###### **UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM10-Q**

 

**(Mark One)**

 
| **ý**                                                                                                                                                                                                                | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                      |
| **For the quarterly period ended September  30, 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:  0-26524**                                                                                                                                                                                 |

 

**LOUDTECHNOLOGIES INC.**

(Exact name of registrant as specified in itscharter)

 
| **Washington**                                                  | ** ** | **91-1432133**                       |
|-----------------------------------------------------------------|------------|--------------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer Identification No.) |
|                                                            |       |                                 |
| **16220 Wood-Red Road, N.E., Woodinville,  Washington**         | ** ** | **98072**                            |
| (Address of principal executive offices)                        |       | (Zip Code)                           |
|                                                            |       |                                 |
| **(425) 892-6500**                                              |
| (Registrant’s telephone number, including  area code)      |
|                                                            |       |                                 |
| **N/A**                                                         |
| (Former name or former address, if  changed since last report)  |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days..  Yes   ý   No   o

 

Indicate by check mark whether the registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act).Yes   o   No   ý

 

Indicate the number of shares outstanding of each of the issuer’sclasses of common stock, as of the latest practicable date.

 

| **Common Stock, no par value** | ** ** | **22,104,858**                                         | ** ** |
|--------------------------------|------------|--------------------------------------------------------|------------|
| Class                          |       | Number of Shares Outstanding  (as of October 29, 2004) |       |

 

 

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**LOUD TECHNOLOGIES INC.**

 

**FORM 10-QFor the quarter ended September 30, 2004**

 

**INDEX**

 
| **PART I.**    | **FINANCIAL INFORMATION**                                                                   |   |
|----------------|---------------------------------------------------------------------------------------------|--------|
|           |                                                                                        |   |
| Item 1.        | Financial Statements (Unaudited)                                                            |   |
|           |                                                                                        |   |
|           | Condensed Consolidated Balance Sheets                                                       |   |
|           |                                                                                        |   |
|           | Condensed Consolidated Statements of  Operations                                            |   |
|           |                                                                                        |   |
|           | Condensed Consolidated Statements of Cash  Flows                                            |   |
|           |                                                                                        |   |
|           | Condensed Consolidated Statement of  Shareholders’ Equity                              |   |
|           |                                                                                        |   |
|           | Notes to Condensed Consolidated Financial  Statements                                       |   |
|           |                                                                                        |   |
| Item 2.        | Management’s Discussion and Analysis of  Financial Condition and Results of Operations |   |
|           |                                                                                        |   |
| Item 3.        | Quantitative and Qualitative Disclosures  About Market Risk                                 |   |
|           |                                                                                        |   |
| Item 4.        | Controls and Procedures                                                                     |   |
|           |                                                                                        |   |
| **PART II.**   | **OTHER INFORMATION**                                                                       |   |
|           |                                                                                        |   |
| Item 1.        | Legal Proceedings                                                                           |   |
|           |                                                                                        |   |
| Item 2.        | Unregistered Sales of Equity Securities and  Use of Proceeds                                |   |
|           |                                                                                        |   |
| Item 3.        | Defaults Upon Senior Securities                                                             |   |
|           |                                                                                        |   |
| Item 4.        | Submission of Matters to a Vote of Security  Holders                                        |   |
|           |                                                                                        |   |
| Item 5.        | Other Information                                                                           |   |
|           |                                                                                        |   |
| Item 6.        | Exhibits                                                                                    |   |
|           |                                                                                        |   |
| **SIGNATURES** |                                                                                        |   |

 

2

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**LOUD TECHNOLOGIES INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(Unaudited)**

 

*(In thousands, except share amounts)*

 
| ** **                                                                                                                                              | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|------------------------|------------|
| **ASSETS**                                                                                                                                              |       |                    |       |                   |       |
| Current assets:                                                                                                                                         |       |                    |       |                   |       |
| Cash and cash equivalents                                                                                                                               |       | $                       | 313        |                   | $          | 757 |   |
| Accounts receivable, net of allowances of  $1,652 and $2,163, respectively                                                                              |       | 14,646                  |       | 13,683                 |       |
| Income taxes receivable                                                                                                                                 |       | 190                     |       | 188                    |       |
| Inventories                                                                                                                                             |       | 16,250                  |       | 18,930                 |       |
| Prepaid expenses and other current assets                                                                                                               |       | 2,910                   |       | 2,280                  |       |
| Total current assets                                                                                                                                    |       | 34,309                  |       | 35,838                 |       |
|                                                                                                                                                    |       |                    |       |                   |       |
| Property and equipment, net                                                                                                                             |       | 7,682                   |       | 8,381                  |       |
| Intangible assets, net                                                                                                                                  |       | 5,234                   |       | 5,552                  |       |
| Other assets, net                                                                                                                                       |       | 305                     |       | 651                    |       |
| Total assets                                                                                                                                            |       | $                       | 47,530     |                   | $          | 50,422 |   |
|                                                                                                                                                    |       |                    |       |                   |       |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                                                           |       |                    |       |                   |       |
| Current liabilities:                                                                                                                                    |       |                    |       |                   |       |
| Short-term borrowings                                                                                                                                   |       | $                       | 7,558      |                   | $          | 7,868 |   |
| Accounts payable                                                                                                                                        |       | 10,805                  |       | 6,454                  |       |
| Accrued liabilities                                                                                                                                     |       | 7,287                   |       | 7,973                  |       |
| Income taxes payable                                                                                                                                    |       | 1,240                   |       | 1,288                  |       |
| Current portion of long-term debt                                                                                                                       |       | 300                     |       | 500                    |       |
| Payable to former Italian subsidiary                                                                                                                    |       | 8,583                   |       | 9,173                  |       |
| Total current liabilities                                                                                                                               |       | 35,773                  |       | 33,256                 |       |
|                                                                                                                                                    |       |                    |       |                   |       |
| Long-term debt, excluding current portion                                                                                                               |       | 11,632                  |       | 16,262                 |       |
| Other liabilities                                                                                                                                       |       | 42                      |       | 72                     |       |
| Total liabilities                                                                                                                                       |       | 47,447                  |       | 49,590                 |       |
|                                                                                                                                                    |       |                    |       |                   |       |
| Commitments and contingencies                                                                                                                           |       |                    |       |                   |       |
|                                                                                                                                                    |       |                    |       |                   |       |
| Shareholders’ equity:                                                                                                                              |       |                    |       |                   |       |
| Preferred stock, no par value. Authorized  5,000,000 shares, no shares issued and outstanding                                                           |       | —                  |       | —                 |       |
| Common stock, no par value. Authorized  40,000,000 shares, issued and outstanding 22,104,858 at September 30, 2004  and 19,608,036 at December 31, 2003 |       | 38,764                  |       | 33,999                 |       |
| Accumulated deficit                                                                                                                                     |       | (38,681                 | )          | (33,167                | )          |
| Total shareholders’ equity                                                                                                                         |       | 83                      |       | 832                    |       |
| Total liabilities and shareholders’ equity                                                                                                         |       | $                       | 47,530     |                   | $          | 50,422 |   |

 

*See accompanying Notes to CondensedConsolidated Financial Statements.*

 

3

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**LOUD TECHNOLOGIES INC.**

**CONDENSED CONSOLIDATED STATEMENTS OFOPERATIONS**

**(Unaudited)**

 

