10-Q 1 d00583e10vq.txt FORM 10-Q FOR PERIOD ENDING SEPTEMBER 27, 2002 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 27, 2002 Commission file number 0-26188 PALM HARBOR HOMES, INC. (Exact name of registrant as specified in its charter) Florida 59-1036634 (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 15303 Dallas Parkway, Suite 800, Addison, Texas 75001-4600 (Address of principal executive offices) (Zip code) 972-991-2422 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) Yes X No and (2) has been subject to such --- --- filing requirements for the past 90 days. Yes X No . --- --- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Shares of common stock $.01 par value, outstanding on October 23, 2002 - 22,932,408. PALM HARBOR HOMES, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)

SEPTEMBER 27, MARCH 29, 2002 2002 ------------- ------------ (Unaudited) ASSETS Cash and cash equivalents $ 43,481 $ 69,197 Investments 26,950 30,051 Receivables 79,835 80,111 Inventories 120,414 122,048 Other current assets 10,777 9,046 ------------ ------------ Total current assets 281,457 310,453 Other assets 23,468 19,106 Goodwill 77,993 53,109 Property, plant and equipment, net 97,932 92,500 ------------ ------------ TOTAL ASSETS $ 480,850 $ 475,168 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Accounts payable $ 30,012 $ 28,649 Floor plan payable 127,830 134,977 Accrued liabilities 60,341 50,246 Current portion of long-term debt 183 176 ------------ ------------ Total current liabilities 218,366 214,048 Long-term debt, less current portion 2,473 2,566 Deferred income taxes 1,779 1,897 Shareholders' equity: Common stock, $.01 par value 239 239 Additional paid-in capital 54,149 54,149 Retained earnings 220,664 220,359 Accumulated other comprehensive income 1,725 1,939 ------------ ------------ 276,777 276,686 Less treasury shares (14,406) (14,169) Unearned compensation (4,139) (5,860) ------------ ------------ Total shareholders' equity 258,232 256,657 ------------ ------------ TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 480,850 $ 475,168 ============ ============

See accompanying notes. 1 PALM HARBOR HOMES, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (in thousands, except per share data) (Unaudited)

THREE MONTHS ENDED SIX MONTHS ENDED SEPTEMBER 27, SEPTEMBER 28, SEPTEMBER 27, SEPTEMBER 28, 2002 2001 2002 2001 ------------- ------------- ------------- ------------- Net sales $ 149,612 $ 173,378 $ 288,071 $ 345,938 Cost of sales 105,285 117,818 204,205 238,439 Selling, general and administrative expenses 41,058 43,943 81,532 84,872 ------------ ------------ ------------ ------------ Income from operations 3,269 11,617 2,334 22,627 Interest expense (1,758) (2,101) (3,469) (4,722) Interest income and other 1,057 1,033 1,621 2,211 ------------ ------------ ------------ ------------ Income before income taxes 2,568 10,549 486 20,116 Income tax expense 956 3,873 181 7,663 ------------ ------------ ------------ ------------ Net income $ 1,612 $ 6,676 $ 305 $ 12,453 ============ ============ ============ ============ Net income per common share - basic and diluted $ 0.07 $ 0.29 $ 0.01 $ 0.55 ============ ============ ============ ============ Weighted average common shares outstanding - basic and diluted 22,939 22,828 22,946 22,831 ============ ============ ============ ============

See accompanying notes. 2 PALM HARBOR HOMES, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (Unaudited)

