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UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
   Form 10-Q þ
    
    Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For the quarterly period ended June 30, 2004            Commission File No. 0-13147 or o
    
    Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 
For the transition period from            to
   LESCO, Inc. (Exact name of registrant as specified in its charter) Ohio(State or other jurisdiction of
incorporation or organization)
    
    34-0904517(I.R.S. Employer Identification No.)
 15885 Sprague Road
Strongsville, Ohio(Address of principal executive offices)
    
    44136(Zip Code)
 Registrants telephone number, including area code
(440) 783-9250 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 þ       No o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).       Yes o       No þ Number of Common Shares outstanding as of August 2, 2004: 8,704,694    -1-




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TABLE OF CONTENTS  PART I FINANCIAL INFORMATIONITEM 1. FINANCIAL STATEMENTSCONSOLIDATED STATEMENTS OF OPERATIONS - UNAUDITEDCONSOLIDATED BALANCE SHEETSCONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITEDNOTES TO CONSOLIDATED FINANCIAL STATEMENTSITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKITEM 4. CONTROLS AND PROCEDURESPART II  OTHER INFORMATIONITEM 1. LEGAL PROCEEDINGSITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSITEM 6. EXHIBITS AND REPORTS ON FORM 8-KSIGNATURESEX-31(A) 302 Certification for CEOEX-31(B) 302 Certification for CFOEX-32(A) 906 Certification for CEOEX-32(B) 906 Certification for CFO    Table of Contents  
 PART I FINANCIAL INFORMATION 
 ITEM 1. FINANCIAL STATEMENTS LESCO, INC. 
 CONSOLIDATED STATEMENTS OF OPERATIONS - UNAUDITED Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands, except per share data)
    
    2004
    
    2003
    
    2004
    
    2003Net sales
    
    $
    182,189
    
    
    $
    172,560
    
    
    $
    284,233
    
    
    $
    267,010Cost of product
    
    
    (120,566
    )
    
    
    (114,623
    )
    
    
    (189,513
    )
    
    
    (178,441
    )Distribution cost
    
    
    (14,618
    )
    
    
    (14,951
    )
    
    
    (24,100
    )
    
    
    (25,253
    )Gross profit on sales
    
    
    47,005
    
    
    
    42,986
    
    
    
    70,620
    
    
    
    63,316Selling expense
    
    
    (23,037
    )
    
    
    (22,259
    )
    
    
    (44,877
    )
    
    
    (43,001
    )General & administrative expense
    
    
    (6,574
    )
    
    
    (7,222
    )
    
    
    (13,862
    )
    
    
    (14,573
    )Merchant discounts and provision for doubtful accounts
    
    
    (2,554
    )
    
    
    (1,211
    )
    
    
    (4,182
    )
    
    
    (1,742
    )Pre-opening expense
    
    
    (503
    )
    
    
    (124
    )
    
    
    (725
    )
    
    
    (290
    )Other expense
    
    
    (130
    )
    
    
    (565
    )
    
    
    (192
    )
    
    
    (604
    )Other income
    
    
    173
    
    
    
    518
    
    
    
    369
    
    
    
    1,066Earnings before interest and taxes
    
    
    14,380
    
    
    
    12,123
    
    
    
    7,151
    
    
    
    4,172Interest expense, net
    
    
    (169
    )
    
    
    (1,290
    )
    
    
    (553
    )
    
    
    (2,578
    )Earnings before taxes
    
    
    14,211
    
    
    
    10,833
    
    
    
    6,598
    
    
    
    1,594Income tax (provision) benefit:Current
    
    
    (905
    )
    
    
    
    
    
    
    (1,245
    )
    
    
    Deferred
    
    
    (4,637
    )
    
    
    (4,096
    )
    
    
    (1,328
    )
    
    
    (604
    )Change in valuation allowance
    
    
    5,542
    
    
    
    
    
    
    
    2,233
    
    
    
    
    
    
    
    (4,096
    )
    
    
    (340
    )
    
    
    (604
    )Net income
    
    $
    14,211
    
    
    $
    6,737
    
    
    $
    6,258
    
    
    $
    990Earnings per share of common stock:Diluted
    
    $
    1.58
    
    
    $
    0.77
    
    
    $
    0.70
    
    
    $
    0.11Basic
    
    $
    1.63
    
    
    $
    0.79
    
    
    $
    0.72
    
    
    $
    0.11Average number of common shares and common share equivalents outstanding:Diluted
    
    
    8,975,352
    
    
    
    8,758,672
    
    
    
    8,914,320
    
    
    
    8,769,788Basic
    
    
    8,697,694
    
    
    
    8,525,914
    
    
    
    8,687,601
    
    
    
    8,525,025
 See Notes to Consolidated Financial Statements. -2-




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LESCO, INC. 
 CONSOLIDATED BALANCE SHEETS June 30, 2004
    
    June 30, 2003
    
    December 31, 2003(Dollars in thousands)
    
    (unaudited)
    
    (unaudited)
    
    (audited)CURRENT ASSETS:Cash and cash equivalents
    
    $
    26,914
    
    
    $
    5,934
    
    
    $
    7,505Accounts receivable
    
    
    12,839
    
    
    
    84,760
    
    
    
    19,278Inventories
    
    
    118,543
    
    
    
    111,046
    
    
    
    93,580Deferred income taxes
    
    
    
    
    
    
    3,719
    
    
    
    Other
    
    
    2,864
    
    
    
    4,546
    
    
    
    6,980TOTAL CURRENT ASSETS
    
    
    161,160
    
    
    
    210,005
    
    
    
    127,343Property, plant and equipment, net
    
    
    28,192
    
    
    
    34,264
    
    
    
    31,481Other
    
    
    2,374
    
    
    
    4,076
    
    
    
    2,541$
    191,726
    
    
    $
    248,345
    
    
    $
    161,365CURRENT LIABILITIES:Accounts payable
    
    $
    91,994
    
    
    $
    86,066
    
    
    $
    53,874Accrued liabilities
    
    
    15,353
    
    
    
    17,347
    
    
    
    14,626Revolving credit facility
    
    
    
    
    
    
    56,057
    
    
    
    15,513Current portion of debt
    
    
    
    
    
    
    1,123
    
    
    
    28TOTAL CURRENT LIABILITIES
    
    
    107,347
    
    
    
    160,593
    
    
    
    84,041Long-term debt
    
    
    5,875
    
    
    
    9,454
    
    
    
    5,875Deferred  other
    
    
    509
    
    
    
    314
    
    
    
    179SHAREHOLDERS EQUITY:Preferred shares without par value
500,000 shares
authorized; 1,683 shares
issued and outstanding at
June 30, 2003,
liquidation value $1,000 per share
    
    
    
    
    
    
    1,683
    
    
    
    Common shareswithout par value
19,500,000 shares authorized; 8,697,694
shares issued and outstanding at June 30,
2004; 8,639,563 shares issued and
8,525,914 outstanding at June 30, 2003 and
8,668,914 shares issued and
outstanding at December 31, 2003
    
    
    870
    
    
    
    864
    
    
    
    867Paid-in capital
    
    
    34,934
    
    
    
    34,916
    
    
    
    34,619Retained earnings
    
    
    43,521
    
    
    
    43,580
    
    
    
    37,262Unearned compensation
    
    
    (1,330
    )
    
    
    
    
    
    
    (1,478
    )Accumulated other comprehensive loss
    
    
    
    
    
    
    (1,104
    )
    
    
    Less: Treasury shares, 113,649 at June 30, 2003
    
    
    
    
    
    
    (1,955
    )
    
    
    TOTAL SHAREHOLDERS EQUITY
    
    
    77,995
    
    
    
    77,984
    
    
    
    71,270$
    191,726
    
    
    $
    248,345
    
    
    $
    161,365
 See Notes to Consolidated Financial Statements. -3-




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LESCO, INC. 
 CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED Six Months Ended June 30,(Dollars in thousands)
    
    2004
    
    2003OPERATING ACTIVITIES:Net income
    
    $
    6,258
    
    
    $
    990Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation
    
    
    3,716
    
    
    
    3,757Amortization of unearned compensation
    
    
    324
    
    
    
    Amortization of deferred financing fees and other
    
    
    85
    
    
    
    521Loss on sale of assets
    
    
    76
    
    
    
    Deferred income taxes
    
    
    
    
    
    
    (452
    )Decrease (increase) in accounts receivable
    
    
    1,225
    
    
    
    (16,985
    )Provision for uncollectible accounts receivable
    
    
    
    
    
    
    1,104Decrease in current income tax
    
    
    3,984
    
    
    
    1,176Increase in inventories
    
    
    (24,963
    )
    
    
    (24,209
    )Increase in accounts payable
    
    
    40,795
    
    
    
    40,488Increase (decrease) in other items
    
    
    1,271
    
    
    
    (2,396
    )NET CASH PROVIDED BY OPERATING ACTIVITIES
    
    
    32,771
    
    
    
    3,994INVESTING ACTIVITIES:Proceeds on the sale of fixed assets
    
    
    1,592
    
    
    
    Purchase of property, plant and equipment
    
    
    (2,095
    )
    
    
    (4,083
    )NET CASH USED IN INVESTING ACTIVITIES
    
    
    (503
    )
    
    
    (4,083
    )FINANCING ACTIVITIES:Sale of accounts receivable
    
    
    5,214
    
    
    
    (Decrease) increase in overdraft balances
    
    
    (2,675
    )
    
    
    6,081Proceeds from borrowings
    
    
    295,059
    
    
    
    280,320Reduction of borrowings
    
    
    (310,600
    )
    
    
    (282,113
    )Exercised stock options, net of treasury shares
    
    
    143
    
    
    
    15NET CASH (USED) PROVIDED BY FINANCING ACTIVITIES
    
    
    (12,859
    )
    
    
    4,303Net change in cash and cash equivalents
    
    
    19,409
    
    
    
    4,214Cash and cash equivalents  Beginning of the period
    
    
    7,505
    
    
    
    1,720CASH AND CASH EQUIVALENTS  END OF THE PERIOD
    
    $
    26,914
    
    
    $
    5,934Supplemental disclosure of cash flow information:Interest paid, including letters of credit and unused facility fees
    
    $
    (479
    )
    