*In thousands, except for per share data*

 
| ** **                                                                                           | ** ** | **Three months ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                           | ** ** | **2004**                              | ** ** | **2003**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Net sales                                                                                            |       | $                                     | 31,041     |                                 | $          | 33,457 |   | $ | 87,253 |   | $ | 101,856 |   |
| Cost of sales                                                                                        |       | 20,693                                |       | 26,792                               |       | 59,698 |   | 79,716 |   |
| Gross profit                                                                                         |       | 10,348                                |       | 6,665                                |       | 27,555 |   | 22,140 |   |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Operating expenses:                                                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Selling, general and administrative                                                                  |       | 7,841                                 |       | 7,890                                |       | 24,625 |   | 26,804 |   |
| Research and development                                                                             |       | 1,716                                 |       | 1,675                                |       | 5,520 |   | 5,581 |   |
| Restructuring costs                                                                                  |       | —                                |       | 578                                  |       | — |   | 1,280 |   |
| Total operating expenses                                                                             |       | 9,557                                 |       | 10,143                               |       | 30,145 |   | 33,665 |   |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Operating income (loss)                                                                              |       | 791                                   |       | (3,478                               | )          | (2,590 | ) | (11,525 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Other income (expense):                                                                              |       |                                  |       |                                 |       |   |   |   |   |
| Interest income                                                                                      |       | 1                                     |       | 17                                   |       | 12 |   | 33 |   |
| Interest expense                                                                                     |       | (625                                  | )          | (779                                 | )          | (2,268 | ) | (2,097 | ) |
| Other                                                                                                |       | (769                                  | )          | 1,150                                |       | (657 | ) | 1,336 |   |
| Total other income (expense)                                                                         |       | (1,393                                | )          | 388                                  |       | (2,913 | ) | (728 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Loss before income taxes and discontinued  operations                                                |       | (602                                  | )          | (3,090                               | )          | (5,503 | ) | (12,253 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Provision (benefit) for income taxes                                                                 |       | 1                                     |       | (293                                 | )          | 11 |   | (637 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Loss from continuing operations                                                                      |       | (603                                  | )          | (2,797                               | )          | (5,514 | ) | (11,616 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Loss from discontinued operations, net of  income tax expense of $0, $363, $0 and $796, respectively |       | —                                |       | (507                                 | )          | — |   | (4,334 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Net loss                                                                                             |       | $                                     | (603       | )                                    | $          | (3,304 | ) | $ | (5,514 | ) | $ | (15,950 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Basic and diluted net loss per share:                                                                |       |                                  |       |                                 |       |   |   |   |   |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Net loss from continuing operations                                                                  |       | $                                     | (0.03      | )                                    | $          | (0.13 | ) | $ | (0.26 | ) | $ | (0.60 | ) |
| Net loss from discontinued operations                                                                |       | —                                |       | (0.03                                | )          | — |   | (0.22 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Basic and diluted net loss per share                                                                 |       | $                                     | (0.03      | )                                    | $          | (0.16 | ) | $ | (0.26 | ) | $ | (0.82 | ) |
|                                                                                                 |       |                                  |       |                                 |       |   |   |   |   |
| Shares used in computing basic and diluted net  loss per share                                       |       | 22,482                                |       | 20,891                               |       | 21,425 |   | 19,555 |   |

 

*See accompanying Notes to CondensedConsolidated Financial Statements.*

 

4

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**LOUD TECHNOLOGIES INC.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASHFLOWS**

**(Unaudited)**

 
| ** **                                                                                 | ** ** | **Nine months ended  September 30,** | ** ** |
|--------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                 | ** ** | **2004**                             | ** ** | **2003** | ** ** |
| ** **                                                                                 | ** ** | **(In thousands)**                   | ** ** |
| **Operating activities**                                                                   | ** ** | ** **                           | ** ** | ** ** | ** ** |
| Net loss                                                                                   |       | $                                    | (5,514     | ) | $ | (15,950 | ) |
| Adjustments to reconcile net loss to net  cash provided by (used in) operating activities: |       |                                 |       |   |   |
| Depreciation and amortization                                                              |       | 2,374                                |       | 6,064 |   |
| Non-cash interest expense                                                                  |       | 88                                   |       | — |   |
| (Gain) loss on asset dispositions                                                          |       | (225                                 | )          | 117 |   |
| Deferred stock compensation                                                                |       | 44                                   |       | 135 |   |
| Loss on conversion of debt to equity                                                       |       | 558                                  |       | — |   |
| Deferred income taxes                                                                      |       | —                               |       | 85 |   |
| Gain on settlement of liabilities of  unconsolidated affiliate                             |       | —                               |       | (1,268 | ) |
| Changes in operating assets and  liabilities:                                              |       |                                 |       |   |   |
| Accounts receivable                                                                        |       | (963                                 | )          | 3,820 |   |
| Inventories                                                                                |       | 2,680                                |       | 15,358 |   |
| Prepaid expenses and other current assets                                                  |       | (1,060                               | )          | 399 |   |
| Other assets                                                                               |       | 346                                  |       | 811 |   |
| Accounts payable and accrued liabilities                                                   |       | 4,309                                |       | 405 |   |
| Income taxes payable                                                                       |       | (48                                  | )          | — |   |
| Other long term liabilities                                                                |       | (30                                  | )          | (54 | ) |
| Net cash provided by operating activities                                                  |       | 2,559                                |       | 9,922 |   |
|                                                                                       |       |                                 |       |   |   |
| **Investing activities**                                                                   | ** ** | ** **                           | ** ** | ** ** | ** ** |
| Purchases of property and equipment                                                        |       | (1,826                               | )          | (1,357 | ) |
| Proceeds from sales of property and  equipment                                             |       | 823                                  |       | — |   |
| Net cash used in investing activities                                                      |       | (1,003                               | )          | (1,357 | ) |
|                                                                                       |       |                                 |       |   |   |
| **Financing activities**                                                                   | ** ** | ** **                           | ** ** | ** ** | ** ** |
| Proceeds from sale of stock and stock  options                                             |       | —                               |       | 3,619 |   |
| Proceeds from long-term debt and warrants                                                  |       | —                               |       | 17,500 |   |
| Payments on long-term debt                                                                 |       | (1,640                               | )          | (16,665 | ) |
| Proceeds from new short-term borrowing                                                     |       | —                               |       | 9,152 |   |
| Payments on debt conversion costs                                                          |       | (50                                  | )          | — |   |
| Net borrowings (payments) on short-term  borrowings                                        |       | (310                                 | )          | (25,022 | ) |
| Net proceeds from exercise of stock options                                                |       | —                               |       | 1 |   |
| Net cash used in financing activities                                                      |       | (2,000                               | )          | (11,415 | ) |
|                                                                                       |       |                                 |       |   |   |
| Effect of exchange rate changes on cash                                                    |       | —                               |       | 213 |   |
|                                                                                       |       |                                 |       |   |   |
| Net decrease in cash and cash equivalents                                                  |       | (444                                 | )          | (2,637 | ) |
|                                                                                       |       |                                 |       |   |   |
| Cash and cash equivalents at beginning of  period                                          |       | 757                                  |       | 3,062 |   |
| Cash and cash equivalents at end of period                                                 |       | $                                    | 313        |   | $ | 425 |   |
|                                                                                       |       |                                 |       |   |   |
| **Supplemental schedule of noncash financing  activities**                                 |       |                                 |       |   |   |
| Conversion of note payable and accrued  interest to equity                                 |       | $                                    | 4,436      |   | $ | — |   |
|                                                                                       |       |                                 |       |   |   |
| Accrued interest converted to note payable                                                 |       | $                                    | 912        |   | $ | — |   |

 

*See accompanying Notes to Condensed ConsolidatedFinancial Statements.*

 

5

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**LOUD TECHNOLOGIES INC.**

**CONDENSED CONSOLIDATED STATEMENTS OFSHAREHOLDERS’ EQUITY**

**Nine months ended September 30, 2004**

 

*(In thousands)*

 
| ** **                                              | ** ** | **Common Stock** | ** ** | **Accumulated** | ** ** | ** **  | ** ** |
|---------------------------------------------------------|------------|------------------|------------|-----------------|------------|-------------|------------|
| ** **                                              | ** ** | **Shares**       | ** ** | **Amount**      | ** ** | **Deficit** | ** ** | **Total** | ** ** |
|                                                    |       |             |       |            |       |        |       |   |   |
| Balance at December 31, 2003                            |       | 19,608           |       | $               | 33,999     |        | $          | (33,167 | ) | $ | 832 |   |
| Offering costs related to February 2003  stock offering |       | —           |       | (115            | )          | —      |       | (115 | ) |
| Amortization of deferred stock compensation             |       | —           |       | 44              |       | —      |       | 44 |   |
| Conversion of debt to equity                            |       | 2,480            |       | 4,836           |       | —      |       | 4,836 |   |
| Exercise of stock options                               |       | 17               |       | —          |       | —      |       | — |   |
| Net loss                                                |       | —           |       | —          |       | (5,514      | )          | (5,514 | ) |
| Balance at September 30, 2004                           |       | 22,105           |       | $               | 38,764     |        | $          | (38,681 | ) | $ | 83 |   |

 

*See accompanying Notes to Condensed ConsolidatedFinancial Statements.*

 

6

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**LOUD TECHNOLOGIES INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIALSTATEMENTS**

**September 30, 2004**

**(Unaudited)**

 

**1.             Descriptionof Business**

 

We develop, manufacture and sell high-quality, affordable digital andanalog audio mixers, speakers, amplifiers and other professional audioequipment on a worldwide basis. Our products are used by professionalmusicians, sound installation contractors and broadcast professionals in sound recordings,live presentations systems and installed sound systems. We have our primaryoperations in the United States with smaller operations in the United Kingdom,Canada, China and Japan.

