** **

**UNITED STATES SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-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********APRIL 1, 2005**** |
|                                                        |
| ****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********001-32380****

 

**INTERLINE BRANDS, INC.**

(Exact name of registrant as specified in its charter)

 

 

| ****DELAWARE****                        | **** **** | ****03-0542659****          |
|-----------------------------------------|----------------|-----------------------------|
| ****(State or other jurisdiction of**** | **** **** | ****(I.R.S. Employer****    |
| ****incorporation or organization)****  | **** **** | ****Identification No.)**** |

 

| ****801 WEST BAY STREET, JACKSONVILLE, FLORIDA**** | **** **** | ****32204****      |
|----------------------------------------------------|----------------|--------------------|
| ****(Address of principal executive offices)****   | **** **** | ****(Zip Code)**** |

 

**(904) 421-1400**

(Registrant’s telephone number, including area code)

 

**NOT APPLICABLE**

(Former name, former address and former fiscal year, if changed since last report)

 

                    Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes 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

 

 

As of the close of business on May 16, 2005, there were 32,102,820 shares outstanding of the registrant’s common stock, no par value.

 

 

**TABLE OF CONTENTS**

 

 

 

 
| **** ****     | ****PART I — FINANCIAL INFORMATION****                                                        | **** ****                                                                                                                     |
|--------------------|----------------------------------------------------------------------------------------------------|------------------------------------------------------------------------------------------------------------------------------------|
| **** ****     | **** ****                                                                                     | **** ****                                                                                                                     |
| ****Item 1.****    | ****Financial Statements****                                                                       | ****1****                                                                                                                          |
| **** ****     | **** ****                                                                                     | ****Unaudited Condensed Consolidated Balance Sheets as of April 1, 2005 and December 31, 2004****                             | ****1**** |
| **** ****     | **** ****                                                                                     | ****Unaudited Condensed Consolidated Statements of Operations for the Three Months Ended April 1, 2005 and March 26, 2004**** | ****2**** |
| **** ****     | **** ****                                                                                     | ****Unaudited Condensed Consolidated Statement of Stockholders’ Equity for the Three Months Ended April 1, 2005****      | ****3**** |
| **** ****     | **** ****                                                                                     | ****Unaudited Condensed Consolidated Statements of Cash Flows for the Three Months Ended April 1, 2005 and March 26, 2004**** | ****4**** |
| **** ****     | **** ****                                                                                     | ****Notes to Unaudited Condensed Consolidated FinancialStatements****                                                              | ****5**** |
| **** ****     | **** ****                                                                                     | **** ****                                                                                                                     |
| ****Item 2.****    | ****Management’s Discussions and Analysis of Financial Conditionand Results of Operations**** | 11                                                                                                                                 |
| ****Item 3.****    | ****Quantitative and Qualitative Disclosures about Market Risk****                                 | 16                                                                                                                                 |
| ****Item 4.****    | ****Controls and Procedures****                                                                    | 17                                                                                                                                 |
|               |                                                                                               |                                                                                                                               |
|               | ****PART II — OTHER INFORMATION****                                                           | ****17****                                                                                                                         |
|               |                                                                                               |                                                                                                                               |
| ****Item 1.****    | ****Legal Proceedings****                                                                          | 17                                                                                                                                 |
| ****Item 2.****    | ****Changes In Securities, Use Of Proceeds, And Issuer Purchases Of Equity Securities****          | 17                                                                                                                                 |
| ****Item 3.****    | ****Defaults Upon Senior Securities****                                                            | 17                                                                                                                                 |
| ****Item 4.****    | Submission Of Matters To A Vote Of Security Holders                                                | 17                                                                                                                                 |
| Item 5.            | Other Information                                                                                  | 17                                                                                                                                 |
| ****Item 6.****    | ****Exhibits****                                                                                   | 18                                                                                                                                 |
|               |                                                                                               |                                                                                                                               |
| ****SIGNATURES**** | 19                                                                                                 |

 

 

**PART I. FINANCIAL INFORMATION**

 

ITEM 1.  FINANCIAL STATEMENTS.

** **

**INTERLINE BRANDS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED BALANCESHEETS (UNAUDITED)**

**AS OF APRIL 1, 2005 AND DECEMBER 31, 2004**

**(in thousands, except share and per share data)**
| ** **                                                                                                                              | ** ** | **April 1, 2005** | ** ** | **December 31, 2004** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                              | ** ** | ** **        | ** ** | ** **            | ** ** |
| **ASSETS**                                                                                                                              |       |              |       |                  |       |
| CURRENT ASSETS:                                                                                                                         |       |              |       |                  |       |
| Cash and cash equivalents                                                                                                               |       | $                 | 10,198     |                  | $          | 69,178 |   |
| Accounts receivable - trade (net of allowance for doubtful accounts  of $7,014 and $6,929)                                              |       | 105,685           |       | 98,511                |       |
| Accounts receivable - other                                                                                                             |       | 13,961            |       | 17,828                |       |
| Inventory                                                                                                                               |       | 146,000           |       | 145,532               |       |
| Prepaid expenses and other current assets                                                                                               |       | 5,092             |       | 3,204                 |       |
| Deferred income taxes                                                                                                                   |       | 11,405            |       | 12,084                |       |
| Total current assets                                                                                                                    |       | 292,341           |       | 346,337               |       |
|                                                                                                                                    |       |              |       |                  |       |
| PROPERTY AND EQUIPMENT, net                                                                                                             |       | 28,195            |       | 28,767                |       |
|                                                                                                                                    |       |              |       |                  |       |
| GOODWILL                                                                                                                                |       | 203,848           |       | 203,848               |       |
|                                                                                                                                    |       |              |       |                  |       |
| OTHER INTANGIBLE ASSETS, net                                                                                                            |       | 81,673            |       | 85,361                |       |
|                                                                                                                                    |       |              |       |                  |       |
| OTHER ASSETS                                                                                                                            |       | 9,610             |       | 9,067                 |       |
| TOTAL ASSETS                                                                                                                            |       | $                 | 615,667    |                  | $          | 673,380 |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                           |       |              |       |                  |       |
| CURRENT LIABILITIES:                                                                                                                    |       |              |       |                  |       |
| Revolver                                                                                                                                |       | $                 | 17,000     |                  | $          | — |   |
| Current portion of long-term debt                                                                                                       |       | 1,000             |       | 1,000                 |       |
| Accounts payable                                                                                                                        |       | 53,926            |       | 53,260                |       |
| Accrued expenses and other current liabilities                                                                                          |       | 19,218            |       | 22,180                |       |
| Accrued interest payable                                                                                                                |       | 5,852             |       | 3,042                 |       |
| Accrued merger expenses                                                                                                                 |       | 5,994             |       | 6,131                 |       |
| Accrued income taxes payable                                                                                                            |       | 1,339             |       | 7,372                 |       |
| Total current liabilities                                                                                                               |       | 104,329           |       | 92,985                |       |
|                                                                                                                                    |       |              |       |                  |       |
| LONG TERM LIABILITIES:                                                                                                                  |       |              |       |                  |       |
| Deferred income taxes                                                                                                                   |       | 24,899            |       | 25,221                |       |
| Long-term debt, net of current portion                                                                                                  |       | 232,025           |       | 302,275               |       |
|                                                                                                                                    |       |              |       |                  |       |
| TOTAL LIABILITIES                                                                                                                       |       | 361,253           |       | 420,481               |       |
| COMMITMENTS AND CONTINGENCIES                                                                                                           |       |              |       |                  |       |
| SENIOR PREFERRED STOCK, $0.01 par value, 20,000,000 shares  authorized, no shares outstanding as of April 1, 2005 and December 31, 2004 |       | —            |       | —                |       |
| STOCKHOLDERS’ EQUITY:                                                                                                              |       |              |       |                  |       |
| Common stock; $0.01 par value, 100,000,000 authorized; 32,102,820  issued and outstanding as of April 1, 2005 and December 31, 2004     |       | 321               |       | 321                   |       |
| Accumulated deficit                                                                                                                     |       | (300,443          | )          | (301,836              | )          |
| Additional paid-in capital                                                                                                              |       | 556,268           |       | 556,346               |       |
| Deferred compensation                                                                                                                   |       | (2,549            | )          | (2,787                | )          |
| Accumulated other comprehensive income                                                                                                  |       | 817               |       | 855                   |       |
| TOTAL STOCKHOLDERS’ EQUITY                                                                                                         |       | 254,414           |       | 252,899               |       |
| TOTAL LIABILITIES & STOCKHOLDERS’ EQUITY                                                                                       |       | $                 | 615,667    |                  | $          | 673,380 |   |

