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SECURITIES AND EXCHANGE COMMISSION  FORM 10-Q [X]
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2004 [   ]
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 Commission File Number. 333-64745 PENHALL INTERNATIONAL CORP.  ARIZONA (State or other jurisdiction of incorporation or organization)
    
    86-0634394 (I.R.S. Employer Identification Number)
 1801 PENHALL WAY, ANAHEIM, CA 92803
(Address of principal executive offices) (Zip Code) (714) 772-6450
(Registrants telephone number, including area code) Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date. CLASS AND TITLE OF CAPITAL STOCK
    
    SHARES OUTSTANDING AS OF MAY 13, 2004Common Stock, $.01 Par Value
    
    986,552
 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 [X]  No [   ] Indicate by check mark
whether the registrant is an accelerated filer (as defined in
Rule 12b-2 of the Exchange Act). Yes
[   ] No [X}




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PENHALL INTERNATIONAL CORP. INDEX Page No.Part I  Financial InformationItem 1. Financial StatementsUnaudited Condensed Consolidated Balance Sheets as of June 30, 2003 and March 31, 2004
    
    
    3Unaudited Condensed Consolidated Statements of Operations for the three and nine month periods ended March 31, 2003 and 2004
    
    
    5Unaudited Condensed Consolidated Statements of Cash Flows for the nine month periods ended March 31, 2003 and 2004
    
    
    6Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    19Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    22Item 4. Controls and Procedures
    
    
    22Part II  Other Information
    
    
    22Items 1-5 are not applicableItem 6. Exhibits and Reports on Form 8-K
    
    
    22b)
Reports on Form 8-K
    
    
    22EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32.1EXHIBIT 32.2
  2




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##### Table of Contents



Part 1. Financial Information 
 Item 1. Financial Statements PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
 June 30, 2003
    
    March 31, 2004ASSETSCurrent assets:Cash and cash equivalents
    
    $
    184,000
    
    
    $
    415,000Receivables:Contract and trade receivables
    
    
    29,105,000
    
    
    
    27,283,000Contract retentions due upon completion and acceptance of work
    
    
    4,105,000
    
    
    
    4,171,00033,210,000
    
    
    
    31,454,000Less allowance for doubtful receivables
    
    
    1,592,000
    
    
    
    1,698,000Net receivables
    
    
    31,618,000
    
    
    
    29,756,000Costs and estimated earnings in excess of billings on uncompleted contracts
    
    
    1,704,000
    
    
    
    1,753,000Deferred tax assets
    
    
    3,363,000
    
    
    
    3,363,000Income taxes
receivable
    
    
    2,648,000
    
    
    
    2,143,000Inventories
    
    
    2,362,000
    
    
    
    2,263,000Prepaid expenses and other current assets
    
    
    3,638,000
    
    
    
    1,415,000Total current assets
    
    
    45,517,000
    
    
    
    41,108,000Property, plant and equipment, at cost:Land
    
    
    5,004,000
    
    
    
    Buildings and leasehold improvements
    
    
    8,793,000
    
    
    
    1,243,000Construction and other equipment
    
    
    117,860,000
    
    
    
    114,922,000131,657,000
    
    
    
    116,165,000Less accumulated depreciation and amortization
    
    
    78,256,000
    
    
    
    79,158,000Net property, plant and equipment
    
    
    53,401,000
    
    
    
    37,007,000Goodwill
    
    
    9,053,000
    
    
    
    8,700,000Debt issuance costs, net of accumulated amortization
    
    
    3,316,000
    
    
    
    2,606,000Other assets, net
    
    
    1,186,000
    
    
    
    907,000$
    112,473,000
    
    
    $
    90,328,000
 See accompanying notes to unaudited condensed consolidated financial statements. 3




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PENHALL INTERNATIONAL CORP.

AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited) June 30, 2003
    
    March 31, 2004LIABILITIES AND STOCKHOLDERS DEFICITCurrent liabilities:Current installments of long-term debt
    
    $
    2,551,000
    
    
    $
    621,000Borrowings under revolving credit facility
    
    
    14,485,000
    
    
    
    Trade accounts payable
    
    
    7,953,000
    
    
    
    3,927,000Accrued liabilities and income taxes payable
    
    
    10,809,000
    
    
    
    8,635,000Current portion of insurance reserves
    
    
    1,569,000
    
    
    
    2,816,000Current portion of deferred gain  sale-leaseback
    
    
    
    
    
    
    133,000Billings in excess of costs and estimated earnings on uncompleted contracts
    
    
    831,000
    
    
    
    1,149,000Total current liabilities
    
    
    38,198,000
    
    
    
    17,281,000Long-term debt, excluding current installments
    
    
    359,000
    
    
    
    30,000Deferred gain  sale-leaseback
    
    
    
    
    
    
    2,011,000Long-term portion of insurance reserves
    
    
    5,158,000
    
    
    
    5,158,000Senior notes
    
    
    100,000,000
    
    
    
    100,000,000Deferred tax liabilities
    
    
    8,221,000
    
    
    
    8,221,000Senior Exchangeable Preferred Stock, redemption value $16,744,000 and $18,122,000 at June 30, 2003 and
March 31, 2004, respectively. Authorized, issued and outstanding 10,000 shares at June 30, 2003 and
March 31, 2004
    
    
    16,744,000
    
    
    
    18,122,000Series A Preferred Stock, redemption value $19,737,000 and $21,767,000 at June 30, 2003 and March 31, 2004,
respectively. Authorized 25,000 shares; issued and outstanding 10,428 shares at June 30, 2003
and March 31, 2004
    
    
    19,737,000
    
    
    
    21,767,000Stockholders deficit:Series B Preferred Stock, par value $.01 per share. Authorized 50,000 shares;
issued and outstanding 18,798
shares at June 30, 2003 and March 31, 2004
    
    
    35,546,000
    
    
    
    39,199,000Common
stock, $.01 par value. Authorized 5,000,000 shares; issued 1,021,870 at June 30,
2003 and March 31, 2004
    
    
    10,000
    
    
    
    10,000Additional paid-in capital
    
    
    2,082,000
    
    
    
    2,082,000Treasury stock, at cost, 35,318 common shares at June 30, 2003 and March 31, 2004
    
    
    (336,000
    )
    
    
    (336,000
    )Accumulated deficit
    
    
    (113,246,000
    )
    
    
    (123,217,000
    )Total stockholders deficit
    
    
    (75,944,000
    )
    
    
    (82,262,000
    )Commitments and Contingencies$
    112,473,000
    
    
    $
    90,328,000
 See accompanying notes to unaudited condensed consolidated financial statements. 4




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PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
 THREE MONTH PERIODS
    
    NINE MONTH PERIODSENDED MARCH 31,
    
    ENDED MARCH 31,2003
    
    2004
    
    2003
    
    2004Revenues
    
    $
    29,850,000
    
    
    $
    31,368,000
    
    
    $
    118,470,000
    
    
    $
    116,767,000Cost of revenues
    
    
    25,416,000
    
    
    
    26,163,000
    
    
    
    94,306,000
    
    
    
    90,606,000Gross profit
    
    
    4,434,000
    
    
    
    5,205,000
    
    
    
    24,164,000
    
    
    
    26,161,000General and administrative expenses
    
    
    6,617,000
    
    
    
    7,281,000
    
    
    
    20,627,000
    
    
    
    21,680,000Goodwill impairment
    
    
    
    
    
    
    353,000
    
    
    
    
    
    
    
    353,000Other operating income
    
    
    199,000
    
    
    
    202,000
    
    
    
    1,088,000
    
    
    
    823,000Earnings (loss) from operations
    
    
    (1,984,000
    )
    
    
    (2,227,000
    )
    
    
    4,625,000
    
    
    
    4,951,000Interest expense
    
    
    3,429,000
    
    
    
    3,344,000
    
    
    
    10,574,000
    
    
    
    10,447,000Other income
    
    
    
    
    
    
    33,000
    
    
    
    
    
    
    
    839,000Loss before income taxes
    
    
    (5,413,000
    )
    
    
    (5,538,000
    )
    
    
    (5,949,000
    )
    
    
    (4,657,000
    )Income tax benefit
    
    
    (1,949,000
    )
    
    
    (2,082,000
    )
    
    
    (2,142,000
    )
    
    
    (1,747,000
    )Net loss
    
    
    (3,464,000
    )
    
    
    (3,456,000
    )
    
    
    (3,807,000
    )
    
    
    (2,910,000
    )Accretion of preferred stock to redemption value
    
    
    (1,023,000
    )
    
