UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-K

 

HORIZON LINES, INC.

(Exact name of registrant as specified in its charter)

 

 

4064 Colony Road, Suite 200, Charlotte, North Carolina 28211
(Address of principal executive offices)

(704) 973-7000

(Registrant’s telephone number, including area code)

 

NOT APPLICABLE

(Former name, former address and former fiscal year, if changed since last report)

 

Securities registered pursuant to Section 12 (b) of the Act:

 

 

Securities registered pursuant to Section 12 (g) of the Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes o     No x

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15 (d) of the Act.

Yes o     No x

 

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 a period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x     No o

 

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

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (229.405) of this chapter) is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

(Do not check if a smaller reporting company)

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o     No x

 

The aggregate market value of common stock held by non-affiliates, computed by reference to the closing price of the common stock as of the last business day of the registrant’s most recently completed second fiscal quarter, was approximately $77.2 million.

 

As of March 21, 2011, 30,771,710 shares of common stock, par value $.01 per share, were outstanding.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

The information required in Part III of this Form 10-K is incorporated by reference to the registrant’s definitive proxy statement to be filed for the Annual Meeting of Stockholders to be held June 2, 2011.

 

 

Horizon Lines, Inc.

 

FORM 10-K INDEX

 

 

Safe Harbor Statement

 

This Form 10-K (including the exhibits hereto) contains “forward-looking statements” within the meaning of the federal securities laws. These forward-looking statements are intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. Forward-looking statements are those that do not relate solely to historical fact. They include, but are not limited to, any statement that may predict, forecast, indicate or imply future results, performance, achievements or events. Words such as, but not limited to, “believe,” “expect,” “anticipate,” “estimate,” “intend,” “plan,” “targets,” “projects,” “likely,” “will,” “would,” “could” and similar expressions or phrases identify forward-looking statements.

 

All forward-looking statements involve risks and uncertainties. The occurrence of the events described, and the achievement of the expected results, depend on many events, some or all of which are not predictable or within our control. Actual results may differ materially from expected results.

Factors that may cause actual results to differ from expected results include:

 

 

In light of these risks and uncertainties, expected results or other anticipated events or circumstances discussed in this Form 10-K (including the exhibits hereto) might not occur. We undertake no obligation, and specifically decline any obligation, to publicly update or revise any forward-looking statements, even if experience or future developments make it clear that projected results expressed or implied in such statements will not be realized, except as may be required by law.

 

See the section entitled “Risk Factors” in this Form 10-K for a more complete discussion of these risks and uncertainties and for other risks and uncertainties. Those factors and the other risk factors described in this Form 10-K are not necessarily all of the important factors that could cause actual results or developments to differ materially from those expressed in any of our forward-looking statements. Other unknown or unpredictable factors also could harm our results. Consequently, there can be no assurance that actual results or developments anticipated by us will be realized or, even if substantially realized, that they will have the expected consequences to, or effects on, us. Given these uncertainties, prospective investors are cautioned not to place undue reliance on such forward-looking statements.

 

 

Background

 

Horizon Lines, Inc., a Delaware corporation, (the “Company” and together with its subsidiaries, “we”) operates as a holding company for Horizon Lines, LLC (“Horizon Lines”), a Delaware limited liability company and wholly-owned subsidiary, Horizon Logistics, LLC (“Horizon Logistics”), a Delaware limited liability company and wholly-owned subsidiary, Horizon Lines of Puerto Rico, Inc. (“HLPR”), a Delaware corporation and wholly-owned subsidiary, and Hawaii Stevedores, Inc. (“HSI”), a Hawaii corporation.

 

Our long operating history dates back to 1956, when Sea-Land Service, Inc. (“Sea-Land”) pioneered the marine container shipping industry and established our business. In 1958 we introduced container shipping to the Puerto Rico market, and in 1964 we pioneered container shipping in Alaska with the first year-round scheduled vessel service. In 1987, we began providing container shipping services between the U.S. west coast and Hawaii and Guam through our acquisition from an existing carrier of all of its vessels and certain other assets that were already serving that market. In December 1999, CSX Corporation, the former parent of Sea-Land Domestic Shipping, LLC (“SLDS”), sold the international marine container operations of Sea-Land to the A.P. Møller Maersk Group (“Maersk”) and SLDS continued to be owned and operated by CSX Corporation as CSX Lines, LLC. On February 27, 2003, Horizon Lines Holding Corp. (“HLHC”) (which at the time was indirectly majority-owned by Carlyle-Horizon Partners, L.P.) acquired from CSX Corporation, 84.5% of CSX Lines, LLC, and 100% of CSX Lines of Puerto Rico, Inc., which together with Horizon Logistics and HSI constitute our business today. CSX Lines, LLC is now known as Horizon Lines, LLC and CSX Lines of Puerto Rico, Inc. is now known as Horizon Lines of Puerto Rico, Inc. The Company was formed as an acquisition vehicle to acquire, on July 7, 2004, the equity interest in HLHC. The Company was formed at the direction of Castle Harlan Partners IV. L.P. (“CHP IV”), a private equity investment fund managed by Castle Harlan, Inc. (“Castle Harlan”). In 2005, the Company completed its initial public offering. Subsequent to the initial public offering, the Company completed three secondary offerings, including a secondary offering (pursuant to a shelf registration) whereby CHP IV and other affiliated private equity investment funds managed by Castle Harlan divested their ownership in the Company. Today, as the only Jones Act vessel operator with one integrated organization serving Alaska, Hawaii and Puerto Rico, we are uniquely positioned to serve customers requiring shipping and logistics services in more than one of these markets.

 

Recent Developments

 

We believe that our financial position will be impacted during the second and third quarters of 2011. First, we expect that we will experience a covenant default under the indenture related to our $330.0 million aggregate principal amount of 4.25% Convertible Senior Notes due 2012 (the “Notes”). On March 22, 2011, the Court entered a judgment against us whereby we are required to pay a fine of $45.0 million to resolve the investigation by the U.S. Department of Justice into our domestic ocean shipping business. In March 2011, we solicited consents from the holders of the Notes to waive the default that may arise in connection with that judgment. We have until May 21, 2011 to satisfy the judgment or otherwise cure the default under the indenture relating to the Notes, and, as of the date of this filing, we have not been able to obtain a waiver from the holders of the Notes and do not presently have remedies to cure the default. Acceleration of all principal and interest may be pursued by the indenture trustee in the event of default. Should the indenture trustee pursue an acceleration, such an action would create a default in our Senior Credit Facility and other loans and financing arrangements due to cross default provisions contained in those agreements.

 

Second, although we amended our Senior Credit Facility in March 2011, we expect to not be in compliance with the revised covenants beginning in the third quarter of 2011. We expect our financial

results will be negatively impacted by softness in international rates, as well as by volatile fuel prices and by our ability to revise fuel surcharges accordingly. Noncompliance with the financial covenants in the Senior Credit Facility constitutes an event of default, which, if not waived, could prevent us from making borrowings under the Senior Credit Facility. We anticipate working with our lenders to obtain amendments or to refinance prior to any possible covenant noncompliance; however we cannot assure you that we will be able to secure such amendments or a refinancing.

 

Due to these expected and potential defaults, we have classified our obligations under the Notes and the Senior Credit Facility as current liabilities in the accompanying Consolidated Balance Sheets as of December 26, 2010. Our independent registered public accounting firm has issued an opinion on our consolidated financial statements that states the consolidated financial statements were prepared assuming we will continue as a going concern and further states that uncertainties regarding our ability to remain in compliance with certain debt covenants under our Senior Credit Facility throughout 2011 and our ability to cure a potential acceleration under our Notes raise substantial doubt about our ability to continue as a going concern.

 

Our ongoing activities to address these matters include, but are not limited to, working with our lenders to obtain amendments or waivers and seeking refinancing sources to address our existing capital structure. We have retained Moelis & Company as financial advisors to help us in these efforts.

 

On March 28, 2011, we executed an employment agreement with Stephen H. Fraser, who began serving as our interim President and Chief Executive Officer on March 11, 2011. The term of the agreement is until we appoint a successor president and chief executive officer, and the agreement may be terminated by either party upon thirty days written notice. Pursuant to the terms of the agreement, Mr. Fraser will be entitled to a salary of $90,000 per month, plus other usual employee benefits offered to our employees. The agreement also provides that Mr. Fraser shall be reimbursed for certain transportation expenses and may elect to be reimbursed for his cost of medical insurance for himself and his dependents. Mr. Fraser will continue to serve as a member of our board of directors. Mr. Fraser will continue to be eligible for compensation awarded to the board of directors, and the stock ownership guidelines applicable to board members will continue to be applicable to him. Mr. Fraser’s annual cash retainer for service on the board will be prorated to reflect only the period which he was a non-employee director. This description of the employment agreement is not complete and is qualified by its entirety by the full text of the agreement which is attached hereto as an exhibit.

 

On February 23, 2011, we and Charles G. Raymond, our President and Chief Executive Officer, entered into a Separation Agreement in connection with Mr. Raymond’s retirement. Under the terms of the Separation Agreement, Mr. Raymond will receive severance payments over a period of 25 months totaling approximately $2.3 million. In addition, we will reimburse Mr. Raymond for premiums related to continued health coverage under COBRA for the period he and his eligible dependents are covered under COBRA. Mr. Raymond will also be entitled to indemnification and the advancement of legal expenses as provided by our charter and bylaws and any other applicable documents, and Mr. Raymond has agreed not to sell any shares of our common stock that he owns for a period of one year. In addition, the terms of the Separation Agreement include a non-compete provision for a period of two years.

 

On February 24, 2011, we announced that our Board of Directors has named Alex J. Mandl to the position of non-executive Chairman, succeeding Mr. Raymond. Additionally, Brian W. Taylor was named Executive Vice President and Chief Operating Officer (COO), succeeding John V. Keenan, who has been granted a leave of absence. Mr. Taylor assumes the COO responsibilities in addition to his current role as Chief Commercial Officer. At the same time, the Board has promoted Michael T. Avara from Senior Vice President and Chief Financial Officer to Executive Vice President and Chief Financial Officer. All changes were effective March 11, 2011.

Operations

 

We believe that we are the nation’s leading Jones Act container shipping and integrated logistics company, accounting for approximately 36% of total U.S. marine container shipments from the continental U.S. to Alaska, Puerto Rico and Hawaii, constituting the three non-contiguous Jones Act markets; and to Guam, the U.S. Virgin Islands and Micronesia. We own or lease 20 vessels, 15 of which are fully qualified Jones Act vessels, and approximately 31,000 cargo containers. We also provide comprehensive shipping and sophisticated logistics services in our markets, including rail, trucking, warehousing, distribution, expedited logistics, and non-vessel operating common carrier (“NVOCC”) operations. We have access to terminal facilities in each of our ports, operating our terminals in Alaska, Hawaii, and Puerto Rico and contracting for terminal services in the seven ports in the continental U.S. and in the ports in Guam, and Shanghai and Ningbo, China.

 

On December 13, 2010, we commenced our weekly trans-Pacific liner service between Asia and the U.S. West Coast. Our Five Star Express (“FSX”) service connects with our warehousing and distribution capabilities on the U.S. West Coast and intermodal rail service to inland destinations to create an integrated import and export solution. Using scheduled intermodal service from Los Angeles every week, we offer express inland service to Kansas City, Dallas, Chicago, Memphis, Atlanta and Charlotte. During 2011, we expect to expand the inland express network to other locations throughout the U.S.

 

We ship a wide spectrum of consumer and industrial items used every day in our markets, ranging from foodstuffs (refrigerated and non-refrigerated) to household goods and auto parts to building materials and various materials used in manufacturing. Many of these cargos are consumer goods vital to the populations in our markets, thereby providing us with a relatively stable base of demand for our shipping and logistics services. We have many long-standing customer relationships with large consumer and industrial products companies, such as Costco Wholesale Corporation, Johnson & Johnson, Lowe’s Companies, Inc., Safeway, Inc., and Wal-Mart Stores, Inc. We also serve several agencies of the U.S. government, including the Department of Defense and the U.S. Postal Service. Our customer base is broad and diversified, with our top ten customers accounting for approximately 40% of revenue and our largest customer accounting for approximately 9% of revenue.

 

During the 4th quarter of 2010, we began to review the appropriate level of performance for our logistics operations. We have determined to reclassify our logistics operations into discontinued operations because they qualify as assets held for sale. Specifically, it was determined that as a result of several factors, including: 1) the historical operating losses within the logistics operations, 2) the projected continuation of operating losses, and 3) focus on the recently commenced international shipping activities, we would begin exploring the sale of our logistics operations. The sale of our logistics operations will not include our Sea-Logix trucking operation, our warehouse operation or Horizon Services Group, our information technology operation.

 

The Jones Act

 

During 2010, approximately 83% of our revenues were generated from our shipping and logistics services in markets where the marine trade is subject to the coastwise laws of the United States, also known as the Jones Act, or other U.S. maritime cabotage laws.

 

The Jones Act is a long-standing cornerstone of U.S. maritime policy. Under the Jones Act, all vessels transporting cargo between covered U.S. ports must, subject to limited exceptions, be built in the U.S., registered under the U.S. flag, manned by predominantly U.S. crews, and owned and operated by U.S.-organized companies that are controlled and 75% owned by U.S. citizens. U.S.-flagged vessels are generally required to be maintained at higher standards than foreign-flagged vessels and are supervised by, as well as subject to rigorous inspections by, or on behalf of the U.S. Coast Guard, which requires appropriate certifications and background checks of the crew members. Our trade routes between Alaska, Hawaii and Puerto Rico and the continental U.S. represent the three non-contiguous Jones Act markets. Vessels operating on these trade routes are

required to be fully qualified Jones Act vessels. Other U.S. maritime laws require vessels operating on the trade routes between Guam, a U.S. territory, and U.S. ports to be U.S.-flagged and predominantly U.S.-crewed, but not U.S.-built.

 

Cabotage laws, which reserve the right to ship cargo between domestic ports to domestic vessels, are not unique to the United States; similar laws are common around the world and exist in over 50 countries. In general, all interstate and intrastate marine commerce within the U.S. falls under the Jones Act, which is a cabotage law. We believe the Jones Act enjoys broad support from President Obama and both major political parties in both houses of Congress. We believe that the ongoing war on terrorism has further solidified political support for the Jones Act, as a vital and dedicated U.S. merchant marine is a cornerstone for a strong homeland defense, as well as a critical source of trained U.S. mariners for wartime support.

 

Market Overview and Competition

 

The Jones Act distinguishes the U.S. domestic shipping market from international shipping markets. Given the limited number of existing Jones Act qualified vessels, the high capital investment and long delivery lead times associated with building a new containership in the U.S., the substantial investment required in infrastructure and the need to develop a broad base of customer relationships, the markets in which we operate have been less vulnerable to overcapacity and volatility than international shipping markets.

 

To ensure on-time pick-up and delivery of cargo, shipping companies must maintain strict vessel schedules and efficient terminal operations for expediting the movement of containers in and out of terminal facilities. The departure and arrival of vessels on schedule is heavily influenced by both vessel maintenance standards (i.e., minimizing mechanical breakdowns) and terminal operating discipline. Marine terminal gate and yard efficiency can be enhanced by efficient yard layout, high-quality information systems, and streamlined gate processes.

 

The Jones Act markets are not as fragmented as international shipping markets. We are one of only two major container shipping operators currently serving the Alaska market, where we account for approximately 41% of total container loads traveling from the continental U.S. to Alaska. Horizon Lines and Totem Ocean Trailer Express, Inc. (“TOTE”) serve the Alaska market. We are also only one of two container shipping companies currently serving the U.S, to Hawaii and Guam markets with an approximate 36% share of total domestic marine container shipments from the continental U.S. to these markets. This percentage reflects 35% and 47% shares of total domestic marine container shipments from the continental U.S. to Hawaii and Guam markets, respectively. Horizon Lines and Matson Navigation Co (“Matson”) serve the Hawaii and Guam market. The Pasha Group also serves the Hawaii market with a roll-on/roll-off vessel. In Puerto Rico, we are the largest provider of marine container shipping, accounting for approximately 34% of Puerto Rico’s total container loads from the continental U.S. The Puerto Rico market is currently served by two containership companies, Horizon Lines and Sea Star Lines (“Sea Star”). Sea Star is an independently operated company majority-owned by an affiliate of TOTE. Two barge operators, Crowley and Trailer Bridge, Inc., also currently serve this market.

 

The international shipping market is a significantly larger market than the U.S. domestic shipping market. There are a significant number of vessels operating between Asia and the U.S. West Coast. However, recently there has been a reduction in the number of vessels in layup and an increase in transported container volumes over the low levels of 2009.

 

Our specific FSX service provides a niche service that is an extension of our domestic service in the Pacific. We believe that we are able to provide various levels of service from expedited transit to deferred delivery at the most competitive market rates. Our FSX service should stand out in the international shipping market because we are able to deliver eleven day transit from China to the U.S. West Coast, saving customers approximately 2-3 days of transit time. We also have smaller vessels and a more rapid throughput process in Los Angeles and Oakland than many of our competitors which allows us to move containers through port and into U.S. distribution networks quickly.

Vessel Fleet

 

Our management team executes an effective strategy for the maintenance of our vessels. Early in our 54-year operating history, when we pioneered Jones Act container shipping, we recognized the vital importance of maintaining our valuable Jones Act qualified vessels. Our on-shore vessel management team carefully manages all of our ongoing regular maintenance and dry-docking activity.

 

We maintain our vessels according to our own strict maintenance procedures, which meet or exceed U.S. government requirements. All of our vessels are regulated pursuant to rigorous standards promulgated by the U.S. Coast Guard and subject to periodic inspection and certification, for compliance with these standards, by the American Bureau of Shipping, on behalf of the U.S. Coast Guard. Our procedures protect and preserve our fleet to the highest standards in our industry and enable us to preserve the usefulness of our ships. During each of the last four years, our vessels have been in operational condition, ready to sail, over 99% of the time when they were required to be ready to sail.

 

The table below lists our vessel fleet, which is the largest containership fleet within the Jones Act markets, as of December 26, 2010. Our vessel fleet consists of 20 vessels of varying classes and specifications, 15 of which are fully Jones Act qualified. Of the 16 vessels that are actively deployed, 11 are Jones Act qualified. Three Jones Act qualified vessels are spare vessels available for seasonal and dry-dock needs and to respond to potential new revenue opportunities. A fourth spare Jones Act qualified vessel could be available for deployment after undergoing dry-docking for inspection and maintenance.

