Q1 2012 DXYN 10Q


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.   20549
 
Form 10-Q
 
(Mark One)
R    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2012
OR

o    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ___________ to __________

Commission File Number: 0-2585


THE DIXIE GROUP, INC.
(Exact name of Registrant as specified in its charter)
Tennessee
 
     
 
62-0183370
(State or other jurisdiction of incorporation or organization)
 
 
 
(I.R.S. Employer Identification No.)
104 Nowlin Lane, Suite 101, Chattanooga, TN
 
37421
 
(423) 510-7000
(Address of principal executive offices)
 
(zip code)
 
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  R Yes  o No

Indicate by check mark whether the registrant has submitted electronically and posted on its Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). R Yes  o No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting company.  See definition of "large accelerated filer", "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.  
o
Large accelerated filer
 
o
 Accelerated filer
o
 Non-accelerated filer (Do not check if a smaller reporting company)
 
R
 Smaller reporting company

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) o Yes R No

The number of shares outstanding of each of the issuer's classes of Common Stock as of the latest practicable date.
Class
            
Outstanding as of April 23, 2012
Common Stock, $3 Par Value
 
12,156,590 shares
Class B Common Stock, $3 Par Value
 
952,784 shares
Class C Common Stock, $3 Par Value
 
0 shares


    
1


THE DIXIE GROUP, INC.

Table of Contents
PART I.  FINANCIAL INFORMATION
Page
 
 
 
 
 
Item 1.
 3
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
Item 3.
 
Item 4.
 
 
 
 
 
PART II. OTHER INFORMATION
 
 
 
 
 
 
Item 1.
 
Item 1A.
 
Item 2.
 
Item 3.
 
Item 4.
 
Item 5.
 
Item 6.
 
 
 
 
 
 

    
2


PART I - FINANCIAL INFORMATION

Item 1. Financial Statements
THE DIXIE GROUP, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(dollars in thousands, except share data)
 
March 31,
2012
 
December 31,
2011
ASSETS
(Unaudited)
 
 

CURRENT ASSETS
 
 
 
Cash and cash equivalents
$
161

 
$
298

Receivables, net
30,409

 
29,173

Inventories
67,420

 
63,939

Deferred income taxes
5,482

 
5,860

Other current assets
2,763

 
1,729

TOTAL CURRENT ASSETS
106,235

 
100,999

 
 
 
 
PROPERTY, PLANT AND EQUIPMENT
184,948

 
183,816

Less accumulated depreciation and amortization
(118,596
)
 
(116,275
)
NET PROPERTY, PLANT AND EQUIPMENT
66,352

 
67,541

OTHER ASSETS
15,266

 
14,403

TOTAL ASSETS
$
187,853

 
$
182,943

 
 
 
 
LIABILITIES AND STOCKHOLDERS' EQUITY
 
 
 
CURRENT LIABILITIES
 
 
 
Accounts payable
$
16,102

 
$
14,668

Accrued expenses
15,724

 
17,185

Current portion of long-term debt
2,561

 
2,729

TOTAL CURRENT LIABILITIES
34,387

 
34,582

 
 
 
 
LONG-TERM DEBT
 
 
 
Senior indebtedness
57,751

 
52,806

Mortgage note payable
9,956

 
10,141

Equipment notes payable
2,243

 
2,061

Capital lease obligations
851

 
349

TOTAL LONG-TERM DEBT
70,801

 
65,357

 
 
 
 
DEFERRED INCOME TAXES
4,323

 
4,804

OTHER LONG-TERM LIABILITIES
14,120

 
13,815

TOTAL LIABILITIES
123,631

 
118,558

 
 
 
 
COMMITMENTS AND CONTINGENCIES
—

 
—

 
 
 
 
STOCKHOLDERS' EQUITY
 
 
 
Common Stock ($3 par value per share):  Authorized 80,000,000 shares, issued - 16,170,030 shares for 2012 and 15,998,937 shares for 2011
48,510

 
47,997

Class B Common Stock ($3 par value per share): Authorized 16,000,000 shares, issued - 952,784 shares for 2012 and 882,644 shares for 2011
2,858

 
2,648

Additional paid-in capital
137,570

 
138,118

Accumulated deficit
(65,945
)
 
(65,764
)
Accumulated other comprehensive loss
(91
)
 
(88
)
 
122,902

 
122,911

Less Common Stock in treasury at cost - 4,013,440 shares for 2012 and 3,976,396 shares for 2011
(58,680
)
 
(58,526
)
TOTAL STOCKHOLDERS' EQUITY
64,222

 
64,385

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY
$
187,853

 
$
182,943

See accompanying notes to the consolidated condensed financial statements.

Table of Contents
3


THE DIXIE GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
(dollars in thousands, except per share data)
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
NET SALES
$
62,851

 
$
65,954

Cost of sales
47,148

 
49,384

GROSS PROFIT
15,703

 
16,570

 
 
 
 
Selling and administrative expenses
15,062

 
15,393

Other operating (income) expense, net
21

 
(491
)
OPERATING INCOME
620

 
1,668

 
 
 
 
Interest expense
726

 
932

Other (income) expense, net
3

 
(17
)
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE TAXES
(109
)
 
753

Income tax provision (benefit)
(5
)
 
109

INCOME (LOSS) FROM CONTINUING OPERATIONS
(104
)
 
644

Loss from discontinued operations, net of tax
(77
)
 
(21
)
NET INCOME (LOSS)
$
(181
)
 
$
623

 
 
 
 
BASIC EARNINGS (LOSS) PER SHARE:
 
 
 
Continuing operations
$
(0.01
)
 
$
0.05

Discontinued operations
—

 
—

Net income (loss)
$
(0.01
)
 
$
0.05

 
 
 
 
BASIC SHARES OUTSTANDING
12,606

 
12,856

 
 
 
 
DILUTED EARNINGS (LOSS) PER SHARE:
 
 
 
Continuing operations
$
(0.01
)
 
$
0.05

Discontinued operations
—

 
—

Net income (loss)
$
(0.01
)
 
$
0.05

 
 
 
 
DILUTED SHARES OUTSTANDING
12,606

 
12,902

 
 
 
 
DIVIDENDS PER SHARE:
 
 
 
Common Stock
—

 
—

Class B Common Stock
—

 
—

See accompanying notes to the consolidated condensed financial statements. 

Table of Contents
4


THE DIXIE GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
(dollars in thousands)

 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
NET INCOME (LOSS)
$
(181
)
 
$
623

 
 
 
 
OTHER COMPREHENSIVE INCOME (LOSS), NET OF TAX:
 
 
 
Unrealized gain (loss) on interest rate swaps
(81
)
 
27

Reclassification of loss into earnings from interest rate swaps
23

 
87

Amortization of unrealized loss on dedesignated interest rate swaps
74

 
—

Reclassification of net actuarial gain into earnings from postretirement benefit plans
(6
)
 
(5
)
Reclassification of prior service credits into earnings from postretirement benefit plans
(13
)
 
(14
)
 

 

TOTAL OTHER COMPREHENSIVE INCOME (LOSS), NET OF TAX
(3
)
 
95

 
 
 
 
COMPREHENSIVE INCOME (LOSS)
$
(184
)
 
$
718

See accompanying notes to the consolidated condensed financial statements.

