| OVERHILL FARMS INC Item 1A Risk Factors 2 ITEM 1A RISK FACTORS ------------ OUR ABILITY TO COMPETE EFFECTIVELY IN THE HIGHLY COMPETITIVE FOOD INDUSTRY MAY AFFECT OUR OPERATIONAL PERFORMANCE AND FINANCIAL RESULTS Our continued success depends in part on our ability to be an efficient producer in the highly competitive food industry |
| We face competition in all of our markets from large, national companies and smaller, regional operators |
| Some of our competitors, including other diversified food companies, are larger and have greater financial resources than we do |
| From time to time, we experience price pressure in certain of our markets as a result of competitors &apos promotional pricing practices as well as general market conditions |
| Our failure to match or exceed our competitors &apos cost reductions through productivity gains and other improvements could weaken our competitive position |
| Competition is based on product quality, distribution effectiveness, brand loyalty, price, effective promotional activities, the ability to identify and satisfy emerging consumer preferences and the ability to provide ancillary support services |
| We may not be able to effectively compete with these larger, more diversified companies |
| 2 THE LOSS OR CONSOLIDATION OF ANY OF OUR KEY CUSTOMERS COULD ADVERSELY AFFECT OUR FINANCIAL RESULTS BY DECREASING OUR EXISTING SALES OPPORTUNITIES AND PRICES AND INCREASING OUR MARKETING AND PROMOTIONAL EXPENSES The largest purchasers of our products, Panda Restaurant Group, Inc |
| and Jenny Craig, Inc, accounted for approximately 35prca and 28prca, respectively, of our total net revenues during the fiscal year ended October 1, 2006 |
| Despite an expected decline in sales to Panda Restaurant Group, Inc |
| in fiscal year 2007, we continue to expect that our sales to these customers will continue to constitute a significant percentage of our net revenues |
| The loss of either of these customers as a significant outlet for our products could adversely affect our competitive position and operating results if we do not obtain additional customers to offset any change in these accounts |
| FUTURE DECLINES IN AIR TRAVEL AND BANKRUPTCIES OR OTHER FINANCIAL DIFFICULTIES OF OUR AIRLINE CUSTOMERS MAY ADVERSELY AFFECT OUR REVENUES, COSTS AND COLLECTIONS In fiscal year 2006, sales to airline customers were approximately dlra21dtta6 million, or 12dtta8prca of total net revenues, as compared to sales of dlra30dtta5 million in fiscal year 2005 and dlra29dtta2 million in fiscal year 2004, representing 18dtta8prca and 21dtta8prca of total net revenues in fiscal years 2005 and 2004, respectively |
| Additionally, accounts receivable from airline-related customers accounted for approximately 14dtta5prca and 20dtta8prca of the total accounts receivable balance at October 1, 2006 and October 2, 2005, respectively |
| The events of September 11, 2001 significantly reduced our sales to airline customers during the first half of fiscal year 2004 |
| Approximately dlra134cmam000 of our receivables from Delta Airlines were written-off in fiscal year 2005 |
| Northwest Airlines &apos bankruptcy filing had no financial impact on us since our receivables relating to that airline are due from a financially stable independent third-party distributor |
| Given the financial and business challenges facing the airline industry, we carefully monitor our receivables from all of our customers in this sector |
| The ongoing effect of these events on the airline industry, airline revenues, and on our business in particular, or the impact of a future occurrence of a similar event, cannot be accurately determined and could further adversely affect our financial position, results of operations or cash flows by, among other things, decreasing our sales to and making it more difficult to collect receivables from airline customers |
| WE ARE A MAJOR PURCHASER OF MANY COMMODITIES THAT WE USE FOR RAW MATERIALS AND PACKAGING, AND PRICE CHANGES FOR THE COMMODITIES WE DEPEND ON MAY ADVERSELY AFFECT OUR PROFITABILITY We enter into contracts for the purchase of raw materials at fixed prices, which are designed to protect us against raw material price increases during their term |
| However, when necessary, we attempt to recover our commodity cost increases by increasing prices, promoting a higher-margin product mix and creating additional operating efficiencies |
| Nevertheless, the raw materials used in our business are largely commodities that experience price fluctuations caused by external conditions and changes in governmental agricultural programs |