 

 

 

 

 

Vessel Charters

 

Eight of our vessels, the Horizon Anchorage, Horizon Tacoma, Horizon Kodiak, Horizon Hunter, Horizon Hawk, Horizon Eagle, Horizon Falcon and Horizon Tiger are leased, or chartered. The charters for the Horizon Anchorage, Horizon Tacoma, and Horizon Kodiak are due to expire in January 2015, for the Horizon Hunter in 2018 and for the Horizon Hawk, Horizon Eagle, Horizon Falcon and Horizon Tiger in 2019. Under the charter for each chartered vessel, we generally have the following options in connection with the expiration of the charter: (i) purchase the vessel for its fair market value, (ii) extend the charter for an agreed upon period of time at a fair market value charter rate or, (iii) return the vessel to its owner.

 

The obligations under the existing charters for the Horizon Anchorage, Horizon Tacoma and Horizon Kodiak are guaranteed by our former parent, CSX Corporation, and certain of its affiliates. In turn, certain of our subsidiaries are parties to the Amended and Restated Guarantee and Indemnity Agreement, referred to herein as the GIA, with CSX Corporation and certain of its affiliates, pursuant to which these subsidiaries have agreed to indemnify these CSX entities if any of them should be called upon by any owner of the chartered vessels to make payments to such owner under the guarantees referred to above.

 

Container Fleet

 

As summarized in the table below, our container fleet as of December 26, 2010 consists of owned and leased containers of different types and sizes. All but one of our container leases are operating leases.

 

 

In connection with the expiration of our equipment sharing agreements with Maersk, we increased the quantity of containers in preparation of the launch of our FSX service.

 

Maersk Arrangements

 

In connection with the sale of the international marine container operations of Sea-Land by our former parent, CSX Corporation, to Maersk, in December 1999, our predecessor, CSX Lines, LLC and certain of its subsidiaries entered into a number of commercial agreements with various Maersk entities that encompassed terminal services, equipment sharing, sales agency services, trucking services, cargo space charters, and transportation services. Certain of these agreements expired at the end of 2010. Maersk continues to serve as our terminal service provider in the continental U.S., at our ports in Elizabeth, New Jersey, Jacksonville, Florida, Houston, Texas, Los Angeles, California, and Tacoma, Washington. We are Maersk’s terminal operator in Alaska and Puerto Rico. Certain equipment sharing agreements, sales agency agreements and the TP1 Space Charter and Transportation Service Contract with Maersk expired in December 2010.

 

Under our previous cargo space charter and transportation service agreements with Maersk, we utilized Maersk containers to carry a portion of our cargo westbound to Hawaii and Guam, where the contents of the containers were unloaded. We shipped the empty containers to Yantian and Xiamen, China and Kaohsiung, Taiwan. When the vessels arrived in Asia, Maersk unloaded the empty containers and replaced them with loaded containers for the return trip to the U.S. west coast. We achieved significantly greater vessel capacity utilization and revenue on this route as a result of this arrangement. We also used Maersk equipment on our service to Hawaii from our U.S. west coast ports, as well as from select U.S. inland locations.

Capital Construction Fund

 

The Merchant Marine Act, 1936, as amended, permits the limited deferral of U.S. federal income taxes on earnings from eligible U.S.-built and U.S.-flagged vessels and U.S.-built containers if the earnings are deposited into a Capital Construction Fund (“CCF”), pursuant to an agreement with the U.S. Maritime Administration, (“MARAD”). Any amounts deposited in a CCF can be withdrawn and used for the acquisition, construction or reconstruction of U.S.-built and U.S.-flagged vessels or U.S.-built containers.

 

Horizon Lines has a CCF agreement with MARAD under which it occasionally deposits earnings attributable to the operation of its Jones Act qualified vessels into the CCF and makes withdrawals of funds from the CCF to acquire U.S.-built and U.S.-flagged vessels. From 2003-2005, Horizon Lines utilized CCF deposits totaling $50.4 million to acquire six U.S.-built and U.S.-flagged vessels (Horizon Enterprise, Horizon Pacific, Horizon Hawaii, Horizon Fairbanks, Horizon Navigator, and Horizon Trader).

 

Any amounts deposited in a CCF cannot be withdrawn for other than the qualified purposes specified in the CCF agreement. Any nonqualified withdrawals are subject to federal income tax at the highest marginal rate. In addition, such tax is subject to an interest charge based upon the number of years the funds have been on deposit. If Horizon Lines’ CCF agreement was terminated, funds then on deposit in the CCF would be treated as nonqualified withdrawals for that taxable year. In addition, if a vessel built, acquired, or reconstructed with CCF funds is operated in a nonqualified operation, the owner must repay a proportionate amount of the tax benefits as liquidated damages. These restrictions apply (i) for 20 years after delivery in the case of vessels built with CCF funds, (ii) ten years in the case of vessels reconstructed or acquired with CCF funds more than one year after delivery from the shipyard, and (iii) ten years after the first expenditure of CCF funds in the case of vessels in regard to which qualified withdrawals from the CCF fund have been made to pay existing indebtedness (five years if the vessels are more than 15 years old on the date the withdrawal is made). In addition, the sale or mortgage of a vessel acquired with CCF funds requires MARAD’s approval. Our consolidated balance sheets at December 26, 2010 and December 20, 2009 include liabilities of approximately $14.8 million and $14.2 million, respectively, for deferred taxes on deposits in our CCF.

 

Sales and Marketing

 

We manage a sales and marketing team of 113 employees strategically located in our various ports, as well as in five regional offices across the continental U.S., including from our headquarters in Charlotte, North Carolina and from Compton, California and Jacksonville, Florida. Senior sales and marketing professionals are responsible for developing sales and marketing strategies and are closely involved in servicing our largest customers. All pricing activities are also coordinated from Charlotte, Irving, Texas, and from Renton, Washington, enabling us to manage our customer relationships. The marketing team located in Charlotte is responsible for providing appropriate market intelligence and direction to the Puerto Rico sales organization. The marketing team located in Renton is responsible for providing appropriate market intelligence and direction to the members of the team who focus on the Hawaii, Guam and Alaska markets. The teams in Charlotte and Dallas are also responsible for providing market intelligence related to our FSX service.

 

Our regional sales and marketing presence ensures close and direct interaction with customers on a daily basis. Many of our regional sales professionals have been servicing the same customers for over ten years. We believe that we have the largest sales force of all container shipping and logistics companies active in our domestic markets. We believe that the breadth and depth of our relationships with our customers is the principal driver of repeat business from our customers.

Customers

 

We serve a diverse base of long-standing, established customers consisting of many of the world’s largest consumer and industrial products companies. Such customers include Costco Wholesale Corporation, Johnson & Johnson, Lowe’s Companies, Inc., Safeway, Inc., and Wal-Mart Stores, Inc. In addition, we serve several agencies of the U.S. government, including the Department of Defense and the U.S. Postal Service.

 

We believe that we are uniquely positioned to serve these and other large national customers due to our position as the only shipping and integrated logistics company serving all three non-contiguous Jones Act markets, as well as Guam and Asia. Approximately 56% of our transportation revenue in 2010 was derived from customers shipping with us in more than one of our markets and approximately 36% of our transportation revenue in 2010 was derived from customers shipping with us in all three domestic markets.

 

We generate most of our revenue through customer contracts with specified rates and volumes, and with durations ranging from one to six years, providing stable revenue streams. The majority of our customer contracts contain provisions that allow us to implement fuel surcharges based on fluctuations in our fuel costs. In addition, our relationships with many of our customers extend far beyond the length of any given contract. For example, some of our customer relationships extend back over 40 years and our top ten customer relationships average 32 years.

 

We serve customers in numerous industries and carry a wide variety of cargos, mitigating our dependence upon any single customer or single type of cargo. For 2010, our top ten largest customers represented approximately 36% of transportation revenue, with the largest customer accounting for approximately 9% of transportation revenue. During 2010, our top ten largest customers comprised approximately 40% of total revenue, with our largest customer accounting for approximately 9% of total revenue. Total revenue includes transportation, non-transportation and other revenue.

 

Industry and market data used throughout this Form 10-K, including information relating to our relative position in the shipping and logistics industries are approximations based on the good faith estimates of our management. These estimates are generally based on internal surveys and sources, and other publicly available information, including local port information. Unless otherwise noted, financial, industry and market data presented herein are for the period ending in December 2010.

 

Operations Overview

 

Our operations share corporate and administrative functions such as finance, information technology, human resources, legal, and sales and marketing. Centralized functions are performed primarily at our Charlotte headquarters and at our operations center in Irving.

 

We book and monitor all of our shipping and logistics services with our customers through the Horizon Information Technology System (“HITS”). HITS, our proprietary ocean shipping and logistics information technology system, provides a platform to execute a shipping transaction from start to finish in a cost-effective, streamlined manner. HITS provides an extensive database of information relevant to the shipment of containerized cargo and captures all critical aspects of every shipment booked with us. In addition, HITS supports a wide variety of our logistics services including less-than-truckload (LTL), full truckload (FTL), NVOCC, air freight, expedited ground and warehousing. In a typical transaction, our customers go on-line to book a shipment or call, fax or e-mail our customer service department. Once applicable shipping information is input into the booking system, a booking number is generated. The booking information then downloads into other systems used by our dispatch team, terminal personnel, vessel planners, documentation team, logistics team and other teams and personnel who work together to produce a seamless transaction for our customers.

 

We strive to minimize our empty repositioning costs. Our dispatch team coordinates truck and/or rail shipping between inland locations and ports on intermodal bookings. We currently purchase rail

services directly from the railroads involved through confidential transportation service contracts. Our terminal personnel schedule equipment availability for containers picked up at the port. Our vessel planners develop stowage plans and our documentation teams process the cargo bill. We review space availability and inform our other teams and personnel when additional bookings are required and when bookings need to be changed or pushed to the next vessel. After containers arrive at the port of origin, they are loaded on board the vessel. Once the containers are loaded and are at sea, our destination terminal staff initiates their process of receiving and releasing containers to our customers. Customers accessing HITS via our internet portal have the option to receive e-mail alerts as specific events take place throughout this process. All of our customers have the option to call our customer service department or to access HITS via our internet portal, 24 hours a day, seven days a week, to track and trace shipments. Customers may also view their payment histories and make payments on-line.

 

Insurance

 

We maintain insurance policies to cover risks related to physical damage to our vessels and vessel equipment, other equipment (including containers, chassis, terminal equipment and trucks) and property, as well as with respect to third-party liabilities arising from the carriage of goods, the operation of vessels and shoreside equipment, and general liabilities which may arise through the course of our normal business operations. We also maintain workers compensation insurance, business interruption insurance, and directors’ and officers’ insurance providing indemnification for our directors, officers, and certain employees for some liabilities.

 

Security

 

Heightened awareness of maritime security needs, brought about by the events of September 11, 2001 and numerous maritime piracy attacks around the globe, have caused the United Nations through its International Maritime Organization (“IMO”), the U.S. Department of Homeland Security, through its Coast Guard, and the states and local ports to adopt a more stringent set of security procedures relating to the interface between port facilities and vessels. In addition, the U.S. Congress has enacted legislation requiring the implementation of Coast Guard approved vessel and facility security plans.

 

Certain aspects of our security plans require our investing in infrastructure upgrades to ensure compliance. We have applied in the past and will continue to apply going forward for federal grants to offset the incremental expense of these security investments. While we were successful through two early rounds of funding to secure substantial grants for specific security projects, the current grant award criteria favor the largest ports and stakeholder consortia applications, limiting the available funds for standalone private maritime industry stakeholders. In addition, the current administration is continuously reviewing the criteria for awarding such grants. Such changes could have a negative impact on our ability to win grant funding in the future. Security surcharges are evaluated regularly and we may at times incorporate these surcharges into the base transportation rates that we charge.

 

Employees

 

As of December 26, 2010, we had 1,890 employees, of which approximately 1,267 were represented by seven labor unions.

 

In an effort to continue to effectively manage costs, during the fourth quarter of 2010 the Company initiated a plan to reduce its non-union workforce by approximately 10%, or 65 positions. The Company substantially completed the workforce reduction initiative on January 31, 2011 by eliminating a total of 64 positions, including 35 existing and 29 open positions. A restructuring charge of $2.1 million related to this reduction in workforce has been recorded during the year ended December 26, 2010.

The table below sets forth the unions which represent our employees, the number of employees represented by these unions as of December 26, 2010 and the expiration dates of the related collective bargaining agreements:

 

 

 

 

The table below provides a breakdown of headcount by non-contiguous Jones Act market and function for our non-union employees as of December 26, 2010.

 

 

 

 

Environmental Initiatives

 

We strive to support our commitment to protect the environment with programs that promote best practices in environmental stewardship. During 2008, we launched our Horizon Green initiative. Through our Horizon Green initiative, we strive to better understand and measure our impact on the environment, and to develop programs that incorporate environmental stewardship into our core operations. Within the Horizon Green initiative, we are addressing four key areas:

 

Marine Environment

 

To protect the marine environment, we have established several programs, including vessel management controls and audits, ballast water management, waste stream analyses, low sulfur diesel fuel usage and marine terminal pollution mitigation plans. In addition, we are required to comply with

the MARPOL Convention (International Convention for the Prevention of Pollution from Ships) and ISM Code (International Safety Management Code) created by the IMO.

 

Emissions

 

We are focused on reducing transportation emissions, including carbon dioxide, particulates, nitrous oxides and sulfur dioxide, through improvements in vessel fuel consumption and truck efficiency combined with the use of alternative fuels and more efficient transportation alternatives, such as coastwise shipping.

 

Sustainability

 

We believe in a long-term, sustainable approach to logistics management which will benefit the Company, its associates, customers, shareholders and the community. Examples include reducing empty backhaul miles through logistics network optimization, reduced fossil fuel consumption and using recycled materials to build containers.

 

Carbon Offsets

 

Freight shipping is one of the world’s leading sources of carbon dioxide emissions that contribute to global climate change. To address this challenge together with our customers, Horizon Logistics has introduced a new carbon offset shipping program, developed by our custom delivery and special handling division. The carbon offset program offers customers a carbon-neutral shipping solution through which retailers and manufacturers can purchase environmental credits that fund carbon offset programs, such as forestation and alternative energy projects.

 

Available Information

 

The mailing address of the Company’s Executive Office is 4064 Colony Road, Suite 200, Charlotte, North Carolina 28211 and the telephone number at that location is (704) 973-7000. The Company’s most recent SEC filings can be found on the SEC’s website, www.sec.gov, and on the Company’s website, www.horizonlines.com. The Company’s 2010 annual report on Form 10-K will be available on the Company’s website as soon as reasonably practicable. All such filings are available free of charge. The contents of our website are not incorporated by reference into this Form 10-K. The public may read and copy any materials the Company files with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling 1-800-SEC-0330.

 

 

We expect to be in covenant default under our outstanding $330.0 million aggregate principal amount of 4.25% Convertible Senior Notes due 2012 (the “Notes”) during the second fiscal quarter of 2011. In addition, we expect to be in covenant default under our Senior Credit Facility during the third quarter of 2011. If we are unable to return to compliance, the indenture trustee for the Notes and our lenders under the Senior Credit Facility may exercise remedies that would have a material adverse effect on us and our shareholders.

 

On May 21, 2011, we expect to be in covenant default under the indenture relating to our Notes. In addition, we expect that we will be in covenant default under our Senior Credit Facility during the third quarter of 2011. The remedies available to the indenture trustee in the event of default include acceleration of all principal and interest payments. Acceleration by the indenture trustee would create a default in our Senior Credit Facility and other loans and financing arrangements due to cross default provisions contained in those agreements. If any of our lenders or the indenture trustee accelerate the principal and interest payments we may be forced to seek protection under federal bankruptcy laws. Such relief would materially and adversely affect us and our shareholders.

We are currently in discussions with our lenders to implement a restructuring of our financial obligations, including waivers of expected defaults. There can be no assurance that these efforts will be successful and we could be forced to seek reorganization under federal bankruptcy laws.

 

As of December 26, 2010, we had an aggregate of approximately $523.8 million principal amount in convertible senior notes, term loans and revolving credit facility that must be repaid, renewed or extended by August 15, 2012. As of the date of this filing, the principal amount in convertible senior notes, term loans and revolving credit facility has increased to $576.6 million. The maturity of the term loan and revolving credit facility will accelerate to February 15, 2012 if the convertible notes are not refinanced or an acceptable plan to refinance is not in place by that date. We expect to be in default under our Notes and our Senior Credit Facility commencing the second and third quarters of 2011, respectively. In addition, we have significant indebtedness coming due in 2012 if not accelerated prior to the maturity or in 2011 if accelerated prior to maturity.

 

We are seeking waivers with respect to our expected defaults and are seeking to restructure our financial obligations in order to preserve our liquidity and enable us to continue operating. However, there can be no assurance that waivers will be received or that our obligations will be restructured. If the waivers are not cured within applicable time periods, if any, and if waivers or other relief are not obtained, we could be forced to seek reorganization under federal bankruptcy laws.

 

Our Cash Flows and Capital Resources May Be Insufficient to Make Required Payments on Our Substantial Indebtedness and Future Indebtedness.

 

As of December 26, 2010, on a consolidated basis, we had (i) $523.8 million of outstanding funded long-term debt (exclusive of capital lease obligations of $9.2 million and outstanding letters of credit with an aggregate face amount of $11.3 million), (ii) approximately $229.6 million of aggregate trade payables, accrued liabilities and other balance sheet liabilities (other than the long-term debt referred to above) and (iii) a funded debt-to-equity ratio of approximately 13.2:1.0.

 

Because we have substantial debt, we require significant amounts of cash to fund our debt service obligations. Our ability to generate cash to meet scheduled payments or to refinance our obligations with respect to our debt depends on our financial and operating performance which, in turn, is subject to prevailing economic and competitive conditions and to the following financial and business factors, some of which may be beyond our control:

 

 

If our cash flow and capital resources are insufficient to fund our debt service obligations, we could face substantial liquidity problems and might be forced to reduce or delay capital expenditures, dispose of material assets or operations, seek to obtain additional equity capital, or restructure or

refinance our indebtedness. Such alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations. In particular, in the event that we are required to dispose of material assets or operations to meet our debt service obligations, we cannot be sure as to the timing of such dispositions or the proceeds that we would realize from those dispositions. The value realized from such dispositions will depend on market conditions and the availability of buyers, and, consequently, any such disposition may not, among other things, result in sufficient cash proceeds to repay our indebtedness. Also, the senior credit facility contains covenants that may limit our ability to dispose of material assets or operations or to restructure or refinance our indebtedness. Further, we cannot provide assurance that we will be able to restructure or refinance any of our indebtedness or obtain additional financing, given the uncertainty of prevailing market conditions from time to time, our high levels of indebtedness and the various debt incurrence restrictions imposed by the senior credit facility. If we are able to restructure or refinance our indebtedness or obtain additional financing, the economic terms on which such indebtedness is restructured, refinanced or obtained may not be favorable to us.

