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DIAMOND FOODS INC - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) Summary We are an innovative packaged food company focused on building and energizing brands. We specialize in processing, marketing and distributing snack products and culinary, in-shell and ingredient nuts. In 2004, we complemented our strong heritage in the culinary nut market under the Diamond of California® brand by launching a line of snack nuts under the Emerald® brand. In 2008, we acquired the Pop Secret® brand of microwave popcorn products, which provided us with increased scale in the snack market. In 2010, we acquired Kettle Foods, a leading premium potato chip company in the two largest potato chip markets in the world, the United States and the United Kingdom, which added the complementary premium Kettle Brand® to our existing portfolio. In general, we sell directly to retailers, particularly larger national grocery store and drug store chains, and indirectly through wholesale distributors to independent and small regional retail grocery store chains and convenience stores. We sell our products to global, national, regional and independent grocery, drug and convenience store chains, as well as to mass merchandisers, club stores, other retail channels and non-retail channels, such as global ingredient nut customers. Our business is seasonal. In sourcing walnuts, we contract directly with growers for their walnut crop. We typically receive walnuts during the period from September to November, and we pay for the crop throughout the 24-------------------------------------------------------------------------------- Table of Contents year in accordance with our walnut purchase agreements with the growers. We typically receive in-shell pecans during the period from October to March, and shelled pecans throughout the fiscal year, and pay for them over those periods on receipt. As a result of this seasonality, our personnel and working capital requirements and walnut inventories peak during the last four months of the calendar year. We experience seasonality in capacity utilization at our Stockton, California facility associated with the annual walnut harvest and seasonal in-shell and culinary product demand. Refer to Note 9 to the Notes to the Consolidated Financial Statements for further discussion on our consolidation of our manufacturing operations and closure of our facility in Fishers, Indiana. Generally, we receive and pay for approximately 50% of the corn for popcorn in November, and approximately 50% in April. We contract for potatoes and oil annually and receive and pay for them throughout the year. During the second quarter of fiscal 2013, we changed our operating and reportable segments. We previously had one operating and reportable segment; we now aggregate our operating segments into two reportable segments, which are Snacks and Nuts. We evaluate the performance of our segments based on net sales and gross profit for each of the segments. During the preparation of the Quarterly Report on Form 10-Q for the first quarter of fiscal 2014, we determined that the statutory income tax rate used to value United Kingdom deferred taxes as of July 31, 2013 was not correct. This was due to a change in the statutory tax rate enacted in the fourth quarter of fiscal 2013, and resulted in a $3.2 million overstatement of the net deferred income tax liability balance at July 31, 2013 and a $3.3 million understatement of the income tax benefit for fiscal year 2013. We assessed the materiality of the error in accordance with SEC Staff Accounting Bulletin No. 99, Materiality and concluded that this error was not material to the fiscal year 2013 consolidated financial statements. In accordance with SEC Staff Accounting Bulletin No. 108,Considering the Effects of Prior Year Misstatements When Quantifying Misstatements in Current Year Financial Statements, due to the immaterial nature of this error, on both prior and projected current year results we have revised the July 31, 2013 Consolidated Balance Sheet on this Annual Report on Form 10-K. Diamond reports its operating results on the basis of a fiscal year that starts August 1 and ends July 31. Diamond refers to the fiscal years ended July 31, 2011, 2012, 2013 and 2014, as "fiscal 2011," "fiscal 2012," "fiscal 2013" and "fiscal 2014," respectively. Critical Accounting Policies Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of our assets, liabilities, revenues and expenses. We base our estimates on historical experience and various other assumptions that we believe 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. Actual results may differ from these estimates. Our critical accounting policies are set forth below. Revenue Recognition and Accounts Receivable. We recognize revenue when persuasive evidence of an arrangement exists, title and risk of loss has transferred to the buyer, price is fixed, delivery occurs and collection is reasonably assured. Revenues are recorded net of rebates, introductory or slotting payments, coupons, promotion and marketing allowances. The amount we accrue for promotion is based on an estimate of the level of performance of the trade promotion, and is based upon factors such as historical trends with similar promotions, expectations regarding customer and consumer participation and sales and payment trends with similar previously offered programs. Customers have the right to return certain products. Product returns are estimated based upon historical results and are reflected as a reduction in sales. Evaluating these estimates requires management judgment, and changes in our assumptions could impact the amount recorded for our sales, cost of sales and net income. 25 -------------------------------------------------------------------------------- Table of Contents Inventories. All inventories are accounted for on a lower of cost (first-in, first-out or weighted average) or market basis. We have entered into walnut purchase agreements with growers, under which they deliver their walnut crop to us during the fall harvest season, and pursuant to our walnut purchase agreements, we determine the price for this inventory after receipt and by the end of the fiscal year. This purchase price is determined by us based on our discretion provided in the agreements, taking into account market conditions, crop size, and quality and nut varieties, among other relevant factors. Since the ultimate purchase price to be paid will be determined subsequent to receiving the walnut crop, we estimate the final purchase price for our interim financial statements. Those interim estimates may subsequently change due to changes in the factors described above and the effect of the change could be significant. Any such changes in estimates are accounted for in the period of change by adjusting inventory on hand or cost of goods sold if the inventory is sold through. Changes in estimates may affect the ending inventory balances, as well as gross profit. Property, Plant and Equipment. Property, plant and equipment are stated at cost. Depreciation and amortization are computed using the straight-line method over the estimated useful lives of assets ranging from 30 to 39 years for buildings and ranging from 3 to 15 years for machinery, equipment and software. We perform impairment tests on our property, plant, and equipment when circumstances indicate that their carrying value may not be recoverable. Indicators of impairment could include significant changes in business environment or planned closure of a facility. Considerable management judgment is necessary to evaluate the impact of operating changes and to estimate asset useful lives and future cash flows. If actual results are not consistent with our estimates and assumptions used to calculate estimated future cash flows, we may be exposed to a significant impairment loss. Valuation of Long-lived and Intangible Assets and Goodwill. We periodically review long-lived assets and certain identifiable intangible assets for impairment in accordance with Accounting Standards Codification ("ASC") 360, "Property, Plant, and Equipment." Identifiable intangible assets with finite lives are amortized over their estimated useful lives of 20 years. Goodwill and intangible assets not subject to amortization are reviewed annually for impairment in accordance with ASC 350, "Intangibles - Goodwill and Other," or more often if there are indications of possible impairment. We perform our annual goodwill and intangible assets impairment tests as of June 30 th each year. The analysis to determine whether or not an asset is impaired requires significant judgments that are dependent on internal forecasts, including estimated future cash flows, estimates of long-term growth rates