    
    (1,162,000
    )
    
    
    (3,011,000
    )
    
    
    (3,408,000
    )Accrual of cumulative dividends on preferred stock
    
    
    (1,084,000
    )
    
    
    (1,249,000
    )
    
    
    (3,191,000
    )
    
    
    (3,653,000
    )Net loss available to common stockholders
    
    $
    (5,571,000
    )
    
    $
    (5,867,000
    )
    
    $
    (10,009,000
    )
    
    $
    (9,971,000
    )Loss per share basic and diluted
    
    $
    (5.65
    )
    
    $
    (5.95
    )
    
    $
    (10.15
    )
    
    $
    (10.11
    )Weighted average number of shares outstanding basic and diluted
    
    
    986,552
    
    
    
    986,552
    
    
    
    986,358
    
    
    
    986,552
 See accompanying notes to unaudited condensed consolidated financial statements. 5




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PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) NINE MONTH PERIODSENDED MARCH 31,2003
    
    2004Cash flows provided by operating activities:Net loss
    
    $
    (3,807,000
    )
    
    $
    (2,910,000
    )Adjustments to reconcile net loss to net cash provided by operating activities:Depreciation and amortization
    
    
    12,633,000
    
    
    
    10,996,000Amortization of debt issuance costs
    
    
    705,000
    
    
    
    871,000Provision
for doubtful receivables
    
    
    440,000
    
    
    
    437,000Gain on sale of assets
    
    
    (224,000
    )
    
    
    (1,248,000
    )Goodwill impairment
    
    
    
    
    
    
    353,000Changes in operating assets and liabilities:Receivables
    
    
    5,717,000
    
    
    
    1,425,000Inventories,
prepaid expenses, other assets and income taxes receivable
    
    
    (326,000
    )
    
    
    2,827,000Costs and estimated earnings in excess of billings on uncompleted contracts
    
    
    873,000
    
    
    
    (49,000
    )Trade accounts payable, accrued liabilities, income taxes payable and
insurance reserves
    
    
    (7,097,000
    )
    
    
    (4,439,000
    )Billings in excess of costs and estimated earnings on uncompleted contracts
    
    
    572,000
    
    
    
    318,000Net cash provided by operating activities
    
    
    9,486,000
    
    
    
    8,581,000Cash flows from investing activities:Proceeds from sale of assets
    
    
    507,000
    
    
    
    1,769,000Proceeds from sale-leaseback
    
    
    
    
    
    
    11,312,000Capital expenditures
    
    
    (3,214,000
    )
    
    
    (4,012,000
    )Net cash provided by (used in) investing activities
    
    
    (2,707,000
    )
    
    
    9,069,000Cash flows from financing activities:Borrowings under long-term debt
    
    
    1,064,000
    
    
    
    96,000Repayments of long-term debt
    
    
    (7,648,000
    )
    
    
    (2,355,000
    )Borrowings under revolving credit facility
    
    
    57,710,000
    
    
    
    164,198,000Repayments of revolving credit facility
    
    
    (57,110,000
    )
    
    
    (178,683,000
    )Debt issuance costs
    
    
    (133,000
    )
    
    
    (161,000
    )Book overdraft
    
    
    (2,880,000
    )
    
    
    (514,000
    )Proceeds from issuance of common stock
    
    
    38,000
    
    
    
    Repurchase of common stock and Series B Preferred Stock
    
    
    (35,000
    )
    
    
    Issuance of Series B Preferred Stock
    
    
    37,000
    
    
    
    Net cash used in financing activities
    
    
    (8,957,000
    )
    
    
    (17,419,000
    )Net change in cash and cash equivalents
    
    
    (2,178,000
    )
    
    
    231,000Cash and cash equivalents at beginning of period
    
    
    6,205,000
    
    
    
    184,000Cash and cash equivalents at end of period
    
    $
    4,027,000
    
    
    $
    415,000Supplemental disclosure of cash flow information:Cash paid (received) during the period for:Income taxes, net
    
    $
    (1,532,000
    )
    
    $
    (2,252,000
    )Interest
    
    $
    12,890,000
    
    
    $
    12,497,000Supplemental disclosure of noncash investing and financing activities:Accretion of preferred stock to redemption value
    
    $
    3,011,000
    
    
    $
    3,408,000Accrual of cumulative dividends on preferred stock
    
    $
    3,191,000
    
    
    $
    3,653,000
 See accompanying notes to unaudited condensed consolidated financial statements. 6




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PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES 
 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 2004
(Unaudited) (1) Basis of Presentation Penhall International, Inc. (PII) was founded in 1957 and was
incorporated in the state of California on April 19, 1988. On August 4, 1998,
$100,000,000 of 12% Senior Notes (the Senior Notes) were sold by Penhall
Acquisition Corp., an Arizona corporation formed by an unrelated third party
(the Third Party) to effect the recapitalization of PII. As part of the
recapitalization, a series of mergers (the Recapitalization Mergers) were
consummated pursuant to which Phoenix Concrete Cutting, Inc., a wholly-owned
subsidiary of PII, became the corporate parent of PII, the Third Party acquired
a 62.5% interest in Phoenix Concrete Cutting, Inc. and Phoenix Concrete
Cutting, Inc. became the successor obligor of the Senior Notes. Following the
consummation of the Recapitalization Mergers, Phoenix Concrete Cutting, Inc.
changed its name to Penhall International Corp., and PII changed its name to
Penhall Rental Corp. Penhall Rental Corp. was dissolved and merged into Penhall
International Corp. effective July 1, 2002. Under accounting principles generally accepted in the United States of
America, the Recapitalization Mergers were accounted for as a leveraged
recapitalization transaction in a manner similar to a pooling-of-interests.
Under this method, the transfer of controlling interest in PII to the
Third-Party did not change the accounting basis of the assets and liabilities
in PIIs separate stand-alone financial statements. The accompanying unaudited condensed consolidated financial statements of
Penhall International Corp. (Penhall or the Company) have been prepared in
accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions to Form
10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by accounting principles generally
accepted in the United States of America for complete financial statements. In
the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included. Results of operations for the nine month period ended March 31, 2004 are
not necessarily indicative of the results that may be expected for the year
ending June 30, 2004. The unaudited condensed consolidated financial statements
included herein should be read in conjunction with the Companys audited
consolidated financial statements and footnotes thereto included in the Form
10-K for the year ended June 30, 2003. Certain June 30, 2003 balances have
been reclassified to conform to the presentation used for March 31, 2004. Loss Per Share Basic loss per share is computed by dividing net loss available to common
stockholders by the weighted average number of common shares outstanding during
the period. Diluted loss per share is calculated by dividing net loss available
to common stockholders by the weighted average number of common shares
outstanding during the period plus the impact of assumed potential diluted
securities. The dilutive effect of outstanding options is reflected in diluted
loss per share by application of the treasury stock method. For the three and
nine month periods ended March 31, 2003 diluted loss per share is the same as
basic loss per share as options to purchase 9,125 shares of common stock were
not included in the computation of diluted loss per share as the effect would
have been anti-dilutive. For the three and nine month periods ended March 31,
2004, diluted loss per share is the same as basic loss per share as options to
purchase 8,125 shares of common stock were not included in the computation of
diluted loss per share as the effect would have been anti-dilutive. Critical Accounting Policies and Estimates The preparation of consolidated financial statements requires the Company
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities. On an on-going basis, the Company evaluates its estimates,
including those related to long-term construction contracts, accounts
receivable, goodwill, long-lived assets, self-insurance, contingencies and
litigation. The Company bases its estimates on current information, historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities and the
recognition of revenue that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or
conditions. The Company believes the following critical accounting policies
affects its more significant judgments and estimates used in the preparation of
its consolidated financial statements: Revenue Recognition on Long-Term Construction Contracts Revenue from construction operations is recorded using the
percentage-of-completion method of accounting. The Company has two types of
contracts. The first type of contract is fixed unit in which the percentage of
completion is determined based on the units completed as a percentage of
estimated total units. The second type of contract is lump sum in which
percentage of completion is determined based on costs to date as compared to
total estimated costs at completion. If estimated total costs on any contract
indicate a loss, the Company provides currently for the total loss anticipated
on the contract. For long-term contracts, which extend beyond fiscal year ends,
revisions in cost and profit estimates during the course of the work are
reflected in the accounting period in which facts requiring the revision become
known. All remaining revenue and costs are recognized as work is performed. 7




