**SECURITIESAND EXCHANGE COMMISSION**

 

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**ý****         QuarterlyReport Pursuant to Section 13 or 15(d) of the Securities Exchange Act of1934**

 

**For theperiod ended: October 2, 2004**

 

**or**

 

**o****         TransitionReport Pursuant to Section 13 or 15(d) of the Securities Exchange Act of1934**

 

**For theperiod from                            to                            **

 

**CommissionFile Number: 1-14725**

 

**MONACO COACH CORPORATION**

 
| **Delaware**             | ** ** | **35-1880244**      |
|--------------------------|------------|---------------------|
| (State of Incorporation) |       | (I.R.S. Employer    |
|                     |       | Identification No.) |

 

**91320 Industrial Way**

**Coburg, Oregon 97408**

(Address of principal executive offices)

 

Registrant’s telephone number, including area code **(541)686-8011**

 

Indicateby check mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 duringthe preceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.

 

YES ý        NO o

 

Indicateby check mark whether the registrant is an accelerated filer (as defined inRule 12b-2 of the Exchange Act).

 

YES ý        NO o

 

Thenumber of shares outstanding of common stock, $.01 par value, as of October 2,2004: 29,414,436

 

 

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**MONACO COACH CORPORATION**

 

**FORM 10-Q**

 

**October 2,2004**

 

**INDEX**

 
| **PART I - FINANCIAL  INFORMATION**                                                                                                           |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------|--------|
|                                                                                                                                          |   |
| **Item 1. Financial  Statements.**                                                                                                            |   |
|                                                                                                                                          |   |
| Condensed  Consolidated Balance Sheets as of January 3, 2004 and October 2,  2004.                                                  |   |
|                                                                                                                                          |   |
| Condensed  Consolidated Statements of Income for the quarters and nine-month periods  ended September 27, 2003 and October 2, 2004. |   |
|                                                                                                                                          |   |
| Condensed  Consolidated Statements of Cash Flows for the nine-month periods ended September 27,  2003 and October 2, 2004.          |   |
|                                                                                                                                          |   |
| Notes  to Condensed Consolidated Financial Statements.                                                                                        |   |
|                                                                                                                                          |   |
| **Item 2. Management’s  Discussion and Analysis of Financial Condition and Results of Operations.**                                      |   |
|                                                                                                                                          |   |
| **Item  3. Quantitative and Qualitative Disclosures About Market Risk.**                                                                      |   |
|                                                                                                                                          |   |
| **Item 4. Controls and Procedures.**                                                                                                          |   |
|                                                                                                                                          |   |
| **PART II - OTHER INFORMATION**                                                                                                               |   |
|                                                                                                                                          |   |
| **Item 6. Exhibits.**                                                                                                                         |   |
|                                                                                                                                          |   |
| Signatures.                                                                                                                                   |   |
|                                                                                                                                          |   |
| Certifications under Section 302(a)  and 906 of the Sarbanes-Oxley Act of 2002.                                                          |   |

 

2

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**PART I -FINANCIAL INFORMATION**

 

**Item1. Financial Statements**

 

3

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**MONACO COACH CORPORATION**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(Unaudited: dollars in thousands,except share and per share data)**

 
| ** **                                                                                                                  | ** ** | **January 3,  2004** | ** ** | **October 2,  2004** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------|------------|---------------------------|------------|---------------------------|------------|
| **ASSETS**                                                                                                                  |       |                      |       |                      |       |
| Current assets:                                                                                                             |       |                      |       |                      |       |
| Cash                                                                                                                        |       | $                         | 13,398     |                      | $          | 8,406 |   |
| Trade receivables, net                                                                                                      |       | 89,170                    |       | 129,314                   |       |
| Inventories                                                                                                                 |       | 127,746                   |       | 162,595                   |       |
| Resort lot inventory                                                                                                        |       | 13,978                    |       | 8,241                     |       |
| Prepaid expenses                                                                                                            |       | 3,029                     |       | 5,700                     |       |
| Deferred income taxes                                                                                                       |       | 33,836                    |       | 33,650                    |       |
| Total current assets                                                                                                        |       | 281,157                   |       | 347,906                   |       |
|                                                                                                                        |       |                      |       |                      |       |
| Property, plant, and equipment, net                                                                                         |       | 141,662                   |       | 138,928                   |       |
| Debt issuance costs net of accumulated amortization  of $815, and $1,200, respectively                                      |       | 596                       |       | 277                       |       |
| Goodwill                                                                                                                    |       | 55,254                    |       | 55,254                    |       |
| Total assets                                                                                                                |       | $                         | 478,669    |                      | $          | 542,365 |   |
|                                                                                                                        |       |                      |       |                      |       |
| **LIABILITIES**                                                                                                             |       |                      |       |                      |       |
| Current liabilities:                                                                                                        |       |                      |       |                      |       |
| Current portion of long-term note payable                                                                                   |       | $                         | 15,000     |                      | $          | 15,000 |   |
| Accounts payable                                                                                                            |       | 64,792                    |       | 96,328                    |       |
| Product liability reserve                                                                                                   |       | 20,723                    |       | 20,595                    |       |
| Product warranty reserve                                                                                                    |       | 29,643                    |       | 34,027                    |       |
| Income taxes payable                                                                                                        |       | 3,395                     |       | 6,826                     |       |
| Accrued expenses and other liabilities                                                                                      |       | 26,373                    |       | 32,635                    |       |
| Total current liabilities                                                                                                   |       | 159,926                   |       | 205,411                   |       |
|                                                                                                                        |       |                      |       |                      |       |
| Long-term note payable                                                                                                      |       | 15,000                    |       | 3,750                     |       |
| Deferred income taxes                                                                                                       |       | 17,495                    |       | 18,141                    |       |
|                                                                                                                        |       | 192,421                   |       | 227,302                   |       |
|                                                                                                                        |       |                      |       |                      |       |
| **STOCKHOLDERS’ EQUITY**                                                                                               |       |                      |       |                      |       |
| Preferred stock, $.01 par, 1,934,783 shares  authorized, no shares outstanding                                              |       |                      |       |                      |       |
| Common stock, $.01 par value; 50,000,000 shares authorized,  29,246,143 and 29,414,436 issued and outstanding, respectively |       | 292                       |       | 294                       |       |
| Additional paid-in capital                                                                                                  |       | 54,919                    |       | 56,829                    |       |
| Retained earnings                                                                                                           |       | 231,037                   |       | 257,940                   |       |
| Total stockholders’ equity                                                                                             |       | 286,248                   |       | 315,063                   |       |
| Total liabilities and stockholders’ equity                                                                             |       | $                         | 478,669    |                      | $          | 542,365 |   |

 

See accompanying notes.

