LIQUIDITY AND CAPITAL RESOURCES

We believe our operating cash flows, credit availability under our senior loan and security agreement and other sources of financing are adequate to finance our normal foreseeable liquidity requirements. We will continue to aggressively manage all elements of our business affecting cash including working capital and capital expenditures. However, deterioration in our markets or significant additional cash expenditures above our normal liquidity requirements could require supplemental financing or other funding sources. There can be no assurance that such supplemental financing or other sources of funding can be obtained or will be obtained on terms favorable to us.

 

Cash Sources and Uses. During the year ended December 29, 2012, cash provided from financing activities was $9.3 million and was supplemented by $187 thousand of proceeds related to fixed asset sales resulting in cash inflows of $9.5 million. $4.7 million was used to fund our operating activities, $3.4 million to invest in property, plant and equipment and $1.2 million for the cash component of two acquisitions. Working capital increased $10.5 million in 2012, primarily as a result of an increase in inventories of $8.3 million to support higher levels of business activity and an opportunistic purchase of certain inventories from a carpet industry competitor to incorporate the products into our product line going forward. Additionally, our receivables increased $3.3 million primarily associated with a higher level of sales while other current assets increased $2.5 million primarily related to funds that were placed in escrow in advance of a pending machinery lease transaction in progress. Accrued expenses increased in 2012 primarily as a result in the timing of payroll disbursements in the comparative periods and the current portion of debt reflected an increase of $1.3 million as of the 2012 balance sheet date compared with the 2011 comparative period.

During the year ended December 31, 2011, cash generated from operating activities was $5.1 million and was supplemented by an increase in the senior indebtedness of $12.6 million and $366 thousand from an increase in outstanding checks in excess of cash utilized. These funds were used to finance our operations, fund the early redemption of $9.7 million of convertible subordinated debentures, purchase $6.7 million of property, plant and equipment, fund $1.4 million of debt issuance costs and acquire treasury stock for $131 thousand. Working capital increased $9.9 million in 2011 principally as a result of an increase of $5.6 million in inventories to support higher levels of business activity and $4.4 million to reduce the current portion of long-term debt. Trade receivables decreased $1.5 million in 2011 primarily as a result of customer mix.

During the year ended December 25, 2010, cash generated from operating activities was $3.9 million. These funds were supplemented by $784 thousand from an increase in outstanding checks in excess of cash utilized. These funds were used to support our operations, purchase $1.8 million of property, plant and equipment and retire $2.6 million of debt and capital leases. Working capital increased $3.9 million in 2010 principally due to higher current deferred tax assets and a reduction in the current

portion of long-term debt. The level of inventories increased $3.1 million to support higher business activity. Trade receivables increased $8.8 million commensurate with increased sales activity while taxes receivable decreased $6.8 million. Accounts payable and accrued expenses increased $5.3 million principally associated with the increase in inventories and certain accrued expenses associated with the increase in sales.

Capital expenditures, excluding assets acquired under business acquisitions, were $4.1 million in 2012; $3.4 million through funded debt and $666 thousand of equipment acquired under a capitalized lease, $6.7 million in 2011 and $1.8 million in 2010. Depreciation and amortization were $9.4 million in 2012, $9.6 million in 2011 and $11.6 million in 2010. A significant portion of capital expenditures in 2012 and 2011 were directed toward new and more efficient manufacturing capabilities and, to a lesser extent, computer software enhancements. Capital expenditures in 2010 primarily related to facilities and existing equipment. We expect capital expenditures to be approximately $8.0 million in 2013, while depreciation and amortization are expected to be approximately $10.0 million. Planned capital expenditures in 2013 are directed toward both new manufacturing equipment and certain of our continuous dyeing equipment.

Revolving Credit Facility. 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. The weighted-average interest rate on borrowings outstanding under this agreement was 3.59% at December 29, 2012 and 3.76% at December 31, 2011. 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 December 29, 2012, the unused borrowing availability under the senior credit facility was $20.5 million.

Mortgage Note Payable. On September 13, 2011, we 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.

Debt Amendments. On November 2, 2012, we amended our senior credit facility and mortgage note payable to modify certain definitions to effectively exclude up to $2.0 million of costs in the fixed cost coverage ratio calculation as a result of our acquisition of a continuous carpet dyeing facility. Additionally, we subordinated the interests of our lender under our senior credit facility to the interests of the seller of the continuous dyeing assets to facilitate the seller financing of the transaction.

Obligation to Development Authority of Gordon County. On November 2, 2012, we signed a 6% seller-financed note of $5.5 million with Lineage PCR, Inc. ( “ Lineage ” ) related to the acquisition of the continuous carpet dyeing facility in Calhoun, Georgia. Effective December 28, 2012 through a series of agreements between us, the Development Authority of Gordon County, Georgia (the “ Authority ” ) and Lineage, obligations with identical payment terms as the original note to Lineage are now payment obligations to the Authority. These transactions were consummated in order to provide us with a tax abatement to the related real estate and equipment at this facility. The tax abatement plan provides for abatement for certain components of the real and personal property taxes for up to ten years. At any time, we have the option to pay off the obligation, plus a nominal amount. The debt to the Authority bears interest at 6% and is payable in equal monthly installments of principal and interest of $106 thousand over 57 months.