    $
    (2,596
    )Income taxes refunded
    
    $
    3,584
    
    
    $
    60
 See Notes to Consolidated Financial Statements. -4-




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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1. Description of Business and Segment Information LESCO, Inc. (LESCO or the Company) is the largest provider of products
for the professional turf care segment of the green industry. Products
distributed include turf control products, fertilizer, combination fertilizer
and control products (combination products), grass seed and equipment. The
Company distributes products through 272 Service Centers, 72 Stores-on-Wheels,
76 direct sales representatives and other direct sales efforts. The Company
operates eight distribution hubs, three fertilizer blending facilities and a
grass seed processing plant. Segment Information: The Selling and Support segments reported below are
the segments of the Company for which separate information is available and for
which operating results are evaluated regularly by the Chief Executive Officer
in deciding how to allocate resources and in assessing performance. The Company maintains separate operating statements (Four-Wall P&Ls) for
each selling location. These Four-Wall P&Ls include the sales and operating
expenses necessary to operate the individual selling locations. The Selling
segment operating results reflect the aggregate Four-Wall P&Ls of the selling
locations adjusted for costs of zone and regional management, sales commission
expense, working capital interest charge and the portion of merchant discounts
and provision for doubtful accounts not previously charged to the Four-Wall
P&Ls. The Support segment represents the operating results and invested capital
of all non-selling locations including manufacturing facilities (blending
facilities and seed processing plant), distribution hubs and the corporate
office. Below are the unaudited results for the Selling and Support segments for
the three months and six months ended June 30: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003Net salesSelling
    
    $
    182,189
    
    
    $
    172,560
    
    
    $
    284,233
    
    
    $
    267,010Support
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    182,189
    
    
    $
    172,560
    
    
    $
    284,233
    
    
    $
    267,010Earnings (loss) before interest and taxesSelling
    
    $
    26,307
    
    
    $
    26,033
    
    
    $
    32,051
    
    
    $
    31,017Support
    
    
    (11,927
    )
    
    
    (13,910
    )
    
    
    (24,900
    )
    
    
    (26,845
    )$
    14,380
    
    
    $
    12,123
    
    
    $
    7,151
    
    
    $
    4,172Capital expendituresSelling
    
    $
    188
    
    
    $
    851
    
    
    $
    783
    
    
    $
    2,752Support
    
    
    1,103
    
    
    
    574
    
    
    
    1,312
    
    
    
    1,331$
    1,291
    
    
    $
    1,425
    
    
    $
    2,095
    
    
    $
    4,083Depreciation expenseSelling
    
    $
    276
    
    
    $
    145
    
    
    $
    548
    
    
    $
    292Support
    
    
    1,571
    
    
    
    1,746
    
    
    
    3,168
    
    
    
    3,465$
    1,847
    
    
    $
    1,891
    
    
    $
    3,716
    
    
    $
    3,757Intangible asset amortization expenseSelling
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Support
    
    
    40
    
    
    
    260
    
    
    
    85
    
    
    
    521$
    40
    
    
    $
    260
    
    
    $
    85
    
    
    $
    521Identifiable assetsSelling
    
    $
    106,908
    
    
    $
    153,957
    
    
    $
    106,908
    
    
    $
    153,957Support
    
    
    84,818
    
    
    
    94,388
    
    
    
    84,818
    
    
    
    94,388$
    191,726
    
    
    $
    248,345
    
    
    $
    191,726
    
    
    $
    248,345
 -5-




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Note 2. Summary of Significant Accounting and Reporting Policies 1. Principles of Consolidation:The accompanying unaudited consolidated
financial statements have been prepared in accordance with accounting
principles generally accepted in the United States for interim financial
information and pursuant to rules and regulations of the Securities and
Exchange Commission. The statements reflect all adjustments, consisting only
of normal recurring accruals, which are, in the opinion of management,
necessary for a fair presentation of the results for interim periods. For
further information, refer to the audited financial statements and footnotes
thereto for the year ended December 31, 2003 included in the Companys Annual
Report on Form 10-K. The Companys consolidated financial statements for the three and six
months ended June 30, 2004 and 2003 included in this Quarterly Report on Form
10-Q have been prepared in accordance with the accounting policies described in
the Notes to Consolidated Financial Statements for the year ended December 31,
2003 which were included in the Companys Annual Report on Form 10-K filed with
the Securities and Exchange Commission (File No. 0-13147) on March 29, 2004.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been condensed or omitted in accordance
with the rules and regulations of the Securities and Exchange Commission.
These financial statements should be read in conjunction with the financial
statements and the notes thereto included in the Form 10-K referred to above.
Certain reclassifications have been made to prior year amounts to conform to
the current presentation. Operating results for the three and six months ended
June 30, 2004 are not necessarily indicative of the results to be expected for
the year due to the seasonal nature of the Companys business. 2. Earnings Per Share: The Company presents both basic and diluted
earnings per share (EPS) amounts. Basic EPS is calculated by dividing net
income, less the preferred dividend in 2003, by the weighted average number of
common shares outstanding during the three months and six months ended June 30.
Diluted EPS is based upon the weighted average number of common and common
equivalent shares outstanding during the quarter utilizing the treasury stock
method for stock options. Common equivalent shares are excluded from the
computation in periods in which they have an anti-dilutive effect, such as when
the exercise price of stock options exceeds the average market price for the
period or when the Company incurs a net loss for the period reported. A reconciliation of net income applicable to common shares and the
weighted average number of common and common equivalent shares outstanding is
as follows: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands, except per share data)
    
    2004
    
    2003
    
    2004
    
    2003Net income
    
    $
    14,211
    
    
    $
    6,737
    
    
    $
    6,258
    
    
    $
    990Preferred shares dividend
    
    
    
    
    
    
    (26
    )
    
    
    
    
    
    
    (53
    )Net income applicable to common shares
    
    $
    14,211
    
    
    $
    6,711
    
    
    $
    6,258
    
    
    $
    937Weighted average number of common shares outstanding (basic)
    
    
    8,697,694
    
    
    
    8,525,914
    
    
    
    8,687,601
    
    
    
    8,525,025Weighted average dilutive stock options
    
    
    277,658
    
    
    
    232,758
    
    
    
    226,719
    
    
    
    244,763Weighted average number of common and common equivalent shares outstanding (diluted)
    
    
    8,975,352
    
    
    
    8,758,672
    
    
    
    8,914,320
    
    
    
    8,769,788Diluted earnings per share
    
    $
    1.58
    
    
    $
    0.76
    
    
    $
    0.70
    
    
    $
    0.11Basic earnings per share
    
    $
    1.63
    
    
    $
    0.79
    
    
    $
    0.72
    
    
    $
    0.11
 3. Stock Based Compensation:The Company uses the intrinsic-value method
of accounting for stock-based awards granted to employees and, accordingly,
does not recognize compensation expense for its stock-based awards to employees
in the Consolidated Statements of Operations. -6-




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The following table reflects pro forma net income and earnings per share
had the Company elected to adopt the fair value approach of Statement of
Financial Accounting Standards No. 123, Accounting for Stock-Based
Compensation: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands, except per share data)
    
    2004
    
    2003
    
    2004
    
    2003Net income as reported
    
    $
    14,211
    
    
    $
    6,737
    
    
    $
    6,258
    
    
    $
    990Less: stock option expense, net of tax
    
    
    (150
    )
    
    
    161
    
    
    
    (283
    )
    
    
    (428
    )Pro forma net income
    
    $
    14,061
    
    
    $
    6,898
    
    
    $
    5,975
    
    
    $
    562Earnings per diluted shareAs reported
    
    $
    1.58
    
    
    $
    0.77
    
    
    $
    0.70
    
    
    $
    0.11Pro forma
    
    $
    1.57
    
    
    $
    0.79
    
    
    $
    0.67
    
    
    $
    0.06Earnings per basic shareAs reported
    
    $
    1.63
    
    
    $
    0.79
    
    
    $
    0.72
    
    
    $
    0.11Pro forma
    
    $
    1.62
    
    
    $
    0.81
    
    
    $
    0.69
    
    
    $
    0.07
 In the second quarter of 2003, there were 84,045 stock options forfeited
which exceeded the number of new options issued resulting in an add back to pro
forma net income for the quarter. These pro forma amounts may not be representative of future disclosures
because the estimated fair value of stock options is amortized to expense over
the vesting period, and additional options may be granted in future periods. 4. Accounts Receivable Accounts receivable consist of the following: June 30,
    
    December 31,(Dollars in thousands)
    
    2004
    
    2003
    
    2003Supplier rebate programs
    
    $
    6,169
    
    
    $
    5,452
    
    
    $
    9,328Trade receivablesOwned  domestic
    
    
    7,908
    
    
    
    82,294
    
    
    
    6,798Owned  international
    
    
    2,002
    
    
    
    1,622
    
    
    
    1,578Recourse
    
    
    945
    
    
    
    
    
    
    
    5,751Other
    
    
    1,215
    
    
    
    536
    
    
    
    709Allowance for doubtful accounts
    
    
    (5,400
    )
    
    
    (5,144
    )
    
    
    (4,886
    )$
    12,839
    
    
    $
    84,760
    
    
    $
    19,278
 The Company earns product discounts under various supplier rebate
programs, which are recorded as accounts receivable and a reduction to the cost
of inventory when earned. When the related inventory is sold, the inventory
valuation reserves are recognized as reductions to cost of sales. On December 30, 2003, the Company sold a majority of its trade accounts
receivable portfolio to GE Capital Financial Inc., dba GE Business Credit
Services (GEBCS), for cash proceeds of approximately $57 million. In the
first half of 2004, the Company sold additional accounts for cash proceeds of
approximately $5 million. Concurrent with the sale, the Company and GEBCS entered a private label
business credit program agreement (Credit Agreement). Under the Credit
Agreement, GEBCS extends commercial credit to qualified customers of LESCO and
funds the program sales, less program fees and discounts, within three business
days. The Credit Agreement also provides the Company the option of extending
deferred payment terms to customers through the payment of incremental
promotional discounts. The in-transit -7-




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funds are recognized by the Company as cash equivalents. The program fees and
discounts and promotional discounts are recognized as merchant discounts in the
Consolidated Statements of Operations. GEBCS is the exclusive owner of the
program accounts and, except for the recourse account portfolio discussed
below, bears all credit losses. The owned domestic credit accounts are accounts that did not qualify for
sale to GEBCS or for the credit recourse portfolio. LESCO has retained the
ownership and management of the owned domestic credit accounts. The Credit Agreement does not allow for the ownership of international
credit accounts by GEBCS. As such, LESCO has retained the ownership and
management of international accounts. All international accounts are
denominated in U.S. dollars. GEBCS has sole discretion under the Credit Agreement to approve or decline
prospective account holders. LESCO may request GEBCS to include declined
accounts in a portfolio of credit recourse accounts. LESCO bears all credit
losses and pays a fee to GEBCS to manage the credit recourse portfolio. LESCO
did not recognize the initial sale of recourse accounts to GEBCS as of December
30, 2003. As such, all recourse receivable balances that existed at December
30, 2003 (the date of the GEBCS transaction) continue to be recognized as
accounts receivable by the Company, along with a corresponding borrowing from
GEBCS. Sales activity on recourse accounts subsequent to December 30, 2003 is
not recognized on the Companys balance sheet. A reconciliation of total
recourse account balances to the receivable portion owned by the Company and
recorded in the balance sheets is as follows: June 30,
    
    December 31,(Dollars in thousands)
    
    2004
    
    2003
    
    2003Total recourse account balances
    
    $
    5,984
    
    
    $
    
    
    
