated to do so, the Company may pay such dividends and distributions to
Holdings to service interest payments on the unsecured notes. The reduced
pricing includes an immediate reduction in the term loan applicable margin with
a step-down provision upon the Company achieving certain financial ratios. The
aggregate amount of dividends that can be paid to Holdings, contingent upon
meeting certain financial covenants and ratios and other conditions, will
refresh effective January 1, 2005 to $125.0 million in total. The $40.0
million per fiscal year restriction with the provision that any amount not paid
in the fiscal year for which it is permitted may be carried over to any
succeeding fiscal year remains unchanged. 
 Item 2. Managements Discussion and Analysis of Financial Condition and
Results of Operations The following is managements discussion and analysis of significant factors
which have affected the financial condition of the Company as of September 24,
2004 and the results of operations for the three months and nine 8




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months then ended. This information should be read in conjunction with the
Companys financial statements and the notes thereto contained herein and in
the Companys annual report on Form 10-K for the year ended December 31, 2003. Forward-Looking Statements Unless the context otherwise requires, we, us, our and National
Waterworks refer to National Waterworks, Inc., a Delaware corporation. This report contains forward-looking statements such as statements regarding
the Companys future growth and profitability, growth strategy and trends in
the industry in which the Company operates. Forward-looking statements are only
predictions and are not guarantees of performance, and include statements
preceded by, followed by or that include the words may, could, would,
should, believe, expect, anticipate, plan, estimate, target,
project, intend, or similar expressions. These forward-looking statements
are based on the Companys current expectations and are subject to a number of
risks, uncertainties and assumptions, many of which are beyond the Companys
control. You should read this report in conjunction with the more detailed
risks included in the Companys annual report on Form 10-K for the year ended
December 31, 2003 and other Company filings with the Securities and Exchange
Commission. The Company believes its forward-looking statements are
reasonable; however, you should not place undue reliance on any forward-looking
statements, which are based on the Companys current assumptions and
expectations. Forward-looking statements speak only as of the date they are
made, and the Company undertakes no obligation to update publicly any of them
in light of new information or future events. Overview We are a leading distributor of water and wastewater transmission products in
the United States. We distribute a full line of products including pipe,
fittings, valves, meters, service and repair products, fire hydrants and other
components that are used to transport clean water and wastewater between
reservoirs and treatment plants and residential and commercial locations. In
addition, we provide a broad array of value-added services such as project
estimation, project management and product advice. Our products are integral to
building, repairing and maintaining water and wastewater (sewer) systems and
serve as part of the basic municipal infrastructure required to support
population and economic growth and residential and commercial construction.
Through our network of 134 branches in 36 states, we sell directly to
municipalities and to contractors who serve municipalities and also perform
residential, commercial and industrial waterworks projects. In addition to
significant customer and geographic diversification, we estimate that our net
sales are split approximately evenly between publicly-funded and
privately-funded sales. Factors affecting our business PVC Pipe Pricing.The price of PVC pipe is volatile due to supply and demand
dynamics in the PVC pipe and PVC resin markets. Volatility in these markets can
cause fluctuations in our revenues and, to a lesser extent, in our gross profit
dollars. PVC pipe products accounted for approximately 21% and 20% of our net
sales in the three months ended September 24, 2004 and September 26, 2003,
respectively, and 22% and 21% of our net sales in the nine months ended
September 24, 2004 and September 26, 2003, respectively. The purchase price of
PVC pipe ranged from $0.29 to $0.60 per pound between 1997 and 2003, which we
believe to be the most recent peak to trough period. Our purchase price of PVC
pipe averaged $0.41, $0.36 and $0.34 per pound for the years ended December 31,
2003, 2002 (combined) and 2001, respectively, with our 2003 PVC purchase price
ranging from a quarterly average of $0.39 to $0.44 per pound. Our purchase
price of PVC pipe averaged $0.56 and $0.39 per pound for the three months ended
September 24, 2004 and September 26, 2003, respectively, and $0.51 and $0.41
per pound for the nine months ended September 24, 2004 and September 26, 2003,
respectively. In periods of higher PVC pipe pricing, assuming constant sales
volumes, our net sales of PVC pipe would be higher as the same volume of pipe
sales generates higher revenue. Conversely, in periods of lower PVC pipe
prices, assuming constant sales volumes, our net sales of PVC pipe would be
lower as the same volume of PVC pipe sales generates lower revenue. In
general, we can experience a decline in the volume of PVC pipe sales, with an
offsetting increase in the volume of ductile iron pipe sales, in periods of
higher PVC pipe pricing, as our customers can substitute ductile iron pipe for
PVC pipe in certain applications. PVC pipe accounts for approximately one-half
of our pipe sales. As a result of this interchangeability, pricing of ductile
iron pipe tends to move in the same direction as the pricing of PVC pipe but in 9




