UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549FORM 10-Q
[X][X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE PERIOD ENDED —September 30,20022003OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIODFromtoCommission File number1-1000
SPARTON CORPORATION
(Exact
(Exact Name of Registrant as Specified in its Charter)Ohio
38-1054690 (State
(State or Other Jurisdiction of(I.R.S.Incorporation or Organization)38-1054690
(I.R.S. Employer Identification No.)Incorporation or Organization)2400 East Ganson Street, Jackson, Michigan 49202
(Address
(Address of Principal Executive Offices, Zip Code)(517) 787- 8600
(Registrant's
(Registrant’s Telephone Number, Including Area Code)Indicate by checkmark 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. YesX No
--- --- The aggregate market value of voting stock heldIndicate by
non-affiliatescheck mark whether the registrant is an accelerated filer (as defined by Rule 12b-2 of theregistrant as of October 31, 2002, was $41,851,771.Exchange Act.). Yes No XCommon Stock, $1.25 Par Value
- 7,563,540—7,947,608shares outstanding as ofOctober 31,2002. -1-. SPARTON CORPORATION AND SUBSIDIARIES INDEX20031
TABLE OF CONTENTSSPARTON CORPORATION AND SUBSIDIARIES
INDEX
Part I. Financial Information
Item 1. Financial Statements (Unaudited) Condensed Consolidated Balance Sheets September 30 and June 30, 2002 .................................................................320033 Condensed Consolidated Statements of Operations Three-Month Periods ended September 30, 20022003 and2001...........................................420024 Condensed Consolidated Statements of Cash Flows Three-Month Periods ended September 30, 20022003 and2001 ..........................................520025 Notes to Condensed Consolidated Financial Statements..............................................6Statements6 Item 2. Management'sManagement’s Discussion and Analysis of Financial Condition and Results of Operations..........10Operations10 Item 3. Quantitative and Qualitative Disclosures About Market Risk.....................................13Risk12 Item 4. Controls and Procedures .......................................................................13 Part II. Other Information12 Part II. Other Information
Item 1. Legal Proceedings..............................................................................13Proceedings13 Item 6. Exhibits and Reports on Form 8-K ..............................................................1514 Signatures ............................................................................................15 Certifications ........................................................................................16 Amended Articles of Incorporation (exhibit 3.1)....................................................... 1815 -2-2
SPARTON CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheets (Unaudited)
September 30 and June 30,20022003
ASSETS September 30 June 30 ------------ -------Current assets: Cash and cash equivalent $ 7,309,500 $ 8,687,873 Investment securities 14,376,665 11,530,374 Accounts receivable: Trade 19,994,862 18,703,397 EPA settlement (Note 6) 5,850,000 - Income taxes recoverable - 1,055,965 Inventories and costs on contracts in progress, less progress payments of $7,777,000 at September 30 ($6,275,000 at June 30) 41,719,412 41,929,559 Prepaid expenses 2,081,961 2,214,845 ------------ ------------ Total current assets 91,332,400 84,122,013 Pension asset 6,304,117 6,304,117 Other assets 2,724,286 2,940,918 Property, plant and equipment, net 9,045,004 9,034,200 ------------ ------------ Total assets $109,405,807 $102,401,248 ============ ============ LIABILITIES AND SHAREOWNERS' EQUITY Current liabilities: Account payable $ 8,078,256 $ 7,762,357 Salaries and wages 3,228,494 3,545,045 Accrued liabilities 3,348,024 2,104,170 Income taxes payable 1,836,718 - ------------ ------------ Total current liabilities 16,491,492 13,411,572 Environmental remediation 7,293,289 7,375,259 Shareowners' equity: Common stock - 7,563,540 and 7,559,790 shares outstanding at September 30 and June 30 after deducting 371,172 and 374,922 shares in treasury 9,454,425 9,449,738 Capital in excess of par value 488,118 477,493 Accumulated other comprehensive income (loss) 241,462 (172,000) Retained earnings 75,437,021 71,859,186 ------------ ------------ Total shareowners' equity 85,621,026 81,614,417 ------------ ------------ Total liabilities and shareowners' equity $109,405,807 $102,401,248 ============ ============
September June Current assets: Cash and cash equivalents $ 13,368,808 $ 10,562,222 Investment securities 23,490,651 23,214,783 Accounts receivable: Trade 19,802,031 28,236,904 EPA settlement — 1,000,000 Income taxes recoverable 616,557 — Inventories and costs on contracts in progress, less progress payments of $7,092,000 at September 30 ($8,317,000 at June 30) 35,347,263 31,809,088 Prepaid expenses 949,577 1,174,618 Total Current assets 93,574,887 95,997,615 Pension asset 6,144,077 6,176,085 Other assets 5,733,747 5,583,577 Property, plant and equipment, net 8,234,858 8,256,593 Total Assets $ 113,687,569 $ 116,013,870 Current liabilities: Account payable $ 9,731,653 $ 8,893,348 Salaries and wages 3,959,158 3,879,947 Accrued liabilities 4,125,783 4,532,795 Income taxes payable — 709,443 Total Current liabilities 17,816,594 18,015,533 Environmental remediation 6,754,473 6,830,131 Shareowners’ equity: Preferred stock, no par value; 200,000 shares authorized, none outstanding — — Common stock, $1.25 par value; 15,000,000 shares authorized, 7,947,608 and 7,943,671 shares outstanding at September 30 and June 30, respectively 9,934,510 9,929,589 Capital in excess of par value 3,025,752 3,015,989 Accumulated other comprehensive income 473,587 359,486 Retained earnings 75,682,653 77,863,142 Total Shareowners’ equity 89,116,502 91,168,206 Total Liabilities and Shareowners’ equity $ 113,687,569 $ 116,013,870 See accompanying notes.
3
SPARTON CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Operations (Unaudited)
For the Three-Month Periods ended September 30,20022003 and20012002
September 30 ---------------------------- 2002 2001 ---- ----Net sales $ 36,767,907 $ 40,810,080 Costs of goods sold 33,003,645 36,082,165 ------------ ------------ 3,764,262 4,727,915 Selling and administrative income (expense): Selling and administrative expenses (3,524,214) (3,279,106) EPA related - net (Note 6) 5,347,000 (173,426) ------------ ------------ 1,822,786 (3,452,532) ------------ ------------ Operating income 5,587,048 1,275,383 Other income (expense): Interest and investment income 117,297 128,624 Equity loss in investment (39,000) (71,250) Other - net 14,490 (41,947) ------------ ------------ 92,787 15,427 Income before income taxes 5,679,835 1,290,810 Provision for income taxes 2,102,000 504,000 ------------ ------------ Net income $3,577,835 $ 786,810 ============ ============ Basic and diluted earnings per share $0.47 $0.10 ============ ============ Dividends $-0- $-0- ============ ============
2003 2002 Net sales $ 36,424,801 $ 36,767,907 Costs of goods sold 35,990,843 33,003,645 433,958 3,764,262 Selling and administrative (income) expenses: Selling and administrative 3,759,004 3,524,214 EPA related — net 74,000 (5,347,000 ) 3,833,004 (1,822,786 ) Operating income (loss) (3,399,046 ) 5,587,048 Other income (expenses): Interest and investment income 230,542 117,297 Equity income (loss) in investment 21,000 (39,000 ) Other — net (58,985 ) 14,490 192,557 92,787 Income (loss) before income taxes (3,206,489 ) 5,679,835 Provision (credit) for income taxes (1,026,000 ) 2,102,000 Net income (loss) $ (2,180,489 ) $ 3,577,835 Basic and diluted earnings (loss) per share $ (0.27 ) $ 0.47 See accompanying notes.
