UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-4987
SL INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
NEW JERSEY 21-0682685
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
520 FELLOWSHIP ROAD, SUITE A114, MT. LAUREL, NJ 08054
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: 856-727-1500
N/A
--------------------------------------------------------------------------------
(Former name, former address and formal fiscal year,
if changed since last report)
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 [ ] No [X]
The number of shares of common stock outstanding as of August 4, 2005 were
5,578,150.
TABLE OF CONTENTS
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
June 30, 2005 (Unaudited) and December 31, 2004................ 1
Consolidated Statements of Income and Comprehensive Income
Three Months Ended June 30, 2005 and 2004 (Unaudited)
and Six Months Ended June 30, 2005 and 2004 (Unaudited)....... 2
Consolidated Statements of Cash Flows
Six Months Ended June 30, 2005 and 2004 (Unaudited)........... 3
Notes to Consolidated Financial Statements (Unaudited)............. 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................... 18
Item 3. Quantitative and Qualitative Disclosures about Market Risk.............. 32
Item 4. Controls and Procedures................................................. 32
PART II. OTHER INFORMATION
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds............. 32
Item 4. Submission of Matters to a Vote of Security Holders..................... 33
Item 6. Exhibits................................................................ 34
SIGNATURES...................................................................... 35
Item 1. Financial Statements
SL INDUSTRIES, INC.
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
2005 2004
------------ ------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents ................................................ $ 4,308,000 $ 2,659,000
Marketable securities .................................................... 639,000 -
Receivables, net ......................................................... 17,725,000 15,734,000
Inventories, net ......................................................... 15,349,000 15,839,000
Prepaid expenses ......................................................... 1,028,000 714,000
Deferred income taxes, net ............................................... 2,956,000 3,044,000
------------ ------------
Total current assets.................................................... 42,005,000 37,990,000
------------ ------------
Property, plant and equipment, net ......................................... 8,421,000 8,509,000
Deferred income taxes, net ................................................. 2,693,000 3,280,000
Goodwill, net .............................................................. 10,303,000 10,303,000
Other intangible assets, net ............................................... 1,140,000 1,209,000
Other assets and deferred charges .......................................... 1,762,000 1,793,000
------------ ------------
Total assets ......................................................... $ 66,324,000 $ 63,084,000
============ ============
LIABILITIES
Current liabilities:
Debt, current portion .................................................... $ 1,688,000 $ 559,000
Accounts payable ......................................................... 6,292,000 5,626,000
Accrued income taxes ..................................................... - 962,000
Accrued liabilities
Payroll and related costs .............................................. 6,364,000 6,059,000
Other .................................................................. 4,380,000 5,288,000
------------ ------------
Total current liabilities ............................................ 18,724,000 18,494,000
------------ ------------
Debt, less current portion.................................................. - 1,456,000
Deferred compensation and supplemental retirement benefits ................. 3,771,000 3,858,000
Other liabilities .......................................................... 1,533,000 1,589,000
------------ ------------
Total liabilities .................................................... 24,028,000 25,397,000
------------ ------------
Commitments and contingencies (Note 11)
SHAREHOLDERS' EQUITY
Preferred stock, no par value; authorized, 6,000,000 shares; none issued.... $ - $ -
Common stock, $.20 par value; authorized, 25,000,000 shares;
issued, 8,298,000 shares .............................................. 1,660,000 1,660,000
Capital in excess of par value ............................................. 39,924,000 39,210,000
Accumulated other comprehensive income ..................................... 47,000 -
Retained earnings .......................................................... 20,716,000 17,690,000
Treasury stock at cost, 2,719,000 and 2,844,000 shares, respectively ....... (20,051,000) (20,873,000)
------------ ------------
Total shareholders' equity ........................................... 42,296,000 37,687,000
------------ ------------
Total liabilities and shareholders' equity ........................... $ 66,324,000 $ 63,084,000
============ ============
See accompanying notes to consolidated financial statements.
1
SL INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------------ ------------ ------------ ------------
Net sales ........................................................ $ 31,259,000 $ 30,508,000 $ 63,715,000 $ 57,150,000
Cost and expenses:
Cost of products sold ....................................... 19,830,000 19,120,000 40,425,000 36,165,000
Engineering and product development ......................... 2,454,000 2,376,000 4,777,000 4,584,000
Selling, general and administrative ......................... 6,388,000 6,256,000 12,715,000 11,976,000
Depreciation and amortization ............................... 497,000 468,000 971,000 942,000
------------ ------------ ------------ ------------
Total costs and expenses ......................................... 29,169,000 28,220,000 58,888,000 53,667,000
------------ ------------ ------------ ------------
Income from operations ........................................... 2,090,000 2,288,000 4,827,000 3,483,000
Other income (expense):
Amortization of deferred financing costs .................... (112,000) (112,000) (224,000) (224,000)
Interest income ............................................. 38,000 18,000 67,000 61,000
Interest expense ............................................ (61,000) (59,000) (149,000) (148,000)
------------ ------------ ------------ ------------
Income from continuing operations before income taxes ............ 1,955,000 2,135,000 4,521,000 3,172,000
Income tax provision ............................................. 597,000 576,000 1,194,000 928,000
------------ ------------ ------------ ------------
Income from continuing operations ................................ 1,358,000 1,559,000 3,327,000 2,244,000
Income (loss) from discontinued operations (net of tax) .......... (231,000) 20,000 (301,000) 2,476,000
------------ ------------ ------------ ------------
Net income ....................................................... $ 1,127,000 $ 1,579,000 $ 3,026,000 $ 4,720,000
============ ============ ============ ============
Basic net income (loss) per common share *
Income from continuing operations ........................... $ 0.25 $ 0.27 $ 0.60 $ 0.38
Income (loss) from discontinued operations (net of tax)...... $ (0.04) 0.00 $ (0.05) 0.42
------------ ------------ ------------ ------------
Net income .................................................. $ 0.20 $ 0.27 $ 0.55 $ 0.80
============ ============ ============ ============
Diluted net income (loss) per common share *
Income from continuing operations ........................... $ 0.24 $ 0.26 $ 0.58 $ 0.37
Income (loss) from discontinued operations (net of tax)...... $ (0.04) 0.00 $ (0.05) 0.41
------------ ------------ ------------ ------------
Net income .................................................. $ 0.20 $ 0.26 $ 0.53 $ 0.79
============ ============ ============ ============
Shares used in computing basic net income (loss)
per common share ............................................ 5,533,000 5,880,000 5,503,000 5,909,000
Shares used in computing diluted net income (loss)
per common share ............................................ 5,763,000 5,984,000 5,699,000 6,007,000
SL INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
---------- ---------- ---------- ----------
Net income ....................................................... $1,127,000 $1,579,000 $3,026,000 $4,720,000
Other comprehensive income (net of tax):
Unrealized gain on securities ............................... 34,000 - 47,000 -
---------- ---------- ---------- ----------
Comprehensive income ............................................. $1,161,000 $1,579,000 $3,073,000 $4,720,000
========== ========== ========== ==========
*Earnings per share does not add due to rounding.
See accompanying notes to consolidated financial statements.
2
SL INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2005 AND JUNE 30, 2004
(Unaudited)
2005 2004
----------- -----------
OPERATING ACTIVITIES:
Income from continuing operations ............................................................ $ 3,327,000 $ 2,244,000
Adjustments to reconcile income from continuing operations
to net cash provided by (used in) operating activities:
Depreciation ............................................................................ 782,000 808,000
Amortization ............................................................................ 189,000 134,000
Amortization of deferred financing costs ................................................ 224,000 224,000
Non-cash compensation expense ........................................................... 490,000 578,000
Provisions for losses on accounts receivable ............................................ 29,000 50,000
Deferred compensation and supplemental retirement benefits .............................. 186,000 234,000
Deferred compensation and supplemental retirement benefit payments ...................... (268,000) (271,000)
Decrease (increase) in deferred income taxes ............................................ 445,000 (23,000)
Loss on sale of equipment ............................................................... - 1,000
Changes in operating assets and liabilities, excluding effects of business dispositions:
Accounts receivable .................................................................... (2,107,000) (4,788,000)
Inventories ............................................................................ 490,000 (2,851,000)
Prepaid expenses ....................................................................... (113,000) (158,000)
Other assets ........................................................................... (329,000) (79,000)
Accounts payable ........................................................................ 666,000 2,520,000
Accrued liabilities .................................................................... (1,227,000) (567,000)
Accrued income taxes ................................................................... (759,000) 1,831,000
----------- -----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES ............................................... 2,025,000 (113,000)
----------- -----------
INVESTING ACTIVITIES:
Proceeds from sale of subsidiary (cash and notes receivable) ................................. - 1,000,000
Purchases of property, plant and equipment ................................................... (740,000) (701,000)
Purchases of securities available for sale ................................................... (567,000) -
Purchases of other assets .................................................................... (216,000) -
----------- -----------
NET CASH (USED IN) PROVIDED BY INVESTING ACTIVITIES ............................................... (1,523,000) 299,000
----------- -----------
FINANCING ACTIVITIES:
Payments of term loans ....................................................................... (327,000) (608,000)
Proceeds from stock options exercised......................................................... 1,418,000 197,000
Treasury stock sales (purchases) ............................................................. 117,000 (998,000)
----------- -----------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES ............................................... 1,208,000 (1,409,000)
----------- -----------
NET CASH (USED IN) PROVIDED BY DISCONTINUED OPERATIONS ............................................ (61,000) 1,974,000
----------- -----------
NET CHANGE IN CASH AND CASH EQUIVALENTS................................................... ........ 1,649,000 751,000
----------- -----------
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD .................................................. 2,659,000 3,501,000
----------- -----------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ........................................................ $ 4,308,000 $ 4,252,000
=========== ===========
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest ............................................................................. $ 215,000 $ 154,000
Income taxes ......................................................................... $ 1,244,000 $ 703,000
See accompanying notes to consolidated financial statements.
3
SL INDUSTRIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions for Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, the accompanying financial
statements contain all adjustments (consisting of normal recurring adjustments)
considered necessary for a fair presentation. Operating results for interim
periods are not necessarily indicative of the results that may be expected for
the year ending December 31, 2005. These financial statements should be read in
conjunction with the Company's audited financial statements and notes thereon
included in the Company's Annual Report on Form 10-K for the year ended December
31, 2004.
2. MARKETABLE SECURITIES
The Company has classified its investments in marketable securities as
"available-for-sale" in accordance with the provisions of Financial Accounting
Standards No. 115, "Accounting for Certain Investments in Debt and Equity
Securities" ("SFAS 115"). The investments, which have a cost basis of $567,000,
are carried at fair value determined by currently available market prices. The
unrealized gain, net of tax, in the amount of $47,000, is reported in
accumulated other comprehensive income as a component of shareholders' equity
until realized.
