Edgar Filing: K2 INC

Form 10-Q

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT

PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2005

Commission File No. 1-4290

K2 INC.

(Exact name of registrant as specified in its charter)


Delaware		95-2077125
(State of Incorporation)		(I.R.S. Employer Identification No.)

5818 El Camino Real Carlsbad, California		92008
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code (760) 494-1000

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report:

Not applicable

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 shorter 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 ¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

At October 23, 2005, there were 46,879,685 shares of Common Stock ($1.00 par value) outstanding.

PART – 1 FINANCIAL INFORMATION

ITEM 1

FINANCIAL STATEMENTS

CONSOLIDATED CONDENSED STATEMENTS OF INCOME (Unaudited)

(Thousands, except per share figures)


	Three Months Ended September 30						Nine Months Ended September 30
	2005			2004			2005			2004
Net sales	$	340,352		$	333,460		$	960,068		$	861,811
Cost of products sold		215,225			214,274			632,364			578,627

Gross profit		125,127			119,186			327,704			283,184
Selling expenses		57,305			56,736			170,522			140,349
General and administrative expenses		35,809			34,877			106,812			83,295

Operating income		32,013			27,573			50,370			59,540
Interest expense		7,519			7,299			22,057			13,811
Other income, net		(583	)		(426	)		(2,421	)		(604	)

Income before income taxes		25,077			20,700			30,734			46,333
Provision for income taxes		8,337			7,502			10,217			16,217

Net income	$	16,740		$	13,198		$	20,517		$	30,116

Basic earnings per share:
Net income	$	0.36		$	0.28		$	0.44		$	0.78

Diluted earnings per share:
Net income	$	0.32		$	0.26		$	0.42		$	0.69

Basic shares outstanding		46,326			46,472			46,240			38,753

Diluted shares outstanding		55,190			55,148			55,224			47,503

See notes to consolidated condensed financial statements.

CONSOLIDATED CONDENSED BALANCE SHEETS

(Thousands, except number of shares)


	September 30 2005			December 31 2004
	(unaudited)
Assets
Current Assets
Cash and cash equivalents	$	17,458		$	25,633
Accounts receivable, less allowances for doubtful accounts of $15,810 (2005) and $14,895 (2004)		343,188			369,914
Inventories, net		372,803			325,125
Deferred income taxes		13,550			29,709
Prepaid expenses and other current assets		26,311			22,775

Total current assets		773,310			773,156
Property, plant and equipment		287,793			272,959
Less allowance for depreciation and amortization		147,690			131,995

		140,103			140,964
Other Assets
Goodwill		341,148			349,760
Tradenames		145,829			137,329
Other intangible assets, net		20,550			21,276
Deferred income taxes		7,507			7,506
Other		24,166			26,374

Total Assets	$	1,452,613		$	1,456,365

Liabilities and Shareholders’ Equity
Current Liabilities
Bank loans	$	30,174		$	31,490
Accounts payable		84,102			103,158
Income taxes payable		25,938			28,386
Accrued payroll and related		46,537			50,589
Other accruals		98,977			100,478
Current portion of long-term debt		27,670			35,074

Total current liabilities		313,398			349,175
Long-term pension liabilities		16,854			16,854
Long-term debt		281,174			250,812
Deferred income taxes		50,746			58,123
Convertible debentures		98,886			98,535
Shareholders’ Equity
Preferred Stock, $1 par value, authorized 12,500,000 shares, none issued		—			—
Common Stock, $1 par value, authorized 110,000,000 shares, issued shares - 47,642,825 in 2005 and 47,543,108 in 2004		47,643			47,543
Additional paid-in capital		503,230			502,322
Retained earnings		167,075			146,558
Treasury shares at cost, 750,167 shares in 2005 and 747,234 in 2004		(9,154	)		(9,107	)
Accumulated other comprehensive loss		(17,239	)		(4,450	)

Total Shareholders’ Equity		691,555			682,866

Total Liabilities and Shareholders’ Equity	$	1,452,613		$	1,456,365

See notes to consolidated condensed financial statements

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (Unaudited)

(Thousands)


	Nine Months
	Ended September 30
	2005			2004
Operating Activities
Net Income	$	20,517		$	30,116
Adjustments to reconcile net income from operations to net cash provided by operating activities:
Depreciation and amortization		26,900			19,879
Deferred taxes		8,731			13,343
Changes in current assets and current liabilities		(50,075	)		(46,066	)

Net cash provided by operating activities		6,073			17,272
Investing Activities
Property, plant & equipment expenditures		(29,086	)		(24,242	)
Disposals of property, plant & equipment		4,769			381
Purchase of business, net of cash acquired		(17,184	)		(113,467	)
Other items, net		4,785			(1,474	)

Net cash used in investing activities		(36,716	)		(138,802	)
Financing Activities
Issuance of senior notes		—			200,000
Borrowings under long-term debt		783,500			479,015
Payments of long-term debt		(760,191	)		(615,069	)
Net decrease in short-term bank loans		(1,316	)		(15,956	)
Net proceeds from equity issuance		—			93,740
Debt issuance costs		—			(8,353	)
Exercise of stock options		475			4,093

Net cash provided by financing activities		22,468			137,470

Net (decrease) increase in cash and cash equivalents		(8,175	)		15,940
Cash and cash equivalents at beginning of year		25,633			21,256

Cash and cash equivalents at end of period	$	17,458		$	37,196

K2 adjusted the “Property, plant & equipment expenditures” and “Other items, net” amounts for the nine months ended September 30, 2005 by approximately $2.7 million, which were set forth in K2’s earnings release filed with the SEC on its Current Report on Form 8-K on October 19, 2005.

See notes to consolidated condensed financial statements.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

September 30, 2005

NOTE 1 – Basis of Presentation

The accompanying unaudited consolidated condensed financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and nine month periods ended September 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005.

The consolidated condensed balance sheet at December 31, 2004 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.

K2 reports its financial statements using a 13 week quarter ending on the last Sunday of March, June, September and December. For purposes of the consolidated financial statements, the end of each quarter is stated as of March 31, June 30, September 30 and December 31, respectively.

The interim financial statements should be read in connection with the financial statements in K2 Inc.’s (“K2’s”) Annual Report on Form 10-K for the year ended December 31, 2004.

Certain prior year amounts have been reclassified to conform to the current year presentation.

NOTE 2 – Recent Accounting Pronouncements

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123 (Revised) “Share-Based Payment.” SFAS No. 123 (Revised) requires that companies recognize compensation expense equal to the fair value of stock options or other share based payments. The impact on K2’s net income will include the remaining amortization of the fair value of existing options currently disclosed as pro forma expense in Note 3 and is contingent upon the number of future options granted, the selected transition method and the selection of either the Black-Scholes or the binominal lattice model for valuing options.

On April 14, 2005, the SEC adopted a new rule that amended the compliance dates of SFAS No. 123 (Revised) to require implementation no later than the beginning of the first fiscal year beginning after June 15, 2005 (the year beginning January 1, 2006 for K2). Early adoption of SFAS No. 123 (Revised) is permissible. K2 is in the process of evaluating the use of certain option-pricing models as well as the assumptions to be used in such models. When such evaluation is complete, K2 will

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 2 – Recent Accounting Pronouncements (Continued)

determine the transition method to use, the timing of adoption and the impact any change in valuation models might have.

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections.” SFAS No. 154 replaces Accounting Principles Board (“APB”) Opinion No. 20, “Accounting Changes” and SFAS No. 3, “Reporting Accounting Changes in Interim Financial Statements.” SFAS No. 154 requires that a voluntary change in accounting principle be applied retrospectively with all prior period financial statements presented on the new accounting principle unless it is impracticable to do so. SFAS No. 154 also provides that a change in method of depreciating or amortizing long-lived non-financial assets be accounted for as a change in estimate effected by a change in accounting principle and that correction of errors in previously issued financial statements should be termed a “restatement.” SFAS No. 154 is effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005. Early adoption of this standard is permitted for accounting changes and corrections of errors made in fiscal years beginning after June 1, 2005. K2 believes that implementing SFAS No. 154 should not have a material impact on its financial position and results of operations.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 3 – Stock Based Compensation

K2 currently applies the provisions of SFAS No. 123, “Accounting for Stock-Based Compensation,” which allows entities to continue to apply the provisions of APB Opinion No. 25 “Accounting for Stock Issued to Employees,” and related interpretations and provide pro forma net income and pro forma net income per share disclosures for employee stock option grants made as if the fair-value-based method defined in SFAS No. 123 had been applied. K2 has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123. As such, compensation expense for stock options issued to employees is recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. Had compensation cost been determined based upon the fair value at the grant date for K2’s stock options under SFAS No. 123 using the Black Scholes option pricing model, pro forma net income and pro forma net income per share, including the following weighted average assumptions used in these calculations, would have been as follows:


	Three Months Ended September 30						Nine Months Ended September 30
	2005			2004			2005			2004
	(Thousands, except per share data, percentage data and expected life)
Net income as reported	$	16,740		$	13,198		$	20,517		$	30,116
Less: Total stock-based compensation expense determined under fair value based method for all awards, net of taxes		224			529			9,754			1,616

Net income, adjusted	$	16,516		$	12,669		$	10,763		$	28,500

Earnings per share:
Basic - as reported	$	0.36		$	0.28		$	0.44		$	0.78
Basic - pro forma	$	0.36		$	0.27		$	0.23		$	0.74
Diluted - as reported	$	0.32		$	0.26		$	0.42		$	0.69
Diluted - pro forma	$	0.32		$	0.25		$	0.25		$	0.66
Risk free interest rate		2.63	%		3.55	%		3.60	%		3.55	%
Expected life of options		5 years			5 years			5 years			5 years
Expected volatility		50.4	%		43.3	%		40.9	%		43.3	%
Expected dividend yield		—			—			—			—

The pro forma amounts may not be representative of future disclosures since the estimated fair value of stock options is amortized to expense over the vesting period and additional options may be granted in future years.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 3 – Stock Based Compensation (Continued)

On May 17, 2005, the Compensation Committee of the Board of Directors of K2 approved the acceleration of vesting of certain unvested and “out-of-the-money” stock options previously awarded to employees and officers under the K2 stock option plans. An option was considered “out-of-the-money” if the stated exercise price was greater than $11.94 per share, the closing price of K2’s common stock on May 17, 2005, which was the last trading day before approval of the acceleration. Outstanding unvested options that had an exercise price equal to or less than $11.94 on May 17, 2005, will continue to vest under the terms of the original option agreements. As a result of this action, options to purchase approximately 2.1 million shares of K2’s common stock that would otherwise have vested over the next three years became fully vested. The options have a range of exercise prices of $12.51 to $14.30 and a weighted average exercise price of $13.14. Options held by non-employee directors were not affected. In addition, the Compensation Committee imposed a holding period that will require that all affected executive officers of the Company not sell shares acquired through the exercise of an accelerated option (other than shares needed to cover the exercise price and satisfying withholding taxes) prior to the earlier of the date on which exercise would have been permitted under the options’ original vesting terms or, if earlier, the executive officer’s last day of employment.

The decision to accelerate the vesting of these options was made to reduce future compensation expense that is expected to be recorded in conjunction with K2’s adoption of SFAS No. 123 (Revised). The incremental expense associated with the acceleration of the options is included in the pro forma disclosures above for the nine months ended September 30, 2005.

NOTE 4 – Inventories

The components of inventories consisted of the following:

(Unaudited)


	September 30 2005		December 31 2004
	(Thousands)
Finished goods	$	282,452	$	237,162
Work in process		17,897		15,389
Raw materials		72,454		72,574

	$	372,803	$	325,125

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

Note 5 – Acquisitions

During the 2005 second quarter, K2 completed the acquisition of substantially all of the assets of Hodgman, Inc., a business engaged in the design, selling and distribution of hunting and fishing waders, and JRC Products Limited, a business engaged in the design, selling and distribution of fishing tackle products. The purchase price for these assets was paid in cash. The results of the operations of these two companies were included in the consolidated financial statements of K2 beginning with the date of the applicable acquisition.

Those two transactions completed during the 2005 second quarter were accounted for under the purchase method of accounting, and accordingly the purchased assets and liabilities were recorded at their estimated fair values at the date of the acquisition. The combined purchase price allocation for the two acquisitions resulted in an excess of the purchase price over net tangible assets acquired of approximately $7.0 million.

The excess amounts of the two transactions were allocated to intangible assets with finite and indefinite lives including: customer relationships and patents of $0.1 million with an average life of 2.0 years; tradenames with an indefinite life not subject to amortization of $2.9 million; and goodwill not subject to amortization of $4.0 million.

At September 30, 2005, there was approximately $8.7 million of cash and 536,536 shares of K2 common stock held in escrow or due for payment relating to certain acquisitions. The cash and shares will be released from escrow during 2005 through 2008 subject to final agreement between K2 and the selling parties. The cash and shares in escrow as well as future cash payments due have been reflected in the purchase price of the related acquisitions. Shares held in escrow are reflected in the calculation of diluted earnings per share for the periods presented.