 

4

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**MONACO COACH CORPORATION**

** CONDENSED CONSOLIDATED STATEMENTSOF INCOME**

**(Unaudited: dollars in thousands,except share and per share data)**

 
| ** **                                    | ** ** | **Quarter Ended**            | ** ** | **Nine-Months Ended**     | ** ** |
|-----------------------------------------------|------------|------------------------------|------------|---------------------------|------------|
| ** **                                    | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Net sales                                     |       | $                            | 303,231    |                      | $          | 358,869 |   | $ | 845,113 |   | $ | 1,071,619 |   |
| Cost of sales                                 |       | 266,458                      |       | 315,454                   |       | 747,534 |   | 938,073 |   |
| Gross profit                                  |       | 36,773                       |       | 43,415                    |       | 97,579 |   | 133,546 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Selling, general, and administrative expenses |       | 25,667                       |       | 31,036                    |       | 77,060 |   | 82,556 |   |
| Operating income                              |       | 11,106                       |       | 12,379                    |       | 20,519 |   | 50,990 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Other income, net                             |       | 11                           |       | 43                        |       | 502 |   | 256 |   |
| Interest expense                              |       | (767                         | )          | (370                      | )          | (2,558 | ) | (1,147 | ) |
| Income before income taxes                    |       | 10,350                       |       | 12,052                    |       | 18,463 |   | 50,099 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Provision for income taxes                    |       | 4,088                        |       | 4,616                     |       | 7,293 |   | 18,792 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Net income                                    |       | $                            | 6,262      |                      | $          | 7,436 |   | $ | 11,170 |   | $ | 31,307 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Earnings per common share:                    |       |                         |       |                      |       |   |   |   |   |
| Basic                                         |       | $                            | .22        |                      | $          | .25 |   | $ | .38 |   | $ | 1.07 |   |
| Diluted                                       |       | $                            | .21        |                      | $          | .25 |   | $ | .38 |   | $ | 1.04 |   |
|                                          |       |                         |       |                      |       |   |   |   |   |
| Weighted average common shares outstanding:   |       |                         |       |                      |       |   |   |   |   |
| Basic                                         |       | 29,080,716                   |       | 29,410,086                |       | 29,021,742 |   | 29,354,598 |   |
| Diluted                                       |       | 29,625,959                   |       | 29,962,722                |       | 29,478,842 |   | 29,981,063 |   |

 

See accompanyingnotes.

 

5

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**MONACO COACH CORPORATION**

** CONDENSED CONSOLIDATED STATEMENTSOF CASH FLOWS**

**(Unaudited: dollars in thousands)**

 
| ** **                                                                                | ** ** | **Nine-Months Ended**        | ** ** |
|-------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                                | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** |
|                                                                                      |       |                         |       |   |   |
| **Increase (Decrease) in Cash:**                                                          |       |                         |       |   |   |
|                                                                                      |       |                         |       |   |   |
| Cash flows from operating activities:                                                     |       |                         |       |   |   |
| Net income                                                                                |       | $                            | 11,170     |   | $ | 31,307 |   |
| Adjustments to reconcile net income to net cash  (used) provided by operating activities: |       |                         |       |   |   |
| Loss on sale of assets                                                                    |       | 20                           |       | 240 |   |
| Depreciation and amortization                                                             |       | 7,202                        |       | 8,029 |   |
| Deferred income taxes                                                                     |       | 4,297                        |       | 832 |   |
| Changes in working capital accounts:                                                      |       |                         |       |   |   |
| Trade receivables, net                                                                    |       | 11,075                       |       | (40,144 | ) |
| Inventories                                                                               |       | 43,467                       |       | (34,849 | ) |
| Resort lot inventory                                                                      |       | 4,712                        |       | 5,737 |   |
| Prepaid expenses                                                                          |       | 724                          |       | (2,679 | ) |
| Accounts payable                                                                          |       | (551                         | )          | 31,536 |   |
| Product liability reserve                                                                 |       | (696                         | )          | (128 | ) |
| Product warranty reserve                                                                  |       | (2,769                       | )          | 4,384 |   |
| Income taxes payable                                                                      |       | (2,440                       | )          | 3,431 |   |
| Accrued expenses and other liabilities                                                    |       | 633                          |       | 6,262 |   |
| Net cash provided by operating activities                                                 |       | 76,844                       |       | 13,958 |   |
| Cash flows from investing activities:                                                     |       |                         |       |   |   |
| Additions to property, plant, and equipment                                               |       | (16,969                      | )          | (7,069 | ) |
| Proceeds from the sale of assets                                                          |       | 2,051                        |       | 1,927 |   |
| Proceeds from the sale of Naples property                                                 |       | 6,650                        |       | 0 |   |
| Net cash used in investing activities                                                     |       | (8,268                       | )          | (5,142 | ) |
| Cash flows from financing activities:                                                     |       |                         |       |   |   |
| Book overdraft                                                                            |       | 1,206                        |       | 0 |   |
| Payments on lines of credit, net                                                          |       | (51,413                      | )          | 0 |   |
| Payments on long-term notes payable                                                       |       | (19,500                      | )          | (11,250 | ) |
| Debt issuance costs                                                                       |       | (304                         | )          | (66 | ) |
| Dividends paid                                                                            |       | 0                            |       | (4,404 | ) |
| Issuance of common stock                                                                  |       | 1,435                        |       | 1,912 |   |
| Net cash used by financing activities                                                     |       | (68,576                      | )          | (13,808 | ) |
| Net change in cash                                                                        |       | 0                            |       | (4,992 | ) |
| Cash at beginning of period                                                               |       | 0                            |       | 13,398 |   |
| Cash at end of period                                                                     |       | $                            | 0          |   | $ | 8,406 |   |

 

See accompanying notes.

 

6

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**MONACO COACH CORPORATION**

**NOTESTO CONDENSED CONSOLIDATED FINANCIA****L STATEMENTS**

**(Unaudited)**

 

**1.**              Basis ofPresentation

** **

The interim condensedconsolidated financial statements have been prepared by Monaco CoachCorporation (the “Company”) without audit. In the opinion of management, theaccompanying unaudited financial statements contain all adjustments necessary,consisting only of normal recurring adjustments, to present fairly thefinancial position of the Company as of January 3, 2004 and October 2,2004, and the results of its operations for the quarters and nine-month periodsended September 27, 2003 and October 2, 2004, and cash flows of theCompany for the nine-month periods ended September 27, 2003 and October 2,2004. The condensed consolidated financial statements include the accounts ofthe Company and its wholly-owned subsidiaries, and all significant intercompanyaccounts and transactions have been eliminated in consolidation. The balancesheet data as of January 3, 2004 was derived from audited financialstatements, but does not include all disclosures contained in the Company’sAnnual Report to Stockholders. These interim condensed consolidated financialstatements should be read in conjunction with the audited financial statementsand notes thereto appearing in the Company’s Annual Report to Stockholders forthe year ended January 3, 2004.

 

**2.**              Inventories

** **

Inventories are stated atlower of cost (first-in, first-out) or market. The composition of inventory isas follows:

 
| ** **      | ** ** | **January 3,  2004** | ** ** | **October 2,  2004** | ** ** |
|-----------------|------------|---------------------------|------------|---------------------------|------------|
| ** **      | ** ** | **(in thousands)**        | ** ** |
| Raw materials   |       | $                         | 60,946     |                      | $          | 72,987 |   |
| Work-in-process |       | 60,604                    |       | 70,014                    |       |
| Finished units  |       | 6,196                     |       | 19,594                    |       |
|            |       | $                         | 127,746    |                      | $          | 162,595 |   |

 

**3.**              Line of Credit

** **

The Company’s line ofcredit facility consists of a revolving line of credit of up to $95.0 million(the “Revolving Loan”). At the election of the Company, the Revolving Loanbears interest at variable rates based on the Prime Rate or LIBOR. At October 2,2004, the interest rate was 4.75%. The Revolving Loan is due and payable infull on June 30, 2005, and requires monthly interest payments. The balanceoutstanding under the Revolving Loan at October 2, 2004 was zero. Therevolving line of credit is collateralized by all the assets of the Company. Theagreement contains restrictive covenants as to the Company’s leverage ratio,current ratio, fixed charge coverage ratio, and tangible net worth. As of October 2,2004, the Company was in compliance with these covenants.

 

7

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**4.**              Long-term NotesPayable

** **

The Company has long-termnotes payable of $18.8 million outstanding at October 2, 2004. The termnotes bear interest at varying rates that fluctuate based on the Prime rate orLIBOR, and are determined based on the Company’s leverage ratio. The term notesrequire monthly interest payments and quarterly principal payments and arecollateralized by all the assets of the Company. Additional prepayments forportions of the term notes are required in the event the Company sellssubstantially all or any motor coach resort locations. The term notes are dueand payable in full on October 3, 2005.

