Titan Machinery - 10-Q quarterly report FY

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TITAN MACHINERY INC.

QUARTERLY REPORT ON FORM 10-Q

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PART I. – FINANCIAL INFORMATION

ITEM 1.          FINANCIAL STATEMENTS

TITAN MACHINERY INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share data)

See Notes to Consolidated Financial Statements

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TITAN MACHINERY INC.

CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

(in thousands, except per share data)

See Notes to Consolidated Financial Statements

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TITAN MACHINERY INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(in thousands)

See Notes to Consolidated Financial Statements

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CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(in thousands)

See Notes to Consolidated Financial Statements

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TITAN MACHINERY INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

NOTE 1 -       BUSINESS ACTIVITY AND SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The unaudited consolidated financial statements included herein have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim reporting. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine-month period ended October 31, 2010 are not necessarily indicative of the results that may be expected for the year ending January 31, 2011. The information contained in the balance sheet as of January 31, 2010 was derived from the audited financial statements for Titan Machinery Inc. (the “Company”) for the year then ended. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Form 10-K for the fiscal year ended January 31, 2010 as filed with the SEC.

Nature of Business

Titan Machinery Inc. is engaged in the retail sale, service and rental of agricultural and construction machinery through stores in North Dakota, South Dakota, Minnesota, Iowa, Nebraska, Montana and Wyoming.

Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, Transportation Solutions LLC. All significant accounts, transactions and profits between the consolidated companies have been eliminated in consolidation.

Fair Value of Financial Instruments

The carrying amount of cash, receivables, payables, short-term debt and other current liabilities approximates fair value because of the short maturity and/or frequent repricing of those instruments. Based upon current borrowing rates with similar maturities, the carrying value of the long-term debt approximates the fair value as of October 31, 2010 and January 31, 2010.

Exit and Disposal Costs

The Company accounts for exit or disposal activities, including store closures, in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 420, Exit or Disposal Cost Obligations. Such costs mainly include lease termination costs and employee termination costs. The Company records a liability for any remaining lease obligations, net of estimated sublease income or estimated loss on disposal if the Company buys and subsequently sells the leased property, as of the date the Company ceases using the property. Any subsequent adjustments to that liability as a result of changes in estimates are recorded in the period incurred. The Company records a liability for employee termination costs at the date the termination benefits were communicated to the employees.

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As part of the Company’s Construction business action plan, in April 2010, the Company decided to close its Construction store in Columbia Falls, Montana. The primary exit costs relate to estimated lease termination costs of $306,000 and employee termination costs of $27,000. These exit costs are included in operating expenses on the consolidated statements of operations for the nine months ended October 31, 2010. The Company transferred the majority of the assets and related floorplan notes payable and long-term debt to other stores. A reconciliation of the beginning and ending liability balance follows:

Recent Accounting Guidance

In July 2010, the FASB issued authoritative guidance on financing receivables and the allowance for credit losses, codified in ASC 310, Receivables. This guidance amends the current disclosure requirements to provide a greater level of disaggregated information about the credit quality of an entity’s financing receivables and its allowance for credit losses. The guidance also requires an entity to disclose credit quality indicators, past due information, and modifications of its financing receivables. The guidance is effective for interim and annual reporting periods ending after December 15, 2010. The Company is in the process of determining the impact that this guidance will have on the Company’s consolidated financial statements.

Earnings Per Share

The following table sets forth the denominator for the computation of basic and diluted earnings per share:

There were 139,000 and 149,000 stock options outstanding as of October 31, 2010 and 2009, respectively, that were not included in the computation of diluted earnings per share because they were anti-dilutive.

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NOTE 2 -       INVENTORIES

In addition to the above amounts, the Company has estimated that a portion of its parts inventory will not be sold in the next year. Accordingly, these balances have been classified as noncurrent assets.