| We also use paper products, such as corrugated cardboard, aluminum products, films and plastics to package our products |
| Substantial increases in prices of packaging materials or higher prices of our raw materials could adversely affect our operating performance and financial results |
| Commodity price changes may result in unexpected increases in raw material and packaging costs, and we may be unable to increase our prices to offset these increased costs without suffering reduced volume, revenue and income |
| Any substantial fluctuation in the prices of raw materials, if not offset by increases in our sales prices, could adversely affect our profitability |
| CONCERNS WITH THE SAFETY AND QUALITY OF FOOD PRODUCTS COULD CAUSE CUSTOMERS TO AVOID OUR PRODUCTS We could be adversely affected if our customers and the ultimate consumers of our products lose confidence in the safety and quality of various food products |
| Adverse publicity about these types of concerns, like the publicity about genetically modified organisms and avian influenza, whether or not valid, may discourage our customers from buying our products or cause production and delivery disruptions |
| Any negative change in customer perceptions about the safety and quality of our products could adversely affect our business and financial condition |
| 3 IF OUR FOOD PRODUCTS BECOME ADULTERATED OR MISBRANDED, WE WOULD NEED TO RECALL THOSE ITEMS AND MAY EXPERIENCE PRODUCT LIABILITY CLAIMS IF CONSUMERS ARE INJURED AS A RESULT Food products occasionally contain contaminants due to inherent defects in those products or improper storage or handling |
| Under adverse circumstances, food manufacturers may need to recall some of their products if they become adulterated or misbranded and may also be liable if the consumption of any of their products causes injury |
| While we have never been required to recall any of our products and we maintain insurance that we believe is adequate to cover this type of loss, a widespread product recall could result in changes to one or more of our business processes, product shortages, a loss of customer confidence in our food or other adverse effects on our business |
| If we are required to defend against a product liability claim, whether or not we are found liable under the claim, we could incur substantial costs, our reputation could suffer and our customers might substantially reduce their existing or future orders from us |
| OUR BUSINESS IS SUBJECT TO FEDERAL, STATE AND LOCAL GOVERNMENT REGULATIONS THAT COULD ADVERSELY AFFECT OUR BUSINESS AND FINANCIAL POSITION Food manufacturing operations are subject to regulation by various federal, state and local government entities and agencies |
| As a producer of food products for human consumption, our operations are subject to stringent production, packaging, quality, labeling and distribution standards, including regulations mandated by the Federal Food, Drug and Cosmetic Act |
| We cannot predict whether future regulation by various federal, state and local governmental entities and agencies would adversely affect our business and financial results |
| In addition, our business operations and the past and present ownership and operation of our properties are subject to extensive and changing federal, state and local environmental laws and regulations pertaining to the discharge of materials into the environment, the handling and disposition of wastes (including solid and hazardous wastes) or otherwise relating to protection of the environment |
| We cannot assure that environmental issues relating to presently known matters or identified sites or to other matters or sites will not require additional, currently unanticipated investigation, assessment or expenditures |
| WE MAY NOT BE ABLE TO PROTECT OUR INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS, WHICH COULD HARM OUR COMPETITIVE POSITION, RESULTING IN DECREASED REVENUE We believe that our trademarks and other proprietary rights, though few in number, are important to our success and competitive position |
| Accordingly, we devote what we believe are adequate resources to the establishment and protection of our trademarks and proprietary rights |
| We have taken actions to establish and protect our trademarks and other proprietary rights |
| However, these actions may be inadequate to prevent imitation of our products by others or to prevent others from claiming violations of their trademarks and proprietary rights by us |
| From time to time, we manufacture products under our customers &apos trademarks |