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a less volatile fashion. Consequently, we can experience a change in product
mix between PVC pipe and ductile iron pipe as the prices of these products
fluctuate. The impact of PVC pipe pricing on our gross profit dollars has been less
pronounced than the impact on our net sales. Historically, we have been able
to maintain our gross profit dollars on a given volume of PVC pipe sales, even
when PVC pipe prices have fallen, as we have been able to pass through a
majority of the increase or decrease in PVC pipe prices to our customers. The
impact of PVC price changes is minimized because we sell the majority of our
PVC pipe utilizing direct shipments from suppliers and target and achieve high
turnover for PVC pipe sales out of our inventory. Gross margins, defined as
gross profit dollars as a percentage of net sales, are affected by PVC price
fluctuations because we focus on maintaining gross profit dollars to the extent
possible even when net sales are impacted, and because of the effect that
changes in the PVC pipe/ductile iron pipe product mix have on gross margins,
given that PVC pipe typically carries a higher gross margin than ductile iron
pipe. Demand Fluctuations.Our sales are also affected by regional and local changes
in commercial and residential construction activity and the level of municipal
waterworks spending. The level of activity in the commercial construction
market depends on the general economic outlook, corporate profitability,
interest rates and existing plant capacity utilization. The level of activity
in the residential construction market depends on new housing starts, which are
influenced by interest rates, availability of financing, housing affordability,
unemployment rates, demographic trends, gross domestic product and consumer
confidence. Changing economic conditions in our markets could affect the level
of construction activity and, consequently, our net sales. In addition, water
and wastewater transmission products sales are subject to the level of
waterworks spending by municipalities. We believe municipal spending is a
function of the amount of repair and improvements required for existing
systems, which are functions of the age of the infrastructure, weather and
construction-related damage, the level of maintenance spending, the water
infrastructure needs of the municipality relative to other spending needs and
the availability of municipal, state or federal funds for waterworks projects. Seasonality.Given the seasonal nature of construction activity in many regions
of the United
States, our results of operations and working capital, including our accounts
receivable, inventory and accounts payable, fluctuate during the year. We
believe that our significant operations in more mild southern climates moderate
our seasonality. Historically, consistent with annual construction seasonality,
our net sales are typically higher during our second and third quarters as
compared to the first and fourth quarters. In addition, we typically generate
cash from a reduction in net working capital in the fourth quarter of each year
and utilize cash from operations to fund increases in net working capital in
the first and second quarter of each year. Other important factors that could affect our results of operations are set
forth in Item 7 of the Companys annual report on Form 10-K for the year ended
December 31, 2003. Critical accounting policies and estimates The Companys significant accounting policies are more fully described in the
notes to our audited financial statements which are set forth in the Companys
annual report on Form 10-K for the year ended December 31, 2003. Certain of the
Companys accounting policies require management to make estimates and
assumptions that affect amounts reported in the financial statements and
accompanying notes. These judgments are based on our historical experience,
current economic and industry trends, information provided by outside sources
and management estimates. As with all judgments, they are subject to an
inherent degree of uncertainty. Actual results may vary from the underlying
estimates and such differences may be material to our results of operations. Allowance for Doubtful Accounts.We evaluate the collectibility of accounts
receivable based on historical trends, customer transaction history, accounts
receivable aging and an evaluation of customer credit worthiness. Initially, a
monthly provision is made based on historical experience. On a quarterly basis,
we perform a detailed analysis of accounts receivable and adjust the allowance
for doubtful accounts when necessary. While we have a large customer base that
is geographically diverse, an economic slowdown in the markets in which we
operate may result in higher uncollected accounts receivable and therefore the
need to revise estimates for bad debts. To the extent actual credit experience
or other assumptions used by management change, the allowance for doubtful
accounts would be adjusted, which could affect our operating results. Inventories.We periodically evaluate our inventories to ensure they are
recorded at the lower of cost or market value. The inventory reserve is
adjusted monthly based on a review of slow moving inventories as well as other 10