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PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) Stock-based Compensation The Company observes the provisions of SFAS No. 123, Accounting for
Stock-Based Compensation, (SFAS No. 123) by continuing to apply the
provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting
for Stock Issued to Employees (APB No. 25). The Company applies the
intrinsic value method as outlined in APB No. 25 and related interpretations in
accounting for stock options and share units granted under these programs.
Under the intrinsic value method, no compensation expense is recognized if the
exercise price of the Companys employee stock options equals the market price
of the underlying stock on the date of the grant. Accordingly, no compensation
cost has been recognized on options granted to employees. SFAS No. 123 requires
that the Company provide pro forma information regarding net earnings (loss)
and net earnings (loss) per common share as if compensation cost for the
Companys stock option programs had been determined in accordance with the fair
value method prescribed therein. The Company adopted the disclosure portion of
SFAS No. 148, Accounting for Stock-Based Compensation  Transition and
Disclosure requiring quarterly SFAS No. 123 pro forma disclosure. Had the Company determined compensation cost based on the fair value at the
grant date for its stock options under SFAS No. 123, the Companys basic and
diluted net loss available to common stockholders per share would have been
adjusted to the pro forma amounts as indicated below: Three months ended
    
    Nine months endedMarch 31, 2003
    
    March 31, 2004
    
    March 31, 2003
    
    March 31, 2004Net loss available to common stockholders as reported
    
    $
    (5,571,000
    )
    
    $
    (5,867,000
    )
    
    
    (10,009,000
    )
    
    $
    (9,971,000
    )Add:Stock-based compensation expense included in
reported net loss available to common
stockholders, net of related tax effects
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Deduct:Total stock-based compensation expense determined
under the fair value method for all awards, net of
tax effects
    
    $
    (5,000
    )
    
    $
    (1,000
    )
    
    $
    (16,000
    )
    
    $
    (7,000
    )Pro forma net loss available to common stockholders
    
    $
    (5,576,000
    )
    
    $
    (5,868,000
    )
    
    $
    (10,025,000
    )
    
    $
    (9,978,000
    )Basic and diluted loss per share as reported
    
    $
    (5.65
    )
    
    $
    (5.95
    )
    
    $
    (10.15
    )
    
    $
    (10.11
    )Pro forma basic and diluted loss per share
    
    $
    (5.65
    )
    
    $
    (5.95
    )
    
    $
    (10.16
    )
    
    $
    (10.11
    )
 At the grant date, the weighted average fair value of options granted was
$58.51, this was determined using the Black-Scholes option pricing model with
the following assumptions used for calculation: risk-free interest rate of
4.7%, volatility of 3.1%, dividend rate of 0% and an expected life of 10 years. Goodwill In July 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Accounting Standards (SFAS) No. 141, Business Combinations and
No. 142 Goodwill and Other Intangible Assets. SFAS requires that the purchase
method of accounting be used for all business combinations completed after June
30, 2001, clarifies the recognition of intangible assets separately from
goodwill and requires that unallocated negative goodwill be written off
immediately as an extraordinary gain. SFAS No. 142, which was effective for
fiscal years beginning after December 15, 2001, requires that ratable
amortization of goodwill be replaced with periodic tests of goodwill impairment
and that intangible assets, other than goodwill, which have determinable useful
lives, be amortized over their useful lives. The Company adopted these
accounting standards effective July 1, 2002. As of December 31, 2002, we
completed the transitional impairment analysis under SFAS No. 142, no indicated
impairment of goodwill was identified. We performed our annual impairment
test as of June 30, 2003, no indicated impairment was identified. There were
no adjustments to identifiable intangible assets useful lives or recorded
balances as a result of the adoption of SFAS No. 142. We will perform an
annual impairment test as of each June 30, thereafter. We will perform an
earlier impairment analysis if a triggering event occurs that warrants such
analysis. As a result of industry conditions, we determined that there were
indicators of impairment to the carrying value of goodwill. During the third
quarter of fiscal 2004, we performed a review of the value of our goodwill in
accordance with SFAS 142. Based on our review, we recorded a charge of
$353,000 to write-down the value of goodwill for a reporting unit. See Note 6
for further discussion. New Accounting Pronouncements In May 2003, the FASB issued Statement 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity.
Statement 150 establishes standards for classifying and measuring certain
financial instruments with characteristics of both liabilities and equity.
Statement No. 150 requires that an issuer classify a financial instrument that
is within its scope as a liability (or an asset in some circumstances) because
that financial instrument embodies an obligation of the issuer. Statement No.
150 is effective for financial instruments entered into or modified after May
31, 2003, and to all other financial instruments that exist as of the
beginning of the first interim financial reporting period beginning
after June 15, 2003, except for mandatory redeemable financial instruments of a
nonpublic entity for which this statement is effective for fiscal periods
beginning after December 15, 2003, (the Companys fiscal 2005). The Company
has determined that upon adoption of Statement 150, accretion recorded related
to the Senior Exchangeable Preferred Stock and the Series A Preferred Stock
will be treated as interest expense in the Companys consolidated statements of
operations and cash flows. In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No.
104, Revenue Recognition, which codifies, revises, and rescinds certain
sections of SAB No. 101, Revenue Recognition, in order to make this
interpretive guidance consistent with current authoritative accounting and
auditing guidance and SEC rules and regulations. The changes noted in SAB No.
104 did not have a material effect on our financial position or results from
operations. 8




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) (2) Related Party The Company has a balance due to Bruckmann, Rosser, Sherrill & Co., Inc.
(BRS) of $300,000 as of March 31, 2004. The balance due as of June 30, 2003
was $75,000. (3) Commitments and Contingencies Litigation The Company has an employment
related legal matter pending settlement subject to final approval by
the court. As of March 31, 2004, the Company has accrued
$250,000 related to this matter. There
are various additional lawsuits and claims pending against and claims being
pursued by the Company and its subsidiaries arising out of the normal course of
business. It is managements present opinion, based in part upon
the advice of
legal counsel, that the outcome of these proceedings will not have a material
effect on the Companys consolidated financial statements taken as a whole. (4) Sale-leaseback On December 3, 2003, the Company consummated an agreement for the
sale-and-leaseback of our 11 owned properties (the Real Estate). The buyer,
CRICPENHALL LLC is owned by Prudential Real Estate Companies Account
Partnership II, LP and Prudential Real Estate Companies Fund II LP. These are
two investment funds, sponsored by Prudential Real Estate Investors.
Prudential Real Estate Investors is a business unit of Prudential Investment
Management, Inc., a wholly-owned subsidiary of Prudential Financial Inc.
Penhall sold the Real Estate for net proceeds of $11.3 million and immediately
entered into eleven 20 year leases with annual lease payments. Penhall also
has four 5-year options to extend the lease at the then current fair market
value. The gain on sale of $2.2 million will be amortized over the initial
term of the leases of 20 years. Through March 31, 2004, the Company has
amortized $44,000 of the gain and recorded $403,000 of rent expense under the
leaseback. During the third quarter the Company reduced the gain on
sale by $470,000 upon determination of additional costs related to
the sale. The resulting change to amortization of the gain on sale is
not material. Future minimum lease payments under these 20 year leases as of March 31,
2004 are as follows: 2004
    
    $
    1,224,0002005
    
    
    1,224,0002006
    
    
    1,224,0002007
    
    
    1,224,0002008
    
    
    1,224,000Thereafter
    
    
    22,283,000$
    28,403,000
 (5) Goodwill Impairment During the three and nine month periods ended March 31, 2003, the Company
recorded no impairment charges in accordance with SFAS No. 142. During the
three and nine month periods ended March 31, 2004, the Company recorded
$353,000 of impairment charges in accordance with SFAS No. 142. As part of its quarterly review of financial results in the third quarter
of fiscal 2004, the Company noted indicators that the carrying value of its
goodwill may be impaired and performed an impairment test. The impairment test
was performed because of the economic downturn affecting the Companys
operations and revenue forecasts. The Company determined that the continued
decline in market conditions within the Companys industry was an indication of
goodwill impairment. Accordingly, the Company evaluated the recoverability
of its goodwill in accordance with SFAS No. 142. Under the first step of the SFAS No. 142 test, we determined the fair
value of the reporting units based on cash flow utilizing a multiple
of the three year average EBIDTA to calculate the fair value. Based on
the first step analysis, the Company determined that the carrying amount of two
reporting units was in excess of the fair value. As such, the Company was
required to perform the second step analysis on the two reporting units that
failed the first step test to determine the amount of the impairment loss. The
Company then performed a preliminary second step analysis in connection with
the impairment and determined that an impairment charge of $353,000
was necessary for one of the reporting units. The charge of $353,000
represents all of the goodwill for this reporting unit. Additional
impairment losses may occur if the decline in market conditions
continues. 9