SIX MONTHS ENDED SEPTEMBER 27, SEPTEMBER 28, 2002 2001 ------------- ------------- OPERATING ACTIVITIES Net income $ 305 $ 12,453 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 6,867 5,896 Deferred income taxes (1,012) 682 Loss on disposition of assets 338 -- Provision for long-term incentive plan 1,484 1,278 Equity earnings in subsidiary (924) -- Changes in operating assets and liabilities: Accounts receivable (25) (17,527) Inventories 7,553 13,722 Other current assets (622) (575) Other assets (1,631) (1,851) Accounts payable and accrued liabilities 3,279 7,912 ------------ ------------ Cash provided by operations 15,612 21,990 Loans originated (40,511) (72,108) Sale of loans 41,262 72,021 ------------ ------------ Net cash provided by operating activities 16,363 21,903 INVESTING ACTIVITIES Business acquired, net of cash acquired (31,480) -- Investment in limited partnership (3,000) -- Purchases of property, plant and equipment, net of proceeds from disposition (4,391) (7,104) Purchases of investments (2,172) (7,888) Sales of investments 6,197 6,485 ------------ ------------ Net cash used in investing activities (34,846) (8,507) FINANCING ACTIVITIES Net payments on floor plan payable (7,147) (11,771) Principal payments on long-term debt (86) (83) Net purchases of treasury stock -- (6) ------------ ------------ Net cash used in financing activities (7,233) (11,860) Net (decrease) increase in cash and cash equivalents (25,716) 1,536 Cash and cash equivalents at beginning of period 69,197 61,290 ------------ ------------ Cash and cash equivalents at end of period $ 43,481 $ 62,826 ============ ============ Supplemental disclosures of cash flow information: Cash paid during the period for: Interest $ 3,260 $ 5,123 Income taxes 298 4,510

See accompanying notes. 3 PALM HARBOR HOMES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. Basis of Presentation The condensed consolidated financial statements reflect all adjustments, which include only normal recurring adjustments, which are, in the opinion of management, necessary for a fair and accurate presentation. Certain footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been omitted. The condensed consolidated financial statements should be read in conjunction with the audited financial statements for the year ended March 29, 2002. Results of operations for any interim period are not necessarily indicative of results to be expected for a full year. 2. Acquisitions/Investments On June 7, 2002, the Company acquired Nationwide Custom Homes ("Nationwide"), a manufacturer and marketer of modular homes, for $32.5 million in cash. The acquisition was accounted for using the purchase method of accounting. The tentative purchase price allocation as of September 27, 2002 resulted in goodwill related to the acquisition of approximately $26 million. In June 2002, the Company invested $3.0 million to become the sole limited partner and 50% owner of an existing mortgage banking firm, BSM Financial L. P. ("BSM") which is being accounted for using the equity method of accounting. At September 27, 2002, the Company's equity interest in the net income of BSM is stated at $0.9 million. The following table represents the condensed income statements for the three and four month (from date of acquisition) periods ending September 27, 2002 (in thousands):

THREE MONTHS ENDED FOUR MONTHS ENDED ------------------ ----------------- SEPTEMBER 27, SEPTEMBER 27, 2002 2002 ------------------ ----------------- Revenues $ 10,802 $ 13,593 Operating income 1,661 1,848 Net income 1,656 1,842

3. Inventories Inventories consist of the following (in thousands):

SEPTEMBER 27, MARCH 29, 2002 2002 ------------ ------------ Raw materials $ 8,893 $ 7,631 Work in process 4,787 3,339 Finished goods - manufacturing 2,598 659 Finished goods - retail 104,136 110,419 ------------ ------------ $ 120,414 $ 122,048 ============ ============