Table of Contents
5


THE DIXIE GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(dollars in thousands)
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
CASH FLOWS FROM OPERATING ACTIVITIES
 

 
 

Income (loss) from continuing operations
$
(104
)
 
$
644

Loss from discontinued operations
(77
)
 
(21
)
Net income (loss)
(181
)
 
623

 
 
 
 
Adjustments to reconcile net income (loss) to net cash used in operating activities:
 
 
 
Depreciation and amortization
2,402

 
2,519

Change in deferred income taxes
(101
)
 
(199
)
Net gain on property, plant and equipment disposals
—

 
(1
)
Stock-based compensation expense
159

 
173

Excess tax benefits from stock-based compensation
(16
)
 
—

Changes in operating assets and liabilities:
 
 
 
Receivables
(1,236
)
 
(1,331
)
Inventories
(3,481
)
 
(8,461
)
Other current assets
(1,034
)
 
(1,393
)
Accounts payable and accrued expenses
732

 
5,668

Other operating assets and liabilities
(591
)
 
(386
)
NET CASH USED IN OPERATING ACTIVITIES
(3,347
)
 
(2,788
)
 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Net proceeds from sales of property, plant and equipment
—

 
1

Purchase of property, plant and equipment
(501
)
 
(1,101
)
NET CASH USED IN INVESTING ACTIVITIES
(501
)
 
(1,100
)
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Net borrowings on previous credit line
—

 
4,678

Payments on previous term loan
—

 
(502
)
Net borrowings on current credit line
4,945

 
—

Payments on current mortgage note payable
(184
)
 
—

Payments on previous mortgage note payable
—

 
(98
)
Borrowings on equipment financing
452

 
—

Payments on equipment financing
(313
)
 
(759
)
Payments on capitalized leases
(29
)
 
(110
)
Payments on notes payable
(226
)
 
(165
)
Change in outstanding checks in excess of cash
(743
)
 
1,008

Common stock acquired for treasury
(154
)
 
(127
)
Excess tax benefits from stock-based compensation
16

 
—

Payments for debt issuance costs
(53
)
 
—

NET CASH PROVIDED BY FINANCING ACTIVITIES
3,711

 
3,925

 
 
 
 
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS
(137
)
 
37

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
298

 
244

CASH AND CASH EQUIVALENTS AT END OF PERIOD
$
161

 
$
281

 
 
 
 
Supplemental Cash Flow Information:
 
 
 
Interest paid
$
642

 
$
800

Income taxes paid, net of tax refunds
1,199

 
33

Equipment purchased under capital leases
631

 
—

See accompanying notes to the consolidated condensed financial statements.

Table of Contents
6


THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data)

NOTE A - BASIS OF PRESENTATION

The accompanying unaudited consolidated condensed financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial statements which do not include all the information and footnotes required by such accounting principles for annual financial statements.  In the opinion of management, all adjustments (generally consisting of normal recurring accruals) considered necessary for a fair presentation have been included in the accompanying financial statements.  The accompanying financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's 2011 Annual Report on Form 10-K filed with the Securities and Exchange Commission for the fiscal year ended December 31, 2011.  Operating results for the three month period ended March 31, 2012 are not necessarily indicative of the results that may be expected for the entire 2012 year. The three months ended March 31, 2012 contains 13 weeks compared with 14 weeks for the three months ended April 2, 2011.

The Company evaluated subsequent events through the date the financial statements were issued.

The Company is in one line of business, carpet manufacturing.

NOTE B - RECENT ACCOUNTING PRONOUNCEMENTS

In May 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS. This ASU represents the converged guidance of the FASB and the International Accounting Standards Board ("the Boards") on fair value measurement. The collective efforts of the Boards and their staffs have resulted in common requirements, including a consistent meaning of the term "fair value." The Boards have concluded the common requirements will result in greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and IFRS. The ASU was effective during the first quarter of 2012 and its adoption did not have a material effect on the Company's Consolidated Condensed Financial Statements.

In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. This ASU eliminates the option to report other comprehensive income and its components in the statement of stockholders equity and requires the presentation of comprehensive income in either (1) a continuous statement of comprehensive income or (2) two separate but consecutive statements. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011 and should be applied retrospectively. The Company early adopted this ASU in the prior year and presented the components of other comprehensive income in a separate statement following the statement of operations. In December 2011, the FASB issued ASU 2011-12, Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05 . ASU 2011-12 deferred the changes in ASU 2011-05 that relate to the presentation of reclassification adjustments to other comprehensive income. These amendments were delayed to allow the FASB time to redeliberate whether to present the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income on the face of the financial statements for all periods presented. While the FASB is considering the operational concerns about the presentation requirements for reclassification adjustments and the needs of financial statement users for additional information about reclassification adjustments, the Company is required to continue reporting reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before ASU 2011-05.

In December 2011, the FASB issued ASU No. 2011-11, “Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities.” The amendments in this ASU require an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. The Company does not expect that the adoption of this ASU will have a a material effect on the Company’s Consolidated Condensed Financial Statements.

NOTE C - STOCK COMPENSATION EXPENSE

The Company recognizes compensation expense relating to share-based payments based on the fair value of the equity instrument issued and records such expense in selling and administrative expenses in the Company's Consolidated Condensed Financial Statements.  The number of shares to be issued is determined by dividing the specified dollar value of the award by the market value per share on the grant date.  Pursuant to a policy adopted by the Compensation Committee of the Board of Directors applicable to awards granted for years 2009 through 2012, $5.00 per share will be used as the market value per share

Table of Contents
7

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


to calculate the number of shares to be issued if the market value per share is less than $5.00 per share on the grant date. The Company's stock compensation expense was $159 for the three months ended March 31, 2012 and $173 for the three months ended April 2, 2011.

On March 12, 2012, the Company issued 241,233 shares of restricted stock to officers and other key employees.  The grant-date fair value of the awards was $998, or $4.135 per share, and will be recognized as stock compensation expense over the vesting periods which range from 2 to 15 years from the date the awards were granted.  Each award is subject to a continued service condition.  The fair value of each share of restricted stock awarded was equal to the market value of a share of the Company's Common Stock on the grant date.

NOTE D - RECEIVABLES

Receivables are summarized as follows:
 
March 31,
2012
 
December 31,
2011
Customers, trade
$
29,893

 
$
28,372

Other receivables
1,066

 
1,268

Gross receivables
30,959

 
29,640

Less allowance for doubtful accounts
(550
)
 
(467
)
Net receivables
$
30,409

 
$
29,173


The Company had notes receivable in the amount of $476 and $483 at March 31, 2012 and December 31, 2011, respectively. The current portions of notes receivable are included in other receivables above and the non-current portions are included in other assets in the Company's Consolidated Condensed Financial Statements.

NOTE E - INVENTORIES

Inventories are stated at the lower of cost or market.  Cost is determined using the last-in, first-out (LIFO) method, which generally matches current costs of inventory sold with current revenues, for substantially all inventories.  Inventories are summarized as follows:
 
March 31,
2012
 
December 31,
2011
Raw materials
$
20,893

 
$
19,624

Work-in-process
14,263

 
13,116

Finished goods
46,930

 
45,840

Supplies, repair parts and other
468

 
351

LIFO reserve
(15,134
)
 
(14,992
)
Total inventories
$
67,420

 
$
63,939


NOTE F - ACCRUED EXPENSES

Accrued expenses are summarized as follows:
 
March 31,
2012
 
December 31,
2011
Compensation and benefits
$
4,930

 
$
4,348

Provision for customer rebates, claims and allowances
3,822

 
4,249

Outstanding checks in excess of cash
1,985

 
2,728

Other
4,987

 
5,860

Total accrued expenses
$
15,724

 
$
17,185






Table of Contents
8

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)