| While we generally require them to agree to indemnify us in connection with our use of their trademarks, it is possible that we could face infringement actions based upon the content provided by our customers |
| If any of these claims are proved valid, through litigation or otherwise, we may be required to cease using the trademarks and/or pay financial damages and/or expenses for which we are not indemnified |
| Though we have long-term business relationships with many of our customers and suppliers and alternative sources of supply for key items, we cannot be sure that any of these customers or suppliers will continue to do business with us on the same basis |
| Additionally, although we try to renew these 4 contracts as they expire, there can be no assurance that these customers or suppliers will renew these contracts on terms that are favorable to us, if at all |
| The termination of or modification to any number of these contracts may adversely affect our business and prospects, including our financial performance and results of operations |
| OUR COMMON STOCK PRICE IS SUBJECT TO SIGNIFICANT VOLATILITY, WHICH COULD RESULT IN SUBSTANTIAL LOSSES FOR INVESTORS During the 52-week period ended November 27, 2006, the high and low sales prices of our common stock on the American Stock Exchange ( "e Amex "e ) were dlra4dtta24 per share and dlra2dtta50 per share, respectively |
| Prices for our shares are determined in the marketplace and may accordingly be influenced by many factors, including, but not limited to: o the depth and liquidity of the market for the shares; o quarter-to-quarter variations in our operating results; o announcements about our performance as well as the announcements of our competitors about the performance of their businesses; o investors &apos evaluations of our future prospects and the food industry generally; o changes in earnings estimates by, or failure to meet the expectations of, securities analysts; o our dividend policy; and o general economic and market conditions |
| In addition, the stock market often experiences significant price fluctuations that are unrelated to the operating performance of the specific companies whose stock is traded |
| These market fluctuations could adversely affect the trading price of our shares |
| The price at which investors purchase shares of our common stock may not be indicative of the price that will prevail in the trading market |
| Investors may be unable to sell their shares of common stock at or above their purchase price, which may result in substantial losses |
| OUR FAILURE TO ATTRACT AND RETAIN KEY MANAGEMENT PERSONNEL COULD ADVERSELY AFFECT OUR BUSINESS Our business requires managerial, financial and operational expertise, and our future success depends upon the continued service of key personnel |
| As a value-added manufacturer of quality frozen food products and custom prepared foods, we operate in a specialized industry |
| Our key personnel have experience and skills specific to this industry, and there are a limited number of individuals with the relevant experience and skills |
| Though we have an employment agreement with Mr |
| Rudis, the agreement provides for voluntary resignation on the part of Mr |
| Rudis prior to the end of the term of the agreement |
| If we lose any of our key personnel, our business operations could be adversely affected |
| A CHANGE IN CONTROL COULD RESULT IN AN EVENT OF DEFAULT UNDER OUR SECURED CREDIT FACILITY, WHICH COULD ADVERSELY AFFECT OUR FINANCIAL CONDITION, RESULTS OF OPERATIONS OR CASH FLOWS Our secured credit facility provides that a change in control would occur if, among other occurrences, Mr |
| Rudis ceases to be our chief executive officer other than due to death or disability or if a suitable replacement chief executive officer has not accepted appointment within 90 days after Mr |
| Rudis &apos death or disability, any person or group becomes the beneficial owner of 35prca or more of our voting stock, or certain changes in the composition of our board occur during any period of two consecutive years |
| The occurrence of a change in control could permit the secured parties to terminate or reduce their loan 5 commitments, declare all or a portion of loans then outstanding to be due and payable, and/or exercise other available rights and remedies |
| Depending on our financial condition at the time, we may not be able to raise sufficient funds to repay this indebtedness upon an event of default |
| Accordingly, the occurrence of a change in control could adversely affect our financial condition, results of operations or cash flows |