4 4. Floor Plan Payable The Company currently has three floor plan credit facilities with financial institutions totaling $140.0 million to finance a major portion of the Company's home inventory at its retail superstores. These facilities are secured by a portion of the Company's home inventory and receivables from financial institutions. The interest rates on the facilities range from prime (4.75% at September 27, 2002) to prime plus 2.0%. These facilities require notification from the financial institution six months prior to cancellation. The Company's three floor plan facilities contain certain provisions regarding minimum financial requirements which the Company must maintain in order to borrow against the facilities. As of September 27, 2002, the Company was in compliance with two of the floor plan facility agreements, as amended, and had obtained a waiver to be in compliance with the third agreement. The Company is currently in the process of amending two of the three agreements in order to continue to comply with the terms of the floor plan arrangements. While the Company believes it will be successful in obtaining the satisfactory amendments to two of the three floor plan facilities, there can be no assurances that the Company will be successful in this regard. The Deutsche agreement is not being amended as the agreement is being terminated effective March 15, 2003. Two of the Company's floor plan financing agreements permit the Company to earn interest on investments made with the financial institutions, which can be withdrawn without any imposed restrictions. These investments have certain limitations depending upon the amount of floor plan balance outstanding. The interest rate earned on the amounts invested is prime (4.75% at September 27, 2002) minus 0.5%. The Company had $12.9 million and $14.3 million invested at September 27, 2002 and March 29, 2002, respectively, and has classified these amounts as Cash and cash equivalents in the accompanying Condensed Consolidated Balance Sheets. 5. Lines of Credit The Company had two revolving lines of credit - one $20.0 million committed and one $15.0 million uncommitted - from a financial institution for general corporate purposes. The lines of credit expired June 26, 2002 and the Company has not replaced them. 6. Commitments and Contingencies The Company is contingently liable under the terms of repurchase agreements covering independent retailers' floor plan financing. Under such agreements, the Company agrees to repurchase homes at declining prices over the term of the agreement, generally 12 to 18 months. At September 27, 2002, the Company estimates that its potential obligations under all repurchase agreements were approximately $12.4 million. It is management's opinion that no material loss will occur from the repurchase agreements. 5 In March 2002, the largest floor plan lender in the industry, Conseco Finance Servicing Corp. ("Conseco"), announced that they were exiting the wholesale financing, or floor plan lending, business. The Company' s floor plan agreement with Conseco expired on June 30, 2002 and the amount outstanding will be reduced to zero as the homes are sold. On May 16, 2002, Conseco indicated its commitment to continue to provide retail financing; however, they also began notifying manufacturers and independent retailers that amounts due under floor plan financing agreements were to be paid in full on or prior to July 17, 2002. Conseco also indicated in the notification that certain options would be made available to the retailers. The Company has contacted its independent retailers where it has repurchase obligations regarding the impact of this cancellation on their floor plan financing needs. These retailers have made other arrangements for their financing needs. On October 1, 2002, Conseco announced that they were exiting the chattel lending business as of October 7, 2002 and would focus on land/home loans. Conseco also indicated that they would continue to finance repossessed homes and provide some chattel financing for those dealers that have extinguished or have a workout plan to extinguish their floor plan. As of October 3, 2002, the Company had floor plan borrowings of $6.2 million with Conseco and receivables due from Conseco of approximately $8.0 million. The Company believes amounts due from Conseco will be collected in the normal course of business and the Company will not incur significant losses as the result of doing business with Conseco. In September 2002, Deutsche announced that they were exiting the wholesale financing business as well. The Company has a $105 million facility with Deutsche and has until March 15, 2003 to pay all outstanding amounts to Deutsche or replace the facility. The Company is currently reviewing proposals from financial institutions to provide replacement financing and expects to replace the Deutsche facility by the end of the third quarter. With the exiting of several major industry lenders over recent months, the Company is taking advantage of the opportunity to implement its long-term plan to expand CountryPlace from being just an originator of loans into a securitizer and servicer of loans as well. CountryPlace has received a commitment from a financial institution for a $125 million warehouse facility to fund chattel loans originated by company-owned retail superstores. With respect to certain installment contracts sold prior to April 1, 1999, the Company is contingently liable, as guarantor, for up to 50% of any losses. At September 27, 2002, the outstanding principal balance of these contracts sold with partial recourse was $31.3 million. With respect to the installment contracts sold after April 1, 1999, the Company's contingent liability is limited to a loss of up to $5,000 per contract. At September 27, 2002, the number of these outstanding contracts sold with partial recourse was 2,814. Management has consistently provided for its estimated recourse obligation exposure and has recorded a reserve of $2.4 million at September 27, 2002. The Company is subject to various legal proceedings and claims that arise in the ordinary course of business. In the opinion of management, the amount of ultimate liability with respect to these actions will not materially affect the financial position or results of operations of the Company. 6 7. Business Segment Information The Company operates primarily in two business segments - a "housing" segment which combines the retail and factory-built manufacturing operations and a "financial services" segment which combines the finance and insurance operations. The following table summarizes information with respect to the Company's business segments for the three and six month periods ending September 27, 2002 and September 28, 2001 (in thousands):