for our business, the expected life over which cash flows will be realized and assumed royalty and discount rates. Changes in these estimates and assumptions could materially affect the determination of fair value and any impairment charge. While the fair value of these assets exceeds their carrying value based on our current estimates and assumptions, materially different estimates and assumptions in the future in response to changing economic conditions, changes in our business or for other reasons could result in the recognition of impairment losses. For assets to be held and used, including identifiable intangible assets and long-lived assets subject to amortization, we initiate our review whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. Recoverability of a long-lived asset subject to amortization is measured by comparison of its carrying amount to the expected future undiscounted cash flows that the asset is expected to generate. Any impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds its fair value. Significant management judgment is required in this process. For brand intangible assets not subject to amortization, we test for impairment annually, or whenever events or changes in circumstances indicate that their carrying value may not be recoverable. In testing brand intangibles for impairment, we compare the fair value with the carrying value. The determination of fair value is based on the relief from royalty method, which models the cash flows from the brand intangibles assuming royalties were received under a licensing arrangement. This discounted cash flow analysis uses inputs such as forecasted future revenues attributable to the brand, assumed royalty rates and a risk-adjusted discount rate. If we 26-------------------------------------------------------------------------------- Table of Contents were to experience a decrease in forecasted future revenues attributable to the brands, this could indicate a potential impairment. If the carrying value exceeds the estimated fair value, the brand intangible asset is considered impaired, and an impairment loss will be recognized in an amount equal to the excess of the carrying value over the fair value of the brand intangible asset. We performed our annual intangible asset impairment analysis as of June 30, 2014 and determined that we did not have any impairment. The fair value of the brand intangible assets were substantially in excess of their carrying values. We perform our annual goodwill impairment test required by ASC 350 as of June 30th of each year. During fiscal 2012, we adopted ASU No. 2011-08, "Intangibles-Goodwill and Other (Topic 350): Testing Goodwill for Impairment. For both fiscal 2014 and fiscal 2013, we elected to perform a quantitative goodwill impairment analysis rather than a qualitative analysis. As a result of our segment reporting changes for the period ended January 31, 2013, goodwill impairment will now be tested at the reporting units, which are the same as our operating segments. In fiscal 2012, we performed our goodwill impairment test at our single reporting unit. The fair value of each reporting unit is calculated using a blend of the income and the market approach. Goodwill impairment is indicated if the book value of the reporting unit exceeds its fair value, in which case the goodwill is written down to its estimated fair value. Major assumptions applied in an income approach, using a discounted cash flow analysis, include (i) forecasted sales growth rates and (ii) forecasted profitability, both of which are estimated based on consideration of historical performance and management's estimate of future performance, and (iii) discount rates that are used to calculate the present value of future cash flows, which rates are derived based on our estimated weighted average cost of capital. Our weighted average cost of capital included a review and assessment of market and capital structure assumptions. The major assumptions in the market approach include the selected multiples applied to certain operating statistics, such as revenues and income, as well as an estimated control premium. Considerable management judgment is necessary to evaluate the impact of operating changes and business initiatives in order to estimate future growth rates and profitability which is used to estimate future cash flows and multiples. For example, a significant change in promotional strategy, a shortfall in contracted walnut supply or an increase in tree nut commodity costs could have a direct impact on revenue growth and operating costs, which could have a direct impact on the profitability of the reporting units. Future business results could significantly impact the evaluation of our goodwill which could have a material impact on the determination of whether a potential impairment existed, and the size of any such impairment. At July 31, 2014, the carrying value of goodwill and other intangible assets totaled approximately $803.1 million, compared to total assets of approximately $1,192.8 million and total shareholders' equity of approximately $283.8 million. At July 31, 2013, the carrying value of goodwill and other intangible assets totaled approximately $789.2 million, compared to total assets of approximately $1,172.3 million and total shareholders' equity of approximately $170.0 million. We performed our annual goodwill impairment analysis as of June 30, 2014 using discount rates ranging from 9.6% to 10.0% and goodwill was determined not to be impaired. We cannot guarantee that we will not record a material impairment charge in the future. The margin by which the fair values of the Emerald and Diamond of California reporting units exceed carrying values is as low as 20% making the impairment assessment especially sensitive to changes in forecasted revenue and margins. As a result, changes in our results, assumptions or estimates could materially affect the estimation of the fair value of a reporting unit and, therefore, could reduce the excess of fair value over the carrying value of a reporting unit entirely and could result in goodwill impairment. Events and conditions that could indicate impairment include a sustained drop in the market price of our common stock, increased competition or loss of market share, increases in our tree nut commodity costs, lack of product innovation or obsolescence, or product claims that result in a significant loss of sales or profitability over a period of time. For example, an expected decline in long-term forecasted cash flow projections, such as net sales for a reporting unit, could indicate a fair value which is lower than carrying value. To the extent calculated fair values decline to a level lower than reporting unit carrying values, or if other indicators of potential impairment are present, we will be required to take further steps to determine if an impairment of goodwill has occurred and to calculate an impairment loss. 27-------------------------------------------------------------------------------- Table of Contents Employee Benefits. We incur various employment-related benefit costs with respect to qualified pension and deferred compensation plans. Assumptions are made related to discount rates used to value certain liabilities, assumed rates of return on assets in the plans, compensation increases, employee turnover and mortality rates. We review our assumptions on an annual basis and make modifications to the assumptions based on current rates and trends when it is deemed appropriate. The effect of any modification is generally recorded and amortized over future periods. Different assumptions could result in the recognition of differing amounts of expense over different periods of time. Income Taxes. We account for income taxes in accordance with ASC 740, "Income Taxes." This guidance requires that deferred tax assets and liabilities be recognized for the tax effect of temporary differences between the financial statement and tax basis of recorded assets and liabilities at currently enacted tax rates. This guidance also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be realized. We evaluated our valuation allowance for fiscal 2014 and increased the valuation allowance to $150.8 million as of July 31, 2014 from $99.3 million as of July 31, 2013. The recoverability of deferred tax assets is based on both our historical and anticipated earnings levels and is reviewed periodically to determine if any additional valuation allowance is necessary when it is more likely than not that amounts will not be recovered. There are inherent uncertainties related to the interpretations of tax regulations in the jurisdictions in which we operate. We may take tax positions that management believes are supportable, but are potentially subject to successful