 

The following tabledisplays the scheduled future principal payments by fiscal year that will bedue on the term loan.

 

| **Year**   | ** ** | **Amount of  Payment  Due** | ** ** |
|------------|------------|-----------------------------|------------|
| ** ** | ** ** | **(in thousands)**          | ** ** |
| 2004       |       | $                           | 3,750      |   |
| 2005       |       | 15,000                      |       |
|       |       | $                           | 18,750     |   |

 

**5.**              Earnings Per CommonShare

** **

Basic earnings per commonshare is based on the weighted average number of shares outstanding during theperiod. Diluted earnings per common share is based on the weighted averagenumber of shares outstanding during the period, after consideration of thedilutive effect of stock options.  Theweighted average number of common shares used in the computation of earningsper common share are as follows:

 
| ** **                                       | ** ** | **Quarter Ended**            | ** ** | **Nine-Months Ended**     | ** ** |
|--------------------------------------------------|------------|------------------------------|------------|---------------------------|------------|
| ** **                                       | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** |
| **Basic**                                        |       |                         |       |                      |       |   |   |   |   |
| Issued and outstanding shares (weighted average) |       | 29,080,716                   |       | 29,410,086                |       | 29,021,742 |   | 29,354,598 |   |
|                                             |       |                         |       |                      |       |   |   |   |   |
| **Effect of Dilutive Securities**                |       |                         |       |                      |       |   |   |   |   |
| Stock Options                                    |       | 545,243                      |       | 552,636                   |       | 457,100 |   | 626,465 |   |
| **Diluted**                                      |       | 29,625,959                   |       | 29,962,722                |       | 29,478,842 |   | 29,981,063 |   |

 

8

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**6.**              Stock Option Plans

** **

**At October 2, 2004, theCompany had three stock-based employee compensation plans. The Company accountsfor those plans under the recognition and measurement principles of APB OpinionNo. 25, Accounting for Stock Issued to Employees, and related Interpretations. Nostock-based employee compensation cost is reflected in net income, as alloptions granted under those plans had an exercise price equal to the marketvalue of the underlying common stock on the date of grant. The following tableillustrates the effect on net income and earnings per share if the Company hadapplied the fair value recognition provisions of SFAS 123, Accounting forStock-based Compensation, to stock-based employee compensation.**

 
| ** **                                                                                                                                    | ** ** | **Quarter Ended**            | ** ** | **Nine-Months Ended**     | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|---------------------------|------------|
| ** **                                                                                                                                    | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** | **September 27,  2003** | ** ** | **October 2,  2004** | ** ** |
|                                                                                                                                          |       |                         |       |                      |       |   |   |   |   |
| Net income - as reported                                                                                                                      |       | $                            | 6,262      |                      | $          | 7,436 |   | $ | 11,170 |   | $ | 31,307 |   |
| Deduct: Total stock-based employee compensation  expense determined under fair value based method for all awards, net of  related tax effects |       | 194                          |       | 236                       |       | 532 |   | 574 |   |
|                                                                                                                                          |       | $                            | 6,068      |                      | $          | 7,200 |   | $ | 10,638 |   | $ | 30,733 |   |
|                                                                                                                                          |       |                         |       |                      |       |   |   |   |   |
| Earnings per share:                                                                                                                           |       |                         |       |                      |       |   |   |   |   |
| Basic - as reported                                                                                                                           |       | $                            | 0.22       |                      | $          | 0.25 |   | $ | 0.38 |   | $ | 1.07 |   |
| Basic - pro forma                                                                                                                             |       | $                            | 0.21       |                      | $          | 0.24 |   | $ | 0.37 |   | $ | 1.05 |   |
|                                                                                                                                          |       |                         |       |                      |       |   |   |   |   |
| Diluted - as reported                                                                                                                         |       | $                            | 0.21       |                      | $          | 0.25 |   | $ | 0.38 |   | $ | 1.04 |   |
| Diluted - pro forma                                                                                                                           |       | $                            | 0.20       |                      | $          | 0.24 |   | $ | 0.36 |   | $ | 1.03 |   |
|                                                                                                                                               |            |                              |            |                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**7.**              Commitments andContingencies

** **

Repurchase Agreements

 

Many of theCompany’s sales to independent dealers are made on a “floor plan” basis by abank or finance company which lends the dealer all or substantially all of thewholesale purchase price and retains a security interest in the vehicles. Uponrequest of a lending institution financing a dealer’s purchases of the Company’sproduct, the Company will execute a repurchase agreement. These agreementsprovide that, for up to 18 months after a unit is shipped, the Company willrepurchase a dealer’s inventory in the event of a default by a dealer to itslender.

 

The Company’sliability under repurchase agreements is limited to the unpaid balance owed tothe lending institution by reason of its extending credit to the dealer topurchase its vehicles, reduced by the resale value of vehicles which may berepurchased. The risk of loss is spread over numerous dealers and financialinstitutions.

 

9

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The approximateamount subject to contingent repurchase obligations arising from theseagreements at October 2, 2004 is $580.4 million, with approximately 6.2%concentrated with one dealer. If the Company were obligated to repurchase asignificant number of units under any repurchase agreement, its business,operating results, and financial condition could be adversely affected. TheCompany has included the disclosure requirements of FASB Interpretation No. 45(FIN 45), “Guarantor’s Accounting and Disclosure Requirements for Guarantees,Including Indirect Guarantees of Indebtedness of Others” in its financialstatements, and has determined that the recognition provisions of FIN 45 applyto certain guarantees routinely made by the Company including contingentrepurchase obligations to third party lenders for inventory financing of dealerinventories. The Company has recorded a liability of approximately $750,000 forpotential losses resulting from guarantees on repurchase obligations forproducts shipped to dealers. This estimated liability, is based on the Company’sexperience of losses associated with the repurchase and resale of units inprior years. If the Company were obligated to repurchase a significant numberof units under any repurchase agreement, its business, operating results, andfinancial condition could be adversely affected.

 

Product Liability

 

The Company issubject to regulations which may require the Company to recall products withdesign or safety defects, and such recall could have a material adverse effecton the Company’s business, results of operations, and financial condition.

 

The Company hasfrom time to time been subject to product liability claims. To date, theCompany has been successful in obtaining product liability insurance on termsthe Company considers acceptable. The terms of the policy contain aself-insured retention amount of $500,000 per occurrence, with a maximum annualaggregate self-insured retention of $3.0 million. Overall product liabilityinsurance, including umbrella coverage, is available to a maximum amount of$100.0 million for each occurrence, as well as in the aggregate. There can beno assurance that the Company will be able to obtain insurance coverage in thefuture at acceptable levels or that the cost of insurance will be reasonable. Furthermore,successful assertion against the Company of one or a series of large uninsuredclaims, or of one or a series of claims exceeding any insurance coverage, couldhave a material adverse effect on the Company’s business, results ofoperations, and financial condition.

 

Litigation

 

The Company isinvolved in various legal proceedings which are incidental to the industry andfor which certain matters are covered in whole or in part by insurance or,otherwise, the Company has recorded accruals for estimated settlements. Managementbelieves that any liability which may result from these proceedings will nothave a material adverse effect on the Company’s consolidated financialstatements.

 

Aircraft Lease Commitment

 

The Company has anaircraft under an operating lease, with annual renewals for up to three years. Currentlythe Company began its first year of renewal in February 2004, with twooptional years remaining. If at the end of the initial lease period the Companyelects to return the aircraft, the Company has guaranteed up to $16 million inthe event the lessor’s net sales proceeds are less than $18.5 million.