THREE MONTHS ENDED SIX MONTHS ENDED SEPTEMBER 27, SEPTEMBER 28, SEPTEMBER 27, SEPTEMBER 28, 2002 2001 2002 2001 ------------- ------------- ------------- ------------- Net sales Housing $ 144,817 $ 167,647 $ 278,476 $ 334,277 Financial services 4,795 5,731 9,595 11,661 ------------- ------------- ------------- ------------- $ 149,612 $ 173,378 $ 288,071 $ 345,938 ============= ============= ============= ============= Income from operations Housing $ 3,743 $ 14,662 $ 4,493 $ 27,082 Financial services 2,680 2,546 4,569 5,381 General corporate expenses (3,154) (5,591) (6,728) (9,836) ------------- ------------- ------------- ------------- $ 3,269 $ 11,617 $ 2,334 $ 22,627 ============= ============= ============= ============= Interest expense $ (1,758) $ (2,101) $ (3,469) $ (4,722) Interest income and other 1,057 1,033 1,621 2,211 ------------- ------------- ------------- ------------- Income before income taxes $ 2,568 $ 10,549 $ 486 $ 20,116 ============= ============= ============= =============

7 PART I. Financial Information Item 1. Financial Statements See pages 1 through 5. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Fiscal 2003 continues to be impacted by retail and wholesale financing availability, repossessions and retail inventory levels. The tightening of credit standards, which began in mid-1999, has resulted in reduced retail sales levels, declining wholesale shipments and declining margins for most industry participants. In March 2002, the largest floor plan lender in the industry, Conseco Finance Servicing Corp. ("Conseco"), announced that they were exiting the wholesale financing, or floor plan lending, business. The Company's floor plan agreement with Conseco expired on June 30, 2002 and the amount outstanding will be reduced to zero as the homes are sold. On May 16, 2002, Conseco indicated its commitment to continue to provide retail financing; however, they also began notifying manufacturers and independent retailers that amounts due under floor plan financing agreements were to be paid in full on or prior to July 17, 2002. Conseco also indicated in the notification that certain options would be made available to the retailers. The Company has contacted its independent retailers where it has repurchase obligations regarding the impact of this cancellation on their floor plan financing needs. These retailers have made other arrangements for their financing needs. On October 1, 2002, Conseco announced that they were exiting the chattel lending business as of October 7, 2002 and would focus on land/home loans. Conseco also indicated that they would continue to finance repossessed homes and provide some chattel financing for those dealers that have extinguished or have a workout plan to extinguish their floor plan. As of October 3, 2002, the Company had floor plan borrowings of $6.2 million with Conseco and receivables due from Conseco of approximately $8.0 million. The Company believes amounts due from Conseco will be collected in the normal course of business and the Company will not incur significant losses as the result of doing business with Conseco. In September 2002, the Company received notification that Deutsche Financial Services Corporation ("Deutsche") is exiting the floor plan lending business and will be terminating their credit facility agreement effective March 15, 2003, six months from the date of notification. The Company has a $105 million facility with Deutsche and has until March 15, 2003 to pay all outstanding amounts to Deutsche or replace the facility. The Company is currently reviewing proposals from financial institutions to provide replacement financing and expects to replace the Deutsche facility by the end of the third quarter. With the exiting of several major industry lenders in recent months, the Company is taking advantage of the opportunity to implement its long-term plan to expand CountryPlace from being just an originator of loans into a securitizer and servicer of loans as well. During the quarter, CountryPlace has secured the management and the investment banking partner to lead the expansion. Providing reasonable financing alternatives should enable the Company to reach credit-worthy buyers who have a demand for the Company's products. 8 Texas House Bill 1869, which was enacted in January 2002, requires all manufactured houses in Texas which are not placed in manufactured home rental communities to be financed with conforming mortgages. Conforming mortgages are currently subject to higher credit standards and are more complex than chattel loans and therefore this new regulation may cause certain consumers who would have otherwise qualified for financing under a chattel loan to not qualify under a conforming loan. During the first quarter of fiscal 2002, the Company entered into an agreement to become the sole limited partner and 50% owner in BSM Financial L.P. ("BSM"), a major Dallas mortgage banking firm that has experience and capability in generating conforming loans in the site built, modular and manufactured housing markets. In addition, the Company purchased Nationwide Custom Homes ("Nationwide"), a leading manufacturer and marketer of modular homes. This acquisition should enable the Company to appeal to creditworthy buyers who are not attracted to the manufactured housing business as they prefer purchasing from a builder versus a manufactured housing retailer. The Company ended the second quarter with cash and cash equivalents of $43.5 million, after investing $35.5 million at the end of the previous quarter on Nationwide and BSM, and virtually no long-term debt. The Company's practice of manufacturing only to retail customer order coupled with closely monitored retail receivables and stocking levels has enabled the Company to tightly manage retail receivables and inventory levels. New home inventory per retail superstore declined 8% since the beginning of the fiscal year. The following table sets forth certain items of the Company's statements of income as a percentage of net sales for the period indicated.