3. RECEIVABLES
Receivables at June 30, 2005 and December 31, 2004 consisted of the following:
June 30, December 31,
2005 2004
--------- ------------
(in thousands)
Trade receivables $ 17,826 $ 15,771
Less allowances for doubtful accounts (513) (472)
--------- ----------
17,313 15,299
Recoverable income taxes 157 82
Other 255 353
--------- ----------
$ 17,725 $ 15,734
========= ==========
4
4. INVENTORIES
Inventories at June 30, 2005 and December 31, 2004 consisted of the following:
June 30, December 31,
2005 2004
-------- ------------
(in thousands)
Raw materials $ 11,319 $ 9,669
Work in process 4,445 5,000
Finished goods 2,237 3,633
-------- --------
18,001 18,302
Less allowances (2,652) (2,463)
-------- --------
$ 15,349 $ 15,839
======== ========
5. INCOME PER SHARE
The Company has presented net income per common share pursuant to Financial
Accounting Standards Board Statement of Financial Accounting Standard No. 128,
"Earnings per Share" ("SFAS 128"). Basic net income per common share is computed
by dividing reported net income available to common shareholders by the weighted
average number of shares outstanding for the period. Diluted net income per
common share is computed by dividing reported net income available to common
shareholders by the weighted average shares outstanding for the period, adjusted
for the dilutive effect of common stock equivalents, which consist of stock
options, using the treasury stock method.
The table below sets forth the computation of basic and diluted net income per
share:
Three Months Ended June 30,
2005 2004
-------------------------- ---------------------------
(in thousands, except per share amounts)
Net Per Share Net Per Share
Income Shares Amount Income Shares Amount
------ ------ --------- ------- ------ ---------
Basic net income per
common share $1,127 5,533 $ 0.20 $ 1,579 5,880 $ 0.27
Effect of dilutive
securities - 230 - - 104 (0.01)
------ ----- --------- ------- ----- ---------
Diluted net income per
common share $1,127 5,763 $ 0.20 $ 1,579 5,984 $ 0.26
====== ===== ========= ======= ===== =========
5
Six Months Ended June 30,
2005 2004
-------------------------- ---------------------------
(in thousands, except per share amounts)
Net Per Share Net Per Share
Income Shares Amount Income Shares Amount
------ ------ --------- ------ ------ ---------
Basic net income per
common share $3,026 5,503 $ 0.55 $4,720 5,909 $ 0.80
Effect of dilutive
securities - 196 (0.02) - 98 (0.01)
------ ----- --------- ------ ----- ---------
Diluted net income per
common share $3,026 5,699 $ 0.53 $4,720 6,007 $ 0.79
====== ===== ========= ====== ===== =========
For the six-month period ended June 30, 2005, no common stock options were
excluded from the diluted computations because the option exercise prices of all
outstanding options were less than the average market price of the Company's
common stock during this period. For the six-month period ended June 30, 2004,
common stock options of 473,501 were excluded from the diluted computations
because the exercise prices of such options were greater than the average market
price of the Company's common stock during this period.
STOCK-BASED COMPENSATION
In December 2002, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 148, "Accounting for Stock Based Compensation-Transition and Disclosure"
("SFAS 148"), an amendment of SFAS No. 123 "Accounting for Stock-Based
Compensation" ("SFAS 123"). SFAS 148 provides alternative methods for a
voluntary change to the fair value method of accounting for stock-based employee
compensation and amends the disclosure requirements of SFAS 123. The Company has
elected to continue to account for its stock-based employee compensation plans
under Accounting Principles Board Opinion 25, "Accounting for Stock Issued to
Employees" ("APB 25") and related interpretations. The following disclosures are
provided in accordance with SFAS 148.
Under APB 25, compensation expense is measured as the excess, if any, of the
fair value of the Company's common stock at the date of the grant over the
amount a grantee must pay to acquire the stock. The Company's stock option plans
enable the Company to grant options with an exercise price not less than the
fair value of the Company's common stock at the date of the grant. However, the
Company has recognized approximately $498,000 and $184,000 in the three-month
periods ended June 30, 2005 and June 30, 2004, respectively, and approximately
$490,000 and $428,000 in the six-month periods ended June 30, 2005 and June 30,
2004, respectively, in compensation expense related to certain stock-based
compensation arrangements.
The exercise price of all stock options generally equals the market price of the
Company's common stock on the date of grant. Compensation cost has been
recognized for the Company's stock option plans as noted in the table below. Had
compensation cost for the Company's stock option plans been determined based
upon the fair value at the grant date for awards under these plans, consistent
with the methodology prescribed under SFAS 123, the Company's net income and net
income per common share would have been as follows:
6
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- ------- -------
(in thousands, except per share amounts)
Net income, as reported $ 1,127 $ 1,579 $ 3,026 $ 4,720
Add: Stock-based employee compensation expense
included in reported net income, net of related
tax effects 317 112 311 302
------- ------- ------- -------
1,444 1,691 3,337 5,022
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for awards granted, modified, or settled, net
of related tax effects (344) (191) (394) (445)
------- ------- ------- -------
Pro forma net income $ 1,100 $ 1,500 $ 2,943 $ 4,577
======= ======= ======= =======
Earnings per common share:
Basic - as reported $ 0.20 $ 0.27 $ 0.55 $ 0.80
Basic - pro forma $ 0.20 $ 0.26 $ 0.53 $ 0.77
Diluted - as reported $ 0.20 $ 0.26 $ 0.53 $ 0.79
Diluted - pro forma $ 0.19 $ 0.25 $ 0.52 $ 0.76
In December 2004, the FASB revised SFAS 123 by issuing SFAS 123(R), "Share-Based
Payment" (Note 7).
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option-pricing model, with the following weighted average
assumptions:
Six Months Six Months
Ended Ended
June 30, June 30,
2005 2004
---------- ----------
Expected dividend yield 0.0% 0.0%
Expected stock price volatility 44.61% 61.29%
Risk-free interest rate 3.84% 2.81%
Expected life of stock option 5 years 5 years
------- -------
The fair value of the above stock-based compensation costs was determined using
the Black-Scholes option valuation model. The Black-Scholes option valuation
model was developed for use in estimating the fair value of traded options,
which have no vesting restrictions, are fully transferable and do not include a
discount for large block trades. In addition, option valuation models require
the input of highly subjective assumptions, including the expected stock price
volatility, expected life of the option and other estimates.
7
6. INCOME TAX
The following is a reconciliation of income tax expense at the applicable
federal statutory rate and the effective rates:
Six Months Ended June 30,
2005 2004
---- ----
Statutory rate 34% 34%
Tax rate differential on extraterritorial
income exclusion benefit earnings (1) (2)
Tax rate differential on domestic
manufacturing deduction (1) -
International rate differences 2 1
State income taxes, net of federal income tax benefit 2 5
Research and development tax credits (8) (8)
Other (2) (1)
--- ---
26% 29%
=== ===
During the six months ended June 30, 2005, the Company recorded additional
benefits from research and development tax credits of $358,000, of which
approximately $175,000 relates to prior years and $183,000 relates to the
current year. As of June 30, 2005, the Company's gross research and development
tax credit carryforwards totaled approximately $2,945,000. Of these credits,
approximately $2,379,000 can be carried forward for fifteen years and expire
between 2013 and 2020, while $566,000 will carry forward indefinitely.
7. RECENT AND PROPOSED ACCOUNTING PRONOUNCEMENTS
In November 2004, the FASB issued Statement of Financial Accounting Standards
No. 151, "Inventory Costs - an amendment of ARB No. 43, Chapter 4" ("SFAS 151").
SFAS 151 amends the guidance in ARB No. 43, Chapter 4, "Inventory Pricing," to
clarify the accounting for abnormal amounts of idle facility expense, freight,
handling costs, and wasted material (spoilage) and requires these costs be
treated as current period charges. In addition, SFAS 151 requires that
allocation of fixed production overheads to the costs of conversion be based on
the normal capacity of the production facilities. These provisions of SFAS 151
are effective for inventory costs incurred during fiscal years beginning after
June 15, 2005. The Company is currently evaluating the impact of SFAS 151 on its
financial position and results of operations.
In December 2004, the FASB issued Statement of Financial Accounting Standards
No. 153, "Exchanges of Nonmonetary Assets - an amendment of APB Opinion No. 29"
("SFAS 153"). SFAS 153 amends the guidance in APB Opinion No. 29, "Accounting
for Nonmonetary Transactions," which is based on the principle that exchanges of
nonmonetary assets should be measured based on the fair value of the assets
exchanged, with certain exceptions. SFAS 153 amends APB Opinion No. 29 to
eliminate the exception for nonmonetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of nonmonetary assets
that do not have commercial substance. A nonmonetary exchange has commercial
substance if the future cash flows of the entity are expected to change
significantly as a result of the exchange. The provisions of SFAS 153 are
effective for nonmonetary asset exchanges occurring in fiscal periods beginning
after June 15, 2005. The Company is currently evaluating the impact of SFAS 153
on its financial position and results of operations.
In December 2004, the FASB issued Statement of Financial Accounting Standards
No. 123 (revised 2004), "Share-Based Payment" ("SFAS 123R"). SFAS 123R is a
revision of Statement
8
of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" and supersedes APB Opinion No. 25, "Accounting for Stock Issued to
Employees" and its related implementation guidance. SFAS 123R establishes
standards for the accounting of transactions in which an entity exchanges its
equity instruments for goods or services. It also addresses transactions in
which an entity incurs liabilities in exchange for goods or services that are
based on the fair value of the entity's equity instruments or that may be
settled by the issuance of those equity instruments. SFAS 123R focuses primarily
on accounting for transactions in which an entity obtains employee services in
share-based payment transactions. SFAS 123R requires a public entity to measure
the cost of employee services received in exchange for an award of equity
instruments based on the grant-date fair value of the award (with limited
exceptions). That cost will be recognized over the period during which an
employee is required to provide service in exchange for the award. The
provisions of SFAS 123R were to be effective for public entities that do not
file as small business issuers as of the beginning of the first interim or
annual reporting period that begins after June 15, 2005. On April 14, 2005, the
Securities and Exchange Commission adopted a new rule that amends the compliance
dates for SFAS 123R. The new rule allows companies to implement SFAS 123R at the
beginning of their next fiscal year, which for the Company would be for the
period ended March 31, 2006. The Company is currently evaluating the impact of
SFAS 123R on its financial position and results of operations. The Company may
experience a negative impact on its financial position and results of operations
by the first quarter of 2006 as a consequence of not recognizing an expense at
the time it originally issued employee stock options.