 

We may incur substantial indebtedness in the future. The terms of the senior credit facility permit us to incur or guarantee additional indebtedness under certain circumstances. As of December 26, 2010, we had approximately $62.4 million of effective borrowing availability under the revolving credit facility, subject to compliance with the financial and other covenants and the other terms set forth therein. Our incurrence of additional indebtedness would intensify the risk that our future cash flow and capital resources may not be sufficient for payments of interest on and principal of our substantial indebtedness.

 

Our Substantial Indebtedness and Future Indebtedness Could Significantly Impair Our Operating and Financial Condition.

 

The required payments on our substantial indebtedness and future indebtedness, as well as the restrictive covenants contained in the senior credit facility could significantly impair our operating and financial condition. Because of our substantial fixed costs combined with our substantial indebtedness, a decrease in revenues results in a disproportionately greater percentage decrease in earnings and affects our ability to comply with the covenants in our revolving credit facility.

 

In addition, these required payments and restrictive covenants could:

 

 

We may incur substantial indebtedness in the future. Our incurrence of additional indebtedness would intensify the risks described above.

If We do not Meet the New York Stock Exchange Continued Listing Requirements, Our Common Stock May be Delisted, and We May be Required to Repurchase or Refinance Our 4.25% Convertible Notes Due 2012.

 

In order to maintain our listing on the New York Stock Exchange (“NYSE”), we must continue to meet the NYSE minimum share price listing rule, the minimum market capitalization rule and other continued listing criteria. If our common stock were delisted, it could (i) reduce the liquidity and market price of our common stock; (ii) negatively impact our ability to raise equity financing and access the public capital markets; and (iii) materially adversely impact our results of operations and financial condition. In addition, if our common stock is not listed on the NYSE or another national exchange, holders of our 4.25% convertible notes due 2012 will be entitled to require us to repurchase their convertible notes. Our senior secured credit facility provides that the occurrence of this repurchase right constitutes a default under such facility.

 

Further issuances of our common stock could be dilutive.

 

We may issue additional shares of our common stock, or other securities convertible into our common stock, to repay our existing indebtedness or for working capital. If we issue additional shares of our common stock in the future, it may have a dilutive effect on the ownership interests of our existing shareholders.

 

We Pled Guilty to a Charge of Violating Federal Antitrust Laws and are Subject to a Material Criminal Penalty That May Have a Material Adverse Effect on Our Business.

 

On April 17, 2008, we received a federal grand jury subpoena and search warrant from the U.S. District Court for the Middle District of Florida seeking information regarding an investigation by the Antitrust Division of the DOJ into possible antitrust violations in the domestic ocean shipping business. On February 23, 2011, we entered into a plea agreement with the Antitrust Division of the U.S. Department of Justice whereby we agreed to plead guilty to a charge of violating federal antitrust laws solely with respect to the Puerto Rico tradelane and agreed to pay a fine of $45.0 million over five years without interest. The fine is payable over a five-year period as follows: $1.0 million within 30 days after imposition of the sentence by the court, $1.0 million on the first anniversary thereafter, $3.0 million on the second anniversary, $5.0 million on the third anniversary, $15.0 million on the fourth anniversary, and $20.0 million on the fifth anniversary. The payment of the fine may have a substantial and material effect on our financial position, liquidity and cash flow.

 

Numerous Purported Class Action Lawsuits Related to the Subject of the Antitrust Investigations Have Been Filed Against Us and We May Be Subject to Civil Liabilities.

 

Subsequent to the commencement of the DOJ investigation, fifty-eight purported class action lawsuits were filed against us and other domestic shipping carriers by direct purchasers alleging price-fixing in violation of the Sherman Act. The complaints seek treble monetary damages, costs, attorneys’ fees, and an injunction against the allegedly unlawful conduct. Thirty-two of the federal cases have been consolidated by the Judicial Panel on Multidistrict Litigation in the District of Puerto Rico and relate to the Puerto Rico tradelane. A similar complaint was filed in Duval County, Florida, against us and other domestic shipping carriers by a customer alleging price-fixing in violation of the Florida Antitrust Act and the Florida Deceptive and Unlawful Trade Practices Act.

 

In connection with the Puerto Rico multidistrict litigation (“MDL”), we have entered into a class action settlement, subject to final court approval, and have agreed to pay $20.0 million and to certain base-rate freezes. We have paid $10.0 million into an escrow account pursuant to the terms of the settlement agreement. We cannot predict or determine the timing or final outcomes of the settlement or the lawsuits and are unable to estimate the amount or range of loss that could result from unfavorable outcomes but, adverse results in some or all of these legal proceedings could be material to our results of operations, financial condition or cash flows.

A securities class action lawsuit was filed in the District of Delaware against us. The lawsuit alleges that the defendants made material misrepresentations and omissions, including with respect to the alleged price-fixing and violations of the Sherman Act, causing the plaintiffs to pay inflated prices for our shares. The securities litigation seeks unspecified monetary damages, among other things. If we are required to make a payment as a result of a judgment in the securities litigation, it could have a material adverse impact on our financial condition, cash flows or results of operations.

 

We may be required to make significant payments to customers in connection with antitrust-related proceedings.

 

Several customers have elected to opt-out of the Puerto Rico settlement, and those customers may file lawsuits containing allegations similar to those made in the putative class actions and seek the same type of damages under the Sherman Act as sought in the putative class actions. We may be required to make payments in settlement or as a result of a final judgment to entities that may commence proceedings against us in amounts that are not determinable. The existence of these proceedings also could have a material adverse affect on our ability to access the capital markets to raise additional funds to refinance indebtedness or for other purposes. Therefore, claims against us and any future claims could have a material adverse impact on our financial condition, cash flows or results of operations. We are not able to determine whether or not any actions will be brought against us or whether or not a negative outcome would be probable if brought against us, or a reasonable range for any such outcome, and have made no provisions for any potential proceedings in our financial statements. Given the volume of commerce involved in the Puerto Rico shipping business, an adverse ruling in a potential civil antitrust proceeding could subject us to substantial civil damages given the treble damages provisions of the Sherman Act.

 

In addition, we have actively engaged in discussions with a number of our customers regarding the subject matter of the DOJ investigations. We have reached commercial agreements or are seeking to renew commercial agreements with certain of our major customers, with the condition that the customer relinquishes all claims arising out of the matters that are the subject of the antitrust investigations. In some cases, we have agreed to, or are seeking to agree to, future discounts. Any potential future discounts would be charged against operating revenue if and when the discount is earned and certain other criteria are met. It is possible that we will be required to enter into similar arrangements to settle other existing and potential antitrust claims, and these discounts may have a material adverse effect on our financial condition or results of operations.

 

We have Incurred Significant Costs in Connection with the Antitrust-Related Proceedings and Any Additional Costs May Have a Material Adverse Effect on Our Financial Condition, Liquidity and Cash Flow.

 

We have incurred legal fees and costs for antitrust-related investigations and legal proceedings of $5.2 million in fiscal year 2010, $12.2 million in fiscal year 2009 and $10.7 million in fiscal year 2008. In addition to expenses incurred for our defense in these matters, under Delaware law and our bylaws, we may have an additional obligation to indemnify our current and former officers and directors in relation to those matters, and we have advanced, and may continue to advance, legal fees and expenses to certain other current and former employees. Any additional legal costs and fees may have a material adverse effect on our financial condition, liquidity and cash flow.

 

Our Ability to Pay the DOJ Fine, the Puerto Rico Settlement or Any Other Judgment or Settlement is Very Limited, and the Fine, Settlement or Any Other Payments May Have a Material Adverse Effect on Our Business, Operations and Financial Condition.

 

Our ability to satisfy the DOJ fine of $45.0 million or pay the $20.0 million Puerto Rico class action settlement or pay any other judgment or settlement is limited by our limited cash, limited borrowing capacity, lack of unencumbered assets, limited cash flow and our need to fund necessary capital expenditures, including vessel maintenance and replacement of old vessels. We cannot assure

you that we will be able to borrow sufficient money or generate sufficient cash flow to pay such fine, settlement, or any judgments in connection with the antitrust-related matters, and such fine, settlement, or judgments may have a material adverse effect on our business plans, as well as our financial condition and results of operations.

 

We Depend on the Federal Government for a Substantial Portion of Our Business, and We Could Be Adversely Affected by Suspension or Debarment by the Federal Government.

 

Some of our revenue is derived from contracts with agencies of the U.S. government, and as a U.S. government contractor, we are subject to federal regulations regarding the performance of our government contracts. In addition, we are required to certify our compliance with numerous federal laws, including environmental laws. Failure to comply with relevant federal laws may result in suspension or debarment. On March 22, 2011, we pled guilty to a charge of violating federal antitrust laws in our Puerto Rico tradelane and we have reported possible antitrust violations in connection with a shipping services contract provided to the United States Department of Defense. In addition, we have been advised that the U.S. Coast Guard and U.S. Attorney’s Office are investigating environmental matters involving two of our vessels. If the federal government suspends or debars us for violation of legal and regulatory requirements, it could have a material adverse effect on our business, results of operations or prospects.

 

Under Our Credit Agreement Amendment, We Are Not Permitted to Pay Dividends on Our Common Stock and Our Board of Directors Has Decided Not to Pay Dividends at This Time, And We May Not Have Sufficient Cash to Pay Dividends in the Future.

 

We are not required to pay dividends to our stockholders and our stockholders do not have contractual or other rights to receive them. On March 9, 2011, we entered into an amendment to our credit agreement pursuant to which we agreed not to pay dividends on our common stock, and our Board of Directors decided to discontinue paying dividends for the fourth quarter of 2010 and has suspended the payment of dividends indefinitely. As a result of suspending the payment of dividends, shares of our common stock could become less liquid and the market price of our common stock could decline.

 

Our ability to pay dividends in the future will depend on numerous factors, including:

 

 

If we are able to pay dividends in the future, we can only pay dividends if our subsidiaries transfer funds to us. As a holding company, we have no direct operations, and our principal assets are the equity interests we hold in our subsidiaries. However, our subsidiaries are legally distinct and have no obligation to transfer funds to us. As a result, we are dependent on our subsidiaries’ results of operations, existing and future debt agreements, governing state law and regulatory requirements, and the ability to transfer funds to us to meet our obligations and to pay dividends.

Restrictions in our debt agreements or applicable state legal and regulatory requirements may prevent us from paying dividends.

 

Our ability to pay dividends will be restricted by current to future agreements governing our debt, including our credit agreement, as well as corporate law requirements. We are not permitted to pay a dividend under the restricted payment covenants in the most recent amendment to our credit agreement. Under Delaware law, our Board of Directors may not authorize a dividend unless it is paid out of our surplus (calculated in accordance with the Delaware General Corporation law), or, if we do not have a surplus, it is paid out of our net profits for the fiscal year in which the dividend is declared and the proceeding fiscal year.

 

Further Economic Decline and Decrease in Market Demand For the Company’s Services in the Jones Act and Guam Markets Will Adversely Affect the Company’s Operating Results and Financial Condition.

 

A further slowdown in economic conditions of our Jones Act and Guam markets may adversely affect our business. Demand for our shipping services depends on levels of shipping in our Jones Act markets and in the Guam market, as well as on economic and trade growth and logistics. Cyclical or other recessions in the continental U.S. or in these markets can negatively affect our operating results. Consumer purchases or discretionary items generally decline during periods where disposable income is adversely affected or there is economic uncertainty, and, as a result our customers may ship fewer containers or may ship containers only at reduced rates. For example, shipping volume in Hawaii and Puerto Rico were down approximately 2.5% in 2010 as compared to 2009 as a result of the slow economic recovery. The economic downturn in our tradelanes has negatively affected our earnings. We cannot predict the length of the current economic downturn or whether further economic decline may occur.

 

Volatility in Fuel Prices May Adversely Affect Our Profits.

 

Fuel is a significant operating expense for our shipping operations. The price and supply of fuel is unpredictable and fluctuates based on events outside our control, including geopolitical developments, supply and demand for oil and gas, actions by OPEC and other oil and gas producers, war and unrest in oil producing countries and regions, regional production patterns and environmental concerns. As a result, variability in the price of fuel, such as we are currently experiencing, may adversely affect profitability. There can be no assurance that our customers will agree to bear such fuel price increases via fuel surcharges without a reduction in their volumes of business with us, nor any assurance that our future fuel hedging efforts, if any, will be successful.

 

Repeal, Substantial Amendment, or Waiver of the Jones Act or Its Application Could Have a Material Adverse Effect on Our Business.

 

If the Jones Act was to be repealed, substantially amended, or waived and, as a consequence, competitors with lower operating costs by utilizing their ability to acquire and operate foreign-flag and foreign-built vessels were to enter any of our Jones Act markets, our business would be materially adversely affected. In addition, our advantage as a U.S.-citizen operator of Jones Act vessels could be eroded by periodic efforts and attempts by foreign interests to circumvent certain aspects of the Jones Act. If maritime cabotage services were included in the General Agreement on Trade in Services, the North American Free Trade Agreement or other international trade agreements, or if the restrictions contained in the Jones Act were otherwise altered, the shipping of maritime cargo between covered U.S. ports could be opened to foreign-flag or foreign-built vessels.

A Decrease in the Level of China’s Export of Goods or an Increase in Trade Protectionism Could Have a Material Adverse Impact on Our International Business.

 

China exports considerably more goods than it imports. Our service between Asia and the U.S. West Coast generates revenue derived from the shipment of goods from the Asia Pacific region to the U.S. Any reduction in or hindrance to the output of China-based exporters could have a material adverse effect on the growth rate of China’s exports. For example, monetary policy in the U.S. has had the affect of raising the value of the Chinese currency, resulting in Chinese goods becoming more expensive in the U.S. In addition, China has begun permitting trading in its currency in Hong Kong and New York, which may permit the value of China’s currency to fluctuate and impact the price of Chinese goods in the U.S. Similarly, China has recently implemented economic policies aimed at increasing domestic consumption of Chinese made goods. These policies, among many other policies, may have the effect of reducing the export of goods from China and may result in a decrease in demand for shipping. The level of imports to and exports from China could be adversely affected by economic reforms and policies by either the Chinese or the U.S. government, as well as by changes in political, economic and social conditions or other relevant policies of either government.

 

Our international operations expose us to the risk that increased trade protectionism will adversely affect our business. Either the Chinese government or the U.S. government may turn to trade barriers to protect their domestic industries against foreign imports, thereby depressing the demand for shipping. Specifically, increasing trade protectionism in the Asia and U.S. market has caused and may continue to cause an increase in the cost of goods exported from China, the length of time required to deliver goods from China and the risks associated with exporting goods from China. Any increased trade barriers or restrictions on trade between the U.S. and China would have an adverse impact on our business, results of operations and our financial condition.

 

The Growth of Our New Trans-Pacific Ocean Transportation Service Between Asia and the West Coast of the United States Depends on Continued Increases in World and Regional Demand for Container Shipping, and the Global Economic Slowdown May Impede Our Ability to Grow Our New International Service.

 

The ocean container shipping industry is both cyclical and volatile in terms of both rates and profitability. Rates for container shipping peaked in 2005 and generally stayed strong until the middle of 2008, when the effects of the economic crisis began to affect global container trade, driving rates significantly lower from 2008 to 2010. We launched our international service between Asia and the U.S. West Coast at the end of 2010, when rates remained well below their long term averages but higher than the 2008 trough. Weak conditions in the international containership market will affect our ability to generate cash flows and maintain liquidity.

 

The factors affecting the supply and demand for container shipping are largely outside of our control, and the nature, timing and degree of changes in market conditions are unpredictable. The factors that influence demand for container shipping include:

 

 

The cyclical nature of the international shipping industry may continue to drive volatility in freight rates and, in turn, reduce our revenues earnings, and cash flows.

The Trans-Pacific Ocean Transportation Market Between Asia and the West Coast of the United States is Highly Competitive, and We May Not be Able to Compete Successfully With Established Companies That Have Greater Resources or Other New Entrants.

 

In December of 2010, we began deploying our five 2,824 TEU capacity Hunter-class containerships in the market between Asia and the U.S. West Coast. This market is highly competitive and capital intensive, as well as fragmented. As a new entrant, we face operational risks associated with establishing and executing our service offering and competitors that have substantially greater resources than we do and have well established reputations and substantial experience in the international marketplace.

 

In addition to these established companies, we could face competition from new entrants into the market. Some owners and operators of vessels in the international market may be receiving direct or indirect support from or be operated by sovereign governments. Competition for the international transportation of containers by sea is intense and depends on price, service, location, and the size, speed, age, and condition of an operator’s vessels. Competitors with greater resources and larger fleets operate in the container shipping industry in the trans-Pacific service between Asia and the West Coast of the Unites States. These service providers may be able to offer lower rates than we can offer, and they may be prepared and able to sustain significant losses in order to maintain market share.

 

Our Trans-Pacific Service Faces a Regulatory and Currency Environment That Does Not Exist in Our Domestic Tradelanes and is Specific to Operating as an Ocean Common Carrier in the International Marketplace.

 

A company that holds itself out to the general public to provide ocean transportation services for cargo between the United States and China is subject to various licensing and regulatory regimes in both countries. The Federal Maritime Commission in the United States and the Ministry of Transportation of P.R.C. in the People’s Republic of China are two of the principal, but not sole, regulatory authorities.

 

Compliance with various regulatory regimes, both foreign and domestic, could increase our costs or result in loss of revenue or both. Fluctuations in foreign currency exchange could have similar impacts. Law and regulations impacting international trade and sovereign monetary policy are subject to political conditions and periodic change. Such changes may require us to modify our business plans or strategies and force us to incur greater costs or suffer lost opportunities.

 

Change in Tax Laws or the Interpretation Thereof, Adverse Tax Audits and Other Tax Matters Related to Our Tonnage Tax Election or Such Tax May Adversely Affect Our Future Results.

 

During 2006, after evaluating the merits and requirements of the tonnage tax, we elected the application of the tonnage tax instead of the federal corporate income tax on income from our qualifying shipping activities. Changes in tax laws or the interpretation thereof, adverse tax audits, and other tax matters related to such tax election or such tax may adversely affect our future results.

 

During the fourth quarter of 2007, a draft of a Technical Corrections Act proposed redefining the Puerto Rico trade to not qualify for application of the tonnage tax. The tax writing committee in Congress removed the tonnage tax repeal language from the Technical Corrections Act before its passage, but there can be no assurance that there will not be future efforts to repeal all, or any portion of, the tonnage tax as it applies to our shipping activities.

 

Our Industry is Unionized and Strikes By Our Union Employees or Others in the Industry May Disrupt Our Services and Adversely Affect Our Operations.