THREE MONTHS ENDED SIX MONTHS ENDED SEPTEMBER 27, SEPTEMBER 28, SEPTEMBER 27, SEPTEMBER 28, 2002 2001 2002 2001 ------------- ------------- ------------- ------------- Net sales 100.0% 100.0% 100.0% 100.0% Cost of sales 70.4 68.0 70.9 68.9 ------------- ------------- ------------- ------------- Gross profit 29.6 32.0 29.1 31.1 Selling, general and administrative expenses 27.4 25.3 28.3 24.5 ------------- ------------- ------------- ------------- Income from operations 2.2 6.7 0.8 6.6 Interest expense (1.2) (1.2) (1.2) (1.4) Interest income and other 0.7 0.6 0.6 0.6 ------------- ------------- ------------- ------------- Income before income taxes 1.7 6.1 0.2 5.8 Income tax expense 0.6 2.2 0.1 2.2 ------------- ------------- ------------- ------------- Net income 1.1% 3.9% 0.1% 3.6% ============= ============= ============= =============

9 The following table summarizes certain key sales statistics as of and for the three and six months ended September 27, 2002 and September 28, 2001.

THREE MONTHS ENDED SIX MONTHS ENDED SEPTEMBER 27, SEPTEMBER 28, SEPTEMBER 27, SEPTEMBER 28, 2002 2001 2002 2001 ------------- ------------- ------------- ------------- Company homes sold through Company-owned retail superstores 1,738 2,361 3,413 4,719 Total new manufactured homes sold 2,296 2,831 4,369 5,592 Internalization rate(1) 83% 83% 83% 84% Average new home price - retail $ 62,000 $ 60,000 $ 63,000 $ 60,000 Number of retail superstores at 152 146 152 146 end of period Homes sold to independent retailers 347 458 690 855