In May 2005, the FASB issued Statement of Financial Accounting Standards No.
154, "Accounting Changes and Error Corrections" ("SFAS 154"), which replaces APB
Opinion No. 20, "Accounting Changes," and Statement of Financial Accounting
Standards No. 3 "Reporting Accounting Changes in Interim Financial Statements"
("SFAS 3"). This Statement changes the requirements for the accounting for and
reporting of a change in accounting principles, and applies to all voluntary
changes in accounting principles, as well as changes required by an accounting
pronouncement in the unusual instance it does not include specific transition
provisions. Specifically, this Statement requires retrospective application to
prior periods' financial statements, unless it is impracticable to determine the
period-specific effects or the cumulative effect of the change. When it is
impracticable to determine the effects of the change, the new accounting
principle must be applied to the balances of assets and liabilities as of the
beginning of the earliest period for which retrospective application is
practicable and a corresponding adjustment must be made to the opening balance
of retained earnings for that period rather than being reported in an income
statement. When it is impracticable to determine the cumulative effect of the
change, the new principle must be applied as if it were adopted prospectively
from the earliest practicable date. This Statement also requires that a change
in depreciation, amortization, or depletion method for long-lived, non-financial
assets be accounted for as a change in accounting estimate effected by a change
in accounting principle. This Statement is effective for the Company for all
accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. This Statement does not change the transition
provisions of any existing pronouncements. The Company does not believe that the
adoption of SFAS 154 will have a significant impact on its financial position
and results of operations.
9
8. GOODWILL AND INTANGIBLE ASSETS
Goodwill and intangible assets consist of the following:
June 30, 2005 December 31, 2004
-------------------------------------- -------------------------------------
Accumulated Accumulated
Gross Value Amortization Net Value Gross Value Amortization Net Value
----------- ------------ --------- ----------- ------------ ---------
(in thousands)
Goodwill $ 12,167 $ 1,864 $ 10,303 $ 12,167 $ 1,864 $ 10,303
----------- ------------ --------- ----------- ------------ ---------
Other Intangible Assets:
Patents 919 688 231 946 666 280
Covenant Not to Compete - - - 110 110 -
Trademarks 922 350 572 922 350 572
Licensing Fees 355 35 320 355 18 337
Other 51 34 17 437 417 20
----------- ------------ --------- ----------- ------------ ---------
Total Other Intangible Assets 2,247 1,107 1,140 2,770 1,561 1,209
----------- ------------ --------- ----------- ------------ ---------
$ 14,414 $ 2,971 $ 11,443 $ 14,937 $ 3,425 $ 11,512
=========== ============ ========= =========== ============ =========
The other intangible assets that have definite lives are all amortizable and
have original estimated useful lives as follows: patents are amortized over
approximately 13 years, licensing fees over approximately 10 years, and
trademarks are not amortized. Amortization expense for intangible assets for
each of the three-month periods ended June 30, 2005 and June 30, 2004 was
$28,000. Amortization expense for intangible assets for each of the six-month
periods ended June 30, 2005 and June 30, 2004 was $56,000. Amortization expense
for intangible assets subject to amortization in each of the next five fiscal
years is estimated to be: $113,000 for the next three years, $68,000 in the
fourth year and $41,000 in the fifth year. Intangible assets subject to
amortization have a weighted average life of approximately 12 years.
9. DEBT
Debt consists of the following:
June 30, December 31,
2005 2004
------- -----------
(in thousands)
Term loan A $ 1,371 $ 1,600
Term loan B 317 415
------- -----------
1,688 2,015
Less current portion (1,688) (559)
------- -----------
Total long-term debt $ - $ 1,456
======= ===========
During the first two quarters of 2005, the Company was a party to a three-year
senior secured credit facility (the "Senior Credit Facility") with LaSalle
Business Credit LLC. The Senior Credit Facility, which provided for a revolving
loan and two term loans, up to a maximum indebtedness of $20,000,000. The
revolving loan of up to $16,810,000 was based upon eligible receivables and
inventory, as well as an overadvance amount of $1,500,000. The overadvance
amount was fully paid down on April 7, 2004. The two term loans of $2,350,000
and $840,000 were to be paid down over a three-year term. The Senior Credit
Facility restricted investments, acquisitions, capital expenditures and
dividends. The Senior Credit Facility also contained financial
10
covenants relating to minimum levels of net worth, fixed charge coverages,
levels of earnings before interest, taxes, depreciation and amortization and
maximum levels of capital expenditures, as defined.
The Company's Senior Credit Facility bore interest ranging from the prime rate
plus fifty basis points to the prime rate plus 2%. The Senior Credit Facility
was secured by all of the Company's assets. The Senior Credit Facility also
provided for certain reserves for outstanding letters of credit and other
contingencies, which reduced the Company's availability under the revolving loan
portion of the Senior Credit Facility. In July 2005, the Company received a
waiver related to the reserves for other contingencies. This waiver reduced the
Company's reserve requirement by $3,000,000. At June 30, 2005, the outstanding
term loan balances were $1,371,000 and $317,000, or a total of $1,688,000. The
entire amount of the loan balances have been classified as current debt for
2005, as the Senior Credit Facility was set to expire on January 6, 2006. The
outstanding term loan balances bore interest at an annual rate of 6.75%.
Availability under the Senior Credit Facility at June 30, 2005 was $13,176,000.
On August 2, 2005, the Company paid the outstanding term loan balances under the
Senior Credit Facility. On August 3, 2005, the Company entered into a new
revolving credit facility with Bank of America, N.A. (Note 16).
10. ACCRUED LIABILITIES - OTHER
Accrued Liabilities - Other consist of the following:
June 30, December 31,
2005 2004
-------- ------------
(in thousands)
Taxes (other than income) and insurance $ 650 $ 805
Commissions 425 482
Accrued litigation and legal fees 655 1,190
Other professional fees 401 689
Environmental 1,218 1,275
Warranty 886 921
Other 1,134 915
Reclassified to long-term liabilities (989) (989)
-------- -----------
$ 4,380 $ 5,288
======== ===========
The Company's warranty reserve, which is included in "Accrued Liabilities -
Other" above, for the period ended June 30, 2005, is as follows:
June 30,
2005
--------
(in thousands)
Liability, beginning of year $ 921
Expense for new warranties issued 498
Expense related to accrual revisions for prior year 25
Warranty claims (558)
--------
Liability, end of period $ 886
========
11
11. COMMITMENTS AND CONTINGENCIES
LITIGATION
In the ordinary course of its business, the Company is subject to loss
contingencies pursuant to foreign and domestic federal, state and local
governmental laws and regulations and is also party to certain legal actions,
which may occur in the normal operations of the Company's business. It is
management's opinion that the impact of these legal actions will not have a
material adverse effect on the consolidated financial position or results of
operations of the Company.
On February 3, 2004, the Company and American Power Conversion Corporation
("APC") executed a settlement agreement in connection with a lawsuit brought by
the Company against APC. Among other things the settlement agreement provided
for the payment to the Company of $4,000,000, which was paid on March 5, 2004. A
third party had threatened certain claims against the Company relating to this
matter for a portion of the payment. In March 2005, the Company agreed to settle
this matter. The settlement had been fully accrued at December 31, 2004 and did
not have a material impact on the Company's consolidated financial position and
results of operations.
The Company, through its wholly-owned subsidiary SLW Holdings, Inc., has been a
party to an arbitration proceeding brought by Niles Audio, Inc. SLW Holdings,
Inc. was formerly known as SL Waber, Inc., all the assets of which were sold in
August 2001. Niles Audio, Inc. is a former customer of SL Waber, Inc. The
parties are currently in discussions to settle this dispute. The Company
believes that neither the results of arbitration nor the terms of a potential
settlement, as the case may be, will have a material adverse impact on its
consolidated financial position or results of operations of the Company.
On June 12, 2002, the Company and its wholly owned subsidiary, SL Surface
Technologies, Inc. ("SurfTech"), were served with notice of a class action
complaint filed in Superior Court of New Jersey for Camden County.
(Substantially all of the operating assets of SurfTech were sold in November
2003). The Company and SurfTech are currently two of approximately 39 defendants
in this action. The complaint alleges, among other things, that the plaintiffs
suffered personal injuries as a result of consuming water distributed from the
Puchack Wellfield in Pennsauken, New Jersey (which supplied Camden, New Jersey).
This case arises from the same factual circumstances as current administrative
actions involving the Puchack Wellfield, to which the Company is a party. The
administrative actions are discussed below. The administrative actions and the
class action lawsuit both allege that SurfTech and other defendants contaminated
ground water through the disposal of hazardous substances at industrial
facilities in the area. SurfTech once operated a chrome-plating facility in
Pennsauken, New Jersey (the "SurfTech Site").
As with the administrative actions, the Company believes it has significant
defenses against the class action plaintiffs' claims and intends to pursue them
vigorously. Technical data generated as part of remedial activities at the
SurfTech Site have not established offsite migration of contaminants and there
are several other technical factors and defenses available to the Company. Based
on the foregoing, the Company has been advised by its outside counsel that it
has a strong defense against the claims alleged in the class action plaintiffs'
complaint, as well as the environmental administrative actions.
12
It is management's opinion that the impact of legal actions brought against the
Company and its operations will not have a material adverse effect on its
consolidated financial position or results of operations. However, the ultimate
outcome of these matters, as with litigation generally, is inherently uncertain,
and it is possible that some of these matters may be resolved adversely to the
Company. The adverse resolution of any one or more of these matters could have a
material adverse effect on the business, operating results, financial condition
or cash flows of the Company.
ENVIRONMENTAL
Loss contingencies include potential obligations to investigate and eliminate or
mitigate the effects on the environment of the disposal or release of certain
chemical substances at various sites, such as Superfund sites and other
facilities, whether or not they are currently in operation. The Company is
currently participating in environmental assessments and cleanups at a number of
sites under these laws and may in the future be involved in additional
environmental assessments and cleanups. Based upon investigations completed by
the Company and its independent engineering-consulting firms to date, management
has provided an estimated accrual for all known costs believed to be probable in
the amount of $1,218,000. However, it is in the nature of environmental
contingencies that other circumstances might arise, the costs of which are
indeterminable at this time due to such factors as changing government
regulations and stricter standards, the unknown magnitude of defense and cleanup
costs, the unknown timing and extent of the remedial actions that may be
required, the determination of the Company's liability in proportion to other
responsible parties, and the extent, if any, to which such costs are recoverable
from other parties or from insurance. Although these contingencies could result
in additional expenses or judgments, or off-sets thereto, at present such
expenses or judgments are not expected to have a material effect on the
Company's consolidated financial position or results of operations.