NOTE 3 -       LINES OF CREDIT / FLOORPLAN NOTES PAYABLE

Senior Secured Credit Facility — Operating and Floorplan Lines of Credit

On October 31, 2010, the Company entered into a Senior Secured Credit Facility (“Credit Agreement”) with a group of banks led by Wells Fargo Bank, National Association (“Wells Fargo Bank Syndicate”). The Credit Agreement provides for a $175.0 million wholesale floorplan line of credit (“Floorplan Line”) and a $50.0 million working capital line of credit (“Working Capital Line”) which expires October 31, 2014. The Credit Agreement has a variable interest rate on outstanding balances of LIBOR plus an applicable margin of 1.5% to 2.0% per annum, depending upon the Company’s consolidated leverage ratio, has a 0.2% to 0.4% non-usage fee on the average monthly unused amount and requires monthly payments of accrued interest. The Credit Agreement is secured by all assets of the Company and contains certain financial covenants which impose a minimum level of fixed charge coverage ratio and a maximum level of debt to tangible net worth ratio and include annual thresholds for acquisitions and capital expenditures. This agreement became effective on November 2, 2010.

The Floorplan Line will be used to finance equipment inventory purchases. Amounts outstanding will be recorded as floorplan notes payable, within current liabilities on the consolidated balance sheets as the Company intends to repay amounts borrowed within one year.

The Working Capital Line will be used to finance working capital requirements of the Company and will replace the Company’s previous $25.0 million operating line and Term Loan (as defined below) with Bremer Bank and certain notes payable to CNH Capital America LLC (“CNH Capital”) for rental fleet equipment. Amounts outstanding will be recorded as long-term debt, within long-term liabilities on the consolidated balance sheets as the Company does not have the intention or obligation to repay amounts borrowed within one year.

Operating Line of Credit

Prior to November 2010, the Company was party to a Loan Agreement (the “Loan Agreement”) with Bremer Bank National Association (“Bremer Bank”) dated July 15, 2009, as amended on July 13, 2010, which provided for a $25.0 million revolving operating line of credit (“Revolving Loan”) and a $12.9 million term loan (“Term Loan”). The Loan Agreement was terminated in November 2010 and replaced with the aforementioned Working Capital Line. The Revolving Loan was used to fund short term working capital requirements of the Company. The Revolving Loan had a variable interest rate of 0.25% per annum below a Bremer Bank reference rate (subject to a minimum interest rate floor of 4.5%) on outstanding balances, had a 0.5% non-usage fee on the average monthly unused amount, required monthly payments of accrued interest, and had a maturity date of July 12, 2011. Advances under the Loan Agreement were secured by substantially all of the Company’s assets. See details of the Term Loan in the long-term debt schedule in the Company’s Form 10-K for the fiscal year ended January 31, 2010 as filed with the SEC.

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The Company had no amount outstanding on the Revolving Loan at October 31, 2010. The Loan Agreement contains certain financial covenants which impose minimum levels of current ratio, debt service coverage, and inventory turnover ratio and a maximum level of debt to tangible net worth ratio. As of October 31, 2010, the Company was in compliance with all of these financial covenants.

Floorplan Lines of Credit

As of October 31, 2010, the Company had discretionary floorplan lines of credit for equipment purchases totaling approximately $475.0 million with various lending institutions, including a $300.0 million Wholesale Floorplan Credit Facility with CNH Capital and $75.0 million credit facility with GE Commercial Distribution Finance Corporation (“GE”). The available borrowings under the CNH Capital credit facility are reduced by outstanding floorplan notes payable, rental fleet financing and other acquisition-related financing arrangements with CNH Capital. During fiscal 2010, interest rates for new borrowings under the CNH Capital floorplan line of credit ranged from the prime rate plus 0.3% to the prime rate plus 6% per annum, subject to any interest-free periods offered by CNH Capital. Beginning in February 2010, interest rates are equal to the prime rate plus 4% on new borrowings, subject to any interest-free periods offered by CNH Capital. The CNH Capital credit facility automatically renews on August 31 of each year through August 31, 2012, unless earlier terminated by either party. Under covenants of the CNH Capital credit facility, the Company has agreed, among other things, to maintain various financial ratio levels and to submit certain financial information. It also contains various restrictive covenants that require prior consent of CNH Capital if the Company desires to engage in any acquisition of, consolidation or merger with any other business entity in which the Company is not the surviving company; create subsidiaries; move any collateral outside of the U.S.; or sell, rent, lease or otherwise dispose or transfer any of the collateral, other than in the ordinary course of business. CNH Capital’s consent is also required for the acquisition of any CNH dealership. In addition, the CNH Capital credit facility restricts the Company’s ability to incur any liens upon any substantial part of its assets.