 

**2.****             Summary of Significant Accounting Policies**

 

**Basis of Presentation**

 

The accompanying unaudited condensed consolidated financial statementshave been prepared by LOUD Technologies Inc. (“LOUD” or the “Company”) inaccordance with accounting principles generally accepted in the United Statesof America for interim financial statements and include the accounts of theCompany and its subsidiaries. They do not include all of the information anddisclosures required by generally accepted accounting principles for completefinancial statements and should be read in conjunction with the financialstatements included in our Annual Report on Form 10-K for the year endedDecember 31, 2003. In our opinion, all normal recurring adjustments necessaryfor the fair presentation of the results of the interim periods are reflectedherein. Operating results for the three or nine-month periods ended September30, 2004, are not necessarily indicative of future financial results.

 

##### **RevenueRecognition**

 

Revenues from sales of products, net of sales discounts, returns andallowances, are generally recognized upon shipment under an agreement with acustomer when risk of loss has passed to the customer, all significantcontractual obligations have been satisfied, the fee is fixed or determinableand collection of the resulting receivable is considered probable. Products aregenerally shipped “FOB shipping point” with no right of return. Sales withcontingencies, such as rights of return, rotation rights, conditionalacceptance provisions and price protection, are rare and insignificant and aredeferred until the contingencies have been satisfied or the contingency periodhas lapsed. We generally warrant our products against defects in materials andworkmanship for periods of between one and six years. The estimated cost ofwarranty obligations, sales returns and other allowances are recognized at thetime of revenue recognition based on contract terms and prior claimsexperience. A provision for future warranty costs is recorded at the time ofsale of products.

 

**Stock-Based Compensation**

 

Stock-based employee compensation plans are accounted for using theintrinsic-value method prescribed in Accounting Principles Board OpinionNo. 25,*Accounting for Stock Issued toEmployees*, and related interpretations including FAS InterpretationNo. 44,*Accounting for Certain TransactionsInvolving Stock Compensation, an Interpretation of APB Opinion No. 25*.Under this method, compensation expense is recorded on the date of grant onlyif the current market price of the underlying stock exceeded the exercise priceor if options were issued to non-employees.

 

We have elected to apply the disclosure-only provisions of FASNo. 123,*Accounting for Stock-BasedCompensation* as amended by FAS No. 148,*Accounting for Stock-Based Compensation —Transition and Disclosure*,*anamendment of FAS No. 123.*

 

FAS No. 123, as amended, permits companies to recognize, asexpense over the vesting period, the fair value of all stock-based awards onthe date of grant. The Black-Scholes option valuation model was developed foruse in estimating the fair value of traded options, which have no vestingrestrictions and are fully transferable. Because our stock-based compensationplans have characteristics significantly different from those of traded optionsand because changes in the subjective input assumptions can materially affectthe fair value estimate, management believes that the existing option valuationmodels do not necessarily

 

7

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provide a reliable single measure of the fair value of awards from theplan. Therefore, as permitted, we apply the existing accounting rules under APBNo. 25 and provide pro forma net loss and pro forma loss per sharedisclosures for stock-based awards made as if the fair value method defined inFAS No. 123, as amended, had been applied.

 

The following table summarizes relevant information as to the reportedamounts under the Company’s intrinsic value method of accounting for stockawards, with supplemental information as if the fair value recognitionprovisions of FAS No. 123, as amended, had been applied:

 
| ** **                                                                        | ** ** | **Three months ended  September 30,**     | ** ** | **Nine months ended  September 30,** | ** ** |
|-----------------------------------------------------------------------------------|------------|-------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                        | ** ** | **2004**                                  | ** ** | **2003**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                                        | ** ** | **(in thousands, except per share data)** | ** ** |
|                                                                              |       |                                      |       |                                 |       |   |   |   |   |
| Net loss:                                                                         |       |                                      |       |                                 |       |   |   |   |   |
| As reported                                                                       |       | $                                         | (603       | )                                    | $          | (3,304 | ) | $ | (5,514 | ) | $ | (15,950 | ) |
| Add: Stock-based employee compensation  included in reported net loss             |       | —                                    |       | —                               |       | — |   | 67 |   |
| Less: Stock-based employee compensation  determined under fair-value based method |       | (220                                      | )          | (304                                 | )          | (623 | ) | (937 | ) |
| Pro forma                                                                         |       | $                                         | (823       | )                                    | $          | (3,608 | ) | $ | (6,137 | ) | $ | (16,820 | ) |
|                                                                              |       |                                      |       |                                 |       |   |   |   |   |
| Basic and diluted net loss per share:                                             |       |                                      |       |                                 |       |   |   |   |   |
| As reported                                                                       |       | $                                         | (0.03      | )                                    | $          | (0.16 | ) | $ | (0.26 | ) | $ | (0.82 | ) |
| Pro forma                                                                         |       | $                                         | (0.04      | )                                    | $          | (0.17 | ) | $ | (0.29 | ) | $ | (0.86 | ) |

 

**Concentration of Credit and Supply Risk**

 

We sell products on a worldwide basis and a significant portion of ouraccounts receivable are due from customers outside of the U.S.  Where we are exposed to material credit risk,we generally require letters of credit, advance payments, or carry foreigncredit insurance.  No individual countryoutside of the U.S. accounted for more than 10% of net sales from continuingoperations in any of the periods presented. Sales to U.S. customers are generally on open credit terms.  In the U.S., we primarily sell our productsthrough third-party resellers and experience individually significant annualsales volumes with major resellers.  Forthe three month periods ended September 30, 2004 and 2003, we had sales to onecustomer of $4.5 million and $4.4 million, or 14.5% and 13.1%, respectively ofconsolidated net sales from continuing operations.  For the nine month periods ended September30, 2004 and 2003, we had sales to the same customer of $10.6 million and $11.7million, or 12.1% and 11.5%, respectively, of consolidated net sales fromcontinuing operations.

 

Many of our products are currently being manufactured exclusively bycontract manufacturers on our behalf. During the three and nine month periods ended September 30, 2004, netsales of products manufactured by one manufacturer were $10.1 million and $24.7million, or 32.6% and 28.3%, respectively, of consolidated net sales, net salesfrom another manufacturer were $5.6 million and $9.5 million, or 18.1% and10.9%, respectively, of consolidated net sales, and net sales from yet anothermanufacturer were $2.9 million and $9.0 million, or 9.4% and 10.3%,respectively, of consolidated net sales.

 

**3.             DiscontinuedOperations**

 

On December 10, 2003, Mackie Designs (Netherlands) B.V. (“MackieNetherlands”), a wholly-owned subsidiary of the Company, sold all of the sharesof Mackie Designs (Italy) S.p.A. (“Mackie Italy”), a wholly-owned subsidiary ofMackie Netherlands, to Knight Italia S.p.A. (“Knight Italia”) for a nominalamount, pursuant to an Agreement by and among the Company, Mackie Netherlandsand Knight Italia.

 

Concurrent with the sale, Mackie Italy was placed into a ConcordatoPreventivo, an Italian form of court-supervised liquidation (the “Concordato”). Knight Italia has made an irrevocable offer to the court to lease or purchasethe former Mackie Italy factory in Reggio Emilia, Italy, the RCF brand name andsignificant other Italian-based assets.  In December 2003, the Companyfulfilled its obligation under the Concordato filing to purchase approximately$620,000 of finished inventory.  The Concordato filing is subject toapproval by an Italian court.  In the event the court denies theConcordato, Italian law may permit actions to be taken against the Companyincluding the demand of a refund of any payments made by Mackie Italy to the

 

8

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Company in the prior two years. We believe this possibility to beremote.

 

The Company, its subsidiaries, the Company’s directors or officers, orany associates of its directors or officers do not have any materialrelationship with Knight Italia, other than Knight Italia being a supplier ofcomponents and equipment.