During 2004, K2 completed nine acquisitions, including the acquisitions of Fotoball USA, Inc. (later renamed K2 Licensed Products, Inc.) on January 23, 2004, Ex Officio on May 12, 2004, Marmot on June 30, 2004 and Völkl and Marker on July 7, 2004 as well as five smaller acquisitions.

The unaudited consolidated condensed statements of income for the three months ended September 30, 2005 and 2004 and the nine months ended September 30, 2005 include the operating results of each of the businesses acquired in 2004, however the 2004 nine month results include less than a full nine months of results of K2 Licensed Products, which was acquired by K2 on January 23, 2004, Worr Game Products and IPI, both of which were acquired by K2 on April 19, 2004, Ex Officio, which was acquired by K2 on May 12, 2004, Marmot, which was acquired by K2 on June 30, 2004 and Völkl and Marker, both of which were acquired on July 7, 2004.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

Note 5 – Acquisitions (Continued)

The following summarized unaudited pro forma information of K2 assumes the acquisitions of Marmot and Völkl and Marker had occurred as of January 1, 2004, the earliest date for which information is presented below. This pro forma information does not purport to be indicative of what would have occurred had the acquisitions been made as of those dates, or of results which may occur in the future. Pro forma results of operations of K2’s other acquisitions completed during 2004 and 2005 have not been presented because the effects of these additional acquisitions were not material on either an individual basis or aggregate basis to K2’s consolidated results of operations.

Pro Forma Information (Unaudited)

(Thousands, except per share amounts)


	Nine Months Ended September 30
	2005		2004
Net sales	$	960,068	$	919,861
Operating income		50,370		44,107
Net income		20,517		18,144
Diluted earnings per share	$	0.42	$	0.40

Pursuant to the acquisitions made by K2 during 2005, 2004 and 2003, K2 approved restructuring and exit plans related to the closure of certain facilities of the acquired companies. In accordance with Emerging Issues Task Force (“EITF”) 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination,” K2 established reserves for employee severance, employee relocation costs and lease termination costs totaling approximately $0.6 million, $11.0 million and $5.1 million, during 2005, 2004 and 2003, respectively. These reserves were recognized as assumed liabilities of the acquired companies. The reserves established were not individually significant to any of K2’s acquisitions during 2005, 2004 or 2003.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

Note 5 – Acquisitions (Continued)

The following table summarizes the activity in 2004 and 2005:


	Employee Severance			Employee Relocation			Subtotal			Lease Termination Costs			Total
	(Thousands)
Balance at December 31, 2003	$	2,411		$	816		$	3,227		$	1,203		$	4,430
Reserves established in conjunction with acquisitions		6,968			40			7,008			4,034			11,042
Adjustments to reserve estimates (reflected as an adjustment of the cost of the acquired companies)		(974	)		—			(974	)		—			(974	)
Utilized in 2004:		(1,415	)		(488	)		(1,903	)		(40	)		(1,943	)

Balance at December 31, 2004		6,990			368			7,358			5,197			12,555
Reserves established in conjunction with acquisitions		205			—			205			418			623
Adjustments to reserve estimates (reflected as an adjustment of the cost of the acquired companies)		(994	)		—			(994	)		(1,273	)		(2,267	)
Utilized in 2005:		(2,629	)		(143	)		(2,772	)		(1,242	)		(4,014	)

Balance at September 30, 2005	$	3,572		$	225		$	3,797		$	3,100		$	6,897

K2 believes that the remaining reserves for restructuring are adequate to complete its restructuring and exit plans.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 6 – Intangible Assets and Goodwill

The components of intangible assets and goodwill consisted of the following:


	Weighted Average Useful Life	September 30, 2005						December 31, 2004
	Weighted Average Useful Life	Gross Amount		Accumulated Amortization		Net Book Value		Gross Amount		Accumulated Amortization		Net Book Value
		(Thousands)
Intangibles subject to amortization:
Patents	7.9 years	$	15,756	$	4,355	$	11,401	$	14,142	$	3,161	$	10,981
Customer contracts/relationships	8.2 years		8,215		2,409		5,806		8,139		1,488		6,651
Licensing agreements	7.4 years		2,795		1,234		1,561		2,795		868		1,927
Trademarks	7.1 years		955		241		714		955		128		827
Non-compete agreements	4.1 years		1,572		553		1,019		1,347		212		1,135
Order backlog and other	0.2 years		1,560		1,511		49		1,040		1,285		(245	)

			30,853		10,303		20,550		28,418		7,142		21,276
Intangibles not subject to amortization: (by segment)
Tradename
Marine and Outdoor			3,252		—		3,252		352		—		352
Team sports			39,287		—		39,287		33,687		—		33,687
Action sports			81,690		—		81,690		81,690		—		81,690
Apparel and Footwear			21,600		—		21,600		21,600		—		21,600
Goodwill
Marine and Outdoor			26,553		—		26,553		22,853		—		22,853
Team sports			80,220		—		80,220		88,722		—		88,722
Action sports			152,474		—		152,474		156,211		—		156,211
Apparel and Footwear			81,901		—		81,901		81,974		—		81,974

			486,977		—		486,977		487,089		—		487,089
Total intangibles and goodwill		$	517,830	$	10,303	$	507,527	$	515,507	$	7,142	$	508,365

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 6 – Intangible Assets and Goodwill (Continued)

The table below shows the activity in intangibles subject to and not subject to amortization for the nine months ended September 30, 2005, including the purchase price allocations completed by K2 during 2005 relating to the acquisitions completed by K2 in the 2005 second quarter and 2004 fourth quarter, respectively. The final purchase price allocations were based on independent third party valuations.


	December 31, 2004 Net Book Value			Purchase Price Allocations (a)			Other Activity (b)			Amortization			September 30, 2005 Net Book Value
	(Thousands)
Intangibles subject to amortization:
Patents	$	10,981		$	453		$	1,161		$	(1,194	)	$	11,401
Customer contracts/relationships		6,651			76			—			(921	)		5,806
Licensing agreements		1,927			—			—			(366	)		1,561
Trademarks		827			—			—			(113	)		714
Non-compete agreements		1,135			225			—			(341	)		1,019
Order backlog and other		(245	)		520			—			(226	)		49

		21,276			1,274			1,161			(3,161	)		20,550
Intangibles not subject to amortization: (by segment)
Tradename
Marine and Outdoor		352			2,900			—			—			3,252
Team Sports		33,687			5,600			—			—			39,287
Action Sports		81,690			—						—			81,690
Apparel and Footwear		21,600			—			—			—			21,600
Goodwill
Marine and Outdoor		22,853			3,878			(178	)		—			26,553
Team Sports		88,722			(6,497	)		(2,005	)		—			80,220
Action Sports		156,211			—			(3,737	)		—			152,474
Apparel and Footwear		81,974			—			(73	)		—			81,901

		487,089			5,881			(5,993	)		—			486,977
Total intangibles and goodwill	$	508,365		$	7,155		$	(4,832	)	$	(3,161	)	$	507,527

(a)

Amounts in this column represent the allocation of purchase price to intangibles in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141 “Business Combinations” and adjustments to the preliminary purchase price allocations upon finalization of the allocations to the SFAS No. 141 analysis.

(b)	Amounts in this column represent either additions to intangibles not related to purchased intangibles or a reduction in the reserves established upon acquisition in accordance with SFAS No. 141.

Amortization expense for intangibles subject to amortization was approximately $3.2 million for the nine months ended September 30, 2005. Amortization expense of purchased intangible assets subject to amortization is estimated to be approximately $3.9 million during fiscal year ending 2005, $3.6 million during 2006, $3.4 million during 2007, $3.2 million during 2008 and $2.0 million during 2009.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 6 – Intangible Assets and Goodwill (Continued)

Based on the results of the annual impairment tests, K2 had determined that no impairment of goodwill or intangible assets with indefinite lives existed as of December 31, 2004. Due to the recent softness in consumer demand for paintball products within its Action Sports segment, K2 performed an interim test of impairment for the indefinite lived asset associated with the Brass Eagle trademark. K2’s analysis indicated that the fair value exceeds the carrying value and, therefore, no impairment existed at September 30, 2005. In performing the interim test, K2 assumed a sales growth rate of 5%; an income tax rate of 35% and a discount factor of 12%. In the event consumer demand continues to remain soft for paintball products, K2 may be required to record an impairment charge in future periods related to indefinite and finite-lived intangibles within the Action Sports segment. There were no additional indicators of possible impairment present during the nine months ended September 30, 2005. However, future indicators or impairment tests of goodwill and intangible assets with finite and indefinite lives could result in a charge to earnings. K2 will continue to evaluate goodwill and intangible assets with indefinite lives on an annual basis or whenever events and changes in circumstances indicate that there may be a potential impairment.

NOTE 7 – Warranties

K2 records the estimated cost of product warranties at the time sales are recognized. K2 estimates warranty obligations by reference to historical product warranty return rates, material usage and service delivery costs incurred in correcting the product. Should actual product warranty return rates, material usage or service delivery costs differ from the historical rates, revisions to the estimated warranty liability would be required.

The following activity related to product warranty liabilities:

(Unaudited)


	Three Months Ended September 30						Nine Months Ended September 30
(Thousands)	2005			2004			2005			2004
Beginning Balance	$	9,373		$	6,465		$	9,691		$	5,526
Charged to costs and expenses		2,348			2,312			7,002			5,429
Increase to reserve resulting from acquisitions		—			2,008			—			2,333
Amounts charged to reserve		(2,368	)		(2,033	)		(7,340	)		(4,536	)

Ending Balance	$	9,353		$	8,752		$	9,353		$	8,752

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 8 – Borrowings and Other Financial Instruments

At September 30, 2005, K2’s principal long-term borrowing facility was a five-year, $250.0 million revolving Credit Facility (“Facility”) expiring on July 1, 2009 with several banks and other financial institutions. The Facility is expandable to $350.0 million subject to certain conditions. The Facility has a $100.0 million limit for the issuance of letters of credit. Borrowings under the Facility are secured by all of K2’s assets in the United States, Canada and England. Actual borrowing availability under the Facility is based on K2’s trade receivable and inventory levels in the United States, Canada and England, subject to eligibility criteria and defined advance rates. Borrowings under the Facility are subject to an interest rate grid, but as of September 30, 2005 bear a rate equal to the prime rate, or a LIBOR interest rate plus 2.00%, and the Facility had an unused commitment fee of 0.375% per year. The Facility includes various covenants, including requirements that K2 maintain a minimum debt service coverage ratio, as well as limiting annual capital expenditures, indebtedness, dividends and certain investment activities.

On March 18, 2005, K2 obtained an amendment to its Facility allowing K2 to make up to $50.0 million in repurchases of K2 common stock provided that unused borrowing availability under the facility is at least $50.0 million after such repurchases.

On July 25, 2005, K2 also obtained an amendment to its Facility allowing K2 to issue up to $100.0 million in unsecured notes, subject to the approval of the administrative agent, provided the issuance is completed within 365 days and the net proceeds are used to repay borrowings outstanding under the Facility.

At September 30, 2005, borrowings of $88.6 million were outstanding under the Facility bearing an average interest rate of 5.73%. At September 30, 2005, there were also letters of credit outstanding under the Facility of $12.8 million (consisting of $10.8 million of standby letters of credit and $2.0 million of trade letters of credit expiring over the next 12 months). K2 has classified $25.0 million of seasonal borrowings outstanding under the Facility at September 30, 2005 as current. Pursuant to the terms of the Facility, an additional $144.8 million was available for borrowing at September 30, 2005.

At September 30, 2005, K2 also had $25.0 million of 7.25% convertible subordinated debentures (“7.25% Debentures”) due March 2010. The 7.25% Debentures are convertible into 2,097,315 shares of K2 common stock at a conversion price of $11.92 per share. Pursuant to the agreement for these debentures, the noteholders received warrants to purchase 243,260 and 524,329 additional shares of K2’s common stock at exercise prices of $13.14 and $11.92 per share, respectively, exercisable within the three and five year period ended February 14, 2006 and February 14, 2008, respectively (the “Warrants”). K2 assigned a total fair market value of $2.3 million to the Warrants.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 8 – Borrowings and Other Financial Instruments (Continued)

At September 30, 2005, the aggregate unamortized fair market value of $1.1 million is reflected as a reduction of the face amount of the 7.25% Debentures on K2’s balance sheet which is being amortized to interest expense using the effective interest method through the exercise periods, thereby increasing the carrying value of the debentures.

At September 30, 2005, K2 also had $75.0 million of 5.00% convertible senior debentures (“5% Debentures”) due June 2010. The 5% Debentures are convertible into 5,706,458 shares of K2 common stock at a conversion price of $13.14 per share. The debentures are redeemable by K2 in whole or in part at K2’s option on or after June 15, 2008 at a redemption price of 101.429% beginning on June 15, 2008 and ending on June 14, 2009, and at 100.714% beginning on June 15, 2009 and ending on June 14, 2010.