(1) The internalization rate is the percentage of new factory-built homes that are manufactured by the Company and sold through Company-owned retail superstores. THREE MONTHS ENDED SEPTEMBER 27, 2002 COMPARED TO THREE MONTHS ENDED SEPTEMBER 28, 2001 NET SALES. Net sales decreased 13.7% to $149.6 million in the second quarter of fiscal 2003 from $173.4 million in the second quarter of fiscal 2002. The decrease in net sales was primarily due to the reduction of retail financing in the manufactured housing industry. The volume of homes sold through Company-owned retail superstores declined 26.6% while overall unit volume, which includes sales to independent retailers, declined 26.2% in the current quarter. This decline in volume is partially offset by an increase in the average selling price of a new home to $62,000 in the second quarter of fiscal 2003 versus $60,000 in the second quarter of fiscal 2002. The increase in average selling price resulted from a slight shift in product mix towards multi-section homes. Multi-section homes represented 90% of the Company's homes sold in the second quarter of fiscal 2003. The number of superstores increased from 146 at the end of the second quarter of fiscal 2002 to 152 at the end of the second quarter of fiscal 2003. GROSS PROFIT. In the quarter ended September 27, 2002, gross profit as a percentage of net sales declined to 29.6% from 32.0 % in the quarter ended September 28, 2001. Gross profit decreased 20.2% to $44.3 million in the second quarter of fiscal 2003 from $55.6 million in the second quarter of fiscal 2002. This decrease, both as a percentage of sales and in absolute dollars, is caused by the reduction of retail financing in the manufactured housing industry. The percentage of homes sold through Company-owned retail superstores remained constant at 83%. 10 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. As a percentage of net sales, selling, general and administrative expenses increased to 27.4 % in the second quarter of fiscal 2003 from 25.3% in the second quarter of fiscal 2002. Selling, general and administrative expenses decreased slightly from $43.9 million in the quarter ended September 28, 2001 to $41.1 million in the quarter ended September 27, 2002. The Company continues to incur expenses in conjunction with building brand awareness via advertising, startup of the Company's mortgage lending operations and training costs associated with people development to continue the Company's planned growth. INTEREST EXPENSE. Interest expense decreased 16.3% to $1.8 million for the second quarter of fiscal 2003 from $2.1 million in the second quarter of fiscal 2002. This decrease was primarily due to a decrease in the prime interest rate from 6.0% in the second quarter of fiscal 2002 to 4.75% in the second quarter of fiscal 2003 coupled with a decrease in the floor plan liability. INTEREST INCOME AND OTHER. Interest income and other includes the Company's equity interest in the earnings of its limited partnership, BSM, which was $0.8 million in the quarter ended September 27, 2002 and zero in the quarter ended September 28, 2001. See Note 2 in the Notes to Condensed Consolidated Financial Statements. SIX MONTHS ENDED SEPTEMBER 27, 2002 COMPARED TO SIX MONTHS ENDED SEPTEMBER 28, 2001 NET SALES. Net sales decreased 16.7% to $288.1 million in the first six months of fiscal 2003 from $345.9 million in the first six months of fiscal 2002. The decrease in net sales was primarily due to the reduction of retail financing in the manufactured housing industry. The volume of homes sold through Company-owned retail superstores declined 27.8% while overall unit volume, which includes sales to independent retailers, declined 26.5% in the six months ended September 27, 2002. This decline in volume is partially offset by an increase in the average selling price of a new home to $63,000 in the first six months of fiscal 2003 versus $60,000 in the first six months of fiscal 2002. The increase in average selling price resulted from a slight shift in product mix towards multi-section homes. Multi-section homes represented 90% of the Company's homes sold in the first six months of fiscal 2003. The number of superstores increased from 146 at September 28, 2001 to 152 at September 27, 2002. GROSS PROFIT. For the six months ended September 27, 2002, gross profit as a percentage of net sales declined to 29.1% from 31.1% in the six months ended September 28, 2001. Gross profit decreased 22.0% to $83.9 million in the first six months of fiscal 2003 from $107.5 million in the first six months of fiscal 2002. This decrease is the result of a decline in unit volume caused by the reduction of retail financing in the manufactured housing industry. The percentage of homes sold through Company-owned retail superstores decreased from 84% in the first six months of fiscal 2002 to 83% in the first six months of fiscal 2003. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. As a percentage of net sales, selling, general and administrative expenses increased to 28.3% in the first six months of fiscal 2003 from 24.5% in the first six months of fiscal 2002. Selling, general and administrative expenses decreased slightly from $84.9 million in the six months ended September 28, 2001 to $81.5 million in the six months ended September 27, 2002. The Company continues to incur expenses in conjunction with building brand awareness via advertising, startup of the Company's mortgage lending operations and training costs associated with people development to continue the Company's planned growth. 