 

The disposition of these operations is accounted for as a discontinuedoperation.  At September 30, 2004 and December 31, 2003, we do not showany assets or liabilities of this entity on our consolidated balancesheet.  We have reclassified and condensed the results of discontinuedoperations on our consolidated statements of operations for three and ninemonths ended September 30, 2003.  Cash flows from these operations areincluded in our consolidated statements of cash flows for the nine months endedSeptember 30, 2003.  Summarized operating results of the discontinuedoperations for the three and nine months ended September 30, 2003 are asfollows:

 
| ** **                        | ** ** | **Three Months  Ended  September 30,  2003** | ** ** | **Nine Months  Ended  September 30,  2003** | ** ** |
|-----------------------------------|------------|----------------------------------------------|------------|---------------------------------------------|------------|
| ** **                        | ** ** | **(in thousands)**                           | ** ** |
| Revenues                          |       | $                                            | 7,000      |                                        | $          | 22,549 |   |
| Gross profit                      |       | 2,470                                        |       | 4,440                                       |       |
| Operating income (loss)           |       | 176                                          |       | (2,597                                      | )          |
| Loss before income taxes          |       | (144                                         | )          | (3,538                                      | )          |
| Income tax expense                |       | 363                                          |       | 796                                         |       |
| Loss from discontinued operations |       | (507                                         | )          | (4,334                                      | )          |
|                                   |            |                                              |            |                                             |            |  |  |

 

Interest was allocated to discontinued operations based on actual debtheld by Mackie Italy.

 

At September 30, 2004 our payable to Mackie Italy was $8.6million.  Payments totaling $0.6 millionwere made in April and June of 2004 and another payment of $0.5 million wasmade in October 2004.  The timing offuture payments relating to this payable is currently under negotiation.

 

**4.****             Net Loss Per Share**

 

The following table sets forth the computation of basic and diluted netloss per share for the three and nine months ended September 30, 2004 and2003. Stock options to purchase 3,680,000 and 3,661,000 shares in 2004 and2003, respectively, were excluded from the calculation of diluted per shareamounts because they are antidilutive. The warrants to purchase 1.2 millionshares of common stock issued in connection with the debt to Sun Mackie LLC, anaffiliate of Sun Capital Partners Inc., a private investment firm, (see Note 8)and 66,666 vested stock options at an exercise price of $0.01 are consideredoutstanding common shares and are included in the denominator for computationof basic and diluted net loss per share.

 

9

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| ** **                                                                           | ** ** | **Three months ended  September 30,**     | ** ** | **Nine months ended  September 30,** | ** ** |
|--------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                           | ** ** | **2004**                                  | ** ** | **2003**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                                           | ** ** | **(in thousands, except per share data)** | ** ** |
| Numerator:                                                                           |       |                                      |       |                                 |       |   |   |   |   |
| Net loss from continuing operations                                                  |       | $                                         | (603       | )                                    | $          | (2,797 | ) | $ | (5,514 | ) | $ | (11,616 | ) |
| Net loss from discontinued operations                                                |       | —                                    |       | (507                                 | )          | — |   | (4,334 | ) |
| Numerator for basic and diluted net loss  per share                                  |       | $                                         | (603       | )                                    | $          | (3,304 | ) | $ | (5,514 | ) | $ | (15,950 | ) |
|                                                                                 |       |                                      |       |                                 |       |   |   |   |   |
| Denominator:                                                                         |       |                                      |       |                                 |       |   |   |   |   |
| Weighted average shares outstanding                                                  |       | 21,215                                    |       | 20,891                               |       | 20,152 |   | 19,555 |   |
| Dilutive potential common shares from  outstanding stock option and warrants         |       | 1,267                                     |       | —                               |       | 1,273 |   | — |   |
| Denominator for basic and diluted net loss  per share – weighted average shares |       | 22,482                                    |       | 20,891                               |       | 21,425 |   | 19,555 |   |
|                                                                                 |       |                                      |       |                                 |       |   |   |   |   |
| Basic and diluted net loss per share:                                                |       |                                      |       |                                 |       |   |   |   |   |
| Continuing operations                                                                |       | $                                         | (0.03      | )                                    | $          | (0.13 | ) | $ | (0.26 | ) | $ | (0.60 | ) |
| Discontinued operations                                                              |       | —                                    |       | (0.03                                | )          | — |   | $ | (0.22 | ) |
| Basic and diluted net loss per share                                                 |       | $                                         | (0.03      | )                                    | $          | (0.16 | ) | $ | (0.26 | ) | $ | (0.82 | ) |

 

**5.****             Inventories**

 

Inventories consist of the following:

 
| ** **      | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|-----------------|------------|-------------------------|------------|------------------------|------------|
| ** **      | ** ** | **(in thousands)**      | ** ** |
| * *        | * *   | * *                | * *   | * *               | * *   |
| Raw materials   |       | $                       | 3,699      |                   | $          | 4,383 |   |
| Work in process |       | 700                     |       | 543                    |       |
| Finished goods  |       | 11,851                  |       | 14,004                 |       |
|            |       | $                       | 16,250     |                   | $          | 18,930 |   |

 

**6.****             Intangible Assets**

 

Intangible assets consist of the following:

 
| ** **                    | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|-------------------------------|------------|-------------------------|------------|------------------------|------------|
| ** **                    | ** ** | **(in thousands)**      | ** ** |
| * *                      | * *   | * *                | * *   | * *               | * *   |
| Developed technology          |       | $                       | 5,200      |                   | $          | 5,200 |   |
| Trademark                     |       | 1,380                   |       | 1,380                  |       |
| Covenant not to compete       |       | 285                     |       | 285                    |       |
|                          |       | 6,865                   |       | 6,865                  | )          |
| Less accumulated amortization |       | (1,631                  | )          | (1,313                 | )          |
|                          |       | $                       | 5,234      |                   | $          | 5,552 |   |

 

10

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**7.****             Restructuring costs**

 

During 2003, management approved and implemented a restructuring planin order to adjust operations.  The major action of the restructuring planinvolved the reduction of workforce from the closure of certain manufacturingfacilities. We incurred $1.6 million in restructuring expenses, of which $0.6million and $1.3 million relate to the three and nine months ended September 30,2003, respectively, primarily representing employee severance and related costsfor approximately 210 displaced employees.  The restructuring accrual issummarized as follows:

 
| **Restructuring  Accrual at  December 31, 2003** | ** ** | **Amount Paid** | ** ** | **Restructuring  Accrual at  September 30, 2004** | ** ** |
|--------------------------------------------------|------------|-----------------|------------|---------------------------------------------------|------------|
|                                             |       |            |       |                                              |       |
| $                                                | 304,000    |            | $          | (243,000                                          | )          | $ | 61,000 |   |
|                                                  |            |                 |            |                                                   |            |  |  |  |

 

We expect to pay the remaining liability by December 31, 2004.

 

**8.             Financing**

 

In April, August and October 2004, we executed various Loan Amendmentand Waiver agreements on our line of credit, U.S. term loan and U.S.subordinated note payable, waiving penalties for prior noncompliance, amendingthe financial covenants and adjusting pricing and borrowing availability. Management believes the Company will remain in compliance with the new covenantsthrough December 31, 2004.

 

In April 2004, we received a commitment letter from Sun CapitalPartners III QP, LP, an affiliate of Sun Capital Partners, Inc., to provide upto $2.0 million, in the aggregate, in debt or equity financing to the Companythrough December 31, 2004 if necessary to enable the Company to meet itsobligations as they become due.  If the financing is in the form of debtfinancing, it is expected that the terms will be generally similar to the termsof the existing subordinated or senior debt arrangements, adjusted as necessaryfor market conditions.  If the financing is in the form of equityfinancing, it is expected the terms will be at fair market value based on thecurrent market conditions.

 

**(a)****           Short-term borrowings**

 

At September 30, 2004, we had a revolving line of credit to borrow upto $25.0 million limited to a percentage of eligible collateral, which expiresMarch 31, 2006.  Interest is due monthlyand is based on the bank’s prime rate or LIBOR plus a specified margin. At September 30, 2004, the average interest rate was 5.25%.  Thisrevolving line of credit is secured by substantially all U.S. assets andaccounts receivable of our U.K. subsidiary.  At September 30, 2004, we hadan outstanding balance on our line of credit of $7.6 million and had theability to borrow an additional $5.4 million.

