(MARK ONE)
x QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED September 30, 2005March 31, 2006
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
INTRICON CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)Exact Name of Registrant as Specified in its Charter)
PENNSYLVANIA | 23-1069060 | ||
(State or Other Jurisdiction of | (IRS Employer Identification No.) | ||
Incorporation or Organization) |
1260 (Address of Principal Executive Offices) | (651) 636-9770 (Registrant’s Telephone Number, Including Area Code) |
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or xYES oNO Indicate by check mark whether the Indicate by check mark whether the Registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act) oYES xNO Indicate the number of shares outstanding of each of the Issuer’s classes of common stock, as of the latest practicable date. 2 (See accompanying notes to the consolidated condensed financial statements) 3 (See accompanying notes to the consolidated condensed financial statements) 4 (See accompanying notes to the consolidated condensed financial statements) 5 (See accompanying notes to the consolidated condensed financial statements) 6 Notes toConsolidated Condensed Financial Statements (Unaudited) General New Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 123R,Share-Based Compensation, which supersedes Accounting Principles Board (APB) Opinion No. 25,Accounting for Stock Issued to Employees, and its related implementation guidance. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services through share-based payment transactions. SFAS No. 123R requires a public entity to measure the cost of employee services received in exchange for the award of equity investments based on the fair value of the award at the date of grant. The cost will be recognized over the period during which an employee is required to provide services in exchange for the award. On April 14, 2005, the Securities and Exchange Commission issued a release announcing the adoption of a new rule delaying the required implementation of SFAS No. 123R. Under this new rule, SFAS No. 123R is effective as of the beginning of the first annual reporting period that begins after June 15, 2005. The Company calculates expected volatility for stock options and awards using both historical volatility as well as the average volatility of our peer competitors. The Company currently estimates a zero percent forfeiture rate for stock options but will Discontinued Operations In 2003, the Company initiated its plan to sell the remainder of its Heat Technology segment. This segment, which was sold on March 31, 2005, consisted of the operating assets of Business Segment Information The Company Inventories Short and Long Term Debt Short and long term debt at March 31, 2006 and December 31, 2005 are summarized as follows: The Company has a series of loan facilities available The $8,000,000 domestic program ($5,500,000 revolver, $1,500,000 real estate, and $1,000,000 equipment line) also provides for one-, three- and six-month London Interbank Offered Rate (LIBOR) interest rate options at the applicable LIBOR rate plus 3.25% for the revolver, or 3.50% for the term loans. In addition to the Company’s domestic facilities, the Company’s operation in Singapore maintains an overdraft and letter of credit facility. The facility For the The outstanding balance of the revolving credit facilities was $3,616,566 and $3,753,597 at March 31, 2006 and December 31, 2005, respectively. The terms of the domestic loan agreements require monthly interest payments on the revolving line with a balloon payment due at the end of the loan, and monthly interest and principal payments on the real estate and equipment lines consistent with their respective 12-year and five-year amortization periods. The Company’s ability to pay the principal and interest on The Company believes that funds expected to be generated from operations, the available borrowing capacity through our revolving credit loan facilities, and the control of capital spending will be sufficient to meet 9 During 2005, the Company entered into several capital lease agreements to fund the acquisition of machinery and equipment. For 2005, the total principal amount of these leases was $314,000 with effective interest rates ranging from 6.7 to 8.0 percent. These agreements range from 3 to 5 years. The outstanding balance at March 31, 2006 and December 31, 2005 was $222,000 and $239,000, respectively. Income Taxes Income taxes Stockholders’ Equity and Stock-based Compensation The following table presents a reconciliation of the denominators used in the computation of basic and diluted earnings per share related to the Company’s employee stock option plan: The dilutive impact summarized above relates to the periods when the average market price of Company stock exceeded the exercise price of the potentially dilutive option securities granted. Income (Loss) Per Share Excluded from the computation of diluted earnings per share 10 11 Business Overview Headquartered in Arden Hills, Minnesota, IntriCon Corporation (formerly Selas Corporation of America) is an international firm that designs, develops, engineers and manufactures micro-miniature medical and electronic products. The Company supplies micro-miniaturized components, systems and molded plastic parts, primarily to the hearing instrument manufacturing industry, as well as the computer, electronics, telecommunications and medical equipment industries. In addition to its Arden Hills headquarters, the Company has facilities in California, Singapore, and Germany. Within discontinued operations, the Company had facilities in Pennsylvania, Japan and Germany. See also notes Currently, the Company has one operating segment, its precision miniature medical and electronics products segment. In the past the Company had operated three segments, precision miniature medical and electronics products segment, heat technology segment, and tire holders, lifts and related products segment. In 2001, the Company began focusing on its precision miniature medical and electronics products segment and developing plans to exit the businesses that comprised the heat technology segment, and tire holders, lifts and related products segment. The Company exited the tire holders, lifts and related products business in 2003 and exited the heat technology segment on March 31, 2005. The Company classified its heat technology segment as discontinued operations in 2004. With the completed sale of the burner and components business, the Company has successfully completed the shift from its traditional business segments to the emerging prospects in its precision miniature medical and electronic products business. To reflect the Company’s redefined focus, it changed its name to IntriCon Corporation. The Company manufactures micro-miniature components, systems and molded plastic parts for hearing instruments, medical equipment, electronics, telecommunications and computer industry manufacturers. These components consist of volume controls, microphones, trimmer potentiometers and switches. The Company also manufactures hybrid amplifiers and integrated circuit components (“hybrid amplifiers”), along with faceplates for in-the-ear and in-the-canal hearing instruments. Components are offered in a variety of sizes, colors and capacities in order to accommodate a hearing manufacturer’s individualized specifications. Sales to hearing instrument manufacturers represented approximately In the medical market, the Company is focused on sales of microelectronics, micromechanical assemblies and high-precision plastic molded components to medical device manufacturers. Targeted customers include medical product manufacturers of portable and lightweight battery powered devices, large AC-powered units often found in clinics and hospitals, as well as a variety of sensors designed to connect a patient to an electronic device. The medical industry is faced with pressures to reduce the costs of healthcare. The Company offers medical manufacturers the capabilities to design, develop and manufacture components for medical devices that are easier to use, measure with greater accuracy and provide more functions while reducing the costs to manufacture these devices. Examples of the Company’s products used by medical device manufacturers include components found in intravenous fluid administration pumps that introduce drugs into the bloodstream, and bubble sensors and flow restrictors that monitor and control the flow of fluid in an intravenous infusion system. The Company also manufactures a family of safety needle products for an OEM customer that utilizes the Company’s insert and straight molding capabilities. These products are assembled using full automation including built-in quality checks within the production lines. Other examples include sensors used to detect pathologies in specific organs of the body and monitoring devices to detect cardiac and respiratory functions. The early and accurate detection of pathologies allows for increased likelihood for successful treatment of chronic diseases and cancers. Accurate monitoring of multiple functions of the body, such as heart rate and breathing, aids in generating more accurate diagnosis and treatments for patients. The Company has also expanded its micro-miniature components business through the manufacture of thermistors and film capacitors. The Company manufactures and sells thermistors and thermistor assemblies, which are solid state devices that produce precise changes in electrical resistance as a function of any change in absolute body