11 INTEREST EXPENSE. Interest expense decreased 26.5% to $3.5 million for the six months ended September 27, 2002 from $4.7 million for the six months ended September 28, 2001. This decrease was primarily due to a decrease in the prime interest rate from a range of 6.0% to 6.75% in the first six months of fiscal 2002 to 4.75% in the first six months of fiscal 2003 coupled with a decrease in the floor plan liability. INTEREST INCOME AND OTHER. Interest income and other includes the Company's equity interest in the earnings of its limited partnership, BSM, which was $0.9 million in the six months ended September 27, 2002 and zero in the six months ended September 28, 2001. See Note 2 in the Notes to Condensed Consolidated Financial Statements. LIQUIDITY AND CAPITAL RESOURCES. The Company currently has three floor plan credit facilities with financial institutions totaling $140.0 million to finance a major portion of the Company's home inventory at its retail superstores. These facilities are secured by a portion of the Company's home inventory and receivables from financial institutions. The interest rates on the facilities range from prime (4.75% at September 27, 2002) to prime plus 2.0%. These facilities require notification from the financial institution six months prior to cancellation. In September 2002, the Company received notification that Deutsche Financial Services Corporation is exiting the floor plan lending business and will be terminating their credit facility agreement effective March 15, 2003, six months from the date of notification. The Company has a $105 million facility with Deutsche and has until March 15, 2003 to pay all outstanding amounts to Deutsche or replace the facility. The Company is currently reviewing proposals from financial institutions to obtain replacement financing and expects to replace the Deutsche facility by the end of the third quarter. The Company's three floor plan facilities contain certain provisions regarding minimum financial requirements which the Company must maintain in order to borrow against the facilities. As of September 27, 2002, the Company was in compliance with two of the floor plan facility agreements, as amended, and had obtained a waiver to be in compliance with the third agreement. The Company is currently in the process of amending two of the three agreements in order to continue to comply with the terms of the floor plan arrangements. While management believes it will be successful in obtaining the satisfactory amendments to two of the floor plan facilities, there can be no assurances that the Company will be successful in this regard. The Deutsche agreement is not being amended as the agreement is being terminated effective March 15, 2003. Two of the Company's floor plan financing agreements permit the Company to earn interest on investments made with the financial institutions, which can be withdrawn without any imposed restrictions. These investments have certain limitations depending upon the amount of floor plan balance outstanding. The interest rate earned on the amounts invested is prime (4.75% at September 27, 2002) minus 0.5%. The Company had $12.9 million and $14.3 million invested at September 27, 2002 and March 29, 2002, respectively, and has classified these amounts as Cash and cash equivalents in the accompanying Condensed Consolidated Balance Sheets. With the exiting of several major industry lenders over recent months, the Company is taking advantage of the opportunity to implement its long-term plan to expand CountryPlace from being just an originator of loans into a securitizer and servicer of loans as well. CountryPlace has received a commitment from a financial institution for a $125 million warehouse facility to fund chattel loans originated by company-owned retail superstores. 12 The Company had two revolving lines of credit - one $20.0 million committed and one $15.0 million uncommitted - from a financial institution for general corporate purposes. The lines of credit expired June 26, 2002 and the Company has not replaced them. In July 1999, the Company's Board of Directors authorized, subject to certain business and market conditions, the use of up to $20.0 million to repurchase the Company's common stock. In July 2000, the Board of Directors authorized another $20.0 million for common stock repurchases. As of October 25, 2002, the Company had invested $20.5 million in the common stock buyback program. Management believes that cash flow from operations, together with floor plan financing and other potential borrowings associated with the warehouse facility, will be adequate to support the Company's working capital, currently planned capital expenditure needs and expansion of CountryPlace to a securitizer and servicer of loans in the next twelve months. The Company may, from time to time, obtain additional floor plan financing for its retail inventories. Such practice is customary in the industry. However, because future cash flows and the availability of financing will depend on a number of factors, including prevailing economic and financial conditions, business and other factors beyond management's control, no assurances can be given in this regard. FORWARD-LOOKING INFORMATION/RISK FACTORS Certain statements contained in this annual report are forward-looking statements within the safe harbor provisions of the Securities Litigation Reform Act. Forward-looking statements give our current expectations or forecasts of future events and can be identified by the fact that they do not relate strictly to historical or current facts. Investors should be aware that all forward-looking statements are subject to risks and uncertainties and, as a result of certain factors, actual results could differ materially from these expressed in or implied by such statements. These risks include such assumptions, risks, uncertainties and factors associated with the following: o AVAILABILITY OF RETAIL FINANCING. Since mid-1999, loans to purchase manufactured houses have been subjected to elevated credit standards, resulting in reduced lending volumes and consequently reduced sales in the manufactured housing industry. A further tightening of credit standards may cause the Company to experience significant sales declines. o AVAILABILITY OF WHOLESALE FINANCING. Two of the Company's floor plan lenders have chosen to exit the manufactured housing business, thereby reducing the amount of credit available to industry retailers. Further reductions in the availability of floor plan lending may affect the Company's inventory levels of new homes. o MANAGEMENT'S ABILITY TO ATTRACT AND RETAIN EXECUTIVE OFFICERS AND OTHER KEY PERSONNEL. The Company is dependent on the services and performance of its executive officers, including its Chairman of the Board, Lee Posey and its President and Chief Executive Officer, Larry Keener. The loss of the services of one or more of its executive officers could have a material adverse effect upon the Company's business, financial condition and results of operations. 