At September 30, 2005, K2 also had $200.0 million of 7.375% senior, unsecured notes (“Senior Notes”) due July 1, 2014. The Senior Notes are redeemable by K2 in whole or in part at K2’s option at any time prior to July 1, 2009 at a price equal to 100% of the principal amount plus accrued and unpaid interest plus a make-whole premium as defined in the indenture. Thereafter, K2 may redeem all or a portion of the notes at the redemption prices set forth in the indenture. The Senior Notes include various incurrence covenants, including limitations on indebtedness, restricted payments and sales of assets.

At September 30, 2005, K2 also had $50.4 million outstanding under various foreign lending arrangements.

NOTE 9 – Pension Plans

K2 sponsors several trusteed non-contributory defined benefit pension plans covering about 850 of its domestic employees. Benefits are generally based on years of service and the employee’s highest average compensation for five consecutive years during the years of credited service. Contributions are intended to provide for benefits attributable to service to date and service expected to be provided in the future. K2 funds these plans in accordance with the Employee Retirement Income Security Act of 1974.

Effective August 31, 2004, the domestic pension plans (the “plans”) were amended to freeze the accrual of future benefits for almost all of the employees. This resulted in active participants no longer accruing benefits under the plans. Participants will remain eligible to receive benefits they have earned under the plans through August 31, 2004 when they retire. New employees will not be eligible to accrue any benefit under the plans. Only a small group of about 20 employees subject to a collective bargaining agreement will continue to accrue a benefit. The impact of this plan change on K2’s benefit costs is a one-time recognized curtailment loss of $0.4 million in the 2004 third

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 9 – Pension Plans (Continued)

quarter. The impact on future benefit costs is the elimination of the service cost and an $8.0 million reduction of the projected benefit obligation for future pay increases. This plan change has further resulted in an estimated reduction in net periodic pension costs for the 2005 year of $2.8 million.

The components of net periodic pension cost consisted of the following:


	Three Months Ended September 30						Nine Months Ended September 30
(Thousands)	2005			2004			2005			2004
Service cost	$	25		$	450		$	75		$	1,350
Interest cost		1,010			1,030			3,030			3,090
Expected return on assets		(1,034	)		(910	)		(3,102	)		(2,730	)
Amortization of:
Prior service cost		—			15			—			45
Actuarial loss		162			135			486			405

Total net periodic benefit cost	$	163		$	720		$	489		$	2,160

The decline in the net periodic benefit cost for the three and nine months ended September 30, 2005 as compared to September 30, 2004 is due to K2 freezing its plans effective August 31, 2004. K2’s expected cash contribution to its plans in 2005 is $4.9 million. During the three and nine months ended September 30, 2005, K2 made contributions totaling approximately $3.1 million and $4.6 million, respectively, to the plans.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 10 – Accumulated Other Comprehensive Loss

The components of accumulated other comprehensive loss are as follows:


	Currency Translation Adjustments			Additional Minimum Pension Liability			Derivative Financial Instruments			Total
	(Thousands)
Balance at December 31, 2004	$	7,143		$	(10,525	)	$	(1,068	)	$	(4,450	)
Currency translation adjustment		(13,591	)		—			—			(13,591	)
Reclassification adjustment for amounts recognized in cost of sales		—			—			492			492
Change in fair value of derivatives, net of $155 in taxes		—			—			310			310

Balance at September 30, 2005	$	(6,448	)	$	(10,525	)	$	(266	)	$	(17,239	)

Total comprehensive income was $15.7 million and $15.9 million for the three months ended September 30, 2005 and 2004, respectively. Total comprehensive income was $7.7 million and $33.2 million for the nine months ended September 30, 2005 and 2004, respectively. Total comprehensive income includes the net change in accumulated other comprehensive loss for the period.

Adjustments resulting from translating foreign functional currency financial statements into U.S. dollars are included in the foreign currency translation adjustment in the above table. The currency translation loss for the nine months ended September 30, 2005 is the result of the strengthening of the U.S. dollar against foreign currencies during the period, including the Euro, Japanese Yen and British Pound Sterling.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 11 – Earnings Per Share Data

Basic earnings per share (“EPS”) is determined by dividing net income or loss by the weighted average number of shares outstanding during the period. Diluted EPS reflects the potential dilutive effects of stock options, restricted stock, shares held in escrow and warrants, using the treasury stock method, and of the debentures using the “if converted” method. The table below provides a reconciliation from basic shares to fully diluted shares for the respective periods.

Options to purchase 4,403,109 and 4,596,928 shares of common stock were outstanding at September 30, 2005 and 2004, respectively. At September 30, 2005, there were also 192,000 unvested and 38,000 vested restricted stock awards outstanding and 536,536 shares held in escrow relating to certain acquisitions. At September 30, 2005 and 2004, shares of common stock issuable upon conversion of the $100 million of convertible debentures totaling 7,803,742 and warrants to purchase 767,589 of shares of common stock were outstanding.

For the three months ended September 30, 2005 and 2004, approximately 2,024,000 and 448,000 stock options, respectively, were excluded since their inclusion would have been antidilutive. For the three months ended September 30, 2005, approximately 162,000 warrants were also excluded as their inclusion would have been antidilutive. For the three months ended September 30, 2005 and 2004, 539,874 and 179,975 shares of K2 common stock held in escrow, respectively, were included in the calculation of diluted earnings per share.

For the nine months ended September 30, 2005 and 2004, approximately 1,621,000 and 428,000 stock options, respectively, were excluded since their inclusion would have been antidilutive. For the three months ended September 30, 2005, 108,000 warrants were also excluded as their inclusion would have been antidilutive. For the nine months ended September 30, 2005 and 2004, 590,794 and 139,396 shares of K2 common stock held in escrow, respectively, were included in the calculation of diluted earnings per share.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 11 – Earnings Per Share Data (Continued)

The table below outlines the determination of the number of diluted shares of common stock used in the calculation of diluted EPS as well as the calculation of diluted EPS for the periods presented:


	Three Months Ended September 30				Nine Months Ended September 30
	2005		2004		2005		2004
	(Thousands, except per share amounts)
Determination of diluted number of shares:
Average common shares outstanding		46,326		46,472		46,240		38,753
Assumed conversion of dilutive stock options, restricted stock awards, warrants and shares in escrow		1,061		873		1,181		947
Assumed conversion of subordinated debentures		7,803		7,803		7,803		7,803

Diluted average common shares outstanding		55,190		55,148		55,224		47,503

Calculation of diluted earnings per share:
Net income	$	16,740	$	13,198	$	20,517	$	30,116
Add: interest component on assumed conversion of subordinated debentures, net of taxes		928		887		2,785		2,712

Net income, adjusted	$	17,668	$	14,085	$	23,302	$	32,828
Diluted earnings per share (a)	$	0.32	$	0.26	$	0.42	$	0.69

(a)	Diluted earnings per share is calculated by dividing net income, adjusted, by diluted

NOTE 12 – Segment Information

As a result of recent acquisitions, beginning in the 2004 third quarter, K2 reclassified its business into the following four segments based on similar product types and distribution channels: Marine and Outdoor, Team Sports, Action Sports and Apparel and Footwear.

The Marine and Outdoor segment includes Shakespeare fishing tackle and monofilament products as well as Stearns outdoor products. The Team Sports segment includes baseball and softball products and K2 Licensed Products. The Action Sports segment includes skis, snowboards, snowshoes, in-line skates and paintball products. The Apparel and Footwear segment includes Marmot and Ex Officio products as well as skateboard shoes and related apparel.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 12 – Segment Information (Continued)

The segment information for the 2004 period has been restated to reflect these reclassifications.

The segment information presented below is for the three months ended September 30:


	Net Sales to Unaffiliated Customers				Intersegment Sales				Operating Profit (Loss)
	2005		2004		2005		2004		2005			2004
	(Millions)
Marine and Outdoor	$	79.1	$	68.2	$	44.4	$	38.7	$	8.5		$	6.7
Team Sports		45.8		40.1		—		—		(4.9	)		(5.2	)
Action Sports		163.2		180.1		3.4		2.9		25.0			23.2
Apparel and Footwear		52.3		45.1		1.1		0.5		6.4			6.1

Total segment data	$	340.4	$	333.5	$	48.9	$	42.1		35.0			30.8

Corporate expenses, net										(2.4	)		(2.8	)
Interest expense										(7.5	)		(7.3	)

Income before provision for income taxes									$	25.1		$	20.7

The segment information presented below is for the nine months ended September 30:


	Net Sales to Unaffiliated Customers				Intersegment Sales				Operating Profit (Loss)
	2005		2004 (a)		2005		2004 (a)		2005			2004 (a)
	(Millions)
Marine and Outdoor	$	321.9	$	274.8	$	114.3	$	88.0	$	44.7		$	38.4
Team Sports		206.7		195.9		—		—		5.7			5.1
Action Sports		308.7		324.3		8.4		2.9		1.8			17.6
Apparel and Footwear		122.8		66.8		2.1		0.9		10.3			8.2

Total segment data	$	960.1	$	861.8	$	124.8	$	91.8		62.5			69.3

Corporate expenses, net										(9.7	)		(9.2	)
Interest expense										(22.1	)		(13.8	)

Income before provision for income taxes									$	30.7		$	46.3

(a)

Results for the nine months ended September 30, 2004 include less than a full nine months of results of K2 Licensed Products, which was acquired by K2 on January 23, 2004, Worr Game Products and IPI, both of which were acquired by K2 on April 19, 2004, Ex Officio, which was acquired by K2 on May 12, 2004, Marmot, which was acquired by K2 on June 30, 2004 and Völkl and Marker, both of which were acquired on July 7, 2004.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 13 – Contingencies

Certain of K2’s products are used in relatively high risk recreational settings and from time to time K2 is named as a defendant in lawsuits asserting product liability claims relating to its sporting goods products. To date, none of these lawsuits has had a material adverse effect on K2, and K2 does not expect any lawsuit now pending to have such an effect. K2 maintains product liability, general liability and excess liability insurance coverage. No assurances can be given such that insurance will continue to be available at an acceptable cost to K2 or such coverage will be sufficient to cover one or more large claims, or that the insurers will not successfully disclaim coverage as to a pending or future claim.

K2 is one of several named potentially responsible parties (“PRP”) in three Environmental Protection Agency matters involving discharge of hazardous materials at old waste sites in South Carolina and Michigan. Although environmental laws technically impose joint and several liability upon each PRP at each site, the extent of K2’s required financial contribution to the cleanup of these sites is expected to be limited based upon the number and financial strength of the other named PRP’s and the volume and types of waste involved which might be attributable to K2.

Environmental and related remediation costs are difficult to quantify for a number of reasons including the number of parties involved, the difficulty in determining the extent of the contamination, the length of time remediation may require, the complexity of environmental regulation and the continuing advancement of remediation technology. K2 accrues for liabilities of this nature when it is probable a liability has been incurred and the amount can be reasonably estimated. At September 30, 2005 and December 31, 2004, K2 had recorded an estimated liability of approximately $800,000 for environmental liabilities. The estimate is based on K2’s share of the costs to remediate as provided by the PRP’s consultants and in ongoing discussions with the EPA or other environmental agencies. The ultimate outcome of these matters cannot be predicted with certainty, however, and taking into consideration reserves provided, management does not believe these matters will have a material adverse effect on K2’s financial statements.

In January 2004, Rawlings was sued by a licensee in the U.S. District Court for the District of Maine in connection with a license agreement pursuant to which the licensee was granted an exclusive license to use certain Rawlings trademarks for the manufacture and sale of team and personal sporting-equipment bags – this lawsuit was later transferred to the U.S. District Court for the Eastern District of Missouri. In February 2004, Rawlings gave the licensee notice that it was terminating the license agreement and sued the licensee in the Missouri District Court, in which Rawlings alleged, among other things, that the licensee breached the license agreement by failing to use its “best efforts”. This license agreement was in place prior to the March 26, 2003 acquisition of Rawlings by K2. Accordingly, during 2004, K2 established liabilities totaling $3.5 million for the estimated probable settlement or verdict on the matter.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 13 – Contingencies (Continued)

On April 29, 2005, a jury awarded the licensee (1) $4.1 million for a claim of lost profits for the next ten years on sales of equipment bags, plus the value of inventory of such bags (the “10-Year Lost Profits Verdict”), (2) $2.1 million for lost profits of equipment bags beginning ten years from the date of the breach of the agreement through forever (the “Speculative Profits Verdict”) and (3) $2.5 million for K2’s alleged tortious interference with the licensee’s business expectations (the “Tortious Interference Verdict”) between Rawlings and the licensee. The Missouri District Court ruled that the licensee was not permitted to bring certain claims to the jury. Following trial, the licensee filed a motion to recover approximately $0.6 million in attorney’s fees and costs – this motion is currently pending. Following the verdict, K2 established in the second quarter 2005 an additional $1.2 million in liabilities for a total of approximately $4.7 million in liabilities related to this litigation, including estimated legal fees and costs of licensee’s attorneys.