NOTE G - PRODUCT WARRANTY RESERVES

The Company generally provides product warranties related to manufacturing defects and specific performance standards for its products.  At the time sales are recorded, the Company records reserves for the estimated costs of defective products and failure of its products to meet applicable performance standards.  The level of reserves the Company establishes is based primarily upon historical experience, including the level of sales and evaluation of pending claims.  Product warranty reserves are included in accrued expenses in the Company's Consolidated Condensed Financial Statements.  The following is a summary of the Company's product warranty activity.
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Warranty reserve at beginning of period
$
1,219

 
$
1,472

Warranty liabilities accrued
742

 
785

Warranty liabilities settled
(867
)
 
(768
)
Changes for pre-existing warranty liabilities
12

 
(40
)
Warranty reserve at end of period
$
1,106

 
$
1,449


NOTE H - LONG-TERM DEBT AND CREDIT ARRANGEMENTS

Long-term debt consists of the following:
 
March 31, 2012
 
December 31, 2011
Senior indebtedness
$
57,751

 
$
52,806

Mortgage note payable
10,694

 
10,878

Equipment notes payable
3,493

 
3,354

Notes payable
358

 
584

Capital lease obligations
1,066

 
464

Total long-term debt
73,362

 
68,086

Less: current portion of long-term debt
(2,561
)
 
(2,729
)
Total long-term debt, less current portion
$
70,801

 
$
65,357


Senior indebtedness

On September 14, 2011, the Company entered into a five-year, secured revolving credit facility (the "senior credit facility"). The senior credit facility provides for a maximum of $90,000 of revolving credit, subject to borrowing base availability, including limited amounts of credit in the form of letters of credit and swingline loans. The borrowing base is equal to specified percentages of the Company's eligible accounts receivable, inventories and fixed assets less reserves established, from time to time, by the administrative agent under the senior credit facility.

At the Company's election, revolving loans under the senior credit facility bear interest at annual rates equal to either (a) LIBOR for 1, 2 or 3 month periods, as selected by the Company, plus an applicable margin of either 2.00% or 2.25%, or (b) the higher of the prime rate, the Federal Funds rate plus 0.5%, or a daily LIBOR rate, plus an applicable margin of either 1.00% or 1.50%. The applicable margin is determined based on availability under the senior credit facility with margins increasing as availability decreases. The Company also pays an unused line fee on the average amount by which the aggregate commitments exceed utilization of the senior credit facility equal to 0.375% per annum.

The senior credit facility includes certain affirmative and negative covenants that impose restrictions on the Company's financial and business operations, including limitations on debt, liens, investments, fundamental changes in the Company's business, asset dispositions, dividends and other similar restricted payments, transactions with affiliates, payments and modifications of certain existing debt, future negative pledges, and changes in the nature of the Company's business. The Company is also required to maintain a fixed charge coverage ratio of 1.1 to 1.0 during any period that borrowing availability is less than $10,000.

The Company can use the proceeds of the senior credit facility for general corporate purposes, including financing acquisitions and refinancing other indebtedness. As of March 31, 2012, the unused borrowing availability under the senior credit facility was $18,113.

Table of Contents
9

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)



Mortgage Note Payable

On September 13, 2011, the Company entered into a five-year $11,063 mortgage loan. The mortgage loan is secured by the Company's Susan Street facility and liens secondary to the senior credit facility. The mortgage loan is scheduled to mature on September 13, 2016. The mortgage loan bears interest at a variable rate equal to one month LIBOR plus 3.00% and is payable in equal monthly installments of principal of $61, plus interest calculated on the declining balance of the mortgage loan, with a final payment of $7,436 due on maturity.

NOTE I - FAIR VALUE MEASUREMENTS

Fair value is defined as the exchange value of an asset or a liability in an orderly transaction between market participants.  The fair value guidance outlines a valuation framework and establishes a fair value hierarchy in order to increase the consistency and comparability of fair value measurements and disclosures.  The hierarchy consists of three levels as follows:

Level 1 - Quoted market prices in active markets for identical assets or liabilities as of the reported date;

Level 2 - Other than quoted market prices in active markets for identical assets or liabilities, quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and other than quoted prices for assets or liabilities and prices that are derived principally from or corroborated by market data by correlation or other means; and

Level 3 - Measurements using management's best estimate of fair value, where the determination of fair value requires significant management judgment or estimation.


The Company's interest rate swaps and related instruments are measured under the fair value guidance.  The following table summarizes the hierarchy level the Company used to determine fair value of its interest rate swaps and related instruments as of March 31, 2012 and December 31, 2011:

 
March 31,
2012
 
December 31,
2011
 
Fair Value Hierarchy Level
Assets:
 
 
 
 
 
Interest rate swaptions
$
183

 
$
197

 
Level 2
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
Interest rate swaps
$
931

 
$
958

 
Level 2


The fair value of the interest rate swaps and swaptions was obtained from external sources. The interest rate swaps and swaptions were valued using observable inputs (e.g., LIBOR yield curves, credit spreads). Valuations of interest rate swaps may fluctuate considerably from period-to-period due to volatility in underlying interest rates, which are driven by market conditions and the duration of the instrument. Credit adjustments could have a significant impact on the valuations due to changes in credit ratings of the Company or its counterparties.

The carrying amounts and estimated fair values of the Company's financial instruments are summarized as follows:

 
March 31, 2012
 
December 31, 2011
 
Carrying
 
Fair
 
Carrying
 
Fair
 
Amount
 
Value
 
Amount
 
Value
Financial assets:
 
 
 
 
 
 
 
Cash and cash equivalents
$
161

 
$
161

 
$
298

 
$
298

Notes receivable, including current portion
476

 
476

 
483

 
483

Interest rate swaptions
183

 
183

 
197

 
197

Financial Liabilities:
 
 
 
 
 
 
 
Long-term debt and capital leases, including current portion
73,362

 
75,364

 
68,086

 
68,900

Interest rate swaps
931

 
931

 
958

 
958


Table of Contents
10

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)



The fair values of the Company's long-term debt and capital leases were estimated using market rates the Company believes would be available for similar types of financial instruments and represent level 2 measurements.  The fair values of cash and cash equivalents and notes receivable approximate their carrying amounts due to the short-term nature of the financial instruments.

The Company's earnings, cash flows and financial position are exposed to market risks relating to interest rates.  It is the Company's policy to minimize its exposure to adverse changes in interest rates and manage interest rate risks inherent in funding the Company with debt.  The Company addresses this risk by maintaining a mix of fixed and floating rate debt and entering into interest rate swaps for a portion of its variable rate debt to minimize interest rate volatility. The Company does not hold speculative financial instruments, nor does it hold or issue financial instruments for trading purposes.

Derivatives designated as cash flow hedges relate to specific liabilities on the Company's Consolidated Condensed Balance Sheets.  The Company assesses, both at inception and on an ongoing basis, whether the derivatives that are used in the hedging transactions are highly effective in offsetting changes in cash flows of the hedged items.  When it is determined that a derivative is not highly effective or the derivative expires, is sold, terminated or exercised, the Company discontinues hedge accounting for that specific instrument.  Changes in the fair value of effective cash flow hedges are deferred in accumulated other comprehensive income (loss) ("AOCIL") and reclassified into earnings in the same periods during which the hedged transaction affects earnings.  Changes in the fair value of derivatives that are not effective hedges or that are not designated as hedges are recognized in income.

