DERIVATIVE FINANCIAL INSTRUMENTS

9 Months Ended

Sep. 30, 2012

DERIVATIVE FINANCIAL INSTRUMENTS [Abstract]

DERIVATIVE FINANCIAL INSTRUMENTS

10.DERIVATIVE FINANCIAL INSTRUMENTS

The Company at times enters into certain derivative financial instruments, on a cost-effective basis, to mitigate its risk associated with changes in interest rates.  The Company does not use derivative financial instruments for speculative purposes.  All derivatives are recognized on the condensed consolidated statements of financial position at their fair value.  Changes in fair value are recognized periodically in earnings or accumulated other comprehensive income within shareholders' equity, depending on the intended use of the derivative and whether the derivative has been designated by management as an ineffective hedging instrument.  Changes in fair value of derivative instruments not designated as effective hedging instruments are recognized in earnings in the current period.

Interest Rate Swap Agreements

In March 2005 and July 2007, the Company entered into two separate interest rate swap agreements withJPMorgan to hedge against increases in variable interest rates.  Effective with the Second Amendment dated December 11, 2008 (the "Second Amendment") to the 2007 Credit Agreement, the interest rates on the obligation were adjusted and the Company determined that its two swap agreements were ineffective as hedges against changes in interest rates and, as a result, the swaps were de-designated.  Until the early termination of the swaps on March 25, 2011 discussed below, (i) losses on the swaps included in other comprehensive income as of the de-designation date were amortized into net income (loss) over the original life of the swaps utilizing the straight-line method which approximates the effective interest method, and (ii) changes in the fair value of the de-designated swaps were recorded within earnings on the condensed consolidated statements of operations.

In anticipation of entering into the 2011 Credit Facility, the interest rate swap agreements were terminated on March 25, 2011, resulting in a $1.1 million cash settlement to JPMorgan.  The swap agreements had a total fair value in the amount of $1.1 million on the termination date.  In addition, the change in the fair value of the de-designated swaps for the nine months ended September 25, 2011 resulted in a credit to interest expense and a decrease in the corresponding liability of $0.1 million.  After the termination of the two swap agreements on March 25, 2011, the Company has not entered into any new swap agreements.

For the nine months ended September 25, 2011,amortized losses of $0.7 million were recognized in interest expense on the condensed consolidated statements of operations.  The amortized loss on the swaps included $0.1 million related to the amortization of the losses on the swaps included in other comprehensive income as of the de-designation date and $0.6 million related to the remaining unamortized loss on the swaps as of March 25, 2011, the date upon which it became probable the forecasted swap transactions, as specified in the original swap agreements, would not occur.  There was no amortized loss on the swaps for the third quarter ended September 25, 2011 because the swap agreements were terminated in the first quarter of 2011.

Warrants Subject to Revaluation

2008 Warrants

In conjunction with the Second Amendment, the Company issued a series of warrants (the "2008 Warrants") to its then existing lenders to purchase 474,049 shares of the Company's common stock, subject to adjustment related to anti-dilution provisions, at an exercise price of $1.00 per share.  The Company accounts for the 2008 Warrants as derivative financial instruments.  The calculated fair value of the 2008 Warrants is classified as a liability and is periodically remeasured with any changes in value recognized in the stock warrants revaluation line on the condensed consolidated statements of operations.  

Pursuant to the anti-dilution provisions, the number of shares of common stock issuable upon exercise of the 2008 Warrants was increased to an aggregate of 483,742 shares and the exercise price was adjusted to $0.98 per share as a result of the issuance on May 21, 2009 and on June 22, 2009, pursuant to Patrick Industries, Inc. 1987 Stock Option Program, as amended and restated, of restricted shares at a price less than, and options to purchase common stock with an exercise price less than, the warrant exercise price then in effect.

Pursuant to the anti-dilution provisions, the number of shares of common stock issuable upon exercise of the 2008 Warrants was further increased to an aggregate of 496,397 shares and the exercise price was adjusted to $0.96 per share as a result of the issuance on March 31, 2011, of warrants to purchase common stock with an exercise price less than the warrant exercise price then in effect (see "March 2011 Warrants" below).

In May 2011 and August 2011, two holders exercised their 2008 Warrants to purchase 82,401 shares in the aggregate of the Company's common stock.  In connection with the cashless exercises, 45,175 net shares of common stock were issued.  The fair value of these shares of $0.1 million was reclassified to shareholders' equity on the condensed consolidated statements of financial position.  Following these exercises, 413,996 shares of common stock were issuable upon exercise of the then remaining 2008 Warrants.

Pursuant to the anti-dilution provisions, the number of shares of common stock issuable upon exercise of the then remaining 2008 Warrants was increased to an aggregate of 419,646 shares and the exercise price was adjusted to $0.94 per share as a result of the issuance on September 16, 2011, of warrants to purchase common stock with an exercise price less than the warrant exercise price then in effect (see "September 2011 Warrants" below).

In September 2011, one holder exercised its 2008 Warrants to purchase 91,477 shares of the Company's common stock.  In connection with the cashless exercise, 45,881 net shares of common stock were issued.  The fair value of these shares of $0.1 million was reclassified to shareholders' equity on the condensed consolidated statements of financial position.  Following this exercise, 328,169 shares of common stock were issuable upon exercise of the then remaining 2008 Warrants.