On May 19, 2005, K2 and Rawlings, as the case may be, have filed a motion for new trial with respect to the 10-Year Lost Profits Verdict and a motion for judgment notwithstanding the verdict with respect to the Speculative Profits Verdict and the Tortious Interference Verdict. On July 27, 2005, the Missouri District (1) denied Rawlings’ motion for a new trial in respect of the $4.1 million 10-Year Lost Profits Verdict, (2) granted Rawlings’ motion for judgment notwithstanding the verdict with respect to the $2.1 million Speculative Profits Verdict and (3) denied K2’s motion for judgment notwithstanding the verdict for the $2.5 million Tortious Interference Verdict. The only matter that remains open for the Missouri District Court is the licensee’s motion for approximately $0.6 million for its attorneys’ fees and costs. Accordingly, there is currently a judgment against K2 and Rawlings for approximately $6.8 million.

K2 intends to vigorously prosecute an appeal. K2 believes, in part based on advice and estimates from outside counsel as follows: that certain portions of the Missouri District Court’s decision are not supported by facts or law; that there are meritorious arguments to be raised during the appeals process because of, among other things, a lack of evidence to support certain aspects of the verdict; and that K2’s aggregate exposure including attorney’s fees and costs of license is approximately $4.7 million. In connection with its appeal, K2 will be required by Missouri law to post bond in the amount of approximately $6.8 million. In the event that K2 and Rawlings are unsuccessful in their appeal and the amount of the judgment, including the fees and costs of attorneys for the licensee, is greater than $4.7 million, or the outcome of a total liability greater than $4.7 million becomes probable and estimable, K2 will be required to record an expense in the period in which the matter is finalized. However, this expense could be higher if the appeals court rules in favor of the licensee for certain claims on which it is expected that licensee will appeal. The appeal process is expected to take one to two years.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 13 – Contingencies (Continued)

In connection with K2’s acquisition of substantially all of the assets of Miken Composites, LLC, a business engaged in the design, selling and distribution of composite softball bats and softball-related products and accessories in the fourth quarter 2004, K2 assumed the post-litigation damages related to a patent lawsuit in the U.S. District Court for the District of Minnesota. In this patent lawsuit, Miken Composites, L.L.C. v. Wilson Sporting Goods Co., Miken commenced an action in April 2002 seeking a declaration that a line of softball bats manufactured by Miken does not infringe a particular patent owned by Wilson. In response, Wilson counterclaimed seeking to enjoin Miken from continuing to manufacture certain bats and seeks damages for all past alleged infringements of its patent.

In July 2004, the Minnesota Court issued an order interpreting certain of Wilson’s claims concerning its patent, and this interpretation appears to be favorable to K2 and Miken. And, based on this favorable ruling, Miken moved for summary judgment, on which the Minnesota Court still has not ruled. Then, on March 17, 2005, the Minnesota District Court entered an order to stay the patent case pending resolution of a related appeal in federal court of Wilson Sporting Goods Co. v. Hillerich & Bradsby Co. This case involves similar patent issues as those in Miken Composites, L.L.C. v. Wilson Sporting Goods Co.

Each of K2 and Miken has denied all material allegations and asserted various affirmative defenses in respect of Wilson’s counterclaims. The resolution of this matter will depend primarily upon contested facts, and cannot be accurately predicted. Although each of K2 and Miken believes that it has significant defenses to Wilson’s counterclaims, in the event that K2 and Miken are unsuccessful in the declaratory judgment and counterclaim actions, K2 will be required to record an expense in the period when the loss resulting from the resolution of the matter is probable and estimable. The litigation process for this case, including any appeals, is estimated to be an additional two to three years.

K2 is involved in lawsuits, claims, investigations and proceedings, including those identified above, consisting of product liability, patent, commercial, employment and environmental matters, which arise in the ordinary course of business. In accordance with SFAS No. 5, “Accounting for Contingencies,” K2 makes a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. K2 believes that it has adequate provisions for such matters. K2 reviews these provisions at least quarterly and adjusts these provisions to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular legal matter. Litigation is inherently unpredictable. However, K2 believes that it has valid defenses with respect to legal matters pending against it. Nevertheless, it is possible that cash flows or results of operations could be materially affected in any particular period by the unfavorable resolution of one or more of these contingencies.

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information

Obligations to pay principal and interest on K2’s Senior Notes are guaranteed fully and unconditionally by K2’s existing and future wholly-owned U.S. subsidiaries. Separate financial statements of the guarantors are not provided, as subsidiary guarantors are 100% owned by K2 and guarantees are full, unconditional, and joint and several. The non-guarantor subsidiaries are K2’s consolidated non-U.S. subsidiaries. Supplemental condensed consolidating financial information of the K2’s guarantors is presented below.

Condensed Consolidating Statements of Income (Unaudited)

(Thousands)


	Three Months Ended September 30, 2005
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries		Eliminating Entries			Consolidated K2 Inc.
Net sales	$	11		$	239,258		$	149,985	$	(48,902	)	$	340,352
Cost of products sold		628			157,974			106,193		(49,570	)		215,225

Gross profit		(617	)		81,284			43,792		668			125,127
Selling expenses		(976	)		41,183			17,098		—			57,305
General and administrative expenses		9,677			17,984			8,148		—			35,809

Operating income (loss)		(9,318	)		22,117			18,546		668			32,013
Income in consolidated subsidiaries		32,843			—			—		(32,843	)		—
Other expense (income), net		2			(796	)		211		—			(583	)
Interest expense (income)		6,783			(525	)		1,261		—			7,519

Income (loss) before income taxes		16,740			23,438			17,074		(32,175	)		25,077
Income taxes (benefit)		—			4,669			3,668		—			8,337

Net income (loss)	$	16,740		$	18,769		$	13,406	$	(32,175	)	$	16,740


	Three Months Ended September 30, 2004
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries		Eliminating Entries			Consolidated K2 Inc.
Net sales	$	—		$	211,392		$	164,179	$	(42,111	)	$	333,460
Cost of products sold		—			138,863			116,634		(41,223	)		214,274

Gross profit		—			72,529			47,545		(888	)		119,186
Selling expenses		581			36,818			19,392		(55	)		56,736
General and administrative expenses		6,578			19,527			9,128		(356	)		34,877

Operating income (loss)		(7,159	)		16,184			19,025		(477	)		27,573
Income in consolidated subsidiaries		26,280			—			—		(26,280	)		—
Other expense (income), net		—			(1,162	)		433		303			(426	)
Interest expense		5,923			59			1,310		7			7,299

Income (loss) before income taxes		13,198			17,287			17,282		(27,067	)		20,700
Income taxes (benefit)		—			4,726			2,776		—			7,502

Net income (loss)	$	13,198		$	12,561		$	14,506	$	(27,067	)	$	13,198

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information (Continued)

Condensed Consolidating Statements of Income (Unaudited) - Continued

(Thousands)


	Nine Months Ended September 30, 2005
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries			Eliminating Entries			Consolidated K2 Inc.
Net sales	$	11		$	731,917		$	352,982		$	(124,842	)	$	960,068
Cost of products sold		628			492,093			262,132			(122,489	)		632,364

Gross profit		(617	)		239,824			90,850			(2,353	)		327,704
Selling expenses		121			120,697			49,704			—			170,522
General and administrative expenses		24,798			58,684			23,330			—			106,812

Operating income (loss)		(25,536	)		60,443			17,816			(2,353	)		50,370
Income in consolidated subsidiaries		64,458			—			—			(64,458	)		—
Other income, net		(819	)		(1,473	)		(129	)		—			(2,421	)
Interest expense (income)		19,224			(323	)		3,156			—			22,057

Income (loss) before income taxes		20,517			62,239			14,789			(66,811	)		30,734
Income taxes		—			5,722			4,495			—			10,217

Net income (loss)	$	20,517		$	56,517		$	10,294		$	(66,811	)	$	20,517


	Nine Months Ended September 30, 2004
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries		Eliminating Entries			Consolidated K2 Inc.
Net sales	$	—		$	640,638		$	313,011	$	(91,838	)	$	861,811
Cost of products sold		—			435,047			234,541		(90,961	)		578,627

Gross profit		—			205,591			78,470		(877	)		283,184
Selling expenses		1,184			101,965			37,344		(144	)		140,349
General and administrative expenses		16,977			52,294			16,747		(2,723	)		83,295

Operating income (loss)		(18,161	)		51,332			24,379		1,990			59,540
Income in consolidated subsidiaries		60,487			—			—		(60,487	)		—
Other expense (income), net		—			(3,764	)		117		3,043			(604	)
Interest expense		12,210			142			1,453		6			13,811

Income (loss) before income taxes		30,116			54,954			22,809		(61,546	)		46,333
Income taxes (benefit)		—			10,217			6,000		—			16,217

Net income (loss)	$	30,116		$	44,737		$	16,809	$	(61,546	)	$	30,116

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information (Continued)

Condensed Consolidating Balance Sheets (Unaudited)

(Thousands)


	As of September 30, 2005
	K2 Inc.		Guarantor Subsidiaries			Non-guarantor Subsidiaries			Eliminating Entries			Consolidated K2 Inc.
Assets
Current Assets
Cash and cash equivalents	$	5,077	$	1,573		$	10,808		$	—		$	17,458
Accounts receivable, net		78,047		238,018			179,478			(152,355	)		343,188
Inventories, net		175		250,341			127,718			(5,431	)		372,803
Deferred income taxes		23,006		—			(9,456	)		—			13,550
Prepaid expenses and other current assets		841		6,888			18,582			—			26,311

Total current assets		107,146		496,820			327,130			(157,786	)		773,310
Property, plant and equipment		13,129		159,397			115,267			—			287,793
Less allowance for depreciation and amortization		1,272		101,250			45,168			—			147,690

		11,857		58,147			70,099			—			140,103
Intangible assets, net		426,958		14,908			65,661			—			507,527
Deferred income taxes		7,507		—			—			—			7,507
Investment in subsidiaries		881,248		—			—			(881,248	)		—
Other		18,968		(32	)		5,105			125			24,166

Total Assets	$	1,453,684	$	569,843		$	467,995		$	(1,038,909	)	$	1,452,613

Liabilities and Shareholders’ Equity
Current Liabilities
Bank loans	$	—	$	—		$	30,174		$	—		$	30,174
Accounts payable		1,975		90,306			86,410			(94,589	)		84,102
Accrued liabilities		60,465		63,980			45,374			1,633			171,452
Current portion of long-term debt		25,000		—			2,670			—			27,670

Total current liabilities		87,440		154,286			164,628			(92,956	)		313,398
Long-term pension liabilities		16,854		—			—			—			16,854
Long-term debt		263,596		—			17,578			—			281,174
Deferred income taxes		50,746		—			—			—			50,746
Advances (to) from affiliates. net		244,607		(242,634	)		62,732			(64,705	)		—
Convertible subordinated debentures		98,886		—			—			—			98,886
Interdivisional equity		—		658,191			223,057			(881,248	)		—
Shareholders’ Equity		691,555		—			—			—			691,555

Total Liabilities and Shareholders’ Equity	$	1,453,684	$	569,843		$	467,995		$	(1,038,909	)	$	1,452,613

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information (Continued)

Condensed Consolidating Balance Sheets

(Thousands)


	As of December 31, 2004
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries		Eliminating Entries			Consolidated K2 Inc.
Assets
Current Assets
Cash and cash equivalents	$	3,167		$	5,098		$	17,368	$	—		$	25,633
Accounts receivable, net		54,123			240,539			176,633		(101,381	)		369,914
Inventories, net		1,479			214,336			115,337		(6,027	)		325,125
Deferred income taxes		27,970			14			1,725		—			29,709
Prepaid expenses and other current assets		716			5,582			16,477		—			22,775

Total current assets		87,455			465,569			327,540		(107,408	)		773,156
Property, plant and equipment		8,548			153,883			110,528		—			272,959
Less allowance for depreciation and amortization		638			93,939			37,418		—			131,995

		7,910			59,944			73,110		—			140,964
Investment in affiliates		560,820			—			—		(560,820	)		—
Intangible assets, net		484,109			13,431			5,825		5,000			508,365
Deferred income taxes		7,506			—			—		—			7,506
Other		20,707			2,702			2,965		—			26,374

Total Assets	$	1,168,507		$	541,646		$	409,440	$	(663,228	)	$	1,456,365

Liabilities and Shareholders’ Equity
Current Liabilities
Bank loans	$	—		$	—		$	31,490	$	—		$	31,490
Accounts payable		3,054			95,462			84,369		(79,727	)		103,158
Accrued liabilities		59,993			58,520			60,940		—			179,453
Current portion of long-term debt		30,455			421			4,198		—			35,074

Total current liabilities		93,502			154,403			180,997		(79,727	)		349,175
Long-term pension liabilities		16,854			—			—		—			16,854
Long-term debt		229,736			1,624			19,452		—			250,812
Deferred income taxes		52,048			6,075			—					58,123
Advances (to) from affiliates, net		(5,034	)		(32,645	)		60,360		(22,681	)		—
Convertible subordinated debentures		98,535			—			—		—			98,535
Interdivisional equity		—			412,189			148,631		(560,820	)		—
Shareholders’ Equity		682,866			—			—		—			682,866