 

**(b)****           Long-term debt**

 

At September 30, 2004 and December 31, 2003, our long-term debtconsisted of the following:

 
| ** **                                               | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|----------------------------------------------------------|------------|-------------------------|------------|------------------------|------------|
| ** **                                               | ** ** | **(in thousands)**      | ** ** |
|                                                     |       |                    |       |                   |       |
| U.S. term loans                                          |       | $                       | 610        |                   | $          | 2,250 |   |
| U.S. subordinated note payable                           |       | 11,322                  |       | 11,000                 |       |
| Note payable to related party (face value  $4.0 million) |       | —                  |       | 3,512                  |       |
|                                                     |       | 11,932                  |       | 16,762                 |       |
| Less: current portion                                    |       | (300                    | )          | (500                   | )          |
| Long-term portion of debt                                |       | $                       | 11,632     |                   | $          | 16,262 |   |

 

11

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*U.S. term loan*

 

Our U.S. term loan was amended in August 2004 to reduce the monthlypayments from $42,000 to $25,000, until paid in full.  In the first halfof 2004, in addition to our monthly payments, we paid $1.3 million on this loanfrom sales of equipment secured by the loan due to our closure of manufacturingfacilities in Woodinville, Washington.  This loan and the line of creditheld by the same financial institution, are both secured by substantially allof the assets of the Company, and are both senior to other long-termdebt.  The term loan bears interest at the bank’s prime rate plus aspecified margin.  This rate was 5.50% at September 30, 2004.

 

*U.S. subordinated note payable*

 

The U.S. subordinated note payable accrues interest at 10% perannum.  Minimum interest payments are made monthly at 8%, with theremaining 2% paid if certain available cash flows are met; otherwise, the 2% isadded back to principal.  During the ninemonth period ended September 30, 2004, we added $322,000 to the principalbalance of this note for these cumulative interest amounts.  Principal payments on this note begin in May2005, and will be based on our 2004 earnings before interest, taxes, depreciationand amortization, less cash taxes paid, certain capital expenditures andcertain debt repayments (adjusted EBITDA).  If the 2004 adjusted EBITDA ispositive, we would make payments during the twelve months beginning May 2005 of50% of adjusted EBITDA up to $1.7 million; no payments would be made ifadjusted EBITDA and line of credit availability amounts fail to meet a certainthreshold.  The principal is due in May 2006.

 

*Note payable to related party*

 

In March 2003, our primary shareholder, Sun Mackie LLC (“Sun Mackie”)provided $4.0 million for a note payable and warrants to purchase 1.2 millionshares of common stock at $0.01 per share.  We valued the warrants issuedin this transaction at $0.6 million and the note payable at $3.4 million. We had been increasing the value of the loan to its face value of $4.0 millionover its 4-year life through additional non-cash interest expense. Interest accrued at 15% of the face value, payable annually on June 30 if aspecified adjusted EBITDA of the prior year is achieved. As this threshold wasnot met, at March 31, 2004, the accrued interest of $0.6 million was added tothe principal balance.

 

In August 2004, we executed an Exchange Agreement whereby we exchangedour entire debt to Sun Mackie for 2,480,155 shares of common stock valued at$1.95 per share.  In August 2004, werecognized a loss on early extinguishment of debt with this transaction of$588,000 representing the difference in the carrying value of the debt and thefair value of the common stock issued.

 

**9.****             Guarantees**

 

In November 2002, the FASB issued FIN No. 45,*Guarantor’s Accounting and Disclosure Requirementsfor Guarantees, Including Indirect Guarantees of Indebtedness of Others*.FIN No. 45 provides expanded accounting guidance surrounding liabilityrecognition and disclosure requirements related to guarantees, as defined bythis Interpretation. We adopted the disclosure provision requirements of FINNo. 45 during the year ended December 31, 2002. In the ordinarycourse of business, we are not subject to potential obligations underguarantees that fall within the scope of FIN No. 45 except for standardindemnification and warranty provisions and give rise only to the disclosurerequirements prescribed by FIN No. 45.

 

Indemnification and warranty provisions contained within our salesagreements are generally consistent with those prevalent in our industry. Theduration of product warranties is generally one to six years following deliveryof products. We provide standard warranties with the sale of our products. Theestimated cost of providing the product warranty is recorded at the timerevenue is recognized.  Warranty costs represent those associated with therepair or replacement of product that fails to meet our standard warrantyagainst defects in material and workmanship. Should actual product failurerates differ from our estimates, revisions to our estimated accruals would berequired.

 

12

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The warranty liability is summarized as follows:

 
| ** **                   | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30,** | ** ** |
|------------------------------|------------|--------------------------------------|------------|-------------------------------------|------------|
| ** **                   | ** ** | **2004**                             | ** ** | **2003**                            | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                   | ** ** | **(in thousands)**                   | ** ** |
| Balance, beginning of period |       | $                                    | 978        |                                | $          | 1,503 |   | $ | 1,081 |   | $ | 1,525 |   |
| Charged to cost of sales     |       | 585                                  |       | 675                                 |       | 1,908 |   | 2,407 |   |
| Applied to liability         |       | (585                                 | )          | (718                                | )          | (2,011 | ) | (2,472 | ) |
| Balance, end of period       |       | $                                    | 978        |                                | $          | 1,460 |   | $ | 978 |   | $ | 1,460 |   |

 

**10.****          Contingencies**

 

We are also involved in various legal proceedings and claims that arisein the ordinary course of business. We currently believe that these matterswill not have a material adverse impact on our financial position, liquidity orresults of operations.

 

We sold our investment in our Italian subsidiary during 2003, which hasalso been placed in an Italian form of court-supervised liquidation.  In theevent the Italian court does not approve the liquidation plan, Italian law maypermit actions to be taken against the Company including demanding a refund ofany payments made to the Company in the prior two years.  We believe thispossibility to be remote.

 

**11.          Reclassifications**

 

Certain reclassifications have been made to the 2003 balances toconform with the 2004 presentation.

 

13

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**Item2.    Management’s Discussion and Analysisof Financial Condition and Results of Operations**

 

*The following discussion and analysis shouldbe read in conjunction with our financial statements included in our AnnualReport on Form 10-K for the year ended December 31, 2003. This discussioncontains certain “forward-looking statements” within the meaning of the PrivateSecurities Litigation Reform Act of 1995 that involve risks and uncertainties,such as statements of our plans, objectives, expectations and intentions.Actual results could differ materially from those discussed herein. Thecautionary statements made in this Quarterly Report on Form 10-Q and the AnnualReport on Form 10-K should be read as being applicable to all forward-lookingstatements wherever they appear. We undertake no obligation to publicly releaseany revisions to these forward-looking statements that may be required toreflect events or circumstances after the date hereof or to reflect theoccurrence of unanticipated events. Forward-looking statements include, withoutlimitation, any statement that may predict, forecast, indicate, or imply futureresults, performance, or achievements, and may contain the words “believe,” “anticipate,”“expect,” “estimate,” “project,” “will be,” “will continue,” “will likelyresult,” or words or phrases of similar meaning.*

 

**General**

 

LOUD Technologies Inc., a Washington corporation formed in 1988,engineers, manufactures and markets professional audio reproduction andrecording equipment and software under the brand names Mackie, TAPCO, SIA, EAWand EAW Commercial.

 

Our primary products include analog mixers, sound reinforcementspeakers, professional loudspeaker systems, installed paging and musicdistribution systems, preamplifiers, power amplifiers, and A/V software controlsurfaces, digital mixers, i/o devices and acoustic test and measurementsoftware.  These products are used in a variety of applications, includinghome and commercial recording studios, live performances and fixedinstallations of all sizes.

 

The reorganization of our Company to migrate the majority of ourproduction to outside manufacturing and reduce our manufacturing facilities inItaly and Washington State was executed to improve our cost structure,specifically product margins.  We havebegun to recognize the benefits of this outsourcing in the form of lowerproduct costs, as seen in our margin increase in the three months endedSeptember 30, 2004 over 2003 from 19.9% to 33.3% and for the nine months endedSeptember 30, 2004 over 2003 from 21.7% to 31.6%.

 

Over the last twelve months, we have experienced higher demand for ourproducts than the quantity of goods we have been able to obtain from our thirdparty manufacturers, causing our backlog to increase substantially.  We anticipate substantial reductions to our backlogof orders during the next few months as our manufacturers have increased theirproduction capacities to meet this demand. Due to these production increases and continued demand for our products,we expect our revenues for fourth quarter 2004 to be higher than revenues inthe third quarter 2004.  Additionally, wewill be recognizing higher margins in the fourth quarter 2004 from the sale ofthese products, primarily due to realizing reductions in product costs from ourmanufacturers.

 

**Critical Accounting Policies and Judgments**

 

Thepreparation of financial statements in conformity with general acceptedaccounting principles requires management to make estimates and assumptionsthat affect the amounts reported in the financial statements and accompanyingnotes. Actual results could differ from those estimates.