The following is a summary of the Company's interest rate swaps and swaptions as of March 31, 2012:

Type
Notional Amount
 
Effective Date
Fixed Rate
Variable Rate
Interest rate swap
$
5,351

*
April 1, 2003 through April 1, 2013
4.54%
1 Month LIBOR
Interest rate swap
$
25,000

 
July 11, 2010 through May 11, 2013
1.42%
1 Month LIBOR
Interest rate swap
$
10,000

 
October 3, 2011 through September 1, 2016
1.33%
1 Month LIBOR
Interest rate swap
$
10,000

 
March 1, 2013 through September 1, 2016
1.62%
1 Month LIBOR
Interest rate swap
$
5,000

 
June 1, 2013 through September 1, 2016
1.70%
1 Month LIBOR
Swaption
$
10,000

 
March 1, 2013 through September 1, 2016, exercisable on September 2, 2014
0.38%
N/A
Swaption
$
5,000

 
June 1, 2013 through September 1, 2016, exercisable on September 1, 2015
0.18%
N/A

* Interest rate swap has an amortizing notional amount.

The following table summarizes the fair values of derivative instruments included in the Company's Consolidated Condensed Balance Sheets:
 
Location on Consolidated Condensed Balance Sheets
Fair Value
 
March 31,
2012
 
December 31,
2011
Asset Derivatives:
 
 
 
 
Derivatives not designated as hedging instruments:
 
 
 
 
Interest rate swaptions
Other Assets
$
183

 
$
197

Total Asset Derivatives
 
183

 
197

 
 
 
 
 
Liability Derivatives:
 
 
 
 
Derivatives designated as hedging instruments:
 
 
 
 
Interest rate swaps, current portion
Accrued Expenses
$
604

 
$
559

Interest rate swaps, long term portion
Other Liabilities
327

 
399

Total Liability Derivatives
 
931

 
958



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11

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)



The following tables summarize the pre-tax impact of derivative instruments on the Company's financial statements:

 
Amount of Gain or (Loss) Recognized in AOCIL on the effective portion of the Derivative
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Derivatives designated as hedging instruments:
 
 
 
Cash flow hedges - interest rate swaps
$
(130
)
 
$
44


 
Amount of Gain or (Loss) Reclassified from AOCIL on the effective portion into Income (1)(2)
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Derivatives designated as hedging instruments:
 
 
 
Cash flow hedges - interest rate swaps
$
(156
)
 
$
(140
)

 
Amount of Gain or (Loss)  Recognized on the ineffective portion in Income on Derivative (3)
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Derivatives designated as hedging instruments:
 
 
 
Cash flow hedges - interest rate swaps
$
—

 
$
2



 
Amount of Gain or (Loss)  Recognized in Income on Derivative (4)
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Derivatives not designated as hedging instruments:
 
 
 
Interest rate swaptions
$
(14
)
 
$
—


(1)
The amount of gain (loss) reclassified from AOCIL is included in interest expense on the Company's Consolidated Condensed Statements of Operations.
(2)
The amount of loss expected to be reclassified from AOCIL into earnings during the next 12 months subsequent to March 31, 2012 is $604.
(3)
The amount of gain (loss) recognized in income on the ineffective portion of interest rate swaps is included in other (income) expense, net on the Company's Consolidated Condensed Statements of Operations.
(4)
The amount of gain (loss) recognized in income for derivatives not designated as hedging instruments is included in other (income) expense, net on the Company's Consolidated Condensed Statements of Operations.





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12

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


NOTE J - EMPLOYEE BENEFIT PLANS

Defined Contribution Plans

The Company sponsors two 401(k) defined contribution plans covering substantially all associates.  The Company generally matches participants' contributions, on a sliding scale, up to a maximum of 5% of the participant's earnings.  The Company did not match participants' contributions for one of the two 401(k) plans for the 2011 plan year; however, for the 2012 plan year, the Company plans on matching participants' contributions up to a maximum of 3% of the participants' earnings. In addition to the discretionary match for this plan, the plan also provides for an additional Company contribution if the Company attains certain performance targets. Matching contributions for the 401(k) plan were $155 and $23 for the three months ended March 31, 2012 and April 2, 2011, respectively.

Non-Qualified Retirement Savings Plan

The Company sponsors a non-qualified retirement savings plan that allows eligible associates to defer a specified percentage of their compensation.  The obligations owed to participants under this plan were $11,296 at March 31, 2012 and $10,927 at December 31, 2011 and are included in other long-term liabilities in the Company's Consolidated Condensed Balance Sheets. The obligations are unsecured general obligations of the Company and the participants have no right, interest or claim in the assets of the Company, except as unsecured general creditors.  The Company utilizes a Rabbi Trust to hold, invest and reinvest deferrals and contributions under the plan.  Amounts are invested in company-owned life insurance in the Rabbi Trust and the cash surrender value of the policies was $11,821 at March 31, 2012 and $10,913 at December 31, 2011 and is included in other assets in the Company's Consolidated Condensed Balance Sheets.

Multi-Employer Pension Plan

The Company contributes to a multi-employer pension plan under the terms of a collective-bargaining agreement that covers its union-represented employees.  Expenses related to the multi-employer pension plan were $71 and $72 for the three months ended March 31, 2012 and April 2, 2011, respectively.

Postretirement Plans

The Company sponsors a legacy postretirement benefit plan that provides life insurance to a limited number of associates as a result of a prior acquisition.  The Company also sponsors a postretirement benefit plan that provides medical insurance for a limited number of associates who retired prior to January 1, 2003 and life insurance to a limited number of associates upon retirement.

Components of net periodic benefit cost (credit) for all postretirement plans are summarized as follows:
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Service cost
$
2

 
$
2

Interest cost
6

 
7

Amortization of prior service credits
(22
)
 
(23
)
Recognized net actuarial gains
(10
)
 
(8
)
Net periodic benefit cost (credit)
$
(24
)
 
$
(22
)

Amounts contributed or expected to be contributed by the Company during the current fiscal year to its postretirement plans are not anticipated to be significantly different from amounts disclosed in the Company's 2011 Annual Report filed on Form 10-K.

NOTE K - INCOME TAXES

The Company's effective income (benefit) tax rate, based upon estimated annual income tax rates, was (4.6)% for the three months ended March 31, 2012 and 14.5% for the three months ended April 2, 2011. The difference between the effective rate and the statutory rates for the three months ended March 31, 2012 was primarily due to the effect of the domestic manufacturing deduction, change in state valuation allowances and interest charges related to an IRS audit for tax years 2004 through 2009. The difference for the three months ended April 2, 2011 was primarily due to the inclusion of a $492 non-taxable settlement gain associated with a company-owned insurance policy.


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13

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


The Company and its subsidiaries are subject to United States federal income taxes, as well as income taxes in a number of state jurisdictions.  The tax years subsequent to 2003 remain open to examination for U.S. federal income taxes.  The majority of state jurisdictions remain open for tax years subsequent to 2007.  A few state jurisdictions remain open to examination for tax years subsequent to 2006.

The Company's unrecognized tax benefits were $16 at March 31, 2012 and December 31, 2011.  Due to the Company's valuation allowances, such benefits, if recognized, would not significantly affect the Company's effective tax rate.  There were no significant interest or penalties accrued as of March 31, 2012 or December 31, 2011. The Company does not expect its unrecognized tax benefits to change significantly during the next twelve months.  The Company recognizes interest and penalties related to uncertain tax positions, if any, in income tax expense.