 

*See accompanying notes tounaudited condensed consolidated financial statements.*

 

1

** **

**INTERLINE BRANDS, INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)**

**THREE MONTHS ENDED APRIL 1, 2005 ANDMARCH 26, 2004**

**(inthousands, except share and per share data)**
| ** **                                          | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------------|------------|------------------------|------------|
| ** **                                          | ** ** | **April 1, 2005**      | ** ** | **March 26, 2004** | ** ** |
| NET SALES                                           |       | $                      | 196,491    |   | $ | 172,604 |   |
| COST OF SALES                                       |       | 121,005                |       | 106,881 |   |
| Gross Profit                                        |       | 75,486                 |       | 65,723 |   |
| OPERATING EXPENSES :                                |       |                   |       |   |   |
| Selling, general and administrative expenses        |       | 53,740                 |       | 48,257 |   |
| Depreciation and amortization                       |       | 3,117                  |       | 2,983 |   |
| Total Operating Expense                             |       | 56,857                 |       | 51,240 |   |
| OPERATING INCOME                                    |       | 18,629                 |       | 14,483 |   |
| CHANGE IN FAIR VALUE OF INTEREST RATE SWAPS         |       | —                 |       | 1,104 |   |
| LOSS ON EXTINGUISHMENT OF DEBT                      |       | (10,340                | )          | — |   |
| INTEREST EXPENSE                                    |       | (6,270                 | )          | (10,194 | ) |
| INTEREST INCOME                                     |       | 120                    |       | 8 |   |
| OTHER INCOME                                        |       | 168                    |       | 136 |   |
| Income before income taxes                          |       | 2,307                  |       | 5,537 |   |
| PROVISION FOR INCOME TAXES                          |       | 914                    |       | 2,286 |   |
| NET INCOME                                          |       | 1,393                  |       | 3,251 |   |
| PREFERRED STOCK DIVIDENDS                           |       | —                 |       | (13,261 | ) |
| NET INCOME (LOSS) APPLICABLE TO COMMON STOCKHOLDERS |       | $                      | 1,393      |   | $ | (10,010 | ) |
| INCOME (LOSS) PER COMMON SHARE - BASIC              |       | $                      | 0.04       |   | $ | (153.00 | ) |
| INCOME (LOSS) PER COMMON SHARE - DILUTED            |       | $                      | 0.04       |   | $ | (153.00 | ) |
|                                                |       |                   |       |   |   |
| WEIGHTED AVERAGE SHARES OUTSTANDING - BASIC         |       | 31,917,175             |       | 65,425 |   |
| WEIGHTED AVERAGE SHARES OUTSTANDING - DILUTED       |       | 32,313,188             |       | 65,425 |   |

 

*See accompanying notes to unaudited condensed consolidated financial statements.*

 

2

 

**INTERLINE BRANDS, INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (UNAUDITED)**

**THREE MONTHS ENDED APRIL 1, 2005**

**(in thousands, except share data)**

 
| ** **                    | ** ** | ** **        | ** ** | ** **       | ** ** | ** **   | ** ** | ** **     | ** ** | ** **        | ** ** | **Accumulated**        | ** ** | ** ** | ** ** |
|-------------------------------|------------|-------------------|------------|------------------|------------|--------------|------------|----------------|------------|-------------------|------------|------------------------|------------|------------|------------|
| ** **                    | ** ** | ** **        | ** ** | ** **       | ** ** | ** **   | ** ** | **Additional** | ** ** | ** **        | ** ** | **Other**              | ** ** | **Total**  | ** ** |
| ** **                    | ** ** | **Common  Stock** | ** ** | **(Accumulated** | ** ** | **Paid In**  | ** ** | **Deferred**   | ** ** | **Comprehensive** | ** ** | **Stockholders’** | ** ** |
| ** **                    | ** ** | **Shares**        | ** ** | **Amount**       | ** ** | **Deficit)** | ** ** | **Capital**    | ** ** | **Compensation**  | ** ** | **Income  (Loss)**     | ** ** | **Equity** | ** ** |
| ** **                    | ** ** | ** **        | ** ** | ** **       | ** ** | ** **   | ** ** | ** **     | ** ** | ** **        | ** ** | ** **             | ** ** | ** ** | ** ** |
| BALANCE, DECEMBER  31, 2004   |       | 32,102,820        |       | 321              |       | (301,836     | )          | 556,346        |       | (2,787            | )          | 855                    |       | 252,899    |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Stock based  compensation     |       |              |       |             |       |         |       |           |       | 238               |       |                   |       | 238        |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Offering costs                |       |              |       |             |       |         |       | (78            | )          |              |       |                   |       | (78        | )          |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Comprehensive  income:        |       | —            |       |             |       |         |       |           |       |              |       |                   |       |       |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Net income                    |       |              |       |             |       | 1,393        |       |           |       |              |       |                   |       |       |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Foreign currency  translation |       | —            |       |             |       |         |       |           |       |              |       | (38                    | )          |       |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| Total comprehensive  income   |       | —            |       | —           |       | —       |       | —         |       | —            |       | —                 |       | 1,355      |       |
|                          |       |              |       |             |       |         |       |           |       |              |       |                   |       |       |       |
| BALANCE, APRIL 1,  2005       |       | 32,102,820        |       | $                | 321        |         | $          | (300,443       | )          | $                 | 556,268    |                   | $          | (2,549     | )          | $ | 817 |   | $ | 254,414 |   |
|                               |            |                   |            |                  |            |              |            |                |            |                   |            |                        |            |            |            |  |  |  |  |  |  |

 

*See accompanying notes to unaudited condensed consolidated financial statements.*

**** ****

****3****

**** ****

**INTERLINE BRANDS, INC AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS****(UNAUDITED)**

**THREE MONTHS ENDED APRIL 1, 2005 AND MARCH 26, 2004**

**(in thousands)**

**** ****
| ** **                                                                         | ** ** | **April 1, 2005** | ** ** | **March 26, 2004** | ** ** |
|------------------------------------------------------------------------------------|------------|-------------------|------------|--------------------|------------|
| OPERATING ACTIVITIES :                                                             |       |              |       |               |       |
| Net Income                                                                         |       | $                 | 1,393      |               | $          | 3,251 |   |
| Adjustments to reconcile net income to net cash provided by operating  activities: |       |              |       |               |       |
| Depreciation and amortization                                                      |       | 3,117             |       | 2,983              |       |
| Amortization and write-off of debt issuance costs                                  |       | 2,685             |       | 487                |       |
| Redemption premium on 11.5% senior subordinated notes                              |       | 8,050             |       | —             |       |
| Stock based compensation                                                           |       | 238               |       | —             |       |
| Change in fair value of interest rate swaps                                        |       | —            |       | (1,104             | )          |
| Interest income on shareholder notes                                               |       | —            |       | 12                 |       |
| Deferred income taxes                                                              |       | 356               |       | 140                |       |
|                                                                               |       |              |       |               |       |
| Changes in assets and liabilities, net of effects of acquisition:                  |       |              |       |               |       |
| Accounts receivable - trade                                                        |       | (7,174            | )          | (8,408             | )          |
| Accounts receivable - other                                                        |       | 1,536             |       | 4,411              |       |
| Inventory                                                                          |       | (468              | )          | 817                |       |
| Prepaid expenses and other current assets                                          |       | (1,888            | )          | 602                |       |
| Other assets                                                                       |       | (543              | )          | (150               | )          |
| Accrued interest payable                                                           |       | 2,810             |       | 5,477              |       |
| Accounts payable                                                                   |       | 665               |       | 6,493              |       |
| Accrued expenses and other current liabilities                                     |       | (1,478            | )          | 179                |       |
| Accrued merger expenses                                                            |       | (111              | )          | (88                | )          |
| Accrued income taxes payable                                                       |       | (6,033            | )          | 1,138              |       |
|                                                                               |       |              |       |               |       |
| Net cash provided by operating activities                                          |       | 3,155             |       | 16,240             |       |
|                                                                               |       |              |       |               |       |
| INVESTING ACTIVITIES :                                                             |       |              |       |               |       |
| Purchase of property and equipment, net                                            |       | (1,543            | )          | (1,429             | )          |
| Purchase of business, net of cash acquired                                         |       | (1,009            | )          | (289               | )          |
|                                                                               |       |              |       |               |       |
| Net cash used in investing activities                                              |       | (2,552            | )          | (1,718             | )          |
|                                                                               |       |              |       |               |       |
| FINANCING ACTIVITIES :                                                             |       |              |       |               |       |
| Increase in revolver and swingline, net                                            |       | 17,000            |       | —             |       |
| Repayment of long-term debt                                                        |       | (70,250           | )          | (1,750             | )          |
| Payment of redemption premium on 11.5% senior subordinated notes                   |       | (8,050            | )          | —             |       |
| Payment of debt issuance costs                                                     |       | —            |       | (218               | )          |
| Initial public offering costs                                                      |       | (578              | )          |               |       |
| Proceeds from exercise of underwriters over-allotment options                      |       | 2,333             |       | —             |       |
|                                                                               |       |              |       |               |       |
| Net cash used in financing activities                                              |       | (59,545           | )          | (1,968             | )          |
|                                                                               |       |              |       |               |       |
| EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS                       |       | (38               | )          | (23                | )          |
| NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS                               |       | (58,980           | )          | 12,531             |       |
| CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                     |       | 69,178            |       | 1,612              |       |
| CASH AND CASH EQUIVALENTS, END OF PERIOD                                           |       | $                 | 10,198     |               | $          | 14,143 |   |
|                                                                               |       |              |       |               |       |
| SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION                                   |       |              |       |               |       |
| Cash paid during the period for :                                                  |       |              |       |               |       |
| Interest                                                                           |       | $                 | 1,611      |               | $          | 4,209 |   |
| Income taxes (net of refunds)                                                      |       | $                 | 6,595      |               | $          | 270 |   |
|                                                                               |       |              |       |               |       |
| SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES                            |       |              |       |               |       |
| Dividends on preferred stock                                                       |       | $                 | —     |               | $          | 13,261 |   |