Substantially all of the Company's environmental costs relate to discontinued
operations and such costs have been recorded in discontinued operations.
The Company is the subject of various other lawsuits and actions relating to
environmental issues, including an administrative action in connection with the
SurfTech Site, which could subject the Company to, among other things,
$9,266,000 in collective reimbursements (with other parties) to the New Jersey
Department of Environmental Protection (the "NJDEP"). Technical data generated
as part of remedial activities at the SurfTech Site have not established offsite
migration of contaminants. Other technical factors and defenses are also
available to the Company. Based on the foregoing, the Company has been advised
by its outside counsel that it has significant defenses against all or any part
of the claim and that any material impact is unlikely.
The Company has reported a ground water contamination plume on its property in
Camden, New Jersey. In January 2003, the Company submitted to the NJDEP a plan
to remediate the site, which is currently under review. Based on the information
so far, the Company believes that the cost to remediate the property should not
exceed approximately $560,000, which has been fully reserved. These costs are
recorded as a component of discontinued operations.
The Company is investigating soil and ground water contamination on SL-MTI's
property in Montevideo, Minnesota. The Company has submitted to the Minnesota
Department of Environmental Protection a plan to remediate the site, which is
currently under review. The
13
Company currently has an accrual of $218,000 for all known costs believed to be
probable related to this site. These costs are recorded as a component of
continuing operations.
The Company filed claims with several of its insurers seeking reimbursement for
past and future environmental costs. In settlement of its claims, the Company
received aggregate cash payments of $2,800,000 prior to fiscal 2001 and
contingent commitments from three insurers to pay for a portion of environmental
costs associated with the SurfTech Site equal to: 15% of costs up to $300,000,
15% of costs up to $150,000 and 20% of costs up to $400,000, respectively. The
Company has received from these three insurers a total of $654,000, as payment
of their contingent commitments through 2004, which have been recorded as
income, net of tax, in discontinued operations.
As of June 30, 2005 and December 31, 2004, the Company has accrued $1,218,000
and $1,275,000, respectively, for known costs believed to be probable related to
environmental matters, which have been included in "Accrued Liabilities - Other"
(Note 10).
12. SEGMENT INFORMATION
The Company currently operates under four business segments: Condor D.C. Power
Supplies, Inc. ("Condor"), Teal Electronics Corp. ("Teal"), SL Montevideo
Technology, Inc. ("SL-MTI") and RFL Electronics Inc. ("RFL"). Since the second
quarter of 2003, management has combined Condor and Teal into one business unit
classified as the Power Electronics Group.
Condor produces a wide range of standard and custom power supply products that
convert AC or DC power to direct electrical current to be used in customers' end
products. Power supplies closely regulate and monitor power outputs, using
patented filter and other technologies, resulting in little or no electrical
interference. Teal is a leader in the design and manufacture of customized power
conditioning and power distribution units. Teal products are developed and
manufactured for custom electrical subsystems for original equipment
manufacturers of semiconductor, medical imaging, graphics, and
telecommunications systems. SL-MTI is a technological leader in the design and
manufacture of intelligent, high power density precision motors. These motor and
motion controls are used in numerous applications, including aerospace, medical,
and industrial products. RFL designs and manufactures teleprotection
products/systems that are used to protect utility transmission lines and
apparatus by isolating faulty transmission lines from a transmission grid. RFL
also provides customer service and maintenance for all electric utility
equipment protection systems. The Other segment includes corporate related
items, financing activities and other costs not allocated to reportable
segments, which include but are not limited to certain legal, litigation and
public reporting charges and the results of insignificant operations.
The unaudited comparative results for the three-month periods and six-month
periods ended June 30, 2005 and June 30, 2004 are as follows:
14
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- -------- --------- ---------
(in thousands)
NET SALES
Power Electronics Group:
Condor $11,066 $ 11,660 $ 22,384 $ 19,523
Teal 7,684 7,408 15,237 14,801
------- -------- --------- ---------
Total 18,750 19,068 37,621 34,324
------- -------- --------- ---------
SL-MTI 6,910 5,886 13,680 11,783
RFL 5,599 5,554 12,414 11,043
------- -------- --------- ---------
Consolidated $31,259 $ 30,508 $ 63,715 $ 57,150
======= ======== ========= =========
Three Months Ended Six Months Ended
June 30, June 30,
2005 2004 2005 2004
------- ------- -------- -------
(in thousands)
INCOME FROM OPERATIONS
Power Electronics Group:
Condor $ 1,295 $ 1,524 $ 2,428 $ 1,400
Teal 1,064 1,094 2,135 2,428
------- ------- --------- -------
Total 2,359 2,618 4,563 3,828
------- ------- --------- -------
SL-MTI 845 619 1,824 1,259
RFL 493 412 1,316 836
Other (1,607) (1,361) (2,876) (2,440)
------- ------- --------- -------
Consolidated $ 2,090 $ 2,288 $ 4,827 $ 3,483
======= ======= ========= =======
June 30, December 31,
2005 2004
--------- ------------
(in thousands)
TOTAL ASSETS
Power Electronics Group:
Condor $ 14,616 $ 14,105
Teal 13,847 12,742
--------- ------------
Total 28,463 26,847
--------- ------------
SL-MTI 11,250 10,849
RFL 16,044 16,767
Other 10,567 8,621
--------- ------------
Consolidated $ 66,324 $ 63,084
========= ============
15
June 30, December 31,
2005 2004
-------- ------------
(in thousands)
INTANGIBLE ASSETS, NET
Teal $ 5,857 $ 5,906
SL-MTI 17 20
RFL 5,569 5,586
-------- ------------
Consolidated $ 11,443 $ 11,512
======== ============
13. DISCONTINUED OPERATIONS
SL WABER
In August, 2001, SL Waber, Inc. ("SL Waber") sold substantially all of its
assets including the stock of Waber de Mexico S.A. de C.V. As part of this
transaction, the purchaser acquired the rights to the SL Waber name and assumed
certain liabilities and obligations of SL Waber. Subsequent to the sale, SL
Waber changed its name to SLW Holdings, Inc. ("SLW Holdings"). There was no
activity from operations of SLW Holdings during the fourth quarter of 2001 and
thereafter. Net income or losses of SLW Holdings are included in the
consolidated statements of income under discontinued operations for all periods
presented. In 1997, SL Waber commenced patent infringement litigation against
APC, the rights to which were retained by SL Waber after the sale. In February
2004, the Company and APC executed a settlement agreement that provided, among
other things, for a release of all claims against APC and granted to APC a
paid-up license, in return for the payment to the Company of $4,000,000. The
settlement agreement was conditioned on the dismissal with prejudice of the
lawsuit. On March 5, 2004, the settlement fee was paid to the Company. The
settlement fee, net of tax, in the amount of $2,516,000 is recorded as part of
discontinued operations in the Company's consolidated statements of income and
cash flows for the six months ended June 30, 2004. A third party had threatened
certain claims against the Company relating to this matter for a portion of the
payment. On March 22, 2005, the Company paid a settlement fee to that third
party related to this matter (see Note 11), which had been fully reserved at
December 31, 2004. The cash effect of the payment is recorded in the cash flow
statement as part of discontinued operations for 2005. SLW Holdings is also a
party to arbitration proceedings brought by a former customer. The parties are
currently in discussions to settle this dispute. The Company believes that
neither the results of arbitration nor the terms of a potential settlement, as
the case may be, will have a material adverse impact on its consolidated
financial position or results of operations. The result of any arbitration award
or settlement fee, as the case may be, as well as any costs to litigate the
matter are recorded as part of discontinued operations.
ELEKTRO-METALL EXPORT GMBH
On January 6, 2003, the Company sold its wholly-owned, indirect German
subsidiary, Elektro-Metall Export GmbH ("EME"). Part of the proceeds of sale
included a $1,000,000 unsecured note and which was paid in full in April 2004.
All cash proceeds relating to the purchase price for the sale of EME have been
received by the Company.
SL SURFACE TECHNOLOGIES, INC.
In November 2003, the Company sold the operating assets, including current
assets and equipment, of SurfTech. The purchaser paid $600,000 in cash, plus the
assumption of certain liabilities. The Company continues to own the land and
building on which SurfTech's operations
16
were conducted, and has entered into a ten-year lease with the buyer. The
Company continues to make payments related to its withdrawal liability from the
pension plan in which SurfTech was a participant. There has not been any
operational activity related to SurfTech since the sale in November 2003.
14. RETIREMENT PLANS AND DEFERRED COMPENSATION
The Company maintains three noncontributory, defined contribution pension plans
covering all of its full-time, US employees. The Company's contributions to
these plans are based on a percentage of employee contributions and/or plan year
gross wages, as defined. Condor, Teal, SL-MTI, and the Corporate office provide
contributions to their plans based on a percentage of employee contributions.
Condor, SL-MTI, RFL, and the Corporate office also provide profit sharing
contributions annually, based on plan year gross wages. Costs incurred under
these plans amounted to $540,000 and $517,000 during the six-month periods ended
June 30, 2005 and June 30, 2004, respectively.
The Company has agreements with certain active and retired directors, officers
and key employees providing for supplemental retirement benefits. The liability
for supplemental retirement benefits is based on the most recent mortality
tables available at discount rates ranging from 6% to 12%. The amount charged to
income in connection with these agreements amounted to $138,000 and $225,000 for
the six-month periods ended June 30, 2005 and June 30, 2004, respectively.
15. RELATED PARTY TRANSACTIONS
The compensation committee has approved the payment of certain fees from the
Company to Steel Partners, Ltd. ("SPL"), a company controlled by the Chairman of
the Board and Chief Executive Officer of the Company, Warren Lichtenstein. These
fees are in consideration for the services of Mr. Lichtenstein and the Company's
President, Glen Kassan, as well as other assistance provided by SPL from time to
time. During the six-month period ended June 30, 2005, the Company expensed
$237,000 for SPL services. Of this amount, $40,000 remained payable at June 30,
2005. The Company expensed $237,000 for services performed for the six-month
period ended June 30, 2004.
RFL has an investment of $15,000 in RFL Communications PLC ("RFL
Communications"), representing 4.5% of the outstanding equity thereof. RFL
Communications is a distributor of teleprotection and communication equipment
located in the United Kingdom. It is authorized to sell RFL products in
accordance with an international sales agreement. Sales to RFL Communications
for each of the six-month periods ended June 30, 2005 and June 30, 2004 were
$571,000 and $824,000, respectively. Accounts receivable due from RFL
Communications at June 30, 2005 were $204,000.