NOTE L - COMMON STOCK AND EARNINGS (LOSS) PER SHARE

The following table sets forth the computation of basic and diluted earnings (loss) per share from continuing operations:

 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Basic earnings (loss) per share:
 
 
 
Income (loss) from continuing operations
$
(104
)
 
$
644

Less: Allocation of earnings to participating securities
—

 
(15
)
Income (loss) from continuing operations available to common shareholders - basic
$
(104
)
 
$
629

Basic weighted-average shares outstanding (1)
12,606

 
12,553

Basic earnings (loss) per share - continuing operations
(0.01
)
 
0.05

 
 
 
 
Diluted earnings (loss) per share:
 
 
 
Income (loss) from continuing operations available to common shareholders - basic
$
(104
)
 
$
629

Add: Undistributed earnings reallocated to unvested shareholders
—

 
—

Income (loss) from continuing operations available to common shareholders - basic
$
(104
)
 
$
629

Basic weighted-average shares outstanding (1)
12,606

 
12,553

Effect of dilutive securities:
 
 
 
Stock options (2)
—

 
1

Directors' stock performance units (2)
—

 
45

Diluted weighted-average shares outstanding (1)(2)
12,606

 
12,599

Diluted earnings (loss) per share - continuing operations
(0.01
)
 
0.05


(1)
Includes Common and Class B Common shares, less shares held in treasury, in thousands.
(2)
Because their effects are anti-dilutive, shares issuable under stock option plans where the exercise price is greater than the average market price of the Company's Common Stock at the end of the relevant period, unvested restricted stock deemed to be participating securities, directors' stock performance units, and shares issuable on conversion of subordinated debentures into shares of Common Stock have been excluded.  Aggregate shares excluded for the three months ending March 31, 2012 and April 2, 2011 were 1,339 and 1,158, respectively.



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14

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


NOTE M - OTHER COMPREHENSIVE INCOME (LOSS)

Components of other comprehensive income (loss) are as follows:
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Other comprehensive income (loss):
 
 
 
Unrealized gain (loss) on interest rate swaps:
 
 
 
Before income taxes
$
(130
)
 
$
44

Income taxes
(49
)
 
17

Net of taxes
(81
)
 
27

Reclassification of loss into earnings from interest rate swaps:
 
 
 
Before income taxes
37

 
140

Income taxes
14

 
53

Net of taxes
23

 
87

Amortization of unrealized loss on dedesignated interest rate swaps:
 
 
 
Before income taxes
119

 
—

Income taxes
45

 
—

Net of taxes
74

 
—

Reclassification of net actuarial gain into earnings from postretirement benefit plans:
 
 
 
Before income taxes
(10
)
 
(8
)
Income taxes
(4
)
 
(3
)
Net of taxes
(6
)
 
(5
)
Reclassification of prior service credits into earnings from postretirement benefit plans:
 
 
 
Before income taxes
(22
)
 
(23
)
Income taxes
(9
)
 
(9
)
Net of taxes
(13
)
 
(14
)
Other comprehensive income (loss)
$
(3
)
 
$
95


Components of accumulated other comprehensive income (loss), net of tax, are as follows:
 
Interest Rate Swaps
 
Post-Retirement Liabilities
 
Total
Balance at December 31, 2011
$
(565
)
 
$
477

 
$
(88
)
Unrealized gain (loss) on interest rate swaps, net of tax of $49
(81
)
 
—

 
(81
)
Reclassification of loss into earnings from interest rate swaps, net of tax of $14
23

 
—

 
23

Amortization of unrealized loss on dedesignated interest rate swaps, net of tax of $45
74

 
—

 
74

Reclassification of net actuarial gain into earnings from postretirement benefit plans, net of tax of $4
—

 
(6
)
 
(6
)
Reclassification of prior service credits into earnings from postretirement benefit plans, net of tax of $9
—

 
(13
)
 
(13
)
Balance at March 31, 2012
$
(549
)
 
$
458

 
$
(91
)



Table of Contents
15

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


NOTE N - OTHER (INCOME) EXPENSE

Other income and expense is summarized as follows:
 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Other operating (income) expense, net:
 
 
 
Insurance proceeds (1)
$
—

 
$
(492
)
Gain on property, plant and equipment disposals
—

 
(1
)
Retirement expenses
83

 
72

Miscellaneous (income) expense
(62
)
 
(70
)
Other operating (income) expense, net
$
21

 
$
(491
)
 
 
 
 
Other (income) expense, net:
 
 
 
Loss on non-hedged swaptions
$
14

 
$
—

Miscellaneous (income) expense
(11
)
 
(17
)
Other (income) expense, net
$
3

 
$
(17
)

(1) The Company recognized a settlement gain of $492 from a company-owned insurance policy during the three months ending April 2, 2011.

NOTE O - FACILITY CONSOLIDATION AND SEVERANCE EXPENSES, NET

2008 Facilities Consolidation

In 2008 and 2009, in response to the difficult economic conditions, the Company consolidated certain manufacturing operations and ceased operating in a leased facility and made organizational changes to reduce staff and expenses throughout the Company ("2008 Facilities Consolidation"). Costs related to the facilities consolidation included equipment and inventory relocation, severance costs, employee relocation, asset impairments and costs associated with terminating a lease obligation. During the three months ended April 2, 2011, the Company had expenses of $10 associated with this plan. Total costs to complete this restructuring plan were $7,410. There are no remaining costs to be incurred under this plan.

2009 Organization Restructuring

In 2009, the Company developed and implemented a plan to realign its organizational structure to combine its three residential carpet units into one business with three distinct brands ("2009 Organization Restructuring").  As a result, the Company's residential business is organized much like its commercial carpet business and more like the rest of the industry.  Costs related to the organization realignment included severance costs, associate relocation expenses and costs related to the migration of certain computer applications necessary to support the realignment. During the three months ended April 2, 2011, the Company had a reduction of expenses of $10 associated with this plan. Total costs to complete this restructuring plan were $1,450. There are no remaining costs to be incurred under this plan.

NOTE P - CONTINGENCIES

The Company assesses its exposure related to legal matters, including those pertaining to product liability, safety and health matters and other items that arise in the regular course of its business. If the Company determines that it is probable a loss has been incurred, the amount of the loss, or an amount within the range of loss, that can be reasonably estimated will be recorded.

Environmental Remediation

The Company accrues for losses associated with environmental remediation obligations when such losses are probable and estimable. Remediation obligations are accrued based on the latest available information and are recorded at undiscounted amounts. The Company regularly monitors the progress of environmental remediation. Should studies indicate that the cost of remediation has changed from the previous estimate, an adjustment to the liability would be recorded in the period in which such determination is made. (See Note Q)


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16

THE DIXIE GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
(dollars in thousands, except per share data) (Cont'd.)


NOTE Q - DISCONTINUED OPERATIONS

The Company has previously either sold or discontinued certain operations that are accounted for as "Discontinued Operations" under the applicable accounting guidance. The Company has certain contingent obligations directly related to such operations, primarily related to self-insured workers' compensation and environmental liabilities. Costs related to these obligations for those businesses are classified as discontinued operations.  Discontinued operations are summarized as follows:

 
Three Months Ended
 
March 31,
2012
 
April 2,
2011
Loss from discontinued operations:
 
 
 
Before income taxes
$
(107
)
 
$
(32
)
Income tax benefit
(30
)
 
(11
)
Loss from discontinued operations, net of tax
$
(77
)
 
$
(21
)

Workers' Compensation

Undiscounted reserves are maintained for the self-insured workers' compensation obligations. These reserves are administered by a third party workers' compensation service provider under the supervision of Company personnel. Such reserves are reassessed on a quarterly basis. Pre-tax cost incurred for workers' compensation as a component of discontinued operations was $17 and $23 for the three months ended March 31, 2012 and April 2, 2011, respectively and primarily represent a change in estimate for each period from unforeseen medical costs associated with the Company's obligations.