challenge by the applicable taxing authority. We evaluate our tax positions and establish liabilities in accordance with the guidance on uncertainty in income taxes. We review these tax uncertainties in light of changing facts and circumstances, such as the progress of tax audits, and adjust them accordingly. Differences between management's position and taxing authorities on issues could result in an increase or decrease to tax expense, which could be material to our results of operations. Accounting for Stock-Based Compensation. We account for stock-based compensation arrangements, including stock option grants and restricted stock awards, in accordance with the provisions of ASC 718, "Compensation - Stock Compensation." Under this guidance, compensation cost is recognized based on the fair value of equity awards on the date of grant. The compensation cost is then amortized on a straight-line basis over the vesting period. We use the Black-Scholes option pricing model to determine the fair value of stock options at the date of grant. This model requires us to make assumptions such as expected term, volatility and forfeiture rates that determine the stock options' fair value. These key assumptions are based on historical information and judgment regarding market factors and trends. If actual results are not consistent with our assumptions and judgments used in estimating these factors, we may be required to increase or decrease compensation expense, which could be material to our results of operations. Results of Operations Fiscal 2014 Compared to Fiscal 2013 On August 21, 2013, we reached a proposed agreement, preliminary approval of which was granted on September 26, 2013, subject to final court approval, to settle the private securities class action pending against us and two of our former officers. A final approval hearing was held on January 9, 2014. Under the terms of the preliminarily approved settlement, we paid a total of $11.0 million in cash and issued 4.45 million shares of common stock to a settlement fund to resolve all claims asserted on behalf of investors who purchased or otherwise acquired Diamond stock between October 5, 2010 and February 8, 2012, inclusive. We recognized an aggregate settlement liability of $96.1 million in the fourth fiscal quarter of 2013 which included a cash settlement of $11.0 million and a stock settlement valued at $85.1 million at the close of the stock market on August 20, 2013 based on our closing market price on the day before the preliminary approval motion. The value 28-------------------------------------------------------------------------------- Table of Contents of the 4.45 million shares of common stock at July 31, 2013 was $90.7 million. The court issued an order granting final approval of the stock settlement on January 21, 2014, and the appeal period expired on February 20, 2014, at which time the stock settlement became effective. In fiscal 2014, we recorded a loss of $38.1 million as a result of the change in the fair value of the stock settlement, derecognized the liability and insurance receivable associated with the Securities Settlement, and on February 21, 2014, issued the 4.45 million shares to a settlement fund. Net sales were $865.2 million and $864.0 million for fiscal 2014 and fiscal 2013, respectively. The slight increase in consolidated net sales was primarily due to an increase in Snacks sales, which was largely offset by a decrease in Nuts sales. Net sales by segment (in thousands): Year Ended July 31, % Change from 2014 2013 2014 to 2013 Net sales Snacks $ 473,736 $ 437,955 8.2 % Nuts 391,471 426,057 -8.1 % Total $ 865,207 $ 864,012 0.1 % Gross profit Snacks $ 168,568 $ 152,133 10.8 % Nuts 39,678 53,390 -25.7 % Total $ 208,246 $ 205,523 1.3 % Snacks segment net sales increased to $473.7 million in fiscal 2014 from $438.0 million in fiscal 2013 primarily due to an increase in volume of 8.1% Nuts segment net sales decreased to $391.5 million in fiscal 2014 from $426.1 million in fiscal 2013 primarily driven by a decrease in volume of 12.5%. The decrease in volume was partially offset by product mix in our Emerald brand, and increases in pricing in our Diamond of California brand. Gross profit. Snacks segment gross profit as a percentage of snack net sales was 35.6% and 34.7% for fiscal 2014 and fiscal 2013, respectively. The increase in gross profit as a percentage of net sales is largely driven by increases in volume, product mix and a reduction in certain ingredient costs for fiscal 2014 as compared to fiscal 2013. Nuts segment gross profit as a percentage of net sales was 10.1% and 12.5% for fiscal 2014 and 2013, respectively. The decrease in gross profit as a percentage of net sales was driven by decreases in volume and increases in tree nut costs for the Diamond of California and Emerald brands. As discussed in Item 1A. Risk factors, our commodity costs are subject to fluctuations in availability and price that could adversely impact our business and financial results. Selling, general and administrative. Selling, general and administrative expenses consist principally of salaries and benefits for sales and administrative personnel, brokerage, professional services, travel, non-manufacturing depreciation and facility costs. Selling, general and administrative expenses were $151.3 million and $233.4 million, and 17.5% and 27.0% of net sales, for fiscal 2014 and fiscal 2013, respectively. Selling, general and administrative expenses decreased from fiscal 2013 primarily due to the Settlement of the Securities Litigation. In fiscal 2014, we recorded a loss of $38.1 million as a result of changes in the fair value of the stock portion of the settlement as compared to the aggregate settlement expense of $96.1 million we recorded in fiscal 2013. We also recognized a $1.6 million gain relating to the shareholder derivative settlement in the first quarter 29-------------------------------------------------------------------------------- Table of Contents of fiscal 2014. Additionally, no costs were incurred related to the Audit Committee investigation and related legal expenses and we incurred lower audit and consulting fees as compared to the prior year. These decreases were partially offset by the $5.0 million we recorded related to the SEC investigation and an increase in stock compensation expense and research and development expense in fiscal 2014. Advertising. Advertising expenses were $43.3 million and $41.5 million, and 5.0% and 4.8% of net sales, for fiscal 2014 and fiscal 2013, respectively. The increase in advertising expenses for fiscal 2014 was primarily due to an increase in online media spending in support of our brands. Loss on warrant liability. Loss on warrant liability was $25.9 million and $11.3 million, and 3.0% and 1.3% of net sales for fiscal 2014 and fiscal 2013, respectively. The loss on warrant liability for fiscal 2014 was due to the change in the fair value of the warrant liability. As a result of the debt refinancing in the third quarter, the warrant was exercised and we no longer have a liability associated with the warrant as of July 31, 2014. Warrant exercise fee. Warrant exercise fee was $15.0 million and 1.7% of net sales for fiscal 2014 and nil for fiscal 2013. The $15.0 million warrant exercise fee represents the contractual modification inducement fee paid to Oaktree. See further discussion in the Liquidity and Capital Resources section under Description of Refinancing. Asset impairments. In fiscal 2014, asset impairments were nil. In fiscal 2013, asset impairments were $37.6 million and 4.3% of net sales. In the third quarter of fiscal 2013 we recorded an impairment charge of $1.6 million associated with customer contacts and related relationships. In the fourth quarter of fiscal 2013, we determined that the Kettle U.S. trade name within the Snacks segment was impaired and recorded a $36.0 million impairment charge. Loss on debt extinguishment. Loss on debt extinguishment and other related charges was $83.0 million and 9.6% of net sales for fiscal 2014 and nil for fiscal 2013. We recorded certain expenses in accordance with Accounting Standards Codification ("ASC") Section 470-50-40-2 - Debt - Modifications and Extinguishments including the differential between the repayment amount and carrying value of the senior notes ("Oaktree Senior Notes") held by Oaktree, a call premium associated with senior notes held by Oaktree, write-offs of unamortized debt issuance and transaction costs related to our five-year $600 million secured credit facility (the "Secured Credit Facility") and Oaktree Senior Notes and new debt issuance costs associated with the new refinancing that was expense as incurred. For additional description of our debt, see Note 6 to the Notes to the Consolidated Financial