16. SUBSEQUENT EVENTS
On August 2, 2005, the Company paid the outstanding term loan balances under its
existing Senior Credit Facility in the amount of $1,641,000. The Company also
paid legal fees and early termination fees of $212,000. These payments were made
from the Company's available funds.
On August 3, 2005, the Company entered into a revolving credit facility (the
"Revolving Credit Facility") with Bank of America, N.A. ("Bank of America") to
replace its Senior Credit Facility. The Revolving Credit Facility (with a
standby and commercial letter of credit sub-limit of $5,000,000) provides for
borrowings of $25,000,000 and under certain circumstances maximum
17
borrowings of $30,000,000. The Revolving Credit Facility expires on June 30,
2008. Borrowings under the Revolving Credit Facility bear interest, at the
Company's option, at the London interbank offering rate ("LIBOR") plus a margin
rate ranging from 0.9% to 1.9%, or the higher of a Base Rate plus a margin rate
ranging from 0% to 0.5%. The Base Rate is equal to the higher of (i) the Federal
Funds Rate plus 0.5%, or (ii) Bank of America's publicly announced prime rate.
The margin rates are based on certain leverage ratios, as defined. The Company
is subject to compliance with certain financial covenants set forth in the
Revolving Credit Facility, including but not limited to, capital expenditures,
consolidated net worth, and certain interest and leverage ratios, as defined.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The Company, through its subsidiaries, designs, manufactures and markets power
electronics, motion control, power protection, teleprotection and specialized
communication equipment that is used in a variety of aerospace, computer,
datacom, industrial, medical, telecom, transportation and utility equipment
applications. The Company is comprised of four domestic business segments, two
of which have significant manufacturing operations in Mexico. Most of the
Company's sales are made to customers who are based in the United States.
However, over the years the Company has increased its presence in international
markets. The Company places an emphasis on high quality, well-built, dependable
products and continues its dedication to product enhancement and innovations.
The Company's business strategy has been to enhance the growth and profitability
of each of its businesses by way of accelerated growth through the penetration
of attractive new market niches, further improvement of operations and expansion
of global capabilities. The Company expects to achieve these goals through
organic growth and strategic acquisitions. The Company also continues to pursue
strategic alternatives to maximize the value of its businesses. Some of these
alternatives have included, and will continue to include, selective
acquisitions, divestitures and sales of certain assets. The Company has
provided, and may from time to time in the future provide, information to
interested parties regarding portions of its businesses for such purposes.
CRITICAL ACCOUNTING POLICIES
The Company's Consolidated Financial Statements have been prepared in accordance
with accounting principles generally accepted in the United States. These
generally accepted accounting principles require management to make estimates
and assumptions that affect the amounts of reported and contingent assets and
liabilities at the date of the Consolidated Financial Statements and the amounts
of reported net sales and expenses during the reporting period.
The Company's significant accounting policies are described in Note 1 in the
Notes to Consolidated Financial Statements included in Part IV of the Company's
Annual Report on Form 10-K. Not all of these significant accounting policies
require management to make difficult, subjective or complex judgments or
estimates. However, the following policies are deemed to be critical, as that
term is defined by the Securities and Exchange Commission.
REVENUE RECOGNITION
Revenue from product sales is recognized at the time the product is shipped,
with provisions established for estimated product returns and returns related to
one business segment's stock scrap program with distributors. Upon shipment, the
Company provides for the estimated cost
18
that may be incurred for product warranties. Rebates and other sales incentives
offered by the Company are recorded as a reduction of sales at the time of
shipment. Revenue recognition is significant because net sales is a key
component of results of operations. In addition, revenue recognition determines
the timing of certain expenses, such as commissions and royalties. The Company
follows generally accepted accounting principles in measuring revenue. Revenue
is recorded in accordance with Staff Accounting Bulletin ("SAB") No. 104.
However, certain judgments affect the application of its revenue policy. Revenue
results are difficult to predict, and any shortfall in revenue or delay in
recognizing revenue could cause operating results to vary significantly from
quarter to quarter and could result in future operating losses.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
The Company's estimate for the allowance for doubtful accounts related to trade
receivables is based on two methods. The amounts calculated from each of these
methods are combined to determine the total amount reserved. First, the Company
evaluates specific accounts where it has information that the customer may have
an inability to meet its financial obligations (bankruptcy, etc.). In these
cases, the Company uses its judgment, based on the best available facts and
circumstances, and records a specific reserve for that customer against amounts
due to reduce the receivable to the amount that is expected to be collected.
These specific reserves are re-evaluated and adjusted as additional information
is received that impacts the amount reserved. Second, a general reserve is
established for all customers based on several factors, including historical
write-offs as a percentage of sales. If circumstances change (e.g., higher than
expected defaults or an unexpected material adverse change in a major customer's
ability to meet its financial obligation), the Company's estimates of the
recoverability of amounts due could be reduced by a material amount.
INVENTORIES
The Company values inventory at the lower of cost or market and continually
reviews the book value of discontinued product lines to determine if these items
are properly valued. The Company identifies these items and assesses the ability
to dispose of them at a price greater than cost. If it is determined that cost
is less than market value, then cost is used for inventory valuation. If market
value is less than cost, then related inventory is adjusted to that value.
If a write down to the current market value is necessary, the market value
cannot be greater than the net realizable value, which is defined as selling
price less costs to complete and dispose, and cannot be lower than the net
realizable value less a normal profit margin. The Company also continually
evaluates the composition of its inventory and identifies slow-moving and excess
inventories. Inventory items identified as slow-moving or excess are evaluated
to determine if reserves are required. If the Company is not able to achieve its
expectations of the net realizable value of the inventory at current market
value, it adjusts its reserves accordingly.
ACCOUNTING FOR INCOME TAXES
The Company's income tax policy records the estimated future tax effects of
temporary differences between the tax basis of assets and liabilities and
amounts reported in the accompanying consolidated balance sheets, as well as
operating loss and tax credit carryforwards. The Company follows the guidelines
under Statement of Financial Accounting Standard No. 109 ("SFAS 109") in
determining the recoverability of any tax assets recorded on the balance sheet
and provides any necessary allowances as required. As part of the process of
preparing its consolidated financial statements, the Company is required to
estimate its income taxes in each of the jurisdictions in which it operates.
This process involves estimating the actual
19
current tax exposure, together with assessing temporary differences resulting
from the differing treatment of certain items for tax and accounting purposes.
These differences result in deferred tax assets and liabilities, which are
included within the consolidated balance sheet. Management must then assess the
likelihood that deferred tax assets will be recovered from future taxable income
and to the extent it believes that recovery is not likely, the Company must
establish a valuation allowance. To the extent it establishes a valuation
allowance or increases or decreases this allowance in a period, it must include
expense or income, as the case may be, within the tax provision in the
consolidated statement of income.
Significant management judgment is required in determining the provision for
income taxes, the deferred tax assets and liabilities and any valuation
allowance recorded against deferred tax assets. As of June 30, 2005 and December
31, 2004, the Company had recorded total valuation allowances of $3,399,000 and
$3,267,000, respectively, due to uncertainties related to the utilization of
some deferred tax assets, primarily consisting of certain research and
development tax credits, loss carryforwards and foreign tax credits, before they
expire. The valuation allowance is based on estimates of taxable income by the
jurisdictions in which the Company operates and the period over which deferred
tax assets will be recoverable. In the event that actual results differ from
these estimates or these estimates are adjusted in future periods, the Company
may need to establish an additional valuation allowance that could materially
impact its consolidated financial position and results of operations.
The net deferred tax assets as of June 30, 2005 and December 31, 2004 were
$5,649,000 and $6,324,000, net of valuation allowances of $3,399,000 and
$3,267,000, respectively. The carrying value of the Company's net deferred tax
assets assumes that the Company will be able to generate sufficient future
taxable income in certain tax jurisdictions, based on estimates and assumptions.
If these estimates and related assumptions change in the future, the Company may
be required to record additional valuation allowances against its deferred tax
assets resulting in additional income tax expense in the consolidated statement
of income. Management evaluates the reliability of the deferred tax assets and
assesses the need for additional valuation allowances quarterly.
The Company's effective tax rate includes the impact of certain undistributed
foreign earnings for which no U.S. taxes have been provided because such
earnings are planned to be reinvested indefinitely outside the United States.
The Company's results do not reflect the impact of the American Jobs Creation
Act of 2004 (the "Jobs Act"). The Company has completed the process of
re-evaluating its position with respect to the indefinite reinvestment of
foreign earnings to take into account the possible election of the repatriation
provisions contained in the Jobs Act and has determined that it will have no
impact on the Company.
LEGAL CONTINGENCIES
The Company is currently involved in certain legal proceedings. As discussed in
Note 11 in the Notes to the Consolidated Financial Statements included in Part I
to this Quarterly Report on Form 10-Q, the Company has accrued an estimate of
the probable costs for the resolution of these claims. This estimate has been
developed after investigation and is based upon an analysis of potential
results, assuming a combination of litigation and settlement strategies.
Management does not believe these proceedings will have a material adverse
effect on the Company's consolidated financial position. It is possible,
however, that future results of operations for any particular quarterly or
annual period could be materially affected by changes in these assumptions, or
the effectiveness of these strategies, related to these proceedings.
20
IMPAIRMENT OF LONG-LIVED AND INTANGIBLE ASSETS
The Company's long-lived and intangible assets primarily consist of fixed
assets, goodwill and other intangible assets. Statement of Financial Accounting
Standards No. 142 "Goodwill and Other Intangible Assets" ("SFAS 142") requires
that goodwill be tested for impairment at the reporting unit level (operating
segment or one level below an operating segment) on an annual basis and between
annual tests in certain circumstances. Application of the goodwill impairment
test requires judgment, including the identification of reporting units,
assigning assets and liabilities to reporting units, assigning goodwill to
reporting units, and determining the fair value of each reporting unit.
Significant judgments are required to estimate the fair value of reporting
units, including an estimate of future cash flows, a determination of
appropriate discount rates and other assumptions. Changes in these estimates and
assumptions could materially affect the determination of fair value for each
reporting unit.
The Company periodically reviews the carrying value of its long-lived assets
held and used, other than goodwill and intangible assets with indefinite lives,
and assets to be disposed, whenever events or circumstances indicate that the
carrying amount of an asset may not be recoverable. The Company assesses the
recoverability of the asset by estimated cash flows and at times by independent
appraisals. It compares estimated cash flows expected to be generated from the
related assets, or the appraised value of the asset, to the carrying amounts to
determine whether impairment has occurred. If the estimate of cash flows
expected to be generated changes in the future, the Company may be required to
record impairment charges that were not previously recorded for these assets. If
the carrying value of a long-lived asset is considered impaired, an impairment
charge is recorded for the amount by which the carrying value of the long-lived
asset exceeds its fair value.