 

*See accompanying notes to unaudited condensed consolidated financial statements.*

 

4

 

**INTERLINE BRANDS, INC AND SUBSIDIARIES**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)**

**(in thousands, except share data)**

 

**1.****             ****BASIS OF PRESENTATION**

 

The accompanying unaudited interim financialstatements of Interline Brands, Inc., a Delaware corporation, and itssubsidiaries (“Interline” or the “Company”) have been prepared in accordancewith accounting principles generally accepted in the United States of Americaand the rules and regulations of the Securities and Exchange Commission, whichapply to interim financial statements. These unaudited condensed consolidatedfinancial statements do not include all disclosures provided in the annualfinancial statements and should be read in conjunction with the financialstatements and notes thereto contained in the Annual Report on Form 10-K forInterline Brands, Inc. for the year ended December 31, 2004 as filed with theSecurities and Exchange Commission on March 31, 2005 and amended by a report onForm 10-K/A filed on April 15, 2005.

 

All adjustments which are in the opinion of management,necessary for a fair statement of the results for the interim periods presentedhave been recorded.  The results ofoperations for the interim periods presented are not necessarily indicative ofthe results to be expected for the full year.

 

During December 2004, the Company completed itsInitial Public Offering (the “IPO”). Immediately prior to the closing of theIPO, a reincorporation merger occurred and the Company became the parentcompany of its principal operating subsidiary Interline Brands, Inc., a NewJersey corporation (“Interline New Jersey”). In the reincorporation merger, theholders of the preferred stock of Interline New Jersey received an aggregate of$55 million in cash and 19,183,321 shares of the Company’s common stock and theholders of the common stock of Interline New Jersey received 0.01218 shares ofthe Company’s common stock per share of Interline New Jersey common stock, or66,667 shares of the Company’s common stock in total. In addition, holders ofoptions to purchase shares of the common stock of Interline New Jersey wereconverted into options to purchase shares of the Company’s common stock.  The Company restated earnings per share andshares outstanding for all years presented in the accompanying financialstatements to reflect the conversion of the shares.

 

*Reclassifications*—Certain prioryear amounts in the financial statements and the notes have been reclassifiedto confirm to the 2005 presentation.  Thereclassifications had no effect on total shareholders’ equity or net income(loss).

 

*Segment Information*—The Company is in one industry, thedistribution of maintenance, repair and operations, or MRO, products. Inaccordance with Statement of Financial Accounting Standards (“SFAS”) No. 131, “Disclosureabout Segments of an Enterprise and Related Information”, the Company has oneoperating segment. Our net sales for the three month periods ended April 1,2005 and March 26, 2004 by product category were approximately (in millions):

 
| ** **                                | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------|------------|------------------------|------------|
| **Product Category**                      | ** ** | **April 1, 2005**      | ** ** | **March 26, 2004** | ** ** |
| Plumbing                                  |       | $                      | 90.4       |   | $ | 79.4 |   |
| Electrical                                |       | 29.5                   |       | 27.6 |   |
| Security Hardware                         |       | 13.7                   |       | 12.1 |   |
| Heating, Ventilation and Air Conditioning |       | 13.6                   |       | 10.2 |   |
| Hardware                                  |       | 11.8                   |       | 10.4 |   |
| Appliances                                |       | 11.8                   |       | 10.4 |   |
| Other                                     |       | 25.7                   |       | 22.5 |   |
| Total                                     |       | $                      | 196.5      |   | $ | 172.6 |   |

 

5

----

 

**INTERLINE BRANDS, INC. AND SUBSIDIARIES**

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS (UNAUDITED)**

**(In thousands, except share data)**

 

*Stock-based Compensation*—The Company accounted for the optionplans in accordance with APB Opinion No. 25, under which no compensation costhas been recognized for stock option awards. While the Company does not recognize compensation costs for stock options,the Company does determine what these costs would have been using the methodprescribed by SFAS No. 123 for disclosure purposes.

 

The fair value of each option was estimated on thedate of grant using the Black-Scholes option pricing model.  There were no options granted in the threemonths ended April 1, 2005 and options granted under the 2004 Equity IncentivePlan were fully vested as of the grant date. The following assumptions were used for options granted in 2004 underthe 2000 Stock Award Plan: dividend yield of 0%, expected volatility of 0%,risk-free interest rate of 3.48%, and expected life of 5 years.  The fair value of these awards approximatedzero.

 

The following table illustrates the effect on netearnings (loss) and earnings (loss) per share for the three months ended April1, 2005 and March 26, 2004 as if the Company had applied the fair valuerecognition provisions of SFAS No. 123, “Accounting for Stock-BasedCompensation.” to stock-based employee compensation (in thousands, except pershare amounts):

 
| ** **                                                                                                                   | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                                                                   | ** ** | **April 1, 2005**      | ** ** | **March 26, 2004** | ** ** |
|                                                                                                                         |       |                   |       |   |   |
| Net Income as reported                                                                                                       |       | $                      | 1,393      |   | $ | 3,251 |   |
|                                                                                                                         |       |                   |       |   |   |
| Add: Stock-based employee compensation expense included in reported  net income, net of related tax effects                  |       | 144                    |       | — |   |
|                                                                                                                         |       |                   |       |   |   |
| Deduct: Total stock-based employee compensation expense determined  under fair value based method for all awards, net of tax |       | (144                   | )          | — |   |
|                                                                                                                         |       |                   |       |   |   |
| Pro forma net income                                                                                                         |       | 1,393                  |       | 3,251 |   |
|                                                                                                                         |       |                   |       |   |   |
| Preferred stock dividends                                                                                                    |       | —                 |       | (13,261 | ) |
|                                                                                                                         |       |                   |       |   |   |
| Net income (loss) applicable to common shareholders                                                                          |       | $                      | 1,393      |   | $ | (10,010 | ) |
|                                                                                                                         |       |                   |       |   |   |
| Earnings per share:                                                                                                          |       |                   |       |   |   |
| Basic - as reported                                                                                                          |       | $                      | 0.04       |   | $ | (153.00 | ) |
| Basic - pro forma                                                                                                            |       | $                      | 0.04       |   | $ | (153.00 | ) |
|                                                                                                                         |       |                   |       |   |   |
| Diluted - as reported                                                                                                        |       | $                      | 0.04       |   | $ | (153.00 | ) |
| Diluted - pro forma                                                                                                          |       | $                      | 0.04       |   | $ | (153.00 | ) |

 

*New Accounting Pronouncements*—On December 16, 2004, the FASB issuedSFAS No. 123 (revised 2004), “Share-Based Payment,” which is a revision of FASBNo. 123, “Accounting for Stock-Based Compensation,” SFAS No. 123R supersedesAPB Opinion No. 25, “Accounting for Stock Issued to Employees” and amends SFASNo. 95, “Statement of Cash Flows.” Generally, the approach in SFAS No. 123R is similar to the approachdescribed in SFAS No. 123; however, this Statement requires all share-basedpayments to employees, including grants of employee stock options, berecognized in the income statement based on their fair values. Pro formadisclosure will no longer be an alternative to financial statement recognition.