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factors including potential adjustments from physical inventory counts.
Significant unusual events giving rise to changes in our inventory valuation
are reserved when appropriate. To the extent future events impact, either
favorably or unfavorably, the salability of our products, our inventory
reserves could differ significantly resulting in higher or lower future
inventory accruals. Goodwill and Long-Lived Assets.We review the carrying value of our goodwill
for impairment at least annually. To accomplish this, we utilize a third party
independent appraiser to assess the fair value of each of our reporting units.
The fair value of a reporting unit may be estimated using methods such as a
discounted cash flow analysis and market approaches. The Company compares the
fair value estimate to the units carrying value. If the carrying value of a
reporting unit exceeds its fair value estimate, an indication exists that
goodwill is impaired and we must perform additional analysis to determine the
extent of any impairment. Any such impairment would be reflected as a charge in
the statement of operations at that time. Long-lived assets, including property and equipment, are reviewed for possible
impairment whenever events or other changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. An impairment loss is
recognized when the carrying amount of a long-lived asset exceeds the sum of
the undiscounted cash flows expected to result from the assets use and
eventual disposition. An impairment loss is measured as the amount by which
the carrying amount of the asset exceeds the fair value of the asset. Consideration Received From Vendors. We enter into agreements with many of our
vendors providing for inventory purchase rebates (vendor rebates) upon
achievement of specified volume purchasing levels. We accrue the receipt of
vendor rebates as part of our cost of sales for products sold based on progress
towards earning the vendor rebates, taking into consideration cumulative
purchases of inventory to date and projected purchases through the end of the
year. An estimate of unearned vendor rebates is included in the carrying value
of inventory at a period end for vendor rebates received on products not yet
sold. While management believes that we will continue to recognize
consideration from vendors pursuant to underlying agreements, there can be no
assurance that vendors will continue to provide comparable amounts of vendor
rebates in the future, which could impact our operating results. Results of operations The following table sets forth the percentage relationship that certain items
from our unaudited financial statements bear in relation to net sales. Three Months Ended
    
    Nine Months EndedSeptember 24,
    
    September 26,
    
    September 24,
    
    September 26,2004
    
    2003
    
    2004
    
    2003Statement of Operations Data:Net sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Cost of goods sold
    
    
    79.5
    %
    
    
    79.0
    %
    
    
    79.8
    %
    
    
    79.3
    %Gross profit
    
    
    20.5
    %
    
    
    21.0
    %
    
    
    20.2
    %
    
    
    20.7
    %Operating expenses:Selling, general and administrative
    
    
    11.7
    %
    
    
    12.1
    %
    
    
    12.0
    %
    
    
    12.9
    %Income before depreciation
and amortization
    
    
    8.8
    %
    
    
    8.9
    %
    
    
    8.2
    %
    
    
    7.8
    %Depreciation and amortization
    
    
    0.1
    %
    
    
    0.2
    %
    
    
    0.2
    %
    
    
    0.2
    %Operating income
    
    
    8.7
    %
    
    
    8.7
    %
    
    
    8.0
    %
    
    
    7.6
    %Other income (expense):Interest expense, net
    
    
    (2.1
    %)
    
    
    (2.9
    %)
    
    
    (2.3
    %)
    