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##### Table of Contents



(7) Unaudited Condensed Consolidating Financial Information The following unaudited consolidating financial information is presented
for purposes of complying with the reporting requirements of the Guarantor
Subsidiaries, (Penhall Rental Corp. and Penhall Company). Effective July 1,
2002, Penhall Rental was merged into Penhall International Corp. Separate
financial statements and other disclosures with respect to the Guarantor
Subsidiaries are not presented because the Company believes that such financial
statements and other information would not provide additional information that
is material to investors. The condensed consolidating financial information presents condensed
financial statements as of June 30, 2003 and March 31, 2004 and for the three
and nine month periods ended March 31, 2003 and 2004 of:  (a)
    
    Penhall International Corp. on a parent company only basis (Parent) (carrying its investments in the subsidiaries under the equity method),(b)
    
    the Guarantor Subsidiaries,(c)
    
    elimination entries necessary to consolidate the parent company and its subsidiaries, and(d)
    
    the Company on a consolidated basis. 10




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) CONDENSED CONSOLIDATING BALANCE SHEET JUNE 30, 2003PENHALLINTERNATIONAL
    
    PENHALLCORP.
    
    COMPANY
    
    ELIMINATIONS
    
    CONSOLIDATEDAssetsCurrent assets:Receivables, net
    
    $
    2,648,000
    
    
    $
    31,618,000
    
    
    $
    
    
    
    $
    34,266,000Inventories
    
    
    
    
    
    
    2,362,000
    
    
    
    
    
    
    
    2,362,000Costs and estimated earnings in excess of billings on
uncompleted contracts
    
    
    
    
    
    
    1,704,000
    
    
    
    
    
    
    
    1,704,000Other current assets
    
    
    271,000
    
    
    
    7,066,000
    
    
    
    (152,000
    )
    
    
    7,185,000Total current assets
    
    
    2,919,000
    
    
    
    42,750,000
    
    
    
    (152,000
    )
    
    
    45,517,000Net property, plant and equipment
    
    
    8,798,000
    
    
    
    44,603,000
    
    
    
    
    
    
    
    53,401,000Intercompany assets
    
    
    
    
    
    
    19,398,000
    
    
    
    (19,398,000
    )
    
    
    Other assets, net
    
    
    2,051,000
    
    
    
    11,504,000
    
    
    
    
    
    
    
    13,555,000Investment in subsidiary
    
    
    70,399,000
    
    
    
    
    
    
    
    (70,399,000
    )
    
    
    $
    84,167,000
    
    
    $
    118,255,000
    
    
    $
    (89,949,000
    )
    
    $
    112,473,000Liabilities and Stockholders Equity (Deficit):Current installments of long-term debt
    
    $
    3,000
    
    
    $
    2,548,000
    
    
    $
    
    
    
    $
    2,551,000Borrowings under revolving credit facility
    
    
    
    
    
    
    14,485,000
    
    
    
    
    
    
    
    14,485,000Trade accounts payable
    
    
    9,000
    
    
    
    8,096,000
    
    
    
    (152,000
    )
    
    
    7,953,000Accrued liabilities and income taxes payable
    
    
    4,931,000
    
    
    
    5,878,000
    

    
    
    
    
    
    
    10,809,000Current portion of insurance reserves
    
    
    
    
    
    
    1,569,000
    
    
    
    
    
    
    
    1,569,000Billings in excess of costs and estimated earnings on
uncompleted contracts
    
    
    
    
    
    
    831,000
    
    
    
    
    
    
    
    831,000Intercompany liabilities
    
    
    19,398,000
    
    
    
    
    
    
    
    (19,398,000
    )
    
    
    Total current liabilities
    
    
    24,341,000
    
    
    
    33,407,000
    
    
    
    (19,550,000
    )
    
    
    38,198,000Long-term debt, excluding current installments
    
    
    180,000
    
    
    
    179,000
    
    
    
    
    
    
    
    359,000Long-term portion of insurance reserves
    
    
    
    
    
    
    5,158,000
    
    
    
    
    
    
    
    5,158,000Senior notes
    
    
    100,000,000
    
    
    
    
    
    
    
    
    
    
    
    100,000,000Deferred tax liabilities
    
    
    (891,000
    )
    
    
    9,112,000
    
    
    
    
    
    
    
    8,221,000Senior Exchangeable Preferred Stock
    
    
    16,744,000
    
    
    
    
    
    
    
    
    
    
    
    16,744,000Series A Preferred Stock
    
    
    19,737,000
    
    
    
    
    
    
    
    
    
    
    
    19,737,000Stockholders equity (deficit)
    
    
    (75,944,000
    )
    
    
    70,399,000
    
    
    
    (70,399,000
    )
    
    
    (75,944,000
    )$
    84,167,000
    
    
    $
    118,255,000
    
    
    $
    (89,949,000
    )
    
    $
    112,473,000
 11




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING BALANCE SHEET MARCH 31, 2004PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedAssetsCurrent assets:Receivables, net
    
    $
    
    
    
    $
    29,756,000
    
    
    $
    
    
    
    $
    29,756,000Inventories
    
    
    
    
    
    
    2,263,000
    
    
    
    
    
    
    
    2,263,000Costs and estimated earnings in excess
of billings on uncompleted contracts
    
    
    
    
    
    
    1,753,000
    
    
    
    
    
    
    
    1,753,000Other current assets
    
    
    2,182,000
    
    
    
    5,154,000
    
    
    
    
    
    
    
    7,336,000Total current assets
    
    
    2,182,000
    
    
    
    38,926,000
    
    
    
    
    
    
    
    41,108,000Net property, plant and equipment
    
    
    31,000
    
    
    
    36,976,000
    
    
    
    
    
    
    
    37,007,000Intercompany assets
    
    
    
    
    
    
    14,190,000
    
    
    
    (14,190,000
    )
    
    
    Other assets, net
    
    
    1,554,000
    
    
    
    10,659,000
    
    
    
    
    
    
    
    12,213,000Investment in subsidiary
    
    
    71,598,000
    
    
    
    
    
    
    
    (71,598,000
    )
    
    
    $
    75,365,000
    
    
    $
    100,751,000
    
    
    $
    (85,788,000
    )
    
    $
    90,328,000Liabilities and Stockholders Equity (Deficit)Current installments of long-term debt
    
    $
    
    
    
    $
    621,000
    
    
    $
    
    
    
    $
    621,000Trade accounts payable
    
    
    4,000
    
    
    
    3,923,000
    
    
    
    
    
    
    
    3,927,000Accrued liabilities and income taxes
payable
    
    
    2,291,000
    
    
    
    6,344,000
    
    
    
    
    
    
    
    8,635,000Current portion of insurance reserves
    
    
    
    
    
    
    2,816,000
    
    
    
    
    
    
    
    2,816,000Current portion of deferred gain  sale-leaseback
    
    
    133,000
    
    
    
    
    
    
    
    
    
    
    
    133,000Billings in excess of costs and estimated
earnings on uncompleted contracts
    
    
    
    
    
    
    1,149,000
    
    
    
    
    
    
    
    1,149,000Intercompany liabilities
    
    
    14,190,000
    
    
    
    
    
    
    
    (14,190,000
    )
    
    
    Total current liabilities
    
    
    16,618,000
    
    
    
    14,853,000
    
    
    
    (14,190,000
    )
    
    
    17,281,000Long-term debt, excluding current
installments
    
    
    
    
    
    
    30,000
    
    
    
    
    
    
    
    30,000Deferred gain  sale-leaseback
    
    
    2,011,000
    
    
    
    
    
    
    
    
    
    
    
    2,011,000Long term portion of insurance reserves
    
    
    
    
    
    
    5,158,000
    
    
    
    
    
    
    
    5,158,000Senior notes
    
    
    100,000,000
    
    
    
    
    
    
    
    
    
    
    
    100,000,000Deferred tax liabilities
    
    
    (891,000
    )
    
    
    9,112,000
    
    
    
    
    
    
    
    8,221,000Senior Exchangeable Preferred Stock
    
    
    18,122,000
    
    
    
    
    
    
    
    
    
    
    
    18,122,000Series A Preferred Stock
    
    
    21,767,000
    
    
    
    
    
    
    
    
    
    
    
    21,767,000Stockholders equity (deficit)
    