 

As of December 26, 2010, we had 1,890 employees, of which 1,267 were unionized employees represented by seven different labor unions. Our industry is susceptible to work stoppages and other

adverse employee actions due to the strong influence of maritime trade unions. We may be adversely affected by future industrial action against efforts by our management or the management of other companies in our industry to reduce labor costs, restrain wage increases or modify work practices. For example, in 2002 our operations at our U.S. west coast ports were significantly affected by a 10-day labor interruption by the International Longshore and Warehouse Union that affected ports and shippers throughout the U.S. west coast. In addition, in 2010 a two day work stoppage at the Port of New York and New Jersey by constituent locals of the International Longshoreman’s Association affected our operations on the U.S. east coast.

 

In addition, in the future, we may not be able to negotiate, on terms and conditions favorable to us, renewals of our collective bargaining agreements with unions in our industry and strikes and disruptions may occur as a result of our failure or the failure of other companies in our industry to negotiate collective bargaining agreements with such unions successfully. Our collective bargaining agreements are scheduled to expire as follows: three in 2011, three in 2012, one in 2013, one in 2014, and two in 2017.

 

Our Employees are Covered By Federal Laws That May Subject Us to Job-Related Claims in Addition to Those Provided By State Laws.

 

Some of our employees are covered by several maritime statutes, including provisions of the Jones Act, the Death on the High Seas Act, the Seamen’s Wage Act and general maritime law. These laws typically operate to make liability limits established by state workers’ compensation laws inapplicable to these employees and to permit these employees and their representatives to pursue actions against employers for job-related injuries in federal courts. Because we are not generally protected by the limits imposed by state workers’ compensation statutes for these employees, we may have greater exposure for any claims made by these employees than is customary in the United States.

 

Due to Our Participation in Multi-Employer Pension Plans, We May Have Exposure Under Those Plans That Extends Beyond What Our Obligations Would Be With Respect to Our Employees.

 

We contribute to fifteen multi-employer pension plans.  In the event of a partial or complete withdrawal by us from any plan which is underfunded, we would be liable for a proportionate share of such plan’s unfunded vested benefits. Based on the limited information available from plan administrators, which we cannot independently validate, we believe that our portion of the contingent liability in the case of a full withdrawal or termination would be material to our financial position and results of operations. In the event that any other contributing employer withdraws from any plan which is underfunded, and such employer (or any member in its controlled group) cannot satisfy its obligations under the plan at the time of withdrawal, then we, along with the other remaining contributing employers, would be liable for our proportionate share of such plan’s unfunded vested benefits. We have no current intention of taking any action that would subject us to any withdrawal liability and cannot assure you that no other contributing employer will take such action.

 

In addition, if a multi-employer plan fails to satisfy the minimum funding requirements, the Internal Revenue Service, pursuant to Section 4971 of the Internal Revenue Code of 1986, as amended, referred to herein as the Code, will impose an excise tax of five (5%) percent on the amount of the accumulated funding deficiency. Under Section 413(c)(5) of the Code, the liability of each contributing employer, including us, will be determined in part by each employer’s respective delinquency in meeting the required employer contributions under the plan. The Code also requires contributing employers to make additional contributions in order to reduce the deficiency to zero, which may, along with the payment of the excise tax, have a material adverse impact on our financial results.

Compliance With Safety and Environmental Protection and Other Governmental Requirements May Adversely Affect Our Operations.

 

The shipping industry in general and our business and the operation of our vessels and terminals in particular are affected by extensive and changing safety, environmental protection and other international, national, state and local governmental laws and regulations. For example, our vessels, as U.S.-flagged vessels, generally must be maintained “in class” and are subject to periodic inspections by the American Bureau of Shipping or similar classification societies, and must be periodically inspected by, or on behalf of, the U.S. Coast Guard. Federal environmental laws and certain state laws require us, as a vessel operator, to comply with numerous environmental regulations and to obtain certificates of financial responsibility and to adopt procedures for oil or hazardous substance spill prevention, response and clean up. In complying with these laws, we have incurred expenses and may incur future expenses for ship modifications and changes in operating procedures. Changes in enforcement policies for existing requirements and additional laws and regulations adopted in the future could limit our ability to do business or further increase the cost of our doing business.

 

Our vessels’ operating certificates and licenses are renewed periodically during the required annual surveys of the vessels. However, there can be no assurance that such certificates and licenses will be renewed. Also, in the future, we may have to alter existing equipment, add new equipment to, or change operating procedures for, our vessels to comply with changes in governmental regulations, safety or other equipment standards to meet our customers’ changing needs. If any such costs are material, they could adversely affect our financial condition.

 

We Are Subject to Regulation and Liability Under Environmental Laws That Could Result in Substantial Fines and Penalties That May Have a Material Adverse Affect on Our Results of Operations.

 

The U.S. Act to Prevent Pollution from Ships, implementing the MARPOL convention, provides for severe civil and criminal penalties related to ship-generated pollution for incidents in U.S. waters within three nautical miles and in some cases in the 200-mile exclusive economic zone. The EPA requires vessels to obtain permits and comply with inspection, monitoring, recordkeeping and reporting requirements. Occasionally, our vessels may not operate in accordance with such permits or we may not adequately comply with recordkeeping and reporting requirements. Any such violations could result in substantial fines or penalties that could have a material adverse affect on our results of operations and our business.

 

We are Subject to Statutory and Regulatory Directives in the United States Addressing Homeland Security Concerns That May Increase Our Costs and Adversely Affect Our Operations.

 

Various government agencies within the Department of Homeland Security (“DHS”), including the Transportation Security Administration, the U.S. Coast Guard, and U.S. Bureau of Customs and Border Protection, have adopted, and may adopt in the future, rules, policies or regulations or changes in the interpretation or application of existing laws, rules, policies or regulations, compliance with which could increase our costs or result in loss of revenue.

 

The Coast Guard’s maritime security regulations, issued pursuant to the Maritime Transportation Security Act of 2002 (“MTSA”), require us to operate our vessels and facilities pursuant to both the maritime security regulations and approved security plans. Our vessels and facilities are subject to periodic security compliance verification examinations by the Coast Guard. A failure to operate in accordance with the maritime security regulations or the approved security plans may result in the imposition of a fine or control and compliance measures, including the suspension or revocation of the security plan, thereby making the vessel or facility ineligible to operate. We are also required to audit these security plans on an annual basis and, if necessary, submit amendments to the Coast Guard for

its review and approval. Failure to timely submit the necessary amendments may lead to the imposition of the fines and control and compliance measures mentioned above. Failure to meet the requirements of the maritime security regulations could have a material adverse effect on our results of operations.

 

DHS may adopt additional security-related regulations, including new requirements for screening of cargo and our reimbursement to the agency for the cost of security services. These new security-related regulations could have an adverse impact on our ability to efficiently process cargo or could increase our costs. In particular, our customers typically need quick shipping of their cargos and rely on our on-time shipping capabilities. If these regulations disrupt or impede the timing of our shipments, we may fail to meet the needs of our customers, or may increase expenses to do so.

 

Increased Inspection Procedures and Tighter Import and Export Controls Could Increase Costs and Disrupt Our Business.

 

Domestic and international container shipping is subject to various security and customs inspection and related procedures, referred to herein as inspection procedures, in countries of origin and destination as well as in countries in which transshipment points are located. Inspection procedures can result in the seizure of containers or their contents, delays in the loading, offloading, transshipment or delivery of containers and the levying of customs duties, fines or other penalties against exporters or importers (and, in some cases, shipping and logistics companies such as us). Failure to comply with these procedures may result in the imposition of fines and/or the taking of control or compliance measures by the applicable governmental agency, including the denial of entry into U.S. waters.

 

We understand that, currently, only a small proportion of all containers delivered to the United States are physically inspected by U.S., state or local authorities prior to delivery to their destinations. The U.S. government, foreign governments, international organizations, and industry associations have been considering ways to improve and expand inspection procedures. There are numerous proposals to enhance the existing inspection procedures, which if implemented would likely affect shipping and logistics companies such as us. Such changes could impose additional financial and legal obligations on us, including additional responsibility for physically inspecting and recording the contents of containers we are shipping. In addition, changes to inspection procedures could impose additional costs and obligations on our customers and may, in certain cases, render the shipment of certain types of cargo by container uneconomical or impractical. Any such changes or developments may have a material adverse effect on our business, financial condition and results of operations.

 

Restrictions on Foreign Ownership of Our Vessels Could Limit Our Ability to Sell Off Any Portion of Our Business or Result in the Forfeiture of Our Vessels.

 

The Jones Act restricts the foreign ownership interests in the entities that directly or indirectly own the vessels which we operate in our Jones Act markets. If we were to seek to sell any portion of our business that owns any of these vessels, we would have fewer potential purchasers, since some potential purchasers might be unable or unwilling to satisfy the foreign ownership restrictions described above. As a result, the sales price for that portion of our business may not attain the amount that could be obtained in an unregulated market. Furthermore, at any point Horizon Lines, LLC, our indirect wholly-owned subsidiary and principal operating subsidiary, ceases to be controlled and 75% owned by U.S. citizens, we would become ineligible to operate in our current Jones Act markets and may become subject to penalties and risk forfeiture of our vessels.

 

No Assurance Can Be Given That Our Insurance Costs Will Not Escalate.

 

Our protection and indemnity insurance (“P&I”) is provided by a mutual P&I club which is a member of the International Group of P&I clubs. As a mutual club, it relies on member premiums, investment reserves and income, and reinsurance to manage liability risks on behalf of its members.

Increased investment losses, underwriting losses, or reinsurance costs could cause international marine insurance clubs to increase the cost of premiums, resulting not only in higher premium costs, but also higher levels of deductibles and self-insurance retentions.

 

Our coverage under the Longshore Act for U.S. Longshore and Harbor Workers compensation is provided by Signal Mutual Indemnity Association Ltd. Signal Mutual is a non-profit organization whose members pool risks of a similar nature to achieve long-term and stable insurance protection at cost. Signal Mutual is now the largest provider of Longshore benefits in the country. This program provides for first-dollar coverage without a deductible.

 

Catastrophic Losses and Other Liabilities Could Adversely Affect Our Results of Operations and Such Losses and Liability May Be Beyond Insurance Coverage.

 

The operation of any oceangoing vessel carries with it an inherent risk of catastrophic maritime disaster, mechanical failure, collision, and loss of or damage to cargo. Also, in the course of the operation of our vessels, marine disasters, such as oil spills and other environmental mishaps, cargo loss or damage, and business interruption due to political or other developments, as well as maritime disasters not involving us, labor disputes, strikes and adverse weather conditions, could result in loss of revenue, liabilities or increased costs, personal injury, loss of life, severe damage to and destruction of property and equipment, pollution or environmental damage and suspension of operations. Damage arising from such occurrences may result in lawsuits asserting large claims.

 

Although we maintain insurance, including retentions and deductibles, at levels that we believe are consistent with industry norms against the risks described above, including loss of life, there can be no assurance that this insurance would be sufficient to cover the cost of damages suffered by us from the occurrence of all of the risks described above or the loss of income resulting from one or more of our vessels being removed from operation. We also cannot be assured that a claim will be paid or that we will be able to obtain insurance at commercially reasonable rates in the future. Further, if we are negligent or otherwise responsible in connection with any such event, our insurance may not cover our claim.

 

In the event that any of the claims arising from any of the foregoing possible events were assessed against us, all of our assets could be subject to attachment and other judicial process.

 

As a result of the significant insurance losses incurred in the September 11, 2001 attack and related concern regarding terrorist attacks, global insurance markets increased premiums and reduced or restricted coverage for terrorist losses generally. Accordingly, premiums payable for terrorist coverage have increased substantially and the level of terrorist coverage has been significantly reduced.

 

Additionally, new and stricter environmental regulations have led to higher costs for insurance covering environmental damage or pollution, and new regulations could lead to similar increases or even make this type of insurance unavailable.

 

The reliability of our service may be adversely affected if our spare vessels reserved for relief are not deployed efficiently under extreme circumstances, which could damage our reputation and harm our operating results. We generally keep spare vessels in reserve available for relief if one of our vessels in active service suffers a maritime disaster or must be unexpectedly removed from service for repairs. However, these spare vessels may require several days of sailing before it can replace the other vessel, resulting in service disruptions and loss of revenue. If more than one of our vessels in active service suffers a maritime disaster or must be unexpectedly removed from service, we may have to redeploy vessels from our other trade routes, or lease one or more vessels from third parties. We may suffer a material adverse effect on our business if we are unable to rapidly deploy one of our spare vessels and we fail to provide on-time scheduled service and adequate capacity to our customers.

Interruption or Failure of Our Information Technology and Communications Systems Could Impair our Ability to Effectively Provide Our Shipping and Logistics Services, Especially HITS, Which Could Damage Our Reputation and Harm Our Operating Results.

 

Our provision of our shipping and logistics services depends on the continuing operation of our information technology and communications systems, especially HITS. We have experienced brief system failures in the past and may experience brief or substantial failures in the future. Any failure of our systems could result in interruptions in our service reducing our revenue and profits and damaging our brand. Some of our systems are not fully redundant, and our disaster recovery planning does not account for all eventualities. The occurrence of a natural disaster, or other unanticipated problems at our facilities at which we maintain and operate our systems could result in lengthy interruptions or delays in our shipping and logistics services, especially HITS.

 

Our Vessels Could Be Arrested By Maritime Claimants, Which Could Result in Significant Loss of Earnings and Cash Flow.

 

Crew members, suppliers of goods and services to a vessel, shippers of cargo, lenders and other parties may be entitled to a maritime lien against a vessel for unsatisfied debts, claims or damages. In many jurisdictions, a claimant may enforce its lien by either arresting or attaching a vessel through foreclosure proceedings. Moreover, crew members may place liens for unpaid wages that can include significant statutory penalty wages if the unpaid wages remain overdue (e.g., double wages for every day during which the unpaid wages remain overdue). The arrest or attachment of one or more of our vessels could result in a significant loss of earnings and cash flow for the period during which the arrest or attachment is continuing.

 

In addition, international vessel arrest conventions and certain national jurisdictions allow so-called sister-ship arrests, which allow the arrest of vessels that are within the same legal ownership as the vessel which is subject to the claim or lien. Certain jurisdictions go further, permitting not only the arrest of vessels within the same legal ownership, but also any associated vessel. In nations with these laws, an association may be recognized when two vessels are owned by companies controlled by the same party. Consequently, a claim may be asserted against us or any of our vessels for the liability of one or more of the other vessels that we own.

 

We are Susceptible to Severe Weather and Natural Disasters.

 

Our operations are vulnerable to disruption as a result of weather and natural disasters such as bad weather at sea, hurricanes, typhoons and earthquakes. Such events will interfere with our ability to provide the on-time scheduled service our customers demand resulting in increased expenses and potential loss of business associated with such events. In addition, severe weather and natural disasters can result in interference with our terminal operations, and may cause serious damage to our vessels, loss or damage to containers, cargo and other equipment and loss of life or physical injury to our employees. Terminals in the South Pacific Ocean, particularly in Guam, and terminals on the east coast of the continental U.S. and in the Caribbean are particularly susceptible to hurricanes and typhoons. In the recent past, the terminal at our port in Guam was seriously damaged by a typhoon and our terminal in Puerto Rico was seriously damaged by a hurricane. These storms resulted in damage to cranes and other equipment and closure of these facilities. Earthquakes in Anchorage and in Guam have also damaged our terminal facilities resulting in delay in terminal operations and increased expenses. Any such damage will not be fully covered by insurance.

 

We May Face New Competitors.

 

Other established or start-up shipping operators may enter our markets to compete with us for business.

 

Existing non-Jones Act qualified shipping operators whose container ships sail between ports in Asia and the U.S. west coast could add Hawaii, Guam or Alaska as additional stops on their sailing

routes for non-U.S. originated or destined cargo. Shipping operators could also add Puerto Rico as a new stop on sailings of their vessels between the continental U.S. and ports in Europe, the Caribbean, and Latin America for non-U.S. originated or destined cargo. Further, shipping operators could introduce U.S.-flagged vessels into service sailing between Guam and U.S. ports, including ports on the U.S. west coast or in Hawaii. On these routes to and from Guam no limits would apply as to the origin or destination of the cargo dropped off or picked up. In addition, current or new U.S. citizen shipping operators may order the building of new vessels by U.S. shipyards and may introduce these U.S.-built vessels into Jones Act qualified service on one or more of our trade routes. These potential competitors may have access to financial resources substantially greater than our own. The entry of a new competitor on any of our trade routes could result in a significant increase in available shipping capacity that could have a material adverse effect on our business, financial condition, results of operations and cash flows.

 

We May Not Exercise Our Purchase Options For Our Chartered Vessels.

 

We intend to exercise our purchase options for the three Jones Act vessels that we have chartered upon the expiration of their charters in January 2015. In addition, we have not determined whether we will exercise our scheduled purchase options for the five recently built U.S.-flag vessels that we have chartered. There can be no assurance that, when these options for these eight vessels become exercisable, the price at which these vessels may be purchased will be reasonable in light of the fair market value of these vessels at such time or that we will have the funds required to make these purchases. As a result, we may not exercise our options to purchase these vessels. If we do not exercise our options, we may need to renew our existing charters for these vessels or charter replacement vessels. There can be no assurance that our existing charters will be renewed, or, if renewed, that they will be renewed at favorable rates, or, if not renewed, that we will be able to charter replacement vessels at favorable rates.

 

We May Face Significant Costs As the Vessels Currently in Our Fleet Age.

 

We believe that each of the vessels we currently operate has an estimated useful life of approximately 45 years from the year it was built. As of the date hereof, the average age of our active vessels is approximately 23 years and the average age of our Jones Act vessels is approximately 33 years. We expect to incur increasing costs to operate and maintain the vessels in good condition as they age. Eventually, these vessels will need to be replaced. We may not be able to replace our existing vessels with new vessels based on uncertainties related to financing, timing and shipyard availability.

 

We May Face Unexpected Substantial Dry-Docking Costs For Our Vessels.

 

Our vessels are dry-docked periodically to comply with regulatory requirements and to effect maintenance and repairs, if necessary. The cost of such repairs at each dry-docking are difficult to predict with certainty and can be substantial. Our established processes have enabled us to make on average six dry-dockings per year over the last five years with a minimal impact on schedule. There are some years when we have more than the average of six dry-dockings annually. In addition, our vessels may have to be dry-docked in the event of accidents or other unforeseen damage. Our insurance may not cover all of these costs. Large unpredictable repair and dry-docking expenses could significantly decrease our profits.

 

Our Recent Change of Chief Executive Officer May be Viewed Negatively and Could Have an Adverse Impact on Our Business, and if We Do Not Successfully Manage the Transitions Associated with Our New Management Team, It Could Have an Adverse Impact on Our Business.