    
    (3.1
    %)Income before income taxes
    
    
    6.6
    %
    
    
    5.8
    %
    
    
    5.7
    %
    
    
    4.5
    %Income tax expense
    
    
    2.7
    %
    
    
    2.3
    %
    
    
    2.3
    %
    
    
    1.8
    %Net income
    
    
    3.9
    %
    
    
    3.5
    %
    
    
    3.4
    %
    
    
    2.7
    %
 11




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Three Months Ended September 24, 2004 versus Three Months Ended September 26, 2003 Net Sales.Net sales for the three months ended September 24, 2004 increased
$67.4 million, or 18.8%, to $425.9 million from $358.5 million for the three
months ended September 26, 2003. The increase reflects the pass through of
price increases in principally all major product lines, combined with continued
strong demand. Cost of Goods Sold.Cost of goods sold for the three months ended September
24, 2004 increased $55.5 million, or 19.6%, to $338.7 million from $283.2
million for the three months ended September 26, 2003. The increase reflects
the increase in net sales. Gross Profit.As a result of the foregoing, gross profit for the three months
ended September 24, 2004 increased $11.8 million, to $87.2 million from $75.4
million for the three months ended September 26, 2003. Our gross profit margin
decreased to 20.5% for the 2004 period compared to 21.0% for the 2003 period.
The decrease is primarily attributable to the increase in sales mix of
lower-margin pipe products. Selling, General and Administrative.Selling, general and administrative
expenses for the three months ended September 24, 2004 increased $6.3 million,
or 14.5%, to $49.8 million from $43.5 million for the three months ended
September 26, 2003. This increase is primarily related to variable expenses
associated with the net sales increase. As a percentage of net sales, selling,
general and administrative expenses were 11.7% for the 2004 period compared to
12.1% for the 2003 period. Operating Income.As a result of the foregoing, operating income for the three
months ended September 24, 2004 increased $5.6 million, or 17.9%, to $36.8
million from $31.2 million for the three months ended September 26, 2003. As a
percentage of net sales, operating income remained unchanged at 8.7%. Interest Expense, Net.Interest expense, net for the three months ended
September 24, 2004 decreased $1.6 million, or 15.4%, to $8.8 million from $10.4
million for the three months ended September 26, 2003. The decrease is
primarily a result of lower applicable margins related to the August 2003
refinancing of the term loan under our senior credit facility and a lower
principal balance under the term loan as a result of scheduled amortization. Net Income.We reported net income of $16.6 million for the three months ended
September 24, 2004, compared to $12.5 million for the three months ended
September 26, 2003. This increase primarily reflects the result of the
foregoing, partially offset by the applicable increase in income tax expense. Nine Months Ended September 24, 2004 versus Nine Months Ended September 26, 2003 Net Sales.Net sales for the nine months ended September 24, 2004 increased
$163.9 million, or 17.1%, to $1,123.1 million from $959.2 million for the nine
months ended September 26, 2003. The increase reflects the pass through of
price increases in principally all major product lines, combined with increased
volume brought by strong demand. Cost of Goods Sold.Cost of goods sold for the nine months ended September 24,
2004 increased $135.6 million, or 17.8%, to $896.4 million from $760.8 million
for the nine months ended September 26, 2003. The increase reflects the
increase in net sales. This increase is partially offset by the recognition of
the final $4.0 million inventory revaluation recognized in the 2003 period
related to the acquisition of USFDG. The 2003 period also reflects a $1.5
million reduction in cost of goods sold from the adoption of EITF issue 02-16,
Accounting by a Customer (Including a Reseller) for Certain Consideration
Received from a Vendor. As a percentage of net sales, cost of goods sold
increased to 79.8% for the 2004 period compared to 79.3% for the 2003 period. Gross Profit.As a result of the foregoing, gross profit for the nine months
ended September 24, 2004 increased $28.3 million, to $226.7 million from $198.4
million for the nine months ended September 26, 2003. Our gross profit margin
decreased to 20.2% for the 2004 period compared to 20.7% for the 2003 period as
a result of the foregoing factors as well as an increase in sales mix of
lower-margin pipe products. 12