Total Liabilities and Shareholders’ Equity	$	1,168,507		$	541,646		$	409,440	$	(663,228	)	$	1,456,365

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information (Continued)

Condensed Consolidating Statements of Cash Flows (Unaudited)

(Thousands)


	Nine Months Ended September 30, 2005
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries			Eliminating Entries			Consolidated K2 Inc.
Operating Activities
Net income (loss)	$	(50,631	)	$	61,710		$	11,791		$	(2,353	)	$	20,517
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
Gain on sale of operating division		—			100			—			—			100
Depreciation and amortization		5,665			9,805			11,430			—			26,900
Deferred taxes		3,661			(6,111	)		11,181			—			8,731
Changes in current assets and current liabilities		(23,352	)		(32,551	)		(31,421	)		37,149			(50,175	)

Net cash provided by (used in) operating activities		(64,657	)		32,953			2,981			34,796			6,073
Investing Activities
Property, plant & equipment expenditures		(2,036	)		(14,873	)		(12,177	)		—			(29,086	)
Disposals of property, plant & equipment		88			4,369			312			—			4,769
Purchase of businesses, net of cash acquired		(17,184	)		—			—			—			(17,184	)
Other items, net		127,255			186,060			4,670			(313,200	)		4,785

Net cash provided by (used in) investing activities		108,123			175,556			(7,195	)		(313,200	)		(36,716	)
Financing Activities														—
Borrowings (payments) under long-term debt, net		28,756			(2,045	)		(3,402	)		—			23,309
Net decrease in short-term bank loans		—			—			(1,316	)		—			(1,316	)
Proceeds received from exercise of stock options		475			—			—			—			475

Net cash provided by (used in) financing activities		29,231			(2,045	)		(4,718	)		—			22,468
(Increase) decrease in investment in subsidiaries		(320,428	)		—			—			320,428			—
Advances (to) from affiliates		249,641			(209,989	)		2,372			(42,024	)		—

Net increase (decrease) in cash and cash equivalents		1,910			(3,525	)		(6,560	)		—			(8,175	)
Cash and cash equivalents at beginning of year		3,167			5,098			17,368			—			25,633

Cash and cash equivalents at end of period	$	5,077		$	1,573		$	10,808		$	—		$	17,458

K2 INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued)

September 30, 2005

NOTE 14 – Supplemental Guarantor Information (Continued)

Condensed Consolidating Statements of Cash Flows (Unaudited)

(Thousands)


	Nine Months Ended September 30, 2004
	K2 Inc.			Guarantor Subsidiaries			Non-guarantor Subsidiaries			Eliminating Entries			Consolidated K2 Inc.
Operating Activities
Net income (loss)	$	(21,164	)	$	52,600		$	(261	)	$	(1,059	)	$	30,116
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		4,283			11,131			4,465			—			19,879
Deferred taxes		2,132			(1,672	)		1,929			10,954			13,343
Changes in current assets and current liabilities		773			(47,981	)		(40,946	)		42,088			(46,066	)

Net cash provided by operating activities		(13,976	)		14,078			(34,813	)		51,983			17,272
Investing Activities
Property, plant & equipment expenditures		(890	)		(9,195	)		(15,641	)		1,484			(24,242	)
Disposals of property, plant & equipment		—			1,753			112			(1,484	)		381
Purchase of businesses, net of cash acquired		(113,467	)		—			—			—			(113,467	)
Other items, net		28,677			9,418			18,306			(57,875	)		(1,474	)

Net cash provided by (used in) investing activities		(85,680	)		1,976			2,777			(57,875	)		(138,802	)
Financing Activities
Issuance of senior notes		200,000			—			—			—			200,000
Borrowings (payments) under long-term debt, net		(97,749	)		(910	)		(37,408	)		13			(136,054	)
Net decrease in short-term bank loans		—			—			(16,041	)		85			(15,956	)
Net proceeds from equity issuance		93,740			—			—			—			93,740
Debt issuance costs		(8,353	)		—			—			—			(8,353	)
Proceeds received from exercise of stock options		4,093			—			—			—			4,093

Net cash provided by (used in) financing activities		191,731			(910	)		(53,449	)		98			137,470
(Increase) decrease in investment in subsidiaries		(76,938	)		8			—			76,930			—
Advances (to) from affiliates		(2,017	)		(15,078	)		82,462			(65,367	)		—

Net increase (decrease) in cash and cash equivalents		13,120			74			(3,023	)		5,769			15,940
Cash and cash equivalents at beginning of year		2,681			2,371			16,204			—			21,256

Cash and cash equivalents at end of period	$	15,801		$	2,445		$	13,181		$	5,769		$	37,196

ITEM 2

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Certain statements in Management’s Discussion and Analysis are forward-looking as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on current expectations that are subject to risks and uncertainties. Actual results may differ materially from expectations as of the date of this filing because of the factors discussed below under the Statement Regarding Forward-Looking Disclosure section and elsewhere in this quarterly report on Form 10-Q.

K2 Inc. (“K2”) is a premier, branded consumer products company with a portfolio of leading brands including Shakespeare, Pflueger and Stearns in the Marine and Outdoor segment; Rawlings, Worth and K2 Licensed Products in the Team Sports segment; K2, Völkl, Marker, Ride and Brass Eagle in the Action Sports segment; and Adio, Marmot and Ex Officio in the Apparel and Footwear segment. K2’s diversified mix of products is used primarily in team and individual sports activities such as fishing, watersports activities, baseball, softball, alpine skiing, snowboarding and in-line skating.

Matters Affecting Comparability

Operating Segments. As a result of a number of acquisitions in 2003 and 2004, K2 reclassified its business into the following four segments based on similar product types, distribution channels and management’s perspective in evaluating K2’s various lines of business: Marine and Outdoor, Team Sports, Action Sports and Apparel and Footwear. The Marine and Outdoor segment includes Shakespeare fishing tackle and monofilament products as well as Stearns outdoor products. The Team Sports segment includes baseball and softball products and K2 Licensed Products. The Action Sports segment includes skis, bindings, snowboards, snowshoes, in-line skates and paintball products. The Apparel and Footwear segment includes skateboard shoes and apparel, technical apparel and equipment and outdoor and adventure travel apparel. All periods presented have been recasted to reflect these changes in the segments.

The Marine and Outdoor segment represented $321.9 million, or 33.5%, of K2’s 2005 nine months consolidated net sales; the Action Sports segment represented $308.7 million, or 32.2% of 2005 nine months consolidated net sales; the Team Sports segment had net sales of $206.7 million, or 21.5% of 2005 nine months consolidated net sales; and the Apparel and Footwear segment had net sales of $122.8 million, or 12.8% of 2005 nine months consolidated net sales.

Acquisitions. The consolidated condensed statements of income for the three months ended September 30, 2005 and 2004 and the nine months ended September 30, 2005 include the operating results of each of the businesses acquired in 2004, however the 2004 nine month results include less than a full nine months of results of K2 Licensed Products, which was acquired by K2 on January 23, 2004, Worr Game Products and IPI, both of which were acquired by K2 on April 19, 2004, Ex Officio, which was acquired by K2 on May 12, 2004, Marmot, which was acquired by K2 on June 30, 2004 and Völkl and Marker, both of which were acquired on July 7, 2004. Net sales from acquisitions completed by K2 on or subsequent to September 30, 2004 accounted for $10.9 million and $23.7 million of net sales for the three and nine months ended September 30, 2005, respectively. Net sales for the period from January 1, 2005 through the earlier of the one year

anniversary date of acquisition or September 30, 2005 for acquisitions completed by K2 in 2004 and 2005 which either did not have operations in 2004 or which did not have a full nine months of operations in 2004 accounted for $97.8 million of net sales for the nine months ended September 30, 2005. For further discussion of K2’s acquisition activities see Note 5 of the Notes to Consolidated Condensed Financial Statements.

Consolidated Results of Operations

The following table sets forth certain ratios and relationships calculated from the Consolidated Condensed Statements of Income for the quarter and nine months ended September 30:


	Three Months Ended September 30										Nine Months Ended September 30
							Increase /(Decrease)										Increase /(Decrease)
(In millions, except per share data)	2005			2004			$		%		2005			2004			$			%
Net sales	$	340.4		$	333.5		$	6.9	2.1	%	$	960.1		$	861.8		$	98.3		11.4	%
Gross profit		125.1			119.2			5.9	4.9	%		327.7			283.2			44.5		15.7	%
Operating income		32.0			27.6			4.4	15.9	%		50.4			59.5			(9.1	)	(15.3	%)
Net income		16.7			13.2			3.5	26.5	%		20.5			30.1			(9.6	)	(31.9	%)

Diluted earnings per share	$	0.32		$	0.26		$	0.06	23.1	%	$	0.42		$	0.69		$	(0.27	)	(39.1	%)

Expressed as a percentage of net sales:
Gross margin (a)		36.8	%		35.7	%						34.1	%		32.9	%
Selling, general and administrative expense		27.4	%		27.5	%						28.9	%		26.0	%
Operating margin (b)		9.4	%		8.3	%						5.2	%		6.9	%

(a)	Gross Margin is defined as gross profit divided by net sales as presented in the Consolidated Condensed Statements of Income.

(b)	Operating Margin is defined as operating income divided by net sales as presented in the Consolidated Condensed Statements of Income.

Acquisitions

Downsizing and Restructuring Activities

Pursuant to acquisitions made by K2 during 2005, 2004 and 2003, K2 approved restructuring and exit plans related to the closure of certain facilities of the acquired companies. In accordance with EITF 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination”, K2 established reserves for employee severance, employee relocation costs and lease termination costs totaling approximately $0.6 million, $11.0 million and $5.1 million during 2005, 2004 and 2003, respectively. These reserves were recognized as assumed liabilities of the acquired companies. The reserves established were not individually significant to any of K2’s acquisitions during 2005, 2004 or 2003.

Comparative Third Quarter Results of Operations

Net sales of K2 for the three months ended September 30, 2005 increased to $340.4 million as compared with $333.5 million in the year-earlier period. Net income for the third quarter of 2005 also increased to $16.7 million, or $0.32 per diluted share, as compared to $13.2 million, or $0.26 per diluted share, in the third quarter of 2004.

Net Sales. In the Marine and Outdoor segment, net sales increased to $79.1 million in the 2005 third quarter as compared with $68.2 million in the prior year’s third quarter. The overall improvement in net sales during 2005 resulted from increased sales of Shakespeare fishing tackle products of $6.2 million, higher sales of Stearns products of $7.6 million, including new sales of Sospenders flotation devices, which was acquired in the fourth quarter of 2004 and new sales of Hodgman wader products, which was acquired in the second quarter of 2005, partially offset by lower sales of Shakespeare monofilament products of $2.8 million. The increase in sales of Shakespeare fishing tackle products reflected growth in the sales of Pflueger reels, kits and combos, fish line and military antennas. Increased sales of Stearns outdoor products reflected higher demand for children’s floatation devices and international sales of immersion suits.

Net sales of the Team Sports segment improved to $45.8 million for the 2005 third quarter as compared to $40.1 million in the prior year’s third quarter. The improvement was due to new sales of Miken softball bats of $3.3 million, which was acquired in the fourth quarter of 2004 and higher sales of gloves of $1.0 million, K2 Licensed Products of $0.8 million, metal baseball bats of $0.7 million and team apparel of $0.6 million.

In the Action Sports segment, net sales were $163.2 million in the 2005 third quarter as compared to $180.1 million in the prior year’s third quarter. The overall sales decline was due to lower sales of snowboards of $9.8 million, Völkl and Marker products of $6.6 million, paintball products of $6.1 million, footwear of $1.2 million and bikes of $1.1 million, partially offset by an increase in net sales of K2 skis of $7.8 million. In September 2005 K2 discontinued selling bikes and entered into a license agreement with a third party to manufacture and distribute bikes under the K2 brand. The decline in paintball products reflects soft consumer demand in the industry. In the event that consumer demand continues to remain soft for paintball products, this could have a significant negative impact on net sales, gross profits and operating income in future periods for the Action Sports segment.

Net sales of the Apparel and Footwear segment increased to $52.3 million in the 2005 third quarter as compared to $45.1 million in the prior year’s third quarter. The increase in net sales is due to a $3.9 million increase in Marmot products as well as higher sales of Earth Product skateboard shoes and apparel of $3.5 million. The increase in sales of skateboard shoes and apparel was due to increased sales of Adio branded product offset by declines in Planet Earth branded products.

K2’s international operations (operating locations outside of the United States) represented $102.5 million, or 30.1% of K2’s consolidated net sales for the three months ended September 30, 2005 as compared to $106.4 million, or 31.9% of K2’s consolidated net sales for the three months ended September 30, 2004. The decrease in net sales from international operations was due to the lower sales of Völkl and Marker products.