 

The leadership and expertise of Charles G. Raymond, our former CEO, and his long-standing relationships with customers has been instrumental in our success. His recent retirement as CEO

could have material adverse affect on our business. In addition, our board of directors recently appointed Stephen Fraser, a current board member, to act as interim CEO to replace Mr. Raymond, until a replacement is identified. Investors, employees, customers and others could react negatively to this and any future executive management transitions.

 

Our future success will be dependent upon Mr. Fraser’s ability and any permanent replacement CEO’s ability to gain proficiency in leading our Company, his ability to implement and adapt our business strategy and his ability to develop key professional relationships. It is important for us to successfully manage these transitions as our failure to do so could adversely affect our ability to operate our business. In addition, we will incur additional expenses associated with the compensation of our former CEO, our interim CEO and any permanent CEO.

 

Loss of Any Additional Personnel Could Adversely Affect Our Business.

 

Our ability to successfully manage our business during any management transition will depend, in significant part, upon the continued services of Michael T. Avara, our Executive Vice President and Chief Financial Officer, and Brian W. Taylor, our Executive Vice President and Chief Operating Officer. The loss of the services of any of these executive officers could adversely affect our future operating results because of their experience and knowledge of our business. If key employees depart, we may have to incur significant costs to replace them and our ability to execute our business model could be impaired if we cannot replace them in a timely manner. We do not expect to maintain key person insurance on any of our executive officers.

 

We are Subject to, and May in the Future Be Subject to, Disputes, or Legal or Other Proceedings, That Could Have a Material Adverse Effect on Us.

 

The nature of our business exposes us to the potential for disputes, or legal or other proceedings, from time to time relating to labor and employment matters, personal injury and property damage, environmental matters and other matters, as discussed in the other risk factors disclosed in this Form 10-K. In addition, as a common carrier, our tariffs, rates, rules and practices in dealing with our customers are governed by extensive and complex foreign, federal, state and local regulations which are the subject of disputes or administrative and/or judicial proceedings from time to time. These disputes, individually or collectively, could harm our business by distracting our management from the operation of our business. If these disputes develop into proceedings, these proceedings, individually or collectively, could involve significant expenditures by us or result in significant changes to our tariffs, rates, rules and practices in dealing with our customers that could have a material adverse effect on our future revenue and profitability.

 

Our Secured Credit Facility Exposes Us to the Variability of Interest Rates.

 

The term loan and revolving credit portions of our senior credit facility bear interest at variable rates. As of December 26, 2010, we had outstanding a $93.8 million term loan and $100.0 million under the revolving credit facility, which bear interest at variable rates. The interest rates applicable to the senior credit facility vary with the prevailing corporate base rate offered by the administrative agent under the senior credit facility or with LIBOR. If these rates were to increase significantly, our ability to borrow additional funds may be reduced and the risks related to our substantial indebtedness would intensify. Each quarter point change in interest rates would result in a $0.3 million change in annual interest expense on the revolving credit facility. Accordingly, a significant rise in interest rates would adversely affect our financial results.

If Non-U.S. Citizens Own More Than 19.9% of Our Stock, We May Not Have the Funds or the Ability to Redeem Any Excess Shares and We Could Be Forced to Suspend Our Jones Act Operations.

 

Our certificate of incorporation contains provisions voiding transfers of shares of any class or series of our capital stock that would result in non-U.S. citizens, in the aggregate, owning in excess of 19.9% of the shares of such class or series. In the event that this transfer restriction would be ineffective, our certificate of incorporation provides for the automatic transfer of such excess shares to a trust specified therein. These trust provisions also apply to excess shares that would result from a change in the status of a record or beneficial owner of shares of our capital stock from a U.S. citizen to a non-U.S. citizen. In the event that these trust transfer provisions would also be ineffective, our certificate of incorporation permits us to redeem such excess shares. However, we may not be able to redeem such excess shares because our operations may not have generated sufficient excess cash flow to fund such redemption. If such a situation occurs, there is no guarantee that we will be able to obtain the funds necessary to affect such redemption on terms satisfactory to us or at all. The senior credit facility permits upstream payments from our subsidiaries, subject to exceptions, to the Company to fund redemptions of excess shares.

 

If, for any of the foregoing reasons or otherwise, we are unable to effect such a redemption when such ownership of shares by non-U.S. citizens is in excess of 25.0% of such class or series, or otherwise prevent non-U.S. citizens in the aggregate from owning shares in excess of 25.0% of any such class or series, or fail to exercise our redemption right because we are unaware that such ownership exceeds such percentage, we will likely be unable to comply with applicable maritime laws. If all of the citizenship-related safeguards in our certificate of incorporation fail at a time when ownership of shares of any class or series of our stock is in excess of 25.0% of such class or series, we will likely be required to suspend our Jones Act operations. Any such actions by governmental authorities would have a severely detrimental impact on our results of operations.

 

Our Share Price Will Fluctuate.

 

Stock markets in general and our common stock in particular have experienced significant price and volume volatility over the past year. The market price and trading volume of our common stock may continue to be subject to significant fluctuations due not only to general stock market conditions but also to variability in the prevailing sentiment regarding our operations or business prospects, as well as potential further decline of our common stock due to margin calls on loans secured by pledges of our common stock.

Environmental and Other Regulation

 

Our marine operations are subject to various federal, state and local environmental laws and regulations implemented principally by the United States Coast Guard (“Coast Guard”), Environmental Protection Agency (“EPA”), and the United States Department of Transportation (“DOT”), as well as state environmental regulatory agencies. These requirements generally govern the safe operations of our ships and pollution prevention in U.S. internal waters, the territorial sea, and the 200-mile exclusive economic zone of the United States.

 

The operation of our vessels is also subject to regulation under various international conventions adopted by the International Maritime Organization (“IMO”) that are implemented by the laws of the jurisdictions in which we trade, and enforced by the Coast Guard and port state authorities in our non-U.S. ports of call. In addition, our vessels are required to meet construction, maintenance and repair standards established by the American Bureau of Shipping (“ABS”), Det Norske Veritas (“DNV”), IMO and/or the Coast Guard, and to meet operational, environmental, security, and safety standards and regulations presently established by the Coast Guard and IMO. The Coast Guard also licenses our seagoing officers and certifies our seamen.

 

Our marine operations are further subject to regulation by various federal agencies or the successors to those agencies, including the Surface Transportation Board (“STB”, the successor federal agency to the Interstate Commerce Commission), the Maritime Administration (“MARAD,” an agency within the DOT), the Federal Maritime Commission, the EPA, U.S. Customs and Border Protection, and the Coast Guard. These regulatory authorities have broad powers over operational safety, tariff filings of freight rates, service contracts, certain mergers, contraband, pollution prevention, financial reporting, and homeland, port and vessel security.

 

Our common and contract motor carrier operations are regulated by the STB and various state agencies. Our drivers also must comply with the safety and fitness regulations promulgated by the DOT, including certain regulations for drug and alcohol testing and hours of service. The ship’s officers and unlicensed crew members employed aboard our vessels must also comply with numerous safety and fitness regulations promulgated by the Coast Guard, the DOT, and the IMO, including certain regulations for drug testing and hours of service.

 

The United States Oil Pollution Act of 1990 and the Comprehensive Environmental Response, Compensation and Liability Act

 

The Oil Pollution Act of 1990 (“OPA”) was enacted and established a comprehensive regulatory and liability regime designed to increase pollution prevention, ensure better spill response capability, increase liability for oil spills, and facilitate prompt compensation for cleanup and damages. OPA is applicable to owners and operators whose vessels trade with the United States or its territories or possessions, or whose vessels operate in the navigable waters of the United States (generally three nautical miles from the coastline) and the 200 nautical mile exclusive economic zone of the United States. Under OPA, vessel owners, operators and bareboat charterers are “responsible parties” and are jointly, severally and strictly liable (unless it is determined by the Coast Guard or a court of competent jurisdiction that the spill results solely from the act or omission of a third party, an act of God or an act of war) for removal costs and damages arising from discharges or threatened discharges of oil from their vessels up to their limits of liability, unless the limits are broken as indicated below. “Damages” are defined broadly under OPA to include:

 

 

 

Effective July 31, 2009, the OPA regulations were amended to increase the liability limits for responsible parties for non-tank vessels to $1,000 per gross ton or $854,400, whichever is greater. These limits of liability do not apply: (1) if an incident was proximately caused by violation of applicable federal safety, construction or operating regulations or by a responsible party’s gross negligence or willful misconduct, or (2) if the responsible party fails or refuses to report the incident, fails to provide reasonable cooperation and assistance requested by a responsible official in connection with oil removal activities, or without sufficient cause fails to comply with an order issued under OPA.

 

In 1980, the Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”) was adopted and is applicable to the discharge of hazardous substances (other than oil) whether on land or at sea. CERCLA also imposes liability similar to OPA and provides for cleanup, removal and natural resource damage. Liability per vessel under CERCLA is limited to the greater of $300 per gross ton or $5 million, unless the incident is caused by gross negligence, willful misconduct, or a violation of certain regulations, in which case liability is unlimited.

 

OPA requires owners and operators of vessels to establish and maintain with the Coast Guard evidence of financial responsibility sufficient to meet their potential liabilities under the OPA. Effective July 1, 2009, the Coast Guard regulations requiring evidence of financial responsibility were amended to conform the OPA financial responsibility requirements to the July 2009 increases in liability limits. Current Coast Guard regulations require evidence of financial responsibility for oil pollution in the amount of $1,000 per gross ton or $854,400, whichever is greater, for non-tank vessels, plus the CERCLA liability limit of $300 per gross ton for hazardous substance spills. As a result of the Delaware River Protection Act, which was enacted by Congress in 2006, the OPA limits of liability must be adjusted not less than every three years to reflect significant increases in the Consumer Price Index.

 

Under the Coast Guard regulations, vessel owners and operators may evidence their financial responsibility through an insurance guaranty, surety bond, self-insurance, financial guaranty or other evidence of financial responsibility acceptable to the Coast Guard. Under OPA, an owner or operator of a fleet of vessels may demonstrate evidence of financial responsibility in an amount sufficient to cover the vessels in the fleet having the greatest maximum liability under OPA.

 

The Coast Guard’s regulations concerning certificates of financial responsibility provide, in accordance with OPA, that claimants may bring suit directly against an insurer or guarantor that furnishes certificates of financial responsibility. In the event that such insurer or guarantor is sued directly, it is prohibited from asserting any contractual defense that it may have had against the responsible party and is limited to asserting those defenses available to the responsible party and the defense that the incident was caused by the willful misconduct of the responsible party. Certain organizations, which had typically insured shipowners before enactment of OPA, including the major protection and indemnity clubs, have declined to furnish an insurance guaranty for vessel owners and operators if they are subject to direct actions or are required to waive insurance policy defenses.

 

OPA allows individual states to impose their own liability regimes with regard to oil pollution incidents occurring within their boundaries, and some states have enacted legislation providing for unlimited liability for oil spills as well as requirements for response and contingency planning and requirements for financial responsibility. We intend to comply with all applicable state regulations in the states where our vessels call.

 

We maintain Certificates of Financial Responsibility as required by the Coast Guard and various states for our vessels.

In 2010, both houses of Congress proposed legislation to create certain more stringent requirements related to the prevention and response to oil spills in U.S. waters and to increase both financial responsibility requirements and the limits of liability under OPA and increase penalties. Although the U.S. House of Representatives passed spill legislation, the U.S. Senate did not act on that legislation, and thus no legislation was enacted during the 2009-2010 term of Congress. Spill legislation has again been introduced in Congress for its 2011-2012 term. If Congress passes spill legislation, we could be subject to greater potential liability or penalties if any of our vessels has an incident or we could be required to comply with other requirements thereby increasing our operating costs.

 

The Act to Prevent Pollution from Ships and MARPOL Requirements for Oil Pollution Prevention

 

The International Convention for the Prevention of Pollution from Ships, 1973, as modified by the Protocol of 1978 relating thereto (“MARPOL”), is the main international convention covering prevention of pollution of the marine environment by vessels from operational or accidental causes. It has been updated by amendments through the years and is implemented in the United States pursuant to the Act to Prevent Pollution from Ships. MARPOL has six specific annexes and Annex I governs oil pollution.

 

Since the 1990s, the DOJ has been aggressively enforcing U.S. criminal laws against vessel owners, operators, managers, crewmembers, shoreside personnel, and corporate officers for actions related to violations of Annex I. Prosecutions generally involve violations related to pollution prevention devices, such as the oil-water separator, and include falsifying the Oil Record Book, obstruction of justice, false statements and conspiracy. Over the past 10 years, the DOJ has imposed significant criminal penalties in vessel pollution cases and the vast majority of such cases did not actually involve pollution in the United States, but rather efforts to conceal or cover up pollution that occurred elsewhere. In certain cases, responsible shipboard officers and shoreside officials have been sentenced to prison. In addition, the DOJ has required defendants to implement a comprehensive environmental compliance plan (“ECP”). If we are subjected to a DOJ criminal prosecution, we could face significant criminal penalties and defense costs as well as costs associated with the implementation of an ECP.

 

The United States Clean Water Act

 

Enacted in 1972, the United States Clean Water Act (“CWA”) prohibits the discharge of “pollutants,” which includes oil or hazardous substances, into navigable waters of the United States and imposes civil and criminal penalties for unauthorized discharges. The CWA complements the remedies available under OPA and CERCLA discussed above.

 

The CWA also established the National Pollutant Discharge Elimination System (“NPDES”) permitting program, which governs discharges of pollutants into navigable waters of the United States. Pursuant to the NPDES, EPA issued a Vessel General Permit (“VGP”), which has been in effect since February 6, 2009, covering 26 types of discharges incidental to normal vessel operations. The VGP applies to U.S. and foreign-flag commercial vessels that are at least 79 feet in length, and therefore applies to our vessels.

 

The VGP requires vessel owners and operators to adhere to “best management practices” to manage the 26 listed discharge streams, including ballast water, that occur normally in the operation of a vessel. Vessel owners and operators must implement various training, inspection, monitoring, record keeping, and reporting requirements, as well as corrective actions upon identification of each deficiency. Several states have specified significant, additional requirements in connection with state mandated CWA certifications relating to the VGP.

 

On February 11, 2011, the EPA and the Coast Guard entered into a Memorandum of Understanding (“MOU”) outlining the steps the agencies will take to better coordinate efforts to implement and enforce the VGP. Under the MOU, the Coast Guard will identify and report to EPA detected VGP

deficiencies as a result of its normal boarding protocols for U.S.-flag and foreign-flag vessels. However, EPA retains responsibility and enforcement authority to address VGP violations. We have filed a Notice of Intent to be covered by the VGP for each of our ships. Failure to comply with the VGP may result in civil or criminal penalties.

 

The National Invasive Species Act

 

The United States National Invasive Species Act (“NISA”) was enacted in 1996 in response to growing reports of harmful organisms being released into United States waters through ballast water taken on by vessels in foreign ports. The Coast Guard adopted regulations under NISA in July 2004 that impose mandatory ballast water management practices for all vessels equipped with ballast water tanks entering United States waters. These requirements can be met by performing mid-ocean ballast exchange, by retaining ballast water on board the vessel, or by using environmentally sound ballast water treatment methods approved by the Coast Guard. Mid-ocean ballast exchange is the primary method for compliance with the Coast Guard regulations; alternative methods for ballast water treatment are still under development. Vessels that are unable to conduct mid-ocean ballast exchange due to voyage or safety concerns may discharge minimum amounts of ballast water, provided that they comply with recordkeeping requirements and document the reasons they could not follow the required ballast water management requirements. On August 28, 2009, the Coast Guard proposed to amend its regulations on ballast water management by establishing standards for the allowable concentration of living organisms in a vessel’s ballast water discharged in United States waters. As proposed, it would establish a two tier standard. Tier one would set the initial limits to match those set internationally by IMO in the Ballast Water Convention, which has not yet entered into force. These limits are proposed to come into force by January 1, 2012. A limited number of technologies have been approved and may enable some vessels to meet these discharge standards. The tier two standard would be more stringent and cannot be met using existing treatment technology. This second tier, as proposed, would come into effect on January 1, 2017. Although it cannot be predicted with any certainty when the Coast Guard will issue a final rule implementing a new ballast water standard and what discharge standards will be required, the Coast Guard currently estimates that it will publish a ballast water standard in 2011. Upon entry into force of the IMO Ballast Water Convention two of our vessels will be required to have a ballast water treatment system on board by their first survey date after January 1, 2015. All of our remaining vessels will be required to have an approved system on board by their first survey after January 1, 2016. Systems are available that will meet the IMO standards.

 

Both houses of Congress have proposed a number of bills to amend NISA but it cannot be predicted which bill, if any, will be enacted into law.

 

In the absence of stringent federal standards, states have enacted legislation or regulations to address invasive species through ballast water and hull cleaning management, and permitting requirements, which in many cases have also become part of the state’s VGP certification. For instance, California requires vessels to comply with state ballast water discharge and hull fouling requirements. Oceangoing vessels covered by the VGP are prohibited from discharging ballast water in Michigan waters unless the vessel meets Michigan state requirements and obtains a Michigan permit. New York requires vessels to meet ballast water treatment standards by January 1, 2012 with technology that is not available today, but has granted extensions to this deadline until August 1, 2013. Other states may proceed with the enactment of similar requirements that could increase the costs of operating in state waters.

 

The United States Clean Air Act and Air Emission Standards under MARPOL

 

In 1970, the United States Clean Air Act (as amended by the Clean Air Act Amendments of 1977 and 1990, the “CAA”) was enacted and required the EPA to promulgate standards applicable to emissions of volatile organic compounds and other air contaminants. The CAA also requires states to submit State Implementation Plans (“SIPs”), which are designed to attain national health-based air

quality standards throughout the United States, including major metropolitan and/or industrial areas. Several SIPs regulate emissions resulting from vessel loading and unloading operations by requiring the installation of vapor control equipment. The EPA and some states have each proposed more stringent regulations of air emissions from propulsion and auxiliary engineers on oceangoing vessels. For example, the California Air Resources Board of the state of California (“CARB”) has published regulations requiring oceangoing vessels visiting California ports to reduce air pollution through the use of marine distillate fuels once they sail within 24 miles of the California coastline effective July 1, 2009. More stringent fuel oil requirements are scheduled to go into effect on January 1, 2012.