4
SPARTON CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows (Unaudited)
For the Three-Month Periods ended September 30,20022003 and20012002
September 30 -------------------------- 2002 2001 ----------- -----------Cash flows provided (used) by Operating Activities: Net income $ 3,577,835 $ 786,810 Add noncash items affecting operations: Depreciation 363,426 426,304 EPA settlement (Note 6) (5,500,000) -- Add (deduct) changes in operating assets and liabilities: Income taxes payable 1,836,718 453,589 Other 1,391,679 1,462,554 Income taxes recoverable 1,055,965 -- Accounts payable 315,899 (7,791,014) Inventories 210,147 4,430,543 Accounts receivable (1,641,465) 1,649,697 ----------- ----------- 1,610,204 1,418,483 Cash flows provided (used) by Investing Activities: Purchases of investment securities -net (2,846,291) (3,610,195) Purchases of property, plant and equipment-net (,374,230) (101,053) Noncurrent other assets 216,632 41,631 ----------- ----------- (3,003,889) (3,669,617) Cash flows provided by Financing Activities: Stock options exercised 15,312 -- ----------- ----------- Decrease in cash and cash equivalents (1,378,373) (2,251,134) Cash and cash equivalents at beginning of period 8,687,873 13,034,790 ----------- ----------- Cash and cash equivalents at end of period $ 7,309,500 $10,783,656 =========== =========== Supplemental disclosures of cash paid (refunded) during the period: Income taxes - net ($693,000) $ 89,000 =========== ===========
2003 2002 Cash flows provided (used) by Operating Activities: Net income (loss) $ (2,180,489 ) $ 3,577,835 Add (deduct) noncash items affecting operations: Depreciation, amortization and accretion 365,273 363,426 EPA settlement 1,000,000 (5,500,000 ) Change in pension asset 32,008 14,778 Loss on sale of investments 13,880 18,995 Equity (gain) loss in investment (21,000 ) 39,000 Other 54,050 35,654 Add (deduct) changes in operating assets and liabilities: Accounts receivable 8,434,873 (1,641,465 ) Income taxes recoverable (616,557 ) 1,055,965 Inventories and prepaid expenses (3,313,134 ) 2,179,749 Accounts payable, salaries and wages, accrued liabilities and income taxes (274,597 ) 1,146,454 3,494,307 1,290,391 Cash flows provided (used) by Investing Activities: Purchases of investment securities (908,720 ) (3,033,817 ) Proceeds from sale of investment securities 400,000 450,339 Purchases of property, plant and equipment — net (343,538 ) (374,230 ) Other, principally noncurrent other assets 149,852 273,632 (702,406 ) (2,684,076 ) Cash flows provided by Financing Activities: Proceeds from exercise of stock options 14,685 15,312 Increase (decrease) in cash and cash equivalents 2,806,586 (1,378,373 ) Cash and cash equivalents at beginning of period 10,562,222 8,687,873 Cash and cash equivalents at end of period $ 13,368,808 $ 7,309,500 Supplemental disclosures of cash paid (refunded) during the period: Income taxes — net $ 300,000 $ (693,000 ) See accompanying notes.
5
SPARTON CORPORATIONAND& SUBSIDIARIESNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Notes to Condensed Consolidated Financial Statements1. ACCOUNTING POLICIES
The following is a summary of the
Company'sCompany’s accounting policies not discussed elsewhere within this report.BASIS OF PRESENTATION -Basis of presentation —The accompanying unaudited
condensed consolidated financial statementsCondensed Consolidated Financial Statements of Sparton Corporation and all active subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions toForm 10-Q andArticle 10 ofRegulationsRegulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete annual financial statements. All significant intercompany transactions and accounts have been eliminated. Thecondensed consolidated balance sheetCondensed Consolidated Balance Sheet at September 30,2002,2003, and the relatedcondensed statementsCondensed Consolidated Statements ofoperationsOperations for the three-month periods ended September 30, 2003 and 2002, and cash flows for the three-month periods ended September 30,20022003 and20012002, are unaudited, but include all adjustments (consisting of normal recurring accruals) which the Company considers necessary for a fair presentation of such financial statements. Operating results for the three-month period ended September 30,2002,2003, are not necessarily indicative of the results that may be expected for the fiscal year ended June 30,2003.2004.The balance sheet at June 30,
2002,2003, has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. For further information, refer to theconsolidated financial statementsConsolidated Financial Statements and footnotes thereto included in theCompany'sCompany’s Annual Report on Form 10-K for the year ended June 30,2002. At June 30, 2002, the Company changed its method of accounting for its investment in Cybernet Systems Corporation (Cybernet).2003.Operations —The
investment is now accounted for under the equity method and included in other assets on the balance sheets at September 30 and June 30, 2002. The condensed consolidated statement of operations and cash flow for the three-month period ended September 30, 2001, have been changed to reflect the Company's share of Cybernet's losses and accumulated other comprehensive income (loss), as required by Accounting Principles Board Opinion No.18 "The Equity Method of Accounting for Investments In Common Stock". OPERATIONS - The Company'sCompany’s operations are in one line of business, electronic contract manufacturing services (EMS). Products and services include complete"Box Build"“Box Build” products for Original Equipment Manufacturers, microprocessor-based systems, transducers, printed circuit boards and assemblies, sensors and electromechanical devices for the telecommunications, medical/scientific instrumentation, electronics, aerospace, and other industries. The Company also develops and manufactures sonobuoys, anti-submarine warfare (ASW) devices, used by the U.S. Navy and other free-world countries.USE OF ESTIMATES - The preparationUse of
financial statements in conformity with accountingestimates —Accounting principles generally accepted in the United Statesrequiresrequire management to make estimates and assumptions that affect the disclosure of assets and liabilities and the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.CREDIT PRACTICES -Revenue recognition —The
Company sells products principally in the commercial and governmental electronics manufacturing markets. Credit terms are granted and periodically revised based on evaluations of the customers' financial condition, with collateral generally not required. Receivables from foreign customers are generally secured by letters of credit or cash advances. NEW ACCOUNTING STANDARD - Effective July 1, 2002, the Company was required to adopt Statement of Financial Accounting Standards (SFAS) No.144, "Accounting for the Impairment of Long-Lived Assets" (SFAS No.144), which supersedes SFAS No.121 "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" and provides a single accounting model for long-lived assets which are to be disposed of. The adoption of SFAS No.144 did not have any material effect on the Company's consolidated results of operation or financial position. DEPRECIATION - Depreciation is provided over estimated useful lives on accelerated methods, except for certain buildings, machinery and equipment, which are being depreciated on the straight-line method. Estimated useful lives generally range from 5 to 50 years for buildings and improvements, 3 to 16 years for machinery and equipment, and 3 to 5 years for test equipment. 6TREASURY STOCK - The Company records treasury stock purchases at cost. The excess of cost over par value is allocated to capital in excess of par value based on the per share amount of capital in excess of par value for all shares, with the difference charged to retained earnings. 2. The Company'sCompany’s net sales are comprised primarily of product sales,andwith supplementary revenues earned from engineering and design services. Standard contract terms are FOB shipping point. Revenue from product sales is generally recognized upon shipment of the goods; service revenue is recognized as the service is performed or under the percentage of completion method, depending on the nature of the arrangement. Long-term contracts relate principally to government defense contracts. These contracts are accounted for based on completed units accepted and their estimated average contract cost per unit. Development contracts are accounted for based on percentage of completion. Costs and fees billed under cost-reimbursement-type contracts are recorded as sales. A provision for the entire amount of a loss on a contract is charged to operations as soon as the loss is determinable. Shipping and handling costs are included in costs of goods sold.Market risk exposure —The Company manufactures its products in the United States and Canada. Sales of the Company’s products are in the U.S. and Canada, as well as other foreign markets. The Company is potentially subject to foreign currency exchange rate risk relating to intercompany activity and balances, receipts from customers, and payments to suppliers in foreign currencies. Also, adjustments related to the translation of the Company’s Canadian financial statements into U.S. dollars are included in current earnings. As a result, the Company’s financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which the Company operates. However, minimal third party receivables and payables are denominated in foreign currency and, historically, foreign currency gains and losses have not been significant. The Company does not consider the market risk exposure relating to currency exchange to be material.