The GE credit facility was terminated in November 2010 and was replaced with the aforementioned Floorplan Line. The GE credit facility had been used to purchase new and used inventory from vendors approved by GE, or to finance or refinance new or used inventory. The interest rate on borrowings under the GE floorplan line of credit was equal to the three-month LIBOR rate plus 4.95%. The GE credit facility allowed for termination by either party on 60 days notice. Under covenants of the GE credit facility, the Company had agreed, among other things, to maintain various financial ratio levels and to submit certain financial information. It also contained various restrictive covenants regarding related party transactions outside of the ordinary course of business and required GE’s prior consent if the Company desired to engage in any acquisition meeting certain financial thresholds; made any investments outside of the ordinary course of business; or had a change in control, as defined by the agreement.

Floorplan notes payable relating to these credit facilities totaled approximately $305.4 million of the total floorplan notes payable balance of $322.3 million outstanding as of October 31, 2010 and $245.3 million of the total floorplan notes payable balance of $249.9 million outstanding as of January 31, 2010. As of October 31, 2010, the Company had approximately $155.2 million in available borrowings remaining under these lines of credit. These floorplan notes carried various interest rates primarily ranging from 3.25 to 7.25% as of October 31, 2010, subject to interest-free periods offered by CNH Capital, and are secured by the related inventory. Repayment terms vary by individual notes, but generally payments are made from sales proceeds or rental revenue from the related inventories. As of October 31, 2010, the Company was in compliance with all floorplan financial covenants. Due to changes in November 2010 resulting from entering into the new Credit Agreement, the Company had discretionary floorplan lines of credit for equipment purchases totaling approximately $550.0 million with various lending institutions, including a $300.0 million line with CNH Capital and $175.0 million Floorplan Line with the Wells Fargo Bank Syndicate.

NOTE 4 -       BUSINESS COMBINATIONS

On June 1, 2010, the Company acquired certain assets of Hubbard Implement, Inc. The acquired entity consisted of one agricultural equipment store located in Iowa Falls, Iowa which is contiguous to the Company’s existing locations in Grundy Center and Waverly, Iowa. The acquisition-date fair value of the total consideration transferred for the dealership was $1,496,000.

During the nine months ended October 31, 2010 adjustments were recorded for additional consideration of $1,384,000 earned and paid under agreements disclosed in the Company’s Form 10-K for the fiscal year ended January 31, 2010 as filed with the SEC. This additional consideration resulted in a net increase in goodwill of $1,384,000.

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The results of operations have been included in the Company’s consolidated results of operations since the date of the business combination. The fair value of assets acquired and liabilities assumed in the above business combinations and adjustments on prior acquisitions are presented in the following table:

Goodwill of $1,485,000 recorded in the acquisition transactions during the nine months ended October 31, 2010 is expected to be deductible for tax purposes.

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NOTE 5 -       SEGMENT INFORMATION AND OPERATING RESULTS

Certain financial information for each of the Company’s business segments is set forth below. Revenues, income before income tax and total assets at the segment level are reported before eliminations. The Company retains various unallocated income/(expense) items and assets at the general corporate level, which the Company refers to as “Shared Resources” in the table below. Shared Resource assets primarily consist of cash and property and equipment. Intersegment revenues are immaterial.

NOTE 6 -       SUBSEQUENT EVENTS

On December 6, 2010, the Company entered into a Purchase Agreement to acquire certain assets of Fairbanks International, Inc. (“Fairbanks”), Fairbanks’s wholly-owned subsidiary, Fairbanks Leasing, Inc., and an affiliated entity of Fairbanks, GuideNet Systems, LLC. The acquisition consists of six agricultural equipment stores in Grand Island, Kearney, Lexington, Holdrege, Hastings, and North Platte, Nebraska and expands the Company’s agricultural presence in the Midwest. We expect the closing date to be on or around December 31, 2010.