 

10

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**2. Management’s Discussion and Analysis of FinancialCondition and Results of Operations**

** **

ThisQuarterly Report on Form 10-Q contains forward-looking statements within themeaning of Section 27A of the Securities Act of 1933, as amended, and Section 21Eof the Securities Exchange Act of 1934, as amended. These statements include,but are not limited to, those below that have been marked with an asterisk (*).In addition, statements containing words such as “anticipates,” “believes,” “estimates,”“expects,” “intends,” “plans,” “seeks,” and variations of such words andsimilar expressions are intended to identify forward-looking statements. Suchforward-looking statements involve known and unknown risks, uncertainties andother factors that may cause our actual results, performance or achievements todiffer materially from those expressed or implied by such forward-lookingstatements, including those set forth below under the caption “Factors That MayAffect Future Operating Results” and elsewhere in this Quarterly Report on Form10-Q. The reader should carefully consider, together with the other mattersreferred to herein, the factors set forth under the caption “Factors That MayAffect Future Operating Results.” We caution the reader, however, that thesefactors may not be exhaustive.

 

**GENERAL**

 

MonacoCoach Corporation is a leading manufacturer of premium Class A and Class Cmotor coaches and towable recreational vehicles (“towables”). Our product linecurrently consists of a broad line of motor coaches, fifth wheel trailers andtravel trailers under the “Monaco,” “Holiday Rambler,” “Royale Coach,” “Beaver,”“Safari,” and “McKenzie” brand names. Our products, which are typically pricedat the high end of their respective product categories, range in suggestedretail price from $76,000 to $1.4 million for motor coaches and from $25,000 to$65,000 for towables.

 

**RESULTSOF OPERATIONS**

 

The following table illustrates the results of operations for thequarters ended September 27, 2003, and October 2, 2004. All dollarsrepresented are in thousands.

 
| ** **                                   | ** ** | **Quarter Ended   September 27, 2003** | ** ** | **%   of Sales** | ** ** | **Quarter Ended   October 2, 2004** | ** ** | **%   of Sales** | ** ** | **$   Change** | ** ** | **%   Change** | ** ** |
|----------------------------------------------|------------|---------------------------------------------|------------|------------------|------------|------------------------------------------|------------|------------------|------------|---------------------|------------|----------------|------------|
| Net sales                                    |       | $303,231                                    |       | 100.0            | %          | $358,869                                 |       | 100.0            | %          | $55,638             |       | 18.4           | %          |
| Cost of Sales                                |       | 266,458                                     |       | 87.9             | %          | 315,454                                  |       | 87.9             | %          | 48,996              |       | 18.4           | %          |
| Gross Profit                                 |       | 36,773                                      |       | 12.1             | %          | 43,415                                   |       | 12.1             | %          | 6,642               |       | 18.1           | %          |
| Selling, general and administrative expenses |       | 25,667                                      |       | 8.5              | %          | 31,036                                   |       | 8.7              | %          | 5,369               |       | 20.9           | %          |
|                                         |       |                                        |       |             |       |                                     |       |             |       |                |       |           |       |
| Operating income                             |       | $11,106                                     |       | 3.6              | %          | $12,379                                  |       | 3.4              | %          | $1,273              |       | 11.5           | %          |

 

*Performancein the third quarter of 2004*

 

We arepleased with the record revenues generated for the third quarter of 2004. Profitsfor the third quarter of 2004 were somewhat improved over that of the thirdquarter of 2003. Gross margins, while consistent with the same period last year,were negatively affected compared to the second quarter of 2004. Continuedpressure from commodity prices in the steel, lumber, petroleum-based products,and other related industries negatively affected profits. In response to theserising costs, we passed along proportional price increases in our productsduring the first and second quarters of 2004. Currently the rate of priceincreases in the commodities markets has slowed down, but we can not rule outthe possibility of future price increases becoming necessary.* In addition topricing issues, a general slowdown in the recreational vehicle industry hascreated competitive wholesale pricing constraints. In response to this, we haveengaged in wholesale price discounts to our dealer network to avoid buildingfinished goods inventory. This program, while successful, also negativelyaffected our gross margin.

 

Selling,general, and administrative (S,G&A) expenses in the third quarter of 2004were higher than both the third quarter of 2003 and****second quarter of 2004. Retail sales promotions, designed tomove product off of

 

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dealer lots, weresuccessful, but also increased our S,G&A expenses. These promotions,coupled with increased advertising and litigation settlement****expense, resulted in higher S,G&A thanis normal. Accordingly, we have begun an intensive review of our S,G&Astructure, and expect that we will begin to return to more normalized levels bythe middle of 2005.*

 

*Quarterended October 2, 2004 compared to quarter ended September 27, 2003*

 

Thirdquarter net sales increased 18.4% to $358.9 million compared to $303.2 millionfor the same period last year. Gross diesel motorized revenues were up 6.9%,gas motorized were up 66.7% and towables were up 50.5%. Diesel productsaccounted for 71.8% of our third quarter revenues while gas products were17.4%, and towables were 10.8%. The overall increase in revenues reflectedimproving market conditions, continued low interest rates, and increasedinterest in recreational vehicles. Our overall unit sales were up 38.1% in thethird quarter of 2004 to 3,364 units, with diesel motorized unit sales up 3.0%to 1,341 units, gas motorized unit sales up 71.3% to 769 units, and towableunit sales up 83.1% to 1,254 units. Our total average unit selling pricedecreased to $106,000 from $124,000 in the same period last year, reflectingour strong gains in the sale of lower priced gas motor homes and towableproducts.

 

Grossprofit for the third quarter of 2004 increased to $43.4 million, up from $36.8million in 2003, and gross margin remained constant at 12.1% in the thirdquarter of 2003 and 12.1% in the third quarter of 2004. The consistency ingross margin when compared to the prior year was due to a combination of factors,including a reduction in discounts off of wholesale invoices of approximately..5% of sales, improvements in warranty expense of .2% of sales, improvements indirect labor of .5% of sales, and a .7% reduction in indirect costs as apercentage of sales. These improvements were offset by an increase in directmaterial costs of 1.6% of sales, and a .2% increase in delivery expense as apercent of sales. Our overall gross margin may decline in future periods if themix of products continues to shift from higher to lower gross margin units, ifwe are unable to match lower plant utilization levels with correspondingreductions in our fixed costs, or if we encounter unexpected manufacturingdifficulties or competitive pressures.*

 

Selling,general, and administrative expenses (S,G&A) increased by $5.4 to $31.0million in the third quarter of 2004 and increased as a percentage of salesfrom 8.5% in 2003 to 8.7% in 2004. S,G&A expenses in the third quarter of2004 included decreases in retail promotions of .5% as a percentage of salesthat were offset by increases in marketing and advertising costs of .1% ofsales, increases in litigation settlement expenses of .3% of sales, and .3%increase as a percent of sales in other areas including contract services andmiscellaneous items.

 

Operatingincome was $12.4 million, or 3.5% of sales, in the third quarter of 2004compared to $11.1 million, or 3.6% of sales, in the similar 2003 period. Thedecrease in operating margins reflects increased S,G&A as a percentage ofsales.

 

Netinterest expense was $370,000 in the third quarter of 2004 versus $767,000 inthe comparable 2003 period, reflecting a lower level of borrowing during thethird quarter of 2004.