6
The Company has financial instruments that are subject to interest rate risk, principally short-term investments. Historically, the Company has not experienced material gains or losses due to such interest rate changes. Based on the current holdings of short-term investments, the interest rate risk is not considered to be material.
Stock options —The Company follows Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB 25), and related Interpretations in accounting for its employee stock options. Under APB 25, no compensation expense is recognized as the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant. The Company follows the disclosure requirements of Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-Based Compensation,” as amended by SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure.”
At September 30, 2003, the per share weighted-average exercise price of options outstanding was $6.35. The weighted-average remaining contractual life of those options was approximately 3 years. At September 30, 2003, there were 240,040 options exercisable at the weighted-average per share price of $5.77. Remaining shares available for grant under the plan were 211,312 at September 30, 2003.
The following sets forth a reconciliation of net income (loss) and earnings (loss) per share information for the three months ended September 30, 2003 and 2002, as if the Company had recognized compensation expense based on the fair value at the grant date for awards under the plan.
2003 2002 Net income (loss), as reported $ (2,180,489 ) $ 3,577,835 Deduct: Total stock-based compensation expense determined under the fair value based method for all awards, net of tax effects 47,880 43,313 Pro forma net income (loss) $ (2,228,369 ) $ 3,534,522 Pro forma earnings (loss) per share: Basic earnings (loss) per share — after January 2003 stock dividend $ (0.28 ) $ 0.45 Diluted earnings (loss) per share — after January 2003 stock dividend $ (0.28 ) $ 0.44 2. INVENTORIES
Inventories are valued at the lower of cost (first-in, first-out basis) or market and include costs related to long-term contracts. Inventories, other than contract costs, are principally raw materials and supplies. The following are the major classifications of
inventory, which are presented net of progress payments. September 30, 2002 June 30, 2002 ------------------ ------------- Raw materials $25,030,000 $23,353,000 Work in process and finished goods 16,689,000 18,577,000 ----------- ----------- Total $41,719,000 $41,930,000 =========== ===========inventory:
September 30, 2003 June 30, 2003 Raw materials $ 16,139,000 $ 20,157,000 Work in process and finished goods 19,208,000 11,652,000 $ 35,347,000 $ 31,809,000 Work in progress and finished goods
inventory includes $6.5inventories include $3.0 and $1.1 millionand $7.5 millionof completed, but not yet accepted, sonobuoys at September 30,2002,2003 and June 30, 2003, respectively.3. EARNINGS PER SHARE
All share and per share information for 2002
respectively. 3.have been adjusted to reflect the impact of the 5% stock dividend declared in January 2003. For the three months ended September 30,basic and diluted earnings per share were computed based on2002, thefollowing: Three Months Ended September 30 ------------------------------- 2002 2001 ---- ---- Basic - weighted average shares outstanding 7,563,105 7,570,090 Effect of dilutiveexercise price for all stock options75,260 39,079 ---------- ---------- Weighted average diluted shares outstanding 7,638,365 7,609,169 ========== ========== For the three-month periods ended September 2002 and 2001, options to purchase 94,000 and 98,500 shares of common stock were not included in the computation of diluted earnings per share. Such option's exercise prices were greatergranted was less than the average market price of theCompany'sCompany’s common stock and therefore, they were included in the computation for weighted average diluted shares outstanding. Stock options were not considered in the September 30, 2003, calculation as the effect would beantidilutive. 4.anti-dilutive due to the current period loss. Basic and diluted earnings (loss) per share were computed on the following:
2003 2002 Basic — weighted average shares outstanding 7,946,495 7,941,260 Effect of dilutive stock options — 179,097 Weighted average diluted shares outstanding 7,946,495 8,120,357 Basic earnings (loss) per share $ (0.27 ) $ 0.45 Diluted earnings (loss) per share $ (0.27 ) $ 0.44 7
On October 21, 2003, Sparton’s Board of Directors approved a 5% stock dividend. Eligible shareowners of record on November 21, 2003, will receive the stock dividend. The
reportingdividend distribution or payment date was established as December 19, 2003. Cash will be paid in lieu ofcomprehensive income requires disclosurefractional shares oftotal non-shareowner changesstock. This is a continuation of a process the Company began last fiscal year. The effect of this stock dividend will be reflected in the Company’s shareowners’ equity ininterimthe quarter ending December 31, 2003. Per share data will also be restated for all periodsand additional disclosures ofpresented to give effect to thecomponents of non-shareowner changesstock dividend beginning inequity on an annual basis. Total non-shareowner changes in equity include all changes in equity during a period except those resulting from investments by and distributions to shareowners.that quarter.Pro forma earnings (loss) per share after October 2003 stock dividend:
2003 2002 Weighted average diluted shares outstanding 7,946,495 8,120,357 Effect of 5% stock dividend 397,325 406,018 Weighted average diluted shares outstanding 8,343,820 8,526,375 Diluted earnings (loss) per share $ (0.26 ) $ 0.42 4. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) includes net income (loss) as well as unrealized gains and losses,
on investments,net of tax, which are excluded from net income.Such gains and lossesThey are, however, reflected as a direct charge or credit toshareowners'shareowners’ equity.ComprehensiveTotal comprehensive income (loss) is as follows for the three months ended September30, 2002, and 2001 was as follows:
Three Months Ended September 30 -------------------------------- 2002 2001Net income $3,578,000 $787,000 Other comprehensive income, net of tax: Net unrealized gains (losses) - investment securities owned 199,000 42,000 Net unrealized gains (losses) - investment securities held by investee accounted for by the equity method 214,000 (131,000) ---------- --------- Comprehensive income $3,991,000 $698,000 ========== =========730:
2003 2002 Net income (loss) $ (2,180,000 ) $ 3,578,000 Other comprehensive income (loss), net of tax Net unrealized gains (losses) — investment securities owned (103,000 ) 199,000 Net unrealized gains — investment securities held by investee accounted for by the equity method 218,000 214,000 Comprehensive income (loss) $ (2,065,000 ) $ 3,991,000 At September 30,
2002, shareowners'2003, shareowners’ equity includes accumulated other comprehensive income(loss)of$277,000$368,000 and($36,000),$106,000, whichrelatesrelate to unrealized gains, net of tax, oninvestmentsinvestment securities owned andunrealized losses oninvestment securities held by an investee accounted for by the equity method, respectively. At June 30,2002,2003, these amounts were$78,000$471,000 and($250,000),$(112,000) respectively.5. INVESTMENT SECURITIES
The fair value of cash and cash equivalents, accounts receivable, and accounts payable approximate their carrying value. Cash and cash equivalents consist of demand deposits and other highly liquid investments with an original term of three months or less.