temperature. The Forward-Looking and Cautionary Statements Certain statements included in this Quarterly Report on Form 10-Q or documents the Company files with the Securities and Exchange Commission, which are not historical facts, are forward-looking statements (within the meaning of the Private Securities Litigation Reform Act of 1995), which are intended to be covered by the safe harbors created thereby. These statements may include, but are not limited to: statements in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” such as, statements in “Notes to the Company’s Condensed Consolidated Financial Statements”. Forward-looking statements also include, without limitation, statements as to the Company’s: expected future results of operations and growth; ability to meet working capital requirements; and business strategy In addition, forward-looking statements also include the effects of changes in accounting pronouncements, the effects of litigation and the amount of insurance coverage, and statements as to trends or the Company’s or management’s beliefs, expectations and opinions. Forward-looking statements are subject to risks and uncertainties and may be affected by various factors that may cause actual results to differ materially from those in the forward-looking statements. In addition to the factors discussed in this Quarterly Report on Form 10-Q, certain risks, uncertainties and other factors can cause actual results and developments to be materially different from those expressed or implied by such forward-looking statements, including, without limitation, the following: the ability to implement the risks arising in connection with the insolvency of Selas SAS and potential liabilities and actions arising in connection therewith; the volume and timing of orders received by the Company; changes in estimated future cash flows; foreign currency movements in markets the Company services; changes in the global economy and financial markets; 14Not Applicable15 (d)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.Registrantregistrant is a large accelerated filer, an accelerated filer, (as defined byor a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act)Act (check one):oYESxNOLarge Accelerated Filero Accelerated Filero Non-accelerated Filerx COMMON SHARES, $1.00 PAR VALUE 5,149,8145,151,942 (exclusive of 515,754 CLASS treasury shares) OUTSTANDING AT November 7,May 3, 2005 INTRICON CORPORATION
I N D E X
PART I:FINANCIAL INFORMATION
ITEM 1. Financial StatementsITEM 1. Financial Statements INTRICON CORPORATION
Consolidated Condensed Balance Sheets
AssetsSeptember 30,
2005
(Unaudited)December 31,
2004
(Restated)March 31,
2006
(Unaudited)December 31,
2005Current assets: Cash $ 457,737 $ 246,430 $ 892,171 $ 1,109,402 Restricted cash 59,172 449,613 60,158 60,158 Accounts receivable (less allowance for doubtful accounts of $200,000 in 2005 and $177,000 in 2004) 7,095,751 4,996,705 Accounts receivable (less allowance for doubtful accounts of $380,000 in 2006 and $370,000 in 2005) 6,568,789 6,925,357 Inventories 5,939,624 4,287,643 6,922,968 6,950,243 Refundable income tax 20,361 46,163 64,717 77,143 Other current assets 408,144 379,318 413,148 454,053 Assets of discontinued operations — 6,834,256 Total current assets 13,980,789 17,240,128 14,921,951 15,576,356 Property, plant and equipment: Property, plant and equipment: Land 170,500 170,500 170,500 170,500 Buildings 1,732,914 1,732,914 1,732,914 1,732,914 Machinery and equipment 26,531,346 25,635,452 26,887,737 26,423,956 28,434,760 27,538,866 28,791,151 28,327,370 Less: Accumulated depreciation 21,574,807 20,260,792 21,897,378 21,455,955 Net property, plant and equipment 6,859,953 7,278,074 6,893,773 6,871,415 Note receivable from sale of discontinued operations 575,000 — Note receivable from sale of discontinued operations, less allowance of $296,000 503,923 503,923 Goodwill 5,292,564 5,264,585 5,867,239 5,754,219 Other assets, net 1,190,540 1,156,449 898,404 929,474 $ 27,898,846 $ 30,939,236 $ 29,085,290 $ 29,635,387 INTRICON CORPORATION
Consolidated Condensed Balance Sheets
Liabilities and Shareholders’ EquitySeptember 30,
2005
(Unaudited)December 31,
2004
(Restated)March 31,
2006
(Unaudited)December 31,
2005Current liabilities: Notes payable $ 608,594 $ 3,740,393 Checks written in excess of cash 716,821 665,098 $ 369,565 $ 397,999 Current maturities of long-term debt 192,338 1,458,470 632,799 888,531 Accounts payable 2,783,811 2,211,909 3,431,592 3,136,555 Income taxes payable 264,203 — 248,730 298,914 Customer’s advance payments on contracts 35,433 75,000 — 59,210 Liabilities of discontinued operations — 4,266,899 Other accrued liabilities 2,623,470 2,638,889 2,339,450 2,610,474 Total current liabilities 7,224,670 15,056,658 7,022,136 7,391,683 Long term debt, less current maturities 4,213,587 — 5,141,154 5,319,181 Other postretirement benefit obligations 2,363,469 2,710,106 1,466,782 1,516,939 Note payable, net of current portion 769,080 646,530 Deferred income taxes 29,586 143,902 42,725 37,725 Accrued pension liabilities 903,581 900,713 641,395 633,818 Total liabilities 14,734,893 18,811,379 15,083,272 15,545,876 Commitments and contingencies (Notes 12 and 14) Commitments and contingencies (Notes 11 and 13) Commitments and contingencies (Notes 11 and 13) Shareholders’ equity: Shareholders’ equity: Common shares, $1 par; 10,000,000 shares authorized; 5,665,568 shares issued 5,665,568 5,644,968 Common shares, $1 par; 10,000,000 shares Common shares, $1 par; 10,000,000 shares authorized; 5,667,068 and 5,665,568 shares authorized; 5,667,068 and 5,665,568 shares issued; 5,151,314 and 5,149,814 outstanding 5,667,068 5,665,568 Additional paid-in capital 12,053,590 12,025,790 12,100,651 12,053,590 Accumulated deficit (3,028,088 ) (3,680,704 ) (2,293,426 ) (2,152,017 ) Accumulated other comprehensive loss (262,039 ) (597,119 ) (207,197 ) (212,552 ) Less: 515,754 common shares held in treasury, at cost (1,265,078 ) (1,265,078 ) Less: 515,754 common shares held Less: 515,754 common shares held in treasury, at cost (1,265,078 ) (1,265,078 ) Total shareholders' equity 13,163,953 12,127,857 Total shareholders’ equity 14,002,018 14,089,511 $ 27,898,846 $ 30,939,236 $ 29,085,290 $ 29,635,387 INTRICON CORPORATION
Consolidated CondensedStatements of Operations
(Unaudited)Three Months Ended Three Months Ended September 30,
2005September 30,
2004
(Restated)March 31,
2006
(Unaudited)March 31,
2005
(Unaudited)Sales, net $ 11,896,464 $ 8,524,215 $ 11,836,133 $ 9,786,174 Cost of sales 8,989,356 6,849,639 9,069,723 7,403,802 Gross margin 2,907,108 1,674,576 2,766,410 2,382,372 Operating expenses: Selling expense 826,852 889,371 902,421 803,598 General and administrative expense 1,291,753 1,245,042 1,305,409 1,252,414 Research and development expense 479,549 424,083 568,983 406,934 Total operating expenses 2,598,154 2,558,496 2,776,813 2,462,946 Operating income (loss) 308,954 (883,920 ) Operating loss (10,403 ) (80,574 ) Interest expense (65,679 ) (102,863 ) (156,527 ) (112,043 ) Interest income 16,310 1,715 21,893 — Other income, net 11,587 17,822 Other income (expense), net (34,285 ) 34,916 Income (loss) from continuing operations before income taxes 271,172 (967,246 ) Loss from continuing operations Loss from continuing operations before income taxes (179,322 ) (157,701 ) Income tax expense 96,993 7,534 Income tax expense (benefit) (37,913 ) 95,824 Income (loss) from continuing operations 174,179 (974,780 ) Loss from continuing operations (141,409 ) (253,525 ) Income (loss)from discontinued operations, net of income tax expense (48,732 ) 969,602 Income from discontinued operations, net of income tax expense — 463,756 Net income (loss) $ 125,447 $ (5,178 ) $ (141,409 ) $ 210,231 Income (loss) per share: Basic: Income (loss) per share (basic and diluted): Continuing operations $ .03 $ (.19 ) $ (.03 ) $ (.05 ) Discontinued operations (.01 ) .19 — .09 $ .02 $ (.00 ) Diluted: Continuing operations $ .03 $ (.19 ) Discontinued operations (.01 ) .19 $ .02 $ (.00 ) Net income (loss) $ (.03 ) $ .04 Average shares outstanding: Average shares outstanding: Basic 5,132,692 5,129,214 Diluted 5,384,767 5,129,214 Basic and Diluted 5,151,942 5,129,214 INTRICON CORPORATION
Consolidated CondensedStatements of OperationsCash Flows
(Unaudited)Nine months Ended September 30,
2005September 30,
2004
(Restated)Sales, net $ 33,284,010 $ 26,216,712 Cost of sales 24,583,421 20,063,282 Gross margin 8,700,589 6,153,430 Operating expenses: Selling expense 2,515,066 2,817,667 General and administrative expense 3,828,688 4,140,429 Research and development expense 1,245,303 1,299,866 Total operating expenses 7,589,057 8,257,962 Gain on sale of asset held for sale — 3,109,627 Operating income 1,111,532 1,005,095 Interest expense (285,344 ) (350,765 ) Interest income 34,892 1,834 Other income, net 118,341 118,300 Income from continuing operations before income taxes 979,421 774,464 Income tax expense 385,414 1,103,944 Income (loss) from continuing operations 594,007 (329,480 ) Income from discontinued operations, net of income tax expense 58,609 1,499,493 Net income $ 652,616 $ 1,170,013 Income (loss) per share: Basic: Continuing operations $ .11 $ (.06 ) Discontinued operations .01 .29 $ .12 $ .23 Diluted: Continuing operations $ .11 $ (.06 ) Discontinued operations .01 .29 $ .12 $ .23 Average shares outstanding: Basic 5,130,373 5,129,214 Diluted 5,202,814 5,129,214 Three months Ended March 31,
2006March 31,
2005Cash flows from operating activities: Net income (loss) $ (141,409 ) $ 210,231 Adjustments to reconcile net income to net