    
    (82,262,000
    )
    
    
    71,598,000
    
    
    
    (71,598,000
    )
    
    
    (82,262,000
    )$
    75,365,000

    
    
    $
    100,751,000
    
    
    $
    (85,788,000
    )
    
    $
    90,328,000
 12




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS THREE MONTH PERIOD ENDED MARCH 31, 2003PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedRevenues
    
    $
    2,187,000
    
    
    $
    29,850,000
    
    
    $
    (2,187,000
    )
    
    $
    29,850,000Cost of revenues
    
    
    
    
    
    
    25,416,000
    
    
    
    
    
    
    
    25,416,000Gross profit
    
    
    2,187,000
    
    
    
    4,434,000
    
    
    
    (2,187,000
    )
    
    
    4,434,000General and administrative expenses
    
    
    183,000
    
    
    
    6,830,000
    
    
    
    (396,000
    )
    
    
    6,617,000Royalties
    
    
    
    
    
    
    1,791,000
    
    
    
    (1,791,000
    )
    
    
    Other operating income, net
    
    
    12,000
    
    
    
    187,000
    
    
    
    
    
    
    
    199,000Equity in loss of subsidiary
    
    
    (2,558,000
    )
    
    
    
    
    
    
    2,558,000
    
    
    
    Loss from operations
    
    
    (542,000
    )
    
    
    (4,000,000
    )
    
    
    2,558,000
    
    
    
    (1,984,000
    )Interest expense
    
    
    3,377,000
    
    
    
    52,000
    
    
    
    
    
    
    
    3,429,000Loss before income taxes
    
    
    (3,919,000
    )
    
    
    (4,052,000
    )
    
    
    2,558,000
    
    
    
    (5,413,000
    )Income tax benefit
    
    
    (455,000
    )
    
    
    (1,494,000
    )
    
    
    
    
    
    
    (1,949,000
    )Net loss
    
    $
    (3,464,000
    )
    
    $
    (2,558,000
    )
    
    $
    2,558,000
    
    
    $
    (3,464,000
    )
 13




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS THREE MONTH PERIOD ENDED MARCH 31, 2004PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedRevenues
    
    $
    1,100,000
    
    
    $
    31,368,000
    
    
    $
    (1,100,000
    )
    
    $
    31,368,000Cost of revenues
    
    
    
    
    
    
    26,163,000
    
    
    
    
    
    
    
    26,163,000Gross profit
    
    
    1,100,000
    
    
    
    5,205,000
    
    
    
    (1,100,000
    )
    
    
    5,205,000General and administrative expenses
    
    
    413,000
    
    
    
    7,265,000
    
    
    
    (397,000
    )
    
    
    7,281,000Royalties
    
    
    
    
    
    
    703,000
    
    
    
    (703,000
    )
    
    
    Goodwill impairment
    
    
    
    
    
    
    353,000
    
    
    
    
    
    
    
    353,000Other operating income, net
    
    
    
    
    
    
    202,000
    
    
    
    
    
    
    
    202,000Equity in earnings of subsidiary
    
    
    (1,922,000
    )
    
    
    
    
    
    
    1,922,000
    
    
    
    Loss from operations
    
    
    (1,235,000
    )
    
    
    (2,914,000
    )
    
    
    1,922,000
    
    
    
    (2,227,000
    )Interest expense
    
    
    3,158,000
    
    
    
    186,000
    
    
    
    
    
    
    
    3,344,000Other income
    
    
    33,000
    
    
    
    
    
    
    
    
    
    
    
    33,000Loss before income taxes
    
    
    (4,360,000
    )
    
    
    (3,100,000
    )
    
    
    1,922,000
    
    
    
    (5,538,000
    )Income tax expense (benefit)
    
    
    (904,000
    )
    
    
    (1,178,000
    )
    
    
    
    
    
    
    (2,082,000
    )Net loss
    
    $
    (3,456,000
    )
    
    $
    (1,922,000
    )
    
    $
    1,922,000
    
    
    $
    (3,456,000
    )
 14




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS NINE MONTH PERIOD ENDED MARCH 31, 2003PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedRevenues
    
    $
    8,294,000
    
    
    $
    118,470,000
    
    
    $
    (8,294,000
    )
    
    $
    118,470,000Cost of revenues
    
    
    
    
    
    
    94,306,000
    
    
    
    
    
    
    
    94,306,000Gross profit
    
    
    8,294,000
    
    
    
    24,164,000
    
    
    
    (8,294,000
    )
    
    
    24,164,000General and administrative expenses
    
    
    567,000
    
    
    
    21,246,000
    
    
    
    (1,186,000
    )
    
    
    20,627,000Royalties
    
    
    
    
    
    
    7,108,000
    
    
    
    (7,108,000
    )
    
    
    Other operating income, net
    
    
    13,000
    
    
    
    1,075,000
    
    
    
    
    
    
    
    1,088,000Equity in earnings of subsidiary
    
    
    (2,131,000
    )
    
    
    
    
    
    
    2,131,000
    
    
    
    Earnings (loss) from operations
    
    
    5,609,000
    
    
    
    (3,115,000
    )
    
    
    2,131,000
    
    
    
    4,625,000Interest expense
    
    
    10,360,000
    
    
    
    214,000
    
    
    
    
    
    
    
    10,574,000Loss before income taxes
    
    
    (4,751,000
    )
    
    
    (3,329,000
    )
    
    
    2,131,000
    
    
    
    (5,949,000
    )Income tax benefit
    
    
    (944,000
    )
    
    
    (1,198,000
    )
    
    
    
    
    
    
    (2,142,000
    )Net loss
    
    $
    (3,807,000
    )
    
    $
    (2,131,000
    )
    
    $
    2,131,000
    
    
    $
    (3,807,000
    )
 15




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS NINE MONTH PERIOD ENDED MARCH 31, 2004PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedRevenues
    
    $
    3,805,000
    
    
    $
    116,767,000
    
    
    $
    (3,805,000
    )
    
    $
    116,767,000Cost of revenues
    
    
    
    
    
    
    90,606,000
    
    
    
    
    
    
    
    90,606,000Gross profit
    
    
    3,805,000
    
    
    
    26,161,000
    
    
    
    (3,805,000
    )
    
    
    26,161,000General and administrative expenses
    
    
    861,000
    
    
    
    22,008,000
    
    
    
    (1,189,000
    )
    
    
    21,680,000Royalties
    
    
    
    
    
    
    2,616,000
    
    
    
    (2,616,000
    )
    
    
    Goodwill impairment
    
    
    
    
    
    
    353,000
    
    
    
    
    
    
    
    353,000Other operating income, net
    
    
    
    
    
    
    823,000
    
    
    
    
    
    
    
    823,000Equity in earnings of subsidiary
    
    
    1,199,000
    
    
    
    
    
    
    
    (1,199,000
    )
    
    
    Earnings from operations
    
    
    4,143,000
    
    
    
    2,007,000
    
    
    
    (1,199,000
    )
    
    
    4,951,000Interest expense
    
    
    9,579,000
    
    
    
    868,000
    
    
    
    
    
    
    
    10,447,000Other income
    
    
    44,000
    
    
    
    795,000
    
    
    
    
    
    
    
    839,000Earnings (loss) before income taxes
    
    
    (5,392,000
    )
    
    
    1,934,000
    
    
    
    (1,199,000
    )
    
    
    (4,657,000
    )Income tax expense (benefit)
    
    
    (2,482,000
    )
    
    
    735,000
    
    
    
    
    
    
    
    (1,747,000
    )Net loss
    
    $
    (2,910,000
    )
    
    $
    1,199,000
    
    
    $
    (1,199,000
    )
    
    $
    (2,910,000
    )
 16




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNUAIDTED CONDENSED CONSOLIDATING STATEMENT OF CASH FLOW NINE MONTH PERIOD ENDED MARCH 31, 2003Penhall
    
    PenhallInternational
    
    Rental
    
    PenhallCorp.
    
    Corp.
    