Investments in debt securities that are not cash equivalents and marketable equity securities have been designated as available for sale. Those securities are reported at fair value, with net unrealized gains and losses included in accumulated other comprehensive income, net of applicable taxes. Unrealized losses that are other than temporary are recognized in earnings. Realized gains and losses on investments are determined using the specific identification method. The Company’s investment in Cybernet Systems Corporation is accounted for under the equity method.
Cash and cash equivalents consist of demand deposits and other highly liquid investments. The investment portfolio has various maturity dates up to 25 years. A daily market exists for all investment securities. The Company believes that the impact of fluctuations in interest rates on its investment portfolio should not have a material impact on financial position or results of operations. It is the
Company'sCompany’s intention to use these investment securities to provide working capital and fund the expansion of its business and for other business purposes.At September 30,
2002,2003, the Company had net unrealized gains of$441,000.$584,000. At that date, the net after-tax effect of these gains was$277,000,$368,000, which amount is included in accumulated other comprehensive income within shareowners’ equity.Purchases of investments for the three-month periods ended September 30, 2002 and 2001, totaled $3,033,000 and $3,610,000, respectively. Sales of investment securities totaled $187,000 forFor the three months ended September 30,2002. There were no2003 and 2002, purchases of investments totaled $909,000 and $3,034,000, and sales of investment securitiesfor the corresponding period ended September 30, 2001.totaled $400,000 and $450,000, respectively.8
Sparton owns a 14% interest in Cybernet,
Systems Corporation (Cybernet),which was purchased for $3,000,000 in June 1999. This investment, which amounted to $1,778,000 and $1,490,000 at September 30, 2003 and 2002, respectively, is accounted for under the equity method and is included in other assets on the condensed consolidated balance sheet.Sparton'sSparton’s share of unrealized gains (losses) on available-for-sale securities held by Cybernet is carried in accumulated other comprehensive income (loss) within theShareowners'Shareowners’ Equity section ofSparton'sSparton’s balance sheet.The contractual maturities of debt securities, and total equity securities, as of September 30, 2003, are as follows:
Years Within 1 1 to 5 5 to 10 Over 10 Total Debt securities: Corporate — primarily U.S $ 1,224,000 $ 6,923,000 $ 1,882,000 $ — $ 10,029,000 U.S. government and federal agency 407,000 3,575,000 1,592,000 — 5,574,000 State and municipal 101,000 3,079,000 1,677,000 694,000 5,551,000 Total debt securities 1,732,000 13,577,000 5,151,000 694,000 21,154,000 Equity securities — primarily preferred stock — — — — 2,337,000 Total investment securities $ 1,732,000 $ 13,577,000 $ 5,151,000 $ 694,000 $ 23,491,000 6. COMMITMENTS AND CONTINGENCIES
One of
Sparton'sSparton’s former manufacturing facilities, located in Albuquerque, New Mexico (Coors Road), has beenthe subject ofinvolved with ongoinginvestigations conducted with the Environmental Protection Agency (EPA) under the Resource Conservation and Recovery Act (RCRA). The investigation began inenvironmental remediation since the early1980s and involved a review of onsite and offsite environmental impacts.1980’s.At September 30,
2002,2003, Sparton has a remaining accrual of$7,823,000$7,397,000 as its estimate of the minimum future undiscounted financial liability with respect to this matter, of which$530,000$643,000 is classified as a current liability and included on the balance sheet in accrued liabilities. TheCompany'sCompany’s minimum cost estimate is based upon existing technology and excludes legal and related consultingcosts.costs, which are expensed as incurred. TheCompany'sCompany’s estimate includes equipment and operating costs for onsite and offsite pump and treat containment systems, a soil vapor extraction program and continued onsite and offsite monitoring.Legal and related consulting costs are expensed as incurred.During the first quarter of fiscal 2003, Sparton reached an agreement with the United States Department of Energy (DOE) and others to recover certain remediation costs. Under the
agreement, Sparton will be reimbursed for a portion of the costs it has incurred in its investigation and site remediation efforts at the Coors Road site. The settlement concludes a very lengthy negotiation process and two court actions, one in the Federal Court of Claims and one in the Federal District Court in Albuquerque. Under thesettlement terms, Spartonwill receivereceived $4,850,000 from the DOE and others in fiscal 2003, plus an additional $1,000,000,inwhich was received during the first quarter of fiscal 2004. In addition, the DOE has agreed to reimburse Sparton for 37.5% of certain future environmental expenses in excess of $8,400,000 incurred at the site. The settlement concluded a very lengthy negotiation process and two court actions, one in the Federal Court of Claims and one in the Federal District Court in Albuquerque, New Mexico. With the settlement, Sparton received cash and gained some degree of risk protection, with the DOE agreeing to reimburse future costs incurred aboveanthe established level. The financial impact of the settlement was recorded in the first quarter of fiscal2003. Most of the settlement proceeds (approximately $5,500,000) were2003 with $5,500,000 recorded as income.Uncertainties associated with environmental remediation contingencies are pervasive and often result in wide ranges of reasonably possible outcomes. Estimates developed in the early stages of remediation can vary significantly. Normally a finite estimate of cost does not become fixed and determinable at a specific point in time. Rather, the costs associated with environmental remediation become estimable over a continuum of events and activities that help to frame and define a liability.
Factors which cause uncertainties for the Company include, but are not limited to, the effectiveness of the current work plans in achieving targeted results and proposals of regulatory agencies for desired methods and outcomes. It is possible that cash flows and results of operations could be significantly affected by the impact of changes associated with the ultimate resolution of this contingency.