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Selling, General and Administrative.Selling, general and administrative
expenses for the nine months ended September 24, 2004 increased $11.0 million,
or 8.9%, to $135.0 million from $124.0 million for the nine months ended
September 26, 2003. This increase is primarily related to variable expenses
associated with the net sales increase. As a percentage of net sales, selling,
general and administrative expenses were 12.0% for the 2004 period compared to
12.9% for the 2003 period. Operating Income.As a result of the foregoing, operating income for the nine
months ended September 24, 2004 increased $17.6 million, or 24.3%, to $90.0
million from $72.4 million for the nine months ended September 26, 2003. As a
percentage of net sales, operating income increased to 8.0% for the 2004 period
from 7.6% for the 2003 period. Interest Expense, Net.Interest expense, net for the nine months ended
September 24, 2004 decreased $4.4 million to $25.5 million from $29.9 million
for the nine months ended September 26, 2003. The decrease is primarily a
result of lower applicable margins related to the August 2003 refinancing of
the term loan under our senior credit facility. Net Income.We reported net income of $38.5 million for the nine months ended
September 24, 2004, compared to $25.5 million for the nine months ended
September 26, 2003. This increase primarily reflects the result of the
foregoing, partially offset by the applicable increase in income tax expense. Liquidity and Capital Resources Our primary cash requirements are to make interest and principal payments on
our debt and to fund our operations, working capital and capital expenditures.
We expect to fund these needs principally from cash flow from operations and,
if necessary, borrowings under the revolving credit portion of our senior
credit facility. In addition, the USFDG acquisition by NWW was structured as an
asset acquisition which will allow us to deduct for tax purposes, on a
straight-line basis over 15 years, the related goodwill. We expect that this
amortization will result in significant cash tax savings. Net working capital is comprised of current assets, excluding cash and cash
equivalents, minus current liabilities. We had net working capital of $138.3
million at September 24, 2004 compared to net working capital of $115.2 million
at December 31, 2003. The increase in net working capital is primarily
attributable to the seasonal nature of our business resulting in a combined
increase in accounts receivable and inventories exceeding the increase in
accounts payable. Net cash provided by operating activities for the nine months ended September
24, 2004 and September 26, 2003 was $30.3 million and $27.4 million,
respectively. The change was primarily attributable to improved operating
results, which were partially offset by the increase in working capital
requirements related to higher sales volume in 2004. Net cash used in investing activities for the nine months ended September 24,
2004 and September 26, 2003 was $2.3 million and $4.0 million, respectively.
Net cash used in investing activities for the nine months ended September 24,
2004 reflected the acquisition of Midstate Utility Supply, Inc. for a net
consideration of approximately $2.0 million. Net cash used in investing
activities for the nine months ended September 26, 2003 reflected the
post-closing purchase price adjustment of $3.1 million paid to USFDG, related
to the level of our working capital at the time of closing of the USFDG
acquisition. Net cash used in financing activities for the nine months ended September 24,
2004 and September 26, 2003 was $18.4 million and $9.5 million, respectively.
Net cash used in the 2004 period included $10.9 million in dividend
distributions and $7.5 million in principal payments on the term loan. The
2003 period included a $1.0 million cash equity investment in Holdings, by one
of our and Holdings directors, who had not made an investment in Holdings at
the time the NWW acquisition was consummated. Holdings made a concurrent $1.0
million capital contribution to the Company. Additionally, 2003 included $5.0
million in principal payments on the term loan and a $4.9 million call premium
related to the August 2003 refinancing of the term loan under our senior credit
facility. Our senior credit facility, as previously amended (Second Amendment to the
Credit Agreement), consists of a $245.0 million term loan facility (originally
$250.0 million), of which $232.5 million was outstanding at September 24, 2004,
and a $75.0 million revolving credit facility. No amount was outstanding under
the revolving credit 13