Statements. Interest expense, net. Net interest expense was $52.0 million and $57.9 million, and 6.0% and 6.7% of net sales, for fiscal 2014 and fiscal 2013, respectively. Interest expense, net decreased for fiscal 2014 primarily due to our refinanced capital debt structure which yields lower interest rates than our previously held debt obligations which included the election of the payment-in-kind interest on the Oaktree Senior Notes. Income taxes. Our effective tax rates for fiscal 2014 and fiscal 2013 were (1.47%) and 9.2%, respectively. The difference between the effective tax rate and the federal statutory rate of 35%, in these periods, is primarily due to the valuation allowance which was provided to reduce United States and state deferred tax assets to amounts considered recoverable and United States and state deferred taxes from Diamond's long lived intangibles' amortization. These tax expense impacts were offset by the benefits of income generated in the United Kingdom at lower tax rates and the release of liabilities for uncertain tax positions in the United States. Our fiscal 2013 effective tax rate was also impacted by the write-down of intangibles related to the Kettle U.S. trade name. In accordance with generally accepted accounting principles, we regularly evaluate the need for a valuation allowance for our deferred tax assets based on the likelihood that the benefits of the deferred tax assets would or would not ultimately be realized in future periods. In making this assessment, significant weight was given to 30 -------------------------------------------------------------------------------- Table of Contents evidence that could be objectively verified such as recent operating results and less consideration was given to less objective indicators such as future earnings projections. As a result of our most recent evaluation and after consideration of positive and negative evidence, including the recent history of losses in the current fiscal year, we evaluated our valuation allowance for fiscal 2014 and increased the revised valuation allowance by $51.5 million to $150.8 million as of July 31, 2014 from $99.3 million as of July 31, 2013. Fiscal 2013 Compared to Fiscal 2012 Net sales were $864.0 million and $981.4 million for fiscal 2013 and fiscal 2012, respectively. The decrease in net sales was primarily due to decreased Nuts sales partially offset by an increase in Snacks sales. Sales incentives are recorded as a reduction of sales. Net sales by segment (in thousands): Year Ended July 31, % Change from 2013 2012 2013 to 2012 Net sales Snacks $ 437,955 $ 425,175 3.0 % Nuts 426,057 556,243 -23.4 % Total $ 864,012 $ 981,418 -12.0 % Gross profit Snacks $ 152,133 $ 128,122 18.7 % Nuts 53,390 51,599 3.5 % Total $ 205,523 $ 179,721 14.4 % Snacks segment net sales increased to $438.0 million in fiscal 2013 from $425.2 million in fiscal 2012 primarily driven by an increase in net price realization. Nuts segment net sales decreased to $426.1 million in fiscal 2013 from $556.2 million in fiscal 2012 primarily driven by decreases in volume of 34%, partially offset by an increase in net price realization. The decline in volume was primarily driven by lower walnut supply, planned reductions in SKU's, and a decrease in promotional activity. Gross profit. Snacks segment gross profit as a percentage of snack net sales was 34.7% and 30.1% for fiscal 2013 and fiscal 2012, respectively. The increase in the Snacks segment gross profit as a percentage of net sales for fiscal 2013 as compared to fiscal 2012 reflects an increase in net price realization and a reduction in unit processing costs based on cost reduction initiatives. Nuts segment gross profit as a percentage of net sales was 12.5% and 9.3% for fiscal 2013 and 2012, respectively. The increase in Nuts segment gross profit as a percentage of net sales for fiscal 2013 reflects a focus on increasing net price realization, rationalization of lower performing SKU's, and our cost savings initiatives, offset in part by an increase in certain commodity costs. Selling, general and administrative. Selling, general and administrative expenses consist principally of salaries and benefits for sales and administrative personnel, brokerage, professional services, travel, non-manufacturing depreciation and facility costs. Selling, general and administrative expenses were $233.4 million and $130.6 million, and 27.0% and 13.3% of net sales, for fiscal 2013 and fiscal 2012, respectively. Selling, general and administrative expenses increased for fiscal 2013, over the prior year period primarily due to the $96.1 million settlement of the private securities class action case. As of July 31, 2013, we recorded a $12.1 million receivable from insurers which will be used for the cash payment and settlement of other legal related expenses. The increase was also attributable to higher consulting services and restatement audit fees, offset in part by lower costs incurred in connection with the audit committee investigation and reversal of previously recorded stock compensation expenses associated with former executives as compared to prior year. 31-------------------------------------------------------------------------------- Table of Contents Advertising. Advertising expenses were $41.5 million and $37.9 million, and 4.8% and 3.9% of net sales, for fiscal 2013 and fiscal 2012, respectively. The increase in advertising expenses for fiscal 2013 was primarily due to increased spending related to the continued support of the Pop Secret and Kettle brands. Acquisition and integration related expenses. Acquisition and integration related expenses include items such as transaction related legal and consulting fees, as well as business and systems integration costs, which were primarily associated with the proposed Pringles merger. In fiscal 2013, there were no acquisition and integration related expenses. In fiscal 2012 we recorded $41.3 million acquisition and integration related expenses representing expenses associated with the Pringles acquisition that terminated in fiscal 2012. Loss on warrant liability. Loss on warrant liability was $11.3 million and $10.4 million, and was 1.3% and 1.1% of net sales for fiscal 2013 and fiscal 2012, respectively. The increase in loss is due to the change in the fair value of the warrant liability. Please refer to "Liquidity and Capital Resources". Asset impairments. In fiscal 2013, asset impairments were $37.6 million and 4.3% of net sales. In the third fiscal quarter we recorded an impairment charge of $1.6 million associated with customer contacts and related relationships. In the fourth fiscal quarter, we determined that the Kettle U.S. trade name within the Snacks segment was impaired and recorded a $36.0 million impairment charge. In fiscal 2012, asset impairments were $10.1 million and 1.0% of net sales. We recorded asset impairment charges of $10.1 million in fiscal 2012 associated with Fishers equipment that either was not currently being utilized or was not going to be utilized for its remaining useful life. Interest expense, net. Net interest expense was $57.9 million and $34.0 million, and 6.7% and 3.5% of net sales, for fiscal 2013 and fiscal 2012, respectively. The increases were primarily due to higher interest rates and the Oaktree debt. Additionally, under the Waiver and Third Amendment to our Secured Credit Facility, ("Third Amendment") described below, the interest rates applicable under the Secured Credit Facility, defined below, were increased. Please refer to "Liquidity and Capital Resources". Income taxes. Our effective tax rates for fiscal 2013 and fiscal 2012 were 9.2% and (2.0%), respectively. The difference between the effective tax rate and the federal statutory rate of 35%, in these periods, is primarily due to the valuation allowance which was provided to reduce United States and state deferred tax assets to amounts considered recoverable and United States and state deferred taxes from Diamond's long lived intangibles' amortization. These tax expense impacts were offset by the benefits of income generated in the United Kingdom at lower tax rates and the release of liabilities for uncertain tax positions in the United States. Our fiscal 2013 effective tax rate was also impacted by the write-down of intangibles related to the Kettle U.S. trade name. Our fiscal 2012 effective tax rate was also impacted by discrete tax benefits, and the conclusion of a tax ruling with the United Kingdom tax authorities. This resulted in a net tax benefit of $5.6 million, attributable to the reversal of our unrecognized tax benefit related to this event. During the three months ended April 30, 2012, we recorded a tax valuation allowance charge of $27.6 million. In accordance with generally accepted accounting principles, we regularly evaluate the need for a valuation allowance for our deferred tax assets based on the likelihood that the benefits of the deferred tax assets would or would not ultimately be realized in future periods. In making this assessment, significant weight was given to evidence that could be objectively verified such as recent operating results and less consideration was given to less objective indicators such as future earnings projections. As a result of our most recent evaluation and after consideration of positive and negative evidence, including the recent history of losses in the current fiscal year, we evaluated our valuation allowance for fiscal 2013 and increased the valuation allowance to $99.3 million as of July 31, 2013, from $44.6 million as of July 31, 2012. 