 

On April 14, 2005, the Securities and ExchangeCommission (“SEC”) announced that it would provide for a phased-inimplementation process for SFAS No. 123R. The SEC now requires that registrants that are not small businessissuers adopt SFAS No. 123R’s fair value method of accounting for share-basedpayments to employees not later than the beginning of the first fiscal quarterin the year beginning after June 15, 2005. As a result, the Company will not berequired to adopt SFAS No. 123R until December 31, 2005, the first day of thecompany’s 2006 fiscal year. The Company is continuing to evaluate theprovisions of this Statements, the impact on itsconsolidated financial statements and the timing and approach to adoption ofthis Statement.

 

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**2.**              EARNINGS PER SHARE

 

                        Net income per share for all periods has been computed in accordancewith SFAS No. 128, “Earnings per Share”. Basic net income(loss) per share is computed by dividing netincome(loss) applicable to common stockholders by the weighted-average numberof shares outstanding during the year. Diluted net income per share is computed based on the weighted-averagenumber of shares of common stock as adjusted for the potential dilutive effectof stock options and non-vested stock for the period.

 

                        The amounts used in calculating net income (loss) per share data are asfollows:

 

| ** **                                            | ** ** | **Three months ended** | ** ** |
|-------------------------------------------------------|------------|------------------------|------------|
| ** **                                            | ** ** | **April 1, 2005**      | ** ** | **March 26, 2004** | ** ** |
|                                                  |       |                   |       |   |   |
| Net income                                            |       | $                      | 1,393      |   | $ | 3,251 |   |
| Preferred stock dividends                             |       | —                 |       | (13,261 | ) |
| Net loss applicable to common stockholders            |       | $                      | 1,393      |   | $ | (10,010 | ) |
|                                                  |       |                   |       |   |   |
| Weighted average shares outstanding - basic           |       | 31,917,175             |       | 65,425 |   |
| Effect of dilutive stock options and restricted stock |       | 396,013                |       | — |   |
|                                                  |       |                   |       |   |   |
| Weighted average shares outstanding - diluted         |       | 32,313,188             |       | 65,425 |   |

 

 

Options to purchase 592,792 and 2,341 shares of commonstock which were outstanding at April 1, 2005 and March 26, 2004, respectively,were not included in the computation of weighted average sharesoutstanding-diluted because the exercise prices of the options are greater thanthe average fair market value of common stock and the effect would beantidilutive.

 

**3.**              DEBT

 

Long-term debt at April 1, 2005 and December 31, 2004 consists of thefollowing:

 

| ** **                      | ** ** | **April 1,** | ** ** | **December 31,** | ** ** |
|---------------------------------|------------|--------------|------------|------------------|------------|
| ** **                      | ** ** | **2005**     | ** ** | **2004**         | ** ** |
|                            |       |         |       |             |       |
| Term loan                       |       | $            | 99,750     |             | $          | 100,000 |   |
| Note payable                    |       | 3,275        |       | 3,275            |       |
| 11.5% senior subordinated notes |       | 130,000      |       | 200,000          |       |
|                            |       |         |       |             |       |
|                            |       | 233,025      |       | 303,275          |       |
| Less current portion            |       | (1,000       | )          | (1,000           | )          |
|                            |       |         |       |             |       |
|                            |       | $            | 232,025    |             | $          | 302,275 |   |

 

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In May 2003, Interline New Jersey completed anoffering of $200 million of 11.5% senior subordinated notes due 2011 andentered into a new $205.0 million senior secured credit facility which consistsof a $140.0 million term loan facility and a $65.0 million revolving loanfacility, a portion of which is available in the form of letters ofcredit.  The net proceeds from theoffering of senior subordinated notes and the refinancing of the former creditfacility with the new credit facility were used to: (1) repay all outstandingindebtedness under the Company’s former credit facility, (2) redeem all of the16% senior subordinated notes, (3) pay accrued interest and related redemptionpremiums on Interline New Jersey’s former debt, and (4) pay transaction fees andexpenses related to the foregoing transactions, which we refer to as the “RefinancingTransactions”.  Debt issuance costscapitalized in connection with the Refinancing Transactions were approximately$13.1 million. An expense of approximately $14.9 million in May 2003 for theearly extinguishment of debt resulted from the write-off of the unamortizedloan fees and loan discount relating to Interline New Jersey’s former creditfacility and the redemption premium incurred upon redemption of the 16% senior subordinatednotes.

 

The $200 million principal amount 11.5% seniorsubordinated notes due 2011 pay interest each May 15 and November 15, with thefirst payment made on November 15, 2003. Prior to May 15, 2006, Interline New Jersey may redeem up to 35% of thenotes using proceeds of certain equity offerings and Interline New Jersey mayredeem all of the notes after May 15, 2007, subject to redemption premiumsunless redeemed after May 15, 2009.  Interline New Jersey elected to redeem $70.0 million of the 11.5% seniorsubordinated notes using proceeds from the Company’s IPO transaction and gavethe 30-day notice, required by the indenture agreement, on December 20,2004.  In January 2005, the Companyrecorded a loss on extinguishment of debt of $10.3 million, consisting of thewrite-off of deferred financing costs of $2.3 million and the premium of $8.1million on the $70.0 million redemption of 11.5% senior subordinated notes.

 

In December 2004 Interline New Jersey amended its termloan facility and revolving loan facility. The term loan was reduced to $100.0 million from $140.0 million and therevolving loan facility was increased to $100.0 million from $65.0million.  As part of the amendment inDecember 2004, Interline New Jersey paid down $31.3 million of the term loanusing proceeds from the IPO transaction. Borrowings under the amended term loan facility and revolving loanfacility bear interest, at Interline New Jersey’s option, at either LIBOR plusa spread or at the alternate base rate plus a spread. Interest rates in effecton borrowings under the term loan facility at April 1, 2005 ranged from 5.37%for LIBOR based borrowings and 7.0% for prime based borrowings.  Outstanding letters of credit under the revolvingloan facility are subject to a per annum fee equal to the applicable spreadover the adjusted LIBOR for revolving loans. The term loan facility matures on December 31, 2010 and the revolvingloan facility matures on May 31, 2008. Debt issuance costs capitalized in connection with the amended creditfacility were approximately $1.1 million.

 

As of April 1, 2005,Interline New Jersey had $73.0 million available under its revolving loanfacility.  Total letters of credit issuedunder this facility as of April 1, 2005 were $10.0 million.  There were $17.0 million in borrowings underthe revolving loan facility at April 1, 2005. The credit facility is secured bysubstantially all of the assets of Interline New Jersey.

 

In conjunction with our IPO transaction and theamended credit facility, we recorded an expense of approximately $0.7 millionfor early extinguishments of debt resulted from the write-off of theunamortized loan fees relating to the Company’s former credit facility inDecember 2004.  January 2005 the Companyrecognized a charge of $2.3 million related to the early extinguishment of$70.0 million of the 11.5% senior subordinated notes.

 

Periodically, the Company enters into derivativefinancial instruments, including interest rate exchange agreements, to manageits exposure to fluctuations in interest rates on its debt.  All interest rate swap agreements wereterminated in conjunction with the IPO in December 2004.

 

The credit facility contains customary affirmative andnegative covenants that limit Interline New Jersey’s ability to incuradditional indebtedness, pay dividends on its common stock or redeem,repurchase or retire its common stock or subordinated indebtedness, makecertain investments, sell assets, and consolidate, merge or transfer assets,and that require Interline New Jersey to maintain a maximum debt to cash flow 

 

8

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ratio and a minimum interest expense coverage ratio.The Company and Interline New Jersey were in compliance with all covenants atApril 1, 2005.

 

In April 2003, the Company issued a non-recourse notepayable in the principal amount of $3.3 million for the purchase of aninvestment. This note, which is secured only by the investment, bears interestat a rate of 4% per annum, with principal due in full in April 2010.