    $
    5,751Accounts owned by GEBCS
    
    
    (5,039
    )
    
    
    
    
    
    
    Recourse receivables owned by LESCO
    
    $
    945
    
    
    $
    
    
    
    $
    5,751
 In the allowance for doubtful accounts, the Company provides for expected
losses from all owned receivables and GEBCS-owned recourse accounts. Expected
losses are estimated based upon the number of days the accounts are past due,
historical loss experience of the Company, historical loss experience of credit
portfolios with characteristics similar to the Companys portfolio and the
current business environment. 5. Inventories Inventories consist of the following: June 30,
    
    December 31,(Dollars in thousands)
    
    2004
    
    2003
    
    2003Finished goods and purchased inventoriesSelling locations
    
    $
    67,257
    
    
    $
    64,981
    
    
    $
    46,858Distribution hubs and plants
    
    
    48,858
    
    
    
    42,509
    
    
    
    37,664Capitalized
procurement, warehousing and distribution costs
    
    
    7,962
    
    
    
    8,610
    
    
    
    6,681Less: Markdown and shrink reserves
    
    
    (2,255
    )
    
    
    (3,077
    )
    
    
    (1,563
    )Inventory held on consignment
    
    
    (11,325
    )
    
    
    (10,461
    )
    
    
    (5,832
    )110,497
    
    
    
    102,562
    
    
    
    83,808Raw Materials
    
    
    8,046
    
    
    
    8,484
    
    
    
    9,772$
    118,543
    
    
    $
    111,046
    
    
    $
    93,580
 Inventories are valued at the lower of cost (average cost method) or
market. Consignment inventory is considered purchased and cost of product is
recognized at the time of sale. Procurement, warehousing and distribution
costs are capitalized to inventory on hand and expensed to distribution cost
when the inventory is sold. Markdown and shrink reserves are provided for
markdown of inventory to net realizable value, expected inventory shrink and
earned supplier discounts of inventory remaining on hand. -8-




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6. Property, Plant and Equipment Property, plant and equipment are stated at cost and are depreciated using
the straight-line method over the estimated useful lives of the respective
assets. Buildings are depreciated over 15 to 20 years, and machinery,
equipment and other depreciable assets are depreciated over three to 12 years.
Expenditures for maintenance and repairs are charged to expense as incurred.
Additions and improvements are capitalized. During the second quarter of 2004, the Company sold its Avon Lake, Ohio
distribution facility for $1.5 million in cash. Based on the remaining net book
value of the assets sold, this resulted in a loss on sale of less than $0.1
million. The distribution operations for customer orders previously fulfilled
from the Avon Lake facility have been transferred to a third party logistics
provider based in Columbus, Ohio. Property, plant and equipment, net consists of the following: June 30, 2004
    
    June 30, 2003
    
    December 31, 2003Selling
    
    
    
    
    
    
    
    
    
    Selling
    
    
    
    
    
    
    
    
    
    Selling(Dollars in thousands)
    
    Locations
    
    Support
    
    Total
    
    Locations
    
    Support
    
    Total
    
    Locations
    
    Support
    
    TotalLand
    
    $
    
    
    
    $
    600
    
    
    $
    600
    
    
    $
    
    
    
    $
    934
    
    
    $
    934
    
    
    $
    
    
    
    $
    834
    
    
    $
    834Buildings and improvements
    
    
    1,360
    
    
    
    18,558
    
    
    
    19,918
    
    
    
    1,107
    
    
    
    20,524
    
    
    
    21,631
    
    
    
    1,391
    
    
    
    21,174
    
    
    
    22,565Machinery and equipment
    
    
    3,788
    
    
    
    20,700
    
    
    
    24,488
    
    
    
    3,701
    
    
    
    22,960
    
    
    
    26,661
    
    
    
    3,746
    
    
    
    20,549
    
    
    
    24,295Furniture and fixtures
    
    
    7,071
    
    
    
    29,892
    
    
    
    36,963
    
    
    
    4,464
    
    
    
    30,761
    
    
    
    35,225
    
    
    
    6,262
    
    
    
    29,636
    
    
    
    35,898Subtotal
    
    
    12,219
    
    
    
    69,750
    
    
    
    81,969
    
    
    
    9,272
    
    
    
    75,179
    
    
    
    84,451
    
    
    
    11,399
    
    
    
    72,193
    
    
    
    83,592Less: Accumulated depreciation
    
    
    (7,280
    )
    
    
    (46,497
    )
    
    
    (53,777
    )
    
    
    (6,667
    )
    
    
    (43,520
    )
    
    
    (50,187
    )
    
    
    (6,324
    )
    
    
    (45,787
    )
    
    
    (52,111
    )Property, plant and equipment, net
    
    $
    4,939
    
    
    $
    23,253
    
    
    $
    28,192
    
    
    $
    2,605
    
    
    $
    31,659
    
    
    $
    34,264
    
    
    $
    5,075
    
    
    $
    26,406
    
    
    $
    31,481
 Depreciation expense is included in the following: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003Cost of product
    
    $
    510
    
    
    $
    679
    
    
    $
    1,027
    
    
    $
    1,376Distribution cost
    
    
    222
    
    
    
    121
    
    
    
    464
    
    
    
    247Selling expense
    
    
    276
    
    
    
    145
    
    
    
    548
    
    
    
    293General and administrative expense
    
    
    839
    
    
    
    946
    
    
    
    1,677
    
    
    
    1,841Total
    
    $
    1,847
    
    
    $
    1,891
    
    
    $
    3,716
    
    
    $
    3,757
 -9-




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7. Borrowings Borrowings consist of the following: June 30,
    
    December 31,(Dollars in thousands)
    
    2004
    
    2003
    
    2003Current:Revolving credit facility
    
    $
    
    
    
    $
    56,057
    
    
    $
    15,513Current portion of long-term debt
    
    
    
    
    
    
    1,123
    
    
    
    28$
    
    
    
    $
    57,180
    
    
    $
    15,541Long-term:Term loan
    
    $
    
    
    
    $
    4,620
    
    
    $
    Industrial revenue bonds
    
    
    5,875
    
    
    
    5,875
    
    
    
    5,875Other debt
    
    
    
    
    
    
    82
    
    
    
    28Less: current portion
    
    
    
    
    
    
    (1,123
    )
    
    
    (28
    )$
    5,875
    
    
    $
    9,454
    
    
    $
    5,875
 Revolving Credit Facility On December 30, 2003, the Company entered into a $50 million Revolving
Credit Facility (the Facility) which replaced a prior credit facility.
Borrowings under the Facility were used to retire the prior credit facility,
including a term loan, buy-out an interest rate swap agreement and buy-back
outstanding preferred stock. The Facility matures December 30, 2006 and is secured by inventory, owned
receivables, equipment, investment interests, real property interests, and
general intangibles, including intellectual property. The Facility bears
interest at LIBOR plus 2.0% to 2.5% per annum, based on the level of
borrowings, and requires the payment of a facility fee ranging from 0.4% to
0.5% per annum on the unused portion of availability. The availability under
the Facility is determined by a borrowing base formula calculated on eligible
inventory. As of June 30, 2004, there was $48.7 million available, with unused
capacity of $38.5 million. Letters of credit, up to a maximum of $20 million,
are also available under the Facility and are considered outstanding borrowings
when calculating the unused portion of availability. Letters of credit in the
aggregate amount of $10.2 million were outstanding as of June 30, 2004. Letter
of credit fees range from 2.0% to 2.5% with an issuance fee ranging from 0.125%
to 0.150%. The Facility requires the maintenance of certain covenants, with the only
financial covenant being a fixed charge coverage ratio. The Company was in
compliance with the Facility covenants as of June 30, 2004. 8. Asset Rationalization and Severance Expense Major components of the remaining reserves and accruals for asset
rationalization and severance expense as of June 30, 2004 and December 31, 2003
are as follows: Asset Rationalization AccrualLease
    
    Other Exit
    
    
    
    
    
    Severance(Dollars in thousands)
    
    Costs
    
    Costs
    
    Total
    
    Accrual
    
    TotalAsset rationalization and severance accruals at December 31, 2003
    
    $
    220
    
    
    $
    830
    
    
    $
    1,050
    
    
    $
    532
    
    
    $
    1,5822004 ActivityAdditions
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    114
    
    
    
    114Utilized/payments
    
    
    (23
    )
    
    
    (118
    )
    
    
    (141
    )
    
    
    (540
    )
    
    
    (681
    )Asset rationalization reserves and severance accruals at June 30, 2004
    
    $
    197
    
    
    $
    712
    
    
    $
    909
    
    
    $
    106
    
    
    $
    1,015
 The Company anticipates utilizing the remaining asset rationalization
accrual by the end of 2004. -10-




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9. Detail of Certain Balance Sheets Accounts June 30,
    
    December 31,(Dollars in thousands)
    
    2004
    
    2003
    
    2003Other current assets:Income tax refund receivable
    
    $
    
    
    
    $
    1,896
    
    
    $
    3,740Other prepaids
    
    
    1,564
    
    
    
    1,674
    
    
    
    1,548Prepaid insurance
    
    
    434
    
    
    
    494
    
    
    
    1,033Notes receivable
    
    
    592
    
    
    
    482
    
    
    
    385Assets held for sale
    
    
    274
    
    
    
    
    
    
    
    274$
    2,864
    
    
    $
    4,546
    
    
    $
    6,980Other non-current assets:Notes receivable
    
    $
    1,322
    
    
    $
    705
    
    
    $
    1,466Store deposits
    
    
    570
    
    
    
    613
    
    
    
    572Deferred financing charges
    
    
    396
    
    
    
    1,606
    
    
    
    416Assets held for sale
    
    
    
    
    
    
    325
    
    
    
    Miscellaneous deposits
    
    
    86
    
    
    
    86
    
    
    
    87Investment  joint venture
    
    
    
    
    
    
    741
    
    
    
    $
    2,374
    
    
    $
    4,076
    
    
    $
    2,541Accounts payable:Accounts payable
    
    $
    81,511
    
    
    $
    77,638
    
    
    $
    35,910Overdraft balances
    
    
    9,538
    
    
    
    8,428
    
    
    
    12,213Accounts payable to GEBCS for recourse accounts receivable
    
    
    945
    
    
    
    
    
    
    
    5,751$
    91,994
    
    
    $
    86,066
    
    
    $
    53,874Accrued liabilities:Accrued non-income taxes
    
    $
    3,582
    
    
    $
    3,165
    
    
    $
    3,510Commissions and management bonuses
    
    
    3,299
    
    
    
    2,113
    
    
    
    2,650Salaries and wages
    
    
    2,122
    
    
    
    1,742
    
    
    
    1,918Insurance  hospitalization and workers compensation
    
    
    2,609
    
    
    
    2,655
    
    
    
    2,383Asset rationalization
    
    
    909
    
    
    
    1,655
    
    
    