ENVIRONMENTAL EXPENDITURES
The Company is subject to United States and Mexican environmental laws and
regulations concerning emissions to the air, discharges to surface and
subsurface waters, and generation, handling, storage, transportation, treatment
and disposal of waste materials. The Company is also subject to other federal,
state and local environmental laws and regulations, including those that require
it to remediate or mitigate the effects of the disposal or release of certain
chemical substances at various sites, including some where the Company has
ceased operations. It is impossible to predict precisely what effect these laws
and regulations will have in the future.
Expenditures that relate to current operations are charged to expense or
capitalized, as appropriate. Expenditures that relate to an existing condition
caused by past operations are expensed and recorded as part of discontinued
operations. Expenditures include costs of remediation and legal fees to defend
against claims for environmental liability. Liabilities are recorded when
remedial efforts are probable and the costs can be reasonably estimated. The
liability for remediation expenditures includes, as appropriate, elements of
costs such as site investigations, consultants' fees, feasibility studies,
outside contractor expenses and monitoring expenses. Estimates are not
discounted, and they are not reduced by potential claims for recovery from
insurance carriers. The liability is periodically reviewed and adjusted to
reflect current remediation progress, prospective estimates of required activity
and other relevant factors, including changes in technology or regulations.
The above listing is not intended to be a comprehensive list of all of the
Company's accounting policies. In many cases, the accounting treatment of a
particular transaction is specifically
21
dictated by generally accepted accounting principles with no need for
management's judgment in their application. There are also areas in which
management's judgment in selecting any available alternatives would not produce
a materially different result. See the Company's audited Consolidated Financial
Statements and Notes thereto included in Part IV of its Annual Report on Form
10-K, which contain accounting policies and other disclosures required by
generally accepted accounting principles.
LIQUIDITY AND CAPITAL RESOURCES
June 30, December 31,
2005 2004 $ Variance % Variance
-------- -------------- ---------- ----------
(in thousands)
Cash and cash equivalents $ 4,308 $ 2,659 $ 1,649 62%
Bank debt $ 1,688 $ 2,015 ($ 327) (16%)
Working capital $ 23,281 $ 19,496 $ 3,785 19%
Shareholders' equity $ 42,296 $ 37,687 $ 4,609 12%
-------- -------- ------- ---
At June 30, 2005, the Company maintained a cash balance of $4,308,000, with
outstanding bank debt of $1,688,000. Availability under the Senior Credit
Facility was $13,176,000. During the six-month period ended June 30, 2005, the
net cash provided by operating activities was $2,025,000, as compared to net
cash used in operating activities of $113,000 during the six-month period ended
June 30, 2004. The primary sources of cash from operating activities for the
six-month period ended June 30, 2005 were income from continuing operations of
$3,327,000, a decrease in inventories of $490,000 and an increase in accounts
payable of $666,000. These sources of cash were partially offset by an increase
in accounts receivable of $2,107,000 and a decrease in accrued liabilities of
$1,227,000. The increase in accounts receivable is primarily related to Condor
and Teal, which had increases in accounts receivable of $798,000 and $1,238,000,
respectively. Increased accounts receivable at Condor and Teal were due to the
timing of sales in the second quarter of 2005, compared to the quarter ended
December 31, 2004. The decrease in accrued liabilities is primarily related to
payments made by the Company to settle certain litigation, fees and claims,
which the Company had accrued at December 31, 2004. In the six-month period
ended June 30, 2004, net cash used in operating activities was $113,000. The
primary uses of cash from operating activities for the six-month period ended
June 30, 2004 were increases in accounts receivable of $4,788,000 and inventory
of $2,851,000. These uses of cash were partially offset by income from
continuing operations of $2,244,000, increases in accrued income taxes payable
of $1,831,000 and accounts payable of $2,520,000.
During the six-month period ended June 30, 2005, net cash used in investing
activities was $1,523,000. The primary uses of cash in investing activities were
related to purchases of securities available for sale in the amount of $567,000
and the purchase of machinery and equipment in the amount of $740,000. During
the six-month period ended June 30, 2004, net cash provided by investing
activities was $299,000, which was generated by the proceeds of $1,000,000
received by the Company as a final cash payment from the sale of EME. These
proceeds were offset by $701,000 in capital expenditures, primarily for
computers, machinery and equipment.
During the six-month period ended June 30, 2005, net cash provided by financing
activities was $1,208,000, principally due to the proceeds from the exercise of
stock options of $1,418,000.
22
This source of cash was partially offset by payments made against the Senior
Credit Facility in the amount of $327,000. During the six-month period ended
June 30, 2004, net cash used in financing activities was $1,409,000, primarily
due to the payment of the fixed portion of debt and the overadvance under the
Senior Credit Facility in the amount of $608,000. Also during the period the
Company purchased treasury stock in the amount of approximately $821,000, for
83,450 shares at an average price of $9.84 per share, under the Company's
repurchase program approved by the Board of Directors on December 12, 2003.
During the first two quarters of 2005, the Company was a party to a three-year
Senior Secured Credit Facility with LaSalle Business Credit LLC. The Senior
Credit Facility, which provided for a revolving loan facility and two term
loans, up to a maximum indebtedness of $20,000,000. The revolving loan of up to
$16,810,000 was based upon eligible receivables and inventory, as well as an
overadvance amount of $1,500,000, which was repaid in full on April 7, 2004. The
two term loans of $2,350,000 and $840,000 were to be amortized over a three-year
term. The Senior Credit Facility restricted investments, acquisitions, capital
expenditures and dividends. It contained financial covenants relating to minimum
levels of net worth, fixed charge coverage and EBITDA levels, as defined. The
Senior Credit Facility bore interest ranging from the prime rate plus fifty
basis points to prime rate plus 2%. The Senior Credit Facility was secured by
all of the Company's assets.
On August 2, 2005, the Company paid the outstanding term loan balances under the
above Senior Credit Facility. On August 3, 2005, the Company entered into a
Revolving Credit Facility with Bank of America, N.A. (see Note 16 in Part I
Notes to Consolidated Financial Statements under this Form 10-Q).
The Company's current ratio was 2.24 to 1 at June 30, 2005 and 2.05 to 1 at
December 31, 2004. The current ratio changed primarily due to: an increase of
accounts receivable by $2,107,000, a decrease of accrued liabilities by
$1,227,000 and an increase of current debt by $1,129,000. Current debt increased
because the Senior Credit Facility expires on January 6, 2006, causing debt
thereunder to be reclassified as current debt for the period ended June 30,
2005.
As a percentage of total capitalization, consisting of debt and shareholders'
equity, total borrowings by the Company were 4% at June 30, 2005 and 5% at
December 31, 2004. During the first six months of 2005, total debt decreased by
$327,000.
Capital expenditures of $740,000 were made during the first six months of 2005.
These expenditures primarily related to computer equipment and factory machinery
and equipment. Capital expenditures for the period represent a $39,000 increase
from the comparable period in 2004.
During the first six months of 2005, the Company was able to generate adequate
amounts of cash to meet its operating needs, reduce total borrowings by
$327,000, purchase machinery and equipment in the amount of $740,000 and
purchase securities available for sale in the amount of $567,000. All of the
Company's operating segments had income from operations for the six months ended
June 30, 2005.
Management believes that cash from operations and funds expected to be available
under the Revolving Credit Facility will be sufficient to fund the Company's
operations and working capital requirements.
23
CONTRACTUAL OBLIGATIONS
The following is a summary of the Company's contractual obligations that existed
as of June 30, 2005:
Less Than 1 to 3 4 to 5 After
1 Year Years Years 5 Years Total
------------- ------------ ----------- ----------- -----------
(in thousands)
Operating Leases $ 576,000 $ 997,000 $ 13,000 $ - $ 1,586,000
Debt 1,688,000 - - - 1,688,000
Capital Leases 58,000 40,000 - - 98,000
Other Obligations 50,000 170,000 132,000 199,000 551,000
------------- ------------ ----------- ----------- -----------
$ 2,372,000 $ 1,207,000 $ 145,000 $ 199,000 $ 3,923,000
============= ============ =========== =========== ===========
OFF-BALANCE SHEET ARRANGEMENTS
It is not the Company's usual business practice to enter into off-balance sheet
arrangements, such as guarantees on loans and financial commitments,
indemnification arrangements, and retained interests in assets transferred to an
unconsolidated entity for securitization purposes. Consequently, the Company has
no off-balance sheet arrangements, except for operating lease commitments
disclosed in the table above, that have, or are reasonably likely to have, a
material current or future effect on its financial condition, changes in
financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2005, COMPARED WITH THREE MONTHS ENDED JUNE 30, 2004
The table below shows the comparison of net sales for the quarter ended June 30,
2005 and the quarter ended June 30, 2004:
Three Months Three Months $ Variance % Variance
Ended Ended Over Over
June 30, June 30, Same Quarter Same Quarter
2005 2004 Last Year Last Year
------------ ------------ ------------ ------------
(in thousands)
Power Electronics Group:
Condor $ 11,066 $ 11,660 ($ 594) (5%)
Teal 7,684 7,408 276 4%
------------ ------------ ------------ ---
Total 18,750 19,068 (318) (2%)
------------ ------------ ------------ ---
SL-MTI 6,910 5,886 1,024 17%
RFL 5,599 5,554 45 1%
------------ ------------ ------------ ---
Total $ 31,259 $ 30,508 $ 751 2%
============ ============ ============ ===
24
The table below shows the comparison of income from operations for the quarter
ended June 30, 2005 and the quarter ended June 30, 2004:
Three Months Three Months $ Variance % Variance
Ended Ended Over Over
June 30, June 30, Same Quarter Same Quarter
2005 2004 Last Year Last Year
------------ ------------ ------------ ------------
(in thousands)
Power Electronics Group:
Condor $ 1,295 $ 1,524 ($ 229) (15%)
Teal 1,064 1,094 (30) (3%)
------------ ------------ -------- ---
Total 2,359 2,618 (259) (10%)
------------ ------------ -------- ----
SL-MTI 845 619 226 37%
RFL 493 412 81 20%
Other (1,607) (1,361) (246) (18%)
------------ ------------ -------- ---
Total $ 2,090 $ 2,288 ($ 198) (9%)
============ ============ ======== ===
Consolidated net sales for the three-month period ended June 30, 2005 increased
by $751,000, or 2%, compared to the same period in 2004. Condor recorded
decreased sales over 2004 of $594,000, or 5%. Teal experienced a sales increase
from 2004 of $276,000, or 4%. SL-MTI had a significant sales increase of
$1,024,000, or 17%, while RFL recorded a slight sales increase of $45,000, or
1%.