 

The state of California also began on January 1, 2010, implementing regulations on a phased in basis that require vessels to either shut down their auxiliary engines while in port in California and use electrical power supplied at the dock or implement alternative means to significantly reduce emissions from the vessel’s electric power generating equipment while it is in port. Generally, a vessel will run its auxiliary engines while in port in order to power lighting, ventilation, pumps, communication and other onboard equipment. The emissions from running auxiliary engines while in port may contribute to particulate matter in the ambient air. The purpose of the regulations is to reduce the emissions from a vessel while it is in port. The cost of reducing vessel emissions while in port may be substantial if we determine that we cannot use or the ports will not permit us to use electrical power supplied at the dock. Alternatively, the ports may pass the cost of supplying electrical power at the port to us, and we may incur additional costs in connection with modifying our vessels to use electrical power supplied at the dock.

 

Annex VI of MARPOL, addressing air emissions from vessels, came into force in the United States on January 8, 2009 and it will require the use of low sulfur fuels worldwide in both auxiliary and main propulsion diesel engines on vessels. By July 1, 2010, amendments to MARPOL required all diesel engines on vessels built between 1990 and 2000 to meet a Nitrous Oxide (“NOx”) standard of 17.0g-NOx/kW-hr. On January 1, 2011 the NOx standard will be lowered to 14.4 g-NOx/kW-hr and on January 1, 2016 it will be further lowered to 3.4 g-NOx/kW-hr, for vessels operating in a designated Emission Control Area (“ECA”).

 

In addition, the current global sulfur cap of 4.5% sulfur will be reduced to 3.5% effective January 1, 2012 and be further reduced to as low as 0.5% sulfur in 2020. The recommendations made in connection with a MARPOL fuel availability study scheduled for 2018 at IMO may cause this date to slip to 2025. The current 1.0% maximum sulfur omission permitted in designated ECAs will be reduced to 0.1% sulfur on January 1, 2015. These sulfur limitations will be applied to all subsequently approved ECAs.

 

In addition, the EPA has received approval of the IMO, in coordination with Environment Canada, to designate all waters within 200 nautical miles of Hawaii and the U.S. and Canadian coasts as ECAs. Under EPA regulations the North American ECA will go into force on January 1, 2012 limiting the sulfur content in fuel that is burned as described above. Beginning in 2016, NOx after-treatment requirements become applicable in this ECA as well. EPA has also obtained preliminary approval at IMO for an ECA around Puerto Rico and the U.S. Virgin Islands.

 

With the adoption of the United States ECA, all ships operating within 200 miles of the U.S. coast will be required to burn 1% sulfur content fuel oil as of August 1, 2012 and 0.1% sulfur content fuel oil as of January 1,2015. Our 12 steamships cannot safely burn 0.1% oil without extensive modification to or replacement of their boilers or fuel systems. It is not yet known if such a modification can be designed. EPA has received preliminary approval at IMO to exempt steamships from the 0.1% sulfur content fuel oil requirement until 2020.

 

The Resource Conservation and Recovery Act

 

Our operations occasionally generate and require the transportation, treatment and disposal of both hazardous and non-hazardous solid wastes that are subject to the requirements of the United States Resource Conservation and Recovery Act (“RCRA”) or comparable state, local or foreign

requirements. From time to time we arrange for the disposal of hazardous waste or hazardous substances at offsite disposal facilities. With respect to our marine operations, EPA has a longstanding policy that RCRA only applies after wastes are “purposely removed” from the vessel. As a general matter, with certain exceptions, vessel owners and operators are required to determine if their wastes are hazardous, obtain a generator identification number, comply with certain standards for the proper management of hazardous wastes, and use hazardous waste manifests for shipments to disposal facilities. The degree of RCRA regulation will depend on the amount of hazardous waste a generator generates in any given month. Moreover, vessel owners and operators may be subject to more stringent state hazardous waste requirements in those states where they land hazardous wastes. If such materials are improperly disposed of by third parties that we contract with, we may still be held liable for cleanup costs under applicable laws.

 

Endangered Species Regulation

 

The Endangered Species Act, federal conservation regulations and comparable state laws protect species threatened with possible extinction. Protection of endangered and threatened species may include restrictions on the speed of vessels in certain ocean waters and may require us to change the routes of our vessels during particular periods. For example, in an effort to prevent the collision of vessels with the North Atlantic right whale, federal regulations restrict the speed of vessels to ten knots or less in certain areas along the Atlantic Coast of the United States during certain times of the year. The reduced speed and special routing along the Atlantic Coast results in the use of additional fuel, which affects our results of operations.

 

Greenhouse Gas Regulation

 

In February 2005, the Kyoto Protocol to the United Nations Framework Convention on Climate Change (the “Kyoto Protocol”) entered into force. Pursuant to the Kyoto Protocol, countries that are parties to the Convention are required to implement national programs to reduce emissions of certain gases, generally referred to as greenhouse gases, which are suspected of contributing to global warming. In October 2007, the California Attorney General and a coalition of environmental groups petitioned the EPA to regulate greenhouse gas emissions from oceangoing vessels under the CAA. Any passage of climate control legislation or other regulatory initiatives in the United States that restrict emissions of greenhouse gases could entail financial impacts on our operations that cannot be predicted with certainty at this time. The issue is being heavily debated within various international regulatory bodies, such as the IMO, as well and climate control measures that effect shipping could also be implemented on an international basis potentially affecting our vessel operations.

 

Vessel Security Regulations

 

Following the terrorist attacks on September 11, 2001, there have been a variety of initiatives intended to enhance vessel security within the United States and internationally. On November 25, 2002, the Maritime Transportation Security Act of 2002 (“MTSA”) was signed into law. To implement certain portions of MTSA, in July 2003, the Coast Guard issued regulations requiring the implementation of certain security requirements aboard vessels operating in waters subject to the jurisdiction of the United States. Similarly, in December 2002, the IMO adopted amendments to the International Convention for the Safety of Life at Sea (“SOLAS”), known as the International Ship and Port Facilities Security Code (the “ISPS Code”), creating a new chapter dealing specifically with maritime security. The new chapter came into effect in July 2004 and imposes various detailed security obligations on vessels and port authorities. Among the various requirements under MTSA and/or the ISPS Code are:

 

 

 

The Coast Guard regulations, intended to align with international maritime security standards, generally deem foreign-flag vessels to be in compliance with MTSA vessel security measures provided such vessels have on board a valid International Ship Security Certificate that attests to the vessel’s compliance with SOLAS security requirements and the ISPS Code. U.S.-flag vessels, however, must comply with all of the security measures required by MTSA, as well as SOLAS and the ISPS Code if engaged in international trade. We believe that we have implemented the various security measures required by the MTSA, SOLAS and the ISPS Code.

 

 

None.

 

We lease all of our facilities, including our terminal and office facilities located at each of the ports upon which our vessels call, as well as our central sales and administrative offices and regional sales offices. The following table sets forth the locations, descriptions, and square footage of our significant facilities as of December 26, 2010:

 

 

 

 

 

Antitrust Matters

 

On April 17, 2008, we received a grand jury subpoena and search warrant from the United States District Court for the Middle District of Florida seeking information regarding an investigation by the Antitrust Division of the Department of Justice (the “DOJ”) into possible antitrust violations in the domestic ocean shipping business. On February 23, 2011, we entered into a plea agreement with the DOJ whereby we agreed to plead guilty to a charge of violating federal antitrust laws solely with respect to the Puerto Rico tradelane and agreed to pay a fine of $45.0 million over five years without interest. The first $1.0 million of the fine must be paid within 30 days after imposition of the sentence by the court and annual payments of $1.0 million, $3.0 million, $5.0 million, $15.0 million and

$20.0 million must be paid on each anniversary thereafter. The plea agreement provides that we will not face additional charges relating to the Puerto Rico tradelane. On March 22, 2011, the court entered judgment accepting our plea agreement and placing us on probation for five years. The terms of the probation include that the Company: 1) file annual audited financial reports, 2) not commit a criminal act during the probation period, 3) report any material adverse legal or financial event, and 4) annually certify that it has an antitrust compliance program in place that satisfies the sentencing guidelines requirements, including antitrust education to key personnel.

 

In addition, the plea agreement provides that we will not face any additional charges in connection with the Alaska trade, and the DOJ has indicated that we are not a target or subject to any investigation in the Hawaii and Guam trades. Also, in June 2009, we entered into a conditional amnesty agreement with the DOJ under its Corporate Leniency Policy. The amnesty agreement pertains to a single contract relating to ocean shipping services provided to the United States Department of Defense. The DOJ has agreed to not bring any criminal prosecution with respect to that government contract, as long as we, among other things, continue our full cooperation in the investigation. The amnesty does not bar a claim for damages that may be sought by the DOJ under any applicable federal law or regulation.

 

We have included a charge of $30.0 million in our fiscal 2010 financial statements, which represents the present value of the $45.0 million in installment payments. We have not made a provision in the accompanying financial statements for any civil damages resulting from the amnesty matter in the accompanying financial statements.

 

Subsequent to the commencement of the DOJ investigation, fifty-eight purported class action lawsuits were filed against us and other domestic shipping carriers (the “Class Action Lawsuits”). Each of the Class Action Lawsuits purports to be on behalf of a class of individuals and entities who purchased domestic ocean shipping services directly from the various domestic ocean carriers. These complaints allege price-fixing in violation of the Sherman Act and seek treble monetary damages, costs, attorneys’ fees, and an injunction against the allegedly unlawful conduct. The Class Action Lawsuits were filed in the following federal district courts: eight in the Southern District of Florida, five in the Middle District of Florida, nineteen in the District of Puerto Rico, twelve in the Northern District of California, three in the Central District of California, one in the District of Oregon, eight in the Western District of Washington, one in the District of Hawaii, and one in the District of Alaska.

 

Thirty-two of the Class Action Lawsuits relate to ocean shipping services in the Puerto Rico tradelane and were consolidated into a single multidistrict litigation (“MDL”) proceeding in the District of Puerto Rico. On June 11, 2009, we entered into a settlement agreement with the named plaintiff class representatives in the Puerto Rico MDL. Under the settlement agreement, we have agreed to pay $20.0 million and to provide a base-rate freeze as described below to resolve claims for alleged antitrust violations in the Puerto Rico tradelane.

 

The base-rate freeze component of the settlement agreement provides that class members who have contracts in the Puerto Rico trade with us as of the effective date of the settlement would have the option, in lieu of receiving cash, to have their “base rates” frozen for a period of two years. The base-rate freeze would run for two years from the expiration of the contract in effect on the effective date of the settlement. All class members would be eligible to share in the $20.0 million cash component, but only our contract customers would be eligible to elect the base-rate freeze in lieu of receiving cash.

 

On July 8, 2009, the plaintiffs filed a motion for preliminary approval of the settlement in the Puerto Rico MDL. After several hearings, the Court granted preliminary approval of the settlement on July 12, 2010. The settlement is subject to final approval by the Court. We have paid $10.0 million into an escrow account and are required to pay the remaining $10.0 million within five business days after final approval of the settlement agreement by the District Court. On September 15, 2010, notices of the Puerto Rico settlement were mailed to class members, who had sixty days to respond. Some class members have elected to opt-out of the settlement in response to the class notice they have received. We have until April 29, 2011 to decide whether or not to proceed with the class settlement.

The customers that have elected to opt-out of the settlement may file lawsuits containing allegations similar to those made in the Puerto Rico MDL and seek the same type of damages under the Sherman Act as sought in the Puerto Rico MDL. We are not able to determine whether or not any actions will be brought against us or whether or not a negative outcome would be probable if brought against us, or a reasonable range for any such outcome, and have made no provisions for any potential proceedings in our financial statements. Given the volume of commerce involved in the Puerto Rico shipping business, an adverse ruling in a potential civil antitrust proceeding could subject us to substantial civil damages given the treble damages provisions of the Sherman Act.

 

In addition, we have actively engaged in discussions with a number of our customers in the Puerto Rico trade regarding the subject matter of the DOJ investigations. We have reached commercial agreements or are seeking to reach commercial agreements with certain of our major customers, with the condition that the customer relinquishes all claims arising out of the matters that are the subject of the antitrust investigations. In some cases, we have agreed to, or are seeking to agree to, future discounts which will be charged against operating revenue if and when the discount is earned and certain other conditions are met.

 

Twenty-five of the fifty-eight Class Action Lawsuits relate to ocean shipping services in the Hawaii and Guam tradelanes and were consolidated into a MDL proceeding in the Western District of Washington. On March 20, 2009, we filed a motion to dismiss the claims in the Hawaii and Guam MDL. On August 18, 2009, the United States District Court for the Western District of Washington entered an order dismissing, without prejudice, the Hawaii and Guam MDL. In dismissing the complaint, however, the plaintiffs were granted thirty days to amend their complaint. After several extensions, the plaintiffs filed an amended consolidated class action complaint on May 28, 2010. On July 12, 2010, we filed a motion to dismiss the plaintiffs’ amended complaint. The motion to dismiss the amended complaint was granted with prejudice on December 1, 2010, and the plaintiffs have served a notice of appeal with the United States Court of Appeals for the Ninth Circuit. We intend to vigorously defend against this purported class action lawsuit.

 

One district court case remains in the District of Alaska, relating to the Alaska tradelane. We and the plaintiffs have agreed to stay the Alaska litigation, and we intend to vigorously defend against the purported class action lawsuit in Alaska.

 

In addition, on July 9, 2008, a complaint was filed by Caribbean Shipping Services, Inc. in the Circuit Court, 4th Judicial Circuit in and for Duval County, Florida, against us and other domestic shipping carriers alleging price-fixing in violation of the Florida Antitrust Act and the Florida Deceptive and Unlawful Trade Practices Act. The complaint seeks treble damages, injunctive relief, costs and attorneys’ fees. The case is not brought as a class action. On October 27, 2008, we filed a motion to dismiss. The motion to dismiss is pending.

 

On October 9, 2009, we received a Request for Information and Production of Documents from the Puerto Rico Office of Monopolistic Affairs. The request relates to an investigation into possible price fixing and unfair competition in the Puerto Rico domestic ocean shipping business. In February 2011, the Commonwealth of Puerto Rico filed a lawsuit against us seeking monetary damages on behalf of the Attorney General of the Commonwealth of Puerto Rico and a class of persons (indirect purchasers).

 

On October 19, 2009, a purported class action lawsuit was filed against us, other domestic shipping carriers and certain individuals in the United States District Court for the District of Puerto Rico. The complaint purports to be on behalf of indirect purchasers who allege to have paid inflated prices for retail goods imported to Puerto Rico as a result of alleged price-fixing of the defendants in violation of the Sherman Act and various provisions of Puerto Rico law. The plaintiffs are seeking treble monetary damages, costs and attorneys’ fees. On April 9, 2010, we filed a motion to dismiss. The District Court has dismissed all counts in the complaint except those under Puerto Rico antitrust laws. The District Court has certified to the Puerto Rico Supreme Court the question of whether the Puerto Rico antitrust statute applies to interstate commerce.

On February 22, 2011, we entered into a Memorandum of Understanding with the attorneys representing the indirect purchasers and the Commonwealth of Puerto Rico to settle the investigation by the Puerto Rico Office of Monopolistic Affairs and the lawsuit filed by the Commonwealth of Puerto Rico in February 2011, and the class action lawsuit in the indirect purchasers case. Under the Memorandum of Understanding, we have agreed to pay $1.8 million for a full release in those matters. The settlement agreement, when negotiated and entered into by the parties, will be subject to court approval.

 

On December 31, 2008, a securities class action lawsuit was filed against us by the City of Roseville Employees’ Retirement System in the United States District Court for the District of Delaware. The complaint purported to be on behalf of purchasers of our common stock. The complaint alleged, among other things, that we made material misstatements and omissions in connection with alleged price-fixing in our shipping business in Puerto Rico in violation of antitrust laws. We filed a motion to dismiss, and the Court granted the motion to dismiss on November 13, 2009 with leave to file an amended complaint. The plaintiff filed an amended complaint on December 23, 2009, and we filed a motion to dismiss the amended complaint on February 12, 2010. Our motion to dismiss the amended complaint was granted with prejudice on May 18, 2010. On June 15, 2010, the plaintiff appealed the Court’s decision to dismiss the amended complaint. We filed our opposition brief with the Court of Appeals on December 22, 2010 and the plaintiffs filed their reply brief on February 2, 2011.

 

On March 9, 2010, our Board of Directors and certain current and former officers of the Company were named as defendants in a shareholder derivative lawsuit filed in the Superior Court of Mecklenburg County, North Carolina. The derivative suit was filed by a shareholder named Patrick Smith purportedly on behalf of Horizon Lines, Inc. claiming that the Directors and current and former officers named in the complaint breached their fiduciary duties and damaged the Company by allegedly causing us to engage in an antitrust conspiracy in the ocean shipping trade routes between the continental United States and Alaska, Hawaii, Guam and Puerto Rico. The relief being sought by the plaintiff includes monetary damages, fees and expenses associated with the action, including attorneys’ fees, and appropriate equitable relief. The defendants filed a motion to dismiss on May 27, 2010. The motion was granted on October 21, 2010. The time for an appeal has expired.

 

Through December 26, 2010, we have incurred approximately $28.1 million in legal and professional fees associated with the DOJ investigation, the antitrust related litigation, and other related legal proceedings.

 

Environmental Matters

 

We are subject to numerous laws and regulations relating to environmental matters and related record keeping and reporting. We have been advised that the U.S. Coast Guard and U.S. Attorney’s Office are investigating matters involving two of our vessels. We are cooperating with this investigation. It is possible that the outcome of the investigation could result in a substantial fine and other actions against us that could have an adverse effect on our business and operations.

 

In the ordinary course of business, from time to time, we become involved in various legal proceedings. These relate primarily to claims for loss or damage to cargo, employees’ personal injury claims, and claims for loss or damage to the person or property of third parties. We generally maintain insurance, subject to customary deductibles or self-retention amounts, and/or reserves to cover these types of claims. We also, from time to time, become involved in routine employment-related disputes and disputes with parties with which we have contractual relations.

 

 

There were no matters submitted to a vote of security holders through the solicitation of proxies or otherwise during the fourth quarter of fiscal 2010.

 

 

The Company’s Common Stock is traded on the New York Stock Exchange under the ticker symbol HRZ. As of March 21, 2011, there were approximately 6,750 holders of record of the Common Stock. The following table sets forth the intraday high and low sales price of the Company’s common stock on the New York Stock Exchange for the fiscal periods presented.

 

 

 

 

During the fourth quarter of 2010, there were no purchases of shares of the Company’s common stock, by or on behalf of the Company or any “affiliated purchaser” as defined by Rule 10b-18(a)(3) of the Securities Exchange Act of 1934.

 

Equity Compensation Plan Information

 

The information required by this item will be included in the Company’s proxy statement to be filed for the Annual Meeting of Stockholders to be held on June 2, 2011, and is incorporated herein by reference.