    1,050Insurance  property and casualty
    
    
    991
    
    
    
    1,138
    
    
    
    1,028Severance
    
    
    106
    
    
    
    1,238
    
    
    
    532Interest rate swap
    
    
    
    
    
    
    1,811
    
    
    
    Other
    
    
    1,735
    
    
    
    1,830
    
    
    
    1,555$
    15,353
    
    
    $
    17,347
    
    
    $
    14,626
 -11-




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10. Detail of Certain Statements of Operations Accounts Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003Net sales:Gross sales
    
    $
    183,218
    
    
    $
    173,333
    
    
    $
    286,081
    
    
    $
    268,844Agency sales
    
    
    (427
    )
    
    
    
    
    
    
    (427
    )
    
    
    Freight revenue
    
    
    514
    
    
    
    519
    
    
    
    820
    
    
    
    819Customer discounts and rebates
    
    
    (1,116
    )
    
    
    (1,292
    )
    
    
    (2,241
    )
    
    
    (2,653
    )$
    182,189
    
    
    $
    172,560
    
    
    $
    284,233
    
    
    $
    267,010Merchant discounts and provision for doubtful accounts:Merchant discountsMulti-purpose credit programs
    
    $
    (576
    )
    
    $
    (489
    )
    
    $
    (882
    )
    
    $
    (783
    )Private label business credit programs
    
    
    (1,892
    )
    
    
    
    
    
    
    (2,939
    )
    
    
    Private label promotional discounts
    
    
    55
    
    
    
    
    
    
    
    (154
    )
    
    
    Provision for doubtful accounts
    
    
    
    
    
    
    (675
    )
    
    
    
    
    
    
    (1,104
    )Customer finance revenue
    
    
    98
    
    
    
    254
    
    
    
    202
    
    
    
    648Other
    
    
    (239
    )
    
    
    (301
    )
    
    
    (409
    )
    
    
    (503
    )$
    (2,554
    )
    
    $
    (1,211
    )
    
    $
    (4,182
    )
    
    $
    (1,742
    )Other expense:Severance
    
    $
    (41
    )
    
    $
    (447
    )
    
    $
    (114
    )
    
    $
    (453
    )Loss on sale/disposal of fixed assets
    
    
    (89
    )
    
    
    (108
    )
    
    
    (76
    )
    
    
    (139
    )Other
    
    
    
    
    
    
    (10
    )
    
    
    (2
    )
    
    
    (12
    )$
    (130
    )
    
    $
    (565
    )
    
    $
    (192
    )
    
    $
    (604
    )Other income:Joint venture income
    
    $
    
    
    
    $
    221
    
    
    $
    
    
    
    $
    590Payment discounts
    
    
    138
    
    
    
    271
    
    
    
    267
    
    
    
    420Other
    
    
    35
    
    
    
    26
    
    
    
    102
    
    
    
    56$
    173
    
    
    $
    518
    
    
    $
    369
    
    
    $
    1,066Interest expense and facility fees:Borrowings on revolver
    
    $
    (37
    )
    
    $
    (509
    )
    
    $
    (306
    )
    
    $
    (1,019
    )Other revolver fees
    
    
    (68
    )
    
    
    (406
    )
    
    
    (112
    )
    
    
    (767
    )Interest rate swap
    
    
    
    
    
    
    (299
    )
    
    
    
    
    
    
    (577
    )Other debt and letters of credit costs
    
    
    (64
    )
    
    
    (76
    )
    
    
    (135
    )
    
    
    (215
    )$
    (169
    )
    
    $
    (1,290
    )
    
    $
    (553
    )
    
    $
    (2,578
    )
 Note 3. Subsequent Event Subsequent to the balance sheet date, LESCO reached agreements to relocate
its corporate headquarters from its current approximately 94,000 square foot
facility in Strongsville, Ohio to an approximately 40,000 square foot facility
in downtown Cleveland, Ohio. The term of the Companys new lease will be five
years, and the Company expects to complete the relocation this year. A
division of a public company (the Assignee) will assume the remaining 11 years
of LESCOs current lease at the Strongsville location, subject to landlord
approval. Relocation costs are estimated at approximately $7.5 million, including
$4.8 million in tenant and landlord inducements, and $2.7 million in broker
commissions, legal fees, letter of credit costs, move costs and fixed-asset
write offs. The charges will be recorded in -12-




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the Companys third and fourth quarter operating results. Beginning in 2005,
the financial effect of the relocation is expected to be accretive to earnings
on an annual pre-tax basis by over $1.0 million, while the return on the cost
to relocate is estimated at greater than 7%. LESCO will guarantee the Assignees performance under the Strongsville
lease. The Assignee will be obligated to secure a $4.4 million letter of
credit backing its performance under the lease, with LESCO making an
approximate $100,000 annual payment to the Assignee to defray the cost of the
letter of credit. -13-




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##### Table of Contents



LESCO, INC. 
 ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Organization of Information Managements Discussion and Analysis provides a narrative on the Companys
financial performance and condition that should be read in conjunction with the
accompanying consolidated financial statements. It includes the following
sections:  
    
    Overview
    
    Consolidated Results
    
    Business Segments
    
    Liquidity and Capital Resources
    
    Critical Accounting Policies and Estimates
    
    Forward Looking Statements OVERVIEW LESCO is the largest provider of products to the professional turf care
segment of the green industry. The professional users of our products include
lawn care and landscape firms and the employees of a variety of commercial,
governmental, institutional and industrial establishments, including golf
courses, sod farms, airports, cemeteries, professional sports organizations,
universities, schools, commercial properties and numerous other organizations
that use in-house employees to maintain lawns and gardens. We track our customers through two customer sectors: Lawn Care and Golf. Gross sales for these sectors for the three months and six months ended
June 30 were as follows: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    2004
    
    2003Lawn Care
    
    $
    141.2
    
    
    $
    131.6
    
    
    $
    226.9
    
    
    $
    209.2Golf
    
    
    42.0
    
    
    
    41.7
    
    
    
    59.2
    
    
    
    59.6$
    183.2
    
    
    $
    173.3
    
    
    $
    286.1
    
    
    $
    268.8
 The separation of our customers into these two sectors is important as
distribution to the sectors is markedly different and their growth prospects
vary significantly. Our Lawn Care sector includes all non-golf related customers and is
dominated by lawn care and landscape firms. Historically, distribution of
products into this sector has been fragmented and inefficient. We believe that
our model of Service Centers and direct sales provides efficiency to the
sectors distribution channels through easily accessible, strategically
positioned real estate where we provide agronomic expertise through our 272
Service Centers and direct sales associates with products specifically targeted
to the Lawn Care sector. We estimate the market for our Lawn Care products at
$7.0 billion, and independent research indicates that organic growth in the
sector is expected to exceed 5% annually for the next several years due to the
aging of the baby boomers and their increasing desire to contract lawn care
professionals, the higher number of two-income families and continued time
constraints on consumers. The golf industry is a smaller market (estimated at $1.2 billion) and is
not expected to grow significantly in the near future, nor do we believe our
opportunities are as great in this sector as those in the Lawn Care sector.
Additionally, the industry has experienced a decline in annual rounds of golf
being played, which has decreased the budgets of golf course superintendents;
however, that trend appears to be moderating in the first half of 2004. The
ability to capture incremental market share in this industry is limited as
distribution of our products to the industry is dominated by a few national and
regional distributors. We anticipate that we will be able
to expand our presence in under-serviced markets, but we are not planning
any major expansion of Stores-on-Wheels or direct golf sales in the near
future. -14-




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##### Table of Contents



RESULTS OF OPERATIONS LESCO, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS- UNAUDITED Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in thousands)
    
    2004
    
    2003
    
    2004
    
    2003Net sales
    
    $
    182,189
    
    
    $
    172,560
    
    
    $
    284,233
    
    
    $
    267,010Cost of product
    
    
    (120,566
    )
    
    
    (114,623
    )
    
    
    (189,513
    )
    
    
    (178,441
    )Distribution cost
    
    
    (14,618
    )
    
    
    (14,951
    )
    
    
    (24,100
    )
    
    
    (25,253
    )Gross profit on sales
    
    
    47,005
    
    
    
    42,986
    
    
    
    70,620
    
    
    
    63,316Selling expense
    
    
    (23,037
    )
    
    
    (22,259
    )
    
    
    (44,877
    )
    
    
    (43,001
    )General & administrative expense
    
    
    (6,574
    )
    
    
    (7,222
    )
    
    
    (13,862
    )
    
    
    (14,573
    )Merchant discounts and provision for doubtful accounts
    
    
    (2,554
    )
    
    
    (1,211
    )
    
    
    (4,182
    )
    
    
    (1,742
    )Pre-opening expense
    
    
    (503
    )
    
    
    (124
    )
    
    
    (725
    )
    
    
    (290
    )Other expense
    
    
    (130
    )
    
    
    (565
    )
    
    
    (192
    )
    
    
    (604
    )Other income
    
    
    173
    
    
    
    518
    
    
    
    369
    
    
    
    1,066Earnings before interest and taxes
    
    
    14,380
    
    
    
    12,123
    
    
    
    7,151
    
    
    
    4,172Interest expense
    
    
    (169
    )
    
    
    (1,290
    )
    
    
    (553
    )
    
    
    (2,578
    )Earnings before taxes
    
    $
    14,211
    
    
    $
    10,833
    
    
    $
    6,598
    
    
    $
    1,594
 Sales: Service Centers:Gross sales for LESCO Service Centers® of $126.7 million
for the second quarter of 2004, reflect sales transacted through our 272
Service Centers in operation as of June 30, 2004, including 25 new Service
Centers opened in the first half of 2004, of which 16 opened in the second
quarter, and 21 new Service Centers opened during 2003. The total increase of
7% over the prior year second quarter results of $118.0 million reflects an
increase of 1% in same-store sales (excluding the 46 new units) and an increase
of 6% from incremental new Service Center sales of $7.4 million. The sales
growth for the quarter was predominantly generated in the fertilizer and
combination product categories. For the first six months, Service Center sales
expanded 8% to $195.7 million from $181.4 million for the same period in 2003.
The increase in sales revenues was produced from a 2% same-store sales advance
coupled with a 6% sales lift, or $10.6 million, from incremental new store
revenues. Similar to the second quarter sales growth, fertilizer and
combination products provided the vast majority of the sales increase for the
first half of 2004 compared to the same period in 2003. The primary products
sold through Service Centers are turf care products, including turf and pest
control products, fertilizer, grass seed and equipment. The Service Centers
market and sell products principally to lawn care companies, landscapers,
public and private golf courses, nurseries, municipalities, churches and
condominium associations. The Company plans to open 27 Service Centers during
2004 of which 25 were opened in the first half of the year. Other Selling Locations:The Company also markets and sells products to
private and public golf courses and other customers having large turf areas
through direct sales programs and our fleet of LESCO Stores-on-Wheels®.
Through these selling channels, the Company generated sales of $56.5 million
for the second quarter of 2004, a 2% increase over the $55.3 million in sales
for the second quarter of 2003. The fertilizer and combination product
categories experienced favorable sales trends in these channels as they did for
Service Centers. For the first half of 2004, these other selling channels
produced a 3% increase, led by fertilizer and combination products, to $90.4
million from $87.4 million for the same period in 2003. The Companys direct
channel markets and sells products to large national and regional lawn care
customers utilizing sales representatives, markets products by mail order
catalog, and participates in national and regional lawn care trade shows. A
telemarketing sales group calls on inactive accounts and contacts customers not
currently serviced by the Companys outside sales forces. In addition,
products are marketed internationally, principally through foreign
distributors. The Stores-on-Wheels are well stocked with a wide variety of
turf care products and golf course accessories, which are sold directly from
the trucks. The Company operated 72 LESCO Stores-on-Wheels in the second
quarter of 2004 and 71 vehicles for the same period in 2003. The primary
products sold through this channel are turf care products, including turf and
pest control, fertilizer, grass seed, hand held equipment and golf course
accessories. -15-