The Company had income from operations of $2,090,000 for the three-month period
ended June 30, 2005, as compared to income from operations of $2,288,000 for the
corresponding period last year, a decrease of $198,000, or 9%.
Income from continuing operations was $1,358,000, or $0.24 per diluted share,
compared to $1,559,000, or $0.26 per diluted share in 2004. Income from
continuing operations decreased $201,000, or 13%. The Company's business
segments and the components of operating expenses are discussed more fully in
the following sections.
The Power Electronics Group, which is comprised of Condor and Teal, recorded a
sales decrease of $318,000, or 2%, and a decrease in income from operations of
$259,000, or 10%. Condor experienced a decrease in sales of $594,000, or 5%, and
a decrease in income from operations of $229,000, or 15%. Teal experienced a
sales increase of $276,000, or 4%, and a decrease in income from operations of
$30,000, or 3%. Condor experienced a decrease in sales in its industrial product
line of $864,000, or 19%, while its medical product line increased approximately
$573,000, or 9%, from 2004. Sales of Condor's other product lines also decreased
from 2004. Condor's international sales increased approximately 59% aided by
sales to two international customers due to new product designs. Condor's
decrease in income from operations is primarily due to its decrease in sales of
5%. Teal's sales increase was attributable to increases in its medical imaging
product line. Teal's decrease in income from operations is primarily due to
reduced margins caused primarily by higher raw material costs.
SL-MTI's sales increased $1,024,000, or 17%, while income from operations
increased $226,000, or 37%. The increase in sales was driven by increases in
sales to the defense industry and the industrial market. Sales of SL-MTI's DC
Brush and Brushless Motors increased by
25
$1,065,000, or 27%, in the second quarter of 2005, compared to second quarter of
2004. The increase in income from operations is primarily due to the increase in
sales.
RFL's sales increased $45,000, or 1%, during the second quarter of 2005,
compared to the second quarter of 2004, and income from operations increased by
$81,000, or 20%, for the comparable periods. Sales of all of RFL's product lines
increased in the second quarter of 2005, compared to 2004, except its carrier
communications product line, which decreased by $548,000, or 20%. In 2004, RFL
had a large sale to an international customer, which did not recur in 2005. The
increase in income from operations is due primarily to the increase in sales, as
well as a reduction in operating costs.
COST OF PRODUCTS SOLD
As a percentage of net sales, cost of products sold for each of the three-month
periods ended June 30, 2005 and June 30, 2004 was approximately 63%. Although
the cost of products sold, as a percentage of net sales remained constant for
the comparative quarters, the mix within the Company's business segments
changed. The cost of products sold percentage for the Power Electronics Group
increased by approximately 2%. Both Condor and Teal experienced increases in
their cost of products sold as a percentage of net sales. Condor's cost of
products sold as a percentage of net sales increased primarily due to lower
volume. Teal's cost of products sold as a percentage of net sales increased
primarily due to increases in the costs of raw materials. SL-MTI decreased its
cost of products sold as a percentage of net sales in the second quarter of
2005, as compared to the same period last year, due to an increase in sales
volume and improved operating efficiencies at its Cedro manufacturing facility
in Matamoros, Mexico. RFL's cost of products sold, as a percentage of sales
improved slightly in 2005, compared to 2004.
ENGINEERING AND PRODUCT DEVELOPMENT EXPENSES
Engineering and product development expenses for each of the three-month periods
ended June 30, 2005 and June 30, 2004 were approximately 8% of net sales.
Engineering and product development expenses increased $78,000, or 3%, in the
second quarter of 2005, as compared to the same period in 2004. Other than RFL,
all of the Company's business segments increased their engineering and product
development expenditures in 2005, compared to 2004. RFL incurred significant
engineering and product development expenses in 2004 related to new product
development.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses for the second quarters of 2005 and
2004 were 20% and 21% of sales, respectively. These expenses increased by
$132,000, or 2%. During the quarter ended June 30, 2005, the Company recorded
$498,000 in compensation expense related to certain stock based compensation
arrangements with key executives. This is a $314,000 increase over the amount of
$184,000 recorded for the comparable period in 2004. Without these non-cash
charges, selling, general and administrative expenses would have decreased by
$182,000 on an increase in sales of 2%.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expenses remained relatively constant at
approximately 2% of sales for each of the second quarters of 2005 and 2004.
26
AMORTIZATION OF DEFERRED FINANCING COSTS
In connection with entering into the Senior Credit Facility on January 6, 2003,
the Company incurred costs of approximately $1,342,000. These costs have been
deferred and are being amortized over the three-year term of the Senior Credit
Facility. For each of the quarters ended June 30, 2005 and June 30, 2004,
amortization of these deferred financing assets was $112,000.
INTEREST INCOME (EXPENSE)
Interest income for the three-month period ended June 30, 2005 was $38,000, as
compared to $18,000 in the same period last year. Interest expense increased
slightly as compared to the same period last year.
TAXES
The effective tax rate for the three-month period ended June 30, 2005 was
approximately 31%. The effective tax rate reflects the statutory rate after
adjustments for state and international tax provisions, offset by the recording
of benefits from research and development tax credits. The effective tax rate
for the comparable period in 2004 was approximately 27%, which was significantly
affected by research and development credits and certain foreign tax credits
recorded during the period.
DISCONTINUED OPERATIONS
For the three months ended June 30, 2005, the Company recorded a loss from
discontinued operations, net of tax, of $231,000. This amount includes current
legal and litigation charges related to discontinued operations. For the three
months ended June 30, 2004, the Company recorded income from discontinued
operations, net of tax, of $20,000. This amount, net of tax, was primarily
related to a favorable tax ruling related to discontinued operations in the
amount of $330,000 (net of expenses) and net billings to insurance companies
related to the recovery of certain legal fees for environmental matters in the
amount of $172,000, net of tax. These income amounts, net of tax, were offset by
environmental, legal and litigation charges related to discontinued operations.
SIX MONTHS ENDED JUNE 30, 2005, COMPARED WITH SIX MONTHS ENDED JUNE 30, 2004
The table below shows the comparison of net sales for the six months ended June
30, 2005 and June 30, 2004:
Six Months Six Months $ Variance % Variance
Ended Ended Over Over
June 30, June 30, Same Period Same Period
2005 2004 Last Year Last Year
---------- ---------- ------------ ------------
(in thousands)
Power Electronics Group:
Condor $ 22,384 $ 19,523 $ 2,861 15%
Teal 15,237 14,801 436 3%
---------- ---------- ------------ ---
Total 37,621 34,324 3,297 10%
---------- ---------- ------------ ---
SL-MTI 13,680 11,783 1,897 16%
RFL 12,414 11,043 1,371 12%
---------- ---------- ------------ ---
Total $ 63,715 $ 57,150 $ 6,565 11%
========== ========== ============ ===
27
The table below shows the comparison of income from operations for the six
months ended June 30, 2005 and June 30, 2004:
Six Months Six Months $ Variance % Variance
Ended Ended Over Over
June 30, June 30, Same Period Same Period
2005 2004 Last Year Last Year
---------- ---------- ------------ ------------
(in thousands)
Power Electronics Group:
Condor $ 2,428 $ 1,400 $ 1,028 73%
Teal 2,135 2,428 (293) (12%)
------- -------- ------- ----
Total 4,563 3,828 735 19%
------- -------- ------- ----
SL-MTI 1,824 1,259 565 45%
RFL 1,316 836 480 57%
Other (2,876) (2,440) (436) (18%)
------- -------- ------- ----
Total $ 4,827 $ 3,483 $ 1,344 39%
======= ======== ======= ====
Consolidated net sales for the six months ended June 30, 2005 increased
$6,565,000, or 11%, compared to the six month period ended June 30, 2004. This
increase was due partially to an increase in sales in the Power Electronics
Group of $3,297,000, or 10%. Within the Power Electronics Group, Condor's sales
increased $2,861,000, or 15%, due to significant increases in sales recorded in
the first quarter of 2005, compared to 2004. Condor's sales increase was
partially due to delayed shipments from its contract manufacturers in China in
the first quarter of 2004. Teal experienced an increase in sales of $436,000, or
3%. SL-MTI reported a sales increase of $1,897,000, or 16%. RFL experienced a
sales increase of $1,371,000, or 12%, primarily due to sales increases recorded
in the first quarter of 2005, compared to 2004.
The Company recorded income from operations of $4,827,000 for the six months
ended June 30, 2005, compared to income from operations of $3,483,000 for the
corresponding period last year. This change represents an increase of
$1,344,000, or 39%.
Income from continuing operations was $3,327,000, or $0.58 per diluted share in
2005, compared to $2,244,000, or $0.37 per diluted share in 2004. Income from
continuing operations benefited by approximately $362,000, or $0.06 per diluted
share in 2005, and $254,000, or $0.04 per diluted share in 2004, due to research
and development tax credits recorded during the respective periods. Income from
continuing operations increased by $1,083,000, or 48%.
The Power Electronics Group recorded a sales increase of $3,297,000, or 10%, and
an increase in income from operations of $735,000, or 19%. Within the Power
Electronics Group, Condor recorded a sales increase of $2,861,000, or 15%, and
Teal reported a sales increase of $436,000, or 3%. Condor's income from
operations increased by $1,028,000, or 73%, while Teal's income from operations
decreased by $293,000, or 12%, compared to 2004. Condor's sales increase is
primarily related to its medical product line, which increased approximately
$3,148,000, or 30%. Most of the increase in this product line was achieved in
the first quarter of 2005. Condor's industrial product line decreased
approximately $388,000, or 5%. The increase in income from operations is
primarily due to the increase in sales. Teal's sales increase was primarily
attributable to increases in its medical product line of approximately
$2,838,000, partially offset
28
by decreases in its semiconductor business of approximately $2,424,000. Teal's
decrease in income from operations was primarily due to higher costs of raw
materials.
SL-MTI's sales increased by $1,897,000, or 16%. Income from operations increased
by $565,000, or 45%. The increase in sales was primarily due to increased sales
in both the defense and commercial markets. Sales of its DC Brush and Brushless
Motors increased $1,450,000, or 18%. The increase in income from operations was
the result of increased sales volume and operating efficiencies at SL-MTI's
Cedro manufacturing facility in Matamoros, Mexico. These increases were
partially offset by increased engineering and product development spending of
$144,000.