    Company
    
    Eliminations
    
    ConsolidatedNet cash provided by (used in) operating activities
    
    $
    (4,486,000
    )
    
    $
    
    
    
    $
    13,972,000
    
    
    $
    
    
    
    $
    9,486,000Cash flows from investing activities:Proceeds from sale of assets
    
    
    
    
    
    
    
    
    
    
    507,000
    
    
    
    
    
    
    
    507,000Capital expenditures
    
    
    
    
    
    
    
    
    
    
    (3,214,000
    )
    
    
    
    
    
    
    (3,214,000
    )Cash from Penhall Rental merger
    
    
    6,143,000
    
    
    
    (6,143,000
    )
    
    
    
    
    
    
    
    
    
    
    Net cash provided by
(used in) investing
activities
    
    
    6,143,000
    
    
    
    (6,143,000
    )
    
    
    (2,707,000
    )
    
    
    
    
    
    
    (2,707,000
    )Cash flows from financing activities:Due to (from) affiliates
    
    
    6,361,000
    
    
    
    
    
    
    
    (6,361,000
    )
    
    
    
    
    
    
    Borrowings under long-term debt
    
    
    
    
    
    
    
    
    
    
    1,064,000
    
    
    
    
    
    
    
    1,064.000Repayments of long-term debt
    
    
    (4,563,000
    )
    
    
    
    
    
    
    (3,085,000
    )
    
    
    
    
    
    
    (7,648,000
    )Borrowings under revolving credit facility
    
    
    57,710,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    57,710,000Repayments of long-term debt
    
    
    (57,110,000
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (57,110,000
    )Debt issuance costs
    
    
    (104,000
    )
    
    
    
    
    
    
    (29,000
    )
    
    
    
    
    
    
    (133,000
    )Book overdraft
    
    
    
    
    
    
    
    
    
    

    (2,880,000
    )
    
    
    
    
    
    
    (2,880,000
    )Proceeds from issuance of common stock
    
    
    38,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    38,000Repurchase of common stock and Series B
Preferred Stock
    
    
    (35,000
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (35,000
    )Issuance of Series B Preferred Stock
    
    
    37,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    37,000Net cash provided by
(used in) financing
activities
    
    
    2,334,000
    
    
    
    
    
    
    
    (11,291,000
    )
    
    
    
    
    
    
    (8,957,000
    )Net change in cash
and cash equivalents
    
    
    3,991,000
    
    
    
    (6,143,000
    )
    
    
    (26,000
    )
    
    
    
    
    
    
    (2,178,000
    )Cash and cash equivalents at beginning of period
    
    
    
    
    
    
    6,143,000
    
    
    
    62,000
    
    
    
    
    
    
    
    6,205,000Cash and cash equivalents at end of period
    
    $
    3,991,000
    
    
    $
    
    
    
    $
    36,000
    
    
    $
    
    
    
    $
    4,027,000
 17




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##### Table of Contents



PENHALL INTERNATIONAL CORP.
AND SUBSIDIARIES NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) MARCH 31, 2004
(Unaudited) UNAUDITED CONDENSED CONSOLIDATING STATEMENT OF CASH FLOW NINE MONTH PERIOD ENDED MARCH 31, 2004PenhallInternational
    
    PenhallCorp.
    
    Company
    
    Eliminations
    
    ConsolidatedNet cash provided by operating activities
    
    $
    (5,911,000
    )
    
    $
    14,492,000
    
    
    $
    
    
    
    $
    8,581,000Cash flows from investing activities:Proceeds from sale of assets
    
    
    
    
    
    
    1,769,000
    
    
    
    
    
    
    
    1,769,000Proceeds from sale-leaseback
    
    
    11,312,000
    
    
    
    
    
    
    
    
    
    
    
    11,312,000Capital expenditures
    
    
    
    
    
    
    (4,012,000
    )
    
    
    
    
    
    
    (4,012,000
    )Net cash provided by (used in)
investing activities
    
    
    11,312,000
    
    
    
    (2,243,000
    )
    
    
    
    
    
    
    9,069,000Cash flows from financing activities:Due to (from) affiliates
    
    
    (5,208,000
    )
    
    
    5,208,000
    
    
    
    
    
    
    
    Borrowings under long-term debt
    
    
    
    
    
    
    96,000
    
    
    
    
    
    
    
    96,000Repayments of long-term debt
    
    
    (183,000
    )
    
    
    (2,172,000
    )
    
    
    
    
    
    
    (2,355,000
    )Borrowings under revolving credit facility
    
    
    
    
    
    
    164,198,000
    
    
    
    
    
    
    
    164,198,000Repayments of revolving credit facility
    
    
    
    
    
    
    (178,683,000
    )
    
    
    
    
    
    
    (178,683,000
    )Debt issuance costs
    
    
    
    
    
    
    (161,000
    )
    
    
    
    
    
    
    (161,000
    )Book overdraft
    
    
    (152,000
    )
    
    
    (514,000
    )
    
    
    152,000
    
    
    
    (514,000
    )Net cash used in financing activities
    
    
    (5,543,000
    )
    
    
    (12,028,000
    )
    
    
    152,000
    
    
    
    (17,419,000
    )Net change in cash and cash
equivalents
    
    
    (142,000
    )
    
    
    221,000
    
    
    
    152,000
    
    
    
    231,000Cash and cash equivalents at beginning of period
    
    
    152,000
    
    
    
    184,000
    
    
    
    (152,000
    )
    
    
    184,000Cash and cash equivalents at end of period
    
    $
    10,000
    
    
    $
    405,000
    
    
    $
    
    
    
    $
    415,000
 18




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations The following discussion of the results of operations and financial
condition of Penhall International Corp. (Penhall) should be read in
conjunction with the unaudited condensed consolidated financial statements and
footnotes thereto included in this quarterly report on Form 10-Q and the
Companys audited consolidated financial statements and footnotes thereto
included in the annual report on Form 10-K, filed with the Securities and
Exchange Commission. General Penhall was founded in 1957 in Anaheim, California with one piece of
equipment, and today is one of the largest Operated Equipment Rental Services
companies in the United States. Penhall differentiates itself from other
equipment rental companies by providing specialized services in connection with
infrastructure projects through renting equipment along with skilled operators
to serve customers in the construction, industrial, manufacturing, governmental
and residential markets. In addition, Penhall complements its Operated
Equipment Rental Services with fixed-price contracts, which serve to market its
operated equipment rental services business and increase utilization of its
operated equipment rental fleet. Penhall provides its services from thirty
eight locations in seventeen states, with a presence in some of the fastest
growing states in terms of construction spending and population growth. The operated equipment rental industry is a specialized niche of the
highly fragmented United States equipment rental industry, in which there are
approximately 17,000 companies. Penhall has taken advantage of consolidation
opportunities by acquiring small companies in targeted markets as well as by
establishing new offices in those markets. Since 1998, Penhall has effected
eight strategic acquisitions, including:  1.
    
    HSI, a Minnesota-based firm acquired in April 1998,2.
    
    Daley Concrete Cutting, a South Carolina-based division of U.S. Rentals acquired in October 1998,3.
    
    Lipscomb Concrete Cutting, a North Carolina-based company acquired in November 1998,4.
    
    Prospect Drilling and Sawing, a Minnesota-based company acquired in June 1999,5.
    
    Advance Concrete Sawing and Drilling, Inc., a California-based company acquired in September 2000,6.
    
    H&P Sawing and Drilling, a Missouri-based company acquired in March 2001,7.
    
    Bob Mack Company, a California-based company acquired in March 2002, and8.
    
    Arizona Curb Cut Company, an Arizona based company in April 2002. During the same period, Penhall established operations in six new markets
by opening offices Dallas, Richmond, Fresno, Buffalo, Reno and Seattle. Penhall derives its revenues primarily from services provided for
infrastructure related jobs. Penhalls Operated Equipment Rental Services are
complemented by long-term fixed-price contracts. Penhalls revenues are derived
from highway-related projects, building-related projects, airport, residential
and other projects. The following table shows the breakdown of the components
of revenue for the periods indicated: THREE MONTH PERIODS ENDED MARCH 31,
    
    NINE MONTH PERIODS ENDED MARCH 31,2003
    
    2004
    
    2003
    
    2004% of
    
    
    
    
    
    % of
    
    
    
    
    
    % of
    
    
    
    
    
    % of$
    
    Total
    
    $
    
    Total
    
    $
    
    Total
    
    $
    
    Total(Dollars in Thousands)
    
    (Dollars in Thousands)Operated Equipment:Rental Services
    
    $
    23,232
    
    
    
    77.8
    %
    
    $
    23,200
    
    
    
    74.0
    %
    
    $
    86,744
    
    
    
    73.2
    %
    
    $
    82,151
    
    
    
    70.4
    %Contract Services (1)
    
    
    6,618
    
    
    
    22.2
    %
    
    
    8,168
    
    
    
    26.0
    %
    
    
    31,726
    
    
    
    26.8
    %
    
    
    34,616
    
    
    