Deferred Financing Costs and Refinancing Expenses. In connection with the amendment in 2012, we incurred an additional $28 thousand in financing costs that is being amortized over the remaining term of the senior credit facility and the mortgage loan. We incurred $187 thousand in financing costs related to the issuance of the bonds that is being amortized over the term of the bonds. As a result of the refinancing in 2011, we paid $1.4 million in financing costs that is being amortized over the term of the senior credit facility and the mortgage loan. Additionally in 2011, we recognized $317 thousand of refinancing expenses of

which $92 thousand related to the write-off of previously deferred financing costs and $225 thousand related to fees paid to 3rd parties in connection with the new senior credit facility and mortgage loan.

Convertible Subordinated Debentures. On October 5, 2011, we optionally redeemed all of the outstanding 7.00% convertible subordinated debentures pursuant to the provisions of the Indenture dated May 15, 1987. The debentures were originally set to mature on May 15, 2012. The redemption price of $9.9 million represented 100% of the principal amount of the debentures plus accrued and unpaid interest. The principal balance at October 5, 2011 was $9.7 million. The debentures were convertible by their holders into shares of our Common Stock at effective conversion price of $32.20 per share. No holders exercised their right to convert their debentures into shares of our Common Stock.

Equipment Notes Payable. Our equipment financing notes have terms ranging from four to seven years, are secured by the specific equipment financed, bear interest ranging from 2.0% to 7.72% and are due in monthly installments of principal and interest ranging from $2 thousand to $41 thousand through February 2019.  The notes do not contain financial covenants.

Capital Lease Obligations. Our capitalized lease obligations have terms ranging from four to seven years, are secured by the specific equipment leased, bear interest ranging from 2.90% to 7.72% and are due in monthly installments of principal and interest ranging from $1 thousand to $32 thousand through October 2018.

 

Interest Payments. Interest payments for continuing operations were $2.8 million in 2012, $3.3 million in 2011 and $4.0 million in 2010.

Stock-Based Awards. We recognize compensation expense related to share-based stock awards based on the fair value of the equity instrument over the period of vesting for the individual stock awards that were granted. At December 29, 2012, the total unrecognized compensation expense related to non-vested restricted stock awards was $1.1 million with a weighted-average vesting period of 4.5 years and unrecognized compensation expense related to unvested stock options was $72 thousand with a weighted-average vesting period of 1.9 years.

Off-Balance Sheet Arrangements. We have no off-balance sheet arrangements at December 29, 2012 or December 31, 2011.

Income Tax Considerations. During the first quarter of 2012, we paid approximately $1.3 million representing a settlement reached with the Internal Revenue Service for an audit for the tax years of 2004 through 2009. The settlement is related to temporary differences between the carrying amounts of assets for financial reporting purposes and the tax basis of those assets; accordingly the settlement resulted in an increase in deferred taxes and had no significant impact on tax expense.

Excluding the Internal Revenue Service settlement paid in 2012, we anticipate cash outlays for income taxes to be relatively equivalent to our provision for income taxes in 2013 and expect our cash outlay for taxes to exceed our tax provision in 2014 and 2015. The anticipated differences in 2014 and 2015 are associated with timing differences between the book basis and tax basis of long-lived, depreciable assets. Such differences could be in the range of $2.0 million in each of the periods, although there are many factors that could alter the actual experience. At December 29, 2012, we are in a net deferred tax asset position of $1.8 million. We performed an analysis, including an evaluation of certain tax planning strategies available to us, related to the net deferred tax asset and believe, absent tax law changes, that the net tax asset is recoverable in future periods, including a $394 thousand federal income tax credit carry-forward and federal net operating loss carry-forward. Approximately $4.8 million of future taxable income would be required to realize the deferred tax asset. During 2012, we decreased our tax valuation reserve related to future benefits for state net operating loss carry-forwards by $41 thousand because the underlying tax assets decreased.

Discontinued Operations - Environmental Contingencies. We have reserves for environmental obligations established at five previously owned sites that were associated with our discontinued textile businesses. Each site has a Corrective Action Plan (“CAP”) with the applicable authoritative state regulatory body responsible for oversight for environmental compliance. The CAP for four of these sites involves natural attenuation (degradation of the contaminants through naturally occurring events) over periods estimated at 10 to 20 years and the CAP on the remaining site involves a pump and treat remediation process, estimated to occur over a period of 20 to 30 years. Additionally, we have a reserve for an environmental liability on the property of a facility and related business that was sold in 2004. The CAP has a specified remediation term estimated to be 5 years subsequent to 2012. The total costs for remediation for all of these sites were $173 thousand, $83 thousand for normal ongoing remediation costs and $90 thousand for remediation to specific initiatives in 2012. We expect normal remediation costs to approximate $100 thousand annually. We have a reserve of $1.8 million for environmental liabilities at these sites as of December 29, 2012. The liability established represents our best estimate of loss and is the reasonable amount to which there is any meaningful degree of certainty given the periods of estimated remediation and the dollars applicable to such remediation for those periods. 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 were primarily a result of specific events requiring action and additional expense in each period.