 

The maturities of long-term debt subsequentto April 1, 2005 are as follows:

 
| 2005       |   | $       | 750     |   |
|------------|--------|---------|---------|--------|
| 2006       |   | 1,000   |    |
| 2007       |   | 1,000   |    |
| 2008       |   | 1,000   |    |
| 2009       |   | 1,000   |    |
| Thereafter |   | 228,275 |    |
|       |   | $       | 233,025 |   |
|            |        |         |         |        |  |

 

**4.**              STOCKOPTION PLANS

 

During 2000, InterlineNew Jersey established a Stock Award Plan, (the “2000 Plan”), under whichInterline New Jersey may award a total of 6,395 shares of common stock in theform of incentive stock options (which may be awarded to key employees only),nonqualified stock options, stock appreciation rights, or SARs, and restrictedstock awards, all of which may be awarded to directors, officers, key employeesand consultants.  The exercise price pershare for an incentive stock option may not be less than 100% of the fairmarket value of a share of common stock on the grant date.  The exercise price per share for an incentivestock option granted to a person owning stock possessing more than 10% of thetotal combined voting power of all classes of stock may not be less than 110%of the fair market value of a share of common stock on the grant date, and maynot be exercisable after the expiration of ten years from the date ofgrant.  The Company’s compensationcommittee will determine in its sole discretion whether a SAR is settled incash, shares or a combination of cash and shares.

 

During 2004, the Companyadopted the 2004 Equity Incentive Plan, (the “2004 Plan”), under which theCompany may award 3,175,000 shares in the form of incentive stock options,nonqualified stock options, stock appreciation rights, or SARs, restrictedshare units, restricted stock and stock bonus awards, all of which may beawarded to any employee, director, officer or consultant of the Company.  Under the terms of the 2004 plan and unlessthe compensation committee of the Company determines otherwise, the exerciseprice of the options will not be less than the fair market value of the commonstock at the time of grant.

 

Upon completion of the Company’s IPO in December 2004,175,820 shares of restricted stock were issued to senior management.  The restricted stock awards will vestcontingent upon the executive’s continued employment in one-third installmentsover three years provided that certain pre-established annual percentageincreases in our earnings per share are attained.  The restricted stock will also vest if theexecutive remains in our employ for seven years on the seventh anniversary ofthe date of grant.  In addition, anaggregate of 10,000 shares of restricted stock were issued to non-employeedirectors who are not affiliated with any of our principal stockholders.  Such awards will vest over two years.  As a result of these restricted stock awards,the Company expects to incur non-cash charges between $0.4 million and $0.9million in each of the next three to seven years depending upon theacceleration of vesting of restricted stock. These two directors also each received 20,000 non-qualified stockoptions with an exercise price equal to the IPO price of $15.00 per share.  In addition, the Company issued to management1,835,218 non-qualified stock options with an exercise price equal to the IPOprice of $15.00 per share and 590,465 non-qualified stock options with aweighted average exercise price of $24.00 per share.  All of these options were fully vested andexercisable when granted.  However,management will only be permitted to sell shares acquired upon the exercise ofthe options in 25% increments over four years.

 

9

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A summary of the statusof the Company’s stock option plans is as follows:

 

 
| ** **                       | ** ** | ** **    | ** ** | ** **          | ** ** | **Weighted**         | ** ** |
|----------------------------------|------------|---------------|------------|---------------------|------------|----------------------|------------|
| ** **                       | ** ** | **Number**    | ** ** | **Exercise Price**  | ** ** | **Average Exercise** | ** ** |
| ** **                       | ** ** | **of Shares** | ** ** | **Per Share**       | ** ** | **Price Per Share**  | ** ** |
|                             |       |          |       |                |       |                 |       |
| Outstanding at December 31, 2004 |       | 2,468,009     |       | $15.00  - $1,669.13 |       | $                    | 17.61      |   |
|                             |       |          |       |                |       |                 |       |
| 2005:                            |       |          |       |                |       |                 |       |
| Granted                          |       | —        |       | —              |       | —               |       |
| Cancelled                        |       | —        |       | —              |       | —               |       |
|                             |       |          |       |                |       |                 |       |
| Outstanding at April 1, 2005     |       | 2,468,009     |       | $15.00  - $1,669.13 |       | $                    | 17.61      |   |
|                             |       |          |       |                |       |                 |       |

 

There were no options granted or canceled in the threemonths ended April 1, 2005.

 

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ITEM 2. MANAGEMENT’S DISCUSSIONS AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

*References to “us” and “we” are to the Company.  You should read the following discussion inconjunction with our unaudited consolidated financial statements and relatednotes included in this quarterly report, and our audited consolidated financialstatements and related notes included  in**our Annual Report on Form 10-Kfiled with the SEC.*

 

**Cautionary Statement for Purposes of the “Safe Harbor”Provisions of the Private Securities Litigation Reform Act of 1995**

 

                Thisquarterly report contains forward-looking statements that are subject torisks and uncertainties. You should not place undue reliance on thosestatements because they are subject to numerous uncertainties and factorsrelating to our operations and business environment, all of which are difficultto predict and many of which are beyond our control. Forward-lookingstatements include information concerning our possible or assumed futureresults of operations, including descriptions of our business strategy. Thesestatements often include words such as “may,” “believe,”“expect,” “anticipate,” “intend,” “plan,” “estimate” or similar expressions.These statements are based on assumptions that we have made in light of ourexperience in the industry as well as our perceptions of historical trends,current conditions, expected future developments and other factors we believeare appropriate under the circumstances. As you read and consider thisquarterly report, you should understand that these statements are notguarantees of performance or results. They involve risks, uncertainties andassumptions. Although we believe that these forward-looking statementsare based on reasonable assumptions, you should be aware that many factorscould affect our actual financial results or results of operations and couldcause actual results to differ materially from those in the forward-lookingstatements. These factors include:

 

•                  materialfacilities and systems disruptions and shutdowns,

•                  ourability to purchase products from suppliers on favorable terms,

•                  ourability to accurately predict market trends,

•                  productcost and price fluctuations due to market conditions,

•                  failureto locate and acquire acquisition candidates,

•                  dependenceon key employees,

•                  ourlevel of debt,

•                  interestrate fluctuations,

•                  futurecash flows,

•                  the highlycompetitive nature of the maintenance, repair and operations distributionindustry,

•                  generalmarket conditions,

•                  changesin consumer preferences,

•                  adversepublicity and litigation,

•                  laborand benefit costs, and

•                  the otherfactors listed under “Risk Factors” in our Annual Report on Form 10-K filedwith the SEC.

 

                Allinformation contained in this quarterly report is materially accurate as of thedate of this report.   New risks anduncertainties arise from time to time, and it is impossible for us to predictthese events or how they may affect us. In light of these risks anduncertainties, you should keep in mind that any forward-looking statementmade in this quarterly report might not occur. We assume no obligation to update any forward-looking statements afterthe date of this quarterly report as a result of new information, future eventsor developments, except as required by federal securities law.

 

Overview

 

                As a leading national distributor and direct marketerof over 45,000 specialty MRO products, we sell to over 150,000 active customeraccounts. Our highly diverse customer baseincludes facilities maintenance customers, professional contractors andspecialty distributors. Our customers range in size from individual contractorsand independent hardware stores to apartment management companies and nationalpurchasing groups.

 

                We market and sell our productsprimarily through eight distinct and targeted brands. Our multi-brand operating model, which webelieve is unique in the industry, allows us to use a single platform todeliver tailored products and services to meet the individual needs of each respectivecustomer group served. We reach 

 

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our markets using avariety of sales channels, including a direct sales force of field salesrepresentatives, telesales representatives, a direct mail program, brand-specifice-commerce websites and a national accounts sales program.

 

CriticalAccounting Policies

 

                In preparing the consolidatedfinancial statements in conformity with accounting principles generallyaccepted in the United States of America, management is required to makecertain estimates, judgments and assumptions. These estimates, judgments andassumptions affect the reported amounts of assets and liabilities, includingthe disclosure of contingent assets and liabilities, at the date of the financialstatements and the reported amounts of revenues and expenses during the periodspresented. On an ongoing basis, management evaluates these estimates andassumptions. Management bases its estimates and assumptions on historicalexperience and on various other factors that are believed to be reasonable atthe time the estimates and assumptions are made. Actual results may differ fromthese estimates and assumptions under different circumstances or conditions.The significant accounting policies that management believes are the mostcritical in order to fully understand and evaluate our financial position andresults of operations include the following policies.