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##### Table of Contents



The following table provides supplemental detail of sales by customer
sector and transacting selling locations for the second quarter and first half
of each respective year: Three Months Ended June 30,2004
    
    2003
    
    % ChangeOther
    
    
    
    
    
    
    
    
    
    Other
    
    
    
    
    
    
    
    
    
    OtherService
    
    Selling
    
    
    
    
    
    Service
    
    Selling
    
    
    
    
    
    Service
    
    Selling(Dollars in millions)
    
    Centers
    
    Locations
    
    Total
    
    Centers
    
    Locations
    
    Total
    
    Centers
    
    Locations
    
    TotalLawn care
    
    $
    116.1
    
    
    $
    25.1
    
    
    $
    141.2
    
    
    $
    109.9
    
    
    $
    21.7
    
    
    $
    131.6
    
    
    
    5.6
    %
    
    
    15.7
    %
    
    
    7.3
    %Golf
    
    
    10.6
    
    
    
    31.4
    
    
    
    42.0
    
    
    
    8.1
    
    
    
    33.6
    
    
    
    41.7
    
    
    
    30.9
    
    
    
    (6.5
    )
    
    
    0.7Gross sales
    
    $
    126.7
    
    
    $
    56.5
    
    
    $
    183.2
    
    
    $
    118.0
    
    
    $
    55.3
    
    
    $
    173.3
    
    
    
    7.4
    %
    
    
    2.2
    %
    
    
    5.7
    %Agency sales
    
    
    
    
    
    
    
    
    
    
    (0.4
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Freight revenue
    
    
    
    
    
    
    
    
    
    
    0.5
    
    
    
    
    
    
    
    
    
    
    
    0.5
    
    
    
    
    
    
    
    
    
    
    
    Customer discounts and rebates
    
    
    
    
    
    
    
    
    
    
    (1.1
    )
    
    
    
    
    
    
    
    
    
    
    (1.3
    )
    
    
    
    
    
    
    
    
    
    
    (15.4
    )Net sales
    
    
    
    
    
    
    
    
    
    $
    182.2
    
    
    
    
    
    
    
    
    
    
    $
    172.5
    
    
    
    
    
    
    
    
    
    
    
    5.6
    %
 Six Months Ended June 30,2004
    
    2003
    
    % ChangeOther
    
    
    
    
    
    
    
    
    
    Other
    
    
    
    
    
    
    
    
    
    OtherService
    
    Selling
    
    
    
    
    
    Service
    
    Selling
    
    
    
    
    
    Service
    
    Selling(Dollars in millions)
    
    Centers
    
    Locations
    
    Total
    
    Centers
    
    Locations
    
    Total
    
    Centers
    
    Locations
    
    TotalLawn care
    
    $
    181.3
    
    
    $
    45.6
    
    
    $
    226.9
    
    
    $
    170.1
    
    
    $
    39.1
    
    
    $
    209.2
    
    
    
    6.6
    %
    
    
    16.6
    %
    
    
    8.5
    %Golf
    
    
    14.4
    
    
    
    44.8
    
    
    
    59.2
    
    
    
    11.3
    
    
    
    48.3
    
    
    
    59.6
    
    
    
    27.4
    
    
    
    (7.2
    )
    
    
    (0.7
    )Gross sales
    
    $
    195.7
    
    
    $
    90.4
    
    
    $
    286.1
    
    
    $
    181.4
    
    
    $
    87.4
    
    
    $
    268.8
    
    
    
    7.9
    %
    
    
    3.4
    %
    
    
    6.4
    %Agency sales
    
    
    
    
    
    
    
    
    
    
    (0.4
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Freight revenue
    
    
    
    
    
    
    
    
    
    
    0.8
    
    
    
    
    
    
    
    
    
    
    
    0.8
    
    
    
    
    
    
    
    
    
    
    
    Customer discounts and rebates
    
    
    
    
    
    
    
    
    
    
    (2.3
    )
    
    
    
    
    
    
    
    
    
    
    (2.6
    )
    
    
    
    
    
    
    
    
    
    
    (11.5
    )Net sales
    
    
    
    
    
    
    
    
    
    $
    284.2
    
    
    
    
    
    
    
    
    
    
    $
    267.0
    
    
    
    
    
    
    
    
    
    
    
    6.4
    %
 Agency Sales, Freight Revenue and Customer Discounts and Rebates: During
the second quarter, the Company entered into agency agreements with
certain of its
suppliers whereby the Company operates as a sales agent of those suppliers.
The suppliers retain title to their merchandise until it is sold by the Company
and determine the prices at which LESCO can sell the suppliers merchandise. As
such, the Company recognizes sales on a net basis and records only its product
margin as revenue. The $0.4 million of agency sales represents the portion of
revenue that exceeds the Companys net product margin. Freight revenue, which
represents fees charged to customers in sales transactions for shipping and
handling, remained flat year over year for the quarter and on a year-to-date
basis. Customer discounts and rebates declined slightly from the prior year in
both the quarter, a $0.2 million decline, and the first six months, a $0.3
million reduction, as the number of customer rebate programs has been reduced. -16-




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##### Table of Contents



Gross Profit on Sales: Three Months Ended June 30,
    
    Six Months Ended June 30,2004
    
    2003
    
    2004
    
    2003(Dollars in millions)
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    % of Net SalesProduct margin
    
    $
    61.6
    
    
    
    33.8
    %
    
    $
    58.0
    
    
    
    33.6
    %
    
    $
    94.7
    
    
    
    33.3
    %
    
    $
    88.5
    
    
    
    33.1
    %Distribution cost
    
    
    (14.6
    )
    
    
    (8.0
    )
    
    
    (15.0
    )
    
    
    (8.7
    )
    
    
    (24.1
    )
    
    
    (8.5
    )
    
    
    (25.2
    )
    
    
    (9.4
    )Gross profit
    
    $
    47.0
    
    
    
    25.8
    %
    
    $
    43.0
    
    
    
    24.9
    %
    
    $
    70.6
    
    
    
    24.8
    %
    
    $
    63.3
    
    
    
    23.7
    %
 Product margin has remained consistent in the second quarter of 2004
compared to the like period in 2003. Our largest single purchased product or
raw material is urea, the nitrogen source for blended fertilizers and
combination products. Urea can represent from approximately 7% to 9% of our
cost of sales. Urea is a second derivative of natural gas and its cost has
increased with the increased cost of natural gas. For 2004, we have entered
into a contract with our urea supplier to fix the cost of a majority of our
urea needs at a price reflecting the prevailing market in late 2003; however,
our year-over-year comparative price for urea increased approximately 25% for
the second quarter and nearly 30% for the first half of 2004. In 2003, we expanded our distribution network to provide support to our
increasing base of Service Centers and to create efficiencies in our
distribution channel. As a result, we incurred approximately $0.4 million in
network start-up costs in the first half of 2003. In the second quarter and
first half of 2004, we have leveraged our distribution cost as a percentage of
sales and realized cost savings as this network becomes more efficient. We are
experiencing more optimal shipping quantities and direct distribution routes
resulting in lower costs. We expect to continue to leverage our distribution
costs as a percentage of sales for the full year in 2004 as compared to prior
year results. Operating Expenses: Three Months Ended June 30,2004
    
    2003
    
    Change(Dollars in millions)
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    %
    
    Basis PointsSelling expense
    
    $
    23.0
    
    
    
    12.6
    %
    
    $
    22.3
    
    
    
    12.9
    %
    
    $
    0.7
    
    
    
    3.1
    %
    
    (30) bpsMerchant discounts and provision for doubtful accounts
    
    
    2.6
    
    
    
    1.4
    
    
    
    1.2
    
    
    
    0.7
    
    
    
    1.4
    
    
    
    116.7
    
    
    70 bps$
    25.6
    
    
    
    14.0
    %
    
    $
    23.5
    
    
    
    13.6
    %
    
    $
    2.1
    
    
    
    8.9
    %
    
    40 bps
 Six Months Ended June 30,2004
    
    2003
    
    Change(Dollars in millions)
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    % of Net Sales
    
    Dollars
    
    %
    
    Basis PointsSelling expense
    
    $
    44.9
    
    
    
    15.8
    %
    
    $
    43.0
    
    
    
    16.1
    %
    
    $
    1.9
    
    
    
    4.4
    %
    
    (30) bpsMerchant discounts and provision for doubtful accounts
    
    
    4.2
    
    
    
    1.4
    
    
    
    1.7
    
    
    
    0.6
    
    
    
    2.5
    
    
    
    147.1
    
    
    80 bps$
    49.1
    
    
    
    17.2
    %
    
    $
    44.7
    
    
    
    16.7
    %
    
    $
    4.4
    
    
    
    9.8
    %
    
    50 bps
 Selling Expense Selling expense includes all operating expenses of Service Centers and
Stores-on-Wheels, direct sales, sales management, customer service and
marketing expense. The increase of $0.7 million for the second quarter relates
to new Service Center operating costs which increased $1.3 million in second
quarter 2004 compared to new Service Centers selling expense for the same
period last year. Total new Service Center expense in the first six months for
2004 was $3.3 million compared to $1.1 million for the like period in 2003. -17-




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##### Table of Contents



Merchant Discounts and Provision for Doubtful Accounts As a percentage of net sales, these expenses increased 70 basis points
year-over-year for the second quarter. On December 30, 2003, we sold our trade
accounts receivable portfolio to General Electric Business Credit Services
(GEBCS) for $57 million and entered a private label business credit program
agreement with GEBCS. In the second quarter and first six months of 2004, this
arrangement has resulted in increased merchant discounts as we pay program fees
and discounts to GEBCS of approximately 1.3% of sales; however, interest
expense, provision for doubtful accounts, the general and administrative costs
to service the previous in-house program and customer finance revenue have been
significantly reduced as compared to the same periods in 2003. General & Administrative Expense: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeGeneral & administrative expense
    