32 -------------------------------------------------------------------------------- Table of Contents Liquidity and Capital Resources Our liquidity is dependent upon funds generated from operations and external sources of financing. Cash used in operating activities was $102.3 million during fiscal 2014 compared to cash provided by operating activities of $44.3 million during fiscal 2013. The change in cash provided by operating activities to cash used in operating activities is primarily due to the repayment of the Oaktree original issue discount of approximately $50.0 million and the repayment of payment- in-kind interest on debt of approximately $44.1 million as a result of our third quarter refinancing. This cash change is also due to an increase in working capital primarily as a result of the extinguishment of the warrant liability and Securities Litigation liability in fiscal 2014. The working capital increase is also attributable to a decrease in accounts payable and accrued liabilities and an increase in inventories, specifically an increase of raw materials on hand as of the balance sheet date. Cash used in investing activities was $19.1 million during fiscal 2014 compared to $1.9 million during fiscal 2013. The increase in cash used in investing activities primarily related to machinery and equipment additions associated with our standard business operations in the U.S. and U.K. and capitalizable costs associated with our financial system implementation. Cash provided by financing activities was $120.5 million during fiscal 2014 compared to $40.9 million cash used in financing activities during fiscal 2013. The change to cash provided by financing activities from cash used in financing activities is due to proceeds received from refinanced debt and the Oaktree warrant exercise in fiscal 2014. Cash provided by operating activities was $44.3 million during fiscal 2013 compared to $46.3 million of cash used in operating activities during fiscal 2012. The change from cash used in operating activities to cash provided by operating activities was primarily due to a decrease in inventory largely resulting from a lower walnut supply, and an increase in accounts payables and accrued liabilities as result of the settlement of the private securities class action. Additionally, non-cash reconciling items such as an increase in payment-in-kind interest increased in fiscal 2013 as compared to fiscal 2012. Cash used in investing activities was $1.9 million during fiscal 2013 compared to cash used in investing activities of $33.9 million during fiscal 2012. The lower cash used in investing activities was primarily due to the completion of our Beloit, Wisconsin plant expansion at the end of fiscal 2012. Cash used in financing activities was $40.9 million during fiscal 2013 compared to $80.7 million cash provided by financing activities during fiscal 2012. The change from cash provided by financing activities to cash used in financing activities was primarily due to increased borrowings from the Oaktree investment in fiscal 2012 and net of payments on long-term debt obligations and notes payables. At July 31, 2014, we had a total of $5.3 million in cash and cash equivalents. Of this balance, $3.9 million was held in the United Kingdom in foreign currencies. It is our intention to indefinitely reinvest all current and future foreign earnings at these locations in order to ensure sufficient working capital and expand operations. Applicable U.S. income taxes have not been provided on approximately $80.3 million of undistributed earnings of certain foreign subsidiaries as of July 31, 2014, because these earnings are considered indefinitely reinvested. The net federal income tax liability that would arise if these earnings were not indefinitely reinvested is approximately $28.1 million. Applicable U.S. income taxes are provided on these earnings in the periods in which they are no longer considered indefinitely reinvested. In the event that management elects for any reason in the future to repatriate some or all of the foreign earnings that were previously deemed to be indefinitely reinvested outside of the United States, we would incur additional tax expense upon such repatriation. Description of Refinancing On February 19, 2014, we refinanced our debt capital structure. We entered into a 4.5 year senior secured asset-based revolving credit facility (the "ABL Facility") in an aggregate principal amount of $125 million, the Term Loan Facility in an aggregate principal amount of $415 million, and issued $230 million in 7.000% Senior Notes due March 2019 (the "Notes"). Pursuant to an agreement dated February 9, 2014 (the "Warrant Exercise Agreement"), OCM PF/FF Adamantine Holdings, Ltd. (a subsidiary of Oaktree) exercised its warrant to purchase 4,420,859 shares of our common stock at the $10 exercise price per share for $44.2 million, less a warrant cash exercise and contractual modification inducement fee of $15 million (the "Warrant Exercise Transaction"). The 33 -------------------------------------------------------------------------------- Table of Contents Warrant Exercise Transaction closed on February 19, 2014, concurrent with the refinancing transactions and we derecognized the warrant liability of approximately $84.1 million on that date. We used the net proceeds of the Term Loan Facility, the Notes and the Warrant Exercise Transaction to (1) prepay approximately $348 million of indebtedness outstanding under, and terminate the Secured Credit Facility, (2) prepay approximately $276 million of indebtedness outstanding under, and terminate, the Oaktree Senior Notes, (3) pay approximately $32.3 million of prepayment premiums to the holders of the Oaktree Senior Notes, and (4) pay fees related to the preparation, negotiation, execution and delivery of the definitive documentation for the Term Loan Facility, the Notes and the ABL Facility. In accordance with ASC 835-30-45-3 Imputation of Interest - Other Presentation Matters, we recorded $14.5 million of new debt issuance costs associated with the February 2014 debt refinancing as deferred financing charges. Certain debt issuance costs incurred were expensed to Loss on debt extinguishment based on the portion of the refinancing that was considered a debt modification that arose from certain lenders continued participation in our refinanced debt structure. Debt issuance costs largely included arrangement fees paid to underwriters, legal fees, accounting fees, consulting fees, and printing fees. We recorded the current portion of these costs in Prepaid expenses and other current assets and the non-current portion was recorded in Other long-term assets in our Consolidated Balance Sheets. These amounts will be amortized over the life of the respective new debt agreements. We recorded a Loss on debt extinguishment of $83.0 million in the third quarter of fiscal 2014. Of the $83.0 million, we recorded approximately $70.3 million associated with the Oaktree Senior Notes, non-cash charges of $10.6 million resulting from the write-off of unamortized Oaktree and Secured Credit Facility transaction costs and fees and $2.1 million in new third party debt issuance costs associated with certain lenders that continued participation in the debt arrangements both prior to and subsequent to the refinancing transaction. The $70.3 million included $28.7 million, which was a portion of the $32.3 million call premium we paid to the holders of the Oaktree Senior Notes and approximately $41.6 million related to the excess payout of the Oaktree Senior Notes to account for the difference in the carrying value and actual payout, which was based on the Oaktree Senior Notes fair value as of the date of refinancing. Of the $32.3 million call premium, the remaining $3.6 million related to the portion of the refinancing that was considered a debt modification and was recorded as a contra-debt liability on our Consolidated Balance Sheets. Debt After Refinancing In December 2010, Kettle Foods obtained, and