    29.6
    %Total Revenues
    
    $
    29,850
    
    
    
    100.0
    %
    
    $
    31,368
    
    
    
    100.0
    %
    
    $
    118,470
    
    
    
    100.0
    %
    
    $
    116,767
    
    
    
    100.0
    %
   (1)
    
    Contract services revenues exclude services performed by the operated equipment rental divisions on long-term contracts. 19




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##### Table of Contents

\

Revenue growth is influenced by infrastructure change, including new
construction, modification and natural disasters, such as the 1989 and 1994
earthquakes in Northern and Southern California. Other factors that influence
Penhalls operations are demand for operated rental equipment, the amount and
quality of equipment available for rent, rental rates and general economic
conditions. Historically, revenues have been seasonal, as weather conditions in
the spring and summer months result in stronger performance in the first and
fourth fiscal quarters than in the second and third fiscal quarters. The principal components of Penhalls operating costs include the cost of
labor, equipment rental fleet maintenance costs including parts and service,
equipment rental fleet depreciation, insurance and other direct operating costs
including rent. As a result of the sale-leaseback, the Company expects
operating expenses to increase approximately $1.0 million per year due to the
incremental increase of rent expense compared to depreciation expense. Given
the varied, and in some cases specialized, nature of its rental equipment,
Penhall utilizes a range of periods over which it depreciates its equipment on
a straight-line basis. On average, Penhall depreciates its equipment over an
estimated useful life of six years with a 10% residual value. Results of Operations Nine Months Ended March 31, 2004 Compared to Nine months Ended March 31,
2003 Revenues.Revenues for the nine months ended March 31, 2004 (Interim
2004) were $116.8 million; a decrease of $1.7 million or 1.4% compared to the
nine months ended March 31, 2003 (Interim 2003). The decrease in revenues in
Interim 2004 were primarily a result of an increase of $2.9 million or 9.1% in
Contract Services, offset by a $4.6 million or 5.3% decrease in Operated
Equipment Rental Services. The decrease in total revenues is attributable to a
continuing weakness in the non-residential construction market and uncertainty
in government spending. Gross Profit.Gross profit totaled $26.2 million in Interim 2004, an
increase of $2.0 million or 8.3% from Interim 2003. Gross profit as a
percentage of revenues increased from 20.4% in Interim 2003 to 22.4% in Interim
2004. The increase in gross profit from Interim 2003 to Interim 2004 is
primarily attributable to significant profits from a major project and the
successful settlement of an outstanding claim. General and Administrative Expenses.General and administrative expenses
were $21.7 million in Interim 2004 compared to $20.6 million in Interim 2003.
As a percent of revenues, general and administrative expenses were 18.6% in
Interim 2004 compared to 17.4% in Interim 2003. The increase in general and
administrative expenses of $1.1 million in Interim 2004 is primarily
attributable to an increase of $1.3 million in incentive compensation and $0.3
million in outside professional service, partially offset by decreases of $0.4
million in salary and associated taxes, $0.3 million in depreciation,
and $0.1 million in
communication expense. Interest Expense.Interest expense was $10.4 million in Interim 2004 and
$10.6 million in Interim 2003. Although interest expenses attributable to
borrowings diminished in 2004, this was partially offset by higher letter of
credit expenses. Other Income.Other income increased by $0.8 million from Interim 2003 to
Interim 2004. This increase is primarily attributable to the sale of an FCC
license that was no longer used by the Company. Income Tax Benefit.The Company recorded an income tax benefit of $1.7
million, or 37.5% of loss before income taxes in Interim 2004, compared to an
income tax benefit of $2.1 million, or 36% of loss before income taxes in
Interim 2003. Three months Ended March 31, 2004 Compared to Three months Ended March 31,
2003 Revenues.Revenues for the three months ended March 31, 2004 (Interim
2004) were $31.4 million, an increase of $1.5 million or 5.1% over the three
months ended March 31, 2003 (Interim 2003). Revenue from contract services
increased by $1.6 million or 23.4% in Interim 2004 while operated equipment
rental services revenues were flat from year to year. The increase in revenues
is attributable to higher contract revenues in the Southwest region. Gross Profit.Gross profit totaled $5.2 million in Interim 2004, an
increase of $0.8 million or 17.4% from Interim 2003. Gross profit as a
percentage of revenues increased to 16.6% in Interim 2004 from 14.9% in Interim
2003. The increase in gross profit is primarily attributable to significant
profits from a major project. General and Administrative Expenses.General and administrative expenses
were $7.3 million in Interim 2004 compared to $6.6 million in Interim 2003, an
increase of $0.7 million or 10.0%. As a percent of revenues, general and
administrative expenses were 23.2% in Interim 2004 compared to 22.2% in Interim
2003. The increase in general and administrative expenses is primarily
attributable to increases of $0.3 million in accounting and legal expenses, $0.2
million in bad debt expense, and $0.3 million in rent expense,
partial offset by a $0.1 million
decrease in incentive compensation. Interest Expense.Interest expense was $3.3 million in Interim 2004
compared to $3.4 million in Interim 2003. The lower interest expenses is
attributable to lower borrowings in Interim 2004, partially offset by higher
letter of credit expenses. Income Tax Benefit.The Company had income tax benefit of $2.1 million in
Interim 2004 or 38% of loss before taxes compared to an income tax benefit of
$1.9 million, or 36.0% of loss before income taxes in Interim 2003. Liquidity and Capital Resources It is anticipated that the Companys principal uses of liquidity will be
to fund working capital, meet debt service requirements and finance the
Companys strategy of pursuing strategic acquisitions and expanding through
internal growth. The Companys principal sources of liquidity are expected to
be cash flow from operations and borrowings under the New Credit facility (The
New Credit). The New Credit is a $50 million, three year asset based borrowing
facility, consisting of a revolving credit facility (New Revolver) of up to
$50 million with a $25 million sub-facility for letters of credit.
Availability under the revolver portion of The New Credit is limited to a
borrowing base consisting of (i) up to 85% of the net amount of the Companys
eligible trade accounts receivable, (ii) up to the lesser of (a) 100% of the
net book value of the Companys eligible inventory and eligible equipment or
(b) 85% of the appraised net orderly liquidation value of the Companys eligible
inventory and equipment, and (iii) up to 50% of the appraised forced
liquidation value of the Companys owned real estate. The provisions of The New Credit facility allow the lender, in its reasonable
credit judgment, to assess additional reserves against the borrowing base
calculation. The Company reviewed the New Credit and determined that the
associated lockbox agreement satisfied the requirements for consideration of
EITF Issue No. 95-22, Balance Sheet Classification of Borrowings Outstanding
under Revolving Credit Agreements that include both a Subjective Acceleration
Clause and a Lock-Box Arrangement (EITF 95-22). Further, we reviewed the
terms and conditions of the New Credit with the intention of determining
whether there are any subjective 20




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##### Table of Contents



acceleration clauses as defined in FAS 78, Classification of Obligations that
are Callable by the Creditor. In reading the agreement and discussing the
terms and conditions with our lender, it did not appear that there were any
subjective acceleration clauses that fit directly into the definition provided
in FAS 78. However, upon further analysis of the terms of The New Credit,
there were certain provisions noted that could potentially be interpreted as a
subjective acceleration clause. As a result, the Company has classified
borrowings under The New Credit facility as a short-term obligation. The
additional reserves may result in an overadvance borrowing position that could
require an accelerated repayment of the overadvance. Since the inception of
this New Credit facility, the lender has not applied any additional reserves to
the borrowing base calculation. Managements understanding of this provision
after consultation with the lender, is that the lender, in its reasonable
credit judgment, can assess additional reserves to the borrowing base
calculation to account for changes in the nature of the Companys business that
alters the underlying value of the collateral. The Company does not anticipate
any changes in its business practices that would result in any material
adjustments to the borrowing base calculation. However, management cannot be
certain that additional reserves will not be assessed by the lender to the
borrowing base calculation. In addition, borrowings under The New Credit are
subject to certain financial covenants that include capital expenditure limits,
utilization rate ratio, minimum interest coverage ratio, maximum leverage ratio
and a minimum borrowing availability limit. The indebtedness of the Company
under The New Credit is secured by a first priority perfected security interest
in all of the inventory, accounts, equipment, fixtures, cash, and other assets
of the Company. As of March 31, 2004, total borrowing unused and available
under The New Credit was $28.7 million. SUMMARY CASH FLOW DATA (000s) FOR THE NINE MONTHS ENDED March 31,
    