Gross profit. Gross profits for the third quarter of 2005 increased 5.0% to $125.1 million, or 36.8% of net sales, as compared with $119.2 million, or 35.7% of net sales, in the year ago quarter. The improvement in gross profit dollars for the quarter was primarily attributable to the increase in third quarter sales volume and the improvement in gross profit as a percentage of net sales. The improvement in the gross profit percentage was due to higher gross margins in the winter products portion of the Action Sports segment as compared to 2004.

Costs and Expenses. Selling expenses for the 2005 third quarter were $57.3 million, or 16.8% of net sales, as compared with $56.7 million, or 17.0% of net sales, in the prior year’s third quarter. General and administrative expenses for the 2005 third quarter were $35.8 million, or 10.5% of net sales, as compared with $34.9 million, or 10.5% of net sales, in the prior year’s third quarter. The increase in selling expenses in dollars was attributable to the increase in sales volume for the third quarter as compared to the prior year. The increase in general and administrative expenses in dollars for the 2005 third quarter was primarily attributable to higher sales volume during the third quarter. As a percentage of net sales, selling expenses decreased due to decreased selling expense in the Action Sports segment offset by increased selling expenses in the Marine and Outdoor and Apparel and Footwear segments.

Operating Income. Operating income for the 2005 third quarter increased to $32.0 million, or 9.4% of net sales, as compared to operating income of $27.6 million, or 8.3% of net sales, a year ago. The increase in operating income was due to higher sales volume and increased gross profit, partially offset by the increase in selling, general and administrative expenses as discussed above in the 2005 third quarter as compared to the prior year.

K2’s international operations (operating locations outside of the United States) had an operating income of $20.0 million for the three months ended September 30, 2005 as compared with $16.2 million of operating income in the year ago quarter. The increase in operating income from international operations was attributable to higher gross margins and lower selling, general and administrative expense in K2’s European operations compared to the third quarter of 2004.

Interest Expense. Interest expense was $7.5 million in the 2005 third quarter as compared to $7.3 million in the year-earlier period. The increase in interest expense for 2005 was primarily attributable to higher average borrowing levels during the 2005 third quarter as compared to 2004. Borrowings on average were higher in the 2005 third quarter due to borrowings made to fund

acquisitions of businesses acquired at the end of or after the 2004 third quarter and due to higher inventories at Stearns and Rawlings.

Income Taxes. During the 2005 third quarter, the effective income tax rate was 33.2% as compared to 36.2% during the 2004 third quarter. The decrease in the effective tax rate was primarily attributable to a greater percentage of income being taxed in relatively lower tax jurisdictions as a result of K2’s acquisitions completed during 2004.

On October 6, 2005, K2 received a notification letter from the U.S. Internal Revenue Service that the United States and German tax authorities have granted K2 relief from economic double taxation for the 1997 to 1999 tax years. The third quarter 2005 financial statements do not reflect the impact of this notification letter because the income tax had already been recorded in a prior period. In respect of the same issue with the United States and German tax authorities for the 2000 to 2002 tax years, K2 has also requested relief. The potential tax benefit of a favorable settlement for the 2000 to 2002 tax years would be approximately $1.5 million, the benefit of which has not yet been recognized because a favorable outcome is not probable at this time. K2 will recognize a tax benefit for the 2000 to 2002 tax years if, and to the extent, it receives a definitive, favorable disposition letter from the applicable authorities.

Comparative Nine-Month Results of Operations

Net sales of K2 for the nine months ended September 30, 2005 increased to $960.1 million as compared with $861.8 million in the year-earlier period. Net income for the nine months of 2005 was $20.5 million, or $0.42 per diluted share, as compared with $30.1 million, or $0.69 per diluted share, in the nine months of 2004.

Net Sales. In the Marine and Outdoor segment, net sales increased to $321.9 million in the 2005 nine months as compared with $274.8 million in the prior year’s nine months. The overall improvement in net sales during 2005 resulted from increased sales of Shakespeare fishing tackle products of $27.6 million, higher sales of Stearns products of $25.5 million, including new sales of Sospenders flotation devices, which was acquired in the fourth quarter of 2004 and new sales of Hodgman wader products, which was acquired in the second quarter of 2005, partially offset by lower sales of Shakespeare monofilament products of $5.9 million. The increase in sales of Shakespeare fishing tackle products reflected growth in the sales of Pflueger reels, kits and combos, fish line, military antennas and new sales of All-Star rods, which was acquired in the second quarter of 2004. Increased sales of Stearns outdoor products reflected higher demand for children’s flotation products, water-ski vests, inflatables, rainwear and ATV accessories.

Net sales of the Team Sports segment improved to $206.7 million for the 2005 nine months as compared to $195.9 million in the prior year’s nine months. The improvement was due to new sales of Miken softball bats of $10.3 million, which was acquired in the fourth quarter of 2004 and higher sales of team apparel of $2.3 million, baseballs of $1.2 million and gloves of $2.0 million, partially offset by lower sales of metal softball bats of $2.0 million, basketballs of $1.4 million and K2 Licensed Products of $0.8 million.

In the Action Sports segment, net sales decreased to $308.7 million in the 2005 nine months as compared to $324.3 million in the prior year’s nine months. The decrease is primarily the result of lower sales of paintball products of $20.0 million, snowboards of $15.4 million, in-line skates of $9.4 million and bikes of $2.7 million, partially offset by the acquisitions of Völkl and Marker in July 2004 and the increase in net sales of K2 skis of $9.0 million. The decline in sales of paintball products, snowboards and in-line skates reflects soft consumer demand in the industry. In the event that consumer demand continues to remain soft for paintball products, this could have a significant negative impact on net sales, gross profits and operating income in future periods for the Action Sports segment.

Net sales of the Apparel and Footwear segment improved to $122.8 million in the 2005 nine months as compared to $66.8 million in the prior year’s nine months. The increase in net sales from 2004 is the result of the acquisitions of Ex Officio in May 2004 and Marmot on June 30, 2004 which had combined net sales of $41.6 million for K2 in the first six months of 2005, as well as higher sales of skateboard shoes and apparel of $13.7 million. The increase in sales of skateboard shoes and apparel was due to increased sales of Adio branded product offset by declines in Planet Earth branded product.

K2’s international operations (operating locations outside of the United States) represented $232.3 million, or 24.2% of K2’s consolidated net sales for the nine months ended September 30, 2005 as compared to $206.3 million, or 23.9% of K2’s consolidated net sales for the nine months ended September 30, 2004. The increase in net sales from international operations was primarily due to the acquisitions of Marmot and Völkl and Marker in July 2004 which had 2005 six months net sales from international operations of $28.4 million. These increases were partially offset by lower sales of in-line skates of $7.2 million and snowboards of $4.5 million.

Gross profit. Gross profits for the nine months of 2005 increased 15.7% to $327.7 million, or 34.1% of net sales, as compared with $283.2 million, or 32.9% of net sales, in the year ago period. The improvement in gross profit dollars for the 2005 period was attributable to the increase in sales volume for the nine months of 2005 as compared to 2004, and an increase in gross profit as a percentage of net sales. The improvement in the gross profit percentage was primarily due to higher gross margins in the Team Sports segment as compared to 2004 and higher gross margin product sales resulting from K2’s acquisitions completed during or after the 2004 second quarter, particularly the acquisitions of Marmot and Ex Officio in the Apparel and Footwear segment.

Costs and Expenses. Selling expenses for the 2005 nine months were $170.5 million, or 17.8% of net sales, as compared with $140.3 million, or 16.3% of net sales, in the prior year’s nine months. General and administrative expenses for the 2005 nine months were $106.8 million, or 11.1% of net sales, as compared with $83.3 million, or 9.7% of net sales, in the prior year’s nine months. The increase in selling expenses in dollars was attributable to the increase in sales volume for the 2005 nine months as compared to the prior year and acquisitions completed at the end of or after the 2004 second quarter by K2 which resulted in additional selling expenses of $25.7 million. The increase in general and administrative expenses in dollars for the 2005 nine months was primarily attributable to higher sales volume during the 2005 nine months and acquisitions completed at the end of or after the 2004 second quarter by K2 which resulted in additional general and administrative expenses of $14.5 million. As a percentage of net sales, selling, general and

administrative expenses increased due to the seasonality associated with the acquisitions of Marmot, Völkl and Marker in July 2004. These acquired companies have higher selling, general and administrative expenses as a percentage of net sales in the first and second quarters of the year due to having lower sales volume as compared to the third and fourth quarters.

Operating Income. Operating income for the 2005 nine months was $50.4 million, or 5.2% of net sales, as compared to operating income of $59.5 million, or 6.9% of net sales, a year ago. The decrease in operating income was due to the increase in selling, general and administrative expenses as discussed above, partially offset by higher sales volume and gross profit in the 2005 nine months as compared to the prior year.

K2’s international operations (operating locations outside of the United States) had an operating income of $15.9 million for the nine months ended September 30, 2005 as compared with operating income of $20.8 million for the nine months ended September 30, 2004. The decrease in operating income for the 2005 nine months as compared to the 2004 period was attributable to the acquisitions of Marmot, Völkl and Marker in July 2004. These acquired companies have higher selling, general and administrative expenses as a percentage of net sales in the first and second quarters of the year due to lower sales volume as compared to the third and fourth quarters. In addition, operating income from international operations declined due to lower sales of in-line skates and snowboards.

Interest Expense. Interest expense was $22.1 million in the 2005 nine months as compared to $13.8 million in the year-earlier period. The increase in interest expense for 2005 was primarily attributable to higher average borrowing levels during the 2005 nine months as compared to 2004. Borrowings on average were higher in the 2005 nine months due to borrowings made to fund acquisitions and the seasonal working capital requirements of businesses acquired during 2004. Higher inventories at Stearns and Rawlings also contributed to the increased average borrowings.

Income Taxes. During the 2005 nine months, the effective income tax rate was 33.2% as compared to 35% during the 2004 nine months. The decrease in the effective tax rate was primarily attributable to a greater percentage of income being taxed in relatively lower tax jurisdictions as a result of K2’s acquisitions completed during 2004.

Liquidity and Capital Resources

Cash Flow Activity

K2’s operating activities provided $6.1 million of cash in the current year’s nine months as compared to $17.3 million in the 2004 nine months. The decrease in cash from operations during 2005 was primarily attributable to the decline in net income of $9.6 million, a smaller decrease in deferred taxes of $4.6 million and a larger increase in current assets and current liabilities of $4.1 million during the 2005 nine months as compared to 2004, partially offset by higher depreciation and amortization expenses of $7.0 million. The decline in net income during the 2005 nine months was attributable to lower operating income and higher interest expense as compared to the 2004 nine months as discussed above.

Net cash used in investing activities was $36.7 million in the current year’s nine months, as compared to $138.8 million of cash used in investing activities in the prior year. The decrease in cash used in investing activities during 2005 was mainly attributable to $96.3 million less cash used in the purchase of businesses and a $4.4 million increase in cash provided by the disposals of property, plant and equipment in the 2005 nine months as compared to 2004, partially offset by higher capital expenditures of $4.8 million in the nine months. There were no material commitments for capital expenditures at September 30, 2005.

Net cash provided by financing activities was $22.5 million in the current year’s nine months as compared with $137.5 million of cash provided in the corresponding year-ago period. The decrease in cash provided by financing activities during the 2005 period was mainly due to the $200.0 million issuance of senior notes and $93.7 million in equity issuance in the nine months of 2004 with no similar issuances in the current year’s nine months and lower proceeds received from stock option exercises of $3.6 million, partially offset by a $159.4 million increase in cash provided by long-term net debt, a $14.6 million decrease in net short term bank loan payments and a $8.4 million decrease in debt issuance costs.

Capital Structure and Resources

K2’s principal long-term borrowing facility is a $250.0 million revolving credit facility (“Facility”), secured by all of K2’s assets in the United States, Canada and England. Total availability under the Facility is determined by a borrowing formula based on eligible trade receivables and inventory and defined advance rates. The Facility is expandable to $350.0 million and has a $100.0 million limit for the issuance of letters of credit. The Facility expires on July 1, 2009. At September 30, 2005, there were $88.6 million of borrowings outstanding under the Facility, $12.8 million of outstanding letter of credit issuances (consisting of $10.8 million of standby letters of credit and $2.0 million of trade letters of credit which expire over the next 12 months) and $144.8 million of available borrowing capacity. At September 30, 2005, K2 also had outstanding $25.0 million of 7.25% convertible subordinated debentures due March 2010, $75.0 million of 5.00% convertible senior debentures due June 2010 and $200.0 million of senior notes due July 2014. At September 30, 2005, K2 had $50.4 million outstanding under various foreign lending arrangements.

K2 believes that the credit available under the Facility, together with cash flow from operations will be sufficient for K2’s business needs through June 30, 2006. K2’s ability to arrange debt financing from other sources, should such additional financing become necessary, could be limited by the fact that substantially all of K2’s assets in the United States, Canada and England are subject to security

interests pursuant to the Facility. In addition, K2’s Senior Notes and 5% Debentures place limitations on the incurrence of indebtedness by K2.