    $
    6.6
    
    
    $
    7.2
    
    
    $
    (0.6
    )
    
    $
    13.9
    
    
    $
    14.6
    
    
    $
    (0.7
    )
 We reduced general & administrative expense in the second quarter of 2004
by $0.6 million as compared to the same period in 2003. For the quarter and
six months ended June 30, 2004, the cost savings recognized from tightened
expense controls along with the strategic outsourcing of customer financing to
GEBCS have virtually offset the increase in expense related to more stringent
governance guidelines as well as management bonus and insurance expenses. Pre-Opening Expense Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangePre-opening expense
    
    $
    0.5
    
    
    $
    0.1
    
    
    $
    0.4
    
    
    $
    0.7
    
    
    $
    0.3
    
    
    $
    0.4Number of Service Centers opened
during the period
    
    
    16
    
    
    
    9
    
    
    
    7
    
    
    
    25
    
    
    
    19
    
    
    
    6
 Pre-opening expense increased significantly in the second quarter 2004
compared to the same period last year as the Company opened 16 new Service
Centers. Pre-opening expense, which consists primarily of grand opening
advertising, payroll, supplies and distribution, and storage costs, is expensed
as incurred. Last year during the second quarter, the Company opened nine
Service Centers. Other (Expense)/Income: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeOther expense
    
    $
    (0.1
    )
    
    $
    (0.6
    )
    
    $
    0.5
    
    
    $
    (0.2
    )
    
    $
    (0.6
    )
    
    $
    0.4Other income
    
    
    0.2
    
    
    
    0.5
    
    
    
    (0.3
    )
    
    
    0.4
    
    
    
    1.1
    
    
    
    (0.7
    )$
    0.1
    
    
    $
    (0.1
    )
    
    $
    0.2
    
    
    $
    0.2
    
    
    $
    0.5
    
    
    $
    (0.3
    )
 The increase in other expense/income, net for the second quarter compared
to the same period in 2003 was due to the non-recurrence of $0.4 million of
severance expense recognized in the second quarter 2003, which was partially
offset by $0.2 million of income from our former joint venture. The decrease
for the first six months predominantly relates to our former joint venture.
There was no income or loss recorded in the first half of 2004, as we sold our
ownership in the joint venture in the fourth quarter of 2003, and $0.6 million
of income was recognized in the first half of 2003. -18-




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##### Table of Contents



Interest Expense: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeInterest expense
    
    $
    0.2
    
    
    $
    1.3
    
    
    $
    (1.1
    )
    
    $
    0.6
    
    
    $
    2.6
    
    
    $
    (2.0
    )
 Interest expense declined $1.1 million in the second quarter 2004 and $2.0
million for the first six months versus the same periods in 2003, which was
directly related to the sale of the Companys accounts receivable portfolio to
GEBCS. The sale of the portfolio has reduced the year-over-year outstanding
borrowings on the revolving credit facility during the second quarter and first
half, and the interest rate swap agreement that was in place during 2003 was
eliminated. Pre-Tax Earnings: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeEarnings before taxes
    
    $
    14.2
    
    
    $
    10.8
    
    
    $
    3.4
    
    
    $
    6.6
    
    
    $
    1.6
    
    
    $
    5.0
 In the second quarter of 2004, the Company opened 16 Service Center
locations bringing the year-to-date total openings to 25 Service
Centers. In
the second quarter of 2003, the Company opened nine Service Centers and for the
full year in 2003 opened 21 Service Centers. Management views new Service
Centers as the primary method to leverage our cost base and grow earnings
consistently over time. Below are the operating results for the three months
and six months ended June 30, 2004 compared to the same period in 2003 for the
class of 2003 and 2004 Service Centers: Three Months Ended June 30,2004
    
    2003Class of 2004
    
    Class of 2003
    
    
    
    
    
    Class of 2003(Dollars in thousands)
    
    (25 Stores)
    
    (21 Stores)
    
    Total
    
    (19 Stores)Sales
    
    $
    4,318
    
    
    $
    6,261
    
    
    $
    10,579
    
    
    $
    3,197Cost of product
    
    
    (2,927
    )
    
    
    (4,229
    )
    
    
    (7,156
    )
    
    
    (2,252
    )Distribution cost
    
    
    (262
    )
    
    
    (244
    )
    
    
    (506
    )
    
    
    (115
    )Gross profit on sales
    
    
    1,129
    
    
    
    1,788
    
    
    
    2,917
    
    
    
    830Selling expense
    
    
    (1,079
    )
    
    
    (1,016
    )
    
    
    (2,095
    )
    
    
    (767
    )Pre-opening expense
    
    
    (503
    )
    
    
    
    
    
    
    (503
    )
    
    
    (96
    )Merchant discount expense
    
    
    (56
    )
    
    
    (83
    )
    
    
    (139
    )
    
    
    (9
    )Earnings (loss) before interest
and taxes
    
    $
    (509
    )
    
    $
    689
    
    
    $
    180
    
    
    $
    (42
    )
 -19-




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##### Table of Contents



Six Months Ended June 30,2004
    
    2003Class of 2004
    
    Class of 2003
    
    
    
    
    
    Class of 2003(Dollars in thousands)
    
    (25 Stores)
    
    (21 Stores)
    
    Total
    
    (19 Stores)Sales
    
    $
    4,768
    
    
    $
    9,206
    
    
    $
    13,974
    
    
    $
    3,435Cost of product
    
    
    (3,230
    )
    
    
    (6,219
    )
    
    
    (9,449
    )
    
    
    (2,417
    )Distribution cost
    
    
    (358
    )
    
    
    (399
    )
    
    
    (757
    )
    
    
    (189
    )Gross profit on sales
    
    
    1,180
    
    
    
    2,588
    
    
    
    3,768
    
    
    
    829Selling expense
    
    
    (1,312
    )
    
    
    (1,992
    )
    
    
    (3,304
    )
    
    
    (1,052
    )Pre-opening expense
    
    
    (725
    )
    
    
    
    
    
    
    (725
    )
    
    
    (262
    )Merchant discount expense
    
    
    (63
    )
    
    
    (123
    )
    
    
    (186
    )
    
    
    (9
    )Earnings (loss) before interest
and taxes
    
    $
    (920
    )
    
    $
    473
    
    
    $
    (447
    )
    
    $
    (494
    )
 As a result of the foregoing factors, including the operating results of
new Service Centers, the Company had pre-tax income of $14.2 million for the
quarter ended June 30, 2004 compared to pre-tax income of $10.8 million for the
comparable period last year, an improvement of $3.4 million, or 31%. For the six months ended June 30, 2004, the Company generated $6.6 million
of pre-tax income compared to $1.6 million for the same period in 2003, an over
300% increase of $5.0 million. Income Taxes and Net Income: Three Months Ended June 30,
    
    Six Months Ended June 30,(Dollars in millions, except per share data)
    
    2004
    
    2003
    
    Change
    
    2004
    
    2003
    
    ChangeEarnings before income tax (provision) benefit
    
    $
    14.2
    
    
    $
    10.8
    
    
    $
    3.4
    
    
    $
    6.6
    
    
    $
    1.6
    
    
    $
    5.0Income tax (provision) benefit:Current
    
    
    (0.9
    )
    
    
    
    
    
    
    (0.9
    )
    
    
    (1.2
    )
    
    
    
    
    
    
    (1.2
    )Deferred
    
    
    (4.6
    )
    
    
    (4.1
    )
    
    
    (0.5
    )
    
    
    (1.3
    )
    
    
    (0.6
    )
    
    
    (0.7
    )Change in valuation allowance
    
    
    5.5
    
    
    
    
    
    
    
    5.5
    
    
    
    2.2
    
    
    
    
    
    
    
    2.2
    
    
    
    (4.1
    )
    
    
    4.1
    
    
    
    (0.3
    )
    
    
    (0.6
    )
    
    
    0.3Net Income
    
    $
    14.2
    
    
    $
    6.7
    
    
    $
    7.5
    
    
    $
    6.3
    
    
    $
    1.0
    
    
    $
    5.3Earnings per share of common stock:Diluted
    
    $
    1.58
    
    
    $
    0.77
    
    
    
    
    
    
    $
    0.70
    
    
    $
    0.11Basic
    
    $
    1.63
    
    
    $
    0.79
    
    
    
    
    
    
    $
    0.72
    
    
    $
    0.11
 Net income was $14.2 million, or $1.58 per diluted share, in the second
quarter of 2004 and $6.7 million, or $0.77 per diluted share, in second quarter
2003. For the first six months of 2004, net income was $6.3 million, or $0.70
per diluted share, compared to $1.0 million, or $0.11 per diluted share, for
the like period in 2003. In accordance with the provisions of FAS 109, in the fourth quarter of
2003, the Company recorded a charge to establish a valuation allowance for its
net deferred tax assets, including amounts related to its net operating loss
carryforwards. The Company intends to maintain a full valuation allowance for
its net deferred tax assets and net operating loss carryforwards until
sufficient positive evidence exists to support reversal of some portion or the
remainder of the allowance. Until such time, except for minor state and local
provisions and adjustments to federal tax refunds, the Company will have no
reported tax provision or benefit, net of
valuation allowance adjustments. In the first half of 2004, the Company
adjusted previously estimated federal tax refunds by $0.3 million. The impact of the valuation allowance increased the Companys income tax
benefit, and net income, by $5.5 million and increased the earnings per diluted
share by $0.61 for the second quarter. For the first half 2004, the valuation
allowance impact enhanced the tax benefit $2.2 million and earnings per diluted
share by $0.25. -20-




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##### Table of Contents



BUSINESS SEGMENTS We manage LESCOs business utilizing two business segments  Selling and
Support. Selling Segment We maintain Four-Wall P&Ls for each of our selling locations (Service
Centers, Stores-on-Wheels, direct sales representatives and all other direct
selling efforts). These Four-Wall P&Ls include sales, cost of product,
distribution cost (freight in-bound to selling locations and out-bound to
customers) and operating expenses (including payroll, benefits, rent and
utilities) necessary to operate the individual selling locations. The Selling
segment operating results reflect the aggregate Four-Wall P&Ls of selling
locations adjusted for costs of zone and regional management, sales commission
expense, working capital interest charge and the portion of merchant discounts
and provision for doubtful accounts not previously charged to the Four-Wall
P&Ls. We allocate resources, including working, fixed and leased capital, to
existing and potential selling locations based upon projected sales and return
on invested capital (ROIC). We define ROIC as the percentage calculated by
dividing net operating profit after tax (NOPAT) by invested capital. For the
Selling segment we calculate ROIC as follows: ROIC =
    