 

Wereported a provision for income taxes of $4.6 million, or an effective tax rateof 38.3%, in the third quarter of 2004, compared to $4.1 million, or aneffective tax rate of 39.5%, for the comparable 2003 period. The decrease inthe effective tax rate was due primarily to a reduction in the valuationallowance previously provided for certain net operating loss carryforwardbenefits that were not expected to be realized. Due to changes in federalincome tax rules, we determined in the second quarter of 2004 that we would beable to fully realize the future tax benefits from these net operating losscarryforwards and that the related valuation allowance was no longer necessary.Further reductions in the effective tax rate resulted from increases in ourextraterritorial income exclusion benefits on foreign sales and a change instate income tax law. We expect the effective tax rate to be 38.3% through theremainder of 2004.*

 

Netincome for the third quarter of 2004 was $7.4 million compared to $6.3 millionin the third quarter of 2003 due to an increase in sales combined with a loweroperating margin, a decrease in interest expense, and an improvement in theeffective tax rate.

 

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*Ninemonths ended October 2, 2004 compared to nine months ended September 27,2003*

 

Netsales increased 26.8% to $1.1 billion in the nine-month period ended October 2,2004 compared to $845.4 million for the same period last year. Gross dieselmotorized revenues were up 18.0%, gas motorized revenues were up 55.2%, andtowables were up 56.5%. Diesel products accounted for 73.5% of our first ninemonths’ revenues while gas products were 16.7%, and towables were 9.8%. Theoverall increase in revenues was driven by improving market conditions,continued low interest rates, and continued interest in recreational vehicles. Ouroverall unit sales were up 39.4% in the first nine months of 2004 compared tothe similar period in 2003 with diesel motorized unit sales up 11.7% to 4,129units, gas motorized unit sales up 54.1% to 2,248 units, and towable unitssales up 82.1% to 3,470. Our average unit selling price decreased in the firstnine months of 2004 compared to the similar 2003 period to $108,000 from$119,000, reflecting our continued emphasis on increasing the sale of lowerpriced gas motor homes and towable products.

 

Grossprofit for the nine-month period ended October 2, 2004 increased to $133.5million from $97.6 million in 2003, and gross margin increased to 12.5% in 2004from 11.6% in 2003. The increase in gross margin over the prior year was due toa combination of factors, including a reduction in discounts off of wholesaleinvoices of approximately .1% of sales. In addition, other direct costs, suchas labor, with related benefits, improved by .7% as a percentage of sales,warranty expense improved by .4% as a percentage of sales, and indirect cost ofsales related to factory overhead improved by .6% as a percentage of sales. Thesebenefits were offset by a higher material usage rate of .8% as a percentage ofsales due to increases in commodity prices, as well as shifts in product mixthat have a higher cost as a percentage of sales. We experienced additionalmargin pressure due to higher delivery costs of .1% of sales. Our overall grossmargin may decline in future periods if the mix of products continues to shiftfrom higher to lower gross margin units or if we encounter unexpectedmanufacturing difficulties or competitive pressures.*

 

S,G&Aexpenses increased by $5.5 to $82.6 million in the first nine months of 2004and decreased as a percentage of sales from 9.1% in 2003 to 7.7% in 2004. S,G&Ain the first nine months of 2004 included decreases in retail promotions of1.0% of sales, decreases in litigation settlement expense of .3% of sales, andreductions in other areas of general expenses of .2%. These decreases wereoffset by increases in contract services of .1% of sales related to certainconsulting projects.

 

Operatingincome was $51.0 million, or 4.8% of sales, in the nine-month period ended October 2,2004 compared to $20.6 million, or 2.4% of sales, in the similar 2003 period. Theincrease in operating margins reflected improved gross margins as well asreduced S,G&A as a percentage of sales.

 

Netinterest expense was $1.1 million in the first nine months of 2004 versus $2.6million (after capitalization of $135,000 for construction-in-progress) in thecomparable 2003 period, reflecting a lower level of borrowing during the firsthalf of 2004.

 

Wereported a provision for income taxes of $18.8 million, or an effective taxrate of 37.5%, for the first nine months of 2004, compared to $7.3 million, oran effective tax rate of 39.5%, for the comparable 2003 period. The decrease inthe effective tax rate was due primarily to a reduction in the valuationallowance previously provided for certain net operating loss carryforwardbenefits that were not expected to be realized. Due to changes in federalincome tax rules, we determined in second quarter 2004 that we would be able tofully realize the future tax benefits from these net operating loss carryforwardsand that the related valuation allowance was no longer necessary. Furtherreductions in the effective tax rate resulted from increases in ourextraterritorial income exclusion benefits on foreign sales and a change instate income tax law. We expect the effective tax rate to be 38.3% through theremainder of 2004.*

 

Netincome for the first nine months of 2004 was $31.3 million compared to $11.2million in the first nine months of 2003 due to the increase in sales combinedwith higher gross margins.

 

**LIQUIDITYAND CAPITAL RESOURCES**

 

Ourprimary sources of liquidity are internally generated cash from operations andavailable borrowings under our credit facilities. During the first nine monthsof 2004, we generated cash of $14.0 million from operating activities. Wegenerated $39.6 million from net income and non-cash expenses such asdepreciation and amortization. Other sources of cash included a $31.5 millionincrease in trade payables, a $6.3 million increase in accrued liabilities, a$3.4 million increase in income tax payable, a $5.7 million decrease in resortlot inventory, and a $4.4 million increase in warranty reserve. Trade payablesincreased primarily due to increased production levels.

 

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Other liabilitiesincreased due to increases in various reserves related to employee benefits andperformance-based compensation. Reduced resort lot inventories reflect stronglot sales for the nine-month period, and the increase in warranty reserve isthe result of the strong increase in recreational vehicles sold. These sourcesof cash were mostly offset by a $40.1 million increase in receivables, a $34.8million increase in inventories, and a $2.7 million increase in prepaidexpenses. Trade receivables increased due to higher shipment levels occurringat the end of the third quarter 2003, compared to the end of the fourth quarterof 2003. This shipment pattern is a result of normal decreased productionlevels in the fourth quarter due to regularly scheduled plant shutdowns forvacations. Inventory increases are the result of increased production, as wellas the below normal finished good levels that existed at the end of 2003. Prepaidexpenses were up due to the renewal of certain liability insurance policies thatexpired during the nine-month period.

 

Wehave credit facilities consisting of a revolving line of credit of up to $95.0million of which zero borrowings were outstanding at October 2, 2004 (the “RevolvingLoan”) and term loans with balances of $18.8 million at October 2, 2004(the “Term Loans”). At our election, the Revolving Loan and Term Loans bearinterest at varying rates that fluctuate based on the Prime rate or LIBOR, andare determined based on our leverage ratio. We also pay interest monthly on theunused available portion of the Revolving Loan at varying rates, determined byour leverage ratio. The Revolving loan is due and payable in full on June 30,2005, and requires monthly interest payments. Additional prepayments forportions of the term notes are required in the event we sell substantially all,or any, motor coach resort location. The Term Loans require monthly interestpayments and principal payments that total $3.75 million per quarter. TheRevolving Loan and Term Loans are collateralized by all of our assets andinclude various restrictions and financial covenants. We utilize “zero balance”bank disbursement accounts in which an advance on the line of credit isautomatically made for checks clearing each day. Since the balance of the disbursementaccount at the bank returns to zero at the end of each day, our outstandingchecks are reflected as a liability. The outstanding check liability iscombined with our positive cash balance accounts to reflect a net cash balancefor financial reporting.

 

Our principal working capital requirements are for purchases ofinventory and financing of trade receivables. Many of our dealers financeproduct purchases under wholesale floor plan arrangements with third parties asdescribed below. At October 2, 2004, we had working capital ofapproximately $142.5 million, an increase of $21.3 million from working capitalof $121.2 million at January 3, 2004. We have been using cash flow fromoperations to finance our capital expenditures.