| IF WE VIOLATE OUR FINANCIAL AND OTHER COVENANTS UNDER OUR SECURED CREDIT FACILITY, OUR FINANCIAL CONDITION, RESULTS OF OPERATIONS OR CASH FLOWS MAY BE ADVERSELY AFFECTED BY PERMITTING SECURED PARTIES TO FORECLOSE ON OUR ASSETS OR IMPOSING ON US DEFAULT RATES OF INTEREST Our dlra47dtta5 million senior secured credit facility with a five-year maturity, maturing in May 2011, is secured by a first priority lien on substantially all of our assets |
| The facility contains covenants whereby, among other things, we are required to maintain compliance with agreed levels of EBITDA, interest coverage, fixed charge coverage, leverage targets, and annual capital expenditures and incremental indebtedness limits |
| If we violate these covenants and are unable to obtain waivers or renegotiate the terms of the covenants, we could become subject to, among other things, interest rate increases and acceleration of maturity of the loans, which could adversely affect our financial condition, results of operations or cash flows |
| A SMALL NUMBER OF STOCKHOLDERS BENEFICIALLY OWNS A SIGNIFICANT PERCENTAGE OF OUR OUTSTANDING COMMON STOCK AND THEREFORE COULD SIGNIFICANTLY INFLUENCE OR CONTROL MATTERS REQUIRING STOCKHOLDER APPROVAL Assuming the exercise of the aggregate options issued to our executive officers and directors to purchase shares of our common stock, our executive officers and directors and stockholders who beneficially own greater than 5prca of our common stock were beneficial owners, in the aggregate, of approximately 52prca of our outstanding common stock as of November 27, 2006 |
| These stockholders, if acting together, could be able to significantly influence or control matters requiring approval by our stockholders, including the election of directors and the approval of mergers or other business combination transactions |
| FUTURE SALES OF SHARES OF OUR COMMON STOCK BY OUR STOCKHOLDERS COULD CAUSE OUR STOCK PRICE TO DECLINE We cannot predict the effect, if any, that market sales of shares of our common stock or the availability of shares of common stock for sale will have on the market price prevailing from time to time |
| As of November 27, 2006, we had outstanding 15cmam267cmam271 shares of common stock |
| An aggregate of 5cmam283cmam861 of these shares were then included for resale under a registration statement that was declared effective on April 13, 2006 |
| As of November 27, 2006, there were outstanding options to purchase up to 1cmam102cmam000 shares of common stock |
| All of the shares of common stock underlying these options are covered on an existing effective registration statement |
| Sales of shares of our common stock in the public market covered under the effective registration statement, or the perception that those sales may occur, could cause the trading price of our common stock to decrease or to be lower than it might be in the absence of those sales or perceptions |
| OUR ARTICLES OF INCORPORATION, OUR BYLAWS AND PROVISIONS OF NEVADA LAW COULD MAKE IT MORE DIFFICULT FOR A THIRD PARTY TO ACQUIRE US, EVEN IF DOING SO COULD BE IN OUR STOCKHOLDERS &apos BEST INTEREST Provisions of our articles of incorporation and bylaws could make it more difficult for a third party to acquire us, even if doing so might be in the best interest of our stockholders |
| It could be difficult for a potential bidder to acquire us because our articles of incorporation and bylaws contain provisions that may discourage takeover attempts |
| These provisions may limit stockholders &apos ability to approve a transaction that stockholders may think is in their best interests |
| These provisions include a requirement that certain procedures must be followed before matters can be proposed for consideration at meetings of our stockholders and also include the ability of our board of directors to fix the rights and preferences of an issue of shares of preferred stock without stockholder action |
| Provisions of Nevadaapstas business combinations statute also restrict certain business combinations with interested stockholders |
| We have elected not to be governed by these provisions in our amended and restated articles of incorporation |
| However, this election may not be effective unless we meet certain conditions under the Nevada statute |
| 6 The provisions of our articles of incorporation, bylaws and Nevada law are intended to encourage potential acquirers to negotiate with us and allow the board of directors the opportunity to consider alternative proposals in the interest of maximizing stockholder value |
| However, those provisions may also discourage acquisition proposals or delay or prevent a change in control |