8Amounts charged to operations, principally legal and consulting, for the three months ended September 30, 2003 and 2002 were $74,000 and
2001 were$153,000,and $173,000,respectively. These costs were generally incurred in pursuit of various claims forreimbursement. 7. The Company follows Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB 25), and related Interpretations in accounting for its employee stock options. Under APB 25, no compensation expense is recognized as the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant. The Company follows the disclosure requirements of Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation". At September 30, 2002, the per share weighted-average exercise price of options outstanding was $6.52. The weighted-average remaining contractual life of those options was approximately 4 years. At September 30, 2002, there were 39,750 options exercisable at the per share price of $4.17. Remaining shares available for grant under the plan were 266,000 at September 30, 2002. During the three months ended September 30, 2002, stock options to purchase 91,000 shares of common stock were granted. Had compensation cost for all stock options outstanding been determined based on their estimated fair values at the date of grant, consistent with the fair value method of SFAS 123 (using the Black Scholes method of valuation), the Company's net earnings for the quarter would have been reduced by $38,250 ($0.01 per share).reimbursement/recovery.9
SPARTON CORPORATION AND SUBSIDIARIESMANAGEMENT'S
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONSThe following is
management'smanagement’s discussion and analysis of certain significant events affecting theCompany'sCompany’s earnings and financial condition during the periods included in the accompanying financial statements. TheCompany'sCompany’s operations are in one line of business, electronic contract manufacturing services (EMS). This includes the design, development and/or manufacture of electronic parts and assemblies for both government and commercial customers worldwide. Governmental sales are mainly sonobuoys. Commercial customers are in general industrial markets, as well as the regulated aerospace and medical markets.The Private Securities Litigation Reform Act of 1995 reflects
Congress'Congress’ determination that the disclosures of forward-looking information is desirable for investors and encourages such disclosure by providing a safe harbor for forward-looking statements by corporate management. The following discussion about theCompany'sCompany’s results of operations and financial condition contains forward-looking statements that involve risk and uncertainty. The Company notes that a variety of factors could cause the actual results and experience to differ materially from anticipated results or other expectations expressed in theCompany'sCompany’s forward-looking statements. The risks and uncertainties that may affect the operations, performance, growth forecasts and results of theCompany'sCompany’s business include, but are not limited to, timing and fluctuations in U.S. and/or world economies, customer demand for products, competition in the overall EMS business, availability of production labor and management services under terms acceptable to the Company, Congressional budget outlays for sonobuoy development and production, Congressional legislation, changes in the interpretation of environmental laws and the uncertainties of environmental remediation. An additional risk factor is the availability and cost of materials. The Company has encountered availability and extended lead time issues on some electronic components in the past, which have resulted in higher prices and late deliveries. Finally, the timing of sonobuoy sales is dependent upon access to, and successful passage of, product tests performed by the U.S. Navy. Reduced governmental budgets have made access to the test range less predictable andlessfrequent than in the past. Management cautions readers not to place undue reliance on forward-looking statements, which are subject to influence by the enumerated risk factors as well as unanticipated future events.RESULTS OF OPERATIONS
Sales for the three-month period ended September 30,
2002,2003, totaled$36,768,000, a decrease of $4,042,000 (10%) from last year. Government EMS$36,425,000, comparable with fiscal 2003. Overall, salesincreased $1,008,000 (10%) to $10,829,000, while commercial EMS sales decreased 16% compared to last year. The uncertainty of customers' schedules inwere below thecommercial market has resulted in Sparton taking additional measures to reduce costs and expenses. Reduced gross margin was attributable to several factors. The reduced levels of sales did not allow forCompany’s expectations, but do reflect theabsorption of fixed manufacturing overhead as in the comparable periods. In addition, one facility was closed for two weeks for regularly scheduled maintenance and vacations this quarter, which further contributed to unabsorbed overhead. Also, disengagement issues with one commercial customer, resulted in decreased margins in fiscal 2002. Includedcontinued depressed economic environment. A modest decline in government EMS sales to $10,300,000 was offset by an increase in other markets. Sales included $9,025,000, $12,087,000 and $5,013,000 of industrial, aerospace and medical/scientific instrumentation sales, respectively. Sales in these areas in fiscal 2003 were$546,000$10,456,000, $10,449,000, and $5,034,000, respectively. Government sales declined slightly from last year, in part due to very limited access to the test range. In addition, the Company has encountered technical difficulties in the production ofshipments ($4,855,000 last year) with no gross margin. As previously disclosed, several government programs are lossone of its current sonobuoy contracts whichlosses have been previously recognized. Finally, grosshas resulted in minimal marginin the prior year, fiscal 2002, was improved when several previously contested customer issues were successfully completed, which resolution contributed approximately $600,000and further depressed sales. Also, two additional sonobuoy contracts encountered difficulties. Increased cost tooperations through pricing adjustments. At September 30, 2002, the backlog ofcomplete estimates on these two sonobuoys further reduced operating margin by $518,000. Sonobuoy saleson loss contracts approximated $1.3 million. Selling and administrative expenses were above last year. Actions continue to be taken to control costs. Increased costs include additional bid and proposal expenses relatedare subject to thequest for new job opportunities. Sparton's bid activity is now near record levels. Operating incomepassage of testing. During the first quarter of 2004, the testing facility was unavailable until mid-September. In late September eight lots were tested. Two sonobuoy lots passed and four failed testing, but were later accepted. However, two other lots, with sales totaling $2.3 million, failed and require rework. These lots will be shipped and the associated sales recognized in future periods.An operating loss of $3,399,000 versus an operating profit of $5,587,000 was reported for the three months ended September 30, 2003, and 2002,
comparedrespectively. The current period results include several start-up contracts which had negative or minimal gross margins. While improvements have been made on these contracts, sales of $5,533,000 resulted in a gross margin of only $115,000. In addition, a redesign effort on an existing product line resulted in a charge to$1,275,000 foroperations of $496,000. This effort is projected to be completed by December 2003. Given thesame periodon-going reduced level of sales, the Company continues to experience underutilized capacity. Selling and administrative expenses as a percentage of sales increased slightly from lastyear.year, 10.3% in 2003 and 9.6% in 2002. Most of this increase was due to higher bid and proposal and development activities, primarily related to government contracts, which further reduced10
current earnings. Included in 2003 operating income
aswas a $5,500,000 ($3,630,000 net ofSeptember 30, 2002, was $5,500,000 of income related to thetax) recovery of certain remediation costs.This incomeIt reflectsSparton'sSparton’s settlement with the DOE and others regardingreimbursablereimbursement of costs incurred at theCompany'sCompany’s Sparton TechnologyInc.Coors Roadsite.facility. Also includedarewere chargesagainst incomerelated to theCoors Road siteNew Mexico environmental remediation effort,,principally litigation, of $74,000 in 2003 and $153,000and $173,000in2002 and 2001, respectively. 102002. Interest and Investment Income
decreased $11,000increased $113,000 to$117,000$231,000 in2002,2003, due tolower interest rates. Equity lossincreased available funds for investment. Other Expense-Net ininvestment relates to Sparton's investment in Cybernet Systems Corporation (Cybernet).2003 was $59,000 versus OtherIncome-net wasIncome-Net of $14,000 in2002, compared to2002. OtherExpense-netExpense-Net in 2003 includes $60,000 of$42,000adjustments for Sparton’s previously owned automotive segment.The Company reported a loss of $2,180,000 ($0.27 per share) for the
corresponding three-month period last year. The Company reportedthree months ended September 30, 2003, versus net income of $3,578,000 ($0.47 per share) for thethree months ended September 30, 2002, compared to $787,000 ($0.10 per share) for thecorresponding period last year.LIQUIDITY AND CAPITAL
RESOURCERESOURCESFor the three-month period ended September 30,
2002,2003, Cash and Cash Equivalentsdecreased $1,378,000increased $2,807,000 to$7,310,000.$13,369,000. Overall, Cash and Investments increased by$1,468,000$3,082,000 from June 30,2002.2003. Operating activities provided$1,610,000$3,494,000 in net cash flows. The primary source of cash was a decrease in accounts receivable, reflective of receipt of payment for the large volume of sales recognized in June 2003. The primary use of cash was an increase in inventories. A portion of this increase in inventories is reflective of delayed customer delivery schedules. An additional inventory increase reflects material for new customer contracts. Cash provided by operating activities in 2002 was less than net income because the $5.8 million related to the environmental settlement with the DOE and others had not been received as of September 30, 2002. Cash flows used by investing activities totaled$3,004,000,$702,000, principally for the purchase of investment securities. Cash flow provided by financing activitiestotalledtotaled $15,000 from stock options exercised.The
Company'sCompany’s market risk exposure to foreign currency exchange and interest rates are not considered to be material, principally due to their short terminvestmentsnature and minimal receivables and payables designated in foreign currency.At September 30,
2002,2003, and June 30, 2002, the aggregate government EMS backlog was approximately$51$45 million and$60$51 million, respectively. A majority of the September 30,2002,2003, backlog is expected to be realized in the next 8-10 months. Commercial EMS orders are not included in the backlog. The Company does not believe the amount of commercial activity covered by firm purchase orders is a meaningful measure of future sales, as such orders may be rescheduled or cancelled without significant penalty.The Company has had no short-term debt since December 1996, and currently has an unused informal line of credit totaling $20 million from one bank.
Sparton is continuing to pursue a joint venture operation in Vietnam with Texatronics, our Alliance Partner in Richardson, Texas. Meetings have been held with architects and contractors to investigate the type and design of the building. The actual joint venture continues in a discussion phase. If an agreement is finalized, the new joint venture will carry the name Spartronics. The Company is also exploring the possible purchase of a new facility in the Albuquerque, New Mexico area to replace an existing facility, as well as identifying and evaluating potential acquisition candidates in both the defense and medical markets.