 

*Revenue Recognition*

 

While our recognition of revenue is predominantly derived from routinetransactions and does not involve significant judgment, revenue recognitionrepresents an important accounting policy for us. We recognize a sale when theproduct has been delivered and risk of loss has passed to the customer,collection of the resulting receivable is probable, persuasive evidence of anarrangement exists, and the fee is fixed or determinable. Sales are recordednet of estimated discounts, rebates and returns. A portion of our sales aredelivered direct from the manufacturer. These direct-shipment sales arerecorded on a gross basis, with the corresponding cost of goods sold, inaccordance with the guidance in EITF 99-19, *Reporting Revenues Grossas a Principal verses Net as an Agent*.  We provide limited product return andprotection rights to certain customers. We accrue product return reserves andwarranty obligations. A provision is made for estimated product returns basedon sales volumes and our experience. Actual returns have not varied materiallyfrom amounts provided historically.

 

*Estimating Allowances for Doubtful Accounts*

 

                We maintain allowances fordoubtful accounts for estimated losses resulting from our inability to collectoutstanding amounts from customers. The allowances include specific amounts forthose accounts that are likely to be uncollectible, such as accounts ofcustomers in bankruptcy and general allowances for those accounts thatmanagement currently believes to be collectible but later become uncollectible.Estimates are used to determine the allowances for bad debts and are based onhistorical collection experience, current economic trends, credit worthiness ofcustomers and changes in customer payment terms. Adjustments to credit limitsare made based upon payment history and our customers’ current creditworthiness. If the financial condition of our customers were to deteriorate,allowances may be needed that will increase selling, general and administrativeexpenses and decrease accounts receivable. At April 1, 2005 the allowance for doubtful accounts totaled $7.0 million.

 

*Estimating Write-Offs for Excess and Obsolete Inventory*

 

                Inventoriesare valued at the lower of cost or market. We determined inventory cost usingthe average cost method. We adjust inventory for excess and obsolete inventoryand for the difference by which the cost of the inventory exceeds the estimatedmarket value. In order to determine the adjustments, management reviewsinventory quantities on hand, slow movement reports and sales history reports.Management estimates the required adjustment based on estimated demand forproducts and market conditions. To the extent historical results are not indicative of futureresults and if events occur that affect our relationships with vendors or thesalability of our products, additional write-offs may be needed that willincrease our cost of sales and decrease inventory.

 

*Impairment of Goodwill, Intangibles and Other Long-Lived Assets*

 

                Management assesses therecoverability of our goodwill, identifiable intangibles and other long-livedassets whenever events or changes in circumstances indicate that the carryingvalue may not be recoverable. The following factors, if present, may trigger animpairment review: (1) significant underperformance relative to expectedhistorical or projected future operating results, (2) significant negativeindustry or economic trends, (3) a significant increase in competition,and (4) a significant increase in interest rates on debt. If therecoverability of these assets is unlikely because of the existence of one ormore of the above-mentioned factors, an impairment analysis is performedusing a projected discounted cash flow method. Management must make assumptionsregarding estimated future cash flows and other factors to determine the fairvalue of these respective assets. If these estimates or related assumptionschange in the future, we may be required to record an impairment charge.Impairment charges would be included in corporate general and administrativeexpenses in our statements of operations, and would result in reduced carryingamounts of the related assets in our balance sheets.

 

*Legal Contingencies*

 

                From time to time, in the courseof our business, we become involved in legal proceedings. In accordance withSFAS No. 5 “Accounting for Contingencies,” if it is probable that, as aresult of a pending legal claim, an asset 

 

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hadbeen impaired or a liability had been incurred at the date of the financialstatements and the amount of the loss is estimable, an accrual for the costs toresolve the claim is recorded in accrued expenses in our balance sheets.Professional fees related to legal claims are included in general andadministrative expenses in our statements of operations. Management, with theassistance of outside counsel, determines whether it is probable that aliability from a legal claim has been incurred and estimates the amount ofloss. The analysis is based upon potential results, assuming a combination oflitigation and settlement strategies. Management does not believe thatcurrently pending proceedings will have a material adverse effect on ourconsolidated financial position. It is possible, however, that future resultsof operations for any particular period could be materially affected by changesin our assumptions related to these proceedings.

 

*Derivative Financial Instruments*

 

                We periodically enter intoderivative financial instruments, including interest rate exchange agreements,or swaps, to manage exposure to fluctuations in interest rates on our debt. InDecember 2004, in conjunction with our Initial Public Offering, we terminatedall interest rate exchange agreements, or swaps.  Under our former swap agreements we paid afixed rate on the notional amount to a bank and the bank paid us a variablerate on the notional amount equal to a base LIBOR rate. These interest rateswaps did not qualify for hedge accounting under SFAS No. 133 “Accountingfor Derivative Statements and Hedging Activities,” and were recorded at fairvalue in our balance sheet with changes in the fair value reflected innon-operating expense. The fair market value of these instruments wasdetermined by quotes obtained from the related counter parties.

 

Results ofOperations

 

The following discussion includes references to the termaverage daily sales. Average daily sales are defined as sales for a period oftime divided by the number of shipping days in that period of time.

 

*ThreeMonths Ended April 1, 2005 Compared to Three Months Ended March 26, 2004*

 

*                Overview.*  The first quarter of 2005showed continued improvement in most of our key operating metrics.  Sales grew 13.8% in the first quartercompared to the prior year period and 12.1% on an organic average daily salesbasis.  We were able to achieve thissales performance due to the continued success of our organic growthinitiatives, which include expanding our field sales force, continued successof our national accounts and supply chain initiatives, and increasing customerdemand for new product introductions in HVAC equipment and private labelfaucets.  Our professional contractormarket remains strong posting a daily sales growth rate of 18.8%.  Our facilities maintenance markets alsocontinue to improve, due primarily to improving occupancy in the multi-familyhousing sector.  We also showed continuedimprovement in gross profit margins, which increased 34 basis points to 38.4%of sales for the quarter.  This grossmargin improvement combined with effective cost controls in logistics andoperations led to an improvement in operating expense leverage of 75 basispoints, resulting in improved operating income.   As a result of the significant debtreduction associated with our Initial Public Offering last quarter, interestexpense was $3.9 million lower than the prior year period.  While we added inventory during the quarterto support increased growth and high service levels, we were able to showcontinued improvement in our return on invested capital.

 

**                NetSales.**  Our net sales increased by$23.9 million, or 13.8%, to $196.5 million in the three months endedApril 1, 2005 from $172.6 million in the three months ended March 26,2004.  During 2005 we had one moreshipping day than during the prior year period. Average daily sales were $3.0 million in the three months ended April1, 2005 and $2.7 million in the three months ended March 26, 2004, a12.1% increase. The sales increase was attributable to improved demand for ourproducts, new sales and growth initiatives and to price increases.  Our strongest sales growth this quarter wasin the professional contractor market, which grew 18.9%, followed by 11.4%growth in the facilities maintenance market and 4.9% sales growth in ourspecialty distributor market.

 

*                GrossProfit.*  Grossprofit increased by $9.8 million, or 14.9%, to $75.5 million in thethree months ended April 1, 2005 from $65.7 million in the three monthsended March 26, 2004.  Gross profitmargins increased to 38.4% for the three months ended April 1, 2005 compared to38.1% for the three months ended March 26, 2004.  This improvement in our gross profit marginsis a result of overall higher selling margins related to our successful privatelabel program and favorable merchandising programs, as well as increasedefficiencies at our national distribution center over the comparable prior yearperiod.

 

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*                Selling, General andAdministrative Expenses.*  SG&A expenses increased by $5.5 million, or 11.4%,to $53.7 million in the three months ended April 1, 2005 from$48.3 million in the three months ended March 26, 2004.  Certain expenses within SG&A, such as thecosts of running distribution centers, delivery expenses and selling expensesfluctuate with sales volume.  Theincrease in SG&A expenses were made up of these increases as well asincreased investment in new sales and marketing initiatives.  SG&A expenses as a percentage of salesimproved 70 basis points to 27.3% in the three months ended April 1, 2005 from28.0% in the three months ended March 26, 2004. This operating leverage is a result of operating efficiencies at ourregional distribution centers — specifically distribution center labor andfreight costs — as well as the overall leveraging of our labor and benefit plancosts, partially offset by our continued investment in our growth initiatives.