RFL's sales increased by $1,371,000, or 12%, in 2005, compared to 2004. Income
from operations increased by $480,000, or 57%, for the comparable periods. All
of RFL's product lines experienced increases in sales, except teleprotection
equipment, which decreased by approximately $700,000, or 13%. The largest
increase in sales was attributable to its carrier communication product line,
which increased by $1,521,000, or 34%. This sales increase is due to a strong
beginning-year backlog, as well as the introduction of new products. Income from
operations increased by $480,000, or 57%, primarily due to higher sales volume
and lower engineering and product development costs, partially offset by higher
selling, general and administrative costs.
COST OF PRODUCTS SOLD
Cost of products sold as a percentage of sales for the six months ended June 30,
2005 and June 30, 2004 was approximately 63%. Cost of products sold percentage
improved at SL-MTI due to increased volume and improved manufacturing
efficiencies, as previously discussed. Teal experienced a higher cost of
products sold as a percentage of sales in 2005, compared to 2004, due to higher
raw material costs.
ENGINEERING AND PRODUCT DEVELOPMENT EXPENSES
Engineering and product development expenses for the six months ended June 30,
2005 and June 30, 2004 remained at approximately 8% of sales. Engineering and
product development expenses increased $193,000, or 4%, in the six-month period
of 2005, as compared to 2004. Other than RFL, all of the Company's business
segments increased their engineering and product development expenditures in
2005, compared to 2004. RFL incurred significant expenditures in 2004 related to
new products.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses for the six months ended June 30,
2005 were approximately 20% of sales, compared to 21% of sales in 2004. These
expenses increased by $739,000, or 6%, over the comparative periods. The major
reasons for the increase were due to the greater sales volume, additional
personnel and recruiting costs.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expenses for 2005 and 2004 were approximately 2%
of sales, and remained relatively constant in 2005, as compared to 2004.
AMORTIZATION OF DEFERRED FINANCING COSTS
Amortization of deferred financing costs was $224,000 in 2005 and 2004. These
costs were less than 1% of sales in 2005 and 2004.
29
INTEREST INCOME (EXPENSE)
Interest income for the six months ended June 30, 2005 increased by $6,000, as
compared to the same period last year. Interest expense increased slightly as
compared to the same period last year, due primarily to increased interest
rates.
TAXES
The effective tax rate for the six months ended June 30, 2005 was approximately
26%, compared to 29% for the six months ended June 30, 2004. The effective tax
rate for both periods reflects the statutory rate after adjustments for state
and international tax provisions, offset by the recording of benefits from
research and development tax credits and certain income exclusion benefits.
DISCONTINUED OPERATIONS
For the six months ended June 30, 2005, the Company recorded a loss from
discontinued operations, net of tax, of $301,000. This amount consisted
primarily of the cost of environmental and legal charges, net of tax, related to
discontinued operations. For the six months ended June 30, 2004, the Company
recorded income from discontinued operations, net of tax, of $2,476,000. This
amount is primarily related to a settlement fee received by SLW Holdings, net of
tax, in the amount of $2,516,000 (see Note 13) and the reversal of tax reserves
related to discontinued operations, as previously discussed. These income
amounts, net of tax, were partially offset by current environmental, legal and
litigation charges related to discontinued operations.
30
FORWARD-LOOKING INFORMATION
From time to time, information provided by the Company, including written or
oral statements made by representatives, may contain forward-looking information
as defined in the Private Securities Litigation Reform Act of 1995. All
statements, other than statements of historical facts, contain forward-looking
information, particularly statements that address activities, events or
developments that the Company expects or anticipates will or may occur in the
future, such as expansion and growth of the Company's business, future capital
expenditures and the Company's prospects and strategy. In reviewing such
information, it should be kept in mind that actual results may differ materially
from those projected or suggested in such forward-looking information. This
forward-looking information is based on various factors and was derived
utilizing numerous assumptions. Many of these factors previously have been
identified in filings or statements made by or on behalf of the Company.
Important assumptions and other important factors that could cause actual
results to differ materially from those set forth in the forward-looking
information include changes in the general economy, changes in capital
investment and/or consumer spending, competitive factors and other factors
affecting the Company's business in or beyond the Company's control. These
factors include a change in the rate of inflation, a change in state or federal
legislation or regulations, an adverse determination with respect to a claim in
litigation or other claims (including environmental matters), the ability to
recruit and develop employees, the ability to successfully implement new
technology and the stability of product costs. These factors also include the
timing and degree of any business recovery in certain of the Company's markets
that are currently experiencing a cyclical economic downturn.
Other factors and assumptions not identified above could also cause actual
results to differ materially from those set forth in the forward-looking
information. The Company does not undertake to update forward-looking
information contained herein or elsewhere to reflect actual results, changes in
assumptions or changes in other factors affecting such forward-looking
information.
Future factors include the effectiveness of cost reduction actions undertaken by
the Company; increasing price, products and services competition by U.S. and
non-U.S. competitors, including new entrants; rapid technological developments
and changes and the Company's ability to continue to introduce and develop
competitive new products and services on a timely, cost-effective basis;
availability of manufacturing capacity, components and materials; credit
concerns and the potential for deterioration of the credit quality of customers;
customer demand for the Company's products and services; ability of the Company
to continue to finance its operations on satisfactory terms; U.S. and non-U.S.
governmental and public policy changes that may affect the level of new
investments and purchases made by customers; changes in environmental and other
U.S. and non-U.S. governmental regulations; protection and validity of patent
and other intellectual property rights; compliance with the covenants and
restrictions of bank credit facilities; and outcome of pending and future
litigation and governmental proceedings. These are representative of the future
factors that could affect the outcome of the forward-looking statements. In
addition, such statements could be affected by general industry and market
conditions and growth rates, general U.S. and non-U.S. economic conditions,
including increased economic uncertainty and instability, and interest rate and
currency exchange rate fluctuations and other future factors.
31
For a further description of future factors that could cause actual results to
differ materially from such forward-looking statements, see the discussion in
the Company's Annual Report on Form 10-K for the year ended December 31, 2004,
Part I, Item 1 - Risk Factors.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in quantitative and qualitative market risk
from the disclosure contained in Item 7A of the Company's Annual Report on Form
10-K for the year ended December 31, 2004, which is incorporated herein by
reference.
ITEM 4. CONTROLS AND PROCEDURES
The Company, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, has evaluated the effectiveness of the design and operation of the
Company's "disclosure controls and procedures," as such term is defined in Rules
13a-15(e) and 15(d)-15(e) promulgated under the Securities Exchange Act of 1934,
as amended, (the "Exchange Act") as of this Quarterly Report on Form 10-Q (this
"Report"). Based upon that evaluation, the Chief Executive Officer and Chief
Financial Officer have concluded that the Company's disclosure controls and
procedures were effective as of the end of the period covered by this Report to
provide reasonable assurance that information required to be disclosed by the
Company in reports that it files or submits under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
rules and forms of the Securities and Exchange Commission. There have been no
changes in internal controls or in other factors that could significantly affect
these controls subsequent to the date of their evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within a company have been detected.
PART II - OTHER INFORMATION
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On December 12, 2003, the Company announced that its Board of Directors had
authorized the repurchase of up to 10% of the outstanding shares of common stock
of the Company. Any repurchases are to be made on the open market or in
negotiated transactions. For the six months ended June 30, 2005, the Company did
not purchase any shares pursuant to the repurchase program, however, it did
purchase 10,900 shares through its deferred compensation plans during this
period.
32
ISSUER PURCHASES OF EQUITY SECURITIES
Total Number Maximum Number
of Shares of Shares That May
Total Purchased as Part Yet Be Purchased
Number of Average of Publicly under Publicly
Shares Price Paid Announced Plans Announced Plans or
Period Purchased per Share or Programs Programs
--------------------- --------- ---------- ----------------- ------------------
January 1 - 31, 2005 - - - 48,024
February 1 - 28, 2005 - - - 48,024
March 1 - 31, 2005 1,700(1) $ 13.50 - 48,024
April 1 - 30, 2005 - - - 48,024
May 1 - 31, 2005 3,800(1) $ 16.71 - 48,024
June 1 - 30, 2005 5,400(1) $ 17.93 - 48,024
------ --------- ---
Total 10,900 $ 16.82 -
--------------------- ------ --------- --- ------
1. The Company purchased these shares other than through a publicly announced
plan or program in open market transactions or in negotiated transactions.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Company's Annual Meeting of Shareholders on May 25, 2005, the Company's
shareholders re-elected seven incumbent members (J. Dwane Baumgardner, Avrum
Gray, James R. Henderson, Glen M. Kassan, Warren G. Lichtenstein, James A.
Risher, and Mark E. Schwarz) to the Company's Board of Directors. The votes cast
for all nominees were as follows:
NOMINEES FOR WITHHOLD AUTHORITY
---------------------- --------- ------------------
J. Dwane Baumgardner 5,133,134 58,048
Avrum Gray 5,122,460 68,722
James R. Henderson 5,128,136 63,046
Glen M. Kassan 5,147,224 43,958
Warren G. Lichtenstein 5,065,048 126,134
James A. Risher 5,143,989 47,193
Mark E. Schwarz 4,997,920 193,262
33
The votes cast for, against, and withheld for the ratification of the
appointment of Grant Thornton LLP as the Company's independent auditors for the
fiscal year ending December 31, 2005 were as follows:
FOR AGAINST ABSTAIN
---------------- ------- -------
5,140,663 47,417 3,102
ITEM 6. EXHIBITS
31.1 Certification by Principal Executive Officer pursuant to Rule 13a-15(e) or
15(d)-15(e) of the Securities Exchange Act of 1934, as amended, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (transmitted
herewith).
31.2 Certification by Principal Financial Officer pursuant to Rule 13a-15(e) or
15(d)-15(e) of the Securities Exchange Act of 1934, as amended, as adopted
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (transmitted
herewith).
32.1 Certification by Principal Executive Officer pursuant to Rule 13a or 15(d)
of the Securities Exchange Act of 1934, as amended, as adopted pursuant to
section 906 of the Sarbanes-Oxley Act of 2002 (transmitted herewith).
32.2 Certification by Principal Financial Officer pursuant to Rule 13a or 15(d)
of the Securities Exchange Act of 1934, as amended, as adopted pursuant to
section 906 of the Sarbanes-Oxley Act of 2002 (transmitted herewith).
34
SIGNATURES
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.
Date: August 8, 2005 SL INDUSTRIES, INC.
--------------------------------
(Registrant)
By: /s/ Warren G. Lichtenstein
----------------------------
Warren G. Lichtenstein
Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
By: /s/ David R. Nuzzo
----------------------------
David R. Nuzzo
Chief Financial Officer
(Principal Accounting Officer)
35