we guaranteed, a 10-year fixed rate loan (the "Guaranteed Loan") in the principal amount of $21.2 million, of which $8.3 million was outstanding as of July 31, 2014. Principal and interest payments are due monthly throughout the term of the loan. The Guaranteed Loan was being used to purchase equipment for our Beloit, Wisconsin plant expansion. Borrowed funds were placed in an interest-bearing escrow account and made available as expenditures were approved for reimbursement. As the cash was used to purchase non-current assets, such restricted cash was classified as non-current on the balance sheet. In December 2012, the remaining balance within the escrow account was released back to the lender and was used to pay down the outstanding loan balance. Also, as part of the paydown, we paid a 4% prepayment penalty, which was recorded in Interest expense, net. The Guaranteed Loan provides for customary affirmative and negative covenants, which are similar to the covenants under the Secured Credit Facility as defined below. The financial covenants within the Guaranteed Loan were reset to match those in the Waiver and Third Amendment to its Secured Credit Facility, as described in more detail below. Additionally, on February 9, 2014, we entered into, and on February 19, 2014, we closed the Warrant Exercise Agreement, pursuant to which Oaktree agreed to exercise in full its warrant to purchase an aggregate of 4,420,859 shares of our common stock, by paying in cash the exercise price of approximately $44.2 million less a cash exercise and contractual modification inducement fee of $15.0 million. The warrant was issued to Oaktree in connection with the Securities Purchase Agreement, dated May 22, 2012 ("Securities Purchase Agreement"), 34 -------------------------------------------------------------------------------- Table of Contents under which we issued the Oaktree Senior Notes. The $15.0 million inducement fee is included within Warrant exercise fee on the Consolidated Statement of Operations. The Warrant Exercise Agreement provided that so long as Oaktree and/or its affiliates hold at least 10% of our outstanding common stock, Oaktree will have the right to nominate one member of our Board of Directors. In addition, until the later of (a) twelve months after Oaktree no longer has the right to nominate a member of our Board of Directors or (b) twelve months after any director nominated by Oaktree under the Warrant Exercise Agreement or the Securities Purchase Agreement no longer serves as a director, Oaktree and its affiliates agree not to: acquire or beneficially own more than 30% of the outstanding common stock of Diamond; commence or support any tender offer for our common stock; make or participate in any solicitation of proxies to vote or seek to influence any person with respect to voting its Diamond common stock; publicly announce a proposal or offer concerning any extraordinary transaction with us; form, join or participate in a group for the purpose of acquiring, holding, voting or disposing of any our securities; take any actions that could reasonably be expected to require us to make a public announcement regarding the possibility of such an acquisition, tender offer or proxy solicitation; enter into any agreements with a third party regarding any such prohibited actions; or request us to amend or waive such provisions. Upon the closing of the transactions contemplated by the Warrant Exercise Agreement, the Securities Purchase Agreement, and our obligations thereunder, terminated. The common stock issued upon exercise of the warrant will be issued in a private placement pursuant to exemptions from the registration requirements of the Securities Act of 1933 and are covered by a Registration Rights Agreement entered into on May 29, 2012 in connection with the Securities Purchase Agreement. The Term Loan Facility will mature in 4.5 years and will amortize in equal quarterly installments in an aggregate annual amount equal to 1.0% of the original principal amount of the Term Loan Facility with the balance payable on the maturity date of the Term Loan Facility. The Term Loan Facility will permit us to increase the term loans, or add a separate tranche of term loans, by an amount not to exceed $100 million plus the maximum amount of additional term loans that we could incur without our senior secured leverage ratio exceeding 4.50 to 1.00 on a pro forma basis after giving effect to such increase or addition. Amounts outstanding are expected to bear interest at a rate per annum equal to: (i) the Eurodollar Rate (as defined in the Term Loan Facility and subject to a "floor" of 1.00%) plus the applicable margin or (ii) the Base Rate (as defined in the Term Loan Facility), which is the greatest of (a) Credit Suisse's prime rate, (b) the federal funds effective rate plus 0.50% and (c) the Eurodollar Rate for an interest period of one month plus 1.00%, plus, in each case, the applicable margin to be agreed with the lenders party thereto. Loans under the ABL facility would be available up to a maximum amount outstanding at any one time equal to the lesser of (a) $125 million and (b) the amount of the Borrowing Base, in each case, less customary reserves. Under the ABL Facility, we have a $20 million sublimit for the issuance of letters of credit, and a Swing Line Facility of up to $12.5 million for same day borrowings. Borrowing Base is defined as (a) 85% of the amount of our eligible accounts receivable; plus (b) the lesser of (i) 70% of the book value of eligible inventory in the US and (ii) 85% times the net orderly liquidation value of our eligible inventory in the US; less (c) in each case, customary reserves. As of July 31, 2014, there were $6.0 million loans outstanding under the ABL Facility, the amount of letters of credit issued under the ABL Facility was $4.9 million and the net availability under the ABL Facility was $92.0 million. Under the ABL Facility, we may elect that the loans bear interest at a rate per annum equal to: (i) the Base Rate plus the applicable margin; or (ii) the LIBOR Rate plus the applicable margin. "Base Rate" means the greatest of (a) the Federal Funds Rate plus 0.5%, (b) the LIBOR Rate (which rate shall be calculated based upon an interest period of 1 month and shall be determined on a daily basis), plus 1.00%, and (c) the rate of interest announced, from time to time, by Wells Fargo at its principal office in San Francisco as its "prime rate." The LIBOR Rate shall be available for interest periods of one week or, one, two, three or six months and, if all lenders agree, twelve months. The Term Loan Facility and ABL Facility provide for customary affirmative and negative covenants. The Term Loan Facility has customary cross default provisions and the ABL Facility contains cross-acceleration 35-------------------------------------------------------------------------------- Table of Contents provisions, in each case that may be triggered if we fail to comply with obligations under our other credit facilities or indebtedness. The Term Loan Facility has a first priority perfected lien on substantially all property, plant and equipment, capital stock, intangibles and second priority lien on the ABL Priority Collateral, subject to customary exceptions. The ABL Facility requires us to maintain a minimum fixed charge coverage ratio of 1.1:1 if at any time excess availability is less than 10% of maximum availability; and requires us to apply substantially all cash collections to reduce outstanding borrowings under the ABL Facility if excess availability falls below 12.5% of maximum availability for a period of 5 business days. The ABL Facility is secured by a first-priority lien on accounts receivable, inventory, cash and deposit accounts and a second-priority lien on all real estate, equipment and equity interests of the Company under, and guarantors of, the ABL Facility. The Notes, which will mature on March 15, 2019, were offered only to (i) qualified institutional buyers in reliance on Rule 144A of the Securities Act of 1933, as amended ("Securities Act"), and (ii) to certain non-U.S. persons in offshore transactions in reliance on Regulation S of the Securities Act. The initial issuance and sale of the Notes were not registered under the Securities Act, and the Notes may not be offered or sold in the United States absent registration or an applicable exemption from the registration requirements of the Securities Act and the registration or qualification requirements of other applicable securities laws. The terms of the Notes do not provide for registration rights. Interest on the Notes will be payable on March 15 and September 15 of each year, commencing September 15, 2014. On or after March 15, 2016, we may redeem all or a part of the Notes at a price equal