 

*                Depreciationand Amortization.*  Depreciation and amortization expense increasedby $0.1 million, or 5.0%, to $3.1 million in the three months ended April1, 2005 from $3.0 million in the three months ended March 26, 2004.

 

*                OperatingIncome.*  Asa result of the foregoing, operating income increased by $4.1 million, or28.6%, to $18.6 million in the three months ended April 1, 2005 from$14.5 million in the three months ended March 26, 2004.

 

*                Changein Fair Value of Interest Rate Swaps.*  Our interest rate swaps wereterminated at the time of our Initial Public Offering, described below, inDecember 2004.  As such, changes in fairvalue of interest rate swaps were zero in the three months ended April 1, 2005compared to a gain of $1.1 million in the three months ended March 26,2004.  Theses gains are related tochanges in the market value of our interest rate swap instruments. The non-cashgains were attributable to changes in market conditions, including but notlimited to fluctuations in interest rates, general market volatility, and theremaining tenor of our instruments.

 

*                InterestExpense.* Interest expense decreased by $3.9 million in the three months ended April1, 2005 to $6.3 million from $10.2 million in the three months endedMarch 26, 2004.  The net decrease wasattributed to lower debt balances associated with the early extinguishment of$70.0 million of our 11.5% senior subordinated notes in January 2005 and thepay down of $31.3 million of our term loan, as well as lower interest expenseassociated with the termination of our interest rate swaps and the write-off ofdeferred financing costs — all associated with our Initial Public Offering.

 

*                Loss on Extinguishment of Debt*. As part of our Initial Public Offering, we redeemed $70.0 million of the11.5% senior subordinated notes in January 2005.  This redemption was made 30 days after theclosing of our Initial Public Offering, in accordance with the redemptionprovision of the indenture governing the notes. In connection with the redemption, we recorded a $10.3 million loss onthe early extinguishment of debt in the first quarter of 2005.

 

*                Provision for Income Taxes.*  The provision for incometaxes was $0.9 million in the fiscal three months ended April 1, 2005 comparedto a provision of $2.3 million in the three months ended March 26, 2004.The effective tax rate for the three months ended April 1, 2005 was 39.6%compared to 41.3% in the three months ended March 26, 2004. The decrease in theeffective tax rate was due primarily to a decrease in our state income taxesand foreign income taxes partially offset by an increase in non-deductibleexpenses.

 

**Liquidity and Capital Resources**

 

                Asof April 1, 2005, we had approximately $73.0 million of availability underInterline New Jersey’s $100.0 million revolving credit facility.  Historically, our capital requirements havebeen for debt service obligations, acquisitions, the expansion and maintenanceof our distribution network, upgrades of our proprietary information systemsand working capital requirements.  Weexpect this to continue in the foreseeable future.  Historically, we have funded theserequirements through internally generated cash flow and funds borrowed underour credit facility.  We expect our cashflow from operations and the loan availability under our credit facility to beour primary source of funds in the future. Letters of credit, which are issued under the revolving loan facilityunder our credit facility, are used to support payment obligations incurred forour general corporate purposes.  As ofApril 1, 2005, we had $10.0 million of letters of credit issued under thecredit facility.  Interest on our 11.5%senior subordinated notes due 2011 is payable semiannually.  With respect 

 

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to borrowings under our credit facility, we have theoption to borrow at an adjusted LIBOR or an alternative base rate.  Interest on the credit facility is generallypayable quarterly, and with respect to any LIBOR borrowings, on the last day ofthe interest period applicable to the term of the borrowing.

 

                We are a holding company with nomaterial business operations of our own. Our most significant asset is thecapital stock of Interline New Jersey. We conduct virtually all of our business operations through InterlineNew Jersey. Accordingly, our only material sources of cash are dividends anddistributions with respect to our ownership interests in Interline New Jerseythat are derived from the earnings and cash flow generated by Interline NewJersey. Interline New Jersey might not generate sufficient earnings and cashflow to pay dividends or distributions in the future. Indebtedness underInterline New Jersey’s credit facility and 11.5% senior subordinated notes maylimit or prohibit the payment of dividends or other distributions to us.

 

                Net cash provided by operatingactivities was $3.2 million for the three months ended April 1, 2005compared to net cash provided by operating activities of $16.2 million inthe three monthsended March 26, 2004.  Net cash provided by operating activities forthe three months ended April 1, 2005 was lower than the prior yearperiod primarily as a result of our investment in working capital, specificallyinventory and higher trade account receivable balances, in support of our 13.8%sales growth as well as an increase of $6.3 million in cash tax requirements.  This was offset in part by $3.9 million oflower interest expense associated with our lower average debt balances, whichwere reduced using proceeds from our IPO transaction.

 

Netcash used in investing activities was $2.6 million in the three monthsended April 1, 2005 compared to $1.7 million in the three months ended March26, 2004.  Net cash used in investingactivities in the three months ended April 1, 2005 and the three months endedMarch 26, 2004 were primarily attributable to capital expenditures made in theordinary course of business and costs related to purchases of businessesaccrued in prior periods.

 

                Net cash used in financingactivities totaled $59.5 million for the three months ended April 1, 2005 compared to net cash used in financing activitiesof $2.0 million in the three months ended March 26, 2004.  Net cashused in financing activities for the three months ended April 1, 2005 wasprimarily attributable to our repayment of $70.0 million of our seniorsubordinated notes and $8.1 million in related redemption premiums partiallyoffset by $17.0 million net borrowings on our revolving credit facility and$2.3 million received January 2005 for the over-allotment shares sold tounderwriters, net of expenses, in conjunction with our December 2004 InitialPublic Offering.

 

                Other than the redemption of$70.0 million of our 11.5% senior subordinated notes as described above, ourcontractual obligations and other contractual commitments have not changedmaterially outside the ordinary course of business since December 31,2004.

 

*Our Initial Public Offering and Related Transactions*

 

                In December 2004, wesuccessfully completed our Initial Public Offering and amended Interline NewJersey’s senior credit facility.  A totalof 14,375,000 shares of our common stock were sold, of which 12,667,000 weresold by us and 1,708,000 were sold by our shareholders. We sold 12,500,000 sharesof our common stock in December 2004 and 167,000 shares in January 2005following the exercise of the underwriters’ over-allotment option.  We received $171.8 million in net proceedsincluding the exercise of the underwriters’ over-allotment option, representing$176.9 million of proceeds from the sale of stock net of underwriting discountsand commissions, less $4.1 million of Initial Public Offering costs and $1.1million of debt issuance costs.

 

                Immediately prior to the closingof the IPO, a reincorporation merger occurred and we became the holding companyof the Interline group of businesses with Interline New Jersey as ourwholly-owned operating subsidiary.  Inthe reincorporation merger, the holders of the preferred stock of Interline NewJersey received an aggregate of $55 million in cash and 19,183,321 shares ofour common stock and the holders of the common stock of Interline New Jerseyreceived 0.01218 shares of our common stock per share of Interline New Jerseycommon stock, or 66,667 shares of our common stock in total.  In addition, holders of options to purchaseshares of the common stock of Interline New Jersey were converted into optionsto purchase shares of our common stock.

 

                We also used $31.3 million ofthe proceeds to partially repay the term loan under Interline New Jersey’scredit facility.  We amended InterlineNew Jersey’s senior credit facility to allow for the IPO and reduce ourapplicable rate in respect to any term loans from LIBOR plus 3.50% to LIBORplus 2.25%.  In conjunction with thisamendment, we incurred $1.1 million of debt issuance costs.  In December 2004 we also used $4.6 million ofthe proceeds to terminate certain interest rate swap agreements.  In January 2005 we used $70.0 million of theproceeds from the IPO transaction to partially redeem our 11.5% seniorsubordinated notes.  In connection withthe redemption, in January 2005 we paid $8.1 million of premiums for earlyredemption of the 11.5% senior subordinated 

 

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notesand recorded a $10.3 million loss on the early extinguishment of debt, whichincluded a charge for write-off of unamortized debt issuance costs in theamount of $2.3 million.

 

                We refer to the transactionsdescribed in this section collectively as the “IPO Transactions”.

 

*Capital Expenditures*

 

                Capital expenditures were $1.5million in the three months ended April 1, 2005 compared to $1.4 million in thethree months ended March 26, 2004. Capital expenditures as a percentage of sales were 0.8% in both periods.