Total Return Comparison Graph

 

The below graph compares the cumulative total shareholder return of the public common stock of Horizon Lines, Inc. to the cumulative total returns of the Dow Jones U.S. Industrial Transportation Index and the S&P 500 Index for the period in which the Company’s stock has been publicly traded. Cumulative total returns assume reinvestment of dividends.

 

Comparison of Cumulative Total Return*

 

 

Notwithstanding anything to the contrary set forth in any of our filings under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, that might incorporate other filings with the Securities and Exchange Commission, including this annual report on Form 10-K, in whole or in part, the Total Return Comparison Graph shall not be deemed incorporated by reference into any such filings.

 

 

 

 

The five year selected financial data below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” included in this Form 10-K, and our consolidated financial statements and the related notes appearing in Item 15 of this Form 10-K.

 

We have a 52- or 53-week fiscal year (every sixth or seventh year) that ends on the Sunday before the last Friday in December. Fiscal year 2010 consisted of 53 weeks and each of the other years presented below consisted of 52 weeks.

 

Selected Financial Data is as follows (in thousands, except per share and per share data):

 

 

 

 

 

 

The following discussion and analysis of our consolidated financial condition and results of operations should be read in conjunction with Selected Consolidated and Combined Financial Data and our annual audited consolidated financial statements and related notes thereto included elsewhere in this Form 10-K. The following discussion includes forward-looking statements that involve certain risks and uncertainties. For additional information regarding forward looking statements, see the Safe Harbor Statement on page (i) of this Form 10-K.

 

Recent Developments

 

We believe that our financial position will be impacted during the second and third quarters of 2011. First, we expect that we will experience a covenant default under the indenture related to our $330.0 million aggregate principal amount of 4.25% Convertible Senior Notes due 2012 (the “Notes”). On March 22, 2011, the Court entered a judgment against us whereby we are required to pay a fine of $45.0 million to resolve the investigation by the U.S. Department of Justice into our domestic ocean shipping business. In March 2011, we solicited consents from the holders of the Notes to waive the default that may arise in connection with that judgment. We have until May 21, 2011 to satisfy the judgment or otherwise cure the default under the indenture relating to the Notes, and, as of the date of this filing, we have not been able to obtain a waiver from the holders of the Notes and do not presently have remedies to cure the default. Acceleration of all principal and interest may be pursued by the indenture trustee in the event of default. Should the indenture trustee pursue an acceleration, such an action would create a default in our Senior Credit Facility and other loans and financing arrangements due to cross default provisions contained in those agreements.

 

Second, although we amended our Senior Credit Facility in March 2011, we expect to not be in compliance with the revised covenants beginning in the third quarter of 2011. We expect our financial results will be negatively impacted by softness in international rates, as well as by volatile fuel prices and by our ability to revise fuel surcharges accordingly. Noncompliance with the financial covenants in the Senior Credit Facility constitutes an event of default, which, if not waived, could prevent us from making borrowings under the Senior Credit Facility. We anticipate working with our lenders to obtain amendments or to refinance prior to any possible covenant noncompliance; however we cannot assure you that we will be able to secure such amendments or a refinancing.

 

Due to these expected and potential defaults, we have classified our obligations under the Notes and the Senior Credit Facility as current liabilities in the accompanying Consolidated Balance Sheets as of December 26, 2010. Our independent registered public accounting firm has issued an opinion on our consolidated financial statements that states the consolidated financial statements were prepared assuming we will continue as a going concern and further states that uncertainties regarding our ability to remain in compliance with certain debt covenants under our Senior Credit Facility throughout 2011 and our ability to cure a potential acceleration under our Notes raise substantial doubt about our ability to continue as a going concern.

 

Our ongoing activities to address these matters include, but are not limited to, working with our lenders to obtain amendments or waivers and seeking refinancing sources to address our existing capital structure. We have retained Moelis & Company as financial advisors to help us in these efforts.

 

On March 28, 2011, we executed an employment agreement with Stephen H. Fraser, who began serving as our interim President and Chief Executive Officer on March 11, 2011. The term of the agreement is until we appoint a successor president and chief executive officer, and the agreement may be terminated by either party upon thirty days written notice. Pursuant to the terms of the agreement, Mr. Fraser will be entitled to a salary of $90,000 per month, plus other usual employee benefits offered to our employees. The agreement also provides that Mr. Fraser shall be reimbursed for certain transportation expenses and may elect to be reimbursed for his cost of medical insurance for himself and his dependents. Mr. Fraser will continue to serve as a member of our board of

directors. Mr. Fraser will continue to be eligible for compensation awarded to the board of directors, and the stock ownership guidelines applicable to board members will continue to be applicable to him. Mr. Fraser’s annual cash retainer for service on the board will be prorated to reflect only the period which he was a non-employee director. This description of the employment agreement is not complete and is qualified by its entirety by the full text of the agreement which is attached hereto as an exhibit.

 

On February 23, 2011, we and Charles G. Raymond, our President and Chief Executive Officer, entered into a Separation Agreement in connection with Mr. Raymond’s retirement. Under the terms of the Separation Agreement, Mr. Raymond will receive severance payments over a period of 25 months totaling approximately $2.3 million. In addition, we will reimburse Mr. Raymond for premiums related to continued health coverage under COBRA for the period he and his eligible dependents are covered under COBRA. Mr. Raymond will also be entitled to indemnification and the advancement of legal expenses as provided by our charter and bylaws and any other applicable documents, and Mr. Raymond has agreed not to sell any shares of our common stock that he owns for a period of one year. In addition, the terms of the Separation Agreement include a non-compete provision for a period of two years.

 

On February 24, 2011, we announced that our Board of Directors has named Alex J. Mandl to the position of non-executive Chairman, succeeding Mr. Raymond. Additionally, Brian W. Taylor was named Executive Vice President and Chief Operating Officer (COO), succeeding John V. Keenan, who has been granted a leave of absence. Mr. Taylor assumes the COO responsibilities in addition to his current role as Chief Commercial Officer. At the same time, the Board has promoted Michael T. Avara from Senior Vice President and Chief Financial Officer to Executive Vice President and Chief Financial Officer. All changes were effective March 11, 2011.

 

Executive Overview

 

The economic recovery has continued at a slow and uneven pace. Persistent high unemployment and uncertainty in the economy have adversely affected consumers and negatively impacted their spending. In addition, construction spending remains at depressed levels and many state governments are enacting spending cutbacks, including workforce reductions and furloughs. As a result of the still uncertain macroeconomic environment and our specific challenges such as the start up of our international operations, volatile fuel prices, and rate pressures in Puerto Rico and in international markets, we remain focused on a series of successful cost management efforts.

 

Container volumes during 2010 increased over 2009 largely due to the extra week during fiscal year 2010 and the commencement of our China service, which began operations in December 2010. Operating revenue for year ended December 26, 2010 increased as a result of higher fuel surcharges, improved third party terminal services, and the higher container volumes, which was partially offset by the expiration of certain contracts with the government, the loss of a transportation services agreement, and a slight decrease in our rates, net of fuel. We are experiencing ongoing competitive pricing pressures in our Puerto Rico tradelane due in part to capacity that was added in April 2010 to the depressed market.

 

The increase in operating expense during the year ended December 26, 2010 is primarily due to higher fuel prices, three vessel incidents as a result of unusually harsh winter weather conditions and mechanical issues, and incremental vessel operating expenses as a result of an increase in dry-dockings. The increase was partially offset by a decrease in selling, general and administrative expenses, largely due to a decline in legal and professional expenses associated with the Department of Justice antitrust investigation and related legal proceedings, as well as a decline in the performance incentive plan expense, lower terminal rates, and our cost control efforts.

 

We entered into a plea agreement, dated February 23, 2011, with the United States of America, under which we agreed to plead guilty to a charge of violating federal antitrust laws solely with respect to the Puerto Rico tradelane. We agreed to pay a fine of $45.0 million over five years without interest.

We recorded a charge during the year ended December 26, 2010 of $30.0 million, which represents the present value of the expected installment payments.

 

On February 22, 2011, we and two other companies providing ocean shipping services in the Puerto Rico tradelane entered into a Memorandum of Understanding with the Commonwealth of Puerto Rico and attorneys representing a putative class of indirect purchasers. Under the Memorandum of Understanding, we have agreed to resolve all of the alleged claims of the Commonwealth of Puerto Rico and the indirect purchasers related to ocean shipping services in the Puerto Rico tradelane. Pursuant to the Memorandum of Understanding, the parties will enter into a settlement agreement pursuant to which we and the other two companies each agreed to pay $1.8 million as our share of the settlement amount in exchange for a full release. Such settlement agreement, when negotiated and entered into by the parties, will be subject to court approval.

 

Operating expense for the year ended December 20, 2009 includes a $20 million charge for the potential settlement of the Puerto Rico MDL.

 

 

General

 

We believe that we are the nation’s leading Jones Act container shipping and integrated logistics company, accounting for approximately 36% of total U.S. marine container shipments from the continental U.S. to Alaska, Puerto Rico and Hawaii, constituting the three non-contiguous Jones Act markets, and to Guam and Micronesia. Under the Jones Act, all vessels transporting cargo between U.S. ports must, subject to limited exceptions, be built in the U.S., registered under the U.S. flag, manned by predominantly U.S. crews, and owned and operated by U.S.-organized companies that are controlled and 75% owned by U.S. citizens. In addition, on December 13, 2010, we commenced our own weekly trans-Pacific liner service between Asia and the U.S. West Coast. Our Five Star Express (“FSX”) service connects with our warehousing and distribution capabilities on the U.S. West Coast and intermodal rail service to inland destinations to create an integrated import/export solution. Using scheduled intermodal service from Los Angeles every week, we offer express inland service to Kansas City, Dallas, Chicago, Memphis, Atlanta and Charlotte. During 2011, we expect to expand the inland express network to other locations throughout the U.S.

 

We own or lease 20 vessels, 15 of which are fully qualified Jones Act vessels, and approximately 31,000 cargo containers. We also provide comprehensive shipping and logistics services in our markets, including rail, trucking, warehousing, distribution and non-vessel operating common carrier (“NVOCC”) operations. We have long-term access to terminal facilities in each of our ports, operating our terminals in Alaska, Hawaii, and Puerto Rico and contracting for terminal services in the seven ports in the continental U.S., as well as in the ports in Guam, and Shanghai and Ningbo, China.

 

History and Transactions

 

Our long operating history dates back to 1956, when Sea-Land pioneered the marine container shipping industry and established our business. In 1958, we introduced container shipping to the Puerto Rico market and in 1964 we pioneered container shipping in Alaska with the first year-round scheduled vessel service. In 1987, we began providing container shipping services between the

U.S. west coast and Hawaii and Guam through our acquisition from an existing carrier of all of its vessels and certain other assets that were already serving that market. Today, as the only Jones Act vessel operator with an integrated organization serving Alaska, Puerto Rico, and Hawaii, we are uniquely positioned to serve our customers that require shipping and logistics services in more than one of these markets.

 

Horizon Lines, Inc., a Delaware corporation, (the “Company” and together with its subsidiaries, “we”) operates as a holding company for Horizon Lines, LLC (“Horizon Lines”), a Delaware limited liability company and wholly-owned subsidiary, Horizon Logistics, LLC (“Horizon Logistics”), a Delaware limited liability company and wholly-owned subsidiary, Horizon Lines of Puerto Rico, Inc. (“HLPR”), a Delaware corporation and wholly-owned subsidiary, and Hawaii Stevedores, Inc., a Hawaii corporation (“HSI”).

 

In December 1999, CSX Corporation, the former parent of Sea-Land Domestic Shipping, LLC (“SLDS”), sold the international marine container operations of Sea-Land to the A.P. Møller Maersk Group (“Maersk”) and SLDS continued to be owned and operated by CSX Corporation as CSX Lines, LLC. On February 27, 2003, Horizon Lines Holding Corp. (“HLHC”) (which at the time was indirectly majority-owned by Carlyle-Horizon Partners, L.P.) acquired from CSX Corporation, 84.5% of CSX Lines, LLC, and 100% of CSX Lines of Puerto Rico, Inc., which together with Horizon Logistics and HSI constitute our business today. CSX Lines, LLC is now known as Horizon Lines, LLC and CSX Lines of Puerto Rico, Inc. is now known as Horizon Lines of Puerto Rico, Inc. The Company was formed as an acquisition vehicle to acquire, on July 7, 2004, the equity interest in HLHC. The Company was formed at the direction of Castle Harlan Partners IV. L.P. (“CHP IV”), a private equity investment fund managed by Castle Harlan, Inc. (“Castle Harlan”). In 2005, the Company completed its initial public offering. Subsequent to the initial public offering, the Company completed three secondary offerings, including a secondary offering (pursuant to a shelf registration) whereby CHP IV and other affiliated private equity investment funds managed by Castle Harlan divested their ownership in the Company.

 

Basis of Presentation

 

The accompanying consolidated financial statements include the consolidated accounts of the Company as of December 26, 2010, December 20, 2009 and December 21, 2008 and for the fiscal years ended December 26, 2010, December 20, 2009 and December 21, 2008. Certain prior period balances have been reclassified to conform to current period presentation.

 

The financial statements have been prepared assuming we will continue as a going concern, which contemplates realization of assets and the satisfaction of liabilities in the normal course of business for a reasonable period following the date of these financial statements. As discussed in more detail in Capital Requirements and Liquidity, we expect to not be in compliance with our debt covenants throughout 2011, which raises substantial doubt about our ability to continue as a going concern.

 

Fiscal Year

 

We have a 52- or 53-week (every sixth or seventh year) fiscal year that ends on the Sunday before the last Friday in December. The fiscal year ended December 26, 2010 consisted of 53 weeks and the fiscal years ended December 20, 2009 and December 21, 2008 each consisted of 52 weeks.

 

Critical Accounting Policies

 

We prepare our financial statements in conformity with accounting principles generally accepted in the United States of America. The preparation of our financial statements requires us to make estimates and assumptions in the reported amounts of revenues and expenses during the reporting period and in reporting the amounts of assets and liabilities, and disclosures of contingent assets and liabilities at the date of our financial statements. Since many of these estimates and assumptions are

based on future events which cannot be determined with certainty, the actual results could differ from these estimates.

 

We believe that the application of our critical accounting policies, and the estimates and assumptions inherent in those policies, are reasonable. These accounting policies and estimates are periodically re-evaluated and adjustments are made when facts or circumstances dictate a change. Historically, we have found the application of accounting policies to be appropriate and actual results have not differed materially from those determined using necessary estimates.

 

We believe the following accounting principles are critical because they involve significant judgments, assumptions, and estimates used in the preparation of our financial statements.

 

Revenue Recognition

 

We account for transportation revenue based upon method two under Emerging Issues Task Force No. 91-9 “Revenue and Expense Recognition for Freight Services in Process.” Under this method we record transportation revenue for the cargo when shipped and an expense accrual for the corresponding costs to complete delivery when the cargo first sails from its point of origin. We believe that this method of revenue recognition does not result in a material difference in reported net income on an annual or quarterly basis as compared to recording transportation revenue between accounting periods based upon the relative transit time within each respective period with expenses recognized as incurred. We recognize revenue and related costs of sales for our terminal and other services upon completion of services.

 

We recognize revenue from logistics operations as service is rendered. Gross revenue consists of the total dollar value of services purchased by shippers. Revenue and the associated costs for the following services are recognized upon proof of delivery of freight: truck brokerage, rail brokerage, expedited international air, expedited domestic ground services, and drayage. Horizon Logistics also offers warehousing/long-term storage for which revenue is recognized based upon warehouse space occupied during the reporting period.

 

Allowance for Doubtful Accounts and Revenue Adjustments

 

We maintain an allowance for doubtful accounts based upon the expected collectability of accounts receivable reflective of our historical collection experience. In circumstances in which we are aware of a specific customer’s inability to meet its financial obligation (for example, bankruptcy filings, accounts turned over for collection or litigation), we record a specific reserve for the bad debts against amounts due. For all other customers, we recognize reserves for these bad debts based on the length of time the receivables are past due and other customer specific factors including, type of service provided, geographic location and industry. We monitor our collection risk on an ongoing basis through the use of credit reporting agencies. Accounts are written off after all means of collection, including legal action, have been exhausted. We do not require collateral from our trade customers.

 

In addition, we maintain an allowance for revenue adjustments consisting of amounts reserved for billing rate changes that are not captured upon load initiation. These adjustments generally arise: (1) when the sales department contemporaneously grants small rate changes (“spot quotes”) to customers that differ from the standard rates in the system; (2) when freight requires dimensionalization or is reweighed resulting in a different required rate; (3) when billing errors occur; and (4) when data entry errors occur. When appropriate, permanent rate changes are initiated and reflected in the system. These revenue adjustments are recorded as a reduction to revenue.

 

Casualty and Property Insurance Reserves

 

We purchase insurance coverage for our exposures related to employee injuries (state worker’s compensation and compensation under the Longshore and Harbor workers’ compensation Act), vessel collisions and allisions, property loss and damage, third party liability, and cargo loss and

damage. Most insurance policies include a deductible applicable to each incident or vessel voyage and deductibles can change from year to year as policies are renewed or replaced. Our current insurance program includes deductibles ranging from $0 to $2,000,000. In most cases, our claims personnel work directly with our insurers’ claims professionals or our third-party claim administrators to continually update the anticipated residual exposure for each claim. In this process, we evaluate and monitor each claim individually, and use resources such as historical experience, known trends, and third-party estimates to determine the appropriate reserves for potential liability. Changes in the perceived severity of previously reported claims, significant changes in medical costs, and legislative changes affecting the administration of our plans could significantly impact the determination of appropriate reserves.

 

Goodwill and Other Identifiable Intangible Assets

 

Goodwill is reviewed annually, or when events or circumstances dictate, more frequently. The impairment review for goodwill consists of a two- step process of first determining the fair value of the reporting unit and comparing it to the carrying value of the net assets allocated to the reporting unit. If the fair value of the reporting unit exceeds the carrying value, no further analysis or write-down of goodwill is required. If the fair value of the reporting unit is less than the carrying value of the net assets, the implied fair value of the reporting unit is allocated to all the underlying assets and liabilities, including both recognized and unrecognized tangible and intangible assets, based on their fair value. If necessary, goodwill is then written down to its implied fair value. The indefinite-life intangible asset impairment review consists of a comparison of the fair value of the indefinite-life intangible asset with its carrying amount. If the carrying amount exceeds its fair value, an impairment loss is recognized in an amount equal to that excess. If the fair value exceeds its carrying amount, the indefinite-life intangible asset is not considered impaired.