Environmental Remediation

Reserves for environmental remediation obligations are established on an undiscounted basis. The Company has ongoing expenses at five previously owned sites that were associated with its discontinued textile businesses. Each of these sites contains relatively low levels of ground or ground water contaminants. Each site has a Corrective Action Plan ("CAP") with the applicable authoritative state regulatory body responsible for oversight for environmental compliance and the Company contracts with third party qualified environmental specialists for related remediation, monitoring and reporting for each location. The CAP for four of these sites involves natural attenuation (degradation of the contaminants through naturally occurring events) over periods currently estimated at 10 to 20 years and the CAP on the remaining site involves a pump and treat remediation process, currently estimated to remediate over a period of 25 years. Additionally, the Company has an environmental liability related to the property of a facility and related business that was sold in 2004. The CAP, involving an oxidation-based remediation plan, was approved in 2010 and is currently estimated to remediate over a 7 year period beginning in 2010. The Company has an accrual for environmental remediation obligations of $1,809 and $1,733 as of March 31, 2012 and December 31, 2011, respectively. The actual timeline to remediate, and thus, the ultimate cost to complete such remediation through these remediation efforts, may differ significantly from our estimates.

Pre-tax cost for environmental remediation obligations classified as discontinued operations was $90 and $9 for the three months ended March 31, 2012 and April 2, 2011, respectively. Costs in each period were primarily a result of specific events requiring action and additional expense in each period.


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17


Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition
 
The following is presented to update the discussion of results of operations and financial condition included in our 2011 Annual Report on Form 10-K filed with the Securities and Exchange Commission.
 
CRITICAL ACCOUNTING POLICIES
 
Our critical accounting policies were outlined in Management's Discussion and Analysis of Results of Operations and Financial Condition in our 2011 Annual Report on Form 10-K filed with the Securities and Exchange Commission. There have been no changes to those critical accounting policies subsequent to the date of that report.
 
OVERVIEW
 
At year end, we noted that since the historic downturn that began in 2008-2009, our sales had grown substantially ahead of the industry. Although our residential sales growth has continued to exceed that of the industry, our commercial business has significantly underperformed the industry's modest growth during the first quarter. As a result, our first quarter sales growth is now comparable to overall industry growth rates. Our residential sales growth rate was sustained by growth in our upper-end retail brands that more than offset a decline in sales to the mass merchant sector. Sales in our commercial sector substantially underperformed the comparable year ago sales period, which was very strong, and we have seen a significant softening of commercial business since the middle of 2011. We are taking advantage of several opportunities to invest in products we believe will further differentiate us from the competition. We have access to two new yarn systems that are limited in distribution and provide exceptional softness and colorfastness qualities. In addition, we have developed a new “permaset process” for wool which will allow our designer customers unlimited choice of colorations. As a result, during 2012 we have invested at an increased rate in sampling initiatives related to these product offerings as compared to the same time a year ago.
We remain cautiously optimistic about conditions that affect the higher-end markets we serve but we have experienced increases in certain of raw material costs in 2011 and the first quarter of 2012, although we have, as has the industry, implemented sales price increases to recoup these cost increases.

RESULTS OF OPERATIONS
 
The first quarter of 2012 contained 13 operating weeks compared with 14 operating weeks in the first quarter of 2011. Discussions below related to percentage changes in net sales have been adjusted to reflect the comparable number of weeks in the reporting periods and are qualified with the term “net sales as adjusted”. We believe "net sales as adjusted" will assist our financial statement users in understanding the rate of growth in our business in the comparative periods. (See reconciliation of net sales to adjusted net sales below.)
 
Reconciliation of Net Sales to Net Sales as Adjusted
 
Three Months Ended
 
March 31, 2012
 
April 2,
2011
 
Percent Increase/(Decrease)
Net sales as reported
$
62,851

 
 
$
65,954

 
(4.7
)
%
Adjustment to net sales:
 
 
 
 
 
Impact of shipping weeks
—
 
 
 
(4,711
)
 
 
Net sales as adjusted
$
62,851

 
 
$
61,243

 
2.6

%
 
The following table sets forth certain elements of our continuing operating results as a percentage of net sales for the periods indicated:
 
Three Months Ended
 
March 31, 2012
April 2,
2011
Net sales
100.0

%
 
100.0
 
%
Cost of sales
75.0

%
 
74.9

%
Gross profit
25.0

%
 
25.1

%
Selling and administrative expense
24.0

%
 
23.3

%
Other operating (income) expenses, net
—

%
 
(0.7
)
%
Operating income
1.0

%
 
2.5

%
 
Net Sales. Net sales for the 13 operating week quarter ended March 31, 2012 were $62.9 million compared with net sales of $66.0 million for the 14 operating week quarter ended April 2, 2011. On the basis of a “net sales as adjusted”, net sales

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18


increased 2.6% in the first quarter of 2012 versus the first quarter of 2011. Net sales as adjusted of residential carpet sales reflected an increase of 5.7% and net sales as adjusted of commercial carpet decreased 8.2%. Net sales, as adjusted, in each of our residential brands through our retail channels, increased in the first quarter of 2012 compared with 2011. Our commercial sales were down as compared to a very strong period a year ago.
 
Cost of Sales. Cost of sales as a percentage of net sales was relatively unchanged in the first quarter of 2012 compared with the same period in 2011. We believe we are able to maintain a consistent margin as a percentage of net sales in the quarter-to-quarter periods despite an environment of raw materials cost increases subsequent to the first quarter of 2011 due to sales price increases we implemented and margin improvements due to product mix in our higher-end product offerings.
 
Gross Profit. Gross profit was $15.7 million, or 25.0% of sales, in the 13-operating week quarter ended March 31, 2012 compared with $16.6 million, or 25.1% of sales, in the year-earlier 14-operating week period.
 
Selling and Administrative Expenses. Selling and administrative expenses were 24.0% of sales in the quarter ended March 31, 2012 compared with 23.3% of sales in the quarter ended April 2, 2011. The 2011 quarterly period included a charge of $625 thousand related to a workers compensation incident during the period. Excluding this charge, selling and administrative expenses in the first quarter of 2011 were 22.4%, or 1.6 percentage points below the first quarter of 2012. The cost increases as a percentage of sales in the 2012 period compared to the year-earlier period was principally due to a higher level of investment in samples related to new product offerings designed to introduce products that we believe will further differentiate us in the higher-end markets.
 
Other Operating (Income) Expense, Net. Other operating expense was $21 thousand in the first quarter of 2012 compared with operating income of $491 thousand in the first quarter of 2011. The 2011 period included income of $492 thousand as a result of a settlement gain related to a company-owned insurance policy.
 
Operating Income. We reported operating income of $620 thousand in the first quarter of 2012 compared with operating income of $1.7 million in the first quarter of 2011. Approximately $1.0 million of the decrease in operating income in 2012 compared with 2011 is a result of one less operating week in the 2012 period in addition to the items discussed above.
 
Interest Expense. Interest expense decreased $206 thousand in the first quarter of 2012 compared with the same period in 2011. Approximately $70 thousand of the decrease in the 2012 period was due to one less operating week in 2012 compared with 2011 and the remainder, or $136 thousand, was principally as a result of lower interest rates in 2012 associated with our new debt agreements and modifications implemented in the third quarter of 2011.
 
Other (Income) Expense, Net. Other (income) expense was not significant in either the first quarter of 2012 or 2011.
 