 

*Liquidity*

 

                Our principal working capitalneed is for inventory and trade accounts receivable, which have generallyincreased with the growth in our business. Our principal sources of cash to fund our working capital needs are cashgenerated from operating activities and borrowings under our revolving creditfacility.

 

*Credit Facility*

 

                Interline New Jersey enteredinto a credit facility on May 29, 2003, which was amended as ofDecember 19, 2003, and amended again on December 21, 2004 in connectionwith the IPO Transactions. The amended credit facility provides for aggregatecommitments of $200.0 million, consisting of (1) a revolving loan facilityof $100.0 million, of which a portion not exceeding $20.0 million will beavailable in the form of letters of credit, and (2) a term loan facility of$100.0 million.  Borrowings underthe amended term loan facility and revolving loan facility bear interest, atInterline New Jersey’s option, at either adjusted LIBOR or at the alternatebase rate plus a spread. Outstanding letters of credit under the revolving loanfacility are subject to a per annum fee equal to the applicable spread overadjusted LIBOR for revolving loans. The indebtedness under the amended creditfacility is guaranteed by us and by the domestic subsidiaries of Interline NewJersey.  The amended term loan facilityhas a maturity of December 31, 2010, and the revolving loan facility has amaturity of May 31, 2008.

 

                During the three months endedApril 1, 2005 we borrowed periodically on our revolving credit facility toaccommodate our daily working capital needs. The weighted average dailyoutstanding balance during the three-month period was $10.0 million,with ordinary course borrowings ranging from $0.0 million to$18.0 million. As of April 1, 2005, Interline New Jersey had$10.0 million of letters of credit issued under the revolving loanfacility and $99.8 million aggregate principal outstanding under the termloan facility.

 

                We believe that cash flow fromoperations and available borrowing capacity under our new credit facility willbe adequate to finance our ongoing operational cash flow needs and debt serviceobligations for the next twelve months.

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUTMARKET RISK.

 

                We are aware of the potentiallyunfavorable effects inflationary pressures may create through higher assetreplacement costs and related depreciation, higher interest rates and higherproduct and material costs.  We seek tominimize the effects of inflation and changing prices through economies ofpurchasing and inventory management resulting in cost reductions andproductivity improvements as well as price increases to maintain reasonableprofit margins.  Management believes thatinflation (which has been moderate over the past few years) did notsignificantly affect our operating results or markets.

 

                The majority of our purchasesfrom foreign-based suppliers is from China and other countries in Asia and istransacted in U.S. dollars.  Accordingly,we have minimal foreign currency risk related to suppliers.

 

*DerivativeFinancial Instruments*

 

                Periodically, we enter intoderivative financial instruments, including interest rate exchange agreements,or swaps, to manage our exposure to fluctuations in interest rates on ourdebt.  As of April 1, 2005, we did nothave any interest rate swap exchange agreements, or swaps.  Under our former swap agreements, we 

 

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pay a fixed rateon the notional amount to our banks and the banks pay us a variable rate on thenotional amount equal to a base LIBOR rate. Our derivative activities, all of which are for purposes other thantrading, are initiated within the guidelines of corporate risk-managementpolicies.

 

                We periodically evaluate thecosts and benefits of any changes in our interest rate risk.  Based on such evaluation, we may enter intonew interest rate swaps to manage our interest rate exposure.

 

ITEM 4. CONTROLS AND PROCEDURES.

 

                Ourmanagement, with the participation of our Chief Executive Officer and ChiefFinancial Officer (our principal executive officer and principal financialofficer), evaluated the effectiveness of our disclosure controls and procedures(as defined inRules 13a-15(e) and 15d-15(e) under the Exchange Act) as of April 1, 2005.Based on this evaluation, our Chief Executive Officer and Chief FinancialOfficer concluded that, as of April 1, 2005, our disclosure controls andprocedures were: (1) designed to ensure that material information relating tous, including our consolidated subsidiaries, is made known to our ChiefExecutive Officer and Chief Financial Officer by others within those entities,particularly during the period in which this report was being prepared, and (2)effective, in that they provide reasonable assurance that information requiredto be disclosed by us in the reports that we file or submit under the ExchangeAct is recorded, processed, summarized and reported within the time periodsspecified in the SEC’s rules and forms.

 

                Nochange in our internal control over financial reporting (as defined in Rules13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the quarterended April 1, 2005 that has materially affected, or is reasonably likely tomaterially affect, our internal control over financial reporting.

 

 

**PART II. OTHER INFORMATION**

 

ITEM 1. LEGAL PROCEEDINGS.

 

                We areinvolved in various legal proceedings that have arisen in the ordinary courseof our business and have not been fully adjudicated. These actions, whenultimately concluded and determined, will not, in the opinion of management,have a material effect upon our consolidated financial position, results ofoperations or liquidity.

 

 

ITEM 2. CHANGES IN SECURITIES,USE OF PROCEEDS, AND ISSUER PURCHASES OF EQUITY SECURITIES.

 

                None

 

ITEM 3. DEFAULTS UPON SENIORSECURITIES.

 

                None

 

ITEM 4. SUBMISSION OF MATTERSTO A VOTE OF SECURITY HOLDERS.

 

                None

 

ITEM 5. OTHER INFORMATION.

 

(a) *Management appointments*

 

                On May 10, 2005,the Company appointed Thomas J. Tossavainen as its Chief Financial Officer. Mr.Tossavainen has been the acting Chief Financial Officer since March 17, 2005and has served in a senior financial capacity with Interline since 2001, mostrecently as its Vice President of Finance and Treasurer. Prior to joiningInterline, Mr. Tossavainen held various positions at Airgas, Inc., beginning in1996. Prior to this time, Mr. Tossavainen also served in the financial servicesgroup at KPMG Peat Marwick LLP. Mr. Tossavainen is a Certified PublicAccountant.

 

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ITEM 6.EXHIBITS.

 

                The following exhibits are being filed as part ofthis Quarterly Report on Form 10-Q:

 
| 10.20 |   | Separation Agreement and Release of All Claims, dated March 17, 2005, by and between  Interline Brands, Inc. and Charles Blackmon (incorporated by reference to  Exhibit 10.20 to Interline Brands, Inc.’s Form 10-K filed on March 31, 2005). |
|-------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.34 |   | Employment Agreement, dated May 12, 2004  between Interline Brands, Inc. and Thomas J. Tossavainen (incorporated  by reference to Exhibit 10.34 to Interline Brands Inc.’s Form 10-K filed on  March 31, 2005).                           |
| 31.1  |   | Certification of Michael J. Grebe as President and  Chief Executive Officer of Interline Brands, Inc., pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 (furnished herewith).                                                             |
| 31.2  |   | Certification of Thomas J. Tossavainen as Vice  President and Chief Financial Officer of Interline Brands, Inc., pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002 (furnished herewith).                                                   |
| 32.1  |   | Certification of the Chief Executive Officer  pursuant to Rule 13a-14(b) of the Exchange Act and 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (furnished  herewith).                                    |
| 32.2  |   | Certification of the Chief Financial Officer  pursuant to Rule 13a-14(b) of the Exchange Act and 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (furnished  herewith).                                    |

**Signatures**

 

                Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned hereuntoduly authorized. 
|   |                   |
|--------|------------------------|
|   | INTERLINE BRANDS, INC. |
|   |                   |   |
|   | BY:               |   /s/ Michael J. Grebe |   |
|   |                   | Michael J. Grebe |
|   |                   | President and Chief Executive Officer |
|   |                   |   |
|   |                   | (Duly Authorized Signatory and Principal Executive  Officer) |

 

Date: May 16, 2005

 

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**Signatures**

 

                Pursuantto the requirements of the Securities Exchange Act of 1934, the Registrant hasduly caused this report to be signed on its behalf by the undersigned hereuntoduly authorized. 
|   |                   |                                                         |
|--------|------------------------|--------------------------------------------------------------|
|   | INTERLINE BRANDS, INC. |
|   |                   |                                                         |
|   | BY:               |   /s/ Thomas J. Tossavainen                        |   |
|   |                   | Thomas J. Tossavainen                                   |
|   |                   | Vice President and Chief Financial Officer                   |
|   |                   |                                                         |
|   |                   | (Duly Authorized Signatory and Principal Financial  Officer) |
|        |                        |                                                              |  |  |

 

Date: May 16, 2005

 

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