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##### Table of Contents



facility at September 24, 2004, however approximately $4.3 million of the
availability under the revolving credit facility was used to support
outstanding letters of credit. We repaid $3.75 million of the term loan on
September 30, 2004. The borrowings under the revolving credit facility will be
available until its maturity to fund our working capital requirements, capital
expenditures and other general corporate needs, subject to the negative
covenants set forth in our senior credit facility. The revolving credit
facility will mature on November 22, 2008 and will have no scheduled
amortization or commitment reductions. The term loan facility will mature on
November 22, 2009 and has quarterly scheduled amortization payments of $3.75
million in 2004 and 2005, $5.0 million in 2006 and $6.25 million in 2007 and
2008, with the balance of the facility to be repaid quarterly and at maturity
during 2009. In addition, we are required to make annual mandatory prepayments
of the term loans (or, if no term loans are outstanding, revolving loans) under
the senior credit facility in an amount equal to 75% of Excess Cash Flow (as
defined in our senior credit facility, and determined generally as the amount
by which our operating cash flow exceeds the sum of our capital expenditures
(including in respect of permitted acquisitions), repayments of indebtedness
and certain other amounts) or 50% of Excess Cash Flow if our ratio of
consolidated total debt to consolidated EBITDA as of the last day of the
applicable fiscal year is not greater than 4:0 to 1:0. The term loans (or, if
no term loans are outstanding, revolving loans) are also subject to mandatory
prepayments in an amount equal to (i) 75% of the net cash proceeds from certain
equity issuances by us or our subsidiaries (or 50% if we meet the foregoing
leverage ratio); (ii) 100% of the net cash proceeds of certain debt issuances;
and (iii) 100% of the net cash proceeds of certain asset sales or other
dispositions of property, in each case subject to certain exceptions.
Borrowings under the term loan portion and revolving credit facility each bear
interest at a variable rate based on, at our option, the Eurodollar rate plus
an applicable margin, or a base rate plus an applicable margin. The base rate
is the higher of the prime rate or the federal funds rate plus 0.5%. At
September 24, 2004, the interest rate on the term loan was 4.3% per annum. Our
senior credit facility permits us to issue up to an additional $100.0 million
of credit facilities without the consent of the existing lenders thereunder, so
long as no default or event of default under the senior credit facility has
occurred and is continuing or would occur after giving effect to such issuance
and certain other conditions are satisfied, including pro forma compliance with
certain consolidated senior leverage ratios. Our senior credit facility
provides that we can pay a dividend to Holdings from time to time, contingent
upon meeting certain financial covenants and ratios and other conditions.
Holdings can use the amount of such dividend for certain purposes including to
pay a dividend on its capital stock. In addition, the aggregate amount of
dividends paid pursuant to the provision referred to in the preceding sentence
(i) may not exceed $40.0 million in any fiscal year (any amount not paid in the
fiscal year for which it is permitted may be carried over to any succeeding
fiscal year) and (ii) pursuant to the amendment referred to in the following
paragraph, the aggregate amount of such dividends made on or after January 1,
2005 may not exceed $125.0 million in total.. On October 29, 2004 Holdings issued $250.0 million of unsecured senior notes
for the purpose of returning capital to its existing equity holders. These
notes mature January 1, 2014 and provide for quarterly interest payments with
payment in kind provisions, as defined in the underlying indenture, at Holdings
option. In connection therewith, we executed a Third Amendment to our senior
credit facility on October 26, 2004. This amendment, among other things,
provides for reduced pricing on the term loan and increases the amount of
limited dividends and distributions we can pay to Holdings as described above.
Though not obligated to do so, the Company may pay such dividends and
distributions to Holdings to service interest payments on the unsecured notes.
The reduced pricing includes an immediate reduction in the term loan applicable
margin with a step-down provision upon the Company achieving certain financial
ratios. The aggregate amount of dividends that can be paid to Holdings,
contingent upon meeting certain financial covenants and ratios and other
conditions, will refresh effective January 1, 2005 to $125.0 million in total.
The $40.0 million per fiscal year restriction with the provision that any
amount not paid in the fiscal year for which it is permitted may be carried
over to any succeeding fiscal year remains unchanged. Our $200.0 million aggregate principal amount of senior subordinated notes due
2012 bear interest at 10.50% per annum, with interest due semi-annually on June
1 and December 1 of each year. Interest payments on the senior subordinated
notes and required principal and interest payments on borrowings under our
senior credit facility have substantially increased our liquidity requirements.
We may, from time to time, and subject to the limitations in our senior credit
facility, purchase senior subordinated notes in the open market or in privately
negotiated transactions. The senior credit facility and the indenture for the senior subordinated notes
impose certain restrictions on us, including restrictions on our ability to
incur indebtedness, pay dividends, make investments, grant liens, sell our
assets and engage in certain other activities. Our senior credit facility also
requires that we satisfy leverage and interest coverage ratios and contains a
capital expenditures limitation. We were in compliance with all covenants at
September 24, 2004. Indebtedness under the senior credit facility is secured by
substantially all of our and Holdings assets, including our real and personal
property, inventory, accounts receivable, intellectual property and other 14