cash provided (used) by operating activities: Loss from discontinued operations — (463,756 ) Depreciation and amortization 468,077 560,952 Gain on disposition of property — (1,654 ) Allowance for doubtful accounts (9,001 ) — Provision for deferred income taxes 5,000 — Changes in operating assets and liabilities: Accounts receivable 536,409 (1,727,502 ) Inventories 72,683 (855,054 ) Other assets 86,315 (244,186 ) Accounts payable 127,659 1,643,056 Accrued expenses (351,120 ) 554,654 Customer advances (62,236 ) — Other liabilities (62,957 ) (375,645 ) Net cash provided (used) by continuing operations 669,420 (698,904 ) Net cash provided by discontinued operations 4,300 1,037,342 Net cash provided by operating activities 673,720 338,438 Cash flows from investing activities: Purchases of property, plant and equipment (436,859 ) (500,654 ) Cash paid for acquisition of Amecon, Inc. (3,141 ) — Proceeds from sales of property, plant and equipment — 2,950 Net cash used by investing activities (440,000 ) (497,704 ) Cash flows from financing activities: Proceeds from short-term bank borrowings — 721,097 Repayments of short-term bank borrowings (296,729 ) — Proceeds from long-term borrowings — 197,261 Repayments of long-term borrowings (137,031 ) (4,028 ) Change in checks written in excess of cash (28,434 ) (523,143 ) Net cash provided (used) by financing activities (462,194 ) 391,187 Effect of exchange rate changes on cash 11,243 (3,008 ) Net increase (decrease) in cash and cash equivalents (217,231 ) 228,913 Cash and cash equivalents, beginning of period 1,109,402 246,430 Cash and cash equivalents, end of period $ 892,171 $ 475,343 INTRICON CORPORATIONConsolidated CondensedStatements of Cash Flows(Unaudited)Nine months Ended September 30,
2005September 30,
2004
(Restated)Cash flows from operating activities: Net income $ 652,616 $ 1,170,013 Adjustments to reconcile net income to net cash provided (used) by operating activities: Income (loss) from discontinued operations (58,609 ) (1,313,367 ) Depreciation and amortization 1,533,079 1,722,943 Provision for deferred income taxes (112,727 ) 890,230 Gain on disposition of property (1,189 ) (1,684 ) Gain on sale of asset held for sale — (3,109,627 ) Changes in operating assets and liabilities: Accounts receivable (2,509,165 ) (1,257,150 ) Inventories (1,709,617 ) 1,502,016 Other assets (770,573 ) 690,707 Accounts payable 868,088 (486,004 ) Accrued expenses 431,707 (892,209 ) Customer advances (39,567 ) (7,314 ) Other liabilities (359,143 ) 44,654 Net cash used by continuing operations (2,075,100 ) (1,046,792 ) Net cash provided by discontinued operations 3,095,196 660,609 Net cash provided (used) by operating activities 1,020,096 (386,183 ) Cash flows from investing activities: Proceeds from sale of assets 2,950 3,800 Proceeds from sale of asset held for sale — 3,649,802 Purchases of property, plant and equipment (1,071,170 ) (643,852 ) Net cash provided (used) by investing activities (1,068,220 ) 3,009,750 Net cash used by discontinued operations — (29,464 ) Net cash provided (used) by investing activities (1,068,220 ) 2,980,286 Cash flows from financing activities: (Repayment) Proceeds from bank borrowings 92,701 1,257,930 Repayments of short-term bank borrowings (3,171,447 ) (432,806 ) Proceeds from long term borrowings 4,371,900 800,001 Change in checks written in excess of cash 51,723 — Change in restricted cash 386,282 — Repayments of long-term debt (1,458,470 ) (3,794,110 ) Net cash provided (used) by financing activities 272,689 (2,168,985 ) Effect of exchange rate changes on cash (13,258 ) (43,887 ) Net increase in cash and cash equivalents 211,307 381,231 Cash and cash equivalents, beginning of period 246,430 624,866 Cash and cash equivalents, end of period $ 457,737 $ 1,006,097 (See accompanying notes to the consolidated condensed financial statements)7INTRICON CORPORATION
1. In the opinion of management, the accompanying consolidated condensed financial statements contain all adjustments (consisting of normal recurring adjustments) necessary to present fairly IntriCon Corporation’s consolidated financial position as of September 30, 2005March 31, 2006 and December 31, 2004,2005, and the consolidated results of its operations for the three and nine months ended September 30, 2005March 31, 2006 and 2004.2005. Results of operations for the interim periods are not necessarily indicators of the results of the operations expected results for the full year.2. Restatement of Prior Year Financial StatementsWe have restated our consolidated financial statements for the years 2000 through 2004 (the “Restatement”). The determination to restate these financial statements was made after errors were discovered in May, 2005. In addition, certain disclosures in other notes to our consolidated financial statements have been restated to reflect the Restatement adjustments. In the Restatement, we have:Corrected the accounting for certain research and development expenditures that were erroneously capitalized on the balance sheet by recording charges to the statement of operations.Reversed amortization expense related to the erroneously capitalized research and development expenditures.Adjusted income tax reserves as a function of the impact on pre-tax income relating to the correction of accounting for certain research and development expenditures noted above.Further information regarding the impact of these adjustments is provided in note 2 of the consolidated financial statements in Form 10-K/A for the year ended December 31, 2004.3.New Accounting Pronouncements The impactUnder the modified prospective approach, SFAS 123R applies to new awards and to awards that were outstanding on net earnings as a resultJanuary 1, 2006 that are subsequently modified, repurchased or cancelled. Under the modified prospective approach, compensation cost recognized for the first quarter of fiscal 2006 includes compensation cost for all share-based payments granted prior to, but not yet vested on, January 1, 2006, based on the adoption of SFAS No. 123R, from a historical perspective, can be foundgrant-date fair value estimated in Note 9 to the Consolidated Financial Statements in this Quarterly Report and in Note 1 to the Consolidated Financial Statements contained in our 2004 Annual Report. We are currently evaluatingaccordance with the provisions of SFAS No. 123R, and compensation cost for all shared-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS 123R. Prior periods were not restated to reflect the impact of adopting the new standard. As a result of adopting SFAS 123R on January 1, 2006, the net loss and net loss per share for the three months ended March 31, 2006, were $44,000 and $0.01 lower, respectively, than if the Company had continued to account for stock-based compensation under APB Opinion No. 25.adopt itcontinue to review in the first quarter of 2006, as required.future periods.874.3.Burners and Components Business – In the third quarter of 2004, the Company reacquired Selas Waermetechnik GmbH, which was previously part of Selas SAS. Selas SAS filed insolvency in August of 2003. The Company recorded an extraordinary gain of approximately $684,000 on the reacquisition of Selas Waermetechnik, GmbH. Selas Corporation of America,the Company, located in Dresher, Pennsylvania, Nippon Selas located in Tokyo, Japan and Selas Waermetechnik located in Ratingen, Germany. This business generated sales of $2.1 million and $1.6 million and net income of $59,000 and $892,000$464,000 for the ninethree months ended September 30, 2005 and 2004, respectively.March 31, 2005. The net income for the ninethree months ended September 30,March 31, 2005, included a gain on the sale of the operations of $135,000.$536,000. The total purchase price was approximately $3.7 million, subject to adjustment, of which approximately $2.8 million was paid in cash on April 1, 2005, and $900,000 was paid in the form of a subordinated promissory note. An adjustment to the purchase price of approximately $352,000 was recorded in the quarter ended June 30, 2005.4. The consolidated condensed financial statements reflect the Company’s presentation of discontinued operations. A recap of discontinued operations for the three and nine months ended September 30 is as follows:Three Months Ended September 30, Nine Months Ended September 30, 2005 2004 2005 2004 Income (loss) from operations Gain (loss) from Sale of Discontinued operations $ (48,732 ) $ — $ 135,050 $ — Gain on acquisition of SWT — 683,630 — 683,630 Small furnace — (1,518 ) — (75,857 ) Burners and components — 287,490 (76,441 ) 891,720 $ (48,732 ) $ 969,602 $ 58,609 $ 1,499,493 5. has made a strategic decision to focus its future on the Precision Miniature Medical and Electronics products business. The Company sold the remaining operations of its Heat Technology business of the Burners and Components business on March 31, 2005. As a result of this decision and other divestures the Company has made over the past three years, the Company now operates in only one segment.6.5.consistconsisted of the following at:September 30,
2005December 31,
2004March 31,
2006December 31,
2005Raw material $ 2,946,816 $ 2,240,194 $ 3,543,700 $ 3,948,330 Work-in-process 1,658,117 1,008,706 1,662,860 1,766,153 Finished products and components 1,334,691 1,038,743 1,716,409 1,235,760 $ 5,939,624 $ 4,287,643 $ 6,922,968 $ 6,950,243 6. March 31,
2006December 31,
2005Domestic Asset-Based Revolving Credit Facility $ 3,616,566 $ 3,753,597 Foreign Overdraft and Letter of Credit Facility 516,033 764,825 Domestic Term Loans (Real Estate Based in 2005) 1,419,292 1,450,143 Domestic Equipment Leases Term Loan 222,062 239,144 $ 5,773,953 $ 6,207,712 Less: Current maturities (632,799 ) (888,531 ) Total Long Term Debt $ 5,141,154 $ 5,319,181 987.Short and Long Term DebtShort and long term debt at September 30, 2005 and December 31, 2004 are summarized as follows:September 30,