13 o CONTROL BY EXISTING SHAREHOLDERS. Approximately 55% of the outstanding Common Stock of the Company is beneficially owned or controlled by Mr. Posey, Capital Southwest Corporation and its wholly-owned subsidiary, Capital Southwest Venture Corporation, and William R. Thomas, President of Capital Southwest Corporation. As a result, these shareholders, acting together, will be able to determine the outcome of elections of the Company's directors and thereby control the management of the Company's business. o IMPACT OF INFLATION. The past several years have shown a relatively moderate rate of inflation which the Company has been able to offset through increased selling prices. A material increase in inflation in the future could adversely affect the Company's operating results. o COMPETITIVE PRODUCT ADVERTISING, PROMOTIONAL AND PRICING ACTIVITY. There are numerous manufactured housing companies in the industry and many have their own retail distribution systems and consumer finance operations. In addition to competition within the manufactured housing industry, the Company's products also compete with other forms of lower to moderate-cost housing, including site-built homes, apartments, townhouses and condominiums. If the Company is unable to address this competition, growth in each segment of its business could be limited. o CYCLICALITY OF THE MANUFACTURED HOUSING INDUSTRY. The cyclical and seasonal nature of the industry causes the Company's revenues and operating results to fluctuate and makes it hard for management to forecast sales and profits in uncertain times. As a result of seasonal and cyclical downturns, the Company may experience fluctuations in its operating results that make difficult period-to-period comparisons. o VOLATILITY IN THE COMPANY'S STOCK PRICE. The Company's stock is traded on the Nasdaq National Stock Market and is therefore subject to market fluctuations. o TERRORIST ATTACKS. Market disruptions and other effects resulting from the terrorist attacks on September 11, 2001 and actions, including armed conflict by the United States and other governments in reaction thereto. Item 3. Quantitative and Qualitative Disclosure About Market Risk The Company is exposed to market risks related to fluctuations in interest rates on its variable rate debt, which consists primarily of its liabilities under retail floor plan financing arrangements. The Company is not involved in any other market risk sensitive contracts or investments such as interest rate swaps, futures contracts, or other types of derivative financial instruments. There have been no material changes from the information provided in the Company's Form 10-K for the year ended March 29, 2002. 14 Item 4. Controls and Procedure Based on their most recent evaluation, which was completed within 90 days of the filing of this Form 10-Q, the Company's Chief Executive Officer and Chief Financial Officer believe the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) are effective to ensure that information required to be disclosed by the Company in this report is accumulated and communicated to the Company's management, including its principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure. There were no significant changes in the Company's internal controls or other factors that could significantly affect these controls subsequent to the date of their evaluation and there were no corrective actions with regard to significant deficiencies and material weaknesses. 15 PART II. OTHER INFORMATION Item 1. Legal Proceedings - Not applicable Item 2. Changes in Securities - Not applicable Item 3. Defaults upon Senior Securities - Not applicable Item 4. Submission of Matters to a Vote by Security Holders - Not applicable Item 5. Other Information - Not applicable Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits - 99.1 and 99.2 (b) Reports on Form 8-K - Not applicable SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereto duly authorized. Date: October 25, 2002 Palm Harbor Homes, Inc. ----------------------- (Registrant) By: /s/ Kelly Tacke ------------------------------ Kelly Tacke Chief Financial and Accounting Officer By: /s/ Lee Posey ------------------------------ Lee Posey Chairman of the Board 16 CERTIFICATIONS I, Larry H. Keener, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Palm Harbor Homes, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d -14) for the registrant and have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. presented in the quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 17 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: October 25, 2002 By: /s/ Larry H. Keener ------------------------------ Larry H. Keener Chief Executive Officer 18 CERTIFICATIONS I, Kelly Tacke, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Palm Harbor Homes, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d -14) for the registrant and have: a. designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b. evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c. presented in the quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a. all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b. any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 19 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: October 25, 2002 By: /s/ Kelly Tacke ----------------------------------- Kelly Tacke Chief Financial and Accounting Officer 20 INDEX TO EXHIBITS

EXHIBIT NUMBER DESCRIPTION ------- ----------- 99.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.