Income Tax Provision (Benefit). Our effective income tax benefit rate was 4.6% in the first quarter of 2012 compared with a provision of 14.5% in the first quarter of 2011. The effective tax rate in the first quarter of 2012 differed from statutory rates primarily due to the effect of the domestic manufacturing deduction, change in state valuation allowances and interest charges related to an IRS audit for tax years 2004 through 2009 related to a settlement of an internal revenue service audit. The effective tax rate in the first quarter of 2011 differed from statutory rates primarily as a result of a non-taxable settlement gain related to company-owned insurance and the effects of permanent differences on pre-tax earnings utilized in the tax calculations.
 
Income (Loss) from Continuing Operations. The first quarter of 2012 reflected a loss from continuing operations of $104 thousand, or $0.01 per diluted share, compared with income from continuing operations was $644 thousand, or $0.05 per diluted share in the first quarter of 2011.
 
Net Income (Loss). Discontinued operations was a loss of $77 thousand, or $0.00 per diluted share, in the first quarter of 2012 compared with a loss of $21 thousand, or $0.00 per diluted share, in the same period in 2011. Including discontinued operations, the quarter ended March 31, 2012 was a net loss of $181 thousand, or $0.01 per diluted share, compared with net income of $623 thousand, or $0.05 per diluted share, in the first quarter of 2011.

LIQUIDITY AND CAPITAL RESOURCES
 
During the three months ended March 31, 2012, debt increased $4.6 million under our senior credit line and machinery note agreements and an additional $631 thousand related to equipment acquired under a capitalized lease for a total increase in debt of $5.3 million. The funded debt increase of $4.6 million was used to finance our operations including $3.3 million in operating activities, $501 thousand in property, plant and equipment purchases, $154 thousand to acquire our common stock for treasury, and a reduction in outstanding checks in excess of cash of $743 thousand. 

Working capital increased $5.4 million in the first three months of 2012, principally as a result of an increase of $3.5 million in inventories to accommodate anticipated increased levels of business. Receivables increased $1.2 million while other current assets increased $1.0 million primarily related to product sales support. Accounts payable and accrued expenses, including current portion of long-term debt, reflected a decrease of $195 thousand.

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19


 
Capital asset acquisitions for the three months ended March 31, 2012 were $1.1 million; $501 thousand through funded debt and $631 thousand of equipment acquired under a capitalized lease, while depreciation and amortization was $2.4 million. We expect capital expenditures to be approximately $6.0 million for fiscal 2012, while depreciation and amortization is expected to be approximately $9.6 million. Planned capital expenditures in 2012 are primarily for new machinery and equipment.
 
Debt Facilities

On September 14, 2011, we entered into a five-year, secured revolving credit facility (the "senior credit facility"). The senior credit facility provides for a maximum of $90.0 million of revolving credit, subject to borrowing base availability, including limited amounts of credit in the form of letters of credit and swingline loans. The borrowing base is equal to specified percentages of our eligible accounts receivable, inventories and fixed assets less reserves established, from time to time, by the administrative agent under the senior credit facility.
At our election, revolving loans under the senior credit facility bear interest at annual rates equal to either (a) LIBOR for 1, 2 or 3 month periods, as we may select, plus an applicable margin of either 2.00% or 2.25%, or (b) the higher of the prime rate, the Federal Funds rate plus 0.5%, or a daily LIBOR rate, plus an applicable margin of either 1.00% or 1.50%. The applicable margin is determined based on availability under the senior credit facility with margins increasing as availability decreases. We also pay an unused line fee on the average amount by which the aggregate commitments exceed utilization of the senior credit facility equal to 0.375% per annum.
The senior credit facility includes certain affirmative and negative covenants that impose restrictions on our financial and business operations, including limitations on debt, liens, investments, fundamental changes in our business, asset dispositions, dividends and other similar restricted payments, transactions with affiliates, payments and modifications of certain existing debt, future negative pledges, and changes in the nature of our business. We are also required to maintain a fixed charge coverage ratio of 1.1 to 1.0 during any period that borrowing availability is less than $10.0 million.
We can use the proceeds of the senior credit facility for general corporate purposes, including financing acquisitions and refinancing other indebtedness. As of March 31, 2012, the unused borrowing availability under the senior credit facility was $18.1 million.
On September 13, 2011, the Company entered into a five-year $11.1 million mortgage loan. The mortgage loan is secured by the Company's Susan Street facility and liens secondary to the senior credit facility. The mortgage loan is scheduled to mature on September 13, 2016. The mortgage loan bears interest at a variable rate equal to one month LIBOR plus 3.00% and is payable in equal monthly installments of principal of $61 thousand, plus interest calculated on the declining balance of the mortgage loan, with a final payment of $7.4 million due on maturity.
 RECENT ACCOUNTING PRONOUNCEMENTS
In May 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS. This ASU represents the converged guidance of the FASB and the International Accounting Standards Board ("the Boards") on fair value measurement. The collective efforts of the Boards and their staffs have resulted in common requirements, including a consistent meaning of the term "fair value." The Boards have concluded the common requirements will result in greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and IFRS. The ASU was effective during the first quarter of 2012 and its adoption did not have a material effect on our Consolidated Condensed Financial Statements.
In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. This ASU eliminates the option to report other comprehensive income and its components in the statement of stockholders equity and requires the presentation of comprehensive income in either (1) a continuous statement of comprehensive income or (2) two separate but consecutive statements. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011 and should be applied retrospectively. We early adopted this ASU in the prior year and presented the components of other comprehensive income in a separate statement following the statement of operations. In December 2011, the FASB issued ASU 2011-12, Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05 . ASU 2011-12 deferred the changes in ASU 2011-05 that relate to the presentation of reclassification adjustments to other comprehensive income. These amendments were delayed to allow the FASB time to redeliberate whether to present the effects of reclassifications out of accumulated other comprehensive income on the components of net income and other comprehensive income on the face of the financial statements for all periods presented. While the FASB is considering the operational concerns about the presentation requirements for reclassification adjustments and the needs of financial statement users for additional information about reclassification adjustments, we are required to continue reporting reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before ASU 2011-05.

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In December 2011, the FASB issued ASU No. 2011-11, “Balance Sheet (Topic 210): Disclosures about Offsetting Assets and Liabilities.” The amendments in this ASU require an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. An entity is required to apply the amendments for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by those amendments retrospectively for all comparative periods presented. We do not expect that the adoption of this ASU will have a a material effect on our Consolidated Condensed Financial Statements.
CERTAIN FACTORS AFFECTING THE COMPANY'S PERFORMANCE
 
In addition to the other information provided in this Report, the risk factors included in Item 1A should be considered when evaluating results of our operations, future prospects and an investment in shares of our Common Stock. Any of these factors could cause our actual financial results to differ materially from our historical results, and could give rise to events that might have a material adverse effect on our business, financial condition and results of operations.
 
FORWARD-LOOKING INFORMATION
 
This Report contains statements that may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended. These statements include the use of terms or phrases that include such terms as "expects," "estimates," "projects," "believes," "anticipates," "intends," and similar terms and phrases. Such forward looking statements relate to, among other matters, our future financial performance, business prospects, growth strategies or liquidity. The following important factors may affect our future results and could cause those results to differ materially from our historical results; these factors include, in addition to those “Risk Factors” detailed in item 1A of this report and described elsewhere in this document, the cost and availability of capital, raw material and transportation costs related to petroleum price levels, the cost and availability of energy supplies, the loss of a significant customer or group of customers, materially adverse changes in economic conditions generally in carpet, rug and floor covering markets we serve and other risks detailed from time to time in our filings with the Securities and Exchange Commission.
Item 3.    Quantitative and Qualitative Disclosures about Market Risk (Dollars in thousands)

Our earnings, cash flows and financial position are exposed to market risks relating to interest rates, among other factors.  It is our policy to minimize our exposure to adverse changes in interest rates and manage interest rate risks inherent in funding our Company with debt.  We address this financial exposure through a risk management program that includes maintaining a mix of fixed and floating rate debt and the use of interest rate swap agreements (See Note I to the Consolidated Condensed Financial Statements).