Long-term Financial Obligations and Other Commercial Commitments

The following summarizes the outstanding borrowings and long-term contractual obligations of K2 at September 30, 2005 and the effects such obligations are expected to have on liquidity and cash flow in future periods.


Contractual Obligations	Total		Less than 1 year		1-3 years		4-5 years		After 5 years
	(Thousands)
Long-term debt (1)	$	407,730	$	27,670	$	5,663	$	166,070	$	208,327
Operating leases (2)		61,878		12,960		19,364		19,272		10,282
Licensing arrangements (3)		3,210		2,793		405		13		—
Endorsement and sponsorship arrangements (4)		8,712		4,322		3,943		447		—
Pension contributions (5)		323		323		—		—		—
Amounts due related to acquisitions (6)		675		675		—		—		—

Total contractual cash obligations	$	482,528	$	48,743	$	29,376	$	185,802	$	218,609

(1)	Includes principal payments contractually outstanding under K2’s lending arrangements. See Note 8 to Notes to Consolidated Condensed Financial Statements, for additional information on K2’s long-term debt obligations.

(2)	In the ordinary course of business, K2 enters into operating leases for the use of buildings, machinery and equipment. These amounts represent the contractual minimum payments due under these agreements.

(3)	In the ordinary course of business, K2 enters into licensing arrangements whereby future minimum payments are due. These amounts represent the contractual minimum payments due under these agreements.

(4)	In the ordinary course of business, K2 enters into endorsement and sponsorship contracts with athletes whereby future minimum payments are due. These amounts represent the contractual minimum payments due under these agreements.

(5)	These amounts include estimated contributions for K2’s pension plans. See Note 9 to Notes to Consolidated Condensed Financial Statements, for additional information on K2’s pension plans.

(6)	These amounts include payments to be made during 2005 related to K2’s completed acquisitions.

Off-Balance Sheet Arrangements

K2 did not enter into any off-balance sheet arrangements during 2005 or 2004, nor did K2 have any off-balance sheet arrangements outstanding at September 30, 2005 or December 31, 2004.

Critical Accounting Policies

K2’s discussion and analysis of its financial condition and results of operations are based upon K2’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements

requires K2 to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.

Discussed below are several significant accounting policies, which require the use of judgments and estimates that may materially affect the consolidated financial statements.

The estimates described below are reviewed from time to time and are subject to change if the circumstances so indicate. The effect of any such change is reflected in results of operations for the period in which the change is made. Establishment of the reserves affecting inventories and the allowance for doubtful accounts are among the most important.

Revenue Recognition

K2 recognizes revenue from product sales when title passes and the risks and rewards of ownership have passed to the customer, based on the terms of sale. Title passes generally upon shipment or upon receipt by the customer depending on the country of the sale and the agreement with the customer. In some instances, products are shipped directly from K2 suppliers to K2 customers and revenue is recognized when the product is delivered to and accepted by the customer or a representative of the customer. K2 revenues may fluctuate in cases when our customers delay accepting shipment of product for periods up to several weeks. Reserves for estimated returns are established based upon historical return rates and recorded as reductions of sales.

Warranty

K2 records the estimated cost of product warranties at the time sales are recognized. K2 estimates warranty obligation by reference to historical product warranty return rates, material usage and service delivery costs incurred in correcting the product. Should actual product warranty return rates, material usage or service delivery costs differ from the historical rates, revisions to the estimated warranty liability would be required.

Accounts Receivable and Allowances

Accounts receivable are the result of K2’s worldwide sales activities. Although K2’s credit risk is spread across a large number of customers within a wide geographic area, periodic concentrations within a specific industry occur due to the seasonality of its businesses and with certain customers as the result of K2’s acquisition activities. K2 generally does not require collateral but performs periodic credit evaluations to manage its credit risk.

K2 evaluates the collectibility of accounts receivable based on a combination of factors. In circumstances where there is knowledge of a specific customer’s inability to meet its financial obligations, a specific reserve is recorded against amounts due to reduce the net recognized receivable to the amount that is reasonably believed to be collected. For all other customers, reserves are established based on historical bad debts, customer payment patterns and current economic conditions. The establishment of these reserves requires the use of judgment and assumptions regarding the potential for losses on receivable balances. If the financial condition of K2’s customers were to deteriorate, resulting in an impairment of their ability to make payments to K2, additional allowances may be required.

Inventories

Inventories are valued at the lower of cost or market value. Cost is substantially determined by the first-in, first-out method, including material, labor and factory overhead. K2 records adjustments to its inventory for estimated obsolescence or diminution in market value equal to the difference between the cost of inventory and the estimated market value, based on market conditions from time to time. These adjustments are estimates, which could vary significantly, either favorably or unfavorably, from actual experience if future economic conditions, levels of consumer demand, customer inventory levels or competitive conditions differ from expectations.

Long-Lived and Finite Lived Intangible Assets

Purchased intangible assets with finite lives are amortized using the straight-line method over the estimated economic lives of the assets, ranging from one to eleven years.

Long-lived assets, such as property, plant and equipment and purchased intangible assets with finite lives, are evaluated for impairment whenever events or changes in circumstances indicate the carrying value of an asset may not be recoverable in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” K2 assesses the fair value of the assets based on the future cash flow the assets are expected to generate and recognizes an impairment loss when estimated undiscounted future cash flow expected to result from the use of the asset plus net proceeds expected from disposition of the asset (if any) are less than the carrying value of the asset. When an impairment is identified, K2 reduces the carrying amount of the asset to its estimated fair value based on a discounted cash flow approach or, when available and appropriate, comparable market values. K2 determined there were no indicators of material impairment of long-lived assets as of September 30, 2005.

K2 has evaluated the remaining useful lives of its finite-lived purchased intangible assets to determine if any adjustments to the useful lives were necessary or if any of these assets had indefinite lives and were therefore not subject to amortization. K2 determined that no adjustments to the useful lives of its finite-lived purchased intangible assets were necessary. The finite-lived purchased intangible assets consist of patents, customer contracts and customer lists, licensing agreements, tradenames/trademarks and non-compete arrangements which at September 30, 2005 have weighted average useful lives of approximately 8 years, 8 years, 7 years, 7 years and 4 years, respectively.

Indefinite Lived Intangible Assets

Goodwill and intangible assets with indefinite lives are not amortized but instead are measured for impairment at least annually, or when events indicate that a likely impairment exists. The impairment tests for goodwill and other indefinite-lived intangible assets are assessed for impairment using fair value measurement techniques. Specifically, goodwill impairment is determined using a two-step process. The first step of the goodwill impairment test is used to identify potential impairment by comparing the fair value of a K2 reporting unit with the net book value (or carrying amount), including goodwill. If the fair value of the reporting unit exceeds the carrying amount, goodwill of the reporting unit is considered not impaired and the second step of the impairment test is unnecessary. If the carrying amount of the reporting unit exceeds the fair value, the second step of the goodwill impairment test is performed to measure the amount of impairment loss, if any. The second step of the goodwill impairment test compares the implied fair value of the reporting unit’s goodwill with the carrying amount of that goodwill. If the carrying amount of the reporting unit’s goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. The implied fair value of goodwill is determined in the same manner as the amount of goodwill recognized in a business combination, accordingly the fair value of the reporting unit is allocated to all of the assets and liabilities of that unit as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid to acquire the reporting unit. The impairment test for other intangible assets consists of a comparison of the fair value of the intangible asset with its carrying value. If the carrying value of the intangible asset exceeds its fair value, an impairment loss is recognized in an amount equal to that excess.

Determining the fair value of a reporting unit under the first step of the goodwill impairment test and determining the fair value of individual assets and liabilities of a reporting unit under the second step of the goodwill impairment test is judgmental in nature and often involves the use of significant estimates and assumptions. These estimates and assumptions could have a significant impact on whether or not an impairment charge is recognized and also the extent of such charge. K2’s estimates of fair value utilized in goodwill and other indefinite-lived intangible asset tests may be based upon a number of factors, including assumptions about the projected future cash flows, discount rate, growth rate, determination of market comparables, technological change, economic conditions, or changes to K2’s business operations. Such changes may result in impairment charges recorded in future periods.

K2 determined in accordance with SFAS No. 142 that K2’s segments meet the criteria for aggregation and therefore performed its analysis at the reporting segment level. The fair value of K2’s reporting units was determined using a combination of the income approach and the market approach. Under the income approach, the fair value of a reporting unit is calculated based on the present value of estimated future cash flows. The present value of estimated future cash flows uses K2’s estimates of revenue for the reporting units, driven by assumed market growth rates and assumed market segment share, and estimated costs as well as appropriate discount rates. These estimates are consistent with the plans and estimates that K2 uses to manage the underlying businesses. Under the market approach, fair value is estimated based on market multiples of revenue or earnings for comparable companies.

In performing the fiscal 2004 annual test for the Marine and Outdoor segment, K2 assumed a sales growth rate of 5%; gross profit margins of 37%; an income tax rate of 35%; and a discount rate of 12%. For the Team Sports segment, K2 assumed a sales growth rate of 3%; gross profit margins ranging from 34% to 36%; an income tax rate of 35%; and a discount rate of 12%. For the Action Sports segment, K2 assumed a sales growth rate of 5%; gross profit margins of 34%; an income tax rate of 35%; and a discount rate of 12%. For the Apparel and Footwear segment, K2 assumed a sales growth rate of 5%; gross profit margins of 40%; an income tax rate of 35%; and a discount rate of 12%. Based on the results of the annual impairment tests, K2 determined that no impairment of goodwill existed as of December 31, 2004. However, future goodwill impairment tests could result in a charge to earnings. K2 will continue to evaluate goodwill and indefinite-lived intangibles on an annual basis and whenever events and changes in circumstances indicate that there may be a potential impairment.

Due to the recent softness in consumer demand for paintball products within its Action Sports segment, K2 performed an interim test of impairment for the indefinite lived asset associated with the Brass Eagle trademark. K2’s analysis indicated that the fair value exceeds the carrying value and no impairment existed at September 30, 2005. In performing the interim test, K2 assumed a sales growth rate of 5%; an income tax rate of 35% and a discount factor of 12%. In the event consumer demand continues to remain soft for paintball products, K2 may be required to record an impairment charge in future periods related to indefinite and finite-lived intangibles within the Action Sports segment.

Income Taxes

Income taxes are recorded using the liability method. K2 estimates actual current tax exposure together with temporary differences that result from differing treatment of items for tax and accounting purposes. These temporary differences result in deferred tax assets and liabilities. K2 then assesses the likelihood that deferred tax assets will be recovered from future taxable income and to the extent that recovery is unlikely, a valuation allowance must be established. A significant portion of K2’s deferred tax assets relate to net operating loss carryovers for both domestic and foreign purposes. The realization of these assets is based upon estimates of future taxable income. In those jurisdictions where the realization of these carryovers is not likely, a valuation allowance has been established.

Pensions

a collective bargaining agreement will continue to accrue a benefit. The impact of this plan change on K2’s benefit costs is a one-time recognized curtailment loss of $353,000 in the 2004 third quarter. The impact on future benefit costs is the elimination of the service cost and an $8.0 million reduction of the projected benefit obligation for future pay increases. This plan change has further resulted in an estimated reduction in net periodic pension costs for the 2005 year of $2.8 million.

Pension costs and liabilities are actuarially calculated. These calculations are based on assumptions related to the discount rate, projected compensation increases and expected return on assets. The discount rate assumption is based on current market interest rates of long-term bonds as of December 31, 2004. There is no salary growth assumption for the future due to the freezing of the plans on August 31, 2004, whereby no additional benefits will accrue. Long-term return on plan assets is determined based on historical portfolio results and management’s future expectations for returns for each asset class, as well as the target asset allocation of the pension portfolio. K2 evaluates the assumptions used on a periodic basis and makes adjustments as necessary. As of December 31, 2003, K2’s assumption related to the discount rate, projected compensation increases and expected return on assets was 6.25%, 4.00% and 8.25%, respectively. Due to the declining interest rate environment for long-term bonds in 2004, K2 lowered its discount rate assumption to 5.75% at December 31, 2004. A continued change in the discount rate and actual vs. expected return on plan assets could have a significant impact on the pension costs recorded.

Due to the lower discount rate and declines in the stock market during 2002, actual asset returns on K2’s pension assets did not meet K2’s original assumption of 2003 expected returns. This resulted in 2003 pension expense being higher than 2002 pension expense by approximately $2.1 million. Pension expense for the 2004 year was approximately $0.1 million lower than the 2003 year. The 2004 decrease in pension expense was attributable to: the plan freeze on August 31, 2004 resulting in a reduction in expense of approximately $0.6 million; better than expected 2003 asset returns resulting in a reduction to expense of approximately $0.3 million; all of which were offset by an increase in pension expense of approximately $0.8 million due to changes in assumptions regarding the discount rate, expected return on assets, mortality rates, administrative expenses and changes in participant demographics. For 2005, pension expense is estimated to be approximately $0.6 million, a reduction of $2.7 million from the 2004 year. This decrease in overall expense is expected to result from the following: a $0.2 million decrease in expense due to better than expected asset returns during 2004; a $2.8 million decrease in expense due to the freezing of the plan during 2004; all of which are expected to be offset by a $0.3 million increase in pension expense due to the decrease in the discount rate from 6.25% to 5.75% at December 31, 2004.