2005December 31,
2004Domestic Asset-Based Revolving Credit Facility $ 2,635,541 $ 3,171,447 Foreign Overdraft and Letter of Credit Facility 642,619 568,946 Domestic Term Loans (Real Estate Based in 2005) 1,481,000 1,458,470 Domestic Equipment Leases Term Loan 255,359 — $ 5,014,519 $ 5,198,863 Less: Current maturities (800,932 ) (5,198,863 ) Total Long Term Debt $ 4,213,587 $ — to it including a $5,500,000 domestic asset-based revolving credit facility supported by a borrowing base, to mature on August 31, 2008 with annual interest computed at the greater of 5.25%, or 0.5% over prime.prime (8.25% as of March 31, 2006). The Company also has a $1,500,000 domestic real estate term loan supported by the Company’s Vadnais Heights, MN manufacturing facility, amortized on a 12-year schedule, to mature on August 31, 2008 with annual interest computed at the greater of 5.25%, or 0.75% over prime.prime (8.5% as of March 31, 2006). The Company also has an unutilized $1,000,000 domestic equipment term loan which is collateralized by the assets. The loan is amortized on a five-year schedule, to mature on August 31, 2008 with annual interest computed at the greater of 5.25%, or 0.75% over prime. The domestic asset-based revolving facility carries a commitment fee of 0.25% per annum, payable on the unborrowed portion of the line. Additionally, the entire package of credit lines carries with it an annual fee of $27,500 due on August 31, 2006, 2007, and 2008.which asis secured and with annual interest computed at approximately 6.5 percent. As of September 30, 2005, hadMarch 31, 2006, the overdraft and letter of credit facility has an outstanding borrowingsbalance of $642,619.$516,033.At September 30, 2005Companyquarter ending March 31, 2006 we were in default with our Net Income and Fixed Charge Ratio covenants per our senior secured credit agreement with Diversified Business Credit, Inc. On April 18, 2006, we received a wavier letter for the two terms that were in default from Diversified Business Credit, Inc. The waiver granted was effective only in compliance with all termsthis specific instance and only for the first quarter ending March 31, 2006. This waiver shall not entitle us to any other or further waiver in any similar or other circumstances. We are currently in the process of the agreements in all of its credit facilities.renegotiating our bank covenants as well as increasing our borrowing capacity.Ourourits indebtedness as it comes due will depend upon ourits current and future performance. OurThe Company’s performance is affected by general economic conditions and by financial, competitive, political, business and other factors. Many of these factors are beyond ourthe Company’s control.10We believeourits anticipated cash requirements for operating needs through September 30, 2006.May 2007. If, however, we dothe Company does not generate sufficient cash from operations, or if we incurit incurs additional unanticipated liabilities, wethe Company may be required to seek additional financing or sell equity on terms which may not be as favorable as weit could have otherwise obtained. No assurance can be given that any refinancing, additional borrowing or sale of equity will be possible when needed or that wethe Company will be able to negotiate acceptable terms. In addition, ourthe Company’s access to capital is affected by prevailing conditions in the financial and equity capital markets, as well as ourits own financial condition. While management believes that the Company will meet its liquidity needs through September 30, 2006,May 2007, no assurance can be given that the Company will be able to do so.8.7.for the threeexpense (benefit) was $(38,000) and nine months ended September 30, 2005 were $97,000 and $385,000, respectively, compared to $8,000 and $1.1 million for the same periods in 2004, respectively. The effective tax rates for the three and nine months ended September 30, 2005 were 35.8% and 39.3%, respectively, compared to (1.5) % and 142.5% for the same periods in 2004, respectively. Taxes$96,000 for the three months ended March 31, 2006 and 2005, respectively. On February 22, 2006 the Company received approval from the Singapore Ministry of Trade and Industry to lower the effective tax rate in Singapore from 20% to 13%. This change was retroactive to September 30, 2004 were primarily due to income taxes on foreign operations.of 2003. As such, a $106,000 benefit was recognized in the first quarter of 2006. The higher effective rate for the nine months ended September 30, 2004 was primarily due to the elimination of the deferred tax asset of $890,230. The effective rateexpense in 2005 was primarily due to foreign taxes on German and Singapore operations. The Company is in a net operating loss position for Federal income tax purposes and, consequently, no expense from the current period domestic operating incomeoperations was recognized.9.8.Three months ended
September 30,Nine months ended
September 30,Three months ended
March 31,2005 2004 2005 2004 2006 2005 Basic – weighted shares outstanding 5,132,692 5,129,214 5,130,373 5,129,214 5,515,942 5,129,214 Weighted shares assumed upon exercise of stock options 252,075 — 72,441 — — — Diluted – weighted shares outstanding 5,384,767 5,129,214 5,202,814 5,129,214 5,515,942 5,129,214 TheOn January 1, 2006 the Company has adopted the disclosure provisionStatement of SFASFinancial Accounting Standard (SFAS) No. 148,123R,Accounting for Stock-Based Compensation – Transition and Disclosure. SFAS No. 148 amends the disclosure requirements of SFAS No. 123,Accounting for Stock-BasedShare-Based Compensation.11The Company applies, which supersedes Accounting Principles Board (APB) Opinion No. 25, “AccountingAccounting for Stock Issued to Employees”, and its related interpretations inimplementation guidance. SFAS No. 123R focuses primarily on accounting for itstransactions in which an entity obtains employee services through share-based payment transactions. SFAS No. 123R requires a public entity to measure the cost of employee services received in exchange for the award of equity investments based on the fair value of the award at the date of grant. For the three months ended March 31, 2006, the Company recognized $44,000 of non-cash stock option plans. Therefore no compensation expense has been recognized forrelated to the stock option plans.adoption of SFAS No. 123 “Accounting for Stock-Based Compensation”, amended by SFAS No. 148 “Accounting for Stock-Based Compensation –Transition and Disclosure”, requires the Company to disclose pro forma net earnings and pro forma net earnings per share amounts as if compensation expense was recognized for all options granted (note 3). The proforma amounts are as follows:No.123R.Three months ended
September 30,Nine months ended
September 30,2005 2004 2005 2004 Reported net income (loss) $ 125,447 $ (5,178 ) $ 652,616 $ 1,170,013 Stock-based employee compensation expense, net of related tax effects 46,319 19,721 138,957 59,163 Pro forma net income (loss) 79,128 (24,899 ) 513,660 1,110,850 Reported basic and diluted net income per share $ .02 $ (.00 ) $ .12 $ .23 Pro forma basic and diluted net income per share $ .01 $ (.00 ) $ .10 $ .22 10.9.at September 30, 2005for the three months ended March 31, 2006 were options to purchase approximately 199,000727,000 common shares, with an average exercise price of $8.32,$3.99, because the effect would have been anti-dilutive. Excluded from the computation of diluted earnings per share at September 30, 2004for the three months ended March 31, 2005 were options to purchase approximately 277,000661,000 common shares with an average exercise price of $7.01, because the effect would have been anti-dilutive.11.10. Comprehensive Income (Loss) The components of comprehensive income, as required to be reported by SFAS No. 130, Reporting Comprehensive Income, were as follows: Three months ended
September 30,Nine months ended
September 30,Three months ended