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Results of Operations

Comparative financial data for each of our four sources of revenue are expressed below. The results for these periods include the operating results of the acquisitions made during these periods. The period-to-period comparisons included below are not necessarily indicative of future results. Segment information is provided later in this discussion and analysis of our results of operations.

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The following table sets forth our statements of operations data expressed as a percentage for each of our four sources of revenue for the periods indicated:

Three Months Ended October 31, 2010 Compared to Three Months Ended October 31, 2009

Consolidated Results

Revenue

The increase in revenue for the three months ended October 31, 2010, as compared to the same period last year, was due to acquisitions contributing $16.7 million and same-store sales growth contributing $67.6 million, representing a same-store sales growth of 29.8% over the prior year quarter. The revenue growth from acquisitions occurred in our Agriculture segment while both of our Agriculture and Construction segments contributed to the same-store sales growth.

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Cost of Revenue

The increase in cost of revenue for the three months ended October 31, 2010, as compared to the same period last year, was due to increased sales primarily in our equipment business. Acquisitions contributed $14.4 million of the increase in total cost of revenue, while same-store sales growth contributed $61.5 million of the increase. As a percentage of revenue, cost of revenue was 84.6% compared to 82.6% for the third quarter of fiscal 2010.

Gross Profit

The $8.4 million increase in gross profit for the three months ended October 31, 2010, as compared to the same period last year, was primarily due to increased revenue. Acquisitions contributed $2.4 million to the increase in gross profit for the three months ended October 31, 2010, while same-store gross profits increased $6.0 million. Offsetting the positive effect to gross profits of higher revenue were lower margins primarily in the equipment (down 1.9% to 8.3%) and parts (down 2.1% to 30.3%) areas of our business. The equipment margin compression is due to market pricing pressure and the timing of a manufacturer incentive program which was recognized in the third quarter of fiscal 2010 but not recognized in the third quarter of fiscal 2011. We anticipate the equipment margin compression to moderate in the last quarter of the year as a result of increased equipment demand and tightening in the supply of the equipment to be sold, and timing of annual manufacturer performance incentive programs. The decrease in parts margins was primarily due to a parts incentive program recognized in the third quarter of last year that did not recur in the third quarter of fiscal 2011. Although our parts margins were down we experienced a revenue increase of 27.5% in our parts area resulting in a positive gross profit contribution from parts of $2.1 million over the prior year quarter.

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Total gross profit margins were down 2.0% to 15.4% in the third quarter of fiscal 2011, compared to 17.4% in the third quarter of fiscal 2010. The decrease in total gross profit margins was primarily due to the lower equipment and parts margins discussed above.

Operating Expenses

The $5.1 million increase in operating expenses, as compared to the same period last year, was primarily due to the additional costs associated with acquisitions such as compensation, rent and depreciation. As a percentage of total revenue, operating expenses decreased to 10.5% for the third quarter of fiscal 2011 compared to 12.2% for the third quarter of fiscal 2010 due to improved fixed operating cost leverage resulting from higher revenues.

Other Income (Expense)

Floorplan interest expense increased $0.3 million for the three months ended October 31, 2010, as compared to the same period in the prior year. Increases in floorplan notes payable balances, offset by reductions in interest rates, accounted for this increase, as compared to the prior year quarter. We anticipate our floorplan interest expense to decrease in the fourth quarter of fiscal 2011 as a result of lower rates associated with the new Credit Agreement entered into on October 31, 2010.

Provision for Income Taxes

Our effective tax rate decreased to 39.8% for the three months ended October 31, 2010, as compared to 41.0% for the three months ended October 31, 2009. The decrease in effective tax rate compared to the prior year quarter primarily reflects permanent differences between financial and income tax reporting, such as stock-based compensation.

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Segment Results

Certain financial information for our Agriculture and Construction business segments is set forth below. Revenues and income (loss) before income taxes at the segment level are reported before eliminations. “Shared Resources” in the table below refers to the various unallocated income/(expense) items that we have retained at the general corporate level. Intersegment revenues are immaterial.