    2003
    
    2004Cash and cash equivalents
    
    $
    4,027
    
    
    $
    415Net cash provided by (used in):Operating activities
    
    
    9,486
    
    
    
    8,581Investing activities
    
    
    (2,707
    )
    
    
    9,069Financing activities
    
    
    (8,957
    )
    
    
    (17,419
    )Capital expenditures
    
    
    (3,214
    )
    
    
    (4,012
    )
 Cash provided by operating activities netted $8.6 million in Interim 2004.
Net loss decreased $0.9 million from a $3.8 million loss in Interim 2003 to a
$2.9 million loss in Interim 2004. In Interim 2004, the Companys net loss,
gain on sale of assets and trade accounts payable, accrued liabilities, income
taxes payable and insurance reserves are offset by depreciation and
amortization plus receivables, inventories, prepaid expenses, other
assets and income taxes receivable and costs and estimated earnings in excess of
billings on uncompleted contracts which resulted in net cash provided by
operating activities. In Interim 2003, the Companys net loss plus trade
accounts payable, accrued liabilities, income taxes and insurance reserves were
offset by depreciation and amortization and receivables which resulted in $9.5
million in net cash provided from operating activities. Net
cash provided by investing activities was $9.1 million in
Interim 2004,
compared to net cash used in investing activities of $2.7 million in
Interim 2003. Although capital expenditures remained relatively consistent
rising from $3.2 million in Interim 2003 to $4.0 million in 2004, proceeds from
sale of assets rose to $13.1 million in Interim 2004 from $0.5 million in
Interim 2003. The increase of $12.6 million in Interim 2004 is primarily
attributable to the disposal of an unused FCC license for $0.8 million and the
sale and the leaseback of the Companys 11 owned properties, which netted the
Company $11.3 million. Management estimates that the Companys annual capital expenditures will
be approximately $6.0 million for fiscal 2004. Net cash used in financing activities in Interim 2004 was $17.4 million as
compared to a use of $9.0 million in Interim 2003. In Interim 2003 and Interim
2004, the Companys financing activities are primarily a result of borrowings
and repayments of debt and a book overdraft. Historically, the Company has funded its working capital requirements,
capital expenditures and other needs principally from operating cash flows. As
a result of the recapitalization in 1998, however, the Company has substantial
indebtedness and debt service obligations. As of March 31, 2004, the Company
and its subsidiaries had approximately $100.7 million of total indebtedness
outstanding (including the Notes) plus outstanding letters of credit of $13.7
million and a stockholders deficit of approximately $82.3 million. The Company
additionally has mandatorily redeemable preferred stock with maturity dates of
February 1, 2007 and August 1, 2007; the estimated future obligations are
approximately $24.4 million and $33.6 million respectively. As of March 31,
2004, approximately $28.7 million of additional borrowing was available under
the Companys New Credit Facility (as defined). Sale-leaseback On December 3, 2003, the Company consummated an agreement for the
sale-and-leaseback of our 11 owned properties (the Real Estate). The buyer,
CRICPENHALL LLC is owned by Prudential Real Estate Companies Account
Partnership II, LP and Prudential Real Estate Companies Fund II LP. These are
two investment funds, sponsored by Prudential Real Estate Investors.
Prudential Real Estate Investors is a business unit of Prudential Investment
Management, Inc., a wholly-owned subsidiary of Prudential Financial Inc.
Penhall sold the Real Estate for $12.0 million and immediately entered into
eleven 20 year leases with annual lease payments. Penhall also has four 5-year
options to extend the lease at the then current fair market value. The gain on
sale of $2.2 million will be amortized over the initial term of the leases of
20 years. Through March 31, 2004, the Company has amortized $44,000 of the
gain. See Note 4 to the unaudited condensed consolidated financial statements. New Accounting Pronouncement In May 2003, the FASB issued Statement 150, Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity.
Statement 150 establishes standards for classifying and measuring certain
financial instruments with characteristics of both liabilities and equity.
Statement No. 150 requires that an issuer classify a financial instrument that
is within its scope as a liability (or an asset in some circumstances) because
that financial instrument embodies an obligation of the issuer. Statement No.
150 is effective for financial instruments entered into or modified after May
31, 2003, and otherwise is effective for the first interim period beginning
after June 15, 2003, except for mandatory redeemable financial instruments of a
nonpublic entity for which this statement is effective for fiscal periods
beginning December 15, 2003, (the Companys fiscal 2005). The Company has
determined that upon adoption of Statement 150, accretion recorded related to
the Senior Exchangeable Preferred Stock and the Series A Preferred Stock will be treated as interest expense in the Companys consolidated statements of
operations and cash flows. In December 2003, the SEC issued Staff Accounting Bulletin (SAB) No. 104,
Revenue Recognition, which codifies, revises, and rescinds certain sections
of SAB No. 101, Revenue Recognition, in order to make this interpretive
guidance consistent with current authoritative accounting and auditing guidance
and SEC rules and regulations. The changes noted in SAB No. 104 did not have a
material effect on our financial position or results from operations. 21




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##### Table of Contents



Item 3. Quantitative and Qualitative Disclosures about Market Risk Market Risk The Company is exposed to interest rate changes primarily as a result of
its notes payable, including Senior Notes and The New Credit used to maintain
liquidity and fund capital expenditures and expansion of the Companys
operations. The Companys interest rate risk management objective is to limit
the impact of interest rate changes on earnings and cash flows and to lower its
overall borrowing costs. The Company does not enter into derivative or interest
rate transactions for speculative purposes. The table below presents the principal amounts of debt, weighted average
interest rates, fair values and other items required by the year of expected
maturity to evaluate the expected cash flows and sensitivity to interest rate
changes as of March 31, 2004. Years Ended June 30,Fair2004
    
    2005
    
    2006
    
    2007
    
    2008
    
    Thereafter
    
    Total
    
    Value(In thousands)Fixed rate debt
    
    $
    429
    
    
    $
    202
    
    
    $
    20
    
    
    $
    100,000
    
    
    $
    0
    
    
    $
    0
    
    
    $
    100,651
    
    
    $
    96,152
    (1)Average interest rate
    
    
    2.21
    %
    
    
    3.09
    %
    
    
    2.21
    %
    
    
    12.00
    %
    
    
    0
    %
    
    
    0
    %
    
    
    11.94
    %
    
    
    12.57
    %
   (1)
    
    The fair value of fixed rate debt was determined based on current rates offered for the debt instrument. 
 Item 4. Controls and Procedures We maintain disclosure controls and procedures that are designed to ensure
(1) that information required to be disclosed by us in the reports we file or
submit under the Securities Exchange Act of 1934, as amended (the Exchange
Act), is recorded, processed, summarized, and reported within the time periods
specified in the Securities and Exchange Commissions (SEC) rules and forms,
and (2) that this 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
March 2004, under the supervision and review of our Chief Executive Officer and
Chief Financial Officer, we conducted an evaluation of the effectiveness of our
disclosure controls and procedures. Based on that evaluation, our Chief
Executive Officer and our Chief Financial Officer have concluded that our
disclosure controls and procedures are effective in alerting them in a timely
manner to material information regarding the Company that is required to be
included in our periodic reports to the SEC. In addition, there have been no
significant changes in our internal controls or in other factors that could
significantly affect those controls since our March 2004 evaluation. We cannot
assure you, however, that our system of disclosure controls and procedures will
always achieve its stated goals under all future conditions, no matter how
remote. 
 Part II  Other Information 
 Items 1-5 are not applicable 
 Item 6. Exhibits and Reports on Form 8-K  (a)
    
    Exhibits Number31.1
    
    Certification of Chief Executive
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 dated May 17, 2004*31.2
    
    Certification of Chief Financial
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 dated May 17, 2004*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 dated May 17, 2004*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 dated
May 17, 2004** filed herewith
  (b)
    
    Reports on Form 8-K On December 5, 2003, we filed a Current Report on Form 8-K relating to a sale-leaseback transaction that occurred on December 3, 2003. 22




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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. Penhall International Corp.Date: May 17, 2004
    
    /s/ John T. SawyerJohn T. SawyerChairman of the Board, President andChief Executive Officer/s/ Jeffrey E. PlattJeffrey E. PlattVice President-Finance and Chief Financial Officer
 23




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##### Table of Contents



EXHIBIT INDEX Number
    
    Description31.1
    
    Certification of Chief Executive
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 dated May 17, 2004*31.2
    
    Certification of Chief Financial
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 dated May 17, 2004*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 dated May 17, 2004*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 dated
May 17, 2004** filed herewith