No cash dividends were declared in either period presented. At September 30,
2002,2003, the Company had$85,621,000$89,117,000 in recordedshareowners'shareowners’ equity ($11.3211.21 per share),$74,841,000$75,758,000 in working capital, and a5.54:5.25:1.00 working capital ratio.CRITICAL ACCOUNTING POLICIES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates. The Company believes that of its significant accounting policies, the following may involve a higher degree of judgement and complexity. ENVIRONMENTAL CONTINGENCIES -OTHER
LITIGATION
One of
Sparton's former manufacturing facilities, located in Albuquerque, New Mexico (Coors Road), has been the subject of ongoing investigations and remediation efforts conducted with the Environmental Protection Agency (EPA) under the Resource Conservation and Recovery Act (RCRA). The investigation began in the early 1980s and involved a review of onsite and offsite environmental impacts. In December 1999, the Company increased its accrual for the estimated cost of addressing the environmental impacts associated with its Coors Road plant by $10,000,000 (pre-tax). This increase was reflective of revised cost estimates in conjunction with the negotiated Consent Decree that settled related lawsuits then outstanding, as well as a related administrative enforce- ment action, and covered activities expected to be incurred over the next thirty years. As discussed in Note 6 to the condensed consolidated financial statements, Sparton has accrued its estimate of the minimum future non-discounted financial liability. The estimate was developed using existing technology and excludes legal and related consulting costs. The minimum cost estimate includes equipment and operating and monitoring costs for both onsite and offsite remediation. Sparton recognizes legal and consulting services in the periods incurred. Sparton reviews its EPA accrual activity quarterly. Uncertainties associated with environmental remediation contingencies are pervasive and often result in wide ranges of reasonably possible outcomes. Estimates developed in the early stages of remediation can vary significantly. Normally a finite 11estimate of cost does not become fixed and determinable at a specific point in time. Rather, the costs associated with environmental remediation become estimable over a continuum of events and activities that help to frame and define a liability. It is possible that cash flows and results of operations could be materially affected by the impact of changes in these estimates. GOVERNMENT CONTRACT COST ESTIMATES - Government production contracts are accounted for based on completed units accepted with respect to revenue recognition, and their estimated average cost per unit regarding costs. The Company formally reviews, on a quarterly basis, costs incurred-to-date and estimated costs to complete on all significant contracts. These revised estimated contract costs are reflected in the financial statements. Losses for the entire amount of the contract are recognized in the period when such losses are determinable. Significant judgment is exercised in determining estimated total contract costs, including but not limited to, cost experience to date, estimated length of time to contract completion, costs for materials, production labor and support services to be expended, and known issues on remaining units to be completed. Estimated costs developed in the early stages of contracts can change significantly as the contracts progress, and events and activities take place. Significant changes in estimate can also occur when new designs are initially placed into production. Depending upon the circumstances, it is possible that the Company's financial position, results of operations and cash flows could be materially affected by changes in estimated costs to complete on one or more significant contracts. COMMERCIAL INVENTORY VALUATION ALLOWANCES - Contracts with commercial customers are based upon estimated quantities of product manufactured for shipment over estimated time periods. Raw material inventories are purchased to fulfill these customer requirements. Within these arrangements, customer demand for products frequently change, sometimes creating excess and obsolete inventories. The Company regularly reviews raw material inventories by customer for both excess and obsolete quantities, with adjustments made accordingly. Wherever possible, the Company attempts to recover its full cost of excess and obsolete inventories from customers, or in some cases, through other markets. When it is determined that the Company's carrying cost of such excess and obsolete inventories cannot be recovered in full, a charge is taken against income and a valuation allowance is established for the difference between the carrying cost and the estimated realizable amount. Conversely, should the disposition of adjusted excess and obsolete inventories result in recoveries in excess of these reduced carrying values, the remaining portion of the valuation allowances are reversed and taken into income when such determinations are made. The establishment of inventory valuation allowances for commercial customer inventories requires a significant degree of judgment and is influenced by the Company's experience to date with both customers and other markets, prevailing market conditions for raw materials, contractual terms and customers' ability to satisfy these obligations, environmental or technological materials obsolescence, changes in demand for customer products, and other factors resulting in acquiring materials in excess of customer product demand. It is possible that the Company's financial position, results of operations and cash flows could be materially affected by changes to inventory valuation allowances for commercial customer excess and obsolete inventories. OTHER LITIGATION - One of Sparton'sSparton’s facilities, located in Albuquerque, New Mexico, has been the subject of ongoing investigations conducted with the Environmental Protection Agency (EPA) under the Resource Conservation and Recovery Act (RCRA). The investigation began in the early1980s1980’s and involved a review of onsite and offsite environmental impacts.11
At September 30,
2002,2003, Sparton has an accrual of$7,823,000$7,397,000 as its estimate of the future undiscounted minimum financial liability with respect to this matter. TheCompany'sCompany’s cost estimate is based upon existing technology and excludes legal and related consultingcosts.costs, which are expensed as incurred. TheCompany'sCompany’s estimate includes equipment and operating costs for onsite and offsitepumpoperations andtreat containment systems, a soil vapor extraction program and continued onsite and offsite monitoring. This estimateis based on existing methodology.Legal and related consulting costs are expensed as incurred. During the first quarter of fiscal 2003, Sparton reached an agreement with the United States Department of Energy (DOE) and others to recover certain remediation costs. Under the agreement, Sparton will be reimbursed for a portion of the costs the 12Company has incurred in its investigation and site remediation efforts at the Coors Road site. The remediation efforts began in 1983. The settlement concludes a very lengthy negotiation process and two court actions, one in the Federal Court of Claims and one in the Federal District Court in Albuquerque.Uncertainties associated with environmental remediation contingencies are pervasive and often result in wide ranges of reasonably possible outcomes. Estimates developed in the early stages of remediation can vary significantly. Normally a finite estimate of cost does not become fixed and determinable at a specific point in time. Rather, the costs associated with environmental remediation become estimable over a continuum of events and activities that help to frame and define a liability. It is possible that cash flows and results of operations could be affected by the impact of the ultimate resolution of this contingency.Item 3. Qualitative and Quantitative Disclosures About Market Risk The Company manufactures its products in the United States and Canada. Sales of the Company's products are made in the U.S. and Canada, as well as other foreign markets. The Company is potentially subject to foreign currency exchange rate risk relating to receipts from customers and payments to suppliers in foreign currencies. As a result, the Company's financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which the Company operates. However, few receivables and payables are denominated in foreign currency. The Company does not consider the market risk exposure relating to currency exchange to be material. The Company has financial instruments that are subject to interest rate risk, principally short-term investments. Historically, the Company has not experienced material gains or losses due to such interest rate changes. Based on the current holdings of short-term investments, the interest rate risk is not believed to be material. Item 4. Controls and Procedures The Company maintains a system of internal accounting policies, procedures, and controls intended to provide reasonable assurance, at appropriate cost, that all material transactions are executed in accordance with Company authorization and are properly recorded and reported in the financial statements, and that assets are adequately safeguarded. The Company also maintains a system of disclosure controls and procedures to ensure that information required to be disclosed in Company reports, filed or submitted under the Securities Exchange Act of 1934, is properly reported in the Company's periodic and other reports. As of September 30, 2002, an evaluation was updated by the Company's management, including the CEO and CFO, on the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on that evaluation, the Company's management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures continue to be effective as of September 30, 2002. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls subsequent to September 30, 2002. Part II OTHER INFORMATION Item 1. Legal Proceedings Various litigation is pending against the Company, in many cases involving ordinary and routine claims incidental to the business of the Company and in others presenting allegations that are non-routine. The Company and its subsidiaries are also involved in certain compliance issues with the United States Environmental Protection Agency (EPA) and various state agencies, including being named as a potentially responsible party at several sites. Potentially responsible parties (PRPs) can be held jointly and severally liable for the clean-up costs at any specific site. The Company's past experience, however, has indicated that when it has contributed only relatively small amounts of materials or waste to a specific site relative to other PRPs, its ultimate share of any clean-up costs has been minor. Based upon available information, the Company believes it has contributed only small amounts to those sites in which it is currently viewed as a potentially responsible party. 13In February 1997, several lawsuits were filed against Sparton's wholly owned subsidiary, Sparton Technology, Inc., alleging that Sparton Technology's Coors Road facility presented an imminent and substantial threat to human health or the environment. On March 3, 2000, a Consent Decree was entered, settling the lawsuits as well as a related administrative enforcement action. The Consent Decree represents a judicially enforceable settlement agreement under which Sparton Technology paid $1,675,000 to resolve claims for damages, civil penalties for alleged violations of state law, and for reimbursement of the litigation costs of certain plaintiffs. The Consent Decree also contains work plans describing remedial activity Sparton Technology agreed to undertake. The remediation activities called for by the work plans have been installed and are either completed, in the case of soil vapor extraction, or in operation, in the case of offsite and onsite containment wells. It is anticipated that ongoing remediation activities will operate for a period of time during which Sparton Technology and the regulatory agencies will analyze their effectiveness. The Company believes that it will take at least three to five years from the date of the Consent Decree, dated March 3, 2000, before the effectiveness of the groundwater containment wells can be established. If ineffective, additional remedies may be imposed at a significantly increased cost. There is no assurance that additional costs greater than the amount accrued will not be incurred or that no adverse changes in environmental laws or their interpretation will occur. Upon entering into the Consent Decree, the Company reviewed its estimates of the future costs expected to be incurred in connection with its remediation of the environmental issues associated with its Coors Road Plant over the next 30 years. The Company increased its accrual for the cost of addressing environmental impacts associated with its Coors Road Plant by $10,000,000 (pre-tax) in December 1999. At September 30, 2002, the remaining undiscounted minimum accrual for EPA remediation approximates $7,823,000. The Company's estimate is based upon existing technology and current costs which have not been discounted. The estimate includes equipment and operating and maintenance costs for the onsite and offsite pump and treat containment systems, a soil vapor extraction program and continued onsite and offsite monitoring. It also includes the required periodic reporting requirements. This estimate does not include legal and related consulting costs which are expensed as in- curred. The estimate does not reflect any offset or reduction for monies recovered from various parties currently being pursued as described below.In 1995, Sparton Corporation and Sparton Technology, Inc. (STI) filed a Complaint in the Circuit Court of Cook County, Illinois, against Lumbermens Mutual Casualty Company and American Manufacturers Mutual Insurance Company demanding reimbursement of expenses incurred in connection with its remediation efforts at the Coors Road facility based on various primary and excess comprehensive general liability policies in effect between 1959 and 1975. In 1999, the Complaint was amended to add various other excess insurers, including certain London market insurers and
Fireman'sFireman’s Fund Insurance Company. The caseisremains inthe discovery stage. In 1998, Sparton Technology, Inc. commenced litigation in two courts seeking reimbursement of Sparton's costs incurred in complying with, and defending against, Federal and state environmental requirements with respect to its former Coors Road plant. Sparton also sought to recover future costs being incurred by the Company on an ongoing basis as a result of continuing remediation at the Coors Road facility. The first suit was commenced on February 11, 1998, in the United States Court of Federal Claims against the United States Department of Energy (DOE), alleging that it is liable for reimbursement of Sparton's environmental costs because the DOE prescribed certain mandatory performance requirements which were then imposed on Sparton Technology. In the second lawsuit, filed on September 21, 1998, Sparton Technology also sought to recover environmental costs incurred in connection with the Coors Road facility. This suit named the DOE, as well as other defendants, and sought recovery of Sparton's costs under both contract and Federal environmental law theories. During the first quarter of fiscal 2003, Sparton reached an agreement with the DOE and others to recover certain remediation costs. Under the agreement, Sparton will be reimbursed for a portion of the costs the Company has incurred in its investigation and site remediation efforts at the Coors Road site. Under the settlement terms, Sparton will receive $4,850,000 from the DOE and others in fiscal 2003, plus an additional $1,000,000 in fiscal 2004. In addition, the DOE has agreed to reimburse Sparton for 37.5% of certain future environmental expenses in excess of $8,400,000 incurred at the site. 14With the settlement, Sparton received cash and gained some degree of risk protection, with the DOE sharing in costs incurred above an established level. The financial impact of the settlement was recorded in the first quarter of fiscal 2003, ending September 30, 2002. Most of the settlement proceeds (approximately $5,500,000) were recorded as income.pretrial activity.In September 2002,
Sparton Technology, Inc. (STI)STI filed an action in the U.S. District Court for the Eastern District of Michigan to recover certain unreimbursed costs incurred as a result of a manufacturing relationship with two entities, Util-Link, LLC("Util-Link")(Util-Link) of Delaware and National Rural Telecommunications Cooperative("NRTC")(NRTC) of the District of Columbia. On or about October 21, 2002, the defendants filed a counterclaim seeking money damages, alleging that STI breached its duties in the manufacture of products for the defendants. The defendant Util-Link has asked for damages in the amount of $25,000,000 for lost profits. The defendant NRTC has asked for damages in the amount $20,000,000 for the loss of its investment in and loans to Util-Link. Spartonhas not had an opportunity to fully assess the respective claims, butbelieves that the damages sought by NRTC are included inUtil-Link'sUtil-Link’s claim for damages and as such, are duplicative. Sparton also believes the counterclaim to be without merit and intends to vigorously defend against it. This case is in the initial stages of discovery.At this time, the Company is unable to predict the amount of recovery, if any, that may result from the pursuit of these two before-mentioned claims.
Item
6. Exhibits3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISKMARKET RISK EXPOSURE
The Company manufactures its products in the United States and
Reports on Form 10-K and 10-Q (a) Exhibits 3.1 Instruments defining the rights of security holders are being filed as follows: Amended Articles of IncorporationCanada. Sales of theRegistrant,Company’s products are made in the U.S. and Canada, as well as other foreign markets. The Company is potentially subject to foreign currency exchange rate risk relating to intercompany activity and balances and to receipts from customers and payments to suppliers in foreign currencies. Also, adjustments related to the translation of the Company’s Canadian financial statements into U.S. dollars are included in current earnings. As a result, the Company’s financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in whichreflecttheincreaseCompany operates. However, minimal third party receivables and payables are denominated in foreign currency and, historically, foreign currency gains and losses have not been significant. The Company does not consider the market risk exposure relating to currency exchange to be material.The Company has financial instruments that are subject to interest rate risk, principally short-term investments. Historically, the Company has not experienced material gains or losses due to such interest rate changes. Based on the current holdings of
authorized sharesshort-term investments, the interest rate risk is not considered to be material.Item 4. CONTROLS AND PROCEDURES
The Company maintains internal controls over financial reporting intended to provide reasonable assurance, at appropriate cost, that all material transactions are executed in accordance with Company authorization and are properly recorded and reported in the financial statements, and that assets are adequately safeguarded. The Company also maintains a
12
system of
Common Stock from 8,500,000disclosure controls and procedures to15,000,000, areensure that information required to be disclosed in Company reports, filedherewithor submitted under the Securities Exchange Act of 1934, is properly reported in the Company’s periodic andattached. 3.2 Instruments definingother reports.As of September 30, 2003, an evaluation was updated by the
rightsCompany’s management, including the CEO and CFO, on the effectiveness ofsecurity holdersthe design and operation of the Company’s disclosure controls and procedures. Based on that evaluation, the Company’s management, including the CEO and CFO, concluded that the Company’s disclosure controls and procedures continue to be effective as of September 30, 2003. There have beenpreviously filedno significant changes in the Company’s internal controls over financial reporting that occurred during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.PART II
OTHER INFORMATIONItem 1. LEGAL PROCEEDINGS
One of Sparton’s former manufacturing facilities, located in Albuquerque, New Mexico (Coors Road), has been involved with ongoing environmental remediation since the early 1980’s.