K2’s expected cash contribution to its plans in 2005 is $3.9 million. During the three and nine months ended September 30, 2005, K2 made contributions totaling approximately $2.1 million and $3.6 million, respectively, to the plans.

Based on the decrease in the discount rate and lower expected asset returns, the accumulated benefit obligation of the plans exceeded the fair value of the assets of the plans by $22.5 million and $15.6 million at December 31, 2004 and 2003, respectively. These asset shortfalls resulted in K2 recording a non-cash charge to Other Comprehensive Income, a component of K2’s shareholders’ equity, of $14.5 million ($9.4 million, net of taxes) at December 31, 2004. Based on this amount recorded, K2 had $22.5 million and $15.2 million, of net pension liabilities as of December 31, 2004 and 2003,

respectively, consisting of $22.5 and $15.6 million, respectively, in asset shortfalls and an intangible asset for the unrecognized prior service cost of $0.4 million at December 31, 2003. As of September 30, 2005 and December 31, 2004, K2 classified $2.1 million and $5.7 million, respectively, of the pension liability as current and $16.9 million as long-term.

Foreign Currency Translation

The functional currency for most foreign operations is the local currency. The financial statements of foreign subsidiaries have been translated into U.S. dollars. Asset and liability accounts have been translated using the exchange rate in effect at the balance sheet date. Revenue and expense accounts have been translated using the average exchange rate for the period. The gains and losses associated with the translation of the financial statements resulting from the changes in exchange rates from period to period have been reported in the other comprehensive income or loss account in shareholders’ equity. To the extent assets and liabilities of the foreign operations are realized or the foreign operations pay back intercompany debt, amounts previously reported in other comprehensive income or loss account would be included in net income or loss in the period in which the transaction occurs. Transaction gains or losses, other than those related to intercompany accounts and investments deemed to be of a long-term nature, are included in net income or loss in the period in which they occur.

Other Contingencies

In the ordinary course of business, K2 is involved in legal proceedings regarding contractual and employment relationships, product liability claims, environmental matters, intellectual property rights, and a variety of other matters. K2 records contingent liabilities resulting from claims when it is probable that a liability has been incurred and the amount of the loss is reasonably estimable. Estimating probable losses requires analysis of multiple factors, in some cases including judgments about the potential actions of third party claimants and courts. Therefore, actual losses in any future period are inherently uncertain. Currently, K2 does not believe that any of its pending legal proceedings or claims will have a material impact on its financial position or results of operations. However, if actual or estimated probable future losses exceed K2’s recorded liability for such claims, additional charges would be recorded as an expense during the period in which the actual loss or change in estimate occurred.

In January 2004, Rawlings was sued by a licensee in the U.S. District Court for the District of Maine in connection with a license agreement pursuant to which the licensee was granted an exclusive license to use certain Rawlings trademarks for the manufacture and sale of team and personal sporting-equipment bags – this lawsuit was later transferred to the U.S. District Court for the Eastern District of Missouri. In February 2004, Rawlings gave the licensee notice that it was terminating the license agreement and sued the licensee in the Missouri District Court, in which Rawlings alleged, among other things, that the licensee breached the license agreement by failing to use its “best efforts”. This license agreement was in place prior to the March 26, 2003 acquisition of Rawlings by K2 Inc. Accordingly, during 2004, K2 established liabilities totaling $3.5 million for the estimated probable settlement or verdict on the matter.

On April 29, 2005, a jury awarded the licensee (1) $4.1 million for a claim of lost profits for the next ten years on sales of equipment bags, plus the value of inventory of such bags (the “10-Year

Lost Profits Verdict”), (2) $2.1 million for lost profits of equipment bags beginning ten years from the date of the breach of the agreement through forever (the “Speculative Profits Verdict”) and (3) $2.5 million for K2’s alleged tortious interference with the licensee’s business expectations (the “Tortious Interference Verdict”) between Rawlings and the licensee The Missouri District Court ruled that the licensee was not permitted to bring certain claims to the jury. Following trial, the licensee filed a motion to recover approximately $0.6 million in attorney’s fees and costs – this motion is currently pending. Following the verdict, K2 established in the second quarter 2005 an additional $1.2 million in liabilities for a total of approximately $4.7 million in liabilities related to this litigation, including estimated legal fees and costs of licensee’s attorneys.

Each of K2 and Miken has denied all material allegations and asserted various affirmative defenses in respect to Wilson’s counterclaims. The resolution of this matter will depend primarily upon contested facts, and cannot be accurately predicted. Although each of K2 and Miken believes that it has significant defenses to Wilson’s counterclaims, in the event that K2 and Miken are unsuccessful in the declaratory judgment and counterclaim actions, K2 will be required to record an expense in the period when the loss resulting from the resolution of the matter is probable and estimable. The litigation process for this case, including any appeals, is estimated to be two to three years.

Statement Regarding Forward-Looking Disclosure

This Quarterly Report on Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 2, contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause the results of K2 Inc. and its consolidated subsidiaries (“K2”) to differ materially from those expressed or implied by such forward-looking statements. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any projections of net sales, gross margin, expenses, earnings or losses from operations, synergies or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements concerning developments, performance or industry rankings relating to products; any statements regarding future economic conditions or performance; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. The risks, uncertainties and assumptions referred to above include to successfully execute its acquisition plans and growth strategy, integration of acquired businesses, weather conditions, consumer spending, continued success of manufacturing in the People’s Republic of China, global economic conditions, product demand (including for paintball products for which there has been softness for the nine months ended September 30,2005), financial market performance, foreign currency fluctuations and other risks that are described herein, including but not limited to the items described from time to time in K2’s Securities Exchange Act reports including K2’s Annual Report for the year ended December 31, 2004. K2 cautions that the foregoing list of important factors is not exclusive, any forward-looking statements included in this report are made as of the date of filing of this report with the Securities and Exchange Commission, and K2 assumes no obligation and does not intend to update these forward-looking statements.

ITEM 3

Quantitative and Qualitative Disclosures About Market Risk

K2 is exposed to a variety of risks. Two of these risks are foreign currency fluctuations and changes in interest rates that affect interest expense.

Foreign Currency and Derivatives

K2 is exposed to gains and losses resulting from the effect that fluctuations in foreign currency exchange rates can have on the reported results in the consolidated financial statements due to the translation of the operating results and financial position of K2’s international subsidiaries. K2 manages its exposures to changes in foreign currency exchange rates on certain firm purchase commitments and anticipated, but not yet committed purchases, by entering into some foreign currency forward contracts. K2’s risk management objective is to reduce its exposure to the effects of changes in exchange rates on the cost of products sold over annual time horizons. Foreign currency exchange rate movements also affect K2’s competitive position, as exchange rate changes may affect business practices and/or pricing strategies of non-U.S. based competitors and may affect the profitability and pricing strategies of K2 as well. K2’s foreign currency risk policies entail entering into foreign currency derivative instruments only to manage risk of currency fluctuations over a given period of time, not for speculative investments. At September 30, 2005, K2 had foreign exchange contracts with maturities of within one year to exchange various foreign currencies to dollars in the aggregate amount of $50.7 million.

A majority of K2’s products are either manufactured in K2’s China manufacturing facility or sourced from Chinese suppliers, which requires the use of Chinese Yuan Renminbi (“Yuan”) as the form of payment for labor, raw materials, supplies, overhead, transportation and facilities costs. In July 2005, the Chinese government announced that it would let the Yuan’s value float relative to other currencies within a narrow band and increased the Yuan’s value versus the U.S. Dollar by two percent. Should the Yuan continue to strengthen against the U.S. dollar, this could have a negative impact on K2’s future results of operations in the event K2 is unable to pass on the impact of the rising costs to its customers.

Considering both the anticipated cash flows from firm purchase commitments and anticipated purchases for the next quarter and the foreign currency derivative instruments in place at year end, a hypothetical 10% weakening of the U.S. dollar relative to other currencies would not materially adversely affect expected third quarter 2005 earnings or cash flows. This analysis is dependent on actual purchases during the next quarter occurring within 90% of budgeted forecasts. The effect of the hypothetical change in exchange rates ignores the effect this movement may have on other variables including competitive risk. If it were possible to quantify this competitive impact, the results could well be different than the sensitivity effects shown above. In addition, it is unlikely currencies would uniformly strengthen or weaken relative to the U.S. dollar. In reality, some currencies may weaken while others may strengthen. Moreover, any negative effect of a weakening U.S. dollar in terms of increase materials costs would likely be partially offset by a positive impact on revenues due to K2’s sales internationally and the conversion of those international sales to U.S. dollars.

Interest Rates

K2 is also exposed to interest rate risk in connection with its borrowings under the revolving bank credit facility and term loan which bear interest at floating rates based on London Inter-Bank Offered Rate (LIBOR) or the prime rate plus an applicable borrowing margin. For the $100.0 million of convertible subordinated debentures, interest rate changes affect the fair market value but do not impact earnings or cash flows. Conversely, for variable rate debt, interest rate changes generally do not affect the fair market value but do impact future earnings and cash flows, assuming other factors are held constant.

As of September 30, 2005, K2 had $300.0 million in principal amount of fixed rate debt represented by the convertible subordinated debentures and senior notes and $139.0 million of variable rate debt represented by borrowings under the revolving credit facilities and foreign credit lines. Based on the balance outstanding under the variable rate facilities as of September 30, 2005, an immediate change of one percentage point in the applicable interest rate would have caused an increase or decrease in interest expense of approximately $1.4 million on an annual basis. At September 30, 2005, up to $144.8 million of variable rate borrowings were available under K2’s $250.0 million revolving bank credit facility. K2 may use derivative financial instruments, where appropriate, to manage its interest rate risks. However, as a matter of policy, K2 does not enter into derivative or other financial investments for trading or speculative purposes. At September 30, 2005, K2 had no such derivative financial instruments outstanding.

ITEM 4

Controls and Procedures

K2 maintains disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed to ensure that information required to be disclosed in K2’s reports filed under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to K2’s management, including K2’s Principal Executive Officer, Principal Financial Officer and Chief Operating Officer, as appropriate, to allow timely decisions regarding required disclosure.

As required by rules 13a-15(b) and 15d-15(b) of the Exchange Act, an evaluation was carried out under the supervision and with the participation of K2’s management, including K2’s Principal Executive Officer, Principal Financial Officer and Chief Operating Officer, of the effectiveness of the design and operation of K2’s disclosure controls and procedures as of the end of the period covered by this report (the “Evaluation Date”). Based upon that evaluation, the Principal Executive Officer, Principal Financial Officer and Chief Operating Officer have concluded that K2’s disclosure controls and procedures were effective at the reasonable assurance level as of the Evaluation Date.

In addition, based on the evaluation required by Rules 13a-15(d) and 15d-15(d) of the Exchange Act, there have been no changes to K2’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the last fiscal quarter, that has materially affected, or are reasonably likely to materially affect, K2’s internal control over financial reporting.

Rawlings^{^®}, Worth^{^®}, Miken^{^®}, deBeer^{^®}, Gait^™, Ten^™, Hilton^{^®}, Shakespeare^{^®}, Pflueger^{^®}, Ugly Stik^{^®}, All Star^™, Brass Eagle^{^®}, Viewloader^{^®}, Autococker^{^®}, Stearns^{^®}, Sospenders^{^®}, Mad Dog^{^®}, Hodgman^{^®,}K2^{^®}, Völkl^{^®}, Ride^{^®}, Morrow^{^®}, 5150^{^®}, Liquid^{^®}, Velvet^™, Recon^™, Marmot^{^®}, Ex Officio^{^®}, Marker^{^®}, Planet Earth^{^®}, Adio^{^®}, Hawk^{^®} skateboard shoes, Holden^™, Tubbs^{^®}, Atlas^{^®}, Little Bear^{^®}, JT^{^®} and Worr Games are protected trademarks or registered trademarks of K2 or its subsidiaries in the United States and other countries worldwide. Olin^{^®} and Buzz Off^™ are trademarks licensed to K2 or its subsidiaries from third parties.

Registered and other trademarks and trade names of K2’s products are italicized in this Form 10-Q.

PART II - OTHER INFORMATION

ITEM 6

Exhibits


31.1		Certification of the Chief Executive Officer Pursuant Rule 13a-15(e) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of the Chief Financial Officer Pursuant to Rule 13a-15(e) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.3		Certification of the Chief Operating Officer Pursuant to Rule 13a-15(e) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32		Certifications of the Chief Executive Officer, Chief Financial Officer and Chief Operating Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


								K2 INC. (registrant)

Date: November 9, 2005								/s/ THOMAS R. HILLEBRANDT
								Thomas R. Hillebrandt Corporate Controller (Chief Accounting Officer)