 

We believe that cash flow from operations and funds available under ourcredit facilities will be sufficient to meet our liquidity requirements for thenext 12 months.* Our capital expenditures were $7.1 million in the first ninemonths of 2004, which included costs related to installation of certainautomated machinery, enhancements to the Company’s information systeminfrastructure, as well as various other routine capital expenditures. Weanticipate that capital expenditures for all of 2004 will be approximately $12to $15 million, which includes expenditures to purchase additional machineryand equipment in both our Oregon and Indiana facilities, as well as upgrades toexisting information systems infrastructures.* We may require additional equityor debt financing to address working capital and facilities expansion needs,particularly if we significantly increase the level of working capital assetssuch as inventory and accounts receivable. We may also from time to time seekto acquire businesses that would complement our current business, and any suchacquisition could require additional financing. There can be no assurance thatadditional financing will be available if required or on terms deemed favorableby us.

 

As is typical in the recreational vehicle industry, many of our retaildealers utilize wholesale floor plan financing arrangements with third partylending institutions to finance their purchases of our products. Under theterms of these floor plan arrangements, institutional lenders customarilyrequire the recreational vehicle manufacturer to agree to repurchase any unsoldunits if the dealer fails to meet its commitments to the lender, subject tocertain conditions. We have agreements with several institutional lenders underwhich we currently have repurchase obligations. Our contingent obligationsunder these repurchase agreements are reduced by the proceeds received upon thesale of any repurchased units. Our obligations under these repurchaseagreements vary from period to period, up to 18 months. At October 2, 2004,approximately $580.4 million of products sold by us to independent dealers weresubject to potential repurchase under existing floor plan financing agreementswith approximately 6.2% concentrated with one dealer. Historically, we havebeen successful in mitigating losses associated with repurchase obligations. Duringthe first nine months of 2004, the losses associated with the exercise ofrepurchase agreements were less than $400,000. If we were obligated torepurchase a significant number of units under any repurchase agreement, ourbusiness, operating results, and financial condition could be adverselyaffected.

 

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As part of the normal course of business, we incur certain contractualobligations and commitments which will require future cash payments. Thefollowing tables summarize the significant obligations and commitments as of October 2,2004.

 

PAYMENTS DUE BY PERIOD

 
| **Contractual obligations (in thousands)** | ** ** | **1 year or less** | ** ** | **1 to 3 years** | ** ** | **4 to 5 years** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
|--------------------------------------------|------------|--------------------|------------|------------------|------------|------------------|------------|----------------|------------|-----------|------------|
| Long-term Debt (1)                         |       | $                  | 15,000     |             | $          | 3,750            |       | $              | 0          |      | $          | 0 |   | $ | 18,750 |   |
| Operating Leases (2)                       |       | 734                |       | 2,479            |       | 1,957            |       | 3,599          |       | 8,769     |       |
| Total Contractual Cash Obligations         |       | $                  | 15,734     |             | $          | 6,229            |       | $              | 1,957      |      | $          | 3,599 |   | $ | 27,519 |   |

 

AMOUNT OF COMMITMENT EXPIRATION BY PERIOD

 
| **Other commitments (in thousands)** | ** ** | **1 year or less** | ** ** | **1 to 3 years** | ** ** | **4 to 5 years** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|--------------------|------------|------------------|------------|------------------|------------|----------------|------------|-----------|------------|
| Lines of Credit (3)                  |       | $                  | 0          |             | $          | 95,000           |       | $              | 0          |      | $          | 0 |   | $ | 95,000 |   |
| Guarantees (2)                       |       | 0                  |       | 16,000           |       | 0                |       | 0              |       | 16,000    |       |
| Repurchase Obligations (4)           |       | 0                  |       | 580,400          |       | 0                |       | 0              |       | 580,400   |       |
| Total Commitments                    |       | $                  | 0          |             | $          | 691,400          |       | $              | 0          |      | $          | 0 |   | $ | 691,400 |   |

 

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(1) See Note 4 to the Condensed Consolidated Financial Statements.

(2) Various leases including manufacturing facilities, aircraft, andmachinery and equipment. See Note 7 to the Condensed Consolidated FinancialStatements.

(3) See Note 3 to the Condensed Consolidated Financial Statements. Theamount listed represents available borrowings on the line of credit at October 2,2004.

(4) Reflects obligations under manufacturer repurchase commitments. SeeNote 7 to the Condensed Consolidated Financial Statements.

 

**INFLATION**

 

In the first nine months of 2004, we experiencedsignificant increases in the prices of certain commodity items that we use inthe manufacturing of our products. These include, but are not limited to,steel, copper, aluminum, petroleum, and wood. While these raw materials are notnecessarily indicative of widespread inflationary trends, they have had amaterial impact on our production costs, and accordingly, we have passed alongprice increases to offset these increased costs. However, even though we havebeen able to pass along past price increases, there is no guarantee that wewill be able to pass along future increases. While we have seen some of thesecosts begin to level off, potential future increases in raw material costscould have a material adverse impact on our business going forward.

 

**CRITICAL ACCOUNTING POLICIES**

 

The discussion and analysis of our financial condition and results ofoperations are based upon our consolidated financial statements, which havebeen prepared in accordance with accounting principles generally accepted inthe United States of America. The preparation of these financial statementsrequires us to make estimates and judgments that affect the reported amounts ofassets, liabilities, revenues and expenses, and related disclosure ofcontingent assets and liabilities. On an ongoing basis, we evaluate ourestimates, including those related to warranty costs, product liability, andimpairment of goodwill. We base our estimates on historical experience and onvarious other assumptions that are believed to be reasonable under thecircumstances. Actual results may differ from these estimates under differentassumptions or conditions. We believe the following critical accountingpolicies and related judgments and estimates affect the preparation of ourconsolidated financial statements.

 

WARRANTY COSTS  Estimated warranty costs are provided for atthe time of sale of products with warranties covering the products for up toone year from the date of retail sale (five years for the front and sidewallframe structure, and three years on the Roadmaster chassis). These estimatesare based on historical average repair costs, as well as other reasonableassumptions as have been deemed appropriate by management.

 

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PRODUCT LIABILITY  We provide an estimate for accrued productliability based on current pending cases, as well as for those cases which areincurred but not reported. This estimate is developed by legal counsel based onprofessional judgment, as well as historical experience.

 

IMPAIRMENT OF GOODWILL  We assess the potential impairment ofgoodwill in accordance with Financial Accounting Standards Board (FASB)Statement No. 142. This initial test involves management comparing our marketcapitalization, to the carrying amount, including goodwill, of our net bookvalue, to determine if goodwill has been impaired.

 

INVENTORY RESERVES  We write down our inventory forobsolescence, and the difference between the cost of inventory and itsestimated market value. These write-downs are based on assumptions about futuresales demand and market conditions. If actual sales demand or market conditionschange from those projected by management, additional inventory write-downs maybe required.

 

INCOME TAXES  In conjunction with preparing our consolidatedfinancial statements, we must estimate our income taxes in each of thejurisdictions in which we operate. This process involves estimating actualcurrent tax expense together with assessing temporary differences resultingfrom differing treatment of items for tax and accounting purposes. Thesedifferences result in deferred tax assets and liabilities, which are includedin the consolidated balance sheets. We must then assess the likelihood that thedeferred tax assets will be recovered from future taxable income, and to theextent management believes that recovery is not likely, a valuation allowancemust be established. Significant management judgment is required in determiningour provision for income taxes, deferred tax assets and liabilities, and anyvaluation allowance recorded against net deferred tax assets.

 

**FACTORSTHAT MAY AFFECT FUTURE OPERATING RESULTS**

 

WE MAY EXPERIENCE UNANTICIPATED FLUCTUATIONS IN OUR OPERATING RESULTSFOR A VARIETY OF REASONS  Our net sales, gross margin, and operatingresults may fluctuate significantly from period to period due to a number offactors, many of which are not readily predictable. These factors include thefollowing:

 

•                  The marginsassociated with the mix of products we sell in any particular period.