In December 1999, the Company increased its accrual for the cost of addressing environmental impacts associated with its Coors Road facility by $10,000,000 pre-tax. This increase was in response to a Consent Decree settling lawsuits, as
follows: By-lawswell as a related administrative enforcement action, and covered costs expected to be incurred over the next thirty years.At September 30, 2003, Sparton has a remaining accrual of $7,397,000 as its estimate of the
Registrant,minimum future undiscounted financial liability with respect to this matter, of which $643,000 is classified asamended, were fileda current liability and included onForm 10-Qthe balance sheet in accrued liabilities. The Company’s minimum cost estimate is based upon existing technology and excludes legal and related consulting costs, which are expensed as incurred. The Company’s estimate includes equipment and operating costs for onsite and offsite pump and treat containment systems, a soil vapor extraction program and continued onsite and offsite monitoring.Factors which cause uncertainties for the
three-month period ended December 31, 2000,Company include, but are not limited to, the effectiveness of the current work plans in achieving targeted results and proposals of regulatory agencies for desired methods and outcomes. It is possible that cash flows and results of operations could be significantly affected by the impact of changes associated with the ultimate resolution of this contingency. Uncertainties associated with environmental remediation contingencies areincorporated herein by reference. (b) Reports on Form 8-K filedpervasive and often result in wide ranges of reasonably possible outcomes. Estimates developed in theFirst Quarterearly stages ofFiscal 2003: - On September 5, 2002,remediation can vary significantly. Normally a finite estimate of cost does not become fixed and determinable at a specific point in time. Rather, theCompany reported on Form 8-Kcosts associated with environmental remediation become estimable over a continuum of events and activities thatithelp to frame and define a liability. It is possible that cash flows and results of operations could be materially affected by the impact of the ultimate resolution of this contingency.During the first quarter of fiscal 2003, Sparton reached
a settlementan agreement with the United States Department of Energy (DOE) and others to recoverpast EPAcertain remediation costs.- On September 27, 2002, under section 906Under the settlement terms, Sparton received $4,850,000 from the DOE and others in fiscal 2003, plus an additional $1,000,000, which was received during the first quarter of fiscal 2004. In addition, the DOE has agreed to reimburse Sparton for 37.5% of certain future environmental expenses in excess of $8,400,000 incurred at the site. The settlement concluded a very lengthy negotiation process and two court actions, one in the Federal Court of Claims and one in the Federal District Court in Albuquerque, New Mexico. With the settlement, Sparton received cash and gained some degree of risk protection, with the DOE agreeing to reimburse future costs incurred above the established level. The financial impact of theSarbanes-Oxley Actsettlement was recorded in the first quarter of fiscal 2003 with $5,500,000 recorded as operating income.In 1995, Sparton Corporation and Sparton Technology, Inc. (STI) filed a Complaint in the Circuit Court of Cook County, Illinois, against Lumbermens Mutual Casualty Company and American Manufacturers Mutual Insurance Company demanding reimbursement of expenses incurred in connection with its remediation efforts at the Coors Road facility
13
based on various primary and excess comprehensive general liability policies in effect between 1959 and 1975. In 1999, the Complaint was amended to add various other excess insurers, including certain London market insurers and Fireman’s Fund Insurance Company. The case remains in pretrial activity.
In September 2002,
certificationsSparton Technology, Inc. (STI) filed an action in the U.S. District Court for theChief Executive Officer,Eastern District of Michigan to recover certain unreimbursed costs incurred as a result of a manufacturing relationship with two entities, Util-Link, LLC (Util-Link) of Delaware andChief Financial Officer, were furnished on Form 8-KNational Rural Telecommunications Cooperative (NRTC) of the District of Columbia. On or about October 21, 2002, the defendants filed a counterclaim seeking money damages, alleging that STI breached its duties in the manufacture of products for theyear ended June 30, 2002. - ------------------------------------------------------------------------------defendants. The defendant Util-Link has asked for damages in the amount of $25,000,000 for lost profits. The defendant NRTC has asked for damages in the amount $20,000,000 for the loss of its investment in and loans to Util-Link. Sparton believes that the damages sought by NRTC are included in Util-Link’s claim for damages and as such, are duplicative. Sparton also believes the counterclaim to be without merit and intends to vigorously defend against it. This case is in the initial stages of discovery.At this time, the Company is unable to predict the amount of recovery, if any, that may result from the pursuit of these two before-mentioned claims.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits 3 & 4 Amended Articles of Incorporation of the Registrant were filed on Form 10-Q for the three-month period ended September 30, 2002, and are incorporated herein by reference. Amended By-laws of the Registrant were filed on Form 10-Q for the three-month period ended December 31, 2000, and are incorporated herein by reference. Amended Code of Regulation of the Registrant were filed with Form 10-Q for the three-month period ended September 30, 1982, and are incorporated herein by reference. 31.1 Chief Executive Officer certification under Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Chief Financial Officer certification under Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Chief Executive Officer certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Chief Financial Officer certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (b) Reports on Form 8-K filed in the first quarter of fiscal 2004:
• On July 29, 2003, the Company filed on Form 8-K, Item 5. Other Events; the Company issued a press release announcing it is in the exploratory stages of developing a plan to expand its manufacturing operations in Southeast Asia. • On August 29, 2003, the Company filed on Form 8-K, Item 12. Results of Operation and Financial Condition; the Company issued a press release announcing the financial results of the fourth quarter and fiscal year ended June 30, 2003. 14
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.
SPARTON CORPORATION Registrant Date: November 14, 2002 /s/ DAVID W. HOCKENBROCHT ---------------------------------------- David W. Hockenbrocht, CEO and President Date: November 14, 2002 /s/ RICHARD L. LANGLEY ---------------------------------------- Richard L. Langley, Chief Financial Officer
SPARTON CORPORATION
RegistrantDate: November 5, 2003 /s/ DAVID W. HOCKENBROCHT
David W. Hockenbrocht, CEO and PresidentDate: November 5, 2003 /s/ RICHARD L. LANGLEY
Richard L. Langley, Chief Financial Officer15
CERTIFICATION UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, DAVID W. HOCKENBROCHT, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Sparton Corporation; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statement made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weakness. Date: November 14, 2002 /s/ DAVID W. HOCKENBROCHT ------------------------------- David W. Hockenbrocht, CEO 16CERTIFICATION UNDER SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002 I, RICHARD L. LANGLEY, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Sparton Corporation; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statement made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weakness. Date: November 14, 2002 /s/ RICHARD L. LANGLEY -------------------------- Richard L. Langley, CFO 17