March 31,2005 2004 2005 2004 2006 2005 Net income (loss) $ 125,447 $ (5,178 ) $ 652,616 $ 1,170,013 $ (141,409 ) $ 210,231 Gain (loss) on foreign currency translation adjustment (12,616 ) (12,869 ) 335,080 (35,511 ) Gain on foreign currency translation adjustment 5,355 404,884 Comprehensive income (loss) $ 112,831 $ (18,047 ) $ 987,696 $ 1,134,502 $ (136,054 ) $ 615,115 Accumulated other comprehensive loss totaled ($262,000)$207,000 and ($597,000)$213,000 at September 30, 2005March 31, 2006 and December 31, 2004,2005, respectively.1212.11. Legal Proceedings The Company is a defendant along with a number of other parties in approximately 122 lawsuits as of September 30,March 31, 2005 (approximately 123122 lawsuits as of December 31, 2004)2005) alleging that plaintiffs have or may have contracted asbestos-related diseases as a result of exposure to asbestos products or equipment containing asbestos sold by one or more named defendants. Due to the noninformative nature of the complaints, the Company does not know whether any of the complaints state valid claims against the Company. The lead insurance carrier has informed the Company that the primary policy for the period July 1, 1972 –— July 1, 1975 has been exhausted and that the lead carrier will no longer provide a defense under that policy. The Company has requested that the lead carrier substantiate its position. The Company has contacted representatives of the Company’s excess insurance carrier for some or all of this period. The Company does not believe that the asserted exhaustion of the primary insurance coverage for this period will have a material adverse effect on the financial condition, liquidity, or results of operations of the Company. Management believes that the number of insurance carriers involved in the defense of the suits and the significant number of policy years and policy limits to which these insurance carriers are insuring the Company, make the ultimate disposition of these lawsuits not material to the Company’s consolidated financial position or results of operations. As more fully described in Note 14,13, the Company’s wholly owned French subsidiary, Selas SAS filed insolvency in France and is being managed by a court appointed judiciary administrator. The Company may be subject to additional litigation or liabilities as a result of the French insolvency. The Company is also involved in other lawsuits arising in the ordinary course of business. While it is not possible to predict with certainty the outcome of these matters, management is of the opinion that the disposition of these lawsuits and claims will not materially affect the Company’s consolidated financial position, liquidity, or results of operations. 13.12. Related-Party Transactions One of the Company’s subsidiaries leases office and factory space from a partnership consisting of three present or former officers of the subsidiary, including Mark Gorder, the President and Chief Executive Officer of the Company. The subsidiary is required to pay all real estate taxes and operating expenses. In the opinion of management, the terms of the lease agreement are comparable to those which could be obtained from unaffiliated third parties. The total base rent expense incurred under the lease was approximately $368,000 for 2005, $368,000 for 2004 and $336,000 for 2003 and $330,000 for 2002.2003. Annual lease commitments approximate $368,000 through October 2011.14.13. Subsidiary Insolvency On August 4, 2003 the Company’s wholly owned French subsidiary, Selas SAS, filed insolvency in the Commercial Court of Nanterre, France and is being managed through a court appointed judiciary administrator. Historical financial information has been restated to include this European operation in discontinued operations. In addition, the Company may be subject to additional litigation or liabilities as a result of the French insolvency. 1315.14. Statements of Cash Flows SupplementalThe following table provides supplemental disclosures of cash flow information:Nine months Ended September 30,
2005September 30,
2004Interest received $ 34,875 $ 1,932 Interest paid $ 321,406 $ 322,171 Income taxes paid $ 32,264 $ 5,800 16.Subsequent EventsOn October 6, 2005, RTI Electronics acquired the assets of Amecon Inc. Amecon is primarily engaged in the research, development, manufacture, marketing and sale of toroidal power and low voltage instrument transformers, current sense transformers and filter inductors, magnetic amplifiers, AC/DC load sensors. The purchase price for the assets was $1,300,000 (subject to adjustment based on the fair market valuation of the acquired assets and certain sales targets) and required a $10,000 initial deposit and $240,000 payment made at the time of closing. The unpaid balance will be paid in four equal annual installments beginning on October 6, 2006. The unpaid balance will bear interest at an annual rate of 5%, which shall be payable annually with each principal payment. The purchase price allocation will be finalized in the fourth quarter.Three months Ended March 31,
2006March 31,
2005Interest received $ 16,243 $ 53 Interest paid 111,632 103,104 Income taxes paid 800 20,975 Acquisition of assets of Amecon, Inc. Goodwill 113,020 — Property and equipment 53,522 — The unaudited proforma results of operations for the three and nine months ended September 30, 2005 and 2004 as a result of this acquisition is not materialadjustment to the historical financial statements.assets for Amecon, which were acquired on October 2005, was due to the final adjustment to the working capital requirement as stated in the asset purchase agreement. The Company believes no future material adjustment is likely.1412ITEM 2. Management’s Discussionand Analysis of Financial Condition and Results of OperationsITEM 2. Management’sDiscussion and Analysis of Financial Condition and Results of Operations 43 and 54 to the Condensed Consolidated Financial Statements.52%47% of net sales for the Company’s precision miniature medical and electronic products business in the first ninethree months of fiscal 2005.2006.1513Company’s Surge-Gard TM product line, an inrush electric current limiting device used primarily in computer power supplies, represented approximately 5% of the Company’s sales in the first nine months of fiscal 2005. The balance of sales represents various industrial, commercial and military sales for thermistor and thermistor assemblies to domestic and international markets.new digital products to gain market share, recovery of the telecommunications market, potential growth in the Company’s medical profits, future gross profit margins, future cost savings, net operating loss carryforwards, the impact of future cash flows, the ability to maintain financial covenants, the ability to meet working capital requirements, future level of funding of employee benefit plans, the ability to negotiate extension on purchases, the impact of foreign currencies and litigation; andexpected future results of operations and growth;ability to meet working capital requirements;business strategy;expected benefits from staff reductions;expected increases in operating efficiencies;anticipated trends in the hearing-health market; andestimate of goodwill impairment and amortization expense of the intangible assets.• • • 16Company'sCompany’s business and growth strategy;
changes in the mix of products sold;
ability to meet increasing demand;
changes in customer requirements;
timing and extent of research and development expenses;
acceptance of the Company'sCompany’s products;
competitive pricing pressures;
pending and potential future litigation;
availability of electronic components for the Company’s products;
ability to create and market products in a timely manner;
ability to pay debt when it comes due;
the loss of one or more of our major customers;
ability to identify and
effects of legislation;
effects of foreign operations;
ability to recruit and retain engineering and technical personnel;
loss of members of our senior management team;
our ability and the ability of our customers to protect intellectual property; and
risks associated with terrorist attacks, war and threats of attacks.attacks and wars.
For a description of these and other risks see “Risk Factors” in Part 1, Item 1: Business1A: Risk Factors in the Company’s Annual Report on Form 10-K/A10-K for the year ended December 31, 20042005 or in other filings the Company makes from time to time with the Securities and Exchange Commission. The Company does not undertake to update any forward-looking statement that may be made from time to time by or on behalf of the Company.
20052006 compared with 20042005
Consolidated net sales for the three and nine months ended September 30,March 31, were as follows (in thousands):
Restated | Change | |||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
2005 | 2004 | Dollars | Percent | |||||||||||
Three months ended September 30 | $ | 11,896 | $ | 8,524 | $ | 3,372 | 39.6 | % | ||||||
Nine months ended September 30 | $ | 33,284 | $ | 26,217 | $ | 7,067 | 27.0 | % |
Change | ||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
2006 | 2005 | Dollars | Percent | |||||||||||
Three months ended March 31 | $ | 11,836 | $ | 9,786 | $ | 2,050 | 20.9 | % |
The Company’sOur net sales for the three months are comprised of four main sectors: Hearing health, electronics, medical and professional audio device. Our net sales for the three months ended September 30, 2005March 31, 2006 increased for three of the four product sectors over the same periods in the prior year. For
The professional audio device product sector grew 24 percent in the quarterthree months ended September 30,March 31, 2006 over same period prior year primarily due to sales of a new microphone to a specific customer. The electronics product sector increased 47 percent in the three months ended March 31, 2006 over same period prior year. Exclusive of the October 6, 2005 acquisition of Amecon Inc., sales increased by 65.9% for medical products, 56.7% for9 percent.
Despite minimal growth in the primary hearing health products, and 23.7%industry, net sales for professional audio and military products. The electronic sales decreased slightly, 3.4%,our hearing health sector grew 18 percent over the same period in the prior year. The Company’s sales for the nine months ended September 30, 2005 increased for all four product sectors over the same periods in the prior year. For the nine months ended September 30, 2005 sales increased by 71.9% for medical products, 30.8% for hearing health products, 15.4% for professional audio and military products, and 2.4% for electronics products. The sales increase for medical products was due to strengthened orders for design and contract manufacturing with several medical OEM customers; for hearing health products the increase was primarily due to new product offerings in the Company’sour advance line of amplifier assemblies and systems based on Digital Signal Processing (DSP); for professional audio and military products.