to 103.500% of the principal amount of the Notes, plus accrued and unpaid interest, with such optional redemption prices decreasing to 101.750% on and after March 15, 2017 and 100.000% on and after March 15, 2018. Before March 15, 2016, we may redeem some or all of the Notes at a price equal to 100.000% of the principal amount of the Notes redeemed, plus accrued and unpaid interest to the redemption date and the make-whole premium. Before March 15, 2016, we may redeem up to 35% of the Notes with the net cash proceeds of certain equity offerings at a redemption price equal to 107.000% of the aggregate principal amount thereof, plus accrued and unpaid interest to the date of redemption. If we experience a change of control, we must offer to purchase for cash all or any part of each holder's Notes at a purchase price equal to 101% of the principal amount of the Notes, plus accrued and unpaid interest, if any. The indenture pursuant to which the Notes were issued contains customary covenants that, among other things, limit our ability and our restricted subsidiaries' ability to incur additional indebtedness, make restricted payments, enter into transactions with affiliates, create liens, pay dividends on or repurchase stock, make specified types of investments, and sell all or substantially all of their assets or merge with other companies. Each of the covenants is subject to a number of important exceptions and qualifications. For fiscal 2014, the blended interest rate for our consolidated borrowings, including obligations under our refinanced debt capital structure and excluding the Oaktree Senior Notes, was 5.43%. For fiscal 2013, the blended interest rate for the Company's consolidated long-term borrowings, excluding the Oaktree debt was 6.73%. For fiscal 2014 and fiscal 2013, the blended interest rate for the Company's short term borrowings was 6.07% and 6.69%, respectively. As of July, 31, 2014 we were compliant with financial and reporting covenants under the new refinanced debt structure. Debt Before Refinancing The following is a description of our debt outstanding before the refinancing described above in "Description of Refinancing" and "Debt After Refinancing." In February 2010, we entered into an agreement with a syndicate of lenders for a five-year $600 million secured credit facility (the "Secured Credit Facility"). Our Secured Credit Facility initially consisted of a $200 million revolving credit facility and a $400 million term loan. In March 2011, the syndicate of lenders approved our request for a $35 million increase in the revolving credit facility to $235 million, under the same terms. In August 2011, the syndicate of lenders approved our request for a $50 million increase in the revolving credit facility to $285 million, under the same terms. 36-------------------------------------------------------------------------------- Table of Contents The Secured Credit Facility and the Securities Purchase Agreement provided for customary affirmative and negative covenants, and cross default provisions that could be triggered if we failed to comply with obligations under the other credit facilities or indebtedness. The Secured Credit Facility and the Securities Purchase Agreement included a covenant that restricted the amount of other indebtedness (including capital leases and purchase money obligations for fixed or capital assets), to no more than $25 million. The accounting treatment for the seven-year equipment lease for our Salem, Oregon plant (the "Kettle U.S. Lease") and the five-year equipment lease for our Norfolk, United Kingdom plant (the "Kettle U.K. Lease") caused us to be in default of the covenants limiting other indebtedness. These defaults were waived, with respect to the Kettle U.K. Lease on July 27, 2012 ("Fourth Amendment") and with respect to the Kettle U.S. Lease on August 23, 2012 ("Fifth Amendment"). Additionally, the Secured Credit Facility and the Securities Purchase Agreement were each amended to allow us to incur up to $31 million of capital leases and purchase money obligations for fixed or capital assets, which amount was reduced from and after December 31, 2013 (a) to $25 million under the Secured Credit Facility and (b) to $27.5 million under the Securities Purchase Agreement. As a result of the refinancing, as of July 31, 2014 we no longer had outstanding obligations under the Secured Credit Facility. In March 2012, we reached an agreement with our lenders to forbear from seeking any remedies under the Secured Credit Facility with respect to specified existing and anticipated non-compliance with the credit agreement and to amend the credit agreement ("Second Amendment"). Under the amended credit agreement, we had continued access to our existing revolving credit facility through a forbearance period (initially through June 18, 2012) subject to our compliance with the terms and conditions of the amended credit agreement. During the forbearance period, the interest rate on borrowings increased, which under the credit agreement, required us to suspend dividend payments to stockholders. In addition, we paid a forbearance fee of 25 basis points to our lenders. The forbearance period concluded on May 29, 2012, when we closed agreements to recapitalize our balance sheet with an investment by Oaktree. In May 2012, we entered into the Waiver and Third Amendment to its Secured Credit Facility ("Third Amendment"), pursuant to which the revolving credit facility initially was reduced from $285 million to $255 million. The Third Amendment provided for subsequent further reductions in the revolving line of credit in July 2013 and on January 31, 2014. In May 2012, we made a $100 million pre-payment on the term loan facility as part of the Third Amendment. In addition, scheduled principal payments on the term loan facility were $0.9 million (due quarterly), with the remaining principal balance and any outstanding loans under the revolving credit facility to be repaid on February 25, 2015. Substantially all of our tangible and intangible assets were considered collateral security under the Secured Credit Facility. Additionally, the Third Amendment which provided for a lower level of total bank debt, initially at $475 million, along with substantial covenant relief. In the second quarter of fiscal 2013, these covenants reset from the levels set forth in the Third Amendment (initially 4.70 to 1.00 for the Consolidated Senior Leverage Ratio, declining each quarter ultimately to 3.25 to 1.00 in the quarter ended July 31, 2014, and thereafter, and 2.00 to 1.00 for the fixed charge coverage ratio). The Third Amendment included a covenant requiring us to have at least $20 million of cash, cash equivalents and revolving credit availability at all times beginning February 1, 2013. In addition, the Third Amendment required a $100 million pre-payment of the term loan facility, while reducing the remaining scheduled principal payments from $10 million to $0.9 million. The Third Amendment also amended the definition of "Applicable Rate" under the Secured Credit Agreement (which sets the margin over the London Interbank Offered Rate ("LIBOR") and the base rate at which loans under the Secured Credit Agreement bear interest). Under the Third Amendment, initially, Eurodollar rate loans bore interest at 5.50% plus the LIBOR for the applicable loan period, and base rate loans bore interest at 450 basis points plus the highest of (i) the Federal Funds Rate plus 50 basis points, (ii) the Prime Rate, (iii) Eurodollar Rate plus 100 basis points. The LIBOR rate was subject to a LIBOR floor, initially 125 basis points (the "LIBOR Floor"). The applicable rate would decline, if and when we were to achieve reductions in our senior debt to EBITDA ratio, as defined in the Third Amendment. The Third Amendment also eliminated the requirement that proceeds of future equity issuances be applied to repay outstanding loans and waived certain covenants in connection with our restatement of our consolidated financial statements. As a result of the refinancing noted above, we have no indebtedness outstanding under the Secured Credit Facility as of July 31, 2014. 