At March 31, 2012, $28,093, or approximately 38% of our total debt, was subject to floating interest rates.  A 10% fluctuation in the variable interest rates applicable to this floating rate debt would have an annual after-tax impact of approximately $60.

Item 4 - Controls and Procedures

We maintain disclosure controls and procedures to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms and is accumulated and communicated to management, including our principal executive officer and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.  Our management, under the supervision and with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”) evaluated  the effectiveness of the design and operation of our disclosure controls and procedures (as such terms are defined in Rules 13(a)-15(e) and 15(d)-15(e)) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of March 31, 2012, the date of the financial statements included in this Form 10-Q (the “Evaluation Date”). Based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of the Evaluation Date.  

No changes in our internal control over financial reporting occurred during the quarter covered by this report that materially affected, or are reasonably likely to affect, our internal control over financial reporting.

Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures, as well as diverse interpretation of U. S. generally accepted accounting principles by accounting professionals.  It is also possible that internal control over financial reporting can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. Furthermore, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.  These inherent limitations are known features of the financial reporting process; therefore, while it is possible to design into the process safeguards to reduce such risk, it is not possible to eliminate all risk.



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PART II. OTHER INFORMATION

Item 1 - Legal Proceedings
None.

Item 1A - Risk Factors

In addition to the other information provided in this Report, the following risk factors should be considered when evaluating results of our operations, future prospects and an investment in shares of our Common Stock.  Any of these factors could cause our actual financial results to differ materially from our historical results, and could give rise to events that might have a material adverse effect on our business, financial condition and results of operations.
 
The floorcovering industry is cyclical and prolonged declines in residential or commercial construction activity or corporate remodeling and refurbishment could have a material adverse effect on our business. Factors that affect such declines may include:
 
•
consumer confidence;
•
housing demand;
•
financing availability;
•
national and local economic conditions;
•
interest rates;
•
employment levels;
•
changes in disposable income;
•
commercial rental vacancy rates; and
•
federal and state income tax policies.
 
Our product concentration in the higher-end of the residential and commercial markets could significantly affect the impact of these factors on our business.

We have significant levels of sales in certain channels of distribution.

A significant amount of our sales are generated through certain retail and mass merchant channels of distribution. A significant reduction of sales through these channels could adversely affect our results.

We have significant levels of indebtedness.
 
We have significant amounts of debt relative to our equity. If our cash flow or profitability are insufficient, the value of our assets securing our loans are insufficient or we are unable to access the debt or equity markets at competitive rates or in sufficient amounts, it could materially adversely affect our ability to generate sufficient funds to satisfy the terms of our senior loan agreements and other debt obligations.
 
We face intense competition in our industry, which could decrease demand for our products and could have a material adverse effect on our profitability.
 
The floorcovering industry is highly competitive.  We face competition from a number of domestic manufacturers and independent distributors of floorcovering products and, in certain product areas, foreign manufacturers.  There has been significant consolidation within the floorcovering industry that has caused a number of our existing and potential competitors to be significantly larger and have significantly greater resources and access to capital than we do. Maintaining our competitive position may require us to make substantial additional investments in our product development efforts, manufacturing facilities, distribution network and sales and marketing activities, which may be limited by our access to capital, as well as restrictions set forth in our credit facilities.  Competitive pressures may also result in decreased demand for our products and in the loss of market share.  In addition, we face, and will continue to face, pressure on sales prices of our products from competitors.  As a result of any of these factors, there could be a material adverse effect on our sales and profitability.
 
Raw material prices may increase.
 
The cost of raw materials has a significant impact on our profitability.  In particular, our business requires the purchase of large volumes of nylon and polyester yarn, as well as wool yarns, synthetic backing, latex, and dyes.  Increases in the cost of these raw materials could materially adversely affect our business, results of operations and financial condition if we are unable to pass these increases through to our customers.  We believe we are successful in passing along raw material and other cost increases as they may occur; however, there can be no assurance that we will successfully recover such increases in cost.
 




    
22


Unanticipated termination or interruption of our arrangements with third-party suppliers of nylon yarn could have a material adverse effect on us.
 
Nylon yarn is the principal raw material used in our floorcovering products.  A significant portion of such yarn is purchased from one supplier. We believe there are other sources of nylon yarns; however, an unanticipated termination or interruption of our supply arrangements could adversely affect our ability to supply our customers and could be material.
 
Environmental, safety and health regulatory governance.
 
Various federal, state and local environmental laws govern the use of our current and former facilities. These laws govern such matters as:
 
•
Discharges to air and water;
•
Handling and disposal of solid and hazardous substances and waste; and
•
Remediation of contamination from releases of hazardous substances in our facilities and off-site disposal locations.
 
Our operations also are governed by laws relating to workplace safety and worker health, which, among other things, establish noise standards and regulate the use of hazardous materials and chemicals in the workplace. We have taken, and will continue to take, steps to comply with these laws. If we fail to comply with present or future environmental or safety regulations, we could be subject to future liabilities. However, we cannot ensure that complying with these environmental or health and safety laws and requirements will not adversely affect our business, results of operations and financial condition. Future laws, ordinances or regulations could give rise to additional compliance or remediation costs that could have a material adverse effect on our business, results of operations and financial condition.
 
Acts of Terrorism.
 
Our business could be materially adversely affected as a result of international conflicts or acts of terrorism.  Terrorist acts or acts of war may cause damage or disruption to our facilities, employees, customers, suppliers, and distributors, which could have a material adverse effect on our business, results of operations or financial condition.  Such conflicts also may cause damage or disruption to transportation and communication systems and to our ability to manage logistics in such an environment, including receipt of supplies and distribution of products.
 
Unanticipated Business Interruptions.
 
Our business could be adversely affected if a significant portion of our plant, equipment or operations were damaged or interrupted by a casualty, condemnation, utility service, work stoppage or other event beyond our control.  Such an event could have a material adverse effect on our business, results of operations and financial condition.

Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds

The following table provides information regarding our repurchases of shares of our Common Stock during the three months ended March 31, 2012:
Month Ending
 
Total Number of Shares Purchased
 
Average Price Paid Per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1)
Maximum Number (or approximate dollar value) of Shares That May Yet Be Purchased Under Plans or Programs
February 4, 2012
 
—

 
$
—

 
—

 
March 3, 2012
 
—

 
—

 
—

 
March 31, 2012
 
37,044

 
4.16

 
37,044

 
Three Months Ended March 31, 2012
 
37,044

 
$
4.16

 
$
37,044

$
4,520,679


(1)  On August 8, 2007, we announced a program to repurchase up to $10 million of our Common Stock.

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Item 3 - Defaults Upon Senior Securities
None.

Item 4 - Mine Safety Disclosures
None.

Item 5 - Other Information
None.

Item 6 - Exhibits
(a.)
Exhibits
31.1
CEO Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
CFO Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1
CEO Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2
CFO Certification pursuant to 18 U.S. C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document





    
24




SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
THE DIXIE GROUP, INC.
 
       
(Registrant)
 
 
 
Date: May 8, 2012
      
By: /s/ JON A. FAULKNER
 
 
Jon A. Faulkner
Vice President and Chief Financial Officer
 
 
 
Date: May 8, 2012
 
By: /s/ D. EUGENE LASATER
 
 
D. Eugene Lasater
Controller



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