We experienced a decrease of 1 percent in net sales to the increase was primarily due to sales of a new microphone to a specific customer.medical equipment market in the three months ended March 31, 2006 over same period prior year.
1715
Gross profit margins for the three and nine months ended September 30,March 31, were as follows (in thousands):
2005 | Restated 2004 | Change | ||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Dollars | Percent of Sales | Dollars | Percent of Sales | Dollars | Percent | |||||||||||||||
Three months ended June 30 | $ | 2,907 | 24.4 | % | $ | 1,675 | 19.7 | % | $ | 1,232 | 4.7 | % | ||||||||
Nine months ended June 30 | $ | 8,701 | 26.1 | % | $ | 6,153 | 23.5 | % | $ | 2,548 | 2.6 | % |
2006 | 2005 | Change | ||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Dollars | Percent of Sales | Dollars | Percent of Sales | Dollars | Percent | |||||||||||||||
Three months ended March 31 | $ | 2,766 | 23.4 | % | $ | 2,382 | 24.3 | % | $ | 384 | (0.9 | )% |
The gross profit margin as a percentage of sales, improved overdecreased slightly for the three and nine month periodsperiod ended September 30, 2005 fromMarch 31, 2006 compared to the previous year periodsperiod primarily due to higher sales and lower manufacturing costs for some products which are now manufactured in Asia.new project inefficiencies.
Selling, general and administrative expenses (SG&A) for the three months ended September 30March 31 were as follows (in thousands):
2005 | Restated 2004 | Change | 2006 | 2005 | Change | |||||||||||||||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Dollars | Percent of Sales | Dollars | Percent of Sales | Dollars | Percent Increase/ (Decrease) | Dollars | Percent of Sales | Dollars | Percent of Sales | Dollars | Percent Increase/ (Decrease) | |||||||||||||||||||||||||||||
Selling | $ | 827 | 7.0 | % | $ | 889 | 10.4 | % | $ | (62 | ) | (7.0 | )% | $ | 902 | 7.6 | % | $ | 804 | 8.2 | % | $ | 98 | 12.2 | % | |||||||||||||||
General and administrative | 1,292 | 10.9 | % | 1,245 | 14.6 | % | 47 | 3.8 | % | 1,305 | 11.0 | % | 1,252 | 12.8 | % | 53 | 4.2 | % | ||||||||||||||||||||||
Research and development | 480 | 4.0 | % | 424 | 5.0 | % | 56 | 13.2 | % | 569 | 4.8 | % | 407 | 4.2 | % | 162 | 39.8 | % |
Selling, general and administrative expenses (SG&A) for the nine months ended September 30 were as follows (in thousands):
2005 | Restated 2004 | Change | ||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Dollars | Percent of Sales | Dollars | Percent of Sales | Dollars | Percent Increase/ (Decrease) | |||||||||||||||
Selling | $ | 2,515 | 7.6 | % | $ | 2,818 | 10.7 | % | $ | (303 | ) | (10.8 | )% | |||||||
General and administrative | 3,829 | 11.5 | % | 4,140 | 15.8 | % | (311 | ) | (7.5 | )% | ||||||||||
Research and development | 1,245 | 3.7 | % | 1,300 | 5.0 | % | (55 | ) | (4.2 | )% |
18
The lowerincreased selling, general and administrative, and research and development expense for ninethree month period ended September 30, 2005March 31, 2006 as compared to the prior year period was primarily driven by the result of a reduction in staffing that occurred in November 2004. The staffing adjustment was a combination of reductions dueneed to the transfer of a portion of manufacturing to our overseas operation and an effort to streamline administrative functions. In order toadequately support the our substantial growth inand our second and third quarters, variousOctober 6, 2005 acquisition of Amecon, Inc. Various investments were made in selling, general and administrative, and research and development areas duringbeginning in the three month period ending September 30,second quarter of 2005.
Operating incomelosses for the three and nine months ended September 30,March 31, 2006 and 2005 was $309,000were $10,000 and $1,112,000 respectively, compared to $(884,000) and $1,005,000 for the same periods in 2004,$81,000 respectively. The nine months ended September 30, 2004 included a gain on sale of our Dresher property of approximately $3.1 million.
Interest expense for the three and nine months ended September 30,March 31, 2006 and 2005 was $66,000$157,000 and $285,000 respectively, compared to $103,000 and $351,000 for the same periods in 2004,$112,000 respectively. The decreaseincrease from the prior year’s interest expense was due to the lowerhigher outstanding debt balance partially offsetand increasing interest rates. The higher outstanding was debt balance was primarily driven by higher interest rates.the debt related to the purchase of Amecon Inc.
Interest income for the three and nine months ended September 30,March 31, 2006 and 2005 was $16,000$21,000 and $35,000, respectively, compared to $2,000 for the same three and nine month periods in 2004.$0, respectively. The increase in 2005 interest income was attributable to interest on the note receivable from the buyer of the discontinued operations that were sold on March 31, 2005.
16
Other income (expense) for the three and nine months ended September 30,March 31, 2006 and 2005 was $12,000$(34,000) and $118,000 respectively, compared to $18,000 and $118,000$35,000, respectively. The other expense for the same periods in 2004, respectively. The increase in other income in the third quarter of 2005 was attributableended March 2006, primarily related to the sale of securities the Company had received in settlement of an outstanding debt with one of its former customers. The majority of the other income in 2004 was attributable toloss on foreign exchange gain on a portion of the Company’s debt that was Euro denominated until its amendment in March 2004.exchange.
Income taxes for the threeexpense (benefit) was $(38,000) and nine months ended September 30, 2005 were $97,000 and $385,000, respectively, compared to $8,000 and $1.1 million for the same periods in 2004, respectively. The effective tax rates for the three and nine months ended September 30, 2005 were 35.8% and 39.3% respectively, compared to (1.5) % and 142.5% for the same periods in 2004, respectively. Taxes$96,000 for the three months ended March 31, 2006 and 2005, respectively. On February 22, 2006 the Company received approval from the Singapore Ministry of Trade and Industry to lower the effective tax rate in Singapore from 20% to 13%. This change was retroactive to September 30, 2004 were primarily due to income taxes on foreign operations.of 2003. As such a $106,000 benefit was recognized in the first quarter of 2006. The higher effective rate for the nine months ended September 30, 2004 was primarily due to the elimination of the deferred tax asset of $890,230. The effective rateexpense in 2005 was primarily due to foreign taxes on German and Singapore operations. The Company is in a net operating loss position for Federal income tax purposes and, consequently, no expense from the current period domestic operating incomeoperations was recognized.
For the three and nine months ended September 30,March 31, 2006 and 2005, the net incomeloss from continuing operations was $174,000$141,000 and $594,000, respectively, compared with a loss from continuing operations of $975,000 and $329,000 for the same periods in 2004,$254,000, respectively. The nine months ended September 30, 2004 included a gain of $3.1 million on an asset held for sale.
19
Discontinued operations generated a net lossincome of $49,000$464,000 for the three months ended September 30, 2005 and net income of $59,000 for the nine months ended September 30, 2005, compared to a net income of $970,000 and $1,499,000 for the three and nine months ended September 30, 2004, respectively. As of this date, no additional purchase price adjustments regarding the sale of the discontinued operations are expected.March 31, 2005. The income for the ninethree months ended September 30,March 31, 2005 included a gain on the sale of these operationsthe Burners and Components business of $135,000.$968,000. See note 43 of the Consolidated Condensed Financial Statements. There were no discontinued operations for the three months ended March 31, 2006.
Liquidity and Capital Resources
The Company’s cash flows from operating, investing and financing activities, as reflected in the statement of cash flows, are summarized as follows (in thousands):
Nine months Ended | Three months Ended | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
September 30, 2005 | Restated September 30, 2004 | March 31, 2006 | March 31, 2005 | |||||||||||||
Cash provided (used) by: | ||||||||||||||||
Continuing operations | $ | (2,075 | ) | $ | (792 | ) | $ | 670 | $ | (699 | ) | |||||
Discontinued operations * | 3,095 | 660 | ||||||||||||||
Discontinued operations* | 4 | 1,037 | ||||||||||||||
Investing activities | (1,068 | ) | 2,726 | (440 | ) | (498 | ) | |||||||||
Financing activities | 272 | (2,169 | ) | (462 | ) | 391 | ||||||||||
Effect of exchange rate changes on cash | (13 | ) | (44 | ) | 11 | (2 | ) | |||||||||
Increase in cash and cash equivalents | $ | 211 | $ | 381 | ||||||||||||
Increase (decrease) in cash and cash equivalents | $ | (217 | ) | $ | 299 | |||||||||||
*Includes proceeds from the sale of discontinued operationsoperations.