 

•                  Our ability toutilize and expand our manufacturing resources efficiently.

 

•                  Shortages of materials used in ourproducts.

 

•                  A determination by us that goodwillor other intangible assets are impaired and have to be written down to theirfair values, resulting in a charge to our results of operations.

 

•                  Our ability to introduce new modelsthat achieve consumer acceptance.

 

•                  The introduction, marketing and saleof competing products by others, including significant discounting offered byour competitors.

 

•                  The addition or loss of our dealers.

 

•                  The timing of trade shows andrallies, which we use to market and sell our products.

 

•                  The impact of inflation on the cost of our raw materials.

 

•                  Factors affecting the recreationalvehicle industry as a whole, including economic and seasonal factors.

 

Our overall gross margin may decline in future periods to the extentthat we increase the percentage of sales of lower gross margin towable productsor if the mix of motor coaches we sell shifts to lower gross margin units. Inaddition, a relatively small variation in the number of recreational vehicleswe sell in any quarter can have a significant impact on total sales andoperating results for that quarter.

 

Demand in the recreational vehicle industry generally declines duringthe winter months, while sales are generally higher during the spring andsummer months. With the broader range of products we now offer, seasonal

 

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factors could havea significant impact on our operating results in the future. Additionally,unusually severe weather conditions in certain markets could delay the timingof shipments from one quarter to another.

 

We attempt to forecast orders for our products accurately and commencepurchasing and manufacturing prior to receipt of such orders. However, it ishighly unlikely that we will consistently and accurately forecast the timing,rate, and mix of orders. This aspect of our business makes our planning inexactand, in turn, affects our shipments, costs, inventories, operating results, andcash flow for any given quarter.

 

THE RECREATIONAL VEHICLE INDUSTRY IS CYCLICAL AND SUSCEPTIBLE TOSLOWDOWNS IN THE GENERAL ECONOMY  The recreational vehicle industryhas been characterized by cycles of growth and contraction in consumer demand,reflecting prevailing economic, demographic, and political conditions thataffect disposable income for leisure-time activities. For example, unit salesof recreational vehicles (excluding conversion vehicles) peaked atapproximately 259,000 units in 1994 and declined to approximately 247,000 unitsin 1996. The industry peaked again in 1999 at approximately 321,000 units anddeclined in 2001 to 257,000 units. In 2003, the industry rebounded up toapproximately 321,000 units. Our business is subject to the cyclical nature ofthis industry. Some of the factors that contribute to this cyclicality includefuel availability and costs, interest rate levels, the level of discretionaryspending, and availability of credit and overall consumer confidence. Therecent decline in consumer confidence and slowing of the overall economy hasadversely affected the recreational vehicle market. An extended continuation ofthese conditions would materially affect our business, results of operations,and financial condition.

 

WE RELY ON A RELATIVELY SMALL NUMBER OF DEALERS FOR A SIGNIFICANTPERCENTAGE OF OUR SALES  Although our products were offered by 339dealerships located primarily in the United States and Canada as of October 2,2004, a significant percentage of our sales are concentrated among a relativelysmall number of independent dealers. For the nine-month period ended October 2,2004, sales to one dealer, Lazy Days RV Center, accounted for 9.5% of totalsales compared to 11.8% of sales in the same period ended last year. Forquarters ended September 27, 2003 and October 2, 2004, sales to our10 largest dealers, including Lazy Days RV Center, accounted for a total of36.9% and 32.6% of total sales, respectively. The loss of a significant dealeror a substantial decrease in sales by any of these dealers could have amaterial impact on our business, results of operations, and financialcondition.

 

WE MAY HAVE TO REPURCHASE A DEALER’S INVENTORY OF OUR PRODUCTS IN THEEVENT THAT THE DEALER DOES NOT REPAY ITS LENDER  As is common in therecreational vehicle industry, we enter into repurchase agreements with thefinancing institutions used by our dealers to finance their purchases of ourproducts. These agreements require us to repurchase the dealer’s inventory inthe event that the dealer does not repay its lender. Obligations under theseagreements vary from period to period, but totaled approximately $580.4 millionas of October 2, 2004, with approximately 6.2% concentrated with onedealer. If we were obligated to repurchase a significant number of units underany repurchase agreement, our business, operating results, and financialcondition could be adversely affected.

 

OUR ACCOUNTS RECEIVABLE BALANCE IS SUBJECT TO CONCENTRATION RISK  Wesell our product to dealers who are predominantly located in the United Statesand Canada. The terms and conditions of payment are a combination of open tradereceivables, and commitments from dealer floor plan lending institutions. As ofOctober 2, 2004, total trade receivables were $129.3 million, withapproximately $109.0 million, or 84.3% of the outstanding accounts receivablebalance concentrated among floor plan lenders. The remaining $20.3 million oftrade receivables were concentrated substantially all with one dealer.

 

WE MAY EXPERIENCE A DECREASE IN SALES OF OUR PRODUCTS DUE TO ANINCREASE IN THE PRICE OR A DECREASE IN THE SUPPLY OF FUEL  Aninterruption in the supply, or a significant increase in the price or tax onthe sale, of diesel fuel or gasoline on a regional or national basis couldsignificantly affect our business. Diesel fuel and gasoline have, at varioustimes in the past, been either expensive or difficult to obtain.

 

WE DEPEND ON SINGLE OR LIMITED SOURCES TO PROVIDE US WITH CERTAINIMPORTANT COMPONENTS THAT WE USE IN THE PRODUCTION OF OUR PRODUCTS  Anumber of important components for certain of our products are purchased from asingle or limited number of sources. These include turbo diesel engines(Cummins and Caterpillar), substantially all of our transmissions (Allison),axles (Dana and

 

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Meritor) for alldiesel motor coaches and chassis (Workhorse and Ford) for gas motor coaches. Wehave no long-term supply contracts with these suppliers or their distributors,and we cannot be certain that these suppliers will be able to meet our futurerequirements. Consequently, we have periodically been placed on allocation ofthese and other key components. The last significant allocation occurred in1997 from Allison, and in 1999 from Ford. An extended delay or interruption inthe supply of any component that we obtain from a single supplier or from alimited number of suppliers could adversely affect our business, results ofoperations, and financial condition.

 

OUR INDUSTRY IS VERY COMPETITIVE. WE MUST CONTINUE TO INTRODUCE NEWMODELS AND NEW FEATURES TO REMAIN COMPETITIVE  The market for ourproducts is very competitive. We currently compete with a number ofmanufacturers of motor coaches, fifth wheel trailers, and travel trailers. Someof these companies have greater financial resources than we have and extensivedistribution networks. These companies, or new competitors in the industry, maydevelop products that customers in the industry prefer over our products.

 

Webelieve that the introduction of new products and new features is critical toour success. Delays in the introduction of new models or product features,quality problems associated with these introductions, or a lack of marketacceptance of new models or features could affect us adversely. For example,unexpected costs associated with model changes have affected our gross marginin the past. Further, new product introductions can divert revenues fromexisting models and result in fewer sales of existing products.

 

OUR PRODUCTS COULD FAIL TO PERFORM ACCORDING TO SPECIFICATIONS OR PROVETO BE UNRELIABLE, CAUSING DAMAGE TO OUR CUSTOMER RELATIONSHIPS AND OURREPUTATION AND RESULTING IN LOSS OF SALES  Our customers requiredemanding specifications for product performance and reliability. Because ourproducts are complex and often use advanced components, processes andtechniques, undetected errors and design flaws may occur. Product defectsresult in higher product service, warranty and replacement costs and may causeserious damage to our customer relationships and industry reputation, all ofwhich will negatively affect our sales and business.