In the first quarter of 2012, three holders exercised their 2008 Warrants to purchase 179,531 shares in the aggregate of the Company's common stock.  In connection with the cashless exercises, 154,109 net shares of common stock were issued.  The fair value of these shares of $1.1 million was reclassified to shareholders' equity on the condensed consolidated statements of financial position.  Following these exercises, 148,638 shares of common stock were issuable upon exercise of the then remaining 2008 Warrants.

In the second quarter of 2012, one holder exercised its 2008 Warrants to purchase 74,319 shares of the Company's common stock.  In connection with the cashless exercise, 69,106 net shares of common stock were issued.  The fair value of these shares of $1.0 million was reclassified to shareholders' equity on the condensed consolidated statements of financial position.  Following this exercise, 74,319 shares of common stock were issuable upon exercise of the then remaining 2008 Warrants.

In the third quarter of 2012, the remaining holder exercised its 2008 Warrants to purchase 74,319 shares in the aggregate of the Company's common stock.  In connection with the cashless exercises, 68,641 net shares of common stock were issued.  The fair value of these shares of $0.8 million was reclassified to shareholders' equity on the condensed consolidated statements of financial position.  As of September 30, 2012, all of the 2008 Warrants had been exercised.

March 2011 Warrants

On March 31, 2011, in connection with the March 2011 Notes, the Company issued warrants to purchase 125,000 shares of the Company's common stock to each of TCOMF2 and Northcreek at an exercise price of $0.01 per share (the ''March 2011 Warrants").  The March 2011 Warrants are immediately exercisable, subject to anti-dilution provisions and expire on March 31, 2016.  The debt discount of $0.7 million, which is equal to the fair value of the 2011 Warrants as of March 31, 2011, was being amortized to interest expense over the life of the March 2011 Notes beginning in the second quarter of 2011.  The calculated fair value of the March 2011 Warrants was classified as a liability beginning in the second quarter of 2011 and was periodically remeasured with any changes in value recognized in the stock warrants revaluation line on the condensed consolidated statements of operations.  Northcreek and TCOMF2 exercised their individual warrants to purchase 125,000 shares of the Company's common stock at an exercise price of $0.01 per share on April 27, 2011 and June 3, 2011, respectively.  The $0.6 million fair value of the 250,000 shares in the aggregate was reclassified to shareholders' equity on the condensed consolidated statements of financial position.

September 2011 Warrants

On September 16, 2011, in connection with the September 2011 Notes, the Company issued to Northcreek and an affiliate of Northcreek warrants to purchase, in the aggregate, 135,000 shares of the Company's common stock at an exercise price of $0.01 per share (the ''September 2011 Warrants").  The September 2011 Warrants are immediately exercisable, subject to anti-dilution provisions, and expire on March 31, 2016.  The debt discount of $0.3 million, which is equal to the fair value of the September 2011 Warrants as of September 16, 2011, was being amortized to interest expense over the life of the September 2011 Notes beginning in the third quarter of 2011.  The calculated fair value of the September 2011 Warrants was classified as a liability beginning in the third quarter of 2011 and was periodically remeasured with any changes in value recognized in the stock warrants revaluation line on the condensed consolidated statements of operations.  Northcreek and the affiliate of Northcreek exercised their warrants to purchase, in the aggregate, 135,000 shares of the Company's common stock at an exercise price of $0.01 per share in November 2011.  The $0.3 million fair value of the 135,000 shares was reclassified to shareholders' equity on the condensed consolidated statements of financial position.

The 2008 Warrants, the March 2011 Warrants, and the September 2011 Warrants were measured until their exercise at fair value on a recurring basis using Level 2 valuation methodologies.  The Company estimates the fair value of all stock warrants outstanding at the end of the period by applying the Black-Scholes model.  The use of this valuation model involves assumptions that are judgmental and highly sensitive in the determination of the fair value and include the dividend yield, exercise price and forfeiture rate.  Expected volatilities are based on historical volatility of the Company stock.  The expected term of the stock warrants represents the period of time that the warrants are expected to be outstanding.  The risk free interest rate is based on the U.S. Treasury yield curve in effect at the time of the valuation for instruments of a similar term. 

The following table presents assumptions used in the Black-Scholes model to determine the change in fair value of the 2008 Warrants as of and for the fiscal period ended September 25, 2011.  There were no 2008 Warrants outstanding as of September 30, 2012.

	Sept. 25, 2011
Stock trading value (1)	$	1.90
Risk-free interest rate		0.89	%
Expected warrant remaining life	4.50 years
Price volatility		108.67	%

(1) Represents the closing market price of the Company's common stock on September 23, 2011 (last trading day of the period on the NASDAQ stock market).

The Company utilized the same methodology to determine the fair value of the 2008 Warrants and the March 2011 Warrants exercised in the nine months ended September 30, 2012 and September 25, 2011.  There were no warrants outstanding as of September 30, 2012.  The total fair value of the outstanding warrants as of and for the nine months periods ended September 30, 2012 and September 25, 2011 is as follows:

(thousands)	Sept. 30, 2012	Sept. 25, 2011
Balance at beginning of period	$     1,191	$      770
Fair value of March and September 2011 Warrants (debt discount)	-	954
Reclassification of fair value of exercised warrants to shareholders' equity	(2,922)	(745)
Change in fair value, included in earnings	1,731	(76)
Balance at end of period	$             -	$      903