 

Webelieve there have been no significant changes in our critical accountingpolicies during the nine months ended September 30, 2004 as compared to whatwas previously disclosed in our Form 10-K for the year ended December 31, 2003.

 

**Estimates and Assumptions Related toFinancial Statements**

 

The discussion and analysis of our financial condition and results ofoperations is based upon our unaudited condensed consolidated financialstatements, which have been prepared in accordance with accounting principlesgenerally accepted in the United States. The preparation of these condensedconsolidated financial statements requires us to make estimates and judgmentsthat affect the reported amounts of assets, liabilities, revenue and expenses,and related disclosure of contingent assets and liabilities. On an on-goingbasis, we evaluate our estimates, including those affecting revenuerecognition, the allowance for doubtful accounts, inventory valuation,intangible assets, income taxes and general business contingencies. We

 

14

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base our estimates on historical experience and on various otherassumptions that we believe to be reasonable under the circumstances, theresults of which form our basis for making judgments about the carrying valuesof assets and liabilities that are not readily apparent from other sources.Actual results may differ from these estimates under different assumptions orconditions.

 

**Results of Operations**

 
| ** **                           | ** ** | **Three months ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|--------------------------------------|------------|---------------------------------------|------------|--------------------------------------|------------|
| ** **                           | ** ** | **2004**                              | ** ** | **2003**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
| Net sales                            |       | $                                     | 31,041     |                                 | $          | 33,457 |   | $ | 87,253 |   | $ | 101,856 |   |
| Gross profit                         |       | 10,348                                |       | 6,665                                |       | 27,555 |   | 22,140 |   |
|                                 |       |                                  |       |                                 |       |   |   |   |   |
| Selling, general and administrative  |       | 7,841                                 |       | 7,890                                |       | 24,625 |   | 26,804 |   |
| Research and development             |       | 1,716                                 |       | 1,675                                |       | 5,520 |   | 5,581 |   |
| Restructuring costs                  |       | —                                |       | 578                                  |       | — |   | 1,280 |   |
| Total operating expenses             |       | 9,557                                 |       | 10,143                               |       | 30,145 |   | 33,665 |   |
|                                 |       |                                  |       |                                 |       |   |   |   |   |
| Other income (expense)               |       | (1,393                                | )          | 388                                  |       | (2,913 | ) | (728 | ) |
| Provision (benefit) for income taxes |       | 1                                     |       | (293                                 | )          | 11 |   | (637 | ) |
| Loss from continuing operations      |       | (603                                  | )          | (2,797                               | )          | (5,514 | ) | (11,616 | ) |
| Loss from discontinued operations    |       | —                                |       | (507                                 | )          | — |   | (4,334 | ) |
| Net loss                             |       | (603                                  | )          | (3,304                               | )          | (5,514 | ) | (15,950 | ) |
|                                      |            |                                       |            |                                      |            |  |  |  |  |  |  |  |  |

 

***Three Months Ended September30, 2004 vs. Three Months Ended September 30, 2003***

 

*Net Sales*

 

Net sales from continuing operations decreased by 7.2% to $31.0 millionduring the three months ended September 30, 2004 from $33.5 million in thecomparable period in 2003.  The primary reason for the drop in revenueswas the closure of unprofitable operations in France and Germany in 2003, whichresulted in a $3.0 million reduction in revenues between comparable periods.

 

We anticipate revenues will increase over the next few quarters as weintroduce and ship new products.  Thesenew products will include introductions of more affordable product lines,entrance into the desktop recording line and feature-rich additions to our coreanalog mixer product lines. Orders placed but not shipped at the end of thisquarter were significantly higher than at September 30, 2003.  The bulk of these orders are for current outof stock products to be filled over the next two quarters.

 

*Gross Profit*

 

Gross profit increased to $10.3 million, or 33.3% of net sales, in thethree months ended September 30, 2004 from $6.7 million, or 20.0% of net sales,in the three months ended September 30, 2003.   The improvement ingross profit is due primarily to reduced product costs due to offshoremanufacturing, and charges taken in the third quarter of 2003 related to thewrite-down of excess and obsolete inventory of approximately $1.4 million.

 

As our contract manufacturers reduce prices due to efficiencies inproduction of our products, we anticipate seeing continued improvements togross profit throughout the remainder of 2004 and into the first half of 2005.

 

*Selling, General and Administrative*

 

Selling, general and administrative expenses decreased by $0.1 million,or 0.6%, to $7.8 million in the three months ended September 30, 2004 from $7.9million in the comparable period in 2003. Reductions to these expenses wereprimarily caused by costs related to employee layoffs or attrition in 2003,lower professional fees, depreciation and other equipment costs in 2004 offsetby an increase to our advertising and marketing costs in 2004.

 

15

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*Research and Development*

 

Research and development expenses were $1.7 million for each of thethree month periods ended September 30, 2004 and 2003.  We expect to continue to outsourcedevelopment of certain new products, which could cause these expenses to behigher in some quarters than others, depending on when these activitiesoccur.   We also expect to continue to invest in new products andimprovements to existing products, which will increase R&D costs.

 

*Restructuring Costs*

 

We incurred $578,000 in restructuring expenses during the third quarterin 2003.  These costs primarilyrepresented employee severance and related costs for displaced employeesassociated with the closing of our manufacturing facility in Woodinville,Washington, after production of goods had terminated.

 

*Other Income (Expense)*

 

Net other expense was $1.4 million for the three months ended September30, 2004 as compared to $0.4 million of net other income in the three monthsended September 30, 2003, an increase of $1.8 million.  This increase was primarily caused by a lossof $0.6 million on the conversion of Sun Mackie debt to equity in 2004 and again of $1.3 million recorded in 2003 relating to forgiveness of liabilitiesrelating to the bankruptcy of our Belgium subsidiary, Mackie DesignsEngineering Services B.V.B.A. Additionally, interest expense for the 2004 quarter was $0.6 million, adecrease of $0.2 million from the 2003 quarter due to the conversion of SunMackie debt to equity in August 2004.

 

*Income Taxes*

 

Income tax expense for the third quarter of 2004 was $1,000 compared toa benefit of $293,000 for the comparable period in 2003. Tax expense primarilyrelates to our non-U.S. subsidiaries. No tax benefit is recognized inconnection with our tax losses as recognition of such benefit depends on futureprofits, which are not assured. We calculate the current tax rate based uponour estimate of the tax rate to be achieved for the full year.  The tax benefit in 2003 primarily relates torefunds received in excess of expected refunds previously recorded with theprimary refund caused by the carry back of the 2002 NOL to prior years.

 

*Discontinued Operations*

 

Discontinued operations relates to our former subsidiary, Mackie Italy,which was sold in December 2003.  We incurred a loss on discontinuedoperations of $0.5 million during the three months ended September 30,2003.  During this period, the loss consisted of  $0.2 million income from operations offset by$0.3 million net other expense and $0.4 million in tax expense.

 

***Nine Months EndedSeptember 30, 2004 vs. Nine Months Ended September 30, 2003***

 

*Net Sales*

 

Net sales from continuing operations decreased by 14.3% to $87.3million during the nine months ended September 30, 2004 from $101.9 million inthe comparable period in 2003.  The primary reasons for the reduction inrevenues are the closure of unprofitable operations in France and Germany in2003, the discontinuation of low margin products, and our being out of stock ofcertain products, although we are starting to see production volumes increaseto meet customer demand.  These product shortages were due primarily tothe migration of certain product manufacturing from Woodinville, Washington andour former Italian subsidiary to contract manufacturers.

 

*Gross Profit*

 

Gross profit increased to $27.6 million, or 31.6% of net sales, in thenine months ended September 30, 2004 from $22.1 million, or 21.7% of net sales,in the nine months ended September 30, 2003.  The improvement ingross profit is due primarily to reduced product costs due to offshoremanufacturing and charges taken in the nine months ended September 30, 2003,related to the write-down of excess and obsolete inventory of approximately$4.7 million.

 

As our contract manufacturers reduce prices due to efficiencies inproduction of our products, we anticipate seeing continued improvements togross profit throughout the remainder of 2004 and into the first half of 2005.