17
Table of $2.8 million.Contents
The Company had the following bank arrangements (in thousands):
March 31, 2006 | December 31, 2005 | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
September 30, 2005 | December 31, 2004 | |||||||||||||||
Total availability under existing facilities | $ | 10,255 | $ | 7,056 | $ | 10,222 | $ | 10,239 | ||||||||
Domestic Asset-Based Revolving Credit Facility | 2,636 | 3,171 | 3,617 | 3,754 | ||||||||||||
Foreign Overdraft and Letter of Credit Facility | 643 | 569 | 516 | 765 | ||||||||||||
Domestic Term Loans (Real Estate Based in 2005) | 1,481 | 1,458 | 1,419 | 1,450 | ||||||||||||
Domestic Equipment Lease Term Loan | 255 | — | 222 | 239 | ||||||||||||
Total Debt | 5,015 | 5,199 | 5,774 | 6,208 | ||||||||||||
Total availability under existing facilities | $ | 5,270 | $ | 1,857 | $ | 4,448 | $ | 4,031 | ||||||||
20
On August 31, 2005, the Company’sour wholly-owned subsidiaries Resistance Technology, Inc. and RTI Electronics, Inc. (the “Borrowers”) entered into a senior secured credit agreement with Diversified Business Credit, Inc. (the “Agreement”), and related Term Loan Supplement (Real Estate) and Term Loan Supplement (Equipment). In connection with the Agreement, on August 31, 2005, the Companywe also entered into a security agreement and a guaranty by corporation with Diversified Business Credit, Inc. whereby the Companywe guaranteed the full amount that the Borrowers may owe Diversified Business Credit, Inc. Under these agreements, the Companywe and the Borrowers granted Diversified Business Credit, Inc. a security interest in substantially all of their assets. In addition, Resistance Technology, Inc. granted a mortgage on its Vadnais Heights, Minnesota facility.
The Agreement has a term of three years. The Agreement provides for the following:
$5.5 million asset-backed revolving credit facility supported by a monthly borrowing base;
$1.5 million real estate term loan amortized on a 12-year schedule; and
$1.0 million equipment term loan amortized on a five-year schedule.
The domestic revolving credit facility bears interest at 0.5% over the prime rate or, at the option of the Borrower, subject to certain exceptions, the London InterBank Offered Rate (“LIBOR”) plus 3.25%, provided that in no event will the rate be less than 5.25%. The domestic term loans bear interest at 0.75% over the prime rate or, at the option of the Borrower, subject to certain exceptions, LIBOR plus 3.50%, (8.25% at March 31, 2006) provided that in no event will the rate be less than 5.25%. Notwithstanding the foregoing, interest paid on advances for each twelve month period may never be less than $100,000. Under the Agreement, an unused line fee at the rate of 0.25% per annum on the daily average unused amount of the revolving credit facility is due and payable monthly in arrears on the first day of the month. In addition, the Borrowers must pay an annual fee equal to the greater of $27,500 or one-half percent of the maximum amount permitted to be borrowed under the revolving credit facility. In addition, if the facility is terminated by the Borrowers prior to the end of the term, the Borrowers will also be required to pay a termination fee equal to 3% (if terminated before the first anniversary of the facility), 2% (if terminated before the second anniversary of the facility) and 1% (if terminated before the third anniversary of the facility), respectively, of the total of the maximum amount available under the revolving credit facility plus the amounts then outstanding under the terms loans.
18
The domestic revolving credit facility requires monthly interest payments with a balloon payment at maturity. The real estate term loan requires monthly principal payments of $10,285, with any balance due on August 31, 2008. The equipment term loan requires monthly principal payments based on a assumed amortization period of 60 months, with any balance due on August 31, 2008.
As of AugustThe outstanding balance on the real-estate term loan was approximately $1,419,000 and $1,450,000 at March 31, 2006 and December 31, 2005, approximately $1.6 million was outstanding under the revolving credit facility and approximately $1.5 million was outstanding under the real estate term loan.respectively.
Under the Agreement, without the prior written consent from Diversified Business Credit, Inc., the Companywe and the Borrowers are restricted or limited, except as otherwise permitted in the Agreement, from, among other things: becoming or remaining liable in any manner with respect of indebtedness or contractual liability; declaring or paying any cash dividends (except that Borrowers may declare and pay dividends to the Company as described in the Agreement), purchasing or redeeming any of itsour capital stock or otherwise distributing any property on its capital stock; creating, expending or contracting to expend, in any one calendar year, with respect to the Borrowers collectively, more than $2.0 million in the aggregate, or more than $250,000 in any one transaction, for the lease, purchase or other acquisition of any capital asset, or for the lease of any other asset whether payable currently or in the future; selling, leasing or otherwise disposing of any collateral (as defined in the agreement) or all or any substantial part of its property; consolidating or merging with any other corporation or acquiring stock of any corporation or entering into any other partnership or joint venture; substantially alter the nature of the business in which it is engaged; permitting any breach, default or event of default to occur under any note, loan, agreement or other contractual obligation binding the Borrowers; or amending governing documents.
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In the case of an event of default (as defined in the Agreement), unless waived by Diversified Business Credit, Inc., Diversified Business Credit, Inc., by notice, may terminate the Agreement and declare the Borrowers’ obligations under the Agreement due and payable. Diversified Business Credit, Inc. may also in accordance with the Agreement and the law, exercise and enforce any and all rights and remedies available upon default to a secured party under the Uniform Commercial Code, including, without limitation, the right to take possession of the collateral (as defined in the Agreement). Upon the occurrence of any default, Diversified Business Credit, Inc. can suspend the making of advances until the default has been cured or waived. All obligations will be immediately and automatically due and payable, without further act or condition, if any cause under the United States Bankruptcy Code is commenced voluntarily by any Borrower, guarantor (as defined in the Agreement and includes the Company) or involuntary against any Borrower or guarantor. Events of default include, among other things, the failure to maintain certain financial covenants or insurance coverage, the failure to make payment of any obligation due under the Agreement or the occurrence of a default under any bond, debenture, note or other evidence of material indebtedness of any Borrower or guarantor owed to any person or entity other than Diversified Business Credit, Inc., or under any indenture or other instrument under which any such evidence of indebtedness has been issued or by which it is governed, or under any material lease or other contract, and the expiration of the applicable period of grace, if any, specified in such evidence of indebtedness, indenture, other instrument, lease or contract.
On August 15, 2005, the Company’sour wholly-owned subsidiary, RTI Tech, PTE LTD., entered into an international senior secured credit agreement with Oversea-Chinese Banking Corporation Ltd. that provides for a $2.0 million line of credit. Borrowings bear interest at a rate of 6.47%. This facility will be reviewed annually to determine whether it will be renewed. The outstanding balance was $516,000 and $765,000 at March 31, 2006 and 2005, respectively.
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For the quarter ending March 31, 2006 we were in default with our Net Income and Fixed Charge Ratio covenants per our senior secured credit agreement with Diversified Business Credit, Inc. On April 18, 2006, we received a wavier letter for the two terms that were in default from Diversified Business Credit, Inc. The waiver granted was effective only in this specific instance and only for the first quarter ending March 31, 2006. This waiver shall not entitle us to any other or further waiver in any similar or other circumstances. We are currently in the process of renegotiating our bank covenants as well as increasing our borrowing capacity. Our ability to pay the principal and interest on our indebtedness as it comes due will depend upon our current and future performance. Our performance is affected by general economic conditions and by financial, competitive, political, business and other factors. Many of these factors are beyond our control.
We believe that funds expected to be generated from operations, the available borrowing capacity through our revolving credit loan facilities, and the control of capital spending will be sufficient to meet our anticipated cash requirements for operating needs through September 30, 2006.May 2007. If, however, we do not generate sufficient cash from operations, or if we incur additional unanticipated liabilities, we may be required to seek additional financing or sell equity on terms which may not be as favorable as we could have otherwise obtained. No assurance can be given that any refinancing, additional borrowing or sale of equity will be possible when needed or that we will be able to negotiate acceptable terms. In addition, our access to capital is affected by prevailing conditions in the financial and equity capital markets, as well as our own financial condition. While management believes that we will meet our liquidity needs through May 2007, no assurance can be given that we will be able to do so.