    NOPAT / Invested CapitalNOPAT =
    
    Selling Segment Operating ResultsX 61% (1  effective tax rate)Invested Capital =
    
    Accounts Receivable (excluding rebate receivable, see Note 2
to Consolidated Financial Statements); plusInventory (excluding capitalized distribution and procurement
costs, markdown and shrink reserves and credit for inventory
held on consignment  see Note 2 to Consolidated Financial
Statements); plusFixed Capital (see Note 2 to Consolidated Financial Statements)
 Our measures of ROIC may not be similar to other similarly titled captions
used by other companies. For example, we do not capitalize operating leases or
utilize average invested capital over given periods. -21-




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##### Table of Contents



Selling Segment Operating Results Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003Net sales
    
    $
    284.3
    
    
    $
    267.0Cost of product
    
    
    (193.9
    )
    
    
    (183.9
    )Distribution cost
    
    
    (12.8
    )
    
    
    (10.9
    )Gross profit on sales
    
    
    77.6
    
    
    
    72.2Selling expense
    
    
    (40.6
    )
    
    
    (39.2
    )Merchant discounts and provision for doubtful accounts
    
    
    (4.2
    )
    
    
    (1.7
    )Pre-opening expense
    
    
    (0.7
    )
    
    
    (0.3
    )EBIT
    
    $
    32.1
    
    
    $
    31.0NOPAT  Six months ended June 30, 2004 and 2003
    
    $
    19.6
    
    
    $
    18.9NOPAT  Six months ended December 31, 2003 and 2002
    
    $
    21.1
    
    
    $
    24.5NOPAT  Rolling 12 months ended June 30, 2004 and 2003
    
    $
    40.7
    
    
    $
    43.4Invested capital at period endAccounts receivable
    
    $
    6.7
    
    
    $
    79.3Inventory
    
    
    67.3
    
    
    
    65.0Property, plant and equipment, net
    
    
    4.9
    
    
    
    2.6$
    78.9
    
    
    $
    146.9ROIC
    
    
    51.6
    %
    
    
    29.6
    %
 Support Segment The Support segment includes the operating results and invested capital of
all non-selling locations including manufacturing (blending facilities and seed
processing plant), distribution hubs (including in-bound freight costs to the
distribution hubs), and corporate costs (including corporate management of
sales, marketing, customer service, accounting and finance, human resources,
information systems, etc.). We believe that these costs are essential to
managing the selling locations and to managing a public company, but are not
costs that directly translate into incremental sales or positive ROIC.
Therefore, resources are only allocated to the Support segment if the result is
a net reduction in expenses or the allocation is necessary for the maintenance
of facilities, the support of the expansion of selling locations, the
maintaining of the corporate structure or is mandated by law or governmental
order. As the Support Segment operates at a negative ROIC, the Selling Segment
must provide an adequate return in order for the Consolidated Company results
to generate a positive ROIC. The Selling Segments results continue to be
sufficient to support a positive ROIC on a Consolidated basis as reflected
below: -22-




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Consolidated Operating Results Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003Net sales
    
    $
    284.2
    
    
    $
    267.0Cost of product
    
    
    (189.5
    )
    
    
    (178.4
    )Distribution cost
    
    
    (24.1
    )
    
    
    (25.3
    )Gross profit on sales
    
    
    70.6
    
    
    
    63.3Selling expense
    
    
    (44.9
    )
    
    
    (43.0
    )General & administrative expense
    
    
    (13.9
    )
    
    
    (14.6
    )Merchant discounts and provision for doubtful accounts
    
    
    (4.2
    )
    
    
    (1.7
    )Pre-opening expense
    
    
    (0.7
    )
    
    
    (0.3
    )Other expense
    
    
    (0.1
    )
    
    
    (0.6
    )Other income
    
    
    0.4
    
    
    
    1.1EBIT
    
    $
    7.2
    
    
    $
    4.2NOPAT  Six months ended June 30, 2004 and 2003
    
    $
    4.4
    
    
    $
    2.6NOPAT  Six months ended December 31, 2003 and 2002 (a)
    
    $
    2.4
    
    
    $
    3.5NOPAT  Rolling 12 months ended June 30, 2004 and 2003
    
    $
    6.8
    
    
    $
    6.1Invested capitalDebt
    
    $
    5.9
    
    
    $
    66.6Equity
    
    
    78.0
    
    
    
    78.0Total invested capital
    
    $
    83.9
    
    
    $
    144.6ROIC
    
    
    8.1
    %
    
    
    4.2
    %
  (a)
    
    NOPAT for the six months ended December 31, 2003 excludes the
charge incurred for the sale of the Companys accounts
receivable portfolio to GEBCS in December 2003. The improvement in the Companys ROIC for the Selling Segment and
Consolidated Company results is due to LESCOs sale of its accounts receivable
portfolio to GEBCS in December 2003 which enabled the Company to reduce its
invested capital. LIQUIDITY AND CAPITAL RESOURCES A summary of the change in cash and cash equivalents (see Statement of
Cash Flows included in the attached Consolidated Financial Statements) is as
follows: Six Months Ended June 30,(Dollars in millions)
    
    2004
    
    2003Cash provided by operations
    
    $
    32.8
    
    
    $
    4.0Cash used in investing activities
    
    
    (0.5
    )
    
    
    (4.1
    )Cash (used) provided by financing activities
    
    
    (12.9
    )
    
    
    4.3Increase in cash and cash equivalents
    
    $
    19.4
    
    
    $
    4.2
 -23-




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The cash provided by operations in the first half of 2004 was generated
predominantly through continued strong leverage of our accounts payable
relative to our inventory balance. Additionally, we did not experience an
increase in accounts receivable during our, historically, highest sales volume
period of the year. Accounts payable leverage is summarized as follows: June 30,(Dollars in millions)
    
    2004
    
    2003Accounts payable
    
    $
    92.0
    
    
    $
    86.1Less: Payable to GEBCS
    
    
    (0.9
    )
    
    
    Adjusted accounts payable
    
    $
    91.1
    
    
    $
    86.1Inventory
    
    $
    118.5
    
    
    $
    111.0Accounts payable leverage
    
    
    76.9
    %
    
    
    77.6
    %
 Payable to GEBCS represents the portion of the receivable portfolio sold
to GEBCS on December 30, 2003 that remains uncollected by GEBCS and secured by
the Company. Capital Expenditures: Our first half capital expenditures can be
summarized as follows: (Dollars in millions)
    
    2004
    
    2003New Service Centers
    
    $
    1.0
    
    
    $
    1.0Manufacturing facilities and corporate systems
    
    
    1.1
    
    
    
    3.1$
    2.1
    
    
    $
    4.1
 Our capital needs going forward will be predominantly related to new
Service Centers and maintaining information systems and manufacturing
facilities. Financing Activities In the fourth quarter of 2003, the Company entered into a $50 million
Revolving Credit Facility (the Facility) which replaced a prior credit
facility. Borrowings under the Facility were used to retire the prior credit
facility, including a term loan, buy-out an interest rate swap agreement and
buy-back outstanding preferred stock, including accrued dividends, all of which
were outstanding at June 30, 2003. The Facility matures December 30, 2006 and is secured by inventory, owned
receivables, equipment, investment interests, real property interests, and
general intangibles, including intellectual property. The Facility bears
interest at LIBOR plus 2.0% to 2.5% per annum, based on the level of
borrowings, and requires the payment of a facility fee ranging from 0.4% to
0.5% per annum on the unused portion of availability. Availability under the
Facility is determined by a borrowing base formula calculated on eligible
inventory. As of June 30, 2004, there was $48.7 million available, with unused
capacity of $38.5 million. Letters of credit, up to a maximum of $20 million,
are also available under the Facility and are considered outstanding borrowings
when calculating the unused portion of availability. Letters of credit in the
aggregate amount of $10.2 million were outstanding as of June 30, 2004. Letter
of credit fees range from 2.0% to 2.5% with an issuance fee ranging from 0.125%
to 0.150%. The interest rate, facility fee, letter of credit fee and letter of credit
issuance fee are determined based on the Companys fixed charge coverage ratio.
The Facility requires the maintenance of certain covenants, with the only
financial covenant being the fixed charge coverage ratio. The Company was in
compliance with the Facility covenants as of June 30, 2004. We believe that the Companys financial condition is strong and that its
cash balances, other liquid assets, operating cash flows, access to debt and
equity capital markets and borrowing capacity, collectively, provide adequate
resources to fund short-term and -24-




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long-term operating requirements and future capital expenditures related
to Service Center expansion and other projects. However, the Companys
operating cash flow and access to the capital markets can be impacted by
factors outside of its control. Contractual Obligations, Commitments and Off Balance Sheet Arrangements Subsequent to the balance sheet date, LESCO reached agreements to relocate
its corporate headquarters from its current approximately 94,000 square foot
facility in Strongsville, Ohio to an approximately 40,000 square foot facility
in downtown Cleveland, Ohio. The term of the Companys new lease will be five
years, and the Company expects to complete the relocation this year. A
division of a public company (the Assignee) will assume the remaining 11 years
of LESCOs current lease at the Strongsville location, subject to landlord
approval. Relocation costs are estimated at approximately $7.5 million, including
$4.8 million in tenant and landlord inducements, and $2.7 million in broker
commissions, legal fees, letter of credit costs, move costs and fixed-asset
write offs. The charges will be recorded in the Companys third and fourth
quarter operating results. Beginning in 2005, the financial effect of the
relocation is expected to be accretive to earnings on an annual pre-tax basis
by over $1.0 million, while the return on the cost to relocate is estimated at
greater than 7%. LESCO will guarantee the Assignees performance under the Strongsville
lease. The Assignee will be obligated to secure a $4.4 million letter of
credit backing its performance under the lease, with LESCO making an
approximate $100,000 annual payment to the Assignee to defray the cost of the
letter of credit. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our consolidated financial statements are prepared in accordance with
accounting principles generally accepted in the United States. The preparation
of these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenues and expenses, and
related disclosure of contingent assets and liabilities. On an on-going basis,
we evaluate our estimates, including those related to the allowance for
doubtful accounts, inventories, intangible assets, long-lived assets, income
taxes, and contingencies and litigation. We base our estimates on historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Management has discussed the development
and selection of the critical accounting estimates, and the disclosures made
herein, with the Audit Committee of the Board of Directors and its external
auditors. Actual results may differ from these estimates under different
assumptions or conditions. The Companys significant accounting policies are described in the Notes
to Consolidated Financial Statements included in the Companys Annual Report on
Form 10-K for the year ended December 31, 2003. This discussion and analysis
of financial condition contains various references and disclosures concerning
our accounting policies. Additionally, we have identified each of the
following as a critical accounting policy, because (i) it has the potential
to have a significant impact on our consolidated financial statements, (ii) of
the significance of the financial item to which it relates, or (iii) it
requires judgment and estimation due to the uncertainty involved in measuring
at a specific point in time events which will be settled in the future. Revenue Recognition We recognize revenue when goods are shipped to the customer and title and
risk of loss passes to the customer. We have consigned inventory agreements on
certain products. We report gross revenue from sales of consigned inventory in
accordance with Emerging Issues Task Force 99-19, Reporting Revenue Gross as a
Principal versus Net as an Agent. Additionally, we have agency agreements
with vendors for which we recognize sales net as an agent. Sales of
consigned inventory were $11.5 million and $11.1 million for the quarters ended
June 30, 2004 and 2003, respectively, and $16.2 million and $15.6 million for
the corresponding six month periods. Allowance for Doubtful Accounts Accounts receivable consists primarily of amounts due from vendors under
purchase rebate, cooperative advertising and other contractual programs and
trade receivables not financed through outside programs. The Company earns
product discounts under various supplier rebate programs, which are recorded as
accounts receivable and credited to inventory valuation reserves when earned.
The Company provides for expected losses from all owned and recourse accounts
in the allowance for doubtful accounts. Expected losses are estimated based
upon the number of days the accounts are past due, historical loss experience
of the Company, historical loss experience of credit portfolios with
characteristics similar to the Companys portfolio and the current business
environment. -25-