37 -------------------------------------------------------------------------------- Table of Contents On May 29, 2012, we received an investment from Oaktree Capital Management, L.P. ("Oaktree"). The Oaktree investment initially consisted of $225 million of newly-issued Oaktree Senior Notes and a warrant to purchase approximately 4.4 million shares of our common stock. The Oaktree Senior Notes would have matured in 2020 and bore interest at 12% per year that would have been paid-in-kind at our option for the first two years. Oaktree's warrant became exercisable at $10 per share starting on March 1, 2013. On February 19, 2014, Oaktree exercised the warrants. The Secured Credit Facility provided for customary affirmative and negative covenants and cross default provisions that would be triggered, if we failed to comply with obligations under our other credit facilities or indebtedness. As a result of the February 19, 2014 debt refinancing, we no longer have indebtedness outstanding under the Secured Credit Facility as of July 31, 2014. Working capital and stockholders' equity were $110.3 million and $283.8 million at July 31, 2014, compared to ($59.5) million and $170.0 million at July 31, 2013. The increase in working capital as compared to prior year was primarily due to the extinguishment of the warrant liability and Securities Litigation liability in the third quarter of fiscal 2014. Additionally, the increase in working capital is attributable to an increase in inventories. The inventory increase was driven by tree nut cost inflation, and increases in inventory costs associated with our ready-to-eat popcorn products. We believe our cash and cash equivalents, cash generated from operations and borrowings available under our ABL Facility will be sufficient to fund our contractual commitments, repay obligations and fund our operational requirements over the next twelve months. Contractual Obligations and Commitments Contractual obligations and commitments at July 31, 2014 were as follows (in millions): Payments Due by Period FY 2016 - FY 2018 - Total FY 2015 FY 2017 FY 2019 Thereafter ABL Facility 6.0 6.0 - - - Long-term obligations 651.2 6.5 13.3 631.4 - Interest on long-term obligations (a) 147.9 34.1 67.9 45.9 - Capital leases 10.9 2.6 5.6 2.1 0.6 Interest on capital leases 1.5 0.6 0.7 0.2 - Operating leases 28.1 4.7 7.8 7.1 8.5 Purchase commitments (b) 71.9 69.7 2.2 - - Pension liability 9.3 0.7 1.5 1.7 5.4 Long-term deferred tax liabilities (c) 115.9 - - - 115.9 Other long-term liabilities (d) 5.0 1.0 1.0 1.0 2.0 Total 1,047.7 125.9 100.0 689.4 132.4 (a) Amounts represent the expected cash interest payments on our long-term debt. Interest on our variable rate debt was forecasted using a LIBOR forward curve analysis as of July 31, 2014. (b) Commitments to purchase inventory and equipment. Excludes purchase commitments under Walnut Purchase Agreements due to uncertainty of pricing and quantity, but includes payments due for prior year crop deliveries. (c) Primarily relates to the intangible assets of Kettle Foods. (d) Excludes $0.4 million in deferred rent liabilities. Additionally, the liability for uncertain tax positions ($1.2 million at July 31, 2014, excluding associated interest and penalties) has been excluded from the contractual obligations table because a reasonably reliable estimate of the timing of future tax settlements cannot be determined. 38 -------------------------------------------------------------------------------- Table of Contents Off-balance Sheet Arrangements As of July 31, 2014, we did not have any off-balance sheet arrangements, as defined in Item 303(a) (4) (ii) of SEC Regulation S-K. Effects of Inflation The most significant inflationary factor affecting our net sales and cost of sales is the change in market prices for purchased nuts, corn, potatoes, oils and other ingredients. The prices of these commodities are affected by U.S. and world market conditions and are volatile in response to supply and demand, as well as political and economic events. The price fluctuations of these commodities do not necessarily correlate with the general inflation rate. Inflation is likely to however, adversely affect operating costs such as labor, energy and materials. Recent Accounting Pronouncements In February 2013, the FASB issued ASU No. 2013-02, "Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income." The new guidance requires an entity to report the effect of significant reclassifications out of accumulated other comprehensive income on the respective line items in net income if the amount being reclassified is required to be reclassified in its entirety to net income. For other amounts that are not required to be reclassified in their entirety to net income in the same reporting period, an entity is required to cross-reference other disclosures required under GAAP that provide additional detail about those amounts. This guidance is effective for fiscal years beginning on or after December 15, 2012, and interim periods within those annual periods. We adopted this guidance in fiscal 2014 and the adoption did not have a material impact on our consolidated financial statements. In July 2013, the FASB issued ASU No. 2013-011, "Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists." The new guidance provides specific financial statement presentation requirements for an unrecognized tax benefit when a net operating loss carryforward, a similar tax loss, or a tax credit carryforward exists. The guidance states that an unrecognized tax benefit in those circumstances should be presented as a reduction to the deferred tax asset. This guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. Early adoption is permitted. We do not expect to early adopt this guidance and do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements. In January 2014, the FASB issued ASU 2014-08, "Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an entity." The new guidance provides new criteria for reporting discontinued operations and specifically indicates a disposal of a component of an entity or a group of components of an entity is required to be reported in discontinued operations if the disposal represents a strategic shift that will have a major effect on the Company's operations and financial results. The new guidance also requires expanded disclosures for discontinued operations. This guidance is effective for fiscal years and interim periods within those years beginning after December 15, 2014. Early adoption is permitted. We do not expect to early adopt this guidance and do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements. In May 2014, the FASB issued ASU 2014-09, "Revenue from Contracts with Customers (Topic 606)." The new guidance provides new criteria for recognizing revenue to depict the transfer of goods or services to customers in amounts that reflect the consideration to which the company expects to be entitled in exchange for those goods or services. The new guidance requires expanded disclosures to provide greater insight into both revenue that has been recognized and revenue that is expected to be recognized in the future from existing contracts. Quantitative and qualitative information will be provided about the significant judgments and changes in those judgments that management made to determine the revenue that is recorded. The standard will be 39-------------------------------------------------------------------------------- Table of Contents effective for the first interim period within annual reporting periods beginning after December 15, 2016. Early adoption is not permitted. We are currently assessing the provisions of the guidance and we have not determined the impact of the adoption of this guidance on our consolidated financial statements. In June 2014, the FASB issued ASU 2014-12, "Compensation - Stock Compensation (Topic 718)." The new guidance provides new criteria for accounting for share-based payments when the terms of an award provide that a performance target could be achieved after the requisite service period. The amendments require that a performance target that affects vesting and that could be achieved after the requisite service period is treated as a performance condition. A reporting entity should apply existing guidance in Topic 718 as it relates to awards with performance conditions and compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved. The standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2015. Early adoption is permitted. We do not expect to early adopt this guidance and do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements. In August 2014, the FASB issued ASU 2014-15, "Presentation of Financial Statements - Going Concern (Subtopic 205-40)." The new guidance addresses management's responsibility to evaluate whether there is substantial doubt about an entity's ability to continue as a going concern and to provide related footnote disclosures. Management's evaluation should be based on relevant conditions and events that are known and reasonably knowable at the date that the financial statements are issued. The standard will be effective for the first interim period within annual reporting periods beginning after December 15, 2016. Early adoption is permitted. We do not expect to early adopt this guidance and do not believe that the adoption of this guidance will have a material impact on our consolidated financial statements. |