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##### Table of Contents



intangibles. In addition, the senior credit facility is secured by the stock
and substantially all of the assets of our future domestic and, to the extent
that no material adverse tax consequences would result, foreign subsidiaries,
if any. We do not currently have any subsidiaries. Our ability to pay principal and interest on our indebtedness and to satisfy
our other obligations will depend upon, among other things:  
    
    our future financial and operating performance, which will
be affected by prevailing economic conditions and financial,
business, regulatory and other factors, many of which are beyond
our control; and
    
    the future availability of borrowings under our senior
credit facility or any successor facility, the availability of
which depends or may depend on, among other things, our complying
with the covenants in our senior credit facility. We believe that, based on our current levels of operations, our cash flow from
operations, together with available borrowings under the senior credit
facility, will be adequate for at least the next few years to make scheduled
amortization and interest payments on our indebtedness and to fund anticipated
capital expenditures and for working capital requirements. We cannot assure
you, however, that our business will generate sufficient cash flow from
operations or that future borrowings will be available under the senior credit
facility in an amount sufficient to enable us to service our indebtedness or to
fund our other liquidity needs. Recent Accounting Pronouncements See discussion regarding recent accounting pronouncements in Note 1 to the
financial statements included in Item 1 to this report. Related Party Transactions None. 
 Item 3. Quantitative and Qualitative Disclosures about Market Risk We are exposed to certain market risks as part of our on-going business
operations. Primary exposure includes changes in interest rates as borrowings
under our senior credit facility bear interest at floating rates based on the
London InterBank Offered Rate (''LIBOR) or the prime rate, in each case plus
an applicable borrowing margin. We manage our interest rate risk by balancing
the amount of fixed-rate and floating-rate debt. For fixed rate debt, interest
rate changes affect the fair market value but do not impact earnings or cash
flows. Conversely, for floating-rate debt, interest rate changes generally do
not affect the fair market value but do impact our earnings and cash flows,
assuming other factors are held constant. As of September 24, 2004, we had
$200.0 million principal amount of fixed-rate debt represented by our senior
subordinated notes and $232.5 million of floating-rate debt represented by
borrowings under the term loan portion of the senior credit facility. We
repaid $3.75 million of the term loan on September 30, 2004. In addition, up
to $75 million of floating rate borrowings are available under the revolving
credit portion of the senior credit facility, of which approximately $4.3
million was used to support outstanding letters of credit at September 24,
2004. Based on the amount outstanding under the term loans at September 24,
2004, an immediate increase of one percentage point in the applicable interest
rate would cause an approximate $2.3 million increase in annual interest
expense. We may use derivative financial instruments, where appropriate, to
manage our interest rate risks. However, as a matter of policy, we will not
enter into derivative or other financial investments for trading or speculative
purposes. All of our sales are denominated in U.S. dollars; thus our financial
results are not subject to foreign currency exchange risks or weak economic
conditions in foreign markets. For a discussion of the effect of PVC pipe
price changes on our business, see ''Factors affecting our businessPVC Pipe
Pricing in Item 2 above. 15




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##### Table of Contents



Item 4. Controls and Procedures The Company maintains disclosure controls and procedures that are designed to
ensure that information required to be disclosed in our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the SECs rules and forms, and that such information is accumulated and
communicated to our management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure. In designing and evaluating the disclosure controls and
procedures, management recognized that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures. As of the end of the third quarter, the Company carried out an evaluation,
under the supervision and with the participation of our management, including
the Chief Executive Officer and Chief Financial Officer, of the effectiveness
of the design and operation of our disclosure controls and procedures. Based
on the foregoing, our Chief Executive Officer and Chief Financial Officer

concluded that our disclosure controls and procedures were effective. There have been no significant changes in our internal controls over financials
reporting or in other factors that have materially affected, or are reasonably
likely to materially affect, our internal controls over financial reporting in
the three months since the Company last evaluated the system of internal
controls in conjunction with the preparation of financial statements for the
quarter ended June 25, 2004. 16




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##### Table of Contents



PART II. OTHER INFORMATION 
 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 31.1
    
    Certification of Chief Executive Officer pursuant to Rule
15d-14(a) of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certification of Chief Financial Officer pursuant to Rule
15d-14(a) of the Securities Exchange Act of 1934, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
 17




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##### Table of Contents



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. NATIONAL WATERWORKS, INC.Date: October 29, 2004
    
    By:
    
    /s/ Harry K. Hornish, Jr.Harry K. Hornish, Jr.President and Chief Executive OfficerDate: October 29, 2004
    
    By:
    
    /s/ Mechelle SlaughterMechelle SlaughterChief Financial Officer
 18