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Inventories Inventories are valued principally at the lower of cost (average cost
method) or market. Procurement, warehousing and distribution costs are
capitalized to inventory on hand and expensed to distribution cost when the
inventory is sold. Vendor rebates earned on purchases are recorded as a
reduction to inventory on hand and recognized when the inventory is sold. We
have an inventory life cycle program that requires the classification of all
Stock Keeping Units (SKUs) into one of five categories: active, watch, phase
out, discontinued and liquidated. SKUs identified as discontinued are
progressively marked-down to expected net realizable value over specific
periods until the costs are marked down to zero. At that point, the products
are liquidated. Estimated net realizable value of 20% of cost is based on
historical sales of discontinued inventory. We maintain a reserve for
inventory shrink, based on historical experience of 0.2% of sales. Actual
shrink is charged against the reserve. Income Taxes The Company uses the liability method whereby income taxes are recognized
during the fiscal year in which transactions enter into the determination of
financial statement income. Deferred tax assets and liabilities are recognized
for the expected future tax consequences of temporary differences between
financial statement and tax bases of assets and liabilities. The Company
assesses the recoverability of its deferred tax assets in accordance with the
provisions of Statement of Financial Accounting Standards No. 109, Accounting
for Income Taxes (SFAS 109). In accordance with that standard, the Company
has provided a $1.5 million valuation allowance equal to its net deferred tax
assets. The Company intends to maintain a full valuation allowance for its net
deferred tax assets until sufficient positive evidence exists to support the
reversal of some portion or the remainder of the allowance. Until such time,
the Company will have no reported tax provision, net of valuation allowance
adjustments. Any future decision to reverse a portion or all of the remaining
valuation allowance will be based on consideration of several factors
including, but not limited to, the Companys expectations regarding future
taxable income and the Companys cumulative income or loss in the then most
recent three-year period. In the event the Company was to determine, based on
the existence of sufficient positive evidence, that it would be able to realize
its deferred tax assets in the future in excess of its net recorded amount, a
reduction of the valuation allowance would increase income in the period such
determination was made. Impairment of Long-Lived and Intangible Assets The Company assesses the recoverability of its long-lived and intangible
assets by determining whether the amortization of the remaining balance over
its remaining useful life can be recovered through undiscounted future
operating cash flows. If impairment exists, the carrying amount of the related
asset is reduced to fair value. In September 2001, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 142 (SFAS 142), Goodwill and
Other Intangible Assets. SFAS 142 provides that goodwill and indefinite-lived
intangible assets are no longer amortized but are reviewed annually (or more
frequently if impairment indicators arise) for impairment. Separable
intangible assets that are not deemed to have an indefinite life will continue
to be amortized over their useful lives (but with no maximum life). The
Company adopted SFAS No. 142 effective January 1, 2002. Upon adoption, the
Company determined that goodwill impairment existed. The impairment loss was
measured by evaluating the fair value of the goodwill using discounted cash
flow appraisal models. These models indicated that the goodwill of $7.3
million was fully impaired. Upon the adoption of SFAS 142, the Company wrote
off all of its goodwill and there is no amortization expense for goodwill
recorded in the operating results for the quarters and six months ended June
30, 2004 and 2003. Accrued Liabilities Certain accrued liabilities, including employee health insurance and
workers compensation, are estimated based on historical experience and lag
analysis due to the difference between the time the expense is incurred and
when the expense is paid. A valuation analysis is performed to estimate the
accrual required for property and casualty insurance claims expense. FORWARD LOOKING STATEMENTS Certain statements included in this report are forward-looking statements
that involve a number of risks and uncertainties and which are based on
managements current beliefs, assumptions and expectations. These
forward-looking statements can be identified by the use of predictive or future
tense terms such as anticipate, estimate, expect, believe, project,
may, will or similar terms. These statements are made pursuant to the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995. The
Companys actual results may differ materially from those stated, implied or
anticipated in the forward-looking statements, as a result of a number of
factors that include, but are not limited to, the Companys ability to add new
Service Centers in accordance with its -26-




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plans, which can be affected by local zoning and other governmental
regulations and its ability to find favorable store locations, to negotiate
favorable leases, to hire qualified individuals to operate the Service Centers,
and to integrate new Service Centers into the Companys systems; competitive
factors in the Companys business, including pricing pressures; lack of
availability or instability in the cost of raw materials which affects the
costs of certain products; the Companys ability to impose price increases on
customers without a significant loss in revenues; potential rate increases by
third-party carriers which affects the cost of delivery of products; potential
regulations; the Companys ability to effectively manufacture, market and
distribute new products; the success of the Companys operating plans; regional
weather conditions; and the condition of the industry and the economy. For a
further discussion of risk factors, investors should refer to the Companys
Securities and Exchange Commission reports, including but not limited to the
Companys Annual Report on Form 10-K for the year ended December 31, 2003. 
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is exposed to market risk, principally interest rate risk.
Market risk can be measured as the potential negative impact on earnings, cash
flows or fair values resulting from a hypothetical change in interest rates
over time. Interest paid on its debt is sensitive to changes in interest rates.
The interest rate for the Companys revolving credit facility is variable,
while the Companys long-term debt and the interest component of its operating
leases is generally fixed. The Company believes its potential exposure to interest rate risk is not
material to the Companys financial position or the results of its operations.
As of June 30, 2004, there had not been a material change in any of the market
risk information disclosed by the Company in its Annual Report on Form 10-K for
the year ended December 31, 2003. See Item 7A. Quantitative and Qualitative
Disclosures About Market Risk on page 28 of the Companys Annual Report on
Form 10-K for the year ended December 31, 2003, filed with the Securities and
Exchange Commission on March 29, 2004, for more detailed information regarding
market risk. 
 ITEM 4. CONTROLS AND PROCEDURES The Company performed an evaluation under the supervision, and with the
participation, of the Companys management, including the President and Chief
Executive Officer and Senior Vice President and Chief Financial Officer, of the
effectiveness of the Companys disclosure controls and procedures as of the end
of the period covered by this report. Based on that evaluation, the Companys
management, including the Chief Executive Officer and Senior Vice President and
Chief Financial Officer, concluded that the Companys disclosure controls and
procedures were effective in ensuring that material information relating to the
Company with respect to the period covered by this report was recorded,
processed, summarized and reported on a timely basis. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected. Because
of the inherent limitations in a cost-effective control system, misstatements
due to error or fraud may occur and not be detected. During the quarter, there have been no significant changes in the
Companys internal controls that have materially affected, or are reasonably
likely to materially affect, these controls. -27-




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##### Table of Contents



PART II  OTHER INFORMATION Except as noted below, the items in Part II are inapplicable or, if
applicable, would be answered in the negative. These items have been omitted
and no other reference is made thereto. 
 ITEM 1. LEGAL PROCEEDINGS On July 14, 2003, an administrative complaint was filed against the
Company by the State of New York Department of Environmental Conservation
(NYSDEC) alleging violation of state law regarding the registration of
pesticides. The complaint alleges that the Company distributed 3,440 bags of
the Companys Dimension® Crabgrass Pre-emergent Plus Fertilizer to one of its
retail customers in New York State without having proper registration therefor.
The complaint seeks a civil penalty of $3,440,000. NYSDEC filed a similar
complaint against the retail customer seeking a civil penalty of $3,440,000.
The Company intends to indemnify the retail customer for such claim pursuant to
a vendor agreement between the parties. The Company is in discussions with the
NYSDEC relative to a settlement. There are other legal actions, governmental investigations and proceedings
pending to which the Company is a party or to which its property is subject.
In the opinion of our management, after reviewing the information that is
currently available with respect to these matters and consulting with counsel,
any liability that may be ultimately incurred with respect to these matters is
not expected to materially affect our consolidated financial condition. 
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the Companys Annual Meeting of Shareholders held on May 12, 2004, the
shareholders elected nine directors to serve one-year terms. No other matters
were voted upon at the meeting. Following is the final results of the votes cast: For
    
    WithheldRonald Best
    
    7,398,355 votes
    
    128,205 votesRobert F. Burkhardt
    
    7,400,665 votes
    
    125,895 votesMichael P. DiMino
    
    7,392,440 votes
    
    134,120 votesJ. Martin Erbaugh
    
    7,363,294 votes
    
    163,266 votesMichael E. Gibbons
    
    7,364,656 votes
    
    161,904 votesEnrique Foster Gittes
    
    7,400,456 votes
    
    126,104 votesLee C. Howley
    
    7,399,274 votes
    
    127,286 votesChristopher H.B. Mills
    
    7,364,656 votes
    
    161,904 votesR. Lawrence Roth
    
    7,363,509 votes
    
    163,051 votes
 
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a)
    
    Exhibits
    
    Exhibit 3(a)
    
    Amended Articles of Incorporation of the Registrant
(included as an exhibit to the Registrants Quarterly
Report on Form 10-Q for the quarter ended March 31, 2002
and incorporated herein by reference).Exhibit 3(b)
    
    Amended Code of Regulations of the Registrant (included as
an exhibit to the Registrants Annual Report on Form 10-K
for the year ended December 31, 2002 and incorporated
herein by reference).Exhibit 31(a)
    
    Michael P. DiMino Rule 13a-14(a)/15d-14(a) CertificationExhibit 31(b)
    
    Jeffrey L. Rutherford Rule 13a-14(a)/15d-14(a) CertificationExhibit 32(a)
    
    Michael P. DiMino Section 1350 CertificationExhibit 32(b)
    
    Jeffrey L. Rutherford Section 1350 Certification
  (b)
    
    Reports on Form 8-K: On May 3, 2004, the Company filed a report on Form 8-K relating to the Companys Earnings
Release for the first quarter ended March 31, 2004. -28-




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. LESCO, INC.Date: August 4, 2004
    
    By: /s/ Jeffrey L. RutherfordJeffrey L. RutherfordSenior Vice President, Chief Financial Officer,
Treasurer and Secretary
 -29-