 

OUR BUSINESS IS SUBJECT TO VARIOUS TYPES OF LITIGATION, INCLUDINGPRODUCT LIABILITY AND WARRANTY CLAIMS  We are subject to litigationarising in the ordinary course of our business, typically for product liabilityand warranty claims that are common in the recreational vehicle industry. Whilewe do not believe that the outcome of any pending litigation, net of insurancecoverage, will materially adversely affect our business, results of operations,or financial condition, we cannot provide assurances in this regard becauselitigation is an inherently uncertain process.*

 

Todate, we have been successful in obtaining product liability insurance on termsthat we consider acceptable. The terms of the policy contain a self-insuredretention amount of $500,000 per occurrence, with a maximum annual aggregateself-insured retention of $3.0 million. Overall product liability insurance,including umbrella coverage, is available to a maximum amount of $100.0 millionfor each occurrence, as well as in the aggregate. We cannot be certain we willbe able to obtain insurance coverage in the future at acceptable levels or thatthe costs of such insurance will be reasonable. Further, successful assertionagainst us of one or a series of large uninsured claims, or of a series ofclaims exceeding our insurance coverage, could have a material adverse effecton our business, results of operations, and financial condition.

 

WE MAY BE UNABLE TO ATTRACT AND RETAIN KEY EMPLOYEES, DELAYING PRODUCTDEVELOPMENT AND MANUFACTURING  Our success depends in part uponattracting and retaining highly skilled professionals. A number of ouremployees are highly skilled engineers and other technical professionals, andour failure to continue to attract and retain such individuals could adverselyaffect our ability to compete in the industry.

 

OUR RECENT GROWTH HAS PUT PRESSURE ON THE CAPABILITIES OF OUROPERATING, FINANCIAL, AND MANAGEMENT INFORMATION SYSTEMS  In the pastfew years, we have significantly expanded the size and scope of our business,which has required us to hire additional employees. Some of these new employeesinclude new management personnel. In addition, our current management personnelhave assumed additional responsibilities.  The increase in our size over a relativelyshort period of time has put pressure on our operating, financial, andmanagement information systems. If we continue to expand, such growth would putadditional pressure on these systems and may cause such systems to malfunctionor to experience significant delays.

 

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WE MAY EXPERIENCE UNEXPECTED PROBLEMS AND EXPENSES ASSOCIATED WITH OURMANUFACTURING EQUIPMENT AUTOMATION PLAN  As we continue to work towardsinvolving automated machinery and equipment to improve efficiencies andquality, we will be subject to certain risks involving implementing newtechnologies into our facilities.

 

The expansion into new machinery and equipment technologies involves risks,including the following:

 

•                  We must rely on timely performance bycontractors, subcontractors, and government agencies, whose performance we maybe unable to control.

 

•                  The development of new processesinvolves costs associated with new machinery, training of employees, andcompliance with environmental, health, and other government regulations.

 

•                  The newly developed products may notbe successful in the marketplace.

 

•                  We may be unable to complete aplanned machinery and equipment implementation in a timely manner, which couldresult in lower production levels and an inability to satisfy customer demandfor our products.

 

**NEWLYISSUED FINANCIAL REPORTING PRONOUNCEMENTS**

 

*EITF04-10*

 

In September of2004, the Financial Accounting Standards Board (the Board) issued EITF 04-10, “DeterminingWhether to Aggregate Operating Segments That Do Not Meet the QuantitativeThresholds.” FASB Statement No. 131, “Disclosures about Segments of anEnterprise and Related Information,” requires public companies to report financialand descriptive information about its reportable operating segments. EITF,which is effective for fiscal years ending after October 13, 2004,addresses how to determine if operating segments that do not meet thequantitative thresholds of FASB No. 131 are to be reported as separatesegments.

 

Wehave not yet determined if the provisions of EITF 04-10 will impact thedisclosures to be included in the fiscal year end financial statements.

 

*ProposedAmendment to FAS 128*

 

TheBoard is amending FAS 128, “Earnings per Share,” to make it consistent withInternational Accounting Standards, and make earnings per share calculationscomparable on a global basis. The amendment changes the computation to requirethe use of the year-to-date average stock price when computing the number ofpotential incremental common shares for diluted EPS. The old method was tocalculate an average of potential incremental common shares computed for eachquarter when computing year-to-date incremental shares.

 

Theamendment is expected to be issued in the fourth quarter of 2004, and will beeffective for all periods ending after December 15, 2004.

 

Wehave reviewed the provisions of the proposed amendment, and we expect it willnot have a significant impact on our earnings per share calculation.

 

19

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**Item 3. Quantitative and QualitativeDi****sclosures AboutMarket Risk**

 

Not applicable.

 

**Item 4****. Controls andProcedures**

 

Evaluation ofDisclosure Controls and Procedures

 

Ourmanagement evaluated, with the participation of our Chief Executive Officer andour Chief Financial Officer, the effectiveness of our disclosure controls andprocedures as of the end of the period covered by this Quarterly Report on Form10-Q. Based on this evaluation, our Chief Executive Officer and our ChiefFinancial Officer have concluded that our disclosure controls and proceduresare effective to ensure that information we are required to disclose in reportsthat we file or submit under the Securities Exchange Act of 1934 is recorded,processed, summarized and reported within the time periods specified in theSecurities and Exchange Commission rules and forms.

 

Ourmanagement, including our Chief Executive Officer and Chief Financial Officer,does not expect that our disclosure controls and procedures will prevent allerror and all fraud. Because of inherent limitations in any system ofdisclosure controls and procedures, no evaluation of controls can provideabsolute assurance that all instances of error or fraud, if any, within theCompany may be detected. However, our management, including our Chief ExecutiveOfficer and our Chief Financial Officer, have designed our disclosure controlsand procedures to provide reasonable assurance of achieving their objectives andhave, pursuant to the evaluation discussed above, concluded that our disclosurecontrols and procedures are, in fact, effective at this reasonable assurancelevel.

 

Changes inInternal Controls Over Financial Reporting

 

Therewas no change in our internal control over financial reporting that occurredduring the period covered by this Quarterly Report on Form 10-Q that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

 

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**PART II - OTHER INFORMATION**

 

**Item 6. Exhibits**

 
| (a)    | Exhibits |
|--------|----------|
|   |     |
|   | 31.1     | Sarbanes-Oxley Section 302(a) Certification. |
|   | 31.2     | Sarbanes-Oxley Section 302(a) Certification. |
|   | 32.1     | Certification of Chief Executive Officer and Chief  Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted  Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 
|   | **MONACO  COACH CORPORATION**     |
|--------|-----------------------------------|
|   |                              |
|   |                              |
| Dated: |  November 12,  2004     |   | /s/ P. Martin  Daley |   |
|   | P. Martin Daley                   |
|   | Vice President  and               |
|   | Chief Financial  Officer (Duly    |
|   | Authorized  Officer and Principal |
|   | Financial  Officer)               |
|        |                                   |  |  |  |

 

22

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**EXHIBITS INDEX**

 
| **Exhibit  Number** | ** ** | **Description of Document**                                                                                                                                                                 |
|---------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                        |
| 31.1                |       | Sarbanes-Oxley Section 302(a) Certification.                                                                                                                                           |
|                |       |                                                                                                                                                                                        |
| 31.2                |       | Sarbanes-Oxley Section 302(a) Certification.                                                                                                                                           |
|                |       |                                                                                                                                                                                        |
| 32.1                |       | Certification of Chief Executive Officer and Chief  Financial Officer Pursuant to 18 U.S.C. Section 1350, and Adopted  Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |