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Directors' Report for the year ended 30 June 2010

The Directors of Cavalier Corporation are pleased to announce Group normalised operating profit after tax for the year to 30 June 2010 of $16.6 million, which is up 22% on the previous year's equivalent of $13.7 million. This is a substantial improvement in earnings and comes from excellent performances across all of the Group's operations.

Financial Performance

The excellent operating result has been disguised somewhat by the one-off non-cash adjustments of $5.2 million to the Group's tax expense and to that of its equity-accounted investee (Cavalier Wool Holdings) as a result of the Government's 2010 Budget changes to tax depreciation on buildings and to tax rates.

This has had the effect of reducing the Group's normalised tax-paid profit of $16.6 million to a reported tax-paid profit of $11.4 million. 

The Directors reiterate the comments made previously about these one-off accounting adjustments and stress that they have no impact on the Group's underlying profitability, cash flows and, therefore, dividend policy or financing covenants.

In looking at the detailed results for the current period and comparing these with the results for the previous year, shareholders should note that the Cavalier Wool Holdings wool processing operation was accounted for as a subsidiary for most of the previous year, but as an equity-accounted investee for the whole of the current year.

Revenue for the Group of $220 million is down 11% on the previous period. On a like-for-like basis, and with the revenue of Cavalier Wool Holdings excluded from the comparative, Group revenue for the year is down just 3% on the previous year.  

Financial Position

The Group's financial position continues to strengthen.

The Group's proprietorship ratio (being shareholders' equity to total assets) as at 30 June 2010 is 48%, compared with 45% the previous year and 38% the year before that.

At the same time, the Group's leverage (being net interest bearing debt to sum of net interest bearing debt and shareholders' equity) has improved to 35%, compared with 42% and 50% as at 30 June 2009 and 30 June 2008 respectively.

The Group's significantly-improved financial position over the last couple of years has put it in an excellent position to weather the continuing difficult trading environment, particularly in New Zealand, but more importantly to make the most of the opportunities that may arise when economic conditions improve.

Cash Flows

Cash flows from operating activities are $26.7 million for the 2009/10 financial year, unchanged on that for the previous year despite not having had the benefit of the operating cash flows from Cavalier Wool Holdings since April 2009 when it ceased to be a subsidiary of the Group.

The continuing strong cash flows from operations can be attributed to the Group's unwavering focus on working capital and, more particularly, the levels of inventory employed in the business whilst maintaining the excellent levels of customer service.

The reduced spends on capital projects (after the previous couple of years of significant investments aimed at increasing capacity and improving operational efficiencies), dividends from Cavalier Wool Holdings and the introduction of the dividend reinvestment plan also aided the Group's cash flows in other areas.

As a result, the Group's net interest bearing debt as at 30 June 2010 is $49.8 million, which is a substantial reduction of $14.8 million on the previous period's equivalent of $64.6 million and $34 million on the $83.8 million two years ago.

Operations

Carpet business

Our carpet business specialises in broadloom carpets and carpet tiles. Whilst broadloom carpets are developed and manufactured for both residential and commercial uses, carpet tiles are designed for commercial use.

The global recession which started nearly two years ago resulted in the single largest downturn in the company's trading history and its effects are still being felt.

The Australian market is, however, recovering even though it still has some way to go to get to those activity levels seen before the global recession. Residential activity remained reasonably steady for much of the year, but commercial activity, which had been very quiet for the first three quarters of the year, is now showing strong signs of recovery. This is expected to continue and should lead to a pick up in both new build and refurbishment work.

In contrast, we continued to experience soft trading conditions in both residential and commercial in New Zealand, with little sign of improvement on the lows reached during the depth of the global recession in the 2008/09 financial year. The residential segment was affected by falling house prices, low real estate activity and low new building starts despite historic low mortgage interest rates. Unfortunately, it is not expected to improve until consumer confidence and favourable economic conditions return. The commercial segment fared no better, with the general lack of confidence and tight credit holding back new property developments.

Carpet's revenue of $199 million is down 5% on the previous year. Earnings (EBIT) of $22.5 million are, however, up 5%, with the cost reduction programmes instigated in the previous year more than offsetting the reduction in earnings from a lower revenue base. The Directors consider this to be a reasonable result in light of the tough trading conditions experienced. 

Wool business

Our wool business comprises the Elco Direct wool acquisition operation and our 50% interest in the Cavalier Wool Holdings wool scouring business.

Elco Direct had a very good year. Revenue is up 21% to $29 million and is due to keen buying by users of wool worldwide as they moved to replenish stocks after a considerable period of de-stocking following the global recession. The increase in revenue, together with the cost reduction programme we embarked on in the previous year, helped to lift earnings (EBIT) from the operation to $1.1 million, compared with a breakeven the previous year.

Cavalier Wool Holdings also enjoyed a very good year. The 2009/10 financial year is the first full financial year for the enlarged and restructured wool scouring operation following the purchase of the Godfrey Hirst scouring businesses in April 2009. The integration of the Godfrey Hirst scours went extremely well and Cavalier Wool Holdings was able to capture all the synergistic benefits that were identified at the outset. Full credit must go to management for adapting the enlarged operation to handle an almost doubling of throughput without any further significant capital spends and without compromising on quality and customer service.

The Group's share of the tax-paid earnings of Cavalier Wool Holdings for the 2009/10 year is $4.0 million (before the Group's share of its one-off tax charge of $1.3 million from the restatement of its deferred tax balance following the Government's 2010 Budget changes to tax legislation as explained earlier). This is substantially up on the earnings from this business in the previous year even though it is difficult to make a meaningful comparison against the previous year because of the restructuring and the consequent change in accounting for Cavalier Wool Holdings. Suffice to say, the results from the rationalisation of the wool scouring industry and the restructuring of Cavalier Wool Holdings have exceeded expectations.

Outlook

The Group has adapted well to the global recession to deliver a normalised tax-paid earnings of $16.6 million in the 2009/10 year, which is 22% up on the previous year.

Looking forward to the 2010/11 financial year, we believe that the effects of the global recession will linger on, and we will have to continue to deal with that.

However, we also believe that the impact will start to ease in Australia where revenues account for 54% of the Group's total revenues in the 2009/10 financial year. We are already seeing an increase in activity in the commercial carpet segment, and this should benefit both our carpet tile operation and our woollen broadloom carpet operation. At the same time, demand in the residential carpet segment has remained reasonably robust and should remain so, particularly as the Australian economy is expected to strengthen over the coming year.

Our bigger challenge by far is in New Zealand where we expect conditions to remain soft and similar to those experienced in the 2009/10 year. There is, however, a noticeable increase in refurbishment work in the hospitality sector ahead of the 2011 Rugby World Cup, and that is a positive for us.

We expect conditions for our wool operations to be similar to those in the 2009/10 year, but much will depend on the demand for wool internationally and, therefore, the volume of wool required to be scoured and sold.

In light of the continuing economic uncertainty, it is too early in the financial year to be providing an earnings guidance for the 2010/11 financial year. However, the budgets we have drawn up for 2010/11 show a modest 5% increase in tax-paid earnings on the $16.6 million normalised tax-paid earnings for 2009/10.

The Directors look forward to updating shareholders at the Annual Meeting in November and expect to be in a better position to provide them with an earnings guidance then. 

Dividends

The policy of paying dividends three times a year continues.

The Directors have declared a fully imputed final dividend for the year ended 30 June 2010 of 11 cents per share, an increase of 3 cents on the equivalent for the previous year.

This final dividend, together with the first interim dividend of 3 cents per share paid in December 2009 and the second interim of 4 cents per share paid in March 2010, gives a total of 18 cents per share, 3 cents up on the 15 cents per share for the previous year. This 3 cents represents a 20% increase in total dividends which is in line with the 22% increase in 2009/10 normalised earnings.

The final dividend will be paid on Friday, 15 October 2010. The share register will close at 5 p.m. on Friday, 1 October 2010 for the purpose of determining entitlement to the dividend (the record date) and will reopen on Monday, 4 October 2010.

Non-resident shareholders will also be receiving a supplementary dividend of 1.9412 cents per share together with their final dividend.

The Cavalier Corporation Limited Dividend Reinvestment Plan which allows shareholders to receive shares in the Company in lieu of dividends will apply to the final dividend. Shareholders wishing to participate and who have not previously notified the Company's share registrar must do so before 5 p.m. on Friday, 1 October 2010.

The Directors advise that the price for determining the number of shares to be issued in lieu of this dividend will be the volume weighted average sale price of all price-setting trades on the NZX over the five trading days from Monday, 4 October 2010 to Friday, 8 October 2010 without any discount.

For and on behalf of the Board of Directors

Wayne Chung

Managing Director

20 August 2010

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