 

16

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*Selling, General and Administrative*

 

Selling, general and administrative expenses decreased by $2.2 million,or 8.1%, to $24.6 million in the nine months ended September 30, 2004 from$26.8 million in the comparable period in 2003. The decline in these expensesis primarily due to reductions in the number of employees through layoffsor attrition during 2003.  Additionally, included in selling costs arecommissions paid to third parties, which were lower due to lower revenuesduring the nine months ended September 30, 2004, compared to the nine monthsended September 30, 2003.  Expenses in the first quarter of 2003 includedcertain one-time items related to the equity investment by Sun Mackie, LLCincluding run-off policies for directors’ and officers’ liability insurancetotaling approximately $500,000.

 

*Research and Development*

 

Research and development expenses decreased by $0.1 million, or 1.1%,to $5.5 million in the nine months ended September 30, 2004 from $5.6 millionin the nine months ended September 30, 2003. This decrease relates primarily toheadcount reductions made during 2003 and the closure of a research facility wehad in Belgium during the first nine months of 2003 offset by outsourcingcertain development products to third parties.  We expect to continue tooutsource development of certain new products, which could cause these expensesto be higher in some quarters than others, depending on when these activitiesoccur.   We also expect to continue to invest in new products andimprovements to existing products, which will increase R&D costs.

 

*Restructuring Costs*

 

During 2003, we incurred $1.6 million in restructuring expenses, ofwhich $1.3 million related to the nine months ended September 30,2003, primarily representing employee severance and related costs fordisplaced employees associated with the closing of our manufacturing facilityin Woodinville, Washington, after production of goods had terminated.

 

*Other Income (Expense)*

 

Net other expense was $2.9 million for the nine months ended September30, 2004 as compared to net other expense of $0.7 million for the nine monthsended September 30, 2003, an increase of $2.2 million or 300.1%. This increasewas primarily caused by a loss of $0.6 million on the conversion of Sun Mackiedebt to equity recorded in 2004, a gain of $1.3 million recorded in 2003relating to forgiveness of liabilities relating to the bankruptcy of ourBelgium subsidiary, Mackie Designs Engineering Services B.V.B.A. and increasesin the nine months ended September 30, 2004 over the comparable period in 2003of $0.3 million to foreign exchange loss and $0.2 million to interest expense.

 

*Income Taxes*

 

Income tax expense for the first nine months of 2004 was $11,000compared to a benefit of $637,000 for the comparable period in 2003. Taxexpense primarily relates to our non-U.S. subsidiaries. No tax benefit isrecognized in connection with our tax losses as recognition of such benefitdepends on future profits, which are not assured. We calculate the current taxrate based upon our estimate of the tax rate to be achieved for the fullyear.  The tax benefit in 2003 primarilyrelates to refunds received in excess of expected refunds previously recorded withthe primary refund caused by the carry back of the 2002 NOL to prior years.

 

*Discontinued Operations*

 

Discontinued operations relates to our former subsidiary, MackieDesigns Italy, which was sold in December 2003.  We incurred a loss ondiscontinued operations of $4.3 million during the nine months ended September30, 2003.  During this period, the loss consisted of a $2.6 million lossfrom operations, $0.9 million net other expense and $0.8 million in taxexpense.

 

**Liquidity and Capital Resources**

 

On August 3, 2004, we entered into an Exchange Agreement, whereby SunMackie converted its subordinated debt and interest totaling $4.4 million into2,480,155 shares of common stock.  Thistransaction will reduce our interest expenses by approximately $0.2 million perquarter.

 

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In August 2004, we executed a Loan Amendment on our line of creditincreasing the amount of our available borrowings by $1.0 million.  Additionally, we reduced our maximumborrowing from $26.0 million to $25.0 million. This agreement also reduced the payments due on our term loan from$42,000 to $25,000 per month.

 

In April 2004, we received a commitment letter from Sun CapitalPartners III QP, LP, an affiliate of Sun Capital Partners, Inc., to provide upto $2.0 million, in the aggregate, in debt or equity financing to the Companythrough December 31, 2004, if necessary to enable the Company to meet itsobligations as they become due.  If the financing is in the form of debtfinancing, it is expected that the terms will be generally similar to the termsof the existing subordinated or senior debt arrangements, adjusted as necessaryfor market conditions.  If the financing is in the form of equityfinancing, it is expected the terms will be at fair value based on the currentmarket conditions.

 

In April, August and October 2004, we executed various Loan Amendmentand Waiver agreements on our line of credit, U.S. term loan and U.S.subordinated note payable, waiving penalties for prior noncompliance, amendingthe financial covenants and adjusting pricing and borrowing availability. Management believes the Company will remain in compliance with the newcovenants through December 31, 2004.

 

As of September 30, 2004, we had cash and cash equivalents of $313,000and total current portion of long-term debt and short-term borrowings of $7.9million.  We had excess availability on our line of credit of $5.4 millionat September 30, 2004.

 

*Net Cash from Operating Activities*

 

Cash provided by operating activities was $2.6 million in the ninemonths ended September 30, 2004 and $9.9 million for the comparable period in2003. Net cash provided by operating activities in the first nine months of2004 was primarily attributable to a decrease in inventories of $2.7 million, adecrease in other assets of $0.3 million and an increase to accounts payableand accrued liabilities of $4.3 million offset by an increase in accountsreceivable of $1.0 million and an increase to prepaid expenses and othercurrent assets of $1.1 million. In the first nine months of 2003, cash providedby operating activities was primarily attributable to a decrease in inventoriesof $15.4 million, a decrease in accounts receivable of $3.8 million and adecrease to prepaid expenses and other assets of $1.2 million.  During thenext twelve months, we anticipate growing our inventory levels and accountsreceivable as revenues and product availability increase. These working capitalneeds will be partially offset by increases to accounts payable and increasedborrowings on our line of credit.

 

*Net Cash Used in Investing Activities*

 

Cash used in investing activities was $1.0 million for the first ninemonths of 2004 and $1.4 million for the first nine months of 2003. The cashflows used in investing activities in 2004 consisted primarily of purchases ofcapital expenditures for tooling used in manufacturing by our contractmanufacturers offset by proceeds from the sale of manufacturingequipment.  Cash used in investing activities in the first nine months of2003 primarily consisted of purchases of manufacturing equipment and officeequipment.

 

*Net Cash Used in Financing Activities*

 

Cash used in financing activities was $2.0 million during the firstnine months of 2004 and $11.4 million during the first nine months of2003.  Financing activities during the nine months ended September 30,2004 relate primarily to payments on our term loan of $1.6 million and netpayments on our line of credit of $0.3 million.  Financing activities inthe first nine months of 2003 included $3.5 million in net proceeds from thesale of stock to Sun Mackie LLC, an affiliate of Sun Capital Partners, Inc., aprivate investment firm, $17.5 million of borrowings on new term loans andnotes payable, offset by $16.7 million in repayments of debt and $15.9 millionin net repayments on lines of credit and short-term borrowings.

 

*Payments and Proceeds from Long-term Debt,Line of Credit and Other Short-term Borrowings*

 

In addition to its equity investment, Sun Mackie provided $4.0 millionin debt financing in March 2003.  Interest accrued at an annual rate of15%.  In addition to the loan from Sun Mackie, we issued warrants topurchase an additional 1.2 million common shares at an exercise price of $0.01per share. On August 3, 2004, we entered into an Exchange Agreement, wherebySun Mackie converted its debt and interest totaling $4.4 million into 2,480,155shares of common stock.

 

In connection with the March 2003 agreement with Sun Mackie LLC, werefinanced all of our debt obligations, paying down a

 

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net of $4.3 million.  We entered into a $2.5 million term loan anda line of credit providing up to $25.0 million with a new U.S. lender. Availability under this line of credit is limited to eligible collateral;initial funding was $11.6 million. Principal payments on the term loan are duein equal monthly payments over five years, beginning in July 2003, with aballoon payment due at termination in March 2006. Interest is due monthlycalculated at the bank’s prime rate plus 0.75% or Eurodollar Rate plus 3.5%.Both the revolving line of credit and term loan are secured by all U.S. basedassets including, but not limited to, accounts receivable, inventory, fixedassets, intangible assets and patents. Additionally, a portion of the revolvingline of credit is provided in the U.K. and is secured by accounts receivable ofLOUD Technologies (Europe) Plc.

 

Our previous U.S. lender has provided a loan totaling $11.0 million,which is subordinate to the Loan and Security Agreement with our new U.S.lender. Principal is due beginning in May 2005 based upon our 2004 earningsbefore interest, taxes, depreciation and amortization, less cash taxes paid,certain capital expenditures and certain debt repayments. Interest accrues at arate of 10% per annum and is paid subject to certain availability tests as wehave availability under the Loan and Security Agreement.