 

The fair value of a reporting unit is based on quoted market prices, if available. Quoted market prices are often not available for individual reporting units. Accordingly, we base the fair value of a reporting unit on an expected present value technique. The expected present value technique for a reporting unit consists of estimating expected future cash flows discounted using a rate commensurate with the business risk. The estimation of fair value utilizing discounted expected future cash flows includes numerous uncertainties which require our significant judgment when making assumptions of expected revenue, operating costs, marketing, selling and administrative expenses, as well as assumptions regarding the overall shipping and logistics industries, competition, and general economic and business conditions, among other factors.

 

The customer contracts and trademarks on the balance sheet as of December 26, 2010 were valued on July 7, 2004, as part of the Acquisition-Related Transactions, using the income appraisal methodology. The income appraisal methodology includes a determination of the present value of future monetary benefits to be derived from the anticipated income, or ownership, of the subject asset. The value of our customer contracts includes the value expected to be realized from existing contracts as well as from expected renewals of such contracts and is calculated using unweighted and weighted total undiscounted cash flows as part of the income appraisal methodology. The value of our trademarks and service marks is based on various factors including the strength of the trade or service name in terms of recognition and generation of pricing premiums and enhanced margins. We amortize customer contracts and trademarks and service marks on a straight-line method over the estimated useful life of four to fifteen years. Long-lived assets are reviewed annually, or more frequently if events or changes in circumstances indicate that the carrying amount of these assets may not be fully recoverable. The assessment of possible impairment is based on our ability to recover the carrying value of our asset based on our estimate of its undiscounted future cash flows. If these estimated future cash flows are less than the carrying value of the asset, an impairment charge would be recognized for the difference between the asset’s estimated fair value and its carrying value.

 

The determination of fair value is based on quoted market prices in active markets, if available. Such quoted market prices are often not available for our identifiable intangible assets. Accordingly,

we base fair value on projected future cash flows discounted at a rate determined by management to be commensurate with the business risk. The estimation of fair value utilizing discounted forecasted cash flows includes numerous uncertainties which require our significant judgment when making assumptions of revenues, operating costs, marketing, selling and administrative expenses, as well as assumptions regarding the overall shipping and logistics industries, competition, and general economic and business conditions, among other factors.

 

Vessel Dry-docking

 

Under U.S. Coast Guard Rules, administered through the American Bureau of Shipping’s alternative compliance program, all vessels must meet specified seaworthiness standards to remain in service carrying cargo between U.S. marine terminals. Vessels must undergo regular inspection, monitoring and maintenance, referred to as dry-docking, to maintain the required operating certificates. These dry-dockings generally occur every two and a half years, or twice every five years. The costs of these scheduled dry-dockings are customarily deferred and amortized over a 30-month period beginning with the accounting period following the vessel’s release from dry-dock because dry-dockings enable the vessel to continue operating in compliance with U.S. Coast Guard requirements.

 

We also take advantage of vessel dry-dockings to perform normal repair and maintenance procedures on our vessels. These routine vessel maintenance and repair procedures are expensed as incurred. In addition, we will occasionally, during a vessel dry-docking, replace vessel machinery or equipment and perform procedures that materially enhance capabilities of a vessel. In these circumstances, the expenditures are capitalized and depreciated over the estimated useful lives.

 

Income Taxes

 

Deferred tax assets represent expenses recognized for financial reporting purposes that may result in tax deductions in the future and deferred tax liabilities represent expense recognized for tax purposes that may result in financial reporting expenses in the future. Certain judgments, assumptions and estimates may affect the carrying value of the valuation allowance and income tax expense in the consolidated financial statements. We record an income tax valuation allowance when the realization of certain deferred tax assets, net operating losses and capital loss carryforwards is not likely. In conjunction with the election of tonnage tax, we revalued our deferred taxes to accurately reflect the rates at which we expect such items to reverse in future periods.

 

The application of income tax law is inherently complex. As such, we are required to make many assumptions and judgments regarding our income tax positions and the likelihood whether such tax positions would be sustained if challenged. Interpretations and guidance surrounding income tax laws and regulations change over time. As such, changes in our assumptions and judgments can materially affect amounts recognized in the consolidated financial statements.

 

Stock-Based Compensation

 

The value of each equity-based award is estimated on the date of grant using the Black-Scholes option-pricing model. The Black-Scholes model takes into account volatility in the price of our stock, the risk-free interest rate, the estimated life of the equity-based award, the closing market price of our stock and the exercise price. Due to the relatively short period of time since our stock became publicly traded, we base our estimates of stock price volatility on the average of (i) our historical stock price over the period in which it has been publicly traded and (ii) historical volatility of similar entities commensurate with the expected term of the equity-based award; however, this estimate is neither predictive nor indicative of the future performance of our stock. The estimates utilized in the Black-Scholes calculation involve inherent uncertainties and the application of management judgment. In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those options expected to vest.

Property and Equipment

 

We capitalize property and equipment as permitted or required by applicable accounting standards, including replacements and improvements when costs incurred for those purposes extend the useful life of the asset. We charge maintenance and repairs to expense as incurred. Depreciation on capital assets is computed using the straight-line method and ranges from 3 to 40 years. Our management makes assumptions regarding future conditions in determining estimated useful lives and potential salvage values. These assumptions impact the amount of depreciation expense recognized in the period and any gain or loss once the asset is disposed.

 

We evaluate each of our long-lived assets for impairment using undiscounted future cash flows relating to those assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. When undiscounted future cash flows are not expected to be sufficient to recover the carrying amount of an asset, the asset is written down to its fair value.

 

Recent Accounting Pronouncements

 

In January 2010, the Financial Accounting Standards Board (“FASB”) issued an amendment to the accounting for fair value measurements and disclosures. This amendment details additional disclosures on fair value measurements, requires a gross presentation of activities within a Level 3 roll-forward, and adds a new requirement to disclose transfers in and out of Level 1 and Level 2 measurements. The new disclosures are required of all entities that are required to provide disclosures about recurring and nonrecurring fair value measurements. This amendment is effective in the first interim or reporting period beginning after December 15, 2009, with an exception for the gross presentation of Level 3 roll-forward information, which is required for annual reporting periods beginning after December 15, 2010, and for interim reporting periods within those years. The adoption of the provisions of this amendment required in the first interim period after December 15, 2009 did not have a material impact on our financial statement disclosures. In addition, the adoption of the provisions of this amendment required for periods beginning after December 15, 2010 is not expected to have a material impact on our financial statement disclosures.

 

In June 2009, the FASB issued authoritative guidance that amends the evaluation criteria to identify the primary beneficiary of a variable interest entity and requires ongoing assessment of whether an enterprise is the primary beneficiary of the variable interest entity. The determination of whether a reporting entity is required to consolidate another entity is based on, among other things, the other entity’s purpose and design and the reporting entity’s ability to direct the activities that most significantly impact the other entity’s economic performance. We adopted the provisions of the authoritative guidance during the quarter ended March 21, 2010. There was no impact on our consolidated results of operations and financial position, other than the modification of certain disclosures related to our involvement in variable interest entities.

 

In June 2009, the FASB issued an amendment to the accounting and disclosure requirements for transfers of financial assets. The amendment modifies the derecognition guidance and eliminates the exemption from consolidation for qualifying special-purpose entities. We adopted the provisions of the authoritative guidance during the quarter ended March 21, 2010 and there was no impact on our consolidated results of operations and financial position.

 

Shipping Rates

 

We publish tariffs with rates rules and practices for all three of our Jones Act trade routes and for Guam. These tariffs are subject to regulation by the Surface Transportation Board (“STB”). However, in the case of our Puerto Rico and Alaska trade routes, we primarily ship containers on the basis of confidential negotiated transportation service contracts that are not subject to rate regulation by the STB. We also publish tariffs for transportation of international cargo which are subject to regulation by the Federal Maritime Commission (“FMC”).

Seasonality

 

Our container volumes are subject to seasonal trends common in the transportation industry, including our international service. Financial results in the first quarter are normally lower due to reduced loads during the winter months and as a result of the Chinese New Year’s affect on our international service. Volumes typically build to a peak in the third quarter and early fourth quarter, which generally results in higher revenues, improved margins, and increased earnings and cash flows.

 

Results of Operations

 

Operating Revenue Overview

 

We derive our revenue primarily from providing comprehensive shipping and logistics services to and from the continental U.S. and Alaska, Puerto Rico, Hawaii, Guam and Asia. We charge our customers on a per load basis and price our services based primarily on the length of inland and ocean cargo transportation hauls, type of cargo, and other requirements such as shipment timing and type of container. In addition, we assess fuel surcharges on a basis consistent with industry practice and at times may incorporate these surcharges into our basic transportation rates. There is occasionally a timing disparity between volatility in our fuel costs and related adjustments to our fuel surcharges (or the incorporation of adjusted fuel surcharges into our base transportation rates) that may result in variances in our fuel recovery.

 

During 2010, approximately 83% of our revenue was generated from our shipping and logistics services in markets where the marine trade is subject to the Jones Act or other U.S. maritime laws. The balance of our revenue was derived from (i) vessel loading and unloading services that we provide for vessel operators at our terminals, (ii) agency services that we provide for third-party shippers lacking administrative presences in our markets, (iii) vessel space charter income from third-parties in trade lanes not subject to the Jones Act, (iv) shipping services in the Asia to U.S. coast market, (v) warehousing services for third-parties, and (vi) other non-transportation services.

 

As used in this Form 10-K, the term “revenue containers” refers to containers that are transported for a charge, as opposed to empty containers.

 

Cost of Services Overview

 

Our cost of services consist primarily of vessel operating costs, marine operating costs, inland transportation costs, land costs and rolling stock rent. Our vessel operating costs consist primarily of vessel fuel costs, crew payroll costs and benefits, vessel maintenance costs, space charter costs, vessel insurance costs and vessel rent. We view our vessel fuel costs as subject to potential fluctuation as a result of changes in unit prices in the fuel market. Our marine operating costs consist of stevedoring, port charges, wharfage and various other costs to secure vessels at the port and to load and unload containers to and from vessels. Our inland transportation costs consist primarily of the costs to move containers to and from the port via rail, truck or barge. Our land costs consist primarily of maintenance, yard and gate operations, warehousing operations and terminal overhead in the terminals in which we operate. Rolling stock rent consists primarily of rent for street tractors, yard equipment, chassis, gensets and various dry and refrigerated containers.

 

Year Ended December 26, 2010 Compared to Year Ended December 20, 2009

 

We have a 52- or 53-week fiscal year (every sixth or seventh year) that ends on the Sunday before the last Friday in December. Fiscal year 2010 consisted of 53 weeks and fiscal year 2009 consisted of 52 weeks.

 

 

Operating Revenue.  Operating revenue increased $38.3 million, or 3.4% during the year ended December 26, 2010. This revenue increase can be attributed to the following factors (in thousands):

 

 

The revenue container volume increases are primarily due to the commencement of our international service, increases in our Alaska tradelane, and an extra week during fiscal year 2010, offset by ongoing challenges in our Puerto Rico and Hawaii tradelanes. General rate increases are implemented to mitigate rising contractual costs. Bunker and intermodal fuel surcharges, which are included in our transportation revenue, accounted for approximately 14.6% of total revenue in the year ended December 26, 2010 and approximately 11.5% of total revenue in the year ended December 20, 2009. We adjust our bunker and intermodal fuel surcharges as a result of changes in the cost of bunker fuel for our vessels, in addition to diesel fuel fluctuations passed on to us by our truck, rail, and barge service providers. Fuel surcharges are evaluated regularly as the price of fuel fluctuates, and we may at times incorporate these surcharges into our base transportation rates that we charge. The increase in non-transportation revenue is primarily due to third party terminal services, which was partially offset by the expiration of certain space charter agreements. Our overall rate, net of fuel surcharges, was flat as a result of increased rates in Hawaii and Alaska offset by continuing rate pressure in Puerto Rico.

Cost of Services.  The $67.0 million increase in cost of services is primarily due to higher fuel costs as a result of higher fuel prices and an increase in container volumes, partially offset by a decrease in costs as a result of the expiration of certain contracts with the government for the management of its vessels.

 

Vessel expense, which is not primarily driven by revenue container volume, increased $45.5 million for the year ended December 26, 2010. This increase can be attributed to the following factors (in thousands):

 

 

The $58.5 million increase in fuel costs is comprised of a $52.4 million increase due to fuel prices and a $6.1 million increase in consumption due to additional vessel operating days. The increase in labor and other vessel operating expense is primarily due to additional vessel operating expense associated with a higher number of dry-dockings during 2010, contractual rate increases, and the extra week during 2010. We continue to incur labor expenses with the vessel in dry-dock, while also incurring expenses associated with the spare vessel deployed as dry-dock relief. The increase in vessel lease charter expense is due to the extra week during fiscal year 2010.

 

Marine expense is comprised of the costs incurred to bring vessels into and out of port, and to load and unload containers. The types of costs included in marine expense are stevedoring and associated benefits, pilotage fees, tug fees, government fees, wharfage fees, dockage fees, and line handler fees. The $5.4 million increase in marine expense during the year ended December 26, 2010 was primarily due to an increase in container volumes, increases in multi-employer plan benefit assessments for our west coast union employees, contractual rate increases, and an extra week during fiscal year 2010, partially offset by terminal savings.

 

Inland expense increased to $184.9 million for the year ended December 26, 2010 compared to $179.7 million during the year ended December 20, 2009. The $5.2 million increase in inland expense is primarily due to higher fuel costs and an increase in container volumes, partially offset by our cost control efforts.

 

Land expense is comprised of the costs included within the terminal for the handling, maintenance and storage of containers, including yard operations, gate operations, maintenance, warehouse and terminal overhead.

 

 

Non-vessel related maintenance expenses increased primarily due to higher fuel costs and contractual rate increases in our offshore locations.

 

Rolling stock expense increased $3.9 million or 10.6% during the year ended December 26, 2010 versus the year ended December 20, 2009. This increase is primarily related to an increase in the

quantity of leased containers and chassis in replacement of our previous equipment sharing arrangements and to fund our international operations.

 

Depreciation and Amortization.  Depreciation and amortization was $44.5 million during the year ended December 26, 2010 compared to $44.3 million for the year ended December 20, 2009. The increase in depreciation-owned vessels and amortization of intangible assets is due to additional depreciation and amortization expense recorded during the extra week of fiscal 2010. The decrease in depreciation and amortization-other is due to certain capitalized software assets becoming fully depreciated and no longer subject to depreciation expense, partially offset by additional depreciation expense recorded as a result of an extra week during fiscal year in 2010 and an increase in the number of containers.

 

 

Amortization of Vessel Dry-docking.  Amortization of vessel dry-docking was $15.0 million during the year ended December 26, 2010 compared to $13.7 million for the year ended December 20, 2009. Amortization of vessel dry-docking fluctuates based on the timing of dry-dockings, the number of dry-dockings that occur during a given period, and the amount of expenditures incurred during the dry-dockings. Dry-dockings generally occur every two and a half years and historically we have dry-docked approximately six vessels per year.

 

Selling, General and Administrative.  Selling, general and administrative costs decreased to $83.2 million for the year ended December 26, 2010 compared to $97.3 million for the year ended December 20, 2009, a decline of $14.1 million or 14.4%. This decrease is primarily comprised of a $6.9 million decline in legal and professional expenses associated with the Department of Justice antitrust investigation and related legal proceedings, a $5.4 million decrease in the accrual related to our performance incentive plan, a $1.0 million reduction in stock-based compensation, and $1.7 million in savings related to our cost control efforts, including a reduction in professional fees, travel and entertainment, meetings and seminars, charitable contributions, advertising, and the elimination of certain perquisites for our executive officers.

 

Legal Settlements.  We entered into a plea agreement, dated February 23, 2011, with the United States of America, and we agreed to plead guilty to a charge of violating federal antitrust laws solely with respect to the Puerto Rico tradelane. We agreed to pay a fine of $45.0 million over five years without interest. We recorded a charge of $30.0 million, which represents the present value of the expected installment payments.

 

On February 22, 2011, we and two other companies providing ocean shipping services in the Puerto Rico tradelane entered into a Memorandum of Understanding with the Commonwealth of Puerto Rico and attorneys representing a putative class of indirect purchasers. Under the Memorandum of Understanding, we have agreed to resolve all of the alleged claims of the Commonwealth of Puerto Rico and the indirect purchasers related to ocean shipping services in the Puerto Rico tradelane. Pursuant to the Memorandum of Understanding, the parties will enter into a settlement agreement pursuant to which we agreed to pay a total of $1.8 million as our share of the settlement amount in exchange for a full release. Such settlement agreement, when negotiated and entered into by the parties, will be subject to court approval.

On June 11, 2009, we entered into a settlement agreement with the plaintiffs in the Puerto Rico MDL. Under the settlement agreement, which remains subject to court approval, we have agreed to pay $20.0 million and to certain base-rate freezes, to resolve claims for alleged antitrust violations in the Puerto Rico tradelane.

 

Impairment Charge.  Impairment of assets of $2.7 million during the year ended December 26, 2010 related to certain owned and leased equipment. Impairment of assets of $1.9 million during the year ended December 20, 2009 related to a write-down of the carrying value of our spare vessels.

 

Restructuring Charge.  Restructuring costs during the year ended December 26, 2010 included $2.1 million related to severance costs and other costs associated with our 2010 workforce reduction initiative. Restructuring costs of $0.8 million during the year ended December 20, 2009 included $0.7 million and $0.1 million related to severance costs and other costs associated with our 2008 workforce reduction initiative, respectively.

 

Miscellaneous (Income) Expense, Net.  Miscellaneous (income) expense, net during 2010 includes a $0.7 million gain on the sale of our interest in a joint venture. In addition, bad debt expense decreased $1.2 million during the year ended December 26, 2010 as compared to the year ended December 20, 2009.

 

Unallocated Expenses

 

Interest Expense, Net.  Interest expense, net of $40.1 million for the year ended December 26, 2010 was higher compared to $38.0 million during the year ended December 20, 2009. The increase in interest expense was due to higher interest rates payable on the outstanding debt as a result of the June 2009 amendment to our Senior Credit Facility.

 

Income Tax Expense.  The effective tax rate for the years ended December 26, 2010 and December 20, 2009 was (0.7)% and (66.9)%, respectively. During the second quarter of 2009, we determined that it was unclear as to the timing of when we will generate sufficient taxable income to realize our deferred tax assets. Accordingly, we recorded a valuation allowance against our deferred tax assets. Although we have recorded a valuation allowance against our deferred tax assets, it does not affect our ability to utilize our deferred tax assets to offset future taxable income. Until such time that we determine it is more likely than not that we will generate sufficient taxable income to realize our deferred tax assets, income tax benefits associated with future period losses will be fully reserved. As a result, we do not expect to record a current or deferred tax benefit or expense and only minimal state tax provisions during those periods.

Year Ended December 20, 2009 Compared to Year Ended December 21, 2008