Recent Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standard (SFAS) No. 123R,Share-Based Compensation, which supersedes Accounting Principles Board (APB) Opinion No. 25,Accounting for Stock Issued to Employees, and its related implementation guidance. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services through share-based payment transactions. SFAS No. 123R requires a public entity to measure the cost of employee services received in exchange for the award of equity investments based on the fair value of the award at the date of grant. The cost will be recognized over the period during which an employee is required to provide services in exchange for the award. On April 14, 2005, the Securities and Exchange Commission issued a release announcing the adoption of a new rule delaying the required implementation of SFAS No. 123R. Under this new rule, SFAS No. 123R is effective as of the beginning of the first annual reporting period that begins after June 15, 2005. The impact on net earnings as a result ofFor the first quarter ending March 31, 2006 the non-cash stock option expense related to the adoption of SFAS No. 123R from a historical perspective, can be foundwas $44,261.
Under the modified prospective approach, SFAS 123R applies to new awards and to awards that were outstanding on January 1, 2006 that are subsequently modified, repurchased or cancelled. Under the modified prospective approach, compensation cost recognized for the first quarter of fiscal 2006 includes compensation cost for all share-based payments granted prior to, but not yet vested on, January 1, 2006, based on the grant-date fair value estimated in Note 9 to the Consolidated Financial Statements in this Quarterly Report and in Note 1 to the Consolidated Financial Statements contained in our 2004 Annual Report. We are currently evaluatingaccordance with the provisions of SFAS No. 123R, and will adopt itcompensation cost for all shared-based payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the first quarterprovisions of SFAS 123R. Prior periods were not restated to reflect the impact of adopting the new standard. As a result of adopting SFAS 123R on January 1, 2006, as required.
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The Company calculates expected volatility for stock options and awards using both historical volatility as well as the average volatility of our peer competitors. The Company currently estimates a zero percent forfeiture rate for stock options but will continue to review in future periods.
Critical Accounting Policies
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make certain assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expense during the reporting period.
Certain accounting estimates and assumptions are particularly sensitive because their significance to the consolidated condensed financial statements and the possibility that future events affecting them may differ markedly. The accounting policies of the Company with significant estimates and assumptions include the Company’s revenue recognition, accounts receivable reserves, inventory reserves, discontinued operations, goodwill, long-lived assets and deferred taxes policies. These and other significant accounting policies, except for revenue recognition which is described in the paragraphs below, are described in and incorporated by reference from “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and Note 1 to the financial statements contained in or incorporated by reference in the Company’s Annual Report on Form 10-K/A10-K for the year ended December 31, 2004.2005.
The Company’s continuing operations recognizes revenue when products are shipped and the customer takes ownership and assumes risk of loss, collection of the relevant receivable is probable, persuasive evidence of an arrangement exists and the sales price is fixed or determinable. Under contractual terms shipments are generally FOB shipment point.
Customers have 30 days to notify the Company if the product is damaged or defective. Beyond that, there are no significant obligations that remain after shipping other than warranty obligations. Contracts with customers do not include product return rights, however, the Company may elect in certain circumstances to accept returns for product. The Company records revenue for product sales net of returns. Net sales also include amounts billed to customers for shipping and handling, if applicable. The corresponding shipping and handling costs are included in the cost of sales.
In general, the Company warrants its products to be free from defects in material and workmanship and will fully conform to and perform to specifications for a period of one year. While the Company’s warranty costs have historically been within its expectations, the Company cannot guarantee that it will continue to experience the same warranty return rates or repair costs that it has experienced in the past.
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ITEM 3. Quantitative and QualitativeTable of ContentsDisclosures About Market Risk
ITEM 3. | Quantitativeand Qualitative Disclosures About Market Risk |
For information regarding the Company’s exposure to certain market risks, see Item 7A, Quantitative and Qualitative Disclosures About Market Risk, in the Company’s Annual Report on Form 10-K/A10-K for the year ended December 31, 2004.2005. There have been no material changes in the Company’s portfolio of financial instruments or market risk exposures which have occurred since December 31, 2004.2005.
On May 31, 2005, the Company concluded, after discussions among the Audit Committee of the Board of Directors of the Company and management, that it would restate financial results for the years 2000 through 2004 in order to correct the accounting for certain research and development expenditures that were erroneously capitalized on the balance sheet instead of being recorded as charges on the statement of operations. The methodology for accounting for the Company’s research and development expenses was corrected prior to the end of the quarter covered by this report and the Company initiated the policies and procedures described below:
ITEM 4. | Controlsand Procedures |
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The Company also restated its financial statements and corrected its accounting practices as further described in Note 2 of the Notes to Consolidated Condensed Financial Statements.
The Company’s management, with the participation of its chief executive officer and chief financial officer, conducted an evaluation of the effectiveness of the Company’s disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e), as of September 30, 2005March 31, 2006 (the “Disclosure Controls Evaluation”). Based uponon the Disclosure Controls Evaluation, the Company’s chief executive officer and chief financial officer concluded that the Company’s disclosure controls and procedures were effective to provide a reasonable level of assurance that information required to be disclosed by the Company in the reports the Company files or submits under the Exchange Act is recorded, processed, summarized and reported within the specifiedspecific time periods in the Securities and Exchange Commission’s rules and forms. Officers of the Companycompany have concluded that the disclosure controls and procedures are also effective to ensure that information required to be disclosed in the reports that the Company files or submits under the Exchange Act are accumulated and communicated to management, including the chief executive officer and chief financial officer, to allow timely decisions regarding required disclosure, all in accordance with Exchange Act Rule 13a-15(e).
Other than disclosed above, there were no changes in ourThe Company’s management, with the participation of the Company’s chief executive officer and chief financial officer, also conducted an evaluation of the Company’s internal controlscontrol over financial reporting, as defined in Exchange Act Rule 13a-15(f), to determine whether any changes occurred during the quarter ended September 30, 2005March 31, 2006 that hashave materially affected, or isare reasonably likely to materially affect, ourthe Company’s internal control over financial reporting. Based on that evaluation, there was no such change during the quarter ended March 31, 2006.
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. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. 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 the Company have been detected. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
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ITEM 1. | Legal Proceedings |
The information contained in Notes 1211 and 1413 to the Consolidated Condensed Financial Statements in part 1 of this quarterly report is incorporated by reference herein.
ITEM 1A. | Risk Factors |
In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2005, which could materially affect our business, financial condition or future results. The risk factors in our Annual Report on Form 10 — K have not materially changed. The risks described in our Annual Report on Form 10-K are not the only risks facing our Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.
ITEM 2. | UnregisteredSales of Equity Securities and Use of Proceeds |
None.
ITEM 3. | Defaultsupon Senior Securities |
None.
ITEM 4. | Submissionof Matters to a Vote of Security Holders |
At the 2006 Annual Meeting of Shareholders of the Company held on April 22, 2006:
Mr. Nicholas A. Giordano was re-elected as director of the Board of Directors of the Company for terms expiring at the 2006 Annual Meeting. In the election, 4,188,251 votes were cast for Mr. Giordano. Under Pennsylvania law, votes cannot be cast against a candidate. Proxies filed at the 2006 Annual Meeting by the holders of 526,458 shares withheld authority to vote for Mr. Giordano. The terms of the following directors continued after the Annual Meeting: Michael J. McKenna, Robert N. Masucci, and Mark S. Gorder.
The 2006 Equity SecuritiesIncentive Plan was also approved. In the election, 1,997,390 votes were cast in favor of approval, while 774,333 were cast opposing approval, and Useholders of Proceeds
None.
None.
None.vote.
ITEM 5. | Other Information |
None.
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ITEM 6. | Exhibitsand Reports on Form 8-K |
(a) Exhibits |
10.1(1) |
10.2 |
31.1 | Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | Certification of principal executive officer pursuant to U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2 | Certification of principal financial officer to U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
(1) | Incorporated by reference from |
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INTRICON CORPORATION
SIGNATURE
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.
INTRICON CORPORATION (Registrant) | ||||
Date: | May 12, 2006 | By: | /s/ Mark S. Gorder | |
Mark S. Gorder | ||||
President and Chief Executive Officer (principal executive officer) |
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EXHIBIT INDEX
10.2 | Form of |
31.1 | Certification of principal executive officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2 | Certification of principal financial officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1 | Certification of principal executive officer pursuant to U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2 | Certification of principal financial officer pursuant to U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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