 

Under the terms of the line of credit and subordinated loan agreements,we are required to maintain certain financial ratios, such as a cumulativeEBITDA calculation. The agreement also provides, among other matters,restrictions on additional financing, dividends, mergers, acquisitions, and anannual capital expenditure limit.

 

We have taken various actions to improve results of operations andensure our ongoing ability to cover scheduled debt servicing payments,including headcount reductions and other cost containment measures. Over thelast two years, these measures included the following items:

 

•                  closing themanufacturing facility in Woodinville, Washington, in order to outsource themanufacturing of the majority of our products offshore;

•                  sale andliquidation of Mackie Italy;

•                  bankruptcy andclosure of Mackie Belgium;

•                  closure ofcertain international sales offices;

•                  layoffs acrossall areas, primarily manufacturing related;

•                  replacement ofdebt instruments with instruments with longer lives;

•                  reorganizationof our management team.

 

Our continued liquidity is dependent upon the following key factors:

 

*Ability to stay in compliance with debtcovenants*

 

We have entered into amendments to our line of credit and term loans inApril, August and October of 2004, which have revised debt covenants.  Thekey financial covenants are achievement of certain EBITDA targets for the termof the agreement or, during the period until December 31, 2004, maintenance ofa 60-day average of $2.5 million in excess borrowing availability.  The average excess borrowing availability atSeptember 30, 2004, for this measurement was $6.0 million. Additionally we arerequired to maintain $0.5 million availability at all times.

 

*Improvement in gross profit*

 

In order to achieve our projected results from operations, weanticipate realizing increases in our gross profit as both a percentage of netsales and in whole dollar amounts.  Meeting these targets is contingentupon successful transition of product manufacturing to more cost efficientsources offshore.  We believe the bulk of this transition has occurred andanticipate seeing continued efficiencies and improvements to gross profitthroughout the remainder of 2004 and into the first half of 2005.

 

*Commitments*

 

At September 30, 2004, we had the following material contractualcommitments related to operating leases for equipment facilities and materialobligations related to short-term and long-term debt arrangements, excludingour line of credit of $7.6 million:

 

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| ** **                    | ** ** | **Payments due by period** | ** ** |
|-------------------------------|------------|----------------------------|------------|
| ** **                    | ** ** | **Total**                  | ** ** | **Less than 1  year** | ** ** | **1-3 years** | ** ** |
| ** **                    | ** ** | **(in thousands)**         | ** ** |
|                          |       |                       |       |   |   |   |   |
| Operating Leases              |       | $                          | 4,553      |   | $ | 2,118 |   | $ | 2,435 |   |
| Short-term and Long-term Debt |       | 11,932                     |       | 300 |   | 11,632 |   |
| Total                         |       | $                          | 16,485     |   | $ | 2,418 |   | $ | 14,067 |   |

 

In August 2004, we executed a Loan Amendment on our line of credit thatreduced the monthly payment due on our term loan from $42,000 to $25,000, whichreduced the short-term portion of our debt to $300,000.

 

We believe we have adequate resources to meet our obligations as theycome due through December 31, 2004.

 

**Item3.    Quantitative and QualitativeDisclosures About Market Risk**

 

We are exposed to various market risks, including changes in foreigncurrency rates and interest rates. We may enter into various derivativetransactions to manage certain of these exposures; however, we did not have anyderivative financial instruments as of September 30, 2004.

 

At September 30, 2004, we had a variable rate line of credit with anoutstanding balance of $7.6 million. As such, changes in U.S. interest ratesaffect interest paid on debt and we are exposed to interest rate risk. For thequarter ended September 30, 2004, an increase in the average interest rate of10%, i.e. from 5.08% to 5.58%, would have resulted in an approximately $10,000increase in net loss before income taxes and discontinued operations.  Thefair value of such debt approximates the carrying amount on the consolidatedbalance sheet at September 30, 2004.

 

Our non-U.S. subsidiaries have functional currencies of the U.S. Dollarand consequently we translate non-monetary assets and liabilities at historicalrates and remeasure monetary assets and liabilities at exchange rates in effectat the balance sheet date. These subsidiaries are located in Western Europe andthe U.K. income and expense items are translated at the average exchange ratesprevailing during the period. A 10% decrease in the value of the U.S. Dollarcompared to the local currencies of our non U.S. subsidiaries, throughout thequarter ended September 30, 2004, would have resulted in an approximately$5,000 increase to the net loss before income taxes.

 

**Item4.    Controls and Procedures**

 

At September 30, 2004, we carried out an evaluation, under thesupervision and with the participation of our management, including our ChiefExecutive Officer and our Chief Financial Officer, of the effectiveness of our “disclosurecontrols and procedures” (as defined in Rules 13a-15(e) and 15d-15(e) of theSecurities Exchange Act of 1934).  Based on this evaluation, our ChiefExecutive Officer and our Chief Financial Officer have concluded that, as ofthe date of the evaluation, our disclosure controls and procedures wereadequate and effective to ensure that material information relating to theCompany would be known to them, particularly during the period in which thisreport was being prepared.

 

There have been no changes in our internal control over financialreporting (as defined in the Securities Exchange Act of 1934 Rules 13a-15(f)and 15d-15(f)) or in other factors that has materially affected, or is reasonablylikely to materially affect, our internal control over financial reportingduring our most recent fiscal quarter.

 

It should be noted that any system of controls, however well designedand operated, can provide only reasonable, and not absolute, assurance that theobjectives of the system will be met.  Inaddition, the design of any control system is based in part upon certainassumptions about the likelihood of future events.  Because of these and other inherentlimitations of control systems, there is only reasonable assurance that ourcontrols will succeed in achieving their stated goals under all potentialfuture conditions.

 

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**PARTII.                OTHER INFORMATION**

 

**Item1.    Legal Proceedings**

 

The Company is involved in various legal proceedings and claims thatarise in the ordinary course of business. The outcome of any such matters is currently not determinable.  Although the Company currently does notexpect that such legal proceedings and claims will have a material adverseeffect on the Company’s consolidated financial position or results ofoperations, an adverse result in one or more matters could negatively affectour results in the period in which they occur.

 

**Item2.    Unregistered Sales of Equity Securitiesand Use of Proceeds**

 

None.

 

**Item3.    Defaults upon Senior Securities**

 

None.

 

**Item4.    Submission of Matters to a Vote ofSecurity Holders**

 

None.

 

**Item5.    Other Information**

 

None.

 

**Item6.    Exhibits**

 

**ExhibitIndex**

 
| **Exhibit  Number** |   | **Document Description**                                                                                                                                                                                                                                                                                                                                                                                                                   |
|---------------------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 10.5.2              |   | Amendment  No. 3 and Waiver to Loan and Security Agreement, dated August 3, 2004, by and  among LOUD Technologies Inc. and LOUD Technologies (Europe) Plc, as  borrowers; Mackie Designs Inc., SIA Software Company, and Mackie Investment  Co. as guarantors; and Congress Financial Corporation, as agent for and on  behalf of the financial institutions which are parties thereto and the  parties to the Loan Agreement as lenders.  |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 10.5.3              |   | Amendment No. 4 and Waiver to Loan and Security Agreement, dated  October 25, 2004, by and among LOUD Technologies Inc. and LOUD Technologies  (Europe) Plc, as borrowers; Mackie Designs Inc., SIA Software Company, and  Mackie Investment Co. as guarantors; and Congress Financial Corporation, as  agent for and on behalf of the financial institutions which are parties  thereto and the parties to the Loan Agreement as lenders. |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 31.1                |   | Certification of Chief Executive Officer Pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                  |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 31.2                |   | Certification of Chief Financial Officer Pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                                                                  |
|                |   |                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 32.1                |   | Certification Pursuant to Section 18 U.S.C. Section 1350,  as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                                            |

 

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**SIGNATURES**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 

 
|                           | **LOUD Technologies Inc.** |
|--------------------------------|----------------------------|
|                           | (Registrant)               |
|                           |                       |   |
| Dated:  November 12, 2004 | By:                        | /s/ James T. Engen |
|                           |                       | James T. Engen |
|                           | * *                   | *President, Chief Executive Officer and**Director* |
|                           |                       |   |
| Dated:  November 12, 2004 | By:                        | /s/ Timothy P. O’Neil |
|                           |                       | Timothy P. O’Neil |
|                           | * *                   | *Chief Financial Officer, Vice  President, Secretary and  Treasurer (Principal Financial and**Accounting Officer)* |

 

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