Fair Value of Financial Instruments . Due to our limited use of fair value instruments related to either assets or liabilities, we do not consider such valuations to rise to the level of critical accounting estimates related to the portrayal of our financial

statements. Within the overall utilization of fair value, only $1.9 million of liabilities fall under a level 3 classification (those subject to significant management judgment or estimation). These liabilities were estimated based on a third party valuations.

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 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. In February 2013, the FASB issued ASU No. 2013-02, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income. ASU 2013-02 requires us to provide information about the amounts reclassified out of accumulated other comprehensive income by component. In addition, we are required to present significant amounts reclassified out of accumulated other comprehensive income by the respective line items of net income. ASU 2013-02 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2012. As the new standard does not change the current requirements for reporting net income or other comprehensive income in the financial statements, we do not expect that the adoption of this ASU will have a material effect on our Consolidated Financial Statements.

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. In January 2013, the FASB issued ASU No. 2013-01, " Balance Sheet (Topic 210) - Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities" . The ASU clarifies that ordinary trade receivables and receivables are not in the scope of ASU No. 2011-11. ASU No. 2011-11 applies only to derivatives, repurchase agreements and reverse purchase agreements, and securities borrowing and securities lending transactions that are either offset in accordance with specific criteria contained in the Codification or subject to a master netting arrangement or similar agreement. The effective date is the same as the effective date of ASU 2011-11. We do not expect that the adoption of these ASUs will have a a material effect on our Consolidated Financial Statements.

In July 2012, the FASB issued ASU No. 2012-02, " Intangibles--Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment." This ASU states that an entity has the option first to assess qualitative factors to determine whether the existence of events and circumstances indicates that it is more likely than not that the indefinite-lived intangible asset is impaired. If, after assessing the totality of events and circumstances, an entity concludes that it is not more likely than not that the indefinite-lived intangible asset is impaired, then the entity is not required to take further action. However, if an entity concludes otherwise, then it is required to determine the fair value of the indefinite-lived intangible asset and perform the quantitative impairment test by comparing the fair value with the carrying amount in accordance with Codification Subtopic 350-30, " Intangibles--Goodwill and Other, General Intangibles Other than Goodwill." Under the guidance in this ASU, an entity also has the option to bypass the qualitative assessment for any indefinite-lived intangible asset in any period and proceed directly to performing the quantitative impairment test. An entity will be able to resume performing the qualitative assessment in any subsequent period. The amendments in this ASU are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted, including for annual and interim impairment tests performed as of a date before July 27, 2012, if a public entity's financial statements for the most recent annual or interim period have not yet been issued or, for nonpublic entities, have not yet been made available for issuance. We do not expect that the adoption of this ASU will have a a material effect on our Consolidated Financial Statements.

Certain Related Party Transactions. During the fiscal year ended December 29, 2012, we purchased a portion of our requirements for polyester fiber from Engineered Floors, an entity controlled by Robert E. Shaw. Mr. Shaw reported holding approximately 11% of our Common Stock, which as of year-end represented approximately 4% of the total vote of all classes of our Common Stock. Engineered Floors is one of our suppliers of fiber, but is our principal supplier of polyester fiber. Our total

purchases from Engineered Floors for 2012 were approximately $8.0 million; or approximately 8% of all our comparable external yarn purchases in 2012. Our purchases from Engineered Floors are based on market value, negotiated prices. We have no contractual arrangements or commitments with Mr. Shaw associated with our business relationship with Engineered Floors. Transactions with Engineered Floors were reviewed and approved by our board of directors as arms length and on terms no less favorable to us than similar purchases form other fiber suppliers.

 

CRITICAL ACCOUNTING POLICIES

 

Certain estimates and assumptions are made when preparing our financial statements. Estimates involve judgments with respect to, among other things, future economic factors that are difficult to predict. As a result, actual amounts could differ from estimates made when our financial statements are prepared.

 

The Securities and Exchange Commission requires management to identify its most critical accounting policies, defined as those that are both most important to the portrayal of our financial condition and operating results and the application of which requires our most difficult, subjective, and complex judgments. Although our estimates have not differed materially from our experience, such estimates pertain to inherently uncertain matters that could result in material differences in subsequent periods.

 

We believe application of the following accounting policies require significant judgments and estimates and represent our critical accounting policies. Other significant accounting policies are discussed in Note 1 to our Consolidated Financial Statements.